Double Trouble: Inflation and Supply Shortages

It seems that today no company is spared from the twin problems of inflation and supply shortages. Worse still, the difference between winning and losing in this environment is stark.

Emerging winners are taking a strategic approach to sourcing to keep costs below inflation. In some areas, they even generate P&L gains while ensuring security and quality of supply. At the other end, for some companies, inflation and supply shortages erode profits.

Past experience offers valuable lessons: the most successful companies that accelerated the exit from the last period of high inflation are those that made improving productivity a top priority (see figure below).

We expect leaders to repeat this pattern as inflation rises again. What’s different this time is that the capabilities that allowed procurement organizations to drive year-over-year cost reductions in the past aren’t enough in today’s turbulent conditions.

While still important, expected cost modeling tools and tendering practices are not as effective when underlying input costs are increasing at double-digit rates and supply is restraint. Leading companies ensure their purchasing organizations play a strategic role by bringing together internal and external stakeholders to take three critical actions:

1)Create transparency,

2)Reorganize the company’s sourcing strategies and

3)Run seamlessly.

Let’s take a closer look at how these actions make a difference.

Create transparency

Purchasing managers dread informing business stakeholders and CFOs of negative surprises about costs or the availability of supplies. Yet these conversations are common due to limited upstream visibility and lack of full traceability. Good third-party spending data alone will not solve the problem. Procurement functions need two additional elements to mitigate the risk of unpleasant surprises: traceability across the entire value chain and short- and long-term supply and demand forecasts.

Large enterprises are improving internal spend visibility and analysis with vendor-provided reports to improve transparency, creating a single source of truth about external spend. Procurement teams also partner with the supply chain function to create end-to-end traceability within the value chain. The volatility of prices and supply now makes full transparency on suppliers and raw materials, down to Tier 3 or Tier 4 suppliers (see figure below) urgent.

This allows them to correctly forecast and mitigate supply availability issues. And, of course, improved transparency supports company-wide environmental, social and governance (ESG) efforts.

Finally, the core supply teams gather short and long term views of demand and supply forecasts, including constrained and unconstrained scenarios. They feed data into a robust category dashboard linked to internal and external inputs. Dashboards allow organizations to understand current inflation and supply and demand dynamics as well as better anticipate future fluctuations.

Take the example of a tier-one automotive supplier struggling to mitigate the risks of inflation and supply shortages. The management team lacked full visibility into raw material prices and sources. To address this issue, the sourcing team used data forecasting tools to assess critical raw material price increases and shortages along the value chain and their implications on a specific customer product. . This effort provided the company with powerful information for negotiations and indexing, both with suppliers and with customers.

Reorganize sourcing strategies

When procurement teams understand the total risk exposure their business faces, they are inspired to act. Major sourcing organizations are deploying more sophisticated sourcing techniques, including parametric pricing, consortium buying, index pricing, and hedging strategies. These advanced techniques that focus on global and holistic value are key to minimizing the impact of inflation and scarcity.

The previously mentioned Tier 1 automotive supplier has struggled to effectively use indices in its commodity contracts. Its dispersed approach resulted in high internal complexity and did not generate value. The solution was a personalized strategy on how to use indices in different commodity segments. This approach allowed commodity managers to clearly understand when to use specific indices and how to use each index to maximize value.

The company was able to identify double-digit cost savings by linking index-based adjustments to the appropriate underlying material. The Provisioning team also helped greatly simplify the number of indexes used. In one case, he found ways to more than halve the number of aluminum clues. Finally, the company has launched an effort to reduce its overall risk by ensuring that the sourcing and commercial teams align with the passed-on price changes.

Run seamlessly

Strategic sourcing in an inflationary environment requires strong execution. The first step is to communicate clearly with all key stakeholders about the implementation of the sourcing strategy and the expected results. When the team initiates technical redesigns or approves new vendors to address shortage issues, for example, lead organizations ensure that everyone involved is clear on outcomes and collaborating on critical issues.

Improving data visibility with finance and sales teams often provides opportunities to adjust budgets with better forecasting and reporting accuracy, and to pass price adjustments to customers, when contracts allow. Similarly, updating supply shortage issues and mitigation action plans with supply chain teams and other relevant business units helps mitigate risks associated with contract execution. clients. Large companies also adjust supplier prices downward when inflation falls.

Inflation and supply insecurity present a major opportunity for supply organizations. CPOs and CFOs can help position the business to accelerate the exit from turbulence by pushing for increased transparency across the entire supply chain and orchestrating a company-wide strategy that can transforming performance in an increasingly challenging business environment.

Karen Stansfield is an Expert Associate Partner at Bain & Company. She can be reached at .(JavaScript must be enabled to view this email address). Tony Cape is a partner at Bain & Company. He can be reached at .(JavaScript must be enabled to view this email address).

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