Procurement update

01 / INTRODUCTION

Three years into the construction downturn, and with little prospect of a strong recovery in the wider economy, forward-thinking construction clients are adapting to the “new normal”.

Given current market conditions, all organisations need to review operations to improve performance, and for clients with a construction programme, this review should focus on their own costs and overheads and the security of the supply chain as well as the usual cost, time and quality standards. Solutions based on conventional competitive tendering are unlikely to deliver the required outcomes and a more joined-up approach to procurement is needed.

Many clients will continue to be under pressure to take costs out of their construction programmes. Retail banks and supermarkets have operated in competitive markets for years and progressive cost reduction has been a key element of steps taken to sustain viable expansion and refresh programmes over an extended period. Similarly, regulatory settlements in the utilities sector that are focused on value for money have also set challenging cost reduction targets - water companies need to deliver 25%+ capital cost reductions in the AMP5 control period.

Delivering absolute levels of cost reduction is not the only challenge for many clients, as the workload is changing too. “Do minimum” programmes involving low expenditure and least disruption to operations are increasingly common, and in the utilities sector there is a similar transition to “capital maintenance” works. When moving away from large, stand-alone capital projects to a programme of smaller works, clients can create opportunities to improve their project performance through better integration with front-end asset management. Moreover, the work needs to be co-ordinated as a programme to deliver these efficiencies.

A good example of the need to transform procurement is the Government Construction Strategy, published in May 2011. The case is driven by benchmarks such as those published by UK Infrastructure, which indicate that the government is commonly paying 20% more for construction than it should. The strategy sets out in outline how work could be procured and delivered differently, and also details how the government as construction client has to re-organise and equip itself to contribute to meeting the improvement targets. Change affects clients as well as the supply chain.

Change programmes are difficult to deliver at the best of times, particularly if they have an impact on the scale of in-house operations. Today, with client organisations run lean, it is particularly challenging and a progressive, phased approach will support successful adoption - providing case studies and setting new performance benchmarks.

02 / WHAT SHOULD A CLIENT’S PROCUREMENT STRATEGY BE?

The bulk of construction in the UK is procured on a project by project basis - either on a framework or a competitive tender. Competition has a vital role in managing cost levels within the industry but when undertaken at the project level can result in other opportunities for cost reduction being missed.

An example of this can be taken from the benchmarking of design and management costs in the utilities industries. The “pound in the ground” analysis, which looks at the design and client overhead costs associated with running a construction programme demonstrates that across the sector, clients’ project overheads can vary by up to 30%. This suggests that even before differences in specifications or methods are benchmarked, there are wide variations in the efficiency of a client’s project processes that may not be adding value. Yet it is only when procurement is considered from an end-to-end perspective across the project portfolio that these opportunities for improvement can be found.

So, given the range of approaches to procurement available, what are the key issues for a strategy that is setting out to improve capital project delivery?

• Delivering projects that meet business needs. This sounds obvious, but properly aligning asset management priorities with the scope of work and specification is a major value driver. The right projects also need to be packaged in a way that best suits delivery. The optimum outcome will be a programme that accounts for business priorities and asset condition - and that then overlays standard specifications and processes, creating a consistent volume of work to the delivery teams.
• Eliminating waste, duplication and administration. Waste reduction is another opportunity, but the causes of waste may not be obvious. Changes to upstream client processes may be needed to secure optimum savings. Internal project gateway processes might, for example, have unintended effects on how contracts are scheduled and delivered as a bundle.
• Slimming down the supply chain. The benefits of rationalising the supply chain extend beyond incentivising investment and increasing buying power to simplifying administration. Most clients and contractors have taken steps to rationalise their supply chains, but if programmes of projects are delivered regionally, or by a main contractor framework without a shared supply chain, then further opportunities to consolidate the supply chain might be available.
• Reducing management effort and downsizing the client’s construction resource. In addition to driving down the cost of outsourced design and construction, clients need to focus on their own internal cost burden. Opportunities include delegating activities down into the supply chain - such as the programming and co-ordination of a works programme, by enhancing the performance output of all suppliers through a zero defects policy.

As can be seen, there could be plenty of opportunities to put in place a strategy to secure greater benefit from a construction client’s spend. Demonstrable and sustained savings in excess of 10% of cost and programme can be delivered, beyond levels that are common in the current market, if a client can improve their processes to make better use of their workload and relationships.

03 / PERFORMANCE IMPROVEMENT IN PROCUREMENT STRATEGY

Business need, waste reduction and supply chain management are common themes in efficiency programmes, so what performance drivers need to be in place as part of an optimised procurement strategy?

The strategy should address process and product development so individual projects benefit from improvements to buying and delivery. Performance itself is driven by the combined effects of the following drivers:

• Targeted design solutions. The criteria used to select a particular option should relate directly to the business drivers rather than to project-specific issues
• Effective governance processes. Good decision making needs to operate on a “right first time” basis, avoiding delay and disruption downstream. The processes also need to be right-sized - balancing cost and effort to risk and benefit
• Effective processes. Programme delivery processes need to be clear and fit for purpose and no more. The reporting overhead should be kept to a minimum and all information should have a purpose for either project delivery or asset management. Roles, responsibilities and reporting duties should be allocated to the best-placed party - be it client or supplier
• Effective use of people. Team members need appropriate skills and attitudes - particularly if roles within an integrated team are reallocated. Changing a team structure also creates opportunities to increase the utilisation of individuals by redefining roles and eliminating duplication
• Appropriate systems and information. Management information has a central role in the delivery of programmes - supporting decision making, performance management and asset management
• Alignment of procurement and incentivisation. The procurement strategy should be designed around the benefits that the client can offer - in terms of volume commitment over time, aggregation of projects or product development. The incentive mechanism needs to provide enough reward to motivate initial price reductions and other changes. It should be based on credible and workable metrics
• Programme scope and timing. Programming links planning, governance and delivery and creates the opportunity for contractors to optimise design, manufacture and construction. Critical success factors include a planned programme of work and bundling of work across the supply chain
• Productivity improvement. Improved productivity will come from the avoidance of rework or duplication of roles as well as the effectiveness of individual and teams. Poor productivity may be symptomatic of deeper disconnects within the project delivery team.

The combined effect of these drivers is rarely appreciated unless a detailed root cause analysis is undertaken. For example, a client’s ability efficiently to bundle similar projects may be affected by a reactive approach to project identification, or the supply chain might not be best suited to the projects promoted by the asset management team. Alternatively an incentive mechanism might have unintended influences on quality management. By examining a client’s project process using an end-to-end perspective, the delivery of the programme can be properly aligned with business priorities.

04/ AVOIDING UNDERPERFORMANCE IN STRATEGIC PROCUREMENT

Integrated procurement has the potential to deliver significant improvements but involves substantial change within the client organisation and supply chain. Partial implementation will not deliver the expected outcomes, but it is a common occurrence, typically as a result of a short-term focus on “getting the work done”. Other common causes of partial performance include:

• Poor alignment of individuals within the client organisation, with some becoming blockers to the overall change
• Misalignment of the goals of the client organisation and the interests of the supply chain - a good example is the willingness of contractors to share a supply chain
• Effectiveness of business processes developed as part of the change - including the extent of standardisation across a programme
• Quality and availability of management information to run the programme and also to input into incentive mechanisms
• Capability of the new arrangements to deliver results - including volume of work available, competitiveness of benchmarks and quality of the supply chain.

An early pilot project will accelerate the implementation of a change programme, creating early momentum - demonstrating that the objectives are credible and that change is possible. A pilot will also establish new performance benchmarks.

Speed is essential and it is also important that the pilot project confirms that savings and incentives are large enough to motivate the wider programme before moving to core implementation.

Once full-scale implementation has commenced, resources need to be focused on ensuring that value does not “leak” out of the programme, either through spend outside of the new procurement arrangements or, for example, by suppliers “playing the system”. Benefits capture also has to be in place to measure performance, to demonstrate that planned gains have been secured, and to identify opportunities for further improvement.

A further, critical aspect of strategic procurement is that it has to be sustained by workload. Once a delivery mechanism is created, it has to be fed, which involves commitment to a programme by the client and input from outside of the direct construction team to maintain a consistent workflow.

05 / CATEGORY MANAGEMENT AND STRATEGIC PROCUREMENT

Category management is a key technique in strategic procurement used to analyse and manage a supply chain. In managing a client’s spend across a project portfolio, the objective of category management is not only to optimise volume discounts, but also to identify opportunities for strategic alignment between the client and the supplier - either for product development, direct procurement or integration of logistics.

The starting point of category management is that spend should be analysed horizontally across a project portfolio rather than vertically through projects. Accordingly, spend on signage, furniture and equipment is easier to category manage than complex on-site assemblies such as ventilation systems.

The category analysis helps clients to understand their own patterns of demand and the degree of fragmentation in both specification and the supply chain.

One client in the retail sector used category analysis and a subsequent supply chain redesign to reduce its number of suppliers from over 500 to fewer than 30 - increasing buying power, benefiting retained suppliers and simplifying internal administration.

The core activities in a category management process are:

• Purchase demand management. This is concerned with managing and reducing product consumption through design and process management, consolidating the specification into a smaller number of products and aggregating spend across projects, supply chains and packages of work. Purchase demand management also involves understanding the suppliers’ view of the client. It can go as far as the development of standard designs and specifications. Overall the aim is to achieve economies of scale that facilitate later stages of investment in supply chain development
• Supply chain management. Steps that should be taken include optimising the number of suppliers at different tiers in the supply chain, increasing competition either through benchmarking or commoditisation, and structuring the relationship to make it worthwhile for suppliers to engage. Developing the relationship is the key element and this work-stream will focus on collaborative working, performance management and benefits sharing
• Total cost management. This is focused on ensuring an appropriate balance of quality, programme and cost and also on eliminating other aspects of cost from the programme such as excess inventory, logistics, and unnecessary transaction costs that could be related to progress review or the procurement of one-off items of work.

Advantages of the category management approach, other than spend consolidation, are that procurement can increasingly be based on specialist supply chain and product expertise across projects. Category management can also provide much greater visibility of suppliers that are critical to a client’s programme either in terms of volume or performance risk, enabling clients to better prioritise their supplier management activity.

06 / STRATEGIC PROCUREMENT OPTIONS

There are a number of approaches to strategic procurement. The following case studies set out one best practice approach based on a high volume and standardisation and contrast it with a strategic relationship developed to deliver one-off projects as part of an extended development programme.

1. Programme management approach

Programme management is managing the identification, approval, definition and delivery of multiple projects as a series of interconnected opportunities. Working on a portfolio of projects makes it possible to invest in robust project controls, in-depth supply chain management and deeper integration of client and supplier functions.

Complex programmes such as power stations or the Olympics are commonly associated with the programme management approach, but portfolios of simpler projects such as format roll-outs are also ideal.

Opportunities for product and process improvement from the adoption of a programme management approach include:

• Integration of asset management with programme and project definition
• Visibility and ownership of the programme
• Challenging the delivery model. Thinking in programme rather than project terms enables many aspects of design, procurement and construction to be reconsidered. There may be opportunities for standardisation, or the sharing of suppliers by main contractors
• Predictable and optimised of cashflow and cash utilisation
• Standardisation of product and process
• Better alignment of procurement to performance. Supply chain rationalisation as well as supplier relationship management can all be considered as part of the programme procurement strategy
• Economies of scale. Volume discounts are the most obvious aspect of a scale economy, but scale also enables the adoption of more sophisticated project controls and software.
• Balancing risk and opportunity. By spreading risks across a range of projects and increasing the size of the opportunity through bundling, clients should enable their supply chain to deliver better value as well as mitigating their own risk.

There are many examples of successfully implemented programmes by organisations such as Lloyds Banking Group and Asda. The greatest benefits are secured where the integration of project planning and definition enables delivery to be streamlined.

A retail client has run a successful programme management approach on its refresh programme for a number of years. The latest iteration has delivered cost savings that have beaten general construction inflation by more than 8%. The programme covers 400+ schemes and has an annual value of about £100m. The client’s approach to programme management has deepened to achieve the cost reduction required to enable the firm to deliver its branch upgrade strategy. Key features of the approach include:

• Format driven. The approach is driven by the retail format, which enables a high level of standardisation of scope
• Intelligent programming addressing all aspects of the process. Once delivery targets are set and branches selected, the role of the programme management office is to bundle the roll-out to achieve maximum efficiency
• Supply chain management. The programme is “sized for success” - designed to allocate to contractors a steady workload that can be delivered by fully utilised teams
• Simplification of commercial processes.

A single, market-tested schedule of rates has been adopted by all supply chain partners across the UK, rationalising budgets and eliminating one-off commercial processes.

2. Re-engineered supply chain relationships - core product team

The product team approach is a long term, exclusive appointment of consultants and tier one contractors to deliver a varied portfolio of work.

A good example is the Grosvenor Estates core product team, launched in 2010 - a five-year framework for the delivery of London Estate commercial and residential development worth £250m. Grosvenor Estates has an established track record of project partnering and the product team approach is a further step in its development of competitive advantage through process and product innovation.

Under the agreement two contractors, one multi-disciplinary engineer and one commercial manager are appointed to the core product team to provide all services other than architectural design. The team’s focus is on delivering improved performance project by project, with a focus on cost, programme and quality standards. The client benefits from a team that understands the requirement and incentivised, progressive performance improvement. The consultants and contractors secure quality workload, shared efficiencies and the opportunity to test-bed innovative solutions.

The main changes from the established partnering approach are the duration of the appointment, the formalisation of collective working practice and project learning, and the clear focus on performance targets. The benefits share is based on a combination of performance targets and behaviours and the share across the team is fixed - to motivate a joined up approach.

The core product team model is best suited to clients that have an assured but discontinuous pipeline of work, where there is more opportunity to benefit from early appointment of the team, innovation and project to project learning than from high levels of standardisation and deep supply chain management. A core product team involving senior representatives of the client, designers and contractors drives the overall programme with improvement opportunities being developed by teams involving specialist sub-contractors. The success factors are the client’s commitment, size of portfolio, quality of the team and the willingness of the team to be incentivised.

Acknowledgements
We would like to thank Steve Brewer of Grosvenor Estates and Kevin Chrisp, Lawrence Peters, Chris Read, Mat Riley and Jim Sheerin of EC Harris for their contributions to this article.