Q4 INDUSTRY UPDATE
Both logistics companies and their customers are facing significant competitive pressures from a variety of angles, and are using innovative means to succeed. Shippers are under intense pressure to provide ever faster delivery, at lower costs (or no added costs) to their end customers, while enabling their customers to track every aspect of the delivery process. As Amazon has become the trend-setter in the logistics space and affected nearly every facet of the sector, customers and shippers now expect “Amazon-like” delivery. In response, logistics providers have had to up their games.
Shippers are becoming more confident relying on 3PLs for strategic initiatives. According to the 21st annual Third Party Logistics study conducted by Capgemini, Penn State University and Penske Logistics, a vast majority of shippers agree that 3PLs have helped them reduce expenses and improve customer service, and many reported that they have outsourced numerous transactional and operational activities to these providers. As a result, partnerships between shippers and 3PLs continue to become more strategic. Shippers have increased expectations when it comes to technology and services capabilities, and 3PLs are now offering more advanced analytics to help shippers better serve their customers.
This confidence also comes through on the use of expedited service. Initially, logistics providers felt compelled to offer expedited service as a response to Amazon Prime and customers’ expectations for fast and free delivery to the home. This soon extended to oversized packages and B2B customers. As logistics providers develop the abilities to efficiently and cost-effectively provide these services, manufacturers and shippers have incorporated expedited delivery into their supply chains, making it a key aspect for managing expenses. No longer is expedited delivery only for urgent or perishable items. Shippers are relying on it to keep inventory lower, help reduce warehousing costs, enable more flexibility in the production planning process, and prepare for market uncertainty.
Packaging has become another significant opportunity for cost improvement. Retail customers are demanding free shipping because they have come to expect it from the likes of Amazon Prime. At the same time, companies are facing rising delivery costs for last-mile delivery. In response, logistics companies such as UPS and FedEx are offering new services to help out their customers. They each have created independent labs to help customers cut weight by customizing shipping boxes, implemented on-demand machines and focused on improving density on trucks by saving space per package…
Q3 INDUSTRY UPDATE
In early September, after losing money for years, the bankruptcy of Hanjin Shipping Co. left almost 50 ships stranded at sea as no ports would allow the ships to enter without being able to pay docking fees. South Korea-based Hanjin, the seventh-largest container shipping company in the world, had been transporting over 100 million tons of cargo per year. The Company was saddled with $5 billion of debt as of 2015. Since the recession in 2008, global trade has been down, while container lines have continued to build more, larger ships. This overcapacity, estimated at over 30%, led to rates so low earlier this year that, by some estimates, Hanjin couldn’t cover its costs.
When the Hanjin bankruptcy was announced, the price of shipping a 40-foot container from China to the U.S. jumped up 50 percent in a single day. However, given the overcapacity, rates are falling back to those depressed levels from earlier this summer.
The fallout for U.S. companies was a service interruption for $14 billion worth of cargo that was stuck in transit when the bankruptcy was declared. This created higher initial shipping costs as retailers tried to get goods to market for the holiday season. However, this interruption certainly was not as severe as last year’s West Coast port strikes, and due to overcapacity in industry, competitors will quickly fill in.
Low demand for freight, more regulations and slow growth in the trucking industry are significant factors motivating LTL companies to move into last-mile delivery, making it the latest front for competition. The demand is being driven by:
- More large items and over-dimensional products shipping direct to consumers instead of typical retail channels.
- New online sales events, such as the second Amazon Prime Day and Wal-Mart’s response with free shipping and other deals.
- More complexity and higher demand for specific delivery windows and additional service days, such as Sundays.
Companies are now attempting to provide a unified experience for customers. For example, Home Depot and Wal-Mart have implemented models for online buying with delivery from stores through contractors. JCPenny is looking to reduce inventory by having vendors deliver more large goods direct to customers’ homes, carrying no inventory in stores besides floor samples. UPS’s venture capital arm recently led a $28-million investment in same-day delivery company Deliv as the traditional logistics company aims to help retailers get products to customers more quickly. One of the primary remaining advantages of brick/mortar has been real-time access to product. E-commerce retailers continue to explore opportunities to close the gap, and UPS wants to help them in that pursuit…
Q2 INDUSTRY UPDATE
The Logistics industry has benefited from current market trends in digital commerce and online sales, as E-commerce revenue was up 8% over the last year, and mobile shopping (on phones and tablets) accounted for 31% of online shopping, up from 27% in May 2015. These trends have had a positive impact on the Warehousing & Storage and Software sectors specifically. In Q1 2016, the U.S. industrial vacancy plummeted to 6.4%, its lowest level since 2000, just before the onset of the 2001 recession.
These low vacancy rates and the continued growth of online sales have raised the demand for warehouse space. Logistics providers are attempting to meet this growing demand by building mega warehouses of over 1 million square feet throughout the U.S. (but mostly concentrated in the South.) The construction of mega warehouses has proved to be a viable source for job creation, as warehouse jobs are one of the fastest growing areas of employment.
We also are seeing investments in warehouse management systems (especially in light of larger, higher occupancy warehouses), transportation management systems and automation software. While companies are being cautious about economic growth, retail commerce is becoming more complex. Therefore to remain competitive, companies are finding it necessary to make long-term, multiyear investments to manage multiple brands, multiple locations and mobile solutions within both stores and distribution centers.
An interesting development to watch is the newly opened larger locks of the Panama Canal. In anticipation of the new locks, changes already have been made on rail and road connections to docks, expansion of terminals, deepening of harbors and the purchase of larger replacement ships. Yet we are seeing a slowdown in trans-Pacific traffic with several routes eliminated prior to peak shipping season and postponing of peak season surcharges. Many experts expect a continued shift of imports coming from Asia to East Coast and Gulf Coast ports instead of the West Coast, a move that had begun to develop during the West Coast port shutdown due to union contract negotiations. We will continue to keep a close eye on the effects of these actions on U.S. logistics.
The Logistics industry is off to a strong start in 2016 after a difficult 2015. The public basket tracked by SDR realized a quarterly increase of 5.4%. Although M&A activity for the sector has dropped 63.4% on a year-over-year basis, we are expecting this to reverse in upcoming quarters.
The Air Freight segment, for example, is well positioned for future M&A activity. Air Freight has accounted for a great number of deals in past years and recently has benefited from the West Coast port stoppage, when companies sought to deliver products through different channels. As companies have worked through the inventory backlog from the West Coast port shutdown, the growth in demand for Air Freight has returned to its previous pace. On the other hand, while Marine Transportation should be enjoying the benefits of the West Coast port reopening, instead idle container ships are at a six-year high due to increased efficiencies and a general slowdown in global trade. Additionally, many manufacturers still are worried about future stoppages at the ports. In fact, business and retail groups have asked the International Longshore and Warehouse Union and Pacific Maritime Association to extend the recently agreed term of the contract with the West Coast ports in order to avoid future work delays. However, Marine Transportation may be aided by the opening of the new Panama Canal locks on June 26, because the Panama Canal provides a more direct route for some destinations and an alternate route in case of stoppages.
Another trend that we are following is the increased usage of 3PL (third-party logistics) providers by smaller e-commerce merchants to connect with customers as an alternative to in-house fulfillment. E-commerce generates 11.9% of North American 3PL revenue but is expected to increase to 20.9% in the next three years, according to a CEO survey conducted by Logistics Management. Jeffrey Graves, President of Sedlak Management Consultants, stated, “For dynamic e-commerce picking, highly automated robotic and shuttle-based systems provide accurate and rapid goods-to-person solutions. These systems can achieve performance levels of many hundreds of order lines per hour with precision accuracy.” Due to stiffened competition, many 3PLs are transitioning to 4PLs (fourth-party logistics) by offering additional services. 4PL providers use advanced management and racking systems, and often offer additional services including complete marketing campaigns that allow customers the ability to sell and market their products online and internationally.
A significant disruptor in the space may be taking hold, as e-commerce giant Amazon is continuing to make moves to significantly increase its Logistics presence. Amazon’s significant use of robotics and analytics in its warehouses and its recent financial investments in delivery channels make it more competitive. Logistics companies are expected to respond by investing internally or acquiring companies that would provide them the capabilities to compete successfully. As such, M&A activity should heat up in the coming quarters.
Entering 2016, the Logistics Industry continues to exercise caution as recent reports suggest that the global economic rebound is decelerating. Inventories are high in both the retail and industrial segments of the supply chain, and weak exports and low domestic factory production have stemmed from a strong dollar. These factors, intensified by a slowing Chinese economy, resulted in a flat 2015 performance for the industry and an uncertain 2016 outlook. “Supply and demand are so closely matched right now, there’s no room in the industry for one glitch. It sends everything into a tailspin. The West Coast ports proved that,” according to Candace Holowicki, director of global transportation and logistics for TriMas Corp. However, there is some optimism as we enter 2016. The industry has responded to these economic headwinds by improving operations; excessive inventories have been trimmed and new orders have been reduced. 2015’s inventory hangover on the West Coast ports stemming from the International Longshore and Warehouse Union strike has been resolved. The strike resulted in depressed demand for new orders and freight shipments through Q3, affecting the entire industry. The West Coast ports should return to higher productivity in 2016 as shippers work through inventories and demand normalizes. Finally, the expected 2015 driver capacity crunch never fully materialized. Trucking companies have successfully avoided the crunch by proactively increasing pay for truckers and Congress’ easing of the 34-hour restart rule has improved driver utilization.
The Logistics Industry has responded with mixed sentiments to Congress’s $305-billion FAST Act. Feeling the weight of a struggling infrastructure, in December Congress and the President passed the bill that included funding for U.S. highways and mass-transit projects. It is the first long-term law in over 10 years after 36 short-term extensions. One of the main accomplishments of the FAST Act is the creation of new programs concentrating on improving freight corridors, reducing major traffic chokepoints and decreasing delivery time. The bill calls for an additional 14,000 miles to be added to the national freight network, increasing total infrastructure miles to 41,000. While most industry insiders have lauded the FAST Act, some provisions within the bill have drawn criticism, including Congress’s rejection of allowing 33-foot trailers on the highways. Fred Smith, CEO of FedEx, recently addressed this concern, noting that these trailers would eliminate an estimated 6.6 million trips per year, reducing congestion and traffic accidents. It would also help save over 200 million gallons of diesel and reduce carbon emission by 4.4 billion pounds per year.
M&A activity within the industry will likely remain high in 2016. According to the Trucking Industry Defense Association, 45.5% of logistics providers believe that consolidation is helpful in such a fragmented industry. Furthermore, a survey conducted with logistics executives revealed that 69% believed millennials will change the way supply chains are managed with the rise of e-commerce and software developments. M&A is likely to stay on pace with 2015 as shippers indicated a preference of acquiring companies that meet these trends, as well as the rise of full-service logistics providers.
As world population and consumer demand increase, the Logistics Sector continues to feel added pressure to scale operations. The Trucking Industry driver shortage has proven challenging with the growing rise of freight demand. Earlier projections in 2015 estimated a shortage of 35,000 drivers. Within the next five years, that shortage is expected to eclipse over 240,000 drivers. Trucking companies have found creative solutions to overcome the shortage. For example, opting to add more trailers per truckload provides a solution that not only increases overall capacity per driver, but also improves overall productivity and efficiency. This increase allows companies to prepare additional trailers for pick up once drivers have executed their orders. Companies are also utilizing route optimization which reduces mileage, fuel costs and overall time spent on the road.
The Marine Freight Industry has also been impacted by headwinds. The American Association of Port Authorities reports that US ports project investing $46B by 2017. This need for capital will result in a rise in capital-formation activity as ports seek ways to raise funds. In Q1 of this year, additional pressures came to a head on the West Coast ports over pay disagreements between management and the International Longshoremen and Warehouse Union. These disputes materialized as the ports had been facing increased work traffic. Overcapacity and infrastructure shortfalls were increasingly apparent due to the ongoing growth in TEU (twenty-foot equivalent unit) sizes. From first half of 2014 to first half of 2015, West Coast port activity slipped from 55 to 50 percent due to the shutdown. The entire West Coast ports represent a staggering 43 percent of all US trade.
Companies with strong balance sheets are well positioned to take advantage of industry weaknesses. With the dollar gaining strength on the Euro, Yen and other currencies, cross-border acquisitions will be cheaper as companies seek to expand their geographic capacity and long-term growth. Additionally, economies in emerging markets continue to see GDP growth and fast-growing populations. These factors will help drive future M&A activity in this industry.
In Q2 2015, the logistics industry’s market cap contracted by 6%, significantly underperforming the S&P 500. Total trade value, manufacturing and retail demand, outsourcing and the price of crude oil drove industry movement down this quarter. Many commodities have been cut from shipments due to exporting prices and demand. However, the demand for the transportation of goods correlates with the increase in consumer spending, which will continue to rise as discretionary income continues to grow. As the transportation of goods increases, there will be a higher demand for logistics services resulting in an environment that is favorable for M&A activity. This quarter, the logistics industry recorded 38 transactions, which represents the highest number of Q2 transactions in the past five years. 19 of the total transactions occurred in the air freight and logistics segment because many companies in this segment are filling the need for efficient global shipping.
The number of oil rigs in the United Sates increased to 859 in the last week of Q2, halting a 28-week decline. The increase in oil rigs will likely lead to growth in shipments of commodities, such as coal and grain. This rise correlates to the price of crude oil and as a result affects the expenses of shipping and logistics companies nationwide.
There has also been a recent shortage of employees in the freighting industry due to baby boomer retirement and a lack of interest among millennials. These factors are contributing to the poor performance of the logistics industry.
In Q1 of 2015, nearly two thirds of all M&A transactions were strategic purchases. This indicates an ongoing demand for logistics firms that provide vertically integrated logistics services due to their convenience and economies of scale. Growth in the sector continues to be driven by an improving economy and robust consumer spending, especially in online retail markets which have seen revenue increases of approximately 10% annually over the past five years. As total industry revenue is still recovering to prerecession highs, healthy manufacturing levels and growth in international trade will likely increase the demand for the transportation of goods leading to a surge in demand for industry services. Falling domestic unemployment rates and rising average income levels will provide growth opportunities for domestic logistic services firms. However, economic uncertainty internationally poses a potential threat to the industry.
While there has been a post-recessionary trend of firms outsourcing logistics services to focus on core operations, some firms are keeping their business in-house. Amazon has recently been approved by the FAA to begin testing its drone delivery program in the US which has the potential to change the competitive landscape within the logistics industry. Although M&A transactions in air freight and logistics account for 25 of the 36 total transactions, air freight holds a small percentage of total freight transportation services. Many airlines are adopting the International Air Travel Association’s (IATA) new industry-wide initiative e-Cargo, which is aimed at reducing costs and improving operating efficiencies, positioning the air freight segment for growth in 2015.
The logistics industry witnessed improved growth in Q4 2014 due to growing downstream demand and rising trade levels. Warehousing, freight, and logistic services remain largely tied to downstream manufacturing, wholesale, and retail markets. Rising disposable income, 4% growth in international trade, and increasing levels of outsourcing to the business services sector, since the recession, have boosted industry performance throughout 2014.
In Q4 of 2014, the number of M&A transactions decreased from 36 to 30. Transactions in air freight and logistics led the industry accounting for 38% of total transactions. 63% of transactions were conducted by strategic buyers, and 57% of these buys were executed by UPS or FedEx, indicating a market trend towards the consolidation of smaller industry players. Though the number of transactions saw a slight decline, the demand for this select set of targets increased, as indicated by higher historic valuations. These valuations were driven by demand from strategic buyers and industry reports forecasting a 5% growth for 2015. Projections also lead to numerous private placements from firms looking to capture potential value from the industry’s forecasted growth.
The pace of logistics M&A transactions slowed slightly during the third quarter, down from 24 total transactions to 20. Once again, transactions in air freight and logistics lead the way, accounting for 65% of total transactions. Although transaction volume in 2014 won’t set any industry records, deal multiples are reaching highs, a trend that has continued since the global recession. The general increase in equity market valuations has contributed to higher deal valuations, but transportation deals, which tend to carry above average multiples, remain some of the most popular in 2014. Two of the three “mega deals” announced this quarter were transportation related.
M&A trends suggest that the logistics industry is taking steps to improve performance through consolidation within underperforming segments and in emerging markets. Acquirers have remained somewhat risk averse, as indicated by the overall pace of deals and the general local-market focus. There is, however, a decent amount of demand for a more select set of targets, as indicated by historic valuations. Going into the fourth quarter, it is likely that transactions in the air freight and logistics and transportation related segments will generate the most volume.
Q2 2014 M&A activity in the logistics industry reflected the ongoing strategy disagreement among large operators: does the concept of agility mean logistics companies should restructure themselves to be asset-lean or does it mean they should focus on tech-enabled organizational structures that maximize asset utility?As some incumbents divested business segments, others happily acquired discounted assets with the intention of integrating them into their optimized models. New players to the industry, however, are almost exclusively building their business around tech enabled models, driving up valuations of public and private logistics software providers.
The industry is confronting concerns surrounding high and volatile energy costs, increased regulation in carbon emissions and road use restrictions, and blurring lines between market segmentation (e.g., the re-emergence of rail as a cost effective F&L alternative for the automotive and agricultural industries). One of the premiere methods of confronting these concerns is through scale and integration; while deal volume in 1H 2014 beat the previous year’s, the most substantive story of Q2 is the ratio of strategic to financial buyers. With 92% of acquisitions deriving from strategic intentions, it is clear that managers are making plays to hedge against their industry’s headwinds.
Q1 media coverage of the freight and logistics industry majors was less than favorable for much of the quarter. Perceived holiday season fumbles by United Parcel Service (NYSE: UPS) and FedEx (NYSE: FDX) were frequent targets for pundits, but the vast majority of the industry performed well over the past six months. Given the consistent (albeit slower than hoped for) pace of growth in US GDP, it’s no wonder that the transportation and logistics industry appears healthy. However, that is not to say that the industry is without imminent challenges. Recent industry polls show that more than three-quarters of F&L executives are worried about high and/or volatile energy costs, and over two-thirds are concerned about both over-regulation in carbon emission and road use restrictions. Also concerning is the growing product diversification in the railroad segment (see “Industry Segments” section) which threatens to steal market share from other overland freight segments.
However, despite the macro challenges facing the industry, strong financial performance was apparent in Q1 and is expected to continue for the balance of 2014. Improved working capital on middle-market balance sheets are expected to lead to continued growth in M&A activity and capital formation as companies seek scale to combat these challenges.
All aspects of the logistics industry are growing, from maritime and over-land freighting, to innovative operations software and management technology, as well as specialized professionals entering the field. Freight forwarding and contract logistics (F&L) are expected to grow at a rate faster than GDP. What will distinguish top performers in the years to come will be those who achieve dominance over key trade routes, expand into emerging regional markets, and those who develop genuine understanding of a client’s industry. Customers of F&L companies are beginning to demand much more than traditional transportation and warehousing services. Top performers in this space are offering new value-added services such as warranty processing, returns management and light manufacturing, as well as becoming integrators of specialized service solutions, building scale and expanding both by acquiring other players and investing in new infrastructures and customer–facing technologies.
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