What Happens When You Increase A Supplier’s Costs?

There are a number of ways in which buyers increase costs for their suppliers. It might be through extending payment terms, or insisting that suppliers use a supplier network that requires them to pay fees to the network provider.  There are many less direct ways of driving supplier costs too.

Now it’s easy to see the attraction of pushing cost onto the supplier to organisations, including collaborative buying organisations as well as individual firms or other bodies. Asking the supplier to pay a relatively small amount for the privilege of doing business with me might seem to be a very good idea - and it happens in other ways of course, such as the “marketing fees” charged by retailers to suppliers.

This may look like a simple decision for the buyer. There’s no apparent cost to me – and surely the supplier is just very grateful to have my business? But of course the real question is this;  do fees imposed on suppliers, such as network fees, or "commissions", get passed back to buyers? Maybe not immediately, but do they eventually come back in the long term?

It must be naive to say that there will be no effect, in any circumstances.  Just consider this argument  – if you and every other customer imposed a cost increase of 20% on the supplier, would they respond and pass that back to you? Of course they would - otherwise they would almost certainly go out of business.  So while they may not respond if the fee is 0.05% of sales value, or even 1%, we have shown that they will respond at some point. The question is – what is that point?

Well, you don’t have to be an economist to see that the answer must be “it depends”.  That’s because the response of a specific supplier must take into account a number of factors. We can think of five points to consider immediately:

1. The current profitability of the supplier, both generally and with the particular buyer  / customer.

2. The competitive position of the supplier and the industry in which it’s operating.

3. How widespread the imposition of the additional cost is across the supplier’s industry / competitors.

4. Whether the supplier can impose variable pricing on its customer base, (i.e. is it able to respond with pricing that is specific to a customer, particularly the one that has imposed the cost increase).

5. Whether the supplier has the means to recover profit through other routes e.g. downgrade the quality of the product in question.

So, if there are at least this many points to consider, the answer to our original question is not going to be a simple one! What is clear though is that it’s far too simplistic to say that there will never be a negative effect in terms of cost being passed back to the buying organisation; just as it’s clear we won’t always see the full additional cost passed straight back to the buyer.

An interesting debate, and getting more so as networks continue to grow, collaborative buying the public sector increases, and payment terms continue to be a contentious issue. And another area where procurement needs to be smart and thoughtful in how it acts.

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