Kathryn Miller, senior sourcing associate at Eli Lilly and Co., has figured out a way to use an e-auction tool to determine MRO contract pricing that covers both planned and unplanned maintenance, repair and operations purchases. Lilly, a pharmaceutical company, is based in Indianapolis.

Miller, who holds a degree in civil engineering and an MBA, says she was challenged by management at Lilly to use a newly purchased e-auction tool for MRO items when she first stepped into her role in the company's corporate MRO sourcing organization in 2003.

Miller's group at Lilly, which reports to engineering, buys "all kinds of items." The company has a computerized maintenance management system (CMMS) that holds bills of materials for spare parts for equipment it uses to make pharmaceuticals. It also keeps inventory records of items the company uses that get charged to work orders for planned maintenance jobs.

"While we have a lot of items set up in the system, there's only a small percentage that we buy regularly," says Miller. "But they're in there because we know we may need to buy them at some time." All the items in the system are identified by description, manufacturer name, and manufacturer part number.

And then there are items the company needs to buy that haven't been identified in the system. The item may be new or peripheral to the equipment the company uses in its plants. "We also buy those items but we don't know what they will be or when we are going to need them before we need to buy them," she says.

In the language of MRO purchasing, Miller is talking about planned and unplanned buys. Unplanned MRO items typically are the bane of purchasing professionals. Often, purchasing pays a premium to have the item delivered on time so the delay doesn't stop production.

"When we issue an RFP (request for proposal) to a group of suppliers, we can't always tell them what we are going to buy," says Miller. "We can do a query of our CMMS to determine what we bought in the past and which items are turning in our inventory. We can put together a market basket and ask suppliers to come up with a price for it. But we can't request pricing for everything we may need to buy in the next three years."

For the market basket, Lilly selects roughly 100 items and lists them on an Excel spreadsheet by description, manufacturer, part number, unit of measure and annual usage.

So Miller came up with the idea of asking suppliers, as part of the RFP/e-auction process to establish an overall pricing strategy, apply it to each of the market basket items and code the calculations into the spreadsheet so the supplier can make adjustments to the strategy as necessary during an e-auction. The total market basket cost is the bid item, but reflects the supplier's chosen price strategy.

The supplier submits the spreadsheet to Lilly before the auction with the total price of the items in the market basket based on the calculations. The company asks at least three suppliers to participate in each auction.

Miller says that strategies selected by suppliers reflect the way the company wants to do business with Lilly. Some suppliers may use a pricing strategy based on percentage mark-ups for each item. Others may discount list price, or price items according to whether they provide them as a first-tier supplier or obtain them through a third party to sell to Lilly.

"They know their costs when they do the initial spreadsheet and submit it with the response to the RFP," says Miller, adding that the purchasers at Lilly get a good idea from this whether the supplier has the capability to supply the range of items.

At the auction, suppliers see their prices and the lowest bid for the total market basket. To submit a lower bid, they may make adjustments to the pricing strategy they initially established for each item. Their adjustments recalculate the prices and total market basket cost.

"This way, we get a low bid for the market basket with a pricing strategy that we then can apply to all items we purchase from the supplier whether we know what they are or not," says Miller.

Once the auction is complete and Lilly has the pricing strategy of all the suppliers who participated in hand, the purchasers then consult with the sourcing team to come to a final supplier selection. Miller stresses that the choice is not based solely on price—price is only one criteria considered. In other words, the supplier that bids the lowest price is not always awarded the business. The company also considers and weights responses to other questions on the RFP such as those regarding service levels.

Once the purchasers select a supplier, they then plug that supplier's pricing strategy (as used in the auction) into its contract. "If we weren't bidding this way, and we didn't know their strategy, we would be writing a contract without knowing how pricing plays out," she says.

Contracts are typically for three years, and contain a series of metrics suppliers must meet such as performance to service levels, cost savings ideas and percentage buys through diversity suppliers.

Miller occasionally audits supplier pricing to ensure it's on track. To date, the company has held about five auctions for MRO items such as electrical, HVAC (heating, ventilation, air conditioning), PVF (pipes, valves, fittings) and tools. Citing confidentiality issues, she was not able to provide Purchasing with figures that demonstrate cost savings to Lilly from using e-auctions this way.

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