Who pays the middle man?

29 March 2017

Service brokerage as a concept has a dirty image.  Paying a middle man to help find a service seems counter intuitive, when the world is full of information at the touch of a button.  IT people are probably the most sensitive to this, usually intelligent, tech savvy, suspicious individuals who would much rather do their own research than pay someone else to do it for them.  I get it, I am one.

A good example of this is the consumer insurance market.  Back in the 1980’s, you would go to your local insurance broker to organise your insurance.  You would explain your circumstances, he would go and find the “best deal” from the providers he had on his books, and claim a commission for his services – or in some cases he would charge you for the privilege.  The rise of the internet has completely blitzed this model, with comparethemarket style services that automate this process free of charge to the client.  But now there is more than one comparethemarket style service, so consumers have choice, which could be confusing.  Avoiding the invention of the comparison site for comparison sites (comparethecomparethecomparethemarket.com), the comparison sites are competing for the affections of the consumer through crass marketing tactics, like giving away cuddly toys (and it works!?!?)

Personally, I moved away from the comparethemarket model for my insurance needs a few years ago.  The issue with being open to the “cheapest deal” is you end up with different providers for every aspect of your needs.  The overhead of multiple payments, statements, contracts, renewal dates outweighed the potential cost benefits – I spent so much time on comparison sites I couldn’t live the rest of my life.

I moved to a centralised supply model, trusting all my insurance needs to a single large provider who offered home, travel, car, life etc. insurance all from a single management portal, single bill, single contract.  It was awesome, for about 2 years, until I realised I was paying about twice the market rate for my services because the provider had decided customer loyalty was less important than short term profit.  They’ll be out of business soon, idiots. Never using them again.

The reality of this analogy is there is a true cost to managing procurement of services, especially complex services.  Brokerage models, whereas dirty sounding, are actually the most sensible approach.  I would dearly love to have a chap who removed the overhead of managing my insurance needs PROVIDING the following were true:

-          He was not ripping me off, or making a fortune from his suppliers that was built into my costs through hidden fees.
-          He had a broad enough supplier base to ensure the market was being represented, not just his chummy suppliers
-          The complexity of the services he was brokering was sufficient to be a pain to manage myself.
-          The cost of the time it would take me to manage the process of sourcing suppliers was broadly equivalent to the cost of the broker.

This latter point is the crux of it.  For the sake of simple mathematics, let’s say an average London based IT procurement guy gets paid £100k per annum (fully loaded).  That is £500 per day assuming 200 working days per annum.  If an average business has 20 suppliers, each supplier takes 3 days to initially research, shortlist, meet and interview, verify references, credit check, then that is 60 days per annum searching for suppliers - £30k per annum.  Let’s assume these 20 suppliers in total bill £600k per annum of service charges – you could pay a broker 5% per annum of spend to do this for you.

But brokerage fees are less than that in the main.  Because they operate on a volume model, with slicker sourcing processes and owned IP around the marketplace on which suppliers do what, they generally operate on 1-3% of spend.  Now this is built into the supplier costs, but even at this rate you are getting a service for half the cost of an internal staff member.

And the maths gets even stronger when you consider that most suppliers don’t build in the full brokerage cost into their model.  The actual cost of brokerage to a supplier is offset against their marketing and sales budgets, which would be built into pricing anyway.  If you bought direct, you are just funding the suppliers own sales and marketing function – are they really going to charge 1-3% more for a brokered service than direct?  Have a look at the cost difference between a comparethemarket quote, and a quote direct on an insurance company’s website and see how much more it is.  It’s not different at all, the insurance company is just pocketing the difference to support more direct marketing.

So, the cost of the middleman is nothing.  But the value of the middleman is enormous.  Market insight, supplier independence, standardised documentation that saves time in procurement cycles, relationships with suppliers AND clients to provide valuable opinions on the best way of sourcing stuff.  If executed correctly, by professional individuals with market experience, it’s free consulting to the client, paid for by the supplier, instead of them printing a new brochure.

I can’t think of a better term than “brokerage” for this style of advisory service, and actually I don’t want to.  The reality is brokerage is a skill, dragged into a dark place by some shiny suited insurance salesman of the 1980’s, but a skill that has a significant value if done correctly. 

IT and Telecoms is ridiculously complex, unstructured, ever changing and you need to know what you are doing to buy intelligently.  The IT and Telecoms industry is full of shady suppliers, who would gladly rip you off if you aren’t on your toes.  The market is consolidating, diversifying, competing and is full of opportunity for clients to save money / improve service providing you are willing to engage with it.  If you have the time and money to do so, then great.  For the other 99% of clients, it’s a lot cheaper and easier to work with knowledgeable brokers to find suppliers that work for your business.  And it costs you nothing!

Ultimate no brainer?

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