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By: IBISWorld Analyst, Jessie Henley
In the face of changing political landscapes, fluctuating commodity costs and increasing globalization, public procurement faces a range of buying environments where they lack the upper hand. While this may be inevitable in some cases, by entering negotiations armed with market knowledge and an understanding of the characteristics that work against them, buyers can increase their leverage and spend efficiency.
The fastest way for buyers to identify a lack of negotiation leverage is to look at the market’s buyer power score. A low buyer power score indicates that buyers are at a disadvantage in negotiations in that market, and will therefore need to take a more considered approach to the procurement process. Fortunately, just being aware of buyer power before starting dialogue with potential suppliers – which is often long before procurement is even brought up – can help those in public procurement plan and adjust their strategy to maximize savings.
Using our Procurement Data Wizard tool, IBISWorld has analyzed a range of markets with characteristics that often work against buyers, including rising prices, high market share concentration and a low availability of substitutes. Procurement and supply chain professionals can use the provided strategies and tactics to help increase their spend efficiency and encourage competitive RFPs when it comes time to approach suppliers.
Rising Prices? Look to Long-Term Contracts
While there are several factors that come into play when calculating a market’s buyer power score, the recent and forecast price trends hold the most weight. But while a forecast rise in price indicates that market conditions are working against purchasers, that doesn’t mean all is lost. Take oil and gas pipeline construction as an example; market prices have grown significantly in the past three years, and are projected to continue growing at an annualized rate of 4.0% through 2020. “Rising miscellaneous costs like surveying, engineering and regulatory filing fees will all contribute to an increase in rates in the next three years,” says IBISWorld Senior Research Analyst Agiimaa Kruchkin. However, Kruchkin also states that slower oil and gas production should lessen the rate of price increases compared to the past three years.
Rising input costs often translate to market price growth, particularly in commodity markets where raw materials make up a large portion of a supplier’s expenses. For example, in the natural gas market, prices have been fluctuating in the past three years due to shifting raw material prices. Because of these shifts — and to a lesser extent, a rise in demand — suppliers are expected to raise natural gas prices 3.8% per year on average in the three years to 2020, after a fairly significant annualized decline from 2014 to 2017.
While rising prices are not ideal when entering negotiations, there are steps buyers can take to hedge against expected increases. In markets that are influenced by rising input costs, buyers should negotiate contracts as soon as possible to avoid rising prices. Buyers seeking to purchase from commodity markets – including those mentioned above – can seek out long-term supply contracts with set rates to ensure their total expenditure over the length of the contact remains steady and manageable.
High Market Share Concentration Doesn’t Have to Equal High Stress
When a small portion of suppliers control a significant share of the market – known as high market share concentration – buyers generally face lower buyer power. Buyers have limited leverage because a small number of dominant companies are able to dictate prices due to a lack of competition. This trend is evident in the body cameras market, where IBISWorld research indicates that the top four suppliers account for more than 50% of total market revenue, as well as in the electroshock weapons market, where Axon-owned Taser International accounts for 50% of the market alone. The major players in each of these markets use economies of scale to their advantage, as this factor makes it harder for new and smaller vendors to enter the market and offer competitive pricing.
Suppliers in markets with high market share concentration are often able to charge a premium because buyers can’t use the presence of other suppliers as leverage during negotiations. Despite this, savvy buyers can look to other market characteristics that work in their favor to gain some ground. For instance, some smaller suppliers in the body cameras market, such as Motorola and Safariland, have gained market share in recent years, which could equal leverage for government buyers looking to renegotiate prices for long-term contracts. In addition to seeking out smaller suppliers, electroshock weapons buyers can use the market’s low driver volatility to negotiate favorable terms and steady prices, because suppliers face a low risk of sudden shifts to their input costs.
Leverage Suppliers to Counter Low Substitutes
Heavy regulation and a low availability of viable substitute goods work against buyers because they cannot use similar products or services to negotiate prices down. For example, due to specific requirements and legislation involved in airport and prison security, buyers will find it difficult to leverage the low availability of substitutes for full-body scanning machines during negotiations. Instead, buyers should negotiate with suppliers to bundle related purchases such as security equipment and services to gain volume discounts.
Similarly, in other markets buyers may be legally obliged to purchase from accredited providers, such as in the building inspection services market. The state or municipal government must substantiate suppliers, and many buyers are required by law to purchase inspection services depending on the nature of their businesses. Consequently, building inspection services have no legal substitutes that buyers can look to for use as leverage in negotiations. Fortunately, the market has low market share concentration, so permitting accreditation requirements, buyers may be able to negotiate with several suppliers at once and leverage them against each other to achieve the best price.
Find the Balance of Power
In today’s dynamic procurement landscape, those in public procurement must adapt and evolve to stay successful and efficient, particularly when dealing with difficult markets such as those mentioned in this article. Understanding characteristics that don’t work in the buyer’s favor can benefit procurement departments by prompting them to make smarter and more effective purchasing decisions. So, although buyers may face characteristics that at first seem to be disadvantageous, insight and a strategic approach can help reduce costs and boost negotiation power across a range of markets.