CSCMP's Supply Chain Quarterly
October 19, 2018

Shifting currents

The coming year could bring both changes and opportunities for buyers of ocean transportation services.

Even though the labor disruptions on the U.S. West Coast for the most part seem to be behind us, we shouldn't expect a return to business as usual. Financial and economic conditions as well as geographic routing developments will likely make the next year one of significant change for users of ocean transportation services.

Carriers have adopted a "bigger is better" attitude for the past decade, and evidence increasingly supports the notion that scale, at both the vessel level and the overall company level, can create competitive advantage. Maersk, one of the better examples of this trend, returned to profitability in 2014, while carriers that have focused on operational efficiency, such as APL, have posted losses. In an era of declining freight rates, Maersk's revenue has continued to grow at the expense of smaller carriers. (However, while optimizing the scale of their own fleets and networks can be a successful strategy for individual companies, it may not benefit the industry as a whole; when all the carriers do this, it results in overcapacity.)

Article Figures
[Figure 1] Shifting routes benefit New Orleans
[Figure 1] Shifting routes benefit New Orleans Enlarge this image

Relatively cheap financing will enable the industry to build scale through merger and acquisition activity. We saw the first major deal at the end of 2014, when Hapag-Lloyd and CSAV merged to become the world's fourth largest carrier.

A series of uniform rate increases earlier in the year caught the attention of regulators; however, the current rate war on the Asia-Europe trade indicates that carriers do not yet have the ability to set pricing, at least not for long. This should remove the prime objection to further consolidation and pave the way for approval of future merger activity. Carrier alliances have shifted and will continue to do so over the short term. The Ocean Three (O3) Alliance and P3 Network entered the scene as short-term agreements. Regulators will continue to have concerns about the price-setting strength of these agreements, but what we see in the market should calm those concerns. For instance, the Ocean Three canceled an entire service in the Asia-to-Europe market in advance of peak season—indicating that even large alliances lack the power to influence the market by managing vessel deployment and setting rates at a level that allows them to be profitable. Even with the O3 and others removing services, capacity in the Asia-Europe trade lane is up 8 percent year-on-year, according to some estimates. Market forces, it appears, continue to have the upper hand.

The industry as a whole also continues to invest in organic growth, ordering bigger, more efficient ships in an effort to build market share and profitability. The research and analysis firm Alphaliner reported that through the first half of 2015, newbuild orders are up 60 percent compared to last year. As these ever-larger vessels displace smaller ships from rotations, carriers have kept their excess ships laid up, waiting for better market conditions. Since better market conditions have remained elusive, carriers are becoming more creative in how they address chronic overcapacity.

More routing options for shippers
A recent trend has been to introduce new services to smaller ports in an effort to differentiate service offerings in niche markets. Although the advantage is often short-lived as carriers rush to add similar port stops, the impact is clear: Mid-size and smaller ports are enjoying significant growth in container traffic. As shown in Figure 1, the Port of New Orleans, for example, saw close to double-digit traffic growth in 2014; with the West Coast port labor strife driving traffic elsewhere, it is poised to have a strong year again in 2015. The port is increasing its capacity by more than 30 percent in expectation of gaining additional traffic in the future.

The introduction of additional discharge ports is a welcome development for shippers in the United States that are facing an extremely tight trucking market. Getting product closer to the customer and increasing the efficiency of trucking assets, especially in markets such as Boston, Philadelphia, and Houston, means shippers have less exposure to domestic rate and capacity fluctuations. The Panama Canal infrastructure work should be completed by the second quarter of 2016, opening the way for significantly larger ships and transforming the balance in supply and demand for Asia-U.S. Gulf and Asia-U.S. East Coast lanes.

Increasing the number of routing options increases the complexity of managing and optimizing an ocean network. Accordingly, more shippers are investing in visibility tools to better manage their inventory. Traditionally, visibility for the ocean shipping industry has meant knowing when and where containers were expected to arrive. Now, visibility is beginning to be integrated at the stock-keeping unit (SKU) level to provide real-time information at supply planners' fingertips.

Strategic sourcing of carrier services has become more complex as well. Negotiations have moved away from discussions on a handful of key lanes to a strategic focus on networkwide optimization. Approaches such as collaborative optimization apply analytics to allow carriers to provide input on new routings and services, while optimization tools determine the best allocation of business across modes, ports, and service strings to support the shipper's logistics strategy. Over the past year, leading shippers have increased the robustness of their ocean networks, improving service reliability and transit times while removing 10-20 percent of the cost. Additionally, shippers have reinforced their commitment to building strong relationships with carriers—relationships that often have meant the difference between receiving special treatment and containers being rolled to the next sailing.

Today, shippers are enjoying a market that continues to offer increasing flexibility at generally soft prices. Carriers, meanwhile, are creating benefits for themselves by increasing their scale. As the industry consolidates and carriers build market power, the market appears to be in a sustainable period of rate equilibrium, although this will not last forever.

Joshua Brogan is a vice president in the Transportation practice of A.T. Kearney, a global strategy and management consulting firm. Lars R. Eismark is a partner at the global strategy and management consulting firm A.T. Kearney.

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