Indirect spend

Types of procurement spending

Procurement professionals are responsible for the strategic sourcing of good and services that help run the business more effectively. Here are the key differences between direct spend and indirect spend.

Direct spend

Also known as direct procurement or direct cost, this type of company spending is used to source goods and raw materials that are used in the product or service offered to the end consumer.

These commodities are typically used in manufacturing or assembly of the final product, before being sold to customers.

Direct-to-consumer brands are examples of businesses with high volumes of direct spend. Supply chain logistics has major influence over direct spend management, as well as identifying and building relationships with key suppliers on a long-term basis.

Indirect spend

Indirect procurement focuses on resources that keep internal business operations running smoothly. These expenses are spent on office supplies, direct materials, services, and anything else needed to support daily operations, team processes, and workflows.

Simply put, a company’s workforce cannot function without indirect spend.

Both types of spend are essential to any successful business venture, yet the way they’re managed and executed can vary greatly.

Allocating company spend

Effective procurement processes—the sourcing of goods and services—enable companies to categorize and optimize their indirect spend and direct spend. These two types of expenditure are closely linked to one other, while simultaneously serving unique purposes to the business.

How teams organize and allocate budgets for one-off and recurring spending directly affect the company’s bottom line. Most businesses aim to balance expenditure with cost savings, while driving sustainable profitability.

Company expenditure is a natural part of running any business. This includes all kinds of spend, from SaaS tools and marketing campaigns, to employee wages and office rent.

How procurement teams manage indirect spend

A company’s industry, size, finances, and stakeholders all determine how its procurement function is managed and executed.

Small companies may not have specific roles dedicated to procurement, whereas large enterprises with heavy annual spending often have separate direct procurement teams and indirect procurement teams.

A key difference in how these two are managed lies in supplier relationship management. In other words, the type of spend can determine how and to what extent teams interact with their key suppliers.

In direct procurement, the focus is on:

• Building and nurturing the right long-term partnerships

• Creating a stable, consistent supply chain and production process

• Collaborating with the highest quality suppliers at the right rates

In indirect procurement, the priorities are:

• Effective spend management and spend analysis

• Identifying savings opportunities and cost reductions without sacrificing quality

• Consolidating and optimizing indirect spend categories

Strong supply chain management and clear expense policies not only ensure better end product quality, they also protect the brand’s reputation and prevent unauthorized maverick spend.

Strategic sourcing supports the entire business

Well-designed procurement strategies also help other departments in the company operate more smoothly. These are a few functions that benefit from targeted strategies in direct versus indirect spending.

1. Better inventory management

Teams are aware of the quantity and type of materials and goods they have in stock, and which need to be replenished or reordered.

Good inventory management takes a proactive approach with direct spend: ensuring the company always has enough stock to support a timely production process and avoid delays.

Indirect spend is more reactive in execution: supplies and goods are only ordered as necessary. This reduces excess materials and brings cost savings throughout the year.

2. Effective cost management

Direct procurement professionals frequently use strategies like should-cost analysis to negotiate vendor pricing. This models the supplier’s costs, taking into account the total expenses the supplier needs to spend to produce or deliver the final goods.

Conversely, many indirect procurement teams prefer starting each new budgeting period from scratch, also known as zero-based budgeting. Every dollar counts, and every expense needs to be assessed and justified for that fiscal period before being approved.

3. Smarter e-procurement solutions

Indirect spend experts are used to working with and receiving requests from non-procurement teams. This makes it highly beneficial to implement an intuitive e-procurement solution, accessible and easy-to-use for all employees who need it.

Direct spend teams can also benefit from process automation; optimizing everyday supply chain logistics and communications, while reducing risks of human error.

Even better, certain automation tools can help streamline both direct and indirect procurement processes from the same platform.