A supply chain of tools - making the right investment moves with logistics service providers

LOGISTICS form the backbone of the today's supply-chain ecosystem, ensuring that people and goods are transported efficiently from one point to another, on time, in good condition and at competitive prices. The sector is also evolving rapidly, as advances in technology respond to distribution demands from e-commerce firms. Furthermore, we see disruptive forces in play as new entrants create services that we suddenly cannot live without.

This is also a labyrinthine industry that includes a multitude of stakeholders ranging from governments, warehouse operators, freight specialists, port authorities, transport companies and the end-user.

In Singapore alone, the transportation and storage sector, of which logistics is a part, contributes over 7 per cent to gross domestic product growth and employs almost 9 per cent of the country's workforce.

The leading logistics-related companies listed on the Singapore exchange include:

A crucial point to note is that in the logistics industry, it is hard to find two firms that are entirely alike. It is therefore vital that you establish a complete picture of a company's portfolio of services to gain insight into the logic of its business model. Does it cater to the retail or industrial markets, for example? From there, you will have a roadmap to help drill into the factors that drive demand in each division of its business.

Demand is fundamental

Like any industry, demand is fundamental, so find out where in the world it originates, paying attention to the different services offered by the company and the types of cargo moving from one point to another. Volume is another crucial factor - how many packages are regularly in transit and at which times of the year?

The logistics industry is relatively sensitive to unpredictable external events, so make sure that you do not lose sight of macroeconomic factors. Gauge the sensitivity of a business to changes in the economic conditions and levels of consumption in the regions in which it operates. Firms that specialise in home delivery could flourish in territories where there is a burgeoning middle class but are also vulnerable to downturns in established markets. Indeed, the home delivery functions of logistics players, which has up to now been buoyed by the growth of e-commerce, could be threatened by the so-called e-tailers - Alibaba and Amazon, among others - who are looking to forward integrate into distribution.

With a basic understanding of the various demand drivers that have an impact on each arm of its portfolio of services, you can now examine a company's pricing model by comparing it with peers within the same industry. Logistics firms do not have much wriggle room when it comes to pricing. If we take two broadly similar businesses transporting good from Kuala Lumpur to Singapore by road, then they both face the same fuel prices, and distance covered, but will undoubtedly offer different freight rates, discounts and pricing models.

To find out how they do this, you should - among other things - research a firm's transport planning. Is it efficient? A good measure is the load-to-truck ratio - a lower ratio translates into cheaper freight rates. What is the vehicle mix, is it flexible enough to face changes in demand - does the company own its trucks or just lease them? Also, consider whether there is a bias towards contract drivers or full-time employees.

From an environmental, social and governance (ESG) perspective, the logistics industry offers a certain amount of clarity to help formulate your research. The global transport of goods consumes large amounts of fossil fuel, so take stock of the emissions intensity of a company's operations and the steps taken to offset its carbon footprint. Packaging is another angle to contemplate: think of all those small online purchases that arrive in large boxes. Therefore, enquire whether the firm is seeking to reduce packaging and uses biodegradable or recycled material.

Another aspect to inspect is the operational performance of a business and how its key metrics, such as margins and costs, compare with competitors. What impact do changes in freight rates, fuel costs and exchange rates have? As we know, past performance is no guide to the future, so look at how the long-term megatrends - macroeconomic conditions, exchange rate movements, technology and demographics - affect the logistics business model. These will be the key differentiating factors that separate a top-performing logistic player from its peers. So, if we return to our two trucking businesses plying the KL/Singapore route, you should get to know how they are utilising technology in their different functions. Have they automated their warehouse operations and eliminated the need for forklift truck drivers, for example?

Certainly, as e-commerce continues to evolve, and competition increases, automation is unavoidable. In a similar vein to the financial industry, the logistics space is heavily influenced by the development of cutting-edge technology. If the phrase has not already been coined, we can call this evolution Logtech.

This column is an excerpt from the joint research by CFA Institute, Association of Chartered Certified Accountants (ACCA) and CRISIL, entitled "Sector Analysis: An Investors Framework". The excerpt is printed here with permission from the three organisations. A full version of the research will be published on CFA Institute Asia-Pacific Research Exchange at www.ARX.cfa. Sources: