This is a guest post by Henrik Balslev, Senior Vice President of Operations at Scanmarket.
If you ever want to start a heated debate in procurement circles, just start talking about eAuction strategy. While eAuctions are a proven strategy for conducting negotiations, there have been persistent arguments and misconceptions about their efficacy and applicability. It’s always worth addressing these questions head-on because the benefits of eAuctions are significant.
5 Key Benefits of eAuctions
- Lower prices
eAuctions generally provide savings of >10% compared to previously negotiated prices.
- Time savings
In eAuctions, negotiations are conducted simultaneously with all suppliers. The full negotiation is typically completed in less than an hour, including extensions.
Following initial setup eAuction events can simply be copied and ‘tweaked’ the next time they are required.
- Market transparency
In eAuctions, all bidders receive the same information and are bidding against the same “target.”
- Process improvement
eAuctions provide a structured and uniform working procedure even for larger corporations. Bids are only accepted within the system and all data and communication are stored in one place and automatically compiled.
In order to get the best results consistently, smart eAuction practitioners will vary their strategy depending on the market conditions.
As one of the original eAuction platform pioneers, the Scanmarket team have led and observed hundreds of thousands of eAuctions across many different organizations, categories and market conditions over the past 20 years. Even within organizations that have eAuctions as an established negotiation tool, most have barely started to explore all their options with regard to strategy. Most eAuction programs rely heavily on standard reverse auction formats. While this is a good approach for many scenarios, it is plain wrong to adopt a one-size-fits-all strategy.
How to Choose the Right eAuction Format
Choosing the right eAuction format is entirely dependent on the market conditions you are facing in the category under consideration. You can identify the right option through planning and research.
- Check your spend analytics. Where are the savings opportunities and spikes? How much of historic spend has been with the incumbent supplier? Are there opportunities to increase supplier diversity or consolidate spend?
- Determine the number of qualified bidders. How many bidders are you expecting to participate in your event?
- Factor in market competition. Is competition between suppliers pricing strong?
- Evaluate expected bidding approach. Based on your interaction with the suppliers, how aggressive will each be in its bidding approach? Are there specific suppliers that you know, perhaps from RFI and RFP responses/pre-bids, have the ability to bid substantially lower than others?
- Consider consistency of specifications and qualifications. Despite efforts to standardize specifications, do some of your qualified bidders have unique capabilities? These can be both positive (e.g. superior service) and negative (e.g. suspect quality)
Once you have identified the bidding conditions unique to the auction event you can choose the relevant type of auction.
Types of Online Auctions / eAuctions
A standard reverse eAuction is the best choice in a number of scenarios. If the competition is strong and a few suppliers (are within a reasonable percentage of the best bid at the RFP/RFQ stage, then a reverse eAuction will invariably drive down superfluous margin that the suppliers are trying to keep a hold of, as they will bid against each other for the top spot, driving each others’ bids down closer to their respective walk-away price. However, if the competition is not strong enough, and the other suppliers will not challenge the most competitive supplier from the RFP/RFQ stage, a reverse eAuction will not generate any further savings or price reductions: the most comepetitive supplier will begin the eAuction in position #1 and will end in position in #1 without having to place a single lower bid than their starting price.
That’s where step eAuctions come in in the form of Dutch and Japanese Auctions.
These eAuction types differ from standard reverse auctions in that changes in pricing (bids) are driven by the eSourcing platform at specified time increments rather than bidding activity by suppliers.
In a Dutch eAuction, the opening bid price for all bidders is set (based on pre-bid intelligence) by the auction manager at a pricing level significantly below market price – no bidders should be in a position to accept the opening price. At pre-determined intervals (e.g. each minute), the system will increase the bid price by a moderate increment (e.g. 0.1%). This continues until the first bidder accepts the bid price. At that point, the event closes and the bidder who accepted the bid price wins the business.
Advantages of Dutch Auctions
- Maximum bidding pressure on participants
- Fosters FOMO (Fear Of Missing Out) in the supplier community, driving better bids
- Can be run efficiently as there are no extensions or re-bidding
Disadvantages of Dutch Auctions
- There is no second or third place and therefore no market intelligence on what pricing other suppliers would have offered as their lowest price
- The supplier who wins the auction must win the business, otherwise the whole process will be undermined
When to Use Dutch Auctions
- Scenarios where pre-bid intelligence has indicated that one of the bidders has a significant cost advantage over other bidders
- When there is only one supplier bidding. As they have no visibility of whether or not there are any other suppliers, they will accept the lowest bid price they are willing to do business at, which will often be significantly lower than they previously offered.
Benefit of Dutch Auction vs. Standard Reverse Auction
- In this scenario in a standard reverse auction, there’s no incentive for the bidder with the best pricing to submit their very best bid. Instead, they only need to submit a bid that puts them in first place
In a Japanese eAuction, the opening bid price for all bidders is set (based on pre-bid intelligence) by the auction manager at a pricing level that is high enough so that all bidders will accept. Each bidder is required to signal their assent by accepting the bid in the system. At pre-determined intervals (e.g. each minute), the system will decrease the bid price by a moderate increment (e.g. 0.1%). At each step, the bidder needs to accept the bid to signal their assent. This continues until there is only one bidder remaining who accepts the bid price. At that point, the event closes. The buyers will then take the necessary time to evaluate the pricing from the eAuction along with the none-price factors to select the winning supplier.
Advantages of Japanese Auctions
- Forces all bidders to participate by accepting each new bid in order to continue
- More award options due to amount of bidding information (i.e. as there is no visibility for suppliers of the presence, status or bids of other suppliers, there is no pressure on the buyers to award to the supplier who accepted the lowest price
- Bidding information can be combined with specification differentiation into multiple award scenarios
Disadvantages of Japanese Auctions
Limited FOMO compared to Dutch auctions
- Can lead to long events if decrements and time intervals are not set correctly
When to Use Japanese Auctions
- Scenarios where there is limited expected bidder participation
- Projects where there are different specifications/qualifications between the bidders
- Situations that require extra confidentiality (e.g. public sector)
Benefit of Japanese Auctions vs. Standard Reverse Auction
- By continuing the price decrements, bidders must provide their pricing across a broader range than just bids relative to competitors’ pricing
One easy way to remember the difference between Dutch and Japanese auctions is to focus on what triggers the end of the event:
- Dutch auctions end when the first supplier places a bid, “The first one who jumps in the pool”
- Japanese auctions end when the LAST supplier places (confirms) a bid, “The last one to get out of the hot tub”
eAuction Best Practices
Regardless of which Auction format you use, it is imperative to execute the project according to a rigorous, structured process in order to deliver the best results.
As you can see, there are multiple options for your eAuction program to incorporate new techniques, approaches and formats, but most important step in any successful eAuction takes place long before the event: understanding the market dynamics and what will drive suppliers to provide you with the very best bids. However, it is our recommendation that, in addition to standard reverse auction, every organization should be ready and able to use using Dutch and Japanese auctions when the situation requires.
About the Guest Writer
Henrik Balslev is responsible for Scanmarket’s global sales and the overall delivery of consultancy and customer services. Henrik has been with Scanmarket since 2006 in a variety of roles, assuming the Senior Vice President of Operations role in 2015.
Throughout his adult life, Henrik has lived in six countries. He loves to travel, both as a back packer and with business.
For more information, see https://scanmarket.com