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Insight: The Raw Materials Roller Coaster

Although things looked good for the prices of raw materials at the start of 2008, things have changed both rapidly and significantly.

Although things looked good for the prices of raw materials at the start of 2008, things have changed both rapidly and significantly. The results of a supplier survey conducted in June by IRN Inc. indicated that the recent run-up in raw material prices, particularly for steel, has reached acute levels. Ninety-six percent of the steel users responding to the survey reported that they had experienced material price increases in 2008 that are significant enough to require relief from customers. The increase is far beyond the ability of suppliers to continue to manage on their own. This is an industry issue, not a supplier issue.

IRN received 177 survey responses from 150 component suppliers that buy a large array of raw materials including steel, plastics/composites, aluminum, copper, rubber, magnesium, and others. Among the findings of the survey are the following:

  • While the need for relief from steel prices is the most widespread, other materials also cause substantial pain, with most users of plastics/composites, copper, magnesium, and alumi-num expressing a need for some form of consideration from customers.
  • The most common form of relief that suppliers are seeking to recoup some of their cost increases is an index-based adjustment. The index ties the component price to the movement of the raw material price, neutralizing the impact of raw material price changes.
  • A full 25% of survey respondents said that they are willing to stop shipping parts altogether if they are unable to get the relief they are seeking from a customer. The percentages were even higher in some cases, e.g., 37% of the companies selling to a larger Tier One supplier, and 31% of the Chrysler suppliers said they might resort to this highly aggressive and disruptive measure.
  • In the meantime, negotiations with customers are proceeding for 77% of the survey respondents. Sixteen percent have completed their negotiations with customers, and the remaining 7% have no negotiations planned.
  • The top three customers rated most likely to satisfactorily work with these suppliers to offset the increases were Honda, Toyota, and Ford, with 44%, 43%, and 31% respectively.

With the news in late June that two of the three major global mining companies, Rio Tinto and BHP Billiton, had negotiated an 85% increase in the benchmark price for iron ore, a key element of steel, it is clear that steel prices will most likely remain high. The two mining companies negotiated their rate hike with Baosteel Group, the largest steelmaker in China, but the increase will affect all customers in the U.S. and Europe, as well as in Asia.

The pressure is not limited to North America. Supplier groups in India and China are reported to have been calling for government involvement in some form of relief. The Automotive Component Manufacturers Association of India collected data on the declining profitability of its top members due to steel price increases of more than 25% during the last quarter of 2007. The association was encouraged by government proposals to suspend export incentives on raw material and eliminate import duties on steel, but felt that additional steps to address the "spiraling prices" of natural resources like iron ore were also needed.

Similarly, a regional group of automotive suppliers in China asked the National People's Congress to direct the appropriate government department to rein in the continuous price increases of natural resource products. Data cited to support the request included the point that since the latter half of 2007, steel and pig iron prices increased over 50% for the Chinese automotive suppliers, and that steel products constitute 70% of total raw materials in automotive production. At that level, what's a supplier to do?

Individual supplier companies have been consolidating their materials purchases, driving waste out of operations, and evaluating alternative materials and designs to reduce their exposure to raw materials. These companies are doing everything they can to minimize the impact, but the global and continuous nature of rising raw materials prices needs to be addressed on a broader level as an industry, starting with the automakers. 

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