Purchasing groups have many advantages including boosting 'purchasing power'

Centralization of purchasing in business networks (Part 1)

Purchasing groups have many advantages including boosting 'purchasing power'
Purchasing groups have many advantages including boosting ‘purchasing power’

What do we mean by the centralization of the purchasing or purchasing group?

A PG (Purchasing Group) can be defined as an entity that groups two or more independent purchasing organisations that join together formally or informally or through a third independent organisation. Doing this combines their individual needs with the volume in the purchasing of materials, services and goods on capital account. Thereby exploiting the greater contractual strength in order to obtain the added value from suppliers in terms of best prices, best service and best technologies, which could not have been obtained individually by each organisation.

Advantages of the purchasing group

1. Scale economies or “purchasing power”

The first, most obvious advantage of a purchasing group is the scale economy. The volume of the aggregated purchase demands, for example of a network of businesses of reasonable size, gives the individual businesses that scale economy and consequent purchasing power that they could not hope to obtain alone.

2. Lower prices/Greater negotiating power

By increasing the forecast purchase volume, the PG is generally able to negotiate lower prices for the goods or services purchased with respect to what could be obtained, alone, by the individual companies. These savings are usually considerable, ranging from 10% to 35% according to the competence level of the structure dealing with making the centralised purchasing.

3. Reduction of transaction costs

By adhering to a PG, the organisations can effectively simplify the procurement processes. This not only reduces the unitary cost but also the total transaction costs, due to the reduced number of contracts (to be negotiated, prepared and managed).

4. Process economies

By sharing information acquired on suppliers, new technologies and market knowledge, as well as past purchasing experiences, not only is all redundancy successfully avoided, but transaction costs are also reduced and far greater process economies achieved than would have been possible by each individual organisation by itself.

5. Reduced workload

Given that the PG manages all stages for the issue and related management of contracts on behalf of the network, the individual businesses benefit from a significant reduction in their workload and are free to focus on their core business, which is therefore more strategic for them.

6. Improvement in best practices over time

The organisation that manages the PG enables the network businesses to improve their results by sharing the best practices in some business processes, exploiting competences in specific functional areas. In actual fact, most of the modern organisations that handle the PGs use sector experts for each individual product market managed. These sector experts constantly search out ever more effective methods aimed at improving the processes, quality and efficiency of the supplier in order to guarantee the optimisation of processes at increasingly competitive prices (improvement in the TCO – Total Cost of Ownership).

7. Technical savings and improved TCO

The organisation that manages the PGs in the future will offer all the advantages connected with its purchasing skills in the individual categories that will go beyond the initial advantage connected with scale economy alone. In actual fact, once the initial phase is complete, in which maximum use will be made of scale economy to lower prices, the organisation managing the PG will use its experience to help the networked businesses allow buying technology to progress, reducing waste and optimising the use of goods and services purchased.

8. Positive impact on the profits for each individual networked company

We know that a reduction in purchasing costs, for example of 5%, produces an increase in profits of more than 2% and that to obtain the same result, sales would need to increase by more than 20%…! Therefore, the saving generated by a centralization of purchasing in a network of businesses, increases profits in each individual network company.

Business networks contract in Italy: a great solution for SMEs

The business network contract is a private agreement between two or more enterprises to jointly perform one or more economic activities to increase their potentials for innovation and competitiveness. The network contract therefore enables companies (usually SMEs) to combine two key elements of business growth, which seldom coexist: enterprises can collaborate on large scale projects without losing their legal independence and their autonomy in the business activities not included in the contract.

Critical Issues affecting Business networks in Italy

The PG applied to the business networks, although having these undeniable advantages, also has critical issues that are often underestimated and that need to be managed in the right way:

  • Local supplier vs national supplier vs international supplier
    • Use of centralised purchasing by a group of networked companies, considering the increased quantities and related purchasing power, inevitably results in the involvement of national and international suppliers, as well as local ones. In this comparison/assessment of suppliers, it is important to pay attention to ensure that the right consideration is paid not only to the final price but also to the quality of the product and the services relating to the supply (lead terms, after-sales activities, etc.). It is also important to consider the characteristic aspects of long-standing (valid) suppliers linked to knowledge of the client, which results in greater flexibility in the customer-supplier relationship as well as the avoidance of the inevitable discontinuity typical when changing supplier. Naturally, alongside the attention paid to all the aspects highlighted, there must also be a new “Vision” towards the market, connected with the fact that now one is no longer alone, but rather part of a group of businesses, hence the choices to be made must be the best for the whole network of businesses.
  • Resistance to change (old supplier (history, knowledge, customs))
    • As for any process that results in a change in procedures/consolidated habits, etc., the centralization of purchasing will also be initially resisted. It is therefore important to pay close attention to dealing with this change gradually, so as to help the people involved to make it the best possible experience.