Change is difficult.

Why Now?

The key question confronting anyone in a sales or procurement role is this: why is change necessary now?

It is because risk is pervasive today in ways that it wasn’t before the Pandemic.

We used to take supply chain stability for granted, enabling us to employ “just-in-time” purchasing. Now, supply chain disruptions persist and we speak increasingly of “just-in-case” acquisition. Some blame extraordinary demand. Others talk of the “ripple effects of disruption.”

The one thing on which everyone seems to agree is that supply chain issues are here to stay.

The simplest answer when speaking to people about the need for immediate change is that companies need to replace an approach built for a low risk world with one designed for managing a high risk one.

Consider this analogy.

Before 2019, people made a living in financial markets by selling options (on stocks, on rates, on commodities, on everything). Effectively these options sellers provided other people with insurance against a change in market conditions from calm to wild. Many options sellers lost tremendous amounts of money in 2020, as they paid out claims to those they had underwritten previously.

Financial markets now exhibit a different “volatility regime.” There are fewer people around to sell options translating into lower competition on price. The sellers who survived remember their losses and charge higher fees. Buyers are willing to pay higher premia because they now know how this kind of insurance pays out in choppy conditions. There are new buyers who only know turbulent markets.

Similarly, markets for real goods and services are in a new phase.

This explains why enterprise buyers and suppliers need to change now. Covid managed to inspire a sense of urgency where previously there was none.

When Discussing Change, Flip the Script

When we make the case for change, we’re talking about the status quo.

The status quo is the default choice.

Agents for change must defeat the status quo first. This note from Seth Godin explains the approach well.

The standard defense case is simple: talk about the benefits of the status quo (while ignoring the costs) and highlight the costs of change (while ignoring the benefits).

Let’s consider the case where the status quo is a buyer using email and spreadsheets to manage reverse auctions in the acquisition of goods and services.

Imagine a buyer defending the use of email and spreadsheets when someone presents an alternative approach.

“We use email and spreadsheets for lots of purposes. So does everyone else. It’s easy and no cost. It’s familiar. It works. Moving to a sourcing platform takes time, incurs huge implementation and training costs, and requires a risky commitment to ongoing subscription fees for a bundle of features of which we will use only a fraction.”

Typically, the person trying to sell the sourcing platform will emphasize its benefits (while ignoring its pitfalls). Given the history of low-risk supply chain environments, the argument was always the same, at least before Covid.

“Our platform enables you to manage reverse auctions in a way that generates an increase in competition, leading to cost savings.”

If you’re unconcerned about risk, then it just comes down to buying at the lowest cost.

Here’s Godin’s key argument:

“And the danger is pretending you’re being fair, when you’re not. In this silly article from the Times, the author (and their editors) are wondering if oat milk and pea milk are a ‘scam.’

“This is a classic case of defending the status quo. Here’s a simple way to tell if that’s what you’re doing: imagine for a second that milk was a new product, designed to take on existing beverages made from hemp, oats, or nuts. Defending oat milk against the incursion of cow milk is pretty easy.

“The author could point out the often horrific conditions used to create cow milk. ‘Wait, you’re going to do what to that cow?’ They could write about the biological difficulty many people have drinking it. Or they could focus on the significant environmental impact, not to mention how easily it spoils, etc.

“Or imagine that solar power was everywhere, and someone invented kerosene, gasoline or whale oil. You get the idea …”

How best to change procurement technology? Proponents of change need to ensure that there is a balanced, complete conversation around costs and benefits by challenging the standalone case for the status quo approach.

What Would This Different Approach Look Like in Terms of Procurement Technology?

In the example of defending the status quo approach to procurement, advocates of a new approach should highlight all the issues that lead to failed outcomes.

“Our traditional approach to purchasing fails on every relevant dimension. We don’t end up buying the right solutions from the right suppliers at the right price.

“The traditional approach is bureaucratic and it takes far too long to execute. Time is value and if we have to wait months for the thing we’re looking to buy as the solution to a problem then that means we have to live with the problem for the additional length of the purchasing cycle.

“The traditional approach is expensive to transact. Specialized procurement staff and senior line managers spend too much time managing these reverse auctions by hand, distracted from other value-additive activities.

“There is no structured data that we can exploit firmwide. Instead of a data lake, we have cesspools of loosely connected spreadsheets. They vary in quality, consistency, and relevance.

“From their perspective, suppliers will tell you that the sales cycle is too long. Six months for technology? That’s even if they see the RFP. Most of the time, we only send RFPs to suppliers we have vetted previously because the process for onboarding a new vendor is itself time-consuming and bureaucratic, taking up to several months to navigate. Do email and spreadsheets make it easier to vet suppliers the way the platform does?

“Often, we send the RFP documents to the wrong suppliers, ignoring the right suppliers. We don’t have good, up-to-date information about who does what. Do email and spreadsheets mitigate this problem the way that the platform does?

“Suppliers make an investment decision in deciding whether to respond to an RFP. They have to weigh the cost of responding to an RFP to the expected benefit of winning. They assess the value should they win: size of the contract, expected margin, etc. They estimate the probability of winning. Do email and spreadsheets give them additional confidence to bid over a platform solution?

“Does using email and spreadsheets lower the supplier’s cost of onboarding and responding? Do suppliers have an easier time on the platform?

“Suppliers also shy away from responding to poorly written RFPs that ask the wrong questions and don’t ask the right ones. Does using email and spreadsheets help us obtain useful market intelligence that leads to better buying decisions? Does the platform have tools for getting smart about a particular category?

“What about opportunity costs for us as buyers? If using email and spreadsheets makes it difficult for the right suppliers to respond to our RFP (or to even know of its existence), how do we know that we’re getting sufficient competition on price and solution? If we don’t get competition on these dimensions, aren’t we overpaying for a second-best solution that we’ll have to live with for years?

“How are we measuring procurement right now? Is that the right way?

“If we had a sourcing platform in place that required no implementation, no training, and no ongoing subscription fees, but permitted us to solicit a wider band of suppliers, with a faster cycle, usage-based pricing, and market intelligence that led us to write more enticing RFPs, would we ever switch to email and spreadsheets?”

We’re Sympathetic

At EdgeworthBox, we feel for buyers who are under pressure as market conditions change across multiple categories simultaneously. Changing the approach to purchasing can feel like replacing the transmission on your car while you’re driving down the freeway.

We built EdgeworthBox to help make procurement collaborative and effective. It’s an exchange with tools for hosting structured procurement data; standardizing and simplifying onboarding and RFx; and speeding up the sourcing process.

Our approach increases the quantity and the quality of responses buyers receive when they solicit vendors. Sellers like the simplicity and exposure to potential customers with the right product-solution fit.

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These articles typically say two things.

One, cost savings in procurement is job one.

Two, this is the year that the procurement role will assume its proper seat at the strategy table. Procurement’s category knowledge and process expertise will create significant value. The CPO group will help with product development, risk management, and financial planning.

In the wake of the Covid pandemic, one might expect a greater emphasis on risk management. After all, we have seen (and continue to see) no shortage of risks: supply shortages, commodity price risk, the risk of rising global trade tensions, cyber-attacks, IP theft, shipping constraints, etc.

Yet, according to Deloitte’s 2021 CPO Survey, none of these three truisms held.

The interesting thing from this survey is that CPOs recognize that they need a more general approach. Deloitte calls it “agility.”

“It turns out that agility is indeed a sort of antidote that helps inoculate firms against complexity and risk so that they deliver healthy performance results even in the toughest of times.”

The traditional hidebound, bureaucratic approach to procurement does not work.

It turns off talent who might participate in the procurement process. It hinders the full use of enterprise knowledge. It may not work on an end-to-end basis. It is not driven by data, preferring anecdote. It may not be nimble enough to keep up with dynamic expectations of different stakeholders across and outside the enterprise.

During the pandemic, management teams needed to make rapid-fire decisions. More importantly, they needed to be able to trust the quality of these decisions.

If you get this comprehensive approach right, then everything else will follow, including cost savings and risk management.

“The agility masters outperform their peers on all the major performance metrics: hitting savings targets, hitting other targets, spend influence, stakeholder influence, C-level influence, and stakeholder satisfaction.”

No wonder Deloitte reports, “In this year’s report, for the first time in its 10-year history, CPOs did not name ‘reducing costs’ (traditional spend reduction) as their top priority.”

Unexpectedly, after a year in which risk management came to fore, the goal of “enhancing risk management” was unchanged in its priority, even as there were large jumps in the perceived importance of digital transformation and enhancing corporate social responsibility.

EdgeworthBox is built for this new orientation. Our solution is a platform that sits as a layer in the procurement technology stack. We augment the incumbent approach to acquisition with tools from financial markets. Buyers improve the quality and the quantity of the proposals they receive in their RFx reverse auctions by making it easier for suppliers to work with them. Easier onboarding, data for market intelligence, and a social network for collaboration with external partners, as well as with internal partners make for the kind of agile, nimble, dynamic responsiveness Deloitte describes. Give us a shout. We’d love to talk to you.

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Value-for-money means buying the right solution from the right supplier at the right price.

A key criterion for figuring out the meaning of the word “right” involves understanding how the purchase enhances the buying firm’s competitive advantage, including an assessment of how the acquisition changes the buyer’s risk picture. How is the upside changed in different scenarios? What about the downside?

The “right price” means not leaving money on the table.

If a supplier sells the product profitably for $100 to other buyers (and he is the right supplier with the right solution), and the buyer ends up paying $120, we can say this is not the right price. The $20 difference is what economists call “rent,” paying above the level you need to pay.

As McKinsey writes, buyers need to transition from cost-based behavior to value-based behavior.

A value orientation considers opportunity costs. If I purchase one solution, it means that I am not purchasing one of the alternatives. What benefit from the alternative am I forgoing? How would my risk profile and my competitive advantage look in different scenarios with that solution?

Obtaining value-for-money does not mean buying the solution with the lowest up-front cost.

Total cost of ownership of the option with the lowest up-front cost may turn out to be higher than the alternative, or the lifetime impact on the firm’s competitive advantage could be small (or even negative).

For much of what we purchase today, game theory would describe the interaction between a buyer and a supplier as a repeated game where the payoff is value for each player.

Think of a SaaS service, for example. The supplier wants the customer to renew on an annual basis, ideally adding subscriptions when they do.

A good supplier wants to develop a long-lasting relationship with their clients. They want to sell the right solution to the right customer at the right price.

If the solution does not address the client’s needs or they can’t figure out how to use it, then they will not renew.

If a customer finds out that they have been overpaying relative to other buyers for the same solution, then they will not renew.

But, if the supplier has found someone who needs what she sells, who is effective at incorporating your solution, and for whom she charges a fair and reasonable price, then they are her customer for life.

She has created value for them, in enhancing their competitive advantage and shaping their risk profile to open up the upside and foreclose the downside, at least on the margin.

Bad suppliers will try to jam their solution on people who shouldn’t buy it or who don’t need it.

Bad suppliers will try to extract as much economic rent as possible, in part because they know there is going to come a point at which they will get pushed out.

What’s the old joke? “How much does it cost?” “How much do you have?”

One game is an infinite positive-sum game and the other is a finite zero-sum game. One buyer-supplier relationship is sustainable, while the other is doomed from inception.

Let’s assume that you have found the right solution with the right supplier.

How do you figure out what you should be paying? People today will use market research or they might use some sort of Wizard-of-Oz service to look behind a curtain and give them a precise answer of how much they overpaid based on proprietary data.

That is, buyers will outsource their judgment to those who have the data or claim to have the data.

Ironically, people will pay handsomely to outsource their judgement about cost.

Often, or perhaps for a subset of overall categories, people don’t have the budget to figure out if they are overpaying, even as they scour for cost savings.

The only way you can know if you’re leaving money on the table by paying more than what others are paying is to know directly what others are paying.

Assessing value-for-money is difficult because buyers lack the access to data they need.

So, instead of optimizing for competitive advantage, they minimize cost.

Instead of looking at a risk budget, they look at an expense budget.

This is dangerous. A recent McKinsey study showed that companies can expect to lose up to 45% of a year’s EBITDA every decade from disruption.

With the risk cost of supply chain decisions hidden (or at least ignored), the optimization of competitive advantage becomes distorted.

A blind obsession with cost minimization leads to concentrated purchasing to obtain volume discounts, offshoring to vulnerable locations in pursuit of labor or regulatory arbitrage, and contracts in which the buyer trades away various types of flexibility to lock-in reductions in price.

Admittedly, without data, it’s difficult to manage risk. How do you perform scenario analysis without data?

For example, let’s say you wanted to simulate your supply chain’s behavior if there were a virus that spread pandemically in Southeast Asia. How would you be able to gauge what happened without access to data from prior pandemics? The best you can do is make assumptions about how your suppliers would react and what the second-order and third-order effects might be.

You might as well be assuming the outcome if you do that.

In contrast, it’s easy to analyze your spending. They call it the Spend Cube, in which there are three dimensions to consider: the vertical category, the stakeholder, and the actual spending across suppliers.

For a buyer, spend analysis, generally, means collecting, cleansing, preprocessing, and performing descriptive analysis of their purchasing history. Done well, it delivers transparency and insight into where the money is being spent.

For a buyer, cost minimization means picking the most efficient means of delivering their good or service, assuming perfect certainty as to the environment.

A single-minded cost minimization approach implicitly assumes that there is no cost to complexity because it first assumes no negative shocks with potentially devastating cascading consequences.

Contrast that with risk management: identifying, quantifying, and understanding the impact of different scenarios in a world of many potential paths.

A good risk manager will be able to distinguish between these different paths, assess their likelihood and their costs, and shape the firm’s production profile to handle them in a way that is optimized for the firm’s tolerance for risk.

Spend analysis is a necessary subset of risk management. You can’t manage risk if you don’t know where and how you’re taking risk currently.

Spend analysis is necessary but not sufficient to managing risk.

If we have learned anything from the Covid-19 crisis, it is that we can no longer afford to assume an idyll that permits us to build Rube Goldberg supply chains of complexity and inflexibility in exchange for apparently lower costs.

Instead of the spend cube, buyers need to think about risk hyper-cubes that incorporate the spend cube, augmenting thems with information about supplier performance, contract flexibility, purchasing concentration, etc.

EdgeworthBox is a platform that brings features from financial markets to sourcing, sitting as a complementary layer in the procurement technology stack for both buyers and suppliers. These include central clearing of vendor administration for efficient supplier engagement, central clearing of data for more informed decisions, and social networking that connects buyers to other buyers, suppliers to suppliers, and buyers to suppliers.

Buyers and suppliers can see data from public sources and, privately, from their own history, in a structured, searchable format. Buyers can get valuable market information directly from others in the marketplace.

Let’s talk.

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The policy response to the current crisis has been to treat it as a liquidity crisis. Specifically, the shock of the Covid lockdown and its disruption to business was seen as a temporary first-order effect. Government programs such as the Paycheck Protection Program provided loans to small businesses to ensure that they could keep making payroll and stay intact through the lockdown.

However, the impact of the lockdown economically has been more complex than anticipated. It has lasted longer than what policymakers originally anticipated. While there have been some limited openings, we are nowhere close to a return to normalcy. We may never go back to doing business the way we did before. Demand patterns may have changed permanently. These second-order impacts could lead to waves of novel business disorder through the Fall and Winter of 2020-2021.

At some point, the liquidity crisis will become a solvency crisis for many vendors.

All of this poses risk to small and midsized businesses and, concomitantly, risk to the supply chains of larger businesses.

Buyers need to understand what the complex interdependence in their supply chains means for risk.

Visibility: Buyers need to see who supplies their suppliers. They likely need to know two to levels down. Vendor management approaches that limit themselves to immediate suppliers leaves undiagnosed vulnerabilities to second or third tier suppliers. Buyers need to extend vendor management to these subsidiary categories.

Capacity: Not only do buyers need to understand the financial wherewithal of their suppliers and their suppliers’ suppliers, they need to have a picture of capacity. How has capacity been affected by the pandemic? Do suppliers have the ability to adjust dynamically?

Access to Capital: Do suppliers at every tier have access to the capital they need to survive this period?   

Armed with this data, the procurement staff need to make decisions to mitigate and to rationalize their exposure to risk.

Buyers need to re-evaluate everyone of their suppliers. Who do they keep and who do they let go? The costs of engaging with a supplier who subsequently fails can be enormous, especially if they are not anticipated. If the risk of a supplier liquidating or lacking the resources to deliver is preponderant, then let them go. At a minimum, diversify your exposure by adding new suppliers.

If a supplier is deemed to be salvageable (or, ideally, one that could thrive through this unusual period in an antifragile manner), then take steps to mitigate the risk and to help them. Give them more business. Pay them upfront. Ease the terms of delivery. Help them access capital wherever possible, either with references or some form of direct funding.

The key to this new supplier engagement is collaboration.

These are difficult times. With the right approach to procurement, buyers and suppliers can emerge with reinvigorated relationships, more robust to future stress, and more productive for both sides.

EdgeworthBox is a platform for strategic sourcing, generally, that enables this more holistic approach. We do so as a layer that complements existing procurement infrastructure, so that buyers can execute an RFP cycle that leads to more supplier proposals, when an RFP is appropriate and also develop relationships with suppliers that are suited to a broader context. All without changing the infrastructure they have invested so much in building to date. Give us a shout. Or take us for a free spin.

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CFOs can learn lessons from the way in which the post-GFC financial system evolved. In describing financial markets post-coronavirus, Heath Tarbert, Chairman of the CFTC, told the FT, “The story thus far has been a very good story, a story of resilience.” For companies that take the lessons of today’s Black Swan to heart, managing the full picture of risks will replace a narrow transactional mindset.

Optimize for Competitive Advantage: As Kearney’s Patrick Van den Bossche told Supply Chain Dive, “Companies have now realized that optimization for cost is not the right answer if the risk of disruption is spiking every few years …”

For commoditized industries, minimizing costs is sensible. But industries that generate sustainable margins can and should leverage procurement to enhance the value they add, while working to minimize the risk of disruption.

Firms will diversify purchasing, foregoing the bulk discounts of concentrated buying. Simulating scenarios to quantify vulnerabilities to outsourcing and offshoring will require structured data and new analytic tools, shared across the enterprise.

Coronavirus will accelerate the trend in which CPOs are “expected to enhance their influence with C-level peers and extend their business impact into strategic areas such as risk management, corporate development, and innovation.”

Develop Visibility and Relationships: Buyers are discovering the perils of not knowing who sells to their suppliers. Buyers will require deeper visibility into their supply chains, using this information to adjust their acquisition decisions and mitigate risk. The best buyers will use this knowledge to understand what is happening at the edge. PwC surveyed CFOs in April 2020 noting that firms are thinking about “risk warning systems” and “visibility into supplier health.”

A great success story is Alberta Health Services. Their procurement team paid attention to early rumblings from their local connections of a “strange flu” in Wuhan. AHS was able to pivot, getting early access to PPE supplies.

Relationships provide key intelligence in real-time, but they also determine who gets their orders filled in times like these when contracts are just words on a page. “Often a series of phone calls or emails to company leadership or the right operations contact gets the supply lines running again. Call it the relationship dividend.”

Collaborate (even with Competitors): Buyers are working together with other buyers to get through the worst of this crisis. Here’s Jeff Wincel, the Chief Procurement Officer of AMD: “It’s allowing companies to survive this … Companies are now able to learn from one another in real-time through collaboration. It’s changing the nature of how companies view competitiveness.”

Not everyone will adapt to the new reality. We have had previous supply chain disruptions, albeit smaller and more isolated like SARS or Fukushima. Companies that do not change now will be held to strict account by stakeholders during the next pandemic crisis.

As McKinsey notes, “Organizations should build financial models that size the impact of various shock scenarios and decide how much ‘insurance’ to buy through the mitigation of specific gaps, such as by establishing dual supply sources or increasing production. The analytical underpinnings of this risk analysis are well understood in other domains, such as the financial sector – now is the time to apply them to supply chains.”

Supply chain management is risk management.

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