Attention to Details
When hammering out contracts, shippers, carriers should focus on specifics.
If 2009 was the year of the shipper and 2010 the year of the carrier, 2011 may well be the year of the detail. As in, the year that shippers and carriers start paying heed to the details in service contracts that have long been ignored.
Details like shippers meeting their minimum quantity commitments, and carriers avoiding the urge to drop unexpected rate increases and surcharges in their customers' laps.
Or like shippers understanding that when those minimum quantity commitments are complete, it means that a carrier has fulfilled its end of the contract. Or that carriers have an obligation to provide the space to which they agreed in contracts, whatever way the market wind is blowing.
Indeed, the key to more successful negotiations in 2011 may lie in the specificity demanded from both carriers and shippers in the service contracts they sign.
'I totally expect customers to ask us to put more service specificity into service contracts,' said Bob Sappio, senior vice president of Pan-American trade for the liner carrier APL. 'Generally speaking, service contracts have been rate-volume agreements. This last 12 to 18 months may have been the cold shower everyone needed to show there's a more intelligent way to go about this.'
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| Sappio |
There are issues that cloud negotiations outside of what can be written in a contract, of course. Carriers want, or expect, better advance forecasting from their customers in order to better arrange their global networks.
'The ability customers have, if they can forecast their needs accurately and if the carrier can meet that demand, is to write that in the contract,' Sappio said. 'If a shipper needs 20 45-foot units a week from this time to this time, on this string, you write that in the contract. In the case of intermodal customers, they can say 'I want this container in Memphis on this date and this time.' Customers can write in the contract a 'no-roll' provision. But for those types of service attributes, you have to pay. They have to be written into the contract and the carrier should be held accountable.'
Is this type of specificity happening? Not so much. Sappio said that out of the 1,100 or so service contracts on the eastbound transpacific for APL, less than 100 have that level of specificity.
'I'm hoping that (level of specificity) becomes the norm,' he said. 'I'm hoping that becomes triple digits.'
But for shippers, it is often hard to know what actual demand lies beyond a four-week horizon.
| ' Carriers and shippers should build more specificity into their service contracts. ' Shippers need to provide improved forecasting to carriers and should expect benefits in return. ' Better understanding needed of the difference between 'relationships' and 'transactions' in ocean freight contracts. ' Pilot testing of long-term contracts on specific lanes a way to build relationships. |
'It's difficult for most shippers to forecast with precision, especially when transporting cargo that is prone to frequent changes in shipping patterns,' said Eric Brandt, manager of global ocean transportation for Kraft Foods. 'When forecasts are accurate, carriers are often not able to hold up their end of the deal. It's a science that has not been perfected by either party. Unless contractually binding accountability is clearly defined between both parties, forecasting will remain just a concept. Realistically, a four-week forecasting window is feasible for many shippers, but not all. There's still a lot of work to do to improve the gap between forecasted and actual volume.'
And Brandt said there have to be tangible benefits for shippers who do provide those levels of accuracy.
'Shippers who are able to improve their process and accuracy of forecasting should expect to receive space and equipment guarantees in return for their reliable and accurate information,' he said. 'Carriers should still grant flexibility, within reason, to accommodate sensible discrepancies. The opportunity for true collaboration lies with jointly improving the communication of known and potential variances in forecasts.'
Tension Boils Over. The tension between shippers and carriers probably reached a crescendo last spring, when cargo was being rolled by carriers who said they were caught unprepared for stronger-than-expected container volume in the first half of the year.
Then in the summer, U.K.-based retailer Argos sued Maersk Line for nearly $14 million for breach of contract. Argos argued that Maersk hiked its rates nearly threefold within the contract period, forcing it to abandon the contract and negotiate deals with other carriers or forwarders at rates higher than its initial contract with Maersk.
The case was considered to be a landmark, potentially precedent-setting event for carrier-shipper negotiations. But the two sides settled out of court in November. (Neither side divulged the details of the settlement. See 'Maersk, Argos announce settlement,' www.AmericanShipper.com/links).
In any case, the short saga may provide shippers and carriers greater impetus to be more detail-oriented in future negotiations.
Brandt said Kraft avoided much of the service upheaval in 2010 by not being opportunistic to its carriers' detriment in 2009.
'We honored our 2009 contractual agreements while resisting the pressures and temptation to renegotiate rates or terms during the industry nosedive,' he said. 'As a result, we've been relatively insulated in 2010 from capacity and equipment shortages as carriers reciprocated our behavior by ensuring they protect our cargo. In the instances where we faced such issues, either we may not have provided carriers with sufficient notice of equipment and space requirements or our booking request may not have been within reason. We've learned from these particular situations.
'Shippers and carriers who recognize the change in dynamics within the industry have already put the recent past behind them and moved forward in a more collaborative spirit.'
Yet it's hard to assert that the line-drawn-in-the-sand acrimony of past years has been wiped away across the industry.
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| 'It's a science that has not been perfected by either party. Unless contractually binding accountability is clearly defined between both parties, forecasting will remain just a concept.' | |
| Eric Brandt manager of global ocean transportation, Kraft Foods |
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'The past year has witnessed a variety of unacceptable shipping practices, ranging from the imposition of abrupt and opportunistic rate increases and surcharges, cargo 'rollovers,' the limitation of shipping capacity and a general lack of adherence to rate agreements and contractual arrangements on an unprecedented global scale,' said the Global Shippers Forum, a worldwide panel of shippers councils, in a joint declaration this fall. 'This has resulted in major disruption to global supply chains, often resulting in delayed deliveries, especially for time-sensitive shipments.'
Shippers no doubt feel burned by the events of 2010.
'I can't remember in recent history where we've had to pay higher prices for poorer service,' said Tom France, director of transportation and supply chain solutions for Caterpillar, at the Council of Supply Chain Management Professionals conference in San Diego in late September. 'Today we have slow steaming, mechanical failure, skipped ports. They've become the norm.'
And while some shippers would like to look forward, they often don't see a practical way to bridge the divide.
'We need to look at contracts differently than we have in the past, but I'm not sure how you handle that,' said Scott Larson, vice president of international logistics and custom compliance for retailer The Bon-Ton Stores. 'We've all taken advantage of fluctuations in the marketplace. When rates go down, you don't want to be caught paying more than your competition. But we need to get over 2010 and re-engage. We need to come to an agreement on reasonable and fair rates for both sides, and ensure that those terms are firmly in place for the duration of contracts. The surprises have to be taken away.'
Relationship vs. Transaction. One area for shippers and carriers to consider is how they are perceived by their counterparts heading into negotiations.
'You have different customers,' Eng Aik Meng, president of APL, said at the TPM Asia conference in Shenzen in October. 'Are all customers partners? Some are relationships, and some are transactional.'
Sappio explained the difference.
'We have a growing number of shippers becoming more sophisticated in how they negotiate service contracts,' he said. 'Why don't more people do this? Because it's really hard work for carriers to understand their service capabilities and their cost to serve a customer. You have to sit down and figure out what your cargo flows are, what corridors you'll use. Then you sit down and write a more sophisticated service agreement.
'But those are some of our best agreements and the easiest ones to negotiate. We talk more about service and taking cost out than what the price is.'
Sappio said there's no particular size or type of shipper that fits the profile of one looking to negotiate more relationship-oriented contracts.
'There are some big, big shippers who have sophisticated contracts, and other smaller shippers who are long-time customers,' he said. 'I couldn't characterize it as any one customer segment. The segment who does want this type of contract are those fed up with how things have been and want like-minded carriers who want to go down a new path. That's the common denominator.'
Brandt, of Kraft, clearly believes in following the same path.
'True carrier-shipper collaboration needs to turn theory into action,' he said. 'The first step is to move beyond the past, to apply the lessons learned. We are all in the business of moving freight and we cannot effectively exist without each other.
'Shippers and carriers should turn their focus to delivering a competitive advantage for their organization through partnering to drive innovation, deliver joint gain, share risks and rewards, communicate openly and deal with differences constructively. Performance assessments must be two-way. It can't only be about how the carrier is performing against defined metrics, but should also be about how the shipper is tracking against their obligations. Shippers should seek constructive feedback from carriers on how they can become a better partner.'
It's The Rates, Stupid. All the talk about collaboration often obscures the reality that rates are still a key determining factor in negotiations, if not the most important.
'As a procurement organization, first and foremost, we have a financial obligation to Kraft Foods, so rates are of course one focus of our negotiations,' Brandt said. 'However, getting our product to market on time is important, as the financial consequences of a disruption to our supply chain can quickly nullify the benefit of chasing a low ocean rate. The equilibrium we seek is to negotiate contracts which deliver value through a combination of costs and service.
'Service predictability is another decisive focus in our negotiations,' Brandt continued. 'As long as the service is consistently predictable, our receiving plants and customers can plan properly. It is the unexpected changes in a service that can hinder our supply chain.'
Sappio said both sides are searching for stability.
'Shippers will look for predictably of service and stability of price,' he said. 'They're not going to want to play the surcharge game. Carriers will be looking for very much the same thing. Accurate forecasts from shippers ' when the demand surges will come, and what will peak season look like. We too will be looking for stability of price during the contract cycle.'
He added that some shippers leaned on carriers to adjust rates to reflect market changes, as they have accused lines of doing in 2010.
'For a long time the rate became the ceiling,' Sappio said. 'Most contracts have a no (general rate increase) clause, a no surcharge clause. However, there's nothing to prevent a shipper from saying, 'The market has moved and I'm not competitive. I need you to adjust the rate down to meet the market level.' There's enough bad behavior from both shippers and carriers. Plenty of carriers dug their own hole, but enough shippers were handing us a shovel.'
Brandt, like Sappio, said rate stability is just as important as service stability ' even if, in practice, it hardly works out that way.
'Service rationalization and slow steaming have negatively impacted the supply chains of large and small companies, predominantly due to unpredictability,' Brandt said. 'Carriers need to make a profit to sustain their services, and hopefully will invest those profits to improve their service offering. This cannot happen at the rate levels of 2009 and shippers must be realistic with the rates they expect to receive and procure responsibly, looking elsewhere for costs savings beyond 'squeezing' an ocean rate. Shippers who seek stable and competitive pricing with a quality service to get their raw materials to production or finished goods to market to run their businesses will be better positioned to succeed in 2011.'
Thomas Kim, executive director of Asia investment research for Goldman Sachs, asked a pertinent question regarding rates at the TPM Asia conference.
'Who benefits if rates come down?' Kim said. 'You can't induce demand by lowering freight rates. In the darkest days of (the first quarter of 2009), carriers should have stopped everything and sent everybody home. Every box that was moved, they lost money. They gave back more than three years of profits in one year. But market share gains are illusory. You cannot induce more demand. All you have is a happier shipper. You won't increase the number of boxes. Wal-Mart won't create more boxes if the price is better.'
Meanwhile, Kim chided shippers for considering rates ' even those at the apex of the scale ' high in historical terms.
'Freight rates haven't grown very much historically in real terms,' he said. 'It's been a good environment for shippers, in that they've seen a deflationary environment for freight rates in the last 20 years. Unless the industry is regulated, you won't see freight rates be stable. The ups and downs of a cycle may seem like a lot to shippers, but container shipping is the least volatile shipping industry. The pricing tends to be pretty understandable through the cycles.'
Shippers Know Who's Good. Not all carriers are equal, of course. Some position themselves as service leaders while others clearly target no-frills shippers looking for the best rates. In the best of times, when capacity is available and container demand is high, it works out fine ' there's business for everybody. But in times like early 2010, when capacity was at a premium, some shippers found out which carriers were, in the words of APL's Eng, relationship-based or transaction-based.
'While history rarely repeats itself, it usually comes close,' said Alan McTaggart, director of group logistics for Techtronics Industries, which ships around 20,000 containers annually and uses six to seven carriers. 'Of our carriers, two were exemplary and it didn't matter if we had a contract or not, they honored every responsibility. Four or five, it didn't matter if we had a contract, they wouldn't have honored it.'
Edwin Coseteng, stream managing director for IDS Logistics, a unit of the Hong Kong-based sourcing giant Li & Fung, said shippers know the carriers upon which they can rely.
'I think you know who you can count on,' Coseteng said. 'So you reward those carriers. You try to talk about extending the contract period. Now more than ever, carriers need that certainty.'
Coseteng said he is bothered by the way carriers are able to signal the market through the ordering or shelving of capacity, and announcing of rate increases or peak season surcharges months in advance.
'My point of view is that if you have a contract made in good faith, it should be respected,' he said. 'It's a negotiation, and it's how you frame your negotiation. If you come to me and say, 'Edwin, I need to raise rates by $100 during peak season,' that's the right way to approach the situation.'
Philip Damas, division director for Drewry Supply Chain Advisors, said shippers should diversify their carrier bases, try to hammer out longer-term contracts, and agree on contracts with financial penalties on both sides.
'The question is how do you make contracts stick?' Damas said. 'How do you stop carriers finding loopholes?'
Sappio, for his part, has long been a proponent of transpacific carriers and shippers taking better advantage of the confidential service contract negotiations afforded by the 1998 Ocean Shipping Reform Act ('A missed opportunity, June 2006 American Shipper, pages 54-56 or www.AmericanShipper.com/links). 'If I need a mortgage, I have plenty of options, depending on my risk tolerance,' he said. 'If I want predictability, I can do that in a 30-year fixed rate. If I want to play the market, I might take a short-term adjustable. It's the same in ocean rates. I can sign a fixed, all-in rate, or we can negotiate to a short-term adjustable. Carriers and shippers can get as creative as they want in terms of rate mechanisms and service specificity.'
Carriers, meanwhile, have been busy in 2010 laying the groundwork for more lucrative contracts by showcasing their service improvements ' in spite of widespread shipper sentiment that service levels were poor this past year.
APL and MOL (partners in the New World Alliance) became the first lines to publicly release on-time performance metrics, while Maersk has often trumpeted its on-time performance in third-party schedule reliability indexes. That the performance of APL and MOL is measured in-house and may not be as reliable to shippers as measurements by unbiased third parties is beside the point. The mere fact that carriers are measuring this aspect of their service offering speaks to how they want to be perceived as more than a commodity.
Long-term Option? All this discussion begs for a return to the topic of long-term contracts as a way to ease the volatility of rates and service levels, yet little progress has been made since American Shipper last broached the issue in March ('Short-sighted, long-term view,' pages 6-10, or online at www.AmericanShipper.com/links).
'I haven't seen that either party wants to go there yet,' said Larson, of The Bon-Ton Stores, when asked whether longer terms for rates, like two years, would be an answer. 'If you do, you're really only looking at volume, not rates. It would be difficult to get shippers or carriers to lock down rates over two years.'
Brandt, of Kraft, said longer-term contracts could solve the problem where 'as soon as the ink dries, it seems that work is beginning on the next contract.
'We are in favor of longer term contracts,' he said. 'However, when discussed with carriers, they express an interest in theory, but hesitate to make such a commitment, especially in the present market with rising rates. The hesitation with longer-term contracts is driven by the uncertainty of who will gain most. There are risks and rewards for both sides. Shippers would benefit from stable rate levels with reliable and flexible services, whereas carriers would benefit from predictable and guaranteed support at stable rate levels.'
But Brandt said that long-term contracts could 'become influenced by convenience instead of sound business judgment,' leading shippers and carriers to 'become complacent as they take each other for granted.' He said the success of longer-term contracts is largely reliant on both sides resisting the urge to be opportunistic. He also raised the idea of pilot testing long-term deals on a single lane.
'An approach that could prove beneficial is to isolate key lanes that certain shippers and carriers are willing to take to a different level of cooperation into consideration,' he said. 'It's preferable to find ways to adjust rates in a trade lane where escalation is tied to a transparent mechanism. As the partnership moves through one or two cycles, the relationship will be tested, and longer-term contracts will be tested. Relationships are based on trust, so start small.'
A complementary concept to consider is whether shippers and carriers might agree on a band of rates (a minimum and maximum rate level within a specified period) as a way to induce both sides into longer-term contracts. That way, the normal play of market rates could be accommodated within a longer-term relationship.
Luc Jacobs, senior vice president for ocean freight and head of global full-containerload for DHL Global Forwarding, said that when rates go above or beyond a healthy band, it causes the industry to go into crisis management mode. And the major culprit is inaccurate volume forecasting.
He said volume deviated by as much as 50 percent of forecast levels at certain points in 2010, while no-show levels at times reached 30 percent.
'How do you handle that?' he said. 'We need to switch from crisis management mode back to a long-term strategic approach.'
Sappio said as much in 2006: 'We've got to get with shippers to get over the yearly fight over rate reductions and work on narrowing the band of reductions and increases. It does nobody any good to have a $500 reduction one year, then a $500 increase the next year.'
Bear in mind, that was three years before the 2009 bloodbath for carriers and the 2010 tumult for shippers.
More recently, he said: 'If we have learned anything from the chaos that was 2009 and 2010, it's that there's a better way to do this than bludgeoning each other year after year.'
Or, as Eng put it: 'I think this is an industry that needs some parental supervision.'