How to avoid the risks of Q4 spending madness

For those of you in the northern hemisphere still trying to cling-on to summer, I apologise in advance for what is an unashamedly autumnal, “back to school” piece.

I'd like to ask you, what are the risks for Procurement and your business because of the Q4 rush to spend your budget?

If you work in Procurement or if you’re responsible for managing a budget involving non-recurring project spend, you’re likely to be familiar with this problem.

You see, most companies operate their budget on a “use it or lose it” basis, meaning that if the allocated budget isn’t spent by fiscal year-end, the funds are lost. Wiped out. Gone forever.

The obvious consequence of this phenomena is that if projects aren’t committed by the start of Q4 and with budget-holders keen not to face the ignominy of losing their funds (it's not a great look) the last quarter can see a flurry of projects being rushed into action, perhaps resulting in the necessity for lighter-touch Procurement processes or in the worst case, bypassing proper Procurement activity entirely.

But there are broader consequences of this practice, too, with potentially much larger risks. This is relevant to all kinds of projects, but I’m going to focus on the impact on Capex / machinery procurement.

Commercial leverage – many suppliers in the capex arena are “industry veterans” and are fully aware of how the budget rules play in their favour as the financial year moves on. OK, so a supplier with whom you have a long-standing trust-based relationship is not likely to try and rip you off, but on the other hand, as a buyer with time not being on your side, the supplier is less inclined to yield to some of your (especially the more stretching) requests, running the clock down until you have no option but to make concessions.

This is valid for all things to do with pricing, but also with contracting, where the business may incur huge additional risks; the supplier may not agree to an indemnity, performance obligations, or termination rights, to name but a few.

Specifications – one of the most effective ways to enjoy greater certainty over price and lead time on a project is to define specifications as fully and as clearly as possible, ideally having discussions with potential suppliers to identify any major specification omissions and to explore whether the supplier can meet them, prior to going out to tender. This can be a large and lengthy piece of work, but it’s essential, and often involves coordination across several departments eg quality, engineering, IT, manufacturing.

If this activity is rushed and isn’t completed in-full, it’s likely to lead to costly change orders and potential delays to the project as a result of the specifications being amended “on the fly” throughout the project. Ouch.

Value engineering – you may think that this is a “nice to have” or perhaps a luxury, if the schedule allows it. I disagree. This is a huge opportunity to scrutinise, challenge and change technical requirements, for example by using industry standard components instead of bespoke parts, and stripping-out any features that add cost but don’t add any real value to the customer.

This again involves suppliers (utilising their deep technical expertise) and an internal team, so needs planning, preparation and time to conduct the activity itself and to commit the findings into the machine design.

This activity will be time well spent as it could result in higher machine uptime (due to the greater availability of standard components) save significant sums on the asset itself, and on the operational running costs over the lifetime of the asset.

Financial risk – this one often goes under the radar. If your company has budgeted to pay in-full for a project in any given financial year, but for some reason hasn’t got round to initiating the project until Q4, that full pot of cash will still need to be spent (because of the “use it or lose it” principle).

This could result in the lucky supplier completing just 20% of the work by year end (buying some raw materials, doing a bit of design work) but being paid for 100% of the project!! Happy days!! At least for the supplier.

This creates a risk for your business. In an extreme case, a nefarious charlatan may disappear with your cash altogether! [By the way, this one really shouldn’t be a risk if your supplier due diligence is robust and is actually carried out.]

Being less dramatic, it’s not inconceivable that the supplier could go bankrupt and in which case you may struggle to recover the funds already paid, and without the financial incentive for a supplier to keep to the agreed milestone plan, the risk of project slippage looms large.

Many of the above risks can be avoided or mitigated with good planning, advanced preparation of key documentation, and ongoing supplier relationship management with your most important suppliers.

So, even if a project slated for early in the financial year doesn’t get off the ground, with Procurement teams and enlightened budget holders having opened the eyes of the rest of the business to these often-overlooked risks of Q4 madness, my advice would be to carry out all the preparatory work in advance, on the assumption that the project will go ahead.

This will mean that you’ve mitigated these risks to the extent possible and can execute the project quickly once it gets a green light. And if the project doesn’t get off the ground, in the worst case you will have established a cross-functional team, good practices, value identification and the basis for successful capex projects in the future.

The best days lie ahead

Martin

Martin is the founder of?Martin John Training Limited – specialists in personal effectiveness and procurement training.

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