How many suppliers should I have in a reverse auction?

A few years back we did some work with Oxford University. They were interested in how procurement auctions fitted into the bigger auction picture. We were interested in finding out how in line with auction theory we were. I was looking through my old material from that study and I want to share a neat graph from that work that models how expected savings rise the more suppliers you include in an auction.

 

If you assume that all suppliers in a marketplace have a price evenly distributed between a low price and a high price then, on average, the savings you would get increase as shown in the graphic above. This helps emphasise that 4 bidders is a good number for a reverse English auction, as I have often said. But one thing to clarify: this is a model – you can do better than the model by ensuring that when you select potential suppliers that you are selecting suppliers who have a lower price rather than selecting suppliers at random from the marketplace.

Does Procurement eAuction Design Matter? (part 5)

I am sometimes nervous of showing this information because it is a warts-and-all summary of the case where we have managed a reverse auction for the same client, for the same category, two years running.

But it does address one important assumption that many people have about reverse auctions in particular and strategic sourcing in general. This assumption is that, once you have reverse auctioned (or strategically sourced) a category, there are no further benefits to be achieved by reverse auctioning it (or strategically sourcing it) again.

So here’s the slide. It shows the savings from 6 different categories which were auctioned two years running. The blue bar represents savings in year 1; the orange bar the further savings in year 2.

In some cases you make larger savings in year 1 than in year 2. In other cases you make smaller savings. In some cases the price goes up. (This is life, right?). The simple point is that there is no simple rule that says you cannot run save money by running a reverse auction on the same category twice. (*)

It’s not even (just) as simple as tracking the general price trends in the market. A colleague once told me the following story about some paper products.

We had a client who had recently auctioned some paper products. They had achieved a good price and since their auction the paper price indices had risen. So they were understandably nervous about what would happen if they went back to market. What they didn’t know was this in the meantime one of the large banks had just completed a significant consolidation exercise in the same category. In other words, while some suppliers to that bank had seen their orders increase, there were many suppliers who had suddenly lost a customer. Ironically this meant that despite a rising market there was a lot of surplus capacity in certain sections. To cut a short story shorter our client did go back to market and did secure a further (modest) saving.

So tip number 3 – which again is as much a strategic sourcing issue as it is a reverse auction issue is: Know your market, and get as far behind the headlines as you can.

Back to a strictly auction tip in my next post.

(*) If you are facing price increases, then running a reverse auction is a great way of minimising those price increases.

Does Procurement eAuction Design Matter? (part 2)

You’ll be glad to know that this post is shorter than part 1. On this slide of the presentation I broke the 10/20/30 rule by using bullet points and font sizes of 14 – 16. Oh never mind.

Not all eAuction designs are created equal. Choosing the right eAuction type is an important step in maximising the benefits you can achieve from the event. Here are 3 examples I often use:

Hygiene Services

• Saving from RFI only: 17%
• Suppliers did not know there was going to be an auction involved
• Saving from RFI + Auction: 39%

In this case a potential client had already run their own sourcing exercise, achieving a 17% saving for Hygiene Services. TradingPartners was challenged to see if an eAuction would do better. To cut a long story short, the eAuction did much better, increasing the 17% saving to 39%. Now, in theory the buyer may ,have been able to negotiate some slight increase in savings beyond the 17%, but would not have been able to get to the 39% saving level without an eAuction.

We see this time and again with eAuctions: With open competition you get a better result than through doing your sourcing offline.

Consultancy Services

• Saving from a normal Reverse English Auction would have been about 12%
• Run as a Weighted Auction and so delivered saving of 18%

This auction was the first one run in the UK under the 2006 procurement regulations. These regulations state that, if an eAuction is used in the public sector, then the winner of the auction must win the contract (with certain caveats). These regulations have driven increased adoption of weighted auctions. Interestingly enough, weighted auctions often achieve greater savings than would be possible under simple English price-only auctions. This is because they do a very good job of levelling the playing field amongst higher price/quality and lower price/quality suppliers. And is another reason why weighted auctions should be used far more by buyers than what is currently the case.

Levelling the playing field amongst suppliers by using weightings improves the results for both buyers and suppliers

Dairy Products

• Saving from a normal Reverse English Auction would have been at most 5 – 6%
• Run as a Japanese Auction and so delivered saving of 12%

I still remember fondly the first Japanese eAuction we ran in the back end of 2005. The market place for this category at the time was very tight. So an English eAuction wouldn’t have been a great choice. So we ran it as a Japanese eAuction and got a dramatically improved result. Again, you can speculate that with judicious messaging, for example, you might have been able to achieve more than the 5-6% savings we calculated would have been achieved under an English auction. But again, an English eAuction would never have been able to achieve this increased level of saving.

Use particular auction types (e.g. Japanese or Multi Directional) when the market conditions dictate

Savings from Reverse Auctions

Aberdeen recently published (27 July 2007) a Sector Insight on the state of savings being generated across EMEA through the use of eSourcing technologies: EMEA: Advanced Sourcing Leads to Tangible Results.

This report quotes an average saving of 11.5% in North America vs 12.4% for EMEA. To me these figures look a bit on the low side, but hidden away on page 3 is an innocuous sentence that helps explain:

EMEA organizations are interested in e-sourcing event managed services (27%), supplier performance management programs (22%) and collaborative sourcing (21%); these technologies should further improve the realized cost savings.

In other words, the single greatest factor for increasing savings is to invest in event managed services. Obviously that comes at a price – so organisations need to weigh up the value of managed services against the costs – but it is gratifying to see Aberdeen recognising that not all electronic reverse auctions are created equal, and that managed services increase the benefits of electronic reverse auctions.

Small plug: Coincidentally, this report from Aberdeen is out in the same week as my new White Paper: “Does Procurement eAuction Design Matter?” which gives a number of examples for improving the results from eAuctions.