To increase cost savings over the long term, companies should focus on competitive bidding to determine pricing, followed by collaborative engagement with supply partners. Typically, buying organizations will use several rounds of competitive bidding to select a low-cost supplier, and then send out Request(s) for Quotation (RFQ) to solicit bids from multiple suppliers. While this process is effective, it can have the negative effect of reducing the interaction to one that is merely transactional.
In this context, larger companies have the advantage of being able to reduce their costs by using expensive, information-based technology (e.g., electronic reverse auctioning). Smaller companies, however, do not usually have the same access to expensive technologies and can end up tying up numerous resources in the bidding process.
Below are several considerations to allow your organization to move beyond traditional, transactional “arm’s-length” RFQs to save time, strengthen your supply base, and reduce costs.
Transition from Multiple Bidding Rounds to a Single Round to Attain Best Pricing
Our research and experience indicate that several iterations of the competitive bidding process do not necessarily result in the lowest price. Why? Suppliers know the game and pad their quotes, accordingly, from beginning to end.
Data indicates that the most effective way to obtain the lowest bid is to tell suppliers that they will only have one chance to bid/quote the business. If convinced, they will deliver their best quote the first time around. However, very few companies actually make bidding a one-shot deal. Most companies are too focused on the perceived effort needed to optimize costs and are not convinced that the one-time-only quoting cycle actually generates the best results.
Evolve your procurement process to focus on a single bidding round. This may take some time to adjust to, but will ultimately save valuable time, reduce cost and increase the speed of sourcing as a result.
Maintain Suppliers Profit Margin to Maintain Stability
Another problem with competitive bidding is that it ultimately results in pricing war between suppliers; a war that reduces their profit margins. If a supplier charges $1.00 per part, with a production cost of $0.90, that’s a 10% margin. If, after several rounds of forced rebidding, the supplier charges you $0.98 per part, you are paying less per part, but you’ve reduced the supplier’s margin from 10% to 8.9%.
Smaller companies with larger industrial customers have often been victimized by such short- term approaches. Profitable suppliers are healthy, stable suppliers that lower costs reduce your supply risk. Reduced costs are great, but it benefits you to ensure that your suppliers are making enough profit to deliver promised goods and services.
Reduce Your Cost by Partnering with Suppliers to Reduce Their Costs
So, why would a smaller company use the same ineffective tactics on its own suppliers? In a perfect world, buying organizations would sit down with suppliers and help them reduce their direct costs (e.g., labor and material). The majority of a supplier’s costs are probably already coming from direct labor and material which means there are probably some significant cost savings to be had. What if you could help a supplier cut their direct costs by 30% and then tell them they can still keep the 10% margin? That supplier would say thank you because their margins do not change. They are just more cost competitive and probably end up getting more business because of it (and you now pay around $.70 per part). Adjust your mindset from cost reduction to supplier partnership to deliver mutual value to the end customer through a reduction of your suppliers’ costs, not their profit margin.
Further, there is nothing preventing a smaller supplier from asking its larger customer for assistance in reducing its direct costs. A larger customer probably has the resources and skill sets to offer just this type of assistance. It would also demonstrate the cost improvement intentions that customers often seek in suppliers.
A recommendation for smaller companies is to take a strategic approach to their sourcing decisions, even for commodities. That often requires a careful analysis of how its customers manage them and perhaps not necessarily using the same tactics with its own suppliers. Smaller companies can look to the ineffective tactics of their customers to better manage their own supply chains. Perhaps the customer will then ask the supplier for help.
Remember, it might be easier in the short term to ask your suppliers to rebid again and again, but next time collaboratively work with your core supply partners to identify cost savings opportunities and share in the cost savings together. This long- term approach to one- shot bidding and collaborative costing reduction initiatives will lead to stronger supply- partner relationships and enhanced supply chain customer value.