Steep curve in commodity prices. What can be done?

Plastics, metal, wood, paper, glass, crude oil, electricity: the prices of packaging materials and energy continue to rise, leading to higher production costs that filter through to consumers. The result is an inflationary cocktail. There are many reasons for price increases – from supply and demand to economic, demographic and political aspects, weather, inflation, and the dollar exchange rate. The opportunities for companies to influence these factors are few. Nevertheless, there are tools that open up room for maneuver.

 

Basically, there are three ways for companies to counter rising raw material prices – in addition to reducing the cost of materials via new technologies or improved packaging design: finetrading, supplier selection and hedging via the futures exchange.

Before we look at these options in detail, let’s take a look at the extent of the price increases and their causes.


Situation of raw material and energy prices

  • Plastic: More than 85% of the members of the Industrial Association for Paper and Film Packaging (IPV) describe the current supply situation for plastics as poor, half even as very poor. The cost of material procurement has increased significantly, reaching up to 60 percent for granulates and films. Experts do not expect a recovery until the fall of 2021.
  • Metal: According to the German Raw Materials Agency, prices for aluminum, iron ore, tin and steel are on an upward trend. In some cases, there is already a shortage of starting materials, as seen, for example, in the 200 liter barrel, which has become a scarce commodity. The reasons include increased demand from the chemical industry, increasing exports to (again) booming China, shutdown blast furnaces and closed mines. The increased demand from the automotive industry for flat-rolled steel, meanwhile on the rise again, is also contributing to the shortage.
  • Wood: A decline in demand for lumber was predicted. The reality is different. Supply is tight, and delivery times are very long reaching up to four months. This is reflected in rising prices. Among the causes are the booming construction industry, growing exports to North America, the closure of sawmills due to measures, and collapsed supply chains from Scandinavia and Eastern Europe.
  • Paper: The development in wood naturally pulls through to paper. Producers of packaging papers and inkjet papers have to increase their prices accordingly.
  • Glass: The prices for sand as a raw material for glass have been showing a stable upward trend for more than 10 years. Here, too, the construction boom is one of the drivers. But advancing digitalization also requires more and more sand for microchips, for which there are also already supply bottlenecks. Last but not least, glass is also booming in packaging, as it scores with its good recyclability in the course of the growing importance of the circular economy.
  • Electricity: According to the German Association of Energy and Water Industries (BDEW), the price of electricity has risen by 28 percent over the past 10 years, although producer prices have fallen by 13 percent. The main reasons for the higher electricity costs are the taxes and levies included (increase of 65 percent) and the network charges (increase of 26 percent).
  • In 2020, crude oil was cheaper than it had been for a long time. However, due to the recovering economy and measures taken by oil-exporting countries, the price curve is already pointing upward again.


The causes of rising commodity prices

  • Economic and political factors. This includes punitive tariffs and trade wars.
  • Factors such as rising raw material prices and raw material shortages result in an “inflation cocktail” that further accelerates the already expected rise in inflation. This is because higher raw material prices cause production costs to rise at company level. This in turn is felt by consumers.
  • Population growth. A growing world population needs more of everything.
  • Central banks. Low key interest rates and quantitative easing, i.e. the purchase of bonds, provide additional liquidity on the markets, which drives inflation and causes prices to rise.
  • Regulatory activities. For example, a new EU regulation requires raw material importers to perform special due diligence since January 1, 2021, which drives up costs and thus prices.
  • Currency risks. The dollar is the leading currency on the world market for raw materials. If the value of the dollar rises against the euro, this leads to rising commodity prices. This effect is seen not only in oil, but also in metals and agricultural commodities. For European raw material importers, a strong euro is therefore desirable. However, low key interest rates and quantitative easing tend to lead to a weaker euro.


Possible actions for companies

As a rule, companies have no influence on the aforementioned causes and influencing factors for rising commodity prices. Nevertheless, one is not completely unprotected against the development. Possible options for action are:

  • Reduction of material use through new technologies or optimized design. The packaging industry has steadily reduced its use of materials and energy over the past decades. A large part of the potential has therefore probably been exhausted. Nevertheless, there are still opportunities for savings in individual cases. In the area of packaging design, on the other hand, there are greater opportunities.
  • Use of alternative materials. Here, too, there are opportunities in individual cases to counter rising raw material prices, for example by using alternative fiber raw materials for packaging papers. However, the quantities available on the market are usually limited.
  • Finetrading. Finetraders take over the purchase of raw materials and pay their suppliers immediately. Finetraders then sell the goods to their customers with a payment term. Finetraders usually have an excellent credit rating and therefore receive the desired goods from all suppliers.
  • Find the right supplier. A “normal” supplier buys raw materials at market prices and sells them to his customers at a markup. In this case, the customer is directly exposed to fluctuating commodity prices. However, there are also suppliers who act more comprehensively and operate their own commodity price management, for example by operating on the futures exchange or using favorable commodity prices to make extensive purchases. This enables the supplier to keep their raw material selling prices relatively stable.
  • Futures exchange. Companies that hold an account with a futures exchange can influence their commodity purchase prices through futures and options and hedge against price increases.
    • Futures are “unconditional forward transactions” in which two contracting parties enter into a binding and obligatory agreement to sell and take delivery of a specified quantity of a certain underlying or commodity at a specified quality and on a specified date.
    • Options, on the other hand, are conditional forward transactions. Options give the buyer the right to purchase a certain underlying asset or commodity at a fixed time and price. There is no obligation to purchase.

Which of the above-mentioned options makes sense and is feasible for a company can only be determined on a case-by-case basis. The important thing is to know and explore your options. To use an analogy: We are powerless against the weather itself. But we can choose the right clothing.

 

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