Trends—July 2011

Trends—July 2011

The 2011 State of Logistics Report: Logistics Sector Faces a Tough Haul

The U.S. economy’s road to recovery during 2011 is like occupational therapy: filled with hard work and occasional setbacks. For the logistics sector, the therapy also involves higher costs and tighter capacity.

Business logistics costs rose 10.4 percent in 2010, making up more than half the 2009 decline, according to the 22nd annual State of Logistics report, released by the Council of Supply Chain Management Professionals with the support of Penske Logistics. The report indicates U.S. logistics costs reached $1.2 trillion in 2010, up $114 billion from 2009.

Transportation costs took a big jump, up 10.3 percent overall. Motor carriage, which comprises 78 percent of the transportation segment, rose 9.3 percent, while air, rail, water, and pipeline increased by 15.4 percent in the same period.

“Volumes firmed up early in 2010, but dropped off in the second half,” said Rosalyn Wilson, author of the State of Logistics report, during a presentation in June 2011 at the National Press Club in Washington, D.C. “Demand for capacity began to equalize, with available capacity in many sectors, but rates continued to be constrained,” she noted.

Higher freight volumes, fuel surcharges, and “genuine rate increases” for some modes accounted for the rise in transportation costs. Wilson described the freight volume increases as “unsteady,” exhibiting a number of spikes in monthly tonnage.

The good news is, both equipment and labor capacity were able to meet demand. Foreshadowing a discussion of future capacity constraints, Wilson noted capacity and demand came close to reaching equilibrium in 2010.

“The recovery is not being felt evenly throughout the economy, and 2010 did little to shore up precarious carriers hoping to be rescued by a resurgence in the economy,” she noted.

“Most of the laid-up capacity has returned to the market, with the notable exception of ocean carriers,” Wilson reported. Ocean carriers did, however, take delivery of a large number of new-build containerships over the past 18 months, essentially doubling industry capacity.

Despite the fact that ocean traffic through U.S. ports contracted in 2010, freight costs for U.S. shippers and consignees rose 14.1 percent. Ocean shipping rates rose significantly from 2009 through August 2010, when weakening demand prompted some carriers in the trans-Pacific trades to seek more volume by reducing spot rates. Spot rates dropped between 40 and 50 percent through the fourth quarter of 2010 and into 2011.

In addition, some carriers responded to shipper demands for rate adjustments for “slow steaming”, which ocean carriers do to cut fuel consumption.

On the inland waterways side, revenue ton-miles on the Great Lakes posted a 33.4-percent gain in 2010, mostly on iron ore shipments.

The motor carrier sector struggled to cover costs especially fuel driving a 9.5-percent increase in shipper costs for intercity trucking and an 8.8-percent jump for local delivery. Overall, tonnage increased 5.7 percent in 2010, nowhere near the declines of prior years. For most of the year, motor carriers had more than enough capacity to cover volumes and increases.

Longer term, capacity promises to be an issue for the motor freight industry. Since 2006, 16 percent of capacity has been permanently removed from the sector, and volumes are expected to rebound faster than the sector’s ability to add capacity.

During the past two years, the number of tractors declined 9.8 percent and, even though carriers increased orders in 2010, new-truck orders still fell below the normal replacement rate. Tight credit, the high cost of new Class 8 trucks (up 25 percent in five years), and higher lifecycle costs associated with the new tractors made investment more difficult.

Motor carriers held on to trucks longer, or they scrapped vehicles and delayed replacement. In addition, the category of carriers with five or more trucks experienced 3,000 bankruptcies, resulting in a 13-percent loss of industry capacity.

The trucking industry also experienced the largest decline in workforce among the logistics categories, and drivers will become a limiting factor in truck capacity.

Driver turnover rates are spiking, said Wilson, as drivers chase higher pay and better working conditions. And, 42 percent of fleets responding to a fleet sentiment report by CK Commercial Vehicle Research, say they are having problems filling empty seats, limiting the number of new units they can add to their fleets. Another 32 percent of respondents say they aren’t having problems filling seats, but expect problems later in the year.

Based on the rail cost figures tracked in the State of Logistics report, U.S. railroads made up for 2009 declines. The cost of rail transportation was up 20.1 percent in 2010, after dropping 20 percent the year before. Driving the higher costs were a 7.3-percent increase in carloadings and a 14.2-percent increase in rail intermodal use. These are the largest annual increases since 1988, the earliest year for which comparable data is available, said Wilson.

Carload volumes had dropped 16 percent in 2009, and intermodal dropped by 14 percent, the “largest annual percentage declines in history,” she said.

The capacity situation for rails looks decidedly different than for trucking. When it comes to infrastructure, equipment, and personnel, “railroads are in good shape,” Wilson noted.

Class I railroads continued to invest in new capital projects through the recession. And since volumes have returned, much of the idled equipment and staff have resumed active service. For example, railroads returned 132,284 railcars to service in 2010, leaving 318,271 cars (20.8 percent of the fleet) idle. In good economic times, two to three percent of fleets stay idle, according to Association of American Railroads estimates.

During the downturn, airlines decommissioned and removed aircraft from their fleets, reducing capacity by 12 percent. Though much of the air freight that could move by ocean was back on the water by mid-year, airfreight revenues increased 11.2 percent in 2010.

From a long-term view, the past 20 years have shown a 45-percent decline in inventory carrying costs as a percentage of gross domestic product (GDP). Transportation costs, also viewed as a percentage of GDP, are down 13 percent for the same period. Most of that transportation drop was since 2000, Wilson noted.

In 2010, as before the downturn, logistics costs grew faster than GDP (which did grow in 2010). Wilson said she expected that trend to continue, and that logistics costs will grow faster than GDP for the next several years.

Calling the state of the economy “still fragile,” Wilson noted that with trucking capacity nearing or reaching equilibrium in 2010, the market balance is shifting in favor of carriers. Carriers reported profits in the first quarter of 2011, and, with attrition continuing to remove capacity at a slower rate than from 2009 to 2010, there is bound to be a shortfall in the number of trucks available.

One root cause is limitations on truck manufacturers resulting from tight capital and lean inventories throughout their parts supply chain. The degree of the shortfall will likely depend on how fast volumes increase.

Freight spend is higher among shippers, said Wilson, but part of this is due to fuel surcharges and increased freight volumes over the prior period. Rates are inching up, and shippers may be able to hold close to current rates until the capacity crunch grows worse.

“We went into the recession with a driver shortage and capacity constraints,” she said. “We will come out with an exacerbated driver shortage and a more severe capacity crunch.”

Motor carriers are becoming more selective about the shippers they will haul freight for, and Wilson said she expects this will become a more common practice. Her conclusion: The economic recovery will be all about relationships.

—Perry A. Trunick

T&L M&A Activity Growing

Buoyed by strengthening capital markets, growing interest from financial investors, and stronger corporate balance sheets, the transportation and logistics sector is poised to reach robust levels of deal flow during 2011, according to PwC’s Intersections, a quarterly analysis of global merger and acquisition (M&A) activity.

The number of transportation and logistics sector deals with value greater than $50 million was flat, increasing by one transaction to 37 deals in the first quarter of 2011, compared with 36 in the same period of 2010. While 2011 first-quarter deal value declined to $8.2 billion from $17.3 billion during the first quarter of 2010 — primarily due to a lack of mega-deals — 2011 is off to a similar pace as last year in terms of deal volume.

“First-quarter deal activity was largely driven by smaller deals, as transportation and logistics companies concentrated on consolidating local markets,” says Kenneth Evans, U.S. transportation and logistics leader for PwC, a London-headquartered professional services company. “Strategic acquirers have shifted their focus from internal initiatives — bolstering balance sheets and increasing their cash positions — to executing on M&A strategies to help drive growth.”

Shipping and logistics targets led contract activity, contributing four of the five largest deals announced in the first quarter and 70 percent of total deal value. PwC expects interest in shipping to continue due to lingering concerns about overcapacity as demand recovers, while improved airline profitability could increase the regulatory hurdle for getting passenger air deals in Western markets approved.

Activity in transportation infrastructure was also a key theme that carried through from the fourth quarter of 2010, as the largest deal of the year so far — the $932-million acquisition of Forth Ports by Arcus Infrastructure Partners — was in this sector. Interest in transportation infrastructure assets will continue as a potential driver for future mega-deal activity due to their predictable returns and the potential to use privatization to address fiscal pressures, says PwC.

trends Deals Graphs

Transport Center On Georgia’s Mind

Georgia plans to appropriate a federal transportation center and $2.25 million in annual funding from the state of Tennessee, announced Georgia Governor Nathan Dean at the Georgia Logistics Summit in May 2011.

The center, due for renewal on the basis of competitive applications, would capitalize on Georgia’s location and dedicate faculty to study transportation issues and publish reports showing how certain concepts could improve transportation.

Georgia will use a grant from the Woodruff Foundation to prepare an application for one of the 14 regional University Transportation Centers. If successful, the state will house the center at Georgia Tech, but it will coordinate with the University of Georgia, Georgia Southern, and other institutions.

Locating the center in Georgia gives the state an opportunity to drive federal transportation policy. The U.S. Department of Transportation recently announced it is creating policy offices for freight and to coordinate with the U.S. Army Corps of Engineers, which has authority over the country’s waterways.

A Georgia center could also influence surrounding states. Because Georgia’s ports and airports ship cargo and passengers from other parts of the country, their growth could be hindered by transportation weaknesses in neighboring states.

The state will have to match the federal grant with either state or private money from sources yet to be identified.

Levi’s Extends Terms of Engagement

The growing importance of sustainability initiatives and corporate responsibility has encouraged companies to expand compliance requirements to vendors and supply chain partners.

For example, Levi Strauss recently announced new supply chain terms of engagement aimed at stepping up commitments put in place 20 years ago to bring suppliers in line with its labor, health, and safety directives, and environmental principles.

“This new standard isn’t just for apparel companies; it establishes a new, higher set of expectations that investors, activists, and governments should all promote,” noted John Anderson, Levi’s president, at the 2011 Ceres Conference in California. Ceres is a nonprofit organization that works with companies to address sustainability challenges.

From an environmental perspective, San Francisco-based Levi’s has been stewarding change within its supply chain. The process of manufacturing jeans is resource-intensive, requiring up to 10 industrial washes during the finishing process. Working with its design team, Levi’s was able to engineer a new process for stonewashing jeans without using water. For some product styles, the company has reduced water usage by 96 percent.

“In the broadest sense, our terms of engagement worked in ways bigger than we ever imagined,” Anderson said. “Not only did more than 90 percent of our suppliers accept them, we discovered that we’d set a new standard.

“Before long, our terms of engagement became the new normal,” he added. “Almost every apparel company with a global supply chain established their own version.”

e-Commerce Races Across Borders

As U.S businesses explore new channels to sell product into new markets, package-shipping companies such as FedEx and UPS are forecasting a surge in international online retailing. Cross-border e-commerce is expected to account for more than half of the online retail sector within two years, but an estimated 50 percent of U.S. retailers do not currently sell anything internationally over the Internet. So the race is on.

As a consequence, expediters see an opportunity to help retailers and e-tailers capture new markets and are expanding services such as currency conversion, customs clearance, and international warehousing, in addition to moving freight.

The Amazon effect is beginning to radiate out to smaller companies and beyond U.S. borders to new consuming populations, according to industry observers. Transportation providers with a global presence are bundling value-added logistics and technology capabilities to provide customers with a total solution.

Internet retail sales worldwide are projected to reach about $489 billion next year, from about $315 billion in 2009, according to figures compiled by FedEx, with nearly 70 percent of the growth occurring outside the United States.

Michelin, Charleston Kick Tires On New Logistics Program

The College of Charleston’s School of Business is working with Greenville, S.C.-based tire manufacturer Michelin North America to develop an online professional development program focusing on global logistics and transportation.

The college’s goal is to eventually turn the program into a comprehensive logistics professional development program open to any business, education, or government entity operating or looking to operate in South Carolina or use the Port of Charleston.

For the first two years, beginning in January 2012, faculty will work with Michelin employees and affiliates to build a virtual training course. The program will focus on four general topics: import/export documentation; the Port of Charleston and U.S. Customs; regulations and pricing; and operations. The curriculum can expand as Michelin uses the program.

The School of Business already offers a non-credit intermodal transportation training course, which takes place in a classroom one evening a week for two semesters and is open to all professionals. That course will continue locally even after the school launches the online training course.

The partnership with Michelin also includes an internship program and post-graduation job placements at Michelin for College of Charleston students studying global logistics.

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