Is the pricing right for e-commerce cargo?

16 / 11 / 2017

The air cargo industry is often accused of living in the past. It needs to move on the most fundamental issue: determining the price for its service.

The meteoric rise of e-commerce has turbo-charged a trend that was already playing out in the industry before.

As iPhones and pharmaceuticals increasingly replaced heavy, dense cargo, the economics of filling an aircraft shifted.

Now most flights max out on volume; weight is no longer the basis for load maximisation. So why are airlines still charging on a per kilo basis?

Would it make more sense to set rates based on volume? Should they differentiate their pricing, levying different rates based on commodity and density?

The traditional dollar-per-kilo formula looks ever more obsolete. The need to look at volume for pricing is set to rise exponentially, given the rapid growth in e-commerce.

David Shepherd, commercial director of IAG Cargo, noted that international e-commerce has grown in excess of 30% in each of the past three years. “We look to sell more,” he added.

“Our volumes are up 17% this year,” said Roger Samways, vice-president of cargo sales at American Airlines.

Mail used to be dense when it consisted mostly of letters, but the rise of e-commerce has changed this to predominantly lightweight and fairly bulky traffic, he pointed out.

These developments raise question marks over traditional pricing strategies, said Robert van de Weg, managing director of consultant AirWay Cargo.

However, many carriers live in the past in this respect, stuck in old habits, he observed.

There is not going to be a concerted move to change pricing. Industry veterans remember a push by IATA back in 2006 to change the conversion factor for volumetric cargo from 6,000 cu ft per kilo to 5,000, an initiative prompted by the rise of volumetric freight.

The drive fizzled out after the US Department of Justice opposed it, calling it “effectively a price fixing agreement”.

Antitrust regulations prevent any collective move regarding pricing.

“Airlines have to find their own pricing policies,” van de Weg stressed.

“This is a commercial matter. Each airline will come up with its own solution to revenue management,” agreed Shepherd.

Tim Strauss, vice-president of cargo at Air Canada, said that each airline has to determine the value of the space on its aircraft and work out how much a cubic foot of it is worth.

“In the integrator world they get 80%-82% load inside a ULD in terms of volume utilisation. They do their calculation based on that,” he remarked.

This has not led Air Canada to a volume-based pricing scheme, though. Strauss said it is neither desirable to be a kilo king nor a volume king.

Air Canada bases its pricing on the value of a position on an aircraft and uses pivots to guarantee minimum revenue for that position.

Some other carriers have adopted a similar approach, said van de Weg.

Service-based pricing

Ultimately, Samways is looking at pricing based on services provided rather than a set amount per kilo or cubic foot.

“We provide value to customers, the type of service that they need, and we can use that to get a better price,” he said.

American is investing in a new system that will enable the carrier to provide more module-based solutions as well as improved visibility.

“This will give us the ability to implement some differentiated services. If we can do a better job adapting and providing better flexibility to customers, that should help us get better pricing,” Samways commented.

The service aspect is growing in several ways. For one thing, there is a need for ongoing investment in IT infrastructure to manage a rising tide of data. Should airlines charge for this?

Said Strauss: “If the customer is working inside the boundaries of normal electronic transactions and arrives at the origin terminal with completed documents, then the cost should be built into the base price and each company would determine these costs as part of the administrative expenses and build them into the base rate.

“If a customer does not arrive with completed documents or chooses not to use an available electronic platform, then each airline would rightly charge for additional services provided,” he added.

Manuel Galindo, chief executive of Freightos WebCargo, anticipates a fundamental change in airline pricing before long.

“In the near future, the near default pricing model won’t be by weight or volumetric pricing,” he said.

“Real-time capacity allocation from e-bookings, combined with on-demand pricing based on demand and available capacity, will determine the price, rather than hard-coded rules that don’t maximise space usage.

“In other words, weight and volume calculations will be set on a daily, or even real-time basis, by algorithms on a per carrier, and even per vessel, basis,” he predicted.

“Until broader penetration of fully digital dynamic pricing hits, one likely solution is for airlines to simply change the volumetric ration on pricing,” he continued.

Fundamental change

A fundamental change in pricing raises questions for forwarders, for instance how this affects the consolidation model.

Van de Weg sees this model under pressure, noting that consolidation traffic is stagnating.

For Strauss, on the other hand, the model still works with pivots, as forwarders can still maximise the load on a pallet to boost their margin.

Samways sees a continuing need for a consolidation service, as it provides some pricing benefit to shippers.

“There is a place for consolidations, but not every shipment is open to consolidation,” he commented.

Regardless of what pricing formula airlines adopt, they still need to try to mix their traffic for better utilisation.

The rise of volumetric cargo does affect American’s thinking on capacity utilisation, said Samways.

One major tool is managing the flow of cargo to gateways. American uses trucking in Europe partly to extend its network, but also to shift traffic between gateways.

“We truck extensively from Frankfurt to Spain and London. For example, we truck dense automotive traffic from Germany to London to change the mix of the density of our flights out of there,” Samways said.

Presumably the trucking works best for dense cargo, leaving volumetric parcels to go point to point.