Will the climate of rising fuel costs affect margins in the Middle East logistics industry?
Fears of economic instability are surging higher with the continuing rise of the oil price. The weak dollar and the limited supply of fuel are two factors that are contributing to oil rising to over US$100 a barrel.
Businesses, particularly the transport industry, have suffered catastrophic effects from the incessant rise of fuel. Projections from the American Trucking Association (ATA) have recorded higher than ever fuel costs for this year.
The low margins in the trucking industry therefore mean that transport companies have to transfer the costs onto customers, affecting businesses and consumers all over the world.
The airline industry is also suffering heavily from fuel rates. Aloha Airlines shut down last year, and ATA Airlines filed for bankruptcy with both companies citing fuel costs as the reason for failure.
The Middle East aviation industry is also forecast to be affected as its profits are estimated at only $200 million this year, compared to $300 million in 2007.
Logistics companies are also digging deeper into their pockets due to the increase in petroleum charges. According to eyefortransport, higher fuel costs and a weak US economy have negatively impacted FedEx's third-quarter margins.
But what is the outlook for logistics companies in the Middle East? Surely they will not be hit as hard as America and Europe for example. After all, the Organisation of Petroleum Exporting Countries (OPEC), of which the UAE is a leading member, sits on the majority of the world's energy reserves.
Last year alone, the Gulf generated a $150 billion surplus from energy sales. Regardless of the region's high oil reservoirs, there are discrepancies in petrol prices throughout the Middle East, which is causing concern.
The increase in the cost of fuel over the past couple of years is alarming, says Frederick Lindblad, 3PL business manager of Gulf Agency Company LLC (GAC).
The cost of diesel by the gallon is around $13.10 in Dubai, whereas in Abu Dhabi it is $8.60, and in Saudi Arabia it is as little as $1.80," claims Lindblad. These variations in prices therefore predominantly affect businesses and consumers based in Dubai.
At the end of the day, as a logistics provider we have to ultimately increase our tariffs for our customers and it is the end consumers therefore that are predominantly going to be affected," he highlights. However, Lindblad sees this hike in prices as completely natural for an emerging economy.
Coming from Sweden, the operating costs in Dubai are not that much of a shock. The cost of living in Stockholm, or London, for example, are comparable to the costs now accumulating in Dubai," emphasises Lindblad.
Fuel costs have not reached the record levels that Europe is experiencing; nonetheless, Dubai's general inflation levels are reaching epic proportions.
I think we are seeing a dramatic increase in prices in the region due to basic economic methodologies, it all boils down to basic supply and demand," adds Lindblad. The demand in Dubai is outstripping the supply, which is causing high inflation, and therefore elevated fuel costs are occurring as a result.
If prices in the region continue to escalate, what can logistics companies do to absorb costs, aside from passing it onto the customer? GAC maintains the necessity for state-of-the-art equipment which is more fuel efficient. Another solution encouraged by Aramex is consolidation.
As a leading transportation provider we are always looking at processes like consolidation that can deter the rising cost of fuel as much as possible, and therefore broaden our customer base," demonstrates Hussein Hachem, Aramex's CEO for the Gulf region.
The company has found that the impact of high fuel prices has particularly affected the shipping and aviation industry. Land transportation is currently less of an issue for Aramex as regional costs of fuel are lower than in other parts of the world.
Nonetheless the high fuel rate is affecting trade both internationally and regionally, and if transport costs continue to rise it will put further pressure on how we conduct business in the region," worries Hachem.
There is no denying that inflation in the region will have an effect on businesses as the increase on fuel, as well as materials for the construction industry and the rise in salaries will force companies to reevaluate their profit margins.
The inflation in the region is having a snowball effect on businesses, suppliers and individuals in the Gulf," elaborates Hachem.
It is an issue for everyone but I think it is just a stage that any fast-paced economy must confront.
Even though our customers may have to pay a little extra due to the petrol prices, nevertheless the services and solutions that Aramex provides will add value to our clients' business, increase their productivity and ultimately enhance their margins," he affirms.
Al-Futtaim Logistics is also committed to protecting profitability by enforcing efficient strategies to save costs. "Although the increase in diesel costs has had a significant impact on our operations, particularly in Dubai, we are undertaking various activities to mitigate the effect," promises Martin Palmer, transport manager of Al-Futtaim Logistics.
The company admits that the large increase in fuel prices over the past one and a half years has forced them to pass part of the cost onto customers, but by no means all of it. "We have been able to absorb some of these costs by increasing utilisation of our vehicles through consolidations," enthuses Palmer.
Another method is through satellite tracking whereby we can monitor the performance of our drivers and avoid driving that incurs greater usage of fuel," he explains. Al-Futtaim realises the need to be rigorous in reducing costs to stay competitive in the Middle East market.
"Analysis is key to accessing costs and we adopt the Plan Do Check Action cycle (PDCA), which is commonly used by fleet companies to control costs," adds Palmer.
Whilst smart management can help logistics companies reduce the impact of rising fuel costs, businesses are also facing external pressures that they cannot always control.
The risk of the 'credit crunch' is likely to affect the value of the dirham to a certain extent and companies therefore need to exercise diligent planning to prepare for this. Al-Futtaim Logistics, for example, sources products from the Far East and Europe.
We need to ensure we create a long-term contract with our suppliers to reduce fluctuating prices for products, otherwise we will be confronted with increased costs of materials on account of the weak dollar," highlights Palmer.
Whether this will be sufficient is yet to be seen, but Al-Futtaim Logistics is certainly aiming to try and counteract the cost of fuel as much as possible.
The increasing price of fuel is a reality and is set to continue. "From my perspective, the demand for transportation in this market is increasing almost daily, which accumulates pressure on prices in the region," says Palmer.
This is not something that logistic companies can shy away from; instead they need to act quickly to ensure they continue to provide a good service to their customers, even if it is at a higher cost to the company and customer.
"Everyone in the world has their eyes on Dubai and the Middle East at the moment to see how we react, and therefore we need to act efficiently and professionally to stay afloat in the competitive financial market." The company needs to ensure that its prices are benchmarked against the best in the industry to ensure that it stays competitive.
Service level expectations are also what Al-Futtaim plan to focus on in order to stay buoyant in the market. "We do not necessarily pitch ourselves in the main market. We offer a specific type of delivery solution, a premium service that improves our margins," declares Palmer.
Al-Futtaim Logistics has confidence that the fuel costs, although detrimental to its operations, should not significantly affect its margins. However, Captain Mansoor Ghafoor, president of the National Association of Freight Forwarding (NAFL) sees no other alternative but to pass the rising cost of fuel onto customers in order to maintain margins.
"Logistic companies act as mediators between the shipping line and the trader, or the distributor or the manufacturer, so there is no doubt about it that they will have to pass the cost onto the end user," emphasises Mansoor.
However, the risk is that many regional operators are absorbing the cost, which could potentially cripple logistics companies. "Margins in the industry are already low, so if companies swallow the fuel increase themselves they are faced with a high financial strain," explains Ghafoor.
The fierce competition in the UAE and its encouragement in welcoming international businesses means small regional companies have to lose part of their margin just to secure the business.
"The cost of staff is increasing day by day and the average salary per person has almost doubled, so with that in mind the overall expense of companies is higher than a few years ago. Consequently, profits will be reduced in the region," Ghafoor observes.
If this problem persists, then local logistics companies will not be able to afford to stay competitive in the Middle East market. Although there are contingencies that companies can put in place, the worry is that these will not be sufficient in the long term.
"I don't think the fuel increase will slow down the logistics industry, as the quantities of movement in the region are huge; however, the danger is that the number of players in the logistics industry may rapidly reduce," concludes Ghafoor.