Volatility Is the New Normal

Superstorm Sandy recently devastated the Northeastern United States, leaving millions of people without power and many with no roof over their heads. Once again, Mother Nature has reminded us that she is powerful and highly volatile. Fortunately, her volatile nature does not mean that governments, businesses and individuals cannot take precautions to protect themselves against her fury. There are measures that can thwart or limit her impact, such as implementing evacuation plans, staging back-up generators and having robust storm surge protection.

Although lives do not hang in the balance, today’s volatile fuel markets behave a lot like Mother Nature. On any given day, there may be sudden issues with supply or significant swings in fuel costs. Businesses that lack effective supply diversity and processes to respond to these dynamics will suffer financially and potentially risk customer loyalty.

Nevertheless, there are steps that retailers can take to prepare for, or thrive, in the midst of this market volatility.

How Bad Is It?

Prior to 2004, volatility was very low and relatively insignificant. Approximately 6 percent of the time, fuel buyers would see day-to-day price swings of 3 cents or more. Price moves of 5 cents or more happened only 1.5 percent of the time. Since then, moves of 3 cents or more occur nearly 50 percent of the time and moves of 5 cents or more happen 25 percent of the time. This market behavior is firmly established as the new normal, and it is imperative that businesses recognize and adapt to it to remain competitive.

Victors vs. Victims

On average, approximately 67 percent of retailers’ revenues come from fuel. Coupled with the fact that the price of fuel is the No. 1 factor that consumers consider when deciding where to make their purchases, it is easy to understand the need for optimized fuel buying and management strategies. Given that nearly every retailer operates in a competitive environment, such strategies are especially critical to maintain market relevance.

Today’s progressive fuel retailers embrace optimization by adopting more diversified, variable-term contracted and spot supply portfolios. They employ just-in-time inventory management techniques and robust financial tracking to understand their true total landed cost. Progressive retailers also incorporate effective reconciliation processes to assure they have received all the fuel they have purchased and been charged the correct amount for it.

Fuel retailers that continue to utilize outdated manual processes, spreadsheets and sub-standard buying practices risk being leapfrogged by the competition. In the new normal environment, winners are defined by their willingness to embrace the latest best practices and technology automation. Both enable them to better manage and account for fuel volatility through enhanced strategic and tactical decision-making.

Preparing for Change

Adapting to the new normal requires addressing the current state of two key operational areas – procurement evaluation and inventory management.

Procurement evaluation -- It is important for retailers to evaluate their current procurement processes and results against industry benchmarks. A thorough process typically involves an outside neutral party that examines inventory planning, supply, ordering, delivery, financial reconciliation and operational oversight.

One technique is to benchmark the actual cost of fuel purchased against proposed alternatives. This should reveal whether the current portfolio is optimized from a cost and availability standpoint. Benchmarking also reveals opportunities for greater adoption of fuel cost saving techniques, such as load shifting around price movements.

A thorough evaluation should uncover previously hidden costs and identify business risks. For example, it is not uncommon for 5 percent to 10 percent of supplier invoices to contain billing errors. This is especially true when tax rules or rates have changed, or following contract changes as a result of a request for proposal (RFP) or re-bid that incorrectly reflects the cost of fuel, freight or tax. Frequently, retailers will find that they have already paid these invoices without verification of physical receipt and validation of the charges.

Fuel retailers are taking several steps to improve their procurement processes. Those steps include rebalancing their supply portfolios, negotiating differentiated contracted terms to mitigate volatility risk and introducing automation to handle the increase in purchasing complexity. Retailers that issue yearly or more frequent RFPs are better able to ensure they are getting the best possible supply and freight terms. Adopting a competitive RFP process and utilizing a mechanism to evaluate the results automatically and unambiguously can yield tremendous savings.

Additionally, fuel retailers must consider using automated demand forecasting and adopting a just-in-time delivery strategy. Today’s leading-edge technology allows retailers to predict demand patterns and accurately compare them to inventory positions for each site and tank. With the proper automation technology, retailers find they can keep less inventory on hand, while increasing security of supply. This is critical for fuel buyers in today’s tight credit markets.

Inventory management -- Even with the best forecasts and order plans, run-outs and retains can still occur due to changing weather-related conditions, shifting traffic patterns or other unexpected events, such as supply outages or dispatcher/carrier errors. Monitoring orders in real-time with technology automation gives fuel managers the opportunity to make adjustments as these situations arise. Upon delivery, it is important for retailers to have a process in place to confirm that the quantity purchased equals the quantity received. Additionally, they must monitor for ongoing costly losses or detrimental gains in fuel.

Fuel retailers that utilize automated software solutions also can see definitive improvement in their pricing operations and margin management. The software immediately alerts them when fuel retail prices do not comply with prices set by their marketing departments, or when prices are misaligned with local competition. It also notifies them when true margin goals fall short, utilizing net landed costs or inventory variances.

Embracing Change

There is a hurricane blowing out there and she is called the new normal. This one is in the fuel market, where the magnitude and persistence of fuel price volatility has never been greater. Fuel retailers that rely on yesterday’s sunny day approach to fuel buying and management face serious business risks.

Recognizing that these formidable winds of change are here to stay is a good first step. The next steps require action such as evaluating current operations against the industry, developing more sophisticated procurement capabilities that turn volatility into a competitive advantage, and implementing controls to ensure fuel received retains its value. These actions allow retailers to achieve maximum value at the pump and in the store.

Scott Cilento is the vice president of value assurance at FuelQuest, a fuel management, tax automation and compliance solutions company. He is responsible for ensuring a customer's return on investment, utilizing an end-to-end, value-driven customer engagement process. Cilento has more than 20 years of experience directing operations in a technology-based business or government enterprise. He earned a bachelor’s degree in electrical engineering from Southern Illinois University and a master’s in engineering management from the University of Central Florida.

Editor’s Note: The opinions expressed in this column are the author’s and do not necessarily reflect the views of Convenience Store News.