XPS, Outsourcing, Procurement

Beating outside pressures

12 Jul 2004 | (News)

Defence giant BAE Systems has saved tens of millions of pounds by handing purchasing to an external company, but making the relationship work meant overcoming some major obstacles. Amon Cohen reports

Outsourcing is so much the rage at the moment that some businesses look like they are locked into a gigantic game of rummy: the first one to farm out every corporate function they can think of is the winner. In our newly connected online world, the argument goes, third-party specialists can handle non-core duties better and more cheaply, and seamlessly integrate the processes into the fabric of their client companies.

Procurement is being swept into the outsourcing tide along with more familiar functions such as human resources, customer services call centres and financial administration. Market research company TaylorHall forecasts that the value of contracts for outsourced procurement will treble between now and 2008. North America is leading the way, according to TaylorHall, but Europe is catching up.

"We have seen more interest expressed in the past six months than in the whole of the previous 12," says David Rich-Jones, managing director of the London-based outsourced procurement specialists Xchanging Procurement Services.

What started with companies bringing in specialists to oversee negotiations for one or two spending categories has led, in extreme cases, to outsourcing the entire procurement function for indirect goods and services.

One example of this trend is defence, aerospace and systems manufacturer BAE Systems, which started to outsource much of its indirect spend to XPS in January 2002. XPS is part of a larger organisation called Xchanging, founded by one-time Andersen Consulting outsourcing partner David Andrews, which performs other outsourced functions such as HR and claims handling.

It is not a totally independent relationship, since BAE has a 50 per cent stake in XPS and transferred several employees from its internal procurement department. That gives it a whiff of shared services rather than true outsourcing, but the relationship is conducted at arm's length.

Having started with five spending categories, XPS now handles a dozen on behalf of BAE, including human resources, telecommunications, travel, stationery and desktop IT. More are expected.

Jim Robinson, purchasing director for BAE, says XPS has already started to deliver "double-digit" annual savings on total spending through XPS of £100 million this year.

Robinson believes outsourcing through XPS creates deeper savings in two ways. "It brings us a great deal of category knowledge and expertise and it allows us to seek the benefit of aggregation with other buyers of services," he says.

Although it is the latter of these two advantages - bulk buying - that may seem the more obvious reason for outsourcing, XPS is keen to play it down, portraying aggregation instead as the tip of a pyramid of efficiencies it brings to bear.

XPS stresses instead that its greatest strength is detailed category knowledge. Its largest category, for instance, is travel, where the aggregated annual spend of five clients amounts to more than £50 million.

XPS employs four travel specialists, with niche specialities in air, hotel and car hire purchasing. Only the largest multinational companies, it argues, have in-house experts who could specialise to that degree.

Aggregation does bring additional benefits. Corin McGrath, who heads the travel team at XPS, says the idea has been tainted by confusion with consortium buying. Outsourced aggregation is more attractive than a consortium to the supplier thanks to its exclusive rights to supply.

For instance, none of XPS's clients can negotiate their own deals with hotels or airlines. Furthermore, XPS works on a lengthy contract (usually five to 10 years) with its clients, offering substantial stability of tenure. XPS also manages other parts of the programme which deliver for the supplier. In the case of travel, it is involved in managing the company travel policy.

There are, nevertheless, several obvious issues with outsourcing procurement. How can XPS put together a portfolio of purchasing choices that will suit the buying profiles of all its customers? In return, how can the customers, with their varying corporate cultures and needs, deliver on commitments to suppliers?

McGrath's response is that this is a challenge as much for in-house purchasers as it is for him, given that spending patterns and cultures vary tremendously from division to division and department to department within the same company.

"It is a balancing act for us or for any corporation but that's why we employ specialists," he says.

Interests rated

A related suspicion is whether the third party acts primarily in its own interests or those of its clients. XPS is paid either overwhelmingly or entirely by taking a share of the savings it achieves. Is there a temptation to cut corners in service to improve savings and therefore boost its own profits?

McGrath claims this is not possible. Lengthy work goes into constructing detailed baselines against which to measure not only savings but service quality. This is tested by a monthly review of key performance indicators for service. It ensures there are no short cuts.

"We cannot downgrade the travel policy for a hire car from group C to group B and claim it as a saving," says McGrath.

Less easy to solve structurally is the ability of a third party to tap into the culture of the customer it is representing. McGrath acknowledges this as the biggest challenge faced by outsourced procurement specialists. XPS attempts to answer the problem by appointing dedicated relationship managers for each client. Since the decision to outsource is usually made at board level, the relationship managers have high-level contacts at the client, putting them close to the heart of the organisation.

The parallel concern is that the client will lose its internal memory of purchasing that has been accumulated painstakingly over many years. This fear is especially acute because in some cases BAE no longer has direct contact with its suppliers. Robinson is aware of this.

"It is a risk that needs to be managed," he says. "We need to retain an intelligent client interface. We maintain a level of market understanding and ensure our internal customers have adequate understanding as well. We lose some direct knowledge but we have very good indirect knowledge in each category."

Asked what type of company he believes would benefit from outsourced procurement, Robinson replies that the spending category, not the client profile, is the determining factor. Most direct spend is inappropriate because a part for a jet fighter, to take one example, requires specific product knowledge and needs BAE to work closely with a small number of highly specialised suppliers.

Raw materials have some possibilities: XPS buys aluminium and steel on behalf of windows and conservatories manufacturer Heywood Williams. However, indirect spend is best of all, because there are multiple suppliers and it is possible to aggregate on behalf of several customers.

Robinson thinks outsourcing will prove particularly popular with organisations too small to employ category specialists. However, McGrath points out they must also be big enough spenders to warrant the detailed work XPS puts into establishing saving baselines and service indicators.

Big or small, many companies will watch the progress of BAE and other XPS clients to decide whether outsourcing is how most indirect procurement will be handled in the future or whether it proves to have a short shelf-life.

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