Shelving Procurement to Pursue Other Value Creation Levers

One of the common mistakes we see Operating Partners make is deprioritizing Procurement in pursuit of other value creation levers. Procurement rarely drives investment theses. But where margin expansion is a value creation priority, Procurement should play a leading role in generating cash. To avoid this mistake, I've outlined recommendations below.

Recommendations:

Assess Resource Loading. What role is Procurement playing in your value creation plans? Give them ambitious cost savings goals, push for 100-day results, and ensure they're supporting doing their part to create values.

Use Consultants. If internal Procurement resources are scarce, hire a consulting partner to do all the heavy lifting. Ensure fees are linked to savings delivery and an ROI is guaranteed.

Get a Spend Assessment. Have consultants do a no-charge spend assessment and size savings for your portfolio company. Use this to make a data-driven decisions that influence your value creation plans.

In a market where LPs have investment options and competition for deals is fierce, the importance of value creation is of utmost importance. Amidst the various levers Operating Partners have at their disposal, Procurement can be an important tool in the cash-generation toolbox -- if deployed boldly and smartly. However, neglecting key considerations can result in costly mistakes and missed opportunities. By avoiding these five common mistakes, PE firms can enhance their chances of creating long-term equity value in their portfolio companies.

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Damaging Supplier Relationships in Value Creation

The fourth common error we've observed is inadvertently damaging supplier relationships in pursuit of cost optimization. Overemphasizing transactional relationships and neglecting the importance of long-term, strategic partnerships can hinder a supply chain's resilience, and compromise equity value. To avoid this mistake, I've outlined recommendations below.

Recommendations:

Meet with Top Suppliers: Conduct c-level meetings with top suppliers in the first 100 days. Understand their capabilities and challenges, share vision and goals, and cultivate strong, collaborative relationships.

Share Information: Open and transparent communication is vital. Share information about demand forecasts, savings targets, and strategic plans to enable suppliers to better align with your objectives.

Collaborate on Innovation: Work with suppliers to identify opportunities for innovation and continuous improvement. Integrated product development and cost-saving initiatives can yield substantial benefits.

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Sacrificing Long-Term Value for Short-Term Gain

Too often, we've observed Operating Partners neglect restructuring Procurement & Supply Chain functions, instead deploying short-term tactics in their efforts to create value. Consultants are hired too quickly, direct material strategic sourcing projects ensue, the Procurement team gets buried in complexity, savings doesn't flow the bottom line as expected, and the cycle continues with new ownership. Why? The foundation to deliver and sustain long-term procurement equity value was never established or worse, burnt to the ground. To avoid making this mistake, we recommend the following:

Recommendations:

Build the organization. Ensure the Procurement team is structured to be customer- and value-centric. Align the function as a service provider to the business while delivering YoY savings and working capital improvements, and build capabilities around strategic sourcing, category management, SIOP, etc.

Avoid supplier slash & burn. Suppliers despise the traditional PE approach to cost cutting – 3% demand letters, mass consolidation, mandated consignment programs. The pandemic showed us relationships matter – so meet your 80/20 suppliers in person and explore ways to generate cost savings together.

Align around customers. Harness the 100-day period to deliver c-suite messaging internally and externally to energize Procurement, functional leaders, and suppliers. Rally them around growing together through delivering more value to customers – via innovation, lead-times, service levels, savings, etc.

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Forgetting the Whole of Procurement's Cash-Generation Levers

Procurement's influence on the Income Statement is well-recognized, yet we frequently observe Operating Partners errantly overlook Procurement's impact on the Balance Sheet. Operating Partners can look to Procurement to unlock cash to fund growth, acquisitions, and debt paydown. How? Through optimizing inventory (DIO) alongside payment terms (DPO) – 2/3 of the working capital equation. To avoid this mistake, I've outlined recommendations below.

Recommendations:

Tackle Inventory. Ensure Supply Chain understands customer requirements, has a SIOP process and purchasing policies, and employs solid statistical theory when setting stock levels. Inventory optimization can hit the Balance Sheet within 100 days post-closing and will increase service levels.

Optimize Pay Terms. Ensure Sourcing negotiates for extended pay terms and early pay discounts (not mutually exclusive), and price/inventory tradeoffs are visible to the CFO before contracting. Pay terms can impact both the P&L and Balance Sheet within the first 100 days as well.

Negotiate Wholistically. Procurement teams should conduct interests-based negotiations for both Working Capital levers (consignment, extended pay terms, inventory buy-backs, etc.) and EBITDA levers (pricing, rebates, VA/VE savings, early pay discounts, etc.) when negotiating with suppliers.

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In the private equity (PE) space, it’s no surprise that successful investments often depend on the ability to pinpoint opportunity and identify risks early in the due diligence process and during the first critical 100 days. We’ve all heard the tales of post-closing integrations gone bad – supply disruptions, employee turnover, customer attrition, and unwieldy, multi-pronged value creation efforts that overwhelm and delay results. 

Procurement should be a no-regrets value creation lever, but common mistakes can create complexity and delay results. In this article, I’ll share my perspective based on what Adair & Company has seen while advising and consulting with PE firms – the top five watchouts from a procurement and supply chain perspective, from due diligence through the first 100 days.

WATCHOUT ONE: Neglecting Procurement in Due Diligence

One of the most common mistakes we’ve seen Operating Partners and Deal Teams make in due diligence is undercutting deal and integration efforts by not applying enough rigor in due diligence. Even when given access to data, how many times has your team baked a generic 2-5% first-year COGS savings into the deal model? And how many times have you left project identification for integration, and how has that impacted 100-day results? To avoid this pitfall, we recommend the following:

1. Do the Work, Don’t Wait. For most midmarket companies, it should take days (not weeks) to size savings and risks in due diligence. Help Deal Teams price-to-win with accurate cost synergies, avoid costly surprises, and move with speed into the first 100 days. If prioritized, Procurement can be one of the quickest cash-generating levers in your arsenal.
2. Be More Specific. Stop using generic 2-5% savings (on COGS) in your deal models. Increase the accuracy of your cost synergies by utilizing third-party benchmarks that are recent and specific to the categories your Target company buys. It’s marginally more effort for substantially more clarity and benefit.
3. Detail Projects. Sprint from the deal model to 100-day integration by translating savings targets into concrete savings projects. Frontload price harmonization, supplier negotiations, GPO leverage, and Indirects Sourcing – then layer in more complex Direct Material categories as wins start to accumulate.