The Procurement Dilemma

Creating a win-win relationship with suppliers in order to obtain the best products and prices.

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The Prisoner’s Dilemma, a classic game theory scenario, perhaps best illustrates the quandary confronting two parties, wherein cooperation and trust is the high road best taken, and acting in one’s own self-interest the low road to doom.

Under the rules of the game, two accomplices are interrogated separately. Should one decide to implicate the other, he or she will go free, while his or her partner in crime is jailed for ten years. If both confess, each gets five years. But if neither talks, both get off lightly. It’s a clear win-win, the best possible outcome—yet can they rely on one another to follow suit?

As a model that predicts outcomes of cooperative and competitive behavior, game theory is used to inform decisions about issues such as negotiations between buyers and sellers. And with several million dollars’ worth of equipment on hand and a mandate to trim costs, it is lab managers who can find themselves on the horns of their own procurement dilemma.

Their conundrum can be distilled into a basic proposition— when dealing with vendors, is it better to play for keeps and try to beat them at every turn or perhaps wiser to leave a few dollars on the bargaining table and part on friendly terms? As a show of good faith, who dares take the first step and risk sharing information that the other party might exploit to gain advantage in negotiations?

Whom can you trust, and how far? What’s it going to be— win-lose or win-win? Or is there a third option—win some and lose some—a win-balancing arrangement?

Not that long ago, buyers generally called the shots. They decided and vendors executed. If problems arose, one or both were quick to assign blame and apply contractual penalties.

But under globalization’s regime, outsourcing competition eliminated weak vendors from the supply base. Instead of vertically integrated companies that do it all internally, “there’s one network of companies competing against another network of companies,” said Jeff Hynds, director of innovation at Ingersoll Rand’s Center for Energy Sufficiency and Sustainability. “And that network includes all the suppliers that the primary company depends on. You’re only as good as the worst company in your network.”

Suppliers that have survived the shakeout add value by virtue of skills and technologies that make them more attractive—and selective—with regard to buyers. Instead of being expendable, suppliers are a highly critical part of the mix.

In this new paradigm, supplier relationship management has become a necessary skill for the scientific community. But even as SRM conferences and software packages promise some relief for long-term supply chain issues, managers bump up against the more immediate procurement realities of delays and shortages or are excluded from preferred supplier loops.

With more geographically distant vendors “hesitant to set up storage on this side of the pond, back orders and Customs hang-ups are more frequent,” said consultant Elizabeth Knollmeyer. “Without reagents and supplies to operate equipment, you’re dead in the water.”

In an Industrial Research Institute study, one hapless manager, adrift in a sea of suppliers, likened his predicament to a fishing expedition.

“Suppliers are like fish in the ocean. We are the fishermen. The key challenge facing us is how to put out the right bait so we can pull up the right suppliers at the right time. … How do we know we’re using the right bait … or … that the right kind of fish are in the water? More important, when we catch a fish, do we keep it or throw it back?”

“Everybody has a relationship with suppliers, [regardless of] whether they want to call it a relationship,” said Knollmeyer. “It’s up to [managers] what to make of it. [Vendors] can be your ally. You don’t want to be adversarial.”

And that’s particularly true for managers engaged in innovation sourcing— supplier collaborations that drive innovative processes.

Of course, not all vendors have equal value—commodities are typically driven purely by cost, and interactions with these suppliers are presumed to be short to medium term.

“In my simplistic engineering view, there are suppliers that supply things you can get from a lot of different places—nuts and bolts and wire and certain integrated circuits,” said Hynds. “Then there’s a set of suppliers with differentiated capabilities, so there are only a couple you can go to.”

Metrics, analytical software, and financial incentives have their defenders as solutions to vendor issues. But more than ever, obtaining the best product, performance, and price depends on making the right moves to strike up robust vendor alliances. It’s all about the quality and fit of the relationship and the human element.

Therein lies the rub for lab managers—selecting the right suppliers and developing good relationships.

“The distinction between distributive negotiations and integrative negotiations is important,” said Dr. Roger Mayer, professor of management, innovation, and entrepreneurship at N.C. State’s Poole College of Management.

“Distributive negotiations, or haggling, is when you’re out to get everything you can, just trying to meet your own needs. That can often get the ‘best deal,’ but it also has a long-term effect on the relationship. It sends a signal to the other party that you don’t care about what they need, and in fact, you’ve demonstrated it.”

Cultural and organizational forces, performance appraisals, mandates from higher-ups—there are “lots of things that lead one to believe you have to beat the other party,” said Mayer.

When managers enter negotiations believing “both parties’ goals are in fundamental and direct conflict, resources for the negotiation are fixed and limited, and each party wants to get all it can,” they assume it is a win-lose proposition.

“But do these four conditions really describe the situation? That’s what you have to determine if you want to achieve integrated negotiations” that meld the needs of both parties. Win-win “is far more achievable than it is given credit for,” said Mayer, adding that a “free flow of information” is critical for identifying “some creative solution where both parties get what they want.”

Strategic considerations also matter. The Industrial Research Institute, an association of more than 200 private sector and federally funded labs concerned with R&D innovation, has studied the impact of supplier relations on technological innovation.

“The technology you’re counting on isn’t kept in-house anymore,” said Edward Hummel, director of business development at Bell Labs, an IRI member. “In many industries, the really core technologies” are becoming increasingly granular. “Companies want to find a way to flow their customer problems down to the supplier community and have them solve lower-tier things. So you pick suppliers that complement you fairly well and share, trusting them not to expose your crown jewels. There’s a trade-off between what I don’t share and what I put on the table in order to establish trust.”

Trust takes time. When the mutual expectation of repeat business exists, strategic relationships can begin to take root through what game theorists call “repeat plays” or interactions, as opposed to the single play that characterizes commodity transactions.

“If companies want to play, they have to move fast,” said Hummel. But how can trust be determined before a prospective partner has had time to demonstrate trustworthiness? There’s a shortcut, says Mayer. “Check with people in their network about their reputation.”

"You're not going to get all your value in a single transaction,” said Hummel. “It bogs down the process and reduces openness to nickel and dime suppliers over every aspect. Maybe you don’t make out really well financially on every piece of the transaction. But it balances out over the course of the project,” a win-balancing concept.

“There are times when it’s clearly a distributive situation, with portions that are mixed and portions that are integrative,” said Mayer. Intellectual property often becomes problematic, “but it’s not the only class of information that needs to be protected in negotiations. Find what you can share, and tell them what you can’t.”

As lab managers and suppliers work together and deliver on what’s promised, trust builds and the quality of their information sharing improves, enhancing performance. As the linkage between companies and suppliers moves higher up the value chain—from commodity to custom, collaborative, and strategic—so does the extent of investment in the relationship, perhaps to the point of overdependence.

In some industries where suppliers register most new patents—automotive being one—vendors being wooed are able to choose who receives scarce resources, while competing companies consider how to make themselves the most attractive potential partner. Only by becoming preferred customers can companies ensure access to supplier innovation processes—a development that completely inverts the traditional buyer-supplier relationship.

Even if managers are empowered and informed regarding company strategy, they may not have the skills to act effectively. “If you look at the personality types of scientists and technologists, they’re not naturally communicative,” said Hummel. “And they also tend to be risk averse. It’s uncomfortable for them.”

Since the mandate to reduce procurement dollars can shift the focus from value to cost, Knollmeyer urges managers to “put the top 25 percent of purchased items out for bid every year or two” to drive competition.” If a lab belongs to a GPO, compare pricing through the GPO against buying direct. Some vendors can reduce inventory management by ordering items at par value in advance and can advise managers about new products.

Many vendor issues can be avoided through better preparation. A LinkedIn group discussion and poll data on laboratory informatics systems placed the onus on managers to improve their up-front investment. Developing a rigorous hierarchical model of lab workflows “should then be driven by the vendor … through to an actual prototype, as distinguished from a demo. People accept demos at face value [but] inspect prototypes closely.” Improved communication also helps. By posing specific goals and problems to vendors, their understanding of lab wants and needs improves, instead of vendors “tediously saying ‘yes, the system can do this or that.’”

Suppliers are working to become more responsive and attentive. Before Wayne Collins moved to Agilent Technologies, where he is worldwide manager for energy and chemical products, he was lab manager at Solvay Polymers and had a staff of 60.

“We’re not interested in making a sale and getting the money and running. We want a happy customer and a long-term relationship. Agilent spends a lot of money doing customer surveys. Most companies measure customer satisfaction. At Agilent, it’s a top corporate goal to improve it each year, and we have processes in place to do that. The thing that really makes customers unhappy is when they feel the vendor isn’t listening to them.”

“It’s good to engage the supply base early,” said Hynds. “You have more time to close the gaps between what they have and what you need. It’s also critical to assess the supplier’s capabilities, their engineering, and their quality control, early on. Probably the best way is to look around their factory and talk to the folks on their line. If you’re going to compete down the road, can this supplier advance your product? Do they have the right technology and processes in place, and are they trying to improve them? Because you’re better off if you can establish a long-term relationship.”

F. Key Kidder left journalism to pursue a career in government relations, politics, and PR, but he still likes to keep his hand in writing. He can be reached at k2@keykidder.com or by phone at 410-963-4426.

Categories: Business Management

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Steady As She Goes

Published: March 2, 2013

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