Editor’s Note: Last week, we published a couple of articles previewing our new Collaborative Contract Management report, sponsored by Iasta, and available for download here. Today’s article is a ‘spin off’ from the report, and focuses on the specific impact that contract non-compliance can have on internal and external stakeholders that do not collaborate or collaborate effectively to mitigate financial risks. We hope you enjoy today’s article.
For enterprises, contracts are the official documents that codify supplier agreements forged during the sourcing process. They stipulate the quantity, quality, and price of the goods and services that the supplier will provide to the enterprise and under established terms and conditions. Contracts protect the buyer and the seller, and as previously discussed on CPO Rising, are an under-utilized way for enterprises to drive greater savings, compliance, and performance.
Whether the sourcing team has undergone a larger competitive bidding process through strategic sourcing, or engaged in a one-to-one negotiation with a preferred supplier, the contract is (or should be) the primary vehicle by which the enterprise procures goods and services. However, this isn’t always the case. Moreover, off-contract spend (also referred to as “maverick spend”) can lead to contract non-compliance, which can cost internal and external stakeholders dearly. What are those costs, and who bears them?
Sourcing and Procurement Teams: In a nutshell, contract non-compliance can lead to savings leakage, higher overall costs, and lower performance for sourcing and procurement teams. Ardent Partners research has determined that for every dollar that’s spent off-contract, there’s an average loss of between 12% and 18% to the enterprise. Actual costs may be lower or higher, but in general, this is the kind of savings leakage that sourcing teams can experience as a result of maverick spend. Accordingly, savings leakage detracts from procurement’s ability to realize costs identified during the sourcing process, which can directly impact enterprise performance. For sourcing and procurement teams working hard to demonstrate their value to the greater enterprise and executive team, off-contract/maverick spend is the scourge to their success.
Accounts Payable Departments: Off-contract spend with non-preferred suppliers makes more work for accounts payable (AP) teams, as it adds additional suppliers to their vendor rosters. As a result, the team then has to negotiate the supplier’s invoicing processes and systems – whether they’re compatible or not – and process one-off transactions that fall outside of the department’s tried and true relationships. AP departments then have to forego the bulk-purchasing and early-payment discounts that sourcing won for AP during the negotiation process with their preferred suppliers.
Other Enterprise Stakeholders: Line-of-business users that purchase goods and services on their own are probably buying an inferior widget that may or not meet their requirements. In doing so, they create more cost to the enterprise by purchasing items in piecemeal that are not standardized (and thus require extra/unique servicing). It should also be a more difficult process for them to find something on their own than via established contract and procurement channels.
For example, if a line-of-business user purchases a new laptop computer at a big-box retail store, he or she may have found the laptop after investing a significant amount of time researching the product. They may have purchased it for less money than what the enterprise would have paid for it, but it may not have the enterprise-level specifications, be loaded with enterprise applications and licensed programs, or even have the same operating system as the enterprise option. In the end, that laptop will cost the enterprise more due to the extra software licenses that the enterprise will have to purchase, and the extra man hours of uploading or installing the required programs, finding unique software patches, and servicing it when it inevitably breaks down.
Suppliers: When sourcing teams contract with suppliers for goods and services, the suppliers reasonably expect that the enterprise will place orders with them that are at least commensurate with what is in the contract. They may offer discounts in return, or as a way to incentive follow-on orders. But when enterprises engage in maverick (off-contract) spend, they jeopardize these supplier discounts and relationships. Suppliers count on those orders, whether they produced the goods or not. Thus, when buyers or end-users procure them independently, the supplier cannot maximize the agreement, and may reconsider continuing or extending its relationship with the enterprise in the future.
Final Thoughts
Although it may seem easier for end-users and enterprise buyers to disregard established contracts with preferred suppliers and procure goods and services on their own, it must be stated that there are multiple costs for doing this. By cutting out the sourcing team, stakeholders (and employees alike) are actively losing the value that these professionals bring in terms of cost, quality and consistency. Maverick spend, supplier renegotiations, and persistent supplier performance issues will all hurt the organization’s bottom line and jeopardize its relationship with its suppliers. There are real costs to contract non-compliance, but fortunately for all stakeholders, they are all avoidable.
RELATED ARTICLES
Contract Management: The Third Strategic Sourcing Pillar
Contract Management Reporting: Trust, but Verify
Tagged in: Ardent Team, Contract Lifecycle Management, People, Performance, Process, Strategy, Supplier Performance Management, Supplier Relationship Management
