… Shipping Packages

My MBA internship this summer is with UPS, so that makes me a venerable expert on the small package shipping industry. Let’s dive in:

IMG_20170630_175854Lots and lots of people and companies don’t ship enough to fill trucks and get those trucks to every corner of every country in a short amount of time, so they share. In the United States, we call that sharing UPS and FedEx. The story is the same for letters, except the government took the lead on that one. That’s your USPS, the US Postal Service. It’s a shared utility/service model. Other examples abound. Air travel shares similarities. Trash hauling and hotels are also good examples (you wouldn’t buy a home in every city just in case you needed to spend a few nights in any given one of them). If the cost of investing in capacity to provide a service exceeds the value of the service for you, there is an opportunity for a shared utility model.

For the model to succeed the service provider needs to carefully match supply and demand. This is tricky, because supply implies long-run planning and capital investment, whereas demand can ebb and flow with the economy and business trends. Let’s say a warehousing company, which offers industrial warehouse space, expects commerce into and out of Nashville to grow rapidly over the next ten years, so it borrows money and buys land and builds warehouses all around Nashville. Then there is a recession, and growth turns downward in Nashville. That debt load could tank the whole warehousing company.IMG_20170715_101955

UPS and FedEx invest in delivery cars, trucks, planes, and distribution centers over the long-run. Even hiccups in demand can have serious impacts on the financial health of the companies.

Asset planning is the long-run side of the shipping industries cost structure, but fuel and labor are short-run challenges that cannot be overlooked. The more packages that can be picked up and delivered in a shorter amount of time, the better. It takes less fuel and fewer labor-hours to accomplish. Therefore, shipping companies focus on pickup and delivery “density.” The denser, the better. This means more packages coming from and going to the same buildings, and buildings being physically closer together. Typically, businesses offer better density than individual households, because they are receiving and sending more packages at once than a household. That’s why shipping companies now tack on residential delivery surcharges and rural delivery surcharges.

Due to these peculiarities of the shared services business model, many commercial clients of the shippers get customized pricing, which is based on how much they ship, how dense the pickups are, how dense the drop-offs are, and even how close they are located to distribution hubs. UPS and FedEx have published rates, but almost no one ever actually pays them unless they just go online and print a shipping label. Most pricing deals are actually expressed as a percent off of those rates.

Given these basics of the economics of the industry, it’s worthwhile to think about what alternative models could emerge and “disrupt” the industry (I’m not a huge fan of the word disruption when used in conjunction with innovation. Disruption has a negative connotation, but so often they are actually positive improvements). Even more so, there are alternative models for package delivery that could have emerged over 100 years ago when the industry was forming.

Delivery Automation

On the face of things, it seems that automation takes care of one short-term cost: labor. However, it’s more complicated than that. Even if a car can drive itself, until an efficient robotics solution is developed, a human still needs to physically deliver packages from package car to destination. What may happen is that package handlers stop driving the cars because autonomous vehicle are safer and more efficient, but the handler rides along for the final package delivery. On the other hand, moving packages between hubs on trucks can be fully automated, because they do not have to stop and make deliveries by hand along the way.

Don’t think that the distribution centers can’t be automated either. JD.com in China has announced a fully automated distribution center.

Despite these aspirations and drawbacks (not even mentioning the labor union and their opinion on the matter), there are additional benefits to automation that are already being realized. Although driving is not automated yet, driving routes are becoming more and more planned based on optimization software, which is reducing time on the road and fuel burn. In addition, a truck driving technique called “platooning” is being tested, in which a second 16-wheeler tractor trailer automatically follows directly behind another, in order to decrease draft and increase fuel efficiency. The second tractor trailer has no driver (there is a driver in the cab for the tests, but the hope is to not need a second driver).

Automatic delivery vehicles can also be useful where drop-off or pickup density is low. Unmanned aerial vehicles (UAV’s), also known as drones, are fairly limited in how many packages they can carry. However, in areas where there are not many deliveries to be made, that’s fine. A drone can make those deliveries while the package cars and drivers can focus on denser areas.

Even more advanced techniques are being tested. Drones are being installed in the roofs of package delivery cars. The car can go out on a route, and the drone and package handler can simultaneously make deliveries to different locations along a route. This helps solve another problem with drones: they have to return to a hub after every delivery to collect another package. When the package car itself can dock the drone, it acts as a sort of mobile hub and reduce the cost of rural deliveries.

Sharing Economy Model

Over the past decade the shared utilities model has been democratized. Companies like Uber and AirBnB have allowed anyone who wants to participate in economic sharing to offer services. Uber and AirBnB are facilitators, not service providers. Individuals with assets to share are the actual service providers. The package delivery industry is more challenging because of the long distances parcels often travel, but many companies are already democratizing package delivery for short-term deliveries, or the “final mile,” between ultimate distribution center and the destination. Uber has a package service called UberRUSH, and Amazon uses individual car owners and drivers for certain Prime deliveries. Postmates is the sharing economy for food delivery, and Deliv is a start-up that is Uber-ing intra-city deliveries for a variety of retailers, running the gamut from Walgreens to florists to Macy’s.

For long distance deliveries, Roadie hooks up road-trippers with people who have items (and pets!) to move between cities. However, it does not seem that a company has emerged which breaks the common carrier barrier. With Roadie, one driver takes the item the whole way. This is only convenient for people who happen to be going precisely from where a delivery is originating to its destination. If a company can effectively hand-off deliveries between loosely affiliated drivers, then a true competitor to UPS and FedEx could emerge.

Just Squeeze it in the Back

A sort of corporate democratization for inter-city shipping is what I call the “Squeeze it in the Back” model. A handful of big companies, such as Walmart, Target, Staples, and supermarkets, have their own trucks. They can afford to operate them because of the scale of their operations and their geographical dispersion. However, these trucks may not always be 100% full. So squeeze it in the back!

If these companies could set up a brokerage system for their unused capacity (and even expand capacity to accommodate small packages) then they may be able to displace some of UPS and FedEx’s business, at least for the long haul portion of deliveries. If these companies went a step further and accepted and dispatched packages from their stores then they could emerge as a true competitor. In fact, this may be quite attractive to them, since all retailers are struggling with attracting customers to their stores to buy stuff. If someone has to head to the nearest Macy’s to pick up a package, they might as well browse around for some apparel while they’re there.

Blockchain

If companies like Uber, AirBnB, and Roadie exemplify the democratization of shared services, then blockchain could usher in the advent of shared services anarchy. A blockchain, which I previously described in an article related to Bitcoins, is a constant ledger of transactions that is available to and verified by all parties involved in the transactions. This is fundamentally different from our current system, in which third parties (such as banks, marketplaces like Amazon Marketplace, and facilitators such as Uber and AirBnB) facilitate and validate transactions.

Here’s a good article from the Wall Street Journal explaining blockchain.

Our current system puts the power in the hands of the third parties, who own the infrastructure and control the economic activity. They dictate who can and cannot participate in an economic activity. However, were there to be a distributed blockchain, the transactions would be transparent, and the underlying software would be controlled by the users of the system itself. Imagine an Uber without Uber. Rather than having the central company accepting requests and dispatching drivers, the blockchain could facilitate this service seamlessly, completely cutting out the central company. Everyone on the blockchain system can hail a ride, all drivers could see it, and once a driver picks up the order, this information is passed along to everyone on the blockchain, who use their individual computing power to verify the transaction and ensure that proper payment is passed from the rider to the driver.

Applying the blockchain technology to the shared utility of shipping, if a cadre of truck and car owners got together and built the blockchain software, then they would only need to build a means for shippers to get their packages into the system. They could then operate similarly to UPS or FedEx, but without the added corporate expenses. In addition, the ease of use would attract more drivers and shippers to the platform, creating a network effect in which the more users, the better the service for everyone involved. I understand that this decentralization opens up a multitude of logistical challenges, but I do not see any of them being insurmountable.

What is fascinating about this application of the blockchain is that an industry that has been asset-heavy for 100 years would be completely disaggregated. Individual asset owners – someone with a car, truck, or individual warehouse, could contribute to the movement of millions of packages a day, while only owning a small part of the system and critically, not having to fork over any of their earnings to a facilitator.

“Up until now, a centralized company has been the best way to create a network that solves a large need: Uber connected riders with drivers, banks connected savers with borrowers, and Twitter connected content writers with content consumers. But thanks to the invention of the blockchain, we will no longer need central companies to act as the middleman. The business models of the future will be software protocols developed, governed and owned by the communities they support.”

Fred Ehrsam, “How the Blockchain Could Change Corporate Structure,” The Wall Street Journal, October 19, 2016

While an anarchical shared utility system governed by the wisdom of the blockchain is only a theoretical idea, there are some more practical applications that could threated UPS and FedEx’s dominance in the near-term. In addition to the big two shipping companies, there are a number of smaller shipping companies, such as LaserShip, GSO, and OnTrac, which each compete only in certain regions of the country. If these regionals could create a blockchain system for passing off their packages amongst each other, they could easily become a consortium that is more competitive, coast-to-coast and with a full line of services.

UPS, FedEx, and the USPS could also tap into the blockchain to improve their operations and financial results. As more and more retail products are bought online, UPS and FedEx’s deliveries have shifted from heavily commercial to more and more residential. This is problematic because it is more expensive to serve households. Households typically receive only one or two packages and can be more spread out than businesses, so it takes more time and fuel to deliver packages to them. If a blockchain of packages and destinations existed across the carriers, then UPS, FedEx, and the USPS could share information on where packages are going, and cross-trade packages for final-mile delivery.

For instance, if in the next week FedEx has two packages going to a residential address and UPS only has one, then UPS can pay FedEx to take that one package and deliver it on time. FedEx could then consolidate the three packages on to one package car, saving time and fuel, while still satisfying the shipper and the recipient. Even though UPS had to pay FedEx, as long as the payment is less than the cost of what it would have cost to travel the “final-mile” for delivery, then both companies still come out ahead. The key to this cross-sharing is information sharing, and the blockchain is one technology that can securely enable this interchange of information and actual packages.

For the curious, a diagram explaining how blockchain works:

Blockchain

The Bidding Model

The last model for the shipping industry that I want to illustrate is the bidding model. I don’t see this as a model that could still develop, but instead it is a model that I see as having been possible when the industry was developing. In the bidding model, packages are picked up by a company, and instead of that company delivering them door-to-door, it puts the package up for bid to “fulfillers.” These companies would bid on fulfilling the delivery service based on their cost structure.

For instance, UPS, which was originally positioned to get packages from coast to coast, would bid on the packages traveling longer distances. FedEx, which was originally a carrier based on speed, may be better positioned to bid on packages that have short handling periods. This model could also support regional shippers that have invested heavily in certain regions of the country, or even rural co-ops or non-profits, which support more remote areas that the larger for-profit companies find it difficult to serve and earn a profit.

One critical question for this model is who will handle pick-ups and the final mile. I think that the USPS may have been an obvious choice, since they go to every address nearly every day anyway. The USPS would pick-up packages and charge the shipper a price. That’s all the shipper ever pays. USPS then auctions it and hands it off to the shipping companies at distribution centers. The company that offers the lowest bid wins. USPS then pays the shipping company the winning amount and hands over the package. USPS earns the difference between what the shipper pays and what the winning shipping company takes for the service.

For instance, USPS may charge $12.00 for a package to travel from New York to Texas within seven days. The USPS put it up for bid, and FedEx offers $9.00 for it, while UPS offers $8.50. UPS wins the bid and has to fulfill the shipment, but it also receives $8.50 for its trouble. The USPS earns $3.50 for picking up the package and facilitating the auction.

For the “final mile” last leg of the shipment, if the shipping company does not want to invest in package cars and delivery drivers, then they can hand the package back over to the USPS, who will complete the delivery (this would have been baked into the bidding and prices). This part of the bidding model actually resembles a service that is already being offered. FedEx SmartPost and UPS SurePost are combination services, where the USPS makes the final mile delivery, while the shipping company handles the pick-up and the long haul portion of the delivery.

One final question for the bidding model is what happens when none of the shipping companies bid on a package (or they bid more than what the USPS charged)? The USPS already collected money from the shipper. They have to fulfill the shipment, so either they could carry it themselves or they would have to take a financial hit on the shipment and pay the shipping company more than USPS had collected for the package. The risk that this will occur should incentivize the USPS to make sure that there are sufficient service providers, to all zip codes, that can profitably handle the packages.

Interested in hearing more about my internship? Check it out here.

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Posted on August 11, 2017, in Business Models, Capitalism, Innovation, Logistics, Shipping and tagged , , , , , , , , , , , , , , , , , , , , , , , , . Bookmark the permalink. Leave a comment.

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