The Rest of the Story

In my April post entitled “Take A Long Term View”, I described a client facing a sourcing dilemma. They were purchasing materials from a distributor who had installed “free” equipment in exchange for a commitment to buy the related supplies. They had previously solicited bids every two years and believed their “supplier partner” was competitive. They couldn’t imagine a way to save money given the high switching costs, so they were unwilling to diligently source this requirement.

This sole source situation raised a number of red flags so we continued our examination. We realized that prices for a third of the buy should track a feedstock index. Using this index, we demonstrated to the client that they had been paying a 10%-15% premium for these materials, versus what the index would have predicted, over the 2 year life of the contract! This finally convinced them to take action!

With the contract expiration and the holidays quickly approaching we needed to take quick but diligent action. We engaged the client by taking a tour of their facility. We interviewed them to fully understand their CTQs (Critical to Quality requirements). We requested detailed material specifications, as the existing specs were often the incumbent’s unusable short-hand descriptions.

Before reaching out to potential bidders, we obtained the client’s agreement on several important points:

• They would move business if best value was available from a non-incumbent supplier,
• They would consider alternatives to the “free” equipment and related supplies if the alternative was comparable and the switching costs were covered, and
• They would allow a multi-source award if the savings warranted.

An important first step was a pre-bid meeting with the incumbent supplier and prior unsuccessful bidders. We felt it was critical to signal a change in the sourcing process. Prior bidders responded favorably to this. They acknowledged that the routine RFQs were not taken very seriously. They perceived the specs as biased and/or incomplete, and they knew the incumbent always won. Therefore, they had not bid aggressively in the past.

After the pre-bid meetings, we used a two step sourcing process. First we issued an electronic RFI using Iasta’s SmartSource solution. The purpose was to determine potential suppliers’ capabilities, to gather information on various alternatives, and to collect feasibility level pricing. We cast a wide net to over 20 potential suppliers, and through this process eliminated all but six. We then issued an electronic RFQ with final lots and detailed, accurate item descriptions. Responses allowed us to evaluate bidders against non-price criteria and to determine total best value.

Interestingly, the incumbent “partner” dropped their pricing by almost 20%! We had a 20% savings “in the bag” with no change. We seriously considered an alternative to the “free” equipment which offered a huge additional savings. However, upon investigation we determined the solution was not really comparable and we also had concerns about the service level of this bidder. After abandoning this alternative, we were still able to award over half the business to a non-incumbent supplier who could use the equipment that was already in place. (It turned out that the equipment was owned by the manufacturer, not the distributor!)

At the end of the day, this sourcing initiative delivered a 24% savings with future price movement for many items tied to an index. We included contract language that gives our client the ability to easily monitor suppliers’ performance. Contracts also provide for quarterly reviews including discussions about potential non-price cost savings. The new agreements clearly define the Scope of Services, and determine how cost increases for both indexed and non-indexed products are justified and approved. Additionally, the award entails minimal disruption since the existing equipment will be utilized. Of paramount importance, this award signals to all involved that the client will move business when warranted. We anticipate competitive proposals when these new contracts expire.

The lessons: In the absence of competition, our supplier “partners” become complacent and margins creep upwards. A perfunctory RFQ will likely not deliver best value. Our client did not have the staffing to conduct this rigorous sourcing project. By engaging consultants on a gain-share basis, our client was able to achieve a significant savings with no up-front cost or risk and a minimum of employee time.

This post was originally published on E-Sourcing Forum:

http://www.esourcingforum.com/archives/2010/02/02/take-a-long-term-view-cont/

Reverse Auction Abuses

In a recent Friday Rant entitled “Reverse Auctions Have Become the Aero-Bars of Sourcing”, SpendMatters’ Jason Busch describes the all too frequent abuse of Reverse Auctions. He quotes David Clevenger, formerly of FreeMarkets, who notes that “the problem with reverse auctions may be the same as with any powerful weapon in the wrong hands”. A knife can be used for murder or for life-saving surgery.

I believe there are at least two factors that contribute to abuse. I recall Stephen Covey’s leadership example which describes the importance of both skill and integrity. A skilled surgeon lacking integrity might perform an unnecessary operation. (Think Michael Jackson’s repeated cosmetic surgeries.) An unskilled surgeon with integrity would botch the job. You need both skill and integrity!

Clevenger describes abuses such as pre and post bid negotiations and the inclusion of unqualified competitors to drive market behavior. I would add to the list Phantom Bids (i.e. no intention of moving business but merely driving the incumbent’s pricing down via a competitive exercise). Note that none of these tactics rely on Reverse Auctions. They can all be wielded with equal abuse using a paper sealed bid. These are issues of integrity that soil Sourcing’s reputation regardless of the medium. In this instance, Reverse Auctions merely automate an unethical practice.

Skill is a different issue. As a former eSourcing trainer, I was often frustrated at companies’ unwillingness to provide adequate training. There are a number of important differences with the eSourcing process and tactics. Our company always recommended both training and mentoring as buyers geared up. I must respectfully disagree with Jason regarding software vendor responsibility. We didn’t tell unskilled buyers to “go tear it up”! Conversely, we often argued strongly in favor of a thorough implementation process. Unfortunately there were far too many shortcuts with the ultimate outcome being, among other things, unintended supplier abuses.

Anyone employing Reverse Auctions must have both skill and integrity or there will be abuse. However, we shouldn’t blame the tool. Neither we nor suppliers should generalize that reverse auctions are bad. It is correct that Reverse Auctions in the hands of buyers who are unskilled or who lack integrity are bad.

However, not all sourcing professionals lack skill and/or integrity. I am not denying abuse. But I’m concerned that suppliers’ claims become another excuse to resist a legitimate tool that, when used properly, helps buyers achieve best value. Let’s not abandon a fair and effective tool because of the abuse of some.

This post was originally published on E-Sourcing Forum:

http://www.esourcingforum.com/archives/2009/09/02/reverse-auction-abuses/

What Are We Training Suppliers To Do?

We put a large piece of business out for bid telling suppliers we plan to award a five year contract with indexed pricing. Suppliers bid accordingly and we make the award. The lawyers are unable to reach agreement on the final contract terms but the supplier behaves as if the contract was signed. Three and a half years into the award period we decide to go out for bid telling the incumbent we have no obligation since the contract was never signed. What are we training suppliers to do?

The supplier provides highly competitive pricing based on Net 30 payment terms. After the fact we tell them we need Net 60. They are happy to provide those terms but need to increase the price since Net 60 will require them to obtain a Letter of Credit. We say “no thanks” but pay Net 60 anyway. What are we training suppliers to do?

In the face of uncertainty, suppliers pad their pricing. From the supplier’s perspective, the above behavior was not anticipated, at least the first time. What happens the next time we ask this supplier for rock bottom pricing? Role modeling is the most powerful form of teaching. What are we role modeling to our suppliers? We should pay close attention to that. What goes around, comes around!


This post was originally published on E-Sourcing Forum: http://www.esourcingforum.com/archives/2009/08/27/what-are-we-training-suppliers-to-do-%E2%80%93-paladin-associates-%E2%80%93-barb-ardell/

Building Negotiation Strength

Today’s economic situation is unprecedented and calls for unusual actions. As we know, suppliers are not reluctant to re-negotiate an existing contract when there have been substantial, unanticipated changes in the marketplace. Likewise, buyers should not be shy about doing the same. Although you may be under contract for the next six, nine, twelve months or longer you should approach your suppliers to discuss price relief where markets have declined substantially. Hopefully, you will have a “Meet or Release” clause to facilitate this process. Regardless, the strength of your negotiation skills becomes vital to your success!

Mark Trowbridge from Strategic Procurement Solutions recently penned an article for the Supply Chain Management Review entitled “Seven Ways to Build Your Negotiating Strength”. This is one of the best I’ve read on this topic. In particular, Mark discusses how to avoid situations that weaken your negotiating position. A number of these have to do with getting internal alignment regarding the negotiation. All company members who interface with the supplier must have the same objective and speak with one voice.The article then goes on to suggest seven ways to strengthen your position. These actions include:
1. Involve Supply Management Early and Often
2. Differentiate Between Competitive and Collaborative Negotiations
3. Prepare the Team to Fight the Tough Battles
4. Empower Negotiations through Factual Data
5. Negotiate all TCO Elements Before Entering Relationship
6. Shift the Supplier’s Paradigm
7. Leverage the Buyer’s Performance

This excellent article warrants an end-to-end read and should be archived for future reference. Your company cannot afford to be uncompetitive in this tough market which means that Procurement must deliver the most competitive prices for purchased goods and services. World class negotiation skills will help you to do that.

This article originally appeared in E-Sourcing Forum (http://www.esourcingforum.com/archives/2009/07/14/building-negotiation-strength/)

Spend Analysis vs ERP

Aberdeen Group recently published an updated report entitled: “Spend Analysis: Pulling Back the Covers on Savings” (October 2008). Consistent with their August 2007 report, the opportunity for those using spend analysis is impressive! Specifically, enterprises implementing spend analysis have been able to:
- Drive 25% more spend under management;
- Achieve a 5% to 20% cost savings for each new dollar of spend brought under management;
- Realize 67% higher savings on their spend;
- Achieve 11% higher contract compliance.

With results like these, it’s puzzling why organizations resist implementing spend analysis. One of the most common reasons offered is: “We don’t need a separate spend analysis solution. We already have an ERP system for spend analysis.” This argument typically comes from those who either haven’t tried to use their ERP system for spend analysis, or for those who are just unaware of the inefficiencies and ineffectiveness of this approach. They don’t know what they don’t know!

There are numerous benefits to a stand-alone, best-in-breed spend analysis solution.

1. Completeness – An ERP system may not contain all of your spend data. Often a company has multiple ERP systems which makes it difficult to consolidate spend data. Even when there is a single ERP system, it may not contain all spend (e.g. Corporate Travel Card, P-card, Contract Manufacturers, etc.). Or, a company may spend years getting to a single ERP system only to make an acquisition and find themselves with spend outside their visibility. Best-of-breed spend analysis solutions allow for the easy consolidation of data from disparate systems and conveniently accommodate changes in the business. This coherent view of all spend drives impressive savings!

2. Cleansing – ERP systems contain poor quality data which is difficult to correct and maintain. Brian Daniels, Partner at SpendRadar (www.SpendRadar.com), highlights a common fallacy. “The common misconception is that ERP data can simply be loaded into the data warehouse. Within the world of business intelligence “spend” data is unique in that it must be normalized and classified in order to make sense.” And, unfortunately, altering historical ERP data is sometimes forbidden because of accounting system connections. Even if allowed, it is difficult and time-consuming to correct Master Data and, once done, it will need to be re-done periodically. Conversely, a spend analysis solution provides an easy mechanism to correct data including things like misclassification, multiple supplier name variations and redundant items. These corrections are conveniently maintained as rules so that the same errors are corrected automatically with data refreshes.

3. Enrichment – ERP systems do not enrich the data. Enrichment provides information such as supplier ratings, contract performance, financial risk assessment, corporate parent/child relationships, supplier diversity status, etc. for compliance analysis and to aid in sourcing decisions. This information and its application to spend data cannot be done by within your ERP system. Spend Analysis solutions facilitate the grouping of suppliers into parent/child relationships, and the mapping feature automatically maintains corrections and groupings as data is refreshed. Aberdeen’s 2008 Spend Analysis report determined that Best-in-Class companies are 1.6 times more likely to utilize fully automated data enrichment processes allowing them to achieve process efficiencies and superior savings from fact-based decisions.

4. Classification – ERP data is either unclassified, misclassified or classified at a level that is not useful for sourcing. Classification, if done at all, is at a high level and does not provide the granularity necessary for sourcing. ERP systems are slaves to the accounting process, with spends typically classified by General Ledger (GL) account, not in logical sourcing groups. GLs tell you "who" in the organization made the purchase, or who will consume it. As sourcing professionals, we don’t care that Temp Labor was used for a Marketing event. We want all the Temp Labor spend in one bucket for sourcing leverage. Net, G/L codes rarely work for sourcing purposes. Duncan Jones, Sr. Analyst at Forrester Research puts it well, ”It’s about taking a mass of unstructured data and making sense of it, not like business intelligence, which is generally adding up numbers.” As Rod True points out in his excellent article, “Sourcing Groups – What Are They, Why Are They So Valuable, and How Do You Create Them”: “Creating these detailed item sourcing groups provides the foundation for the optimal leverage being sought through Spend Analysis and Strategic Sourcing.”

ERP data comes from disparate systems and/or is entered by diverse individuals and locations potentially using a variety of classification schemata. Those entering the data are typically not sourcing experts, which nets a high level of misclassifications. Spend Radar’s Brian Daniels posits: “What percentage of spend is currently classified as ‘Miscellaneous’ or incorrectly classified altogether?”. He suggests that an ERP system requisitioner may not:
a) fully understand the coding structure,
b) have time to manually search for the right code, or
c) care about accuracy so designates the wrong code or the infamous “9999 – Miscellaneous” category.
Brian has seen upwards of 70% of spend classified as 9999 – Miscellaneous! The bottom line is that the ERP coding can rarely be trusted!

On the other hand, spend analysis solutions allow you to correct and transform data, making changes to groupings and hierarchies, and to create rules that automatically map data to a specified standard or custom category structure. This allows the data to flex as the organization and its needs change. Importantly, this capability is repeatable thus automating classification for all future data refreshes. According to Aberdeen’s report, Best-in-Class companies are 25% more likely to auto-classify their spend thereby realizing significant efficiencies.

5. Usability – ERP systems are not user-friendly. Because ERP systems are designed for a wide range of purposes and a wide variety of users, they tend to be complex, cumbersome and not very user-friendly. They contain a lot of data, but getting it out in a usable form is a monumental task! Spend analysis solutions are designed for a very specific purpose and for a targeted audience. These solutions are “best in breed” and do what they do easily and well without any integration required. Product enhancements don’t need to compete across a broad application as with ERP, so product enhancements and new functionality are added more frequently.

6. Access – ERP systems are controlled by IT and often require IT support which diminishes access and flexibility. IT serves multiple internal customers with conflicting priorities and, like many organizations today, has suffered staffing reductions. Unfortunately, in order to access ERP data you must often “get in the queue” and wait until a resource becomes available. Or perhaps you only want to run a simple report, but can’t because the magnitude of data crunching slows or risks bringing down the system! Most Purchasing organizations want to be as self-sufficient as possible. Spend Analysis solutions manipulate the data off-line. They also contain their own standard and custom reporting capabilities. This facilitates a clear understanding of the organization’s spend, a critical input for strategic sourcing activities. The ability to “slice and dice” spend data in a great variety of ways and drill down to the transaction level, combined with virtually unlimited reporting capability frees users from the tyranny of IT schedules and canned reports.

Spend analysis takes “dumb” data and transforms it into actionable spend intelligence. Effective spend analysis is imperative for strategic sourcing, and strategic sourcing is increasingly important to business survival. This reality has elevated the strategic role of the procurement organization. According to the Aberdeen’s 2007 Spend Analysis study: “Top-performing enterprises effectively administer a spend analysis program by employing technologies that automate multiple facets of the spend analysis process, and enable organizations to more effectively leverage their procurement teams to manage more enterprise spend.” To be a top company in today’s economic climate we must equip our sourcing professionals with the best tool available allowing them to do their jobs most efficiently and effectively.

Still not convinced that spend analysis is superior to your ERP system? Why not do a “proof of concept” utilizing Paladin’s spend analysis as-a-service? This will allow you to test the value of the solution and the process for a nominal fee and with little disruption to your organization. Paladin Associates even offers spend analysis “free” when done in conjunction with a sourcing initiative performed on a gain sharing basis.

For additional information on this topic, we encourage you to consult the E-Sourcing Forum article: “Data, data, everywhere”, and the following write-up on the e-Sourcing Wiki: “ERP Inadequacies”.


This article was originally published in CheckMate News:
http://www.paladinassociatesinc.com/checkmate_vol_2_edition_2.htm

Take A Long Term View

I am a sourcing professional and my husband is a sales executive. This has made for some interesting dinner conversations over the last 30 years. I am currently working with a client on a sourcing event. The client’s sole source vendor (a distributor) has wisely placed significant “free” equipment on site which, of course, uses proprietary materials. The client doesn’t want to incur the significant switching costs nor the disruption to its operation by changing vendors. The requirements include other standard products which could easily be purchased elsewhere, but the client also wants a sole source. The distributor manages inventory for stock items on a kanban basis making the lives of the buyer and his internal customers very easy.

Over coffee, my husband acknowledged that this is a sales rep’s dream situation! The customer is “locked in” with high switching costs thereby eliminating competition. He further admitted that this situation would most likely result in higher than normal profit margins for the vendor. Conversely, this situation is a buyer’s nightmare! How does one realistically introduce competition given the circumstances? A couple of possibilities come to mind. First, we can potentially create competition among various distributors who can supply the same equipment and proprietary materials as well as the standard items. However, that could require changing out the equipment, and it remains to be seen whether the distributors will bid against one another. Another option is to take the proprietary materials off the table and bid out the remaining standard products. However, this would violate the sole source objective, and one should only pursue this if there is a sincere willingness to split the business assuming the savings justify. Bluffing with potential bidders will only damage any long term potential for competition.

It’s unclear at this point which option we’ll take. Bidding the non-proprietary products will potentially allow the client to see the premium he’s paying for the standard supplies in order to maintain a sole source. The risk, however, is that the incumbent distributor will subsidize pricing on the stock items to maintain this business and make his profit on the proprietary products. Not an ideal situation.

As sourcing professionals, our best approach is to avoid these situations to begin with. We need to help our internal customers understand that there is no such thing as “free”. We need to look at not only the short term savings for “freebies”, but also consider the long term effect on competition and the resulting impact on pricing. Without competition, we’ll never know the true cost for the “free” equipment.

Originally posted on E-Sourcing Forum: http://www.esourcingforum.com/archives/2009/04/30/take-a-long-term-view/

The Demise of Strategic Sourcing

In a recent Supply & Demand Chain Executive article entitled “Sourcing Prediction: Why the Future of Spend Management Won’t Include Its Most Familiar Component”, David Clevenger, VP at Corporate United, predicts the demise of strategic sourcing. He believes that strategic sourcing has run its course because the “piece-price savings aspect of nearly everything a company procures has been exhausted” and “low-hanging fruit has been harvested several times over”. This statement reminds me of the US Patent Office Commissioner’s declaration in 1899 that “Everything that can be invented has been invented.” Clevenger goes on to argue that the future of spend management lies in “advanced supplier and contract management, combined with sophisticated supplier development and analytics to identify and quantify new generations of savings to buying organizations.” He advises spend managers to pursue “real, productive and lasting relationships with suppliers.”

I am completely in favor of supplier relationship and contract management. However, I have several issues with Mr. Clevenger’s prediction. First, he assumes there is an absolute floor to prices. That is obviously not true as we have seen with electronics prices over the last several decades. His position assumes market forces have no impact on pricing and that there are no process or other efficiencies that result in supplier savings. With all due respect, I also think Mr. Clevenger missed the concept of “strategic” in strategic sourcing. The type of supplier partnership he describes is appropriate in certain circumstances where few options exist and there is mutual dependency between the buyer and supplier. However, there are many more situations where competition will deliver the best value (price, quality, service, etc.) to the buyer. On a personal level, do you think a “partnership” with your wireless provider or local car dealer will deliver the best results? I think not!

As sourcing professionals, we need to examine each situation and determine what is the right strategy, then do the appropriate research to assess and source best value. Where supplier partnerships are appropriate, we should pursue them with excellence. However, there remain many circumstances where a competitive approach makes sense. I predict that strategic sourcing, including competitive bidding, will be around for a long time to come. With deference to Mark Twain, the reports of its death are greatly exaggerated!


Barb Ardell
Vice President
Paladin Associates, Inc.

Originally posted on SpendMatters.com http://www.spendmatters.com/index.cfm/2009/4/17/Friday-Guest-Rant-The-Demise-of-Strategic-Sourcing