Peter Smith in Spend Matters recently wrote about his naivety as a young purchasing manager thinking that corruption always happened somewhere else. Well, as he writes, it doesn’t and as Peter points out in a few examples, it is not just in far flung places abroad that it occurs.
I once performed a piece of analysis on the purchase to pay processes of a very well know internet infrastructure business. It was at the height of the internet boom in the late ’90s and expansion was more on their minds than P2P was (see: What is Purchase to Pay?) , so it was no surprise to find that I could drive a bus through the loopholes in their business processes. I found what is actually a very common problem within the payables function. On reciept of an invoice, it was matched it with a P.O. then paid. If there was no P.O. they would create one retrospectively. Now this is a common malpractice. I’ve seen this many many times but it is normally something that is done with smaller invoices. But in this case – there was no limit. I saw a $100,000 invoice, with no P.O., being paid and reconciled against a retrospectively created order.
Like I said, back end processes weren’t high on the company agenda so I had a challenge. How do I report this malpractice and give its important the weight necessary for people to listen? So I told them the way it was.
“Your suppliers are stealing millions of dollars from you.”
Did I have direct evidence of fraudulent supply chain activity? No. I didn’t need it. I’ve worked on both sides of the fence and I know that if an account manager can submit a false invoice at the end of his reporting period that moves him into bonus, he’ll do it – regardless of whether there was an order. And if he finds a supplier that gives tacit approval of this practice by not querying it, he do it again, and again. If it can happen, it is happening. I guarantee it.
Perpetrators of this kind of scam are not master criminals or warped people with personality disorders. They are people who see this kind of fraud as a victimless crime. Part of business. And, I have to say that the organization that fails to implement proper purchase to pay processes to prevent it is inviting fraud and CFOs should be held responsible and their culpability recognized.
Pretending that fraud happens somewhere else is naive. Accepting that corruption in all of its forms, from self enrichment and fraud to turning a blind eye to proper process, is a normal part of business. Everyone has their price. Anyone who thinks that they or their colleagues are beyond corruption has never seen it in action. The first part of tackling a problem is acceptance.
P2P compliance and vendor risk management are not always taken as seriously at it should be. They are is seen as a nice to haves and a distraction to the important work of managing spend. But buyers need to wise up to the critical importance of compliance risk management. It’s fine to claim credit for a $1m contribution by negotiating a 10% cost reduction on a $10m spend but that’s only going to be a commercial reality if you have 100% compliance and it’s only a commercial reality if your supplier is still in business in 6 months time.
Delivering actual, tangible savings to the balance sheet as opposed to claiming theoretical benefits is what separates the men from the boys in purchasing.
Here’s an illustrative, real example of a bank that spent in excess of $250 million per annum on contingency labor. With that spending power, they were able to get margins down to levels that the supplier was barely able to operate with. The CPO was a hero of course, delivering massive saving s to the bank. But there were three areas that were neglected. Compliance; Purchase to Pay Processes (P2P) and risk management.
First, the compliance problem. There was $250 million spent on contingency labour and the deal struck with the single preferred supplier worked because of scale. But although the supplier was the only preferred supplier, compliance wasn’t enforced so that nearly half of the spend leaked to other suppliers on bigger margins and for the single preferred supplier, they weren’t even breaking even. No cosy savings delivered and huge risks introduced through non compliance.
Secondly, Purchase to Pay. P2P is all about recognizing that professional purchasing doesn’t stop at the signature on a contract. It’s about making sure that everything is in place to ensure that the commercial befits are actually delivered and that means that the contract runs properly, including that the supplier gets paid. Managing $250 million of invoices is non trivial and when you have a contract that is balanced on a profitability knife edge, there is no room for late payment.
Thirdly, risk management. The supplier was put through the risk management gauntlet, checking profitability and financial strength and reputation but formal risk management was not completed and no contingency or risk management plan was put in place in the event that the supplier went bust.
So what happened, The contract lasted 6 months. The supplier was losing money and could not tolerate the risk of continuing. For the bank, they were faced with the task of switching $250K worth of contingent labor in a timescale of 3 months. Want that job anyone?
The lessons are obvious. Take P2P compliance seriously and recognize vendor risk management as a key spend management tool. Ensure that the correct purchase to pay processes are in place so that contractual commitments can be fulfilled.