The Underlying Problem of Underbidding — and How to Fix it

I’m all for competition, in fact I love it. It’s important for a variety of reasons the least of which is that competition often brings out the truth about how you can improve your product; and it can motivate your team to work harder. Having said that, when your competition starts “winning” deals by simply buying business, a red flag should go up: for you, your customers, and everyone who is impacted by your business.

This past quarter, my company lost out on two significant projects — significant to us, but not for the reason you might think. Projects are won and projects are lost; that happens in the business world, but the reason why these two carried so much weight from our perspective was the way we lost them.

We were underbid. Not just by a little, but a lot: 50 percent, in fact.

Think about that: half of your standard revenue would be gone, but you’d spend your standard resources to fulfill the job. Some customers will always bite at the lowest price, but what do they lose when they choose an extreme low bid over options with established reputations? Quality, customer service, reputation, relationship, scalability, and all of those other factors get thrown by the wayside for everyone involved when prices are underbid by 50 percent.

The more I thought about it, the more the practice worried me — not as an individual business owner, but as someone that’s actively involved in our industry and the business community as a whole. I took a deep dive into the topic, and no matter how I looked at it, I kept coming to the same conclusion. It’s fine and expected to bid competitively on price, but things turn into a severe underbidding war, the collateral damage includes both your company and the your industry as a whole. Here are five reasons why:

#1 Your bottom line suffers

Profit margins are all about input and output. If there’s less input, then your profit margin suffers, and that’s not a sustainable business strategy. Think about the things impacted over the long haul: overhead, quality control, product/service development, customer service, etc. All of these critical items are eventually compromised because of extremely low bidding. Some early-stage companies may think that it’s a viable practice to do whatever it takes to “win” business (and maybe you need to do this with your first 5 to 10 customers to prove out your model and get some wins) but this does not scale. In fact, for SaaS margins and bookings ACV (Annual Contract Values) are more important.

#2 Your internal morale suffers

Employee morale can make the difference between a successful company and one on life support. So how are employees supposed to take it if they hear that the company is using this strategy? Simple logic dictates that it will raise anything from questions to doubts, and that could lead to loss of motivation or even loss of talent, and that puts an anchor on your long-term viability. Your engineering and product team is working hard on building an amazing product, and rest assured when they see you giving away the platform for “free” it will get to them.

#3 Your external reputation suffers

Some businesses do make purchase decisions based solely on cost. These businesses eventually either go away due to poor quality control or they get burned by poor quality, and then decide to look at the bigger picture when deciding. If you develop a reputation for being the "cheap" option, you may see a short-term spike in contracts, but as resources become limited and value suffers, word will get around and competitors with greater means of talent retention and quality control will start to get the work.

I have often noticed that customers do not always want to work with the lowest price vendor, but the one that provides the best service. The same way it puts up a red flag within your company, it will likely bite you in the ass outside of your four walls.

#4 It limits your contract options

For businesses that run on regular and renewable contracts (i.e. a SaaS application), the low-bid model introduces a variety of problems. If it's a low-bid month-to-month contract, there's no option to recognize it as an annual contract, which is a necessity in the industry. Also, what happens if you underbid a price and that leaks out to your other customers? Will you deal with the hassle of renegotiation, set a new universal price point, or try to find another way to appease them? You may have won a new contract, but that contract also opens a Pandora's Box of business problems.

#5 The industry is deflated

In business, companies are often guilty of employing copycat strategies as a reaction. Now imagine if a small but significant percentage of companies used this extreme low bidding method to win business. Suddenly, the market price has recalibrated but expenses and overhead have not. That means resources are drained to compensate employees, thus leading to frustration and burnout. How can an industry grow if it shoots itself in the foot over and over?

What are your options besides price?

Instead of focusing purely on bid price, the conversation should turn to other value propositions. What does your company do that distinguishes itself from the competition? What does your company history and industry reputation say about you? What do you do to spur internal innovation, and how has that pushed your company offerings? What kind of resources do you dedicate to customer relationship management?

Price is always going to be a big part of any bidding process, but it doesn’t have to be the only factor. By eliminating extreme underbidding and focusing on competitive overall value, we lift our respective industries as a whole — and that’s truly good for business.

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