Just when we presumed that international ocean container carriers were finally paying more attention to customer cost and service needs vs. their own gross overcapacity challenges, they once again, shoot themselves in the foot.
Bloomberg and other logistics media are reporting that on the heels of modest signs of increased economic activity in the U.S. this past quarter, carriers are now singularly targeting the U.S. inbound market to recoup lost revenues. The cost to move loaded forty-foot container from China to the U.S. peaked in July 2010 at a cost of $2833, dropped to as low as $1418 in December of 2011, and is now being quoted at an average $1824 per container. While the Bloomberg headline indicates a 28 percent rate increase, as in most events related to freight rates, the reference depends on which context carriers elect in their communications to shippers.
Continued gross overcapacity has led to idled ships, slower steaming times to conserve fuel along with numerous measures directed at cutting costs. The current Baltic Dry Index, a measure of overall shipping and supply chain activity has slumped 55 percent thus far in 2012, which does not indicate any huge resurgence in global trade. Container ship operators apparently see signs of optimism in the U.S. economy and now want to leverage more revenue.
It is no secret that the world’s ocean container carriers are facing significant needs for consolidation and restructuring. Reduced shipping volumes exacerbated by global economic turbulence, too many ships in the global fleet, and higher bank borrowing costs brought about by the current Eurozone crisis have placed many of the top carriers under the looking glass of investment analysts. In December, top-tier carriers began to form mega-alliances for jointly aligning capacity under the guise of providing enhanced customer service directed at the most active shipping routes. One could speculate why governmental trade agencies and shipping authorities have not taken a closer look at the implications of these alliances. Perhaps these latest rate increases are the first signs, namely enhanced pricing power in the market.
Recent ship accidents, including the grounding of the ocean container vessel Rena off the coast of New Zealand raise concerns about compromises in safety. While all of this occurs, reliability and on-time performance remains suspect and tracing a container shipment can be a dark hole.
Is it no wonder that the U.S. is currently experiencing a resurgence of insourcing of manufacturing, given the extreme variability of container shipping rates?
In December, we shared our observation that the industry would continue in the midst of a fight for profitability in a highly uncertain global economy. If carriers collectively idle too much capacity, shippers would again be back to the unpleasant situation of the novel set of economics that occurred during the previous severe economic downturn. Overall capacity will shrink, remaining active ships will run at lower speeds to save on operating costs and reserving container space will again become a larger challenge. We speculated on higher rates for time-sensitive or higher volume shipping routes and that seems to be the current pattern.
Our advice to shippers and transportation sourcing teams is the following. Pay close attention to industry developments and further signs of consolidation. Seek out longer-term rate assurances but do not lock-in freight rates until clearer signs are evident. Monitor the total number of idled ships globally, especially since the Lunar holiday and peak Asia export shipping season has ended and this is the time when carriers will cut-back on capacity and service levels. Most of all, demand more reliability measures and penalty compensation for non-conformance to schedule and more visibility to in-transit containers.
Finally- a memo to strategic sourcing teams who oversee contract manufacturing and major component supply. Time to re-double analysis of current tradeoffs of outsourcing vs. insourcing. The new variable is turbulence in ocean container shipping.
Bob Ferrari
©2012, The Ferrari Consulting and Research Group LLC and the Supply Chain Matters blog. All rights reserved.
Hi Bob,
A few interesting points you raised there.
Firstly, the increased volatility in freight rates certainly makes it harder for the shipper / BCO to budget and plan for their freight rate costs. On top of this, the rise in wages and commodity prices seen over the recent years have squeezed the profit margins for many, especially those with already very tight margins. We are already seeing some companies moving parts of their manufacturing back to the US, but this will take another 5-10 years to gain full momentum.
Secondly, it seems like the carriers are more concerned about market share than profitability as we witnessed in 2011, when carriers on the Asia – Europe trade lane engaged in a market share war, with rates plunging 61%. The FMC recently published their study on the impact that the repeal of the liner conference block exemption in Euroe had on the US liner trades. Taking into account the global financial crisis, the study found there to be ‘no significant repeal-driven change in rate levels’. So the fact that the Transpacific carriers still get anti-immunity and most are members of the TSA, there is a certain degree of ‘information sharing’ that these member carriers are benefiting from. How else can one explain the $800 rate increase by the TSA recently?
Thirdly, given that we could see a repeat of what happened between carriers and shippers in 2009/2010, how can shippers ensure that carriers will perform on their annual contracts? We all know that if rates increase dramatically, some carriers will renege or you at least risk your cargo to being rolled over. And vice versa when rates fall dramatically. If carriers are expected to be penalised for non-performance, then so should carriers. The question is whether either party will stick to their agreement. It seems like either a situation of overcapacity or undercapacity can be deemed to be a force majeure.
Whilst it may be a new concept, index-linked contracts are similar to having a floating BAF in your service contract, but instead you have a floating ‘All-In’ (or a customised rate) rate to an index (i.e. SCFI, TSA, CTS, Drewry). This allows both partieis to benefit and doesn’t disrupt the supply chain.
Regards,
Cherry
Dear Cherry,
Your comments identify very insightful perspectives and tank you for sharing them on Supply Chain Matters.
Carriers more concerned with market share than profitability is a rather troublesome sign. It reflects a believe that industry re-alignment is inevitable and carriers are positioning for domination of contracts as bargaining chips. Meanwhile, sensitivity to shipper concerns as to transportation budgets becomes suspect.
The issue of adhering to existing agreements adds even more dynamics. One wonders if this is an argument for shippers to engage in short-term spot vs. longer-term agreements.
Bob Ferrari