Outsourcing Boom Ahead?

Dec. 21, 2004
Two studies show opportunities for third-party logistics providers, if they can meet shippers' demands.

Logistics outsourcing appears to be poised for a new wave of growth. Results of a survey of shippers by the New York investment banking firm Lazard Frres & Co. LLC indicate that the practice of contracting with a third-party logistics (3PL) service provider to perform supply-chain-management functions is still in its infancy. Participants in the Lazard Frres study, who work for companies of all sizes and represent nearly every domestic industry, indicate that they currently outsource only 20% of their transportation functions/logistics. Fifty-one percent still manage their entire transportation function in-house. Big companies, however, appear to be ready to outsource. In the Lazard Frres study, large shippers said they plan to increase the percentage of functions they outsource from 37% to 73% over the next five years. Such an increase would support the 3PL sector's current growth rate, which analysts from U.S. Bancorp Piper Jaffray Inc. pegged at a very healthy 30% annually as of October 1999. Asked which logistics activities they outsource or are considering outsourcing, the shippers ranked customs processing as the most suitable function to be outsourced. Warehousing, inbound transportation, and information systems also ranked high on the outsourcing list. A survey conducted by the University of Tennessee reveals similar findings. Outbound transportation and warehousing tied for first place on the list of activities most frequently outsourced. At the bottom of the Lazard Frres respondents' list of outsourced functions were sourcing and purchasing, inventory management, finished goods inventory deployment, and client order processing. "We suspect the asset-intensity of warehousing makes this function a popular one for our respondents to outsource," says Gregory Burns, a vice president at Lazard Frres. "We were somewhat surprised that information systems ranked fourth. This may indicate that the market is beginning to recognize the value-added of information systems to overall supply-chain management. Our survey also suggests that information-technology capability is likely to become increasingly important as a selling point for 3PLs in winning new business." As shippers recognize the value of IT services, they're demanding more systems capabilities from their 3PL providers. In fact, lack of technology has become a barrier to entry in the 3PL field, according to Douglas E. Christensen, president and CEO of USF Logistics, a 3PL provider in Long Grove, Ill., that is a subsidiary of U.S. Freightways Corp. "The technological investment that a 3PL has to make, whether you're a full-service provider or specialize in one functional area, is significant enough that not everyone can afford to get in or stay in the business. We're talking about millions of dollars of investment, and the only way to get a return on that is to provide real value to the client." Technology must contribute more than it has in the past, Christensen adds. "It has to provide real-time visibility of inventory not just in the warehouse, but in transit to the warehouse and to the customer. It must manage transportation from multiple locations, and manage cross-docking activities in the context of total inventory management. And with e-commerce, visibility is critical. It's no longer sufficient to have batch integration with the warehouse. You have to have real-time integration to the nanosecond." Technology is one of the factors responsible for the emergence of a new class of 3PLs -- the lead logistics provider (LLP). The LLP is a technologically rich, complete service provider that manages supply-chain and logistics processes as a whole, rather than simply managing individual logistics functions/activities. "LLPs offer integrated supply-chain-management software, business process reengineering, systems implementation and integration, and value-added, information-based services such as order, inventory, and vendor management," explains Chris Newton, an analyst with AMR Research Inc., Boston. As e-commerce continues its explosive growth, more shippers will turn to 3PLs to provide some form of e-commerce services. Leading 3PLs, in fact, see e-commerce as an area of opportunity. USF Logistics, for example, launched USF eLogistics last October. The new business unit "is capable of fulfilling the logistics needs of the growing online business-to-consumer marketplace," Christensen says. When it comes to picking a 3PL service provider, participants in the Lazard Frres study said price is the No. 1 determinant. Cost/inventory savings, product/business expertise, and technological capability also were mentioned. "Those 3PLs that offer price-competitive solutions, and demonstrate clear cost savings along with industry expertise, are likely to achieve a higher success ratio on new logistics bids than 3PLs that lack these attributes," Burns suggested. What benefits do shippers derive from using 3PL providers? The Lazard Frres group cited reduced need for personnel (42%) and reduced transportation/distribution costs (20%) as the two biggest benefits. Other pluses include improved customer service capability and shortened order cycle time. The University of Tennessee respondents cited a number of improvements resulting from outsourcing:

  • Logistics costs were reduced by 11.8%.
  • Logistics assets were reduced by 24.6%.
  • Order cycle time was cut from 7.1 to 3.9 days.
  • Overall inventories dropped by 8.2%.
Asked whether their 3PLs were helping their companies meet specific strategic goals, University of Tennessee study respondents answered in the affirmative. For example, 99% of respondents said their 3PLs aided in asset reduction, strategic/operational flexibility, reduction in employee base, insulation from restrictive labor environment, and geographic expansion. Satisfaction with 3PL providers dipped noticeably in the Lazard Frres study from 1998 to 1999. In 1998 36% of respondents said they were very satisfied with 3PL performance, but in 1999 that dropped to 21%. "Somewhat satisfied" responses increased from 25% to 28%, but "somewhat unsatisfied" increased from 0% to 21%. "The 49% satisfaction rate (the total of very satisfied and somewhat satisfied) is disappointing, and may indicate growth problems for 3PLs . . . if the decline continues," Burns cautioned. Interestingly, the University of Tennessee findings were considerably more positive. When asked "Did you get what you paid for?" 88% of the 3PL users reported being extremely or somewhat satisfied with their 3PLs. On a sector-by-sector basis, customers in the chemical (95%), medical (92%), and consumer products (89%) industries reported the highest levels of satisfaction. What caused the dissatisfaction among the shippers responding to Lazard Frres? Nineteen percent cited "overpromises service capabilities" as the biggest negative. Lack of service capability (17%) and poor information /data collection ability (17%) also ranked high. "Survey results support our view that global capabilities and access to a global freight network will become increasingly critical to winning new business and a major source of competitive advantage for successful 3PLs," Burns says. "We expect strategic alliances and financial combinations of domestic 3PLs and international forwarders to accelerate in response to this market demand." Such global alliances are, in fact, critical to the success of 3PLs positioning themselves as LLPs, asserts Newton of AMR Research. "Most LLPs have core competencies in IT, transportation, warehousing, or freight forwarding -- but not in all four," he notes. "To be successful, LLPs must be able to identify, acquire, and manage alliances with outside service providers such as 3PLs, systems integrators, management consultants, and software vendors." Presently, few 3PL firms "are what you'd call real global providers," says Cliff Lynch, executive vice president of the Continental Group, a logistics consulting firm in Memphis. "We continue to have companies that operate in a lot of countries but don't necessarily tie it all together." Like the Lazard Frres shippers, the University of Tennessee participants listed lack of IT advances as a significant problem, with 40% of respondents reporting problems. In particular, the study indicates that the IT-related areas most in need of improvement are:
  • Real-time delivery information flows
  • Systems integration
  • Electronic data interchange (EDI)
  • Internet capabilities (e-commerce)
  • Real-time supply chain information/visibility.
Finally, how responsive were the 3PLs to resolving problems? Where the 3PL was responsible, only 32% of University of Tennessee respondents indicated that problems were resolved in a timely manner. However, when the problems were addressed, the solution improved the situation in 65% of the cases. Companies have some clear expectations for 3PL performance. For example, they want outside logistics providers to continue to develop e-commerce and IT-related capabilities. Whether or not a company realizes significant benefits from outsourcing depends to a significant degree on the relationship it builds with the 3PL. "The best relationships are win-win, where both parties achieve success, and both companies really understand how to partner at every level," notes Christensen. "If the relationship is properly structured, a 3PL can deliver tremendous value. Some of the biggest savings we generate come from strong relationships at every level that allow us to find creative solutions to supply-chain issues."

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