Conjoint Analysis in the Supplier Evaluation

The Value is the Willingness to Pay

In Lean methodology, value is a core concept that revolves around providing what the customer truly needs and is willing to pay for.
That leads us to another exciting notion - Willingness to Pay.

Willingness to Pay

Willingness to pay (WTP) refers to the maximum amount a customer is willing to spend on a product or service. It represents the perceived value of the offering from the customer's perspective. Understanding WTP is crucial for businesses as it helps set optimal pricing strategies and maximize revenue.

Willingness to pay (WTP) and utility are closely related concepts in economics and consumer behavior, as both deal with how consumers perceive the value of goods and services.

Utility vs. Value

Utility refers to a consumer's satisfaction or pleasure from consuming a product or service. It's a measure of the benefit or value that a consumer experiences. 

While utility is a subjective experience of satisfaction, value often has an objective component in the form of price. The price a consumer is willing to pay (their WTP) can reflect the value they place on the utility provided by the good or service.

Consumers make purchasing decisions by comparing the utility and value of different options. They aim to maximize utility relative to the value, seeking the best balance between the benefits received and the cost incurred.

Conjoint Analysis

Conjoint analysis is a statistical technique for understanding how consumers value a product or service's attributes. It helps identify the combination of features that maximize overall utility for a target audience.

The primary goal of conjoint analysis is to determine the relative importance of different attributes and to estimate the utility values (part-worths) associated with each attribute level. This helps businesses make informed decisions about product design, pricing, and marketing strategies.

Conjoint analysis measures utility, not value. The utility estimates obtained from conjoint analysis reflect respondents' preferences, capturing how desirable they find different combinations of product attributes. They are expressed in arbitrary units that reflect relative preferences rather than absolute worth.

Procurement process optimization for the supplier evaluation attributes

Therefore, conjoint analysis is deeply involved in the value agenda and may become helpful in supplier evaluation and selection. It's a complicated technique on its own. Still, this research suggests weights that we can apply to different attributes of supplier evaluation, as opposed to the legacy 50/50 split between cost and technical aspects.

Let's take this research's findings at face value, as they're based on excessive studies and sampling. We will only prorate the percentages, as the source documents provide the total sum of weights at 98,2%, which we need to increase to 100%.   

What we get is: 
  • product performance - 21,4%,
  • cost - 19.4%,
  • quality - 16.4%, 
  • delivery time - 14.6%,
  • technology - 14%,
  • financial stability (of a supplier) - 15,2%.  
Intuitively, I concur with these weights, as companies spend money to achieve value, while the cost balances the utility (our subjective satisfaction) and that value. So, almost 52% of the evaluation weight is given to technical, performance, and quality aspects, and 30% to delivery and financial stability (i.e., risk mitigation). 

Such logic can reverse the supplier selection in the sample case provided below.
 Conjoint weights in a supplier evaluation
This case considers "conjoint" weight distribution, as suggested above. Once we decide to apply more or less traditional weights (price—50 %, technology—30%, quality—10%, delivery—10%), this selection will be complete in favor of the lowest offer B.

Most of my colleagues have their own ideas about the distribution of weights. This post suggests referring to an independent source and operating the value-centered logic of the procurement process optimization.

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More information on this and other exciting topics can be found in "The Technology Procurement Handbook." It represents 23 years of experience, billions of dollars worth of successful sourcing projects, and 1000s hours spent on research, analysis, and content creation for the most demanding professional readers.
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