Procurement in Business: Meaning & Best Practices

Procurement is the process of sourcing and purchasing goods and services for use in a business. It includes the purchasing process – from issuing a purchasing order request through to invoice payment – along with the surrounding planning, strategy, and procedures that enable a company to meet the demands of consumers.

Procurement meaning

In business, the term ‘procurement’ refers to the sourcing and acquisition of goods or services from the perspective of the buyer. (From the perspective of the vendor, the same activity is a sale.) Procurement can also refer to a contractual obligation made to ensure that something gets done.

Direct procurement vs indirect procurement

Goods and services procurement can be split into two categories, direct and indirect procurement.

Here’s the difference:

• Direct procurement: The process of buying raw materials, components and parts used in the production of finished goods. Or, for a merchandising company such as a wholesaler or retailer, direct procurement is purchasing finished goods for on-sale.

• Indirect procurement: The process of buying materials indirectly used for the production or sale of goods and services – for example, the electricity used by a manufacturer or uniforms purchased by a grocery chain.

Direct and indirect procurement are often handled by different departments in a firm. A procurement manager is typically responsible for the direct procurement budget.

The main difference between purchasing and procurement is that procurement is strategic, while purchasing is practical. Procurement encompasses all of the functions of purchasing, but also wraps around the broader policy and strategy.

Procurement involves pre-purchasing activities such as research, negotiation and planning – and can include functions such as supplier quality management, risk management, and reporting. Purchasing meanwhile focuses on the purchasing process, including raising purchase orders, receipting goods and services and authorising payment.

Here’s a quick break down of the various procurement processes and workflows typically implemented in modern businesses.

Common procurement processes in business:

• Demand forecasting: Estimating the number of products or services your customers will purchase in a future period with the aid of historical sales data, market research, and seasonal trends.

• Inventory planning: Determining the optimal volume of inventory for each of your stocked items based on meeting predicted consumer demand.

• Vendor procurement: Identifying vendors, submitting an RFQ (request for quote), and comparing pricing and terms to find the best deal.

• Purchase requisitioning: Placing a formal (internal) request to place an order that must be approved before making a purchase.

• Purchasing: Creating and delivering a purchase order to your selected vendor.

• Contract management: Negotiating supplier relationship terms and conditions.

• Order management: Managing customer orders from order placement through to fulfilment, shipping, and tracking.

• Invoice processing and approval: Confirming and paying invoices issued for any goods or services purchased.

• Record keeping: Keeping a reliable record of all documents and transactions for future audits and other accounting purposes.

Regardless of the size of your business there are benefits to having a sound procurement process – and risks to doing it wrong. Here are five of the biggest advantages of establishing an effective procurement process.

1. Cost control

Raw materials, components, and stock – along with labour costs – are likely to be some of the largest expenses in your company.

An effective procurement strategy will ensure you seek out the lowest price for equivalent goods and services – and review those purchasing decisions regularly to ensure your direct materials costs remain low. It can also help you to reduce lead times through better supplier communcations.

2. Inventory management optimisation

Bulk purchases typically reduce the cost of acquiring goods. However, efficient procurement processes balance the cost of goods purchased with optimised inventory management.

When goods and services procurement is aligned with your inventory control, it can help you to avoid costly inefficiencies associated with holding too much stock, unwelcome stockouts, and dead inventory.

3. Improved quality control

Another consideration that must be balanced against the unit price paid is the quality of goods purchased. An efficient procurement process can enforce quality control measures during the purchase process.

Procurement within the construction industry, for example, can create discipline around proper certification of steel strength.

4. Supplier contract terms and conditions

Setting the right terms and conditions for your needs is an unglamourous but important part of any strategic procurement process.

More than just explaining your payment terms, your supplier contracts should set out specifications for the goods to be supplied, warranty periods for any defective goods received, confidentiality and intellectual property details, and termination clauses.

5. Better business planning and strategy

A well-functioning procurement system works hand-in-hand with forward planning. For example, a new product launch can only proceed if the right components are secured ahead of time. And a price point for the new product can only be set by sales and marketing once the cost of materials is known.

Similarly, a cost-effective product business must avoid production halts and stock outs, both of which require the support of smooth and responsive procurement.

The procurement process begins with determining a company’s requirements – a step known as Needs Recognition. This involves identifying which goods and services must be acquired to meet the company’s business objectives.

Once a need has been determined, it is actioned through the creation of a detailed document called a purchase requisition. This document typically contains specifications such as the date goods and services are needed by and key product details.

A purchase requisition is either approved or denied by the procurement team. If approved, the next step in the process is to source and compare suppliers to find the best quote. In some cases a vendor will be found prior to a requisition being placed, and may be included on the document.

Finally, a purchase order will be issued to the chosen vendor. This acts as a legal document confirming the intended purchase of the required goods or services.

The supplier will confirm the purchase order before sending the buying company an invoice and fulfilling the request.

The procure to pay cycle

A term often used in the context of procurement is ‘procure to pay’ – or the procure to pay (P2P) cycle. This refers to the full lifecycle of procurement broken down into steps, and recreated as functions within a technology package.

The exact details of the procure to pay cycle vary according to which software vendor you speak to.

One of the most complete lists is provided by software platform G2, which names the P2P stages as:

• Identification of requirement

• Authorisation of purchase request

• Approval of purchase request

• Procurement

• Identification of suppliers

• Inquiries/receipt of the quotation

• Negotiation

• Selection of the vendor

• Purchase order acknowledgement

• Advance shipment notice

• Goods receipt

• Invoice recording

• Three-way match

• Payment to supplier

Because procurement is a multifaceted operation that impacts all areas of a company, the procurement strategy you use – and how it’s executed – directly affects your business’ bottom line.

Here are five practical procurement best practices to help you get the most out of your efforts.

1. Automate the procurement cycle

Utilise procurement automation software to streamline manual tasks such as data entry, purchase order creation, and invoice payment.

Automating your procurement cycle can boost productivity and improve overall efficiency across the business. It also enables you to reduce your procurement and purchasing costs, improving profitability.

2. Develop healthy supplier relationships

Supplier management is a critical aspect of any effective procurement strategy.

Focus on improving your supplier relationships by:

• Integrating software systems and sharing important data

• Establishing clear communication methods

• Collaborating to develop a procurement cycle that’s beneficial to both parties

• Improving visibility across the supply chain

Procurement teams can also work together to share opportunities and negotiate better deals from mutual suppliers.

3. Establish better supply chain visibility

Map your supply chain and prioritise clear supplier communication to establish better supply chain visibility so that you can quickly respond to any demand changes or supply disruptions. Integrating data using cloud-based supply chain software will give your suppliers visibility across your replenishment needs, further streamlining the procurement process.

4. Optimise your inventory management

Inventory optimisation is the process of boosting inventory management efficiency by implementing cost-effective practices for acquiring the ideal quantities of inventory for each of your products.

Accurate demand forecasting is at the heart of successful inventory optimisation. This can be achieved by using the right tools and data to correctly predict upcoming inventory requirements. Other ways to optimise your inventory management include storage space optimisation, stock control automation, and safety stock.

5. Regularly audit and improve your procurement strategy

As your business grows, so too should your procurement processes.

Break your current direct and indirect procurement methods on an ongoing basis. Look for any bottlenecks or inefficient practices that are preventing you from achieving a cost-effective procurement process and try to resolve them as quickly as you can.

Procurement management is the task of overseeing all tasks involved in procuring goods and services for a company, from the competitive bidding process to contract management and invoice payments.

While larger organisations will have a procurement department with several staff, many small firms will run their procurement out of accounts payable, with responsibility for purchasing bundled into one or two other positions.

However as a business matures the need for a dedicated procurement manager typically grows. Here are some of the key responsibilities, skills, and attributes required of modern procurement managers.

Procurement managers – the scope of the role

A procurement manager is responsible for all purchasing and procurement activities, and oversees a firm’s ‘spend under management’ – a term for the funds that a business uses to acquire goods and services.

A procurement manager can be tasked with:

• Ensuring security of supply for the company

• Optimising the use of funds under management

• Predicting, managing, and mitigating risk in the supply chain

• Building relationships with potential suppliers and partners

• Maintaining a company’s approved supplier list

• Managing any tender processes within the company, and preparing documents such as Requests For Proposals (RFPs) and Requests For Quotation (RFQ)

• Evaluating multiple offers from suppliers and selecting a winner

• Negotiating and preparing contract documentation

• Supplier quality management – evaluating the performance of existing suppliers and enforcing compliance

• Setting policies and guidelines for procurement within the company

• Hiring and training procurement staff

• Ensuring any technology platforms used for procurement are sufficient for the company’s needs

• Monitoring procurement KPIs and lifting performance

• Reporting to key stakeholders

Traits of a good procurement manager

Naturally these responsibilities will vary with the size and complexity of the firm. However given the potential complexity of the role, procurement managers need a versatile set of skills.

Good procurement managers:

• Are fiscally responsible and detail oriented

• Possess solid negotiation skills

• Communicate well with diverse stakeholders, both internal and external

• Have a service mindset towards their own company

• Can think strategically

For businesses looking to streamline their procurement with a software solution, the distinction between procurement and purchasing is important – as the two terms are used for two different types of technology.

Procurement software

Procurement software is generally used by large and complex organisations. It aims to streamline and improve the full procure to pay cycle. Well-known procurement software solutions include cloud-based apps like Procurify, Kissflow, and NetSuite.

Purchasing software

Purchasing software, on the other hand, handles only a subset of the P2P cycle. Generally the term purchasing software is used for any solution that lets a business raise a purchase order, receipt goods and process payments.

Unleashed, for example, falls into this category: as part of its core inventory management functions it allows for streamlined purchase order creation, receipting of goods (and reconciliation with live stock-on-hand info), as well as financial reconciliation via its integration with payments and accounting platforms like Xero and QuickBooks.

Another term used for these business functions is purchase management.

There are considerable benefits to automating your procurement – whether you intend to digitise the full procure to pay cycle, or simply smooth out your purchase order management. Compliance, oversight and efficiency can all be dramatically improved, lifting your company’s overall supply chain management in the process.

However the choice between a full procurement system versus a simpler purchasing solution will depend on the particulars of your own organisation.

For larger firms the extra cost of a full procurement solution is easily justified by the ability for diverse departments to request materials – and have their needs met quickly by a global procurement department. Procurement software makes a centralised strategy around materials management possible, and helps ensure capital is used efficiently in what is for many firms the main area of expenditure.

For many growing small or medium enterprises however, the flexibility cloud-based purchasing software offers is preferred – as is its affordability.