DC Velocity - July 2016

newsworthy

LOW INVENTORY CARRYING COSTS CAME TO AN end in 2015, removing an important prop of U.S. business profitability, according to the 27th annual “State of Logistics Report.” The report was written by the consulting firm A.T. Kearney for the Council of Supply Chain Management Professionals (CSCMP) and is presented by Penske Logistics.

According to the report, released June 21 in Washington, D.C., inventory carrying costs rose 5. 1 percent over 2014 levels, paced by a 7.4-per- cent increase in the “financial cost” of inventory. The financial cost was derived by multiplying the value of a company’s business inventory by the average cost of capital it has borrowed to finance the inventory.

Storage costs, which are included in the total inventory calculation, rose 2. 5 percent year over year, according to the report. The cost of what the report classifies as “other” factors, including inventory obsolescence, insurance, and handling, rose 5. 1 percent year over year.

Ever since the Federal Reserve dramatically slashed short-term interest rates during the 2007–09 financial crisis and subsequent recession, the capital costs of holding inventory have sat at historic lows. From 2010 to 2014, capital costs grew by just 0.9 percent, compounded annually, the report concluded. By contrast, storage costs rose 4. 7 percent a year, compounded annually.

In December, the Fed raised its benchmark Federal
Funds rate, the overnight rate charged by banks for bor-
rowing from one another, from between near zero and 0.25
percent to between 0.25 and 0.50 percent, its first increase
in nearly 10 years. The central bank said at the time it was
considering several rate increases during 2016, but subpar
economic growth in the United States and abroad, com-
bined with the uncertainties surrounding Great Britain’s
exit from the European Union, led Fed policymakers to
rethink that position.

From 2010 to 2014, a period associated with moderate U.S. economic growth, inventories rose 5 percent a year as businesses restocked in hopes of increased demand, and mega-fulfillment centers were erected to accommodate what would become a multiyear surge in e-commerce traffic. Though inventory levels flattened in 2015—rising just 0.25 percent—the cost of capital did not, the report concluded.

Businesses today have costlier inventory loads to finance than at any time in years. In

2009, inventory value stood at $1.93 trillion. At the end of 2015, it stood at $2.51 trillion, according to the report’s data. The nation’s invento-ry-to-sales ratio, which in the retail trade measures the value of inventories relative to final sales, has been climbing steadily for years, resulting in a protracted inventory bloat. Despite concerns over rising inventory levels and higher borrowing costs, the report’s authors do not forecast a general recession. Rather, they say the current trends— notably, the significant slowdown in inventory growth last year—represent an “inventory correction.” They also expect a rebound in freight volumes and revenues as 2016 progresses.

A $1.4 TRILLION FREIGHT BILL

All told, it cost $1.4 trillion to maintain the U.S. business logistics system in 2015. That equated to 7. 85 percent of last year’s gross domestic product (GDP) of more than $17 trillion. Logistics costs rose 2. 6 percent year