What’s the Difference Between Direct vs Indirect Procurement?Procurement
What does Procurement mean?
An organization’s Procurement function is responsible for managing spend, in other words the buying goods and services that are used to make the products sold to customers as well as the purchasing of products and services used to run the organization on a day to day basis.
However, this is somewhat of an oversimplification of what the modern, best in class procurement organizations do for the larger business or organization.
Procurement can and should be a significant value generator for the larger organization. There are, in fact different phases of procurement value creation that tie into the Source-to-Pay process:
- Identifying Value, is where procurement teams leverage spend data and spend analysis to understand trends in spend and identify opportunities and develop category management strategies.
- Creating Value occurs when sourcing and procurement uses relevant sourcing processes and tools to engage and select the best fit supplier. Creating value isn’t enough though, the value still has to be captured.
- Capturing Value occurs when a contract has been established that governs the responsibilities and obligations of both supplier and buyer, and well as when the organization has the right Procure-to-Pay processes in place to ensure compliance to those agreements, goods, services and prices.
- Monitoring and measuring value is where the procurement organization takes a holistic view of the Source-to-pay process and supplier relationships.
Of course, it is important for procurement teams to do this across all spend categories, including direct and indirect spend, which at a high or simplistic level breaks down all of an organization’s spend. Both are essential to the success of every business. However, it is important to understand the differences and varying degrees of focus between direct and indirect spend in procurement and sourcing.
To be successful, your procurement team will need to be expert at supplier relationship management, contract management and sourcing and skilled at managing procurement cost as it contributes positively to the business. They will need to understand internal and external forces and increasingly get to grips with balancing cost savings with long term supplier relationships.
What is Direct Procurement?
Direct Procurement, also referred as direct spend management, or direct sourcing is the end-to-end process organizations follow to manage the procurement of direct materials – in other words any materials, parts or components used to make a product.
Direct Procurement is made up of a series of related processes that span the full product lifecycle. It includes internal and external stakeholders, such as those from procurement, engineering, logistics, accounts payable, the supply chain management team, as well as the suppliers that make up the supply chain.
For manufacturers, the Direct Procurement process typically begins with the new product introduction (NPI) process which includes product design, product sourcing, quality and product launch and continues through production all the way to the product’s end-of-life. The following is a sample Direct Procurement process, which follows the procurement value generating cycle and shows common relationships with key systems and data sources.
What is Indirect Procurement?
Indirect Procurement is anything a business needs to operate. This includes staffing, office costs etc. This can be summarized as the infrastructure costs you need to keep the lights on for the business.
Indirect Procurement was really challenged by the onset of the pandemic in 2020 where the vast majority of workers shifted, literally overnight to home working and businesses had to find new office equipment including laptops and also cost effective ways of ensuring broadband connectivity and so on. One of the key challenges organizations face is ensuring that indirect spend is compliant. The answer for many organizations is to ensure employees have access to pre-negotiated catalogues of goods and services which they can shop from on an as needed basis. This type of “Amazon”-like experience is commonplace in modern Source-to-Pay and Procure-to-Pay platforms and also greatly improve end user adoption.
Direct vs Indirect Procurement
Naturally, what you actually make and sell to your customers is critical – that is where Direct Procurement plays a critical role in the quality, innovation and profitability of those products. To get it right takes many disciplines including having the right strategic sourcing processes, understanding your supply chain strategy and also increasingly incorporating ESG principles into your business with sustainable procurement and responsible sourcing.
Direct Procurement is essential, complex and increasingly relies on having really strong and strategic supplier relationships so that your business is better positioned to innovate with your key suppliers. Just getting the goods is not enough – as we continue to experience the ongoing impact of COVID-19 on global supply chains. Procurement teams are having to think out of the box and an example of this is how some companies are dealing with the chip shortage. Ivalua’s Sundar Kamak says that “Each year millions of devices and equipment containing chips are scrapped or thrown away – the UN found there was 53.6 million metric tonnes of e-waste in 2019 globally, of which just 17% was recycled”. He says that companies who are working with strategic suppliers on Direct Procurement have an opportunity here to save money, fill the shortfall and also meet some of their ESG targets on the way.
Where Direct Procurement is critical for the production of products, Indirect Procurement is generally non-essential to the production of what your business sells, but if your employees cannot get access to the equipment they need – be that laptops or as people return to the office, cleaning materials and services then this will impact your operations.
One thing in common with best in class procurement teams, is that they are turning to Source-to-Pay systems and other digital procurement technologies and this is a competitive advantage.
Click here to talk to Ivalua about your Procurement strategy.