Procurement transformation and utilization is a significant EBITDA improvement initiative for Private Equity (PE) firms. During the financial health and assessment of an acquisition, PE firms increasingly assess how capable a procurement organization’s ability is to manage and approve their spend under management. Often times, operational inefficiencies are identified in the acquisition phase or in the initial management oversight phase of their Portfolio Companies (PCs). A list of operational improvement initiatives are identified where that can quickly be deployed to drive quick cost savings to impact the bottom line and overall P&L health. Procurement Sourcing/Savings initiatives are a major opportunity in the execution of cost take which can ultimately lead to EDBITA improve in a short amount of time.
While PE firms are often structured from an operational expertise perspective to help drive top line revenue, they are often not equipped to directly impact the spend under management of their individual PCs or their collective portfolio spend. This results in not being able to leverage like categories of spend across their portfolio in a similar manner how mature Procurement/Sourcing organization would across a large company’s multiple business units. They have to rely then on their individual PCs to drive these impacting sourcing and savings results on their own.
While most every PE firm has a strategy playbook to deploy with their PCs to effect the top line, there is a segmentation in PE firms that actually can deploy or impact bottom line Procurement cost reduction initiatives. The latter ranges from a “hands-off” approach in giving the directive to the individual PC but having no value add in the execution to achieve the target to a “hands-on” approach where a PE firm has built up internal operational capabilities in sourcing to drive leveraged category strategies such as travel, telephony, office supplies, etc.. which the collective PCs can participate in. PE firms will fall within these operating support models for procurement between these passive or active models. Having a resource to either directly drive a category sourcing engagement such as one of the above mentioned categories or a forum where PCs can come together to drive a larger leveraged category spend in the market is extremely powerful when a PC doesn’t have the procurement acumen or maturity to drive significant cost savings or have the market leverage to achieve those types of savings on their own. There is a benefit in investing in technology platforms that can enable this type of go to market sourcing executing for PE firms and their PCs to enable these savings initiatives to deliver impact in 90 days or less. PE firms don’t necessarily need to “fish” for savings for their PCs but having the ability to tell the PCs “how and where” to fish through spend analytics and insight technology can be a game changer for the PCs. It has been widely accepted in the industry that every dollar of procurement related hard cost reduction has an equal impact on EBITDA which is of greater impact then the top line revenue dollar addition.
A study published Spend Matters in 2018 spoke of an example that if a company’s spend on non-payroll expenses is greater than its EBITDA, then a 1% decrease in spend will increase EBITDA by more than 1%. In most cases, a company’s procurement spend is many times its EBITDA, so a 10% reduction in spend may make a 20% to 40% improvement in EBITDA. To showcase this, most companies need to see between $5 to $20 in net new sales to realize a $1 in EBITDA impact. However, if a PE firm can enable a PC firm to realize 7% on their $100M of spend, this could have a potential EBITDA impact of $49-$70M dollars assuming valuations average of PC are in the 7X-10x EBITDA. There are few performance-improvement levers that offer such a dramatic, immediate impact.
As PE firms move from passive and active operators in their PCs’ procurement operations, they face the same challenges that any individual company might have. Can they find accuracy in the spend data of multiple PC’s that can be analyzed in a cohesive way to allow the development and execution of sourcing strategies that can significantly impact the bottom line of the individual PCs and thus drive EBITDA improvements as exampled above? This spend roll up and diagnostic is compounded by potentially having multiple PCs that lack spend visibility or accuracy. With this poor data, it becomes more problematic for PE firms to lead the type of category sourcing engagements that are value add to all the PCs that participate or to be able to provide specific insights to specific PCs on where they should prioritize their sourcing engagement for the quickest and most impactful result to EBITDA improvement.
This type of spend visibility, analytics and insight is a critical element in enabling individual PCs all the way to a PE led PC consortium engagement to achieve high impact sourcing initiatives and results.
To move from the hands off approach to the pro-active or PE led procurement model, it becomes even more critical to have great categorization of spend data with insights that can prioritize execution initiatives. As we are seeing with individual companies, the importance of spend visibility, analytics and corresponding insights are and underpinning for PE firms as they do more in developing optimal procurement strategies for their PCs that maximize savings that are driven to the bottom line P&L which ultimately results in EBITDA improvement.
This changing engagement model for PE firms in the adoption, development and execution of PC specific or portfolio wide procurement engagements are leading to quicker cost savings, EBITDA improvement per PC and an overall fund advantage compared to other PE firms. While the adoption and implementation of procurement specific initiatives take a more integral part of the overall operational strategy models, the necessity for a world-class spend analytics and insight platform remains a foundational tenet for PE firms and/or their PCs to be able to execute and accelerate these defined procurement strategy opportunities.