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Commodity vs. service

It seems fairly easy for materials suppliers to pass along their price increases to processors. Why do processors have such a hard time doing the same with their customers?

About once a day I receive by e-mail or fax a new announcement from a material manufacturer announcing a price increase for this or that grade of resin. Such announcements are usually brief and to the point, specifying the grade or grades affected, and the new cost. Occasionally the supplier is motivated to provide an explanation for the increase, citing increased raw material or transportation costs, hurricanes in Florida, war in Iraq, or some other factor.

Such announcements have increased substantially in the last six months, and understandably so. Just this morning I read in my local paper that consumers in my state (Colorado) can expect to pay, on average, 26% more for their natural gas this winter as compared to last winter. On the open market, oil and natural gas prices are setting new records, and so it''s only logical that the cost of raw materials for plastics processors would rise as well.

In fact, this pattern of price fluctuations is so ingrained in the industry that it''s rarely questioned by processors. Hardly an eye is batted when, as one supplier reported in an announcement I received, margins at the company had been eroding earlier this year, but with the recent increases, healthier returns were expected. It''s almost brazen, but it makes good business sense: "Our costs increased, we raised our prices, things are better."

To be certain, no processor likes the fact that material prices are up, but at the same time there''s a certain fait accompli in the relationship. Processors can see that oil and gas prices are up and understand that resin prices will increase as a result. They don''t like it, but they can understand it.

But the buck doesn''t stop there. The thing about a supply chain is that when a cost increases at the bottom, it generally (ideally) flows up, usually right up to the consumer or end user. Right? Well, not exactly. As most of you know, going to customers with a price increase because resin costs have gone up is often an exercise in groveling, not a de facto business transaction. I had one processor tell me that when he suggested a price increase to his customer, "he acted as if I''d demanded he hand over his first-born child!"

Why is this? How could it be that among three steps in the supply chain we can have such divergent views and expectations of how cost increases are handled? The answer is fairly simple: Resin, as a raw material, is a commodity and is comprised of relatively simple ingredients that, when assembled, comprise a certain polymer. A polypropylene of XYZ grade is certified to specific flow, performance, and physical characteristics, and those characteristics are appropriate to make particular parts.

But a funny thing happens when that PP enters the barrel of a molding machine or extruder. Although resin comprises a substantial portion of operating cost to a processor, he or she isn''t actually selling a product. He or she sells time-a service. Service doesn''t have the tactility of a commodity; it comes with all sorts of variables, like people, and machinery, and energy, and molds, and dies. I think the implication is that processors can "make up" the resin cost increase somewhere else, that there''s an elasticity in the operation that can absorb the increase without passing it on.

So, are processors doomed to struggle to pass along cost increases? Not necessarily. I''ve met several molders and extruders who have developed effective methods for dealing with costs increases. Some do a very thorough job of making sure their customers clearly understand their cost structures and how resin cost factors into them. Others use reports of the mass media and magazines like this one to illustrate the point. I''ve even heard of one molder, who, when a customer threatened to pull his molds and go somewhere else when he learned of a price increase, said, "OK. We''ll have your tools on the loading dock in one hour. Come get them." The customer didn''t because he immediately understood that getting good product on time was worth the price increase. There is a value in your service beyond price. Sometimes your customers need to be reminded of that. It only makes good business sense.

Jeff Sloan, Editor-in-Chief

[email protected]

TAGS: Materials
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