Beyond Awarding Business based on the Lowest Price

[First Published in BusinessWorld, also posted on LinkedIn]

"It is unwise to pay too much; but it is worse to pay too little. When you pay too much, you lose a little money --- that is all. When you pay too little, you sometimes lose everything, because the thing you bought was incapable of doing the thing it was bought to do. The common law of business balance prohibits paying a little and getting a lot --- it can’t be done. If you deal with the lowest bidder, it is well to add something for the risk you run. And if you do that you will have enough to pay for something better." —John Ruskin

It is not only a temptation but a common practice in many companies to award business to those who offer the lowest price. Executives fear if they don’t grant to the lowest bidder, they will be hard-pressed to explain to stockholders why they would be spending more than what is perceived necessary. However, it is precisely because of this practice many firms today end up sub-par in the products and services they sell.

Firms sometimes go further by changing suppliers and service providers at the end of every contract. The result is the period of adjustment from one vendor to the next would negatively affect operations of the internal organization and would ripple also negatively to the customer in terms of impact on service levels. In some cases, the costs incurred from frequently switching vendors or service-providers can compromise a firm’s customer service performance and spell doom for the enterprise.

The goal of any business enterprise is to attract, serve, and maintain customers. It is a firm’s basic mission to deliver products and services which best serve the customer’s needs. If the firm makes it a policy to get the cheapest source of materials or services for their products, it is likely losing sight of its number one goal.

As more firms today choose to outsource, the Purchasing function has taken on a more crucial role. Procurement managers not only have to ensure they keep costs down, they have to make sure that the quality of products and services coming from vendors and service-providers meet or exceed the standards of the firm.

Firms such as Toyota, McDonald’s, Boeing, and Apple have discovered that collaborating with suppliers is the better way to improve customer service and reduce cost. Firms that collaborate have learned several principles that should govern any partnership:

Shared values. Both vendor and firm believe that their partnership is focused toward the customer with an end in mind in which everyone wins. It’s a win-win-win scenario where the firm wins, the vendor wins, and the customer wins.

Long-Term Partnership. Short-term gains take a back-seat to the attainment of long-term benefits. The parties share in risk but commit to share in benefits. Suppliers are willing to invest and work with firms in large capital projects where both have a shared commitment in mutually established performance objectives.

High Level of Trust and Open Communication. Both vendor and firm develop a teamwork mentality where both target the achievement of common objectives. There is open and frequent exchange of information.

Focus on improving performance. The intent is not to gain at the expense of the other. Instead, both vendor and firm work together to identify improvement opportunities across the extended enterprise. Multi-functional teams from both the client and the supplier are formed to drive performance.

Awarding business based on the lowest price is a foregone conclusion. As one purchasing executive remarked, “We are tired constantly looking and negotiating for the lowest price. As soon as one supplier wins the contract, a new supplier will offer a lower price during the next contract. Eventually, we lose the more responsive suppliers and we are left with lowest-priced suppliers.” A purchasing executive typically has numerous items to source and negotiate for in a large company. If much of his time is spent on price negotiation and reacting to day-to-day issues, there is not much to hope for in terms of long-term improvement.

Companies, who want to succeed, form and develop partnerships with key vendors and service-providers. They invest time seeking strategic partners who have common values and principles. These firms establish ties with service-providers who do what they do best such that the firm is not distracted in its execution of its core competencies.

Everybody wins.

Mr. Jovy Jader is a Supply Chain Advisor and Regional Speaker on Supply Chain Management. He has directed and implemented Business Improvement projects both local and international which have resulted to company-wide improvements in revenue, working capital, total cost, and customer service levels. Mr. Jader is the author of the book Speed Kills … your Competition: Driving Growth Through Supply Chain Excellence – a book on Supply Chain Insights and Best Practices. Should you have questions or comments, please e-mail them to jjjader@prosultsconsulting.com.

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