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April 20, 2009
King's Corner

Hey Procurement, Don’t Shrink the Market!

Imagine if you were in the market for a new home, and you elected to utilize a realtor to show you around. You give the realtor your parameters, e.g. north of Main but south of Maple and east of Elm and west of State. You give them the high end of your price range and you’re off and running. Or so you think. How would you feel if your realtor intentionally excluded homes within your price range and within those parameters? How would you feel if you found out later that it was because the realtor had made arrangements to only show you homes from particular builders and particular selling realtors? Even worse, what if you found out later that the best homes for the value were the ones that were excluded from your viewing?

As anyone who has ever been in the market for a home would attest, shrinking a market for proposed buyers is inappropriate and largely unfair. It diminishes the buying power from the buyer. It diminishes the ability to negotiate due to perceived reduced supply. And it may in fact eliminate the “one” from contention.

So why am I writing about the ethics of realtors in an IT & Management Consulting blog? Because the correlation of this analogy to Procurement offices cannot be overlooked.

The role of procurement offices can not be understated. Without good procurement practices, companies can be losing money through opportunity costs, i.e. the opportunity to reduce expenses. Whenever two companies (one the seller, one the buyer) do increased volumes of business together, a procurement office can utilize leverage to seek volume discounts. This is a good business practice. Further, procurement offices should act like a realtor. They should be constantly assessing the marketplace (be it for software, for testing resources, project management resources, hardware, etc.) to understand “value” and ensure that the company is not overpaying for any of these products and services. Again, these are good business practices.

Still, why am I writing? It’s when Procurement offices endeavor into the world of “preferred vendors” and “resource management” services where things get a bit dicey. By defining some firms as “preferred vendors” and communicating that you will only do business with “preferred vendors”, you’ve shrunken the market, not to mention help defeat entrepreneurialism. Supporters of the idea would say, “we assessed the market, looked at past performance, past volumes, negotiated discounts, etc before we made these decisions…we are happy with these decisions”. I would say, that decision is only valuable on the day you made that decision. Markets are constantly changing (i.e. see entrepreneurialism comment above), and by limiting the market on a given day, you are not allowing yourself to take advantage of market changes that could be to your advantage. Some would argue, “we constantly reassess (e.g. every six months) to re-confirm our preferred vendor list”. I would counter, that may not be frequent enough. You may need to do it daily.

Case in point, I have personally worked as a “subcontractor” in the past in a “corp-to-corp” arrangement. I quoted my bill rate to the “preferred vendor” and then the “preferred vendor” added in a 20% margin to charge the client. Had my company been able to work as a direct vendor, the client could have saved 20%. Upon further review, I noticed that the vast majority of consultants at the client were in similar arrangements. The company in question spent $50 Million dollars on 250 consultants in this type of arrangement in one year (i.e. one year being the frequency in which they review preferred vendors). That’s $10 Million they could have saved if they were willing to do business directly with these vendors. Now, I do recognize that the preferred vendors perform some additional services for the client. Examples include consolidated invoicing, resume reviews, candidate screening, etc. These are valuable services, no doubt. But honestly, do you REALLY think that the screening, reviewing and invoicing of 250 consultants costs $10 Million Dollars?

In summary, it’s great to negotiate rates with high volume vendors. It’s great to assess the market and recognize the ones that have consistently brought value and reward them for that. However, be careful not to “lock in”. It may end up costing a lot more than what you would have “preferred”.

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