Category Archives: Auctions

The Role of Optimization in Strategic Sourcing – Optimization and Reverse Auctions

This series discusses the recent report from CAPS Research on “the role of optimization in strategic sourcing”. The primary goal is to highlight, clarify, and, in some cases, correct parts of the report that are important, confusing, or incorrect to insure that you have the best introduction to strategic sourcing decision optimization that one can have.

In this chapter, the benefits of using optimization with reverse auctions are discussed and a number of case studies are presented. Specifically:

  • Fasteners #1
    Before the event, which was conducted as a reverse auction followed by an optimization-based analysis, the suppliers were projecting a 20%+ price increase. After the two-stage event, the end result was an increase of 11%, which was split among one new supplier and two incumbents, while two incumbents lost business.
  • Fasteners #2
    A company decided to centralize its buy across eight business units. A reverse auction followed by optimization-based analysis identified savings of over $80,000.
  • Shelving
    A shelving buy for 35 stores covering 150 items from 10 different sources realized a total savings of 10% when optimization was applied after a reverse auction.

Next, the chapter discussed the challenge of tiered and bundled bids. They are challenging in a number of respects — they are a challenge to define, they can be a challenge to explain, they are often a challenge to “normalize”, and they can be a big challenge to implement for even sophisticated developers — but not as challenging as the report would have you believe. After all, a few providers support both of these bid-types, and at least two do so in their self-service tools.

The statement that only after the model is solved can it be discovered if the business allocated to a supplier would have been sufficient to earn a discount is false! While the specific solution being used, by the company in the example, may not have supported discounts, a number of solutions on the market fully support tiered and volume discounts, which include the type described within the example. These solutions support models which dynamically update the total cost when a threshold is reached. (I have personally designed and implemented two solutions with this capability, one of which is still on the market.)

The one thing that should have been noted, but wasn’t, is that implementing these discounts usually requires a sophisticated set of binary equations. If discounts are required in bulk, the size and complexity of the model will increase significantly and this can negatively impact solve time in a big way.

In addition, not only are tiered and bundled bids the most common form of creative bidding supported by many optimization applications, but they are also the most powerful when combined with discounts and used appropriately.

Finally, there’s no reason that the optimization cannot be applied on-line, in real-time, during the auction. If you’re buying a commodity, or if you can completely specify your business rules and constraints up-front, you can run an optimization-enhanced auction and make (automated) contract offers immediately after the optimization completes. While most providers don’t yet have this capability, Trade Extensions, for example, does. Now, the model has to be of a size and complexity that can be solved in real-time during the auction, but thanks to the advances in processing power and solution algorithms that have materialized over the past five years, you’d be surprised just how big the model can get and still solve in the 15 to 30 minutes typically allocated for a mid-size real-time auction.

Next Part VIII: Challenges / Issues

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Reverse Auctions Are On The Rise Again … Is This A Good Thing?

CAPS Research just released a snapshot on the “Use of Reverse Auctions” which illustrated that more organizations are using reverse auctions and that their usage is on the rise at almost half of the companies currently using them. Specifically:

Are you currently using reverse auctions? Yes 50%
No 50%
(Yes) Has the amount of spend through reverse auctions over the last two years …? Increased 46%
Decreased 26%
Stabilized 28%
(Yes) Do you plan to continue using reverse auctions? Yes 100%
No 0%
(No) Have you previously used reverse auctions? Yes 46%
No 54%
(No) Do you expect to start using reverse auctions within the next two years? Yes 29%
No 71%

In short, 50% of companies are using reverse auctions, 15% more plan to start in the near future (29% of 50%), and close to 25% of companies (46% of 50%) are pushing more spend through reverse auctions than they used to. So, not only have reverse auctions received a passing grade (65% of companies are giving them the thumbs up), but they are being graded on a steadily rising curve. Believe it or not, this scares me.

While I will gladly admit that they have their place (especially for small or non-strategic commodity buys where the savings associated with another, more strategic, type of sourcing event would not outweigh the manpower, system, and opportunity costs to support the more strategic sourcing event), they are not the savings panacea that some vendors and consultants make them out to be. While it’s true that it’s rare not to see a landed cost reduction the first time you run a reverse auction if you run the event properly, it’s also a rarity to see repeated cost reductions on the same category in future reverse auctions (unless the production cost or market value of the commodity in question is falling at the time) because all a reverse auction does (when successful) is take fat out of the supplier’s margin. (And if you don’t pre-qualify your suppliers, it might also take quality out too!)

The fact of the matter is that real, sustainable, cost reduction comes from product and supply chain optimization and innovation. That’s why strategic sourcing decision optimization not only delivers a cost reduction of 12% above and beyond what a reverse auction delivers but also delivers cost reductions on repeated applications.

In other words, you should continue to use reverse auctions where they make sense, but only where they make sense. Otherwise, like many of the early adopters who had high hopes, you might be very disappointed.

And yes, for maximum benefit you should combine their application with decision optimization, which I’ll address on Monday with Part VII on The Role of Optimization in Strategic Sourcing.

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Trade Extensions Trades Up Its UI and e-Negotiation Management Capabilities

About a year ago, I introduced you to Trade Extensions (TE) on the eleventh day of X-Mas. A provider of an extensive on-demand e-Negotiation platform, Trade Extensions is an emerging player in the global e-Sourcing marketplace — one that offers negotiation management, extensive RFX, and (reverse) auctions with embedded real-time decision optimization.

Since my initial coverage, Trade Extensions has made the following significant updates to their platform:

  • a brand new UI across their end-to-end system
    The new UI is crisp, clean, and click-minimal. It’s quick and easy to use and very self evident. Plus, their online help pages are very extensive and updated regularly by the entire TE development and consulting teams.
  • integrated data cleansing & classification capabilities
    Have to fix a lot of data? Just create a rule and map it, just like you’d do in a spend cleansing and classification system.
  • OLAP Reporting for Scenarios
    Users now have access to full OLAP capabilities when viewing scenario results and reports.

In addition, the following features, which I have not covered before, have been improved:

  • extensive modifications to their bid supplement functionality
    Data — pricing, discount(s), rebate(s), etc. — can be captured at any level (supplier, business unit, plant location, etc.) and used for mark-ups, discounts, qualitative scores, or as the basis for any formula(s) the user wishes to define.
  • flexible bid forms
    Not only does TE support full Excel integration, but bid forms can be designed by the user to fit their business needs. There’s no need to force your information into a single system format. A user can create additional worksheets, add columns and rows to existing worksheets as required and add macros and formulas without interfering with the platform’s ability to read completed bid forms.
  • outlier analysis and statistical reporting
    The platform can automatically detect bids that might be too high or too low and flag them for your review (after you define your outlier rules, such as specific bid field values x% away from average / historic / custom calculation). The platform also includes a number of statistics reports, including a parameter statistics report that contains a detailed analysis at the lot and bid level.
  • composed filters
    Filters, which allow you to define constraints on any set of suppliers, ship from locations, ship to locations, products, etc., can now be defined on other filters to allow for very easy, and very powerful, constraint creation.
  • selection sheets
    Excel spreadsheets can be used to define allocation constraints, discounts, penalties, and multipliers … greatly simplifying discount and constraint creation in many cases.
  • project management functionality
    100% integrated into the cohesive e-Negotiation platform, the project management functionality allows for the creation of phases and tasks, the allocation of resources to phases and tasks, and the creation of scopes (by supplier, geography, etc.) as appropriate.

They’ve also continued to increase its power. Consider a recent project run by a financial services firm that tendered all of the components of a direct mail project that would result in the mailing of 1.8 Billion documents. The project, which consisted of 65,000 items, 60,000 transport destinations, and 400,000 bids from over 100 suppliers was valued at $1 Billion with a “B”.

The project was to ultimately deliver documents to the firm’s customers, but to get to that stage each part of the supply chain needed to be tendered. This included design, paper supply, printing, assembly, and transport. The project was completed as a single tender with offers collected on-line and all components tendered concurrently. In addition, suppliers could make conditional offers that reflected their own efficiencies that could present the firm with further savings. This was a project that could not even be attempted by hand as it would take someone close to two weeks just to scan each bid. There’s no way someone could even fathom attempting to optimize this scenario if all they had was a spreadsheet solution that couldn’t handle more than 65,536 rows.

Finally, TE is one of the few players in the market to make their pricing scheme public.

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7 Sourcing Secrets More Than 2 People Should Know

A recent article over on Cracked listed “7 Secrets Only Two Living People Know” (for some reason … that the doctor must admit he doesn’t understand in a few of the cases). While entertaining, it did cause me to ask why there are so many truths in sourcing that most people still don’t seem to get. Since some days I feel like only 2 people know the following, I decided I should do my own post on 7 sourcing secrets more than 2 people should know. Because you really, really, really should know the following sourcing “secrets”. After all, they’re truths, even if no one’s bothering to tell you. So without further ado, here they are:

1. Spend Analysis is flexible Data Analysis, not canned reports on a data warehouse populated via automated classification

Real spend analysis is the ability to dive into your data and find out not just where your true spend is higher than it should be, but why. This requires you to have the ability to slice, dice, and cube your data on any dimension you can think of, because you’re never going to know where the losses are until you find them. (After all, if you knew where your holes were, wouldn’t you have plugged them already?) Canned reports on a static data warehouse can only tell you how fixes you’ve already implemented are working, not where the holes are. Furthermore, “automated classification” just doesn’t work. Any good consultant worth his salt can load your data into a real data analysis product and find two dozen mistakes in twelve minutes. You need the ability to define and redefine mapping rules on the fly as all automated classification can do is fix previously identified mistakes. It can’t identify new ones. Software isn’t intelligent. People are.

2. e-RFX is electronic support for the full information and quote gathering cycle, not just bid collection

If all your e-RFX does is allow you to collect bids, it’s not e-RFX. It’s e-RFQ, and a poor e-RFQ at that. It should allow you to create questionnaires, surveys, and entire RFX packages with closed and open-ended questions, allow you to compare responses side by side, and allow you to collect not only all of the pricing, but all of the discounts, rebates, and promotions the supplier offers. It should help you manage the process, guide you through it, and support data import and export in open formats so that you can also use analysis, optimization, and contract management tools.

3. A Reverse Auction is simply an online auction event, it’s not a substitute for proper sourcing project management

I follow the space closely and not a month goes by where I don’t see an article on how Company XYZ is now refusing to participate in online auctions. When you dig down, this is because they had a horrible experience. When you dig deeper still, you find out it is typically either because Company ABC simply threw an auction tool at the supplier and told they had to bid through the tool or lose all their business or Company ABC threw up an auction tool and said they’d award to the lowest bidder but ended up going with a different supplier, usually the incumbent, after the auction closed.

I find this appalling, because e-Auctions, like e-RFX, are not only a great time saver, but a great way to bring parties together from around the globe and allow them to participate in an e-Sourcing event that, when run right, is more transparent, educational, and profitable for all parties concerned than traditional methods of sourcing where you get bids by phone and fax until you find three bids you like and then meet in a room to “negotiate” until a deal is struck with a winner. (And I use the term “negotiate” loosely because old style purchasing methods usually boil down to the party with the most leverage beating up the party with the least leverage.) But this is only true if the event is run right. This takes proper project planning and management. Tools can facilitate the process, but they can’t replace it.

4. Decision Optimization is for everyone, not just for math geeks

I’ll admit this is my own personal bandwagon, but having seen savings of over 40% and ROIs of over 400 on a number of projects, and average savings in the 10% to 20% range and average ROIs of 5X to 10X or more, I think I have a good reason for riding it. Despite the fact that true self-service decision optimization for sourcing has now been around for almost a decade, it’s still the “black sheep” that almost no one uses — and it’s a real shame because now is the time you need it most. Furthermore, the new tools coming out of the leading providers are a lot more usable than the first generation tools and can be easily used by any college graduate who can build a cost model and specify some business constraints. In other words, if you have the pre-requisites for strategic sourcing, you can use these tools to save time, to save money, and make better, more informed, decisions.

5. Contract Management is just a new name for document management with integrated monitoring, it’s not a replacement for contract managers

Lately I’ve noticed how contract management is coming into vogue. And while that’s a good thing, it’s important to understand what contract management is and isn’t because it seems that some vendors, and some publications, are promoting the new offerings as the latest and greatest tools to solve all your contract woes when the reality is that these tools are nothing more than document management tools with monitors and alerts. I won’t deny the importance of having a good contract management tool that can monitor expiration dates, contract pricing, and, most importantly, invoiced pricing against contracted rates, but these tools, even if they contain sophisticated contract creation capabilities, can’t replace a contract expert, a master negotiator, or a good spend analysis tool that can uncover devious work-arounds by less-than-reputable vendors looking for a way to make back that buck they gave up in negotiations. (For example, I’ve talked to a number of consultants who told me how they found that some office supply management vendors regularly changed SKUs to bill you twice as much for that pen as it’s really worth.)

6. e-Procurement is tactical, and not a substitute for e-Sourcing

There’s still a lot of confusion in the marketplace between what is e-Procurement (and how it relates to P2P, EIPP, and the other new acronyms old players are coining to differentiate their new, streamlined, offering) and what is e-Sourcing, even though it should be fairly clear cut (as I attempted to outline in this post on why it’s sourcing and procurement). A few of the e-Procurement vendors are even claiming that you don’t need sourcing at all if you use the wisdom of crowds (which is not the case because there’s a big difference between a great deal on a commodity office supply and a great deal on raw cocoa or custom circuit boards, which are not commodities). Sourcing is the strategic part of the purchasing cycle, procurement is the tactical. You need both, and one is not a substitute for the other.

7. It’s not what you know, it’s what you can learn

Plain and simple,

  • it doesn’t matter if you’ve been doing it that way for 20 years if it’s not optimal,
  • shift happens, and
  • whatever happens, the world of tomorrow will not be the world of today.

You have to keep learning. That’s why this blog is here.

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Buying Time!

Originally aired December 1, 2007..

To the tune of Closing Time by Semisonic.

Buying time – time for you to go out, go out and meet the day
Buying time – turn the lights on your suppliers near and far away
Buying time – one month left on the contract, so finish your auction or quote
Buying time – you don’t have to decide if you call a vote

You know who you want to win the bid
You know who you want to win the bid
You know who you want to win the bid
win the bid …

Buying time – time for you to rank the responses you get from the crowd
Buying time – your work won’t be finished ’til your team-mates and bosses are cowed
So gather up your courage, and move it to completion – I hope you still have a friend
Buying time – every new beginning comes from some other beginning’s end

Yeah, You know who you want to win the bid
You know who you want to win the bid
You know who you want to win the bid
win the bid…

Buying time – time for you to go back to the market your goods come from…

You know who you want to win the bid
You know who you want to win the bid
You know who you want to win the bid
win the bid…

Buying time – every new beginning comes from some other beginning’s end…

Be sure to check out the Top Categories to Source Now Webinar coming up this Tuesday (June 2) at 1:00 pm ET and Pat Furey’s post on Supply Excellence yesterday, because the good deals you can get now might not last much longer!