Importers Lost Their Pricing Power. How Should They Adapt?

The good news for U.S. importers: Demand for consumer goods continues to boom. The bad news: Shipments from Asia face massive delays and even when cargo finally arrives, it costs so much to transport that profit margins are slashed. The worse news: The shift in the balance of power from shippers to ocean carriers does not look temporary.

To better understand how importers should adapt to this challenging new landscape, American Shipper conducted an in-depth interview this week with Jochen Gutschmidt, vice president of global supply chain advisory services at Copenhagen-based Sea-Intelligence. 

Before joining Sea-Intelligence in December, Gutschmidt worked on both sides of the fence: bringing ocean carrier knowledge to the table from his years as a Maersk executive and shipper insight from his time as global head of freight at Nestle. 

Outlook for spot rates

AMERICAN SHIPPER: Trans-Pacific spot rates have been stuck in a record-high band for eight straight months. And there are still so many tailwinds: strong consumer demand buoyed by stimulus, very high accumulated savings, inventory restocking — and coming up next, the traditional peak season. When can shippers expect any kind of material relief on spot rates?

GUTSCHMIDT: "Spot rates went up and stayed there. They look like they will continue to be strong. All the capacity is deployed and I fail to see any groundbreaking probability of change in vessel and equipment supply. On the demand side, all the indications are that demand will continue to be strong.

"But I do question whether American consumers can spend significantly more than what they're spending today, whether it's for back-to-school goods or the Christmas season. I expect spending will shift, from whatever is being bought now to back-to-school goods and then whatever is going to be under the Christmas tree. Even with stimulus, I don't think the people that make up the majority of the spending will have significantly more incremental spending power to push this demand up even further. Demand growth has already been incredibly strong.

"If I was forced to give a guesstimate [on when trans-Pacific spot rates would moderate], I would say the beginning of Q4, or during Q4, but I'm really just guessing."

AMERICAN SHIPPER: The longer-term question is: Should U.S. importers plan for a new normal for spot rates that's higher than pre-COVID?

GUTSCHMIDT: "Well, obviously the rate levels we have now will not last forever. They will come down. Whether to 2014 levels or 2015 levels or something else, I don't know.

Asia-West Coast spot rates are more than triple rates seen in 2020 and 2019 (Chart: FreightWaves SONAR. To learn more about FreightWaves SONAR, click here.)

"But if we look back over the last two years, carriers have demonstrated that they are much better and more agile with capacity management. I personally expect carriers to practice this very diligently going forward and manage their networks and available capacity when there is overcapacity. I believe they will try to remain in a [freight] seller's market for as long as they possibly can.

"We have seen that ambition before, but it failed because they weren't so good at capacity management. Just talking about the top 10 carriers, quite a few have been culprits. While some retained a certain rate level, others thought they could fill up their ships by doing it cheaper, destroying the market. Could this happen again? I imagine it could, but I think it will be less likely than, say, five years ago.

"Nobody wants to burn their fingers again. I think carriers have all learned that in the long run, nobody wins. And if earnings are as pathetic as they have been in the last decade for carriers, then obviously, shippers and other trade participants suffer too."

AMERICAN SHIPPER: Shippers became used to those extremely low ocean rates during the carrier price wars of the past decade, but that led to a lot of disruptions, most notably, the collapse of Hanjin Shipping.

GUTSCHMIDT: "A lot of shippers out there appreciated the lower rates, but the invoice they pay to the carrier is just one element of the true cost of the whole operation. It's not just about purchasing [ocean freight] at the lowest rate. It's about having liquidity throughout your supply chain."

Changing dynamics for contract rates

AMERICAN SHIPPER: Let's turn to contract rates. U.S. importers faced a very different negotiating season this year. Extremely large year-on-year rate increases are being reported for annual contracts. What happened?

GUTSCHMIDT: "Ideally, before you go to market, you should have already determined who you want to work with in terms of transportation service providers because you're experienced with their organization and their responsiveness. Going to market should only be the necessary sequence of actions that eventually determines the price — unless you are an absolute market player that just goes for the lowest rate. And I think the shipper community should be honest with itself: Over the last decade, many did exactly that. They had this opportunism in what was then a buyer's market and basically just went for rates. And the harder people played by those rules, the harder they are being hit now. Because in spite of everything and in spite of digitalization, this is still, to a large extent, a relationship business."

AMERICAN SHIPPER: On the other hand, even if shippers were more relationship-focused, many still didn't get the allocations they wanted this year because carriers make more money by increasing their spot exposure.

GUTSCHMIDT: "If the carriers you've been working with constructively and collaboratively for years do not allow you to execute your strategy because they have a different go-to-market strategy and want to play the spot market more, then of course, you have to ask what's going to happen in the next contract cycle or whenever things normalize. How strained will some relationships be? I think a lot of relationships will change in 2022. I'm quite sure of that."

Rising importance of volume forecasting

AMERICAN SHIPPER: Now that we've fully transitioned from a buyer's market for ocean freight to a seller's market, what's your advice to shippers in terms of adapting to the new market dynamics?

GUTSCHMIDT: "I personally believe that every shipper should have the ambition, regardless of what the market dynamics are, to be a reputable, trustworthy partner to its transportation service provider.

"We've come out of a decade that was a buyer's market and a lot of folks thought, ‘I can do anything. It doesn't matter.' But the market reality now is that it has clearly gone to a seller's market. And in this market, carriers will do whatever they can to make as much money as possible, as long as demand is strong and supply is limited.

"Therefore, as carriers negotiate with you, they will be as strict as possible in holding you to your MQCs [minimum quantity commitments]. That means that if you want to ensure maximum capacity — and right now the thing everybody's after is capacity — you want your biggest possible, or biggest manageable MQC. And in order to manage this MQC, you need to have the capabilities to do so.

"If you overforecast and underdeliver in the current market, you will be off the boat in no time. Carriers will say: ‘This is not what we agreed to.' Likewise, if you are overdeliver in today's scenario, they will definitely curtail you.

"This [forecasting capability] will be incredibly important for as long as the current market dynamics are what they are, and even after the pandemic implications fade away. Even as we approach something we could call normal, carriers will retain this focus on your commitment.

"So, you should invest in building a capability to see your business better and understand your flows and know what is happening, how it is happening, when it is happening — call it integrated business planning. The better you are at this, the more empowered you are to make serious contracts with transportation service providers and deliver on your MQCs. Therefore, the more trust you will build on the carrier side, the better positioned you will be when negotiating your contracts, the smoother your operations will be and the less problems you will have."

The urge to upsize inventories

AMERICAN SHIPPER: There is a huge issue with ocean transportation delays this year. If the margins on the imported goods allow it, the most obvious importer strategy to avoid empty store shelves might be to just bring in as much as possible and store more goods in warehouses. Do you think importers will bring in whatever they can to defensively bolster inventories?

GUTSCHMIDT: "That's the million-dollar question. I think it depends on the industry. In the apparel industry, it's like they say in the news: ‘Don't give me old news.' If you don't hit the season, you can't sell it or you have to sell it at an incredible discount. That applies to garden furniture stores and other stores as well. There are huge industries out there that are very seasonal. There are also basic supplies that are consumed throughout the year.

"But obviously, you want to be on the shelf. Being on the shelf or not is the moment of truth. And that [buying forward inventory] is the typical reaction in situations like this is. It's what we've seen in the U.S., where they first sold out and now there is almost panic ordering of goods.

Propriety index of booking volume as of the day of departure for the U.S. shows import loadings have continued to increase through late April (Chart: FreightWaves SONAR. To learn more about FreightWaves SONAR, click here.)

"American importers are in a very, very difficult situation with all the congestion at the ports and vessels at anchor. They have to react to that, so I believe, yes, of course, for some folks, ordering more and more frequently is the option. This will obviously come at a cost, including the cost of warehousing. Crises increase costs. That is always the case.

"You will see people adapt very, very quickly. Already, they know the average time between when the vessel arrives until it takes a berth. They know how long the discharge process takes and the average dwell time to get their stuff out of the terminal. I'm sure a lot of the folks in America have already adapted to a new reality, which is a crisis reality. We always talk about the new normal. This crisis has been going on for so long already that this is already somewhat the new normal."

For some, an existential threat

AMERICAN SHIPPER: If importers face higher inventory costs and higher ocean transportation costs, this raises an even bigger issue: Can some U.S. importers, particularly those selling low-margin goods, pass along these added costs, and if not, do they need to reexamine their business model?

GUTSCHMIDT: "As usual, the answer is just as broad as the American economy. I certainly think that some businesses are under scrutiny from the perspective of ‘can I be successful in this environment of transportation costs?' There are some folks whose businesses are at stake because the product cannot afford these high costs.

"Some importers will pass the cost along to the consumer immediately. Other importers will be able to absorb the cost, until a certain point when they will have to hand it over to the consumer. The longer this lasts, the bigger the level of pain. If you're paying an extra $1,000 [per container] and you do 1,000 containers, that's already $1 million. That's a big number. Every controller is going to say, ‘Where is that million dollars in my P&L?'

"The pain point will be different from business to business, but there will eventually be a pain point where they say, ‘OK, I want that million back in my P&L,' and they hand it over to the consumer. And then, if prices go up, you can argue that this is a contributing factor to what you may call inflation."

AMERICAN SHIPPER: It sounds like the longer this situation lasts, the more likely it is for there to be long-term implications for the business models of U.S. importers.

GUTSCHMIDT: "In my view, that makes total sense. I don't want anybody to go out of business — we're all here to make a living. But to be very brutal, maybe there are some businesses that were only enabled, at the end of the day, by unsustainably low prices — extremely low transportation prices, especially in global ocean. Prices that had been so low that carriers were seriously challenged to generate any kind of return.

"If that enabled a business to buy extremely cheap, low-margin stuff manufactured somewhere in Asia and sell it somewhere in America, then, I know this is hard to say, but maybe those businesses shouldn't be there in the first place."

Click for more articles by Greg Miller 

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