Last week’s Top 5 Categories to Source Now webinar (view the replay here) had a HUGE attendance, which I’ll take to mean that buyers are hungry to capitalize on the opportunities the current market provides. But the intention to seek costs savings and actually executing on those good intentions are two different things, especially when it comes to revisiting existing contracts with current suppliers. And that delicate issue was the crux of two great follow-up questions from one of the attendees:

• How are suppliers reacting to re-opening contract rates half way through the contract life?
• Any tips on how to engage and encourage vendors to re-open contracts to re-negotiate rates?

Excellent questions about a challenging issue many of your are likely facing. So, I’m posting my response in it’s entirety below:

Supplier Reactions

As expected, suppliers are somewhat reluctant to participate in conversations with buyers about reducing prices considering the sharp increases they were forced to endure during 2008. Given the unprecedented volatility we’ve seen in the last couple years with commodity pricing, most suppliers are willing to at least participate in those conversations more than they would if pricing were flat in previous quarters. In fact, many buyers I am talking to have established a regularly scheduled review or “touch-base” with suppliers on a monthly or quarterly basis to discuss issues in such a turbulent market. I have not heard of suppliers that are outright refusing to discuss pre-existing contracts.

Tips to Re-Open or Re-Negotiate Contracts

Different strategies should be utilized depending on the specifics of the buyer/supplier relationship. For example, an aggressive strategy may work if the buying company represents a large % of a supplier’s business versus a small one. That being said, the following are some of the strategies that I’ve heard buyers utilize in the recent market shift:

• First and foremost, come to the discussions well armed with raw material and market data. Being able to quantify the appropriate price reductions being requested to the suppliers is the only way the suppliers will consider a change at all. Showing the specific data and the calculated new price request justifies your request and gives you a fighting chance.
• Approach the conversations from the angle that the buyer is trying to build a lasting relationship rather than simply save costs. The argument here is that you are trying to allow for a longer term relationship rather than just move business to the lowest bidder.
• Some buyers are resorting to the “survival argument”, in saying that sharing any cost savings would ultimately result in better financial health and more likelihood for mutual growth in orders in the future. This is obviously used by buyers in companies that are currently under financial distress.
• Make the argument that prices have typically been increasing more gradually than this most recent decline, so there has been time for suppliers to adjust their prices upward over the last year or two. Again, it is key to document the history of recent price changes (likely upward) and to be able to quantify the difference between current contract prices and the current true market price.
• If dealing with a longer-term fixed price contract that is currently unfavorable, some buyers are re-negotiating to a lower price in exchange for an increased contract length (for example, extending it from a 1 year to a 2 year deal in exchange for a 15% drop in price). This also is a good chance to add in a price adjustment clause if one does not exist presently.
• In addition to just discussing price decreases, some buyers are using this as an opportunity for the supplier to suggest some changes the buyer can make to help the supplier costs. For example, making a minor change to a specification, release quantities, packaging, etc. may not be a significant change for the buyer, but it may allow the supplier to cut costs. This can also be used as a good bargaining chip to offer in exchange for a re-negotiated contract price.

Again, you do need to approach each supplier relationship differently, but hopefully some of these ideas will fit with your situations.

Mike Petro is the Senior Category Manager for Metals in Ariba’s Global Services Organization. Previously, Mike analyzed supply chain options and competitive pricing for US Steel and Timken Latrobe Steel.