It has been decades since President Ronald Reagan popularized the proverb "trust but verify." Since then, the phrase has been a mantra for those who want to make sure what is presented as fact is supported by data, a paper trail, or corroboration.
For anyone working with suppliers and seeing an increasing number of price-increase demands flood their inbox, this trust-but-verify principle has gone from an activity that should be done to one that must be done.
In an era where several external factors – ranging from the pandemic to marketplace disruption to Russia’s invasion of Ukraine – stoke inflation and further snarl the supply chain, companies need to be able to identify just how necessary a price increase really is. Passing these price increases further up the value chain may be difficult, or even impossible, so every additional dollar spent needs to be carefully considered and justified in order to protect margins.
To avoid unnecessary conflicts with suppliers or a scenario where one party’s threats are simply rebutted by counter-threats, a data-driven cost model needs to be established. This model takes several factors into consideration, and includes evaluating both the base line for pricing and new pressures a supplier is facing.
This task isn’t simply a back of the envelope exercise. AlixPartners has been helping clients employ state-of-the-art cost estimating tools that can do top-down and bottom-up costing, and present suppliers and customers with options. Are there productivity improvements to be made? Is there excess labor, redundant costs, or unnecessary waste in the manufacturing or shipping process?
In addition to understanding the nuts and bolts of a product being sourced, and the way it is manufacturered, handled, and shipped, effective modeling also needs to include up-to-date insights on several inputs. Having real-time data on raw material prices, hourly labor costs, freight rates, energy costs, and other data will help determine whether a supplier absolutely needs to pass along an increase or if they are baking in unnecessary costs.
When armed with data, customers can transition from being blindly hit with price increases to better able to anticipate those hikes, and negotiate on better footing when negotiation is needed. This unlocks more transparent exploration of potential actions – whether they be pushing the supplier to implement their own productivity improvements or agreeing to higher prices.
Consider, for instance, when a supplier says they are paying twice as much for energy as they did a year ago. They reference a distributor that went out of business. Having an effective, anticipatory model that knows this supplier’s exposure before they raise the issue allows you to respond with facts rather than threats or a knee-jerk concession.
In this case, having done the math and concluded your supplier has a valid case, you can weigh options like the following:
- Stick to the contract, especially if you are covered by an escalation clause,
- Compensate the supplier with a lump sum outside of the contract while sticking to initial terms,
- Bring the supplier under your existing energy contracts, leveraging scale and further solidifying the relationship.
Reach out to us if you would like to prepare better for fact-based discussions of your suppliers’ prices.