Shippers will need to pay extra attention to ensure their ocean freight bills are accurate as the liner shipping industry copes with surcharges associated with the Jan. 1 implementation of the International Maritime Organization’s (IMO's) low-sulfur fuel mandate.
Freight payment experts told JOC.com that, in theory, surcharges associated with the low-sulfur mandate would be handled like any other accessorial in an ocean freight contract, such as bunker adjustment factor (BAF) formulas, peak season surcharges, or terminal handling charges (THC).
But complications are likely to arise with the IMO fee due to a lack of uniformity in how the pass-through costs of the more expensive fuel will be assessed to shippers. Some container lines are devising their own formulas to calculate the extra costs of low-sulfur fuel they must burn at the start of 2020, while in other cases, shippers have indicated they will insist ocean carriers abide by their internal formulas to calculate those extra costs.
It’s also likely that shippers and capacity providers in some cases will agree to use third-party formulas to underpin a low-sulfur surcharge. The problem could be particularly acute for shippers managing contracts and buying spot capacity across an array of vessel operators and non-vessel-operating common carriers (NVOs), according to Steve Ferreira, CEO of the freight bill auditing firm Ocean Audit.
“There are 14 or 15 major [vessel operators], but the real fear is how is each NVO handles this,” he said. “If one company uses six NVOs, that’s potentially six different policies. It’s likely to be the perfect storm of errors.”
Ferreira likened the impact of low-sulfur fuel surcharges on carrier billing accuracy to that which they face when annual service contracts turn over, only “on steroids.” During those transitional periods between long-term contracts, it’s possible that new rates, new surcharges, and sometimes new processes or underlying systems can create short-term invoicing hiccups for beneficial cargo owners (BCOs), he said.
The effect will be magnified starting Jan. 1, 2020, when the entire global fleet must either switch to compliant low-sulfur bunker fuel or install exhaust-cleaning scrubbers, as so little is clear about how the surcharge will be constructed and who might be exempt from paying it.
“The reality is BCOs all over the world are going to have that April/May contracting effect,” Ferreira said “[IMO 2020] will throw off hundreds of millions of dollars of invoicing, because something is inserting itself that will wreak havoc into the payables chain.”
Use of single formulas
How shippers will handle the invoicing and auditing issues that may arise from low-sulfur fuel surcharges depends primarily on how prepared they are, payment experts said.
“Most of our clients have been planning ahead for the IMO 2020 issue, and we've worked with them around their concerns related to the visibility of the associated surcharges,” said Dave Newberry, CEO of Illinois-based freight post-audit firm Condata Global. “The mechanics of auditing the surcharge are no more complicated than anything else that we deal with on behalf of clients. The biggest issue is that there's so little transparency on the surcharge for shippers.”
Newberry said Condata has been advising clients not to use carriers’ own low-sulfur surcharge formulas in contracts to increase compliance between contract and invoice and minimize inconsistency between service providers. The implication is that juggling different surcharge formulas could lead to inevitable invoicing errors.
“Given that a large part of our service offering is carrier contract compliance, we work with clients to help them optimize those contracts,” he said. “We don't recommend accepting the carrier's formula, but instead encourage clients to recognize that the low-sulfur requirement is a normal operational cost for the carrier and that the surcharge should be negotiated and considered as a part of an overall negotiated rate.”
He noted that some large BCOs will not have to account for the surcharge at all as they reconcile their invoices. “Many high-volume shippers are not subject to this surcharge at all,” Newberry said. “To the extent that they are bearing the weight of the low sulfur requirement, it's only reflected in overall, negotiated rates.”
Patrik Berglund, CEO of freight rate benchmarking platform Xeneta, said at the company’s user conference in Copenhagen in early October that supply and demand balance will largely dictate whether liner carriers are in a position to impose low-sulfur surcharges. That’s particularly true for large volume BCOs with the leverage to negotiate any such surcharges out of their long-term contracts.
At the event, Xeneta showed data that big, disruptive liner shipping issues, similar to spikes in the price of bunker fuel, the 2016 bankruptcy of Hanjin Shipping, or container line and alliance consolidation, aren’t directly correlated with the rate increases the market has to bear. In that light, it will be even more important for liner carriers to hold a firm line on assessing and enforcing low-sulfur fuel surcharges independent of freight rates, even if getting those surcharges to stick gets trickier as rates go down.
Time remains for dry runs
Ferreira advocated that shippers use the remaining weeks in 2019 to conduct dry runs of their ability to manage IMO-related surcharges likely to appear on their invoices after Jan. 1.
“Mock up an invoice with a low-sulfur surcharge and do a drill,” he said. “Decide on the formula and then see how it would apply to a current invoice. It’s no so overly difficult. It’s like the Apollo missions; they did so much practice in the [simulators] that the real thing is just natural.”
He noted that shippers should pay particular attention to how different container lines or NVOs code their low-sulfur surcharges, to be sure they’re appropriately entered. “Get the teams in the habit of how those codes look, whether it’s called an IMBAF or something else.”
CMA CGM and HMM in early November announced their own short-term low-sulfur surcharges. The French container line calls it Low Sulfur Surcharge (LSS20), while HMM calls its surcharge an Environmental Compliance Charge (ECC). Maersk said in October its new Environmental Fuel Fee (EFF) would be applied to all spot business and contracts of up to three months from Dec. 1. Hapag-Lloyd earlier in October said it was levying a new surcharge from Dec. 1 aimed at the spot market and shorter contracts, called the IMO 2020 Transition Charge (ITC).
Those codes for short-term IMO-related BAFs could end up being different than long-term low-sulfur-related fees assessed by carriers. And the formulas behind those BAFs could themselves be adjusted as 2020 progresses to account for more known dynamics of the price of the fuel and its impact on carrier operating costs.
Another potential point of friction to note, Ferreira said, is that carriers funneling contract and invoice data via electronic data interchange (EDI) can contribute to discrepancies. Domestic transportation-focused payment systems sometimes have difficulty translating that data, he said, resulting in over- or underpayment.
The documents triggering the reconciliation process for determining what shippers need to pay for ocean freight are typically the Excel-based vessel voyage invoice or arrival notice, unless the information is conveyed by EDI.
Both Newberry and Ferreira said that pre-audit systems run into issues in accounting for low-sulfur surcharges because they are not always set up to optimize for changes in ocean freight cost structures.
“[Uncertainty around the surcharge formula] is a problem area that we're looking for and expect to see errors in even if the formula were standard,” Newberry said. “It's these kinds of things that can also really slip by a pre-audit process.”
Ferreira argued that the “pitfalls of the traditional pre-audit freight audit approach” might be exacerbated by surcharges associated with the IMO mandate. Both Ocean Audit and Condata work with shippers to audit freight invoices after shipments have been executed, while pre-freight audit and payment vendors help shippers identify discrepancies between planned charges and contracted charges prior to the invoice being issued. The pre-audit approach is widely used in the domestic trucking industry, but less so in ocean freight.
“US Bank specializes in providing visibility across the supply chain,” said Jeff Pape, senior vice president, head of global transportation product and marketing at US Bank, a provider of freight prepayment-audit solutions. “With a single pricing engine for all modes, our customers have a full picture across all freight movement."
As it relates to the IMO mandate, Pape added that US Bank’s solution “provides a robust prepayment audit that currently takes into account fuel surcharges, enabling our customers to have the visibility to anticipate and track those costs. Right now, our customers are starting to get updates from their carriers, but the surcharges will start in earnest Dec. 1 or Jan. 1, depending on the carrier.”
The total invoicing fallout from the transition to low-sulfur fuel is as tricky to estimate as the cost of the fuel itself, but Ferreira is bracing for a large impact.
“Take the top [US] 5,000 importers and exporters,” he said. “The average for the group is about 1,000 containers [annually]. Figure about 100 containers for each BCO will be impacted by initial improper IMO charges at $100 each.”
According to Ferreira’s hypothetical math, overall errors associated with initial low-sulfur surcharges would generate $50 million in discrepancies. If pre-audit systems that many shippers use don’t properly account for variances in the new low-sulfur fees, he estimates that could double, to become a $100 million issue globally over the first few months of IMO 2020 implementation.