Comment: Combat margin erosion in five steps
Buzzwords like digitization, artificial intelligence, IoT, big data, predictive algorithms, and drone deliveries have dominated each logistics conference I have attended over the last five years.
In reality, most freight forwarders and logistics providers still operate on 30-year-old legacy systems. The crown jewel of their IT applications is MS Excel.
Simultaneously, we are witnessing the disruption of the logistics industry through new technology and new players. According to Forbes, a new digital logistics start-up is born every five minutes – this translates to 288 digital logistics start-ups every single day, or just over 100,000 per year.
The introduction of these start-ups increases competition and contributes to margin erosion.
Although customer expectations have increased, a number of logistics providers still operate on legacy systems. These providers face increased costs-to-serve because legacy systems require workarounds and manual intervention.
On the other hand, we witness rate volatility in both air and ocean freight. Volatility is produced because markets no longer behave according to the principles of supply and demand. A decade ago, rate levels could be predicted a year ahead; however, this is now not reliably possible.
So, what can you do to combat margin erosion?
Part One: Market Positioning & Sales Strategy
Your market positioning essentially determines your level of profitability and your level of specialization required. There are four pillars represented in the chart above: industry sector, customer type, geography, and trade lane.
Among these pillars, you want to focus on those industry segments, customer types, geographies, and trade lanes that can provide you with higher profitability than others. For example, focusing on hi-tech industry rather than commodity traders will likely return higher margins.
Should you then focus on multinational customers or on local SMEs? In which geographies should you execute your business?
Generally, your customer type and size both have an impact on your productivity and profitability. Furthermore, niche and emerging markets tend to be more profitable than highly competitive and mature markets. Finally, you want to target trade lanes that generate higher margins than others, e.g., exports to US inland points vs. imports ex China.
Throughout these four pillars you also want to see a sustainable product mix. Air freight and LCL tend to generate higher margins than FCL. Door-to-door deliveries, including customs clearance at both sides, are also usually more lucrative than focusing on port-to-port or airport-to-airport movements.
Lastly, do you deliver any quantifiable value to your clients, or you focus on purely transactional clients, where all you do is offer a rate and a payment term. Obviously, your chances of success increase by quoting lower rate levels and longer payment terms.
But is this a sustainable business model?
First ask: can you quantify your value, i.e. do you reduce the cash-to-cash cycle and working capital intensity, take complexity and costs out of your client’s supply chain, reduce lost sales, and ensure optimal inventory levels?
If you can quantify real value, you should be in a good position to demand management fees per shipment, which are higher than margins generated with transactional clients.
Part Two: Governance & Risk Prevention
Now that you have defined a sales strategy/positioning for sustainable margins, you need to ensure you have no leaks in your bucket. Manage to prevent one-offs, such as fines and penalties, and protect yourself (and your profit margins).
Customer Contract Management
You need to ensure that the majority of your business is executed against limited liability contracts and that your limited liability is covered through relevant insurance policies.
When it comes to claims management, you want to ensure that you limit commercial settlements. Instead, settle according to your limited liability terms (usually international conventions).
You should avoid fines from late tax/VAT reporting and comply with audit requirements as well as local labour laws. Ensure you fully understand and are compliant with the requirements of establishing or liquidating legal entities in other geographies.
Ensure you are compliant with local legislation, and when dealing with multinational clients, compliance with FCPA and UK Bribery Act is an absolute must. Non-compliance in this area cannot only lead to your organization’s termination, but you might be prosecuted personally.
Since logistics providers facilitate global trade, it is equally important to be compliant with EU and US Denied Party Lists’ sanctions, as well as FMC regulations, if you operate as a NVOCC.
Part Three: Organizational Design & Business Process Optimisation
What does ‘optimizing your organization’ mean, and how can it help you combat margin erosion?
Review and simplify your organizational structure
Do you employ managers who have fewer than four direct reports? I suggest you revaluate whether you really need these managers.
The aim is to create a flat organizational structure with empowerment of the frontline and with an increased span of control, e.g., the number of direct reports reporting to a manager.
There is no golden rule as to what number of direct reports is ideal. The amount very much depends on the organization and the role of the manager. It is, however, likely that there is an opportunity to take layers out of the organization in order to improve agility, effectiveness, efficiency, and, ultimately, reduce costs.
Business process optimization
When was the last time business processes were amended in your organization?
Probably, it was quite a while ago.
When you optimize business processes, the aim is to simplify them and introduce standardization whenever possible.
Most logistics providers have the ability to report tracking and tracing events digitally through their websites. Often you find that there is either no focus on data quality in the organization or that the level of customization for each client is too great.
For example, the system can report 10 standard events, but 15 are sold for customer A, 12 for customer B, and 21 for customer C. Both data quality and the absence of standardization make system usage obsolete and result in numerous individual tracking and tracing Excel worksheets, which are updated by the operations and customer service teams and then sent out to clients daily, weekly, monthly, etc.
In these cases, harmonization between the commercial and product departments is required so that, ideally, mostly standardized event reporting is offered and executed through the system.
As you optimize and simplify business processes, you want to pay particular attention to repetitive, non-value adding tasks, such as pure data entry tasks, which do not really require intelligent human intervention. Highlight these tasks for the next step.
Part Four: Centralization of repetitive, non-value adding tasks
With tech and AI more advanced than ever before, there’s never been a better time to centralize non-value adding tasks to prevent margin erosion.
As you optimize your business, you will have highlighted repetitive, non-value adding tasks in the process.
You now want to centralize these tasks for two reasons:
- Once you centralize these tasks, you will be able to realize immediate productivity gains.
- More importantly, you can now outsource/offshore these tasks to service centers in labour cost attractive countries, or, ideally, deploy RPA (robotic process automation).
These software robots literally work 365 days per year, 24/7, never fall sick, and do not (yet) negotiate their salaries on an annual basis.
I have witnessed cases where one software bot assumed the work of 15 employees. This does not only have a positive impact on personnel expense, but also on data quality and timeliness. Moreover, your employees can focus on value adding tasks.
Part Five: Create a culture that fosters highly engaged and motivated employees
In the logistics industry, personnel expense is usually the highest cost factor with personnel expense ratios anywhere around the 50% mark.
With that in mind, it is alarming to see that approximately 86% of the workforce in the MENA region is either not engaged or actively disengaged (i.e. disruptive).
Focusing on creating a culture that fosters highly engaged and motivated employees is therefore imperative.
Introducing performance management tools will help you create a transparent environment in which employees are aware of both organizational goals as well as personal objectives. Not only do you want to reward performance, ideally you want to reward over-performance.
According to Gallup, top-performing organizations achieve the following, versus low-performing organizations:
- 17% higher productivity
- 20% higher sales
- 41% lower absenteeism
- 70% fewer employee safety accidents
- 40% less shrinkage (a polite word to describe theft)
Ingo Kloepper is the Founder and CEO of Top Logistics Management, a logistics advisory specializing in improving the profitability of logistics businesses.