Which Cost Savings Method is Best to Use?

Direct Negotiation

Direct negotiation is the process of re-negotiating with your current supplier(s) commercial terms to hopefully agree upon an improved commercial arrangement. By extension, the process excludes all other suppliers (i.e. market consultation) so the ability to create competitive tension is avoided. The upshot of this is that the potential commercial benefits are lower that a market consultation, however so is the risk as there is no potential supplier changes required.

Direct negotiations are ideal in specific circumstances, such as-

• where limited competitors are available.
• A strong supplier partner relations exists. However, don’t confuse a good relationship with being an integral partner of your organisation.
• Where you’re looking for quick wins.
• You feel confident that there are significant opportunities through direct negotiation, because of a material change of circumstances (e.g. volume) or a poorly set up initial agreement.

Overall, direct negotiations are a quick, low risk method of developing savings however overall benefits will typically be lower than other methods.

Market Consultation

A market consultation is the process of engaging multiple suppliers through a tender or RFx process to develop a sourcing strategy & ultimately identify preferred suppliers.

By its nature, market consultations involve requesting proposals from multiple suppliers & thus have inbuilt competitive tension with increases the likelihood of obtaining the best offer available. As it involves multiple suppliers, all of whom typically don’t know all details on the products/services being purchased the level of detail & analysis required in a market consultation is higher & therefore takes much longer than a direct negotiation. In addition, the process carries greater risk through the potential use of alternative suppliers.

Market consultations are best used in the following circumstances-

• The performance of the current supplier is poor & has not improved.
• It has been a significant time (2 years) since the spend category was last reviewed.
• There are numerous supplier options and/or the cost of change is low.
• You are unclear as to the true market pricing for a product/service.

Overall, market consultations take longer than direct negotiations & carry higher risk, however the potential rewards are much greater.

Cost Optimisation

Cost optimisation is a broad category that captures any activity that optimises how a purchased product/service is supplied, stored or consumed within the business. As a method it sits in between direct negotiation & market consultation, typically with high risk, timeframes & rewards than direct negotiation but lower than a market consultation. This is because the process of optimising costs takes collaboration with internal stakeholders & suppliers to scope, assess & identify potential opportunities, with implementation usually requiring some level of internal change, albeit less than a wholesale change of supplier.

The list of cost optimisation activities are broad & include the following-

• Improving compliance with use of preferred suppliers.
• Developing standardised product lists & ensuring their continued use.
• Reviewing specifications to ensure they are ‘fit for purpose’.
• Reviewing demand to ensure purchased products/services are required & at which volumes.
• Reviewing purchasing parameters to optimise order quantities & prices.

Cost optimisation can be conducted at any time, however is best done after the sourcing strategy & preferred suppliers have been defined, thereby allowing you to utilise the suppliers’ resources to help drive the project.

Conclusion

Generating supplier cost savings needs to be more than just negotiating with the same suppliers every year or always going to market. Developing the right strategy based on the circumstances of each project if critical to ensure maximum benefits every project & optimisation of stakeholders resources. By understanding the current state & opportunities within each project, an informed decision can be made as to the right cost savings strategy to use.