Windfalls from raw materials and emerging market growth mask the damage to profit margins from increasing commoditization.
In the past 15 years, the chemical industry has been lucky to ride the tide more than once, but twice. These chemical companies can benefit not only from the attractive natural gas raw materials in the Middle East and the United States, but also from the strong growth of emerging markets. However, these value creating trends mask the decline in profit margins caused by the commercialization of most products in the industry. This, in turn, is driven by freer access to production technology, increased producers and excessive capacity expansion in many product areas.
Although chemical companies strive to protect profit margin through better manufacturing performance, in many cases, their traditional marketing and sales operation mode focusing on service has not been affected. In fact, our research shows that the average sales, general and management costs as a percentage of revenue has increased by 10 percentage points over the past decade.
Matching the business model to the degree of commercialization can be a relief. While the profit is still considerable and the product development for high-end customers can create value, the service intensive method will still be an advantage. For the next layer of business, a low-cost backbone may provide basic services and may charge for additional services, such as on-demand technical support. A low-cost digital channel that separates services from sales will target customers who are no longer willing to pay for services. Chemical companies should establish an independent business department with commodity as the center, so that the competitive pressure will be so great that it is necessary for them to adopt the lowest possible cost model.
Executives from all walks of life can learn from the experience of the chemical industry. If they take advantage of similar macroeconomic trends and upward trends and ignore the internal dynamics of their business, they are at risk of losing a lot of value. To regain this value requires creative solutions.