How to Contain the Risk of Price Increases from Suppliers

This is the latest risk faced by buyers. The increase in the price of raw materials and energy is a primary challenge, especially as it impacts intermediate goods.

Putting Suppliers in Competition and Improving Responsiveness

We have already mentioned this point, so we will not dwell on the importance of putting suppliers in competition to contain price increases or even obtain commercial discounts.

It should also be noted that responsiveness is key here. Waiting several weeks or days to approve a quote can be enough for the quote to become invalid and prices to increase. It is essential to find the right balance between expense control and operational efficiency.

Playing on Quantities and/or Payment Terms

If you believe that prices will continue to rise, you may be tempted to significantly increase the volume of orders and thus increase stocks. Again, the quality of sales forecasts is essential. Otherwise, you might end up overordering while sales decline, which can negatively impact the company's cash flow and profitability, and add additional risk with increased stock.

This cannot be done without a comprehensive understanding of stock costs. Indeed, if the price increase is moderate, the cost of stock can offset the gains.

Another important factor to bear in mind is payment terms. Payment delays increased by 50% in the first half of 2022. In these conditions, being a good payer and prepaying all or part of the invoice can help you obtain better prices.

For example, if a critical supplier promises to deliver only if you prepay 50% of the order, ask yourself: Can your cash flow withstand the impact?

Open your cash flow forecast in Excel (if you have one). Duplicate the necessary sheets and create a new scenario. Otherwise, add lines under your main scenario and an additional column for assumptions. Maybe a second one. Check the balance of your bank accounts. Is it as expected? Are you sure you don't have any overdue invoices before you can accept the prepayment?

With Agicap, you can create a new scenario in two clicks and modify your disbursement assumptions with ease. It's as simple as that. Why not offer to prepay more to increase the discount?

Hedging Against Price Change Risk

There are several ways to do this. The first is to hedge against foreign exchange risk when importing goods denominated in dollars. You can also hedge on the futures markets against the risk of commodity price fluctuations.

Another solution is to obtain a guaranteed price from your supplier. In exchange, you commit to this price for several years. An example is CPPAs (Corporate Power Purchase Agreements) which cover the price of electricity. They allow for a fixed guaranteed price for the entire duration of the contract, which can be from 3 to 15 years. In return, if the market price drops, the company does not benefit from it. EDF, Engie, or Voltalia offer such agreements.

Protecting Against Abuses

One last important point to mention, which is often overlooked, is that some suppliers take advantage of inflation to raise their prices well above their cost increases. It is important to know that while prices are set freely, the law does protect companies against such abuse.

A supplier cannot suddenly and unilaterally increase its prices without justification during the contract, especially if the increase is substantial.

But before getting to that point, understanding your supplier's cost structure is essential for successful negotiations. The principle is simple: try to put yourself in your supplier's shoes to determine the price increase you would have applied. Therefore, you need to understand their inputs, suppliers, and production structure. If you find a significant gap between the selling price and the result of your analysis, share it with the supplier, who must then justify their price.

McKinsey provides an example of a company that faced a 40% price increase from a supplier. By using this method, they demonstrated that part of the increase was not justified and reduced it by a third.

In conclusion, securing your supplies requires managing three risks: shortage, delivery delays, and price increases. For many procurement professionals, this is undoubtedly one of the most complex responsibilities of their careers. But it is also one of the most interesting, as many solutions and opportunities respond to all these challenges.