Procurement often accounts for a large portion of a business’s spending, comprising the purchase of materials, goods, and services that support operations.
While the procurement team is largely focused on securing quality goods and managing supplier relationships, there should also be a strategic element of their work that aims to optimize addressable spend to support overall profitability.
To learn more about identifying addressable spend and understand how it impacts financial planning and strategic sourcing,
Definition of addressable spend
Addressable spend is the amount of a company’s procurement spending that they can directly control or optimize.
As we will discuss in further detail below, procurement process inefficiencies, contract terms, and rogue employee spending are all considered addressable spend that the business could target for cost savings.
It’s common to express addressable spend as a percentage of total spend.
So, if your total spending for the period is $750,000 and you’ve identified addressable spend as $550,000, you could state it as 73% of total spend.
This compares to non-addressable spend, which refers to company spending that the procurement department doesn’t control, such as office leases, employee benefits, and more.
Thus, the procurement team can develop and implement strategies to reduce addressable spend, though they have no control over non-addressable spend.
The importance of addressable spend
Identifying addressable spend is crucial in strategic procurement and financial performance and planning.
It helps the procurement team identify potential redundancies or inefficiencies within their current practices, leading to more strategic and efficient sourcing.
Plus, it helps support financial planning, giving the business clear levers for lowering total costs.
However, managing addressable spend often requires collaboration between the finance and procurement departments.
The procurement team wants the freedom and flexibility to negotiate deals and source the quality goods and materials necessary to support operations.
However, the finance department is often looking for ways to improve efficiency and bring down costs.
Thus, being able to strategically identify and reduce procurement costs is a crucial task that can align the procurement and finance departments and support the company’s overall goals.
How to identify addressable spend
Not all procurement costs fall into addressable spend. This concept solely refers to the areas the procurement team can control or influence through more strategic sourcing or efficient processes.
Here are some of the common areas to consider that can help you identify addressable spend:
Maverick spending
Maverick spending, or rogue buying, refers to employee purchases that are outside the company’s expense policies.
As such, these purchases can be quite costly for the business, as they don’t go through the proper approval channels or comply with set spending limits.
The idea is that identifying and eliminating maverick spending can be done without any real impact on operations, as it is not approved spending in the first place.
Because maverick spending is unpredictable, it can be difficult to identify or spot. However, any unrecognized invoices or purchases from companies outside existing procurement contracts might require further review.
Contract opportunities
Within your existing supplier contracts, you can often find potential areas for savings.
Start by reviewing your procurement contracts to see which are up for renewal.
Renegotiating contracts can be uncomfortable, but you won’t achieve cost savings in this area unless you explicitly seek them out.
With long-standing vendor relationships, you typically have a little more leverage and can secure more favorable terms that can lower spend, such as volume discounts, better unit costs, lower delivery costs, and more.
Tail spend
Procurement activities that require a large number of transactions but account for a low portion of overall spending are considered tail spend.
In other words, tail spend encompasses low-value, frequent purchases. An example would be if the business consistently orders low quantities of office supplies whenever they’re running low, like paper clips, pens, or paper.
Businesses may be able to optimize costs by consolidating purchases, which could lead to lower delivery costs, bulk discounts, and further savings.
Using the above example, it would be more efficient for the business to make one order of 50 reams of paper rather than 10 orders of 5 reams throughout the quarter.
Procurement inefficiencies
Inefficient or disjointed procurement practices can also be identified as addressable spend.
For instance, if the team is relying on manual processes, or there aren’t clearly defined roles within the team, they could be creating redundancies and inefficiencies across the department.
Categories/subcategories with no preferred vendors
If you have procurement categories or subcategories without a preferred vendor, you could be missing out on potential efficiencies and cost savings.
For instance, if you’re purchasing janitorial supplies from three separate vendors, you could benefit from consolidating to just one supplier, which could earn you volume discounts.
Rationalizing your suppliers can also reduce the administrative burden when you handle only one invoice and manage one contract for a subcategory rather than numerous.
Common pitfalls with managing addressable spend
Even after identifying addressable spend, managing and optimizing these areas isn’t always straightforward.
Below, we’ve compiled a list of some of the most common mistakes that businesses face when trying to optimize addressable spend so you can proactively avoid these pitfalls:
Poor spend data
If you don’t have the right systems in place to store and manage spend data, it can be difficult to accurately assess spending and identify addressable spend.
Incomplete or inaccurate data sets can be misleading and keep you from effectively identifying potential cost savings.
This might occur if you’re still relying on paper-based systems to process and track invoices, or using software that doesn’t seamlessly integrate with your accounting platform.
Inefficient contract management
There are many reasons why your team might not be managing procurement contracts as diligently as you’d like.
Regardless of the reason, this can lead to a loss of control and keep your team from enforcing contract terms consistently across all vendors.
For instance, you may have a clause in the contract that states that late deliveries will result in a reimbursement of delivery fees.
However, when your team is buried under work, organizing this with the vendor might be at the bottom of their list of importance–or they may not even be aware the clause exists in the first place.
Low team buy-in
When enforcing strategies to target addressable spend, you may be met with resistance from the procurement team.
Change of any kind is never easy. So, changes in procurement policies or practices to achieve cost savings depend on the team’s willingness to adopt the new processes.
If the team has grown accustomed to dealing with a certain vendor that you’ve eliminated or they’re being encouraged to implement a new approval process to target maverick buying, they need to see the clear value in making the switch to overcome the resistance to change.
Expert tips on optimizing addressable spend
Managing addressable spend can present many roadblocks. However, it’s a crucial element for effective financial planning, sourcing optimization, and strategic procurement.
The following are some expert tips and best practices for small businesses to optimize addressable spend:
Establish a plan
The procurement team needs a defined plan for how they are going to optimize addressable spend.
Doing so ensures they have a clear understanding of what they are targeting, how they will measure success, and a potential timeline.
Otherwise, certain people on the team could be too overzealous and make changes that detract from or compromise critical procurement practices.
On the other hand, not having a plan could also make the team not as eager to implement changes, preventing any progress from being made.
Be transparent and collaborative
Again, it’s a clear path to failure if you don’t involve key stakeholders in the decision-making process to optimize addressable spend.
It’s best practice to be transparent with all involved parties across the organization, such as the finance team, procurement team, and other business leaders.
This way, you can ensure that these strategic initiatives are practical and aligned with the organization's overall objectives.
Utilize data analysis
Thorough spend analysis will be a crucial method for uncovering potential savings and improving spend efficiency.
Use data analysis tools to help you visualize current addressable spend compared to historical data, addressable spend by procurement category, and more.
This analysis will give you the tangible insights needed to build a data-driven optimization strategy. Plus, it makes it easier to track the progress of your strategy over time.
Implement the right AP automation tools
Compiling and analyzing spend data by hand can be extremely tedious and time-consuming when done by hand.
Many businesses today are implementing automated accounts payable tools to help streamline their workflows and make it easier to track spending without the manual work.
Look for an automated AP tool that supports automated vendor payments so you can take advantage of available early payment discounts, avoid late penalties, and maintain a comprehensive record of past invoices, all of which can support your addressable spend optimization strategies.
Better management with expense management tools
Managing addressable spend helps maximize the value of procurement, helping the organization tap into cost savings and improve sourcing through strategic contract negotiations, internal controls, and vendor management.
While it can be a process to identify addressable spend and establish the appropriate strategies to target it, using the right tools can help.
With an automated AP solution, like BILL, you can more easily track the money coming out of your business. BILL makes it easy to retrieve past invoices to assess historical spending and look for maverick buying. Plus, it provides better transparency around where you’re spending money–and who approved it–with comprehensive audit trails.
Streamline your procurement process today with BILL’s automated AP platform.
