Large businesses have hundreds, thousands and even tens of thousands of supplier relationships that they spend millions or billions on every year. With so many invoices, projects, and contracts associated with so many transactions, it’s easy for things to slip through the cracks.
Contract compliance audits help stop losses by putting supplier relationships under the microscope; comparing them against what’s been negotiated in contracts, change orders, and other contractually-binding agreements.
With a rigorous methodology, businesses can find sources of potential value leakage and recover lost cash. But most procurement departments lack the resources or expertise to conduct their own audits effectively, leaving the door open to sustain losses.
A self-funding contract audit program can provide the budget and bandwidth to return historical recoveries and uncover systemic issues that allow leakage to happen. Let’s look at the basic building blocks.
Two Types of Contract Compliance Audits
The first is a traditional audit program which focuses on past losses to high-risk vendors. These might include suppliers in a category with high spend, complex contracts, or past issues.
The second type is a robust audit, which delivers everything the traditional audit does — plus a lot more. It has a future focus, and aims to deliver sustainable value by preventing losses from happening at all.
In a traditional audit, the focus will be on on drilling down into each vendors’ billing practices, finding past errors, and generating claims. A robust contract compliance audit does that as well, but then uses the outcome of the traditional audit to find issues that extend across suppliers or purchases categories.
The benefits of a robust audit aren’t limited to historical recovery. Their real value lies in prevention and the future value that can be achieved by rooting out the cause of leakage.
Traditional contract compliance audits are an excellent methodology for identifying points of leakage and recouping a percentage of historical loss. Blended with a robust audit methodology, they can also provide insight into problems that — once fixed — stop future losses from happening at all.
In contract compliance, there are three primary sources of value:
- Historical cash recoveries where loss is re-couped
- Supplier-specific gap mitigation, where one supplier is reviewed for specific concerns within the contract, its financial operations, or other issues in the relationship.
- Systemic gap mitigation: Here, the auditor identifies issues prevalent across multiple suppliers within a spend category.
When systemic gaps are closed, the value returned by corrective action can be significant – a real step change for the orginzation.
How to Build a Self-funding Contract Audit Program
Step One: Define Your Objectives
Are you recovery focused, with a need to hit certain financial targets, or are you compliance focused and want to ensure your vendors are adhering to their contract?
Both objectives are valid and you can also blend the two. Either way, clarifying the outcome you want before the audit begins is critical to the program’s success.
Step Two: Establish a Funding Model
If your objectives are focused on making sure the program hits certain financial goals, then a model that targets high-risk suppliers for recoveries makes sense. The cash recovered can be used to fund the program directly.
If your objectives for the audit are to prevent future loss by identifying and addressing leakage points, a self-funding program that incrementally regenerates the budget with funds re-couped in the process.
Step Three: Create a Management Plan
There are various options for how to build a project plan and set-up appropriate governance. In all cases you have to establish the rules of engagement for in-house versus outsourced teams, decide which internal sponsors are required, and agree how to build an audit model that’s sustainable with available resources.
The program plan you create should reflect the goals, funding plan, and program objectives.
Under a scenario where the objective is to strengthen supplier relationships and reduce leakage, the project is to be self-funded, and your program management model involves strong sponsors, a robust audit methodology is the best way to maximize value.
Trust, But Verify
Procurement teams work hard to negotiate supplier contracts, so it makes sense to periodically see if they’re delivering all the value they should. By systematically reviewing vendor contracts against invoices and payments, businesses can find sources of potential value leakage and recover lost cash.
Most procurement departments, however, lack the budget, expertise, and bandwidth to audit vendor contracts effectively. A self-funding audit can capture historical recoveries and uncover systemic issues to prevent leaks from slipping through in the future.
Want to learn more?
Download the Building A Self-Funding Contract Audit Program e-book or watch the webinar Contract Audit: Building Self-Funded, Lower Touch, High ROI Programs to explore the cornerstones of a robust contract compliance audit methodology and explain how it can be designed to pay for itself — even while an audit is underway.