When
United Parcel Service Inc.
UPS +0.02%
Chief Executive
David Abney
bought his first book from
Amazon.com Inc.
AMZN -0.15%
about 15 years ago, e-commerce seemed no more complicated than ordering from a catalog. "Pretty basic," he says.
Online sales have mushroomed since then into a huge business for the package-delivery company—and a big problem.
Because
of the ubiquity of free shipping, fierce competition from other
delivery services and Amazon's power to drive down shipping costs as it
gets even more enormous, UPS's average revenue on each Internet-related
package it handles is dropping.
Even
though net income last year was the highest ever at UPS, profit margins
on deliveries in the U.S. have been flat for three years, a sign that
online sales aren't helping the bottom line as much as they used to. UPS
also has lost market share in e-commerce shipments. According to
shipment-tracking software developer ShipMatrix Inc., UPS delivers about
42% of e-commerce goods, down from the company's estimate of 55% in
1999.
New UPS CEO David Abney.
Associated Press
The numbers add up to one of the
biggest challenges in the company's 108-year history. Under Mr. Abney, a
59-year-old UPS lifer who took over as CEO on Sept. 1, the company is
trying to squeeze costs out of its sprawling delivery network and drum
up more revenue. UPS is under more pressure than
FedEx Corp.
FDX +0.61%
and the U.S. Postal Service because UPS is the biggest e-commerce
carrier and its two rivals dived into the business later with narrower
strategies.
In the most extensive
interview since UPS announced his promotion in June, Mr. Abney said the
rise of e-commerce "has challenged some of our traditional ways of doing
business," changing how the Atlanta company dispatches drivers, loads
trucks and earns money.
From now on, he
says, UPS must slash its costs on e-commerce shipments at a faster rate
than the continuing decline in average revenue. Next year, UPS will
start charging by the size of ground shipments rather than weight alone,
effectively raising prices.
"We are the world's leading transportation company, and we absolutely are going to advance our position," Mr. Abney predicts.
Some
investors and analysts aren't so sure. They say the trends that are
hurting UPS have been growing for too long and might be too strong to
reverse. The company's shares stumbled in July, partly on concerns about
its e-commerce strategy. Since an initial public offering in 1999 that
was then the largest in U.S. history, UPS's stock price has nearly
doubled, outperforming the Dow Jones Industrial Average but trailing
FedEx's gain of more than 200%.
The competition isn't just FedEx anymore.
Google Inc.
GOOGL -0.98%
is teaming up with retailers like
Target Corp.
TGT -0.36%
to offer same-day delivery in Manhattan, Los Angeles and San Francisco.
EBay Inc.
EBAY +2.07%
picks up orders at stores and delivers them the same day or next
day. Ride-sharing service Uber Technologies Inc. is experimenting in
Washington, D.C., with same-day deliveries of about 100 items, including
batteries, shaving gel and gum.
Even
the U.S. Postal Service is getting more aggressive, slashing prices to
attract big e-commerce companies in time for the holidays. The post
office is testing grocery deliveries for Amazon in San Francisco and
delivers other Amazon shipments on Sundays in more than 20 metropolitan
areas.
The biggest new threat of all could
come from Amazon itself, which recently began making some deliveries to
consumers in San Francisco, Los Angeles, New York and elsewhere. Amazon
has said it expects the burgeoning delivery network to eventually
"revolutionize how shipments are delivered to millions of customers."
"Longer
term, can these guys make any money on e-commerce?" asks David Vernon, a
transportation analyst at research and brokerage firm Sanford C.
Bernstein, about UPS. Growth in revenue per shipment has slowed
dramatically in the past two years from nearly 2% on average annually
over the previous decade.
UPS executives
aren't panicking about the problems. E-commerce in the U.S. still
generated more than $11 billion in revenue for UPS in 2013, Mr. Vernon
estimates, or about 21% of the company's overall revenue of $55.44
billion. UPS got even more revenue from its international operations.
"If
you're leading, you can't be anything better than No. 1, but you can
increase your lead," says Mr. Abney, who embodies the can-do spirit
woven into the company's culture for decades. Born in Mississippi, he
started his UPS career as a part-time loader while a student at Delta
State University.
Then he drove a UPS
truck in Pascagoula, Miss., and began a slow but steady climb through
the company's promote-from-within management ranks. Mr. Abney was jarred
by what he remembers as his first foreign job assignment: a move to New
Jersey in 1988. Looking back, he says he is glad UPS took "me out of my
comfort zone at times."
According to
the U.S. Census Bureau, e-commerce sales totaled $283 billion in the
year ended June 30—up from $138 billion five years ago and $64 billion a
decade ago. In the second quarter, an estimated 5.9% of all retail
sales in the U.S. came from e-commerce, compared with 3.6% in 2009 and
1.9% in 2004.
Without UPS, there would
be no e-commerce boom as we know it today. In the late 1990s, UPS was
the only company with enough geographic reach, brown trucks, engineering
skill and technological know-how to connect up-and-coming Internet
merchants to businesses and consumers across the U.S.
In
1998, as much as 85% of e-commerce purchases were shipped between
businesses. Many package-delivery executives expected the trend to last.
They thought UPS would get another boost from consumers willing to pay
extra for speedy overnight deliveries of Internet purchases.
But
along came Amazon, which helped convince a generation of Americans to
buy even humdrum household items like diapers and toiler paper online
rather than at the store. Over the past decade, the consequences have
gradually pecked away at UPS's control.
On residential UPS routes, as much as one-third of all deliveries are Amazon shipments, drivers say.
Associated Press
UPS drivers who used to drop off
several heavy packages a day at one retailer now make several stops
scattered across a neighborhood, delivering one lightweight package per
household. The shift requires more fuel and more time, increasing the
cost to deliver each package.
Last
Christmas season, nearly 60% of all U.S. deliveries by UPS were
e-commerce packages to consumers, compared with about 40% for all of
2012. UPS hasn't disclosed what percentage of peak-season deliveries in
2012 were online purchases.
What changed? Free shipping.
In
2000, Amazon introduced free shipping on orders of more than $100.
Other retailers followed. "Free shipping was basically a gimmick to gain
market share," says
Rick Jones,
a former UPS executive who now is president and chief executive
of regional package-delivery company Lone Star Holdings LLC.
The
gimmick was widely expected to fade away. Instead, Amazon introduced in
2005 its Amazon Prime unlimited shipping membership, with free two-day
delivery of all orders for an annual fee of $79.
Alan Gershenhorn,
UPS's chief commercial officer, says online retailers figured out
that shoppers would rather go to the mall than pay an extra $5 in
delivery costs for the same item online. So free shipping took off.
Last
year, Amazon had sales of $74.45 billion, nearly quadruple the Seattle
company's 2008 sales of $19.17 billion. At UPS, though, revenue in the
U.S. package-delivery business rose just 9% to $34.07 billion in the
same period.
UPS had net income of
$4.37 billion last year, compared with $274 million at Amazon. Yet
Amazon's growth gives it muscle to drive a hard bargain with delivery
providers. Five former UPS or FedEx executives say they are aware of
pricing negotiations where Amazon used its leverage to pit the two
companies against each other—and drive down prices.
Last
winter, FedEx's volume of packages from Amazon suddenly declined by an
annual rate of 50 to 60 million, analysts estimate. FedEx has said its
no-frills Smartpost delivery service suffered an 8% volume decline
because of "changes in shipping patterns from one large customer,"
without confirming that Amazon is the customer.
UPS
gained at least some of the shipments, but the extra packages went to
the company's Surepost operation, where rates are far lower than the
traditional UPS ground-delivery network.
Amazon's
overall shipping-related spending last year was equal to 9% of its
total sales, down from 15% in 1999, securities filings show.
In
2013, UPS delivered about 182 million Amazon packages, or 30% of the
total, with the rest divided among the Postal Service, FedEx and other
carriers, Sanford C. Bernstein analysts estimate.
UPS's
haul includes much of Amazon's two-day-delivery Prime business. Drivers
on residential routes say as much as one-third of their truck can be
filled with Amazon packages on any given day.
"If
they're making 5%, I'd be amazed," a former senior FedEx executive says
about UPS's profit margin on Amazon Prime shipments. UPS and Amazon
declined to comment.
UPS raises prices
an average of 3% to 5% a year, but big customers like Amazon often
negotiate around the published rates, which primarily affect small
businesses and consumers. Home deliveries are hit with fuel and
residential surcharges.
The pricing
pressure is likely to get worse as everything from do-it-yourself
supply-chain planning to order-it-now delivery and same-day courier
services at the touch of a smartphone invade UPS's territory.
In
UPS's hometown, a 6-month-old service called Kanga enables users of the
company's app to place a bid for a car or pickup truck to "move
anything, anywhere, anytime." "Kanga can step in for the last mile,"
says the company's co-founder and CEO, Everett Steele.
Mr. Abney, who was UPS's chief operating officer for seven years before succeeding
Scott Davis
as CEO, says the e-commerce challenges are "the opportunity of
this generation of UPS-ers." The company is tackling the problems much
as it always has: with lots of analysis, planning and technology.
For
example, when UPS was overwhelmed just before Christmas by a pileup of
online shipments at its massive sorting facility near Louisville
International Airport in Kentucky, including hundreds of trailers filled
with Amazon orders, Mr. Abney convened a cross-section of top
executives.
The mess was an especially
embarrassing and costly reminder of UPS's struggles to deal with the
boom in online shopping and free shipping.
At the meeting, executives invoked
the "constructive dissatisfaction" mantra of UPS founder James E. Casey.
He started the firm as a bicycle-messenger service in 1907 and
relentlessly pressed employees to improve themselves and the company.
"There was a hard sense of urgency," Mr. Abney says of the meeting.
One
of the first decisions was to increase spending on new technology and
extra manpower by 21% to $2.5 billion in 2014. If the spending pays off
this peak season, it also could help UPS charge more for holiday
shipments in the future, analysts say.
Other
efforts aimed at boosting revenue and cutting costs include a pricing
change in January that will encourage UPS customers to use boxes that
fit the items being shipped, freeing up space in trucks for additional
deliveries, or else pay extra. More packages will be sorted at higher
speeds.
UPS also is counting on major
savings from a route-optimization system called Orion. It analyzes
millions of pieces of data to predict the most efficient way to deliver
and pick up packages along each driver's route. Every mile cut will save
the company $50 million a year, with nearly half of UPS's delivery
routes in the U.S. using Orion by 2015.
More
than 10 million customers have signed up for My Choice, a service that
alerts them the day before a home delivery is set to arrive, provides an
estimated delivery time and lets customers tell the driver where to
leave the package. For $5 per package or $40 a year, customers can
change a delivery address or pick a new delivery date.
Anytime
UPS can avoid missed deliveries, that is "real meaningful dollars for
us," Mr. Abney says. In the second quarter, UPS's average cost to
deliver each package in the U.S. slipped 1.7% from a year earlier, but
revenue fell 2%.
Write to Laura Stevens
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