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December 15, 2017
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Prepare for volatility

Comment
Today's relatively soft market won't last forever. Now is a good time for shippers to take a fresh look at their airfreight networks with an eye toward the future.

As we enter the second half of 2014, change appears to be on the horizon for the airfreight market. The combined pressures of increased capacity and shippers' "air freight as a last resort" mindset drove prices down through the beginning of the year. Despite those pressures, improved economic activity is apparent in many sectors of the market, including domestic transport. This is important not only because of air freight's position as a closely aligned member of the transport industry, but also because it is widely monitored as a leading indicator of economic activity.

It's hard to imagine that over the next few years demand growth will result in higher rates. Wide-body capacity has been growing because of high demand on the passenger side of the industry for that type of aircraft. In most markets, capacity will continue to outpace even the highest expectations of demand growth. For that reason, 2014 and 2015 are expected to finish out like the past few years, with relative softness in rates. (See Figure 1.)

Article Figures
[Figure 1] Projections for demand, capacity, and rates
[Figure 1] Projections for demand, capacity, and rates Enlarge this image

Strategies for shippers
Most of our transportation sourcing clients recognize that they can get solid cost reductions in a weak market, and they have done a good job at that in the air market over the past four years. However, this year is likely to offer one of the last opportunities for shippers to strategically redesign their air networks. Economic activity is on the rise in most regions, and it's very likely that transportation rates in most markets and modes (other than air freight) will increase accordingly.

Lacking in most negotiations is strategic preparation for the next phase of the business cycle. Leading transportation buyers, however, are using this time in the cycle to realign their air networks to insulate themselves from the impact of inflationary markets in the future. Analyzing and truly understanding the nature of a company's airfreight demand can open the way for pre-buying of capacity (through block space agreements, for example) and move a supply chain away from reliance on what eventually will be volatile spot rates. We are seeing a growing number of conversations between shippers and freight forwarders about joint planning, which will enable more pre-buying up the value chain.

We have also seen several instances where a "total cost of ownership" (TCO) analysis showed that air freight is more cost-effective than ocean, especially for high-value goods. Going beyond transportation and factoring in costs like increased inventory, insurance, the risk of product damage, and other capital costs weakens the economic case for ocean shipping in industries like pharmaceuticals and luxury goods.

Changes in product design can affect shipping and handling requirements, yet few companies have in place a systematic process for reevaluating product specifications and their impact on transportation costs. However, it is worth taking the time to verify that service requirements are properly aligned with the products being shipped. Collaboratively challenging long-standing requirements in this way can uncover cases of overspecification; this provides an opportunity to reduce dependence on special transportation services and significantly reduce costs.

Many shippers are taking a fresh look at their mix of global, regional, and local service providers. By balancing the benefits of global scale and local expertise, they aim to better meet increasingly stringent cost and service requirements. This balance is continuously shifting as even domestic transportation industries become more globalized. Increased global leverage can ensure that smaller shippers receive the attention they need from their freight forwarders. Having a strategic, meaningful relationship will often mean the difference between receiving a rate increase or not.

A good time to make big changes
Now is the right time for supply chain managers to reevaluate their airfreight networks. Softness in the market has taken away some of the pressure to push every possible negotiation lever, freeing time in the discussions to focus on other ideas. Probably the best reason to undertake this reevaluation now is that the marketplace affords greater flexibility, allowing shippers to make bold changes to their networks without incurring big costs in the process. A decision to rationalize from 10 freight forwarders to two in Europe, for instance, won't cost much today. That won't be the case, however, when the market turns tight in the future.

Joshua Brogan is a vice president in the Analytics practice of A.T. Kearney, a global strategy and management consulting firm.

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