It’s already clear that 2015 will be a watershed year in the pricing of both small package and less-than-truckload (LTL) shipments. UPS and FedEx, which dominate the domestic small package market with more than 90% share collectively, have announced that dimensional weight (dim weight) pricing will apply in January to all North American ground shipments.
While dim weight pricing, which is sometimes referred to as “volumetric pricing,” has been the standard in airfreight shipments for years, the application moved into small package ground as recently as 2007. At that time, UPS and FedEx began to apply dim weight pricing to packages larger than 3 cubic feet. However, the change now being implemented will apply dim weight pricing to all ground packages in the U.S. and Canada regardless of size.
So what is dimensional weight? Simply put, shipping costs will be based on the higher of two measurements: package weight or package size. The weight aspect does not need any explanation, as everyone has dealt with this approach for years. For many, being charged on the basis of package size will be a new phenomenon that’s going to cost a lot of money.
The math behind the process is length x width x height—with all dimensions measured in inches—divided by 166. The resulting number is then rounded up to the nearest whole number and that becomes the package’s dim weight. Shipments to Canada will use the international divisor of 139 making those shipments almost 20% more expensive.
So, what’s the driver behind the move to dim weight pricing? The key driver is the explosive growth of e-commerce and the impact it has had on the small package delivery business.
Before any of us knew about Amazon, the small package sector was basically a business-to-business model with many packages going daily to a limited number of destinations—such as an auto manufacturer shipping repair parts to its dealers. The shippers were relatively efficient in their techniques and residential deliveries were not a major factor.
However, today’s e-commerce shippers are very inefficient. In fact, the typical e-commerce package is composed of 40% air and filler, leaving FedEx and UPS over-the-road trailers extremely light. While many trailers can haul more than 45,000 pounds, the small package carriers are struggling to reach 25,000 pounds in a trailer.
The previous way of billing by weight has given companies no incentive to make operations more efficient. To the contrary, the inefficiency has merely been passed along to the carrier. By implementing dim weight pricing, UPS and FedEx have turned the tables and pushed the inefficiency penalty back to the shipper.
So as the new pricing methodology goes into effect, efficient shippers will see no changes in their shipping costs, while those that ship lots of filler and air will experience dramatic cost increases.
The reality of the situation is that most of the packages used by e-commerce companies are smaller than 3 cubic feet, making them susceptible to the new dim weight pricing. In fact, about 75% of all business-to-business and business-to-consumer packages weigh less than 20 pounds—a category where dim weight is a major factor.
Managing dim weight
While we won’t know for sure until some history is accumulated, Satish Jindel, president of LTL market analyst firm SJ Consulting, projects that one third of all small package shipments will see cost increases as a result of dim weight pricing.
Shipping cost increase estimates range from $500 million to more than $1 billion, making this change a potential windfall for UPS and FedEx. And while there are many suggestions on how to combat dim weight, most companies without significant volume leverage simply can’t anticipate much success in seeking a modification in either timing or calculation of the application.
On the other hand, many large companies have already negotiated more favorable terms on dim weight—with some securing delays as long as a year out, while others have gotten a larger divisor than 166, diminishing the overall impact of dim weight pricing.
A number of large companies are protected by a contract. However, these companies will have to deal with dim weight pricing eventually since these agreements will have expiration dates. All carriers have profit margin targets, and any shipper falling below the profit threshold that a carrier wants to hit can expect a price increase at some point.
And while rates are always a major factor in pricing, the other half of the equation is shipping efficiency, something that all companies have much more control over. Many logistics managers tend to focus their efforts on pricing, but getting the right number and sizes of outbound boxes into an e-commerce operation will do wonders to reduce shipping costs because less filler and air will get shipped.
We’ve seen large shippers net multi-million dollar savings by optimizing packaging. But, this kind of analysis is extremely difficult, if not impossible, to do manually due to the fact that many national programs generate more than one million unique outbound combinations of weight and cube in a year.
For example, a company handling more than four million annual combinations required proprietary software to assess 200 possible boxes generating more than 800 million analyses on the way to pinpointing a low-cost solution.
LTL not far behind
The small package carriers were set to fire the starting gun on dim weight in January, however the LTL carriers aren’t far behind. The main difference between the two sectors is that the LTL players refer to it as “density base pricing,” but their intent is the same.
The National Motor Freight Classification system that has been the basis of LTL pricing since the 1930s is by all accounts a convoluted anachronism, unnecessarily complex, and just plain confusing. Many shippers don’t know the proper freight classes for their products or how to secure correct ones, so they guess and hope carriers don’t identify an error.
Pitt Ohio’s John Tillison, a veteran of the LTL business, recalls that “carriers used to pull aside questionable pallets and support staff would put the pallet on an industrial scale to weigh it and then use a tape measure to measure length width and height.” Once pallet cube and weight were known, he adds, it was easy to compute density and identify freight class, which is based primarily on density.
Today, efficient LTL carriers such as Pitt Ohio have scales attached to each lift truck so that pallet weights can be verified whenever desired without slowing the operation. Similarly, savvy LTLs are investing in equipment that, with the aid of lasers, can measure, weigh, and calculate shipment density. Some of these devices are so precise that weights and measures can be legally certified for accuracy by state agencies.
Going a step further, the measuring devices can also take a photograph of the freight and apply a date so there’s no question as to which product was analyzed and when.
Major LTL carrier YRC has previously announced installation of density measuring devices in 50 of its terminals. According to Mike Regan, president of freight audit and payment services provider TranzAct, one regional LTL carrier that’s installing these density-measuring devices in its terminals “is paying for the technology in three weeks purely from correctly billing shippers through more accurate shipment information.”
At this point, large LTL carriers such as UPS and FedEx have announced that density-based pricing is voluntary at its customer’s request. Obviously, those shippers who are efficient and correctly classifying their freight have nothing to worry about and are readily accepting density-based pricing.
However, less efficient shippers are resisting the change. When shipment volume on density-based pricing starts to be a major factor—say more than 35% of volume—the LTL industry may quickly make this their pricing standard.
Veteran logistics consultant Cliff Lynch is already on record predicting that we’ll see this change implemented before the end of the 2016. So fasten your seat belts, for change is blowing in the wind.