THE BOTTOM LINE

Auctions eventually can reverse the benefits of competition

Bob Little

On the surface, reverse auctions present agencies with the delectable opportunity of getting more for less. A single buyer'an agency'lets multiple vendors engage in a negative bidding process in which the bids are visible, resulting in prices falling until only one remains. The agency snaps up the products or services at the lowest price and saves a bundle.

If something sounds that good, it must be fattening.

OK, maybe fat isn't the real issue. But beneath the too-good-to-be-true veneer of reverse auctions lurks the question: Why are auctions illegal and immoral, even if they aren't fattening? To answer that question, we need to explore the essential nature of price competition as it has evolved over the years.

Its essential nature is secrecy. The rules for sealed bidding and competitive negotiation are, to quote a ruling from the comptroller general in 1926, designed to 'give all manufacturers, etc., equal right to compete for government business; secure to the government the benefits which flow from competition; to prevent unjust favoritism by an officer of the government in making purchases on public account, and to raise a bar against collusion and fraud.' The statement refers to the predecessor statute (R.S. 3709) to the Armed Services Procurement and Federal Property and Administrative Services acts.

Note that the requirement for sealed bids arises out of, among other things, a need to 'raise a bar against collusion.' The secrecy surrounding the process won't prevent collusion, but it does discourage it. How?

The fundamental, sought-after effect of secrecy is that competition'not the competitors'sets the price.

In my previous column [GCN/Shopper, August, Page 37], I raised some of the legal questions facing reverse auctions. I referred to a case in the late 1970s involving the Great Atlantic and Pacific Tea Co. A&P had conducted a bidding contest for dairy products between Borden and Bowman Dairy Co. At one point, A&P allowed Borden to beat Bowman's lower bid'without disclosing the actual bid'by doubling its initial discount.

The Federal Trade Commission found A&P culpable of using its considerable market influence to induce the bidders to compete unfairly, and argued that A&P should have given Bowman a chance to meet or beat Borden's bid. The Supreme Court overruled FTC, however, saying that continuing the process of lowering the bids'which sounds suspiciously like a reverse auction'was ultimately anticompetitive.

Knowledge is power

On a different front, let's use the A&P case to develop a hypothetical scenario. Ask yourself this question: How much would Borden have lowered its price had it known the actual price its competitor had offered? If you say a dollar less than the competitor, you are correct. Which is precisely why A&P didn't let Borden know what the competitor's price was.

A&P was not so stupid as to allow the vendors to see each others' prices'that is, conduct a reverse auction. Moreover, as the Supreme Court noted, doing so would have been 'contrary to the public interest' of having the competitive marketplace, not the vendors themselves, set the price.

You might argue that the Supremes are wrong. After all, how can a process that drives down prices for government buyers be anticompetitive and not in the public interest?

But take the A&P case a step further. Suppose A&P obtains the competitors' permission and releases each bidder's offer to the other, thus creating a reverse auction. A&P would intend to create a bidding frenzy.

The bidders would quickly decide that (a) a bidding frenzy is stupid, (b) 'make love not war' works for them, and (c) if we have to conspire, it's better than losing money.

So each competitor would decide what it wants out of the deal. One of them takes the contract at a higher price than secret bids would have obtained and the other gets either cash out of the savings or future considerations from the winning bidder.

But that's collusion, you say? Yes, but that's what everyone who has given the matter serious thought believes will happen. That's also why old procurement regulations prohibited using auction techniques. They were right.

Bob Little, an attorney who has worked for the General Accounting Office and a Washington law firm, teaches federal contract law. E-mail him at rlittle13@aol.com.

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