Good Procurement Practices Massively Lower Costs

Internal discussions about procurement tend to focus on cost above all else. The procurement department exists to beat down suppliers and ensure that they get the best price or to enforce policies and procedures intended to curb waste, fraud, and abuse.

An interesting study from researchers at Yale University, Columbia University, and the University of California, Berkeley highlights two key contributing factors to higher costs in procurement: the capacity of the procurement department executing the purchase, and insufficient competition among bidders. The study builds upon a survey of both state procurement officers and contractors who bid on contracts related to highway construction, controlling for various factors to make the data comparable across states on a cost-per-mile basis.

Understaffing of procurement talent means that states outsource work to expensive third-party consultants. Consultants may not be as motivated to drive an optimal outcome. This is also complicated by poor specification of the project or the need to change the project mid-stream. This is noteworthy given well-documented reductions in procurement workforces.

“Consistent with the capacity hypothesis, states that flag concerns about consultant costs have higher costs. States where contractors and procurement officials expect more change orders have significantly higher costs. Frequent change orders could directly lead to higher costs through delays and costly renegotiation; they could also be a downstream symptom of poor administrative capacity at a state DOT—many contractors reference poor-quality project plans made by third-party consultants. Moreover, when we measure capacity using external data we show that states with higher DOT capacity have lower infrastructure costs. A one standard deviation increase in capacity is correlated with 16% lower costs.”

It’s also a quality issue.

“States with (perceived) higher quality DOT employees have lower costs. A state with a neutral rating has almost 30% higher costs per mile than one that rates the DOT employees as ‘moderately high quality,’ all else equal.”

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While state officials descry the lack of competition, they aren’t taking steps to make it more desirable for bidders to participate. This is exacerbated by growing concentration in the construction industry across states.

“Using our project-level cost data, we find that an additional bidder on a project is associated with 8.3% lower costs, or a savings of approximately $30,000 per lane-mile ($460,000 for the average project). In the survey data, we find that states that do outreach to increase the bidder pool have significantly lower costs, highlighting both the importance of competition and the role the DOT can play in order to increase competition. A one standard deviation (12 percentage point) increase in bidder outreach is correlated with a 17.6% decrease in costs. At the mean, this translates to a decrease in costs of $65,000 per lane-mile and $1 million at the project level. Lastly, we find that limits on the amount of work that can be subcontracted is positively correlated with costs. High own-work thresholds can decrease competition by limiting the number of firms that can complete the project without additional subcontracting.”

There are natural questions that arise from these conclusions.

How can we improve the quality of our procurement staff? If we can figure this out, we can expand the size of our procurement team, in effect. Software developers have a concept of a “10x” coder: someone who is ten times as productive as an average programmer. Put another way, one 10x coder is the equivalent of ten average developers. Actually, the 10x developer is even more effective in that there is reduced communications and project management friction.

How can we encourage competition among bidders, including at the subcontractor level?

The quality question is made even more relevant by demographic changes in the workplace. Many of the most talented, experienced procurement staffers are retiring, taking their institutional knowledge with them. Some highly skilled workers are leaving the profession early, having burned out during the intensity of the Pandemic-period supply chain disruptions. It’s difficult to recruit for good procurement talent. It’s not as if people grow up telling themselves that’s what they want to do for a living. If there was ever a time to upskill massively the talent pool, now is it.

The best way to increase procurement staff quality quickly is to give them the tools that they need and a process that tracks with other ways they run their lives. It is a cliché to talk about how tech-savvy Millennial and GenZ workers are in comparison to their Baby Boom and GenX predecessors. But it is true.

Any improvement is going to have to come via a technology solution.

This technology solution must simplify the procurement workflow, first and foremost. People can lose sight of the objective, thinking their job is to preserve and extend administrative reach, when their job is to buy the right solution, from the right supplier, at the right price. A simplified workflow sharpens the project’s focus.

Any solution will need to augment the existing approach with tools and data so that intelligent people can learn best practices from what has worked in the past and from others in the field, even those in other organizations. Ideally, generative AI solutions enter the mix, to augment the productivity of even the most junior member of the purchasing team.

Simplifying the workflow will also attract bidders, by lowering frictions that discourage participation. Bidders make an investment decision when deciding whether to submit a proposal, weighing the cost of preparation and submission against the probability of success and its profitability. To the extent that a simplified workflow and additional tools that lower the cost of bidding are present, bidders are more likely to submit.

These changes more than pay for themselves given the scale of the savings suggested by this study.

This is what we’ve built at EdgeworthBox: a set of tools, structured data, and community that helps B2B buyers purchase the right solution, from the right supplier, at the right price. Watch this space for generative AI tools that simplify the workflow even further. If you’d like to talk, please reach out.