THE BUSINESS REVIEW FOR PROCUREMENT LEADERS
Faced with supplier demands for raw material price rises? Then have the guts to respond in a strategic manner
by Richard May
Commodity markets around the world have seen big price increases of late. Many suppliers, having been on the receiving end of aggressive price reduction efforts from mostly tactical buyers for years, are using the opportunity to return their bottom lines to profit levels that satisfy their bankers and shareholders, and enable them to reinvest in their businesses.
In response, my colleagues and I have witnessed a lot of “woe is me, there is little we can do” reactions, not only from teams of buyers but also, amazingly perhaps, from senior management in some well-known companies. Why is this? In Asia, my personal view is that many do not want to “rock the boat”, preferring the pain to much-needed surgery. If only these same people had the confidence and guts to tackle the issue in a more strategic manner.
Consider, by way of example, the following true story. A supplier, positioned in key markets in Asia, had built an impressive and dominant position with one of its major customers. The latter had become quite dependent on the supplier and had few alternative sources of supply for its product – a critical raw material stemming from commodity markets that was indirectly influenced by the price of oil.
The supplier’s sales team was instructed to raise its prices by 24 per cent over a very short period. Initially, it imposed an immediate 12 per cent increase. Two weeks later this was followed by a further 12 per cent rise, again with little advance notice. The customer had no time to find alternative sources and little ability to pass on the price increases to its own customers.
One can appreciate how the buying team felt. This supposedly was a “partnership” relationship (at least, those were the words used by the supplier). So how did the buying company react? Well, the new purchasing director did what many do not: he paused and thought about what appeared to be a hopeless situation, then sought business support to bring together a cross-functional team and apply a structured strategic sourcing process to this raw material.
Although the immediate issue was responding to the price increases, he was determined to use the opportunity to bring fresh ideas to his company’s supply strategy. A structured review by the team revealed key supply vulnerabilities across the Asia region, although purchasing people at the country level had little visibility of these. It also identified, for the first time, the company’s true business needs. Interestingly, this multi-dimensional, multi-stakeholder analysis of what the business really needed produced a different picture to the one seen by the purchasing team. Whereas it had focused on “saving” and “reducing price”, the actual need was more focused on security of supply and protection of margin.
The resultant strategy saw action to reduce risk in several countries: some around introducing new suppliers; some that included back-integration; and some that involved building relationships with suppliers that had previously been ignored.
With pressure from the business to “get raw material prices down, or else!” and to “teach those b*****ds a lesson!”, it would have been easy to take a short-term view. But this would have prevented the overall strategy being implemented and the vulnerability problems being solved once and for all. The purchasing director was adamant that his team would not mimick the supplier’s behaviour, and he spent time ensuring that his buyers took an empathetic approach, giving three months’ notice of change and ensuring that the relationship was maintained. Today, though, this supplier has significantly less business than it had before the price increases were imposed.
The cross-functional team’s close interaction with key internal stakeholders ensured that actions were well co-ordinated and that the strategy played out as planned, with both risk and the total cost of the raw material being reduced. All of this took place over a two-year period, so it was not an overnight process. However, this project has earnt the purchasing team a new level of respect from the business heads, has enabled support for hiring new “strategic category managers” and clearly identified, in the view of management, the differences between tactical and strategic purchasing.
The lesson of this tale? If you are on the receiving end of a significant price increase, have the guts to take a more strategic approach. Look below the surface, understand your supply markets, your costs, the risks across the supply chain, and your business and relationship needs. In every supply chain we have worked in, there was an opportunity like this waiting to be seized.
Richard May (richard.may@pmms.com.hk) is managing director of PMMS Asia Pacific, in Hong Kong
