All You Need to Know About Dutch Auctions
When we look for hotels and flights, we tend to be more price driven than when buying, say, clothes or electronics. In procurement, the same factors affecting behavior are at work. For some categories, price is the most significant factor in sourcing. Sometimes price is the only consideration. When we seek to get the best out of a deal, sourcing strategy is key.
Auctions are one of the highly-specialized tactics that work very well for price-specific categories. Auctions come in various types and each need to be tactically deployed in procurement projects for the best result. The most common procurement auction is the reverse auction, but there are forward auctions, Dutch auctions, Japanese auctions, and more. Determining an auction type is as much a part of the strategy as anything else and is based on various criteria such as the number of bidders, market conditions, type of savings opportunity and so on. I have seen the benefits of Dutch auctions specifically and would like to share my experiences.
Imagine a world where you could dictate a price to fly first class with all frills included and aviation companies had to acknowledge your bid. Sounds crazy but that is basically the nature of a Dutch auction.
A typical Dutch auction starts with the lowest possible price (the price at which the buyer will receive maximum savings) followed by gradual increases at regular intervals. A typical Dutch auction ends when a supplier accepts the price in each interval. Here, prices are governed by the buyer organization and bidders must acknowledge the price.
The benefits of Dutch auction are multiple. Since there is only one bid to be placed and the price tick interval times are short, this auction can be completed very quickly. The process is also simple to implement and easy for bidders to understand. There is significant pressure on suppliers to quickly accept the price since there is the looming fear of missing out on business. Decreasing prices ensure that bidders will be tempted to bid above the price planned internally. Starting a Dutch auction at the lowest possible asking price enables the buyer to communicate the perceived value of the product to the bidders.
Over the time, a standard Dutch auction has evolved further into additional form to provide benefits of regular auction as well, i.e. instead of conducting the auction on fixed prices, provide a levy to the bidders to quote their best offers but still guide the prices.
Dutch Auction – Fixed Price: This is the most commonly used Dutch auction type in industry. The buyer determines a fixed price at each interval and the bidders must acknowledge their acceptance of that price for the interval.
Dutch Auction – Range Price: Over time, the standard Dutch auction has evolved into an additional form that provides the benefit of regular auction along with a certain degree of psychological pressure typical of a Dutch auction. Thus, instead of conducting auction on a fixed price, the buyers provide a right for the bidders to make their best offer but still guide the prices. This is also termed as “Modified Dutch Auction.” Instead of a fixed price, the buyer provides a “price range” at each interval and bidders must acknowledge their acceptance of the price in each interval.
Dutch auctions can be used in any category. Whether it be travel, rentals, or stationery, there is no specific category that dictates where a Dutch auction must be used, or avoided. The dynamics of a category vary across industries, geographies and even in time. Thus, one needs to evaluate the potential benefits of a Dutch auction against other sourcing strategies before ruling it in, or out.
This is yet another example of how the future of procurement software still has human expertise at its core. Price is rarely the only consideration, but just occasionally it is the only thing that counts, and when that happens, it’s time to reach for the virtual gavel!