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Price Negotiation: Getting It Right

October 7, 2009

On CIO TalkRadio, Sanjog Aul is discussing the impact of price on innovation. In a program titled ‘Is Walmarting IT a good idea’, he asks: “IT leaders are getting aggressive about innovating and creating top line growth. So, what about optimizing IT product/services procurement and minimizing costs to the nth degree? This should, in theory, maximize profits, right? But what will we have to give up or compromise on to do this?”

The question of price versus value just won’t go away. Recent research even suggests that different people have different genetic reactions to pricing and value.  Hence it may be that a role in Procurement tends to appeal to those who are by nature the skinflints of society, for whom no price is ever quite low enough. At the other end of the scale, there are people for whom there is no limit – they are by nature profligate, even when driven to borrowing to fund their expenditure.

The real problem – as Aul implies with his question – is whether aggressive focus on the price is compatible with the delivery of high value – in this case, innovation. Innately, I think we all understand that there is a connection between price and value. Of course some suppliers are more efficient and may have discovered some unique approach to service delivery, but in general we get what we pay for. If we aim for cheap, we should not complain when support and service are stripped down.

Esssentially, it seems to me that buyers face two options. Either:

  1. We accept at the outset a higher price for a premium service. If we know we want better support, or guarantees of performance, or regular innovation, we shoud include these in the contract, measure their delivery and be prepared to pay.  The advantage of paying up-front is that we know how much this will cost and we can benchmark the options at that time.
  2. We drive to the lowest ‘commoditized’ price and in that case accept that many of the ‘extras’ are not included. In that case, the supplier is going to minimize scope and use change procedures to achieve a fair return. The problem with this approach is that we never really know whether the final cost was competitive.

Today’s measurement systems frequently drive negotiations to the second approach and create contention down the road, as the parties argue over what was in scope, whether the original requirements are being met, whether the extra charges are justified etc. For users of the product or service (such as the CIO), this approach can leave them cursing Procurement because they see only the downstream problems, not the up-front savings.

The real challenge for Procurement is to develop more sophisticated relationship models that enable better assessment of acquisition price versus value over time. This demands improved methods of benchmarking that create a greater balance between input cost and economic outcomes. Questions such as a supplier’s demonstrated ability to meet commitments and deliver innovation must be asked and answered. And if a supplier can show superior performance that will deliver future savings or competitive advantage, then these are attributes worth paying for.

Procurement must rise to this challenge and enable strategic business goals as well as cost optimization. Otherwise, it will continue to face calls for the creation of separate specialist groups – such as IT Procurement, or Outsourcing or Supplier Relationship Management – because it will retain an image of seeking short-term savings at the cost of longer-term value.

2 Comments
    • Thanks David – your link offers an interesting paper. I hope that CPOs take you up on the offer. In my experience, many are nervous to do so – in part beacuase they perhaps don’t share the view that there current staff are the outward-looking, sklled negotiators that you suggest.

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