In business, procurement and finance are two separate departments, working alongside one another within the organisation. The procurement function is about spending the money well and driving more for less from suppliers, and the finance team is all about keeping the balance sheet in check and driving profitability. While this relationship works for some companies’ others not so much, which isn’t the most efficient and effective way to handle business operations especially when vendor rebates are involved. In fact, according to a report prepared by Harvard Business Review approximately 60% of business leaders say a lack of transparency between their finance and procurement functions and their suppliers represents a risk to their business.
What does the finance department do?
The finance department has moved from a back-office function to become a strategic partner of the business. The finance departments role ranges from paying salaries, bringing in payments from clients, handling invoices from suppliers, settling bills for rent and utilities, and providing money for investment. This involves managing cash flow and ensuring there are enough funds available to meet the regular payments. The CFOs role in particular has become more strategic, they invest time in developing a deep understanding of the business, beyond the functional requirements of the finance role. Plus, they work closely with the CEO on the direction of the business. Overall, the finance department cares most about processing costs and accuracy. They care less about the strategy of when to pay or the value of the goods or services than the price.
What does the procurement function do?
The procurement functions role is to acquire the parts and materials needed, on time and in the correct quantity. They will negotiate raw materials, packaging, tools, consumables, components and other regular purchases. They may review multiple catalogues or price lists from different suppliers to get the best pricing, confirm availability, and plan out lead times. Plus maintain minimum inventory and try to keep costs down. Procurement teams understand the relationship between cost and supplier quality, reliability and performance, and constantly strive for the perfect balance among these factors. The procurement function must work closely with finance and accounting to ensure that the company's cash is used wisely. To summarize, procurement teams’ cares about the supplier relationship and ensuring the best pricing of goods or services contracted on behalf of the company.
Role of procurement in finance?
Procurement and finance typically operate separately, which does not help the organization meet all of its goals. Finance should be setting spending limits for procurement, and procurement aims to save money when and where possible through both cost savings and cost avoidance measures. Considering that procurement is often responsible for up to 70% of companies' revenue, those small reductions in costs can have a huge impact on profits. Improper handling of finances by a procurement team or officer can lead to a ton of problems, not just for themselves but for their suppliers and the businesses they procure for. But if finance and procurement become partners, they can work together to contribute to a company's goals, including operational and financial performance objectives.
What do we mean by “alignment” of procurement and finance departments?
By alignment, we mean the certainty that vendor rebate deals negotiated by the procurement function are being correctly exercised by finance. In our experience, there are many companies out there where the deals are so complex that the existing financial systems such as spreadsheets or ERP systems cannot cope with them and the benefits that have been negotiated are simply missed. Without alignment, savings fail to materialize, supplier performance can slip and risk slowly increases.
What impact does the procurement function have on vendor rebates?
We recently came across this article “procurement business impact — charting your financial impact” which explored the impact that procurement can make on a company’s sustainable shareholder value — the core measure of any company’s success. The article defined four key shareholder value drivers:
1. Accelerating free cash flow
2. Reducing costs
3. Reducing risk and the cost of capital
4. Increasing long-term business value
For businesses that have substantial vendor rebate earnings, better rebate accounting can improve cash flow, reduce the cost of capital and therefore increase the long term business value. Therefore, the impact that procurement teams can have on businesses impacted by vendor rebate management — like buying groups, building materials and wholesale distribution — is significant. Added to that, having a handle on your vendor rebates obviously reduces errors which in turn reduces the potential for disagreements with suppliers. From there it follows that the procurement function should be able to foster better relationships with key vendors which is always a good thing.
What impact does the finance team have on vendor rebates?
Finance teams and specifically CFO’s are involved with not just the buy side of the house but the sell side of the house too. They are continuously evaluating business cases for new investments or business cases for customer specific investments. So it is critical that your CFO and finance team understand your vendor rebate landscape.
This is important for two reasons:
1. They can identify where the same company is vendor and customer too. This leads to better engagement and building a strategic relationship with your customers.
2. Your finance team can keep an eye on your big vendors and help you mitigate the supply chain risk. For example, you might not be tracking all the financial information about your suppliers, but your finance team might be closer to this information.
In the end, it is beneficial for the entire organization to understand who the key suppliers are and their criticality for the entire supply chain.
What causes some procurement and finance teams to be misaligned when managing vendor rebates?
- Unclear financial measures — procurement teams tasked with striking the best vendor rebates are hampered by not having an understanding of the true impact that rebate payment terms and volumes can have on the business. A single view by both finance and procurement of all rebate deals and communication of bottom line impact will allow procurement to negotiate more effectively.
- Poor rebate management systems — procurement teams still very often rely on spreadsheets or other isolated systems to negotiate vendor rebates. These processes and the details of rebate agreements are often not transparent to financial teams and therefore it is difficult to assess the positive (or negative) impact rebates are having on cash flow and the bottom line.
- Complexity of rebate and B2B deals — multiple vendor rebates and complex deals can be extremely difficult to manage without a good supporting rebate management system in place. Depending on the extent of vendor rebate activity, the rebate accountant in some companies can have a significant impact on the company’s success. Finance and procurement teams need a good supporting rebate system to make their deals more effective.
- Supplier relations - having both procurement and finance manage suppliers independently can lead to uncertainty and inconsistencies about your vendor rebates. Conflicting messages from both departments can negatively impact relationships with suppliers as well as suppliers' performance.
- Issues with payment - to pay suppliers to their vendor rebate terms, finance and procurement need to align their PO and invoicing processes, plus communication regularly with suppliers. Organizations often pay late because of error-prone manual processes which can create cash-flow pressure for vendors and impact supplier relations and future contract negotiations.
By becoming correctly aligned, with the right rebate management systems and processes in place, finance teams and procurement departments that deal with complex vendor rebates can deliver better cash flow, reduced capital costs and long term business value.