Reprinted from DC VELOCITY, November, 2004
Will this party ever end?
The third-party logistics industry sailed through a recession, only to bump up against the business equivalent of a rocky shoal. But even that hasn't dampened its leaders' enthusiasm.
THROUGHOUT ITS RELATIVELY SHORT existence, the third-party logistics (3PL) industry has shown itself to be an unstoppable force, racking up double-digit revenue gains in a market where most companies were happy just to stay afloat. Still, that's no guarantee of clear sailing ahead. Like all logistics industry players, 3PLs today face a dizzying array of challenges, including the push to tighten security in a post 9/11 world, the migration of manufacturing and assembly operations to China, and retailers' looming RFID compliance mandates.
To find out how 3PLs are tackling these problems, DC VELOCITY Senior Editor John R. Johnson went straight to the top, polling five well-respected 3PL executives:
He asked them each four questions:
1. How are third parties getting involved in the war on terror?
2. What steps are they taking to meet the RFID challenge?
3. How will China's emerging role in the world economy affect the 3PL community?
4. What will the industry look like when the merger and acquisition activity finally dies down?
Here, in their own words, is what they said:
RISKY BUSINESS: THE SECURITY CHALLENGE
Q: As the United States steps up its war on terror, the government has concentrated its attention on logistics providers' security practices. What steps are 3PLs taking to protect cargo in the post 9/11 world?
Ann Drake: We are committed to securing our facilities, employees, and our customers' products against terrorism and other risks. At our logistics centers, we have enhanced security systems, detailed security reviews, and internal audits on a regular basis, as well as security audits by our customers. We meet frequently with local authorities to educate them on our building and the products stored there. Our logistics centers include alarm systems, metal detectors, security guards, secured gates, and CCTV monitoring systems. We conduct employee training to maximize their general awareness of security issues. We use rigorous hiring standards and background checks to minimize security risks. Finally, we have complied with the food facility registration requirements of the Bioterrorism Act of 2002 and are pursuing C-TPAT registration.
Ed Feitzinger: Menlo Worldwide has handled high security products for years, including shipments for the U.S. military, and pharmaceutical and computer products. While these products were not exposed to terrorist activities, they are subject to theft and require higher-than-usual security. We continue to tighten our security measures in our warehouses and transportation networks, as well as to work with the FBI and other agencies to improve security of goods in transit. We have actively worked with various government agencies associated with Homeland Security to help them design practical security measures that protect our country and continue to enable effective commerce. Security, whether it thwarts terrorists, common criminals or organized crime, is becoming a bigger and bigger issue for our industry.
Cliff Otto: Like many of its competitors, Saddle Creek has taken a number of steps to increase security, particularly since 9/11. Our major campuses now have highly restricted access with 24/7 manned security. A remote back-up is in place for all systems, with redundancy on all data files. Drivers handling high-value commodities now operate with different rules to reduce the risk of hijacking. The depth of background checks for all employees, including temporary help, has been significantly increased. Our dedicated operations have taken similar steps based on specific customer requirements. Saddle Creek's customers are all more sensitized to security and terror prevention.
Scott McWilliams: We strongly support any and all initiatives for increased security. I am concerned, in fact, that current efforts in the supply chain are not yet being consistently applied across all stakeholders. As an example, OH Logistics is upgrading its security processes to bring them into alignment with those of other industry players, including air and ocean forwarders, customs brokers and carriers, that currently must meet the requirements of the Customs- Trade Partnership Against Terrorism (C-TPAT). Though CTPAT is promoted as a joint initiative between U.S. Customs and business, there is no requirement for 3PLs to be certified under the program. I am in favor of efforts by Sen. John McCain (R-Ariz.) and the International Warehouse Logistics Association to correct this regulatory oversight.
Dave Mabon: Kuehne + Nagel participates in a variety of U.S. government security initiatives, including the CTPAT program. The company is C-TPAT certified and has successfully completed the validation process with U.S. Customs. In addition, Kuehne + Nagel has upgraded its security procedures, policies and facility specifications to ensure protection of its employees and our customers' valuable product. Among other things, investments have been made in training, customer and employee identification systems, warehouse security and regulatory compliance.
TAG OR LAG: THE RFID DILEMMA
Q: It's clear that the RFID revolution is upon us. Though retailers have mainly targeted big suppliers when handing down RFID compliance mandates, wider use of RFID tags is inevitable. How are 3PLs preparing for this challenge?
Ann Drake: In the near term, 3PLs are developing relatively low-tech slap and ship solutions for a limited number of SKUs, at only a few locations, with limited volumes. This is strictly a compliance approach to satisfy customer RFID mandates. It is very expensive both in terms of the cost of the RFID tags themselves, as well as the labor necessary to affix the tags. In the mid term, 3PLs will need to learn how to integrate RFID into supply chain processes. In particular, once manufacturers begin affixing RFID labels to case cartons at their manufacturing plants, 3PLs will need to learn how to scan each inbound and outbound case. For supply chains that largely think in terms of pallets, this will be a significant change. DSC has met with customers and WMS vendors, purchased hardware and begun testing RFID labels.
Ed Feitzinger: Menlo Worldwide has been an active participant in the passive RFID environment, including operating two of the first high-volume RFID warehouses in the United States. Third-party providers should be on the leading edge of the passive RFID revolution, as we play a key role in enabling the RFID-driven supply chain. Unfortunately, many 3PLs have taken a tactical, reactive approach rather than investing and jumping out front to help unlock the value in RFID for their customers.
Cliff Otto: RFID implementation will impact the entire supply chain, including 3PLs, which will be the point of origin for the RFID tag for a number of manufacturers, particularly in the short term. WMS systems must be modified to incorporate the required technology, including implementing middleware, in order to transmit information. Facilities will need to improve to accommodate portals, additional equipment will need to be added and employees will need to be trained. Saddle Creek is partnering with our customers to determine the most cost-effective way to meet RFID requirements. We have formed a team to monitor the technology and options available. Saddle Creek has large operations in Texas-where Wal-Mart is testing RFID-and we will be involved in the early stages of the RFID transition.
Scott McWilliams: We are making the investment in RFID today, despite continued concerns about its economic returns. In July, OH Logistics opened its RFID Compliance Center in Dallas, serving three Wal-Mart DCs. We are gaining valuable experience as we process shipments with RFID for select customers through this facility. Although the ultimate scope of the industry-wide RFID solution is not yet known, one thing is clear: Successful implementation will involve more partnerships than we have seen in the 3PL sector. The required investment and knowledge is simply too great for a go-it-alone approach. As such, we have partnered with International Paper and High Jump Software, bringing together multiple parties with the needed expertise.
Dave Mabon: We expect RFID to facilitate the further optimization and automation of supply chain and warehouse management processes. The technology's increased realtime capabilities offer an opportunity to complement barcode-based systems or even replace them. RFID will revolutionize the logistics industry. The identification, control and monitoring of shipments outside the line of sight will enable the design of even more efficient and reliable supply chains. Kuehne + Nagel currently is undertaking a number of RFID tests, including a trans-Atlantic project with Siemens Business Services. We are testing RFID across a supply chain from Munich to New York under real conditions. RFID frequency standards differ between Europe and the United States; the project will contribute to the development of common RFID standards.
A WATCHFUL EYE ON THE TIGER: 3PLs AND CHINA
Q: China has emerged as a force to be reckoned with in the world economy, with its ravenous appetite for consumer goods and its growing role as the world's workshop. What does that mean for the 3PL community?
Ann Drake: American companies are leveraging Asian countries like China as a source of low-cost labor. So the 3PL community needs to adjust and be willing to take a risk in changing how we do business with these manufacturers in order to be a player in the global economy. We have to overcome the geographic and cultural issues as well as the perceived financial risk. Those companies that already have an Asian presence are obviously further along in harnessing this business. Some 3PLs will partner with companies already doing business in the Asian market, and some 3PLs may choose not to directly be involved with Asian manufacturers. At DSC, we will handle this trend by adapting or becoming flexible in our supply chain management to accommodate the trend of reduced manufacturing business in the United States, or the increased distribution of Asian manufactured products.
Ed Feitzinger: China has a rapidly evolving 3PL market, though it is distinctly different from the more mature markets in the United States and Western Europe. Chinese customers don't use 3PLs because they want to outsource as a strategy-that's a relatively new concept to the country. Instead, they are purely making cost-based decisions on who can do the job cheaper. They are also much less sensitive to the value provided by information technology than higher-cost warehouse labor markets. China-based 3PL activity is more a pure cost game than you see in other markets, where larger players can differentiate through IT, process and other values. So making money as a pure 3PL in China is quite difficult right now; typically you have to bundle forwarding or other services with warehousing in order to create any margin at all for the provider.
Cliff Otto: Manufacturing and assembly operations will continue to migrate to China and other countries such as India and Pakistan. While Saddle Creek has no plans today to directly operate in those markets, we expect this to affect our business in a number of ways. The obvious impact is in the continued growth of imports to the United States from this emerging market, and the resulting warehousing and transportation opportunities that will be afforded us. This is increasingly not just a West Coast impact. We are just as excited about the packaging opportunities resulting from ocean shipping economics. Creating shelf-ready merchandising units for these products will be an expanding business for 3PLs in the United States.
Scott McWilliams: While growth of the Chinese market will continue to be strong, its dominance in trade has raised some concerns among forward-thinking players. Manufacturers and distributors are once again investing in other producing regions, including Mexico, Eastern Europe and South America. There is a growing understanding that though China has its strengths, it also has its weaknesses, including its distribution infrastructure, an unpredictable political climate and an unstable economic structure. Furthermore, the U.S. import network is under serious strain because of our reliance on Long Beach/Los Angeles as a primary point of West Coast entry. More import sources will help ease the stress on the flow of goods arriving by containership.
Dave Mabon: The further growth of China's economy is contingent on the ability of logistics service providers to offer cost-effective supply chain management. China's logistics industry has undergone dramatic change in recent years. The industry was once dominated by a few big stateowned enterprises, but recently domestic and international third-party logistics service providers have emerged. We anticipate that this growth will continue and that cultural issues will not prove an obstacle, especially for global providers. For example, in April Kuehne + Nagel became the first global logistics provider to be granted the legal status to own 100 percent of its operating subsidiary in Shanghai. After 12 months, the license will be extended to all K + N offices in China.
THE BEAT GOES ON: MERGERS & ACQUISITIONS IN THE 3PL INDUSTRY
Q: The 3PL industry's solid record of growth in good times and bad has attracted attention from investors, who have proved eager to finance an acquisition binge among third parties. What will the industry look like when the dust finally settles?
Ann Drake: Consolidation will continue to be a significant factor in our industry, but the venture capitalists and buyout funds will have limited interest in this trend. As a result of the consolidations, we will see bigger 3PL conglomerates and smaller players. The smaller companies with a niche will survive, as will those with very low overhead costs. The consolidation will have a positive impact on the industry, as the remaining companies will understand their costs better relative to the services they are providing, which will result in stabilization of pricing in our industry.
Ed Feitzinger: Some consolidation is good for the industry. There will always be local players, just as there will always be local forwarders that provide specialty services or serve very small projects that the larger players can't afford to sell to. Large companies continue to look toward global providers to provide a consistent 3PL service in the major regions of the world. Since most 3PLs have their strengths in one or two regions,we think you'll continue to see consolidation as larger global players acquire smaller regional players to provide a more comprehensive global solution. Companies are also purchasing niche specialists, like reverse logistics or spare-parts distribution in order to provide a more comprehensive solution for the customer and reduce the number of 3PLs a company needs to work with.
Cliff Otto: Consolidation in the 3PL industry, as in many industries before us, is an expected phenomenon and will continue. A number of players involved in consolidation are already actively at work to facilitate the process. However, we do not believe this trend in consolidation signals the end of opportunity for Saddle Creek or other mid-size providers. Most of our customers and prospects are not convinced that a single national or international provider is the best outsourcing solution. Creating value, as the customer defines it, is the key to winning in today's competitive market. It's our view that by successfully maintaining that focus, mid-size providers will continue to thrive.
Scott McWilliams: The market demands increased efficiency. Wellplanned consolidations offer opportunities to meet that requirement. With strong 3PL growth projected, venture capital and buyout funds continue to take interest in this sector. For the past several years, OH Logistics has embraced this trend and we will continue to grow through acquisitions that fit our strategic goals. Most recently we were able to enhance our ability to serve the food industry by adding the assets and expertise of Lanter Logistics to our organization. There will be a place for smaller 3PLs in the market, but they will need to have well defined niche capabilities. Large investments necessary in supply chain systems are expensive and difficult for a smaller player to bear. Overall, 3PL consolidation is a key change that will continue.
Dave Mabon: During the next few years there is an expectation that consolidation will continue but probably at a slower pace. It's likely that the third-party logistics space will be primarily made up of large global and regional providers, highly specialized vertical industry 3PLs and local companies. It will be difficult for mid-sized 3PLs that lack a well-defined value proposition and the advantages of strong financial resources to survive over the long term.
Meet the panel
Ann M. Drake
Chief Executive Officer, DSC Logistics
Since becoming CEO of DSC Logistics in 1994, Drake has guided the firm through a growth spurt that transformed DSC from a loose affiliation of 22 separate companies into a nationwide network of integrated logistics operations. Prior to being named CEO, Drake served as the company's executive vice president and as a member of the advisory board of directors. She received her undergraduate degree from the University of Iowa and her MBA from the Kellogg School at Northwestern University.
Senior Vice President, Sales and Marketing, Menlo Worldwide
Feitzinger joined Menlo in 2000 as vice president, technology and engineering, responsible for the strategy, development and operations of Menlo's information technology infrastructure. He has also served as senior vice president of Menlo Worldwide Technologies. Previously, Feitzinger was global supply chain manager for Hewlett-Packard. Feitzinger holds a bachelor's degree from Lehigh University and a master's degree from Stanford University.
Chief Executive Officer, Ozburn Hessey Logistics
McWilliams joined OHL in 1990 and was promoted to CEO in 2001. He has spent his entire 23-year career in the field of logistics and supply chain management, including stints with Kroger and Super X Food and Drug. McWilliams is vice president of the Southeastern Warehouse Association and is active in CLM, IWLA and WERC. He graduated from the University of Tennessee with a BS degree in logistics.
Executive Vice President, Saddle Creek Corp.
Otto joined Saddle Creek as executive vice president in 2001 when shareholders voted to bring in professional management to help run the family-owned business. He is responsible for company operations, including the warehousing and value-added business units. Before coming to Saddle Creek, Otto spent 11 years with CHEP USA. He holds a BS degree from the University of Kansas and an MBA from the University of Maryland.
Senior Vice President, Sales and Marketing, Kuehne + Nagel, Contract Logistics—U.S.
Mabon joined Kuehne + Nagel in 1995 as business development manager and recently was named senior vice president of sales and marketing. Past titles at K + N include vice president of supply chain solutions and vice president of sales. Mabon, who from 1989 to 1995 held several management positions at American President Lines Inc. (APL), earned a bachelor's degree in political science from Northwestern University.
Operationsinsight, John R. Johnson, Senior Editor. 3PL Executive Roundtable.
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