Why open competition is not (always) effective competition 

Does open competition guarantee effective competition? The short answer is no. The slightly longer answer is sometimes, but not always.

But this leads us to two very important questions:

  1. Why does open tender seem to be more prevalent?
  2. What would be a better alternative to open tenders?

The first question is relatively easy to answer, whereas the second is not.

More buyers, and not just government, are turning to open tender processes as a means to address fraud prevention and providing all suppliers with the opportunity to quote. Let’s be clear though, open tender is by no means the only, or even a foolproof, safeguard against fraudulent behaviour.

There are also some not so good reasons why buyers are opting for an open tender approach, such as a blanket organisational policy requirement or Free Trade Agreement obligations. Why aren’t these good reasons? Well, while they might meet some higher policy objectives, they are unlikely to deliver value for money outcomes at the coal-face.

So, why doesn’t open competition guarantee effective competition?

The concept behind competitive offers is that when suppliers are forced to compete with a number of other suppliers, the purchaser will obtain a better value-for-money outcome. And it can work very well (all the recent well-publicised supplier collusive activity aside[1]). We can even see the benefits at the retail market level, with advertised price matching policies – and some retailers even going further, offering an additional 10% discount.

Setting aside the potential fraud and corruption prevention benefits and providing opportunity to each and every supplier in the world, the main premise behind the theoretical value for money generated by open offer processes is that all or most suppliers want to compete for your business and will provide a competitive bid each and every time.  In practice, this is demonstrably not the case.  Further, in some cases, an open offer process may actually deliver the buyer less value for money.

In a typical open offer process, of the potential thousands of known suppliers in the world, only a small sub-set of suppliers will find an advertisement and obtain the associated tender documents.  Of the suppliers that review the documents, an even smaller sub-set will submit an offer.  It is quite a common occurrence, in my experience, for project managers to nervously await the close of offers to see if a perceived critical supplier has submitted an offer.

There are many reasons supplier don’t respond to requests for quotes, and these are often exacerbated for open tenders:

  • Complexity of response required, i.e. detail of specifications, number of requirements
  • Onerous contractual terms and conditions or liability and indemnity provisions
  • High cost to respond to the offer
  • Opportunity cost to respond to the offer (other business that could be more predictably pursued)
  • The supplier is already working near capacity with more work readily available without the need to respond to lengthy tenders (with no predictable outcome)
  • The supplier’s success and reputation hinges on frank and open communication with the potential customer so chooses not to operate in the communication vacuum prevalent in open tender processes, i.e. overly restrictive probity requirements
  • Open tenders can advertise the wrong intent – price over relationship. Some of the better value for money suppliers may not be interested in competing at the “bargain basement” end of the market.

From a supplier’s perspective, responding to any request for offer has a cost, and it can certainly benefit a buyer to help reduce these costs by not asking for responses that are irrelevant to the decision – like 100 pages of response forms.

To bid, or not to bid? Cost versus probability.

It is worth keeping in mind that most suppliers will have some form of bid / no-bid process to determine if they should invest in an offer response. One of the key issues used to inform the bid / no-bid decision will be the investment required (cost) versus the probability of winning (level of competition) – i.e. the return on investment proposition. You can read more on this in my last blog.

So what does it cost to prepare an offer, and why should the buyer care? Unfortunately there’s no hard and fast guidance. The Western Australian Local Government Association (WALGA) estimates that responding to local government tenders costs suppliers between $10,000 and $25,000 – and more for complex tenders; another metric was 5% of the tendered price. Buyers need to understand that that cost needs to be recovered for a supplier to stay in business.

If 20 suppliers were to submit offers for an open tender – using the WALGA estimates – then $200,000 to $500,000 needs to be recovered by the supply market (that is from their customers) to cover all suppliers’ costs of that one procurement – not just the $10,000 to $25,000 spent by the winning offeror. Now think about how many tenders a supplier might respond to in a given year!

Maximise competition, not quantity of offers.

At the end of the day, a good procurement process should aim to maximise competition (and hence value for money), not the number of offers responding – these are not the same thing. As ever, quantity should not be seen as a proxy of quality.

While an open offer process may provide some benefits, it should be regarded as just one of many procurement methods available – sometimes an open tender can work against the buyer. This is where the strategic procurement or category management function can provide guidance.

Procurement professionals need to be familiar with a number of procurement pathways and select the most appropriate method to suit each particular procurement activity.  Failure to do so can significantly reduce or even remove the expected business value delivered by the procurement.

[1] Some examples over the last few years from the ACCC website include electrical cable suppliers (2014), petrol price information sharing (2015), air cargo price fixing (2008), automotive wiring harnesses price fixing (2015) and ball and roller bearing pricing cartel (2013).

Louis Hof

Senior Consultant