Coping With Adolescence

Dec. 21, 2004
Third-party logistics pace of change

Six years ago, the third-party-logistics (3PL) sector was still in its infancy. Total market size for the industry, which provides all manner of logistics/transportation management services for companies looking to outsource, was only about $10 billion. Today that number has risen to $50 billion and is growing by 20% annually. Some individual providers within the sector report growth rates far in excess of that average figure -- on the order of 50% to 60%. "These are good days for our industry," says John Williford, president and CEO of Menlo Logistics, a 3PL firm in Redwood City, Calif. "Were in a very dynamic business thats rapidly changing. This segment does not behave like a transportation business. Its pace of change makes it look much more like a high-tech industry." As with any growing industry, the 3PL sector has gone through many changes as it moves into adolescence. At the moment, 3PL providers break out into four distinct kinds, explains Richard Armstrong, editor and publisher of Whos Who in Logistics, A Guide to Third Party Logistics Providers. These four groupings are:

  • Domestic non-asset-based firms.
  • International non-asset-based firms.
  • Transportation-based firms.
  • Value-added warehouse-distribution-based firms.
Profitability within these four segments is very different, according to Armstrong. Based on his tracking of the top 25 to 30 players, Armstrong found that the most profitable segment is the domestic non-asset-based group. Tied for second place in profitability are the transportation-based companies -- those that perform dedicated contract carriage -- and the international non-asset-based providers. Finally, there are the value-added warehouse-distribution-based providers. The difference in profitability between the most and least profitable segments is about nine points, Armstrong notes. Interestingly, though, the growth rate for the last group is the highest of the four. "That high-growth segment offers a lot of newer services and features that its probably still under-pricing," notes Armstrong. "Secondly, because they are offering newer kinds of services, they may not be performing them as efficiently as possible. We would expect that, as this segment matures, its profitability will increase." Most 3PL observers think this emerging industry will continue to grow rapidly. Ed Straw, president of Ryder Integrated Logistics Inc. in Miami, points out that only 50% of the 1,000 largest U.S. companies have outsourced any part of their supply chain. Additionally, companies that have outsourced one or two areas are expanding their use of 3PLs. "Many large users are looking for a single source to reengineer/operate the supply chains," Straw notes. "They want a lead logistics manager with full supply-chain capabilities." Other growth will come from overseas expansion. Foreign subsidiaries of U.S. nationals, for example, represent a robust opportunity. This fact is reflected in a recent survey of 250 key executives in top U.S. corporations by Penske Logistics. Fifty-five percent of respondents said global logistics capabilities must be in place for a 3PL vendor to properly service their company. Because of this requirement, more and more providers are expanding to overseas operations. As it grows, the 3PL sector is changing, largely in response to forces affecting the users of its services. Steve Robinson, logistics director for Fritz Cos. Inc., a 3PL firm in San Francisco, outlines four forces that affect users:
  • Build-to-order and build-to-demand. Customers are more demanding, expecting greater selection of products, styles, and options to the extreme where product is customized for each order.
  • Shifting inventory ownership farther back on the supply chain. Globalization has created an extremely competitive market for supplying materials. Companies buying goods are leveraging their volumes with suppliers to eliminate inventory ownership.
  • Demand for information. The complexity of supply chains coupled with the increasing number of JIT manufacturing programs requires that information is detailed and readily available.
  • Shrinking time frames. Companies must be able to change sourcing and distribution patterns quickly. This means 3PL providers must have an extensive global network supported with highly trained personnel and advanced information technology.
Most 3PL firms are turning to strategic alliances in order to meet customers complex needs. These alliances spread the capital investment across multiple parties and shorten the time required to deliver solutions. "After studying the issue, we concluded that no one 3PL could do it all at acceptable investment/capability/price levels," notes Ryders Straw. "So we opted to expand our services and our global presence and to close capability gaps with alliances, joint ventures, and acquisitions." In its alliances, Ryder acts as the lead logistics provider and orchestrates the efforts of all alliance partners. Menlo Logistics has adopted a similar course. "Our strategy is dependent on a good set of partners," says Williford. "We dont have just one partner in Europe or one in China for all our customers. Different solutions require different strengths, so we choose our partners based on what strengths we need." Given the business forces at work, what specifically do 3PL users want from their providers? State-of-the-art technology is a must. "Customers want more sophistication and more functionality, delivered faster and cheaper," the Menlo president reports. "Many are going to some form of ERP installation. As they do, they rely on 3PLs to deliver the logistics IT functionality and have the expertise to link it with their ERP systems." In fact, the proliferation of ERP systems worldwide is one of the biggest forces of change affecting the 3PL sector, according to Robinson. "As these implementations occur, companies need external solutions to address logistics needs that are not addressed in core ERP systems processes," he observes. "They look to the 3PL community for these solutions, and the 3PLs are responding with significant investments in systems capabilities. Such investments are expensive and are in direct conflict with the continued customer demand for lower cost of service. Balancing these two issues poses a long-term challenge for the industry." Second, 3PL customers want their providers to solve broad, complex problems, a challenge the 3PLs are now able to meet. "Four years ago our industry was being questioned about our operational skills," recalls Williford. "We were questioned on our operational discipline, process management, and ability to deliver consistent reliable solutions. That has disappeared today." It has disappeared because, during the last five years, the industry has focused extensive energy and resources on developing strong operational processes and methods, management-training programs, expertise in managing start-ups, and more efficient administrative procedures. The next level of challenge for 3PLs is being able to bring new creative solutions to clients. "Our customers are saying to us, Deliver new value regularly to us and keep us in front of our competitors," the Menlo executive notes. "Logistics is a noncore area for these companies, but it also is very important and strategic. They want to be better than their competitors. When you outsource logistics, the risk is that youll lose the drive to be better than your competitors. We need to make sure we can deliver that." Progressive 3PL users have begun to measure their providers on creativity. "They are not looking for a one-time improvement," says the Menlo chief. "They expect long-term continued reduction of costs or significant improvements in service or cycle times." Ryders Straw adds that customers expect 3PLs to offer significantly more advanced information-systems capabilities that not only give them better supply-chain visibility, but also allow them to plan and coordinate complex supply-chain activities. "Were getting better at delivering continuing value, and because our projects are getting more complex, we have more opportunities to do better over a long time," observes Williford. "When we started out, we won a lot of narrow projects. Its nearly impossible to keep improving those over time. After all, theres only so much you can do better in running a warehouse. Now were doing more open-ended projects, so there are a lot more opportunities to improve over time." Nontraditional services that full-service 3PLs offer today include:
  • Inventory planning, management, and deployment.
  • Sourcing and production planning.
  • Merge-in-transit network design and operation.
  • Reverse logistics (returns, recycling, etc.).
  • Flow-through production support/metering.
  • Network simulation.
At the same time that 3PLs have become more sophisticated, so, too, have their customers. Buyers of 3PL services "recognize that price is not the sole criteria in their decision process and that an optimal balance of price, services, and quality provides value in a partnership" says Robinson. They understand their own business better, so they are better equipped to identify exactly where and how a 3PL provider can help. As with any emerging industry, consolidation is inevitable in the 3PL sector. "Right now there are way too many companies trying to sell logistics services," asserts Williford. "A lot of these companies are trying to sell with an undefined focus. Because of that, many are not making any money. That leads to consolidation. We see companies scaling back or selling their operations over the next couple of years, and we expect to benefit from that process. Well be left with clearer industry segments." One of those segments, says Williford, will be the integrated-logistics segment that handles multifunction, technology-based, open-ended types of projects. There will be a handful of companies in that area. Then there will be asset-based providers and industry-specific or niche providers. Going forward, the key issue for 3PL firms and their customers is where and how providers can add value to a companys logistics/supply chain. "The customer is really driving toward global solutions," notes Williford. "Theres a lot of money to be saved by managing globally." 3PLs must continue to beef up their information-systems capabilities. "We have to be able to deliver more functionality, faster and cheaper," says Ryders Straw. Finally, 3PL firms must deliver world-class supply-chain engineering and execution. "Our future," concludes Williford, "is in having people who think creatively about supply-chain design and management."

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