Procurement in Africa: Exercising a muscle for challenging times

Procurement functions in Africa are in for a challenging period as they grapple with inflation, geopolitical disruption, and global supply chain constraints. Soaring external spend is putting significant pressure on the profit margins of many companies.

After a prolonged period of low inflation and relatively easy access to goods and raw materials, many businesses—globally and in Africa—may find themselves ill-prepared for these challenges. Procurement organizations have mobilized to manage and optimize external spend, but too many have not exercised the necessary muscles in recent times, leaving their companies behind the global curve in their adoption of digital tools to drive procurement efficiency. Moreover, for the foreseeable future, procurement functions are likely to find it difficult to obtain the goods they need at historical cost.

This article looks at the factors contributing to rising external spend, and outlines five key areas where businesses can drive efficiency in their procurement processes to better cope with challenging times.

High costs and eroding profits in some sectors

The squeeze on African profit margins was apparent even before the high inflationary environment took hold across much of the world in 2022. Cost of goods sold (COGS) calculations generally reflect most external spend, such as materials and labor used directly to create a good. Across the top 60 African companies, COGS increased by an average of 21 percent between 2020 and 2021. As this was more or less in line with the revenue increase of 27 percent, it did not negatively impact the overall gross margin (Exhibit 1).¹Top companies as measured by revenue, based on data from S&P Capital IQ, August 2022.

1

In some sectors, revenue has increased at least as quickly as COGS, reflecting better management of external spend, better pricing strategy to accommodate for inflation, or both. The positive overall trend is mostly driven by nonenergy materials, with strong revenue increases in the mining sector linked to rising worldwide raw-materials demand after the pandemic.

But the picture across industries and companies is widely varied. Other sectors, such as banking and consumer noncyclicals, have seen COGS increasing faster than revenue and eroding profit margins. With inflation affecting raw-material costs, labor rates, and energy prices, more African companies could be faced with further margin decreases.

Six converging macro trends are increasing COGS volatility

African companies are exposed not only to the same global economic pressures as businesses in developed economies, but also to a range of region-specific issues. Six macro trends are currently contributing to the volatility of African companies’ COGS:

1. Strong demand growth: African procurement functions are competing for goods in an environment of high demand and low or disrupted supply. Because the postpandemic recovery happened faster than expected, demand for raw materials far outweighs supply.
2. Supply disruptions: Geopolitical instability in Europe is causing supply disruption across the continent, particularly in African countries with strong trading ties to Russia.
3. Supply chain constraints: Well-documented constraints in global freight markets, particularly in sea freight, containers, and ports, further limit capacity for optionality and global sourcing.
4. Country-specific policies: Many African companies are navigating constrained supply and output due to national capacity-control policies, including some related to environmental targets. More than 25 percent of African countries also have local-content policies to boost sectors such as oil, gas, and mining; these could narrow options for sourcing products or services from more competitive markets.
5. Capex and infrastructure projects: Whether planned or underway, major projects such as a new capital city for Egypt or a liquefied natural gas complex in Tanzania can create further strain by increasing raw-material demand.
6. The global energy crisis: While commodity prices have increased across the board since 2021, high energy costs have been a particular stressor, raising prices along the supply chain. Energy-intensive sectors—including oil and gas as well as mining—have seen 10 to 20 percent COGS increases since mid-2021. Globally, Brent crude shot up 91 percent between January 2021 and May 2022. And in South Africa, electricity costs jumped 23 percent over the same period—9 percent since the beginning of 2022 (Exhibit 2).

2

Procurement performance plays a key role in mitigating cost pressures

Top African companies often have robust procurement processes, with strong sourcing strategy and category management, for example. In areas such as digital value enablement and invoice-to-pay processes, these companies perform on par with the upper quartile of international companies (Exhibit 3).

3

However, there are areas where African companies are underperforming, as shown by high variability in their scores in value enablement and value preservation. Companies could increase their resilience and efficiency if they actively adjust the relevant processes to meet global standards, and build capability to cope with current challenges.

There are four critical areas where African companies can address the wide variance in performance and improve their procurement processes and build resilience to ongoing price volatility and reduced supply: digital transformation, supplier management, procure to receipt, and capabilities and culture.

Digital procurement transformation

An operational model that incorporates digital procurement tools can create more transparency, reduce value leakage, and sustain procurement performance. Data and analytics are particularly valuable for performing detailed cost analyses incorporating internal and external inputs. The output highlights levers to support supplier negotiations, identifies goods with increased supply risks, finds suitable materials with high renewable content, and proactively quantifies commodity-price volatility. However, procurement has been slow to embark on the digital-transformation journeys seen in other core business functions.

There are several specific ways for procurement teams to unlock hidden value using advanced analytics:

• Portfolio hedging allows companies to analyze their portfolio exposure at an aggregated level to reduce raw-material unit costs or cost volatility.
• Price-prediction models incorporating big data can improve the timing and volume of buying decisions.
• Algorithmic buying based on quantitative models that optimize spot-buying decisions.
• Purchase-optionality tracking can provide insights into strategic and tactical procurement.
• Sustainable sourcing tools can identify opportunities to increase renewable and recycled-material content in key raw materials.
• Enhanced transparency of tier-2 (and beyond) supplier networks can identify bottleneck risks and help make supply chains more resilient.

Done right, the results of a digital transformation are compelling. One African company, for example, used advanced analytics to support a rules-based coverage strategy, hedging procurement between one and 12 months; it was able to reduce zinc costs by 7 percent despite price volatility (Exhibit 4).

4

Supplier management

Constant, ongoing monitoring of supplier performance and risk levels can lead to significant improvements. Companies that have embedded such supplier management in their product-development and procurement strategies show positive outcomes.

For example, a global automotive company saw cost reduction in its Africa operations via an explicit operational target: to deliver value from supplier cost improvement, with an average achievement of 5 to 7 percent, year on year. Close cooperation between the company and the supplier engineering team led to cost-reduction opportunities through redesign and innovation.

In another example, a consumer-product manufacturer with a strong African operation footprint currently sources half its innovation from external partners. Collaboration level and ability to provide innovative solutions are key criteria for selecting and onboarding external vendors. This close partnership enhances opportunities for cost reduction, innovation, and improved operational performance, yielding an important competitive advantage.

Inflation fighter and value creator: Procurement’s best-kept secret

Listen to the podcast

Procure to pay

Procurement flows can be monitored to challenge and validate all spend requisitions, providing valuable insight into how to reduce spending. Digitizing all stages—supplier management, invoice receipt and preprocessing, processing, payments, and disputes and reporting—can improve productivity throughout. By optimizing the end-to-end payment process, such automation has the potential to drive a 70 to 80 percent increase in productivity across assets.

Capabilities and culture

In today’s climate, companies are well advised to set up a dedicated capability-and-culture plan to support their procurement function. Understanding current and future spend, challenging existing specifications, making the right sourcing decisions, and managing the supplier relationship are all vital steps.

Strong capability building, driven by the procurement organization, has three stages: creating a fact base, developing a sourcing strategy, and execution:

• The building phase includes analysis of spend, market dynamics, and main suppliers; a should-cost model; linear performance pricing; and an assessment of total cost of ownership. This generates a robust fact base, which provides insights into the business and is essential for full cost-structure transparency.
• The development stage looks at how to make effective requests for proposal (RFPs), as well as assessing stakeholder and sourcing strategies. This informs the right sourcing strategy with a best-in-class supplier base that can secure performance and derisk the supply.
• The execution stage consists of negotiation and contracting, and is informed by the prior stages to reach a level of excellence (Exhibit 5).

5

For the foreseeable future, African supply chains are likely to remain disrupted, with volatile access to raw materials. As challenges mount on several fronts, companies can boost their resilience by reimagining procurement systems and approaches. While this may seem a difficult time to secure investment for such a transformation, players have more to gain than lose: with every dollar under pressure, the decision to do nothing may prove more costly.