Information, not a heavy hand, is the key to successful small parcel contract negotiations
Small parcel carriers are in business to make money, just like every other company. Although it sounds counterintuitive, understanding this truth and letting the carriers make money is the key to your company getting the best parcel shipping rates it can.
Most shippers fall into the trap of thinking that getting the best rates and service from carriers is only about beating them up on price and squeezing every penny out of a negotiation. Yes, getting the best rates for your company is the goal, but doing so at any cost is rarely a good approach. Relationships with carriers based solely on unsustainably low or below-market rates do not last.
A Change in Mindset
Acknowledging that carriers have costs and need to make money too is understandably hard for many logistics professionals. After all, we take pride in our ability to negotiate and place the importance of cost and service efficiency above all else.
But carriers have to be profitable and can tolerate money-losing lanes (or money-losing customer relationships, for that matter) for only so long. Squeezing sub-market rates out of the carrier is not going to serve your company well over the long haul. Here’s why.
The Costs of Carrier Turnover
From a pure rate standpoint, yes, shipping with a rag-tag list of carriers willing to work at below-market rates makes sense. But there are significant costs to carrier turnover that wise logistics professionals don’t underestimate.
Consider how logistics operations are very process-oriented, relying on familiarity with procedures and constant communication. To start, many operations are dependent on proprietary manifest systems or third-party technology. Changes here can require additional investments in equipment as well as training.
There is also a lot that happens between your carrier’s dispatcher, the drivers, and the shipping docks that most logistics managers never hear about. This can include behind-the-scenes details like a carrier getting used to how the shipping docks work or receiving requirements at consignees. Carrier turnover changes the players and thus requires constant re-training or re-learning. Worse yet, a lot of this happens at the expense of service to your customers.
Another common problem for shippers who base carrier relationships on price alone is a lack of capacity during peak periods. When truck capacity is tight, carriers will always give priority to their high-margin customers. If your shipping strategy is based on always choosing the low-cost carrier, there will be many times you need capacity, and it simply won’t be there.
Clearly, a short-term approach to rate negotiation and carrier management has cost implications that extend beyond rates.
Many shippers are learning that entering a parcel contract negotiation with an understanding of the carrier’s operating ratios is the smartest way to negotiate. This knowledge will get you the lowest rates possible with carriers who’ll provide stable, quality service. The cliché of creating a “win-win” solution actually applies here.
What Are Operating Ratios?
Simply put, operating ratios are the carrier’s costs.
The key to using operating ratios to get the best rates from your small parcel carrier is to understand that carrier costs are largely predictable. Although the carrier’s cost to service different shipments will vary greatly based on size and distance (and other details), each is still calculated by considering well-understood cost inputs like driver labor, mileage, maintenance, fuel (thanks to an adjustable surcharge), and other items. Carriers can easily look at your shipment volume and know their cost to service your business. They can assign specific costs if, for example, you ship three loads per week at an average weight of 5,000 lbs. from point A to point B.
Why does this matter?
The opportunity for you as a shipper is to understand what those carrier costs are, and then negotiate with the strength of that knowledge. Having this information enables you to negotiate, on a lane by lane basis, rates that allow the carrier to make a small but sustainable margin on each shipment. This approach guarantees your rates are tightly in line with carrier costs and the real market rates for every shipment. It also builds a stable carrier portfolio that will attract higher quality partners and improve service to your customers.
Putting Knowledge of Operating Ratios into Practice
The problem is, of course, that carriers are not openly sharing their cost basis. If they did, parcel contract negotiation would be (relatively) easy. One approach is to try to calculate the carrier’s operating ratios yourself. As we’ve suggested, carriers’ costs are largely predictable, but knowing them with certainty without some amount of insider knowledge is difficult.
Be prepared to be “above market” in some areas of your contract to squeeze carrier operating ratios for the important areas (frequently utilized services, lanes, accessorials, etc.). This will generate a certain amount of “give and take” and allow the carrier to stay profitable while you pinpoint the sweet spots that matter the most. In other words, concede the battle to win the war.
One way to arm yourself with a knowledge of the carrier’s operating ratios is to leverage third-party data or a partnership with a service provider expert in parcel contract negotiation. There is no shame in leaning on a partner with insider knowledge of the carriers’ pricing models to know the cost basis of your shipments. As we’ve outlined, being prepared with this information is the most valuable tool for negotiating the best small parcel shipping rates you can.
The best rates and successful carrier relationships result from an agreement that works for both parties. The lowest rates and quality service do not have to be mutually exclusive, either. Leveraging knowledge of the carrier’s operating ratios during your small parcel contract negotiation is the guaranteed way to get the best of both worlds.