Guest Post by Malcolm Peart (first posted on CERM ® RISK INSIGHTS – reposted here with permission)

The Low Bid: Who’s Risk?

We live in a competitive environment and business generates the money that makes the world go round, or at least should do.  Money is the medium of exchange for goods and services and allows society as we know it and the global economy to function.

Those who have money engage those who want money to provide them with products or services and this is done through contracts.  Contracts are awarded at a price that the person who has the money (the Client) is prepared to pay and ‘the winner’ is typically the lowest compliant bid.

If compliance isn’t met then there is suffering somewhere. It can be the Client, the Bidder, the end user or all three and on Government projects it’s the taxpayer who, inevitably, pays.

The Risk

The end users suffer if contracts aren’t met.  As an extreme case, the astronaut John Glenn (1921 – 2016) exemplified this when he said:

As I hurtled through space, one thought kept crossing my mind – every part of this rocket was supplied by the lowest bidder…

In a more down-to-earth setting the end-user may think along similar lines when there are power cuts, water shortages, garbage pile ups, traffic disruptions, rail and airport delays and accidents.

The Cause

So, why would a bidder put in a low bid…is it:

• a ‘loss lead’ to nurture a future relationship.
• a plain mistake and a failure to price the job correctly.
• a vane attempt to increase turnover without the sanity of profit.
• desperation to keep the company afloat.
• an effort to look good while underbidding and eradicating the competition

No matter what the reason, if the low bid is compliant and it’s accepted, it’s everybody’s risk.

The Consequences

For the Client, he is left with a reneging supplier and is then obliged to terminate the contract or possibly pay more.  The supplier may be forced into liquidation and cease to exist as a business entity.  The end-user isn’t supplied.

The consequences were summed up in an eloquent manner by John Ruskin in the 19^thCentury when he said:

If you deal with the lowest bidder, it is well to add something for the risk you run, and if you do that you will have enough to pay for something better…

For the supplier who has the low bid and operates at a loss his business may fail. In the paraphrased words of Dickens’ Mr Micawber it’s a fine line between misery and happiness:

“Income $20.00, Expenditure $19.99 cents: result, happiness. Income $20.00, Expenditure $20.01: result, misery.”

And for the end users who may think that the low bid is a bargain we should remind ourselves of Benjamin Franklin’s sagely observation some two hundred years ago:

“The bitterness of poor quality remains long after the sweetness of low price is forgotten”.

However the consequences can reach much further when the low bidder eventually realises there is a problem and the supply chain is affected.  Somebody, somewhere, may gamble on providing things cheaper and a downward spiral of undercutting develops.  But, as the problem grows and people strive to keep their business afloat they will, like the proverbial drowning man, clutch at straws.

Mitigation

Clients should be prudent about the apparent bargain that lands at their feet and consider the consequences that can ensue if it is accepted.  “Never look a gift horse in the mouth” is true but the ‘low bid’ is business, not a gift.

The low bid may have to be accepted because of financial rules that may demand that the lowest compliant bid is acceptable.  In these circumstances it’s a self imposed problem as Finance Officers do their job by rote resulting in satisfactory underperformance and plausible deniability as the “rules” are followed blindly.

On the other hand, there is the opportunity to accept a more realistic bid, exercise caution and then decide upon a sustainable solution.

Reality

A low bid represents a risk so why, with our risk management skills, do we choose the low bid.  It should not be about the ‘bargain’, it should be about prudence.

For the Client it’s caveat emptor but for the low bidder it’s caveat venditor…

Bio:

MBA, MSc DIC, BSc; Chartered Engineer, Chartered Geologist, PMP

Over thirty years’ experience on large multidisciplinary infrastructure projects including rail, metro systems, airports, roads, marine works and reclamation, hydropower, tunnels and underground excavations.

Project management; design & construction management; and contract administrative in all project phases from feasibility, planning & design, procurement, implementation, execution and completion on Engineer’s Design and Design & Build schemes.