First Thoughts
  By Dan Gilmore - Editor-in-Chief  
  May 15, 2008  

Fuel Prices – Cry, Panic, or Act?



Gilmore Says:
My friend, Bill Peterson of Precision Software, wrote a letter saying “The world with $200 a barrel oil will be a very different place.”  I sort of thought so too, but when we are only about $70 away, it’s time to start thinking about what that place is.

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I really didn’t intend to write another column about this topic so soon, but recent developments and some thoughts from the American Trucking Association have forced my hand a bit.

Not too long ago, we ran two well-received pieces related to this subject. The first were my thoughts on “Supply Chain and $200 Oil,” followed a few weeks later by some excellent research by Dr. David Simchi-Levi on how reaching that price of oil might impact the optimal supply chain network design. (See Oil Prices and Supply Chain Network Design.)

The initial trigger for those pieces were projections by a Goldman Sachs analysts, and some others, that oil might reach $200 a barrel.

I just didn’t think it would be so soon.

OK, as I write this, it’s at $127 per barrel or something. But it seems to go up every day. While some experts continue to say it’s a bit of a bubble, and we should see a strong price pull back, I am increasingly thinking whatever pull back we get will be small, and again we will hit a higher trough from which prices will rise again.

Amazing considering the current US and, to some extent, global economic slowdown, which in the past has always led to a drop in demand and in the price per barrel. Months into the slowdown, those days are over, it seems.

Finally, various tensions and threats are omni-present in the Middle East. Can you imagine what will happen to oil prices if any of the numerous hot spots there ignites - even mildly - any time soon? In my view, we’ll blow past $200 oil in a heartbeat.

I am to some extent reminded of the excellent analogy of frogs and the boiling water. Though I have heard this is not how it actually works, the story goes that if you throw a frog in boiling water, it will jump right out, but if you put it in cool water and turn up the heat, it will stay in the pot until it cooks to death.

That’s how I feel we are now with fuel costs, both in the economy at large and in our supply chains. We’re being boiled alive, but may not realize it until its too late. The US economy and our supply chains can be very resilient, but at some point in both, something has to give.

Upon my original $200 article, my friend, Bill Peterson of Precision Software, wrote a letter saying “The world with $200 a barrel oil will be a very different place.”  I sort of thought so too, but when we are only about $70 away, it’s time to start thinking about what that place is.

Trying to stick to a supply chain perspective, let’s take some obvious and non-obvious ideas:

  • To have much hope, we will need to take massive actions to reduce transportation miles and costs. If you can’t get a TMS justified now, good luck. If you aren’t maximizing opportunities for consolidation and pooling, and loading your trailers with maximum efficiency, you will be at a huge cost disadvantage.
  • In the obvious category, we need to look at our supply chain networks, with urgency. This is part of the frog analogy. Yes, we all know we need to do this, but are we putting off for another day while the water is starting to simmer? No one knows where this will go, but we need to start doing scenario analysis right now. Does anyone at your company really well understand what the impact and options really are? Shouldn’t you be looking at this immediately?
  • We’ll have to fire some customers. There are simply some customers – more for some, fewer for others – for which rapidly increasing logistics costs will overwhelm their marginal profitability. A quick analogy – I am a bike rider, and often find in small towns we go through that I can’t buy a USA Today, let alone a Wall Street Journal. Why? Not worth the cost to deliver even a whole bundle to a retail store there. My guess would be there will be more and more towns without a national paper being delivered soon. Economics will now say you should drop a growing number of customers.
  • Will this finally be the catalyst that drives more transportation collaboration, and/or continuous move planning? Despite the enormous theoretical interest, adoption of either practice has just been too hard; shippers, for example, can’t quite seem to agree on how shared savings will be split. At these prices, can’t we find an approach to collaboration that will work?
  • One big question, of course, is whether all this will actually reverse some of the trend to low-cost country sourcing, as transportation expense overwhelms per unit savings. In Dr. Simchi-Levi’s analysis of a real company’s data, at high oil prices, significant volumes did eventually move from a Mexican sourcing location to an Omaha one in the optimal network. Going to manufacture in Western China to chase lower labor costs? Might need to rethink that option.

Finally, this week we reported on the ATA’s proposal to Congress for curbing oil demand as well as increasing supply (See What's the American Trucking Associations' Answer to the "Fuel Crisis?"). ATA executive Mike Card offered some very good ideas, many of which in a rational (read less political) world could be acted upon rapidly.

Transportation lawyer John Cutler has told me and many attendees at events where he has made presentations that politicians, to a large extent, tune out carriers and their lobbyists, viewing them as mostly self-interested. But they will listen a lot more closely to shippers expressing their concerns.

Right now, carriers and shippers are clearly on the same side. It’s time to get active. That means proactively looking now at the impact rising oil prices will have on your strategy, network, and options, and finding some executive at your company to start working the congressional representatives from your state. Before the pot has fully boiled.

Do we need to take more urgent action both internally and externally to address what is happening with fuel costs and the supply chain? Do you agree that in many cases there are things companies know they need to do, like looking at network scenarios, but just aren’t yet finding the time? Should more shippers be joining the ATA in making the case for change? Let us know your thoughts at the Feedback button below.

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