Markets are not just about suppliers and their products. They start with demand stemming from specific market baskets that satisfy the needs of individual firms. In Part 1 of our analysis, we mentioned a recent “watchdog firm” report that argued about case precedence from 1997, when Staples previously tried to acquire Office Depot but was shot down in part due to an analysis that showed pricing increased statistically with competitive office superstore choices in a given market. The report also cited a Sysco case where:
“The Sysco court correctly observed that a product and customer can ‘converge’ to form a distinct relevant product market, including, for example, when the ‘customer’s requirements operate to define the product offering itself.’”
In other words, how you consume supply matters. The way you define your market basket and how you select suppliers against it matters:
- in the short term for your immediate needs,
- in the medium term when it comes time to renew the contract or not,
- in the long term as supply markets evolve to meet the requirements of other large buyers.
In the short term, there is nothing wrong with finding new ways to segment and supersize your spend, but if your objective is to minimize your supplier counts (per billion of spend) and try to maximize your aggregation leverage and purchase price savings (per billion of spend), then don’t be surprised if you have buyer’s remorse – or “spaver’s remorse” – when your “winner-take-all’ strategy backfires in procurement systems as well as in office supplies over the longer term.
Part of this issue ties to the classic “lotting problem.” If you bid out each line of SKUs, you have many choices (e.g., you can likely use Amazon Business rather than Staples rather easily), but suppliers won’t see enough volume to discount heavily. So, you have high availability of substitutes, but you don’t have enough demand in your market basket to create leverage. But if you present a mega market basket complete with lots of value-added services that favors a mega supplier – like a Staples Advantage program with print services, diversity program support, IT services and high-touch fulfillment to complex corporate campuses – you may get rewarded with lower prices – unless of course the supplier sees itself as having the clear advantage as the only game in town. So, while you have the volume for leverage, you effectively can’t find a single supplier who’s really driving lowest cost.
This lotting problem was seen 20 years in truckload freight bidding before combinatorial optimization tools for “expressive bidding” began being used to truly the optimize the value from supersized market baskets. Of course, the challenge of “winner take all” as a bad sourcing strategy for mega market baskets can be seen in office products, MRO, marketing, direct materials and even in selecting procurement technology itself.
The real power of these tools is not just the ability to manage highly overlapping bids in big market baskets and letting suppliers “expressively bid” to put their best feet forward but also the value of modeling total costs, understanding trade offs, identifying the “costs of constraints” and developing team-based scenarios to make the best decisions. It’s basically a formal process to align business strategy to supply/category strategy at the execution level – and that is a very good thing indeed.
As a side note, combinatorial optimization is an interesting field of study and one that I recommend every supply chain practitioner understand not just because of its rich history – going back to late 1700s – who knew?! – but because it touches on many areas across both procurement and the broader supply chain, including bid optimization, game theory and supply network design, which can be extended into the supply base.
Game theory is an important area related to competitive strategy and to negotiations strategy. It’s important to understand how suppliers are segmenting you and how they will negotiate based on their motivations, metrics and objectives. This leads me to a discussion of Porter, Krajlic and some of the unintended consequences of strategic sourcing. Don’t worry, I’ll keep using the Staples example here to stay on track. Stay tuned!