How to perform fact-based purchasing negotiation for cost reduction with a supplier?
A fact-based vendor negotiation strategy is considered one of the most effective cost reduction strategies available to reduce spend. In this article, we’ll cover how you can leverage a product cost management (PCM) platform such as Prognos to perform fact-based price negotiation with a supplier and how you can successfully use this strategy to obtain significant savings on all your spend.
But before anything else, let’s get down to basics.
What is a PCM platform?
A PCM platform is an intelligent manufacturing cost software that uses a plethora of both global and localized cost inputs to help a company estimate how much the cost of a product should be, the so-called “should-cost”.
A PCM platform such as Prognos gives you all the data, information and insights you need to be able to perform a fact-based supplier negotiation strategy and get the most out of your suppliers. Using a fact-based vendor negotiation strategy will ensure that:
- You will pay a fair price for all your products.
- You will not be overspending for the products.
- Your suppliers will not be losing money.
What is fact-based price negotiation with a supplier?
A fact-based negotiation strategy is simply using all available data and insights on different cost drivers to negotiate with your suppliers to make sure you receive a fair price.
During a fact-based price negotiation with a supplier, Prognos detailed cost driver information enables you to have focused discussions with suppliers about products. Prognos PCM platform also supports you in identifying if there are any gaps between your data, and your supplier’s data.
How do you use Prognos PCM platform to conduct fact-based vendor negotiation strategy?
“Knowledge is power. Data is knowledge.” The more facts and data you have, the stronger your negotiation position will be. Prognos PCM platform provides you with a complete breakdown of critical negotiation areas including:
- Raw materials
- Manufacturing costs
- Tax and Transport
- Labour costs
The key to a successful fact-based price negotiation with a supplier is revolving around gap identification. The main goal should be to identify outliers and the biggest differences between your and your supplier’s data. Using facts and data extracted from several sources all over the world is a much more effective negotiation strategy than acting on “gut feeling”. Using arguments such as “Your price is too high” or “I want a X% cost reduction” without anything to back it up won’t suffice. Bring a set of different specific cost variations to the negotiation to explore and discuss with your suppliers. This will keep the price negotiation with a supplier focused on facts and figures instead of emotions.
The 9-step process to identify cost negotiation opportunities
When looking to identify cost reduction opportunities among your suppliers, the first step is to narrow down the targets by determining the scope of what you’re going to negotiate.
Why? You can’t negotiate everything that you buy. Also, some products are simply not worth the time or effort to start negotiations about.
We recommend starting out with the items you spend the most money on simply because that’s where the biggest cost reduction potential is.
1: Perform estimates
First off, make sure to run your estimates and make sure you have your facts straight. This is a vital step in order to perform a successful fact-based price negotiation with a supplier. When estimating the cost for your target products, we recommend double-, or even triple-checking, to make sure you’ve used the correct material and volumes as well as have accounted for any secondary processes that play a role in the production of a product.
2: Identify cost gaps
Once you’ve performed your estimates: identify the parts where the estimated cost differs greatly from your supplier’s price. These are the ones you want to target for immediate vendor negotiation.
If the estimated gap is so big it’s too good to be true, many often write it down and dismiss it as a fluke of the system. But in a lot of cases, this is where the biggest cost-saving opportunity usually is. A big difference between your estimates and the actual cost is often an indication that there may be something missing from the estimate or that something regarding the processes is not fully understood.
3: Identify standard outliers
Next: identify standard cost outliers. A standard cost outlier refers to when the prices difference between your PCM platform estimates and the actual cost is greater than 15%. A >15% gap is significant enough to be called an outlier. When happening across a standard cost outlier, you may be missing some process or there might be some other reason for the big difference.
To try and remedy this fault, it’s important to perform a detailed cost breakdown analysis for all outliers.
4: Identify excessive premiums
Once you have access to a detailed cost breakdown both from the supplier and your PCM platform, your next step is to identify areas where you might be paying excessive premiums for secondary processes.
Example: If your supplier is paying for transportation to send a product to and from a sub-supplier, how much of it are you paying for? While yes, you should always be paying for these costs, the question is: are they reasonable? You should be willing to give your supplier some premium, but not an excessive amount of premium.
5: Identify key areas for cost saving investigations
Next is to identify the areas where your detailed cost breakdowns differ the most. Sort these by the gap percentage to identify the potentially highest cost saving opportunities.
Identify the largest differences and then investigate the reasons why they exist.
6: Investigate processes and production volume
How does your supplier create their product? This is an important insight to be able to compare it to the estimate of your PCM platform. If the estimate is different, find out why.
Maybe the supplier has limited capabilities. While this may be acceptable when volumes are low, as soon as the volumes increase you may not be using the best supplier.
If your supplier does not have the capabilities to provide you the product via the most economical process available because they might not be in possession of the right equipment – it may be a sign to change suppliers.
7: Investigate differences in material cost
In certain cases, you might find that the biggest difference between estimates lies in the material costs. This could be a result of several different reasons:
- The raw material costs are too high
- Material utilization is too low
- Credit for scrap
Find out the reason why and act upon it to make sure the price is right and fair.
8: Examine set-up costs
While set-up costs are often ignored, it’s often a source of low-hanging fruit to negotiate for cost reductions. If you’ve identified the set-up cost as a key area making up a significant portion of the total cost (15-20%), then it might be worth investigating further.
9: Request a requote
Last but not least: request a requote. It’s human to err. In some cases, you might find out that your supplier simply misquoted, or that they might have quoted a product when you were buying low quantities (maybe during the first year of production) and the price was simply never updated.
Try out Prognos today…
…and start up your fact-based price negotiations with your suppliers. Let us help you to get the most out of your supplier and identify potential cost saving opportunities to reduce costs. We give you access to all data, information and facts you need to get the upper hand in your supplier negotiations, or at least level out the playing field.
Contact us today for a free demonstration.
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Supporting fact based negotiations since 1983.