What to Do When the Future is Unfortunately “Crystal Clear”Posted by: Steve Beda
Predictions and Strategies for Weathering the Supply Chain Storm into 2022
A STATE OF THE INDUSTRY REVIEW
Remember when predicting the future in the global supply chain was “easy”? You didn’t even need a crystal ball. A keen eye on market conditions and solid, reliable data across your operation – and especially from your partners – could provide a first foundational step in understanding when things would get better – or worse. But then 2020 came along, rewrote the rules, and brought a storm of pricing escalations, severe market constraints and wild imbalances in delicate shipper and carrier dynamics that still hasn’t settled more than a year later. As many shippers and their carrier partners look toward 2022 operational planning and all-important budgeting, when will things return to normal? Or as normal as they can be in transportation logistics? When will the macroeconomic, manufacturing, political and pandemic factors shift again and how should we all plan for further change, if that’s even possible? Let’s take a closer look at these questions, contributing factors and both the short- and longer-term mitigation strategies on the road ahead to eventual and much needed market stabilization.
SETTING THE SCENE
How Bad is It Out There?
Before we can even ask when things will improve and determine strategies needed to manage problems in the near term, just how bad are market constraints right now? In short, conditions across the industry are record-breakingly bad. If you’re a shipper right now, you’re waiting for goods that are delayed at point of origin, or even more frustratingly, still on the water with a lot of hoops to jump through before they eventually make it to the shelf. At the time of this article going to press, according to USA Today, Kip Louttit, executive director of the Marine Exchange of Southern California, there were 153 ships off the coast of Southern California. Normal wait volumes are zero to one ship. In other words, we’ve faced and continue to grapple with unprecedented conditions for 20 months now.
Once goods do make it into port, those same shippers are then also faced with a multitude of hurdles getting inventory to warehouses or products to customers: dock worker shortages, container backlog, scarcity of carrier capacity and sky-high transportation prices. If you’re a carrier, you are firmly in the driving seat in terms of setting rates, but your problem is delivering and doing it consistently week after week, month after month, amid escalating fuel costs, the need for more equipment to service business and driver shortages that are only getting worse. You don’t need a crystal ball to see all of this is going to take a lot of collaborative work to resolve.
Predicting the unpredictable
Problematic conditions require strategic action, but the wait-and-see strategies employed to just-get-by and survive the early impacts of the pandemic in 2020, doesn’t work in 2021 and won’t in 2022. With intense pressures and massive constraints on capacity for carriers, waiting won’t get anyone anywhere. Nor is it acceptable to say: “we just don’t know when things will get better.” Even the unpredictability of market conditions is, in a way, predictable for a while. We can expect price volatility, escalating fees, charges and surcharges and plan around those factors, adopting strategies that focus on risk aversion, flexible operational adaptability, and mitigation strategies to protect in the present and build for the future.
As we weigh up strategic options and formulate an action plan for the remainder of the year, and likely much of 2022, we need to assess and then plan around four things:
- Macro factors – how do shorter term economic and manufacturing factors as well as longer term legislative policies and the lingering pandemic affect market conditions?
- Industry implications – what is the impact on practices, carrier pricing, fuel pricing, capacity and daily operations?
- Forecasting and price predictions – what do the numbers, industry indices and our own data tell us about conditions and pricing?
- Mitigation strategies – what changes can be made in the short- and long-term to build more agility and adaptability market conditions
1. MACRO FACTORS
What the economy and labor market tells us
The unemployment rate dropped to 5.2% this August, the lowest rate since April 2020, when a rate of 14.8% was the highest unemployment in the country since the Great Depression. While the labor market is strong, from dockworkers to truck drivers – the essential doers of logistics – our industry doesn’t have enough people in the right roles. Add to that a lack of raw materials and parts to manufacture goods, the high cost to ship anything and escalating demand without supply and we’re seeing price inflation, overall inflation and an increased cost of goods. According to Forbes, the Fed expects inflation to remain around 4% with the possibility of 5% through the remainder of 2021 before dropping to 2% in 2022. Unemployment needs to fall closer to pre-pandemic levels of around 3%, however, before the Fed says it will consider an interest rate hike, which analysts predict may not happen until late 2022 if not, early 2023.
What consumer demand indicates
The Consumer Price Index (CPI) is a major indicator of market change. In the 12 months up to June 2021 we saw a rise of 2.5%, and 0.5% each month compared with a more stable rise of only 0.1% in June 2020. More than a year of shuttered stores and closed restaurants, combined with government relief, re-directed consumer spending to online goods instead of services. According to DigitalCommerce360, consumers poured $861.12 billion into online sales with U.S. merchants in 2020, up an amazing 44% year-over-year; and the highest annual U.S. e-commerce growth in at least two decades, not to mention nearly a three times jump of 15.1% from 2019. Bloomberg Economics sees the CPI holding in the 4.5%-5% range through year-end, before steeper declines over the course of 2022, followed by normalization into the 2-2.5% range in 2023.
What to expect from inflation
It’s good news-bad news when it comes to inflation. The lower the inflation rate the less expensive it is to do business for shippers, and while it’s likely we will see decreasing inflation as 2022 progresses, the rate is still high. The 12-month inflation rate currently sits at 5.4% and should maintain through the end of this year but it’s still the highest rate of inflation since 1990. More than 30 years. Shortages will begin to ease, and we will see some stability in 2022 but supply chain challenges will remain into 2023. In the near term can anticipate perhaps a 3% rate, which of course is still higher than the average 2.6% yearly rate from 2016 through 2019. Economic models predict 2.6% in 2022 and a drop to 1.9% in 2023, so in the short-term, shippers can expect continued tough negotiations on pricing with carriers this year as well as likely rate pressure into the first part of next.
The Institute of Supply Management (ISM) Survey this June brought mixed news. According to Reuters indicators point to companies and their suppliers continuing “to struggle to meet increasing levels of demand," noting that "record-long lead times, wide-scale shortages of critical basic materials, rising commodities prices and difficulties in transporting products are continuing to affect all segments of manufacturing.” Just this month, new numbers indicate a rebounding U.S. manufacturing sector with the ISM’s index of national factory activity hitting 61.1 in September (50 being the marker for manufacturing expansion). Most economists surveyed in early July see strong growth for their companies for the rest of next year and into the spring of 2022, the National Association of Business Economists reports. But shortages and rising prices of key materials were among the major challenges cited, with 61% reporting cost increases in the second quarter.
That’s a lot of numbers shining a bright spotlight on one simple takeaway. Demand is up, but deliveries are slow thanks to both manufacturing and transportation challenges and the situation won’t right itself for some time to come.
Coming policy and infrastructure investment
President Biden’s aggressive infrastructure investment plan could bring longer-term improvements and efficiencies for the industry. Better roads, upgraded airports for cargo and passenger flights as well as improvements to bridges and other critical infrastructure are all needed badly but will come at a hefty price. Better infrastructure means more efficient transportation, handling of traffic and processing through critical air freight hubs, but these big picture improvements won’t pay dividends for years yet.
2. INDUSTRY IMPLICATIONS
As we begin to plan short- and long-term strategies, let’s consider what these larger macro conditions and emerging factors mean for the specifics of the transportation logistics industry. How will continued disruption from the manufacture to the movement of goods impact the delicate balance between shipper and carrier, drive pricing fluctuations and shape risk-mitigation strategies?
No short term LSP investment in warehousing
Manufacturers and shipping executives in Asia, where the majority of products are manufactured, have a simple message on the global supply crunch: It’s going to get worse before it gets better. Those same cautions are echoed industry wide. According to Karsten Michaelis, head of ocean freight at DHL Global Forwarding Asia Pacific freight shipping rates won’t stabilize any time soon: “the combination of a year of disruption, lack of containers, port congestions and a shortage of vessels in the right positions is creating a situation where cargo demand far exceeds available capacity.” What was hoped to be a short-term situation now looks lasting well into 2022 with little prospect of increases in warehousing or carrier capacity on the horizon any time soon.
No Carrier/3PL investment to improve capacity
Carriers have been in the driver’s seat with low capacity and high demand meaning they can charge higher rates, turn less profitable business away and continue to control negotiations going into 2022. Typically, this balance of power shifts and stabilizes as carriers, under the weight of business servicing pressures, look to invest in additional equipment and expansion and those costs then help to reset the balance. With carriers in catch-up mode and the market remaining unstable, we’re now starting to see carrier investment, but it will be at least mid-2022 before that improves capacity constraint. leaving carriers holding the cards and driving high pricing.
Tender rejections keep pricing high
Almost one third of tendered shipments were rejected by carriers in 2020 due to capacity constraints and other variables. That number is down from previous months, but a 20% rejection rate is still significantly higher than the standard 12-15% rate, leaving shippers in a challenging position and relying on spot shipping just to make shipments. That typically means less than a day’s notice for pickup, limited available carrier capacity and rates that reflect that urgent need for service.
Warehousing remains severely constrained
The warehousing and storage services market is expected to register a CAGR of 10% during the forecast period, 2021- 2026. In the short term, as shippers rethink their supplier networks and try to stage increased inventories to offset goods shortages and shipment delays, the warehousing market is under considerable strain. Warehouses are running busier than ever, mainly catering to food products, pharmaceuticals, and essential household goods. Major retailers including Amazon, Aldi, Asda, and Lidl have all reported a need to increase their capacities and hire additional warehouse workers. In April 2021, Amazon announced plans to hire 100,000 new warehouse workers to cover for sick employees and respond to the surge in orders from customers practicing social distancing. Other retailers will follow suit and the search for warehousing space will intensify.
Container lines fighting to provide capacity
Ports are at record levels of congestion but at least some help is at hand. Container lines are increasing capacity on the Asia-U.S. trades by double-digit percentages, but port congestion in Asia and the U.S. is blunting the actual capacity available to shippers — so we will continue to see upward pressure on rates. This month also saw the deployment of more trans-Pacific container capacity, with approximately 22% more capacity available to the West Coast through December than was available in March through July. Carriers are also adding approximately 14.4% more capacity to the East Coast through year-end. Others have announced dozens of extra-loader vessel deployments and several new weekly services to meet a surging demand from U.S. consumers that has already resulted in an increased 32.4 percent in Asia imports according to PIERS, a JOC.com sister product within IHS Markit. In short, even with efforts to alleviate congestion and improve capacity, levels will continue to create an inbound surge that carriers and the industry will find difficult to manage.
Truck fleets recruiting new but less experienced drivers
A major recruitment effort is underway across the industry to find new drivers – the lifeblood of logistics, and with good reason. Just to keep pace with growing demand, the industry needs 96,000 new drivers annually. And if demand continues as it is expected, the shortage will balloon to 240,000 drivers by 2022. American Trucking Association chief economist Bob Costello reports fleets are adjusting to the continued tightness in the driver market by increasing pay and hiring new drivers right out of training programs with no, or very little, on-road experience. In the short term this shortage will continue to impact everything from retail store goods to the ability for restaurants to remain open.
3. FORECASTING AND PRICE PREDICTIONS
When it comes to forecasting, look to two key industry indices for indicators of transportation logistics industry activity and expansion, and a benchmark of where price negotiation power lies.
These include the Logistics Managers’ Index (LMI), a bi-monthly measure of logistics industry activity assessed from a survey of supply chain professionals; and the DHL Supply Chain Pricing Power Index, which uses data and analytics from FreightWaves’ SONAR platform to analyze market conditions and estimate the rate negotiation power between shippers and carriers.
In September the LMI rose to 70.5, the highest rating since 2018 and a clear indicator that market conditions remain extremely tight, capacity severely constrained and pricing expected to remain high. Survey respondents predict a growth rate of 73.6 for the next 12 months, ten points above the previous highest average all-time growth rate of 64.0. Unsurprisingly, the DHL Power Index sits at 75, showing negotiating power and rate-setting firmly in the hands of the carrier for the foreseeable future.
Future trends for transportation pricing
In August 2021, one gallon of diesel cost an average of 3.35 U.S. dollars in the United States. That was a price increase of roughly 90 cents compared to the same month the previous year. Let’s take a closer look at how those price increases play out by mode.
- Average increase on base rates: 5-6%
- Impact of fuel surcharges – these have peaked but will remain until mid-2022
- Surcharge impacts to total cost – up 10% due to peak charges/oversize/overweight
- Average increase on base rates - 6%
- Impact of fuel surcharges - probably have peaked but will remain high until mid-2022
- Surcharge impacts to total cost – not as impactful as other modes of transport but there are new peak charges being introduced
- Average increase on base rates – 7%
- Impact of fuel surcharges – remain high and may stabilize mid 2022
- Surcharge impacts to total cost – up due to origin/destination rates and peak surcharges
- Capacity impact – belly capacity will remain constrained due to high demand and ocean shipping supply chain disruption and port congestion, preventing a return to pre-pandemic pricing levels
- Average increase on base rates – remain high 10+%
- Impact of fuel surcharges – have peak but remain high until mid-2022
- Surcharge impacts to total cost – origin and destination charges higher from FTL increases
- Capacity impact – Moody’s expects a demand volume growth this year of 5-7 percent against 4 percent capacity increase
4. MITIGATION AND OTHER STRATEGIES - What to do next
While market conditions remain extremely challenging, and will continue to be so for some time, the best strategies include optimization and mitigation. How do we make everything we do streamlined, efficient and more cost-effective? What can be done to adapt to the risk of further disruption, protect operations and safeguard revenue against ongoing challenges?
Adapting to risk of disruption: creative problem solving
2020, and in some way even more so, 2021, have been a wakeup call across the supply chain to the need for agility, flexibility, and options – whether that means safeguarding supply and inventory or locking-in transportation and carrier capacity. Big brands and leading retailers are leading the charge right now with creative, expensive problem solving. Walmart has leased its own vessels to guarantee ocean freight capacity for the upcoming holiday season. Home Depot too has brought in its own ships to improve distribution and is also renting space on its company-owned flatbed trucks. To be able to implement and manage these kinds of alternative strategies requires the critical visibility over your entire network as well as cost control management capabilities. Going forward, use these data-driven strategies and tools to begin building a more agile supply chain operation as a number one priority and focus on other strategies that improve efficiencies in warehousing and distribution, inventory management and executional operations.
In uncertain times and unstable conditions, knowledge is power. Ask yourself if your operation is a true technology enabled process – do you make decisions based on data collection and analytical learnings from across your operation as well as data points collected from your carriers and other partners? Are you employing best-in-class operations? The combination of event tracking software and the discipline of transportation spend management together can identify issues, spot opportunities, and create maximum efficiency. It can mean detecting the emergence of bottlenecks in distribution and the near real-time deployment of dynamic routing strategies to sidestep problems. Without these kinds of data analysis tools to make data-driven decisions, you will never get out in front of a problem.
With high consumer demand and expectations for rapid ship deliveries, proximity to the customer is more critical than ever in order to seize opportunities and guarantee (as much as possible) on delivery promises. Balance the location(s) of suppliers to your greatest concentrations of customer demand. Are there more optimal stocking locations too, adopting a more regionalized model across markets as opposed to larger DCs that can be hit harder by supply chain disruptions? Lastly look at opportunities to virtualize inventory, meaning your goods and products ship directly from your supply partners to your customers.
When carriers maintain so much negotiating and price setting power and when tender rejection remains so high, diversification is important. It’s essential to move to a multi-carrier strategy utilizing robust TMS and WMS capabilities but also help inoculate your operation from the downsides of sudden carrier failure and issues in certain regions or modes. Using multiple carriers also means, if you haven’t already, adopting intelligent routing, where routes are based on price, service and with respect to capacity constraints. Overall executional strategies need to balance service with cost. What is the true cost to serve a geography, a customer, a market? And again, without foundational data driven operations and partners, as appropriate, to help manage data collection and analysis, you’ll never have the learnings that drive real time adaptability needed to survive the worst of what is still to come.