It should be worth the paper it's written on

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The development of index-linked contracts between liner shipping companies and their customers is moving from the nascent stage into early adoption as both carriers and their customers seek respite from the relentless pricing volatility in today’s major trade lanes.

There was an overwhelming sense of fatigue expressed by shippers, forwarders and carriers at this week’s TOC Container Supply Chain event in Antwerp at the seemingly never-ending ups and downs of pricing – as if the industry has found itself on one of those fairground rollercoaster rides that transpires to be nauseating, rather than exhilarating.

One after the other, industry participants claimed that they wanted an end to the highs and lows that have seen carriers haemorrhage cash and forwarders suffer declining margins and shippers constantly renegotiating freight rates when – they claim – they would rather focus on driving supply chain efficiencies and develop innovative solutions that aid the development of their core operations.

Even the traditional view that freight forwarders make their profits in a volatile market is now being disputed.

DHL’s senior VP of ocean freight Luc Jacobs said: “There is a certain level of volatility where the key players could take advantage of that, but we are seeing a very serious level volatility now where we what we call a “tsunami wave” of contract negotiations and rate volatility, and nobody gains from these. We believe that a 3PL can gain more in a stable market and where we will get margins out of this by providing additional services to our customers.

“In a volatile market it may be that you gain one day, but the next you lose – in the long term stability is in to our benefit.”

CMA CGM’s intermodal VP Alexandre Gallo argued that the use of contracts between carriers and shippers which are linked to freight rate indices such as the Shanghai Container Freight Index or the World Container Index – which are beginning to be introduced to contracts in the transpacific trade – would bring some more stability.

“We simply cannot sustain this situation in the market where the rate is this high one day and this low the next. Shippers need to understand that we cannot survive in a market of such variations,” he said.

But are the incumbent industry players really ready to embrace the realities that greater stability would bring? Marks & Spencer’s head of logistics Jason Keegan revealed to delegates that for a number of months he had proposed a three-year freight rate deal with Maersk, only to be ultimately rejected.

However, he also said that the retailer was on the verge of signing an index-linked “We will do something like that this year. We are dotting ‘I’s and crossing ‘t’s on an index-linked long-term partnership with a line. It’s something that I have been asking for, for about three years

Mr Jacobs also believed that the index-linked contracts could be an important development, but cautioned that the way in which they are structured needed to be both clear and simple: “We are open to it; we think there is potential market for index-linked contracts but we need to be very careful about it – we need long-term partnerships with our customers, open and transparent and the really important thing is that they must not be complex. We need to create an environment where the methodology is fair, where we have an open and transparent environment with a clear methodology with the customer.

“We believe that index-linked contracts could help to avoid these tsunami waves. There will still be a certain amount of rate volatility, but index-linked contracts could really help for certain industries to follow the market tendencies – for example waste paper, but also mature markets; they are very vulnerable to extreme market competition. These industries should be able to follow the market, but have some sort of control over the pricing in their markets.

He said that DHL has begun to introduce an index-linked contract methodology, but it remained in its formative stages. “There is a lot of interest from the customers and we have closed a few deals but they have been very limited. If you would see it in terms of the scale of percentage it’s still a very young approach and over time we will see how effective it is.”

One of the key points about index-linking contracts is that it removes the sense that competing shippers are paying vastly different freight rates, whereby freight prices become a competitive advantage. Carriers may privately scoff at a shipper’s claim that ultimately he “doesn’t mind whether he is paying $500 or $1,000”, but the point made by Exxon Mobil’s global marine dry cargo manager Raf Cornelissen was that he wanted “competitive pricing rather than absolute pricing” – as long as his competitors freight rates were in the same band as his, he was happy to pay higher rates.

In that respect indices may become increasingly important.