Cost Avoidance: Not Everything that Counts is Counted

Abstract

It is widely recognized that one of the purchasing function’s primary objectives is to generate cost saving through cost reduction and cost avoidance as it works with the supply base to provide high quality materials and services on a timely basis. This research develops mid‐range theory by incorporating empirical evidence and the tenets of agency theory to the specific domain of a purchasing agent working within an organization. This domain differs from other agency relationships because there are multiple principals with misaligned goals within the organization that influence how purchasing cost saving are counted and thus influence the impact of those savings on purchasing performance. Agency theory helps articulate propositions in this context by providing insight into how purchasing agents perform their organizational duties related to cost saving and avoiding cost increases. The focus is specifically on examining how the challenging area of cost avoidance savings are tracked, measured, and recognized. Case studies from eight organizations reveal that there is significant prospect for suboptimal performance due to the design of reward and measurement systems and the reluctance of purchasing to challenge these systems. However, this can be addressed through an investment in robust systems supported by top management and finance.