Basics of Fulfillment CLOSE

Introduction: Introduction to Fulfillment What Is Fulfillment?

You're wandering around the shopping center one day when a display in the window catches your eye. It's one of those classic retro shirts that are so popular. About a year ago, you saw a designer-label version, and it was ridiculously priced.

On a whim, you go into the store anyway. It looks just like the real thing: 100 percent silk, nicely constructed, and great colors. The brand name is new to you, but who really cares? You slowly reach for the price tag and to your amazement it costs about one-third of the designer versionfor basically the same shirt.

The salesperson walks up and asks, "Can I help you?"

"Oh, I was just admiring this shirt," you say. "I can't believe how good the price is."

"I know!" the salesperson says. "I don't know how we sell it at that price. I do know we're selling out every delivery in less than a week."

"In that case, I'll take two," you reply.

As you drive home, you're pleased but puzzled: Where did this great shirt come from? And how did it get to my local store at such a good price?

An investigation would reveal that the fulfillment process makes it possible to have the products you want in stock, at a price you're willing to pay. How does this fulfillment process work? This course introduces you to the basic definition, processes, and goals of fulfillment.

Now, let's get back to those shirts

To learn more about your new shirts, you start with the obviouslook at the tag. It reads: 100% Silk. Made in Thailand.

So, your shirt was assembled somewhere in Asia Pacific. But, one single country or facility didn't make your shirt. Let's take a look at the fulfillment process from start to finish:

The product is natural silk, meaning that your shirt started as the cocoon of a silkworm. More than likely, the cocoons were raised by farmers. Maybedelivered to a factory somewhere outside Chaiya Phum Province, in Thailand. There, silk was unwound from the cocoons, the strands collected into skeins, and the skeins bundled and packed into 60-kilogram bales.

The bales of raw silk are then shipped to a silk mill outside Bangkok, where they are woven into fabric. The fabric is then finished, dyed, and printed. At a nearby facility, the fabric is cut and sewn into the shirts you just purchased. Buttons from Viet Nam, labels and thread from Sri Lankaall come together to make the shirts.

The finished shirts are folded and packed into cartons, then sent to a consolidator who loads them into an ocean-going container along with other products. The container is sent via truck to the port, and then sent on a small feeder ship to Singapore for the long, overseas journey to the Port of Los Angeles via containership.

After the container clears customs in Los Angeles, it is sent to a nearby warehouse. There, the cases never even make it onto the shelves. In one door, sorted by retailer, and moved out the

other doorshipped to your retailer's distribution center in Reno, Nevada. There, the product is placed on hangers, price-marked, and sorted by store. It is sent by truck to the Denver store where you bought it. In fact, where you bought two!

Everything we just discussedfrom the silkworm farm to the store where you bought the retro bowling shirtare components of the supply chain's fulfillment process. Read on for more about the process of fulfillment.

The Fulfillment Process

Fulfillment is one of the three main processes in the supply chain, along with procurement and manufacturing. What is fulfillment?

"A process involving the movement and storage of ma terials, products, and information from point of origin to the final customerin a way that satisfies the customer at the

lowest cost, producing the highest value for the cu stomer."

Fulfillment coordinates all these effortsto move, mix, store, consolidate, assemble, label, and package items. Items arrive at the right place, at the right time, in good shape, and at reasonable cost. This is as complex as it sounds, as you can see in the figure.

Somehow, we have to get all these partieswith their own goals and profit motivesto coordinate. The common goal is for product, information, and payments to flow smoothly across the supply chain, through the fulfillment network. We also have to manage the costs that each fulfillment activity generates. True collaboration is needed to build smooth flows and cost-efficient processes. What happens if this isn't done? Unhappy customers, added hassle, and increased costs.

The Goals of Fulfillment

We seek out effectiveness, efficiency, and productivity in our fulfillment operations. Strategies and processes must balance these targets if we are to achieve the three goals of fulfillment.

Click the arrow to review these three goals.

Meeting the requirements of the customer for on-tim e and complete orders The customer is the focus of any good business and, therefore, is the driving force behind any fulfillment process. If a company can meet and exceed the customer's goals for fulfillment, it will often enjoy a strong competitive advantage.

Meeting customer requirements at the lowest possibl e total fulfillment cost Fulfillment activities are some of the biggest controllable expenses in a business. How big? In some cases, 20 percent of sales. That clearly merits close attention. By carefully managing fulfillment processes, companies can become a low-cost provider to their customers, which further enhances their competitive standing. The grocery industry is a good example. A penny saved on the distribution of a box of cereal to the retail grocer, if passed on to the grocer, could raise the grocer's net profit by as much as 20 percent, given the fact that grocery margins are only about 1.5 percent of sales.

Achieving customer service and cost goals while ear ning the highest possible return on assets invested in fulfillment operations Finally, attention must be paid

to the efficient use of assets used in the fulfillment process. Warehouses, transportation vehicles, handling equipment, computers, and officesall are major assets employed to achieve fulfillment goals. While high levels of service and low operating costs can be achieved by huge investments in fulfillment assets, the overall return on those assets may not be favorable. The object is to balance investment and return.

Seven Rights Make a Perfect Order

Where does the concept of quality come into play? The idea of good customer service is built on the expectation that we do everything right in the fulfillment process. And that means doing it right the first time. In this quest to provide quality service and satisfy customers, we focus on accomplishing the Seven Rights of Fulfillment. You could achieve the goals of fulfillment every time if every order were executed according to these seven rights. Doing it right the first time makes the customer happysaves the cost of fixing errors (wasteful rework)and doesn't require extra use of assets. Business has a big stake in pursuing the perfect order. In fact, many use "perfect orders" as a key performance indicator. (We'll talk more about this metric in the Measurement topic.) So, what exactly is a perfect order? Click the graphic on the left for an example

Think about the last order that you placed via the Internet or telephone. If all Seven Rights of Fulfillment were achieved, then you received a perfect order. What did your perfect order fulfillment entail?

The seller had your preferred product available for order, processed your order correctly, shipped the entire order via the means that you requested, provided you with an advanced shipping notification and tracking number, delivered the complete order on time and without damage, and invoiced you correctly.

You're happy, they've done their job right, and you have good reason to come back again in the future.

Introduction: Course Overview Course Content

The purpose of the Basics of Fulfillment course is to expose you to concepts and terms used in the fulfillment process. You will get insights into the strategies, processes, tools, and metrics used to meet fulfillment goals and aim for perfect order performance. After this topic, which introduces you to fulfillment and to this course, the course focuses on five topics. Each topic covers a process or concept that directly relates to meeting demand through fulfillment. Examples, activities, and brief cases are used to enhance your understanding. Click on each portion of the graphic for an overview of each topic.

Module Objectives

When you complete the Basics of Fulfillment course, you will have a better understanding of this critical supply chain process. You will know more about the role fulfillment plays in bringing value to customersits costsand its effect on return on assets. You will understand how a well-run fulfillment network can create competitive advantage. At the end of this course, you will be able to:

Understand the goals of fulfillment: great customer service, low fulfillment costs, and high return on assets.

Recognize key issues in fulfillment network design, transportation, and warehousing.

Describe how fulfillment strategies (like e-commerce's direct-to-customer delivery) drive network design.

Discuss the issues and strategies that drive transportation decisions: Which modes to usewhich carriersand doing deals across borders.

Describe the traditional and value-added roles of warehousing.

Discuss how technology enables fulfillment.

Understand why we measure and what the key metrics are.

Click Main Menu to select another topic.

Networks: Introduction to Design Overview

Take a simple, commonplace product, such as mints. You can find them nearly everywhere products are soldin grocery stores, vending machines, fuel stations, and restaurants. But, how does that candy manufacturer get the product to so many placesfrom large discount retailers in major cities to the smallest of convenience stores in rural locations? It takes an entire network of facilities to move the ingredients (sweeteners, packaging materials, chemicals, and the like) to the factory and the finished product to the marketplace. This complex web of suppliers, factories, transportation companies, distribution centers, and retail stores is what makes up a typical company's fulfillment network. (Click here for a general graphic of the fulfillment network )

This topic is an overview of key issues related to the design of fulfillment networks. We begin with a discussion of the role of networks and factors that influence network design. From there, we shift to a discussion of several different types of fulfillment strategies and explain their relationship to network designs. By the end of this topic, you will understand the logic behind the development of efficient, effective fulfillment networks. You will also be in a better position to recognize networks that could use some improvement.

The Fulfillment Network The fulfillment network is the framework for the fulfillment process. The size, shape, and arrangement of the parts have a bearing on the success of a company's fulfillment operations. Through this framework, products and information flow from their source point to demand points as the organization works to meet the fulfillment requirements of its customers.

The Goals of Network Design

The primary goal of fulfillment network design is to devise a set of linked facilities that support the three goals of fulfillment: customer service, low cost, and asset management goals. Thus, we need to meet the following objectives when designing or restructuring a fulfillment network:

The fulfillment network must effectively meet marke t needs A network must be designed to meet the demands of customersfor the right product, at the right place, at the right time. That means the right sourcing plan, the right number of warehouses in the right locations, and the right modes of transportation.

The fulfillment network must be cost-efficient The number and location of facilities in a network affect product and fulfillment costs. You have to design networks that support low-cost fulfillment by balancing the costs for transportation, warehousing, inventory, and lost sales.

The fulfillment network must be flexible A flexible network can serve customers with differingeven conflictingrequirements. A network that delivers only in container loads will lose customers who need just a pallet. A flexible network design takes advantage of your own assetsplants, warehousesas well as those of your suppliers to fulfill your customers' needs.

Fulfillment network constraints must be understood and addressed You must understand constraintson transportation capacity, mode, lead times, and so onto be able to work with them or around them. For example, if a yogurt manufacturer does not address transportation mode, lead times, and distances in fulfillment network design, store shelves will be bare while the yogurt spoils on the containership.

The Process

Fulfillment networks include nodes (facilitiesplants, distribution centers, stores) and links (transportation between the nodes). Network design is the process of selecting and arranging nodes and links.

Steps in the Network Design Process

Assess suitability of existing facilities. This involves an analysis of your current assetsplants, distribution centers, storesto see if any of them can help you achieve your goals. In this complex analysis, you look at issues like operating and fixed costs, throughput capabilities, and ability to service customers.

Determine the total number of nodes. One? Ten? Thirty? Is it economical to produce in several smaller factories, or can you get economies of scale with fewer factories? Here, a key question focuses on the number of nodes needed to help control transportation costs, yet still meet the service requirements of customers.

Determine the location of each node. Local? Across country? In another country? Location is important because it determines the cost of transportation. It also places limits on the ability to deliver what customers want, when they want it.

Assign products and customers to each node. What nodes should serve what customers? What if one group is equidistant from two different facilities? This analysis is complicated because of the number of possible configurations of the network, in terms of which customers are served from which locations. Simulations are often used to evaluate different scenarios.

Determine mode of transport between nodes (establis h links). How will it get to the customer? Train? Plane? Truck? Each mode has pros and cons as to cost and service. Mode should be selected based on a balance: total cost to the fulfillment network versus the impact on customer service.

Select carriers. Who should be selected to make the deliveries? Once the mode has been selected, choose specific providers within that mode based on their ability to meet the requirements specified for the fulfillment network.

Issues to Consider

In the network design process, complex questions arise. It takes a great deal of information to properly address and answer them. The graphic highlights the most important issues in network design. The challenge is finding pertinent information and being able to assemble it in a useful manner. To learn more about these network design considerations, click on each "Issues" box in the graphic.

Next, we look at the best ways to analyze all the data from the network design process.

Tools and Techniques

Network design projects vary in complexity. The range of tools you can use varies in complexity, too. There are high-powered optimization models contained within strategic network design software for the most complex problems. But, that elaborate approach is not necessary for basic projects. For more on these tools and techniques, click on the graphic.

Charts, Maps, Paper/Pencil In a world of computers, there is still room for intuitive, manual analysis for the simpler problemslike a network with just a few nodes and links. Using product volume data, transportation rates, and current facility locations, this technique produces effective, inexpensive results. The analysis can be done with a calculator or a spreadsheet you devise. Computer Models A spreadsheet model depicts each alternative using an equation. Columns in the spreadsheet list the key data: demand, transportation rates, distances, inventory, and so on. The spreadsheet software provides calculations to compare alternatives. The spreadsheet approach, while not as mathematically sophisticated as other approaches, has the advantage of allowing quick changes in key variables with equally quick recalculation of the costs and other outputs. Network Simulation Models This approach develops a model of the network through formulas. It simulates different conditions in order to find the most effective and efficient network solution. Simulations mimic the flow of orders and product through a model network. Orders are generated in patterns similar to real-life. What-if scenarioswith alternative configurationsare tested by simulating actual conditions. The alternative network configurations are then compared under each scenario to evaluate which one results in the best, or most "implement-

able," outcome. Mathematical Optimization Models These models use a series of mathematical formulas related to transportation costs, facility operations costs, inventory costs, and stock-out costs to identify the network alternative with the lowest total cost. Usually these models include numerous, complex mathematical formulas that require extensive sets of data in order to find the optimal configuration of the network.

Networks: Design Strategies Influences on Network Design

By now you realize that fulfillment network design is not a quick and easy process. There is much to do and take into accountfulfillment goals, design elements and questions, key issues, and more. How do you fit all that together? Are there common network designs for fulfilling demand? Or, is each network unique? The real answer lies somewhere in the middle. You do not want to take a simplistic, one-size-fits-all approach to network design. But, you do not need to innovate every time, either. Instead, network design can be based on the fulfillment strategy that works best in your situation. Most companies combine elements of more than one proven strategy to design their own, unique fulfillment network.

A network design should align with internal and customer requirements. Look at factors such as how important speed-to-market is for the products in questionthe characteristics of the productsthe nature and size of the typical orderthe significance of transportation costs to the products in questionand the costs of carrying inventory.

Let's look at some well-known fulfillment strategies:

Direct store delivery

Distribution center network

Cross-docking

Direct-to-customer

Direct Store Delivery

Behind a grocery or discount store during delivery hours, you can see a traffic jam of trucks. These trucks, from different vendors, are fulfilling retail demand directly from production facilitiesalso known as direct store delivery. DSD offers multiple benefits, including:

Less inventory in the fulfillment network (eliminates product sitting in warehouses)

Less product handling (reduces likelihood of loss and damage)

Faster production-to-store-shelf time (improves product freshness)

Reduced investment in long-term assets (fewer distribution facilities needed)

Good Uses of DSD DSD is typically used when there is high and consistent customer demand. This helps to provide economies in the fulfillment process which offset the high cost of delivering directly to every retail grocery store. Stable volume also reduces the concerns related to not having safety stock at a nearby retail distribution center. Products fitting this profile include baked goods, snack foods, dairy products, and soft drinks. These manufacturers utilize the DSD network strategy to help them monitor demand, properly rotate product for maximum freshness, and reduce out-of-stock situations.

Drawbacks Of course, DSD is not without challenges. Transportation costs are generally higher since smaller lot deliveries are made. Also, much of the handling cost and fulfillment effort are shifted from retail distribution centers to the manufacturers. And, an excessive reliance on DSD can create confusion and congestion at the store level with more deliveries, paperwork, and related activity. Finally, the strategy is not well suited to products that are associated with high variation events like holidays and promotions.

Distribution Center Network

We have just seen that direct store delivery works well for high-volume, perishable items like bread and milk. What about shelf-stable foods, like canned soup, or hardline goods, like auto supplies or consumer electronics? Frequent, direct delivery of such products is pointless and costly. A different network strategy balances service requirements with transportation costsdistribution center networks (DCN). Good Uses of DCN Products with a longer shelf life, lower average turnover, and potential for demand surges are great candidates for DCN. DCN relies on multiple facilities to stage product as it moves from factory to store shelf. While this traditional strategy is far more asset-intensive than DSD, it provides notable benefits:

Product is consolidated for combined delivery (lowers transportation costs)

Safety stock inventory is available (protects against demand spikes)

Storage capacity enables purchase economies (reduce cost via bulk quantity discounts)

Multiple suppliers ship to one facility (increases access to product variety)

Drawbacks A big drawback to DCN is the assets required to build and operate a distribution center. Most companies would rather build new stores or increase production capacity. Also, adding stocking locations increases inventory levels, which increases inventory carrying costs. And, moving product through multiple facilities increases handling costs and the risk of product damage.

Distribution Center Network: Cut Delivery Trips & C osts

Consider a fulfillment network of three suppliers and four retail outlets. With direct store delivery, 12 shipping lanes (one from each of three plants to each of four retail stores) are needed. With the distribution center network strategy, adding a single DC reduces the number of shipping lanes to seven. More importantly, orders can be consolidated and fewer, larger deliveries made. Items are held at various locations in the fulfillment networkmanufacturer warehouses, retailer distribution centers, or facilities in between them, like wholesalersand moved in combination with other products to achieve economic truckload deliveries.

Realize that our example is very basic. As the DCN growsas more DCs are addedseveral things happen:

Service to the retail stores improves since the average distance from DC to store decreases.

Total outbound (DC to store) transportation costs decrease since the average distance for DC to store is smaller.

Total inbound transportation costs probably go up since the plants must now ship to more locations; some probably further away, and some in smaller shipment sizes.

Inventory levels increase since safety stock is held at each DC.

Cross-Docking

Cross-docking is a process that supports demand-driven fulfillment networks. With cross-docking, product can be received at a stocking location in large quantities, quickly mixed into an assortment, and prepared for delivery with minimal handling and no storage. Cross-docking streamlines the flow of high-volume items, seasonal items, promotional goods, and store-specific pallets. Key benefits of cross-docking include:

Consolidates product for combined delivery (avoids costly LTL deliveries)

Speeds the flow of products from the supplier to the store (reduces stock-outs)

Cuts labor cost and product damage (no storage or retrieval of items and limited handling)

Reduces finished goods inventory in network (increases inventory turns)

Reduces the need for more or bigger facilities, so investment costs are lower than DCN strategy (saves money for other initiatives)

Cross-docking requires strong communication and collaboration capabilities. It relies on technology for real-time information sharing and for maintaining product visibility as product moves through the fulfillment network. Since product needs to move into a stocking location and right back out again, cooperation and timely decision-making are essential. All parties have to know ahead of time how the product is going to be broken down. And, suppliers must keep their commitment for product availability, order accuracy, and product quality. You will see more about cross-docking in the Warehousing topic.

Direct-to-Consumer Network

The advent of e-commerce has brought significant attention to direct-to-consumer fulfillment. However, this network strategy has been in use by catalog retailers and other direct marketers for decades. These companies rely upon fulfillment centers that pick, pack, and ship orders that are delivered directly to the final customer by small package carriers or the postal service. Direct-to-consumer fulfillment operations differ from other network strategies in the following ways:

Single items are processed instead of full cases or pallets.

Demand fluctuations tend to be much greater.

The number of delivery points grows exponentially.

Service expectations are higher (more demand for next day and second day delivery).

Fewer fulfillment facilities are required as total product volume is substantially lower and there are fewer transportation economies to be gained by moving closer to demand points.

Click here to view direct-to-consumer network design options.

Direct-to-Consumer Options

Direct-to-consumer networks can be configured in a number of ways, as the graphic shows. Most high-volume catalog and e-commerce retailers rely on options 2 and 3 to balance service and cost. The other options fit specific situations. For example, Office Depot uses option 6 to fill office furniture orders: items are moved from the DC to each store with final customer delivery handled by the store's local delivery service.

More Options

Stop-Off Networks A supplier ships orders directly to retail distribution centers, with many stops along the way. In stop-off fulfillment (sometimes called the "milk run"), several orders are combined on one truck that is headed to a particular area of the country. The route is carefully planned to minimize distances traveled, and orders are sequenced on the trucks in the order in which they are delivered. This option works particularly well if the supplier makes the entire product line at each facility. There would be no need to develop regional distribution centers to consolidate and mix products.

Pool Distribution This strategy is similar to a stop-off network, with one primary difference. Once the truck reaches the central point in the region, the orders are cross-docked onto smaller vehicles that make local deliveries to customers. This provides for faster transit times to customers, though delivery costs can be higher.

Virtual Centralization While stores are typically assigned to a primary fulfillment center, this strategy provides access to inventory in other distribution centers in the network. If the primary center does not have the requested goods, the goods can be transferred from one of the alternate locations. This strategy allows the network to reduce the need for safety stock at every distribution facility.

Transshipment Network flows do not always have to be downstream. It is possible for a retail fulfillment network to share inventory between facilities at the same level. If a particular store is out of stock, they can tap into the resources of another store to fulfill customer demand. The key is to have inventory visibility and the ability to transfer product quickly between facilities.

Networks: Topic Summary Topic Summary

This topic provided an overview of fulfillment networks. We discussed the main goals of network design, key issues and considerations when designing a network, and a variety of network strategy options. The key takeaways from this topic include:

Successful fulfillment networks serve customer requirements while minimizing fulfillment costs and making cost-effective use of assets. A network design must consider capacity constraints so as to limit their negative impact.

When designing a network, there is a logical progression of issues that must be addressed. This process takes you from the number, type, and location of facilities to the mode and carriers that should be used.

The network design process requires an in-depth analysis of relevant issues. A great deal of information must be assembled about each entity in the fulfillment networksuppliers, internal facilities, customers, transportation, and products.

Network design should support the company's fulfillment strategy. Common strategies range from direct delivery to multi-facility distribution systems. (Click for network strategy highlights.) It is important to understand the pros and cons of each option and the types of products for which they are best suited before making long-term decisions.

Network design is a complex process. We covered the highlights in this topic, but issues related to analytical methods, data collection, and software tools are beyond our scope. These issues must be addressed in any network strategy and design process. One good way to learn more is to "network" with the people who do thisthe network strategy experts.

Strategy Primary Role Strengths Drawbacks Product Characteristics Direct Store

Delivery Frequent deliveries from production facilities direct to retail outlets

Shorter time to shelf

Less inventory Less product

handling Reduced

investment in assets

High cost of transportation

Some costs shift from retailer to manufacturer

No safety stock nearby

Congestion at store level

High-volume, perishable (baked goods, dairy products)

Customer demand high, consistent

Distribution Center

Network

Product moved in stages, through multiple facilities, to get from factory to store shelf

Lower transportation costs

Protection against demand spikes

Purchase economies

Access to more product variety

Increased asset investment

Increased inventory levels/carrying costs

Increased handling costs

Higher risk of damage

Longer shelf life (canned soup)

Lower average turnover (auto supplies)

Potential for demand surges

Cross -Docking

"In one door and out the other" product prepared for delivery with minimal handling and no storage

Speeds product to shelves

Fewer LTL deliveries

Reduced inventory of finished goods

Less handling; no storage or retrieval

Lower asset investment

Requires processes for collaboration among fulfillment partners

Requires technology for visibility and real-time decision-making

Requires absolute reliability from

High-volume Seasonal Promotional Store-specific

pallets

suppliers

Direct to Consumer

Pick, pack, and ship small orders; deliver direct to consumers

High service levels

Less total inventories; lower carrying costs

Lower asset investment

High transportation costs

Customers expect faster and faster delivery

Damage rates

Single/Few items (not cases, pallets)

Fluctuating demand

Transportation: Introduction to Transportation Overview

It's one of those daysyou're a half-hour late leaving for the airport, there's a traffic jam on the highway, then you get stuck at the railroad crossing. At last you check in and settle in your seat when the pilot announces, "We will be getting underway in just a few minutes. The ground crew is loading some last-minute parcels and filling our fuel tanks. The flight attendants will soon be serving your hot breakfasts that were just delivered to the plane moments ago." Without a doubt, transportation is a vital activity in the fulfillment process. Effective transportation is needed for you to get where you are going each and every day, for trucks to move shipments to and from businesses and customers, for trains to deliver goods between factories and warehouses, for planes to receive fuel and supplies and take you to your destination, and for ships to bring goods and people to ports of call.

This topic focuses on decision points about transportationterms of sale, modal and carrier selection, and negotiating rates and contracts. We look at tradeoffs that affect costs. And, we look at the global issues that can make international transportation so challenging. You will build a solid foundation in the key concepts by the time you complete the last activity.

How Does Transportation Fit into Fulfillment?

Remember the definition of fulfillment? The process involvingthe movement and storage of materials, products, and information from point of origin to the final customer relies on transportation. Transportation links physically separated sellers and buyers in the fulfillment network. As supply chains become more global, transportation issues become more complex. These issues hamper the ability to produce goods on schedule, make inventory available, and satisfy customer demand at a reasonable cost. A breakdown in the transportation networkincomplete customs documents, a lost containership, an overturned truckcould bring the fulfillment network to a costly standstill. Transportation is the key to creating more effective fulfillment networksextending their capabilities, size, and scope. Transportation helps companies gain access to lower priced and/or higher-quality material, realize economies of scale in production, and bridge the physical gaps between producers and buyers. By keeping transportation expenses reasonable, the total landed cost of a product can be competitive in multiple markets. As a result, companies can source materials from a global supplier network and sell goods to customers virtually anywhere in the world.

To get a better sense of what transportation means to business, click to learn more about transportation spending statistics and the huge number of TEUs (twenty-foot equivalent units) moved through world ports in 2005.

Transportation Spending Statistics Here are some interesting spending statistics (from 2005):

Businesses around the globe spent $1.1 trillion to move materials and components to factories and finished goods to stores.

In the U.S., more than $736 billion was spent on freight transportation, an increase of $92 billion over the previous year. Over 79 percent of the domestic spending was for trucking services, including $90 billion for diesel fuel. Spending on rail, air, and water transportation were closely bunched at $48 billion, $40 billion, and $34 billion, respectively.

Overall U.S. logistics and fulfillment costs were nearly $1.2 trillion, or 9.5 percent of the gross domestic product (GDP). This is a huge jump from the 8.8 percent recorded the previous year.

Vessel Calls at U.S. and World Ports (2005)

http://www.marad.dot.gov/Marad_Statistics/

Transportation: Decision Points Overview

Transportation involves a number of physical activitiesinspection, loading, documentation preparation, transfer, and unloading. But a great deal of strategic planning and decision making must take place before goods are handed to a transportation provider. These decision points are shown in the flowchart. In this topic we address, in detail, four of these six decision points:

Terms of the sale (and Incoterms)

Modal selection

Carrier selection

Negotiation Rate and contract

Terms of Sale

When a retail buyer negotiates with a manufacturer, they focus on product price, quality, and quantity of goods. However, they also need to consider delivery issues. Defining the terms of sale in the contract is critical because that affects control over mode and carrier selection, transportation rate negotiation, and related issues. These terms govern the movement of the

product, including when the ownership and title of the goods pass from a seller to a buyer. Terms of sale are extremely important because they show exactly where the buyers responsibilities begin and where the sellers responsibilities end, not to mention who incurs the delivery costs.

Terms of sale options are influenced by the geographic nature of the transaction. Next, let's look at how trade terms are used in the U.S. and internationally.

Terms of Sale U.S.

Domestic transactions do not involve border crossing, so the terms of sale are not too complex. In general, there are only two optionsthe buyer takes control of the goods at the sellers location (FOB Origin) or the buyer takes control when they are delivered (FOB Destination). Click the arrow for a summary of those options:

Freight Payment Responsibility

FOB Terms Who owns goods in transit? Who handles

freight claims? Who selects and

pays carrier? Who ultimately bears freight

costs?

Best used when who has more influence with

carrier? FOB Origin, Freight Collect Buyer Buyer Buyer Buyer Buyer

FOB Origin, Freight Prepaid Buyer Buyer Seller Seller Seller

FOB Origin, Freight Prepaid & Charged Back

Buyer Buyer Seller

Buyer

The seller adds freight costs to goods invoice

Seller

FOB Destination, Freight Prepaid Seller Seller Seller Seller Seller

FOB Destination, Freight Collect Seller Seller Buyer Buyer Buyer

FOB Destination, Freight Collect & Allowed

Seller Seller Buyer

Seller

The buyer deducts freight cost from goods payment

Buyer

Terms of Sale International

On the other hand, international transactions often present greater challenges. Parties to the transaction must understand how these terms of sale can affect transportation decision-making. For example, consider a container of premium vodka moving from Ahus, Sweden, to the United States. After the product is packed and loaded into the container, the container is moved to the Port of Gothenburg, Sweden, via intermodal train (or possibly to a different European port via feeder ship). The container is then loaded onto an ocean carrier and moved to the Port of New York/New Jersey where it is unloaded, cleared through U.S. Customs, and delivered via truck to the vodka companys distributors.

Even a relatively straightforward international transaction such as our vodka involves long distances; multiple modes of transportation; logistics intermediaries; duties and tariffs; government inspections; and lots of opportunities for damage or delay. So, transportation managers must be extremely concerned about when and where the title to the goods will

change hands. Why? Click the arrow to review how the terms of sale decisions affect responsibilities.

Who will be responsible for the control and care of the goodsrisk assessment, selection of insurance, packing, and other issuesto protect the goods in transit?

Who will be responsible for carrier selection, transfers, and related product flow issues?

Who will bear various costsfreight, insurance, taxes, duties, and forwarding fees?

Who will handle documentation, problem resolution, and other related issues?

Incoterms Rules at the Core of World Trade

On its website, the International Chamber of Commerce defines Incoterms:

the cement that keeps the bricks of world trade contracts together. First devised and published by ICC in 1936, International Commercial Terms, known as Incoterms, provide clear definitions that spell out the responsibilities of the buyer and the seller in cross-border sales contracts. Among the best known Incoterms are: EXW (Ex works), FOB (Free on Board), CIF (Cost, Insurance and Freight), DDU (Delivered Duty Unpaid), and CPT (Carriage Paid To). http://www.iccwbo.org/index_Incoterms.asp

Incoterms reduce some of the confusion and complexity involving international shipments. They make international trade easier and facilitate the flow of goods between different countries. They define the mutual obligations of seller and buyer arising from the movement of goods under an international contract from the standpoint of risks, costs, and documents. In practical terms, you cannot properly develop a contractual price for goods until both parties agree upon the Incoterms to be used. Since 1936, Incoterms have been revised and refined six times. The most recent set of trade rules, known as Incoterms 2000, refined the 1990 rules. The most recent version has additional information on the use of intermodal transportation and clarifies the loading and unloading requirements of both buyer and seller. Click here for a summary of what Incoterms do and do not address (TransportGistics 2006). Then, we explore some of the terms in more detail.

What Incoterms Do and Do Not Address

Incoterms are used to define the relationship between Buyer and Seller

regarding: Incoterms will not:

Mode of delivery Who has to arrange for customs

clearances and licenses Passage of title Transfer of risk and insurance

responsibilities (i.e., who has to obtain insurance on the merchandise during transport)

What the delivery terms are How transport costs will be allocated

between the parties

Define contractual rights Define liabilities and/or obligations

between the parties Specify transport details such as

transfer and/or delivery of the merchandise

Dictate how the title of the merchandise will pass (even though Incoterms can dictate when they transfer)

Dictate obligations with regards to the merchandise prior to and after delivery,

Protect a party from his/her own risk of

When a delivery is completed loss

Incoterms Options

There are 13 specific three-letter Incoterms that are broken down into four groups. The E term is used when the buyer takes full responsibility from point of departure. F terms are used when the main carriage is not paid by the seller. C terms are used when the main carrier is paid by the seller. And the D term is employed when the seller takes full responsibility to the point of arrival. (Click here for a more detailed explanation of the groups ).

While 13 options may seem daunting, they are neither equally used nor universally applicable to every transaction. In reality, a great deal of international freight moves under one of four termsEXW, FOB, CIF, or DDPwhile six of the terms relate to ocean shipping only. A graphical representation of Incoterm responsibilities and risks is helpful for making sense of the 13 different options (click here for a helpful display ).

Understand that each freight movement situation must be properly assessed and the most advantageous Incoterms selected. It helps to consult with knowledgeable sources (international freight forwarders, experienced importers and exporters) prior to negotiating international trade terms. Much can go wrong with global freight moves. You should not assume freight control unless you have experience, expertise, and resources at your disposal.

Incoterms: A Detailed Breakdown of the Groups

Group Incoterms Explanation E EXW Ex Works (named location) The main characteristic of this group is that the

Seller/Exporter represents to make the goods available at his/her own premises to the Buyer/Importer. Once the Buyer/Importer picks up the goods, the Seller/Exporters duties and obligations are completed and fulfilled. The Seller/Exporter has very few obligations, has an extremely low risk of loss, and title is transferred almost immediately in the supply chain. Almost from the beginning, the Buyer/Importer bears the risk of loss, title/possession has been transferred, and he has to insure or bear the risks of transport.

F FAS Free Along Side * FOB Free on Board * FCA Free Carrier (named location)

The essential characteristics of this group are that Buyer and Seller have agreed that the Seller/Exporter is responsible to deliver the goods to a carrier/location designated by the Buyer. Again, once Seller/Exporter has made delivery to the specific carrier/location, then Seller/Exporters obligations cease and the Buyers/Importers begin.

C CIF Cost, Insurance and Freight * CFR Cost and Freight * CPT Carriage Paid To (named location) CIP Carriage and Insurance Paid To (named location)

The essential characteristics of this grouping are that the Seller/Exporter is obligated for contracting and paying for the transportation of goods but has no obligation to bear additional costs nor has to bear any risk of loss once the goods have been shipped. This grouping proves shipment.

D DAF Delivered at Frontier (named location) DES Delivered Ex Ship * DEQ Delivered Ex Quay * DDU Delivered Duty Unpaid DDP Delivered Duty Paid

This grouping is the exact opposite of the E group. In other words, the Seller/Exporter has all the obligations of costs, risks (insurance), and duties, and must make the merchandise available at the named place of destination (usually named by the Buyer and will also usually be the Buyers factory).

* Used only for water transportation. For an official definition of each Incoterm, go to ICC Preambles to Incoterms 2000: http://www.iccwbo.org/Incoterms/preambles.asp

Selecting a Mode of Transportation

The fundamental decision in the transportation process is modal selection: how will we transport the goods? There are five traditional modes of transportationtruck, rail, water, air, and pipeline. It could be argued that there are actually two additional modal options available today: An intermodal option, which is a combination of two or more modes. And, the Internet , for digital products like music, movies, and software.

Choosing among the modal options requires a careful analysis of many factors. The determining factors are capacity, accessibility, transit time, reliability, and product safety. Of course, cost is also critical in modal selection. We discuss each of these issues, followed by a brief review of the capabilities and characteristics of the most commonly used modes. (Well skip pipeline and the Internet since they can only handle very specialized types of products.)

Transportation costs must be kept in balance with service level requirements and overall fulfillment costs. Understanding these product issues can help.

Product Issues in Modal Selection

Product Issues

Intended use of the product

The nature and purpose of the goods affects mode selection. Bulk raw materials and component parts are typically shipped in large quantities to a limited number of facilities via rail, ocean, and truckload carriers to save money. Why? Transportation costs greatly affect the landed cost of these goods so the expense must be controlled. Consider for example, kaolin clay, a raw material used to make car parts, dinnerware, and glossy paper for magazines. Transportation costs account for almost a third of the product price. So, kaolin is shipped in bulk (in excess of 100,000 lb. shipments) to production facilities via railroads and ocean carriers. In contrast, finished goods are normally shipped in small quantities to numerous locations, using fast methods of transportation. The reason? Transportation costs are a small portion of the product's costs and product availability is often a more important issue. Magazines printed on kaolin-coated paper are distributed in small lots (often 50 lbs. or less) to thousands of retail locations via truck or van.

Importance of the product

Critical goodsan emergency replenishment order of an advertised product to fill an empty store shelfaffect transportation decisions. Because these products are needed by a definite deadline, speed, service quality, and information availability (shipment tracking) take precedence over price. You'd be willing to pay for same-day or overnight delivery of such goods. Commodity goods, on the other hand, do not require special attention in terms of transportation. They are not time sensitive, are stockpiled in bulk, and/or are readily available from multiple sources. Thus, expedited service and in-transit information are not important. You'd be willing to wait in order to save money. Standard transportation methods would suffice.

Nature of a produc t The nature of a productits physical characteristics, value, weight, packaging, fragility, and risk characteristicsalso plays a role in transportation decisions. These factors dictate the design and operation of transportation networks, influence strategic decisions, and impact costs.

Modes Key Capabilities and Considerations

The first step in selecting the most appropriate transportation mode is to match the modal capabilities to the characteristics of the product (value, durability, and dimensions, shipment size, origin and destination points, and service level requirements). Key considerations include:

Capacity The amount of product being moved can render a mode infeasible or impractical. You have to match the capacity capabilities of a mode to the size and nature of the product being moved. As you will read, some modes are well-suited to handling a large volume of goods economically while others are better suited to smaller goods and shipments.

Accessibility You must determine whether a particular mode can physically perform the transport service required. Accessibility considers the modes ability to reach origin and destination facilities and provide service over specified routes. The geographic limits of a modes infrastructure and the scope of government-approved operating authority also affect accessibility.

Transit time The speed with which product is needed affects modal selection as some modes are obviously faster and more expensive than others. Transit time affects inventory availability, stock-out costs, and customer satisfaction. Transit time is affected by the speed of the mode and the ability of the mode to handle pickup and delivery responsibilities.

Reliability Dependable service is a hallmark of effective modes and carriers. Reliability refers to the consistency of the transit time provided by a transportation mode. Because it is easier to manage fulfillment processes if it is known with some certainty when goods will arrive, companies place a premium on reliability during mode selection.

Safety Goods must arrive at the destination in the same condition they were in when tendered for shipment at the origin. The more fragile and valuable a product, the more critical it is to work with modes that have a reputation for protecting freight from loss due to external theft, internal pilferage, and misplacement, as well as damage due to poor freight handling techniques, poor ride quality, and accidents.

Cost The cost of transportation is an obvious consideration in mode selection. You must compare modal service quality to cost, understand rate structures, and seek an effective balance between transportation costs and other fulfillment costs and requirements. For example, you should avoid overpaying for a level of service that is not needed to satisfy customer needs.

Mode:

Truck

Whether you call it a motor carrier, lorry, or truck, it is the most widely used mode of transportation in domestic fulfillment networks. Good networks of roads permit trucks to reach virtually all points in a country. So, trucking companies have excellent access to virtually all freight shipping and receiving locations. Cost structure: The trucking industry is highly competitive, made up of thousands of private fleets and for-hire carriers. Key carrier types include truckload carriers, less-than-truckload carriers, and small package carriers. The economic structure of the motor carrier industrya high variable cost, low fixed cost businesscontributes to the vast number of carriers in the industry. They don't pay for the infrastructure, which is government funded and paid via user fees. Most expenses are incurred as the result of moving freight: wages and benefits, fuel, maintenance, tires, and fuel prices. These operating costs have a big impact on trucking industry financial performance. Serves: Much of the freight moved by the trucking industry is regional in nature, moving within a 500-mile radius of the origin point. Retailers rely heavily on the trucking industry to move product from manufacturer and distributor facilities to retail DCs and then on to stores. Some of the primary commodities handled by this mode: consumer packaged goods, electronics, electrical machinery, furniture, textiles, automotive parts, and other finished and semi-finished

goods. Pros/Cons: The trucking industry has a stellar service reputation. Motor carriers offer door-to-door accessibility, a high degree of flexibility, in-transit visibility, and excellent freight protection. These characteristics make trucking the domestic mode of choice for most finished goods. Of course, there are challenges and limitations. Quality does not come cheap, so customers pay a premium for trucking services relative to most other modes per kilogram or kilometer. Also, capacity can be limited due to both equipment size constraints and the availability of drivers.

Air

Historically, air cargo transportation was viewed as an expensive, use only in an emergency mode. The advent of e-commerce, the growth of global supply chains, and initiatives to reduce inventory and order cycle time have changed this view. This has contributed to a sustained increase in demand for air transportation. While air cargo transportation remains a small mode in terms of tonnage, the value of goods handled continues to rise domestically and internationally. Cost structure: Integrated air carriers like FedEx Express and UPS dominate the U.S. air cargo market. International air freight is moved by a broad range of carriers. The leaders are Korean Air Lines, Lufthansa, and Singapore Airlines (International Air Transport Association 2006). The industrys economic structure consists of high variable costs in proportion to fixed costs, somewhat like the truck cost structure. Air carriers rely on governments to provide terminals and traffic control of the airways, paying gate leases and landing fees. Equipment costs, though quite high, are a small part of the total cost. Serves: Air transportation is used to ship small quantities of high-value, low-weight goods. Primary commodities handled by this mode: computers, electronics, pharmaceuticals, perishable foods, periodicals, and apparel. Companies are willing to pay a premium to transport these goods because they are time sensitive and need superior protection while in transit. For example, clothing retailers use air freight to move the latest fashion to the marketplace. Although they may spend 10 times more than they would on water transportation, air transportation reduces overall fulfillment costs. Fast air service allows these companies to get key products into stores while they are hot, so they sell at full price. At the same time, they can send smaller, more frequent shipments based on actual demand. This reduces inventory carrying cost, as well as risks of obsolescence or lost sales.

Pros/Cons: If extreme speed is needed, air transportation is the way to go. This mode provides expedited transit times, excellent freight protection, and highly consistent service. The down side is limited carrying capacity and premium pricing. Given these issues, air service is not a cost-effective means for transporting low-value or space-consuming, low-density products. Also, the industry is greatly challenged by numerous obstacles to profitable growth. Ongoing issues include rising fuel costs, competition from other modes, and costly security mandates.

Water

If domestic freight moves mainly via truck and air is limited in its capacity, then what mode is moving all the imported goods? Water. Water transport has played a huge role in the development of many countries; it is a major facilitator of international trade. Of course, barges and small ships handle some domestic freight, but our interest is in ocean transport and global trade. On a weight basis, the vast majority of global trade moves via ocean carrier with bulk materials handled primarily by charter service and containers moved via scheduled liner service.

Cost structure: The economics of ocean transport are similar to those of airlines. To begin operation, these carriers require no investment for the right-of-way: nature provides the highway and government entities (known as port authorities) provide unloading and loading services, storage areas, and freight transfer facilities. The water carriers pay user fees for these port services only when used. Large ocean-going ships are big capital investments, but the costs are spread over a large volume of freight transported over the long service life of most ships.

Serves: Ocean carriers dominate international transportation, with about 50 percent of the revenue and 99 percent of the tonnage. Given the wide variety of equipment types and sizes, every conceivable type of cargofrom the lowest value commodities to the most expensive cars and machinerycan be transported via water.

Pros/Cons: Ocean ships have tremendous capacity, which allows carriers to move large quantities of product over long distances at reasonable costs. (A post-Panamax ship can hold more than 4,000 40-foot containers.) Customers benefit from a relatively low rate per tonkilometer. The tradeoffs are slow speed and limited accessibility, which force companies to hold greater levels of inventory to meet demand during these longer transit times. International carrier challenges relate to port congestion issues which cause fulfillment disruptions and East-West trade imbalances that affect the availability of containers and equipment. The industry is also experiencing double-digit cost increases due to rising fuel costs and security compliance requirements. These costs must be passed on to customers if ocean carriers are to maintain their slim profit margins.

Rail

Is rail compatible with todays speed-oriented fulfillment networks? Yes: Railroads transport a large volume of freight within countries. In the U.S., railroads move more than 1.8 billion tons of freight annually. The combination of volume and the average shipment length of 975 miles make rail the highest tonmile mode of transportation. It is primarily used for the long-distance movement of low-value raw materials and manufactured products, though it can play a role in the flow of some consumer goods. Cost structure: The industry is dominated by a small number of large national or private (U.S.) long haul carriers (for long-distance freight moves across and between regions). Shortline carriers provide service to smaller markets, handle local delivery service, and facilitate the interline process. This modes economic structure partly accounts for the limited number of rail carriers. Railroads require a large investment in terminals, equipment, and trackage to begin operation; and the accompanying huge capacity allows the railroads to gain economies of scale as output (tonmiles) increases. Serves: Primary commodities handled via rail: coal, chemicals, farm products, minerals, food, and other basic materials. These products tend to be shipped in large quantities and stockpiled by customers to gain transportation efficiencies. The railroads also handle some high value goods, primarily automobiles and intermodal containers filled with imported finished goods traveling inland from coastal ports. In fact, intermodal volume is rising faster on a percentage basis than traditional rail freight.

Pros/Cons: Rail is a cost-efficient means of moving high-volume freight. It can also help reduce highway congestion (by substituting for trucks). However, rail suffers from accessibility problemsmost parties in a fulfillment network are not directly linked to rail service. Also, rail service can be slow, inconsistent, and inflexible. Notable exceptions are unit trains (a train that moves only one commodity from origin to destination) and intermodal trains (a unit train of containers or trailers). They reduce transit times by operating on priority schedules, moving directly from origin to destination, and avoiding rail yard delays. The challenge for railroads is maintaining enough capacity and service quality to handle surges in demand. Railroads are adding new crews and locomotives, but the lack of new infrastructure hampers their ability to handle more freight.

Intermodal

In many cases, it is impossible or impractical to rely on a single mode of transportation. Instead, there is intermodal (or multimodal) transportationthe use of two or more modes for the origin-to-destination movement of freight. Click here for a look at common intermodal options. Cost Structure: Although no universal statistics are kept on intermodal transportation, intermodal seems to be growing in importance and volume. The number of containers flowing

through U.S. ports has increased from 10 million twenty foot equivalent units (TEUs) in 1985 to 38.5 million TEUs in 2004. Experts predict this figure will double by 2015. Much of the growth can be attributed to the development of standardized containers that are compatible with multiple modes. Pros and Cons: While moving freight between modes may seem inefficient and time consuming, intermodal transportation provides a number of benefits.

Offsets accessibility problems

Getting low-sulfur coal from a South African mine to a power station in Rotterdam would be best accomplished through a combination of rail and water transportation.

Utilizes the inherent strengths of multiple modes to create efficiencies

Moving 20 loads of furniture from North Carolina to California via a combination of motor carrier service for pickup and delivery with rail for the linehaul portion is far more efficient than an all-truck move. It combines truck accessibility and speed with rail capacity and low cost.

Simplifies global trade

At a factory in Malaysia, DVD players can be securely loaded into a container that will be transported via truck to the Port of Kelang where it is transferred to a containership for delivery to the Port of Vancouver. There, it is unloaded and delivered via truck to the customers DC. Unlike transload freight , this containerized freight is well protected and there is no cost or risk incurred by handling individual units at each transfer point..

Congestion is a drawback The most pressing intermodal issue is congestion. While carriers are adding capacity to meet the growing demand levels, transfer points (ports and rail yards) can quickly get clogged with freight. Continued infrastructure investment, equipment purchases, and operator hiring will be needed to keep pace with the growth of intermodal transportation

Transportation Cost Drivers

Now that you understand what each mode offers, you should know what drives transportation costs. This will help you choose the mode or combination of modes that can best handle your product, fits with the geographic scope of your fulfillment network, and meets customer service requirements.

Product Characteristics

Certain characteristics of products affect the cost of moving freight:

Product density factored into pricing because it influences space availability. Because they use excessive amounts of valuable cargo space on a truck or plane, low-density products cost more to ship on a per pound basis than high-density products.

Ease of stowing; handling requirements if a product cannot be stowed (stacked, palletized, or loaded) in a way that effectively uses the cubic capacity of a container or trailer, it will cost more to ship.

Difficult to handle, extremely bulky, or requires s pecialized loading equipment examples include rolls of carpeting and drums of liquid.

Risk of product damage or loss potentially fragile products (picture frames, antiques), dangerous goods (hazardous materials), and high theft goods (cigarettes, prescription drugs) cost more because extra measures must be taken to protect or insure them.

Distance Origin-to-destination distance is a driver of transportation cost. Most transportation costs (fuel and labor and equipment wear) rise proportionally with distance. However, there are fixed terminal handling costs and documentation costs associated with every shipment. Since these fixed costs are distributed over more miles on a longer shipment, the carrier's costs tend to taper (increase at a decreasing rate). This tapering effect allows freight to move longer distances without undue cost burden.

Volume The size of a shipment also affects transportation cost. The heavier the load, the more fuel it takes to transport the goods. Similarly, the more units in a load, the more handling time it takes to load and unload the goods. Thus, cost increases with shipment size but at a tapering rate (as with distance costs).

Services Required

Some shipments require extra handling, documentation, packing, setup, or other services. Hazardous chemicals, for example, must be packed in accordance with United Nations standards, special documentation must be filled out, and placards must be posted on the transportation equipment. These services cost the carrier a great deal and are typically added onto a freight bill as surcharges to the transportation rate..

Modal Options Summary of Capabilities Mode Strengths Limitations Primary Role Primary Product

Characteristics Sample Products

Truck Accessible Fast & versatile Customer service

Limited capacity High cost

Move smaller shipments in local, regional, and national markets

High value Finished goods Low volume

Food Clothing Electronics Furniture

Air Speed Freight protection Flexibility

Accessibility High cost Low capacity

Move urgent shipments of domestic freight and smaller shipments of international freight

High value Finished goods Low volume Time sensitive

Computers Periodicals Pharmaceuticals B2C deliveries

Water High capacity Low cost International capabilities

Slow Accessibility

Move large domestic shipments via rivers, canals and large shipments of international freight

Low value Raw materials Bulk commodities Containerized finished goods

Crude oil Ores / minerals Farm products Clothing Electronics Toys

Rail High capacity Low cost

Accessibility Inconsistent service Damage rates

Move large shipments of domestic freight long distances

Low value Raw materials High volume

Coal/coke Lumber/paper Grain Chemicals

Click to see a comparative ranking of each mode's strengths: Comparative Ranking of Transportation Modes

Criteria Mode of Transportation

Truck Air Water Rail Pipeline Accessibility * 1 3 2 4 5 Transit time * 2 1 3 4 5 Reliability * 2 3 4 5 1 Security * 3 2 4 5 1

Cost ** 4 5 3 2 1 * 1 = Best to 5 = Worst ** 1 = Lowest Cost to 5 = Highest Cost

Carrier Selection

Now that you know what modes to use, you can select carriers. This is a big decision: carrier performance can make the difference between a smooth-flowing fulfillment network and one filled with service disruptions and headaches. The carrier selection is typically made by someone with expertise in logistics, transportation, or traffic management who has experience in the purchase of transportation services. These experts base their selection on a variety of carrier capabilities:

Type of service direct (move unit loads of freight straight to customers) or indirect (move small shipments to many customers)

Equipment availability and capacity

Transit time (average and reliability)

Product protection capabilities

Geographic service coverage

Freight rates

The experts also keep these issues in mind:

Number of Options vs. Mode

A major difference between modal and carrier selection is the number of options. Modal selection involves six primary options, but carrier selection may involve fewer or far more alternatives. In the case of rail transportation, many markets are served by a single carrier. Your choice is simple: either use that railroad or find another mode. At the other extreme are trucks: you could establish a private fleet or choose from dozens of available carriers.

Changing Carriers

Another difference is the frequency of the decision. The modal selection is more long-range, and not likely to change. However, if carrier performance deteriorates, you should select a new one. While you do not have to choose a new carrier for each freight move, be vigilant: monitor your carriers service level and freight rates closely.

Building a Carrier Base

A common strategy is to concentrate the transportation buy with a limited number of carriers. As you shift more volume to your top service providers, a core group of trusted carriers emerges. This helps leverage the purchasing budget for lower overall rates and increases efficiencies (carriers learn your freight flows and requirements; fewer to monitor).

Rate & Contract Negotiation

Rate negotiation with individual carriers can be done on a shipment-by-shipment basis or on a contractual basis (for a series of shipments or a specified period of time). Rates for Single Shipments Single shipment rates are usually negotiated as a discount from some standard published rate. These one-time rates allow the buyer to maintain maximum purchasing flexibility as there is no binding agreement involved. Contract Rates & Benefits Contracts allow buyers to get a tailored set of transportation services at a specific price. It is estimated that more than 80 percent of commercial freight moves under contractual rates today. During negotiations, both the buyer and the transporter focus on issues that affect profitability and service levels. Click the buttons for details.

Contracts can foster long-term relationships in which the parties collaborate to improve performance. The strategy of centralized, contract-based rate negotiation aligns well with a carrier reduction or core carrier strategy. The buyer only contracts and pays for services that are needed, gains a commitment for scarce capacity, and locks into competitive rates for a specified period of time. The carrier receives a relatively stable volume of business which allows them to plan for greater labor and equipment utilization efficiency and reduce the cost of operations.

To refresh your memory, click to review transportation cost drivers .

Buyer Issues

Equipment availability Delivery speed and consistency Freight protection and problem resolution Billing accuracy Cost of service

Transporter Issues

Volume commitments Shipment frequencies OriginDestination combinations Freight characteristics Related cost issues that affect ability to serve the buyer profitably

Transportation Cost Drivers

Cost Drivers Product Characteristics Certain characteristics of products affect the cost of moving freight:

Product density factored into pricing because it influences space availability. Because they use excessive amounts of valuable cargo space on a truck or plane, low-density products cost more to ship on a per pound basis than high-density products.

Ease of stowing; handling requirements if a product cannot be stowed (stacked, palletized, or loaded) in a way that effectively uses the cubic capacity of a container or trailer, it will cost more to ship.

Difficult to handle, extremely bulky, or requires specialized loading equipment examples include rolls of carpeting and drums of liquid.

Risk of product damage or loss potentially fragile products (picture frames, antiques), dangerous goods (hazardous materials), and high theft goods (cigarettes, prescription drugs) cost more because extra measures must be taken to protect or insure them.

Distance Origin-to-destination distance is a driver of transportation cost. Most transportation costs (fuel and labor and equipment wear) rise proportionally with distance. However, there are fixed terminal handling costs and documentation costs associated with every shipment. Since these fixed costs are distributed over more miles on a longer shipment, the carrier's costs tend to taper (increase at a decreasing rate). This tapering effect allows freight to move longer distances without undue cost burden.

Volume The size of a shipment also affects transportation cost. The heavier the load, the more fuel it takes to transport the goods. Similarly, the more units in a load, the more handling time it takes to load and unload the goods. Thus, cost increases with shipment size but at a tapering rate (as with distance costs).

Services Required Some shipments require extra handling, documentation, packing, setup, or other services. Hazardous chemicals, for example, must be packed in accordance with United Nations standards, special documentation must be filled out, and placards must be posted on the transportation equipment. These services cost the carrier a great deal and are typically added onto a freight bill as surcharges to the transportation rate.

Transportation: Managing Tradeoffs Overview

Transportation is a "derived demand" function. It only occurs when demand occurs. When demand occurs, transportation must be synchronized with other fulfillment functions to meet that demand. Too often, transportation managers are evaluated on their cost per kilometer and budgetary proficiency, not on their impact on the fulfillment network. So, they gravitate toward low-cost carriers and discounts for moving large quantities. In some fulfillment networks this is a solid strategy. In others it is a recipe for disaster. (Refresh your memory about the three goals of fulfillment.) Transportation goals must be set, strategies planned, and activities executed with full attention paid to the potential impact on other fulfillment functions. Faster, slower, bigger, smallerwhich is best? It depends on the needs of the fulfillment network. Next, we look at some of the functional tradeoffs between transportation and warehousing, customer service, and inventory. Keep in mind that you have to consider them in parallelall of them. And, transportation strategies must support your business goals. That is, you dont want to be the supply chain manager who suggests that Dell would save money by using truckload service to deliver assembled computers. It just doesnt fit with their direct-to-customer model. (And it would likely get you laughed out of the room.)

Tradeoff: Transportation vs. Warehousing

Transportation costs and other supply chain costs tend to move in opposite directions. This inverse relationship is shown in the graph (Coyle, Bardi and Langley 2003). The fewer the number of fulfillment centers, the more a company will spend on transportation and the less on warehousing costs. In this type of centralized network, you have greater distances between the fulfillment center, its suppliers, and its customers. The greater distances lead to higher inbound and outbound transportation costs. However, the cost of operating that single facility is lower. As you move to the opposite extreme with a large number of regional or local fulfillment facilities, the cost scenario flips. Transportation costs are lower because distances between supply chain partners are shorter. However, it takes more staff, real estate, and equipment to run the fulfillment centers properly, which inflates the warehousing costs. These two costs and their impact on total fulfillment cost must be considered when developing a fulfillment strategy and network. To focus exclusively on minimizing transportation cost will prove to be a suboptimal decision, as the graphic depicts. These lower transportation costs are more than offset by rising costs in other areas, leading to higher total costs. Determining the right balance between transportation and warehousing costs is a delicate balancing act. The popular wisdom shifts back and forth based on changes in functional costs and customer service issues. In the 1990s, many companies focused on centralization and were willing to take on higher transportation costs to reduce warehousing and inventory costs. More recently, transportation fuel surcharges, capacity shortages, and increasing rates have made it more appealing to use multiple facilities as companies struggle with higher transportation costs.

Tradeoff: Transportation vs. Inventory

You have a similar situation when you compare transportation costs to inventory costs. They too are inversely related. As transportation costs decrease, inventory costs rise. This is due to the

tapering nature of transportation rates. That is, the cost of moving a 1,000 kg shipment is cheaper per kilogram shipment than a 100 kg or a 500 kg shipment. Why does this happen? Carriers give discounts for larger volume shipments. This is partly due to the issue of fixed costs: some costs are incurred for documentation, pickup stop, delivery stop, and so on, regardless of the shipment weight. A smaller shipment is more directly affected by fixed costs. Click the arrow for a discussion of some of the other tradeoffs.

Reduce transportation costs In an e-commerce purchase: the first item weighing 1.5 kg may cost 7.95 for shipping. Adding a second item of the same weight does not double the price. In fact, it may only add 2.50 to the transportation cost. So, we tend to buy that second item. Companies do the same thing. They tend to place larger-quantity orders to reduce the transportation cost, get a volume discount, and lower their ordering costs. When you are evaluated on your spend, it is natural to suggest, Lets order a full truckload instead of a half load this week and another half load in two weeks. It will save significantly on transportation costs. Is that the right idea? Not when you measure inventory carrying costs. If it is all bought now, you end up with higher storage costs, financing costs, opportunity costs, and inventory risks.

or, make a tradeoff A reasonable evaluation of transportation-inventory tradeoffs will lead those who purchase low cost, standardized materials toward bulk purchases and deliveries. It will lead those with lean aspirations toward just-in-time delivery of small quantities. This reduces inventory levels and requires little or no warehouse space. Reduce transportation costs What about transportation speed versus inventory levels? Slower modes are less costly from a transportation standpoint. But, faster, more costly modes mean less inventory in the network, faster order cycle times, and more satisfied customers. or, make a tradeoff So which is best? It really depends on your product characteristics and value, the difference in transportation rates for the change in speed, and your service requirements. What works for one organization may be wrong for another.

Tradeoff: Transportation vs. Customer Service

As you have seen in this topic, transportation has an impact on fulfillment quality and customer service. If you wanted to, you could spend your way to better service to customers through better transportation services. Many companies are willing to incur those costs. By shifting from slower, low-cost modes like water and rail to truck and air, they expect to improve inventory availability and to reduce lost sales. The same thing can happen when companies ship to customers more frequently in smaller quantities. This practice will satisfy the customer and protect sales, but transportation expenses will rise. Why? Small shipments cost more. A company can go too far with this tradeoff. As the graph reveals, you can reduce the cost of lost sales to nearly zero, but the transportation costs quickly become prohibitive. As with any of these tradeoffs, you have to look at the impact of your decisions on the total fulfillment cost. It is important to practice restraint, even when doing what the customer wants. Companies should be willing to take on additional transportation costs, but only to a point (see the graph where the curves intersect). After that, what you recover cannot offset what you spend.

Transportation: Managing Global Transport Overview

Transportation concepts are mostly universal regardless of the region served, distance moved, or borders crossed. Modal options are the same. Carrier selection issues are similar. Tradeoffs do not change. However, some factors are specific to a country, and influence the planning and operation of international transportation networks. These include governmental regulations, political issues, cultural factors, economic conditions, infrastructure availability, and technology availability. Get to know the unique characteristics of the countries from which you source goods and those to which you sell goods. Issues that are routine in domestic transportation take on added significance in global situations. Extended distances and increased cycle times are the obvious, but not the only issues. To protect their financial interests, global transportation managers have to deal with global issues on every international product move. Next, we look at them in detail:

Transaction Issues

Distribution Issues

Communication Issues

Global Issues Transactions

With every international product move, transfer of ownership, documentation, and foreign currency present challenges unique to each country. Click to learn more about these global issues:

Incoterms A primary transaction issue is the transfer of legal title to the goods from the seller to the buyer. Attached to this transfer of ownership is the responsibility for the goods in transit. Recall that Incoterms affect the following activities:

Cost liability determination (transportation, insurance, and tariffs)

Product pricing decisions (based on cost liabilities; to properly price goods)

Documentation preparation responsibilities

Managing goods in transit (identify where responsibilities begin and end)

Figuring out which of the 13 Incoterms should be used for a shipment can appear to be a tedious, minor issue in international transportation. But your opinion will change should a problem occur. Because Incoterms provide a clear picture of who is financially and legally responsible for the goods at any point in the transportation process, they minimize costly disputes regarding liability for lost, damaged, or delayed goods. For more information about Incoterms 2000 go the official website: www.iccwbo.org

Payment Terms Another big issue is payment terms. When developing contracts for purchases from offshore manufacturers, and/or delivery of the goods with global carriers, you must negotiate the currency in which payment will be made. Fluctuating exchange rates and inflation issues are currency risks that you undertake if required to pay for goods or services in a foreign currency. You might want to conduct transactions in your domestic currency, or you may need to hedge your exposure. Also, you must protect your financial interests when dealing with a new supplier or carrier. As a buyer, you do not want to pay for goods or services until it is clear that they will meet your expectations. Various strategies such as letters of credit, time drafts, and other instruments help protect both parties from financial risk.

Global Issues Distribution

The concept of taking production offshore or purchasing from distant suppliers is appealinglower labor costs reduce product pricesuntil it comes time to move those purchases to your domestic locations. The transportation of goods from one part of the world to another is filled with potential challenges. Potential Challenges

Differences in transportation networks from country to country You cannot assume that the infrastructure, modal options, regulations, carrier capabilities, and equipment are the same as in your home country. It is critical to analyze the situation to avoid little mistakes that cause big fulfillment disruptions.

Distances and complexity of a global transportation network Think about a typical international move. First, the freight is moved from origin to the port of export. Then, a long-distance move from port to port occurs. Upon clearing customs, the freight is delivered to the destination. Your shipment travels through multiple facilities and countriesis touched by numerous intermediariesand travels long distances. Compared to domestic transportation, it is easy to see how the global distribution process can extend transit times, cause delays, and hamper visibility.

Routing issues Routing can be a bigger issue in global transportation. Unlike domestic moves where you have one optimal route, many different routes can be used for international moves (especially long distance moves). For each route, deliberate decisions must be made on tradeoffs: transit time, cost, freight safety, port capacity and congestion, and carrier availability.

So what can you do to address these challenges? The simple answer is to remember that even the most prominent shippers in the world don't try to go it alone. Follow their lead and work with reputable carriers and third party logistics (3PL) firms. Look for providers with experience in your key markets and with proven intermodal capabilities. By leveraging the expertise of leading international freight forwarders, customs house brokers, and global carriers, you will reduce disruption risks and maintain greater control over in-transit freight.

Global Issues Communication Requirements

Information and documentation facilitate the flow of goods. You must have the paperwork in order before handing the shipment off to a carrier. They would rather leave it on the pier than deal with hassles at the other end. While a domestic shipment can be transported with only one or two key documents (a bill of lading and a freight bill), an international shipment must be accompanied by a variety of different documents. These range from the commercial invoice (which is used by customs agencies to validate, classify, and appraise freight for duties calculation), insurance certificates, and shipping documents to the critical shipment manifest. The shipment manifest is central to complying with a recently enacted U.S. security regulation known as the 24 Hour Rule. This law requir