Reverse auctions become more strategic for buyers
James Carbone -- Purchasing, 12/8/2005 2:00:00 AM
About five years ago, many electronics companies began using reverse auctions as a way to get a better price for parts from suppliers. Buyers said they often received 20% or more price reductions by buying parts through reverse auctions.
However, the reverse auction model is evolving and many companies are using reverse auctions as a way to gain valuable information, not just to purchase low-cost parts.
"Buyers are not just using reverse auctions tactically. They are using them as a strategic tool," says Chris Ruth, vice president of strategic sourcing services for Procuri, an e-sourcing software provider based in Atlanta.
Best practice companies are using reverse auctions to collect price information and drive down prices, but are also tying auctions to an overall e-sourcing strategy, says Ruth. They are awarding business through e-auctions, but only after doing a total cost of ownership (TCO) analysis which factors in supplier quality, delivery performance, availability, technical support and other criteria.
"At the end of the day, you want to weight each of those items and make a TCO decision that is based, not just on price, but all those criteria" says Ken Leinweber, worldwide operations e-sourcing program manager for Sun Microsystems in Santa Clara, Calif. Sun does numerous reverse auctions per year, buying displays, application specific integrated circuits, memory ICs, disk drives, power supplies and other production materials. Sun spends about $1 billion per year in reverse auctions, says Leinweber.
Sun uses e-procurement software from Procuri, which has a ratings features that factors in supplier performance in different categories. Sun scorecards suppliers periodically and uses that scorecard data in the Procuri tool to help determine TCO. Leinweber says looking at TCO is important because sometimes one criterion, such as availability or quality, may be more important than lowest price.
"For example, if we were coming out with a new product and there is going to be a steep ramp-up, where we would need to get to high volume quickly, availability is going to be a critical piece of that sourcing decision," says Leinweber. A supplier may have the lowest price in the reverse auction, but if the supplier cannot supply the large volume of parts for the production run, another supplier will get the bulk of the business even if that supplier has a higher price.
The same is true with other non-price criteria. The vendor may not get the business simply because the supplier has the lowest price.
Using TCO criteria sends a message to suppliers that Sun is not just interested in price, which helps to maintain relationships with suppliers. That's important because Sun is dependent on many of them for technology development.
Sun has some simple rules for reverse auctions, some of which help make sure suppliers are treated fairly and efficiently. One rule is that buyers must make sure all suppliers get the same information about the auction so they all have an equal chance of evaluating the requirements. "Then after you do the event, you don't do manual negotiations on the side," says Leinweber. "If you do side negotiations, you ruin the integrity of the event and suppliers won't do them anymore."
Another rule is to make sure there are enough suppliers. Three or more supplies are preferred.
It is also necessary to make sure management is aware of the auction. "You don't want to hold an auction and then present the results only to have management respond with, 'that's nice but we have to keep this supplier at this percentage range of business,'" says Leinweber
The number of reverse auctions is likely to increase over the next several years. One reason is interest in e-sourcing keeps growing and reverse auctions are part of e-sourcing, says Sean Devine, director of consulting services for Emptoris, an e-sourcing software provider based in Burlington, Mass.
Another reason that more reverse auctions will be conducted is they are easier to do than just two years ago. In the past, a reverse auction was a major production, according to Kevin Potts, vice president for marketing for Emptoris.
"A platform was set up for one event and then a consulting team would come in and work with commodity managers to define what the specifications were. They'd set up the auction and invite suppliers," he says. Now reverse auction software is on a buyer's desktop and auctions are easier to set up. More will also be conducted because there are other benefits besides price reductions.
Often there is "price compression" with reverse auctions, says Devine. "In some reverse auctions you don't get any lower price than you could have gotten through a traditional negotiation," he says.
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