Q3 2023

Making sustainability affordable: The crucial role of procurement in cost calculation

These findings are not new, and Obama's quote is now widely used. But it is also a fact that the more intensive social debate on climate change is leading to increased awareness. The majority of people are now demanding more sustainable products and services. The younger generation in particular is intensively concerned with this issue because they feel that their future livelihood is under threat.

Environmental protection and sustainability are also and especially important in business. These aspects go beyond the mere image of a company and have a direct impact on long-term success and profitability. What many still underestimate: The integration of environmentally friendly practices and sustainable approaches offers numerous advantages that can not only protect the environment but also make companies stronger.

Consciousness

Almost every sector of the economy has already reacted and given particular importance to sustainability. A few examples: There are ethical banks that do not speculate on food, pay attention to human rights violations, work transparently and invest sustainably.

In some major cities, so-called zero-waste stores have already been established, where you can buy unpackaged food without plastic packaging in reusable containers. In addition, recycled rain jackets not only advertise their waterproofness, but also emphasize their resource-saving production through the recycling of raw materials in the spirit of green supply chain management. These examples illustrate the growing social awareness of sustainability.

However, these companies also rely on profits in the long term and, despite their commendable sustainability efforts, need the support of customers. Disposable income and different consumer desires significantly influence the ability to make "sensible" purchasing decisions. For example, while travel spending declined during the years of the Corona pandemic, other sectors such as the furniture industry and the organic food industry benefited. The year 2020 saw a 22% increase in sales in the organic sector, while there was a 3.5% decline in sales from 2021 to 2022.

Ultimately, consumers shape the market, their available budgets vary and their consumption habits change. Companies' purchasing and supply chain management must respond to this, especially given the fact that sustainable products often have to be offered at higher prices.

The consumer

Let's take a closer look at the current tensions between the food industry and the food retail trade. These disputes are not only present in trade journals, but also in general reporting, including the daily news. On October 21, 2022, the Handelsblatt wrote: "Food companies are planning price increases, while retailers are blocking them for fear of losing customers."

At this point it becomes clear that a change in awareness of sustainable products is not enough. Sustainable products must also be affordable. Otherwise, only a few people will be able to afford more sustainable products, which in turn runs counter to climate goals.

The industry

In the purchasing departments of retail chains, the question arises whether the

demanded price increases for products or the supply chain are justified. How much do the costs for raw materials, energy and logistics actually affect the respective product? Or is the industry using the resulting uncertainty to generate additional profits in this situation?

On August 10, 2023, Gabor Steingart's Morning Briefing was titled "The Dirty Tricks of the Food Companies." He points to the discrepancy between the rate of price increases for food and the general inflation rate in July 2023: While food prices rose by 11%, the general inflation rate was 6.2%.

This raises the accusation that industry is using inflation as a pretext to conceal its true intentions, namely to maximize its profits. This specific example illustrates how opaque situations in the market economy are often used to push through disproportionate price increases. This happens despite knowledge of all calculation factors, from raw materials to logistics costs. The "new" costs that arise for more sustainable production are still unclear and cannot be traced back to previous cost developments. This creates room for calculation and concealment opportunities for industry.

Purchasing and supply chain management

In addition to the environmental impact, sustainable purchasing practices can also strengthen the company's image. Consumers today are more conscious and demanding about the origin and production conditions of goods and services. A company that is actively committed to environmental protection and pursues sustainable business practices can gain the trust of customers and stand out from the competition. Sustainability can therefore lead to a positive perception and customer loyalty.

In addition, sustainable supply chains also offer opportunities to increase efficiency and minimize risk. Identifying and working with reliable suppliers who adhere to high environmental and social standards reduces the risk of supply chain disruptions that could be caused by environmental crises or social unrest. Integrating sustainability criteria into the purchasing process enables companies to identify potential risks at an early stage and take preventive measures.

Last but not least, sustainability in purchasing and supply chains can also offer financial benefits. By optimizing resource use and energy consumption, companies can reduce costs. Reducing waste, energy and water consumption can lead to significant cost savings and increase long-term profitability. In addition, sustainable companies are often seen as attractive partners for investors and business partners, which in turn can facilitate access to capital and partnership opportunities.

In an ideal world, procurement and supply chain management are key to comprehensive implementation of sustainability goals. Simply put, the power of procurement lies in determining which supplier should deliver the required products or services. Procurement sets standards and quality requirements that suppliers must meet. However, these standards must be enhanced with clear sustainability goals that qualify the potential supplier to participate in the tender.

So much for the theory. What purchasing fundamentally needs, however, is a clear guideline that specifies which sustainability targets suppliers should achieve in which product category and within which time frame. We often experience that this guideline, which must be developed in collaboration with various business departments in the company, is missing. The sustainability targets that are given to suppliers as a prerequisite must be set in advance under the leadership of purchasing in coordination with sales, marketing, production and top management. Once these targets have been clearly defined and in writing for each product category - for example, reducing the carbon footprint in production and simplifying the supply chain by European manufacturers - it must also be clarified how the achievement of these targets will be measured.

Measuring target achievement can be a challenge. For example, how should purchasing objectively evaluate the supplier's claims about alleged CO2 reduction in comparison to the competition? And it must also be ensured that greenwashing on the part of suppliers is excluded in order not to endanger the company's own reputation.

The main task of purchasing lies in the last step of the process: the intensive and final negotiation of an appropriate price for the actual costs incurred by the sustainability of the product.

The above explanations make it clear that the industry can and will exploit the existing lack of transparency regarding the new sustainability costs to its own profit advantage. In order to analyze these cost developments in purchasing and the supply chain, a new type of cost management is required. Traditional cost or value engineering is based on existing historical databases and includes costs for raw materials, production, packaging and transport.

In order to adequately depict the costs of sustainability, we need a differentiated representation, for example of the CO2 footprint during production or in the supply chain. We are talking about the Sustainability Engineering module here in order to be able to depict the components of the cost structure of sustainable products in software using newly developed databases.

In short, it is the task of purchasing and supply chain management to specifically manage the sustainability efforts of suppliers in the interests of the company, to make them measurable and to negotiate cost-efficiently in order to make the products affordable for end consumers.

It is worth noting that this analysis is focused exclusively on the B2C (consumer) sector. In the B2B sector, the requirements and tasks of purchasing and supply chain management are almost identical. However, the problems here are not caused by the declining acceptance of excessive prices by consumers, but rather by the competitiveness of companies on the international market. If the cost structures have not been optimized by purchasing, this can be lost. In any case, a lot is at stake.

Conclusion:

In summary, environmental protection and sustainability in corporate purchasing and supply chains are not only morally imperative, but also represent a smart business strategy. Companies that focus on sustainable procurement and supply chain management can benefit from increased customer trust, improved risk management, increased efficiency and financial advantages. At a time when environmental issues and social responsibility are increasingly coming into focus, integrating sustainability into business practices is a step in the right direction for long-term success and a positive future.

It should be noted:

1. Society is demanding more sustainable products. At the same time, however, more sustainable products also mean higher production costs.
2. The associated price increases are opaque for purchasing. Intransparent calculations carry the risk that suppliers not only pass on the actual cost increases due to sustainability, but also include additional profits in their calculations. In order to make sustainability affordable or to purchase at minimal cost, purchasing must be strengthened and supported. Purchasing should become the driving force for sustainability at minimal cost.
3. Professional procurement uses knowledge from cost management to determine the manufacturing costs of a product before negotiation goals are set or negotiations even begin. Modern software for product cost calculation now makes it possible to calculate manufacturing costs with an accuracy of 95 - 98%, which provides the best arguments for negotiations. In combination with negotiation expertise based on game theory, the results of important negotiations can be optimally secured. This approach must now be supplemented by sustainable engineering in order to be able to track the costs of developing sustainability in just as much detail. From supplier day for sustainability to analyzing prices for specific processes to measuring the carbon footprint, procurement faces new tasks to unravel the opaque cost increases associated with sustainability.
4. For the reasons mentioned above, negotiations will be more intensive, which will place considerable demands on purchasing. Industry will pass on the cost increases for sustainability. Purchasing must ensure that the requested price increases only include the actual costs for sustainability and do not represent hidden additional profits. This will increase the number of negotiation rounds and the need to establish alternative suppliers. In the future, companies will therefore initiate targeted "cost-cutting projects with a view to sustainability goals", similar to the well-known internal company projects for general cost reduction.

Here: https://visionsforeurope.eu/v4e-magazine-q3-2023-english-edition/

About Kerkhoff Consulting:

Kerkhoff Consulting is a leader in consulting solutions in the area of purchasing and supply chain management. For more than 24 years, we have been inspiring our customers with individual solutions that we implement together. As the experts in purchasing, we sustainably increase our customers' results through optimizations along the value chain. Kerkhoff stands for preparing customers' employees and processes for the requirements of tomorrow and accompanying them along the way.

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Press contact:

Kerkhoff Group GmbH

Sasha Koch

Tel.:  49 162 4480 132

s.koch@kerkhoff-group.com