What is the procurement life cycle?
The procurement cycle is the process businesses use to find and obtain goods. It involves multiple steps, including identifying the need for a good or service, finding the right supplier, negotiating terms, creating a purchase order, and receiving the delivery.
It’s also known as the procurement life cycle or, more simply, the procurement process. An efficient approach to procurement helps businesses ensure they’re paying the right price for goods and services, minimizing delivery times, and building a strong supplier network. And optimizing the procurement process is one of the best ways to improve procurement efficiency.
In any given business, it’s the procurement team that is responsible for implementing procedures throughout the procurement process. But how a procurement process looks is entirely dependent on the size and type of business. There’s no one-size-fits-all approach, so you should tailor the procurement process to suit your business’s own unique circumstances.
However, there is a general procurement process template which outlines the major steps in the cycle.
Steps in the procurement process/cycle
Whether you’re a procurement manager creating a process from scratch, or you feel that you need to reassess your existing procurement procedures, below are seven crucial steps in the procurement life cycle to pay attention to.
1. Identify required goods or services
The procurement process starts with the need to obtain goods or services from an outsourced company. These goods or services can be internal (meaning any materials required to run the business) or external (raw materials or goods that the business will eventually sell). This stage, therefore, involves assessing the needs of each department and setting a budget.
For example, if a clothing manufacturer were starting out, they’d use this stage to outline how many and what type of embroidery machines they’d need. Or, if a larger clothing company were expanding, they’d return to this stage to determine what equipment they required to meet customer demand.
2. Consider a list of suppliers
This stage involves sourcing suppliers and determining their ability to provide the best quality and value for goods or services. While this seems straightforward, it’s vital to find reputable vendors with which whom you can develop a long-term bilateral partnership.
Best practice in this area is known as strategic procurement. Strategic procurement revolves around the idea that businesses should align their procurement strategy with their broader business objectives, rather than treating it as an afterthought. In other words, strategic procurement is proactive and deliberate, rather than responsive.
When considering vendors, it’s a good idea to compare all the different options on offer in depth. Generally, ideal traits for a reputable supplier are accountability, production capacity, strong ethics, and free-flowing communication.
For example, a clothing manufacturer looking for a new embroidery machine, which is a considerable investment, should conduct thorough market research in advance of the point they actually need the machine. By comparing machines from several suppliers they will be more likely to find an option that will suit their budget, needs, and preferences.
The same company, using a non-strategic procurement process, might wait until they’re desperate for a new machine. They’ll then have less time to consider their options, meaning they’re likely to end up getting a worse deal overall.
This same logic holds true no matter what the goods or services you’re looking to procure are.
3. Negotiate contract terms with selected suppliers
After choosing your preferred potential suppliers, the next step in the procurement process is to negotiate contract terms with them. Contract negotiation is crucial in reaching a price that’s fair for both parties and is an opportunity to build any additional payment term features that you want to take advantage of (like dynamic discounting or supply chain finance) into the contract.
Before entering negotiations, analyze any previous contracts to identify opportunities that will enable you to streamline costs and save money. If your previous agreements were expensive or had unrealistic terms, use this knowledge to iron out the finer details of prospective deals in the future.
For instance, a clothing company may have contracts with several suppliers, as they require a steady stream – and replenishment – of stock and materials. So, rather than ordering them each time manually, consider proposing a rolling contract that will save time, and possibly offer discounts, too.
4. Finalize the purchase order
Once a contract is submitted to a supplier and both parties are happy with the small print, the next step is to start preparing, finalizing, and sending purchase orders or purchase requests.
A purchase order is a document that outlines:
- A description of the goods or service
- Total costs
- Approval of workflow
When a purchase order is approved, it signals to the relevant finance team to release the details to the supplier, affording them access to the critical information they need, such as:
- A reference number
- Payment terms agreement
- Any other essential information they require
Typically sent via email, a purchase order contains a further agreement between the two parties. While a contract sets out agreements about the whole collaboration, purchase orders tend to agree to individual jobs contractually.
If the clothing company in our example required a machine upgrade, they would need to obtain internal approval. If approved, the internal team will prepare a purchase order, including a description of the new machine, pricing, and any other relevant details.
Once approved, the finance team will share the purchase order with the supplier who’ll begin to prepare the order and organize payment details.
5. Receive invoice and process payment
Once a supplier receives a purchase order, the purchase order sender will receive an invoice from them stating the agreed price and instructions on how to pay. This should contain details of the order on the invoice. Improving your purchase order management process is essential in streamlining this aspect of the procurement proces. A part of this optimization could be, for example, achieved through adoption of invoice automation technology.
Depending on what’s outlined in the contract, the invoice will include details of the period allowed to make the payment. Many businesses offer a thirty-day credit notice, which gives you leeway to make the payment if you cannot fulfil it at the time of the order.
However, payment terms will always depend on the specific contractual agreement, as well as the strength of the relationship between both parties.
6. Delivery and audit
All things going well, the delivery of ordered goods should arrive soon after the supplier receives a purchase order. At this stage of the process, it’s common for businesses to make a record of when the order arrived as well as double-checking the order contents. If something is missing, this is the opportunity to contact the supplier and rectify the problem to reduce potential downtime.
For example, if a clothing manufacturer ordered a machine upgrade to cope with increased customer demand, but it arrived with a missing part, profound implications could ensue. Production could be affected, and orders could be delayed, leading to customer dissatisfaction and potential losses for refunds and compensation.
7. Maintain accurate invoices for future audits
It’s an essential part of the process to keep up to date records of all invoices and payments. Then, when it’s time for a cash flow audit, you can precisely calculate what you’ve spent throughout the contract and identify areas where you can further analyze your spending.
Maintaining accurate invoices is also key to working out whether you’re overspending or sticking to your budget. For example, if our clothing company looks over their records and realize that they’re overspending on materials, they could act and look for a new supplier. Or, if the spending review concluded that they’re overspending on machinery and equipment, this could indicate that the brand they’re using isn’t suitable for their needs.
Is the procurement cycle the same for every business?
The seven main steps that make up the procurement life cycle are by no means exhaustive – the process varies depending on a huge range of factors. However, the process outlined above is generally the foundation of any buyer-supplier relationship.
While the details will change from vendor relationship to vendor relationship, the fundamentals of identifying requirements, finding suppliers, negotiating contract terms, and placing/receiving orders is fairly constant.
Improving the procurement process with technology
While the procurement process flow described above has long been a feature of buyer-supplier relationships, recent growth in supply chain technology has made it possible to improve the way it’s managed.
There are a range of software solutions you can integrate within the procurement process to boost efficiency, automate manual processes, and make things like supplier selection easier to navigate. They include:
- Inventory management solutions that allow you to boost your visibility over where goods are in the supply chain, ensure access to safety stocks, and benefit from vendor-owned inventory strategies.
- Supplier management platforms that make it easier to build and manage supplier relationships, centralizing supplier information storage and creating simple lines of communication.
- Working capital financing solutions like dynamic discounting and supply chain finance that can be implemented in the payables process to speed up your cash flow and allow you to reinvest in growth more quickly.
Taking advantage of procurement technology can help you to design and manage a procurement life cycle that is perfectly aligned with your business objectives, no matter what they are.