In June of last year, Supply Chain Matters featured a commentary noting that cargo and retail theft remains a significant supply chain challenge.  Our commentary re-iterated how thieves, half of which stem from organized crime rings, exploit any and all weak links in distribution and transport aspects of supply chains to seize goods.

One of the largest cargo thefts in U.S. history occurred in March 2010 and involved the theft of $76 million worth of pharmaceuticals from an Eli Lilly warehouse in Enfield Connecticut. This week, federal authorities arrested two people in connection with the Eli Lilly incident.  According to an article printed in The Wall Street Journal (paid subscription or free metered view), the arrest was described as a takedown of a major theft ring. Two Cuban born brothers were indicted on federal conspiracy and theft charges and ten additional persons were also charged in federal court. The U.S. attorney in Connecticut is quoted as indicating that a prolific cargo theft ring has been dismantled as a result of the investigation and subsequent arrests.  Most of the stolen drugs were reported to be recovered.

Since this incident, pharmaceutical companies have undertaken strong preventative measures to secure drugs in the supply chain. These include installation of video cameras in warehouses, requiring multiple drivers on tractor trailer movements along with other measures.  The industry should be commended for its actions.  At the same time, however, the WSJ article also reminds readers that while stepped-up measures have occurred, incidents continue, including a $10.9 million tractor trailer theft of blood thinner drugs that was hijacked from a tractor trailer parked at a Kentucky rest area last November.

Our 2012 Predictions for Global Supply Chains, available for complimentary download in our Research Center,  included predicted stepped-up efforts to mitigate cargo theft and unscrupulous activities across global supply chains.  Arrests associated with one of the largest thefts of pharmaceuticals recorded in the U.S. should hopefully be an important reminder of the needs to continue preventive measures and remain diligent.

Supply Chain Matters provides a brief follow-up to our recent posting, The Price of Oil: Saudi Arabia Officials Understand Principles of Supply and Demand.  One development that has certainly captured keen interest among procurement and supply chain executives is the current rising cost of oil and its implication to both commodity and service costs.  The Saudis, the world’s largest producer of crude, are reportedly very concerned that the current trend of rapidly rising energy prices will derail any global economic momentum or cause a repeat of the 2008 price run-up that not only precipitated the previous global recession, but caused transportation costs to skyrocket. The Saudi’s also understand all too well, the cornerstone principles of supply and demand, and we described how a plan is underway for the Saudis to debunk any notions that the current price run-up is about any fear of a supply shortage.

Today’s Financial Times features a column (paid subscription required or free metered view) authored by Ali Naimi, Minister of Petroleum and Mineral Resources for Saudi Arabia.  In his column, Mr. Naimi emphatically declares that high oil prices are bad news for the international economy and bad for oil-producing nations. He further states that while the Saudis do not control international prices, the bottom line is that Saudis would like to see a lower price, and are prepared to call the bluff of supply and demand economics.

According to Mr. Naimi: “There is no demand which cannot be met.” He further points to the Saudi current capacity to pump up to 12.5 million barrels per day, way beyond current demand levels, along with at least 57 days of ‘safety stock’ supply in storage to handle any supply disruption.  Inventories in Saudi Arabia and in storage facilities positioned across global regions are full.

The Saudis have been clear.  They fear a setback in world economies, particularly Europe, will seriously derail any global economic momentum.

Supply Chain Matters again reiterate that procurement and transportation management teams should read between the lines, since the Saudis are flatly stating that there will be no lack of supply to cover current global demand. They are, in essence, calling the bluff of market speculators who game the system for short-term gains.  Our advice is not to focus on the current headlines echoing high oil and energy prices but rather focus on the near-term supply and demand dynamics of energy markets. This should include negotiations with carriers and suppliers over fuel surcharges.

Bob Ferrari

Readers of this blog may note that like other supply chain industry analysts and consultants, there are some supply chain trends that tend to trigger our ire.  One specific area has been the ocean container carrier industry, whose arrogance toward customers and management missteps just keep on coming. Ocean container carriers still do not seem to have a clue on how to balance internal profitability objectives with delivering required customer service. Instead, decisions motivated by internal objectives are eroding customer and overall service levels.

In previous Supply Chain Matters commentaries we called attention to the dynamics of consolidation and industry restructuring and noted that just when we presumed that international ocean container carriers were finally paying more attention to customer cost and service needs they again disappointed.  Our latest commentary observed the industry again turning to price increases and targeting U.S. bound shipments for carrier profitability targets.

In mid-February, after fighting a market-share battle with its competitors, industry leader Maersk Line announced that it would cut Asia to Europe vessel capacity by 9 percent. In a Financial Times article, Maersk’s finance director indicated that the carrier will use all of its tools to return to profitability, including further pricing charges and capacity cuts beyond those already announced.  Maersk raised rates on the Asia – North Europe route by $100 per 20 foot container on February 1, and another $50 on March 1.

In late-February, AP Moeller Maersk, the parent company, announced that its profits had dropped 33 percent to $3.38 billion. Profits for Maersk Line, the ocean container group, came in at a net loss of $537 million.  Ocean container losses were fortunately offset by a 24 percent increase in oil and gas activities.  The carrier’s CEO, Soren Skou, who assumed leadership in mid-January, arrogantly declared that Maersk Line had captured enough market share to fill excess capacity. In a separate FT article, Mr. Skou declared that industry margins have come in at 2 per cent over the last seven years while 12 percent was a more acceptable range.  Later he declared that unless industry returns do not reach 8 or 9 percent, the industry is destroying shareholder value.  During this same period, container lines collectively decided to order way too much excess new capacity with over 250 vessels currently being idled.  While the industry might have viewed bigger and more efficient ships as the answer to increased profitability, too many of these ships have exceeded any conceivable notion of container shipment growth.

As a contrast for our readers, UPS currently has a pre-tax operating margin of 10.86 percent, and a net margin of 7.15 percent.  FedEx has a pre-tax margin of 5.7 percent, and a net margin of 3.7 percent. Both FedEx and UPS have proactively idled excess capacity since the global recession of 2008 without incurring significant service level erosion for customers, while continuing to exceed profitability expectations. Each has balanced investment in new, more efficient capacity with corresponding investments in process control and productivity tools directed at servicing shippers.

Today, ocean container carriers continue to run at the slowest speeds, Maersk is quoting transit times from Shanghai to Northern Europe at 34 days, up from the mid-twenty days in prior months.  That has an impact on customer needs for faster transit times and less safety stock. Last week Maersk had to declare that it was suspending bookings on the North Europe to Asia reverse route because a current backlog of shipment containers has caused European ports to be at full physical capacity. European shippers have obviously stepped-up some export volumes while empty containers needing to be sent back to origins compound the problem. The carrier indicates that it may take until May to clear port backlogs.

A failure to view an operating problem from both the internal profit and external customer service lens compounds even further.  Ocean container carriers have withdrawn capacity, and continue to slow transit speeds in order to raise profitability. Slower transit times are causing ports to become ever more congested as empty containers cannot be cycled to other ports. Shippers continue to plan for far more excess inventory to compensate for slower transit times from the key manufacturing regions in Asia. Now, as choke points continue to compound themselves, carriers decide to suspend services rather than recall an idled ship and operating crew.

I’m sure we need not continue this commentary since the bulk of our readers get the picture. While the industry may boast that it serves as the lifeblood of global commerce, management missteps and a general arrogance to shipper and customer needs have resulted in a mess. Where is the balance?

In the view of Supply Chain Matters, what this industry really needs is either a healthy dose of oversight, or a general thinning of the carrier herd with the survivors being those who demonstrate a clear focus on investing in customer and shipper needs.

Bob Ferrari

These past two weeks have been rather active in terms of supply chain developments, not the least has been the announcement by UPS on its intent to acquire European based TNT Express.  The all-cash deal, valued at $6.8 billion is headlined as the biggest in UPS history, and has global shipping implications. It represents what we believe is a means to block rival FedEx and others from expanding their own ground transportation services within Europe.

In its coverage of the UPS acquisition, the Wall Street Journal characterizes the deal as allowing UPS to capitalize on further long-term economic growth in Europe while FedEx remains better positioned to take advantage of long-term growth across Asia. In essence, both global providers are making different strategic bets on future value-chain growth and global shipment volumes.

FedEx capabilities servicing Europe currently lie in air express capabilities while UPS now has the potential to leverage both air express, ground transport and rail networks. Because Europe is more compact from an overall geographic perspective, ground transportation is a viable shipping alternative in terms of time and cost.

Asia increasingly represents the focal point for today’s component and finished goods manufacturing activity.  The region represents a much wider geographic footprint traversing large bodies of water. Manufactured goods generally enter other supply chains by either ocean transport or air freight.   Ocean container carriers invested far too much in container ship capacity, causing gross overcapacity, little profit that have resulted in an erosion in transit times to Europe or the U.S.. Thus for any shipments that are time-sensitive, shippers have little choice but to bite the expense bullet and opt for air express.  That is why both FedEx and UPS have benefitted in their Asia investments in air freight capacity. FedEx’s fiscal 2011 full year earnings announced last June noted a 6 percent increase in daily international package volume driven primarily from export volume originating from Asia.  In yesterday’s announcement of Q3 results, FedEx reported a 1 percent decline in international shipment volumes and announced that it would temporarily idle some of its international freighters.  The company also reflected a rather cautious international and U.S. economic outlook for the remainder of 2012. Asia exports and imports have obviously slowed.

It is the view of Supply Chain Matters that the final commentary related to UPS’s strategic move to acquire TNT comes later as global economies and supply chain activities shift to accommodate changing sourcing patterns, value-chain footprints and commerce fulfillment models.  Both UPS and FedEx can continue to benefit or one, or the other, may feel the effects of a wrong bet.

Bob Ferrari

If our readers have not guessed thus far, Supply Chain Matters maintains subscriptions to two different mainstream business publications, namely the Wall Street Journal and the Financial Times.  We do so not only because both are widely read by supply chain and other business executives, but also because each publication can provide a different lens to a story.

One development that has certainly captured keen interest among procurement and supply chain executives is the current rising cost of oil and its implication to both commodity and service costs.  While the WSJ provides coverage of this development from the lens of Wall Street interests, we turned to FT and detailed articles published yesterday and today related to what actions Saudi Arabia officials have now undertaken to respond to this concerning trend, a trend which our readers should be aware.

The Saudi’s are reportedly very concerned that the current trend of rapidly rising energy prices will derail any global economic momentum or cause a repeat of the 2008 price run-up that not only precipitated the previous global recession, but caused transportation costs to skyrocket. The Saudi’s also understand all too well, the cornerstone principles of supply and demand. Increased multi-government sanctions imposed against the government of Iran, scheduled to increase even more in the coming months, have provided concerns about additional global supply reductions or the sudden closing of the Strait of Hormuz, a major shipping lane for crude supply.  In the middle of all this lies the financial market speculators who attempt to make money on perceived supply and demand imbalances.

Christine Lagarde, managing director of the International Monetary Fund (IMF) further indicated that that rising energy prices have overtaken Europe’s debt crisis as a concern for the world economy.  The same issue is often brought forward by U.S. Republication presidential candidates hoping to unseat President Barack Obama. As of this writing, oil prices are hovering at $124 per barrel.

Today’s FT article reports that Ali Naimi, Saudi Arabia oil minister has publically acknowledged that that current high oil prices are unjustified given the existing numbers of supply and demand.  Mr. Naimi views current global supply exceeding demand by 1 million to 2 million barrels per day, a situation that many in our community would view as excess supply.  Once more, according to the Saudis, customers are not requesting nor seeking more crude.  The summer months are fast approaching and global markets generally require an additional 3 million barrels per day to support seasonal consumption.

To respond to any concerns relative to near and longer-term supply, a separate FT headline article, Saudis deluge US with oil to curb price, reported that Saudi Arabia has recently contracted the largest number of super tankers in years, 11 in all, each capable of hauling 2 million barrels of crude. These tankers will be replenished by the largest increase in Saudi pumping capacity in the last 30 years. According to the FT, over the next few months: “…they will deliver a wall of oil with a single aim: to bring prices down.” The destination of these tankers is the U.S. Gulf coast. Saudi Arabia is also increasing its own supplies of crude within storage tanks located in Rotterdam, Egypt and Okinawa.

These moves are reported to be part of a longer-term Saudi strategy to maintain a very large buffer of spare crude capacity available to support global markets.  In the parlance of supplier management, the largest supplier is responding with a significant upside capacity response.

How successful this Saudi response is in driving down the current high prices of crude remains to be seen, but this effort deserves mention and praise.  The Saudis have a belief that $100 crude is a reasonable level to support world markets, and with an experienced knowledge of supply and demand principles are about to call the bluff of market speculators.  The rest is up to refiners and associated retail markets who will, without any further unexpected supply disruption, find themselves with lots of crude inventory.

In our view, commodity and procurement professionals need to stay informed and up-to-date on this latest development and on the forthcoming dynamics of oil markets. Transportation and distribution teams should be asking their commodity teams for more frequent updates in the coming months, particularly before major 3PL and transportation contracts are renewed.

Market dynamics concerning oil and energy supplies are going to be interesting to say the least.

It would be interesting for readers to share their perceptions as well.  Are you planning for higher or lower energy prices for the remainder of 2012?

Bob Ferrari

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

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