Crc columbus region logistics council presentation 8 4 11

The Evolving Transportation/Supply Chain Landscape

Columbus Region Logistics CouncilThursday August 4, 2011

Mark DavisSenior Analyst/Partner

[email protected]

Economic Snapshot:

Is the Economy Improving?

Manufacturing: Still Postive by Showing Signs of Weakness

Source: Institute for Supply Management, Bureau of Economic Analysis

• Key domestic sectors (Auto, Industrial Manufacturing, Non-Residential Construction) continue to struggle

• Slowing global economy likely to adversely impact near-term demand for industrial products

Institute for Supply Management (ISM) Production Index: 1999-2009

(ISM Index values over 50 indicate industrial growth while ISM Index values below 50 indicate industrial contraction)

25

30

35

40

45

50

55

60

65

70

75

Jan-9

9

Apr-99

Jul-9

9

Oct-9

9

Jan-0

0

Apr-00

Jul-0

0

Oct-0

0

Jan-0

1

Apr-01

Jul-0

1

Oct-0

1

Jan-0

2

Apr-02

Jul-0

2

Oct-0

2

Jan-0

3

Apr-03

Jul-0

3

Oct-0

3

Jan-0

4

Apr-04

Jul-0

4

Oct-0

4

Jan-0

5

Apr-05

Jul-0

5

Oct-0

5

Jan-0

6

Apr-06

Jul-0

6

Oct-0

6

Jan-0

7

Apr-07

Jul-0

7

Oct-0

7

Jan-0

8

Apr-08

Jul-0

8

Oct-0

8

Jan-0

9

Apr-09

Jul-0

9

Oct-0

9

Jan-1

0

Apr-10

Jul-1

0

Oct-1

0

Jan-1

1

Apr-11

ISM

Pro

du

ctio

n In

dex

-60%-55%-50%-45%-40%-35%-30%-25%-20%-15%-10%-5%0%5%10%15%20%25%30%35%40%45%50%55%60%65%70%

Year-o

ver-Year

ISM Production Index Year-over-Year

Autos: Struggling to Regain Momentum

Source: Calculated Risk

• “Cash for Clunkers” and re-fleeting by large national rental car companies helped demand in late 2009 and 2010

• Access to government backed financing allowing weaker credit borrowers to purchase vehicles – but for how long?

• Impact from supply chain disruptions in Japan as a result of earthquake and tsunami still being assessed

U.S. Domestic Auto and Light Truck Sales( 2000-2011)

6

8

10

12

14

16

18

20

22

24

Jan-0

0

May

-00

Sep-0

0

Jan-0

0

May

-00

Sep-0

0

Jan-0

1

May

-01

Sep-0

1

Jan-0

2

May

-02

Sep-0

2

Jan-0

3

May

-03

Sep-0

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Jan-0

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May

-04

Sep-0

4

Jan-0

5

May

-05

Sep-0

5

Jan-0

6

May

-06

Sep-0

6

Jan-0

7

May

-07

Sep-0

7

Jan-0

8

May

-08

Sep-0

8

Jan-0

9

May

-09

Sep-0

9

Jan-1

0

May

-10

Sep-1

0

Jan-1

1

May

-11

Au

to U

nit

Sal

es (

mill

ion

s)

Residential Construction: Not Yet on the Road to Recovery

• Existing home inventory remains elevated; inventory probably needs to drop by close to 40 -50% to be inline with historical levels

• Replacement cost still running above existing home prices which makes buying existing and renovating more attractive

• Bloated existing home inventory will continue to negatively impact new home construction and sales despite low interest rates

Source: Calculated Risk

Commercial Construction: The Outlook Remains Depressed

Source: AIA

• The Architecture Billings Index (ABI) is below 50 (indicating contraction) and trending down

• Normally there is a 9-12 month lag between billings rising above 50 and construction spending

Factors Impacting

Supply Chains/Transportation

Factors Impacting Supply Chains/Transportation

Source: Cleveland Research Analysis

Factors Impacting Supply Chains and Transportation

• Evolving International/Domestic Sourcing Strategies

• Changing Energy Paradigm

• Government Regulation

• Modal Capacity Issues

Evolving International/Domestic Sourcing Strategies

Source: Cleveland Research Analysis, U.S. Department of Commerce

• Supply chains are global as companies develop resource networks that help them access raw materials and cheap labor

• Companies also seeking to gain access to new markets and customers

• Competitive advantages in places like China have run their course much faster than expected. What is the next iteration?

Trade Between United States and China (1985-2011)

$0

$5

$10

$15

$20

$25

$30

$35

$40

Jan-

85

Jan-

86

Jan-

87

Jan-

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Jan-

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Jan-

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U.S

. D

oll

ars

(B

illi

on

s)

Exports Imports

Source: U.S. Department of Commerce

• Companies implementing comprehensive supply chain management strategies that move beyond minimizing transportation expenses

• Control now resides at the senior management level and involves balance sheet/cash flow considerations (inventory, working capital)

• Goal is to lean the supply chain while still being responsive to customer buying patterns


Retail Inventory to Sales Ratio(2001-2011 YTD)

1.25

1.30

1.35

1.40

1.45

1.50

1.55

1.60

Mar

-01

Sep-0

1

Mar

-02

Sep-0

2

Mar

-03

Sep-0

3

Mar

-04

Sep-0

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Mar

-05

Sep-0

5

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-06

Sep-0

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Mar

-07

Sep-0

7

Mar

-08

Sep-0

8

Mar

-09

Sep-0

9

Mar

-10

Sep-1

0

Mar

-11

Source: U.S. Department of Commerce Bureau of Labor Statistics

• Lean supply chains increase the velocity of distribution systems

• Shipment size getting smaller, but frequency accelerating; inventory is the enemy

• Driving modal substitution: Ocean Airfreight, Truckload LTL, LTL Small Package; What is next: Ocean/Airfreight Rail Intermodal?


Inbound Airfreight RatesAsia to U.S.

90

95

100

105

110

115

120

125

130

135

140

145

150

155

160

165

Mar

-00

Aug-00

Jan-0

1

Jun-0

1

Nov-0

1

Apr-02

Sep-0

2

Feb-0

3

Jul-0

3

Dec-0

3

May

-04

Oct-04

Mar

-05

Aug-05

Jan-0

6

Jun-0

6

Nov-0

6

Apr-07

Sep-0

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Feb-0

8

Jul-0

8

Dec-0

8

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-09

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Jan-1

1

Rat

e In

dex

-20%

-15%

-10%

-5%

0%

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10%

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30%

35%

Year-O

ver-Year C

han

ge

Changing Energy Paradigm

Source: The Oil Drum

• “Peak Cheap Oil” a reality as energy companies ramp exploration and development of new sources of energy (natural gas, oil sands, CTL technology)

• Rapidly rising energy costs not only cause supply chain disruptions, but also cause demand destruction (2008, 2011)

• Companies starting to look at near-sourcing as competitive advantages in places like Asia (China) rapidly deteriorate due to inflation


Source: U.S. Energy Information Agency

• We are seeing the impact of “Peak Cheap Oil” on transportation systems as the supply/demand dynamic changes

• Carriers implementing fuel surcharges (and emergency fuel mechanisms) to lessen energy cost volatility

• We believe the U.S. Government and transportation industry recognize these changes and are adapting to this new reality


-55%-50%-45%-40%-35%-30%-25%-20%-15%-10%-5%0%5%10%15%20%25%30%35%40%45%50%55%60%65%70%75%80%85%

$1.90

$2.20

$2.50

$2.80

$3.10

$3.40

$3.70

$4.00

$4.30

$4.60

$4.90

Year-O

ver-Year

Dol

lars

Per

Gal

lon

Weekly Retail On-Highway Diesel Prices

Government Regulation

Source: Department of Transportation

Government Regulation: Trucking• U.S. Government is scheduled to implement several new regulations that will impact the trucking industry over the next couple of years

• Headline motivation is safety; we believe long term energy concerns are the real driver

• Carrier reactions to new regulations indicates a fundamental change in the transport markets

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Fatalities Per 100 Million Vehicle Miles Traveled

17

• Trucks are one of the largest consumers of oil (in the form of diesel fuel) in the U.S.

• The trucking industry is highly fragmented (~600k carriers) with the vast majority being owner-operators or small to mid-sized trucking companies operating fewer than 10 trucks

Compliance, Safety, Accountability (CSA) Program − Targets both carriers (equipment) and drivers− More comprehensive and “real time” monitoring and enforcement of the trucking industry− Total driver loss estimated to be 10-15% of the existing population − Smaller carriers will be negatively impacted to a greater degree than large carriers− Carriers will likely face higher costs relative to driver recruitment, pay, and insurance which will be passed on to shippers− Shippers/Brokers worried about negligible hiring and litigation exposure are reviewing CSA scores to determine what is ‘acceptable’

Hours of Service (HoS) − 14 Hour Driving window with release from duty after − Reduction in max driving time from 11 hours to 10− On duty time more strictly enforced − Total reduction in aggregate available capacity (based on hours lost) could reach 10% − Carriers would be less productive

Electronic Onboard Recorders (EOBR)− Monitoring devices for trucks (details truck operations)− Requirement of EOBR’s create additional headwinds for small and mid-sized carriers due to expense− Some O&D pairs may no longer be viable

Government Regulation: Impact on Trucking

Source: Cleveland Research Analysis, FMCSA

• Carrier behavior unlike anything seen since deregulation (1980)

• Large carriers have not chasing market share as capacity tightens

• Fleets sizes remain relatively static (ex-replacement) after the 2009 recession due to driver shortage

• Lack of financing sources and rising equipment costs keeping trucks from re-entering the market

Source: Cleveland Research Proprietary Trucking Database

Government Regulation: Carrier Response

Freight Market Demand Index

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2008 2009 2010 2011


• Van rates up 7-10%+ year-over-year as capacity tightens; we see further upside in 2012

• Rates could see further upside into the back-to-school and peak shipping seasons

• Spot rates likely move higher as shippers get more concerned about securing capacity for 2H11

Government Regulation: Market Response

Dry-Van Spot Rates

$1.00

$1.20

$1.40

$1.60

$1.80

$2.00

$2.20

$2.40

Jan

Feb Mar Apr

May Ju

nJu

lAug

Sep OctNov

Dec

2008 2009 2010 2011


• Flatbed rates have materially improved as capacity exits the market

• Flatbed disproportionately impacted by impending CSA regulations because of extra work needed to secure loads as well as weight and size issues

• Rates likely will see more upside as core end markets continue to improve (commercial construction, energy, government tied to disaster relief)

Flatbed Spot Rates

$1.00

$1.20

$1.40

$1.60

$1.80

$2.00

$2.20

$2.40

Jan

Feb Mar Apr

May Ju

nJu

lAug

Sep OctNov

Dec

2008 2009 2010 2011



• Less cyclical reefer freight benefiting from resiliency of non-discretionary end markets (food and beverage)

• Smaller, more specialized market gives carriers more pricing leverage as capacity tightens


Reefer Spot Rates

$1.00

$1.20

$1.40

$1.60

$1.80

$2.00

$2.20

$2.40

Jan

Feb Mar Apr

May Ju

nJu

lAug

Sep OctNov

Dec

2008 2009 2010 2011

Source: U.S. Department of Transportation

• What drove Warren Buffett to buy BNSF in 2009?

• As the trucking industry faces more regulation, rails stand to haul more volume and gain market share due to modal conversion

• Rails are far more efficient than trucks and have been able to add incremental volume without significantly increasing fuel consumption

Government Regulation: Rail Benefit

U.S. Rail Volume vs. Fuel Consumption(1980-2008)

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19801981

19821983

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2008

Rail volume Rail fuel consumption

Source: IANA, CRC Analysis

Government Regulation: Benefit for Rail

• Growth will accelerate as fuel moves higher and rails tap lane segments below 800 miles

• Service and fit with shipper supply chains is the biggest inhibitor to intermodal adoption

• Near term: reliability faces headwinds from train crew shortages

• Long term: performance will improve giving shippers a more cost effective and time-sensitive solution for their supply chains

Addressable Market for Intermodal Rail

Modal Capacity Issues

Source: CRC Analysis

Modal Capacity Issues: Truck

• Ongoing evolution of the role of big carriers; no longer placing huge equipment orders with OEMs; focusing on yields versus market share

•Tight credit markets making it difficult for owner-operators and small to mid-sized trucking companies to buy new equipment (even replacement)

• Truck brokers have emerged as a viable source of capacity for shippers and another sales/marketing avenue for carriers

– Brokers possess the information technology to manage relationships with thousands of small to mid-sized carriers and owner-operators

- Brokers have the geographic footprint to gain greater visibility into markets and secure freight

- Broker consolidation likely as small players exit the market due to rising barriers to entry (surety bonds, IT platforms)

TOP 10 FULL TRUCKLOAD CARRIERS (2008) TRUCKS IN FLEETSwift Transportation Co., Inc. 18,307

Schneider National Carriers, Inc. 12,964

J B Hunt Transport, Inc. 9,979

Landstar System, Inc. 9,039

US Xpress Enterprises, Inc. 7,725

Werner Enterprises, Inc. 7,700

Pacer International Trucking Operations 6,577

Crete Carrier Corp. 5,428

KLLM Transport Services, Inc. 3,709

Knight Transportation, Inc. 3,699

TOTAL TRUCKS OPERATED BY TOP TEN CARRIERS 85,127

Top Ten Carriers as a Percentage of Total Trucks 3.9%

TOTAL TRUCKS OPERATED BY TOP 100 CARRIERS 206,689

Top 100 Carriers as a Percentage of Total Trucks 9.5%

Total Class 8 Trucks in Operation 2,180,000

Source: BRS, CRC Analysis

Modal Capacity Issues: Ocean• Global containership lines still taking delivery of ships ordered several years ago despite softening demand

• Not only is the global fleet growing but the size of ships being deployed is also rapidly expanding

• Carriers need to deploy and fully utilize these assets in order to earn an acceptable ROI

Evolution of Global Container Shipping (1970-2011, TEUs)

0

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1970

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L “Lica” Class(3,400 TEU)

R “Regina” Class(6,000 TEU)

S “Sovereign” Class(8,000 TEU)

E “Emma” Class(12,500 TEU)

Source: Drewry

Modal Capacity Issues: Ocean

Containerized Ocean Shipping Rates Hong Kong to U.S. West Coast (LA/LB)

$800

$1,000

$1,200

$1,400

$1,600

$1,800

$2,000

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2/22/2

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/2010

1/24/2

011

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011

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011

Rat

e p

er T

EU

-90%

-70%

-50%

-30%

-10%

10%

30%

50%

70%

90%

110%

130%

150%

170%

190%

210%

230%

250%

Year-O

ver-Year

Rate per TEU Year-over-Year

• Price collusion in 2010 has altered behavior for 2011 preventing carriers from idling capacity

• Idle ship capacity stand at just under 1% of the global fleet; was almost 12% in 2010

• Current environment favors shippers and freight forwarders as carriers cut rates to keep their expensive assets full

Future Implications for Supply Chains

Near Term

• Back-to-School and Peak season yet to play but off to a slow start; overall economy looks to be slowing again

• Truck (TL and LTL) capacity will remain tight; Airfreight and Intermodal Rail balanced; Containerized Ocean loose

• What lever will the U.S. Government pull next? What does it mean for inflation and consumer spending?

Long Term

• Globalization and the ability to tie into the international movement of raw materials, component parts and finished goods

- Exports will remain strong if the U.S. Dollar remains weak

- Deconsolidation of international ocean containers for trans-shipment within the U.S.

- Expanding role of the airfreight value chain

• Ability to cater to emerging regional distribution strategies

-Shorter length of haul, smaller shipment size, multi-stop, dedicated

- Expanding role of the intermodal value chain

• Differentiated service offering with a focus on providing value added supply chain management solutions versus commodity transportation services

- Shippers are increasingly looking to outsource some or all of their supply chain functions to third-parties in order to focus on core competencies

- Partnering opportunities with other service providers who lack distribution capabilities in the U.S.

Source: Cleveland Research

Disclosures

Other Disclosures: I, Mark Davis, certify that the views expressed in the research report(s) accurately reflect my personal views about the subject security(s). Further I certify that no part of my compensation was, is, or will be directly or indirectly related to the specific recommendations or views contained in the research report(s). The analysts responsible for the preparation of this report have no ownership stake in this company. Cleveland Research Company provides no investment banking services of any type on this or any company.

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Member FINRA/SIPC

The Evolving Transportation/Supply Chain Landscape

Columbus Region Logistics CouncilThursday August 4, 2011

Mark DavisSenior Analyst/Partner

[email protected]

Crc columbus region logistics council presentation 8 4 11

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