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First Thoughts
  By Dan Gilmore - Editor-in-Chief  
     
  Oct. 5 , 2006  
     
  Getting the Fuel Surcharge Genie Back in the Bottle  
     
 
GILMORE SAYS:
To be honest, when I started working on this piece I was absolutely convinced the majority of carriers actually profit from fuel surcharges. Now I am not quite as sure that they do so in total, though clearly some individual shippers are paying unfair costs.

What do you say? Send us your comments

Just in case you hadn’t noticed, oil and gas/diesel prices have been dropping like a rock, and many observers expect prices to continue to fall for some time.

In fact, as we reported two weeks ago (see $1.15 a Gallon? Leading Oil Industry Analyst Says Prices Could Plummet) prominent industry analyst Philip Verleger is suggesting we could temporarily see consumer prices at the pump as low as $1.15, as oil futures traders run for the exits.

We’ve generated a lot of feedback with previous columns on the impact of rising oil prices on the supply chain, the whole notion of “peak oil,” and related topics. Does this latest downward price windfall just show that supply and demand forces almost always work (high prices lead to greater supply coming to market, ultimately depressing prices, as happens in virtually every commodity category)? Or do peak oil scenarios combined with rapid growth in worldwide demand from China, India and others mean we’ll soon look back at this period of  retreating prices as just a strange aberration in the upward pattern? I don’t know, or I’d give this gig up for a career trading oil, but one thing is for sure: geopolitical tensions and terrorist activity alone could send prices right back up just as fast.

Which is a long-winded introduction to my question for the week: should shippers use this (relative) break in the price of fuel to get the carrier fuel surcharge genie back in the bottle?

Fuel surcharges have become a big issue – and a huge expense. As many know, on the rail side the government is on the verge of regulations to restrict the ability of the carriers to levy potentially excessive surcharges (see Have an Opinion On The Rail Fuel Surcharge Issue? There’s Still Time).

To be honest, when I started working on this piece I was absolutely convinced the majority of carriers actually profit from fuel surcharges. Now I am not quite as sure that they do so in total, though clearly some individual shippers are paying unfair costs.

I just read a report from Ed Wolfe, Bear Sterns’ excellent transportation analyst, with this opinion: “Our sense is that generally the LTL carriers make money on fuel surcharges and that earnings for LTL providers would be hurt by sustained lower fuel costs, while TL and rails generally break even over a four quarter period on fuel costs, net of surcharges and hedges.” He goes on to note that the reason LTL carriers can more easily make money is because of the pooled nature of the freight, so that the surcharge is based on some percent of the freight bill, not directly per mile of travel.

Certainly the charge that carriers profit from fuel surcharges is widespread, and is a factor in the proposed Surface Transportation Board’s regulations on rail fuel surcharge practices - a charge the carriers vigorously deny. The true state of affairs is complicated by the fuel hedging that many of the larger carriers use, which impacts positively and negatively their true cost of fuel.

Regardless of the net impact on the carriers’ bottom lines, I’ve heard fairly wild differences in what shippers are paying in fuel surcharges (see below).

But the real question is really this: Should shippers take all the risk in terms of fuel increases? I recently spoke with one VP of Transportation who emphatically said No.

“We’ve allowed the carriers to totally shift the risk of rising fuel prices onto the shipper,” he told me. “We need to get fuel costs back into the base, negotiated rate, and put more of the risk back on the carrier.”

That probably sounds good in an era of ever rising fuel prices. Does it sound as good with fuel prices dropping like a rock?

Of course, many larger shippers have move fairly quickly in the past 18 months from a practice of negotiating with each carrier separately on surcharges to setting a standard rate they will pay to all TL carriers, but again even here I still see some significant differences in what shippers are paying.  As an aside, gaining the ability to make that switch effectively is one of the key factors that led salty snack manufacturer Snyder’s of Hanover to adopt new TMS technology, Transportation Manager Frank Pison recently told me, in preparation for our upcoming Supply Chain Videocast on Cutting Transportation Costs With On-Demand TMS.

Another recent Bear Stearns report confirms the wide range of surcharge payment practices by shippers across all modes. From its survey of hundreds of shippers in Q2 2006, Bear Sterns reports, for example, that “Roughly half of our shippers polled pay 100% of their LTL fuel surcharge bill, while 10% of the shippers polled pay less than half. 28% responded that they pay less than 75% of their LTL fuel surcharge bill.” Data was similar for other modes.

It just seems to me there is a lot of confusion and opacity in this whole surcharge area, and that it is one that lacks clear best practice and or norms. Is regulation, as is likely to happen in the rail arena, the answer in trucking as well? This period of much lower fuel prices, however long it lasts, might allow everyone a chance to re-think this whole issue.

Is there “best practice” for managing fuel surcharges? Should shippers bear all the risk for rising fuel costs? Would you like to see more or all of the potential cost of fuel captured in the base rate as opposed to surcharges? Is tighter regulation the answer in the end? Please let us know your thoughts.

 

 
     
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