Every two years' IRN conducts a survey of the supply base' The Dynamics of Price Reduction Requests; the purpose of the survey is to provide suppliers with some context for deciding how to respond to requests from customers for price reductions and givebacks on current' new' or past work performed. We recently completed the sixth biennial survey' and the results suggest that the slight moderating trend that we observed in 2005 has continued. The survey data collected in the latter part of 2007 yielded the following findings and conclusions about the dynamics at play in the complex arena of pricing:
Pricedown requests decline. Automakers and the Tier Ones demanded an average of 4.6% in price reductions from their North American suppliers–down significantly from 6.2% in the previous 2005 IRN survey. This was the second consecutive decline' since the 2005 level was down very slightly from the average rate of 6.3% reported in the 2003 survey. The declines in what the customers asked for were most marked at Chrysler and GM. Two years earlier' these companies were the most aggressive in squeezing their suppliers' with the former having an average 7.2% price reduction request and the latter 8.3%. The comparable figures in this year's survey were 3.5% and 4.5%. Ford and the New Domestics eased up in 2007' but not by as much: their average annual requests were down from 2005 by less than a percentage point. The only customer group that did not reflect this trend toward less harsh demands was the Tier Ones' whose average annual request was up to 5.4% from 5.2% in the 2005 study.
Suppliers become more conservative. Overall' component suppliers committed to price reductions of just 2.0% on average' down from 3.0% reported in IRN's 2005 survey and 3.6% in 2003. In fact' this brings the level of concessions below the 2.1% reported in the very first IRN survey back in 1997' when suppliers were just beginning to be hit with this kind of unexpected maneuvering on the part of their customers. It would be nice to be able to account neatly for the change in this year's results by pointing to individual factors for each OEM' but these overall figures obscure a great many individual anecdotes that can vary greatly from the average results. It is certainly not the case that Chrysler or GM enjoyed a boost in performance that would allow them to be generous toward their suppliers. Even in good times' suppliers are going to have to be working faster' better' and smarter on their customers' behalf.
There are a number of general factors that have affected both the customer and suppliers' behaviors' however.
- The industry has seen significant upward pressure on prices from material costs and health care' which' in reducing the portion of costs that suppliers have much control over' may have helped temper expectations on both sides of the price negotiations.
- Private equity firms have been increasing their holdings in the automotive industry. These owners often bring a more acute focus on profitability and long-term viability of the business' along with their outsider's perspective' that can cause suppliers to take harder lines with their customers and in evaluating their own portfolios.
- Many OEMs and Tier Ones did not have the option of looking to their suppliers for help to the degree they did in the past because the suppliers are also in financial trouble. In the most extreme examples' there have been some high-profile cases of OEMs having to bail out their suppliers or accept significant price increases dictated to them through the bankruptcy process.
- And finally' many suppliers have become less dependent on the Detroit Three and/or struggling Tier Ones so they are much more likely to say no to price reduction requests.
This look at past experience can also provide some basis for hypothesizing about what the future holds. Material prices have stabilized' but at higher levels than five years ago. If the global economy cools' those material prices would likely fall' but that is not necessarily something to root for' given all the other ramifications of an economic slowdown. Similarly' health care costs will only be moderated by a substantial change to the existing system' and it is not clear that there will be time for an improvement before our next survey in 2009.
Average Amount of Price Reduction Requests Reported in IRN's Biennial Supplier Survey
IRN is forecasting that North American light vehicle production will drop further this year to 14.3 million units in 2008' suggesting that conditions will make it difficult for private equity firms to execute their typical strategy of buying' pruning' and divesting. Will the supplier companies in their portfolios be taking a harder line with their customers as a result? Our industry forecast also does not bode well for suppliers that were already in or teetering on the edge of dire financial straits' so this will also continue to limit their ability to comply with customer requests for price reductions. Tough times ahead mean that automakers will need all the help they can get' but that suppliers will need to look out for their own financial well-being more than ever. The obvious solution is for all parties to work together' early and often' to drive waste out of the system entirely rather than shifting it onto someone else's plate. We would enjoy seeing evidence of this in our next survey in 2009.