Is your firm safe from oil price increases?

There is a story about two hikers in the Rockies who spot a grizzly bear, as species known for its aggression towards humans.  As the bear charges one hiker turns to run, but the other sits down, unpacks his trainers, and starts unlacing his boots.  “What are you doing?” asks his companion, “you can’t outrun a bear!”  He replies, “It’s not the bear I’m trying to outrun.”

Monthly oil price spot.  Credit: TomtheHand/Wikimedia

Many commentators are forecasting oil price rises as demand from the developing world increases post-recession, and as supply from Saudi Arabia diminishes.  Rises of around a third are bandied about, and greater increases are not out of the question, over a vague time period but certainly during this decade.  As repeated economic squeezes come, how will you stack up against your competitors?

If you use oil-derived products for heat, transport, or lubrication, you will of course see an increase in these costs.  Your suppliers will see their costs rise, increasing your input prices, and your customers will similarly feel the pinch, reducing their margins and provoking them into looking for savings up their supply chain.  End customer demand should also decline as fossil fuel prices eat into disposable income.  In other words, we would be in for another recession each time oil prices spike.

As it looks increasingly likely that this is the sort of future we have to look forward to, many firms are looking at ways of freeing themselves from oil-derived products in their processes and supply chains.  This is no easy task because there are still no economic substitutes for oil in most applications.  However, as we know from the recent global recession, keeping ahead of the competition on cost can be a matter of company life or death.

In the search for practical ways to prepare for volatile and/or high oil prices, here are some of the approaches that firms small and large are already pursuing:

• Supply chains: redesign of distribution e.g. route planning, creating more localised supply chains, optimising vehicle technology and driver behaviour
• Products: Making products more fuel efficient in both production and use
• Systems: Identifying low-value-added uses of oil and designing them out of the business model
• Resource stewardship: waste elimination and recycling
• Substitution: identifying those uses of oil for which cost-effective substitutes are now or will soon be available.

Tackling these issues now will make your firm more resilient during periods of oil price volatility.  While no firm needs to be best in class in every area, it does need to be better than its competitors overall when the economics squeezes come.

Why your business customers want you to cut carbon

Recent research from The Carbon Trust reveals a potentially unsettling truth for the B2B market: multinationals are not just addressing their own greenhouse gas emissions.  They are also increasingly including carbon in their selection criteria for suppliers.  Within three years, the vast majority will do so – only 10% say otherwise.

Why this move – is it part of these multinationals’ attempts to look green?  The report ascribes the trend to “shareholder pressure”.  Are these shareholders investing in an increasingly ethical way, or are they looking for financial value?  I would suggest the latter - in other words, this isn't a fad.  It's part of a trend towards shareholders actively looking after the value of their investments.  Suppliers should take note.

It is not only shareholders who know that low carbon can translate into good value.  Sourcing professionals look for signs of quality and efficiency to ensure that they are getting the best goods at the best price.  Low carbon emissions signal efficiency – that a supplier is using less inputs for the same output.  That will translate into a sustainably lower cost structure, from which the buyer hopes to benefit.  Multinationals are sourcing low carbon because it’s often cheaper, and is likely to get even more competitive if fossil fuel costs rise further.  Shareholders and management want to know that their companies are managing for value.

A quote from Chris Harrop of Marshalls plc is particularly revealing: “By choosing suppliers of responsibly sourced goods not only do we cut carbon emissions but invariably there are cost and efficiency gains to be had, which all adds up to a strong competitive advantage.”  Perhaps it’s nice to be green, but it’s good business to be cost competitive, and paying attention to carbon in the value chain helps firms solidify this advantage.

So, suppliers now have another reason to address emissions, if cost competitiveness itself were not enough.  Multinationals will be expecting suppliers to report on, and compete on, greenhouse gas emissions.   Their suppliers will be asking the same questions right down the supply chain.  If your business customers are not already asking you to reveal to your carbon footprint, they soon will.

What to do about high energy prices

As oil prices reach a new sterling high, and experts cast doubt on a significant price fall in this decade, there are few words of comfort for British businesses. The low oil prices in the 1990s now look like a temporary reprieve.  Electricity prices are likely to rise as coal plants close and the UK invests in new capacity.  What does this mean for UK business? 

The UK faces the combined threats of inflation and a return to economic recession.  This is “stagflation”, and can occur when inflation due to commodity price rises (like energy) result in lower productivity in the economy.  There is no certainty about what energy costs and productivity will do, and this uncertainty is far from reassuring.

Small businesses can be particularly hard hit because they lack buying power, often cannot risk buying fuel on long term forward contracts, and face having their increasingly price-sensitive customers consolidate their purchases with the “big box” stores (for B2C) or with large suppliers who can reduce their transaction costs (B2B).  However, this is also a time of opportunity for agile SMEs who can negotiate the uncertainty of these economic conditions.

The solution to the energy squeeze is clear: reduce dependency on energy and increase productivity.  Britain is already doing this, though the 5% drop from 2000 to 2008 hides wide variation between firms, even in the same industry.  As a second option – become an energy producer.

Office space can consume energy when not in use.

The first solution, reducing dependency on energy, essentially means eliminating waste.  If a firm reduces its use of unneeded resources – anything from heating empty office space  to producing goods and services too poor to sell – then it reduces its consumption of energy.  Firms often have unnoticed waste, from the unused space mentioned above to the waste of material that is considered “just part of the way this industry does business”.  Successful waste reduction efforts start by identifying all the resource consumption that does not create value for customers, and then working with employees, suppliers, customers, and other organisations to find ways to eliminate this waste.

The second solution – becoming an energy producer – works best when a firm identifies a resource it already has in excess which can be turned into energy.  As a simple example, some firms in suitably windy locations install wind turbines.  Others turn their waste into energy, either directly (for example wood waste becomes biomass), or indirectly, by selling their waste to a firm that can produce energy from it.  It is often surprising how many waste streams contain energy that can be released cost effectively as a fuel.

The critical message for SMEs is not to stand still.  Although no one can predict future energy prices, recent history does not encourage complacency.  To avoid being trapped between rising energy costs and downward pressure on margins, firms should act to cut waste in all its forms – this is a tried and tested route to reducing energy consumption.  With whatever excess resources are left, look for smart ways to turn these into energy.