Direct vs. Indirect Spend: A Closer Look at the Key Differences - ThomasNet News

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An organization’s spend is divided into two categories: direct and indirect. Because these functions necessitate different processes and policies, it’s important to understand the distinction.

Definition of Direct Spend and Indirect Spend

Direct Spend or Direct Procurement

Direct spend refers to the procurement of goods, materials, and services that are directly related to the making of an organization’s products or services. This might include components, hardware, manufacturing services, and raw materials. Direct spend is typically worked into an organization’s budget and items are bought in bulk at pre-determined prices.

The mismanagement of direct spend can result in manufacturing delays and product shortages, which ultimately impacts an organization’s customer base and its ability to drive revenue.

Indirect Spend or Indirect Procurement

Indirect spend refers to the procurement of goods, materials, and services that are not directly related to the making of an organization’s products or services. This might include office supplies (such as stationery), furniture, PPE, computers, and catering services, or anything that contributes to the organization’s day-to-day operations. Purchasing happens as and when necessary, which means the average spend tends to be lower and there are fewer opportunities to negotiate with suppliers.

Managing Direct and Indirect Spend

Effective handling of direct and indirect spend enables organizations to operate smoothly, but managing each function demands different approaches.

Supplier Relationship Management (SRM)

SRM plays an all-important role in the management of direct spend. Direct procurement professionals take the time to foster and maintain meaningful relationships with their suppliers, which encourages collaboration and innovation and establishes a buyer-supplier relationship built on mutual trust. As a result, procurement teams benefit from better contractual terms, increased supplier loyalty and reliability, and a higher quality of service.

For indirect spend, monitoring and managing the buyer’s spending behavior is the key focus. A significant proportion of indirect spend might be one-off purchases, which means supplier relationships will be more transactional in nature. Additionally, this spend is less closely monitored because it does not threaten an organization’s ability to deliver consumer products or services.

Technology

A large proportion of employees, often from non-procurement functions, contribute to their organization’s indirect spend, which means there is a diverse range of requirements. To simplify the buying experience and encourage compliance with the organization’s procurement policies, indirect procurement teams prioritize the adoption of easily workable e-procurement solutions.

Direct procurement teams are beginning to realize the benefits of adopting an end-to-end single platform system that is focussed on user experience and can help to streamline procurement, reduce risk, and cut costs. 

Centralized vs. Decentralized

Direct spend is typically managed via a centralized procurement team, where category managers are assigned to focus on particular areas of spend.

Indirect spending is usually decentralized and more sporadic, which not only impacts employee productivity but also increases maverick spending. Switching to a centralized structure can make indirect spend more efficient, compliant, and cost-effective.

Inventory Management

Inventory management is about knowing the number of materials, parts, or products you have in stock and where they are stored, how quickly that stock will be used up, and when more stock needs to be ordered to prevent production delays. Direct spend heavily depends on effective inventory management, using methods such as the safety stock formula and the reorder point formula to prevent stockouts and determine when new orders should be placed.

Because indirect spend is usually driven by necessity, items are not kept in stock. To improve the efficiency and cost-effectiveness of indirect spending, teams could consider learning inventory management best practices from direct procurement categories. 

Image Credit: Foxy burrow / Shutterstock

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