Procurement 2020: Intelligent Markets for Sourcing and Long-Term Thinking (Part 2)

We are pleased to post the second part to Procurement 2020: Intelligent Markets for Sourcing and Long-Term Thinking (Part 1) by Dr Alan Holland, Keelvar. Yesterday he discussed 'Abandonment of Sole Supplier Contracts' and 'CPOs to Receive Long-Term Contracts.'

3. Data-Driven Decision Making  

Relying on intuition as a basis for decision-making has been resoundingly proven to be a poor substitute for evidence-based approaches. A simple experiment conducted highlights this clearly.

In Cohort A, participants were asked:

Question 1: is the average price of a German car above or below $100k?

Question 2: to guess the average price of a German car.

In Cohort B, participants were asked:

Question 1: is the average price of a German car above or below $30k?

Question 2: to guess the average price of a German car.

The results were amazing, Cohort A guessed an average price that was a full $35k above the average guess of Cohort B.

This above example illustrates how 'anchoring' can completely sway people's decision-making skills, and makes clear the need for evidence-based approaches to determining whether value for money is being achieved in sourcing exercises.

Many suppliers use anchoring when pricing because many recognise its importance. Procurement teams often quote savings in terms of discounts off regular ‘rack rates’ or the percentage price decreases in an eAuction from the initial bids. These are both poor indicators of value and don’t offer worthwhile evidence of good performance, in terms of savings, yet examples of procurement professionals citing savings in this manner abound.

We predict that spend analysis will increase penetration levels as CPOs seek evidenced-based assessments of prices paid for goods and services within and outside of their organisations. The objectives will become clearer and more transparent.

4. Sourcing Optimisation to Become Standard

For larger sourcing exercises, the predisposition of sourcing professionals to design arbitrary lots in the belief that it is possible to guess in advance how supply contracts could be divided efficiently will be phased out. The problems with this approach are numerous and include: inhibited market entry, poor access for SMEs, implicit cartel formation and higher costs. The lots never allow vendors to describe accurately their strengths or footprints so they can offer best value for money.

Sourcing optimisation involves subdivision into many small contracts and invites bidders to communicate their footprints across product lines or geographies with greater expressiveness. The finer 'resolution' and price revelation provided when bidders can price with precision (and describe economies of scale across these contracts using contingent discounts) unlocks more data and evidence as to how an award may be split among suppliers. This approach also facilitates the imposition of buyer-side business constraints (e.g. We need at most three suppliers in the South East and we can only switch 50 percent of contracts from incumbents). Once buyers try this approach they typically never want to switch back and we predict that this approach will continue to grow in popularity.

Sectors to Lead the Charge

The transformation in sourcing will be led by sectors with the biggest need, those most receptive to embracing innovation and those with the technical ability to deliver change. Mature industries and those that are heading for more turbulent times will be most incentivised to streamline processes. These include:

  • Automotive
  • Retail
  • Pharmaceuticals
  • Telecommunications
  • Media

Overall, the main theme emerging within sourcing transformation will be increasing sophistication, and also rising recognition of the importance of the function within organisations. The organisations that retrain and re-tool in order to meet these challenges will be better placed to help their organisations become market leaders in their respective domains.

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