Using metrics to enhance purchasing

November 05, 2008

Purchasing and supply chain managers are as likely to be working on strategic sourcing or risk management projects these days as they are to be procuring supplies and services. Along with this increasing role, purchasing departments are subject to increased scrutiny from executive management. And so, measuring performance has become more and more important to supply organizations.

"Executives want to know the value of supply management and how it contributes to the success of the organization, because they are investing money in this function and they expect results. The only way to answer that is to have a measurement system in place," explains Phil Carter, professor of supply chain management at the W. P. Carey School of Business and executive director of CAPS Research, a supply chain research organization sponsored by the W. P. Carey School of Business and the Institute for Supply Management.

How best to measure the effectiveness of purchasing is the focus of a recent "CAPS Research Critical Issues Report" developed by Carter and Roberta Duffy, the director of executive programs and publications for CAPS Research. One of the initial challenges, Duffy explains, is that creating and maintaining a metrics system requires purchasing managers to step away from their daily pressures and adopt a bigger-picture approach. "This broad perspective is necessary to truly assess the progress and contribution you're making to the enterprise's bottom line and the strategic goals of your firm," she says.

"Purchasing organizations are tasked with answering questions like: 'Are we producing enough for the headcount we have? We are being charged with managing risk as a company: how do we measure that?'" she says. "Having hard data to show is critical to answering those questions, gaining executive support, and identifying areas for improvement."

To be successful in setting up purchasing metrics, firms must look beyond simply figuring out what to measure, and focus instead on an entire measurement program: establishing the processes, ensuring compliance, and determining how to act upon the results. Taking this end-to-end approach helps companies ensure that measuring becomes ingrained in the purchasing department's procedures, and not just a one-time exercise. These programs are most successful when a particular employee is responsible for their existence.

"Metrics are something that can easily fall by the wayside if someone doesn't take ownership," explains Duffy. "Purchasing employees are putting out fires everyday, trying to get supplies or services where they need to be, and to look back and say 'How did I do?' is an extra burden."

First steps

So where should companies begin? The first step is to develop a scorecard framework, says Carter. Purchasing scorecards -- a common tool in the metrics arsenal -- are used to measure performance against specific goals and objectives, and usually provide an overview of the key areas the purchasing department is focused on. "Scorecards should not only contain financial measures," says Carter. "Usually there are four boxes in a score card; within each box, choose the top few metrics that are most important to your company at that time," he advises.

Many companies today are moving away from a strict focus on cost and revenue-related metrics in favor of a broader approach. As supply management and purchasing executives shoulder responsibilities beyond buying materials and cutting costs, firms have been forced to rethink their measurements. "Supply management contributes in so many ways now -- outsourcing, risk management, bringing innovation and technology from the supply base in to the firm, etc. -- and in some cases, their activities may actually raise costs, but the total value to the firm goes up," explains Carter.

Pharmaceutical company Merck, for example, maintains a scorecard that tracks the areas of finance, customer service, internal business drivers, and company culture. Within those areas, its measurements include such wide-ranging examples as: budget; percentage of spend with diverse suppliers; supplier performance; and talent management. (Merck's case study is contained within the CAPS Research report.)

While Merck's scorecard addresses a wide range of issues, it is better for companies just beginning to establish a metrics system to start with a small and focused effort, notes Carter. "Make sure the metrics you begin with are well defined and well understood; that there is a process in place for collecting reliable and valid data; and that the method of calculating the metrics is understood across the organization," he advises. The next step is to be sure that the metrics aren't just reported up and ignored. "Top management needs to pay attention to these metrics and actually react to them, make changes based on them," says Carter.

One way to ensure executive management support for the metrics program is to carefully align purchasing measurements with the company's top-level goals. While cost-reduction measurements are always sure to garner attention, metrics that are synchronized with the company's specific business model may be more effective. "A company's ideals should trickle down to its measurements," explains Duffy. "If your company is striving to be the leader in its field by bringing the most innovative products to market, a drive for turnaround time and delivery and accuracy might weigh more heavily than cost-cutting, for example."

Making comparisons, taking action

Regardless of what a company decides to measure, it is crucial to use the measurements wisely. The key to doing that, notes Carter, is to benchmark the results in order to make sense of the metrics and determine what the numbers really mean. "Benchmarks can be a historical comparison with what you've done in the past -- are the scores higher or lower than last year? -- or a comparison across business units -- what is the dollar-per-unit amount in our business unit versus others? -- or a comparison with other companies in your industry," he explains.

Using benchmarking to analyze the results also helps companies act on those results. Many companies use the information gained from their metrics to set goals for the coming year, reorganize priorities based on what is working and what isn't, and even make changes to the structure of their organizations. Carter cites the example of a firm that was going through a restructuring exercise to determine how many people it needed in its supply management department and whether it was paying them the right amount. By benchmarking its metrics against other firms in its industry, the company concluded it was overstaffed in the supply function, but also realized it did not need to enact the deep personnel cut suggested by the consultants leading the restructuring.

"Companies also use their metrics to proactively set priorities for the year -- perhaps reducing the supplier base, or cutting down cycle times or increasing quality. Then, individuals within the company are tasked with achieving those benchmarks and driving behavior proactively," Carter explains.

Another benefit to having detailed metrics data is being better prepared to handle and react to unexpected shifts in the marketplace. Fuel costs, for instance, have been wreaking havoc with goals and metrics for companies purchasing transportation services -- fuel surcharges that were impossible to anticipate have blown the lid off cost-reduction efforts. But, notes Duffy, the more detailed and accurate information a company has about total costs, the more equipped it is to react when things out of its control take place. "If you know exactly what component fuel plays in your supply chain, you know all the places you are getting charged for transportation, then when the price of fuel goes up you know how that is going to affect you specifically and can be more proactive in your reaction," she explains.

Handling challenges

But while companies can achieve great success with their metrics programs, measuring purchasing performance effectively is not without challenges. Particularly for large, global companies, measurement programs need to be very complex in order to make sense across the entire firm, while also addressing the specific situations that occur within different regions or countries. In addition, measurements must vary based on the different activities within that company -- metrics for the manufacturing unit of the business will not be the same as metrics for a service unit.

This complexity also comes into play when trying to determine how to measure things that are not as cut and dried as simple cost savings. "Many businesses source materials overseas, for instance, because they see that the labor costs are lower, but what about the risk that comes with what may be a less reliable supplier -- how do we measure that?" Duffy asks.

Companies today are also struggling to determine how to apply metrics systems already in place to new initiatives like sustainability. With the "greening" of the supply chain, many companies are looking to enact sustainability measures, notes Carter. "Companies are struggling to find metrics that can help indicate how green a product or supplier is. It's been difficult to get a set of metrics that are not so detailed that a supplier could not answer them versus something that is so high-level that it is meaningless," he explains.

Finding that sweet spot between detail and aggregation is a key for all companies seeking to measure purchasing's effectiveness. Done correctly, the right mix of metrics can help companies keep track of supply management performance, while also increasing executive support for purchasing initiatives and contributing to the company's overall bottom line.

Bottom Line:

  • As a result of increased focus on supply management within firms, purchasing departments have adopted measuring systems to help detail the value-producing activities the function provides.
  • To be successful in setting up purchasing metrics, firms must look beyond simply figuring out what to measure, and focus instead on an entire measurement program -- establishing the processes, ensuring compliance, and determining how to act upon the results.
  • Developing a scorecard framework, which measures the department's performance against goals in key areas, helps purchasing managers determine what is working and what is not.
  • Detailed metrics -- and the data they provide -- help companies set priorities, make organizational and procedural changes, proactively prepare for unexpected events and compare progress with internal, departmental and industry standards.