Skip to main content

How To Successfully Run A Commodity Based Business#commoditybusiness#freebusinessadvice


How To Successfully Run A Commodity Based Business

 
risk management

 I have over 26 years of experience in a commodity based business. As a matter of fact, it wasn't just commodities, it was the number 2 traded commodity on the planet, coffee. Although I will be referring to coffee in this article, this information will translate into any commodity based business.

One thing I do want to point out, that perhaps many haven't considered. Almost every business, if not every single business is affected in some way by commodities. Whether it is a meat packer buying boxes(by the way beef is a commodity), or a bakery packaging mini muffins in portion controlled lots. Yes, board to make boxes is a commodity, and many of the packaging materials a manufacturing facility uses is petroleum based. I could go on and on, but I just wanted to point out that understanding commodities and how to manage and minimize your exposure to wild price swings is an extremely important skill. So I'd like to share my philosophy, developed over a 26 year period, regarding minimizing that risk and assuring that you are on the right side of the ledger, whether you are selling it or buying it, it doesn't matter.#riskmanagement

commodity tips
 Looking back at my beginning in the commodity business was actually an eye opener. In 1986, if the coffee market went up or down 1 penny, it was a major story. It was also pretty rare and, you would never get anywhere near the volatile fluctuations we now live with in all commodities. Let's take a look at why this has changed, shall we?

The main reason for the volatility in the commodity markets is pretty obvious actually. It simply is the emergence of investment funds, 401k money, and many more return on investment vehicles the financial world has pushed on the world, especially in the last 20 years. This along with the fact that we are now seeing the Baby Boomer generation in full bloom! Never in the history of stocks or commodities, or investments in general, the world has ever experienced the shear enormity of this large and affluent generation of people and their combined economic clout. I mean think about it. This is historic and also a fact that this specific age group of people are collectively making history on a daily basis. Not only in the investment sector, but in the shear volume of people reaching retirement age daily, the actual power they possess in almost every topic having to do with humanity is almost too overwhelming to actually grasp. This is historical in every sense of the word. Humbing is a word that comes to my mind. Anyway......

 The Baby Boomer generation has been, growing older and obviously, as people get older they plan for retirement. Well this particular group of worker's, have built up a stunning amount of wealth, and with that philosophy, the commodity markets have been overtaken by fund manager's and large investment banking groups. It used to be a "fundamentals" based market. This simply put, means the price is really only ruled by the almighty equation, "supply and demand". That my friends is a distant memory in today's world. That's why years ago, coffee for instance, was an absolute non factor when it came to major market fluctuations. Everything was based on facts. In fact, the only reason the market would go haywire was, when there was an actual frost in Brazil and there actually was real measureable damage to the coffee trees. This really did effect the basic parameters of supply and demand. Those days are long gone. I would venture to guess, we have seen the last of the past, for sure.

It used to trouble and worry me to no end that some Wall Street cowboy managing a $2 billion fund would decide to juice up his returns this quarter and virtually move the market through manipulations. It was the late 80's and you started hearing about charts and ceilings, and mentally driven market movements that had absolutely nothing to do with fundamentals, or very little. It had to do with how much money was on which side of the market and where do the statistical probabilities factor into the present or even more importantly the future of the market price.
how to manage risk
 During this time the poor souls that happened to be in the "physical" commodity market had very little to do with where their pricing ended up. Don't get me wrong, every business has risks and managing those risks more than likely determines the financial performance of the company. We were witnessing a monumental change in how you would have to learn to manage that risk, and I am sad to say, many businesses that had been around 70, 80 years just didn't make it.#commoditymarkets

Thank God I was young, inquisitive and was at least aware enough to realize we needed to adopt a reasonable way to deal with this. So I, with the help of some experienced commodity trader's had many long discussions about my goals and expectations. During this time I realized that, no matter what you may do, and no matter how much you know, there are going to be times where you just don't hit the home run!#succeedinginbusiness

What I mean by that is, I reconciled with myself that my expectations weren't realistic. It was quite an education, and a real exercise in restraint and discipline. It was essential to change the way you conducted your business, because if you didn't have an understanding(many coffee companies did not) and an overall strategy to protect your business, you would find yourself and all of your employees in the unemployment line. This was essential if you wanted to not only stay in business but to thrive. It was and still very much is, a very challenging vocation. You better love it, otherwise it will eat you alive!

Obviously, you would love to buy at the very lowest price and sell it for as much as you can. I mean that's business, that's capitalism, the american way! However, my metaphor was always, I'd like to be the baseball player that is consistent, hits 300 every year and yeah sometimes I'd hit for power and hit 35 home runs, but at the end of the day, I want to hit 300! That makes you an All-Star right? Sure there are years I hit 20 home runs, and some I hit 10, but my average is always 300 or better. That's kind of how you have to deal with a commodity business. You can't swing for the fences, or you won't be around very long. You have to have the discipline and the system in place that is going to assure you that you play for averages. Your averages. 

You must completely understand your business and formulate a strategy that will capture the exact amount that you need ensuring that your Gross margin isn't jumping all over your monthly P & L like a pogo stick. Can you imagine trying to run a business like that? Flying by the seat of your pants and really not having any real plan to protect your stability could lead to a serious toll on anyone's well being. Owning a business is not an easy role. Throw in that you really aren't in control of your profitability is really hard to grasp. Be realistic, be humble, be in control at all times and don't veer off course, even if you think you are going to buy at the lowest price of the year. You know why? Because it can always go lower, it can always go higher. Learn to be comfortable with making a reasonable profit, at ALL times. Greed in the commodity based business equals death. This isn't Michael Douglas playing Gordon Gecko in Wall Street, this is actually the diametric opposite. Plain and simple.#businessadvice
successfully managing a commodity business
So, it is not easy, I know that is an understatement, but I have always thrived on challenges. I was in actuality fighting myself, I know that is an awkward sentence, but it is what was happening. I am an entrepreneur, I am a risk taker, I love the hunt, I love winning, I want people to count on me to make the right decisions, if you have owned a business for any length of time, you know exactly what I am talking about! I learned quickly I had to temper that and more, but I did succeed, and I did it consistently, which is the real trick to a commodity based business.

Let me give you a real world example, on how I would actually leverage the market and ensure I would capture at least my XX margin. In other words, I knew for sure I would make X amount of dollars. Never ever less than that number, sometimes maybe more, but sleeping at night is semi important.

OK, let's just say for this exercise your company is selling 10 million pounds of coffee a year. That means I have to buy approximately 12 million pound of raw coffee to get to that number of pounds. The reason I buy 12 million pounds is because you have to factor in the shrink. Coffee loses approximately 15% of its total weight once it is roasted. This is referred to as shrink. This is another thing that drove me crazy. Many people would just add 15% to get to the number of pounds. That is a grave mistake. Rule number 1 - Take the number of pounds and divide it by .85, trust me you'll get a much different number and when you are running a business, it is all in the little details like this that make all the difference. Sorry for the little digression.

Anyway, at this point you must know, what your average selling price is per pound, or in other commodity based businesses it could be units, sqare inches, etc.. This is a necessity. Again this shouldn't be number of pounds divided by your sales. This should be a "real" average selling price. This means you should use weighted averages. In other words, say you have a customer who is 30% of your business, you better know exactly what every cost is associated with that account and you better use what your selling price is to that customer as 30% of your sales. Again averages, but weighted averages. Otherwise you don't have the correct information. It is virtually impossible to run a business if you don't have the correct costing information. I don't care if you are Elon Musk or Joe The Landscaper.

You then must formulate by trading position, how much coffee you use within that timeframe. All commodity based businesses operates on this same premise. Your cost of goods is always based on the present, or "spot" buying position, and the speculative future of the particular market, or in some cases markets you are involved with to make your products. The future price oyu are looking at is changing second to second and also is trading in certain months, in the future.Coffee happens to trade in the months of March, May, July, September and December. The term in manufacturing is "Cost of Finished Goods".  That's 5 positions throughout the year. What you have to do is gather your information and place it in a spreadsheet. So now you have your delivery needs estimated for the year or more, to cover your manufacturing. Obviously, the wild cards are plentiful. What if you pick up a significant account or amount of business in September, or you lose a chunk of business in March? So you need to leave yourself enough room to manuever. You just can't buy 100% of your needs because it is always a moving target. The solution to this is to use a hybrid purchasing system with 3 different strategies. You should fix a certain amount of coffee/"the commodity" by actually, physically purchasing it based on your needs for the specific time of year. You must also buy a certain amount of futures(paper purchase, that can be converted at anytime before the trading period comes off the board)) and last but not least, you should purchase some options.

 Now what percentage of each do you buy? Why would you buy options and not just all physical coffees and futures? Why wouldn't you just buy the coffee outright for the year, or at least fix the pricing? Great questions, every one. The problem is there is no exact formula, it will vary with what kind of business you are running. The formula can be similar and the philosophy too, but no 2 commodity based businesses do this exactly the same.

 Why? I have found it greatly depends on the owner, and his stomach for risk, as well as his need to consistently turn a profit. There are some other factors I have seen, but for the length this post is now running at, I have decided to not cover some other reasons. It would simply take too long and I have a solid schedule with topics I would like to address in this blog moving forward. I certainly hope you see my point here.

What if you have annual fixed price supply contracts with some of your major customers, how do you ensure that you capture the correct margin on them? This does get a little interesting don't you think? I hope it does. You are reading this, and benefiting from over 26 years of actually doing this on a daily basis. I would venture to say, that the commodity manufacturing business is 1 of the most complicated things to run successfully that there is. There are so many unknowns, so many moving parts. 

I consider myself, extremely lucky to have learned "on the job", because when I purchased the company I knew, every facet of the business, backwards and forwards. I couldn't see someone, say coming from the service industry or say the retail business stepping into a commodity based manufacturer and making an immediate positive impact. Not unless they had some kind of trading experience and an overall knowledge of understanding complex accounting concepts, along with some sort of production background. These are all "must have" skills right out of the gate. 

Along with that, then you can add in, product development, quality control, logistics, human resources, Sales, marketing, etc, etc....

So, those of you that have a commodity based manufacturing business, I hope you have found this article informative. I know there will be reader's wondering why I didn't get more specific and tell them the exact steps, but that wouldn't be very prudent on my part. Firstly, I just got through pointing out that every commodity based business is different. I just couldn't, nail down your exact "winning" strategy. Secondly, this is in large part what I do to provide for my living. I consult and do some public speaking on topics I have covered here in this blog. I do go into a bit more detail speaking about this, but marginally.#freebusinessadvice

I have given you a template above and a strategy to formulate a business plan, that will ensure you are very successful. I strongly recommend that you adopt all of the options I have discussed above to ensure you are never completely stuck on the "wrong" side of the market either physically, or through managing your trading accounts. One of the big keys here is to never be backed into a corner where you are forced to ship product that you know will be very low margin, break even or even in some cases at a loss in order to fill your customers needs. That my friends, is a certain formula for disaster.

I realize this can be overwhelming. That is why people like myself exist in businesses that deal in commodities. You always could use a different perspective, or someone you know you can count on to teach you the proper way to structure the way you go about your business. In the long run, it pays for itself 100 times over. I certainly know that I was in the business for over 10 years, and still needed assistance from broker's and some key financial advisor's in the manufacturing field to fully understand how to almost eliminate your risks. Now I saw almost, because although mistakes can be fixed, some you make in this business can only be improved, not fixed. It is still so much more palatable than the alternative which is to bury yourself with low priced supply contracts and not guaranteeing that you capture the best margin possible for the products or products you are making.  

So, that's the end of this rather long blog post. Believe me when I tell you, it could be 5,000 words longer and I still wouldn't be able to cover everything necessary. That is why people that are experts in this specific field are invaluable, and I might also point out, there aren't that many professionals with this kind of knowledge. Having said that, I would welcome the opportunity to assist any business that is struggling or in need of assistance with regard to manufacturing commodity based products. One more thing I would like to mention. There are some larger company's that have the luxury of having trader's, CPA's, cost accounting experts, inventory specialists, marketing departments and so on. However, the majority of the businesses I am talking about are small to medium sized without that luxury. That's where I can help. I not only help in the strategy, planning, costing and lean manufacturing processes, I show you how to operate with the lowest possible payroll overhead that is humanly possible.#commoditytips

I really do hope you found some interesting facts, concepts and advice within this post. I also wish you all the success going forward. If you have any specific advice you would like me to address, or answer a specific question you may have bout this topic, please feel free to email me at jleary8184@gmail.com. All I ask is that you nake sure you type the subject line: "Commodity Business Post". That way even if it somehow gets into my Spam folder I can retrieve it, open it, and respond. Thank you for reading, and I hope you share this blog with your friends and business contacts. More importantly I hope you will keep following this blog. I appreciate every one of you taking the time out to read it. Goodbye for now. Joe Leary - 778-774-7670 is my cell number. Please only call if you have a serious inquiry. Thanks again.     


Popular posts from this blog

Has The Coffee Roasting Business In The U.S. Taken Its Last J.A.B.?#coffee#coffeebusinessnews

Has The Coffee Roasting Business In The U.S. Taken Its Last J.A.B.?
Unless you have been hiding in an unmarked oil well over the past few months, you already must have realized there has been a significant change in the coffee roasting industry. The $40 billion U.S. market has another bully on the block and watch out Nestle, these gentleman are playing for all the marbles.#entrepreneurship

Coffee beans, which is the second largest traded commodity in the world is apparently a target of one of the richest families in Europe. The Reimann family has not so quietly, been actively targeting U.S roasters and using a “price is not an issue" formula!



The cash is there, and they are clearly not afraid to be buying based on future earnings projections. This isn't a strange occurrence for J.A.B., they purchased D.E. Master Blenders, Douwe Egbert for a cool $10 billion. Many analysts refer to this transaction as, "a pure play coffee company".

Their coffee portfolio no…

How To Roast Your Own Coffee At Home!

How To Roast Your Own Coffee At Home!How to roast your own coffee at home! This is a question I have been asked by many people, especially lately. I haven't been actively updating the blog lately because this is one area of my return to the coffee business that I have really been working on.
First of all, coming from a commercial coffee roasting plant, with over 25 years of experience, this question was one I really had to think about. I was thinking, is it even possible to roast a quality cup of coffee at home and secondly, is it worth your time, effort and expense?
Well the answer is a resounding, ABSOLUTELY! Now, with Black Friday right around the corner, I thought this would be a fantastic time to talk a little about the process, the equipment required and some of the nuances you must eventually master to experience the Freshest cup of coffee you will EVER drink!
Now for me, I was lucky enough to pick whatever coffee or blend from my plant on a daily basis, throw a pound in my 1…

The Coffee Roasting Process and Its Effects On The Products You Drink!

By Joe Leary/Principal/Lead Source Digital Marketer's & KYC Consulting on LinkedIn

Today I would like to explain just how much the roasting process effects the coffee we consume on a daily basis. I sincerely hope you find this article enjoyable, interesting and informative.

I am going to attempt to explain the 4 major roasting processes and what it does and doesn't do to the world's second most popularly traded commodity. Before I get started, there is something you need to know about coffee. When coffee is roasted it goes through a process, within that process the beans are altered by temperature and generally gas, LNG, electricity and even wood.

During this process the beans reach levels within that process that makes the beans, "crack". Depending on how light or dark they are being roasting they "crack either once or twice. This alters the flavor profile tremendously, so please keep that in mind while reading this article.

I have included some pictures, t…