Consumer Product Companies Smart Commodity Management

White Paper

Consumer Product Companies Smart Commodity Management Sponsored by

Commodity Technology Advisory LLC Houston TX and Prague CZ www.comtechadvisory.com

Commodity Management

A ComTech Advisory Whitepaper

Table of Contents Introduction .................................................................................................................................................. 3 The Growing Need for Commodity Management in Manufacturing Industries .......................................... 3 The Future of Commodity Management ...................................................................................................... 4 EKA’s Smart Commodity Management Solution .......................................................................................... 5 Summary ....................................................................................................................................................... 6

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Commodity Management

A ComTech Advisory Whitepaper

Introduction Rapid global population growth combined with increasing urbanization is driving demand for raw materials of all kinds. By 2030, it is estimated that there will be 1.4 billion middle class consumers in China compared to 365 million in the US and 414 1 million in Europe , placing increasing strains on the supply and distribution of raw materials and finished products. For the last five or more years, commodity and raw material prices have been extremely volatile, in part due to supply/demand tightness, and this paradigm is one that is set to continue in to the future. For consumer product companies, these facts represent a significant challenge and risk to their businesses.

Consumer product companies, faced with volatile raw material and energy costs on one side, and price conscious customers willing to shop around on the other, have sought ways to minimize these risks. They have stripped costs and inefficiencies from their supply chains and businesses and, in some instances, radically overhauled the way in which they manage the procurement and planning functions in favor of a commodity management approach. Commodity management means approaching price exposure more like a trader tracking price movements, utilizing hedging and other risk mitigation tools and measuring performance against market as opposed to budget or forecast. Some companies have deployed commodity management software, fully integrated with their ERP and other systems, to manage supply chain price exposure.

By 2030, it is estimated that there will be 1.4 billion middle class consumers in China compared to 365 million in the US and 414 million in Europe, placing increasing strains on the supply and distribution of raw materials and finished products.

In an uncertain but volatile future, more consumer product companies will need to adopt commodity management to ensure their profitability and even survival. In order to be truly competitive however, they will need to utilize more agile commodity management solutions that provide predictive analytics and decision support. This paper examines commodity management as a concept and looks at the emergence of next generation, commodity management v2.0 solutions.

The Growing Need for Commodity Management Over the last decade, as the Earth’s population surpassed 7 billion people and Asian economies like those of China and India, grew at average rates greater than 10% per annum, demand for raw materials of all types has grown considerably. The supply/demand tightness created by this increased demand and/or, bottlenecks in production and distribution, has created an environment in which raw material prices are extremely volatile and mostly rising over time. Even though prices have been falling during much of 2013, volatilities remain high. Nor is this a temporary phenomenon as there is now 7-8 years of history of price volatility and with further population growth and increasing urbanization in many developing regions of the world, supply and demand tightness will undoubtedly continue.

Highly volatile commodity and raw material prices have a huge impact across a wide range of consumer product manufacturers ranging from bakers to highly sophisticated computer manufacturers; in terms of raw material, packaging and energy prices. Many of these companies also find that retail markets for their finished products are very competitive and price conscious. Consumers are simply unwilling to pay continuously increasing retail prices. Effectively, consumer product companies are squeezed between highly volatile and mostly more expensive raw material and energy costs on the one hand and more cost conscious consumers on the other.

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In a recent survey , when asked what key factors currently affected business results, 91% of the participating companies, all consumer product companies of various types, stated ‘Raw material prices’. The same survey showed that the most popular tools used to protect against the negative results of raw material price volatility were long-term price agreements with suppliers, passing on costs to customers, optimizing inventories and product substitution. Most suppliers are smaller and less 1 2

UN Population Division/Goldman Sachs Raw material cost management- business critical supply risk and price volatility, INVERTO raw materials survey 2011

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Commodity Management

A ComTech Advisory Whitepaper

sophisticated then consumer product companies and build in very large risk premiums when required to fix prices. The use of financial derivatives is typically the best risk management alternative for CP companies, but only 28% mentioned the use of financial hedging.

Many of these businesses have necessarily focused on driving out costs from the supply chain. However, this has not addressed the real underlying and persistent problem of price volatility and the huge risk that this presents to their businesses. A number of these companies have therefore turned to ‘commodity management’ as an activity that they need to actively introduce, manage and utilize to help reduce the risks to their businesses now and into the future.

For many, utilizing commodity management represents a shift in both culture as well as business processes. Rather than procuring commodities traditionally using demand forecasts in a just-in-time manner and setting prices at time of purchase, delivery or some point in between, commodity management adopts a more proactive trading approach. This helps manage price exposures and risks to the business more effectively. In order to be able do this, much more sophisticated tools are required that can provide the right information on a timely basis to support business decisions. Part of this cultural shift involves measuring procurement performance against market as opposed to plan or budget.

Solutions do exist and are

A commodity management solution needs to be able to handle multiple commodities and raw materials. It needs to be able to integrate with ERP already in use by some leading and other systems to pull in production, procurement and other data and it consumer product companies, needs to be able to allow ‘traders’ to make decisions and capture spot but in the main, they suffer trades, longer-term purchase contracts and so on, tracking position and mark to market in the process. Finally, the solution needs to be able to from older technology provide hedge effectiveness functionality and all of the required regulatory platforms and lack agility. reporting. Solutions do exist and are already in use by some leading consumer product companies but in the main, they suffer from older technology platforms and lack agility. They are essentially transaction management solutions that focus on monitoring and reporting. Other businesses rely on uncontrollable spreadsheets that are themselves a massive risk to the business.

Since existing solutions are mostly built on older technology platforms, they also are expensive to deploy and periodically upgrade. Implementations can take many months if not years depending on the complexity of the business. The monolithic and traditionally developed code base is difficult to maintain, making quality assurance cycles very lengthy, slowing the ability to bring on board new functionality quickly.

The Future of Commodity Management Though commodity management has gained a following as a new approach to managing raw material price volatility, it is still in it’s infancy with respect to the solutions available and what these systems can deliver. Today’s solutions might be termed ‘commodity management v1.0.’

The next step in delivering commodity management solutions involves the ability to deliver agility, flexibility, decision support and predictive analytics. Version 2.0 commodity management solutions will need to be based on an entirely different technology stack to achieve this and provide significantly enhanced usability and adaptability including: •

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The solution needs to assist users make informed decisions by transforming large amounts of data to insights by providing predictive and user controllable analytics. This means that the user interface needs to provide strong and intuitive visualization tools in order to optimize activities and simulate alternative strategies.

Utilization of component and service oriented architectures while being web-enabled. Solutions built on these modern technologies provide the vendor with the ability to deliver upgrades to the user faster and with significantly less disruption and cost to the business while ensuring a significantly lower total cost of ownership. They can be delivered on premises, as a hosted solution or in the cloud.

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Commodity Management

A ComTech Advisory Whitepaper

Finally, in order to eliminate integration issues, provide improved data quality and timeliness of information, they will need to be multi-commodity and encompass the entire supply chain from origination to point of sale capturing all the data necessary in a single platform.

In short, commodity management v. 2.0 will need to incorporate procurement/trading, supply chain and risk management functionality and data providing a user-controlled and highly usable predictive analysis environment.

Commodity management solutions need to move from after the fact transaction management to fact-based decision, predictive and prescriptive support systems in order to provide the types of business benefits needed in the consumer products arena of today and the future.

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EKA’s Smart Commodity Management Solution EKA has a strong track record of delivering CTRM solutions in the agricultural and Softs space specifically and is increasingly active in both the metals and energy commodity markets. Its solution set is based on modern architectures and technologies, is highly modular and web-enabled. It believes its commodity management solution is strongly differentiated over its competitors in providing decision support, predictive analytics and optimization tools and its development focus will continue to be the optimization and Eka is redefining ‘commodity decision support aspects of its solution. Eka is redefining ‘commodity management’ as not just an management’ as not just an after the fact monitoring and reporting solution, after the fact monitoring and but one that helps users make better and more informed business decisions.

Eka is defining smart commodity management or v2.0. of this software reporting solution, but one category.

that helps users make better and more informed business decisions.

EKA has rightly taken the view that there is a universe of requirements for the various types and scales of consumer product businesses ranging from a rather simple need to hedge fixed price risk via derivatives, all the way through to supporting extremely complex multi-commodity supply chain optimization, management and hedging at global businesses. It has configured a series of commodity management solutions that offer an affordable and pragmatic solution in each instance by making use of its modular solution set and configuring specific solutions by bringing together the right modules in preconfigured arrangements. For customers that simply hedge out fixed price risk, Eka has configured a solution that includes functionality such as: • • • • • •

The ability to import exposures from the ERP system, Identify hedges, Enter and manage the commodity derivatives, Handle FX exposure, Perform hedge accounting, and the regulatory reporting aspects of this activity, As well as monitor and manage market risks.

The solution may be provided via the internet.

At the other end of the scale, Eka has included additional modules to fully support: • • • •

Procurement planning activities, Coverage and variance analysis Decision support tools such as simulation, Predictive analytics and, Optimization.

The result of this is a fully featured and comprehensive Smart Commodity Management v2.0 solution.

EKA’s approach promises the potential of significant business benefits in competitive markets and a reduced total cost of ownership. It also offers scalability and agility so that if the business evolves and becomes more complex, additional modules may easily be added.

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Commodity Management

A ComTech Advisory Whitepaper

While these solutions are in the process of being taken to market, Eka does appear to be keen to innovate specific industry solutions based on the use of its modular architecture and selective use of functional modules to provide end users with tailored solutions on a common platform at a competitive cost.

However, EKA’s true differentiator is the promise of helping customers make better, fact-based business decisions such as, for example, • • • •

What should we hedge and how much?

How effective and profitable are our hedging operations?

What is the impact of the net price of our purchases including the impact of hedges?

What is the best way to optimize our production and procurement plans?

Utilizing predictive analytics, users can make better business decisions by providing more insights through views on what the future could look like and then by helping users to make decisions. For example, 6-months into a 12-month budget cycle, the solution can help users understand where they are saving, how much they are saving and what they can do to optimize the plan still further. This type of decision support and analytics is provided through user-defined graphical and intuitive dashboards that provide access to current information and allow drill-down into all aspects of the information.

Summary As consumer product companies experience continued and even greater raw material price volatility, they will be forced to adopt a more market-based approach to commodity management. They will seek solutions that have a light footprint, that are agile, flexible and can deliver significant business benefit by guiding and aiding users through the significant complexities of the supply chain and commodity management to make better and more informed decisions. Today, a small number of CTRM software vendors have commodity management solutions that help monitor and report in an after the fact manner and that are based on older technologies and development approaches that make them expensive and inflexible.

Commodity management solutions that are based on new web-enabled and service oriented architectures offer a lower cost of ownership and are significantly more flexible. Those that can move the commodity management software category further by innovation in predictive analytics, optimization and decision support, are better positioned to assist consumer product companies of all sizes and foci. EKA has an offering that holds much promise in this regard and is pushing to define the future of smart commodity management or commodity management v.2.0.

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Commodity Management

A ComTech Advisory Whitepaper

About Commodity Technology Advisory LLC Commodity Technology Advisory is the leading analyst organization covering the ETRM and CTRM markets. We provide the invaluable insights into the issues and trends affecting the users and providers of the technologies that are crucial for success in the constantly evolving global commodities markets.

Patrick Reames and Gary Vasey head our team, who’s combined 60-plus years in the energy and commodities markets, provides depth of understanding of the market and its issues that is unmatched and unrivaled by any analyst group. For more information, please visit http://www.comtechadvisory.com.

ComTech Advisory also hosts the CTRMCenter, your online portal with news and views about commodity markets and technology as well as a comprehensive online directory of software and services providers. Please visit the CTRMCenter at http://www.ctrmcenter.com. ______________________________________________________________________________________________________ 19901 Southwest Freeway Sugar Land TX 77479 +1 281 207 5412 Prague, Czech Republic +420 775 718 112 ComTechAdvisory.com Email: info@comtechadvisory.com

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