Category: Case Studies

Introduction

Jeff Bezos left investment banking to sell books online in the late 90’s through a website he called Amazon. Today Amazon has matured into a retail giant, having dethroned Walmart as the most valuable retailer in the US in 2015¹.

Amazon has not only disrupted the retail world but also sought to take on any industry it relied on in conducting its business. Jeff Bezos has a modern approach to vertically integrating companies. He harnesses the cost-saving benefits while minimising the pitfalls of internal complacency that in the past have eroded the increased margins typically sought through creating these structures. By creating an external customer offering in each of the industries in which it vertically integrates itself, Amazon has converted some of its largest expense line items into revenue generating assets while ensuring it continues to provide superior service levels.

The first example of this strategy was Amazon’s move into cloud computing through the 2006 launch of Amazon Web Services, also known as AWS. Amazon went through a period of dramatic growth at a time when enterprise-class SaaS was not widely available nor economic. Amazon was therefore forced to build its own computing infrastructure. Given the enormous costs associated with this, Amazon decided it would convert the new infrastructure into an external product. Doing so would both offset the internal costs and insure against inefficiency and technological stagnation. AWS is now a US$17.5b revenue business with revenue growth of 42% over the last financial year.

Not long after that came Fulfilled By Amazon (FBA); a service in itself, but in essence a non-core revenue generating entity tasked to reduce one of Amazon’s largest operating costs –  fulfillment. This Fulfilment-as-a-Service allows any third-party seller to store their inventory at one (or multiple) Amazon warehouses from which Amazon will pick, pack and deliver each order and even manage the entire returns process, including providing 24/7 customer service. Amazon does not limit this service to orders placed through the Amazon marketplace but extends the offering to all orders placed with the third-party, regardless of the online channel. Customers of Amazon can ship their products directly from supplier to an Amazon warehouse and not directly incur the setup and operational complexity or overheads associated with the warehousing, fulfillment, returns or customer service.

The benefits to Amazon are three-fold:

1. Increased utilisation of excess warehousing floorspace
2. Reduced last-mile delivery contract rates obtained from its logistics providers by leveraging higher freight volume; and
3. Generating revenue from its fulfilment services.

With physical operations currently spanning 14 countries and growing, Amazon employs over 560,000 people and recorded US$178b in revenue during 2017. Jeff Bezos revealed in his annual shareholder letter for 2017 that it had more than 100 million Prime customer accounts² worldwide, with this number set to grow further as online shopping increases its share versus physical retail spending.

Logistics is a critical operational value driver which enables Amazon to meet and exceed customers delivery expectations. Currently, it is essential for Amazon to partner with a reliable network of logistics providers as well as using their own internal capabilities. This level of service comes at a cost. Amazon’s shipping costs³ grew by 34% to $21.7b in 2017 (2016, 40%; $16b), outpacing ecommerce sales growth of 31% for the year (2016, 25%). This, together with forecasts⁴indicating that by 2020 the eCommerce marketplace will have 900 million customers spending over a trillion US dollars annually, highlights that shipping will continue to be an area of high cost growth.

To date, Amazon’s business strategy has focused on converting its largest internal operating expenses into revenue generating external service offerings. Could logistics be next? If so, what may it look like?

How has Amazon developed its logistics capabilities?

“We expect our net cost of shipping to continue to increase to the extent our customers accept and use our shipping offers at an increasing rate, our product mix shifts to the electronics and other general merchandise category, we reduce shipping rates, we use more expensive shipping methods, and we offer additional services. We seek to mitigate costs of shipping over time in part through achieving higher sales volumes, optimizing placement of fulfillment centres, negotiating better terms with our suppliers, and achieving better operating efficiencies. We believe that offering low prices to our customers is fundamental to our future success, and one way we offer lower prices is through shipping offers.” – Amazon 2015 financial report

Products sold through Amazon’s global marketplace ship to more than 100 countries⁵. Despite the high cost to establish capabilities across this global value chain, it has already started investing in this area of its business. It has:

• over 298 fulfilment centres world-wide;
• secured the long-term leasing of 40 cargo carrying aircraft;
• gained approval in 2016 from the Federal Maritime Commission to act as an Ocean Transportation Intermediary (in essence a freight forwarder);
• tested last mile delivery of products not sold via its own eCommerce platform; and
• made substantial technology-based investments over the years to support the fulfilment of its retail business.

In 2016, Amazon bought a stake in two European logistics companies, Yodel and Colis Privé⁶, gaining access and partial control of a fleet of 6,700 delivery trucks which deliver around 170 million shipments per year in the United Kingdom and France. This has led to Amazon UK delivering around 50% of the goods sold through its marketplace. In September 2015 Amazon piloted Amazon Flex in Seattle, a last-mile delivery service using on-demand contractors. Operations have since grown to include contractors in 50 cities⁷across the US and have also rolled out to the UK market.

Currently Amazon has over 142 fulfilment centres serviced by over 90,000 full-time employees in the US alone^8,9,10. Estimates suggest that including sorting and distribution centres, the number of facilities jump to around 327 in the US¹⁰. Globally Amazon is building on this number, expanding its footprint to build a network of facilities which will ensure timely delivery of the products bought through its marketplace regardless of the delivery location. The continual expansion of its network of facilities increases its attractiveness to retailers as a logistics provider. Amazon has fulfilment centres in the US and UK within a 50km radius of at least 80% of thepopulation, allowing it to service most of the population within a relatively short period of time.

With industry leading technology and strong capital investment in its own network of warehousing and distribution centres, including local sortation and data centres, Amazon is well positioned to offer logistics and delivery services to third parties. It seems clear from their pattern of investment in other countries, and their mantra of externalising their largest cost bases to market competition, that an Amazon logistics service in Australia is highly likely. But in what form and when? And will they win over customers of existing logistics companies?

How might Amazon enter the Australia logistics market?

Even though it has the necessary infrastructure in place across the US, a review of both social media feeds and customer complaint sites highlights that it still struggles to meet the demands of customers who are living in remote and rural parts of the US. In Australia, the vast distances required to service the country’s population combined with sparse population density makes establishing a comprehensive logistics operation more difficult. The Australian population is a tenth of that of the US and spread across 7.7 million square kilometres (only 20% smaller than the US), which means the economies of scale for Amazon in Australia are lower than that of its market in the US or UK. The lower population density and large geographical spread will create new challenges for Amazon as to date its success has been achieved in countries which have a relatively high population density across the entire country. Australia has no shared land borders, so Amazon will be unable to leverage off cross-border fulfilment as it does with its European, Mexican and Canadian fulfilment centres.

To be successful in Australia, Amazon would need to improve on the service offering and delivery footprint of Australia Post and StarTrack, which have the most comprehensive B2C parcel delivery services and largest footprint in Australia. Australia Post have access ‘to the footpath’ through their integration of the Letters & Mail and Parcels businesses, providing a low-cost mode for residential parcel delivery. Private global operators such as Toll, DHL, and FedEx also create significant competition for Amazon.

In addition to these challenges, operating costs in Australia are historically some of the highest in the world. High labour costs¹¹, record high property prices¹², and rising energy and fuel prices means the outlook for the logistics industry tends to one of consolidation rather than expansion. Wages in Australia are the highest compared to those of developed market peers such as the US, UK, Canada, France, Germany and Japan. Add in a largely unionised workforce with employment guidelines including penalty rates for work performed outside of tradional working hours and it is clear that Amazon will experience signficantly higher operating costs in Australia under a traditional operating model.

Indeed, to enter the Australian market in 2017, Amazon chose to leverage off Australia Post, StarTrack, and Fastway Couriers established networks.

Given these challenges, the path to a logistics service offering for Amazon will likely follow an incremental approach while it builds sales volumes, which is similar to the rollout to date in the US. The current network of facilities in the US enables Amazon to distribute the products sold through its marketplace to 80% of the population in 2 days or less. The network is primarily made up of a complex combination of redistribution centres, fulfilment centres, distribution centres, sortation centres, delivery stations, and Prime hubs.

Redistribution centres are primarily inbound cross-dock (“IXD”) facilities which are located close to major ports, allowing Amazon to streamline the inflow of goods into their network. The fulfilment centres can be broken down further into small sortable, large sortable, large non-sortable, specialist apparel and footwear, speciality small parts, returns processing centres and 3PL outsourced facilities. Amazon Pantry and Amazon Fresh have dedicated ambient, cold storage, and distribution facilities but utilise the existing Amazon network of sortation facilities where possible. Towards the end of 2013 Amazon rolled out the first of its delivery stations. These are smaller facilities compared to its sorting centres and are positioned close to the larger metropolitan cities and neighbouring airports. The main function of these stations is to sort parcels for outbound routes thereby ensuring timely and efficient last-mile delivery in narrowly defined urban areas. The product mix that is sorted and delivered ranges from non-perishable goods to multi-temperature fresh foods (where Amazon Fresh is available). The last-mile delivery from these stations is typically handled by independent contractors, and when available, Amazon Flex drivers.

To gain greater control over its outbound shipping costs and reduce the time required to deliver a product once purchased, Amazon decided to implement larger regional sortation centres in 2014. This has enabled it to shift shipping volume away from FedEx and UPS to the US Postal Service. These sortation facilities are largely stand-alone buildings in which parcels are received from the fulfilment centres and sorted into pallets based on zip code (“post code”) and delivery routes. These pallets are then delivered via road to the respective post office responsible for delivering small packages to the zip code.

More recently, Amazon has reduced its reliance on the US Postal Service for last-mile delivery and has instead utilised independent contractors or its own network of delivery drivers (Amazon Flex).  With the introduction of their Prime hubs and delivery stations it will further utilise the sortation centres to deliver to both the hubs and stations ensuring that rapid delivery service levels are maintained. Amazon is also expanding its network of sortation centres to include airport sortation hubs at several smaller airports near major cities in the US¹³ enabling connectivity between domestic inbound air freight and local fulfilment centres.

During the same year, Amazon decided to rapidly expand its distribution network consisting of smaller buildings situated near to the larger metropolitan areas across the US¹⁴. These were given the name of Prime hubs.  Amazon curates and stocks the hubs with popular, high velocity items tailored to the customer demographic. These hubs allow Amazon to deliver these select products in less than an hour, effectively becoming the equivalent of a traditional brick and mortar store without having a physical shop front accessible to the customer.

With a fleet of 40 aircraft and 4,000 prime movers distributing products between fulfilment centres, Amazon is building the capability to manage its freight internally. Amazon Flex is a first pass at securing control over the last-mile delivery. It is currently not in the position to meet the demands of fulfilment from the Amazon marketplace but this does allow Amazon to test and gauge any pain points. This would enable them to take the lessons learned from Amazon Flex and its current partnerships with USPS, UPS, and FedEx and implement a last-mile delivery service that would meet both the customer and its own demands.

Last-mile delivery is the final link in the logistics value chain that Amazon will need to establish to operate a comprehensive logistics and transportation network in the US. A hybrid of delivery methods may be used to ensure operational requirements are met on a consistent basis. These range from independent part-time contractors using their own fleet of vehicles (Amazon Flex) to traditional delivery vans and potentially even Amazon Prime drones.

Over the course of 5 years Amazon rolled out a national end-to-end logistics system in the US. Whilst the density and cost challenges of the Australian market will constrain the scope of their offering, Amazon’s activities in other markets strongly indicate it is unlikely to be dissuaded from capturing and internalising important components of the value chain like metro distribution and delivery.

Can Amazon win over Australian customers with a logistics offering?

Why would a business place its reputation in the hands of Amazon, predominately an online retailer, as a logistics partner rather than the established players in the market such as DHL, StarTrack, FedEx, and Toll? Looking at fulfilment from the end-consumer perspective helps provide answers to this question.

A recent report by Temando¹⁵, a world-wide multi-carrier shipping platform for commerce, shows how important shipping and last mile delivery is in generating sales and creating a great customer experience. According to the Temando report across the US, UK, and Australia, over 80% of online shoppers find shipping costs are too high. Roughly 60% of all survey respondents said they would turn to a brick and mortar store to purchase an item if shipping costs were too high. In the US, 74% of respondents said they preferred free shipping over fast shipping, while this number grew to 85% when looking at Australian consumers. Most respondents said that they would increase their basket size to qualify for free shipping.

Apart from free shipping, the main driver to convert an online shopping cart to sales was an offering of multiple delivery options. The research undertaken by Temando also indicates that less than 20% of online retailers absorb the cost of regular last mile delivery of a product; that is, over 80% pass this cost on to the end-consumer.

In the US, where online shopping is more established, consumers were found to be looking for new alternatives to standard and express delivery, demanding hyper-local, same-day, specified timeslot, and weekend delivery options. There is still a large gap between consumer demand and retailer offerings, however, with less than 30% of retailers offering these options.

Therefore, retailers require a logistics partner that can offer competitive rates across a broad range of flexible delivery options, whilst also ensuring any requirement for reverse logistics and real-time delivery tracking is taken care of. As online sales grow, retailers will need to ensure their logistics partners are able to scale alongside them to absorb the increased demand for shipping, both locally and internationally.

Retailers can and are pushing their logistics partners to make the necessary investments in operating flexibility and technology innovation to deliver on their customer’s needs, and logistics partners are responding, as evidenced by the increasing spread of features such as real-time tracking. From a pricing perspective, however, negotiating leverage is driven principally by volume; the number of items that a retailer has to ship. Without a large volume of goods, in one-on-one negotiations with a set of logistics partners the individual retailer will usually be stuck paying rack rates.

Intermediaries such as freight brokers and shipping platforms like Temando has stepped into this gap, becoming quasi-freight-forwarders in that they accumulate volumes and stream them to shippers based on the most attractive rate and performance for particular services. Ultimately, though, they are still only on-selling the services of the established logistics providers, which means that they have little control of the value-added features desired by end-consumers.

This indicates that the potential customer profile of an Amazon Logistics Service would be a customer that does not have sufficient volume to negotiate better shipping rates by themselves. Customers would be micro to mid-sized businesses who trade predominately through an e-commerce channel and who don’t have the infrastructure or management resources required to operate a logistics function internally. Across the US, roughly 68% of online retailers shipped 1,000 articles or less per week on average, with almost half of these retailers having average weekly shipping volumes of no more than 100 articles. Retailers of this size are categorised as micro to small retailers and are ideally suited to an Amazon logistics service offering due to their low volume, increased need for reliable and scalable logistics capabilities, and limited ability to invest in their own logistics infrastructure.

Interestingly, this customer profile mirrors closely Amazon’s original AWS target client – small and in need of on-demand scalable infrastructure but without the capital to invest.

Amazon, then, is well positioned to provide a third-party logistics service given its understanding of online retail and the importance of customer satisfaction. It has already enhanced the parcels delivery experience for its customers by providing not only same day delivery but taking it a step further with a hyper-express delivery option, providing expedited delivery from online checkout to delivery in two hours or less. Throughout the fulfilment and delivery process the consumer is notified of key parcel movements, enabling them to better understand the estimated delivery time. With their own service, they can control the entire logistics process and also take market share from existing logistics providers who are unwilling or unable to keep up with the demands of the B2C market.

What does this mean for eCommerce senders and logistics providers?

In its 2016 annual report¹⁶, Amazon emphasised the value in rapidly expanding global operations, increasing both its product and service offerings, and scaling the infrastructure to support both its retail and service businesses. Speaking at a symposium in Washington, D.C. on “The Future of Freight” in September 2017, David Bozeman, Vice President of Amazon Transportation Services, highlighted that to meet customer demand, Amazon has had to systematically build out its sortation centres, linehaul middle-mile and air network. He mentioned that due to the sheer volume of freight that is being generated through the online retail channel, Amazon does not believe there is any one entity that has the capacity to handle the entire demand.

At the time of writing this article, eligible third-party sellers can secure space on an Amazon controlled ocean vessel allowing them to ship products world-wide. Sellers can use Amazon Prime’s logistics services which consists of growing truck and trailer and aircraft fleets to distribute products both within the US and abroad. FBA allows third parties to store their inventory across the globe at Amazon’s fulfilment centres, from which Amazon will take care of the end-to-end fulfilment process. Bloomberg has also reported¹⁷ late last year that Amazon is in the process of piloting “Seller Flex”, a service which will pick up packages from third-party warehouses and deliver these packages to a customer’s home. If “Seller Flex” was to be rolled out nationally across the US, it would effectively enable Amazon to manage and control its entire logistics supply chain. Once this is achieved, it could have the capacity to offer all or part of these services to third-parties.

From an Australian perspective, Amazon’s infrastructure is embryonic with one fulfilment centre in Melbourne and a second very large fulfilment centre currently being built in Sydney. A simplified FBA offering has only recently become available to third-party sellers which does not yet enable sellers to fulfil orders across external channels. In its current state Amazon in Australia does not appear to have the structures in place to offer an end-to-end logistics solution to third-parties. Without dedicated sortation centres or fleet of vehicles to enable last-mile delivery, an Amazon last-mile delivery service is not possible, and so shippers will need to continue to rely on established providers.

For logistics companies, however, the signs are ominous. Amazon has established the core components of an end-to-end logistic supply chain in its other major markets, and there is no reason to believe that they will leave the Australian market alone despite the challenges presented. Certainly, warehousing, distribution, and last-mile delivery services will be on their radar. We can expect that within 5 years, with internal and third-party volume, they will develop their own express last-mile delivery services in major capitals. In response, Australian logistics companies need to pay closer attention to their service offerings and competitiveness in their long tail of smaller customers. Whilst major shippers have historically driven their volume and consequently held their focus, their overall profitability has typically been low. The competitive changes that Amazon will help accelerate may mean that the incrementally profitable long tail of customers instead chooses to partner with a company who intimately understands the challenges and needs of the B2C market.

About Pacific Consulting Group’s Freight and Logistics practice

PCG’s Freight and Logistics practice has delivered profit and productivity improvement for leading companies around the world. We have worked in partnership with senior leaders across industry segments like parcel express, road/air/rail freight and intermodal providers, last-mile specialists, and 3PL. Our superior analytics, commercial focus, and industry experience have allowed us to deliver outstanding outcomes.

References

1. By market capitalisation: “Inside Amazon: Wrestling Big Ideas in a Bruising Workplace”. The New York Times. August 16, 2015
2. https://www.sec.gov/Archives/edgar/ data/1018724/000119312518121161/d456916dex991.htm
3. FY16 Annual results show $17.6 billion in fulfillment expenses, of which $16.2 billion of this cost relates to shipping.
4. Reseach report compiled by Accenture and AliResearch (Alibaba Group’s research arm).
5. https://www.amazon.com/gp/help/ customer/display.html?nodeId=201074230
6. http://fortune.com/2016/01/11/amazon-french-delivery/
7. https://flex.amazon.com/
8. https://www.amazon.com/p/feature/98dnmkwyztuv8ur
9. https://www.businessinsider.com.au/amazon-warehouse-locations-in-us-2017-9?r=US&IR=T
10. http://www.mwpvl.com/html/amazon_com.html
11. https://www.conference-board.org/ilcprogram/index.cfm?id=38269
12. http://www.demographia.com/dhi.pdf
13. http://phx.corporate-ir.net/phoenix.zhtml?c=176060&p=RssLanding&cat=news&id=2241026
14. https://qz.com/636404/how-amazon-is-secretly-building-its-superfast-delivery-empire/
15. Temando – State of Shipping in Commerce Report 2017 (http://temando.com/en/resources/research)
16. Amazon Annual Reports (http://phx.corporate-ir.net/phoenix.zhtml?c=97664&p=irol-reportsannual)
17. https://www.bloomberg.com/news/articles/2017-10-05/amazon-is-said-to-test-own-delivery-service-to-rival-fedex-ups

Capturing Lessons Learned is not a new idea, it comes highly recommended.

Two of the most recognised project management methodologies, PMBOK (Project Management Body of Knowledge) and Prince2, highlight the importance of learning from good and bad experiences on projects.

Good Lesson Learned processes will deliver material value in companies with multiple projects, but also in businesses where there are repetitive high cost processes (such as on-shore well drilling or manufacturing lines).

The process is meant to secure future value for the business by repeating good results or avoiding sub-standard results. The earlier the benefit of a lesson can be captured, the greater the value that will accrue to the business.

A survey of 130 Project Management Institute (PMI) members revealed that the overwhelming feeling was that a Lessons Learned process is important. We would expect therefore that the Lessons Learned process is regularly executed and is adding value.

If everyone agrees that capturing Lessons Learned adds value, are all companies doing it?

The short answer is a resounding “No”.

In the PMI survey, that same group of project management professionals were asked describe the extent to which their organisation had performed Lessons Learned capture in the previous 12 months.

Even though 91% of respondents in the survey indicated that there was clearly value in the Lessons Learned process, only 13% were confident that the process was always executed.

It’s clear that learning from the past can produce value for the future and project management professionals believe the process is important. Why do companies fail at this?

We asked our clients why Lessons Learned capture was not occurring or, if it was, did not add value to the organisation or were unlikely to add value. The responses could be mapped to three key areas of Culture, Process and Technology.

Culture

• Little or no support from leaders
• No internal champions appointed to lead Lessons Learned capture
• Process has been allowed to devolve into form-filling or box-checking exercise
• Fear exists that the process will be used to pin blame
• No faith that the process will add value
• Present effort is required to capture a future benefit
• Organisational belief that no-one will go to the effort of learning from documented lessons

Process

• No documented, communicated standard approach
• No time allocated or allowed to conduct the process
• Results not shared with the business
• Output is not useful – inconsistent, no longer relevant, no quality review, poorly documented or simply not valuable lessons
• Lessons are difficult to retrieve

Technology

• No technology support for Lessons Learned
• System too complex to use
• System does not fit our business and cannot be customised
• Too reliant on a single person to maintain
• Data is not managed
• Data is not relevant / out of date

For businesses to extract the maximum benefit from Lessons Learned, three fundamental areas must be considered:

1. Culture: Senior leaders must set the tone that Lessons Learned is a vital and valuable resource for the business.
2. Process: The company must have a mandated approach that is consistently applied to collecting Lessons Learned.
3. Technology: There must be systems or solutions available that align with the Lessons Learned process.

Culture sets the tone

At PCG, we advocate a leadership-led Lessons Learned culture. The best process and technology will not deliver maximum benefit without the right management attitude.

A good culture is demonstrated by the following traits:

• Senior leadership buys in to Lessons Learned framework, accepts and expects that value will accrue
• Project leaders are equipped to perform Lesson Learned capture sessions
• Capturing Lessons Learned is part of the management scorecard
• The business is comfortable relying on independent help in Lessons Learned capture (internal or external independence)
• A Lessons Curator is appointed and Lessons Learned Champions are trained to assist the organisation

A solid framework provides consistency

A generic lessons learned process is as follows : Collect > Validate > Store > Share.

A company must describe how it expects lessons to be matured through this process and who is responsible.

A simple Lessons Learned policy and process document goes a long way to setting expectations and providing guidance on the approach to lessons learned.

Collect: Collecting the lesson includes all activities related to recording the lesson. This may take a few forms, such as workshops, interviews or questionnaires.

Validate: Validating the lesson is the process of making sure that the captured lesson will add value to the organisation. This is a quality review exercise aimed at removing ambiguity and clearly defining the lesson benefits.

Store: Storing the lesson refers to how a company will maintain the lesson for future benefit. Lessons management systems, databases, intranets or simply shared files and folders can all provide a storage solution. The storage solution is the vehicle that is used to share lessons with the organisation.

Share: Unless a lesson is shared or an action taken, no value will accrue to an organisation. The most important part of a Lessons Learned framework is therefore this “last mile” in the process. The framework must provide clear guidance as to how to share lessons with the wider business community.

Technology supports the framework and increases the value

Technology can be used to facilitate all stages of the Lessons Learned process.

PCG research indicates that where technology solutions are implemented in the Lessons Learned space, they tend to be simple databases.

These databases can be searched to find previously recorded lessons.

Lessons Learned technology re-imagined

In researching the use of Lessons Learned, we noticed that the solutions to support process provided little support to the Lessons Learned framework (if one exists).

We noted a clear gap in the market of technology solutions that add value to the Lessons Learned process.

PCG have developed the Xperien Lessons Learned Management system to support organisations through every step of the Lessons Learned Process. Consistency is guaranteed as the system guides users through the Lessons Learned framework.

We have amended the standard Lessons Learned Framework to three steps: Capture, Curate and Circulate. 

Capture

Self-service lesson capture means that lessons can be captured more frequently.

Standardised questions tease out the value of the lesson and ensure consistency of input.

Entry is made directly into the system, ensuring lessons are not lost.

Lessons can be tagged with metadata to improve search results. Fields for activity, business unit, and other key search terms can be customised so that it makes sense for your business.

People and roles can be tagged on each lesson, making sharing lessons automatic.

Curate

Quality control is managed through process flows, no Lesson is published until it has been reviewed.

Reminders are sent to Lessons Learned curators to review unapproved lessons.

Curators can make decisions regarding immediate actions that may be required (e.g. Process change, technology fix) versus simply documenting the lesson.

Curators can create tasks and assign accountability relating to immediate fixes.

Curators populate an expiry date for the lesson and are notified to review the lesson on the expiration date to make sure the lesson is still applicable.

Circulate

Once approved, lessons are immediately available to the community for searching.

Cloud based storage means that lessons are available via any device.

Actions pertaining to fixes can be stored in the same system.

Once lesson is approved, users are informed immediately of the lesson if the lesson tags match their user profile or if they have been listed as a person or role to notify.

Users are able to upvote lessons that they think are useful, making relevant lessons more likely to be discovered.

Users can comment on lessons or ask for clarification to make sure that the maximum value is extracted from each lesson.

Users can search the database in a variety of ways: keyword search, tag filters, most recent lessons, most voted lessons.

Introduction

There are numerous factors currently responsible for placing heavy demands on corporations and their senior executives.

Companies are in a state of perpetual structural flux, resulting in the increased need for engagement on organisational redesign.

Historically, smaller scale changes often provided sufficient scope to drive the leverage required for meeting new targets, competitive market challenges and desired outcomes. However, today’s organisations can require a complete redesign in order to improve performance, meet objectives and deliver on targets.

As part of those organisational design decisions, determining which role the corporate centre should play can add significant value to an organisation. This must be balanced against the risk that the consequence of the centre playing the wrong role can be dire and lead to negative and sustained impact on the bottom-line.

Not only is there a significant loss of time and investment but the direction, focus and morale among senior executives becomes undermined.

The corporate centre does not have to select a single role to apply uniformly across all business units or functions. It should instead select the role that matches the organisation’s unique situation and will generate the most value.

We look at the how a corporate centre can adapt the role it plays across various business functions.

Form must follow function

The first step to defining the role of a value-adding corporate centre is to define both the short and long-term strategic goals of the company. Only then can the role of the corporate centre be evaluated.

There is no absolute or prescribed paradigm for success for every organisation. The unique mix of the organisation’s people, culture, strategy and resources requires a customised solution to questions around governance, allocation of decision-making and definition of the role of the corporate centre.

It is important to scope the definition of roles from the perspective of the value created for the company. The organisation may need to transform major business functions in order to harness this value.

Such thinking forms the basis in determining the role of the corporate centre. Transforming the strategy into reality also requires designing a centre whose structure, people and processes support the strategy.

The role of the corporate centre

The optimal corporate centre strategy must be aligned with the needs of the business units and the functionality required from the corporate centre. For example, in a more mature industry a company may prefer to leave more autonomy to the divisions.

The innate culture of a successful organisation must be given consideration and this may restrict the scope of changes and the level of autonomy of business units.

The flexibility of the corporate centre may also be restricted, with its requirements to comply with local legal requirements, labour laws, taxation and its obligations to investors.

To achieve a lean and effective corporate centre, its architecture must be built with rigor and a defined allocation of responsibilities between the centre and business units across different dimensions such as its business lines, customer types, and geographical factors.

This requires a detailed understanding of the strategic issues for each business line, as well as the required level of autonomy for each business and function.

The three key questions

When evaluating the relevance and scope of a corporate centre re-design, we typically ask three key questions.

1. What are the organisation’s long term and short term strategic goals?
2. Which corporate centre role adds the most value to each function in the organisation?
3. How will the corporate centre engage with the rest of the business?

Corporate centre roles

An effective corporate centre has a clear focus on those activities that add the most value to the organisation.

In determining the key drivers that will shape the strategy, companies need to drill down to identify the levers that will achieve this value, including its business synergies, financial planning, optimal operational practices and the development of its business strategies.

As a tool for understanding we have drawn an analogy between the management of sports teams and the various roles a corporate centre may play across business functions.

The challenge is picking the role that adds the most value to the organisation.

1. The board member / financial backer role

Involved mostly in the key decisions, provides funding for and authorises major investments, sets the financial targets and organisational objectives of the business unit or function.

2. The referee role

Sets the rules by which business units or functions interact, develops and manages the service level agreements. Makes sure all the rules are followed. Makes sure different business units are operating well together.

3. The coaching role

Encourages synergy among the business units or functions. Sets the strategy and roles of the business units. Evaluates performance during the year and makes necessary adjustments to correct. Empower employees to play an effective role in the overall value chain of the organisation and deliver value to customers.

4. The player role

In this instance the corporate centre is effectively “on the field” providing the service. They will set the objectives, direct activity and take accountability for success and failure. Functions may not necessarily be performed by the corporate centre, for example low value, transactional work may be outsourced if this makes sense.

Examples of role definition

Large group of unrelated companies

The main sources of revenue are different, the companies service different markets and they have different corporate cultures.

In this instance the group was best served by a lean corporate centre, providing guidance and setting group wide objectives.

The group did not exist to provide any synergies between companies, but a decision was made to search for talent within the organisation first.

Value was seen in centralising the legal function due to a relatively weak legal function in a number of the companies with low productivity.

Large group of similar companies

In the group above, the companies have businesses that are much more related, operating in the same industry.

In this instance value was obtained by centralising a number of functions to be executed by the corporate centre. All low productivity functions that were similar across business were centralised to improve efficiency and reduce cost.

Value was also extracted by the centre being more involved in setting corporate policies and processes as well as driving the rules of engagement on intercompany dealings.

Small group of very similar companies

The organisation above has a number of very similar businesses. Had it not grown through acquisition it may have existed as a single company.

A far greater level of control is exercised in the corporate centre, freeing the business to get on with the core value producing activities. The centre acted as a supplier of expertise and services.

In the case of R&D, holding this function in the centre allowed for a bigger pool of funds to pursue larger projects, completely changing the R&D portfolio management process.

Global group of identical companies

This global group produced the same product and distributed it through the same or very similar channels but operated across a number of countries.

The control was divested into those regions in order to allow the regions to organise and respond to the various cultural differences.

Where it made sense to perform a function centrally, this was done. R&D was determined to be largely region agnostic and the benefit of pooling of funds was pursued. Compliance and risk was centralised in order to reduce headcount.

Deciding which role the corporate centre should play

Working through the three key questions and considering the factors below should assist in determining which role the corporate centre should play in each function, business unit or company.

Delegate or do?

Do any functions generate more value by being centralised (benefits of scale, concentration of capability)?

Are functions being duplicated within the organisation presently that may be better executed centrally (research and development, environmental affairs, audit)?

Do any functions lose value by being centralised (large cultural differences due to company history or geographic separation, loss of customer centricity)?

Must any functions be centralised due to high risk profile of that function in this organisation (marketing and shareholder communications in a company which is cross-listed)?

Are any critical functions being poorly executed as they are of low tactical or operational significance but have high strategic significance (research and development, innovation)?

Business unit variation

How do individual business units currently impact on the performance of other functions in the company?

Are there differentiated value targets for each business unit, based on an understanding of their full potential?

Which business units require a disproportionate amount of caretaking and support relative to their output and value?

How is each business unit’s performance benchmarking against the competition in product quality, product innovation, distribution, operational efficiencies and cost?

External Factors

In what ways do we expect our industry’s competitive dynamics to change in the short term?

What are the technology and consumer trends that will impact on the business and drive growth in the next three years?

What will it take?

How do we size the selected functions within the corporate centre?

What are the opportunities to leverage resources?

What leadership and management model components or attributes will drive the transformation?

How big is the gap between the current model and the proposed model?

How do you manage the transition and define new operating practices?

Have the expected benefits of change been documented so that they can be managed through a structured benefits realisation process?

PCG background

Pacific Consulting Group is a boutique management consulting firm focused on providing superior results to our clients.

For more than 20 years, our professionals have used their outstanding credentials and experience to deliver significant and sustainable outcomes for companies.

We are known for our deep industry expertise and insights, our functional capability and our service excellence.

We combine superior consulting and specialist knowledge with a wealth of practical business leadership experience, and offer our clients unique perspectives and strategic thought leadership. We work in a collaborative business partnership with our clients but keep our focus highly objective. We advise clients with integrity and professionalism, even if the journey is uncomfortable at some stages of the process.

Our work provides a focus on only the highest value portions of our clients’ issues. We tailor our process to meet our clients’ particular needs and scope the project to determine only the necessary resources required to achieve results.

There has been a lot of recent discussion about the Australian economy and its performance on the global landscape. There is no doubt that Australia has been “the lucky country” in comparison to other developed countries. But the question is how well is the Australian economy geared for future growth and what initiatives should business leaders consider to position Australia for the challenges and opportunities that lie ahead?

Thirty of Australia’s CEOs and business leaders from major companies across a range of industries were surveyed and asked to respond to this question. The survey targeted executives from retail, mining, banking, leisure and entertainment, high-tech, communication, manufacturing, agriculture and finance.

Each executive was asked to identify from a list of 40 possible options the key business initiatives that they believe would assist Australia’s economic growth and prosperity by 2015.

The survey results produced the following list of 10 key initiatives:

• Labour market legislation
• Sourcing labour talent
• Education and vocational training
• Robust corporate risk strategy
• Developing infrastructure to attract Asian investment
• Increased depth of business knowledge of Asia’s markets
• Development of rail and road infrastructure
• Investment in digital infrastructure
• Segmentation of products for different markets
• Innovation planning for business and products.

The findings highlighted key trends with 82% of executives in agreement that Australia requires short-term legislative change in industrial relations. There was a consensus that high labour costs and restricted labour flexibility were impacting on productivity, and that labour market regulation needs a thorough review. Improvements to the Fair Work Act, increased flexibility in the labour market, tax reform and limitations surrounding imported labour were all highlighted as barriers to business.

Additionally, an initiative for providing a mobile skilled labour pool with access to the right talent was considered a priority for many CEOs. The lack of trained management and skilled technical labour, particularly in more remote geographical areas in Australia, is seen to present a challenge and restrict growth opportunities for a large number of companies.

Most CEOs indicated that recruiting and training high-potential middle managers and building leadership teams with strong skills and competencies were critical for business growth. Management of talent, including retaining employees, was high on the agenda as talent shortages impact on profitability.

Executives highlighted the need to establish new initiatives to resource Australia’s educational systems so, in the longer term, labour is more capable of keeping pace with business needs. Two out of three senior executives said initiatives were needed to develop a labour market with more job‑specific skills. To achieve this, Australia needs to invest in more extensive vocational training and close the gap between education and employment.

A high proportion of executives believe that corporate strategy needs to remain robust and accommodate business risks if Australia is to avoid innovation and growth becoming stifled.

Risk appetite was highlighted as an important consideration by 74% of the surveyed executives who were concerned that the global share-market’s volatility and a slowdown in economic conditions were resulting in a conservative approach to corporate strategy.

One in three executives also commented that corporate risk strategy was an ongoing focus for many companies with the level of competitive intensity increasing across all industries, particularly as communications and technology broadened markets and digital media transformed business potential.

With Asia as an intrinsic economic trade partner in Australia’s future, 68% of executives proposed initiatives that involved investment and development with China, Indonesia, Vietnam, Thailand, India and other Asian markets. Given the proximity and development of Asia as the world’s largest producer and consumer of goods and services, executives said that resourcing and prioritising for planning and creating infrastructure to support this growth was a key requirement.

The majority of the executives surveyed acknowledged that the Asian market will increasingly demand a broad range of Australia’s goods and services, from education to consumer goods, banking and financial services, health, high-end food products and tourism. Some of the opportunities arising from Asia’s growing middle class are already evident.

A potential opportunity, cited by a CEO from a leading hospitality organisation, is Australia’s ability to attract China’s outward-bound tourist market. There is a need for national investment in luxury destination golf resorts and spas, six-star hotels, casinos and signature restaurants. The demand of Asia’s emerging middle class for luxury travel destinations will have an increasing impact on inward bound tourism, if the right leisure and hospitality infrastructure is developed to service this new market.

One in five executives said developing and training our business leaders with greater Asian literacy and a deeper knowledge and expertise at an executive board level is critical to Australia’s ability to operate efficiently within the Asia-Pacific region.

Development of rail and road infrastructure was among the key initiatives identified by 79% of executives. The opportunity to increase productivity and develop new markets is undermined by inefficient road and rail, and inadequate port facilities in particular.

The majority of goods produced and consumed in the Australian economy are transported at some stage in the production lifecycle. With Australia’s dispersed population and production centres, the efficiency of freight transport, and the efficiency of the infrastructure it uses, are central to the country’s economic performance.

Ensuring that Australia is well positioned as a leading digital economy by 2015 is a key initiative for 71% of executives. The National Broadband Network rollout will enhance digital commerce and productivity opportunities for Australian businesses. As the speed and capacity of the digital network expands, it will have an impact across a wide range of industries, resulting in significant savings on distribution costs and enabling many businesses to trade to a global market. This initiative was considered key to drive new business processes and innovations supporting Australia’s economic growth.

With the Australian economy rapidly evolving, 64% of executives believe there is a need for Australian business to adapt and modify product and services for market segmentation in both domestic and global markets. As market dynamics are constantly changing, the need to create products for markets to suit local customer preferences requires business to rethink existing strategies and reinvent solutions in response to customer needs.

Australian business needs to better understand initiatives involving customer segmentation by investing in R&D, using analytics and new developments in marketing practice and, when required, implementing new production and distribution processes to meet customer requirements.

A significant proportion of CEOs and executives also identified effective innovation planning as fundamental to building successful businesses in Australia, not only creating new product and services, but also reinventing core business offerings through the process of mergers and acquisitions, divestment, alliances and partnerships.

With rapidly changing technology, particularly through the internet, an intense level of business competitiveness and market globalisation, the impetus to innovate and deliver customer-based solutions is critical to business survival.

In summary, the survey results showed that business leaders want initiatives to achieve a better balance in the labour market, with progressive changes to legislation, immigration and tax reform that respond to current market challenges.

A high proportion of CEOs are concerned that our domestic policy continues to develop and support major infrastructure development to keep pace with business needs. Additionally, business leaders see opportunities for Australian business to continue to harness Asia’s growth and extend our investment in emerging markets. Innovating our business offering to deliver effective strategy, product and solutions based on changing customer needs is also seen as crucial.

The funds management industry is undergoing fundamental structural change, not just in Australia but also on a global basis. The key structural changes impacting at present include the move away from Australian equities into alternative investments, the in-sourcing of investment management capability by large funds, significant management fee reductions and the increasing competition in the industry from new fund managers and new products such as Exchange Traded Funds (ETFs).

These structural changes have come about due to the maturing of the funds industry, the crash in equity prices in 2007 and 2009, and the increased competition in the mid to large sized superannuation funds.

The industry has grown on the back of large increases in superannuation savings, high fees and inexperienced investors. As a result, large profits have been generated and, in turn, this has attracted new entrants into the industry.

At the same time, Funds have grown in size and are now in a position to exert significant power in the marketplace by actively demanding reduced fees from the funds management industry, building their own in-house management and also competing directly with fund managers with their own investment manager, Industry Funds Management (IFM).

Concurrent with these changes has been a lack of confidence by investors in both the share-market and fund managers, leading to substantial outflows from equities into ‘safe investments’ such as short-term deposits.

Main structural changes

One of the major impacts on the funds management industry currently is the cyclical and structural move away from equities, particularly Australian equities. Wholesale funds and retail investors have been overweight to equities and equity related investments and, as a result, have suffered poor performance since the global financial crises.

The realisation that many of the investments in multi-sector portfolios were highly correlated to equities has led to a move to reduce the core equity exposure and diversify into investments with lower correlations to core equities.

This has meant an increase in exposure to alternative investments including diversifying assets such as hedge funds, infrastructure, distressed debt, private equity, natural resources, gold and commodities, real estate, debt and equity emerging market, high yield and small cap equities strategies.

The Future Fund, the largest fund in Australia, has 6% invested in infrastructure and timberland and 6% in private equity. Alternatives in the Future Fund are mainly hedge funds with strategies such as multi-strategy, relative value, macro-directional, distressed event driven and commodity orientated.

Australian Super ($45 billion) has 18% in infrastructure and private equity and is looking to further increase its exposure to alternative assets in the future.

Most funds are diversifying their portfolios with funding coming primarily from a sell-down of the Australian equity weighting. Historically, the home bias has led to a high relative weighting in Australian equities. As a result of this down weighting, funds flow in Australian equities has been negative.

In the retail market the low returns and concerns of macro impacts have led to flows out of equity related products being parked mainly in cash and fixed income investments.

Another impact on managers of Australian equities is the move by the larger funds to take investment management in-house. A few of the larger funds have built or are building in-house management capability in an attempt to lower costs and gain more control over their investments.

It is recognised in the industry that once a fund’s size is $15 billion or more it becomes economical to start to replace external mangers. Australian Super ($45 billion) spent over $200 million in external management costs last year.

Industry funds are also competing against managers by setting up their own stand- alone manager, IFM. IFM now has $36 billion in funds under management and is owned by many of the industry funds, including smaller funds, and offers funds management across all investment sectors.

This is a very efficient way for the industry funds to control their investments. This development should not be dismissed, as the large retail funds have been very successful in implementing this strategy and have attracted high calibre investment talent to manage the business.

It is evident that in the future a large portion of the moneys managed in Australia will be handled in-house by these large wholesale and retail funds.

Funds are competing in the market by offering low cost products and have focused on reducing the costs associated with their products. This is unfolding in a number of ways.

Firstly, funds have become far more aggressive in negotiating fees with fund managers resulting in a significant lowering of fees for mandates. The funds are in a strong position to negotiate, as the funds management industry is highly competitive.

Secondly, they are changing the manager mix and risk profile within their Australian equity exposure. Funds are reducing their exposure to active managers and increasing their exposure to passive, lower cost investments.

One model that is getting attention is to have a 50% weighting to passive exposure and 50% to active, thereby reducing the fees/costs on half the portfolio but keeping exposure to the equity market.

The downside in this strategy is the reduced outperformance that can be generated via active management. To compensate for this, funds appoint more aggressive managers for the active component, increasing the potential to outperform and compensating for the fund’s 50% passive exposure.

The other main influence on costs and fees is the Gillard government’s MySuper initiative to introduce low cost funds to the superannuation market.

Under MySuper, super funds are required to offer a low cost balanced fund with fees much lower than those currently on offer. This is already having an impact on fees in the industry, with a retail fund already offering a no fee balanced fund.

While these structural changes are taking place the market remains intensely competitive in Australian equity products, particularly in the ‘core’ equities product offering where approximately 55 companies are vying for Australian equity mandates.

In addition there is increased competition in the market with new equity products that can be traded on the stock exchange. These Exchange Traded Funds (ETFs) have been popular internationally and are gaining favour in the Australian market.

The market for ETFs has grown by 25% in the last year and now totals $6 billion with 84 ETFs. This means that the funds management pie will continue to be cut into smaller pieces.

3D Printing – A brave new world

The development of 3D printing is changing the traditional perception of manufacturing. 3D printing or additive manufacturing is not a new concept and has been used in various industries for many years.

The inception of 3D printing began in 1976, when the inkjet printer was invented and subsequent changes and adaptations in the mid 1980’s allowed the technology to advance from printing with ink to printing with materials.

3D printing can now use a range of materials from metal such as titanium, plastics and even human cells and is able to produce any number of parts and components.

Sceptics of the adoption of 3D printing point to the high cost of material, the slow build, the limited detail capability of some printing techniques and the restricted adoption of the technology across industries.

However the scope and capabilities of 3D printing hardware have changed rapidly in the last few years. The technology is producing larger components with greater detail, precision and finer resolution.

As 3D printing emerges to become a viable alternative to traditional manufacturing processes, it creates an increasing number of potential applications across a growing number of industries.

Pacific Consulting Group has undertaken research examining the current use of 3D printing technology among early adopters in the Australian manufacturing industry. Our research shows that the use of 3D printing could become a likely alternative for manufacturers producing complex, low unit volume or single unit parts.

If this emerging trend continues, we estimate that 3D printing will profoundly transform manufacturing and significantly impact on business and the global economy within the decade.

Advances in 3D printing technology continue to provide greater flexibility in manufacturing processes. The benefits to manufacturing companies are significant with reduction in lead times, high levels of cost savings and overall improvement performance.

Research substantiates that its application is particularly relevant to those manufacturers where there is a high level of emission and waste, high labour cost and low unit volume production.

Direct manufacturing can now eliminate many manufacturing processes including sourcing individual parts, creating moulds to build parts, tooling parts and assembly.

By removing expensive and complex tooling costs along with high levels of labour costs associated with large assembly processes and limiting current handling and storage costs, we estimate that manufacturers can potentially reduce costs by up to 40% based on estimated investment and expenditures.

Our conversations with manufacturers that are using plastic moulding to produce products and parts suggest the application of 3D printing will continue to add value to the process by reducing the set up time and minimising tooling errors and waste.

One of the advantages of 3D printing is that prototypes in the industry can be developed for evaluating complex requirements within hours and design changes can be made easily by amending the source file and producing a new part for immediate testing.

With the change in focus to the design process and concept developers in a 3D environment, our research established that there has already been a departure among some companies away from the traditional manufacturing process, with less consultation at different stages along the supply chain.

Our research shows a greater amount of integration and coupling occurring in the initial concept development, with the emphasis now on how a product is designed, tested and modified.

It is anticipated that 3D printing will reverse the design for manufacturing process (DFM) to that of a manufacturing for design process, as software capability allows the developer to make simple design amendments and adaptations to streamline the end product.

Consumer Use and Application

A key driver of 3D printing in the next decade will come from consumer use and demand. The expected growth of the consumer market will most likely exceed the estimated growth in the commercial market.

Significant recent improvements in technology and expansion of channels for 3D printed products are likely to result in the printing of multiple new and existing manufactured goods.

With prices decreasing over recent years, 3D printers for domestic use start at as little as AU$2,000. Manufacturers of 3D printers are delivering improved quality with expanded global distribution. Many are leveraging the expiration of patents to produce lower priced printers targeting the consumer market. It is anticipated that worldwide shipments of 3D printers will double in 2015. Consumers will have access to affordable 3D printing by purchasing a printer for in-home use, through a 3D printing store or by ordering a 3D printed product online.

Eliminating the costs of distribution and reducing the costs of the design and marketing embedded in products, could make the potential savings of 3D printing more competitive than purchasing through retail. Aside from cost savings, consumers printing their own goods can also benefit from customising the product. A pair of trainers can be customised to fit perfectly. The cost of goods will be influenced by the cost of the material utilised for production, so items such as toys and other products made from plastics will be reasonably inexpensive.

It is likely that mass customisation of products will lead to a sharing of design ideas online and consumers will be able to access the design patterns of many manufactured products. This trend has already been established through practices such as crowdfunding.

Designers are starting to create and sell 3D printed products or even their designs direct to a consumer using online services such as imaterialise and Shapeways.

Manufacturers will need to consider how to diversify their business to accommodate new channels of distribution and direct competition from self-printing consumers and potentially cater to the emergence of a plethora of designers and entrepreneurs developing ideas and products. Our research suggests there will be a significant transition for many companies engaged in traditional manufacturing to becoming a virtual business, with a focus on selling intellectual property and idea generation to consumers rather than the end product.

Customisation of product also raises challenging questions about future copyright protection and the impact this will have on companies’ products and brands.

There are challenges ahead for policy makers when addressing regulatory issues, ensuring appropriate intellectual property protections, and approving new materials for use.

In evaluating and considering these challenges business and policy makers will need to address the risks and opportunities without restricting the potential and innovation that 3D technology can provide.

The impact of 3D printing on Australian business

It may be a few years before the technology constraints currently holding 3D printing are removed, but at that point Australia is likely to be deeply impacted by the disruptive force of 3D printing for a couple of reasons:

1.    The labour cost in the country is high. This has led to the offshoring of manufacturing and remaining local manufacturing is relatively expensive.
2.    The country is remote and it is large. As a consequence, international and domestic logistics costs are high, transit times are longer and therefore inventory levels must be higher due to the distances goods must invariably travel.
3.    As a developed nation with relatively high disposable income, the desire for customised goods will be higher than less developed nations.

The good news for large companies is that they can potentially make use of 3D printing to reduce supply chain costs. The risk for those companies is that a significant barrier to entry – the ability to manufacture or source manufacture – will be removed. This can increase competition.

Good designers or innovators will no longer need the support of large organisations in order to create or distribute their product. And with the advent of social media as a bona fide marketing tool, they don’t need the advertising budget the company traditionally provided access to either. Talent attraction and retention will become increasingly important.

Logistics companies themselves face an interesting trade-off: 3D printing may result in a material reduction in consignments as businesses simply print the needed component instead of shipping it. The benefit is that 3D printed products are mostly smaller, lightweight items generate very little revenue per item for the logistics company. Logistics companies could also opt to act as a 3^rdparty printer, investing in 3D printing hubs and incorporating it as a service offering for their clients that do not wish to invest in their own equipment.

The biggest change should be for the small Australian business, now not constrained by labour cost, with the ability to manufacture small, customised batches on demand with little to no cash tied up in inventory. The small business who can now have a delivery lead time equal to print time plus local courier time.

While the other benefactors of 3D printing potentially see new markets or perhaps reduced input costs, the small Australian designer / manufacturer 3D printing can create a viable business where one did not previously exist. And that can be disruptive for everyone else.

Are discounts used as a volume driver or to create a price anchor?

The goal is not to minimise discounts, the goal is to maximise net sales

Looking at the above graph, it is tempting to see customer discounts as the single biggest opportunity to improve contribution. Reducing the discount will increase the contribution. In reality, this conclusion is probably only partly correct.

The goal is to maximise net sales, not minimise discounts. The subtle difference in restating the goal in this way reveals two possible objectives for discounting:

• Discount to drive volume
• Use discounts to create a price anchor

What is a consumer willing to pay?

Studies in behavioural economics suggest that consumers do not necessarily understand the value of the things they purchase. Without understanding value, they look to other signals to determine how much should be paid.

This is why post-purchase rationalisations are made for expensive items: “It was 50% off, what a bargain!”

The discount of 50% is completely dependent on what the potentially inflated recommended retail price is. Value can be created in a situation where a consumer would rather pay $130 after 50% discount than $100 with no discount for the same fashion item. The $30 premium is paid for the perception of value.

If a retailer chooses to operate in this way, monitoring and reporting on the value of discounts granted is clearly a waste of time and drives behaviour that contradicts the discounting strategy.

In Australia, volume appears to be the primary objective

Our research reveals that the majority of large retailers tend to use discounting to drive volume.

If more volume is the goal, how much more volume is needed?

Why is volume the primary objective?

Retail results are studied closely by economists. Retail spending is an indicator of consumer spending. Consumer spending is the largest component of aggregate demand. It also is an indicator of consumer sentiment.

Immense pressure is put on retailers to match or better prior year sales.

However, while matching revenue may indicate stable consumer sentiment it does not necessarily help retail fashion shareholders through stable or improving profits.

In fact, it could be doing just the opposite.

Revenue is vanity, profit is sanity

Often, discounting is initiated to maintain sales levels when performance is poor compared to prior years.

The increase in sales volume required to maintain margin after discounting is much greater than the increase required to maintain sales.

Simply maintaining sales revenue through aggressive discounting can easily lead to a decline in margin if volume growth is insufficient.

If this process is repeated year after year and volumes are not increasing enough, there is a real chance of declining profit.

Evaluating the results of discounting strategies

If the primary purpose of discounting is to drive volume as opposed to engineering a higher eventual selling price per item, we would expect incremental discounts to drive incremental volume. To test this hypothesis, we need a way to measure customer responsiveness to changes in discounting.

Price elasticity of demand is technically correct but difficult in practice

The responsiveness of demand for a product relative to changes in price is referred to as price elasticity of demand and is expressed in formula form as:

% change in quantity demanded

% change in price

In economic theory, calculating the price elasticity of demand is simple. It is simple because it has few data points, it assumes informed buyers that respond reasonably and consistently to changes in price, it assumes that stock is available in the size required and there is consistent market for the product.

In order to evaluate effectiveness of discounting strategies, an alternate measure of responsiveness to price change is needed.

 

Considering quarterly correlation between discount and volume

Another way to evaluate how customers respond to discounting is to calculate the co-efficient of correlation between discounts granted and volumes sold. In order to account for seasonality, the time series evaluated can be broken into quarters.

The benefit of this approach is that it is easy to calculate and replicate across all fashion lines or SKUs. The output of the analysis is also fairly easy to understand and evaluate over a period of time.

Are discounting strategies effective?

When evaluating effectiveness of discounting, PCG follow a similar pattern for all our engagements that require detailed analysis.

We form high level hypotheses and then test these using enterprise data. We also evaluate the data across as many dimensions as possible in order uncover actionable, money-making insights.

We have noticed a number of trends in discounting strategies across a few retailers that indicate opportunity for improvement.

If strategies are effective, it is more likely by chance than by design

Discounting is largely a re-active process.

Reasons for discounting tend to fall into three categories:

1. Scheduled sale to coincide with holiday or event
2. Sale to match competitor
3. Sale to bump revenues to produce comparable result to prior year.

There needs to be more sniper rifle, less shotgun

The reactive nature creates a time constraint on creating a discount strategy. Lack of analytical resources creates a capability constraint on creating a discount strategy.

The end result is a broad brush discount strategy which is as likely to erode value as create it.

Instituting store wide discounts means that lines that sell well regardless of price are reduced as well.

These broad discounts also condition customers to wait for discounting before purchasing.

Using only averages can produce average results

Even when a level of analytical rigour is introduced in creating discounting strategy, profits may not be optimised.

Unless the analytics are done at a sufficiently granular level, value eroding decisions can still be made.

• Do all stores respond in the same way?
• Do geographies influence impact of discounting?
• Do colour and sizing have any bearing?

Discounting is not the only driver of volume, and it is not the cheapest either

In retailers with a loyal customer base and effective loyalty program, we notice than direct marketing campaigns can yield significant uplifts in sales. Marketing campaigns can yield exceptional returns on investment.as the cost of the inclusion of a single fashion item in the campaign is spread over every item sold. This as opposed to discounting where every item sold attracts incremental opportunity cost.

We noticed that retailers’ reporting systems to not provide adequate feedback on stock availability. The general consensus is that they have too much stock, but deeper analysis reveals that quite often certain sizes are not properly catered for resulting in lost sales.

How can PCG help?

PCG’s analytical strength and depth of experience in the retail business

PCG has invested heavily in its analytical capability, recruiting experienced senior analysts and forming a separate group, PCG Solutions, to tackle problems which require bespoke solution development.

PCG also has extensive experience in the retail industry and is able to guide businesses on discount strategy creation and implementation.

By performing in-depth analysis, we are able to answer tough questions like:

• Are certain SKUs responsive to discounting?
• Does responsiveness to discounting change according to season?
• Are sales spikes determined by other factors such as restocking or marketing campaigns?
• Are store-wide discounts being granted on lines that sell well irrespective of available discounts?
• Is the customer loyalty program creating value?
• How are stock levels managed by store?

Knowing the answers to these and similar questions allows the fashion retailer to make informed decisions around its discounting strategy.

Discounts can be planned in focused way to yield better results than simply applying store wide discounts.

How does the industry price currently?

Pricing is based on four factors

There are typically four factors that determine the delivery price:

1. The distance the consignment must be moved
2. The size of the consignment
3. The time in which it must be delivered
4. The market forces – What are competitors offering for the same service?

The first three factors attempt to consider the operational cost in transporting a consignment from point A to B.

The fourth factor considers some of the supply/demand factors for the market.

Could a parcel business change industry pricing practices?

Moving away from the current industry pricing mechanism, which factors in weight as a large proportion of the price, could grant protection against further declines in the average weight per consignment.

Given that the costs involved in moving freight are similar across broad weight classes, per item rates between destinations would better reflect the underlying costs involved.

Customers could still be given discounts for sending multiple items, which would reflect the benefit to the parcel business of doing less work for similar revenue.

However, a change of this nature would require re-educating customers on a large scale, and could leave the first mover vulnerable if other providers do not follow suit.

If leading the change in industry practice is too risky, are there other methods that can achieve similar results with less disruption to typical industry standards?

Revenue management offers a solution for parcel businesses

Revenue management is usually associated with the airline or hotel industries.

There are definite similarities between these industries and parcel businesses, which provide the opportunity to benefit from revenue management practices such as dynamic pricing:

• Large fixed asset base
• High fixed cost structure
• Short “product shelf life”

However, there are also distinct differences between the industries which prevent a simple replication of revenue management strategies:

• Bulk of the business is handled through supply agreements with business customers which are negotiated on an annual basis (especially when B2B is the dominant market for a service provider). There is no spot market for the product.
• The majority of parcel collections are booked on the day of pickup. Understanding demand cannot be done through evaluating the bookings already made, it must be done through trend analysis which tends to be very unreliable.

Even with these limitations, parcel businesses could consider adopting revenue management practices, in particular, dynamic pricing.

How does dynamic pricing typically work?

The benefit of consistent demand

Other industries make use of pricing to influence (or at the very least, profit from) changes in demand over time. Industries such as telecommunications, electricity suppliers and internet service providers make use of dynamic pricing to try to manage hourly demand on their networks.

These companies do so in order cope with peaks in demand during the day. Their networks must be designed to cope with the maximum demand. If not, the network will suffer outages – dropped calls, brownouts or poor download speeds.

This management of demand improves the economic outcome for the business by:

• Avoiding the cost of expensive capital programmes to increase capacity
• Avoiding the cost of rectification where the agreed service levels are breached
• Avoiding the opportunity cost of missed revenue
• Improving the asset utilisation across the network by increasing activity on traditionally slower time periods.

When over capacity, service suffers

High volumes have a direct impact on customer service. As parcel businesses get busier, service quality declines. There is a direct correlation between volume of parcels in the network and the ability to deliver on time in full.

This has the immediate financial impact of customers making claims for deliveries not received on time and the longer term impact of losing customers or not being able to acquire customers due to poor service reliability.

It also has the less noticeable impact of brand erosion. Along with value for money, customers continuously rank the ability of a parcel business to deliver on time as a key differentiator when selecting a supplier.

Industry capital expenditure is already up

A parcel network should be sized to handle peak or near-peak volumes. If overall volumes continue to grow (growth being high on most CEO agendas), this will result in incremental capital spend and associated operating costs. Larger sortation facilities, additional linehaul trucking capacity, additional pickup and delivery (PUD) fleet and associated personnel to run it all.

This can already be observed in Australia. Toll opened a $170m facility to the north west of Sydney in July 2014 after spending $103m on facilities in Perth, Brisbane and Canberra. In February 2014, TNT announced a capital investment of $250m including new hubs in Sydney, Melbourne and Brisbane and a new facility in Perth is already operational.

The daily cycle in the parcel business

The daily cycle in a parcel business consists of two PUD runs, two sortation cycles and overnight linehaul trucking.

In the early morning, parcels are delivered by linehaul trucks to depots and the morning sortation window begins. Then PUD fleets head out to deliver the parcels, occasionally collecting a few parcels as well. After the midday break, the afternoon shift begins as the PUD fleet pick up all the parcels that are ready for collection and return to the depots for the afternoon sortation window. Parcels are loaded onto linehaul trucks and dispatched to their destinations to begin the cycle for the next day.

The problem in parcels is not peak hours, it’s peak days

There is already a form of dynamic pricing available. If you want a parcel delivered a little earlier, you can purchase a priority or express product. But the real problem is not managing the 8am to 9am rush, the real problem is dealing with the big surge of activity on a day. The large influx of parcels is what causes the network to choke.

Daily pressures are caused by:

• Customers delivering a trailer direct to the depot, causing a sudden spike in parcels to manage
• Weekly ebb and flow – Mondays have more deliveries and Fridays have more pickups.

We have observed that some depots do tend to have typically busy days, but for the most part operations have fairly predictable activity levels. This stems from the fact that a fixed number of PUD vehicles can only collect a certain number of parcels in a day.

A far bigger driver of “peak days” are direct trailer deliveries which create a sudden and often unpredictable surge in demand. The sudden surge extends the sortation window and can cause linehaul trucks to leave the depot later than expected. This puts pressure on the delivery cycle the following morning at the destination depots.

Flattening daily demand through pricing

An option for operators is to price in a way that encourages customers to:

• Shift the pick-ups of non-essential deliveries to non-peak days and
• Deliver trailers in a piecemeal or appropriately scheduled way

By re-distributing the extra consignments received from the direct trailer deliveries, the depot is able to manage the maximum activity level.

By managing the maximum activity levels at each depot, the operation is able to fulfil delivery promises without having to invest in additional capital or expensive additional variable capacity.

The price incentive to offer must be calculated to secure the benefit

The economic impact of the discount offered to incentivise customers to move trailer pickups to days that suit the operation must be more beneficial than the cost of extra capital or variable incremental capacity.

The discount must also be enough to incentivise the customer to consider improving their forecasting of outbound logistics.

The calculation requires a deep understanding of profitability across all dimensions and a good understanding of demand across all depots.

PCG’s analytical strength and depth of experience in the parcel business

PCG has invested heavily in its analytical capability, recruiting experienced senior analysts and forming a separate group, PCG Solutions, to tackle problems which require bespoke solution development.

PCG also has extensive experience in the parcel business and has implemented profitability models in Australia and the UK.

These models are used to evaluate and implement decisions such as the one in this article – helping management to make informed decisions that add to the profitability of the organisation.

Our profit improvement projects in the parcel business span the entire operation and our involvement in revenue management, procurement, operational efficiency and overhead reduction have achieved a return of more than ten times the consulting investment in the first year of implementation.