Surviving in a world of rising costs & economic uncertainty
Costs are rising - the UK trade deficit rose to £5.1 billion in June 2016, with imports increasing by 4% to a record high of £48.9 billion.
Following the Brexit decision, Sterling hit a 31-year low after Prime Minister Theresa May outlined the timetable for triggering Article 50. The pound was trading near $1.50 before the referendum. It’s now around $1.22 and a new poll published by Reuters shows the median forecast among economists is that the pound will drop to $1.15 after Article 50 triggers the formal two-year exit process.
This is already having a huge impact on costs for UK based organisations. We are a net importer of manufactured and part finished goods as well as oil, fuel, basic materials and food & beverages.
The Chartered Institute of Purchasing & Supply (CIPS) seasonally-adjusted Input Prices Index for the UK manufacturing sector signaled the fastest rate of increase in costs in 69 months - reaching its fourth highest level in the 25-year history of the survey.
In short, almost everything that is brought from abroad is costing more.
The result = costs increasing
The inflation issue
Organisations that don’t directly import are not immune. After a sustained period of historically low inflation, prices are rising again with predictions of a 4% rate by 2017 as suppliers pass on the effect of sterling’s weakness.
In September, UK manufacturers raised their factory gate prices at the fastest level since June 2011, on the back of surging costs attributed by many firms to the weakness of the pound.
The result = costs increasing
The domestic labour cost issue:
The recent introduction of National Living Wage has pushed up the minimum wage for employees over 25 with an effective pay increase of 7.5%. This is of course great news for low paid workers but presents another cost challenge for employers.
Industry sectors such as retailing, warehousing and logistics, soft facilities services, and low-tech manufacturing stand to be impacted most significantly and with the National Living Wage set for a further 25% increase to £9.00 per hour by 2020, this cost pressure will only intensify.
What’s more, the National Living Wage has narrowed the earnings gap to workers in higher pay bands, resulting in pressure for additional wage increases for employees throughout the organisation.
The result = further inflation and costs increasing
These are the immediate effects… we haven’t even considered any tariff, duty or economic uncertainty effects that may come from the actual divorce from the EU when it arrives.
The outlook is not very bright!
The impact that is being created
Rising costs impact margins and profitability – whether directly from imported goods and services or indirectly through inflation-driven domestic supplier price increases. The experience of organisations across almost all sectors in the UK is that they are – to put it bluntly - on the receiving end of cost increases and margin squeeze:
Managing Director, Food Manufacturer
We are facing the perfect storm; imported food ingredients rising in cost, domestic suppliers increasing costs due to inflation, labour costs rising due to the NLW and a challenge to pursued large customers to accept price increases for our products
Consequently, organisations have been reacting in different ways, with varying levels of success.
Simply passing on costs to customers is an area which is almost always difficult to achieve – as was demonstrated in the recent ‘Marmageddon’ stand-off between Unilever and Tesco.
Focusing on enhanced profitability through increased sales is another ongoing strategic priority. However, increasing sales by an order of magnitude to have the same effect on profitability as rising costs is not an easy thing to do, particularly in the current environment of economic and political uncertainty.
A new focus on cost control
Organisations are increasingly focusing on cost control as the most effective way of maintaining their margins. While costs may be rising, the development of procurement excellence has enabled a growing number of UK based organisations to capitalise on the changing dynamics of their supply markets, innovation and competition.
Significant impacts are being achieved across two areas:
- Cost containment – successful organisations, underpinned by high-performance procurement functions, have been doing everything they can to contain and avoid cost increases. While cost containment is only a temporary measure it does ‘buy time’ prior to an effective programme of cost reduction
- Cost reduction – achieving sustainable cost reduction is becoming a high priority for virtually all organisations today. Some of the biggest enhancements are being made where every single element of expenditure is scrutinised at an unprecedented level, better ways of buying implemented and every pound, dollar or Euro saved going directly towards the bottom line.
Best practises, hints and tips:
- If you are importing and buying in dollars, review the country of origin currency. Whilst sterling may be dramatically down against the $, it may not be so against the origin currency.
- Undertake a programme of procurement cost reduction; proactively undertaking strategic sourcing on every category of spend.
- Focus first on indirect spend – this is an area which is often overlooked and can be a good place to make immediate and rapid savings. A leading UK food manufacturer saved over £2m on their indirect spend in less than 7 months - more than offsetting increases elsewhere.
- Explore UK suppliers - for certain commodities it may now be time to “re-shore”. If you don’t understand your supply chain, spend time focusing on it as soon as you can as complete transparency will be vital in the coming years.
- Cut out unnecessary waste wherever possible.
- Seek out ways of enhancing people productivity – highly engaged people deliver 18% higher productivity (source: MacLeod 2009).
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