A statement in a recent analyst report on forwarder Expeditors International of Washington stopped me in my tracks: “Expeditors International disappointed the Street for the fourth straight quarter, as the international air freight market (out of Asia, in particular) has been soft for over a year due to lackluster consumer and business demand, structural shifts in the high-tech sector, better inventory management, lack of surge demand, and increasing competition,” Stifel Nicolaus wrote in a Nov. 6 note following Expeditors’ earnings release. “We continue to like the business model at Expeditors, but are less enthusiastic about long-term growth and share price appreciation potential.”
The comment struck me because even Expeditors — “the best transportation stock of all time,” according to Stifel Nicolaus analyst David Ross — is being laid low in part by what is perhaps the most significant structural trend in international transportation today: the possibly permanent shift to ocean by many cargoes that used to move exclusively or overwhelmingly by air.
Although it began to affect forwarders’ results beginning last year, the trend has only accelerated since. In an earnings warning in October, Swiss forwarder Panalpina cited an unexpected decline in air freight volumes this year. “Compared to the previous year, particularly, (air freight) volumes of major customers in key industries such as high-tech, telecom and chemicals decreased substantially in the third quarter,” it said.
The convergence of several trends is leading to the shift away from air freight, a change in the landscape that’s been in plain view as one forwarder after another released disappointing earnings and Boeing recently reduced its 20-year growth forecast for air freight from 5.9 percent to 5.2 percent. For example, electronics products are getting smaller and lighter — witness the shift from PCs to laptops to tablets, to mini-tablets — meaning less cargo to ship. “Tech products, having gotten smaller and smaller, are generating less air freight,” Ross said.
Notebooks that were shipped exclusively by air began to be converted to ocean in large quantities three years ago, and the industry’s aim is to convert half of all notebook shipments to ocean. “Tablets go ocean after the first wave of consumer demand has been satisfied,” Albert Hoffmann, head of Asia seafreight for Kuehne + Nagel, told the JOC TPM Asia conference in Shenzhen in October.
Another area of conversion is pharmaceuticals, where high-value cargoes are being shifted to reefer containers, he said.
Panalpina noted the smaller size of air shipments: “The trend toward smaller shipments was accentuated. While the number of handled (air freight) files during the third quarter remained practically unchanged year-over-year, tonnage dropped by 8 percent,” in part reflecting recessionary conditions in Europe.
At the same time, one response among retailer and consumer goods makers to the pullback in consumer spending following the financial crisis is to seek lower-cost transportation options, even if that may mean longer lead times for products. With ocean costing some 5 percent of the cost of air freight (and with intermodal less expensive than trucking, as another example), supply chains are adjusting.
In a Sept. 6 earnings call in which air freight weakness was a key theme, UTi CEO Eric Kirchner told analysts that even though air-ocean rate spreads have narrowed somewhat, the cost difference is enough for many shippers to go with the lower cost ocean option. “Certain customers … would not normally consider ocean as an option because of the extended transit time. Even if they’re able to save less (with) ocean versus air … than they might have in the past, they are still able to save something. And if they’re able to do that and still operate their supply chains effectively, we would expect that to happen.”
The change is seen in dramatic form at FedEx, which has pivoted fundamentally away from its core, but now slow-growing, air express business, focusing instead on ocean forwarding and various forms of trucking-based services more appealing to cost-conscious shippers.
Since last year, “air freight’s been disproportionately affected as clients continue to ship in smaller quantities and increasingly favor ocean freight,” UTi CEO Eric Kirchner told analysts in a Sept. 6 earnings call. “Air freight continues to lag behind other modes. Ocean freight’s been steadier, which is encouraging.”
What’s interesting about the shift to ocean is that it’s occurring despite the possibly permanent shift to slow-steaming by ocean carriers and the resulting two additional days to most Asia-Europe and Asia-North America transit times. Shippers’ ability to make the shift in part reflects low interest rates rather than lower inventory-carrying costs, but it also shows how much companies are willing to optimize their supply chains around transportation cost. If there’s a dominant theme in 2012, that’s it.