When is the right price not the right price?

Sometimes things really are too good to be true. Often, if the price of something is too low, it is too low for a reason.

Many times while working in investment management my then boss would tell me “it may be a bargain William, but that price is telling you something”. Often he was right; the depressed price was a signal that there was an underlying problem with the company of which we were unaware.

Most recently, this happened to me in Kenya. I was getting stuck into my second week of the CBSM primary school build. We had established a good network of suppliers and barring a few minor problems with undersize foundation stones, things were going well.

Foundation stones being delivered of varying quality

However, money was tight (donations are most welcome by the way) and we were keen to save costs. Interestingly, in Kenya the cost base for a build is inverted to what you would find in Europe. There, labour is cheap and materials are incredibly expensive. For instance, our unskilled labourers were earning 250KSH per day –roughly €2.50 a day. A bag of concrete costs in the region of KSH800 or €8.00.

The foundations require vast quantities of aggregate (stone chips) and these arrived at site in 30 tonne loads. Initially, we had negotiated a price of KSH2,500 per tonne with our supplier Joseph, he always delivered on time, kept us in touch if there was a problem, and the goods were always to the right quality. By this time however, the build was attracting lots of local (unwanted) interest. People in shirts (as opposed to t-shirts) were turning up to the site. An unusual spectacle in this poor area, these turned out to be local suppliers who brazenly informed me that it was my “duty” to give them some business as it was a “community project”. I was reluctant to change suppliers as we had already established a simple functioning supply chain, with good stock control and I didn’t like their attitude. However, I am always interested to know the market price for goods so I asked for quotes for aggregate from two of the “shirts”. Kebaba bid KSH2,300 per tonne and Joshua bid KSH2,400.

Chatting to Masika the construction manager (white shirt) while a local supplier looks on

At first glance, here was a considerable saving to be made. Potentially we could save KSH6,000 per load. I was still unwilling to change suppliers. Besides, the local Kenyan team didn’t know these two locals. I decided to have a meeting with our trusted existing supplier Joseph. I decided to adopt an open book policy and presented him with the two quotes and asked if him for his thoughts. He looked at the paper, paused for a while and then reduced his price by KSH100 per tonne. He complained that the lowest bid was too low, there was simply no profit in that deal for the supplier after transport and other costs were added. Now, better understanding his supply chain, I could make a balanced decision. I therefore accepted Joseph’s bid of KSH2,400 told the other suppliers that our books were closed and asked them to leave the site.

Part of the CBSM build supply chain

The next day there was an uproar! Whilst I was procuring steel from Bungoma, the police had arrived and finding Kebaba (the low bidder) at the gates to the site, arrested him. Allegedly, he had been stealing aggregate (diverting lorries) from a government site. Had we taken Kebaba’s offer, there could have been serious repercussions not only for the build but also for the charity.

When dealing with suppliers it is important to understand their costs and know their business. Japanese companies such as Toyota are well known for taking a long-term view on business relationships and for the high transparency of the bidding process. For instance they often build-in an accepted profit margin into a deal. Moreover, if they then ask for further cost savings they will work with the supplier to ensure that these can be met and not at a price which damages the long term future of the supplier. After all, we want to ensure that suppliers can deliver in the long-term on cost, quality, time and also invest in their businesses. Ultimately this will be to our benefit too. The diagram below shows an “open book” 2 way communication strategy which can be used when dealing with suppliers as suggested by Lamming (1996).

2 way flow of information between supplier and purchaser

Sako (1992) in his analysis of UK and Japanese firms found that 3 types of trust are needed for good buyer-supplier relationships:

1. Contractual trust – the adherence to formal, legal promises
2. Competence trust – that either side is capable of delivering what has been prominsed.
3. Goodwill trust – which borders on “ethics”, trusting that appropriate behaviour will ensue.

Joseph is such a supplier. He delivers on time, on cost and to the required quality. I trust him and we communicate well; both giving and receiving information on the build. I also noticed that his trucks were in good condition and his employees were well looked after. Here is a man who is building his company for the future. Hopefully next time I receive a low bid from a supplier it will act as a warning light and I will be on my guard. In finance we have a term “KYC” for Know Your Customer, I think my experience in Kenya has taught me that the acronym “KYS” Know Your Supplier is equally valid.

Further reading:

Sako, M. (1992) Prices, Quality and Trust: Inter-firm relations in Britain and Japan. Cambridge. Cambridge University Press.

Brown, S, Lamming, R, Bessant, J and Jones, P. (2006) Strategic Operations Management, 2^nd Edition, Elsevier Butterworth-Heineman. Oxford. UK

Next: Succession planning: The King is dead, long live the King!

The Anchoring Heuristic and the Mzungo effect.

I’ve just returned from Kenya. Hopefully, I’ve successfully defeated the flourishing Amoebas in my intestine. I thought you might like to hear about my recent experience with the anchoring heuristic whilst building a primary school for the children’s charity CBSM Kimilili, in western Kenya.

Some of the 250+ pupils at CBSM School Kimilili enjoying lunch

I find it both exciting and challenging working with cultures different to my own but often such differences can lead to mistakes being made; for instance our lack of knowledge of the environment means that we are working with incomplete information. In such situations we are likely to draw on our previous experience, which may have little bearing or relevance to the current problem. These subjective judgements are called heuristics.

Heuristics are “a method of solving problems by finding practical ways of dealing with them, learning from past experience” (Oxford Advanced Learner’s Dictionary). Heuristics are often good; they help us make decisions quicker. However, by being aware of when we may be using them we can hopefully make better, more balanced decisions.One such heuristic is the “anchoring and adjustment” heuristic. Research has found that individuals tend to anchor their subsequent answers around a given starting point (Johnson, 2011).

Let’s take a look at buying cement, an expensive commodity in any country. On the school build we needed to purchase and have delivered 150 bags of 32.5N Bamburi cement for blinding the foundations. Lacking transport, we had to source the cement from hardware shops in town rather than buy from the wholesalers in Bungoma. I was sincerely advised at this point that I would be subject to the Mzungo (white man) effect and it would be impossible for me to get a fair price.

Mixing the cement and aggregate used in the blinding

Loving a challenge, I suggested that Masika, the construction manager and I work separately; we would each take a different side of the town, meet in the middle and the winner with the lowest price would win of a bottle of (cold!) Tusker beer. Well, I won the beer, having found a price of 5KSH lower than Masika!

Masika the Construction Manager, Agnes Kuhne and Dominik Klimmek at site

It was during the cement negotiations that I realised I had succumbed to the anchoring heuristic. We roughly knew the price of cement direct from the factory; add on a margin for the wholesalers and then for the retailers and we therefore assumed that the very best price (BATNA) might be KSH850.

Checking the quality of the cement before accepting the delivery

Sure enough, each hardware shop was quoting around the KSH860/870 mark, give or take KSH10. I therefore based my negotiations around this figure. That was until I came to Highway Hardware towards the end of Kimilili’s main street. Here, the owner opened the bidding with a price of KSH835 for the 100 bags! I realised my mistake that I’d been anchoring my bids at the KSH850 level. Now my negotiations would start from this lower price. In the end, I managed to knock a further KSH5 off the price and settle at KSH830 for 150 bags including delivery.

The 150 bags of cement arrive at the school

I think this experience is a good example of the anchoring heuristic; it also shows us that the colour of our skin doesn’t necessarily mean we can’t get the best price.

First price anchored at the higher level, Highway price much, much lower.

90:9:1 Breaking the Social Media Engagement Rule – The Lurkers, Commenters and Creators galvanised by the children’s charity CBSM Kimilili in Kenya.

On social media platforms 90% of people are lurkers, 9% are commenters and just 1% are creators (Nielsen, 2006). This is a widely used rule in social media. Pretty amazing isn’t it? However, when you start to think about it, it sort of makes sense. Take a look at your Facebook posts; see how many of your friends have commented on a post and then using this rule you can get an idea of how many have actually looked at this post.

This tells us something about the human spirit. Most of us are lurkers; checking our friends’ photos and comments but only responding some of the time. In general, we are quite happy to sit back passively on the sidelines. Sometimes though, those lurkers and commenters can be galvanised behind a cause to become active participants too.

90:9:1 Social Media Engagement Rule (adapted from Nielsen [2006])

“All dreams can come true, if you have the courage to pursue them…”

Away from Facebook, consider the wider implications of the social media rule for gathering support. Let’s take a look at a children’s charity called CBSM Kimilili in Kenya. One year ago, two young women travelled to the small town of Kimilili in western Kenya to teach at the local school. On their arrival, Agnes Kuehne and Alexandra Frick were shocked to see that the site had no toilets, no water, and a single classroom for all age groups.

CBSM Kimilili Agnes Kuehne with pupils Ima and Brilliant

However, by the end of the 4th week these two had, with donations from friends across the world, bought the land for the school, galvanised the community into building 3 additional classrooms, built a loo block, provided water access, fenced the perimeter, provided books, some uniforms for students, interviewed, employed, and salaried 2 teachers. Their website states “All dreams can come true, if you have the courage to pursue them…”

CBSM Kimilili pupils at break time

Blogging: Alex & Agnes tell CBSM Kimilili’s story to the world

CBSM Kimilili relies on donations for its continued existence supporting the development of the youngsters in its care. During their stay, Alex and Agnes blogged each day telling the world about the little school, its wonderful pupils and inspiring staff. From an anonymous start, word spread virally on the Internet about this remarkable story. During their stay the blog was receiving over 200 hits per day. Through social media new friends and supporters were made and old acquaintances got in touch.  A friend of Agnes by chance stumbled across the blog and inspired by what he saw freely gave his time to design their homepage. Since July it has received over 9,500 hits. CBSM Kimilili’s social media usage of Facebook, blogging platform and website are the lifelines for continued funding and development of the school. It is those 90% lurkers and 9% commenters who, inspired by Alex and Agnes’ creative efforts are no longer passive but are actively helping provide schooling and support to the children of Kimilili, Kenya.

Alex Frick with CBSM Kimilili teacher Calvin

How will you galvanise your lurkers to become active participants?

In order to help your business, the question you should ask yourself is; how can you galvanise your lurkers? If you get it right, the rewards are great; these people can become active supporters of your business. To give you some ideas you may want to check out the blog and homepage of Kimilili – you may even find yourself contributing.

4th grade biology class: learning about plants

Further reading:

Agnes’ & Alex’s blog: http://unsinnleben.blogspot.com/p/investments-overview.html

CBSM Kimilili homepage: http://www.cbsm-kimilili.org/

CBSM Kimilili blog: http://blog.cbsm-kimilili.org/

Nielsen, J., (2006) “Participation Inequality: Encouraging More Users to Contribute” (Online) Available: http://www.useit.com/alertbox/participation_inequality.html [Accessed: 16/11/2011]

Russo, A., Peacock, D., (2009) “Great Expectations: Sustaining Participation in Social Media Spaces” (Online) Available: http://www.archimuse.com/mw2009/papers/russo/russo.html [Accessed 15/11/2011]