Basically, a reverse auction is a particular method of putting out a contract for open competition. In a normal auction the seller offers to contract with the highest bidder.
In a reverse auction, a buyer offers to contract with the lowest bidder.
Thus, in a reverse auction, sellers/suppliers compete to obtain business. Reverse auctions fit well into a strategic approach to purchase because they have a high probability of delivering the lowest possible price for a given supply, at least in the case of fungible or near fungible goods and services.
The contract is offered to competing suppliers, and each is allowed to put in repeated bids for the contract (as in an auction) until one bid is left that no other supplier is prepared to beat.
The contract for supply then goes to that supplier.
In the construction field, reverse auctions are also suited to design-build construction, in which all contractors bid to a common design and building specification.
The actual mechanics of a reverse auction vary. Generally, suppliers are notified in advance of the day on which the auction is to be conducted. Usually, bids must be submitted over a period of two hours or less.
Prices bid are posted on a website and each bidder has the opportunity of bettering the current quoted price until the reverse auction closes. The bids are ranked and are transmitted back to each participant while the identity of each bidder remains confidential.
Each time a new bid is submitted, the revised rankings are communicated back to all bidders. In this way, the lowest bid price gradually decreases, until the deadline arrives and the lowest bid remains.
Like tenders, reverse auctions are not well-suited for the supply of non-fungible goods or for most services, in view of variations among suppliers offered by each competitor.
In construction procurement involving a design element or limited material specifications, for instance, it is considered likely to create greater likelihood of disputes, bad faith in the bidding and performance of contracts, and an increased risk of claims.
Insofar as it encourages low-ball bidding, this claim has at least a ring of truth, even in relation to design-bid build arrangements. Low-balling results in cutting corners with resulting side-stepping of best construction practice.
The concern over price thus compromises the quality of the project. For other types of construction where experience in related work may be a critical element of the purchase decision, reverse auction bidding is even more likely counterproductive.
In addition, a reverse auction does not always deliver savings. It is conceivable that further savings could in some cases be generated by following another approach.
For instance, it is said that the prices that buyers obtain in the reverse auction reflect a “narrow market” available at the time when the auction is held. It is argued the use of the process precludes the possibility that a better price could be obtained at some other time.
This is no doubt true, but it is equally true of any other bidding or price solicitation process. Market prices always go up and down. On balance, in many cases the benefits of reverse auctions from a customer’s perspective are substantial.
As the Canadian Construction Association noted in its own special bulletin protesting the use of reverse auctions in construction:
“Reverse auctions can be suitable for the procurement of supplies and materials, but not when combined with construction services. A supplier of standalone office products or automobiles, for example, can establish their absolute minimum prices and profit margins, as these products are often catalogue items, with easily predetermined unit cost for production and delivery.”
Not surprisingly, reverse auctions were not especially popular with suppliers. A host of arguments are brought forward to attack them. They undermine the relationship between the government-customer and its suppliers, it is said.
Stephen Bauld is a government procurement expert and can be reached at swbauld@purchasingci.com. Some of his columns may contain excerpts from The Municipal Procurement Handbook published by Butterworths.
IT would be interesting where the supplier feedback came from. We automatically send out a survey to every supplier that takes part in a reverse auction with us, whether construction, services, commodities, you name it. The Net Promoter Score from all our surveys from just suppliers averages over 30, which puts it up there with Adobe in terms of popularity. Often suppliers cite the transparency and ability to counter-offer as the main benefits compared to say a sealed bid or RFP process where there is often no option to react to any feedback.