Open Book – great, but how do you use it to drive benefits? (Let’s ask Margaret Hodge)

Open book. We all know what that means, don’t we in the context of working with suppliers?  It’s a good thing, right? Open book contracts (or bids) allow us to see what our suppliers are up to and understand their business. How much profit they’re making out of us, for instance.

But open book is not a useful technique or process in its own right. It delivers absolutely nothing in itself. If I have the right to see a supplier’s financial or indeed other data, it may tell me various things, but it only has benefits if we then do something with the knowledge and information we have gained.

That’s what is often not understood by people inside or outside procurement. I was both fascinated and appalled by the recent debate in UK government circles, when “open book” became the flavour of the month in various discussions and reports. Fascinated because it is good that politicians are getting into quite detailed issues around how government suppliers are rewarded, managed and incentivised. Appalled because it was clear that their understanding was at a real surface level.

At a recent UK government Public Accounts Committee hearing, I longed for one of the CPOs who were being beaten up by the politicians on the committee to say, “OK, can you just explain to me exactly how you would like us to use open book in our contracts and negotiations with Capita or G4S”?

No-one asked the key question – “how are you going to use open book to drive benefits”?

And open book brings with it some real dilemmas, in public or private sector. Let’s take an example. Assume in this case that open book applies from the earliest stage, and that we have the visibility from the bidding or tendering process. Suppose a supplier wins a contract through a formal procurement process, in the public or private sector. But in any case, on the combination of whole life costs and other non-cost factors (quality, service, whatever) assessed, Smith and Co win the competition, fair and square.

Their open-book proposal shows that they are making a gross margin of 25%, and a bottom line margin of 10% (after overheads). How are you going to use that information? You can imagine a negotiation with the MD of Smith and Co that goes like this.

“Your overheads look on the high side. We would expect them to be more like 10% than 15%”, (you say, inventing some numbers, because really you have little idea of what a “correct” level of overheads should be in that industry).

“But we believe our overall prices are very competitive – and we categorise some costs as overheads which actually relate to processes that allow us to reduce our direct labour costs. That makes our bottom line very competitive”, says the MD.

“And 10% margin – that looks high. We think suppliers to government (or Shell, or Tesco, or whoever) should only make 5%”.

“That return wouldn’t satisfy our shareholders and would not enable us to invest for the future. Our return on capital is around the industry average, and our margin is respectable because we are good at what we do. Would you rather we increased our prices, worked less efficiently and made a lower margin”?

“Well, it’s just too high”.

“OK, then you better choose another supplier who is offering you a poorer product, at a higher price, but with a lower margin”.

You can see the problem. And in the public sector, there is also legalisation around how procurement must be conducted. A key reason for that is to try and drive fair and open competition, which should deliver the best value results to the citizen and taxpayer. If you believe in those principles, that will result in a market outcome, and a market-determined pricing structure and margin.

Now we know markets aren’t perfect, and at times governments do need to intervene. But if you think that officials or politicians (like Bill Crothers, Francis Maude or Margaret Hodge in the UK) are better placed to determine a “fair” price and a “fair” margin for government suppliers, compared to robust procurement processes and markets, then good luck to you. Your faith in what is effectively a command economy approach is touching, but you might want to remember North Korea or East Germany.

First Voice

  1. Old Sage:

    Peter, I was once in “discussions” with the Sales Director of a large multinational organisation when we got round to exploring open book techniques. His position was simple and is summed up by his statement “which particular open book accounts would you like to use?” The point being that even if you know how you want to use them, the supplier can always make them reflect what they want and in accounting terms, quite legitimately. So do they have any value or are they just another technique that suppliers use to try to win over customers?

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