Key takeaways
- When costs rise, think in THB per unit first. A 25% increase in raw materials does not mean you must raise prices by 25%.
- In the example, costs rise by THB 13.75 per unit. Raising prices by only 5% cuts EBIT from THB 10 million to THB 1.25 million.
- If you cannot pass on the full increase, separate the tools by customer and product: price adjustment formulas, specification changes, cost control and dropping unprofitable business.
Raw material costs rise by 25%. Sales says customers will accept only 5%. Production says costs cannot be cut any further. The owner wants to keep customers first. Many companies end up accepting a lower margin without knowing how much more volume they would need to sell to compensate.
The problem is that everyone is talking in percentages on different bases. The fix starts with setting out the per-unit numbers clearly, then separating what can be passed on, what the company must absorb, and what must be dropped.
Convert the impact into THB per unit
Hypothetical example Sales of 1 million units a year, price THB 100, raw materials THB 55, variable conversion cost THB 15, fixed costs THB 20 million. Raw material prices rise by 25%. In the table, price, raw materials and contribution margin per unit (CM) are in THB, volume is in million units and EBIT is in THB million.
| Case | Price | Raw materials | CM/unit | Volume | EBIT |
|---|---|---|---|---|---|
| Before cost increase | 100.00 | 55.00 | 30.00 | 1.00 | 10.00 |
| Cost increase, no price change | 100.00 | 68.75 | 16.25 | 1.00 | (3.75) |
| Price up 5% | 105.00 | 68.75 | 21.25 | 1.00 | 1.25 |
| Price up 5% and volume down 4% | 105.00 | 68.75 | 21.25 | 0.96 | 0.40 |
| Full pass-through of THB 13.75 | 113.75 | 68.75 | 30.00 | 1.00 | 10.00 |
Note that full cost pass-through requires a price increase of 13.75%, not 25%, because raw materials are only 55% of the original price. However, if you want to keep the contribution margin at the same 30%, the price must be 83.75 ÷ 70% = THB 119.64, an increase of 19.6%. The two targets are different, so choose one before going into negotiations. In most cases, holding the THB amount per unit is easier to negotiate.
Volume you can afford to lose
Before deciding not to raise prices for fear of losing customers, you need to know where the break-even point is. From the table above, raising the price by 5% and losing 4% of volume gives total contribution of THB 20.4 million.
Break-even volume with full cost pass-through = 20.4 million ÷ THB 30 = 0.68 million units
This means that a full price increase of THB 13.75 still gives the same contribution as the 5% case, even if volume falls by as much as 32% from the base. This figure does not tell you whether customers will accept the increase, but it shows that losing some volume may be better than keeping sales that make no profit. You must also consider spare production capacity, the fixed costs that can genuinely be reduced, and the risk of losing an entire customer group.
Conversely, if a product has a contribution margin of 50%, a 5% price cut requires sales to rise by at least 11.1% to earn the same contribution. A 5% price increase allows volume to fall by up to 9.1%.
More tools than raising prices
| Tools | Suitable when | What to watch out for |
|---|---|---|
| Temporary surcharge | Costs are volatile and there is a reference index | Define how the surcharge reduces when costs fall as well |
| Price adjustment formula in contracts | Long-term B2B contracts | Choose an index that both parties can verify |
| Adjust pack size or specification | Customers are sensitive to price per item | Inform customers clearly and do not affect quality as promised in the contract |
| Tier Pricing | Customers need different levels of service | Set clear rules on who sits at which level |
| Value Engineering | Substitute raw materials or processes are available | In the example, cutting raw materials by 3% yields THB 2.06 per unit. Test quality first. |
| Adjust the mix and drop SKUs | Some products cannot be made profitable | Check whether customers buy them bundled with other products |
Example of a price adjustment formula in a contract, where a is the share that does not move with the index and b is the raw material share, with a + b = 1
New price = original price × [a + b × (new index ÷ base index)] = 100 × [0.45 + 0.55 × 1.25] = THB 113.75
In the example, this formula gives the same result as full cost pass-through. In practice, you should specify the index, the frequency of adjustment, the range within which no adjustment is made if the index moves only slightly, and a cap that customers can accept.
Price negotiations should be backed by data: the cost index, the per-unit impact and what the company is absorbing itself. Customers do not always have to bear the entire cost, but they should see that the adjustment is reasoned and that there is a way to reduce it when costs return to normal.
Next steps
- Build a table of the THB-per-unit impact for each main product, covering raw materials, energy, labour and logistics.
- Decide whether the target is to hold contribution in THB or as a percentage.
- Group customers by contract, price sensitivity and profit after cost-to-serve.
- Calculate the break-even volume for each option before entering negotiations.
- Check the pricing terms in existing contracts and the renewal dates.
- Include a price adjustment formula in new contracts, with the index and the adjustment cycle.
- Review results every month using actual net prices, not list prices.