BENCHMARKS: Take a P2P Perspective to Help Achieve World-Class AP Performance
This article is reprinted/republished by the express written permission of IOMA (The Institute of Management & Administration). ©2008; for more information about IOMA publications visit www.ioma.com
 |
How do AP departments attain world-class status in terms of costs and efficiency?
One way is to take a different perspective. Don’t simply look at AP—look at the entire process, from initial purchase through to payment. This means breaking down the silos between AP and purchasing in order to work together to save the organization a bundle—and make your job easier.
Untapped Value
"We have discovered there is a lot of value, particularly on the AP side, in looking at what is variously called an end-to-end or purchase-to-pay (P2P) process," said Kurt Albertson, director of advisory service for the Hackett Group. At the recent RECAP/IOMA AP conference in Ft. Lauderdale, he shared some of the data his organization has gathered during 15 years of benchmarking services. The Hackett Group works primarily with Fortune 500 companies and employs about 500 full-time employees globally.
"Many of our clients are working from a P2P perspective," said Anderson. "There’s no point in trying to reduce purchasing cost per transaction if it’s only impacting accounts payable. Until you align the entire purchase-to-pay process, you can not maximize efficiency or effectiveness in either segment. But when end-to-end process alignment is accomplished, further aligning with finance and procurement functions can improve an organization even more.
The Hackett Group benchmarks organizations at a functional level—including procurement, finance, human resources, and computer/technology services—and at a process level—including accounts payable, purchasing, and payroll.
What Is World-Class?
To decide if an organization is world class, Hackett’s benchmarking tracks both efficiency and effectiveness. "Effectiveness could be early-payment discounts in purchase-to-pay," he said, "Efficiency usually includes cycle times, cost per invoice, or cost per purchase order."
Hackett creates separate overall efficiency and effectiveness scores—each based on 20 to 30 metrics—to come up with a weighted average which is plotted on their value grid. Organizations with top scores are considered world-class organizations. "We compare that group of organizations to everyone else—called the peer group—and have come up with some interesting conclusions," he said.
The benchmarking taxonomy for P2P is divided into 13 sub-processes—four on the purchasing side, nine on AP (see Exhibit 1).
Metrics Achieved
In terms of invoice processing costs, Hackett has found that world-class organizations spend less than half of what the peer group spends: $1.30 compared to $4.47 per invoice (see Exhibit 2). And the reduction in costs is similar for the P2P metric. (Note: The cost-per-transaction metric includes labor and outsourcing costs). For an organization doing about 400,000 invoices per year, P2P process savings can translate to $2 million to $3 million annually.
This cost savings mostly comes from an increase in productivity. Hackett benchmarks indicate world-class organizations process 2.5 times to 3 times more transactions per full-time employee (FTE).
(See Exhibit 3)
"It’s not that the employees are processing these transactions so much faster, it’s that the entire process is more efficient," he explains. Organizations using evaluated receipt settlement (ERS) transactions get benchmark "credit" for an invoice they don’t have to process. Auto-matching—of a P.O. and invoice for example—also gets credit even though no employee handled it, and this streamlined processing accounts for much of the productivity increase.
"Productivity gains are based on optimizing P2P processes such as evaluated receipt, assumed receipt, three-way match, recurring payments, and p-card transactions," said Albertson. "If you’re using all five of these optimal channels in the right mix, you’re maximizing your productivity."
Another productivity boost is technology. Using electronic invoicing or other technologies on those optimized processes increases productivity and drives down FTE counts. As a result, world-class organizations pay their employees more because they’ve increased productivity and are refocusing their employees on activities that create higher return on investment (ROI).
"We like to say efficiency feeds effectiveness," he said. "The more efficient you become, the more effective you become because you’re reallocating those resources to focus on the effectiveness side."
Faster cycle times and higher first-pass match—a P.O. matching an invoice—allow more on-time payments. Hackett Group benchmarks define a cycle time to be "the number of days from invoice receipt to approval." World-class organizations process two and a half times faster than the peer group. For example, the overall first-pass match rate is 11 percent higher for the world-class organizations (see Exhibit 4). As the first-pass match rate goes up, naturally efforts spent on resolving discrepancies goes down.
"A lot of organizations don’t look at the link between discrepancies and cost; they don’t think about the impact of carelessly putting in an inaccurate price," he explains. "Until your match rate is above 80 percent, it will be difficult to create an efficient, effective organization because you’ll be spending so much time dealing with those discrepancies," said Albertson.
Reaping Discount Benefits
Approximately a third of the world-class organizations aggressively pursue all available discounts, 25 percent pursue and aggressively expand the opportunities, and about 30 percent don’t have any discount strategy. One important factor is to be sure that your standard net term matches your industry.
"From our research, organizations that actively pursue early payment discounts reap about $1.5 million to $2 million per billion dollars more than organizations that don’t," he said. There is a three-prong approach to optimize your discounts:
- Improve efficiency in your process.
This allows you to take available discounts and maximize the number of discounts that you have already negotiated. "That includes pro-rated discounts," he said. "If you have 2/10 net 30 and you pay on day 12, you should take most of that discount. And technology now allows you to do that more easily than the manual process."
- Expand the reach of your discount programs.
This includes actively standardizing your terms in conjunction with procurement and finance. Imbed those as standard terms and conditions into your vendor master file systems, and tie it to your supplier enablement program.
- Generate discount opportunities for net term suppliers.
Extend early payment discounts on approved net term invoices. Even if discounts haven’t been pre-negotiated, let them know that you can approve their invoice in four days. "If they’re a small organization and they’re strapped for cash at the end of the month, they’ll probably give you a 1.5 percent to 2 percent discount if they can get that payment earlier," he said.
Hackett has tracked a wide range of strategies for early payment discounts and optimizing net payment terms. Seventeen percent of organizations have traditionally taken discounts whether they’re earned or not (see Exhibit 5).
"At Hackett, our transformations teams are working with organizations right now to go through their accounts receivable information and request payback from customers who took a discount when they didn’t earn it," Albertson said.
The return on investment associated with taking an early payment discount is 20 percent to 36 percent, which has significantly more impact on working capital than pushing out a term, although sometime working capital may have a higher priority.
Moving Beyond P2P
From a strategic sourcing point of view, the P2P process has been the missing link to driving value. CFOs are concerned about financial controls, compliance, and working capital management; and CPOs (chief procurement officers) are concerned about identifying and using preferred vendors and optimizing the negotiated savings.
Procurement creates sourcing initiatives, but often is not able to reduce overall organizational spending because of "maverick spending"—the P2P process is not encouraging use of preferred supplier contracts.
If procurement negotiates standard terms and conditions such as electronic invoicing and electronic payments when they’re negotiating with suppliers, thus supporting the P2P process, their benefit is improved compliance to preferred supplier contracts and improved oversight of purchases, which allows them to increase value from a sourcing perspective.
They can also monitor compliance and get early payment discounts. It’s difficult for AP to take early payment discounts if procurement hasn’t negotiated them.
Reducing Risk
Risk reduction is another benefit of reducing the supply base and electronically capturing supplier performance. From a financial perspective, if people are aligned with the P2P process and the financial controls are in place, AP can focus on compliance.
Working-capital management is improved as P2P processes become more flexible. The decision to take early-payment discounts or to push out terms allows more leverage with suppliers or the ability to respond by changing terms if working capital is temporarily an issue. Senior management can then see that AP can support their higher-level objectives.
# # #
Next Steps
