Wondering how Procure to Pay (P2P) process optimization can save you money?
Procure to pay process could be complex, but a well-optimized P2P process could also be a source of cost savings.
After working with 100’s of clients, here is what we found:
Want to achieve results like this?
Then read on…
This guide will walk you through a step-by-step process to generate cash from Procure to pay process.
Procure to pay process is the end-to-end process that covers the steps from purchase request initiation to the payment to the supplier.
Here is a quick break up of the process:
Of course, the process on paper looks simple, but each step could be problematic and detailed for your end-users.
How are your users creating requisitions today?
This simple step could be a source of frustration for users. It could lead to productivity loss for the entire team because the entire process is manual.
So the question to ask is, what is the cost of the lost productivity?
Just look at the data and the average time, and you will be able to quickly identify the cost savings you could achieve by improving the requisition process.
This is just one example of how optimization of Procure to pay process could lead to overall cost reduction, reduced time, and happy employees.
We will cover more such examples in the following sections.
Let’s briefly look at each of the steps of the procure to pay process and what are the potential improvement areas in each step of the process.
The requisition process is the start of the purchasing process for most companies.
The reason we said most companies is because not all purchases go through a Purchase order.
In some cases, the vendor just submits the invoice, and the payment is made.
It is not just about creating a requisition, but this is an opportunity for the Company to direct the spending to the preferred vendor.
You can easily save one FTE effort in an entire year if your requisition process is simple and is automated through an easy-to-use purchasing system.
This step might not be required in every purchase requisition. If you already have a preferred supplier for your employees’ product or service, this step is redundant.
In other cases, the sourcing team can get engaged if you don’t have a preferred supplier.
This process could be as quick as a few hours, or it could take a few days.
If your purchase history is readily available, it is easier for the team to identify the supply source.
This step includes approval of the purchase requisition as per your corporate spend/purchasing policy.
The purchasing policy should identify the owners who approve the requests before Procurement can issue an order to the supplier.
In our experience, companies that don’t have automated approvals spend a lot of time chasing the right manager or a member of the executive team.
To avoid last-minute escalations and save time for everyone involved in this process, we recommend the following a) Ensure that your process is automated and executives can approve requisitions over the phone at the bare minimum.
b) Review your approval cycles and see if the requisitions are getting approved at the right level. For example, if 90% of your approvals are going to a senior executive for approval, that is the process’s bottleneck.
In that case, you should change the approval limits so that middle management can handle more approvals. That drives accountability.
If you fear a loss of control, then purchasing approvals can easily manage that.
You can analyze what is happening in the purchasing process and change the process to close any loopholes.
After a requisition is approved, the next step is issuing the purchase order to the supplier. This step of the procure-to-pay process is straightforward, but there are a few things to consider here.
If the answer to these questions above is that the process is manual, then you should look at automating this process.
There are two primary benefits of automating the purchase order creation 1) By not having an automated process, you increase the chances that an order would be entered in error because you are typing data from one system to another.
A receipt is the confirmation of the delivery of the goods by the supplier. In most companies where the end-to-end process is not automated, receipt management is a very manual process.
The A/P (Accounts Payable) team often has to check with individual users whether the products have been received or not so that they can reconcile the invoices.
In the case of services, there might not even be a check whether the service is delivered and as per the agreement.
Also, the lack of centralized documentation means that if you have to look at the packaging slips, etc., you have to reach out to the individual who confirmed the delivery at any time in the future.
Companies can reduce the overhead of receipt management by shifting the responsibility of creating the receipt to the person accepting the delivery.
The next step in the process is receiving the invoice in the system. In reality, vendors ship invoices as soon as they ship the product.
So you might have an invoice before the product even hits your warehouse docks or, that matter, your office.
How are you creating invoices in your system today?
The most common scenario we have seen is that companies receive invoices via email, snail mail, fax, etc. Those invoices are then keyed in manually in the accounting system by the A/P department.
Let’s do a quick time analysis.
Assume that it takes 10 minutes to key in an invoice, and let’s say you receive 10,000 invoices a year.
That is 100,000 mins or 1,666 hours. That is almost one FTE worth of effort you are spending on entering invoices into the system.
Best-in-class companies automate the process so that suppliers can submit the invoices electronically.
That way, you don’t have to key them into your system.
The next step is to reconcile the purchase order, invoices, and receipt to ensure that you received what your orders and the invoice amount match the purchase order amount.
Based on the number of documents, you can have a 2-way match or a 3-way match.
An Accounts Payable system can easily handle the 3-way match process and the related workflow.
The workflow should be able to route invoices for approval in case of any exceptions.
Again if there is a lack of automation, your team could be manually chasing users or suppliers for these documents.
Once the invoice is reconciled, it is now ready to pay.
In some companies, this could be a two-step process, the invoice might be reconciled in one system, and once the invoice is reconciled in that system, it is sent to another system for payment.
The ERP/Accounting system then issues the payment based on the supplier’s payment terms and the preferred vendor payment method.
The last step in the process is, of course, payment to the supplier.
The area for improvement here is to move away from paper checks and move to either ACH payments or payments via credit cards.
As per a study by bottom line technologies, the cost of issuing a check could be anywhere between $2 and 4 dollars.
In contrast to that, the fee for ACH could be anywhere between $0.15 to $0.95 per transaction.
As you saw in the previous section, any organization can reap significant benefits by improving the procure-to-pay process.
So if this is so obvious, why aren’t companies doing this already?
We think companies are living with suboptimal procure-to-pay processes for the following reasons.
Purchasing and accounts payable are two different teams in most companies. But we are seeing companies who have started integrating these functions to ensure the processes are efficient.
Purchasing organization generally handles the source to PO process, and once the PO is issued, it is the responsibility of the AP department to clear the supplier invoices.
Since there is segregation of duty, both departments look at their initiatives for process improvement.
But when you think about it, one can’t be optimized without the other.
For example, AP needs to chase the PO owner if a vendor submits a wrong invoice.
However, a single process owner can easily optimize the end-to-end process rather than individual silos if there is a single process.
When you start looking at Procure to pay as one process and not two different departments, you can quickly identify areas for improvement.
That includes a standard set of procurement technology, for example, a technology that can automate the whole purchasing process. This could also lead to changes in upstream processes, which favorably impacts downstream processes.
For example, if you have a lot of issues during the invoice reconciliation process, the invoice does not perfectly match what you have on the PO.
The issues could be because of the way the PO is created in the system.
So when you have single ownership, it is much easier to resolve issues like this.
Depending upon the size of the Company, procurement and AP are considered to support functions.
Most executives look at these functions as a necessary evil, something you require to run operations.
Procurement in small companies could be under the department that spends the most money, and Accounts Payable reports to the Controller of the Company.
However, if companies start looking at end-to-end process optimization, they would soon realize that an effective procure to pay process could be a source of competitive advantage.
Hopefully, by now, you are convinced that procure-to-pay optimization is the right step for your Company to gain efficiencies in the Procurement and Accounts payable process.
But how do you quantify this into hard cash?
In the following sections, we will help you quantify the benefits of procure-to-pay optimization.
When it comes to reducing operating expenses, a proactive approach works best.
What is a good Cost control benchmark?
Assuming your annual revenue is $100M, approx.
30% of Spend is with external vendors, that is $30M annual spend which can be strategically controlled.
With effective cost control, you can save 2-3%, $600,000 to $900,000 in cost control savings.
That is not an insignificant amount.
Even if you get a 1% reduction due to cost control, that is still $300,000 in annual savings.
Using a Purchasing system would allow you to implement flexible cost controls.
Most companies create a bureaucratic process to control costs.
Every order has to be approved by senior management, or in small companies, every order has to be approved by the owner of the Company.
On the other hand, you can’t assume that every employee in the Company will behave reasonably.
So let’s look at some strategies for effective cost control
a) Budget controls
b) Category and spend based approval controls
c) Cost avoidance through better contract management.
If you already have a set budget for projects or general operating expense categories like office supplies, you can use your procure-to-pay process to ensure cost control.
By ensuring that budgets are part of your procure-to-pay process, you can ensure spending is within the allocated budget.
From there, you can control the overspending scenarios by requiring finance team approvals to extend the budget.
This can automatically be done by purchasing systems, whereby you can build automated controls on what should happen if the purchase exceeds the allocated budget.
For example, if the budget is not available, you can block the purchase until the budget is adjusted.
Another way to control cost is to ensure that purchase requests are approved by the right person before the PO (Purchase Order) is sent to the supplier.
Let’s take an example.
Michael from the accounting department is looking to purchase a subscription to a new BI tool. He finds a vendor and creates a purchase requisition.
If this request is routed to an IT manager for approval, the IT manager might have some spare licenses and can fulfill the request without any additional Spend for the Company.
Additionally, for large spending, you can ensure that purchase request is authorized by senior management. That allows further review and analysis.
The goal with category and amount-based approvals is to have a review process to ensure that the Spend is required.
Companies lose a lot of money every year on automated renewals of the product or services, which are not required anymore.
The simple reason is that companies don’t have a central place to store and track contracts.
Or, even if there is a central place to store contracts, there is no way to identify which contracts must be auto-renewed.
This can be easily solved by keeping track of all the contracts, including their expiration dates, and then a monthly review to ensure that you are at the top of your renewal cycles.
Improving the procure-to-pay process can improve user experience and overall productivity improvement for your procurement and accounts payables team.
So how do you quantify the savings due to a streamlined process?
Let’s look at two critical factors that impact the cost of the purchase order.
Do you know how much does it cost to process a purchase order?
If not, that is the first step towards calculating the benefits.
The cost of a purchase order varies based on the industry and hence such a stark variation in the purchase order processing cost.
With automation, you can reduce the cost by 50%.
Assume that your company process 2000 PO’s per month.
That is a cost-saving of $50,000 (2000*$25) annually
Let’s now look at the cost of processing an invoice.
How much does it cost to process an invoice?
Invoice processing cost includes the time it takes to scan and enter the invoice into your accounting system, match the invoice with the purchase order, and then send for further approvals so that AP can pay the vendor.
As per the Paystream advisor’s research, the average cost for an invoice varies from $2.36 to $15.00.
For our discussion, let’s assume that the average cost is approx—$ 9.
If you process even 5000 invoices annually, that is a savings of $22,500 (5000*$4.5).
A well-optimized procure-to-pay process means that you can process documents faster and realize early payment discounts.
Let’s break this down.
An optimized process ensures that purchase orders are processed fast, invoices are entered automatically in the system, and automated 2-way or 3-way matching.
All that means is your invoice is processed fast and ready to pay to your vendors.
Assuming you have negotiated early payment discounts and sufficient cash flow to pay your vendors early, you can avail of these early payment discounts.
Standard payment terms calculating early payment discount savings.
It is not uncommon to see 2/10 Net 30.
That means your standard payment terms are Net 30, but the vendor would give you a 2% discount if the invoice is paid within ten days. Let’s take an example to quantify the savings.
Assuming the invoice is ready to pay within ten days, and the invoice amount is $5,000.
That is savings of $100, and if this is a recurring monthly invoice, you can save $1200 annually for just this one vendor.
Now, what if you don’t have the cash to pay but borrow the money. You are paying 20 days early to get the discount, so let’s do the math on that.
Assuming your short-term borrowing rate is 8%.
Then you would be paying $16.2 in interest ($4900*8%* 20/365). So even if you are borrowing to pay, that is a savings of $83.8 ($100-$16.2)/invoice.
Not a bad return on investment!
As you look at improving the efficiency of your procure-to-pay process, you should also look at how to increase the spend visibility across the organization.
Finance, of course, would have visibility into company Spend.
However, most of that visibility is at the Chart of accounts level. There are two main issues with Chart of Accounts level visibility into expenses.
a) Chart of accounts are suitable for a summary view of the data but lack granular spend visibility.
That makes sense because a Chart of accounts is created to group expenses in buckets which can then drive financial statements like profit and loss account and balance sheet.
They are not designed for Spend analysis. To better understand the Spend and opportunities for cost reduction, you need granular spending data.
b) Not many people understand the Chart of accounts outside the finance department. The goal of better Spend visibility is not just for the finance department. The purpose is better visibility also to ensure that individual department owners understand where they are spending money.
Increased spend visibility is all about transparency and driving accountability across the organization.
How do you quantify the savings related to better visibility?
There are two ways you can measure the value of better visibility 1. What kind of resources are required to get granular spend visibility? You can measure in terms of FTE(full-time employees) effort. Let’s say it takes an annual ½ FTE worth of effort.
So now you know the baseline, you can review the process and see the impact of optimized procure to pay process on reporting. It is a measure of reduced effort.
2. The second way is to more subjective. It is the impact of the better and faster decision-making process because of better cash flow details.
Do you ever have to deal with a situation where the supplier did not deliver a critical product or service because they never received the purchase order?
Have you ever been involved in a situation where you have to expedite the orders and pay air freight to get the products faster because you are running low on the supplies of the product?
If you answered yes, then it is easy to quantify the cost of disruption both in terms of disruption to the business and the cost of expediting the orders.
This can easily be avoided by having a better procure to pay process. By optimizing the procure-to-pay process, you can ensure that the orders are delivered on time, suppliers can acknowledge the order and confirm the delivery of the items.
Along with vendor acknowledgments, you can start tracking how often the vendors are delivering on time. You can use this data to work with vendors to improve delivery time frames or find new vendors who can deliver per your schedule.
The next obvious benefit of an optimized procure to pay process is reduced spending by getting better pricing for the product and service you purchase.
Spend can be divided into direct and Indirect Spend.
Direct Spend is what you consider as raw materials which go into the product and COGS spend.
An optimized process enables the procurement team to increase the Spend under management because they can now review the Spend before the purchase order is issued. Also, an optimized process provides better Spend visibility to the team.
Indirect Spend is the company’s money to run the operations, such as IT, office supplies, marketing expenses, etc.
Direct spending is very much controlled. We will focus on the opportunity in the indirect spend area.
The first measure of an optimized process is to have more Spend under management. As you can see from the graph below, only 20-30% of companies have more than 90% of their Spend under management.
By spend under management, we mean the Spend, which is actively reviewed by a procurement team and negotiated to get better pricing.
So once you know how much spend you have under management, you can easily calculate the savings.
As per KPMG, the savings number could vary based on the maturity of the sourcing and procurement function. For example, if you have a high maturity in the procurement process and all your sourcing activities are centralized, you can achieve as high as 10% savings annually.
To be conservative, let’s assume a 4% cost reduction.
Let’s say your revenue is $100M and your Indirect Spend is $40M.
Even if you have 40% of Spend under management, that would be $16M.
4% saving would be $ 640,000. That is not an insignificant amount of money.
Do you know if your Company is a victim of procurement fraud?
Procurement fraud can be defined as dishonestly obtaining an advantage, avoiding an obligation or causing a loss to public property or various means during procurement process by public servants, contractors or any other person involved in the procurement.”
There are different types of procurement fraud.
For example, a person responsible for purchasing takes gifts from the vendor to award them the business.
The other example is an employee awarding business to their relatives or close associations.
The chance of fraud is also higher in the A/P process because if you don’t have tighter controls, someone can set up a fraudulent company and keep on paying small amounts over time.
It is hard to quantify the savings from preventing fraud because till you don’t know the extent of fraud, it is difficult to know what you could have prevented.
So we talked about the procure-to-pay (P2P) process so far and why the process is not optimized. Let’s now look at how to go about optimizing the procure-to-pay process. We walk you through a step-by-step process.
The first step towards the optimization journey is to figure out what is wrong with the current process.
To start with the audit of the procure-to-pay process, you need to review every step in the process.
You could look at dividing the feedback into objective and subjective areas.
This is where you look at the data for the end-to-end process and see how long it takes for the complete cycle. For example – How long does it take to create the requisition?
What is the average time for you to create an invoice, such as scanning the document and indexing the document?
What to do with all this data? We will cover that in the next step. But before we start looking at what areas to focus on. Let’s do a subjective assessment.
Why do subjective assessments when you have all the data to review your process efficiency?
There are two reasons to do that:
a) When you ask around enough time to enough people, you get a sense of the most troubling issues.
We haven’t heard anyone say so far that they love PO and the invoicing process. However, the goal should be that the process is optimized and easy enough so that employees don’t have to think about it.
With this subjective assessment, you should be able to identify the top 2-3 focus areas.
Let’s talk about how to make use of all this data and subjective information now.
By now, you should be able to identify the areas of improvement. The areas might be identified by objective or subjective feedback.
Before you decide on the next steps, let’s find out if there s a correlation between objective and subjective feedback.
Let’s assume that one of the top subjective feedback areas was that it takes too long to create requisitions or that the process is very cumbersome. If you overlap this with the data you have collected (the time it takes to create a requisition”, you can quickly identify whether the data supports the subjective facts or not.
Once you have done that, let’s prioritize the areas for optimization of the procure-to-pay process.
Focus on areas where you can deliver maximum value faster.
Focus on areas where the ROI is the highest and the implementation time to improve the process is shorter.
Let’s say you can cut this cost by 50%, so even if you were creating 5000 orders a year, that is savings of $75,000.
So what would it take to implement this change?
If you have a manual process, maybe you can automate the purchasing process. Of course, it depends on the cost and the time to implement the change.
The second approach could be to look at your purchasing policy and see if you can simplify the purchasing process to reduce the number of steps in the approval process.
For example, as per the current process, all orders need to go to a Director for approval.
Can you change the process such that Sr. managers can approve more requisitions?
That will drive accountability and reduce the time it takes for a requisition to be approved.
This is just one example, but this is how you should be thinking for each item in your list and prioritize it based on the cost and time it will take to implement.
Having common ownership of the process enables an easier review of the process and makes it easier to identify areas for improvement.
There are multiple ways to address the common ownership a) You can have both A/P and procurement reporting to the same leadership. That way, you can share common resources, especially around processing documents, whether it is a Purchase order or an Invoice.
There is, of course, a SOX issue here because the best practice is that the employees who have access to purchase orders shouldn’t have access to Invoices.
However, in our experience, we have seen multiple companies successfully implement this model.
For example, with proper approval controls, you can restrict only the review of the process to certain individuals to review and key in the data. Still, they cannot approve any orders or invoices in the system.
This approach makes sense from a resource utilization perspective and reduces overall investment in technology costs. Instead of investing in individual technologies, now the team can invest in one common platform.
if a typical reporting structure is not possible for procurement and Accounts payables, the alternate approach is to have a collaborative process owner. The person could have a dotted line reporting to both procurement and Accounts Payable.
The goal here is to have one person looking at the end-to-end process and working with both process owners to optimize the process.
Needless to say that automation is key when it comes to optimizing the process.
Can you do this without technology?
Yes, at least in theory.
In practice, however, you have limited resources. Companies find it challenging even to conduct an audit of their process.
There are limited resources available to invest in process optimization.
If you have resources to optimize the processes manually, go for it.
Otherwise, look at technology to automate the process. We will cover this topic in-depth in a later section.
Procure-to-pay optimization is a continuous process. It is not one and done for the following reasons.
a ) The procure-to-pay process evolves. You introduce new categories that might have high complexity.
It could also be because your vendor base is changing, and they require changes to procure to pay process.
b) You could start with wrong assumptions. For example, let’s say your goal is to reduce the time it takes to process the invoices received from suppliers.
You realize that it is taking time because the purchase order information is not available on the invoice. So you went ahead and implemented a No PO, No Pay policy for your suppliers.
What you might not have realized is that most of your stakeholders don’t create purchase orders today.
So this approach is not going to work.
This is just an example, but when you start on your optimization journey, you need to continuously evaluate whether your initial hypothesis is accurate and, if not, change the approach or strategy.
With that said, how to speed up the optimization of Procure to pay process?
As we mentioned earlier, you can look at putting more resources on this initiative that is not a scalable model or try to cobble together a piece of technology using your current ERP system and other internal system solutions.
You can build your solution, but then you have the responsibility to evolve the solution continuously, and it doesn’t have best practices built-in from 100’s other organizations.
We recommend that you evaluate procure-to-pay technologies that can accelerate the pace of the process optimization.
Let’s look at some of the points where technology can help play a role.
As we said earlier, you can build your solution, but it takes time to put together that solution. You have to write requirements, work with IT to assess the time it will take, and then, of course, once it is ready, test to ensure that there are no bugs in the new system.
Compare this to putting together a must-have list, evaluating available solutions in the markets, doing a pilot to ensure that the product meets your requirements, and then launching the system.
As you might have noticed, the second approach is much faster, and with this approach, you don’t have the hassle of continuous upgrades and testing every change done in the system.
Any procure to pay technology is more reliable than any manual process you would establish.
The challenge with manual processes is that they are not scalable.
When individuals leave the organization, you have to start over with the transition to a new person.
More often than not, companies start with a manual process because it is quick, but they soon realize that the process is not scalable, and then they start over to redefine and automate the process.
For example, you want to ensure that Spend is reviewed before a purchase order is issued.
So you have a person review every purchase order, which goes out of the door, and since you don’t have a technology solution, it is hard to differentiate what you should be reviewing and what you shouldn’t be reviewing.
With Procure to pay technology, you can create a completely touchless process if the purchase order meets certain criteria.
When you compare the long-term total cost of ownership of the system, procure to pay technology would still be cheaper than a homegrown system.
Let’s look at what is involved in the long-term cost of the internal ownership system and who does what in each scenario.
If you are considering homegrown vs. external vendor technology, You can easily compare the cost over three years and see which one is cheaper over the long term.
There are many variations on how you can implement procure to pay technology. You could implement an end-to-end solution that automates the entire process from purchasing to invoicing, or could you look at just automating the purchasing process only.
So which procure to pay use case is right for you?
Let’s look at the different use cases first, and then we will give you some decision criteria to help you decide which use case makes sense for you.
In our opinion, there are four primary use cases.
This use case is the most simple use case for procure-to-pay automation. Let’s say you are currently creating manual requisitions, which are sent for approval through emails.
And you want to automate the process so that you can gain efficiency in your approval process. In that case, you can implement just the requisition module to automate the requisition process.
Your purchase orders still need to be created in your accounting system manually.
This use case only makes sense when you have a very low volume of purchase orders.
If you have a high volume, then you need more resources to create purchase orders manually in the accounting/ERP system.
This includes automation of the requisition process and includes receipts, invoicing, and sometimes payments to the suppliers.
It does take more time for implementation, but it does help you to fully realize the efficiencies of an automated procure to pay process.
This includes automation of the requisition process and includes receipts, invoicing, and sometimes payments to the suppliers.
It does take more time for implementation, but it does help you to fully realize the efficiencies of an automated procure to pay process.
This use is applicable in cases where your existing invoicing system is not very robust, and it makes sense to do end-to-end automation.
We have worked with companies that have already outsourced their invoice processing to third parties. These third parties are responsible for onboarding suppliers to a portal or other integration scenarios.
The invoices are then submitted through a third party, and that third party then sends the invoice to your systems.
The use is very similar to end to end scenario. The procure to pay process works precisely in the same fashion as the above use cases with one difference – the invoices come through a feed in the procure to pay system.
The procure-to-pay system is then responsible for matching the invoices and then sending the invoices to the downstream system.
The simple answer is that you should aim for an end to end process automation. However, there are other considerations for selecting the right use for you.
All said and done, implementing a procure-to-pay system includes change management. It is not just changing the processes but also changes in user behavior.
If you are a small company, this change is straightforward because there are limited people and processes or systems to change.
However, if you are midsize to a large company, audit your process and ensure that all stakeholders are on board for the process and system reengineering.
Are you looking for quick wins, or are can you wait for the end of end automation?
For example, you just took over the procurement department, and you are looking to quickly gain some efficiencies in the process. In that case, it makes perfect sense to automate the requisition to PO process and see immediate improvements in your procurement process.
Cost is another factor for consideration; a simple use case like requisition would be much cheaper than entire procure-to-pay automation.
So depending upon your budget, you can choose a use case.
Procure-to-pay process automation is not just about increasing efficiencies of the process but also about reducing overall cost.
Companies that have best-in-class procure-to-pay systems and processes have tremendous advantages over their peers. They have better cost savings, better engagement with employees, and better visibility into their Spend.
To gauge the full potential of the hidden cash in your procure to pay process, start with a complete audit of the process, talk to your counterparts on their willingness to change, and then select use cases for procure to pay transformation.
Want to see how ProcureDesk can help with procure-to-pay automation? Schedule a demo with one of our product specialists.