Blog
Blog
February 8, 2023
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Operations Management,
Operations Management
Fluctuations in supply chains as a result of the Covid pandemic, shortages of semiconductors, declines in demand, increased costs for components, the effects of the war in Ukraine, increases in personnel costs and, last but not least, significantly higher energy costs: Supplier companies are exposed to a wide range of external influences.
Accordingly, it is becoming more difficult to maintain profitability and thus liquidity at constant selling prices. For this reason, it is essential to negotiate prices with customers as part of the measures to increase profitability, in addition to cost reduction programs.
Preparation is the key to successful price negotiations and pain sharing with the customer
Price negotiations allow increased energy prices to be partially passed on. For directly attributable costs, such as materials and freight, there are often agreements that cover corresponding price increases. These are not the issue here. Experience shows that price negotiations should be well prepared, with the aim of creating transparency to help the customer understand the price increase. The aim is to share the cost of increased energy prices with the customer (so-called pain sharing).
Step 1
Bring together all relevant stakeholders (including purchasing, SCM, sales, production, controlling, management)
Step 2
Analyze actual price increases with corresponding evidence (e.g., contracts, invoices, purchase orders, other agreements with energy suppliers)
Step 3
Consider the current market situation including a corresponding outlook into the future
Step 4
Develop scenarios with different parameters and consider their effects
Price negotiations must become an ongoing process with all stakeholders so you can respond to short-term market changes to protect your company’s financial bottom line.
Thomas Karwelat
Principal, Staufen.Ag
To show the customer their share of the costs, the costs should be distributed per customer according to causation
It is not always possible to fully allocate costs. The effort required to determine this must also be seen in proportion. It is important that sufficient internal company resources are made available to prepare the required information in a timely manner. By developing an individual approach to allocating energy costs using the available information, you can show the customer their share of the costs in an understandable and comprehensible manner.
The customer should also be told what is being done from your side, for example, to reduce your own energy consumption and thus minimize the impact. This may include providing advice on energy-saving measures, optimization of procurement or alternative energy sources. Of course, only measures actually taken should be reported. This can be used to promote understanding by showing the customer that costs should not simply be passed on 1:1, but that the aim is to work together on a solution (pain sharing).
What to do if the price increase is not accepted and the situation threatens your existence?
No amount of preparation can guarantee that the customer will actually accept the price increase. There are various ways out for this case, depending on the situation in the company. However, if the situation has already deteriorated to such an extent that the increased costs could lead to a precarious earnings and liquidity and ultimately to threaten the company’s existence, further transparency should be created by linking the income statement and showing the effects on liquidity.
Preparing price negotiations is very individual and depends on various factors, such as the product, the industry or the size of the company. For this reason, preparation should begin early and the required information should be requested from the appropriate positions. If these positions are equipped with the appropriate mandate and the employees required for them are also well prepared, nothing stands in the way of successful negotiations.
Other points to note
It is advisable to conduct price negotiations on an ongoing basis. Similar to the process for pain sharing, contrary developments, i.e., price reductions, should also be passed on. Price negotiations are now no longer a rigid process that is conducted only once a year. Especially because future developments are becoming increasingly difficult to assess. Accordingly, the customer should not be “ambushed” by simply citing cost increases for various items. For this, it is essential to introduce a defined process with the required resources to react adequately and competently at short notice to changes during the year.
Caution is advised when considering or even threatening to stop delivery. Various legal hurdles have to be taken into account. In particular, contractual obligations should not be broken, which not only make future cooperation impossible but may also result in contractual penalties.
The final step before the price negotiation process starts all over again is tracking and controlling the price negotiations. Here, too, there should be transparency within the company with regard to the question of what proportion of the price increases could be materialized. The recalculation can be used as a basis for the next negotiation.
Understanding must also be ensured within the organization. Simple questions such as “Why aren’t higher prices simply enforced?” or “Why aren’t cheaper purchases made?” should be answered openly.
An open feedback culture is also of enormous importance in the context of individual negotiations with customers. This information should be shared regularly as part of a continuous improvement process (CIP).
Depending on the design of contracts and purchasing conditions, the energy price brake will have an impact on costs. For industrial companies, this “brake” will apply to 70% of electricity and gas consumption in 2021. It is advisable to take this into account when calculating energy costs.
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