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3 Ways to Mitigate Margin Pressure From Input Price Inflation

February 11, 2022

Contributor: Jordan Turner

To counteract the effects of rising input prices, CFOs must institute more significant long-term changes in the hopes of creating a competitive edge.

In short:

  • Rising consumer prices grab headlines, but it’s increased input prices, such as wage inflation, that threaten profitable growth.
  • CFOs should be prioritizing long-term changes to alleviate margin pressure and stay competitive.
  • Key ways to reduce margin pressure include making principled pricing decisions, improving supply chain visibility and controlling the rising cost of recruiting and retaining talent.

Gartner research indicates that 74% of CFOs believe lower profitability is the biggest risk of input price inflation — which pushes up the cost of inputs required for producing or delivering products and services. 

Input inflation typically relates to imbalances in supply and demand, whether for labor, raw materials or transportation. CFOs need to take long-term action now to manage the dual challenges of rising input prices and shrinking margins.

“While input price inflation comes in many different forms, rising labor costs are one of the most commonly cited forms,” says Vince Keenan, Senior Director Analyst at Gartner. “Because labor costs are often organizations’ largest line items, CFOs and other executives must develop effective ways to mitigate the margin pressure they create.”

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Biggest Risks Posed by Input Price Inflation

Here’s how to manage margin pressure in the long term:

1. Make more principled price-setting decisions 

Instead of increasing product and service prices arbitrarily in response to input price inflation, consider competitor actions and profitability when making pricing decisions. Ask yourself the following questions:

  • Is the input price rise likely to be temporary? If so, avoid price increases, as customers have a vivid memory for them. 
  • Are competitors raising prices? If not, pursue volume adjustment over price increases, if possible. 
  • Do we have price-sensitive customers or big customers? 
  • Are our customers profitable? If they are, reserve supply to serve those customers and consider introducing premium versions of your products or service offerings in order to pass on price increases. 

2. Change how you recruit and retain talent

To meet inflation challenges head-on, recalibrate your recruitment and salary-setting approaches:

  1. Look beyond the typical talent pool of internal, external and full-time talent and target other groups of prospective employees. Think: freelancers, part-timers and outsourced talent. This provides access to personnel with needed skills while keeping recruitment and labor costs low.
  2. Adapt job descriptions to focus on skills over experience and develop retraining programs to assess candidates, not interviews. Consider making the hiring process more inclusive to attract and retain valuable, but underrepresented, talent. 
  3. Modify compensation packages to reflect new working conditions, like remote work and associated changes in cost of living. In a recent survey, 62% of newly remote and hybrid employees reported they would consider moving away from where they currently live and taking a pay cut.

3. Improve insight into supply chain dynamics

Gartner research indicates that 46% of companies sought to diversify their suppliers to improve availability and competition in the face of rising input prices and tightening profit margins. However, progressive organizations not only diversify their suppliers, they also seek to gain greater visibility and control over their access to inputs:

  • Deepen supply chain visibility beyond direct suppliers to monitor down the chain to links such as fabrication, testing and packaging. This strategy helps forecast supply bottlenecks and predict when the inflated price and scarcity of needed inputs will subside.
  • Leverage strategic partnerships to secure supply. Also consider making capital investments in suppliers or service providers to increase capacity and improve cost positions. While these unique relationships may be difficult to forge, the impact on input prices may be enough justification.
  • Combine and track leading indicators to gain insight into potential inventory shortages that could set the stage for rising input prices. For example, combining capex guidance provided by suppliers, marketwide inventory indexes and measures of end market demand can indicate upcoming situations of potential undersupply that may forewarn of input price increases.
  • Diversify the supplier base by improving your understanding of your suppliers’ capabilities, investment plans and long-term product roadmaps. While it’s a heavy upfront effort and investment, it can reduce the risk posed by input price inflation and improve supply chain resilience.

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