25 July 2013

Shipping Cartels To Become Illegal

The international shipping industry in New Zealand has long enjoyed an exemption from the Commerce Act. Shipping companies routinely publish advertisements saying that representatives from a number of lines met and collectively decided to increase their prices by a certain amount effective from a certain date. Anyone else in any other industry trying to do the same would most probably face prosecution, followed by stiff penalties.

The Importers Institute has argued for a long time that there is no reason to for the exemptions. Shipping company clients - exporters and exporters – have to compete in environments where price collusion is illegal. The current government decided to refer this issue to the Productivity Commission. The Commission’s Chair Murray Sherwin said, “Current exemptions for shipping companies from the Commerce Act should be removed so that normal competition laws apply.”

The government decided to accept this recommendation and announced that “international shipping to and from New Zealand will be regulated under the Commerce Act, improving oversight and delivering competitive outcomes for exporting industries.” We applaud this decision and look forward to the efficiency improvements that usually result from increased competition.

Producer Cartels Continue To Under-Perform

Like the Shipping Cartels of yesteryear, some producer cooperatives owe their existence to political decisions to exempt them from anti-trust laws. In 2001, the Dairy Industry Restructuring Act exempted the dairy industry from certain sections of the Commerce Act and paved the way for the creation of Fonterra. So, how is the cooperative faring?

It is difficult to assess the success or otherwise of our dairy quasi-monopoly. As we said back in 1998, in correspondence with the then Dairy Board, “we know that the performance of [State export] monopolies is indeed very good, mainly because they keep saying that it is. It is, however, apparent that it is not good enough to withstand competition from other exporters.”

One way is to look at what economists call the 'counterfactual’. We know that Fonterra is doing well but, could or should it do as well as, say, Nestle? We know that free competition leads to efficiencies everywhere and that is the main reason why centrally planned economies invariably fail. What is so special about producing milk or kiwifruit that requires us to protect producers from normal market disciplines?

Take the case of infant formula. Fonterra was negligently hoodwinked by its joint venture partners in China who had no qualms in poisoning babies by adulterating milk formula for a quick buck. Ironically, this resulted in a strong preference by Chinese parents for infant formula made in New Zealand. In a normal competitive market, a normal competitive company would have spotted the opportunity and met the market demand quickly.

Not Fonterra, though. Selling of infant formula was to be done through their approved channels only and in a time frame that best suits the bureaucrats who run the cooperative. So, enterprising Chinese traders started buying cans of infant formula in New Zealand supermarkets in large quantities and shipping them for sale in China, for a handsome profit (cans of imported formula can retail in China for as much as $70 each). There was so much of that happening that local supermarkets started rationing sales.

One of our freight agents in Honk Kong asked us to quote freight costs for forty containers per month. We declined to quote, on the grounds that we anticipated that the authorities would put an end to this embarrassing trade, sooner or later. And so it came to pass: the Ministry of Primary Industries and Customs swung into action and lowered the boom. Products that had been approved as being safe for New Zealand consumers would in future be exported to China only by State-approved exporters.

Five years after the melamine adulteration scandal, Fonterra announced plans to launch its own infant formula brand in China in 2013, looking to grab a share of a market estimated to be worth US$6 billion annually and projected to double by 2016. In the meantime, Chinese companies started buying up land and setting up factories in New Zealand to produce their own brands.

What Is 3PL And Why Is Everyone Doing It?

3PL is an acronym for third party logistics, what used to be called contract warehousing and distribution. The idea is that, instead of each importer or exporter having their own storage and handling facilities, they subcontract those functions to a specialist. In recent years, the move to contractors has accelerated, as evidenced by the number of large new facilities being built every month around airports and other industrial areas.

The economics are compelling. Take an example of a small importer, who rents a small warehouse cum showroom with an office in the mezzanine. The office employs the boss and two clerks, the warehouse has a manager, a forklift, some racking and one picker. The sales are outsourced to commission agents and temporary warehouse workers are employed during peak times. The annual cost of the warehouse and equipment rent plus staff amounts to at least $200,000.

Any 3PL operator should be able to handle that importer’s volume for about $50,000. An experienced operator should be able to offer significant improvements in operational efficiency. The boss has a clear choice: continue business as usual or add $150,000 to the bottom line. A no-brainer, surely.

The 3PL model enables efficiencies that are not otherwise possible. Take for example the case of some clothing retailers that we work with. A significant proportion of their sales is of base products, which can be more or less predicted quite a bit in advance. In those cases, it makes sense to have them packed by store in China, where labour costs are still marginally lower than ours.

On arrival, the 3PL operator simply cross-docks the cartons and immediately ships them to the final destinations, after recording the movement for tracking purposes. The rest of the stock is received in bulk and put away in locations, to be distributed daily against store allocations. All items stored and shipped, whether cross-docked or picked locally, have total visibility through a tracking website.

The same model applies in reverse for exports. The 3PL operator can consolidate orders to be cross-docked on arrival by his agents overseas and manage stocks for local fulfilment. The key to both of these models is that the 3PL operator must have a robust network of experienced overseas agents capable of accurately sending and receiving the large amounts of data involved, providing real-time visibility.

The ability to handle large volumes of data and reporting movements accurately is at the heart of a successful 3PL operation. In DSL Logistics, we like to boast that our warehouse management system is very good indeed, as it includes every error that we have made in the last 15 years! The fact that we developed it in-house has helped a lot, as off-the-shelf systems rarely cater for more than one type of industry and, when they try, they become too complex, expensive and inflexible.

So, what can go wrong when moving to 3PL? Quite a lot, really. Importers and exporters need to satisfy themselves that the intended contractors have the ability to accurately manage their stocks and report movements. They need to have robust and tested software – and that does not mean Excel spreadsheets! The contract itself needs to be well designed, with performance targets that are measurable and reviewable.

Some importers want the selected 3PL provider to operate their legacy warehouse management system, going so far as to provide remote terminals with VPN tunnels to their own network. This may help to keep down the costs of integration, but is not true 3PL; it merely amounts to outsourcing the warehouse rent and employment of pickers. The major efficiencies of 3PL are simply not possible under that model. A true 3PL model involves the trader exchanging information with the 3PL operator, system to system.

The best way for an importer or exporter to assess the suitability of a 3PL provider is to talk to existing client references, particularly in the same or similar industries. When no reference sites are provided, importers shouldn’t rush to be the first. Companies that own lots of ships and planes or move large amounts of cargo throughout the world are not necessarily those best suited to do local 3PL work. Taking care with the appointment and negotiation of the contract will pay handsome dividends.

Industry News

When Mindless Bureaucracy at the Border Damages Trade

Exports of meat from New Zealand were held up on Chinese wharves for a couple of weeks. The problem? The goods were accompanied by certificates issued by MPI, the Ministry of Primary Industries. That’s the latest name of the agricultural certification department. From time to time, our bureaucrats love to spend a few million dollars redesigning logos, changing their letterheads and websites. Why? Because they can. For many years this outfit was known as MAF, originally the Ministry of Agriculture and Fisheries, later changed to Ministry of Agriculture and Forestry.

It turned out that the Chinese Customs manual said that the certificates had to come from MAF. Some low level border official detected shrewdly that MPI is different from MAF and put the shipments on hold. The issue could have been sorted out quickly with a phone call, but that is not how some border services work. Ministers and Ambassadors were brought in and, after much high level discussion, the containers were released.

The irony is that, only a few months ago, MPI took action to close down our own approved container handling facility in Auckland, because our approval was for Daniel Silva Ltd and the company had since changed its name to DSL Logistics Ltd. The decision was rectified promptly, but we had to admit to a tinge of schadenfreude when we heard Minister Nathan Guy give a serve to the department’s Director General for neglecting to inform the Chinese bureaucrats of the name change.

Smuggling is not Black and White. Yeah, Right.

Zespri, the cooperative that holds a State-granted monopoly on the export of kiwifruit, has been involved in what seems to be a spot of old-fashioned smuggling into China. They produced two invoices: one with false low prices for Customs duty purposes only and another with the real sale price. The difference was made up by transfers, some of which reported as being in suitcases full of cash. The Chinese importer got sent to jail for 13 years and Zespri copped a large fine.

NZ Kiwifruit Growers Incorporated is conducting the obligatory inquiry. Its chief executive, Mike Chapman, was reported as saying "Nothing in China is black and white, but the media has portrayed [this case] as black and white." We are sorry to tell Mr Chapman that, in our experience of seeing smugglers operating, there are not too many shades of grey in these matters - in China, New Zealand or elsewhere. It is difficult to imagine that a large private exporter would do this sort of thing and risk the company’s name and reputation.

Air New Zealand Admits Collusion

The Commerce Commission has been running investigations into a number of airlines and major freight forwarders alleged to have colluded to increase freight costs for exporters and importers. Similar investigations have taken place in Europe, the United States and Australia. Here in New Zealand, ten airlines were fined $35 million.

The airlines negotiated penalties with the Commerce Commission, but Air New Zealand held out. It repeatedly and aggressively claimed that it was innocent, spending over $10 million in legal fees in the process. At one stage, general counsel John Blair said the airline “remains adamant it has not breached competition law”. Air New Zealand accused the Commerce Commission of grandstanding to "justify its existence".

Rob Fyfe’s replacement as chief executive, Christopher Luxon, seems to have a more pragmatic approach. The airline has now decided to admit some guilt and settle for a fine of $7.5 million plus costs.