Is That Price Increase Necessary?

Costs go up in a seemingly never-ceasing process. Suppliers raise their prices so the businesses that purchase from them raise their prices. Those businesses that purchase from the businesses that have just raised their prices have to raise their own prices. And so it goes.

Unfortunately for most businesses they’e unable to pass on a price increase without threatening their customer relationships. The usual reason a business changes its source of supply is that a price rise has triggered off a search for a replacement and one thing leads to another. Price rises can be very costly if they go above a major customer’s point of resistance.

Studies in the manufacturing industry sector have found that not all price increases are warranted or even necessary. Many price hikes are caused from sloppy management practices where businesses have simply allowed their internal costs to rise too quickly, then panic and try to “catch up” by increasing their prices.

If everyone with purchasing responsibilities sets out to minimize costs — not just to batter down the first price they get but genuinely keep costs at a minimum for both their suppliers and themselves, the picture could be a lot different.

Let’s say that company A regularly sells a product to company B. The price of that product has stayed the same for the previous twelve months and now company A has told company B that a price rise is in the wind.

Company B has three options:

1. Pay the increased price and pass it on to its customers,
2. Find an alternative source of supply and switch suppliers, or
3. Work with company A to learn the components of their product costings and try to find a way of reducing them

It may sound a bit unusual that a supplier would work with a purchaser to try to lower the costs of what they sell, but that’s beginning to happen in more than one industry and it’s producing many benefits for the participants.

Businesses often work together for mutual benefit. In the U.K. the government-funded Envirowise program supports Waste Minimisation Clubs, in which over 1,100 British companies share best practice and work together to cut costs and increase profits through improved environmental performance.

There have also been many past instances where large purchasers simply “put the heavy” on their suppliers to cut costs. In the mid-1990s the Ford Motor Company proactively embarked on a major cost-reduction program with its suppliers but history records that it was more instructive than a real alliance.

And groups of suppliers have worked together collaboratively to reduce costs, frequently through their own industry associations, but purchaser/supplier alliances are still relatively rare. Nevertheless, this is a form of business alliance that has every reason for both parties to want it to succeed.

The supplier wants to keep the purchaser’s business. That’s a good motivation to agree to sit down and talk with them rather than just letting them slip away to another supplier. By giving their purchaser a look at their own costs they�re also letting the purchaser see that the price they’ve been paying is fair and reasonable.

The purchaser has their own motivations for working to keep costs down, and will be willing to help their supplier achieve this. “Two heads are better than one” can prove very true when minimizing costs is the objective.

Purchasers and suppliers working together can find better means of managing logistics — warehousing and delivery arrangements can often be improved. The methods of handling everything from shipping to invoicing and making payments can be varied and economies created for both parties in the relationship.

Expensive ingredients can be replaced with less expensive ones if the quality of the finished product isn’t affected. Manufacturing processes can be re-engineered in some cases, or the type of packaging materials changed. Other methods to reduce costs can be explored if the two parties are willing to be open and creative.

Your business costs don’t have to go up automatically. Many price increases can be avoided if purchasers and suppliers work together to find a better way of doing things.

Copyright 2004, RAN ONE Inc. All rights reserved. Reprinted with permission from www.ranone.com.