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Monitoring vendor performance: cost recovery to contract compliance

RFP
Running a technology company is complex, and it requires numerous connections and contributors. Among the top priorities are controlling costs and optimizing procurement to payment (P2P) and compliance functions. Perhaps most importantly, these responsibilities are what shareholders expect of management. Many functions are in the hands of vendors, especially with technology companies’ prevalent use of hosted applications and subcontracted manufacturers. There’s no time for hand-holding, so your organization needs solid oversight to ensure the appropriate monitoring of costs and compliance with key aspects of contractual agreements.

Third-party monitoring is the product of a cost-recovery program based on robust data analytics.

Perform reviews to halt cost leakage, noncompliance
With back-office P2P vendor management processes often strained by limited resources, complexity and rapid changes, cost leakage can result from inadequate recognition and management. To minimize these losses, you must develop an effective cost-recovery program. This starts with the identification and remediation of payment errors, and leads to pinpointing specific vendor noncompliance. The two main focus areas of cost recovery are:
  • Accounts payable (AP) analysis and refund recovery
  • Contract compliance

A cost-recovery pyramid illustrates the major elements of a cost-recovery program and context for the level of effort to needed to complete the task.  
cost-recovery pyramid
AP analysis uncovers duplicate payments, indirect tax overpayment
Cost recovery typically begins with a review with a broad reach that provides the most recovery opportunities with the least amount of effort per vendor. This is known as a vendor statement review. The review focuses on high-volume trade vendors, searching for unapplied cash and/or credits related to overpayments, duplicate payments, missed discounts or rebates, and return credits posted to your organization’s account by the vendor but not recorded or applied in your AP system. It is common for vendors to send AP departments an account statement only upon request. If not identified in a timely manner, the vendor may write off these credits, escheat them or apply them against previously disputed invoices without your organization’s knowledge. It is important for the AP department to create an efficient and repeatable process to periodically collect and analyze vendor statements to identify unrecognized credits.

Vendor statement reviews also serve as a barometer of how many cost-recovery opportunities exist throughout the cost-recovery pyramid. If the review reveals numerous unrecognized credits resulting from duplicate payments, it is likely there are many more duplicate payments that have not been identified. If unrecognized credits are the result of returned goods, this may be an indicator that the return materials authorization process is not functioning as it should.

In any technology company that processes a large volume of AP transactions, duplicate payments will occur. Although an enterprise resource planning system can be configured and optimized to minimize these errors, the confluence of payment volume, organizational complexity, changing processes and human errors inevitably creates duplicate payments. A duplicate payment analysis program should be efficient, timely and repeatable, and should catch and recover duplicate payments that might otherwise slip through the cracks. Additionally, the program should be designed to track root causes and identify weaknesses in the AP process so that leakage issues can be minimized in the future. As noted in the second layer of the pyramid, a duplicate payment review requires some effort to identify recovery opportunities, but if it is designed correctly, it can add tremendous value to an AP function and a data analytics program.

A duplicate payment review is one critical element of an overall data analytics strategy for evaluating your organization’s spend. Additional programs that can complement your duplicate payment review may include these types of analysis:
  • Missed discounts
  • Payment timing (days to payment) and payment terms
  • Duplicate vendors and vendor masters
  • Spend profiles
  • Fraud indicators

Another cost-recovery activity is reviewing indirect taxes (e.g., sales and use taxes and value-added taxes). These reviews focus on identifying indirect tax overpayments with vendors as well as direct payments to a jurisdiction or state.

Indirect tax reverse audits provide a comprehensive review of the AP system to identify recovery opportunities. These reviews identify indirect tax overpayments and their resulting refund claims. Given the challenges inherent in transactional taxes coupled with organizational and process changes, periodic indirect tax assessments often yield a high cost-recovery benefit.

Vendor compliance audits track contract risk, identify issues
With the need for vendors expanding on pace with the incredible growth within the technology industry, companies must scale quickly and centralize their data analytics and compliance. While many companies look at vendors from an onboarding and payment perspective, if you know a bad actor is present, do you actually go audit?

Contract compliance related to vendors — or vendor auditing — comprises the review of high-risk and/or large vendors and contractors to assess their adherence to contractual terms. Targets are typically high-volume suppliers, contract manufacturers, large service providers and outsourcers. Reviews focus on identifying pricing and unit quantity overcharges, or any abusive or wasteful spend or other cost leakage. Such audits are sometimes performed on-site.

Vendor compliance risk exists in various types of contractual relationships, including:
  • Most-favored customer/nation
  • Cost-plus
  • Index-dependent pricing
  • Service-level agreements
  • Construction

Issues that commonly create an environment for noncompliance include:
  • Poor sourcing and rogue spend
  • Little to no visibility regarding underlying charges
  • Unanticipated scope creep or poorly defined service levels
  • Weak payment controls or invoice review
  • Ill-defined or vague contractual terms

Vendor contract audits are at the peak of the cost-recovery pyramid: These comprehensive assessments require the most effort but provide the highest level of insight into vendor compliance and cost recovery. They should be used not just for cost recovery but also for the identification of cost-reduction opportunities, wasteful and abusive practices, and contract strategy deficiencies. Most critical to gaining the highest level of return on any contract compliance or vendor contract audit is receiving the underlying data related to the ultimate charges. Data analysis ― as opposed to sampling ― allows for more insightful analysis and the opportunity for increased cost recovery.

Data analytics support meaningful reviews, effective monitoring 
It’s not hard to understand how things get out of hand; after all, vendors can number in the hundreds, thousands or hundreds of thousands, with exponential numbers of transactions and many historic agreements. Performing the myriad monitoring activities requires smart use of technology. The task is daunting, but a finely tuned analytics system can make it possible.  

Overseeing every aspect of vendor relationships is more manageable when data are accessible and centralized. Reporting for internal and external purposes can be comprehensively developed, and transparency made complete.

With effective monitoring at the center of a third-party program, your organization will be positioned to optimize its health and growth. See “Unforeseen benefits of a third-party program: Applying analytics to aid decision-making” for additional recommendations on making data work for your company.

Contacts

Nathan Dreyfus
Senior Manager
Business Advisory Service
Internal Audi
T +1 415 365 542
E nathan.dreyfus@us.gt.com

Bruce Orr
Director
Business Advisory Services
T +1 832 487 1430
E bruce.orr@us.gt.com