Why You Can't Afford DIY Procurement In A Downturn

This article was originally featured in Forbes on July 25th, 2022.

From Sequoia Capital proclaiming that “money is no longer free” to SoftBank cutting startup investment by nearly 75%, it’s clear that the growth-at-all-costs mentality that dominated the startup scene for the last decade is now officially a thing of the past. In its place arose capital efficiency, paths to profitability and sustainable growth.

In short, businesses need to do more with less. Slashing budgets and stretching every dollar can be painful, but companies agile enough to adapt to this new environment of intense financial discipline will likely survive what should be an uncertain economic environment for the next 18 to 24 months. But what does “doing more with less” actually look like? You could do worse than the 2002 Oakland Athletics, as a prime example.

Moneyball became a cultural phenomenon for reasons beyond Brad Pitt’s aw-shucks persona. The book and subsequent film were both colossal hits because they brought to life one of the greatest business success stories of the 21st century. Thanks to the innovative work of Bill James, a trailblazer in the sabermetric community, Billy Beane and the Oakland Athletics’ front office parsed baseball data in such a way that they were able to find value where no one else did. The result was one of the lowest “cost per win” ratios in modern Major League Baseball history—the epitome of doing more with less.

With the global economy facing unrelenting inflation and an increasingly pessimistic outlook, companies are scrambling to cut costs amid an uncertain economic backdrop. Whether it’s the business of baseball, a Fortune 500 company or an up-and-coming startup, cost-saving opportunities exist if you know where to look. In the world of procurement, tech spend per employee (TSE) has become an increasingly important fiscal metric to understand because it sits at the intersection of businesses’ two largest line items: their headcounts and software spend.

Reining in your TSE can be an enormous opportunity, not just by saving money but by lasering in on the significant opportunity costs incurred by ad hoc, DIY procurement. Most companies, particularly organizations under 600 or 700 employees, often don’t have dedicated procurement teams in place. In startup circles, in particular, this function is usually managed by committee via some combination of finance, IT and operations. Without a single department owning the process, this indirect spend, which can account for up to 18% of revenue in some industries, according to McKinsey analysts, can spiral out of control. This is the inherent risk of an ad hoc procurement approach.

Taking on the hard and soft cost savings of your ad hoc software procurement could be the most strategic move you make this quarter, but it has to start with a holistic understanding of the pitfalls of this approach.

Hard Costs: Money

Let’s look at numbers from a hypothetical company while consulting my company’s historical data that spans some 10,000 negotiations across over 2,000 vendors and more than 150 customers. By conducting hundreds of savings assessments, we’ve determined that on an individual basis, companies are overpaying for software by between $700 and $1,200 per employee. The range reflects variables such as the total number of contracts, complexity of the software and the flexibility of the contracts themselves. In this instance, a company with 700 employees could be saving between $490,000 and $840,000 in one year just on hard costs alone. Imagine a company with 2,000 employees and the math becomes even more compelling.

Without efficient procurement in place, these hard costs have a way of compounding over time. That snowball effect represents a budgetary ticking time bomb for businesses of all sizes. Presented another way, when companies leave significant savings like this on the table, they’re painting themselves into a corner in regards to layoffs. It’s increasingly important to exert control over the business variables that can be reined in as opposed to being at the mercy of the market battering business with bad news on multiple fronts—namely, inflation, energy prices and the end of “easy money.”

Soft Costs: Time And Opportunity

Although the soft costs associated with an ad hoc approach to procurement may be harder to quantify, they still impact a business’ bottom line and distract from its larger strategic goals. Here’s how:

Employee time and productivity: Based on our interactions with hundreds of clients, we’ve observed that companies spend four to 12 hours on a single contract. And with an average of 300 contracts per company, that means senior-level employees could be spending 1,200 to 3,600 hours annually on things like contract approvals and negotiations, instead of on more important work tied to revenue growth and customer satisfaction.

Cost avoidance: Without the right procurement processes in place, companies could find themselves buying software they don’t need or use. It happens more often than you think according to the data. Upwards of 83% of companies replace tools they’re unhappy with every year.

Risk mitigation: Software supply chains came under attack in the past 12 months, with cyberattacks targeting software spiking by over 50% year over year. Data breaches can greatly impact customer trust and a company’s finances. In addition, 60% of small businesses actually close their doors within six months of a major breach.

From Ad Hoc To Software Procurement Excellence

When you add up all these hard and soft costs, it’s clear that most companies can’t afford an ad hoc approach to software procurement. Instead, recent McKinsey data shows that companies able to procure and optimize software and related services at a minimum cost/risk have a distinct competitive advantage and can reduce costs by about 15%.

It may seem counterintuitive in the midst of a market downturn, but companies willing to invest early in the foundations of what McKinsey analysts call software procurement excellence—a combination of the right data, tools and resources—are poised to weather the storm and emerge even stronger. And although there’s no one-size-fits-all approach to effective software procurement, one thing is certain: Your ad hoc approach may be costing you more than you think.