Olympic Dam
Calculating Procurement Savings
Peter Morichovitis
Manager Supply
Introduction
Calculating Procurement Savings…..
One of the major objectives a Procurement function is tasked
with is generating Procurement Savings.
However, the process of quantifying and calculating
Procurement Savings, legitimising them with internal
stakeholders, and subsequently tracking them to the bottom line
is often one of the Procurement department's greatest
challenges…
Topics
‰ Introduction
‰ Procurement Savings
¾ What’s the problem?
¾ The solution: Procurement Savings Protocol
•
Savings Definitions
•
Tracking and hardwiring Savings to the Bottom Line
¾ 3 years later…
‰ Procurement Price Index
Introduction
Olympic Dam
• A world class resource
• Discovered in 1975
• Fully integrated processing facility
from ore to concentrate to metal
• Poly metallic orebody with 7.855Bt
resource – Copper, uranium, gold,
silver
• Workforce of 3,200, majority
residential in Roxby Downs
• World’s 4th largest copper deposit,
largest uranium deposit, 5th largest
gold deposit
Olympic Dam
Roxby Downs
Introduction
Olympic Dam Procurement
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•
•
•
•
•
•
30 Procurement Staff, 26 Supply Chain Staff
$1,400M annual spend on goods and services (FY08)
1,500 vendors
40% of Spend with South Australian vendors
300 contractual arrangements with vendors
130,000 Purchase Orders p.a
140,000 ‘invoice’ payments p.a
• Procurement Savings:
9 FY08: $16.7M
9 FY07: $18.5M
9 FY06: $28.0M
Topics
‰ Introduction
‰ Procurement Savings
¾ What’s the problem?
¾ The solution: Procurement Savings Protocol
•
Savings Definitions
•
Tracking and hardwiring Savings to the Bottom Line
¾ 3 years later…
‰ Procurement Price Index
What's the problem?....
the business imperative…..
• Must be able to demonstrate to stakeholders that Procurement is adding value
and continuously improving
• Generating Procurement savings is seen as Procurement’s greatest value-add?
• Procurement Savings calculations need to be viewed as “real” - real money,
real savings
• Procurement Savings are difficult to track to the bottom-line?
• And how do you lock them in so they are not spent elsewhere? It’s not
Procurement’s budget anyway?
• What about cost mitigations, balance sheet improvements? These are other
ways Procurement adds value? Are they savings?
• Its not as simple as just Price decreases, what about Volume? Who is
responsible for volume changes?
• There needs to be alignment between Procurement, operations and Finance in
evaluating, and reporting benefits
• Transparent data kept in a single system and key learning's shared with others
• How do you then embed the changes into the operation?
Topics
‰ Introduction
‰ Procurement Savings
¾ What’s the problem?
¾ The solution: Procurement Savings Protocol
•
Savings Definitions
•
Tracking and hardwiring Savings to the Bottom Line
¾ 3 years later…
‰ Procurement Price Index
The solution…
Procurement Savings Protocol
• Procurement Savings reported consistently, validated by Finance,
approved by operations, in line with agreed Protocol and captured
and shared in a transparent System
• Protocol approved by senior management. All Stakeholders trained
in the Protocol. Institutionalised!
• Each Sourcing initiative viewed as an end-to-end process (and
‘Project’) with tollgates and stakeholder approval
3 months
Topics
‰ Introduction
‰ Procurement Savings
¾ What’s the problem?
¾ The solution: Procurement Savings Protocol
•
Savings Definitions
•
Tracking and hardwiring Savings to the Bottom Line
¾ 3 years later…
‰ Procurement Price Index
Savings Definitions:
Procurement Savings Types
1. Year-on-year Savings – decrease in the total cost of the
good or service resulting from Procurement activity
compared to baseline
2. Mitigation of Cost Increases – The avoidance of a cost
increase which would have occurred, as a result of a
Procurement initiative
3. Balance Sheet Savings: reduction in Capital expenditure or
Inventory
4. Revenue: resulting from a Procurement activity
Savings Definitions:
1. Year-on-year Procurement Savings
The consequence of actions taken during a Procurement Activity* which
result in a change in Total Cost** of a good or service compared to a Cost
Baseline***
Where
*Procurement Activity includes:
• Strategic Sourcing
• Purchasing activity, or
• Contract Management
** Total Cost is: Unit Cost multiplied by annual actual or forecast usage
*** Cost Baseline is
• The last unit price paid multiplied by annual/forecast usage, or
• The Market Value of Purchases (a published MV or lowest initial
price in a complying tender)
Savings Definitions:
2. Mitigation of Cost Increases
The avoidance of a cost increase which would have been
incurred, but as a result of a Procurement initiative has been
reduced or removed
• Avoidance/reduction of a proposed price increase by
negotiation
• A negotiated reduction in the price of an item which
increases on a set contracted pre-determined basis
• A negotiated reduction over the lowest conforming bid
in a tender/RFP
Savings Definitions:
3. Balance Sheet Savings
As Balance Sheet savings don’t ‘directly’ effect EBIT, they are
treated separately
Generally comprise:
• Decreases in capital expenditure through Procurement
activity
• Reductions in inventory/working capital
Savings Definitions:
4. Revenue
Revenue generated through a Procurement activity
eg. Selling off obsolete stock, plant
Generally One-off activities
Savings Definitions:
Other criteria within the Procurement Savings Protocol
• Savings Include but are not limited to:
¾ reductions in Unit Cost
¾ improved specification or product substitution reducing
consumption
¾ improved product application practices reducing consumption
¾ Improvements in the P2P Process reducing cost
• Savings may result from an action initiated by the:
¾ Procurement department
¾ Supplier
¾ the Customer
• Savings > $10,000 included
• First 12 months of the savings only claimable
• Usage: forecast volumes or historical (previous 12 months)
Savings Definitions:
Other criteria within the Procurement Savings Protocol
Costs of Implementation
• Costs of implementation are deducted from savings to
give a net result
• Examples:
¾ Expenditure to reconfigure plant and equipment
¾ Inventory expense either to increase holdings or
write off redundant stock
¾ Installation labour
¾ Consulting costs
Exclusions:
• Foreign exchange movements
• Taxes and other statutory charges
• Non negotiable indices. Eg Platts, LME
• Intercompany purchases
Savings Examples
1.
•
•
•
•
Reduced Operating Price
Base spend; 100,000 units @ $10 = $1,000,000 pa
Unit price reduction of 5% negotiated
New Price = $9.50/unit
Savings; 100,000 units @ $0.50 = $50,000
2.
•
•
•
•
Reduced Usage
Base spend; 100,000 units @ $10 = $1,000,000 pa
Usage reduced by 5% due to waste control
New usage = 95,000 units
Saving; 5,000 units @ $10 = $50,000
Savings Examples
3. Increased price offset by reduced usage
• Base spend; 100,000 units @ $10 = $1,000,000 pa
• New product price is 10% above old price
• New Price = $11
• Substitution will reduce usage by 20%
• New Usage = 80,000 units
• Cost to change is $100,000
Savings = Reduced Total Cost
= Original Spend less New Spend less Cost to Change
= $1,000,000 –($11@ 80,000 units) -$100,000
= $1,000,000 -$880,000 -100,000
= $20,000
Topics
‰ Introduction
‰ Procurement Savings
¾ What’s the problem?
¾ The solution: Procurement Savings Protocol
•
Savings Definitions
•
Tracking and hardwiring Savings to the Bottom Line
¾ 3 years later…
‰ Procurement Price Index
Tracking and Hardwiring the Savings to the Bottom Line
• Not easy, but possible!
• Requires Management support
3 months
• Utilise 3 Month Control Period to ‘prove’ Savings
• Hardwire Savings by getting Finance to decrease
area budget by savings amount – promptly
Budget
Topics
‰ Introduction
‰ Procurement Savings
¾ What’s the problem?
¾ The solution: Procurement Savings Protocol
•
Savings Definitions
•
Tracking and hardwiring Savings to the Bottom Line
¾ 3 years later…
‰ Procurement Price Index
3 Years later…
$$$ Savings
Procurement Savings Banked under the Procurement Savings Protocol
($M)
FY06
Year-on-Year $ 15.9
FY07
FY08
$ 12.3
$ 12.5
Mitigating $
9.5
$
5.6
$
4.0
Balance Sheet $
2.6
$
0.6
$
0.2
TOTAL ($M) $ 28.0
$ 18.5
$ 16.7
3 Years later…
The verdict on Procurement Savings Protocol
• Has provided greater transparency of Procurement Savings
• Has provided credibility to Procurement Savings
(Particularly when the distinction and separate quantification
between Year-on-Year savings and Mitigated savings is
understood)
• More Procurement Savings have reached the bottom-line
• More Procurement Savings hardwired in budgets
• Greater collaboration with operations regarding savings initiatives
• Its simply Business Improvement
• What about Price Increases?
Next Steps:
‰ Procurement Price Index
Topics
‰ Introduction
‰ Procurement Savings
¾ What’s the problem?
¾ The solution: Procurement Savings Protocol
•
Savings Definitions
•
Tracking and hardwiring Savings to the Bottom Line
¾ 3 years later…
‰ Procurement Price Index
Procurement Price Index (PPI)
The next level
• Tool and standard framework used for capturing Procurement data
• PPI methodology used is similar to that used to build a Consumer Price Index (CPI) for
a country
• PPI includes algorithms that use unit cost and spend data inputs to calculate price
changes over time
• Changes tracked on a quarterly basis for a basket of goods and services
• Basket is customised and weighted to be representative of spend for the individual
operation
ILLUSTRATIVE
e.g. PPI Movement
e.g. Spend weighting data
e.g. Unit price data
120
30
Labour
20
Utilities
Labour
USD
1,070 M
Fuel
USD
1,265 M
110
100
Fuel
10
Utilities
USD
1,660 M
90
80
0
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Q4
PPI example
The PPI tool will provide a link between the budgeting process and actual purchase price movements for an Operation
1. Operation index
developed from
weighted category data
ILLUSTRATIVE FOR AUSTRALIAN ASSET
3
2
1
3
2. Relevant market
indicator selected
3. Bands or targets
selected for an
operation, incorporated
into budget setting and
KPIs
ILLUSTRATIVE
Thank you and Questions?