In the last two years, many organizations have realized that their digital transformation was not as far along as they thought. Direct materials sourcing and procurement processes were one area where digital transformation was lacking. A recent survey found:
- 6% of organizations “fully embraced” digital transformation in their procurement processes.
- 15% considered their companies to be “industry leaders” in transforming procurement processes.
- 50% agreed their businesses lagged behind in transforming their B2B procurement processes.
Based on the survey, organizations that actively transform their procurement processes are more likely to maintain a competitive advantage in a tight market where demand exceeds supply.
Some groups are hesitant to revisit existing contracts and purchasing strategies in a volatile environment. Others view the changing environment as the perfect time to not only transform procurement processes but also to renegotiate current contractual relationships. By looking at the process from end to end, organizations can realize agility, visibility, and capability that may be missing in their direct materials sourcing processes.
Negotiated Components
Employees spend hours just preparing to negotiate component contracts. There’s forecasting, setting target prices, looking for sources, and consolidating data. Then, there’s listing components and asking for quotes. Once the offers start coming in, procurement has lines and lines of components that need integration into an evaluation matrix.
Once a company analyzes the different suppliers, negotiations begin. Representatives review components and discuss prices, lead times, and volumes. Integrations for supply chain visibility and logistics may be incorporated into contracts, along with elements for future-proofing pricing and delivery. A company may even select several suppliers to ensure resiliency in the supply chain. After final negotiations, the parties sign the contracts.
Many electronics manufacturers may place the components, part numbers, and prices in a procurement system for ordering and receiving components. When there’s no enterprise-wide system for storing details, the information remains with those who negotiated the contract. Without a digital process to manage negotiated components, electronics manufacturers may fail to realize the full benefit.
Digital Process Management
When discussing digital procurement, most companies focus on the typical five to seven stages of the process:
- Determine Requirements
- Solicit Offers
- Select Vendor
- Negotiate Contracts
- Issue and Receive Orders
- Monitor Performance
- Renew or Terminate Contracts
Whether it’s McKinsey, Forrester, or others, digital procurement focuses on improving the process using digital tools; however, most discussions end at monitoring performance. The assumption is that contract renewals or terminations are the result of performance. Little time goes into the integration of contractual requirements into the digital process. All those hours spent negotiating electronic component contracts are distilled into part numbers and prices.
Changing Priorities for Direct Materials Sourcing
Priorities when negotiating electronic components have changed. It is no longer just about price. Direct materials sourcing and procurement have become more strategic in their focus, which is often reflected in how contracts are negotiated. For example, supply continuity is a critical factor, especially in the electronics industry where demand exceeds supply. Investors and consumers are also assessing corporate responsibility as they consider buying or investing in electronics. Even pricing concerns are shifting from prioritizing the lowest possible cost to price protection.
Supply Continuity
Suppose a supplier improved its resiliency by finding an alternative source for a critical component. If the primary source’s supply is disrupted, then the supplier can switch to the alternative source, ensuring that the part will be available. During contract negotiations, the manufacturer learns of this capability and has triggers put in place for switching sources to ensure supply continuity. The price per component may be slightly higher, but the guarantee of supply continuity is a strategic necessity.
Unfortunately, it’s not easy to communicate this strategic advantage, even in today’s digital processes. For example, suppose the supplier’s primary source experiences a climate disruption. A buyer for the manufacturer believes the climate disruption means the supplier will have difficulty delivering parts and begins sourcing other suppliers. It isn’t until the contract goes out for approval that the buyer learns of the contract clause. Although the manufacturer did not suffer losses from a supply disruption, it did expend resources on sourcing an alternative that it didn’t need.
Corporate Responsibility
A 2021 study found that corporate responsibility had become one of the top five issues for procurement in 2022. For electronics manufacturers (as with many organizations), environmental, social, and governance (ESG) issues have become a priority. With more investors and consumers focusing on ESG concerns, companies must ensure their suppliers are mindful of ESG.
ESG has become a defining factor for many investors. Markets show that companies that have high ESG measurements tend to perform better financially. For millennials, strong ESG practices are central to investing and doing business with an organization. Adopting ESG practices has become crucial to business growth. As a result, direct materials sourcing teams are feeling the pressure of ESG when selecting suppliers.
Issues such as working conditions and labor policies can impact how the world views a manufacturer and its suppliers. More jurisdictions are requiring companies to provide their ESG rating as part of their annual reporting. In some instances, that includes all entities in the supply chain. As direct materials sourcing and procurement take on a more strategic role, ESG criteria may become part of negotiations. How will that information be conveyed across the enterprise?
Pricing
Controlling component spend has been a primary reason for negotiating contracts. Today, that focus has shifted to mitigating the impacts of inflation. Procurement must look at annual pricing contracts in terms of price protections. Some of those protections may appear in contracts. Whether companies set a maximum percentage increase or stipulate a renegotiation every quarter, buyers have to consider the world economy.
How does your organization communicate pricing protections to everyone? Who is responsible for monitoring increases? Unless contractual pricing information goes to everyone involved in the purchasing of negotiated components, manufacturers could spend more on items than they should. They could lose productivity as buyers attempt to resolve what only appear to be cost conflicts.
Rethinking Your Direct Materials Sourcing Transformation
A change in procurement priorities means a rethinking of procurement digital transformation. Initial efforts in digital transformation focused on the process of sourcing, ordering, and delivery of components. It targeted data consolidation for faster decision-making. Negotiated components meant better pricing. But few companies considered the strategic implications. Massive disruptions in the supply chain changed that perception.
Today, digital transformation means finding ways to integrate contractual stipulations such as discounts, price increases, and delivery capabilities into the part numbers and pricing data. A recent study found that a key issue facing the direct materials sourcing and procurement of electronics components was coordination. Departments and individuals did not share a process that ensured critical procurement information was available across the enterprise.
Critical information is strategic information. As more variables enter the world of electronics procurement, companies will need to rethink their process management of negotiated components. Buyers need to consider supply continuity and pricing when deciding on a supplier. Financial penalties may be assessed for failure to deliver. But how can accounting teams use that information if the buyer is unaware of the penalty?
Individual negotiators are the common repository for contractual information. If that person is unknown, then hours will be wasted trying to track down the right person. Even when all contracts are stored on a common server, finding the correct file can be time-consuming if there is no standard naming convention. These approaches are far from the digital transformation that the negotiated components process needs.
Parts Analytics is an end-to-end sourcing and procurement solution that uses automation and hyperintelligent AI to transform operations. Its advanced technologies provide the agility to rethink your processes and the visibility to understand their impact.
