How leading companies use price, speed, quality and flexibility to drive innovation and shareholder value.

A company’s purchasing or procurement organization once had a simple enough task: buy what the company needed while spending as little money as possible. Today the function is typically called “supply management,” and it faces a more complex set of challenges. Corporate leaders expect supply managers to ensure an uninterrupted flow of goods and services (often on a just-in-time basis), help improve product quality, reduce cycle time or time-to-market, and increase the rate of innovation.

The surprise is that some companies’ supply-management functions actually achieve these demanding objectives. We recently conducted a detailed survey of procurement practices at 156 U.S. companies. About 60% of respondents were executives within the procurement function; the rest were either in charge of procurement or had an in-depth understanding of their organizations’ practices. The companies themselves came from a wide range of industries, with roughly half reporting sales greater than $1 billion.

Thirty-four of the companies, or 22%, stood significantly above the rest. These leaders were growing at more than 20% a year. Supply managers at these companies generated significantly more incremental revenue than their counterparts at lower-performing companies. They were responsible for a greater reduction in cycle time and were far more likely to bring innovation to the company. Overall, more than half of the cost reductions these organizations had effected were attributable to supply-management activities.

Exactly how did these supply-management organizations achieve their results? What do their executives know that others don’t? Our reading of the results, together with our case experience and a review of relevant literature, suggests some answers.

First, leading companies tend to pursue cost reduction in a variety of innovative ways. They create new competition by continually searching for new suppliers and developing alternatives, including “insourcing.” They perform independent analyses of the market and of suppliers’ cost structures and returns, simulating the impact of greater volume on per-unit costs. These measures allow them to transform negotiations by establishing analytically robust target prices in advance. Leading supply-management organizations also rely on their industry’s experience curve to project (and demand) continuing cost reductions year after year.

An example is Bayer AG, which set up strategic-sourcing teams to coordinate its buys. In key procurement areas such as chemicals, it has moved increasingly toward sole sourcing, with a goal of achieving “producer economics,” or better-than-market price, wherever possible. Over one two-year period, cost-reduction initiatives in the U.S.,

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