Edmund Zagorin is chief strategy officer at San Francisco, California-based Arkestro, an AI and machine-learning powered procurement platform. Views are the author’s own.
In the years before the pandemic, rising productivity and declining inventory costs — that was often achieved using lean and just-in-time models — allowed many procurement executives to operate successfully and save money. Today, however, inflation, the frequent scarcity of critical supplies and worker shortages are causing many procurement teams to overspend, take a reactive position and leak significant value. As a result, many CFOs and financial management teams have come to view procurement purely as a cost center, rather than an opportunity for profit.
In this new context, procurement teams — typically the part of the finance department charged with finding and managing suppliers as well as buying products — need to fundamentally change how they operate, and one of the biggest opportunities lies in the application of predictive technologies. For years, we’ve seen predictive technologies applied to other areas of business to improve efficiency, productivity and revenue-generating potential — for example, leveraging predictive maintenance to replace parts in a machine before they break, thus avoiding downtime and increasing throughput. Traditionally, predictive models have not been applied to procurement. But why?
Historically, CFOs and procurement departments have focused on improving sourcing by consolidating their supplier base and negotiating more advantageous contracts with a focused group of suppliers. But there's so much more to accomplish. Here are a few ways predictive technologies can help:
Predictive pricing: Oftentimes procurement teams go into a negotiation without a good sense of what the actual fair market rate is for a given supply. For suppliers who may have been engaged previously, procurement teams may know the past price paid, but given today’s significant pricing volatility (particularly in the area of certain commodities), this may not be sufficient to provide a benchmark.
Predictive models can be used to target pricing for procurement teams, enabling them to analyze a wide range of market variables in order to intelligently suggest a fair asking price to the buyer that a supplier is more apt to accept. Two things happen here: research shows that the first price suggested, or “anchor” price, will serve as the gauge and the ultimate price agreed upon will not deviate far from it. This is a concept known as anchor bias. Predictive pricing ensures that procurement teams understand the landscape and won’t submit anchor bids that are wildly high, which increases the likelihood that they will ultimately overpay. Second, negotiations are sped up, so resource-constrained procurement teams can make better use of their time and escape reactive “panic buying” mode, when they’re more apt to overpay.
Sourcing suppliers and game theory: Predictive technologies like AI can help procurement teams find new suppliers, helping avoid getting caught in a “sole sourcing” situation that can lead to price gouging. By widening the pool of suppliers, and making suppliers aware of the presence of other suppliers and where they stand with respect to a bid procurement teams can foster healthy competition and most likely net a better price. As they say, when suppliers compete, procurement teams win.
And just as a Google search produces a list of search results, AI can produce lists of suppliers and rank them on a wide range of variables including not only price, but attributes like availability, owner diversity, and quality — making it easier for procurement teams to derive informed decisions based on the business needs at the time.
Extending and leveraging institutional knowledge: When it comes to sourcing suppliers, there are factors to consider beyond just price; a supplier’s history of quality, for example, is especially important. AI can now include in its recommendation a supplier’s history of quality, based on interactions with not only current employees, but even former or retired team members. This way, teams are able to verify that the suppliers meet the quality standards they desire and not expose the organization to the risk of a costly recall (for which many CFOs are ultimately responsible).
It is often said that there’s a big difference between working smart and working hard. Today’s challenged procurement teams now have the opportunity to work smarter, and this can literally make the difference between a business making or missing its numbers. As we know, the pandemic effectively exposed the weaknesses of lean and just-in-time approaches, and these can no longer be relied upon as the key levers for saving money. Like their counterparts in other business disciplines, procurement teams must be better equipped with modern tools to assume their rightful position as a CFO’s best friend, providing a cornerstone of organizational performance and success.