Inflation forces changes in manufacturing processes

Rising consumer prices haven't been far from the headlines this year, but a new survey published today by EEF, the manufacturers' organisation and RBS brings a manufacturer's perspective of inflation and the actions being taken to manage high and volatile input costs and limit price rises through the supply chain.

Key points
- Almost half of companies have redesigned products or processes in response to rising materials prices.
- Nearly two-thirds of companies have sought different sourcing options.
- 40% of companies have substituted some inputs with cheaper alternatives; a more common action amongst companies concerned about availability constraints of some materials.
- 63% of companies are increased their internal monitoring and modelling of prices.
- Just over 4 in 10 have looked to renegotiate existing contracts with customers.

Sharp rises (IMF have estimated a 30% year-on-year increase in a basket of commodity prices) and sudden dips in prices across a basket of raw materials are becoming a more pressing issue for manufacturers with almost half citing managing input prices as a growth challenge, compared with a third a year ago.

And the challenge isn't just linked to price, with around one in seven companies reporting problems with the availability of some materials, critical for those in the supply chain.

In response Britain's manufacturers are taking significant steps to mitigate the impact of price rises from their suppliers and to minimise pass through to customers.

Companies are devoting greater time to procurement strategies, including seeking different sourcing options and substitute materials, renegotiating contracts, and bulk purchasing.

Spiralling costs are also accelerating the innovation process as manufacturers take radical steps in product development and process improvements to counter the competitive pressures from high input costs and shortages of some materials.

EEF Chief Economist Ms Lee Hopley, said: “This is a stark illustration of the impact of high material costs which manufacturers have been grappling with throughout the recovery. However, whilst most attention is focused on the inflationary aspects of these costs, the flipside is another story of the extent to which companies are finding innovative solutions to deal with them.

“What is clear from our survey is that there is not a simple equation for managing rising and volatile materials costs. Manufacturers have so far deftly navigated the issue using the internal tools available and being agile in managing customer relations and procurement strategies. And this is an issue that companies are saying they will be keeping a close eye on in the months ahead.”

Peter Russell, Head of Manufacturing at RBS, said: "Volatile commodity prices have been a continuing headache for manufacturers for some time now. They have led to compressed margins and intense efforts to remain competitive, but the battle is not over. Ever more creative solutions, including different methods of hedging and financing, will continue to be sought. The need for innovation and creativity across the sector remains as high as ever.”

Looking out to the next twelve months the direction of commodity prices is very uncertain, but most manufacturers are building further price increases into their business plans.

In response, while most of the actions already taken will be ongoing the survey shows further actions are being considered. In addition, some financial options such as offering longer payment terms or vendor finance to customers, additional external finance or the use of financial instruments in response to price rises coming down the supply chain have yet to be explored by the majority of companies.