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Long Road To Recovery
Monday, 29 June 2009 00:00

State of Logistics Report paints a bleak picture, warns of capacity shortage when demand picks up.

It’s the economy. That’s what jumps out from the numbers and analysis in the latest edition of the Council of Supply Chain Management Professionals’ State of Logistics Report.

The report, issued on June 17, examined supply chain performance in 2008, a year unlike any since the late Bob Delaney began producing the annual scorecard 20 years ago.

The headline number was positive: Logistics costs fell to 9.4 percent of GDP in the U.S., the lowest percentage since 2004 and a drop from 10.1 percent in 2007. Look closer, though, and that performance was less impressive than it seems.

Most of the improvement came from a recession-induced drop in interest rates, which cut the cost of holding inventory. And while companies rushed to liquidate inventory as the economy headed south, sales dropped even faster. The inventory-to-sales ratio soared from 1.25-to-1 in June to 1.46-to-1 in December, the sharpest jump since 1982.

Rosalyn Wilson, author of the State of Logistics Report, said the increase was “an unwelcome sign,” one of several that began in mid-2008 and have continued into this year. “Retailers and manufacturers are finding it difficult to draw down their inventories to match sales, and that trend will be a persistent problem well into 2009,” she said.

For supply chains and the broader economy, last year encompassed two starkly different periods—before the recession, when the bubble economy was still going strong, and after, when credit and confidence dried up.

“At the start of 2008, I never would have predicted a 13 percent reduction in inventory carrying costs,” Wilson said.

Inventories declined in each of the year’s last four months, and the cutbacks continue. “Businesses are clearing out inventories at a rate not seen for 30 years,” Wilson said.

The cuts are magnified by caution by manufacturers and retailers in replenishing stocks for sales that are likely to remain slow.

Despite weak demand, transportation costs rose 2 percent last year. The increase in transportation spending may sound good for carriers, but it came from higher fuel costs, not from base rates, which remain depressed. Fuel costs dipped later in the year, but they’ve begun to inch back up as crude oil prices topped $70 a barrel in recent weeks.

So what’s the story for 2009 and beyond? As in 2008, it’s the economy.

Wilson agrees with many economists that there are early stages of a recovery, but that it will be slow and halting and that unemployment will get worse before it gets better. Consumer confidence is starting to recover, and government injections of capital have bolstered financial markets, but household wealth has shrunk and credit remains tight,

GDP contracted by 5.7 percent in the first quarter of 2009, and is expected to drop another 2 percent in the current quarter, before edging into positive territory during the last two quarters of this year.

Transportation represents the biggest slice of supply chain spending. It’s a buyer’s market, with demand weak and capacity high. That will continue until the economy picks up, Wilson said.

“Even when volume picks up, carriers will have difficulty raising rates, because nobody wants to pay more,” she said.

Some carriers have spoken hopefully about an increase in freight volumes as companies are forced to replenish inventories. Wilson said some inventory rebuilding is likely later this year or early in 2010, but that this year’s summer-fall peak season isn’t shaping up as a strong one.

When demand does return, there will be a shrunken transportation and logistics industry to handle it.

Transportation and warehousing industries shed 265,000 workers in the first five months of this year. More than 3,000 motor carriers went out of business last year, reducing capacity by 7 percent. Because truckload carriers are primarily small, Wilson said, their bankruptcies, closings and mergers have been less visible.

“Operating in these market conditions is trying even for the best-run trucking companies,” Wilson said. “Many are reducing the size of their fleets, which will pull still more capacity out of the industry.”

Other transportation modes also have cutback. Railroads have furloughed staff and idled equipment. Container ship lines may be in the worst shape of all. They face the likelihood of several years of severe overcapacity as they struggle to fill large ships ordered earlier this decade when capacity was tight and demand was rising.

Wilson and others suggest that when inevitable recovery occurs, it could come quickly—and that companies that aren’t ready could find themselves short of transportation capacity

“The first place we’re going to see it is in truckload transportation,” said Clifford Otto, president of Saddle Creek Corp., the Lakeland, Fla.-based warehouse and distribution center operator. If the recovery is gradual, motor carriers should be able to restore capacity in time to meet demand, Otto said. But he said a sudden rebound could produce capacity shortages, and “those people that haven’t managed the relationships on both sides are going to pay a price.”

Paul Avampato, vice president of process design catalyst at Kraft Foods North America, said transportation volume would recover more quickly than capacity “The last time we went through this, it was about two or three years before transportation (capacity) caught back up,” he said.

While carriers face rough going in the short term, the outlook is mixed for warehouses and distribution centers. Operators that merely “have a big building where people store stuff” will struggle, but companies that have transitioned into cross-docking and value-added logistics services will do well, Wilson said.

The industry segment with the brightest future may be forwarders and other non-asset-based providers of third-party logistics services. Logistics providers—carriers, warehouses and others—are branching into new fields to attract new customers and to hang onto existing ones seeking to outsource.

“This sector is weathering the economic downturn better than asset-based companies are,” Wilson said. “3PLs are in a good position. Companies are looking for end-to-end services, and the 3PLs are better at looking end to end.”

Journal of Commerce, 6/29/2009