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Jun 6, 2018
by Barrett Thompson, GM Commercial Excellence, Zilliant

This article first appeared on Manufacturing Business Technology.

 

President Trump’s May 31 announcement that the decision to impose steel and aluminum tariffs to the European Union will move forward brought partial closure to the latest 30 days of uncertainty and tension when the President announced another delay in his decision. The big open question is how well B2B businesses will respond to the effective cost increase they’re now facing.

 

Manufacturers that depend on these resources have few viable options to absorb rising costs, with the most realistic option being to pass on costs via price. However, mitigating rising costs via a price hike can backfire if not handled thoughtfully.

 

If nothing else, this cost crisis is an opportunity for manufacturers to take a deep, introspective look at their pricing strategies. Here, data can reveal previously unseen knowledge. When the climate becomes disruptive with an event like a tariff, it’s a magnifying glass on the core issue: global manufacturers are woefully unprepared to mitigate raw material hikes, regardless of the external source of cost volatility.

 

Striking the Right Balance Between Price, Cost and Volume

 

Refusing to adjust prices would force companies to make some hard cuts in other areas. We are of the mindset that most can, and will, adjust their prices, however uncertain the ultimate margin and revenue impact might be.

 

It’s hard to know what’s really going to happen once a price increase goes live, let alone beforehand. Is it too much? Is it too little? What’s the right balance that will stop the margin erosion without hurting the revenue stream?

 

Despite this uncertainty, most companies are left with no choice but to roll out an increase and just hope for the best. Inevitably, that price increase will be too much to bear for some customers. Yet, other customers will be able to absorb it without noticing. And when all is said and done, what started out with the best of intentions may end up doing more harm than good.

 

For instance, if costs rise at a normal inflationary rate from two to three percent per year, it makes sense to recapture 100 percent of that increase. However, when it unexpectedly spikes up by 15 percent because of a trade policy, a 100 percent increase could be detrimental.

 

In this scenario, it’s critical to understand the many dynamics that impact price realization, or the final price paid per transaction. When you can understand price elasticity at a granular level, you don’t have to cross your fingers. You can know, in advance, the level of increase that each customer will tolerate without taking their business elsewhere.

 

Factors influencing the optimal price change may include:  region, competitor pricing, customer size, product hierarchy, cost-to-serve, customer relationship, volume impacts, and many more. Additionally, the unique mix of factors that impact price may vary widely from segment to segment, meaning flexibility and scalability in a pricing strategy is essential.

 

It may sound overwhelming when considering the massive data sets in one manufacturing company that need to be evaluated:  ERP data, product data, invoice and order data, competitive data, customer hierarchy data. It’s quite a lot, even for an analytical army, to take on. The good news is that modern technologies are available to help tackle this analysis. Let’s look at a brief example.

 

Change Prices With Less Risk & Uncertainty

 

I had the pleasure of working with a specialty chemical manufacturer that needed to deal with an unexpected and sharp cost hike in a key raw material. The company calculated they needed to increase prices by an average of six percent to relieve the pressure of this rising material cost. Given the steep hike, company leaders inherently knew that an across-the-board price increase would result in lost volume and revenue because, as we all know, no customer is truly average at the end of the day.

 

Instead, they conducted a rigorous data analysis to compare their pricing status quo (an across-the-board price increase) with taking a more granular approach, one that accounted for the many factors that influenced price for each customer individually and predicted the profit and revenue impact of new pricing strategies before they went into market.

 

What they discovered is that quantifying customers’ price response was essential to striking the right balance between cost, price and volume. Harnessing the valuable information hiding in their data allowed this manufacturer to understand exactly where it could be more aggressive — or needed to be more conservative — in passing through material cost increases. By using this information to be more surgical in its approach, the company delivered tailored price increases to each customer and achieved its objectives without hurting revenues.

 

However, the methods that businesses use to manage cost increases is just one measure of pricing effectiveness. A global benchmark study by Zilliant reveals an aggregate benchmark of how B2B manufacturers perform from a cost management perspective and includes additional price effectiveness measures.

 

There is Always a Silver Lining

 

This might just be the very wake-up call that you need. You can’t change the laws of gravity, but you can protect and cushion your company from the worst part of the impact.

 

Artificial intelligence, when actionable, can help you make accurate assumptions on a probable business impact. For example, it can explore varied scenarios for raw material cost changes, apply them to customer micro-segments, and give you a better understanding of how prices will impact profit and revenue before the prices are in-market. Armed with this knowledge, your company can have multiple battle plans at the ready when cost uncertainty hits.

 

The good that comes out of this looming tariff is that if you act now, you can prepare for what comes. Even if the tariff ultimately never comes to pass, you will be better off for the changes and upgrades you have implemented.

 

You Have Already Weathered the Storm

 

I don’t have a crystal ball to know precisely when, if, and by how much these impending tariffs will impact raw material costs for manufacturers. I do know that, by and large, these companies are lacking an effective game plan to deal with cost hikes when they happen.

 

Think about commodity metal fluctuations over the past decade. Think about that flood of cheap Chinese imports in your space. Or, how about the crash of 2009/2010 with its surging oil costs? These all hit hard when they came on, but they went away. When you live through these events, when you develop the capacity to respond to difficulties, you reap the benefits in the end. Being prepared means you will get through this one, too.

 

There will always be competitive pressure, economic growth, and slowdown. You simply can’t control it at the macro level. But, if you have developed the means and methods to survive while things are “normal”, then you will be miles ahead of those companies who are mismanaging the change.

 

Barrett Thompson leads the Business Solutions Consultant team at Zilliant.

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