For the major players in the third-party logistics (3PL) industry, 2016 was a year of modest growth. This year could turn out better for them: Participants in my 2016 survey of 3PL chief executive officers (CEOs) were generally optimistic about prospects for 2017, forecasting an average revenue growth rate of 7.85 percent for the year. The experience of many of those companies in the first quarter of 2017 was quite positive and on track with those projections. Some were inclined to increase their projections based on their expectations that post-election corporate tax cuts and major increases in infrastructure spending would trigger greater economic growth. However, those initiatives have yet to gain traction in Washington.
Despite that positive outlook, 3PLs currently face a range of concerns, including the growing need for costly new technology, the advent of new competition, uncertainty surrounding U.S. political developments, and cybersecurity challenges, among others. How they prepare for and respond to these challenges will affect their success in the near term and beyond.
Confronting constant change
Many large 3PLs are increasingly devoting resources to keeping up with the rapid pace of technological change, not only in terms of their desire for greater operating efficiencies, but also in response to customer demands. The marketplace wants to see improvements in areas such as visibility technology, mobile applications, cloud-based solutions, and digital freight-matching services. At the same time, some 3PLs are considering more extensive use of robotics and warehouse automation in their facilities to remain competitive. They are also increasingly using data analytics, not only to support their own initiatives, but also to assist customers in seeking supply chain efficiencies. Unfortunately, the cost of keeping pace with rapidly changing technology is substantial, and many 3PLs are hard-pressed to finance these technology upgrades. The larger competitors are investing heavily in technology to differentiate their services, and this is steadily raising the capital threshold to participate in this market segment.
While most 3PLs tend to focus on a limited number of industry verticals that typically include electronics, automotive, and fast-moving consumer goods, the explosive growth of e-commerce has made that sector an increasingly important part of their revenue base. In my 2016 3PL CEO survey, the respondents reported that, on average, e-commerce accounted for 14 percent of their revenue base, and that those revenues had grown by an average of 18.5 percent in the previous year.
However, the pace at which the e-commerce market is changing and the magnitude of the investments that are necessary to meet customer requirements pose serious challenges to 3PLs. Retailers continue to focus on shortening the last-mile delivery cycle while expanding free shipping and free returns programs. That has resulted in a dramatic increase in the cost of fulfillment, not only for the retailers, but also for the 3PLs servicing that market. It's difficult, though, for 3PLs to recover those added costs. The expenses incurred by these omnichannel retailers have reduced or, in many cases, eliminated their margins. In turn, that has led them to resist price increases by carriers and 3PLs.
Amazon.com Inc. continues to be the main driver of e-commerce, but other large retailers, such as Wal-Mart Stores Inc., are responding to Amazon's market challenge. The overall retail marketplace will continue to be chaotic as e-commerce volume grows, brick-and-mortar retailers struggle to right-size their store networks and develop omnichannel strategies, and many large retailers fail. While all this is occurring, Amazon has been opening convenience stores, bookstores, and grocery stores—and even announced its acquisition of grocer Whole Foods Market. Meanwhile, third-party logistics companies that are intent on expanding their share of the e-commerce market can anticipate significant challenges, particularly as the last-mile delivery segment, which some 3PLs covet, is becoming increasingly crowded with new entrants ranging from small, niche players to Amazon, Google, Uber Technologies Inc., and Lyft Inc.
The 3PLs that made major acquisitions during the 2014-2016 period are now in the process of integrating the acquired companies into their organizations. That is typically a difficult and costly process. The end result of such acquisitions often includes an expansion of the acquiring companies' service offerings and geographical coverage, accompanied by a reduction in competition in certain markets impacted by those acquisitions. While the pace of acquisitions has slowed somewhat, more are likely this year. CEVA Group Plc, which has a substantial debt load, has been put on the block by its owner, the private equity firm Apollo Global Management LLC, and is attracting interest from several possible suitors. Several other large 3PLs are rumored to be in play. However, there appear to be no bargains in the current marketplace.
Many 3PLs generate substantial revenues from supporting import and export activities and operating in foreign countries, and the "America First" policies of the Trump administration now threaten the stability of that segment of their business. Trump has rejected U.S. participation in the Trans-Pacific Partnership (TPP) free trade agreement, threatened to blow up the North American Free Trade Agreement (NAFTA), wants to renegotiate the provisions of the free trade agreement signed with Korea, and wants "better" trade deals with China and Germany. Many observers fear that this posturing and threatening could trigger a global recession. This climate is particularly troubling to those U.S.-based 3PLs that have already invested substantial funds in Mexico to develop local infrastructure and/or support the projected growth of cross-border traffic. Trump's threats have led some of those 3PLs to at least temporarily limit further investments in that market.
Looking forward, 3PLs should also be concerned about cybersecurity and terrorism. In late June, A.P. Møller-Maersk reported serious disruptions of its operations due to hacking, as did FedEx's TNT Express unit. Such disruptions not only increase costs, but also potentially seriously damage long-term customer relationships. As a result, 3PLs' security and recovery costs are likely to increase substantially in the coming year.
So far the third-party logistics industry has been spared from any significant terrorist activities. However, the fact that terrorists have been using motor vehicles in their attacks should be taken seriously by 3PLs. Many have not focused adequate attention on addressing business-continuity risks such as natural disasters, and the costs of that lack of attention have been substantial. Responses to my 2016 3PL CEO survey indicated that many 3PLs do not consider their companies to be at risk for terrorist attacks. (See Figure 1.) That is not particularly aligned with the realities of today's world, and it should be the cause of great concern. As we've seen, with 3PLs facing a number of market pressures, political uncertainties, and potential threats to their business models, they're increasingly exposed to financial risk. While opportunities for growth remain significant, clearly this is no easy time to be in the third-party logistics business.