L4M5- Chapter 2- Preparing for negotiation Flashcards
What are direct and indirect costs?
Direct costs are associated with the production of a good or service
e.g. materials, utilities directly related to manufacturing or delivery, hourly labour of staff in production, expenses
Indirect costs are general running costs of an organisation that are hard to attribute to a specific product e.g. rent, insurances, head office labour, office consumables
What is a fixed and variable cost?
Fixed costs- remain the same irrespective of the volume of activity of a business
e.g. factory rent, equipment, security, salaried staff
Variable costs- costs change in proportion to output
e.g. raw materials
What is a firm cost?
Fixed to some extent but can move in line with predetermined criteria such as through a certain index
What is addressability of spend?
Spend that is influenceable through negotiation or applications of other savings efforts or leverage with suppliers
e.g. you may not be able to negotiate on things like statutory minimum wages, regulation costs
What is value analysis?
Process of analysing costs with the aim of identifying cost reduction and control opportunities to ensure efficiency and maximise profits
What is value engineering?
Review and amend new products to reduce costs and increase value to customers
The STOPS WASTE acronym can be used to consider the key cost reduction ideas, but what does it stand for?
Standardisation
Transportation (is it appropriate)
Over engineered (is the spec too tight)
Packaging
Substitutes (e.g. another material)
Weight (can it be taken out of the product)
Any unnecessary processing?
Suppliers input (can the suppliers knowledge help with reductions)
To make (can you make it yourselves cheaper?)
Eliminate
Why is it important to consider the vendors supply capacity when negotiating?
Average costs will be higher at low and high capacity utilisation (when a factory first opens there will be significant overheads or fixed costs to recoup and at high capacity costs may also rise as equipment fails and staff costs may increase)
So you want to find the right sweet spot
What is the advantage of early procurement involvement?
If involved in design at the spec stage then they can feed in prices and costs to designers so they are aware of the likely budget implications of choices being made
If procurements are brought in at the end it may limit their negotiation leverage
What is the BE point?
Break even point
The level of output where revenue equals cost
What is the calculation for break even point?
Price - variable cost = contribution
Fixed cost/ contribution = break even point (volume of units to sell to break even)
What are overheads (OHD)?
Costs relating to the overarching business structure and existence, usually independent of sales/turnover
What are the types of costing methods?
Absorption
Marginal/variable costing
Activity based costing
What is absorption costing?
Where overheads are absorbed proportionally or by a defined mechanism into the product prices
What is marginal costing?
The cost to produce an additional unit of output
e.g. if the cost to produce 100 units is £1000 it is £10 per unit. But if the cost to make 101 units is £1005, then the marginal cost is £5
Absorption costing includes a % based on the overheads, even if the overhead costs have already been covered. Marginal costing does not include this.
What is dynamic pricing?
The practice of varying price of a product or service to reflect the change in market conditions, in particular charging higher prices at a time of greater demand
Think about what airlines do online
What is activity based costing?
A costing model where costs are allocated proportionally to the usage
Works well with lean thinking, ie. by selecting more efficient usage the costs are reduced
There are some ethical issues with this type of costing as there could be challenges with equity (in that customers may all be paying different rates, e.g. rural areas pay more for internet vs urban areas)
What is cost plus?
Contract where the pricing is split by itemised cost and then adding an agreed margin
Associated with cost transparency but also sometimes the contractor may have limited incentives to find the most economic solution because of guaranteed income
What is the difference between margin and mark up?
Margin= profit given as a percentage of the sales price
Mark up= profit as a percentage of cost
What is the difference in calculation for gross profit vs net/operating profit
Gross profit = sales revenue - costs (direct costs)
Operating profit = gross profit - indirect costs
PBIT (profit before interest and tax) and EBIT (Earnings before interest and tax) are ways of measuring net/operating profit
What is a ZOPA?
Zone of potential agreement
The overlap between the buyers and sellers most desirable outcome (MDO) and least desirable outcome (LDO) where a deal is feasible
What is P2P?
Procure to pay
System that connects the steps of the procurement process from commencement of the acquisition through to final payment
What are the different types of pricing strategies used by suppliers?
Cost plus- supplier calculates total variable and fixed costs, adds a %
Skimming prices- Adoption of a high price to take advantage of early excitement and high demand
Premium pricing- very high price not connected with cost structures
Penetration pricing- Enter a new market so price reduced to increase volume (price may steadily increase)
Marginal cost pricing- supplier recovers only the variable cost element in its price (normally if fixed prices are covered)
Market pricing- sells in line with what the market is willing to pay
What levers can be used to create savings?
Volume concentration (pooling, consolidation, buying consortia, standardisation)
Demand management
Best price evaluation (should costs, benchmark internally, compare TCO, hedging)
Global sourcing
Spec improvement
Joint process improvement
Relationship restructuring- make vs buy, outsourcing, alliances, joint ventures
What is PPCA?
Purchase Price Cost Analysis
A detailed analysis of the cost elements in the purchase price and understanding how they may fluctuate going forward
Normally highly specific, focussing on one production line, one product or service
Essential to support negotiation on price
When would PPCA be used?
Big spend items
Strategic items (or leverage items moving to strategic)
Major impact to your cost base
Give examples of the elements that make up the PPCA analysis
Material costs
Process/labour costs
Employment costs
Overhead costs
Distribution costs
Depreciation on equipment
Profit
When would knowing the PPCA not deliver a CPD?
It is a useful tool for cost breakdown and pricing objectives of suppliers. However it is information that a supplier would need to accept
The supplier would also need to be less powerful
You may have limited leverage with the supplier
What would be some examples of sources of data for macro/micro economics?
Office for national statistics
Bank of England statistics
GOV.uk
World bank
Trade unions
Communication with suppliers
BBC
What is microeconomics vs Macroecomics??
Branch of economics that studies the behaviour of individuals and businesses
Macro looks at the nation, industry or market
What are examples of microeconomic factors?
Scarcity, choice, opportunity cost
Supply & demand
Equilibrium price
Elasticity
Competition
What is an opportunity cost?
Potential benefits foregone by choosing one alternative over another
What is the law of diminishing returns?
Where adding more to something doesn’t yield equal outcomes
A restaurant may take on new staff as it has become popular, but at some point you cannot just keep hiring staff because there would be too many people in the kitchen
What is a ROM price?
Rough order of magnitude
This is sometimes called a ballpark figure, it is effectively an estimate
What is the equilibrium price?
This is in microeconomics and is when the quantity demanded is equal to the quantity supplied
At equilibrium there will be no shortages and no surpluses
Based on the price and the quantity being produced, if supply is above demand there will be a surplus and therefore a reduction in price is required to get back to equilibrium
Normally economists will say that if someone says there is a shortage it will be caveated with ‘at a price’ because its just about finding where the equilibrium price is (even if the price is extremely high or low)
What is elasticity?
Refers to the responsiveness of quantity demanded or quantity supplier to a change in price (or other factors)
Can be described as elastic if a small change in price causes a big change in demand
It would be inelastic if a big change in price led to a small change in demand- tobacco, electricity, fuel, basic food etc are examples
What is income elasticity?
Responsiveness of quantity demanded or supplier to changes in customers income- when income increases, customers buy more of some items
What is cross elasticity?
Responsiveness of quantity demanded or supplied of good X to a change in product Y. Eg. as price of electric batteries for cars falls, the demand for petrol engines declines
What is perfect competition?
Many firms producing identical or very similar goods/services
No barriers to entry or exit from the market
Both producers and consumers have perfect knowledge or the marketplace, costs, prices and what influences S&D
Under these conditions all prices tend towards equilibrium (because anyone who sets a price above equilibrium will sell nothing, and below will have 100% market share)
Impossible to increase profits through pricing
Attractive for buyers as there is plenty of choice and competition (but negotiation on price would be less important as its dictated by the market)
What is a contract price adjustment?
A legal clause whereby the contract price can be varied up or down by reference to an agreed formula e.g. inflation rate
How can you deal with monopoly suppliers (where it would be expected they have greater bargaining power)?
Make yourself an attractive buyer
Seek out alternatives/substitutes
Design out there requirement
Lobby the government
What is monopolistic competition?
Many different producers but they will try and use product differentiation e.g. branding to distinguish themselves from other producers in the market
Although their products may be similar, they can act as monopolies in the short run
What are some examples of macroeconomic factors?
Affect the broad economy at a regional or national level
Economy growth rate- level of buying/selling in an economy
Inflation rate- rate of price increases
Interest rate- charges levied by banks for credit
Exchange rates
Unemployment- % of the labour force unemployed
Protectionism- government restricting imports (Make america great again style policy restricting imports)
Quotas/tariffs/border controls
What are the 3 key considerations for macroeconomic factors?
- Changes and rates of changes- when the factor is moving it is usually due to a change, e.g. unemployment rate rising/falling rather than a new input. Behaviour of procurement teams will be dictated by the rate they find normal e.g. in UK we may be used to inflation at 2% but in other countries 25% may be normal
- General vs particular effects- Many may be unaffected (or affected more) by a change in a factor. E.g. if inflation is at 15% it does not mean that all companies have 15% inflation impacting them and thus a 15% price increase
- Expectations/consumer sentiment- Everyone will have a view on what might happen in the future (e.g. consumers, law makers, media, academics) and this will have nan influence on commercial decision makers
What are Fisher and Urys preparation stages in a negotiation that help ‘getting to yes’?
- Set your overall objectives
- Try to establish their objectives
- Identify your tradeable/ negotiation issues (MIL)
- Determine your fallback/BATNA
- Develop scenarios around possible options
What is MIL?
In a negotiation plan you should identify your MUST (this would be your LDO/least desirable outcome), INTEND and LIKE (this would be your MDO/most desirable outcome)
What is the bargaining mix?
All the issues which are up for negotiation
Where a parties position is different from their desired position will be the negotiation
There are two levels of need in a negotiation, what are they?
Organisational- what they want to achieve, often well stated and understood
Individual- generally not stated but gets to the heard of the motivation of the individual
What is a BATNA?
Best alternative to a negotiated agreement
Fallback position if the negotiation fails to result in an agreement
The more variables you have in a negotiation the more likely you are to find an opportunity for a win win outcome. What would be some common variables?
Price
Payment terms
Length of contract
MOQs
Lead times
T&Cs
Publicity
Exclusivity
IP rights
Added value services
Volume discount’s
Dedicated named staff
Seniority/experience of staff
Knowledge transfer
Working hours
What are the 3 steps in establishing your BATNA?
- List everything you could do if you do not reach an agreement
- Explore and improve the best options
- Choose the one that provides the best desired outcome to be your BATNA
What is a ZOPA?
Zone of potential agreement
Overlap between a buyers and a sellers MDO/LDO
Price is often the main focus of a commercial negotiation but what examples of negotiable variables are associated with price?
Unit discounts/volume rebates
Payment terms
Currency
Inflation/changes over the contract life
Learning curve savings
Payment against objectives
Charges for upgrades/maintenance/after sales support
Free services e.g. training or warranty
What is a concessions plan?
A good negotiator will not give up anything that has not already been planned as part of the bargaining mix
A concessions plan helps identify upfront what variables that you can negotiate are
You can draw a matrix of things important to you vs importance to the other party
What is a false wall?
making demands that you know you will concede to make them negotiation points to get concessions from the other party
What are the benefits in adopting a team approach to a negotiation?
You are less likely to be intimidated
Less likely to make unplanned concessions
Individual team members can focus on specific areas
You can stage manage e.g. good cop bad cop
risk of frauds and sharp practice is reduced
Junior staff can observe
What is a simple way to describe different preferred negational styles?
Warm- peoples person
Tough- hard nosed
Logic- a numbers person
Dealer- loves bargaining
What are the ADV and DISADV of a warm negotiator?
ADV
Friendly
Good listener
Looks for mutual gain
Trusting
Relatable
DISADV
Too accommodating
Finds it difficult to deal with conflict
Too much focus on personal issues
Difficulty in dealing with someone who isn’t also warm
What are the ADV and DISADV of a touch negotiator?
ADV
Natural leader
assertive
Persistent
Decisive and keeps things moving
DISADV
Rigid
Inflexible
Does not build on ideas
Selective listener
Impulsive and impatient
What are the ADV and DISADV of a logical negotiator?
ADV
Grasps details
Precise
Methodical
Plans well
DISADV
Absorbed into details
Cannot change styles of persuasion
Miss the bigger picture
Reaches deadlock easily
What are the ADV and DISADV of a dealer negotiator?
ADV
Builds relationships
Effective communicator
Listens to the other party
Interrelates issues quickly and makes quick decisions
Creative
DISADV
Neglects detail
May shift position/topics quickly
Agreements may not be able to be implemented
Neglects long term goals
