In November, City Link’s parent Rentokil revealed the express parcels firm had recorded a loss for the first nine months of the year of £24m, albeit £1m less than that posted in the same period of 2011 on revenue up £7m to £225m.
Nevertheless Rentokil chief executive Alan Brown reaffirmed his faith in the management team City Link MD Dave Smith has assembled - largely from former colleagues from Royal Mail – and the latest three year recovery plan that should see City Link back in the black by 2014.
Smith joined City Link in December 2011 after nine years at Royal Mail and Parcelforce in a move that could be seen as jumping out of the frying pan and into the fire.”Why did I come? Because here is a business that has been struggling recently and I believe that with what I did at Parcelforce - which was a similar sort of turnaround - I could see a route to turning this business back to where it should be,” Smith says. “Since then I have been busy building the team and the strategy and starting to execute those plans. So we are about a year into a three year journey.”
Parellels
According to Smith, there are “very many parallels between Parcelforce and City Link”.
“If you go back to Parcelforce in 2002/3, it was a business that wasn’t clear on its market strengths and what it was good at, and so it tried to do a bit of everything,” he explains. “It tended to chase volume rather that profit, believing that if your network was full you would be profitable, and hadn’t understood where its operational sweet spot really was. We went through a programme called Apollo, which effectively repointed the business at its strengths – in its case the B2C markets - changed the operational models and rebuilt a product and customer proposition to support those markets.
“That took about three years and from there it started to make great strides forward. At City Link there are very similar parallels. It was formed from two separate organisations in two different parts of the market [Target Express in B2B and City Link in B2C]. Over five years, as the previous management tried to put those two businesses together, they lost the focus on what they were really good at, and in that time you could see they were trying do things in areas where they were not geared up as well as others in the market.
“In the five years since the start of the integration, the market has developed more automation, more technology and different labour models, which means we are not geared competitively to play in those markets in a way we believed we could five years ago. Our sweet spots are around multiple collections, keeping consignments together through the operation as one piece, delivering to store, delivering slightly bigger and heavier items than would go through an automated hub and using the capabilities of the caged network to keep things protected, undamaged and more secure.
“Those are the pieces of the market that are more important to us and what we have been doing in the last six months is recalibrating our product and customer offer for 2013, and taking a long, hard look at those places where we are not as good as some of our competitors and saying ‘maybe that is not the place for us to play or it’s a place for us to partner with someone who is really good at that’.”
International
A key development for City Link next year will be to expand its range of international services, and it is in the process of appointing new partners to work with.
The first step in this process has been the appointment of Nightline to cover Ireland. Peter Blyth has joined the international team at City Link from DHL and will play a pivotal role in the selection of partners and the development of new services.
Smith says this development is not a direct response to the proposed merger between TNT and UPS, which has reportedly prompted dozens of TNT customers to look for new carriers.
“If you look at our mix of revenue compared with other carriers we identified that we were under-serving our own customers in terms of our international offer,” says Smith. “We have something like 12,000 customers and maybe 10,000 of those don’t take an international product from us. The fundamental reason for that is that our offer wasn’t as wide and sophisticated as other carriers.
“So the new relationship we have built with DHL - who don’t have a significant UK presence for small and medium customers - is that we will offer through their network an express delivery capability that enhances our customer offer. We are also about to announce about a B2C delivery capability into Europe through a postal partner which won’t be Royal Mail and which will enable us to provide capability for deliveries in the deferred end of the B2C marketplace [sortation at least one working day after the postal packet enters the public postal network].
“Our customers will then have a better product offer than the one we were able to give them before and we are quite excited about the prospects for 2013. This is not about TNT/UPS, though there will be some consequences of that merger in the short term which will be helpful for many of us.”
These new international services will be of more interest to City Link’s small to medium sized customers than the large multiples, Smith believes.
“The really big international players will go to UPS or DHL direct because they can probably get themselves a commercial contract that will be similar to the one we can get them," he says. "Smaller and medium companies won’t have that opportunity so there is a significant opportunity for us to offer a one stop shop for post, parcels and international. This will be worldwide – the big growth streams are to China, Australia and the US while Brazil is an emerging market too – but in volume terms the majority will be into Europe still.”
B2B v B2C
Smith is reluctant to split City Link’s target markets between B2B and B2C, arguing that customers no longer see themselves as falling in these two camps.
“Customers don’t call themselves B2B or B2C, and even if they do they have a different view of B2B and B2C than we do,” he says. “They look at their customers and we look at delivery and collection points. Take John Lewis Partnership [JLP] as an example. You would think of them as B2C – in fact more than 50% of what we do for JLP is collection of many items together from a major site for delivery to a store. In our world that is a B2B delivery – for them it is B2C.
“We have tried to get more granular about it and ask ‘what is it about the needs of the individual customers themselves that lends itself to our operation?’ We are clear that we are very good at collection and delivery of multiple items, be they to a store, a hospital, down a high street – traditionally B2B in terms of characteristics. We are also very good in B2C where it is a bigger, heavier and more awkward item which is still a one-man rather than two-man delivery but where the lifestyle courier model doesn’t work. There is a small price premium on those compared with a packet or a normal parcel but that is a reflection of the fact you can do fewer of them in a day.”
Like many of its rivals in the parcels market City Link is raising prices – especially for the Christmas peak - as well as cutting costs in its efforts to return to profit.
“Now we have understood the economics of what we do we are pricing in a more appropriate way so it makes sense for us. Overarching that is the fact that typically B2C customers tend to be more spiky towards Christmas," says Smith. "Unfortunately even B2B customers these days tend to try to supply straight to the home and avoid the wholesaler in the middle so even if I wanted to stay in B2B we are caught in the same Christmas spike anyway - although in our case it is nothing like the spike I used to see at Royal Mail or Parcelforce. We are looking at an 80% lift from normal trading to Christmas, which is difficult but manageable. Royal Mail, Yodel and those sort of guys who really do get a B2C peak will get a 200% to 300% lift.”
When pressed, Smith estimates that, in terms of where the delivery address is, City Link’s volumes are split 60% B2B, 40% B2C across the year as an average. “Although at Christmas it is probably 75% B2C, 25% B2B,” he adds. “That is volume. We tend to make more profit from B2B customers. We do make a small amount on B2C but not as much as B2B. That is because there are a whole load of add-ons that B2C customers really want – redelivery tends to be much higher, the challenge around returns is much greater, the Christmas peak is much higher and they tend to be a lot more choosy in terms of what I call in-flight redelivery requests – ‘I’m not in tomorrow, can I change the delivery please’. All of those things tend to mean a more complex and costly delivery while at the same time the really large B2C customers are pretty good at contract management so the prices you will get in the marketplace are pretty keen.”
Price hikes
After a decade in the doldrums, it looks like prices are at last firming up across the parcels sector.
“I have seen a lot of evidence in the last nine to 12 months of a change in the landscape,” confirms Smith . “If you looked at any of the last six, seven or eight years before that you were seeing the supply from the carriers outstripping demand. That has changed over the last 18 months. Since 2008 we’ve seen a continuous reduction in size and capability - Royal Mail with its mail centre closure programme and both Yodel and City Link closing sites. There has been limited new investment coming in from anybody else and whilst in the last couple weeks there have been big announcements from DPD, Hermes and Parcelforce they are not coming onstream until 2014 and so the rate of growth of market demand continues to outstrip supply for now. So this year it has resulted in fairly significant price increases of 5%, 6% or 7% averages in the parcels market up to maybe 30% in the packets space.
“I would expect a similar level of price increases again in 2013. It then depends on what happens with the TNT/UPS consolidation – if that does go ahead it will inevitably result in some consolidation and reduction in capacity which means in 2014, even the new capacity probably won’t be enough to mop up the additional demand. So for the first time in many moons prices are hardening and I think they will continue to.
“The other reason is that if you look at the profitability of the industry as a whole it still isn’t making any money. So there is no desire in the carrier industry in the round to invest in the UK and most of the big investment plays made in the carrier market have been outside the UK, in China and Europe.”
It has been reported that Amazon is looking to set up its own network of four large DCs, which would significantly add to capacity.
“Amazon has been trying to set up their own distribution network – but ask them how successful that has been,” says Smith. “They may decide not to do that and put some money into a carrier instead. In terms of capacity, the industry is already pretty full and the next 18 months will be quite interesting, especially in the next peak. Whether Amazon eventually do run their own distribution model or ask someone to do it for them and just secure the service I’m not sure. That would also lead to the same set of challenges for the likes of JLP, Marks & Spencer and Tesco. I can foresee a world in five years where a lot of the carrier activity is owned, managed and driven through those sorts of organisations.”
The fourth quarter of the year is when carriers can either make a significant profit – or take a bath as unexpected volumes or bad weather swamp the network.
“I would expect that the Q4 2012 position for us will reflect that it is a better period than we have had in any point in the year,” predicts Smith. “I don’t think we are in a position yet where it will be profitable for us in 2012 – but it will be in 2013. The guidance we gave the City was to expect a loss of around £2m or £3m for Q4 2012 subject to snow. In context that would be around a £4m improvement on last year and also around a £3m improvement on Q3 so the progress back towards profitability is there. For the wider industry Q4 is where they make most of their profit, reflecting that they have their pricing and operational models working slightly better than us in the recent past, but it will be a period where we have our best result of the year.”
Capacity limit
The big online retailers have been looking to secure their routes to market in the run up to Christmas, and there are concerns that lack of capacity could limit volumes of online shopping this year.
“The smarter etailers are working all that out and trying to secure better long term service and support,” says Smith. “We look for long term partnerships and we have been working for many months now with JLP, Amazon and M&S to work out what capacity they need for this Christmas peak and build that capacity for them. So if the volumes that come in from all our customers are broadly in line or slightly above what we have said they will have the capacity there.
“If a whole host of carriers fall over and loads of other people come to us we will do what we can but frankly we will not do anything to jeopardise the promises we made to our existing customers. And I’m pretty sure that is the approach most of the carriers are taking. Most are saying ‘if you really wanted us as your carrier you should have come to us in September at the latest.’ The challenge we all have is if volumes go crazy in the last couple of weeks as opposed to the steadier forecast we have received. It is very difficult for all of us to go out in that sort of time period and switch on capacity.
“In the medium term I believe the industry will have to start charging separately for peak and the other 10 and a half months of the year because it is almost suicidal for us to go and try and build capacity for those two weeks. If the volumes come then great, but if they don’t then we will have spent an awful lot of money for nothing. So there is probably a change in the peak pricing model coming down the line to reflect that risk which everybody takes. For this year we are in good shape considering the forecasts we have got from all our customers – the capacity is there, the resource has been booked and in many cases is already in and being trained so we are pretty confident.”
City Link has however had problems with unexpected spikes in pre-Christmas volumes in the past when rival carriers have struggled to cope, and this remains a danger this year.
“The industry chatter is definitely that everybody is full now,” Smith says. “How full is full I don’t know, and everybody will always try to squeeze the last piece out, but there is a physical limit to what we can achieve with the capacity we have put in and we are not a million miles away from that this Christmas. That said if anyone can tell me what the real volumes will be they are amazing because no one has ever managed it before to within 10% or 20%. The buyer trend to go later and later is causing more and more operational difficulty for both our customers’ supply chain management and then us in terms of delivery. It won’t be a meltdown but we are getting close to the point where unless there is a change in pricing model or a change in attitude as to who is going to pay for this additional activity we are reaching peak capacity.”
Finite limit
For some carriers the limit on capacity is the final mile delivery – for City Link’s express delivery model it is hub sortation.
“There is a finite window that finishes around 3am after which you cannot deliver next day – unless someone discovers a time machine or the road speed limits change,” says Smith. “In the period before Christmas higher and later volumes come in from all our customers as their customers order later. There comes a point where we cannot process that and get it through the network. There are always depots that for some reason seem to have lots of additional volume coming through. That’s usually a reflection of where another carrier in the industry has had a problem and the likes of Amazon who can migrate amongst a number of carriers move volume and that causes difficulty. For us last year we had that challenge in Exeter and as a consequence we have built a second site in Exeter.
“So for us the limit is sortation – once its got to the depot we can usually find some way of delivering because the window of delivery is effectively 7am to 9pm or 10pm. We are running two waves of deliveries this year so there is a timed B2B delivery and collection route that is going out at 7am or 8am and then there is a second wave of deliveries at about 10am which is B2C so we have more flexibility at the depot.
“We could bring the product to the hub earlier - but the end customer doesn’t order it because they are at work. The whole industry has more capacity during the day at any time of the year than it knows what to do with, but our customers really don’t have much to send us during the daytime. Where customers are prepared to be a bit more flexible in terms of 48 hour delivery - for instance, the wine trade - there will be some sorting activity during the day. But the vast majority of the end consignees will want to order in the evening and so that is when picking will take place.
“If the market went back to two or three day services rather than next day we could use the hub more efficiently but the genie is out of the bottle and why would customers accept a three day service from me when they can get a one day service from someone else? Especially when Amazon and co advertise free delivery so the end user does not perceive a significant value in it. That is part of the reason why everybody has bought so much online is the success of the delivery model but the other side is that the customer doesn’t necessarily value the fact that it has really cost the thick end of a fiver to deliver.
"One of the biggest reasons customers don’t buy online is when they get to the checkout and see lots of delivery charges. So I can see why retailers do it that way; the downside is that the value the customer perceives to be in the delivery is lower than it should be. That’s nobody’s fault but once an improvement has been made to a service it is difficult to say you can’t have it any more. If you go back to 2004/5, less than 10% of the population was ordering online, most of it was books and CDs - very lightweight, low value stuff that really wasn’t very difficult or expensive to move through a network. No one would have foreseen that 15% of all retail would be online - and that will probably be 25% in another two or three years.
“The growth of online shopping has not been stunted by the recession. Ecommerce growth has been steady at 1% to 1.5% of all retail sales every year over the last 10 years and continues to grow. It is partly because of the level of trust and confidence in logistics and supply chain models. People order online and expect it to arrive the next day without any real problems and generally that is what happens. People also got used to the idea that they can buy more valuable, bigger, heavier items and they will also get through.
“The carriers have become much better at getting that delivery to homes so the perennial problem of carding is a lot better than it was three or four years ago. There are leave safe at neighbour schemes, Predict from DPD and now the ETA model we are launching to tell customers when things are arriving, and there are drop box stations and other convenient places to leave parcels. So there is no reason that the growth in etailing will not continue at its current rate for at least five and maybe 10 years.”
Two hour window
City Link will continue to benefit from that growth, albeit in the sectors of the market where it has a competitive edge.
“In our case that means we will continue to shift towards carrying the bigger, heavier items for B2C,” says Smith. “But we are not positioned to compete against packet post or Hermes at the bottom end of the Royal Mail market. Nor are we going to compete that strongly in the shoe box market where an automated hub is generally quite an important part of the armoury to make that happen.”
While acknowledging that DPD’s Predict system, which allows the carrier to inform consignees when their parcel will arrive within a one hour window, was technically difficult to achieve Smith questions whether this is actually what the customer wants. Instead City Link is rolling out ETA, which will give customers earlier notification of a two-hour delivery window.
“With ETA, once we have taken an item from the customer and sorted it through the hub we are able to tell the end consignee when it’s going to arrive one hour either side of a target time,” says Smith. “That improves the customer experience and just as importantly it improves the productivity of our operation by 2% or 3% from where it is today as the level of reruns and carding events reduces.
“We asked our customers if they wanted something tighter than that and they don’t. We could do it tighter but it adds a degree of cost and complexity that will mean we end up with a load of calls to the contact centre saying ‘you missed by five minutes’ which we don’t really need. That's not to say we won’t tighten that window if customers want it but we believe plus or minus an hour is what customers are asking for.
“They are also quite happy with 99% reliability on a couple of hours rather than 96% on one hour. If people really want it within one hour I suggest they want one of our timed services or our same day service which is more like 100% reliability. But the vast majority want a two hour service.
“The other thing they want is earlier notification of when something is going to actually arrive. With DPD’s one hour window they only let you know at 7am when it is on the van, which for a lot of people is already a bit late. What we will be trying to do is drag back that notification to much earlier in the cycle. So you will get something from us at midnight or 1am so it will be there as soon as you wake up not when you are already driving to work.”
Where a first B2C delivery fails, City Link’s general policy now is to try to leave it with a neighbour.
“For individual customers who don’t want that we will bring it back, try a second delivery, hold it for seven days and then return it to sender,” says Smith. “We have changed our right first time metric to one that is unique in the industry. It now starts at the point when the customer asks us to collect and goes through to the point where it is in the hands of the customer - not to where it has been delivered to a Post Office or a local Spar. We are at 94% on that metric. If you put the whole industry on that same metric we are pretty good.”
Cost cutting
While it is confident revenues will grow in 2013, City Link has not stopped its cost-cutting programme as it looks to get back in the black.
“Operationally we have taken the equivalent of £35m a year out of our cost base this year so that tells you where we have been historically,” says Smith. “There is a bit left to go with ETA but it is small compared to what we’ve done. The challenge now is more about identifying and managing the right kind of customer and having the right share of product offer, so it’s not just about domestic it’s also about international, post and other services that wrap around so we get a better share of wallet from that customer. For 2013 we will have a flow-through effect of what we’ve done this year; we have a little more to do in the operation, then we have to do more in terms of positioning for the right customers with the right offer at the right price.”
One problem identified in the Q3 2012 results announcement was that City Link suffers from an “adverse customer mix”, something Smith will also be addressing in 2013.
“We segment customers into three tiers – big down to small,” he says. “The smaller customers tend to be more profitable, because they are more ad hoc in terms of the services they want and prices are higher to reflect that. They are only 5% of my volume but about 10% of my revenue. Tier 2 are medium size customers spending £10,000 up to £250,000 a year and our large tier 1 customers spend £250,000 up to many millions.
“At the end of 2011 we signed up some very major blue chip B2C customers – M&S, JLP and Direct Wines - and this year Argos and Mothercare. In doing that the proportion of business coming from our biggest customers has grown quite sharply. And because we get lower revenue per consignment from them that means the overall margin of the business has reduced. The problem is that when you get too much of that in the business you can’t cover the overhead base. This time last year we had 60-odd per cent of our business with tier 1 customers; this year it is 70-odd per cent. The answer is to grow our tier 2 and 3 customer base and to either increase prices for tier 1 volume to make it more attractive or maybe have a bit less of it, and we are having that debate.”
Parental support
After five years of poor returns from City Link, the chief executive of its parent Rentokil Alan Brown is still publicly right behind the firm. Brown ran the network for a year after the departure of the previous MD Stuart Godman, but since Smith’s arrival has once more stepped back from the day to day operation.
Addressing shareholders last month, Brown gave the stock answer when asked how long Rentokil would keep patience with City Link – Rentokil is happy with progress on the turnaround, and while the board would like it to be a bit quicker it remains confident that it is on the road back to breakeven and beyond.
When asked if City Link was for sale, Brown’s answer was also the same, Smith says: “No but if someone wants to come along and have a chat about taking the asset off Rentokil's books then we will always happy to have that chat.”
When asked if a management buyout was a possibility Smith plays an equally straight bat. “That’s not why I came,” he says. “But there is always the possibility of a change of ownership from one person to another if the value is right.”
Meet the team – City Link’s new-look board
One criticism of the previous City Link management team was that it was light on parcels experience, something that cannot be said of the current crop of directors, many of whom have followed MD Dave Smith from the Royal Mail.
Dave Smith, MD
Smith has been in and around the logistics industry since the late 1990s, starting on the client side with RS Components. He then had nine years at Royal Mail, first as finance director, then MD of Parcelforce and latterly as chief customer officer for the group.
Rob Peto, finance director
Peto too has 15 years’ experience of finance within the logistics sector having worked with Smith for Royal Mail. Before that he was with Geopost and drinks giant Diagio.
Tim Brown, sales and marketing director
Another former director of Royal Mail and Parcelforce, Brown has also worked for DHL Express. His last role before joining City Link was chief executive of postal regulator PostComm. According to Smith "no one knows more about our industry, what product does what and how much money it makes”.
Scott Maynard, human resources director
Maynard’s CV includes spells at Sainsbury’s, Superdrug, Centrica, Fidelity and the AA where he managed resourcing models for big fleet.
Tony Frost, IT director
Frost had been with City Link parent Rentokil for over 20 years and in his two years with City Link has made near real-time information available internally and to customers.
Jane Desmond, director of customer care
Desmond has less experience in parcels having worked for Granada TV rentals, Protocol Training and First Bus. Smith says she is however “steeped in customer care and operational management”.
Adele Henderson, operations director
Henderson was Smith’s operations director at Parcelforce, and before that ran cash management for the Post Office. Smith says she is “very security conscious and ran a parcels operation for a number of years”.
James Coxon, programme director
Coxon is running City Link’s major change activity. According to Smith he “cut his teeth at News International and Sky where he set up many operational change programmes before going to Royal Mail to do a similar role”.
