After persistently failing to ensure on-time delivery of its product to Japan by air, a major European pharmaceutical company was forced to take a multi-million dollar stake in a local Japanese drug company to ensure consistency of supply in a last desperate bid to retain a foothold in this lucrative market.

Despite this somewhat extreme measure, the company still expects to lose its contract to local or regional competition. While he will not name names, this is just one example that Chris Welsh, secretary of the European Shippers Council, uses to illustrate the problems faced by his members, which include the major blue-chip manufacturers, in trying to access the global distribution chain.

Any system can only perform as well as its weakest link and for years now the Achilles heel of the air freight business has been the poor level of service provided by the traditional forwarder-airline relationship.

The underlying problem is that the vast majority of executives at scheduled carriers limit their focus to the 'glamorous' business of passenger service. Cargo just isn't sexy, so it comes a poor second in executives' minds.

Such complacency jars with the multitude of manufacturers trying to compete in a global market and willing to pay a premium for rapid and reliable distribution. The airlines' approach to air freight must change. But in a sector where processes have altered little in the last half century, this change is, not surprisingly, slow in coming.

The catalysts for the little change that has occurred among the combination carriers so far are the globalisation and commercialisation of the airline sector itself and, more significantly, the aggressive expansion and success of the integrators, particularly FedEx, DHL, TNTand UPS.

The prevalent use of 'just-in-time' manufacturing techniques means that companies around the globe are now heavily dependent on their distribution chain. 'The discipline in freight movement has changed with the advent of just-in-time manufacturing. Lead times have shrunk and manufacturers don't want stock tied up in warehouses,' explains John Hartnett, a Dublin-based cargo consultant. The integrators have realised this and are reaping the benefits.

At the same time, airline cargo managers are watching yields fall despite healthy growth, forecast at around 7 per cent a year until 2015. Boeing data show that cargo yields fell by 2.5 per cent a year between 1970 and 1995, although the slide has been arrested slightly; the average annual fall has been 1.1 per cent since 1990.

Herein lies the threat to combination carriers, argues Hartnett. He believes airline cargo managers are deluding themselves when they try to explain away the fall in yields by blaming increased competition and overcapacity. 'I suggest that's not the real reason for the decline,' says Hartnett. 'It is that the value of goods travelling by air freight on combination carriers is declining and higher value goods are moving on to the integrators.'

The integrators' selling point is that they are capable of offering a guaranteed time-definite product, which has allowed them to target the highest yielding consignments. 'Integrators are transforming the demand side of the market by offering a cleaner product, [thereby] skimming off the high end of the market,' explains Lee Hibbets, research director at Seattle-based consultants Air Cargo Management Group.

The difference between the integrators and the combination carriers is made abundantly clear by a survey carried out on behalf of IT vendor Unisys. The findings are well known among cargo managers and should be enough to make them hold their heads in shame. An audit of 2,000 international consignments revealed that it still takes six days on average to ship from consignor to consignee by traditional air freight. The industry's performance has changed little in 25 years: an Iata study in 1972 found the process took six days and six hours.

The Unisys study went on to look at the processes behind the shipments, to reveal why the airline-forwarder combination is lagging so far behind the integrators: there are too many events. The traditional cargo route requires an incredible 41 events against a mere 11 in the integrator cycle.

Put in the context of this research, is it perhaps not surprising that Hartnett believes Boeing's air freight forecasts err on the side of optimism. In 1993, the scheduled carriers enjoyed a 96 per cent share of the world's cargo market based on revenue tonne km, with the integrators taking the rest. By 2013, the aircraft manufacturer estimates the integrators' share will rise to 30 per cent.

Cargo managers would point out that they will still hold the lion's share of a much bigger market, which will grow from 60 billion RTKs in 1993 to 280 billion in 2013. But Hartnett suggests the projected share of the integrators by 2013 is 'grossly underestimated' and 'guesstimates' that the 70:30 split will be reversed in favour of the integrators.

In private, industry insiders despair at the pervasive complacency among cargo managers. This attitude can be explained in part by the position airlines occupy in the air freight chain: most managers still consider the forwarder as the customer, ignoring the fact that the consignment belongs to and is paid for by the shipper. Airlines are slow to grasp this concept and find it convenient to blame the forwarder for any mishaps. In reality, however, it 'seems to be a lack of willingness on the side of the traditional freight carriers to change than on the forwarders,' says Hartnett. For Welsh the issue is simple: 'We want more transparency in the market and a closer relationship between the main players.'

In a straw poll of the cargo community to identify the progressive airlines, only three names featured: two of the world's leading freight airlines, Lufthansa Cargo and KLM, were mentioned most frequently, while British Airways was also identified as moving in the right direction.

Hartnett says the lack of progress among the majority of air carriers is due to the way most airlines are structured. 'Airlines are not making changes because the management structure at board level don't see cargo as really important in the global scale of things . . . A cargo head at an airline today really only has a sales and marketing role.' This effectively leaves the cargo division without any real control of its product.

The marginalised position that cargo generally occupies at airlines is even more surprising in the context of its importance to most airlines' bottom lines. Bellyhold cargo can often be the difference between a route making a profit or slipping into the red. Due to the marginal extra costs of flying cargo in the belly of an aircraft, Hartnett estimates that as much as 70 per cent of cargo revenue goes straight to the bottom line. This drops to 50 per cent on shorthaul routes.

Based on a representative sample of combination carriers, ACMG has calculated that the average contribution of cargo to total revenue is around 21.1 per cent in Asia-Pacific, 14.7 per cent in Europe, and a more modest 5.9 per cent in the US.

Airlines are starting to sit up and take notice, urged on by some vociferous campaigning by the shippers. A forum called Cargo 2000 is being set up under the Iata umbrella, to bring together airline and forwarder chief executives with the aim of imposing minimum standards. Along similar lines, Welsh has been a driving force in organising an Air Freight Forum to bring together airlines, forwarders and shippers at the European level for the first time. 'The aim is to identify steps that can be taken to improve the freight supply chain,' he explains. The first meeting was set for 20 February.

In the information technology area, CargoMedia was formed in May 1995 to bring together the world's 17 leading combination carriers to promote the use of electronic data interchange and produce common standards.

IT suppliers are also offering a number of products to help integrate the airline-forwarder relationship. Unisys is offering its Virtual Integrator Suite (VIS) for which it so far has two relatively small airline customers (in cargo terms): Delta Air Lines and Varig.BT Syntegra is thought to be working on a similar cargo 'solution'. However, these proprietary systems may prove to be only an interim step; Hibbets predicts all systems will eventually migrate onto a common system on the Internet.

However, without the fundamental restructuring of internal processes any progress will mean little. 'I think that everyone realises that we are in a do-or-die situation,' says Ted Braun, Iata's assistant director of cargo procedures and automation. 'There is a window of opportunity of two to three years.'

Lufthansa Cargo is the prime example how airlines can change their cargo processes. Lufthansa Cargo was set up as a separate legal entity in 1995 and for the past 18 months the management has been implementing a strategy to reposition the company. Cargo costs are now fully transparent.

This has led to some drastic changes, explains Michael Kraus, vice-president of business development. The main IT change was the cutover to the Mosaik handling system at the end of January. But that is merely part of a much wider strategy driven by marketing. 'The focus has turned through 180 degrees from the aircraft to the customer,' says Kraus.

The forwarders are now treated as partners: 'We want to discuss with forwarders what blue chip companies they want to target, and where their goals match ours we will suggest we talk to the customer together.' Kraus says he is shocked at the lax manner with which airlines treat the market. 'Customers are making the same demands on classical cargo carriers as they are on integrators. It is amazing that we have not changed to accommodate the customer over the past 10 years.'

He also expresses astonishment that cargo managers at other airlines are still trotting out the standard line that integrators are not competitors because airlines shift the heavier cargo. 'The key account managers at FedEx and DHL are pushing their operations people to adapt to handle larger goods,' he says. Kraus should know: Lufthansa has a 25 per cent stake in DHL and says the integrator 'can teach us a lot in this business.' Indeed, Lufthansa Cargo plans to roll out its European express door-to-door service globally in the next 12 to 18 months.

KLM has taken a slightly different approach to revamping its cargo business. The Dutch carrier has kept its cargo division in-house and is pushing to create an integrator-style service by changing its distribution channels. Some cargo insiders suggest that this has alienated some forwarders by circumventing them, but Stan Wraight, vice-president cargo sales, denies this: 'We don't have a problem with our forwarders because we have developed strong links with them. They are customers of ours.'

The approach taken by KLM is to leave what Wraight terms as the 'mass market' express parcel business to the integrators:'Certainly that's not something we can compete on.' He says the airline is instead offering blue chip companies customised services, including mail, and points out that no integrator can compete with the huge network KLM offers with its cargo partners Emirates and Nippon Cargo.

KLM began reorganising its cargo division three years ago and from April 1997 it will adopt a 'full business unit structure' in which functional responsibility will be removed and specialist groups will be responsible for sales and their own bottom line, says Wraight. He sees no need for cargo to be fully separated as with Lufthansa. 'We have a bottom line now, believe me,' he adds.

Gerry Devine, network strategy manager at British Airways Cargo, is similarly convinced that his division will not move as far as Lufthansa. The division was set up as a stand-alone profit centre last April, but Devine believes there is more value in the direct link with the passenger operation.

BA Cargo is investing $240 million in a new cargo centre, which is set to open in early 1999 at London/Heathrow. The hi-tech centre will boost BA's cargo handling capability by 60 per cent to 800,000 tonnes a year, while delivering 'significant' productivity improvements; in early February, the carrier announced it would be making 400 of its 2,800 cargo employees redundant.

Devine admits BA Cargo has had its share of problems, which he blames on the lack of capacity at the current cargo centre, and concedes that the division is failing to its meet financial performance targets. 'There's some way to go before we reach adequate profitability,' Devine adds. He says the division is studying passenger yield management techniques to boost performance.

Delta has made a similar commitment to cargo after reorganising its own division last January. This brought sales and handling under the control of a vice-president, whereas previously the two areas had been under the control of the passenger and airport handling divisions, respectively. Craig Drum, director of cargo sales and marketing, says the carrier purchased the capacity management part of Unisys' VIS product which allowed it to roll out 'Priority First', a domestic heavyweight express product. It gave Delta 'a tremendous advantage because it allowed us to offer a time definite product,' he says, adding that the carrier is currently 'exploring the full [VIS] piece.'

This is the one area where the US combination carriers may yet be able to compete effectively with the integrators. The latter took only 12 years to achieve dominance in the US domestic market - a fact that should not be lost on European and Asia-Pacific operators. In 1978 integrators held a 16 per cent share in the US, but by 1990 they had reversed the position with an 84 per cent share, says ACMG.

But ACMG's Hibbets remains optimistic that the larger cargo combination carriers, at least, will successfully fend off the integrators internationally. Not only do the combination carriers still dominate the market - FedEx is the largest integrator internationally with a 3.3 per cent share of RTKs - but Hibbets argues that the European and Asia-Pacific carriers which earn around 20 per cent of their total revenues from cargo 'are not going to let that go easily.'

That remains to be seen. But one thing is certain: airlines must address their cargo operations now, before it is too late. Most of the medium or smaller cargo carriers would do better if they focused on flying the cargo and let the forwarders worry about the logistics, suggests Hartnett. 'Airlines are at a T-junction, not a crossroads. They either change or get out of the business. They do not have the option of continuing as they are.'

Source: Airline Business