Sourcing internationally carries heightened level of complexities and simpler tactics can get lost. Tracking commodity pricing and currency fluctuations is a meaningful way to manage costs with the added benefit of letting your supplier know you’re watching.
Pricing on commodities is set by a global market, whether it be steel, plastics, aluminum or agricultural products. The obvious math is that if the price of a commodity used in a product rises, the supplier faces rising costs and will attempt to transfer those increases to their customer. Conversely, if the a commodity loses value, the supplier pays less, likely relative to the original price quoted to you months, if not years before.
The currency tracking gets a little more complicated. As with commodities, currency rates rate are also set by global markets with a similar effect on costs. Let’s use the US Dollar (USD) vs. RMB (Chinese Yuan) as an example.
US companies usually pay Chinese suppliers in USD. The supplier will then exchange that amount to RMB at the current traded rate. If the rate of exchange is 7.0 RMB, the supplier gets 7.0 RMB for each USD paid to them. Simple enough. However, later in the year that exchange rate might decrease to 6.8 RMB, which translates to the supplier receiving 6.8 RMB per USD, a decrease of 2.8%. Effectively, the supplier receives a price decrease even though they are paid the same USD amount. If this exchange level sustains, said supplier will likely be knocking on your door asking for an increase in price. Conversely, if the exchange rate increases to 7.2 RMB, the supplier effectively receives an increase in cost, as he is receiving more RMB for the same USD. In the same way a supplier in China comes to looking for an increase in costs when the RMB rate falls, a Buyer should ask for a decrease in price when the RMB rate rises.
(NOTE: When the rate of RMB to USD INCREASES, that means the US dollar strengthens relative to the RMB (It can buy more RMB. When the RMB rate falls, that means the US dollar weakens, as it can purchase less RMB))
Both currency and commodities quite literally change by the minute and have a closing level each day (on Wall Street, in London or Shanghai Stock Exchange (SSEC)). As such, it typically makes sense to set an “Opener” with your supplier which is when Buyer and Supplier agree to re-evaluate pricing. If you’re sourcing with longer lead times, these Openers shouldn’t be more often than monthly (quarterly is usually best).
Commodity tracking can involve something as simple as setting up a market watch on Google Alerts or searching for a reputable commodity tracking agency online. In some cases, you’ll be asked to pay for a subscription. The same can be said for currency tracking with something as simple as a “USD vs. RMB” Google search. While these simpler sites won’t have a high level of detail, tracking trends is what you’re after. That said, given the number of different indexes, an agreement with your supplier up front as to which index will be used is important. As a Buyer, you can simply leave these up-and-downs alone for the sake of simplicity, but you’re likely leaving money on the table that can help offset market increases (like transportation) elsewhere.
If you’re interested in learning more, contact us Forsyth Advisors for more information and we’ll be happy to “exchange” our knowledge.