Business & Technology Nexus

Dave Stephens on technology and business trends

Transformational Bidding: Moral Hazard?

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Years ago, Freemarkets popularized a method called transformational bidding to capture important factors beyond price and directly incorporate them into reverse auctions. Using the approach, each supplier sees a different picture of the event as the unit prices of their competitors are discounted to take these other factors into account. The figure below contains a simplified example of “Xform bidding” as well as an alternative approach I like better.

Transformational Bidding Example
Common factors beyond unit price are shipping costs, quality attributes, and incumbent status (aka risk). So why do I see transformational bidding as a moral hazard? Sometimes it’s not clear enough to suppliers what is happening during the event. On the plus side, suppliers see exactly what their unit price bid needs to be to win the event. But often buyers need not disclose the non-unit-price factors to the suppliers, leaving buyers open to temptation to play the variables to their advantage. And of course, most often buyers are not forced into honoring the outcome of the event.

I was heartened when a Procurement executive I was working with at a struggling toy company refused to use transformational bidding on ethical grounds. Instead, her team insisted on a different approach, one where a supplier’s bid was marked up by these transformational factors (instead of having other suppliers’ bids marked down). In this way, suppliers gain greater transparency into the fairness of the process, and buyers can still source based on best value. This approach makes it crystal clear a supplier is being handicapped by factors beyond their control – and if need be suppliers can challenge them, providing buyers more information to make the best decision possible.

So, does using Freemarkets-style transformational bidding generate bad karma? You be the judge.

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Written by Dave Stephens

02/21/06 4:01 AM at 4:01 am

Posted in Opinion

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