The response time of companies has decreased dramatically in recent years. In an increasingly competitive market, with input supply restrictions and volatile commodity prices in the international grain market, uncertainty and risks are increasingly present in the decisions of any company, in any sector.
Managers and leaders know that making good, quick decisions is challenging even in the best of scenarios. But when you have a crisis of uncertainty that started with the Coronavirus pandemic and is now intensified by the conflict in Ukraine, which has arrived at an overwhelming speed and a global scale, companies are faced with high stakes: decisions in an unknown and very high risk scenario. Many businesses are still operating in crisis mode, meaning that many of the tactical decisions are simply to try to keep the company open. And a fundamental aspect of all this is to optimize your costs.
The animal and human nutrition sector, whether food service or pet food, has certainly been one of the most affected during this period. Many of the basic ingredients used in production, such as corn and other grains, had price growth above historical levels in the last two years. This dynamic, influenced by the devaluation of the Real that attracted more foreign demand to our local production, forced many companies to absorb the production costs and work with very tight margins – trying their best not to pass on this price increase to the final consumer.
This strategy can work well for medium to large companies that even have a favorable inventory position for longer production cycles. However, this increase in raw material prices has had a more negative impact on smaller manufacturers, who cannot rely on economies of scale to ensure constant margins. In other words: the sector only grows, because the demand for animal feed and food keeps growing, but the margins are increasingly smaller due to the increase in production costs pulled by the price increase of the main raw materials. In an interview for Istoé, the president of Abinpet, José Edson Galvão de França, highlighted the increase of 70% in grain costs and more than 160% in animal proteins and reinforced that companies are at the limit of their profitability.
Furthermore, when we look at the global food industry, the rise in operating expenses was very much driven by the rising cost of animal feed, which – again! – was driven by rising raw material prices. As we have seen in other articles, we know that nutrition and formulation are key factors for management decisions and have factors that impact quality, costs, and savings in the production process.
The impact of the pandemic was great and the conflict now in Ukraine has increased uncertainty in the industry. While it is still difficult to say when and to what extent we will return to a more stable scenario, there is an opportunity that many companies are finding a solution to: optimizing formulations, maximizing the value of raw materials, and simulating different strategic and alternative scenarios that anticipate market trends (such as further increases in the price of certain raw materials). We have separated below 5 tips to optimize your formulations that can help decrease your production costs:
1. Consider alternative foods for product composition
We know that it is not always simple to define what would be an alternative feed, if only to use it in the production process. However, when we consider that the basic principle of the formulation is the balancing of ingredients that meets the nutritional requirements for optimal nutrition, an alternative food can be understood as a raw material that is not used in the formula on a regular basis, but has a nutritional variation, but can be considered in the formulation.
The initial strategy can be based on either total or partial substitution of the raw materials that are putting the most pressure on the formulation price. Software such as Optimal Formula and Optimal FormulaPlus quickly show formulators which are the pressure points in the formula and the opportunity cost (also called marginal cost or shadow cost) that would have for these raw materials. Therefore, the flexibility to change the composition can bring immediate impacts for cost reduction.
A few points are worth emphasizing, however, when working with open formulations. When considering alternative raw materials, don’t forget:
- Check the nutritional values of the matrices of these raw materials, because they may have a higher coefficient of variation in terms of composition because they are, in many cases, by-products – if you can confirm this in the laboratory, even better;
- Always follow the recommendations regarding the correct inclusion rate of ingredients in the formulation. Derived ingredients and by-products, for example, may have different digestibility levels than the raw materials used, so ensuring that the product correctly meets the defined specifications is crucial to maintain the quality of the finished product and avoid loss of performance in the field.
Of course there are other factors that are also relevant: palatability, food safety, correct storage, supplier availability, impacts on the pelleting or extrusion process, among others. The idea is that the formulator, together with quality, production, and purchasing areas, can quickly identify opportunities for the use of raw materials and define product compositions that do not impair the performance of those who consume them, while reducing feed and production costs.
2. Know the optimal price that makes inputs economically viable
Another strategy that can be used to decrease costs is to know what is the optimal price for a given raw material that maximizes the result of my formulation (i.e., decreases costs) and still meets the desired guarantee levels. The optimal price is an excellent tool that can be used by purchasing areas either in renegotiating contracts with current suppliers or even in the acquisition of new raw materials.
From a mathematical point of view, the optimal price will reflect what would be the cost to acquire or maintain the use of an ingredient in production that makes the solution viable and that is the most favorable value of the objective function, that is, that minimizes the total formulation costs. By using formulation software, you can identify these optimal prices not only to have better negotiation support for acquiring new raw materials, but to have a more efficient and predictable cost management that anticipates market movements and trends. By knowing how much you can afford, or how high you can go, you have a high-impact business intelligence tool for supply management.
3. Evaluate and qualify suppliers to reduce variability
As we saw in a previous post about the connection of quality management and formulation, one of the economic issues that most impact formulation is the variability in the chemical composition of raw materials. An increase in variability can result in more nutrient being included than needed – that is, there would be an “excess” of raw material that would not be needed to meet the exact nutrient requirement
This strategy of working with greater precision and speed of nutritional information from foods is extremely useful, although it can become complex. For this reason, sample management tools and analytical results statistics such as Labinfy make it much easier to operationalize this process, giving managers greater efficiency and productivity.
Once you can maintain better controls, tolerance limits and history of inputs used in production batches, you can get better advantages regarding quality requirements and renegotiation of prices and contracts for variability above expected. By observing, for example, the average and standard deviation between two suppliers of a given ingredient, you can establish which one is offering you constant quality that impacts on less nutrient variability. Remember the margin of safety (the famous 💩 coefficient) that we use in the formula, whether it’s applied in the nutritional matrix or in the guarantee levels? By knowing your supplier well, you can narrow that margin and, with control charts, identify if there are too many outliers and the most reliable confidence intervals.
Suppose you want to evaluate the Crude Protein level of corn gluten meal, and to do so, you perform NIR analysis of the samples received in the yard. You observe that Supplier A has 30 samples, with a mean BP of 67.2% e standard deviation of 2.9%. Meanwhile, Supplier B has the same 30 samples, only average PB of 75% e 1.4% dand standard deviation. In short, Supplier B is having less variability, so expect higher quality and possibly higher prices – now, if I use Supplier A’s product in my formulation, can I still have a viable product and lower total costs?
Well, building simulations and strategic scenarios in formulation, coupled with better quality controls, allow you to know the source and supplier more effectively, and you can profile the precise nutrients used in production over a period of time. With less variability, you can avoid using lower inclusion levels as a safety measure and have a product produced closer and closer to the formulated one. Remembering that here we are only mentioning impacts on the formulation, there are other mechanisms that can be equally effective, such as renegotiation of contracts, extension of payment terms, decreases in market risk, among others that impact cost efficiency.
4. Anticipate trends and market movements with parametric analysis
Of all the things we have talked about here, one thing is certain: the only constant that companies can rely on is change. Change is happening faster and faster, and it has become more challenging to identify the market trends that affect your specific business – the pandemic and the conflict in Ukraine have shown this. So being able to anticipate and identify a price development and, from that movement, what your purchasing position will be for inventory management, define your production strategies, and improve your input positions often determines the direction of business and can ensure a more sustainable future.
For the formulator, this process may seem more complex than expected. However, the main formulation softwares of the market, as the ones from Optimal, have the Parametric Analyses, which allows to make an estimate of the total cost of the formulation related to the nutritional parameters (guarantee levels) that make the final product viable. By performing these studies, you can verify the impacts that the price fluctuation of a particular ingredient brings in the consumption and composition of your product or, better yet, of your consolidated production lot. Suppose that the Corn Future Market shows an increase in the price of ingredients derived from this commodity, you can define a starting price, a final price, and an increment between them so that the software can make several reformulations, bringing you which are the raw material consumption and the formulation cost for that price variation.
This analysis allows you to more quickly determine which scenarios deliver to the company the consumption composition of the batch to be produced that is the most profitable at a given price. Thus, you can determine at what price the raw material is no longer economically viable and you can use an alternative that delivers superior results and maintains the final quality. By working with the purchasing department, the supply strategy becomes more predictable and with more effective and cost-efficient production planning and control mechanisms over time.
5. Make a more efficient inventory planning
In the item above, we talked a bit about how we can create alternative scenarios and strategies that help formulators and companies to better define consumption levels and product mixes that are as cost-effective as possible. Well, in the quest for cost reductions, we can translate this task into one word: planning. By creating these scenarios and knowing exactly the impact on our operations, we anticipate events more accurately, ensuring that tactical-operational plans are more efficient and integrated between áreas.
By knowing the forecasted consumption levels for different oscillation scenarios of a given raw material, the company can more adequately define its inventory level for a leaner and more efficient production. If we extend inventory management to sales, predictability also brings the knowledge of how much your company will earn in a given period of time and what would be the efforts to capture additional opportunities (such as, for example, what would be the action to decrease the use of one input and increase it in another that is more economically viable).
In short, with (re)optimizations in formulations you can create different scenarios and build strategies that best fit them, also optimizing the company’s resources, reducing losses with losses or leftovers of inputs and maximizing the opportunity costs of raw materials – whether they are alternatives or already used in the formulation.
“With great powers come great responsibilities”
We know that the formulator’s role is increasingly broader and ends up having a great intermediation with other areas of the company: quality, production, commercial, purchasing, after-sales, corporate, among others. This is because the formulation, and the process of optimizing it, to boost the company’s results, is increasingly at a more strategic level for the company, bringing it important tools to remain increasingly competitive.
Making decisions in the midst of certainty is not easy enough, imagine in uncertainty. With the need for faster response times and more assertive decisions, the process that involves all the variables of formulation can be revisited by each area of the company to create strategies that will help the business get through unstable periods faster and more sustainably. These five ideas for creating better cost efficiency strategies using innovations and business intelligence software and data will help with market competitiveness, cost reduction, and contribute to the development of the entire industry.
