A Japanese Reverse Auction is an auction type that requires all suppliers to bid at a continuously decreasing price (the value of which is set by the buyer/host). The bidders may choose to either bid at the current value or drop out of the auction. Rather than most reverse auction types which finish in principle when the second-to-last bidder drops out of the auction, a Japanese auction ends when the single supplier left has offered their lowest value they wish to bid or their time limit has elapsed during that individual price level.
The fundamental aspect to a Japanese Reverse Auction is limiting the information available to the suppliers. For example when using Market Dojo software if a bidder drops out of a Japanese Reverse Auction, the only information available to that bidder is; the values that they have bidded on, the value at which they refused (and therefore dropped out of the auction) as well as the time that elapsed while they participated in the auction. Unlike typical auctions types in which they may have visibility to see the winning value of the auction or at the very least their rank.
Another important difference to typical auction types, is that with a Japanese Reverse Auction the bidders aren't directly competing against each other's bids. For example in a Ranked Auction, bidder 1 would bid against the value of bidder 2. Whereas in a Japanese Reverse Auction, bidder 1 and 2 would both have the option to bid for value X without the knowledge of each other's bid. Thereby stopping a bidder from directly bidding to oppose the value of another bidder.
What's so special about a Japanese Reverse Auction then?
- Japanese Auctions limit the information available to the bidder - Suppliers can’t see who they are competing against or know the values that another supplier is bidding. In some cases this could stop bidders from discovering each other's margins, if they know the lowest values that different suppliers can offer then they can calculate the margins that their competitor can supply.
- A different form of pressure is put on the supplier to traditional auctions, as they aren't directly bidding against each other's bid. They are pressurised into choosing to bid at each declining value, meaning that if they don’t bid at the price level, then their competitor might and they would lose out entirely.
- Typically in ranked reverse auctions the incumbent supplier might decide not to partake fully. They may attempt to demonstrate a competitive yet non-leading bid as they don’t feel the need to offer the best price. This is because if the difference between them and another bidder is not significant, the buyer is unlikely to change the supplier. It is estimated that 60% of reverse auctions remain with the incumbent supplier even if they don’t offer the best value or price in the auction.
But what's the benefit to me?
By limiting the level of information to the suppliers, it encourages suppliers to offer at an affordable price they can supply for. Rather than just offering a value that is better than their competitor. It also stops suppliers from bid shadowing (offering a value within a small margin of the lead bidder potentially still including them in consideration after the end of the event even if they didn't win).
Japanese Auctions are particularly effective in a situation where there might be price fixing between suppliers, especially in a market with a limited number of suppliers. For example if 1 or 2 companies hold a monopoly on your market, a Japanese Auction would encourage them to offer their best value rather than just to offer a value that beats that of their competitor.
Do you have any examples?
Homeserve recently saved £1.4 million through Japanese eAuctions, while shortening their negotiations process from weeks to hours. In this case the eAuctions were for various subcontractor services across the UK and had over 140 suppliers participating.
Has it been labelled as a 'lazy mans tool'?
In the past Japanese Reverse Auctions has been seen as a ‘lazy mans tool’. This could be due to Japanese Auctions being able to function with a very limited number of participants.
However Japanese Reverse Auctions require the hosts to set a number of different conditions for the auction. Such as the predetermined price decreases, the time limit of each predetermined price decrease and setting the range for the qualification bid. And as with other eAuctions you need to correctly create the specification of the item/service and SLA’s. Not to mention getting the suppliers engaged. Meaning that although it might be a simple way to generate competitive bids from both the incumbent supplier and new suppliers, it requires some effort on the part of the host to create the right environment to get the most competitive result from a Japanese Reverse Auction.