Automation in logistics: Big opportunity, bigger uncertainity

The history of logistics is also a history of automation, from the steam engine to the forklift to today’s robotic pickers and packers. So today’s fevered interest in new machinery, after a lull of several years, has plenty of precedent. Many trends are thrusting automation toward the top of the logistics CEO’s agenda, not least these three: a growing shortage of labor, an explosion in demand from online retailers, and some intriguing technical advances. Put it all together, and McKinsey Global Institute estimates that the transportation-and-warehousing industry has the third-highest automation potential of any sector. Contract logistics and parcel companies (which, for sake of convenience, we will call simply “logistics companies”) particularly stand to benefit.

Yet for all the excitement, most logistics companies have not yet taken the plunge. For every force pushing companies to automate, countervailing factors suggest they should go slowly. We see five reasons companies are hesitating: the unusual competitive dynamics of e-commerce, a lack of clarity about which technologies will triumph, problems obtaining the new gizmos, uncertainties arising from shippers’ new Omni channel-distribution schemes, and an asymmetry between the length of contracts with shippers and the much-longer lifetimes of automation equipment and distribution centers.

This is the second in a series of five articles on disruption in transport and logistics. In the first, we examined the implications of autonomous trucks. Automation is no less potent a force. In this article, we will review the reasons automation is coming to the fore, examine the five factors that are hindering investment, and lay out strategies that can position contract logistics companies to prepare for an uncertain future.

At first blush, more automation seems like the answer to three problems facing contract logistics companies.

Start with a shortage of workers. It’s no secret that, at least in the United States, labor markets have tightened. Unemployment rates are at a 50-year low, and wages are increasing. Some of the largest e-commerce facilities currently require 2,000 to 3,000 full-time equivalents, an order of magnitude more than traditional distribution centers employ, and need to add even more workers during the holiday peak season, when labor is most scarce.

While many of the jobs that might be automated are currently difficult to fill, that’s not to say that automation will have no effect on the workforce: it will, and companies must reckon with the significant costs to their employees and communities. In 2017, the US Bureau of Labor Statistics estimated that nearly four million Americans work in warehouses as supervisors, material handlers, or packers. That’s almost 3 percent of the total labor force; collectively, they earn more than $100 billion in annual wages. Automation won’t make all these workers redundant, of course, and many can be reassigned to new jobs that involve collaborating with and maintaining the new machines. But if even a portion of these jobs are lost, it will still represent significant upheaval.

E-commerce, the second trend, is remaking the entire logistics industry. The inexorable rise of online sales is well documented. In the United States, for example, growth has averaged 15 percent annually over the past decade, and the range of goods has expanded dramatically. That’s been good for logistics companies. We estimate that, out of every $100 in e-commerce sales, these companies (or e-tailers’ in-house logistics units) are collecting $12 to $20, a massive increase from the $3 to $5 spent on logistics in a typical brick-and-mortar-retail operation.

But even as logistics companies have benefited from burgeoning volume, the business is not without its challenges. Many B2B networks are struggling to adapt to B2B2C. Many large logistics companies fulfill e-commerce orders by carving out a corner of warehouses designed for B2B operations. And some logistics companies have at times been willing to use e-commerce as a loss leader to add business to their transport divisions. But as volume expands, all such arrangements are coming under immense strain. Here, too, automation seems to be an answer.

There’s a third reason for heightened interest: automation technology has come a long way. Ocado Retail’s new fully automated warehouse has demonstrated the potential of several new technologies as seen by a big YouTube audience. Other companies, such as Commonsense Robotics (Commonsense), GreyOrange, and XPO Logistics, are rolling out intriguing new offerings.

These three trends make it seem like more investment in automation is a layup. Indeed, many are finding success with it. Some companies’ new automated pallet-handling systems cut shipment-processing time by 50 percent. And DHL International (DHL) has built almost 100 automated parcel-delivery bases across Germany to reduce manual handling and sorting by delivery personnel.

Logistics companies are intrigued by the potential of automation but wary of the risks. Accordingly, they are investing conservatively. McKinsey research estimates investment in warehouse automation will grow the slowest in logistics, at about 3 to 5 percent per year to 2025. That’s about half the rate of logistics companies’ customers, such as retail and automotive (6 to 8 percent) and pharmaceuticals (8 to 10 percent).

Five issues are holding the sector back. Two are the flip sides of the forces (e-commerce and technological advance) that are motivating the renewed interest in automation. Also clouding the outlook are purchasing problems, the potential for change in the Omni channel supply chain, and the risks associated with short-term contracts.

Frenemies and ‘coopetition’

To capture the large e-commerce-growth opportunity, any logistics company must meet two fundamental requirements: speed and variety. Think same-day delivery of any of a million SKUs. To deal with that, more automation in picking, packing, and sorting seems like an easy investment call. But the unusual dynamics between logistics companies and e-commerce customers hold many logistics companies back. The risk manifests in a few ways. One is that e-commerce companies have a lot of buying power; if they do not like a logistics company’s offer, they can easily shift their business to competitors. That tends to keep prices low and may keep logistics companies from making an adequate return on a big investment in automation.

Another wrinkle is that most large e-commerce companies, such as Amazon and JD.com, have built their own logistics capabilities. Indeed, we estimate that if Amazon’s logistics unit were a separate company, it would be the fifth-largest third-party-logistics company in the world. To be sure, working with these companies can present challenges for shippers. The online giants, with their superior data and extraordinary scale, can readily offer white-label products that undercut their shipping customers’ offerings. But many thousands of shippers find the benefits outweigh the risks. The online giants deploy their in-house logistics first in the most lucrative niches, such as parcel delivery in dense urban areas, while slowly expanding into other areas. As that happens, they threaten to shunt logistics companies toward low-margin services, which may not justify an investment in automation. The moves by big e-commerce companies to build more warehouses in the last mile, and offer same-day as well as instant delivery, are a potent step in that direction, and logistics companies will have to carefully monitor the pace of change.

A particular challenge of serving e-commerce companies is that demand is very spiky, easily doubling around Christmas or Singles’ Day. On Singles’ Day 2017, Cainiao, Alibaba’s logistics arm, processed 812 million orders, eight times more than on a typical day. If logistics companies are to fulfill customer expectations during peaks, they will have significant spare capacity for three-quarters of the year. And if they do not build sufficient capacity for peaks, e-commerce giants have further incentive to build their own capabilities, as Amazon did after the 2013 Christmas season.

McKinsey