Price rises and spending review likely to add further pressure to public sector budgets


By Mohamed Hans, CIPFA Solicitor, Procurement Advisor

When McDonald's runs out of milkshakes and Nando's has no chicken to grill, public sector procurement teams and senior leaders need to pay attention.

Despite having world-class supply chains, strong supplier relationships and extensive logistics networks, these well-known brands have been caught out by the truck driver shortages that have gripped the UK in recent weeks. With unprecedented increases in the cost of raw materials (the prices of steel, timber, PVC and chemicals have rocketed since the start of the year), existing pressures caused by the pandemic, new health and safety measures and, of course, Brexit, it's inevitable that public sector contracts are going to come under severe pressure.

The disruption of supply chains is a symptom of long-standing structural tensions, initially kept under the radar by headline-grabbing issues like COVID-19 and Brexit. These problems are likely to require a period of intense negotiation, not to mention deep pockets, to solve.

The huge growth in demand for products globally, record bad weather in the USA, and other natural disasters across Europe and Asia are also likely to make matters worse. The World Bank has predicted that call for wood products alone is going to rise by 4% a year for the next 30-40 years. Having resilient and extensive supply chains will be an urgent priority for governments around the world if shelves are not remain stocked.

There are real concerns that haulage drivers will demand substantial pay increases before getting back into their trucks. There are also reports that a leading retailer is increasing pay by a whopping £5,000; some haulage companies are prepared to pay salaries in excess of £70,000 to attract drivers.

Wholesalers will probably have no option but to open the cheque book, which will most likely result in each sector passing these costs down the chain – inevitably ending with the customer. Between February and July of this year, the construction sector recorded the highest rate of salary growth of any sector, with advertised wages rising nearly 7%. This can largely be attributed to a shortage of workers (especially bricklayers). When this worker shortage is combined with increased global demand for building materials, the net effect will be an increase in prices for consumers, with some builder's merchants warning prices could rise by as much as 20%.

The Northern Ireland Executive is the first sector of government to make an announcement aimed at tackling these supply chain pressures. If contractors can prove that "they have experienced a significant delay in the supply of a product that impacts on a completion date," then all parties are advised to identify alternative materials (and costs) or agree a change to the completion date.

It is increasingly likely that similar announcements will follow, with the potential for specific government intervention in trying to calm the markets, just as we are seeing with efforts to manage energy price rises.

Impact on the public sector

Public bodies, with their wide variety of requirements from catering, waste, to construction and house building projects, will most likely to be affected by these events. Sooner or later contractors will start to try and pass on these price increases to local authorities and, subject to what has been agreed, many contracts and supplier relationships could come under severe strain.

The public sector could also start to lose out on essential, skilled staff to the private sector, which can offer higher pay. 18 local authorities have already announced that their waste services have been affected by driver shortage, resulting in rubbish being incinerated instead of recycled.

What can public bodies do to mitigate cost and labour pressures?

Public sector bodies need to formulate a strategy to avoid a sudden hike in prices, ensure supplies and services are maintained and vital projects do not come under pressure. The balance of power has shifted strongly in favour of contractors, which could result in a very challenging situation developing – especially if there is another COVID-19 outbreak.

All organisations have a contract and risk register, although the effectiveness of registers vary between authorities. Reviewing the register, and drawing up contingency measures, is now a vital priority. Standard terms in contracts should ideally include a price index and review clause (which ensures prices are only increased within set limits, and suppliers absorb moderate increases). Where this is not included, it may prompt some suppliers to try and pass the cost increase on to public sector clients. Public bodies should also seek legal support if they are in this this situation to make sure matters are kept under reasonable control.

Public sector bodies must also ensure they have their own skilled resources, such as commercial and procurement managers, to help navigate this rapidly evolving situation. A proactive, rather than reactive, approach is required, with continuous dialogue and engagement with contractors as part of an effective contract management strategy.

If local authorities stay quiet, contractors may move them to the bottom of their customer priority list, and in the process try and extract inflated prices. This situation is not going to end in the short term, but likely to continue well into 2023.

Managing expectations within organisations

Public bodies should adopt a strategic approach and work with suppliers to achieve best possible outcomes for all parties. Those organisations (in particular smaller district and regionally located public bodies) which fail to invest in solid procurement and contract management are very likely to suffer not just financially, but also experience significant challenges in delivering vital services. Senior managers need to keep their heads of procurement on speed dial to manage expectations, and be kept aware of sudden price and supply movements.

Those organisations that decide to take a back seat and resort to a policy of waiting for the storm to pass are setting themselves up for inevitable failure, and a possible winter of discontent.

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