We spend quite a bit of time traveling the Continental US, visiting machine shops and manufacturers of all kinds. Two constants I am seeing across all of these businesses are 1. A gap in supply chain where we are struggling to get materials in a timely fashion, and 2. A gap in a skilled workforce where we are all fighting for the same small pool of individuals we need to grow and meet our goals. These are daily struggles that we see in all of our interactions, and we need to be able to lean into this current business climate and make sure we stay on top of our game.
What do I mean by this?
Our next step after investing in our culture is to start the real conversations with our customers. Our customers need to hear the genuine struggles that we are going through for both your sake and theirs. If their expectations are that they are going to get everything that they order exactly when they want it for the exact price they are asking for, they may be setup for disappointment. This level of communication needs to be exponentially higher during these struggles. Not having the materials means you cannot cut the chips. Not having the people means you don’t have all the expected hours of production available to hit the due date. This open and honest conversation with the customer is never fun, but its integral in growing a strong relationship. Customers used to be able to call any shop and place an order with the cheapest bidder. Now that is not the case. We are in a different climate both in the US and globally. The employees are gold, and the shops that can produce good parts on time are in high demand. That means the shoe is on the other foot.
How do we deal with the Customer in the newfound climate?
We need to understand our value! We need to understand our cost very well. We need to understand that if we don’t pay employees a more than fair rate someone else will. We need to understand that “expediting” may not be available with materials or outside suppliers. This labor and material shortage climate along with significant inflation that we are seeing means we are not in a “price reduction” state anymore. If you are, I think you may be in the wrong market.
That leads to the next tough conversation that no one seems to want to have.
If you don’t increase pricing to compensate for the increase in labor cost, the increase in material cost, and the ancillary inflation costs, the only one who loses is you. This means you go from 15% profit to -5% profit and the people who start to struggle are the owners and their families. If this is you, please start to reflect now for your sake and your legacy’s sake. I am seeing these conversations happen on a daily basis and have had the privilege of being in several of them alongside of our clients.
What happens with these tough conversations?
First things first… The customer is expecting this call if you have not had it. All of their prices are increasing as well. Once you get through the initial pleasantries and break the news to them (Before you accept the next order), things go one of two ways. Either 1, they start with saying that they cannot handle a price increase, their prices are locked, and they may have to move the order somewhere else, or 2, they are expecting this and start to negotiate with you on how much they can pay for the item(s). It is important to know that you have more leverage than you think you do. The competing shop most likely buys the material where you do, and struggles to fill the same employment spots you are trying to fill. From here I suggest you hold your ground. 9 out of 10 times the threats you may encounter are empty, especially in a highly regulated environment (Medical, Aerospace, Defense, Space, and Automotive). This means the customer would have to spin up a new supplier and go through all of the validations, PPAP’s etc. to even start to move that part number. All that time they are trying to do this, their supplier quality engineer has to stop what important thing they are doing (if they have an extra supplier quality engineer) and the customer does not get what they need for their product sales. All that said, it is hard for a good customer to move product.
How do I negotiate these new prices?
The first thing you need to do is understand your cost, and then look to make a fair profit on top of your cost. At EGS we suggest that you offer 50-60% Gross Margin (GM) on low run product and around 40-45% GM on higher volume product. Don’t sacrifice GM, look for ways to streamline your process to make it more efficient. Once you get to your accurate number, hand that over and hold firm. If you are sitting on a 10% GM product, let the customer know it’s okay if you don’t get the order. You have rising cost as well as employees to take care of. It is imperative that you convey the message that you greatly value your employees, and you need to make a fair living for all of them (including yourself). There is also no good investment in top end technology without this mentality unless you saddle yourself with a significant amount of debt.
At EBITDA Growth Systems, we suggest that you review all of the jobs in your shop to see how you are performing in regard to Gross Margin. Start negotiating from the bottom up of your lowest GM part numbers and do a good review before you accept the next order. This will stop the current losses that you have and turn them into profitable jobs.
If you are a manufacturer, you are the backbone of our country and you are important. You are running a business that we all need. We (USA) cannot afford for you to not be successful. Profit is how we measure success. Profit is also how you keep employees (they like to win) and how you invest in your dreams, all while you get better sleep at night. Take it seriously and don’t leave it on the table.
Do you need a paradigm shift with your customers?