Executive Briefings

Changing Strategies to Deal With Higher Transportation Costs

A thought leader explains why and how supply chain strategies must evolve in order to cope with the long-term consequences of the rising cost of fuel and transportation.

Transportation costs all over the world have dramatically increased throughout 2008, largely in part to fuel costs, surcharges and related rate hikes. More recently, global economic sluggishness and volatile oil prices have bewildered manufacturing and retail executives trying to manage their supply chains. To find out how these volatile shifts are permanently changing logistics strategies, Global Logistics & Supply Chain Strategies spoke to Brooks Bentz, who is a partner in Accenture's supply chain management service line and is responsible for leading their supply chain transportation practice globally. His expertise spans 37 years in transportation strategy and operations, outsourcing, third-party logistics and fleet management, as well as strategic transportation procurement and network optimization. 

Q: Fuel costs skyrocketed earlier in the year forcing up all transportation costs, but recently moderated. What is the real trend for fuel costs, and how is the logistics industry reacting to high costs and volatility?

Bentz: Many studies have firmly established that world oil production has peaked. That means supply from any given well or oil field will gradually decline until there is no more. You do not have to be a geologist or scientist to realize the long-term reality is that there is a limit to the reserves of oil that is accessible at any price.

At the same time, worldwide demand is rising. Vehicle miles in the U.S. may be down three or four percent from last year, but that is only in the U.S. Prosperity and economic development in India, China and other developing countries is going to push demand up for oil. Just look at the increase in the number of cars in China. Everybody wants one. Global competition for fossil fuels is rising faster than we can find it and drill for it, so fuel prices will have to go up.

As you point out, oil recently dropped 30 or 40 dollars, which sets up an interesting dynamic. As a society, we collectively have short memories. Will people and companies revert to past behavior because they can, or will they look for cheaper, better energy solutions? We'll see.

Q: What are smart companies doing to deal with the rising cost of fuel and transportation?

Bentz: From a strategic standpoint, carriers and shippers have already figured on fuel prices driving up transportation rates over the long term. In fact, we are already seeing conversion from truck to intermodal and even to carload rail for certain products. The just-in-time era where companies opted for faster, smaller and more frequent deliveries is being re-evaluated by most companies. We will see a shift to more inventory in the pipeline.

One trend I do see is more collaboration on line hauls. If three or four retailers are all selling in the same market and all buying from the same vendor, why not put everything on the same truck for transcontinental moves? We are working with companies on that concept right now.

A mathematical model Accenture has developed indicates that companies are likely to build more distribution centers closer to customers to reduce transportation and delivery time. We are not talking about a doubling of DC networks, but the increase will not be inconsequential. A network that now has five DCs may go to seven. The DCs will also be smaller. Many of my clients are looking at DCs that are 400,000 to 500,000 square feet rather a million-plus. These DCs will also be much more automated, so they are more economical in terms of labor and construction.

Q: Are rising fuel costs permanently changing the trucking industry?

Bentz: I think there have been about 1,200 trucking company failures since the beginning of the year. No one really knows what the impact has been on the owner operator segment, but many have exited the market. But trucking is a commodity business with easy entry and exit. When the economy rebounds, those trucks will be back in the market very quickly, perhaps being operated by someone else. Trucks will come back quickly, certainly much more quickly than an ocean carrier can build a new containership or a railroad can add more track or terminals.

Q: Are rail and intermodal benefiting from the higher cost of trucking?

Bentz: Yes and no. The raw statistics show that all intermodal loadings are down this year, which is the first time in many years that this has happened. Loadings have climbed to more than 20 million per year thanks largely to Asian imports. The decline in imports through the West Coast that usually move via rail to points inland and the East Coast are the main culprit. More ocean carriers are also going all-water from Asia to the East Coast, and this freight mainly moves by truck from the ports to interior points.

But even with loadings down, intermodal revenue is up. Railroads have been able to get price increases to stick. Even the domestic trailer-on-flatcar business, which for years has lost market share to domestic containers, has recently increased. Savings of 10 to 25 percent have gained the attention of domestic shippers as well as importers.

On the rail carload side, overall volume and revenue are up. The gains vary from market to market. Forest products are housing driven, and that market is down about 12 percent. On the other hand, grain and coal and other commodities are up significantly. So you have a net rise in tonnage, and rates are going up-for some commodities at double-digit clip. This higher pricing is not driving business to other modes because their prices have gone up as well.

But it is not all good news for the railroads. A government study says that there is a growing capacity shortfall. Private capital will not be enough to meet the need, so what do we do? No one has come up with the answer, but the rail industry will run out of capacity before it runs out of demand. Infrastructure will have to increase.

Q: How are ocean carriers dealing with the higher cost of fuel?

Bentz: Many ocean carriers have slowed from 28 to 22 knots to save fuel. But by slowing the vessels, carriers may have to add another vessel to the string. They really are limited in what they can do in the short term to save fuel and operating costs without damaging service.

Maersk has taken an interesting step. It has just announced 17 new vessels. What is interesting is that they are all in the range of about 2,500 TEUs, rather than 10,000 to 15,000 TEUs, which has been the trend. The ocean carriers are realizing that megavessels work well on a few lanes, but not in all lanes.

Q: How about airfreight? Has the cost of fuel pushed costs so high that patterns are changing?

Bentz: The air cargo industry is having real problems. The carriers flying less efficient three-engine planes can't afford to run these old aircraft. That capacity will go away very soon, and it will not be replaced rapidly. Airfreight rates used to be four or five times the cost of ocean rates. With fuel prices likely staying high over the long run, air will be more like eight or nine times ocean. Air will simply be cost prohibitive for all but the most valuable products.

Q: Are there more far-reaching supply chain ramifications from high fuel and transportation costs?

Bentz: Yes, but these take a few years to take effect, even with today's higher costs. Eventually we will see a shortening in supply chains with less emphasis on offshoring. Companies can't afford to make products in China if it requires at least 30 days of inventory in the pipeline and entails significantly higher transportation rates and fuel surcharges. Supply chains that extend to Asia increasingly slow a company's agility and ability to get its products to market fast enough.

We will probably not see a massive resurgence of manufacturing in the Rust Belt, but we see some product being produced in Mexico, Brazil and other places closer to the U.S. than Asia.

Q: Have higher fuel costs made private fleets an extravagance that companies can no longer afford?

Bentz: No. Half of all trucking today is still private if you include dedicated contract carriage. That statistic has not changed significantly over the last 25 years because many industries simply need the specialized services of private fleets. What has changed is that the fleets are no longer an owned-asset operated by company employees. They are run by dedicated fleet operators.

Most retailers still need to service five or six stores on every truck leaving their DCs. The rigors of scheduling five or six store deliveries are so critical to store operations and product availability that few retailers are willing to rely on common carriers. Of course, that evaluation is always going on, but private fleets are still the preferred option for most retailers.

Q: Given the cost pressures of higher fuel and transportation costs, what are the technology trends that shippers are looking at?

Bentz: The importance of supply chain information, especially visibility will be even more paramount than it is today. According to a recent survey of major manufacturers and retailers, supply chain visibility and event management is the primary technology investment planned for the coming year. There is widespread realization that better visibility technology is needed if a company has a complex supply chain, wants to manage inventory better, needs to distribute more quickly and also wants more transportation agility. You need to know where your stuff is at all times.

For example, retailers today often import product from Asia through the West Coast and then ship it to DCs on the East Coast via rail. The freight gets sorted and segregated at the DC and then shipped by truck via a pool distributor back to stores as far as the West Coast. That type of network is very common, and it is a profit killer. To get around this costly and time consuming strategy, companies need technology that allows transloading individual orders directly from West Coast ports to the stores. The transcontinental tour is no longer affordable, and better technology is needed to efficiently handle the transloading and direct shipping.

RESOURCE LINK:
Accenture, www.accenture.com

Transportation costs all over the world have dramatically increased throughout 2008, largely in part to fuel costs, surcharges and related rate hikes. More recently, global economic sluggishness and volatile oil prices have bewildered manufacturing and retail executives trying to manage their supply chains. To find out how these volatile shifts are permanently changing logistics strategies, Global Logistics & Supply Chain Strategies spoke to Brooks Bentz, who is a partner in Accenture's supply chain management service line and is responsible for leading their supply chain transportation practice globally. His expertise spans 37 years in transportation strategy and operations, outsourcing, third-party logistics and fleet management, as well as strategic transportation procurement and network optimization. 

Q: Fuel costs skyrocketed earlier in the year forcing up all transportation costs, but recently moderated. What is the real trend for fuel costs, and how is the logistics industry reacting to high costs and volatility?

Bentz: Many studies have firmly established that world oil production has peaked. That means supply from any given well or oil field will gradually decline until there is no more. You do not have to be a geologist or scientist to realize the long-term reality is that there is a limit to the reserves of oil that is accessible at any price.

At the same time, worldwide demand is rising. Vehicle miles in the U.S. may be down three or four percent from last year, but that is only in the U.S. Prosperity and economic development in India, China and other developing countries is going to push demand up for oil. Just look at the increase in the number of cars in China. Everybody wants one. Global competition for fossil fuels is rising faster than we can find it and drill for it, so fuel prices will have to go up.

As you point out, oil recently dropped 30 or 40 dollars, which sets up an interesting dynamic. As a society, we collectively have short memories. Will people and companies revert to past behavior because they can, or will they look for cheaper, better energy solutions? We'll see.

Q: What are smart companies doing to deal with the rising cost of fuel and transportation?

Bentz: From a strategic standpoint, carriers and shippers have already figured on fuel prices driving up transportation rates over the long term. In fact, we are already seeing conversion from truck to intermodal and even to carload rail for certain products. The just-in-time era where companies opted for faster, smaller and more frequent deliveries is being re-evaluated by most companies. We will see a shift to more inventory in the pipeline.

One trend I do see is more collaboration on line hauls. If three or four retailers are all selling in the same market and all buying from the same vendor, why not put everything on the same truck for transcontinental moves? We are working with companies on that concept right now.

A mathematical model Accenture has developed indicates that companies are likely to build more distribution centers closer to customers to reduce transportation and delivery time. We are not talking about a doubling of DC networks, but the increase will not be inconsequential. A network that now has five DCs may go to seven. The DCs will also be smaller. Many of my clients are looking at DCs that are 400,000 to 500,000 square feet rather a million-plus. These DCs will also be much more automated, so they are more economical in terms of labor and construction.

Q: Are rising fuel costs permanently changing the trucking industry?

Bentz: I think there have been about 1,200 trucking company failures since the beginning of the year. No one really knows what the impact has been on the owner operator segment, but many have exited the market. But trucking is a commodity business with easy entry and exit. When the economy rebounds, those trucks will be back in the market very quickly, perhaps being operated by someone else. Trucks will come back quickly, certainly much more quickly than an ocean carrier can build a new containership or a railroad can add more track or terminals.

Q: Are rail and intermodal benefiting from the higher cost of trucking?

Bentz: Yes and no. The raw statistics show that all intermodal loadings are down this year, which is the first time in many years that this has happened. Loadings have climbed to more than 20 million per year thanks largely to Asian imports. The decline in imports through the West Coast that usually move via rail to points inland and the East Coast are the main culprit. More ocean carriers are also going all-water from Asia to the East Coast, and this freight mainly moves by truck from the ports to interior points.

But even with loadings down, intermodal revenue is up. Railroads have been able to get price increases to stick. Even the domestic trailer-on-flatcar business, which for years has lost market share to domestic containers, has recently increased. Savings of 10 to 25 percent have gained the attention of domestic shippers as well as importers.

On the rail carload side, overall volume and revenue are up. The gains vary from market to market. Forest products are housing driven, and that market is down about 12 percent. On the other hand, grain and coal and other commodities are up significantly. So you have a net rise in tonnage, and rates are going up-for some commodities at double-digit clip. This higher pricing is not driving business to other modes because their prices have gone up as well.

But it is not all good news for the railroads. A government study says that there is a growing capacity shortfall. Private capital will not be enough to meet the need, so what do we do? No one has come up with the answer, but the rail industry will run out of capacity before it runs out of demand. Infrastructure will have to increase.

Q: How are ocean carriers dealing with the higher cost of fuel?

Bentz: Many ocean carriers have slowed from 28 to 22 knots to save fuel. But by slowing the vessels, carriers may have to add another vessel to the string. They really are limited in what they can do in the short term to save fuel and operating costs without damaging service.

Maersk has taken an interesting step. It has just announced 17 new vessels. What is interesting is that they are all in the range of about 2,500 TEUs, rather than 10,000 to 15,000 TEUs, which has been the trend. The ocean carriers are realizing that megavessels work well on a few lanes, but not in all lanes.

Q: How about airfreight? Has the cost of fuel pushed costs so high that patterns are changing?

Bentz: The air cargo industry is having real problems. The carriers flying less efficient three-engine planes can't afford to run these old aircraft. That capacity will go away very soon, and it will not be replaced rapidly. Airfreight rates used to be four or five times the cost of ocean rates. With fuel prices likely staying high over the long run, air will be more like eight or nine times ocean. Air will simply be cost prohibitive for all but the most valuable products.

Q: Are there more far-reaching supply chain ramifications from high fuel and transportation costs?

Bentz: Yes, but these take a few years to take effect, even with today's higher costs. Eventually we will see a shortening in supply chains with less emphasis on offshoring. Companies can't afford to make products in China if it requires at least 30 days of inventory in the pipeline and entails significantly higher transportation rates and fuel surcharges. Supply chains that extend to Asia increasingly slow a company's agility and ability to get its products to market fast enough.

We will probably not see a massive resurgence of manufacturing in the Rust Belt, but we see some product being produced in Mexico, Brazil and other places closer to the U.S. than Asia.

Q: Have higher fuel costs made private fleets an extravagance that companies can no longer afford?

Bentz: No. Half of all trucking today is still private if you include dedicated contract carriage. That statistic has not changed significantly over the last 25 years because many industries simply need the specialized services of private fleets. What has changed is that the fleets are no longer an owned-asset operated by company employees. They are run by dedicated fleet operators.

Most retailers still need to service five or six stores on every truck leaving their DCs. The rigors of scheduling five or six store deliveries are so critical to store operations and product availability that few retailers are willing to rely on common carriers. Of course, that evaluation is always going on, but private fleets are still the preferred option for most retailers.

Q: Given the cost pressures of higher fuel and transportation costs, what are the technology trends that shippers are looking at?

Bentz: The importance of supply chain information, especially visibility will be even more paramount than it is today. According to a recent survey of major manufacturers and retailers, supply chain visibility and event management is the primary technology investment planned for the coming year. There is widespread realization that better visibility technology is needed if a company has a complex supply chain, wants to manage inventory better, needs to distribute more quickly and also wants more transportation agility. You need to know where your stuff is at all times.

For example, retailers today often import product from Asia through the West Coast and then ship it to DCs on the East Coast via rail. The freight gets sorted and segregated at the DC and then shipped by truck via a pool distributor back to stores as far as the West Coast. That type of network is very common, and it is a profit killer. To get around this costly and time consuming strategy, companies need technology that allows transloading individual orders directly from West Coast ports to the stores. The transcontinental tour is no longer affordable, and better technology is needed to efficiently handle the transloading and direct shipping.

RESOURCE LINK:
Accenture, www.accenture.com