AVOIDING THE AVOIDABLE
Jul 1, 2001 12:00 PM,
Treating your proposal as a list of commodity items only reduces the sales price and the value perceived by the client.
ACCORDING TO THE LAWS OF PHYSICS, SOME things just can’t be changed. I’m sure you can name a couple examples right off the top of your head. For instance, we all know that the sun rises in the east and sets in the west. No matter how hard you try, there’s no way that you can change that wonderful ritual of nature.
In the world of business, we all have our rituals and ways of doing business that we think are written in stone, The key concept here is that we only think they are written in stone. Take the ritual of listing details and unit prices of all the items in your proposal. It’s a common practice among system integrators. But it may be time to realize that this practice isn’t the cornerstone of good business, and, in fact, it might be worth dropping. Examining some of the rationale behind this ritual might shed light on why so many people do this, and why most people could do without it.
WHY DO WE PROVIDE LINE-ITEM UNIT PRICING?
We practice the ritual of line-item unit pricing in our proposals for several reasons. The first reason is called “The Rule of Everyone,” which states that it’s normal to line-item price your proposal because everyone else does it. But just because everyone else does it doesn’t mean you have to follow the herd. By innovating and thinking differently than the rest, you can outmaneuver the competition and make more money, just like other innovators such as Henry Ford and Bill Gates.
The second reason is “The Rule of Inertia.” One of the most common excuses owners will use is, “We’ve been itemizing our proposals since day one and have never had a problem. Why should we change?” But inertia is just an excuse. There’s no doubt that change is difficult. On the other hand, it’s also true that with change comes greater opportunity and the potential for higher profits.
WHY CHANGE THE RULES?
The rule of unit pricing needs to be changed, and here are the reasons why. First, by providing line-item pricing, you turn your proposal into a grocery list of commodity items rather than a systems solution. Remember: You’re not providing components; you’re providing a solution to a need. Does General Motors tell you what you’re spending on an individual plenum cable when you buy a car? Of course not! GM manufactures transportation systems. If you don’t believe me, try walking into a car dealership and asking them for an itemized list of the more than 10,000 components that go into an automobile. By treating your proposal as a list of commodity items, you are only reducing the sales price and the value perceived by the client.
The second reason not to itemize prices is strictly economical. If you list unit prices of the different components in your proposal, you reduce the value of add-ons and change orders. This is especially true if you unit-price the original proposal, since you may have had to reduce the price to win the initial project. With the reduced prices reflected in your proposal’s unit pricing, it’s logical that all change orders and additions will be awarded based on those lower-than-standard prices. Since most projects add items (and rarely delete them), it is fair to assume that you are locking yourself into lower margins when you itemize your initial proposal.
DEALING WITH CONSULTANTS
You’ll inevitably be asked to itemize your entire bill of materials by price. If a consultant is involved, he may even provide a template for inserting price information. This helps the consultant compare your pricing with other bids and sets limits on the pricing for additions and deletions to the base contract.
So there is a dilemma. Your goal is to bid the job to win (which requires significant discounting). At the same time, you want to charge your standard book pricing for additions and change orders, where most companies make money on a project.
Here’s how we addressed the unit-pricing problem and consultants. Our unit prices for all items were made in accordance with our established price book. Most of the time, these unit prices were at MSRP. If there was no MSRP, we established our own unit prices. To reduce the price for the initial project to a point where we could win, we applied a one-time discount to the bottom-line bid instead of discounting the individual items in our proposal, as shown below.
Sometimes, our discount was quite significant, exceeding 35%. If a client asked why the up-front discount was large but didn’t apply to changes, we honestly explained that there were greater economies of scale associated with the up-front job. We specifically bought for the initial project, receiving quantity discounts from our suppliers that were passed on to the client. Changes, whether additions or deletions, cost more to administer. Most of the time, this honest explanation passed the test.
Another strategy is to take expensive one-time purchase items, such as a computer software package or a switching system, and significantly reduce the unit price of that particular item. This will help lower your bid price; and it won’t sacrifice future profits. Reducing the unit price of commonly used items like speakers, cameras and cable, however, might cause you to lose money in the long term.
Rituals are defined as patterns of behavior regularly performed in a set manner. Unlike physical laws, they can be changed to adjust to external conditions such as fluctuations in the market and changes in business practices. Rituals typically change when they become unhelpful; and unit pricing in the systems business is one of those rituals that can (and should) be avoided, if not barred completely.
Alan Kruglak is the former owner of GIC, one of the most profitable systems integration firms in the country, sold to Sensormatic Electronics Corporation in 1995. For more information, you can reach Kruglak at 301/365-7522 or[email protected].