Purchasing and Negotiation Training

Robert Menard, Certified Purchasing Professional, Certified Professional Purchasing Consultant

 Since the dawn of commerce, sales pros have contemplated how to capture the buyer’s order.  A recurring solution arrives in the inspirational vision of a lower price.  As evangelical advocates of the Total Cost of Ownership (TCO) principle we can help our suppliers by stating directly and soothingly; “It ain’t the price; it’s the cost, stupid.”

Expressed in simplest form, the “best value” is the lowest TCO.  The TCO equals sum of the four elements of cost: Quality, Service, Delivery, and Price (QSDP).  Price is only an initial cost element.  The other three have a far greater impact on the TCO.  According to Purchasing magazine’s annual survey, Price consistently comes in last in importance of these four cost elements, struggling to reach 15%.

To illustrate TCO for suppliers, consider the choice of two products, one priced at $1,000 and another at $1,500.  The Quality of the products is such that the $1,000 product has a useful life of one year while the $1,500 product will last for two years.  In TCO terms, the $1,000 product has higher TCO of $1,000 per year than the $1,500 product at $750 per year.  Lowest price does not automatically equate to best value!

Suppliers fall into two TCO categories – the believers and the uninitiated.  Believers practice TCO while the uninitiated sell low Price.  Develop a two pronged strategy to cultivate more and better low cost suppliers in both categories.

• TCO believers: stress lowest TCO, cost reductions and the corresponding potential for larger orders
• Uninitiated: engage in supplier development by educating and training the under informed supplier in the TCO concept. 

TCO suppliers reject inferior Quality which can generate production problems and customer complaints.  Poor Delivery results in missed orders, storage charges, and safety stock expenses.  Unreliable Service costs more for slow response time, dated technology, or inadequate support.  In buying from these TCO savvy suppliers, make them prove and periodically re-evaluate how their wares consistently yield the lowest TCO, especially in the cost elements most important to us. 

The TCO supplier prioritizes the importance of QSDP as seen through the customer’s prism.  For instance, Quality is the most important cost for medical products while Service dominates the software buy, and Delivery controls commodity steel.  This chart has a few examples of the subcategories under QSDP. 

 Identify how you objectively calculate TCO and ask the supplier to demonstrate how they can reduce costs.  Here is a simplified chart for showing how to calculate the TCO.  Suppliers are ranked against each other using 1 for lowest and 3 for highest cost.  All QSDP elements assumed to have equal weighting. 

 This ‘dollars and numbers’ evaluation logically leads us to remove the high cost Iffy from consideration and negotiate with Jiffy and Miffy about their cost drivers.  In collaborative negotiations, supplier and customer focus on reducing the high cost elements to shrink the TCO, not argue over the price.

Discuss preferential treatment with the TCO suppliers.  Purging high cost suppliers saves money.  We thus have an economic motive to increase our spend with a low cost supplier.  What’s in it for them?  Fixed burdens are divided over a larger base, variable expenses for customer attraction and retention, advertising, marketing, etc are minimized, all translating directly to reduced costs.  Demand that these savings be passed along in the form of lower price. 

For the uninitiated supplier prong, first make a go/no-go buying decision.  Does this price-fixated supplier have significant potential?  If so, we may invest in a supplier development program to educate and train them in TCO.  After a successful development period, this supplier may qualify for moving up to the preferred status.

Our suppliers’ philosophy must be a commitment to solving our problems with their lowest TCO products and services.  To be the best value supplier, they must provide lowest TCO.  To make TCO simple: “It ain’t the price; it’s the cost, stupid!”