It's understandable that a natural response to the commercial havoc that Covid has wrought would be to assume a competitive negotiation position. But paradoxically this is the time, now more than ever, for procurement teams to seek collaborative and creative solutions with their suppliers.
Have you ever played the Prisoner’s Dilemma game? It is designed to demonstrate the paradoxical situation in which individuals acting in their own self-interests do not produce the optimal outcome. Without spoiling the exercise, it is an application of game theory and represents a circumstance in which two or more protagonists need to trust each other’s responses to a predicament in order that everybody ‘wins’.
This has direct relevance to the situation that many procurement managers face today.
I was talking with a procurement team, part of a globally recognised consumer goods business, recently. They are in a world of pain. The organization is being hit by a series of cost price increases, and if that isn’t bad enough, now they are facing stock shortfalls and rationing of critical commodities.
So, what’s going on?
Let’s rewind a year. We were in the middle of a once-in-a-lifetime pandemic. None of the established rules applied, demand was unpredictable, and supply businesses were concentrating on survival. In this environment, despite soaring commodity, raw material and energy costs many suppliers were either held to existing, long-term, and penalising contracts or were reluctant to lose business by raising price during the period of uncertainty.
This is only sustainable for a limited amount of time and the suppliers had nothing to lose – the pressure on margins and cashflow was too great, so they had no choice but to raise their prices.
And what’s happening now?
We are seeing a demand peak as procurement managers seek to secure stock ahead of further increases, and we are seeing rationing activities as suppliers attempt to satisfy all of their contractual obligations. This means that tough decisions are being made and less profitable lines will be sacrificed, exacerbating the situation.
Warehouses will fill, commodity prices will stabilize, demand will drop, and suppliers will be left with stock that they raced to produce, probably at high labor costs (overtime, contract labor) and the world will look a very different place in three to six months’ time.
What should we do?
Just as with the Prisoner’s Dilemma, it feels like both parties have conflicting motives but, paradoxically, now is the time to collaborate. The past few years have been characterized by transactional procurement. Perhaps now is the time to change. Here are four ways to make it happen:
ONE: Supplier segmentation
Suppliers are currently making strategic (and tactical) choices about who to supply and which lines to concentrate upon.
Look across your supplier base and identify your long-term partners, now. Decide on the strategy that will have the most beneficial impact now and for the future. This will help in short term, enabling you to plan your conversations with suppliers before they initiate contact, establishing how to handle negotiations based on your business dependency or their relative value to your organization. This will make your response less reactive and more considered.
TWO: SRM – Supplier Relationship Management
For many years the concept of customer relationship management (CRM) has been prevalent in B2B environments. In these turbulent times, the same concepts can be applied to our most valued, or our most fragile supply arrangements. Act now to put in place strategies to actively manage your supplier relationship, even follow the retail industry and establish joint business plans (JBPs) which look to the future and smooth out the natural fluctuations in supply and pricing.
THREE: Relax the rules
It may be time to look again at the aspects of your contracts which in other conditions would be non-negotiable. Payment terms, contract length, order lead-time, stockholding. Consider your supplier’s business and where their pain points are. Walk in their shoes for a while and discuss how you can use your resources to help them through this period of feast and famine.
I know this will lead to some difficult internal discussions, but it is worth doing the calculations to understand the cost impact, say, of reduced payment terms for a period, compared to the cost increases or out-of-stocks that may arise.
FOUR: Integrate the intangible
In a highly transactional market, the focus is increasingly on the tangible – price, volume, and so on. But now, intangibles such as supply chain resilience, security of stock and innovative problem-solving become premium items, however difficult they are to value. Consider how your organization values these variables and build that value into your negotiation equation.
It’s hard to think of the long-term when you are fighting fires. It’s hard to be creative when you are being forced to focus on the transactional. It’s hard to collaborate when your instincts tell you to fight.
But sometimes, that’s where the answer lies.