Purchasing at a reasonable price is often not easy when it comes to products and services that are of great importance to companies. Among other things, there are usually many factors to consider when making a purchasing decision to achieve the best cost-benefit ratio.
“No one ever got rich from saving alone.” This statement does not only apply to private individuals. It also applies in a modified form to companies. Because if a company can no longer provide its services in the desired quality due to a too rigorous savings course, it loses customers.
For this reason, the top maxim in purchasing for most companies cannot be: “buy as cheaply as possible.” Instead, they must purchase intelligently or at value for money – in other words, they must use the available (financial) resources to achieve the best cost-benefit ratio.
But what is the best cost-benefit ratio? Answering this question is often not accessible in day-to-day business. The significance of the product or service to be purchased for the company’s performance and target achievement plays a role here. Examples can illustrate this.
Price is a relative variable.
Let’s assume that a production company needs a die cutter. And this has to function without any breakdowns because, in the event of a breakdown, the entire production comes to a standstill. Then price cannot be the sole purchasing decision criterion. Because the die cutter fails, not only are all production employees condemned to do nothing – that means the company has high downtimes. It can also no longer keep its delivery promises. Dissatisfied customers and contractual penalties are therefore inevitable.
The same applies if a company wants to place ads to promote its products. In this case, it is of little use to advertise in the newspapers with the cheapest advertising rates. After all, what good is an ad in newspapers that its target customers do not read? Little! So here, too, the price at least cannot be the sole decision criterion.
The situation is different when a company buys notepads for its employees. Or if it is looking for a painting company to paint its storerooms. For products and services that are of little relevance to the company’s performance, the price can be, if not the only, then at least the top decision criterion.
Core objective: Improve the cost-benefit ratio
Because different products and services have different relevance for their buyers when it comes to optimizing purchasing, it is very important first to analyze:
What is the importance of the product or service in question for our performance or achieving our corporate goals? And:
What requirements does this place on the product or service?
According to the TASK formula, four requirement areas can be distinguished:
Technical requirements include all the conditions that, for example, a computer system or machine must fulfill to perform its function in an organization. This includes aspects such as: For example, what technical qualifications and prior experience a computer or marketing specialist we hire must have?
Process-organizational requirements include all factors related to how a supplier is expected to perform a service. For example: How and when will the ordered parts be delivered? Or: What support does the supplier offer for the commissioning of the machine or its maintenance?
On the other hand, social-human requirements are all the expectations a company has regarding day-to-day collaboration. For example: How discreet must the supplier’s employees be? Or: How should they react to complaints and extra requests?
Commercial and economic requirements
In addition to the purchase price, this refers to aspects such as: What follow-up costs/savings are associated with the investment (lifecycle costs, total costs of ownership?) What are the payment, financing, and delivery terms?
Step 1: Needs analysis
Since most major purchasing decisions involve many to very many requirements, companies should, for example, conduct a detailed needs analysis before issuing a call for bids. This includes gathering the requirements formulated by the business departments and experts in the organization and specifically questioning them. For example: Is it indispensable for the steel ordered to have the hardness grade “…”?” Or: Why should the machine have a speed of “…”? Because only by asking such questions can we find out: What are wishful or ideal ideas and what is the real need?
Without such inquiries, it is also impossible to formulate criteria for which requirements could be reduced, for example, because meeting them would disproportionately drive up the price. Another part of the requirements analysis is determining the purchasing volume over a certain period – for example, one, two, or five years. Among other things, this reveals the purchasing power of the company.
Step 2: Procurement market analysis
After the needs analysis, intelligent purchasing requires a procurement market analysis. Often, value-for-money purchasing fails because companies remain loyal to their regular suppliers purely out of habit. Or because they largely rely on “googling” on the Internet or such supplier directories when searching for suppliers. For intelligent purchasing, it is important not only to consider the apparent suppliers as suppliers – especially when it comes to strategic investments or the conclusion of long-term supply contracts. Rather, one should ask oneself: Who else could be considered as a supplier?
The potential suppliers should then be interviewed to determine the extent to which they (can) meet the defined requirements. It is also vital to explore: What significance would we have for this supplier? Would we be an A, B or C customer for him? For example, because of the share of sales achieved with us? Or because we would be a reference customer for him? Knowing this helps us to assess our negotiating position.
Another part of the procurement market analysis is the attempt to determine how potential suppliers’ market “ticks.” For example, is it dominated by three or four large suppliers who have secretly agreed on prices or territories? If this is the case, it is particularly important to analyze the product we need manufacturing or the service we want to be provided? This may help us to identify alternative procurement channels. Here is an example. Let’s assume that a company needs steel sheets of a certain size. It can buy the ready-cut sheets from one of the major steel manufacturers or one of its subsidiaries. However, it can also buy the rolled steel in coils from a manufacturer and have it cut to the required size by independent companies specializing in this area – provided that it knows that such cutting companies exist.
Step 3: Derive procurement strategy
If the company knows its needs and the procurement market, it can ask itself in the next step: How can we buy what we need at the best price-value? There are many possible levers for improving the cost-benefit ratio. One relatively simple lever is to include more suppliers – for example, also from overseas – in the supplier selection process. It is also quite simple, for example, to create a larger purchasing volume per supplier by bundling orders and reducing the number of suppliers. More challenging is the attempt to optimize the overall procurement chain and, for example, to conclude contracts with the suppliers of the suppliers themselves, i.e., the second-tier suppliers – a procedure already practiced by many a publishing house and company that needs a lot of printed matter. They buy the paper required for magazines and packaging in bulk directly from paper mills and then make it available to the printers. In this way, they lower the price of their end product. Another starting point for reducing material costs can be reducing the number of variants.
When deriving the procurement strategy, it is important to be aware of the various levers such as global sourcing, volume bundling, and specification optimization and calculate what savings these will bring. Otherwise, no qualified decision can be made.
Step 4: Supplier analysis and selection
If the procurement strategy stands can be begun with the selection of the suppliers, who are requested, for example, to participate in the invitation to tender. Before that, one should lead oneself, however again, before eyes: What criteria must suppliers fulfill so they can be considered partners for us? It is also important to define which (partial) services the offers cover and which data and information they must contain to be compared at all.
When evaluating suppliers and their offers, the previous regular suppliers can be given a bonus because a supplier change is often associated with additional work. This is why departments are often reluctant to change suppliers. Therefore, it is important that purchasing and specialist departments cooperate closely and communicate openly with each other right from the start when attempting to purchase at a lower price. Purchasing often has to make advance payments. It can also be tactically prudent to agree with the departments that the money saved or part of it will be made available to them for (innovative) projects that would otherwise be impossible to finance. Purchasers should therefore try to distinguish themselves as purchasing consultants to the specialist departments – the better they understand the business of their internal customers and know the procurement market, the easier it will be for them to succeed.
Step 5: Implementation
Once the decision has been made in favor of a supplier, one of the purchaser’s tasks is to introduce the new supplier to the organization and to start an advertising campaign for him. This also includes reaching agreements with the supplier and the specialist departments on how the “familiarization” of the supplier is to proceed; furthermore, naming concrete contact persons and responsible persons who ensure that unforeseen problems are quickly solved.