Smart Spending

DQI Bureau
New Update

The Indian retail sector is highly fragmented as compared to other developed

and developing economies. Therefore, there is a great potential for the

organized retail industry to prosper in India, as the market for final

consumption is very large.


The retail industry operates at three parallel levelsthe formal sector, the

informal sector, and the fair price shops under the governments public

distribution system. With the urban consumer being exposed to international

lifestyles, education and more demanding than ever, the modern and organized

retail formats have been registering a stupendous growth over the past five

years (2001-2006).

While modern formats tend to have higher levels of sales per unit of space,

stock turnover and gross margins face lower levels of net margin as compared to

traditional formats. Food and beverage, clothing, footwear, consumer durables,

household goods, and leisure are some of prominent sectors where modern format

of retailing has strongly made its presence felt. Telecom and healthcare are two

other flourishing industries that are making inroads into the Indian market.

Given the complex nature of the retail business owing to its

capital-intensive operations, global supplier base and competitive pressures,

effective management of sourcing, procurement and supplier collaboration becomes

important to the business.


Since the costs of goods sourced (COGS) is 70-80% of the revenue, most retail

companies are confronted with cost management challenges such as developing a

blueprint for sourcing and procurement, prioritizing actions, achieving

sustainable sourcing savings, driving procurement compliance, and finally,

managing the global supplier base.

Getting Organized

The large scale spend warrants that organized Indian retailers become more

organized not just in terms of infrastructure, demand management/planning

inventory or automation, but, more importantly, in terms of their operations and

purchasing functions. It is critical for Indian retail companies to adopt

sourcing and procurement practices at an early stage of their rollout to

establish themselves and boost bottomline growth by increasing operational


Adopting best practices in the nascent stage of their business is not only

easy from a change management perspective, but also would provide them the

desired framework to address their key challenges first time right. In fact,

Indian retail companies can take a cue from the effective best practices and

technology tools (in sourcing and procurement) adopted by global retail giants

like Walmart, Target, Staples, CVS, Office Depot among others.


Critical Concerns

Three key challenges faced by large organized Indian retail companies are

that of business profitability, capitalizing private labels and driving holistic

process efficiency.

Business Profitability: Most large organized retail formats would typically

be operating under wafer thin margins, in few cases lower than 4%. Often,

despite the projected scale, retail businesses face severe challenges in meeting

the profitability targets due to the capital-intensive nature of the business

and price sensitive market.

A well laid out sourcing and procurement strategy can help retail companies

to improve profitability through effective sourcing (especially low cost country

sourcing), bringing in efficiency into the supply management process through

online collaboration with suppliers, bringing in better visibility to the

expenditure areas, faster delivery, and increased operational efficiency.


If we look at the key spends for any large organized retail outfit, they can

be broken down into three key broad areas: merchandise spend (70-80% of the

overall spend), non-merchandise spend (20-30% of the overall spend) and Capex

spend (depending on the business plan).

Effective sourcing and collaboration can also allow sourcing professionals to

expand their sourcing categories across departments, build closer relationships

with key suppliers and negotiate more advantageous contracts. This reflects both

on purchasing merchandise and non-merchandise items. This can in turn lead to

huge savings in sourcing of Capexlike furniture/fittings, services, carpeting,

and temporary labor.

Based on our estimates retail companies can save up to 3-8% on their

merchandise spend, 10-20% on furniture, fittings, mechanical systems, electrical

systems; 10-15% on general contracting and labor related services; 8-10% on

logistics cost, 7-12% on packaging items and 15-25% on Capex items using

effective sourcing and procurement policies.


Capitalizing Private Labels: Private labels are emerging as a strong market

for developing economies. To provide a better perspective, it accounts for 40%

of Wal-Mart sales ($126 bn), 50% for Tesco ($36 bn) and are eating into a larger

chunk of the organized retail sales in developed markets. While Indian brands

such as Stop from the department chain Shoppers Stop and Fresh and Pure

from Food Bazaar have become fairly strong labels, companies are not yet at

their best when it comes to driving higher margins from private labels.

Effective sourcing plays a critical role since it involves identifying the right

suppliers across the globe, minimize cost of goods sourced, and get desired

quality and market private label at higher margins.

For example, a home furnishing retailer has successfully sourced from low

cost countries like Bangladesh, Sri Lanka, China among others and has

successfully used private label as a key profit driver.

Driving Holistic Process Efficiency: Most retail companies have relied

heavily on the demand management, demand planning and ERP systems to bring in

operation efficiencies to their processes. However, these solutions often do not

cover critical spend management needs, ie, sourcing, procurement, contracts

management and contracts compliance both for merchandize and

goods-not-for-resale spends.


Based on our experience, Retail companies typically are unable to capture

2-5% of the negotiated savings due to lack of ordering compliance at the

regional/store level, as they tend to miss out on volume discounts, agreed upon

pricing discounts, and loyalty bonuses.

Automation of the end-to-end sourcing and procurement process can not only

drive significant savings through item bundling (demand aggregation at the time

of order), but also through improved compliance (capturing volume and tiered

discounts). Additionally, the automation results in reduced G&A spend at the

store level by providing easier to use ordering tools and improved turnaround

and reconciliation time.


Collaboration with the supply base plays a very important role in helping

retail companies to achieve holistic process efficiency as they form the

critical part of the supply chain. Retail companies have to be nimble footed and

should try and create an infrastructure which would dramatically lower their

internal costs as well as bring down the cost of doing business for its


Based on our experience, a structured framework that could bring in buyers

and suppliers to a common platform for collaboration and transaction management

would not only bring down the operating costs for the retail companies (through

effective PO management, invoice/discount management) by 0.5-2%, but also

dramatically bring down the sales/marketing costs for the suppliers. This would

drive efficiencies right across the supply chain and would have a long-lasting

impact on the profitability for the retail companies.

In short, an effective sourcing and procurement framework (spend management)

enables businesses to automate key processes in a single, integrated manner

providing transparency, visibility and operational compliance required to fully

source, manage and leverage spend. Keeping in mind the challenges facing the

retail segment, we can see that spend management could deliver the much needed

additional percentage points to the bottomline.

T Sivakumar

the author is group director of Ariba India