Buyers are frequently faced with significant obstacles before the appropriate sourcing option can be pursued. As is often the case, internal demand constraints act as effective barriers to the appropriate choice of reactive or proactive supply management.
1. Product or service over-specification
In many organisations, the buyer’s internal client often seeks to over-specify the product or service required. This is often referred to as the “gold-plating” of requirements, where the product or service is specified in a way that exceeds the organisation’s requirements. This can be in terms of technical requirements and/or commercial considerations. Subsequently, the internal client’s (and buyer’s) requirements are far more difficult and/or costly to service.
2. Premature establishment of the specification
If internal clients build a supplier’s offering into their design before the organisation has had an opportunity to negotiate with the supplier, the buyer may become locked into the supplier. If the buyer’s purchasing team starts to negotiate with the supplier after the organisation has accrued significant sunk costs in their solution, then it will be negotiating with a supplier that effectively has a monopoly position.
3. Frequent changes in the specification
Organisations that procure complex services often experience a problem associated with the potentially high level of specification change because of the level of uncertainty that surrounds such purchases. However, these pre- and post-contractual problems may be exacerbated by internal client behaviour. The resulting frequent changes to the specification, again after it has built up significant sunk costs in the supplier’s solution, will leave the organisation vulnerable to opportunistic behaviour, even at the pre-contractual stage. Furthermore, the supplier may have to make costly, last-minute alterations to their processes in order to accommodate the changes, thus increasing the nuisance value of the customer to the supplier.
4. Poor demand information
A significant demand management problem relates to the inability of the organisation to access (and analyse) accurate demand information. Poor demand information leads to supply chain players keeping high levels of inventory as insurance, which is against the principles of lean supply. Furthermore, the late placing of orders due to poor demand information makes it difficult for the supplier to pre-plan its production activities and may require the supplier to pay a premium for its own inputs, which it will seek to pass on. Poor demand information clearly puts the organisation in a poor negotiating position in relation to the supplier.
5. Fragmentation of spend
This is a very common demand management problem. Most organisations buy ‘equivalent’ products from a large pool of different suppliers, often through small quantity orders placed at frequent intervals. This situation is often due to internal clients having their own personal preferences for certain products and having their own favourite suppliers. Each separate transaction is of limited value, thus increasing product costs, and the multiple interactions will also lead to higher transaction costs. Leverage opportunities are not possible and the attractiveness of the buyer to the supplier is significantly reduced.
6. Maverick buying
In most organisations, there is a fairly high incidence of internal clients, either buying outside the contracts that have been set up, or buying using procedures that are not compatible with optimising value for money. Therefore, the maverick buyer is unlikely to have access to the requisite supply market information and will not possess the necessary competence in contracting and negotiating. As a result, there will be a further fragmentation of the organisation’s spend, resulting in loss of commercial leverage and the organisation being faced with higher prices. Maverick buying diminishes the relationship between volume and value that underpins the agreements with approved suppliers, thereby destroying the credibility and relative power of the buyer.
7. Inter-departmental power and politics
Individuals or departments will have power resources, which can be drawn upon to either help, or hinder, change within an organisation. At the heart of this is the concept of the principal-agent problem. Managers within departments may have conflicting loyalties when working within organisations. They have loyalty to the organisation, which pays their wages, but also to their department, themselves and their careers. When these loyalties are in conflict, most managers will take action that favours the latter. Internal clients will often, therefore, make sourcing decisions that will secure their own personal advantage rather than furthering the wider interests of the organisation. When the person or department has a high level of intra-organisational power, they will have the ability to obstruct any drive to improve internal demand management, if they so desire.
8. Risk adverse nature and culture of an organisation
The very nature and unique culture of an organisation may act as a further barrier to more effective demand and (subsequent) supply management. Organisations, which tend to be highly risk averse, may find it difficult to adopt the necessary organisational changes required to overcome some of the internal demand problems highlighted thus far. Although not necessarily a direct cause of ineffectual demand management, an organisation’s overriding culture can still act as a serious barrier to change.
In summary, the existence of these barriers often reduces the attractiveness of the buyer to the supplier. Depending upon the specific market conditions, the existence of these barriers can increase the leverage that the supplier has over the buyer. Subsequently, the buyer may be unable to achieve the desired outcomes (value for money) from the relationship.
In order to maximise value for money, organisations must first overcome internal demand problems discussed and then select the appropriate sourcing option to maximise their ability to leverage suppliers.
IIAPS uses the QV® Strategic Sourcing Methodology, which is focused on challenging existing ‘real-life’ category strategies. Integral to this approach is effective demand management, as it brings together internal clients (who design and specify requirements) and PSCM strategy leads to identify the key demand and supply factors impinging on current VFM performance.