When is a contract not a contract…
I got an email from a colleague asking me to comment on a letter he wrote for his clients about the recent TSA rate increase in the transpacific trade. He was concerned about what to tell his clients – who had negotiated new “lower” rates and as a result built their budget and retail pricing off of the rates. With the “sudden” increase the client’s margin was under squeeze.
My answer – should have factored in a GRI for the year.
A comment by client was “they can’t do that – we have a contract!” I suggested a review of the contract – and the clause that “allowed” for GRI and EBAF, BAF, and the rest of the ways that a carrier can recover costs.
Anybody that has been in the business for more than 10 years knows that the current rates cannot support the cash flow requirements of the carriers. Even as the container lines shed capacity, more comes on line in the form of bigger ships ordered when the business was good. The lines are looking at a cliff of higher capital costs in the next two years. They really need to “earn” more per container. The lines have ships coming out of the yards that they have to start paying for. Every line has more capacity than it knows what to do with.
It is an issue of economics 101 – Supply & Demand. The carriers are reducing supply as fast as they can – even with the tidal wave of new capacity on the way. But each has to increase revenue to live. If you don’t think ocean carriers can “die” – go review the news for the past year – smaller players have quite the business. The carriers are also in “active” mode to reduce capacity – pulling ships out of strings and eliminating strings all together. I would not bet against the carrier’s ability to pull more capacity out of the market.
So what does the smart shipper do? It depends on if you have volume to ship, or you are on the margin – and therefore are looked upon as “margin” by the carriers.
If you move big volume – you have lots of contracts to move lots of boxes – some with NVOCC’s. You have flexibility, and can shift cargo around – to a point.
If you are small - you are using a forwarder or NVOCC. While the NVOCC has “volume” rates from the combined flow there is always the margin. Small shippers do not have the flexibility the larger players do.
What some smart shippers do is make sure that there are no surprises. Sometimes that is paying a little bit more than most of the market – let the carrier make some profit – and in a sense pay “GRI Insurance”.
Other smart shippers take the lower rates – but in their planning budget in the risk of a GRI mid-contract. If the GRI comes in – then the budget covers it. If the GRI does not appear – the shipper “beats” the budget.
Part of our jobs as Logisticians is to identify the risks of not meeting the goals and eliminating the risks. In the Risk = Reward equation there is two sides to the “equals sign”. You can reduce risk or you can reduce reward in your plans. Hedge your bets – “sandbag” the budget a bit, and the risk of a GRI “surprise” is reduced. The other was to reduce the risk is to watch and understand the economics behind the carriers – understand which ones are levered and which ones are not. That includes looking deep into the finances of the carrier – if they let you. If they don’t – don’t do business. They checked out your credit, you must check theirs. Play with the ones that are less levered.
What? commented:
To answer your question about the suggestion to my referencing on the adjective used -Sandbag; see your quote (”You can reduce risk or you can reduce reward in your plans. Hedge your bets – “sandbag” the budget a bit, and the risk of a GRI “surprise” is reduced.” ). You are right in saying that most transportation companies are not public. However, enough are, and show the direction of the industry from a pricing/profitability standpoint. Mr Maltz is also correct that this industry is incredibly cyclical, and that these are truly historic times from a transportation standpoint. However, you create an air of mistrust because you are suggesting to your readers that they pad their budget. Your last paragraph becomes the focal point, because it is clearly what you want your readers to be left with based on the font and bold type. Now in response you provide some further clarification with the suggestion around predictability. I’m not disagreeing that paying above a rock bottom rate is the right thing to do. It is, and partnership is a two way street. Carriers have to make money so that you can have your freight moved long term at a reasonable price. Companies can make better decisions around capital allocation when the costs associated with operations are normalized as much as possible. On both issues, I agree. Your answer to my comment is how this article should have been written in the first place, leaving out the term “sandbag”. Shippers are still having a difficult time explaining the aforementioned rational, with consultant’s and 3PL’s promising 18-22% reductions in cost. The adjective used to describe the act of how the budget is built, implies an artificial building up of a budget. If that budget money that is partially allocated in advance of the expense being incurred, and is never fully realized, you are robbing the enterprise of the ability to optimize and plan capital investments or growth. That is what I am saying creates mistrust post mortem, during a budget review at the very least, or a surprise when the CEO/CFO doesn’t know why the budget was “padded” and they raise the question. I don’t disagree with the rational behind planning, but for those who are bright eyed and bushy tailed, they make take away unintended suggestions. Maybe a better way to “beat the budget” is a combination of good planning, and continuous improvement. At least that’s how I’d do it.
JLH commented:
Thanks
David Schneider commented:
What? commented:
Arnie Maltz commented:
