Retailers have you ever really calculated the potential impact of using next generation e-procurement tools?

August 11th, 2008

This seems like a silly question

This seems like a silly question, but it begs asking. Becoming world class at e-procurement and assigning a significant amount of your spend to these types of tools has not historically been a top priority for the executive office. Let’s face it, this is not as sexy as releasing a new format, not as political as chasing down run away health care costs, and it just doesn’t resonate as fun.

For most companies, the cost of goods and services (GOGS) is the single largest item on their profit and loss statement (P&L). Historically the Retail industry has cost of goods across all segments of between 55% and 81%. The supermarket segment cost of goods has a historical average of 72.0% and the convenience stores segment a staggering 81%! Recently the Retail food segment averaged net income of 1.46%. That is the first time in years that net income has exceeded 1%. So just how much can significant reductions in cost of goods impact a retail company. Read on.

The single-largest opportunity to improve net income is by addressing the largest line on the P&L which is the cost of goods and services. The good news is that every dollar reduction in COGS falls directly to the bottom line. The finance department may argue that there are supplier related switching and timing costs incurred in order to get to the true savings, but the majority of these savings end up on the bottom line.

So let’s measure the impact this could have on a supermarket company. The math can easily be applied to any retail vertical. An Aberdeen report stated that a 5% reduction in cost of goods would have the same impact to a retailer as a 30% increase in top line sales.

Let’s do some simple math: a five billion dollar ($5B) supermarket company has an approximate cost of goods of $3.6B. Assuming a net income of one percent (1%) this retailer would have earnings of $50M. Let’s assume that they assigned fifteen percent (15%) of their total spend next generation e-procurement tools. This would be approximately $540M. Assuming a savings of 10% which is well documented within the industry, savings would equal $54M which would equate to a net earnings improvement of $54M or greater than 100%.

This author agrees that this is simple math. There are dependencies related to percent of above the gross margin line and below the gross margin line spend allocation. There is also the issue of the rest of the company performing to their plan guidelines so that these real reductions don’t just mask other problem areas. Although some retailers are making progress, the real issue is that not many have assigned a significant portion of their spend to these tools.

Now just imagine if there were a wealth of suppliers willing to bid on your business whose products were safe, of high quality, traceable and supported your environmental practices. Many people would want to shop at that company or work for them.

I look forward to yogurt comments.

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