Basic Logic of Freight Terms:  Understanding the Emotion Behind Resistance to Change

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This might be remedial for part of our audience, so please allow me to apologize up front for the following simplified treatise on freight terms. I carry the scars of many a skirmish in the logistics trenches; skirmishes in which people who should have understood the nuances of freight terms did not.

There are three sets of freight terms typically used in the United States, controlling two conditions: WHERE ownership title and risk transfers and WHO pays for the cost of transportation.

  1. FOB origin—Collect:  Title of ownership of the freight transfers at the seller's dock and the buyer arranges and pays the freight cost.
  2. FOB destination—prepaid and add (PPD&ADD):  Title of ownership transfers at the buyer's dock and the seller pays the freight, charging the buyer the freight on the invoice.
  3. FOB destination—prepaid (PPD):  Title of ownership transfers at the buyer’s dock. The seller pays for the freight and rolls it into the price of the merchandise.

Converting PPD & ADD terms is easy; just change the terms. This should be automatic. Why? The vendor couldn’t care less what your freight cost is, and many do not.

With PPD there is a rub:  you must negotiate with the supplier and get an allowance for that freight cost. Vendors shipping prepaid are providing transportation service to a large number of small customers who may not have their own transportation departments. In the early days of retail, small shops never attempted to manage the freight process, so the sellers would “deliver the goods.” As the retail environment changed and large chain stores grew, they created their own distribution networks. In an effort to reduce costs, these retailers pressure vendors to change terms.

When pressured to give an allowance on PPD terms, vendors often argue that they will lose pricing power with the carriers and drive their transportation costs up—a cost that they have to pass along to the rest of the customers. “It’s not fair to our other customers,” is an argument I heard when I converted terms. I refer to this argument as the "socialized freight" argument, and that socialized freight is almost as bad as socialized medicine. “As a capitalist, I don’t understand why my company should have to support the profit line of our competition.” Every time I challenged the vendor to prove that their rates would go up they never did; they would have to show the markup.

In the long run, the buyer really dictates the terms, so resistance on the part of the vendor is futile. In many cases, the challenges come from within the merchandising teams. So many merchandise managers don't understand the cost of transportation and believe what the vendor's representation tells them. Many times I have heard from an ignorant buyer that “freight is free.” Freight is never free.

If converting terms is focused on just creating additional net profit, the tactic is addressing just a singular strategic goal. It does not follow the Drucker rule of tactics addressing multiple strategic goals, so the shipper should look to more strategies to address with the terms conversion. Adding more strategy helps overcome cultural resistance.

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