How to Evaluate a Provider’s Supply Chain Pricing
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When it comes time to choose a supply chain services provider, you'll find yourself with a number of questions to be answered. From service level agreements to supply chain pricing formulation, you're likely to have a laundry list of criteria for each provider to fulfill before you can create a shortlist. We covered eight of the main questions to ask a 3PL provider earlier this year, but when it comes to the crunch one factor will inevitably rise close to the top of your final few candidates: the price tag. Most competitive price comparisons start with a summary of how each provider will bill for their services, followed by evaluate costs. Supply chain service providers typically follow a few basic models: 1. Cost plus 2. Transaction-based 3. Percentage of sales Let's take a closer look at each of these in order to set the scene for further comparison.
Cost Plus Pricing ModelIn industries like freight forwarding, or the arranging of transportation, the traditional model is to charge the cost of the actual freight plus a markup, usually between 5 and 15%. It's important to note that while easy to understand and compare against other services, this pricing does not always provide the greatest incentive for the forwarder to lower their clients’ shipping costs and may lead you to ask additional questions in this area. Nowadays relatively few warehousing providers with a fully-developed IT offering work this way, but it was a common model in the days of what is called ‘public warehousing’.
Transaction-Based Pricing ModelTransaction-based pricing means that for each item shipped, whether it’s a unit, an order, a case, a pallet or a truck load, there is a set price. That generally makes it easy to assess the cost to fulfill an individual order, it does not contemplate other costs which can include inbound handling, storage, materials, and so forth.
Percentage-Based Pricing ModelIn this scenario, providers of warehousing and order fulfillment charge the client based on a percentage of their gross revenues. This can be attractive as it allows a company to easily view their fulfillment and related costs as a portion of their top line sales. Depending on the fee structure, it can be challenging to vendors of higher cost items, because your provider gets paid base on the value of your product, not the amount of work done or value added by the provider. Pricing based on a percentage can be a worthwhile arrangement for vendors with lower-cost products, if occasionally tough on the provider, depending on the fee structure.
How to Evaluate Price Across Different Service ProvidersComparing costs across the different pricing models is challenging, but not impossible. If a provider has an extensive ‘menu’ of charges, from inbound to storage to outbound, it can be more complicated, but ultimately if you know your business you will be able to figure out what it will cost to receive, store and ship your products. In the case of start-ups this can be considerably more difficult due to the lack of operational history. A few key things to remember are: 1. Your inbound freight quantities should match your outbound 2. Your business plan notwithstanding, estimate conservatively 3. Consider adding a ‘contingency’ buffer of 5-10%. After all, "stuff happens!" Once you understand how your chosen providers formulate their pricing and have , you can project anticipated costs over a set period of time for a clearer comparison. In the case of established operations, you'll also need to factor in the cost of moving from one provider to another, which are commonly referred to as "switching costs." This cost may remain the same across all of your shortlisted providers, but you'll want to go through the process of envisioning the transition to each potential provider to ensure this is the case. Switching costs can vary widely, so you need to know what to look for. Some providers have a simple termination provision in which either labor or transactional rates apply, making your expected costs easy enough to estimate. Still others will apply a fixed term that tends to range between 2 to 5 years. The biggest costs are typically to be found in the interruption of the normal flow of products, as well as the inevitable ‘getting to know you’ phase of integrating with a new provider. Special scrutiny should be paid to your new provider’s process of bringing your business on board, as that will be a major driver of any success transition.
Is That Your Final Decision?Finally, although price plays a major part of any final decision, another important factor to consider is how open a provider is when discussing your anticipated service costs. Any provider who wants and deserves to win your business should exhibit a high degree of transparency. Seek simplicity in pricing models where possible, although this can sometimes be a challenge. Small parcel carriers, for example, often have complicated fee schedules that make for a challenging competitive price comparison. Your final decision should be based on the best deal with a provider who gives you a strong feeling of trust and a straightforward price model (though not at the expense of your ability to control your costs as you gain operational sophistication.) Find the right blend of these competing factors and your search for a supply chain provider price that meets both your budget and service expectations will be a successful one.
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