Capital Equipment Sourcing: Pitfalls to Avoid

Spend Matters welcomes another guest post by Teja Kappagantula of GEP.

Procurement professionals who participate in the sourcing decisions for capital equipment often face several challenges: how to measure and derive value (especially when historical precedent is not available), how to gain the trust of the business stakeholders (especially the plant production and engineering ones), how to gain an “even place” at the negotiation table with the suppliers, etc.

In attempting to address several or all of these challenges simultaneously, procurement professionals lose on more than one count. There are a few important pitfalls that need to be avoided to ensure success in the sourcing efforts of capital equipment.

Features vs. Benefits: Many suppliers attempt to secure business by selling “features” rather than “benefits” as the business stakeholders often tend to be the unsuspecting lot. Falling for “over-engineered” and “over-spec’ed” products is quite easy. Any benefit that cannot be monetized is no benefit at all. This is how benefits differ from features:

  • Benefits help in getting the best value for money as it avoids the bias towards the over-engineered products
  • They ensure “apples-to-apples” comparisons of different product solutions proposed by different suppliers. Every product is compared on the basis of to what extent the product meets the requirements at hand
  • They define the baseline for measuring the value of procurement’s efforts

TCO is not over-rated: Although the concept of using TCO models for sourcing capital equipments is quite old, the half-baked TCO approaches used by many procurement professionals result in more harm than good. TCO approach is not a check box to be ticked but a “make-or-break” tool for sourcing efforts of capital equipment. Some common pitfalls to avoid with regards to TCO models for capital equipment are:

  • Ignoring minor cost components while designing the TCO: Thorough due diligence addressing all the cost components is essential for the effective use of TCO. Conducting the sensitivity analyses on as many cost components as possible will ensure that the TCO model helps determine the “best value” product. Some supposedly minor cost components that account for less than 5% of the total cost often hold potential for substantial cost savings
  • Doing the TCO analysis for a fixed life time for all the product solutions: Some procurement professionals mistakenly think that conducting the TCO analyses for fixed life time is doing an “apples-to-apples” comparison. Not every product solution has the same useful life time and salvage values. Total life cycle cost calculations reveal the “best value” product solution
  • Not monetizing benefits: Associating monetary value for each and every “benefit” is easier said than done. But challenging the supplier to do so helps identify the right “cash inflow” components of the TCO model

Avoiding the aforementioned pitfalls is definitely not the be-all and end-all of sourcing capital equipment. But doing so ensures that procurement professionals can play a significant and appreciable role in deriving value out of capital procurement efforts.

For more interesting thinking on procurement, visit the GEP Knowledge Portal.

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