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The road ahead for logistics sector
Updated: 2010-12-31 10:46
By Jeffrey Wong (China Daily European Weekly)
Increasing consolidation expected in fragmented industry which presents challenges, opportunities
China's logistics sector has been developing at an extraordinary rate thanks to the rapid expansion of the country's industrial base and the rise of the domestic consumer market. And as a pivot of the Chinese economy, the logistics sector has received considerable backing from the government and is attracting substantial foreign and domestic investment.
The logistics market has grown annually by approximately 14 percent over the past five years. The total value added by the logistics industry reached 2.31 trillion yuan (263 billion euros) in 2009, which constituted a 6.7 percent share of the gross domestic product (GDP).
Efficient distribution of raw materials and finished products is one of the biggest challenges associated with China's rapid economic growth. Expenditure on logistics services, encompassing transportation, storage and management functions, reached 6.08 trillion yuan (680 billion euros) in 2009. Challenges faced in developing the market include regulatory constraints, local barriers to entry and capital strain.
With the government's substantial investments in infrastructure and further liberalization of the transportation and logistics markets, continued improvement among logistics companies operating in China, accompanied by significant consolidation, is being made.
Market overview
Growth in the logistics sector has been fueled by rising domestic demand for goods and services and, on the supply side, by improving transportation infrastructure. The logistics market has seen double-digit annual growth in recent years.
Given the current stage of China's economic development, the majority of business for logistics companies comes from the movement of industrial products. This accounted for around 90 percent of the value of goods moved in 2009. Imported products accounted for 7.1 percent, a figure that may rise in the years ahead.
As a percentage of GDP, logistics costs are around 18 percent, having dropped slightly from 18.8 percent in 2004 to 18.1 percent in 2008. This is still high compared to developed countries, where logistics costs are typically below 10 percent of GDP. This high figure suggests operational inefficiencies exist throughout the market.
Although China's GDP is dependent on industrial sectors to a large extent than most developed countries, market fragmentation, regulatory constraints and operational challenges have all contributed to relatively high operating costs.
The total logistics cost in 2009 was 6.08 trillion yuan. Transportation accounted for the largest component of the total, with around 55.3 percent (3.36 trillion yuan).
The other components were inventory storage costs (1.99 trillion yuan) and management costs (730 billion yuan).
Policies and regulatory environment
The government recognizes that certain challenges in the logistics sector are impacting wider economic growth. It continues to address these challenges through a combination of regulatory measures and government investment in infrastructure to provide more favorable conditions for transportation and logistics companies to operate.
The government's 11th Five-Year Plan (2006-2010), set out a number of initiatives to establish transportation and logistics markets in support of the development of the tertiary industry, as well as the growth of the economy as a whole.
A major reorganization at the ministry level was conducted in 2008 to streamline the governance of the transportation system. The reorganization involved integrating a number of transportation-related government bodies. The functions of a number of government departments regulating civil aviation, postal services, communications and urban public transportation were consolidated into the newly established Ministry of Transport.
In response to the global financial crisis, the government launched a stimulus package of 4 trillion yuan (450 billion euros) in 2009. A majority of the funding was directed to infrastructure development, and it provided favorable conditions for the logistics industry to grow. Along with the injection of liquidity into the market, the government introduced the Rejuvenating Program for Logistics Industry in February 2009 to support the development of the industry from 2009 to 2011.
Competitive landscape
As a result of self-management and localized operational footprints, transportation and logistics operations are highly fragmented. The top 20 transportation and logistics companies in China had total revenues of around 330 billion yuan (37.4 billion euros) in 2008 - about 6 percent of total logistics costs for that year.
The competitive landscape is rapidly changing and is driven by the following trends:
Foreign players accelerating their expansion in the wake of market liberalization and improvement in infrastructure
Domestic players upgrading facilities and improving their services to compete with foreign entrants
Foreign-invested manufacturers looking to improve operating efficiency along their supply chains.
Chinese shipping operators are rising quickly with China Ocean Shipping Co. (COSCO) and China Shipping Container Lines Co. (CSCL) ranking among the world's top 10 fleets in terms of carrying capacity by twenty-foot equivalent units (TEUs).
Challenges and opportunities
The sector has a number of challenges to overcome to improve efficiencies.
However, with continued government efforts in deregulation, administrative reform and investment in infrastructure, these challenges present opportunities for companies to succeed.
Pursuit of efficiency
The high ratio of total logistics costs to GDP has drawn the attention of the government and is considered not just an issue for the industry but one of significance to the prospects of overall economic development.
A reduction to the ratio has been made a target at all levels of government, and various initiatives have been launched. Further market liberalization is expected to break down the provincial boundaries and facilitate development of a national logistics market.
Competition brought about as a result of market liberalization has prompted further investment led by global logistics operators who are establishing regional hubs, upgrading operational systems and training logistics professionals. Domestic logistics operators are, however, catching up quickly, and some are gaining dominant positions at the regional level.
Outsourcing
The share of third-party logistics is on the rise. It is both a result of government encouragement and the trend toward companies outsourcing their logistics operations to focus on their core business operations and reduce costs.
The first batch of third-party logistics operators were logistics departments of multinational corporations or sizable domestic enterprises that were spun off. The success of these third-party logistics operators demonstrated the viability and potential of the business model.
As the benefits of this approach become clear, it is encouraging more companies to follow.
Development of infrastructure
Transportation and logistics infrastructure have improved significantly in the past five years. Although it has yet to achieve the standards of many developed economies, China is far better connected across countries and provinces that before.
With more transportation facilities, such as toll roads built with provincial government funds and private sector investment, it is expected there will be a growing number of projects seeking to raise capital, including through initial public offerings.
Market consolidation
The market is fragmented and dominated by companies with limited scale or scope of services. With improvements in infrastructure and the government's policy aim being to nurture a number of large, internationally competitive logistics enterprises, an increased amount of merger and acquisition (M&A) activity is expected.
There are a few regional players emerging, but they are still facing obstacles expanding across provincial boundaries. One notable trend is horizontal integration by means of cross-provincial M&As as a means of gaining access to bigger domestic markets.
The author is a partner with KPMG Shanghai.
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