Procurement in Africa: Exercising a muscle for challenging times | McKinsey

2022-12-05 00:45:53 By : Ms. Eunice Lee

Procurement functions in Africa are in for a challenging period as they grapple with inflation, geopolitical disruption, and global supply chain constraints. Soaring external spend is putting significant pressure on the profit margins of many companies.

After a prolonged period of low inflation and relatively easy access to goods and raw materials, many businesses—globally and in Africa—may find themselves ill-prepared for these challenges. Procurement organizations have mobilized to manage and optimize external spend, but too many have not exercised the necessary muscles in recent times, leaving their companies behind the global curve in their adoption of digital tools to drive procurement efficiency. Moreover, for the foreseeable future, procurement functions are likely to find it difficult to obtain the goods they need at historical cost. Pos Display

Procurement in Africa: Exercising a muscle for challenging times | McKinsey

This article looks at the factors contributing to rising external spend, and outlines five key areas where businesses can drive efficiency in their procurement processes to better cope with challenging times.

The squeeze on African profit margins was apparent even before the high inflationary environment took hold across much of the world in 2022. Cost of goods sold (COGS) calculations generally reflect most external spend, such as materials and labor used directly to create a good. Across the top 60 African companies, COGS increased by an average of 21 percent between 2020 and 2021. As this was more or less in line with the revenue increase of 27 percent, it did not negatively impact the overall gross margin (Exhibit 1). 1 1. Top companies as measured by revenue, based on data from S&P Capital IQ, August 2022.

In some sectors, revenue has increased at least as quickly as COGS, reflecting better management of external spend, better pricing strategy to accommodate for inflation, or both. The positive overall trend is mostly driven by nonenergy materials, with strong revenue increases in the mining sector linked to rising worldwide raw-materials demand after the pandemic.

But the picture across industries and companies is widely varied. Other sectors, such as banking and consumer noncyclicals, have seen COGS increasing faster than revenue and eroding profit margins. With inflation affecting raw-material costs, labor rates, and energy prices, more African companies could be faced with further margin decreases.

African companies are exposed not only to the same global economic pressures as businesses in developed economies, but also to a range of region-specific issues. Six macro trends are currently contributing to the volatility of African companies’ COGS:

Top African companies often have robust procurement processes, with strong sourcing strategy and category management, for example. In areas such as digital value enablement and invoice-to-pay processes, these companies perform on par with the upper quartile of international companies (Exhibit 3).

However, there are areas where African companies are underperforming, as shown by high variability in their scores in value enablement and value preservation. Companies could increase their resilience and efficiency if they actively adjust the relevant processes to meet global standards, and build capability to cope with current challenges.

There are four critical areas where African companies can address the wide variance in performance and improve their procurement processes and build resilience to ongoing price volatility and reduced supply: digital transformation, supplier management, procure to receipt, and capabilities and culture.

An operational model that incorporates digital procurement tools can create more transparency, reduce value leakage, and sustain procurement performance. Data and analytics are particularly valuable for performing detailed cost analyses incorporating internal and external inputs. The output highlights levers to support supplier negotiations, identifies goods with increased supply risks, finds suitable materials with high renewable content, and proactively quantifies commodity-price volatility. However, procurement has been slow to embark on the digital-transformation journeys seen in other core business functions.

There are several specific ways for procurement teams to unlock hidden value using advanced analytics:

Done right, the results of a digital transformation are compelling. One African company, for example, used advanced analytics to support a rules-based coverage strategy, hedging procurement between one and 12 months; it was able to reduce zinc costs by 7 percent despite price volatility (Exhibit 4).

Constant, ongoing monitoring of supplier performance and risk levels can lead to significant improvements. Companies that have embedded such supplier management in their product-development and procurement strategies show positive outcomes.

For example, a global automotive company saw cost reduction in its Africa operations via an explicit operational target: to deliver value from supplier cost improvement, with an average achievement of 5 to 7 percent, year on year. Close cooperation between the company and the supplier engineering team led to cost-reduction opportunities through redesign and innovation.

In another example, a consumer-product manufacturer with a strong African operation footprint currently sources half its innovation from external partners. Collaboration level and ability to provide innovative solutions are key criteria for selecting and onboarding external vendors. This close partnership enhances opportunities for cost reduction, innovation, and improved operational performance, yielding an important competitive advantage.

Procurement flows can be monitored to challenge and validate all spend requisitions, providing valuable insight into how to reduce spending. Digitizing all stages—supplier management, invoice receipt and preprocessing, processing, payments, and disputes and reporting—can improve productivity throughout. By optimizing the end-to-end payment process, such automation has the potential to drive a 70 to 80 percent increase in productivity across assets.

In today’s climate, companies are well advised to set up a dedicated capability-and-culture plan to support their procurement function. Understanding current and future spend, challenging existing specifications, making the right sourcing decisions, and managing the supplier relationship are all vital steps.

Strong capability building, driven by the procurement organization, has three stages: creating a fact base, developing a sourcing strategy, and execution:

For the foreseeable future, African supply chains are likely to remain disrupted, with volatile access to raw materials. As challenges mount on several fronts, companies can boost their resilience by reimagining procurement systems and approaches. While this may seem a difficult time to secure investment for such a transformation, players have more to gain than lose: with every dollar under pressure, the decision to do nothing may prove more costly.

Riccardo Drentin is a partner in McKinsey’s London office, Laurent Sarda is a senior expert in the Paris office, and Marco Ziegler is a senior partner in the Zurich office.

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Procurement in Africa: Exercising a muscle for challenging times | McKinsey

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