Purchasing and Negotiation Training

Robert Menard, Certified Purchasing Professional, Certified Professional Purchasing Consultant

Business invests heavily in training of sales forces for a good reason; at a ten percent profit, every dollar sold brings in a dime.  Alternatively, for every dollar saved by purchasing, one dollar flows undiluted to the profit line.  In the words of a slogan, “Sell for a dollar, earn a dime; save the same dollar, earn ten dimes.”  While the math is obvious, implementation is not.  The engrained habit of chopping the low hanging fruit of price shrinks to insignificance compared to the strategy of reducing the costs.  

A cost reduction strategy called Total Cost of Ownership (TCO) states that TCO is the sum of its four elements: Quality, Service, Delivery, and Price (QSDP).  Using TCO, the formerly vague term “Best Value” is clearly defined as the lowest TCO. 

Price is merely one and only an initial element of QSDP.  In multiple annual surveys amongst professional purchasing associations and in trade publications, Price consistently comes in last in importance.  Depending upon the buy, Quality, Service, and Delivery will rank higher. For instance, Quality is constantly most important in health care, and Service is traditionally most important in the purchase of construction or professional service suppliers.

Sales organizations can deploy TCO to their profitable advantage by applying it to the consultative sell model.  By growing the customer’s revenues while keeping the costs constant or keeping revenues constant while reducing costs, the product or service is profit and the customer is eager to buy.  By reducing the customer’s TCO, and expressing that reduction in quantifiable dollar and numbers, greater profits are earned for both sides.

On the supply side, however, more work awaits to earn the greater return.  Instead of negotiating only on Price, examine the Quality, Service and Delivery cost elements.  Have the supplier break down its costs (Cost Analysis).  This will flush costs that may be unnecessary or could be more efficiently handled (transportation for one example) by the buyer.  In poorly trained purchasing departments, well defined cost parameters are not communicated to the supplier.  This encourages suppliers to include bells and whistles may be unwanted, drive the price up, or add inefficiencies that force down profit on the transaction for supplier and customer.  Both parties are paying too much and netting too little because the costs are too high.  Does this make any sense?

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So what can we do about it? 

1. Retrain your purchasing staff in TCO.  Proven effective procurement training is rarer than good sales training but the greater reward makes the search worth while. 
2. Develop measurable standards for qualifying suppliers.  Those with a high TCO may not merit the risk. 
3. In RFPs and RFQs, state the criteria and the weight of each category of QSDP.  Ideally, you should specify a percentage. 
4. Evaluate supplier proposals based upon these criteria. 
5. Measure the performance of suppliers to determine if it is actually delivering on its promises.  For instance, some organizations allow late deliveries; others do not permit early deliveries.  Six sigma production firms ascribe such high costs to quality that poor performers can be de-barred…
6. Meet regularly with key suppliers and customers to review performance measures and discuss how to improve.  Encourage input from both sides.  Partner customers and suppliers in particular are in a good position to reduce costs when they split the cost savings.  

So, in the words of the old adage,  “What’s In It For Me”?  The strategic approach of TCO increases profits for buyer and seller.  These profits are found money as the excess costs are already in the system, ready to be harvested and moved to the bottom line.  You do not have to increase prices, sales, or capital investment to increase profit by great margins.  At ten percent, saving the dollar earns ten times the profit of every dollar sold.  If you earn five percent, the increase is twenty times!  In the words of another popular expression, “You do the math.”