The Auction Delta

Nothing spurs on emotional debate in sourcing, more than reverse auctions. According to CAPS, they represent less than 5% of managed spend, but you would not realize that by the blood pressure changes they cause (for buyers and suppliers), who argue their effectiveness. Even being in the industry, one of the hardest questions to answer is:

How do I know the value of a reverse auction?

This question is also known as:

What is the extra cost reduction that a reverse auction brings? or,

How do I know I would not have achieved that reduction on my own?

All of these are valid questions and can be very difficult to effectively prove the value of the auction process. The connection between traditional negotiation and auction impact is always fuzzy for a very simple reason: you cannot source the same thing in two different ways, simultaneously.

In order to truly know what the auction does to a project, one needs “controls”. The first needs to be the traditional sourcing process with an RFP and negotiation, then the other control must be the reverse auction. These processes typically cannot be done together, without the suppliers knowing. Therefore, when I saw a client crossing these streams, I was watching closely. Due to some unique circumstances, we actually had the ability to see both controls in action for a real benchmark.

To begin, I would highly recommend against this practice (another reason it is difficult to assess auction value in a vacuum, as it is not best practice). In this case, the VP of Procurement had hand picked this item for auction with Iasta over a year ago. In the normal course of business, a mid-level buyer had gone out to market with a formal RFP and finished negotiations with the vendors with some award recommendations. At this point, the VP decided he still wanted to test the reverse auction, despite the internal communication problem. After some smoothing over with disgruntled suppliers, the auction process started and submitted final bids were used as preliminary bids in the auction.

  • Company: F500 organization with no recent auction history
  • Spend: ~$1,400,000
  • Suppliers: Very large global companies, mixed with some mid-sized vertically focused companies. 5 suppliers total, all of which completely qualified for the business.
  • Item: Highly spec’ed operational indirect

After the disjointed and bumpy early phases, we got the project stabilized and moving very efficiently. Like a typical reverse auction, activity was limited until the very end when the sparks started to fly. After about an hour of activity, the final results were in and our client was able to implement an additional 4.7% in savings.

This is about as close as you can come to really measuring the delta between the traditional and auction sourcing process. Of course, there are so many factors that play into these final results which might not translate to every type of project in a 1:1 fashion, but the benchmark is valid in a tough commodity.

As I mentioned, this is not a recommended process and can draw the ire of the suppliers, but we did the best that could be done to make it work well for them. However, I thought the results were fascinating, since it is so difficult to measure an auction in a straight line race with a traditional method. This event only represents one data point in the argument for auctions, but I think it is a powerful example of what this technology can do.

2 Responses to The Auction Delta

  1. Interesting results. Another benefit to reverse auctions is setting the requirements (contractual terms) up front. The supplier agrees to these and eliminates the cost of negotiating after the fact. Five percent seems like a reasonable percentage, but add the cost of resources and attorneys negotiating the contract for 1 to 6 months after the fact and it adds up quickly.

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