The proliferation of eSourcing or eProcurement systems in the last twenty years has transformed the way large organizations purchase goods and services. We were told digitization would lead to cost savings, faster cycles, better outcomes in terms of value-for-money, and the like.
In actuality, taking an analog reverse auction process that worked well in some contexts and executing it using digital tools, made it easier to use reverse auctions uniformly.
When you have a hammer, everything looks like a nail.
When you have an eSourcing platform, everything looks like a Request for Proposal process.
Compared to the Industrial Revolution that spawned the RFP, we live in a more service-oriented economy in which buyers increasingly acquire complex services contracts with cascading consequences of failure, and difficulty in things like invoice reconciliation given complicated deliverables.
The principal risk of using an RFP is that you throw an auction and nobody shows up, or at least not enough of the right suppliers.
This is why many RFPs fail to deliver value-for-money.
They have become bureaucratic exercises in box-ticking compliance, an exercise of form over substance.
Academically, it makes intuitive, linear sense that the best way for buyers to focus on their immediate profitability is a reverse auction that compels multiple businesses to bid aggressively to win the sale.
Of course, like any academic theory, this is predicated on several assumptions. Here is where they fail.
Incorrect Assumption #1: suppliers are selling perfectly substitutable commodities in perfect competition, so the job of the buyer is to drive price down to marginal cost.
Is that really true for most of the things we purchase? Not everything is a paperclip. Using an RFP to buy differentiated products like technology, highly tooled machinery, or marketing optimization obscures deeper questions about value-for-money. Instead of purchasing the best value per buck spent, buyers tend towards purchasing lower value items for the least amount of dollars spent.
Incorrect Assumption #2: the key to success in procurement is cost savings.
Actually, the key to success in procurement is enabling the enterprise to increase its competitive advantage. We conceive of new products that will give our customers a reason to buy our goods and services instead of those offered by the competition. We have better technology, better networks, better brand, that lead to pricing power. Does sourcing from the lowest price supplier reinforce any of that? Are you doing business with the most innovative suppliers? Or is your competition? Cost savings should be the objective when the buyer is buying something that does not really matter to her competitive advantage, one way or the other. Cost savings should not be the primary objective if the buyer is acquiring a good or service that enables them to create more value for their own customers.
Lowest cost procurement is often a lazy proxy for improving competitive advantage in the 21st century.
Incorrect Assumption #3: this is a multi-period game with no memory.
In game theory, memory leads to more cooperative behavior in which both players act in a way that benefits them both for the longer term. The longer the game, the longer the memories, and the greater is the potential for cooperative gains for both buyers and suppliers. Everyone playing a multi-period game knows that their actions in any period affect behavior and outcomes in subsequent periods.
The RFP approach suggests that RFP events exist independent of the context of prior RFPs.
But here’s the thing. Suppliers are intelligent and they remember everything. Suppliers are looking to create value for their customers and share in the creation of that value. If an RFP doesn’t permit them to share in a way that they think is fair and reasonable, then they will go elsewhere.
As the Covid supply chain crisis has demonstrated, this is a question of risk management. Not only will suppliers potentially cease to respond to your RFPs, they may ditch you for buyers who treated them more collaboratively when times become tough. Ironically, the RFP process may lead you to scramble for supply in tight markets, paying exorbitant prices because you alienated suppliers when you had the chance to build a relationship with them.
There is a better way.
Desired outcome #1: buyers source in a way that delivers value-for-money.
Categorize sourcing activities by type, as suggested here. How important is the supplier relationship from a risk management perspective? How did things turn out during the Covid crisis? Is this a commodity or a differentiated product? Is this a strategic acquisition? How many responses have you received in prior RFPs? Depending on the answers to these questions, a more collaborative approach with a smaller group of suppliers may be in order, leading to cooperation on product development or security of supply. In a recent survey, 77% of buying firms said that improving collaboration with their suppliers was a key priority.
Desired outcome #2: buyers focus on increasing their firm’s competitive advantage.
This means that buyers need to be integrated into other parts of their company’s decision-making including product development, marketing, sales, finance, and operations. They have to understand the full competitive dynamic in which their company operates. There needs to be more collaboration internally, as well as externally, even as many companies have no real platform for doing so when it comes to procurement.
Desired outcome #3: buyers develop an approach to the market that is dynamically robust.
Buyers consider the behavior of suppliers in adjusting how they work with them. If the buyer is having difficulty getting suppliers to submit bids, then they need to adjust so that suppliers engage.
Just as the adoption of eSourcing platforms over the past twenty years have led to an excessive use of the RFP, changing your procurement process likely requires a technology-driven approach.
EdgeworthBox is a platform for strategic sourcing, generally, that enables this more holistic approach. We do so as a layer that complements existing procurement infrastructure, so that buyers can execute an RFP cycle that leads to more supplier proposals, when an RFP is appropriate and also develop relationships with suppliers that are suited to a broader context. All without changing the infrastructure they have invested so much in building to date. Give us a shout. Or take us for a free spin.