Storm clouds ahead - Logistics Industry may not be in good health for long

Companies specialising in providing logistics services have done well in recent years, but the future prospects for the industry are not so certain according to independent market analyst Datamonitors (DTM.L) latest research Logistics Benchmarking and Profiler 2006.

It reveals revenues for third-party logistics providers (3PLs) have continued to rise, driven by an improved economic climate and companies outsourcing non-core activities to try and reduce costs. However, the report concludes that knock-on effects of economic factors, oil and the collapse of the Doha round of trade discussions may cause significant problems for this sector in the near future. Moreover, while the unique Global Scorecard included in the report rates each logistics company and shows there are clear leaders, it also reveals that a number will have to alter their strategies in the future in order to survive.

Revenue growth for the top players in third party logistics provision (3PLs) grew 41% in 2005

Following the significant effect on economic growth and international trade from set-back of September 11th and the SARS virus in 2003, the major economies have recovered well. This has had a significant effect on global trade as demand has increased in the majority of the affluent countries. The volume of exports from Asia-Pacific has continued to rise, while the raw materials required in the Far East for manufacturing has meant that imports have been sucked in. Though the main economic engine remains the US, significant growth has been seen in India, Russia, the previously comatose Japan and China - the manufacturing base of the Far East.

Nevertheless, in the hypercompetitive global economy, companies have continued to try to keep costs at a minimum, including the outsourcing of non-core activities such as logistics. Consequently, global spend on third-party logistics (3PL) services reached EUR178 billion in 2005*. In Europe the proportion of logistics spend on outsourced logistics services reached 44% and average revenue growth for the top players in 3PL provision increased by 41%. Although this figure was distorted by acquisitions - in particular Deutsche Post purchasing Exel - organic growth was still strong.  For example, excluding Exel from Deutsche Posts results still shows that revenue improved by 1 billion in 2005.

But not all companies have fared well

Both TDG and TNT Logistics recorded year-on-year declines due to operational difficulties worryingly this was the third successive year-on-year fall for both. Furthermore, even the companies who have seen large increases in revenue have not necessarily translated this into an improvement in their bottom lines, as average operating margin slipped from 3.4% in 2004 to 2.7%.

According to Chris Morgan, Datamonitor logistics analyst and author of the report, there are two main drivers for this. The first has been the dramatic increase in oil prices, which has raised transportation costs. Although a proportion of this rise has been passed on to customers, some of this has inevitably eaten away at profitability, says Morgan. The second problem is the low pricing power of the 3PLs. Even after the latest wave of M&A, the logistics market is still highly fragmented. Datamonitors research shows that only four European players have a global market share in contract logistics of over 1%.

In spite of this, Datamonitors research reveals consolidation at the top of the industry has created a three-tier market. In the first tier is DHL due to their acquisition of Exel, while behind the market leader in the second tier are Kuehne & Nagel and Schenker. What is noticeable is that all three have used an acquisition strategy to strengthen their positions in the market. The remaining companies occupy positions in the third tier of varying security. According to Datamonitors Morgan while some have identified profitable niche markets to exploit such as Christian Salvesen in the UK food sector it is debatable whether even these are sustainable long-term positions, as customers are increasingly becoming global in both their scope and their demands. Consequently, further merger and acquisition activity is inevitable. 

Two major challenges that determine the industry

There are two major challenges that face the industry in the near future. The first is the overall state of the global economy. Fears have switched from the future of the US economy to the potential rise in global inflation as the high price of oil is now beginning to flow through. Countries have been quick to try and quash this pressure by raising interest rates, but this may potentially dampen future economic growth, especially if rates are increased too much.

The second challenging factor is the potential knock-on effects of the collapse of the Doha round of trade discussions. While the short-term effect of the breakdown in talks may seem minimal, the inability of the participating countries to agree on trade issues may have significant repercussions for current trade patterns and free trade as a whole, says Morgan. Indeed, the EU had already moved to limit the importing of several categories of apparel from China in order to protect local producers, and further similar decisions cannot be ruled out. Consequently, while recent 3PL financial results suggest that the logistics industry is still in a healthy position, economic and trade factors may cause significant problems for the sector in the near future.