Know-How Exchange : Strategy

Dear Tim

I hate to say this, and I really don’t know enough detail to have any confidence that I am right, but it sounds that its time to let go. Or at least let that particular product go. If the competition is manufacturing a commodity at one quarter of the cost of your company and there are no differentiating features such as quality, delivery or batch-size flexibility (It’s all very well to be inexpensive but have a minimum order value of 1000 tons when the average customer wants 10 tons!) your supplier is sunk.

There was a time, not too long ago when good salesmanship and a range of factors from creating a perceived need to use a particular company through to plain old ignorance of the alternatives would allow a company to supply something basic at a higher price than other suppliers in the market. The changes in buyer power through access to more information and goods from international markets have seen an end to this.

Sometimes it is difficult to see a manufactured product, especially an electrical or electronic product as a commodity, but many items, subject to the qualifications of meeting their market’s quality and specification criteria are just that. Passive components, discrete semiconductors, integrated circuits and even sub assemblies all fall into a category where an international market sets the price for any given item of a particular specification which is based on supply and demand. If your company were to be producing a process feedstock, such as sodium chloride, you would never expect them to be able to compete as a supplier to the process industries if their salt, of a given purity was four times more expensive to produce than salt manufactured in China.

I worked for a brief time for a magnetic materials company which manufactured the basic magnetic alloys in its own induction furnace as well as making a number of value-added components. The alloy was MUMETAL, an alloy of nickel and iron with some remarkable magnetic properties which are of use for shielding and the manufacture of inductive components.

The patent for MUMETAL ran out years ago, so the provision of this alloy became global, and subject to being able to make it’s variants to the appropriate quality, its cost of production was dependent on the price of the raw materials, the energy needed to smelt it and the propriety techniques used in this process. The fact that the company were the original manufacturer which pioneered most of the applications and also developed many of the components made from it didn’t count for a fig.

They diversified at an early stage into components manufactured from magnetic alloys, such as trip switches and hall-effect devices where at least they had a margin from the value added and the potential for new product development. They also went into the manufacture of inductors and wound ferrites (Hard magnetic materials, rather than soft ones)

I saw the root of their problems to be a total lack of competitiveness in all their bread and butter products which could not command a premium because they were commodity like. The energy costs and raw material costs of making the alloy’s were too great. Rolling costs were too high. UK labour rates for making bits of metal were too high. Wound components were made by hand at a rate of 30 an hour, when the alternative was a £500K machine which would make 3000 an hour. Order quantities were too low to invest for economies of scale and the main volume markets, the automobile industry, for example, are the most price competitive markets in the world. I told them this, they disagreed and so they “Dispensed with my services”!

Eight years later, and three restructurings later, the factory has gone. The alloy is made in India. The coils are wound in the Far East on automated machines. The new products have a level of differentiation in their specification which permits a premium price. In other words, they’ve done everything I identified and are now profitable for the first time in 10 years.

Unless your firm can ditch its expensive overheads and practices and either outsource or stop making over-priced commodity like stocks they are probably finished. If they can slash costs and add value through that rare commodity of knowledge, then they stand a chance.

I’ve been through the same process in electronic instruments – we sold our quality products because a well trained sales team persuaded the customers that we were the best for the job. We nearly were, but not all that good. As the markets globalised, I found that one of our thermometers was competing against an American model which sold at a slightly lower price. Opening them up, the American product had 3 components inside the box and probably cost $5 to build. It sold for $300. Ours had 130 components in the box, cost $90 to build and sold for $310. Two years later, ours cost $2.50 to build and some new models did 100 times more things, cost $30 to build and sold for $900-$3000!!!

Add value, cut costs or go out of business

Best wishes


Steve Alker
SalesVision

PS I’d love to see what your client’s sales forecasts looks like. If you’d like to contact me privately, I will tell you what I think in strict confidence.