Procurement is an essential component of any business. In order to operate effectively and produce its own goods and services, every organization must procure various goods and services from third party vendors.
Effective procurement processes save costs, aid compliance, ensure you work with reputable suppliers and eliminate delays and mistakes. Procurement also helps modern organizations attain non-financial goals such as sustainability, reduce their environmental footprint and burnish their green credentials.
Digital procurement processes can be measured through mutually agreed upon metrics. The resulting alignment with corporate priorities elevates procurement into a strategic function within the organization.
What exactly is procurement?
Procurement is an overarching term for a set of steps that an organization performs to acquire goods and services that are essential to its operations. Procurement and purchasing are different even though people use the terms interchangeably but they are different.
To procure items, organizations will identify the internal need, evaluate suitable vendors, negotiate terms, approve an internal purchase requisition, submit a purchase order, receive an invoice and pay it, take delivery of the goods & services and, finally, maintain records for audit purposes.
Procurement is, therefore, an umbrella term that includes several internal processes – part of the so-called Procure to Pay (or Purchase to Pay) cycle.
Obviously, the exact steps vary from one organization to another e.g. a large multinational will have a far more involved set of processes than a small business.
What is a procurement process?
Again, procurement process is a generic term for one of several processes within the organization related to the acquisition of goods and services.
Some examples are:
- Purchase requisition – an internal document that a manager or finance team may review to approve the purchase.
- Purchase order – an external document that the organization sends to its chosen vendor. The PO details the goods and services being purchased, payment terms, delivery dates etc.
- Invoice – a request for payment that the organization receives from its supplier.
- Sales or Work Order – while this is not directly part of procurement, it’s closely related. Suppliers send sales orders to the buyer for situations where the order is fulfilled in stages.
Procurement management is a crucial function, especially for organizations that reach a certain size. Larger organizations will often have a centralized procurement function with its own employees and procedures. For example, Yale University Procurement leverages the purchasing power of the entire institution to get the best price and to facilitate the acquisition of needed goods and services.
Steps in the procurement process
Here is an example of a typical Procure to Pay cycle broken down into 9 steps. Your process may include some or all of these steps depending on your unique business context and requirements.
Let’s take a look at each step.
Step 1: Identify the internal need
This starts the procurement process within the organization. A department or business unit needs some goods / services to operate. If multiple departments have the same need, procurement will consolidate their requirements to lower costs and increase visibility.
Let’s say our example University’s HR Department needs to upgrade its training software. Procurement will try to take into account the needs of other departments that may have a similar requirement.
Step 2: Evaluate and select a supplier
This step is all about identifying the list of potential suppliers for the required products. The evaluation process varies widely – it could be as simple as a quick web search all the way to a months-long structured RFP or RFI.
The goals of this stage are straightforward – evaluate vendors based on price, quality, reputation, reliability, customer service and any other relevant criteria. For example, our University may require cloud-based software providers to have certain security certifications since the software deals with personally identifiable information.
Procurement selects the best vendor after completing this analysis.
Step 3: Negotiate contracts with the selected vendor.
At this point, the contracting process begins. It could again be very straightforward or may involve significant back-and-forth. In some cases, purchasers may choose to completely skip contracting relying instead on a legally binding purchase order.
For a significant software purchase, the University’s contracts team will look at the End User License Agreement, the payment terms, warranties, any indemnification clauses and other legal aspects. If there are any implementation services as part of the contract, they’ll want to ensure timelines, delivery schedules, scope of work etc. are well-understood upfront.
Step 4: Approve an internal purchase requisition.
This next step essentially boils down to getting the go-ahead from the entity (department or business unit) that will pay for the purchased items.
Our University may use a purchase requisition (PR) for that purpose. They aren’t actually ordering anything at this point; simply getting internal approval to do so. The PR includes relevant details – purchaser and supplier info, list of requested items , prices, and terms – so that the department can approve or reject the purchase.
Step 5: Release a purchase order.
Our University’s procurement (or finance) department will then create and release a purchase order (PO). This is where the actual purchase takes place. They’ll send the PO to the chosen supplier. It contains a PO number, detailed terms & conditions, delivery dates etc.
In the absence of a formal contract, the PO serves as a legally binding document.
Step 6: Receive an invoice.
The supplier will send an invoice with a list of the ordered items along with prices and payment due dates. The invoice usually lists the aforementioned PO number.
At our University, the procurement team will match the invoice with the purchase order to ensure consistency and accuracy.
Depending on the negotiated terms, payment may be made pre- or post-order fulfillment. Partial upfront payment is very common e.g. a 50% deposit for implementation services.
Step 7: Receive and audit delivery.
The supplier will deliver the ordered goods and services according to the terms of the contract. Typically, the receiving organization has a limited amount of time to audit the delivery and notify the supplier of any discrepancies such as missing items or quality issues.
For software, fulfillment could mean that the supplier activates an account and a designated individual in the University’s HR department must login and verify that it is active.
Step 8: Complete payment.
Once the order has been verified, the University’s finance department will send payment according to the terms specified in the contract e.g. net 30 days.
Step 9: Maintain proper records.
Finally, it’s just good business practice to store all documents from the original requisition through invoices in a single centralized location. It helps navigate any future audit. Analysis of this data helps track and optimize spend management.
What are the top challenges in procurement?
Just consider the various procurement steps outlined above and think about the challenges procurement managers face. They must deal with everything from needs identification to supplier selection and management to invoice processing.
Yet, too often, procurement is managed using a hodgepodge of solutions without a serious digital procurement strategy.
This fragmented approach makes it difficult for the procurement team to address the following challenges:
- Tactical vs Strategic Procurement – Procurement has become a strategic area for the business rather than an operational one. Without cohesive procurement processes, it’s hard to even think strategically never mind implement a strategy across multiple functional areas.
- Managing suppliers – Supply chain issues can hinder growth even at technologically advanced companies like Adidas. A piecemeal approach to procurement makes it hard to ensure reliable suppliers who deliver quality goods and services on time.
- Impatient stakeholders – In most cases, when people want to procure something, they need it yesterday. A project is behind schedule or they are facing pressure to deliver products. Inefficient procurement processes cause critical slowdowns, missed project deadlines and stunt growth.
- Unreliable data – Bad data = Bad decisions. Inaccurate procurement negatively affects profitability by creating an over- or under-supply of inventory. Worse, it could lead to senior management making commitments that the company cannot meet. Without quality data, any investments in new technologies like machine learning and AI are doomed to failure.
- Maverick purchasing – When employees are forced to deal with tedious internal procedures, they’re more likely to make purchases outside the normal procurement channel. Not only is this expensive for the business e.g. it’s hard to secure the best price, but the resulting lack of control exposes it to compliance and other unnecessary risks.
- Talent management – Finally, no one likes to spend their work day chasing down mountains of paperwork. Lack of talent is already a problem – a Deloitte survey revealed that over 50% of procurement leaders leaders do not believe that they have the capability in their teams to deliver their procurement strategy.
How Digital Procurement helps
Procurement leaders need a serious digital strategy if they truly want to address these challenges and move procurement into the 21st century. Automation enables:
- Efficiency – Digital procurement processes are faster, more accurate and ensure business standards cannot be bypassed. That means project managers get needed items on time, employees spend less time deciphering confusing instructions and correcting errors, and maverick purchasing is reduced.
- Data Analytics – Digital procurement produces reliable data. With accurate data, it’s easier to optimize inventory levels and immediately have a positive impact on the bottom line. More important, clean digital data opens the door to analytics, machine learning and a host of opportunity e.g. ML could detect demand automatically and requisition deliveries.
- Better use of talent – Ultimately, people are the difference between success and failure. It’s hard to find good people but one thing you can do is to make the best use of those you have. Digital procurement is a direct investment in your team’s job satisfaction since they’re now spending less time on paperwork and more time on the things that matter.
- Lower risk – Automation improves transparency in pricing, supplier relationships and inventory levels. Transparency naturally reduces compliance and supply chain risks as well as corporate risk associated with fraud.
- Strategic procurement – Procurement becomes an effective strategic partner only when aligned with key corporate priorities and when it’s measurable through objective performance metrics. Digital processes are the foundation.
In spite of this, Deloitte’s survey found that the level and speed of digitalisation across procurement functions is abysmally low. Just 18% of procurement leaders have a digital procurement strategy supported by a complete business case.
How can you digitize procurement?
Obviously, any serious digital procurement strategy starts with a plan. That being said, the transactional processes in the Procure to Pay (P2P) cycle are the first place to start. These are the areas that often involve the most repetitive work.
It’s relatively easy to automate business processes like purchase requisitions, purchase orders and invoicing using a modern, low-code platform. These platforms provide pre-built templates, easy customization using simple, visual designers and wizards, and don’t require skilled programmers or data scientists who are hard to find and expensive.
More important, automated processes lay a strong foundation by producing digital data. You can build upon this foundation by deploying technologies like machine learning and AI to predict future demand, snuff out upcoming risk, and monitor sustainability.
Procurement is now a strategic function with wide-ranging business impact. A well-designed and effective set of digital procurement processes is a critical business need.
There’s no need to rely on spreadsheets for purchase requisitions, purchase orders and invoices any more. In fact, using these outmoded techniques is inefficient, slows you down and exposes your business to unnecessary risks.
A digital procurement strategy starts with the foundation of transactional process automation which opens the door to deploying high impact technologies like ML and AI.
Modern process automation tools are easy to use and affordable. You don’t need expensive programmers or large budgets. Business users in your finance department – not just coders by trade – can start with pre-built templates and drag-and-drop to create electronic processes in a matter of minutes.