Cost Savings vs Cost Avoidance: 5 Key Differences
Purchasing & Procurement Center
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In the previous edition of the Procurement Leaders Playbook, we discussed 7 Strategic Ways to Plan for Power in Procurement.?
This week, we’re diving into two critical concepts in procurement– cost savings and cost avoidance.
In this issue, we will discuss the 5 key differences between cost savings and cost avoidance, and why they matter for your procurement strategy and performance.
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1. Definition and Nature
Cost Savings refer to the reduction in actual expenditures– it is the tangible decrease in outlay for goods and services compared to a previous baseline.?
Cost savings can stem from negotiating lower prices, bulk purchasing, or switching to less expensive alternatives without compromising quality.
In contrast, Cost Avoidance is more preemptive and involves actions taken to prevent expenses from occurring in the future. It is essentially unrealized costs—money that would have been spent but for proactive measures taken.?
These could include extending the lifespan of equipment through maintenance, locking in prices with suppliers before forecasted increases, or implementing energy-efficient practices to reduce future utility bills.?
2. Measurement and Recognition
The measurement of Cost Savings is relatively straightforward—it is quantified through the direct comparison of past and present expenses, making it easier to document and recognize.?
These savings can be precisely measured and reported, showcasing a direct impact on a company's financial health– reflecting positively on an organization’s profitability.
Cost Avoidance, however, presents a challenge in measurement due to its hypothetical nature. Assessing costs that have been dodged requires speculative comparison against what expenditures might have been without the preemptive actions taken.?
This necessitates a forward-looking approach and often involves estimations based on market trends, price forecasts, and other variables.
3. Impact on Budgets and Financial Statements
Cost Savings directly impact an organization’s budget and financial statements by freeing up actual funds, which can then be reallocated or contribute to profit margins.?
This tangible reduction in spending can be a compelling point during budget reviews and financial planning sessions.
On the other hand, Cost Avoidance, while beneficial, doesn’t alter the current budget or show up on financial statements as a direct saving.?
Instead, it protects future budgets from potential increases and helps in maintaining operational efficiencies.?
4. Strategic Importance
From a strategic perspective, Cost Savings are often linked to short-term goals and immediate financial performance.?
They are critical during periods of cost-cutting or when seeking to improve profitability in a fiscal year.?
On the other hand, Cost Avoidance plays a crucial role in strategic planning, emphasizing long-term foresight and sustainability.?
It involves investing in the future, ensuring that the organization is shielded against rising costs and adverse market conditions.?
5. Timing
Another key difference between the two is that Cost Savings materialize after the procurement cycle culminates in actual transactions.?
The realization of cost savings is marked by declines in spending, evidenced by physical records– invoices and receipts that detail the monetary exchanges which have transpired.
Conversely, Cost Avoidance is observed prior to or during the procurement process and its realization is more subtle, yet equally significant.?
Cost avoidance is an expression of preemptive strategy– it's the financial distresses averted and the undue expenses forestalled within an organization.?
Balance is Key!
As you can see, cost savings and cost avoidance are not the same thing, and they have different implications for your procurement performance and value creation.?
While both are important, you should not rely on one or the other exclusively, but rather balance them according to your organizational goals and priorities.
To help you achieve that balance, here’s our guide to Cost Reduction in Purchasing & Procurement!
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Head of Commercial & Procurement
6 天前Superb consise and clear article, bringing much needed clarity to the confusion, noting both cost savings and avoidance are equally when developing cost reduction strategies.
Gerente de Compras | Gerente de Adquisiciones | Gerente de Logística
1 周For some people can be a little bit confusing, but this article offers a clear view, in order to make easier the development of some strategies, not just for professionals in our area like us, but other colleagues. Thanks for sharing this.
Indirect Procurement Manager at Distra S.A Mutandis, Reading and English enthusiast
1 周Very instructive, Thanks for sharing it. And I will add that the two are complementary: to achieve and maintain good cost savings, good cost avoidance is essential.