How to Build a Solid 3PL Relationship
For a third-party logistics engagement to realize its full potential, both the provider and the user need to bring something to the table.
by John Kerr -- Supply Chain Management Review, 12/1/2005
Famous last words: “We thought we had a very well-defined contract.”
Those words are from a top manager at a major third-party logistics provider (3PL) brought on to run a consumer-product company’s distribution center not long ago. The 3PL had indeed spent time up front detailing both the contract and the terms of the relationship. But they were blindsided by how different things turned out to be in practice. The distribution center’s order volumes were far higher than the company had indicated. Its SKU count and order makeup were very different, necessitating much more labor and steeper learning curves—and incurring higher costs all around.
This particular story ends well: Senior managers at the client saw the problem and stepped in with remedies that allowed the 3PL to stabilize and subsequently improve operations at the distribution center. But not every third-party engagement has a happy ending. There are many situations where a customer’s unfamiliarity with logistics best practices or a reluctance to share demand data causes pain and prevents the relationship from yielding the results both partiers had expected.
In short, shippers and other customers of 3PLs have an obligation to collaborate with those from whom they expect full collaboration. It really does take two to tango.
By all accounts, there is still plenty of stepping on toes. More than 70 percent of companies still view their 3PLs as “tactical service providers,” according to the “2005 Third-Party Logistics” study by The Logistics Institute (TLI) at Georgia Institute of Technology. “The key to a successful relationship between providers and users is whether customer expectations are properly aligned with the appropriate 3PL business model and relationship structure… yet users expect their 3PL provider’s capabilities and advanced services to continually expand,” says the report.
Brooks Bentz, an associate partner with Accenture’s supply chain management practice, confirms that true collaboration all too often remains an elusive concept: “There isn’t nearly as much collaboration up and down the supply chain as people would like to see. Most people on the shipper side still think that if they can get the 3PL at the right price, they can get the services they want. It’s a what-are-you-going-to-do-for-me-now mentality.”
That’s already a risky mentality for most U.S. shippers. A host of convergent factors threaten to inflate their supply chain costs, increase their operational risks, and narrow their logistics choices. For a start, fuel costs keep heading north. According to the government’s Energy Information Administration, diesel will cost nearly 5 percent more per gallon in 2006 than in 2005. The American Trucking Associations has launched a “National Fuel Price Crisis Watch” to gather information for use in its lobbying efforts. At the same time, there is a growing shortage of truck drivers—a demographic trend that is exacerbated by the tighter hours-of-service regulations that now govern drivers’ time spent behind the wheel.
Increasing demand is another pressure point. Overall, demand for logistics services remains strong—a situation that isn’t expected to ease as long as economic growth continues to outstrip capacity expansion. “In some markets, it’s extremely tight, and the demand bulge is still heading our way,” says David Mabon, a senior vice president at the U.S. contract-logistics division of Kuehne & Nagel. That’s reflected in the health of the 3PL sector: Total revenues for the sector in the United States climbed more than 16 percent from 2003 to 2004, reports research firm Armstrong & Associates, which also publishes an annual list of the top 3PLs. (See Exhibit 1.) Adding to 3PLs’ leverage is the consolidation in the sector, evidenced in activity such as Exel’s acquisition of Tibbett & Britten and UPS Supply Chain Solutions’ purchase of Menlo Worldwide Forwarding.
3PLs have more choices
The emerging picture is that 3PLs have plenty of choices of whom to do business with. Professor Robert Lieb, supply chain management professor at Northeastern University and lead author of an annual study on the status and prospects of the 3PL industry in North America, puts it this way in the latest report: “In recent years, the pressures exerted by the economic slowdown and lower-than-expected profitability led a number of large 3PL providers to focus on the quality of existing accounts. This naturally raises questions concerning the perceived characteristics of high-quality customers.”
Lieb and his co-researchers asked 3PL executives to develop a profile of a high-quality customer based on the customer attributes they would rank most highly. By far the most frequently cited attribute was “a willingness to establish a collaborative working relationship with the 3PL provider.”
“Cost savings from aggregating purchasing power with your vendors have probably run their course,” observes Mark Walker, vice president of transportation at C.H. Robinson. “So now we’re down to the hard part, and that’s collaboration: ensuring that the shipper’s objectives and behaviors are in alignment with the objectives and behaviors of the logistics provider.”
Most 3PLs freely point to the collaborative efforts and capabilities of leading shippers, and they acknowledge how much progress has been made. But the providers still deplore the continued price pressure they face, and they see plenty of paradox in users’ escalating demands for more services more quickly. It is particularly frustrating in situations where the customer’s organization is split among functional silos, notes TLI report author John Langley. Managers at the top logistics providers have plenty of stories about client companies that have gaping disconnects between planning and execution. There are the stories of warehouses having to rebuild a pallet load to be expedited immediately, or where the sales function, benefiting from fresh demand data, changes orders right up to the last minute—independent of what production may be ready for.
3PLs are deploying a range of tactics to push back. C.H. Robinson, a leader in the domestic transportation management sector, puts out periodic economic bulletins to customers charting macroeconomic trends and tracking relevant developments such as driver shortages and fuel prices. Robinson is typical of the many large providers that are moving toward more consultative selling, to the point of evaluating formal for-fee consulting operations. Others, such as Kuehne & Nagel, are proactively sourcing more of their key customers’ supply chain data. “We’re even going back into their inbound raw materials pipelines. They may not consider it useful information, but we may be able to tie it all together,” says sales and marketing chief Mabon. In the collaborative spirit, Kuehne & Nagel also has identified key responsibilities of a good customer that can enhance the 3PL relationship. (See Exhibit 2.)
As a rule, 3PLs are becoming much savvier about what they get themselves into. At the start of new engagements, Schneider Logistics—typical of the large providers that have longtime relationships with sophisticated and collaborative customers—still draws on a formal statement of expectations that runs to more than 15 pages. And at UTi Integrated Logistics, managers roll out an advanced quality planning process that helps minimize risks for both parties.
Experience is also helping 3PLs to identify trouble ahead of time. (See accompanying sidebar, “Customer characteristics that raise red flags.”) Mark Rourke, Schneider Logistics’ general manager of transportation management, points to a particularly dangerous flag: “If the customer doesn’t have a full-time project manager whose job this will be, you just might want to run the other way,” he says.
But if there is one underlying theme that comes through the 3PLs’ list of red flags and ideal customers, it is that their customers must get much better at relationship management. “Many outsourcing failures have occurred because there is no bona fide relationship management process,” says Elijah Ray, senior vice president for customer solutions at UTi. “You’ve got to have a system and a process to have a collaborative relationship. How many companies have systematic processes to manage relationships that are crucial to performance results?”
Seven Building Blocks
So what can 3PLs reasonably expect of shippers these days? Let’s look at seven key areas:
1. Improve visibility of demand.
It goes without saying that the more the 3PL customer can improve the accuracy and predictability of demand-side forecasting and production forecasting, the less reactive the logistics processes need to be. It’s one thing for a 3PL to learn that a shipper will have 100 loads a week. But if 80 of those loads are on a Monday, that’s quite another thing. Similarly, a customer’s plans for new products and services can have a sharp impact on its supply chain performance. The 3PL should know about these plans in advance; unforeseen adjustments can be expensive, and time may not allow the change, regardless of the costs.
2. Share more knowledge. Two-way communication and knowledge sharing is so pivotal to success that it should begin well before a 3PL contract is signed. To enable the third party to be as effective as possible, the customer needs to share information about factors such as existing infrastructure, materials sourcing, IT capabilities, order management processes, and so forth. “If the infrastructure and strategies are established, and then we are asked to merely execute, obviously we can add less value than if we were able to help design and build the network for maximum efficiency,” says Mike Fielden, president of supply chain services at Pacer Global Logistics.
3. Provide access to management at many levels. Good communication and engagement at all levels is a characteristic among 3PLs’ best and most successful customers. Says The Logistics Institute’s Langley: “The more visibility the 3PL can have with the customer’s executive team, the better the relationship will be.” One way to help institutionalize such communication is through customer councils, held monthly or quarterly. “It’s an effective tool not only for reviewing past and ongoing performance issues and standards, but also to discuss the organization’s future direction,” says Pacer’s Fielden. “With some of our customers, we are looking at a three- to five-year horizon. When you can share ideas about the future, you know you have a good relationship.”
4. Focus on total cost. It’s tremendously helpful for both the 3PL and the customer to focus on the total landed cost of the customer’s product, and not just on one element, such as a specific transportation rate or a per-unit warehousing charge, notes Fielden. “We need to work together to optimize efficiency on behalf of the entire supply chain, regardless of who’s paying the bill,” he says. Similarly, if the customer has recently outsourced a logistics function to a 3PL, the customer should remain interested in the total landed cost rather than assuming that “cost” is now the 3PL’s problem.
5. Appoint a logistics champion. Customers can transcend the silo mentality and internal politics by appointing a “champion” who can help knock down internal barriers. The champion may take the form of a small team or task force.
6. Re-evaluate the deal structure. As the scope of 3PL contracts widens to cover integration of multiple logistics services, traditional transactional agreements no longer work well. There is increasing interest in deal structures that allow 3PLs to share both the risks and the rewards. Although “gain-sharing” is not a new concept, logistics providers and their customers are getting better at administering and measuring performance using key performance indicators, with incentives tied to improvements in the performance of the overall supply chain.
7. Upgrade staff skills. If a provider’s staff members are being expected to add value, the customer should also participate actively in the development of specialized knowledge relevant to the logistics activities. C.H. Robinson’s Walker cites one customer that put several of its key staff into a relationshiptraining program. After the staffers had visited the company’s carriers, the relationships improved tremendously. “Sometimes just sitting down face to face makes all the difference,” he says.
So are relationships between 3PLs and their customers getting better? “With the best-in-class users, we are seeing a lot more collaboration,” observes Steve Szwast of UPS Supply Chain Solutions. They are consciously improving their relationship-management skills when evaluating and hiring 3PLs as well as when they are managing the provider. But there’s still plenty of tactical activity—customers that prefer to tell their logistics provider when their 100 trailers are ready to move to another distribution center, say. There will always be providers who will take the more tactical jobs, such as hauling the freight or running the warehouse—but for more and more shippers, that’s no longer where competitive differentiation lies.
The 3PLs are becoming much better at what they do, notes John Langley of The Logistics Institute. They’re managing logistics over wider geographic areas, integrating technologies (customers’ as well as their own), developing new management tools, and adding broader capabilities. Best-practices shippers already understand that 3PLs act as invaluable extensions of their businesses and therefore deserve to be treated as such. Increasingly, the shippers’ financial performance reflects their collaborative approach.
John Kerr is special projects editor for Supply Chain Management Review.
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