Inside today's gargantuan corporations, it can cost more to purchase an item than the price of the item itself. Purchasing managers have been wrestling with this problem for decades - and many felt their procurement problems were only compounded by the first wave of digital commerce, electronic data interchange (EDI).
Then came the Internet. The hype says that a $120 (£82) cost per purchase can be slashed to $15 if you only deploy some flashy piece of software or pay a fee to an online marketplace. But talk to some people doing e-procurement in the real world and you will find a range of business imperatives that goes far beyond cost reduction.
Sue Baker, e-procurement project leader at global investment bank Credit Suisse First Boston (CSFB), manages a pilot project, set up in the middle of last year, which now has 500 users in London and New York, buying direct from suppliers linked to a closed Internet marketplace.
"We were looking for an overall cost reduction, and that's one of the things we used to justify the system," says Baker. "But there were other elements: data transparency, better management information and ease of use for those making requisitions.
"In these aspects, e-procurement does live up to the hype - but cost savings are more difficult to push through. They are smaller than anticipated and it is difficult to say they are directly attributed to e-procurement rather than to other sourcing initiatives."
John Willmott, managing director at IT research analyst company Nelson Hall, confirms that, in the real world, user expectations of cost-cutting benefits are low. The average cost reduction target in a recent survey of 118 UK corporations' e-procurement strategies was 4% - with a 7% cost reduction target in procurement administration.
"That figure is out of line with the hype but in line with what CSFB was looking for in its e-procurement project," says Willmott. "So there are tangible benefits but, contrary to the hype, you are not going to get astronomical savings out of e-procurement. If you can take that 4% cost saving through to the bottom line it's significant. But compared to the hype about savings of 20% - these are clearly a bit crazy."
Willmott believes the chance to alter business processes and relationships with suppliers is the driving force behind e-procurement, rather than the spectacular cost reductions touted by software suppliers.
Users are also looking for improved communications with suppliers, better stock management and increased competition between suppliers. Craig Wood, of e-procurement specialist Elcom, says visibility of spend is another important factor driving users into e-procurement.
"Most companies have some form of purchasing system, which may not be electronic, and then they've got a general ledger system. But the two generally won't be talking to each other. They know how much they pay a particular supplier in a given period but they don't know what they've spent it on," says Wood.
Baker adds, "In a large corporate, the procurement organisation can use the technology not just to steer you to the supplier but to choose the goods they want you to buy. We've done that so there is no catalogue to browse through. We've steered people to preferred goods and suppliers."
She adds that ease of use for end-users is important in e-procurement because those who don't use the system affect the bottom-line benefits. She says the interface to the existing enterprise resource planning purchasing module was too complex.
Ultimately, according to Richard Carrington, e-business development director at PeopleSoft UK, online projects have to fit in with an overall purchasing strategy.
"The hype of e-procurement is that it is an area of spend that purchasing people have said is high-volume, low-value stuff they want to get rid of. Technologists have said there's a potential solution. But what's happened is that people have thought it is a panacea.
"There is an element of spend you can manage and get control over and, because you take admin costs out, you affect the bottom line. But if you do it wrong, it will affect the bottom line the wrong way," explains Carrington.
One of the main drivers to e-procurement is the chance it offers companies to restructure relationships with suppliers. But Willmott warns that the cost-slashing aspect can rebound.
"The danger with e-procurement is that if you present it as getting a better price out of the supplier - through reverse auctions or whatever - you will scare people away. You can put your prices up if you are not careful," says Willmott.
Baker agrees, "What we are starting to see is we've got less choice of suppliers, because we are now hooked into dealing only with the suppliers who go through e-procurement."
In any case, says Wood, "If the purchasing department has been doing its job properly, the commodity cost should be down. So the hype saying you can screw suppliers because you have all this information is wrong."
Baker says CSFB's cost-cutting aims were always to be achieved through supply-chain restructuring rather than e-procurement alone.
"We've done this in conjunction with a whole strategic sourcing initiative to drive our prices down - so it has been a consolidation of spend, a renegotiation with suppliers, and then a discussion about putting them onto e-procurement. Rather than e-procurement being the driver it is an enabler," explains Baker.
Carrington agrees that most big organisations will already have a good price from suppliers, but warns, "It's the transactions that escape from the system that are overpriced."
"And that's a strong negotiation point," says Baker. "We can guarantee suppliers will get trade through our system and not get the bypass spend that you would normally expect. The bypass spend was actually quite low but it was a good negotiating point with the suppliers. In any case, they tend to believe they are losing quite a lot."
Much of the hype about e-procurement concerns third-party marketplaces: many business plans spawned by the dotcom craze involved setting up a virtual bazaar and creaming off a transaction fee.
But our panel of experts was not convinced by aspects of this model. They believe business imperatives are pushing large companies into building their own e-marketplaces around a closed and pre-qualified group of known suppliers.
"As far as marketplaces are concerned, I see a transition from more public marketplaces to more corporate marketplaces managed inside the corporation," says Roger Dean of the Electronic Commerce Code Management Association.
Willmott adds, "Many suppliers think they are having to join too many marketplaces. You can cope with one if you are lucky."
Paul Golding, a partner at IT law firm Nabarro Nathanson, says open marketplaces make it difficult to quantify risk and identify contractual responsibilities.
Golding explains, "E-procurement technology allows a number of different buying and selling scenarios. When you establish markets there is a raft of different structures. Some intermediary may be your agent, or a wholesaler, or not involved in the contractual process at all - just a facilitator.
"That complexity can cause problems," he adds. "It means analysing contractual relationships: just because technology is involved doesn't mean you have to throw common sense out of the window."
Golding cites the example of an online bank with a poor security reputation that offered to underwrite the losses of site users in order to match the perceived risk with an appropriate reward.
"The same kind of things have to happen in marketplaces. The ones who succeed will be those prepared to put money where their mouths are. They could say: if the suppliers who we have vetted turn out to cause you a problem, we will bear that risk. That's a fairly major step, but perhaps necessary for e-procurement to take off."
"In fact," says Willmott, "there is a trend in the third-party marketplaces to put in logistics of their own, so that you can offer the customer a guarantee that goods will turn up. You effectively want service level agreements."
Wood believes that the types of commodity traded on open and closed marketplaces are likely to be very different.
"E-procurement is going to be your choice for items such as stationery and IT equipment, whereas e-marketplaces are going to be for specific requirements. I can't foresee a situation where Joe Bloggs at his desk is going to surf out into a marketplace to get the best price for a box of pens. So the relationships are going to be different.
"You will have close working relationships with e-procurement suppliers - but more nebulous relationships with somebody out there in a marketplace trading with you as a one-off," says Wood.
Baker agrees, "Marketplaces will be for one-off goods or low-risk goods, such as paper. If you are bulk-buying paper there is no need for tender. You may go for bids using the auction capability. But for standard goods and services you are going to want relationships.
"When we outlined our strategy at the end of 1999, we bought interoperability as part of it," says Baker. "We wanted to connect once to a market site then all the market sites to connect - forming global trading Web.
"The theory always was that each supplier would connect once to one marketplace. But that really isn't materialising. What we're getting is isolated market sites, all requiring different technology.
"This was supposed to solve the EDI problem of one-to-one links," says Baker, ruefully, "but we're a long way from that actually happening."
Barriers to success
So what are the obstacles to e-procurement taking off? Not technology, says Baker. "It's the relationship with the supplier. The sourcing operation is adversarial, to get the best price.
"What you need for e-procurement is a partnering and supportive relationship. Sometimes you have to go through the adversarial process to get to the position where you can partner with a supplier.
"There is a whole range of interaction that is required - you don't negotiate a contract and then come back in five years' time and renegotiate it. There's more to it than that."
Willmott says, "It's probably worse in the UK. We've recently done an eight country study on procurement and UK companies were the worst for putting cost into selection criteria. The UK is the worst country I can think of for trying to screw suppliers down in terms of price."
Wood says, "E-procurement means giving a certain power to the supplier. The supplier may provide 20,000 items in a catalogue: you are not going to sit and audit that every single day. Some companies find it difficult to give that level of trust. So relationships have to change.
"You manage to keep costs down by providing information to the supplier," says Wood. "A lot of the hype concentrates on the benefits to the buyer but not to the supplier. Suppliers will say: why do you want me to spend this time generating huge catalogues when all you are going to do is compare me on price?"
Baker says, "One of the reasons technology is becoming an obstacle for supplier organisations is that we haven't had the level of integration initially anticipated. CSFB does all of its back-end integration - we integrate completely with the market site.
"For the supplier, that integration into its back-end system, cutting the cost of fulfilling orders, has not materialised. There is a very small number of suppliers who are fully integrated in the way that PeopleSoft and Commerce One use the term. There are a probably only a handful in the UK," says Baker.
"An e-procurement strategy driven by the technology side is doomed to failure," says Wood, reflecting the widespread belief among vendors that IT departments should play the role of spear carrier in the unfolding drama that is e-business.
"Our project was a complete collaboration with IT," says Baker. "It was a joint lead - the purchasing parts of IT and the services organisation within CSFB jointly drove it - not the technology of IT. This project was not really managed by the technology group: both managers came from the business side."
Wood says, "The reason the business has to lead IT is that it has to change. If you automate a bad process you get to the wrong place quicker."
"There is a tech component to e-procurement," says Baker, "but most of the project is about changing the way people work, the way the procurement organisation interacts with suppliers. The technology piece was difficult because it was new - but there was nothing inherently difficult about the technology."
Despite the obstacles and wariness of companies in the supply chain, the panel agreed that e-procurement is becoming a reality in the UK's top companies. More than half the top 500 are doing it now, and the consensus is that the critical mass could come in the next 18 months, the panellists warn.
So whatever happens to independent marketplaces, and share prices of pure- play e-procurement vendors, the business concept is coming - ready or not.
The CSFB e-procurement project
Credit Suisse First Boston's e-procurement pilot project formed the touchstone of the round-table discussion. Currently 500 employees use the system to order goods and services. The in-house team, led by Sue Baker, e-procurement project leader, collaborated with the bank's existing enterprise resource planning (ERP) vendor PeopleSoft, plus consultants from PricewaterhouseCoopers and e-commerce specialist Commerce One to build the system. It allows:
The bank aims to put $500m through the system - about 80% of its procurement transactions.
What is e-procurement?
E-procurement means companies buying their supplies online. It involves turning paper-based processes into Internet transactions and moving from the "one-to-one" technology of electronic data interchange systems to Internet-based networks. While much of the early hype concerned e-marketplaces - virtual souks where anyone could come to buy or sell a particular range of goods - our experts say the trend now is towards closed communities centred on a particular supplier.
The hype says the key benefit is cutting the cost of buying, though reverse auction specialists will also emphasise the Internet's ability to force down the cost of the commodity itself.
E-marketplaces expected savings
Nelson Hall's research on e-marketplaces in the UK, published in December 2000, shows users moving from creating their own e-marketplaces to integrating with existing marketplaces. Researchers interviewed 118 large companies across a range of industries in the UK.
The average (mean) targets companies were working towards were:
Return on investment 4%
Reduction in purchasing process costs 7%
Reduction in cost of purchased items 4%
Reduction in purchasing lead times 14%
On average, companies expected e-procurement projects to pay for themselves within 19 months. Despite identifying many obstacles to successful e-procurement, all those interviewed expected to be doing it for real by the end of 2001.
Source: Nelson Hall. E-marketplace services. Market assessment December,
Who was on the e-procurement panel?