S Venugopal, general manager, commercial at Brigade Enterprises, India, explains the value of using procurement decision models as part of your purchasing strategy.
The common purchasing strategies adopted by corporations are vendor partnering and competitive buying. Neither is ideal.
If the choice is vendor partnership, a sense of uncertainty prevails on the credibility of the chosen partner. There is a nagging doubt whether the partnership has brought value to the purchasing company or ended up being a partner in the inefficiency of the vendor.
On the other hand, the process of competitive bidding brings lower cost of ownership to the buyer. Yet does it bring highest value to the corporations and their stakeholders, including customers? Will buyers and vendors look at this as merely a spot opportunity or look beyond this event to cooperate and partner in value creation?
In India, competitors in the telecom and automobile sectors have been fighting some of the fiercest battles in the marketplace. Justifying the reason for the price hike in cell phone tariffs, a leading telecom firm stated: 'Continuously declining margins, high 3G and BWA auction prices, constrained spectrum and rural roll out aspirations leave us with little choice but to make some price corrections.' This shows that competitive bidding alone may not necessarily bring highest value to all stakeholders.
A more reliable method of analysing purchasing risk is required. Vendor partnering brings long term sustained mutual benefit but the process of competitive bidding helps corporations derive lowest cost of ownership. Corporations are looking for both. Hence, the solution lies in a combination of vendor partnering and competitive bidding.
Based on years of experience in the field of strategic procurement I have developed this requirement in a procurement decision model for buying. Under this model, buying companies need to identify the importance areas and the sub importance areas of each buying decision. Every competing vendor is scored on the individual parameters. The model is explained below with a step by step illustration (click to expand the image):
Step one: identify the areas of importance for assessing competing vendors
In our example we have identified two areas: commercial with 60% importance and technical with 40% importance.
Step two: identify the sub areas and attach the importance numbers to the sub areas
The total of the sub area importance within each area adds up to 100 points. In our example we have identified three sub areas for the individual area.
We can vary the number of areas, sub areas and the importance points attached to them, based on the complexity of the product or service being purchased.
Step three: attach the scores for the individual sub areas under technical area for each short listed vendor
To give a fair score, the percentage points for sub areas in a technical area can be attached by an organisation's buying committee, comprising people from a technical background. We could also invite experts from industry to provide the technical score.
Step four: the percentage of test scores multiplied by the sub area importance gives the sub area score
The summation of the sub area scores multiplied by the percentage area importance gives us the overall score for the technical area. The buying organisation may wish to publish the technical scores of the competing vendors before the start of competitive bidding. Alternatively it may choose to publish them after the bidding event, or not publish them at all.
Step five: obtain the scores for the sub area under commercial area
This can be obtained from competitive bidding or the reverse auction process.
Step six: the percentage test scores achieved by the vendor are multiplied by the sub area Importance to give us the sub area score
The summation of the sub area scores under the commercial area is then multiplied by the percentage area importance of a commercial area to give us the overall score for the commercial area.
Step seven: add the individual scores in the areas of importance to arrive at the total overall score recorded by the vendors
The procurement decision model takes into account all the areas and sub areas of importance defined by the buyer. Thereby the model blends the commercial advantages that is derived from the process of competitive bidding with the technical advantages proposed by the competing vendors. The vendor with the highest score under this model provides the best value to the buyer.
Most traditional purchasing decisions contain elements of bias and prejudice, which is natural. This is reflected in our decision making and our opinions.
Scoring the product on the importance areas and the sub importance areas as detailed in our model will comprehensively reduce prejudice. This will help purchase managers to attach objectivity to their decision making.
The litmus test for an effective purchasing strategy is that it must be a non zero sum game or a win-win situation among the participants. A win-win situation will encourage buyers and vendors to build partnerships for mutual benefit. It will permit the parties unhindered access to each other’s knowledge bank and thereby respond to the market change in an efficient manner. Corporations will be able to renegotiate pricing or services to keep themselves and the vendors profitable.
In contrast, any buying decision that relies heavily on pure commercial considerations is only a spot opportunity and thus a zero sum game. It is opportunistic and hence not sustainable in the long run.
Links
CIMA in business