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SMB 101 | Procurement: definition, types, and process

A small business team reviewing inventory to assess the company’s procurement needs.

Every business, big or small, depends to some degree on obtaining a range of goods and services from external vendors. These can be finished products, raw materials, or anything else related to the various functions of the business.

This process of selecting and purchasing whatever’s needed for your day-to-day operations is known as procurement. A good process can mean better prices and payment terms as well as a higher quality of products and a more efficient workflow. 

This makes procurement one of the most crucial processes for any business. This is especially true for small and medium-sized businesses (SMBs) that are more vulnerable to cash flow issues, market fluctuations, inflation, and supply chain backlogs during times of economic uncertainty.  

In this article, we’ll cover the definition of procurement, its main types, and what the process entails for most small businesses.  

What’s procurement?

In simple words, procurement refers to the process of obtaining goods and services for business purposes. 

This may vary from business to business but most companies view procurement as encompassing the full range of activities from figuring out what’s needed, through vendor sourcing and negotiation, to approval workflows and payments. Some businesses, on the other hand, view procurement as a narrower process covering just purchase orders and payments. 

People often use the terms procurement and purchasing interchangeably, but they’re not exactly the same. Purchasing is just one part of the procurement process and refers to ordering, receiving, and paying for the goods.  

Sourcing is another stage in the process that’s often confused with procurement. It refers to choosing the suppliers you will work with in the procurement process. 

In the next section, we’ll take a closer look at the different stages of procurement.

Stages in the procurement process

Procurement is an important and sometimes complex process composed of many steps. It can be divided into three main stages: internal examination, sourcing, and purchasing. 

Internal examination

Before you can attain external goods and services it’s vital to look inwards to examine what you actually need, how it will help your business, what’s urgent and what can wait, and how much you can afford to spend and when. 

In an internal examination, you’ll need to: 

  • Identify your company’s strategic needs in terms of goods and services. Ask yourself: Which items or services are crucial to your organization’s operations? Are there additional items that will help your business grow or become more resilient? In what way will each purchase impact your business? What do you already have in stock? How quickly will you see revenue or another positive impact resulting from these purchases? 

  • Prioritize your needs according to the level of urgency or the return on investment (ROI) you predict for each purchase.

  • Understand your acquisition budget and timeline. It’s a good idea to create a long-term procurement strategy for the year ahead. This will ensure you don’t neglect important strategic purchases just because they are less urgent or more expensive. As soon as you get a better picture of how much money you can spend over time, you can plan your procurement to support your regular operation and reach your strategic goals.

Sourcing

As mentioned above, this stage refers to choosing the vendors from whom you will procure goods and services. 

The sourcing stage includes the following steps: 

  • Research: Look into potential suppliers in relevant areas or industries. Examine their offerings to determine which of your needs they can meet and find out their price range to make sure they fit your budget.

  • Comparison: Request professional estimates and quotes from several suppliers that seem like good options. Compare their offers to figure out who can give you the best deal. When doing so, consider not only the price but also the vendor’s added value in terms of their experience, your relationship with them, and the quality of goods or services they are able to provide.

  • Negotiation: Even if you already decided which supplier you want to work with, it’s never a bad idea to discuss the terms. See, for example, if and under what circumstances they can offer you a discount or any other perk to sweeten the deal.

  • Decision: After you have all the information, choose the supplier with whom you want to continue the process.

Purchasing

Time to go shopping! In this stage, you’ll be in touch with your selected supplier or vendor to receive your goods or services and complete the transaction. 

Purchasing includes: 

  • Creating a purchase order outlining all the items you’re interested in and placing the order with your chosen supplier.
  • Receiving the agreed-upon goods or services and making sure they match your order. 

Paying the bill according to the agreed-upon terms and your invoice management workflow.

What are the different types of procurement?

There are two main types of procurement: direct and indirect. Both can refer to attaining either goods or services, depending on your company’s needs.

Direct procurement

This first type of procurement refers to purchases that have a direct impact on your company’s final product. For retailers, this refers mainly to the purchase of inventory. It becomes a bit more complicated when it comes to manufacturers and other businesses. 

If you manufacture handmade backpacks, for example, your direct procurement will include the purchase of goods such as raw materials (threads, fabrics, buckles, etc.), machinery and equipment (sewing machines, needles, lubricating oil, etc.), and professional services (design, sewing, etc.).

Indirect procurement

This relates to anything you purchase for your business that doesn’t directly impact the product you’re offering. Still, it can have a significant contribution to the bottom line. Indirect procurement can include anything from marketing expenses to HVAC systems. 

Circling back to the backpack manufacturer example, indirect procurement can include, among other things, goods needed for day-to-day operations including office supplies (printing paper, envelopes, shipping boxes, etc.), machinery (air conditioning, computers, etc.), or professional services (website building, social media management, etc.).

What factors affect procurement?

Since procurement is such an important strategic process, there’s more to consider than just the price and quality of goods and services. On top of the company’s material needs, additional factors may impact its procurement decisions.

Economic and global changes

Whether it’s a global pandemic, war, supply chain disruptions, recession, inflation, or all of the above, the state of the world affects the procurement choices of many companies. 

SMBs tend to be particularly vulnerable to these turmoils since they work with smaller budgets and have less room to maneuver than big corporations. The flip side of this is that they adapt more quickly. An example of this can be seen in a survey conducted earlier this year. It suggested that 88% of small businesses plan to procure from more local suppliers this year to avoid the issues caused by current global unrest.

Company values

It’s no secret that a business’s prime goal is to make money to support its owners as well as its employees. But that’s not all there is to it. Like the individuals that make it up, a business, and especially an SMB, is part of a community and can have a positive impact on it. 

That’s where company values come in. Having a set of values that impact your business decisions creates a sense of purpose and meaning for you, your team, and anyone else associated with your company. 

It can also affect your bottom line. In fact, 63% of consumers say they prefer to buy products and services from companies whose values resonate with their own belief systems and ethics. 

Your company values need to be backed not just by words but also by your business conduct. This means, among other things, that your procurement decisions need to take them into account. 

So, a company that places great emphasis on climate change should opt to procure its goods from greener businesses and local merchants to reduce its carbon footprint. A company with LGBTQ or women’s rights on its agenda may choose suppliers from these or other marginalized groups. And, a company whose mission is to keep small business in business (that’s us!) will also try to choose smaller local suppliers, whenever possible.

Regulations

Depending on your industry and state, your business is subject to various local and federal regulations. These legal requirements can sometimes impact who your business can work with and procure goods and services from. 

Data security and privacy regulations like the CCPA, for example, can mean you won’t be able to receive services from any company that isn’t compliant. 

Payments play a big part

Payment is one of the most important stages in the procurement process, and for good reason. Smooth and timely payments will help you maintain strong and long-lasting relationships with your vendors and simplify your future procurement needs. 

One way to ensure vendor satisfaction is by using an online payment platform like Melio to manage your business-to-business (B2B) transactions. 

Melio allows you to pay all your business bills online, offering a choice of payment methods to fit your workflows as well as your supplier’s needs. You can, for example, pay with a credit card* to defer payments, even if your vendor only accepts checks.

It also offers financing options that can help you pay on time without hurting your cash flow or taking out a loan. 

Sign up for Melio today to pay all your vendors and suppliers online.

*This blog post is intended for informational purposes only and is not intended as financial advice.
**Melio does not provide legal, tax or accounting advice, and you should consult with a professional advisor before making any financial decisions.