Materials Prices Strike a Raw Nerve in 2008

Across many industries, including our own, 2008 will be long remembered for its spate of raw material price increases and their knock-on effect. Although these prices had by mid-November retreated from their earlier record highs, across the board they left eroded profits in their wake – and consumers smarting from the increases tyre manufacturers in turn slapped upon their products.

In the words of Michelin, reporting its third quarter results on October 29, “the decline of oil and natural rubber prices recorded in the third quarter was particularly sharp. These trends, however, will not impact Michelin’s accounts in 2008, due to the time lag between raw material purchases and the sale of tyres made from them.” The French manufacturer reported that the additional cost burden on its profit and loss figures due to raw materials this year should amount to around 750 million euros, excluding currency effect. To offset these extra costs, Michelin implemented what the company itself called “unprecedented global price increases”. And Michelin was definitely not alone in doing so.

According to statistics released by Nokian Tyres, manufacturers selling tyres and retreading products in the European and North American markets alone released a total of 62 price increase notices between the start of 2008 and October 17. This figure is up from 48 for the whole of 2007 and 39 for 2006. While this measurement of tyre price increases can by no stretch of the imagination be considered thorough – Nokian admits its information doesn’t cover all markets and all tyre brands – it is one way of illustrating an undeniable trend: We’re now paying more for tyres than ever before.

The increases were not uniform and depended upon market and segment. For example, Michelin announced two price increases for its passenger car tyres segment in Europe – a 3.5 per cent hike, announced on March 15, and an increase of between 3 and 5 per cent, announced October 1. Increases for US customers, due to a then weakening dollar, were more frequent and painful. Increases of up to 7 per cent in March were followed by more of up to 7 per cent in July and up to 12 per cent at the start of September. The company’s truck tyre segment experienced increases along similar lines, and in May the company announced North American price hikes for agricultural tyres of between 6 to a hefty 36 per cent.

Continental increased its European market price for passenger cars and light truck tyres twice; between three and four per cent in June and then another five per cent in September/October. In the USA, Conti kicked the year off with price increases in this segment of up to nine per cent, followed by further increases of up to nine per cent in June, and rounded off by a third increase, again up to nine per cent, in October. Once again raw material costs were the main culprit for this upward trend, and even then the numerous tyre price increases could not insulate Conti from the total impact. Upon announcing third quarter results, vice chairman of the company’s Executive Board, Dr. Hippe, said that Conti’s Rubber Group would have achieved an EBIT of around one billion euros in the first nine months of the year had the raw material price increases not occurred (actual EBIT for the period was 795.3 euros), therefore clearly outperforming the previous year, in which EBIT was 888.1 million euros. “Despite the high costs for raw materials, we achieved an EBIT margin of 11.1 per cent in the period from January to September,” commented Hippe. “This clearly shows that in the Rubber Group, we have very firm footing. Nonetheless, we will look into further cost cutting measures and scrutinise all of our investments.” According to Conti, 2008 Rubber Group earnings will be, compared with 2007, impacted by increased raw material costs to the tune of 270 million euros.

The list of companies thus affected goes on, and is not restricted to Europe and North America – upon announcing Apollo Tyres’ third quarter results, company chairman Onkar S Kanwar stated “the clear learning from H1 has been that we can protect customers and absorb dramatically higher raw material costs by enhancing internal efficiencies only to a limited extent.” And it is hardly surprising so many companies have needed to adjust prices to avert catastrophe in 2008. Oil prices, hovering just under US$100 a barrel at the start of the year, reached a peak price of almost $150 a barrel in July, before later declining to (in mid-November) around $55 a barrel. This is the lowest price since January 2007, the result of the first decline in average global oil consumption in a quarter century and a five-year low in US oil demand. This same reduced demand has seen rubber prices fluctuate between just under 300 yen per kilogram (£2.09) in January to a high of around 340 yen (£2.37) in June, before plummeting to just below 200 yen (£1.39) per kilogram in October.

Steel prices are experiencing a similar effect; in early November ArcelorMittal announced, two months after prices rose to a record level, that it has doubled production cuts in response to dramatically reduced demand. Around this time Corus released news of plans to ‘align its production levels with demand in the European market’. This involves reducing production between October 2008 and the end of March 2009 by 30 per cent (compared to the amount previously planned). To achieve this the company is idling one blast furnace each at its Scunthorpe, Port Talbot and Ijmuiden (Belgium) facilities and will also adjust output levels on its downstream production units to suit market conditions in each respective region and end-use sector.

Cutbacks in rubber production have also been announced. Rubber industry representatives from Indonesia, Thailand and Malaysia – countries responsible for 70 per cent of the world’s natural rubber output – met in Bangkok during October to discuss the current situation. According to international news reports, the three natural rubber producers have agreed to cut output by 210,000 tonnes next year by felling trees, and have also agreed to reduce rubber tapping. This reduction of supplies is expected to boost market prices following their drop to a three-year low.

With uncertainties such as these an ever-present concern for tyre manufacturers, it is understandable that companies wish to protect themselves from unpredictable prices. In late October Bridgestone released details of its agreement with Toyo, originally signed in May. As part of this deal, both companies will join forces to obtain the best value in the procurement of raw materials, other materials and equipment. As such, Bridgestone and Toyo will mutually supply materials produced in-house, make the best use of both companies’ engineering subsidiaries, and conduct the joint procurement of raw materials and integrate raw material specifications to the greatest extent possible. In November Yokohama Rubber disclosed plans to build a joint venture natural rubber processing facility in southern Thailand. Upon announcing this, the company said the decision to operate its own factory stems from its aim for an assured stable supply and quality of natural rubber. Other companies however believe that the answer to fluctuating raw material prices and supply may lie in reducing dependency upon these traditional commodities altogether. As can be seen in our December raw materials feature, numerous opportunities to do so are presenting themselves at present.