The Garrison Report #2003-4

No Reverse Bidding

Earlier this month I attended a presentation advocating the benefits of “reverse bidding.” After listening to that presentation, I immediately knew that I had to respond. Contractors present became upset because they felt that it was a form of “price shopping” that was being justified by using a computer. I agree but more important, the consultants advocating this program are giving owners bad advice.

However, as an industry we can’t complain about reverse bidding because we don’t like it or it’s not fair to contractors. The reason is simple: owners care only what’s best for them, and as long as they believe that reverse bidding offers them an advantage, they will use it. Instead we must counter the bad advice with education. We must educate the owner on why the program is not in his or her best interest. To win this battle, we must be proactive.

A procurement expert made the above presentation, but the problem is the expert doesn’t understand the construction industry. In an effort to strengthen her position, she brought along a large general contractor who uses reverse bidding to obtain sub bids. However, when the contractor was pressed, he admitted the best results involved the purchase of commodities. The problem is construction isn’t a commodity. In my opinion this contractor, who does CM work, provides this service because some of his customers believe this will produce a lower project cost. Instead of attempting to educate its clients, this contractor merely goes along the path of least resistance to keep its customers happy. This contractor is doing its clients, itself and the industry a disservice.

Reverse bidding has problems. First I spoke to one contractor who attempted to compete in reverse bidding on two different projects. He was able to land a small project at a higher cost than he would have bid it. This can occur because a bidder’s initial bid is higher than its normal prices. Then if there are an insufficient number of bidders, a contractor might be able to steal a project at a higher price. The owner obviously doesn’t benefit from this process. However, the same contractor attempted to bid on a large project, but the low bidder was almost 20 percent below his costs. With costs like this, it’s not hard to believe someone made a mistake and the owner will be unhappy with the final results.

Another contractor told a story where a top-ten Fortune 500 company attempted to use reverse bidding. After numerous prequalified contractors refused to participate, the owner finally managed to obtain five willing bidders and proceeded. The project ended in a disaster complete with litigation. This owner decided against further use of reverse bidding. Other contractors mentioned that some of the companies that the consultant claimed used reverse bidding have already given it up because of poor results. In reality, the benefits of highly competitive bidding are bad enough, never mind reverse bidding. Owners would be better served by working with contractors who provide their services based on differentiation and niche expertise. If you have not read earlier issues of The Garrison Report that address these subjects, please go to www.tedgarrison.com/resources/garrison-report to read them.

 

Why Reverse Bidding Doesn’t Work

The major reason reverse bidding does not work is the construction process is a complex system. The construction system contains at least three critical subsystems: the defining (owner figuring out what it needs), the design (architects and engineers doing their thing) and execution (contractors building it). The best way to maximize the results of a system is to coordinate the entire system. In contrast, suboptimization of a system creates disappointing results. This is not a new thought; Edwards Deming has been saying since the 1950s that the suboptimization of a system doesn’t improve the entire system. For example, if an owner beats down an architect’s price, causing the architect to not finish the drawings, this can result in substantial change orders. Braess’s Paradox states that when you attempt to suboptimize a system (which is what reverse bidding attempts to do by getting the lowest possible contractor cost), you end up with some interesting results. It says you have a 25 percent chance of improving the whole system, a 50 percent chance of having no change and a 25 percent chance of actually making the situation worse. I would venture to guess that because of extensive pressure on contractors’ prices for the past few years, virtually all the benefits (top 25 percent) have been found. Now suboptimization of the construction process has major negative effects.

The consultant creates another problem by claiming the software can evaluate the bids. But we all know the comparison of bids can be a very complex process and not something someone who is not a construction expert can do. The procurement expert attempted to explain that reverse bidding is about getting the best bid, not just the lowest price. However, this claim illustrates her lack of understanding of the construction industry. The contractor admitted that judgment had to be added to the process. Since most owners aren’t capable of doing this intricate evaluation, some are looking for a “by the numbers” evaluation process, so they buy into the consultant’s recommendation. In reality, it’s almost impossible to establish a program for each client’s specific needs. For example, if the owner has only six parameters, such as price, quality, schedule, experience, service and communication, and each parameter has only three subparameters, you would create a matrix of 729 possibilities (3 to the 6th power). I can guarantee the consultant’s program does not properly analyze all the issues.

 

Summary

When talking with owners who are considering the use of reverse bidding, you need to stress the disadvantages to them. If you complain about why you don’t like it, many owners will just dig in. Some owners believe if the contractor doesn’t like it, it must be good. Here are four educational points to make:

  1. Make sure they have discussed this concept with other owners who have tried it and found it didn’t work to their satisfaction.
  2. Reverse bidding doesn’t always guarantee the lowest price.
  3. Reverse bidding eliminates the potential benefits of the contractor, designer and owner working together to produce the best possible project. In other words, maximize the effectiveness of the entire system instead of attempting to suboptimize the system.
  4. Reverse bidding tends only to increase the antagonism on the project. This generally results in increased change orders and litigation.

 

I hope this report gives you some ideas on how to deal with clients who are considering the use of reverse bidding. The best defense is taking care of your clients so they don’t even consider this option.


* * * * * THE END * * * * *

Previous: The Garrison Report #2003-3
Next: The Garrison Report #2003-5

original site by jack out of the box designs inc. | © Copyright 2010 Ted Garrison | Site Map