The core mission of the procurement organization is obtain value-for-money in purchasing a good or a service. This is especially important for larger acquisitions for which the Request-for-Proposal business process evolved. How do buyers they obtained value for money?
It’s one thing to purchase something small on a sole source basis, or to choose something out of a catalog with pre-negotiated firmwide discounts to the vendor’s publicly listed prices. Getting these acquisitions right or wrong will not move the needle as much as large-scale procurement where the breakpoint for entering into an RFP can be set as low as $100,000.
Value for money means buying the right solution from the right vendor at the right price.
We purchase goods and services to solve problems. The right solution is the one that solves the problem most completely. With complicated problems or ones that have complex implications for other systems, this can be very difficult to ascertain. Often a good or service may appear to be the right solution, only for this calculus to turn out to be incorrect because of a failure to acknowledge the full extent (or even the existence of) complex interactions with other aspects of the firm.
There is a concept of opportunity cost to consider when determining what is the right solution. Opportunity cost is the benefit the buyer foregoes by not choosing one of the alternative solutions. It could be that a buyer picks a slightly lower priced option instead of a choice with better problem-solution fit. For example, the passed over substitute may have created a stream of better cost savings over time, or lower maintenance costs over time, or less risk of negative effects on other systems. Purchasing the lowest price solution means trading of an immediate benefit for longer term ones. Buyers need to consider this, too.
The right vendor can mean several things. First and foremost, the right vendor is the supplier that can reliably supply the good or service. The right vendor is the supplier with which the buyer has a good relationship, so that when supplies get tight, the buyer will have a good place in line. The deepest supplier relationships are ones in which the buyer and the supplier collaborate on framing the problem to be solved and in educating one another on the leading edge in the marketplace. Finally, the right vendor may be one that also accomplishes collaterally some social objectives the buyer has prioritized, including purchasing from suppliers owned by members of historically disadvantaged communities or small businesses.
Determining the right price is also a tricky question. It is not the lowest price. The right price may be coincidentally the lowest price, but it doesn’t have to be. The right price is the one in which the buyer and the supplier share the value created by the solution in an equitable manner.
There is nothing wrong with suppliers making money. Indeed, profitable suppliers are more likely to be reliable and more likely to favor the accounts that treated them well when supplies are constrained. (This was certainly the case during the Covid crisis.)
Furthermore, the right price is going to be a function of the nature of the relationship between the buyer and the supplier and also a function of the competitive dynamics of the marketplace. In the limit, a commoditized marketplace with many competitors should price at or near marginal cost with all of the putative value created accruing to the buyer. But, if the supplier has developed an approach that creates tremendous economic benefit for the buyer, the buyer shouldn’t consider the supplier’s costs at all, but what value the buyer expects to enjoy over the life of the product. This is all the more so when the supplier has developed a highly customized solution for the buyer.
Related to the concept of equity, the most difficult thing about determining the right price is the dearth of information about what others are paying for the same or similar goods and services.
In a securities market, if I told you to go buy one hundred thousand shares of IBM stock, you would go to a service like Bloomberg, Fidelity, or even Yahoo! Finance that had a live tape of the equity market and you would see where it is trading and what kind of liquidity is on offer. This would help you benchmark what others have paid most recently and what kind of impact your order will have on the market for orders of similar size.
But there is no market tape for procurement.
There is no easy way of knowing what others are paying. There is no consolidated publicly available single source of structured data where you can compare your contract to others. It may be the case that a supplier is selling the same solution, simultaneously, to different buyers at wildly different prices.
Put another way, someone is overpaying. That is they are paying a price above which the supplier is willing to provide that configuration and amount of the good or service. The difference is what economists call economic rent, or what a layperson would call “gravy.”
We built EdgeworthBox so that buyers and suppliers could find each other and so that each side could get what they want. Buyers get better value-for-money. Suppliers get to find new customers and sell to them in a process that isn’t burdened with excessive, unnecessary bureaucracy. We deliver a set of tools as a layer in the procurement technology stack to augment the incumbent approach that helps buyers figure out if they are purchasing the right solution from the right vendor at the right price. We do this by making it easier for suppliers to give buyers what they want in a way that makes the supplier’s life easier. This includes central clearing of vendor administration, central clearing of structured data about live and historic RFPs, and social networking.