By Ganesh Vaidyanathan

EVALUATING THIRD-PARTY LOGISTICS

A FRAMEWORK FOR

n recent years, companies have increasingly embraced one-stop

global logistics services. By allowing companies to concentrate on their core competencies, these third-party logistics (3PL) providers can improve customer service and reduce costs. A 3PL provider can act as a lead logistics provider or a fourth-party logistics (4PL) provider aligned with a host of 3PL providers. This article explores the major considerations in searching for a 3PL provider to expedite the movement of goods and information. With the help of established theories in the literature, we use an evaluation criteria framework built around IT to examine a 3PL provider.

COMMUNICATIONS OF THE ACM January 2005/Vol. 48, No. 1

89

ive streams of literature relate to logistics provider models [9]: strategic decision making in organizations, industrial buying behavior, transportation purchasing, supplier selection, and logistics relationships. Among these topics, supplier selection, or how to evaluate 3PL providers and form strategic alliances with them, has been inadequately addressed in the current literature. Strategic alliances allow companies to reduce conflict, reciprocate regarding mutual goal-related matters, increase efficiency and stability, and establish marketplace legitimacy [3]. Logistics managers consider perceived performance, perceived capability, and responsiveness as important factors in selecting logistics providers [5]. In general, it appears that market and firm characteristics influence the choice of logistics providers [10], and managers achieve customer service improvement and cost reduction by outsourcing logistics services [8]. One study applied transaction cost economics to logistics provider selection to explore the conditions under which logistics functions are separated [1]. About 60% of the Fortune 500 companies surveyed reported having at least one logistics provider contract [7]. A conceptual model of the logistics provider buying process has been presented [9] in five steps, in which companies identify the need to outsource logistics, develop feasible alternatives, evaluate and select a supplier, implement service, and engage in ongoing service assessment. A major shortcoming of the 3PL literature is the lack of consideration of IT as a primary component of logistics-providing solutions. The integration of IT with the logistics providers and their customers known as Inter-organizational Systems (IOS) essentially supports the outsourcing of logistics

activities [6]. IT is a critical factor for 3PL performance since the logistics provider must integrate systems with its clients. IT links members of a supply chain, such as manufacturers, distributors, transportation firms, and retailers, as it automates some element of the logistics workload, such as order processing, order status inquiries, inventory management, or shipment tracking.

Framework of 3PL Functions 3PL services can be relatively limited or comprise a fully integrated set of logistics activities. Two surveys [8, 9] identified the following as significant outsourcing functions:
Transportation Warehousing Freight consolidation and distribution Product marking, labeling, and packaging Inventory management Traffic management and fleet operations Freight payments and auditing Cross docking Product returns Order management Packaging Carrier selection Rate negotiation Logistics information systems

hese functions can be divided into four categories, as shown in Figure 1: warehousing, transportation, customer service, and inventory and logistics management. Significant IT improvements are leading to lower transaction costs and allowing all supply chain participants to

IT is a critical factor for 3PL performance since the

90

January 2005/Vol. 48, No. 1 COMMUNICATIONS OF THE ACM

manage increased complexity Inventory and Logistics [6]. The information and materManagement: ial flow among the four cateCustomer Freight Consolidation Service: gories have been theorized [8] to Freight Distribution Shipment Planning Freight Payments validate the interrelationships Traffic Management Auditing Inventory between transportation and cus Order Management Information Management Fulfillment tomer service. Material flow Flow Carrier Selection Help Desk Order Entry/ Carrier Selection occurs as a result of integration Management Rate Negotioation of transportation and distribution systems, and information Information Flow Information Flow flow is essential to integrate the Warehousing: Transportation: four categories. Packaging Fleet Management Material To implement 3PL, real-time Product Making Cross Docking Flow information flow is essential. A Labeling Product Return Warehousing framework of 3PL provider functions and evaluation criteria can be derived that revolves around Figure 1. Categorization Global transportation. This function must be comthe information flow that affects of logistics functions. pleted by a freight carrier who can move any-sized the 3PL provider functions, as illustrated in Figure 2. units by land, sea, rail, river, and air in a timely manFirst, material is transported to distributed-ware- ner. A partnership effort between the customer and a housing facilities. Then, using efficient inventory 3PL provider may be extended to a 4PL provider, but management and logistics techniques, global ware- 4PL providers must work with 3PL providers to bring houses are fulfilled according to customized, synergy to the information flow and to realize cost dynamic allocation levels. The material is distributed savings. Many companies, including Ford, Honeyeither by 3PL or 4PL global transportation freight carriers, and global customer services including reverse logistics are Global Global Inventory provided. Here, I detail descripCustomer Management Evaluation Criteria Services tions of the four categories of And Logistics Cost outsourced functions, and dis Services Global cuss global information flow. IT Information Performance Metrics Global warehousing. CusFlow Quality Intangibles tomers are demanding just-inGlobal Global time delivery of material and Warehousing Transportation warehousing. The warehousing component necessitates the strategic placement of global mini-distribution centers. Companies need an efficient end-toend supply chain, and a single Figure 2. A framework well, National Semiconductor, and Cisco, have outof 3PL provider sourced transportation operations. point of failure in warehousing functions and can create disaster in order fulfillGlobal customer services. 3PL providers offer a wide evaluation criteria. ment. 3PL providers are ramping range of customer services including warranty parts up their warehouses by investing recovery, financial services, automating letters of in new fulfillment equipment and advanced tech- credit (LOC), auditing, order management, fulfillnologies. Warehousing functions include receiving, ment, carrier selection, rate negotiation, international sort and direct put-away, directed put-away, wave trade management, and help desk or call center activmanagement, merge and pack-out, manifest docu- ities. In addition, with the increased returns generated ments, label or bar code printing, kitting, and by e-business, 3PL providers are playing a lead role in pick/pack activities. Many companies, including developing and executing reverse logistics. Many Nabisco and International Paper, have outsourced companies, including Nike, Scovill, Oneida, and their warehousing operations to concentrate on their Cisco, have outsourced customer services. core competencies. Global inventory management and logistics. This
COMMUNICATIONS OF THE ACM January 2005/Vol. 48, No. 1

91

function includes global cantly enhances unit inventory visibility, backmovement, as it helps order capability and determine how and when Make Compare Collect 3PL Feasible short list of overall info fulfillment, order-entry to move units most effiprospective functions of informally 3PLs 3PL management, forecasting, ciently. 3PL providers are cycle count and auditing, offering advanced IT and No shipment management, broader global coverage, Send Evaluation rotable pool planning, and enabling manufacturing Discard Criteria Sheet to 3PLs customs documentation. and service industries to A planning solution sysconcentrate on their core tem focusing on the competencies. CompaReceive Compare Interview completed Select unique complexities of nies need a state-of-thefeatures and prospective Evaluation 3PL criteria 3PLs company and customer art 3PL provider with a sheet needs is essential for wealth of IT deployment inventory management experience to achieve and logistics. The system must Figure 3. Evaluation optimal information flow. process of 3PL. optimize inventory based on serIT revolves around four major players: the 3PL vice contracts and required customer, the customers clients, the customers supresponse times, and it must have product-based fore- pliers and alliances, and the 3PL provider itself. Inforcasting capabilities utilizing product life curves. The mation flow begins with the 3PL customer. That inventory management system should also optimize information is analyzed by the 3PL provider, which placement of warehouses and stocking locations, and dynamically changes the allocation levels at the automate replenishment of parts. Companies such as appropriate warehouse locations globally. The analyRolls Royce, National Semiconductor, and IBM have sis programs typically include software for dynamic outsourced their inventory management and logistics material allocation, inventory control, supply chain operations to concentrate on their core competencies. management, logistics, transportation management, as well as intelligent decision-making algorithms. ome may think logistics functions can be Each transaction is recorded in the customer system achieved by a supply chain management via electronic data interchange (EDI), among other (SCM) solution, but many differences exist methods. Many companies, including Cisco, Nike, between service logistics and SCM, as illus- and Ford, have outsourced IT services. trated in Table 1. A Supply Chain Third-Party A 3PL Evaluation major difference is that Management Factors Logistics Figure 3 describes a 3PL a penalty for breech of Lower Inventory Levels Goal End User Satisfaction evaluation process, which service level agreement Just-in-time includes a preliminary (SLA) usually enhances Demand Management Just-in-case One way Flow of Links Multiple directions screening based on qualithe performance of 3PL tative factors such as repproviders. Therefore, Stocking Strategy Highly centralized Highly distributed utation. Depending on 3PL providers with Transportation Freight Next day or Immediate qualitative and feasibility SCM expertise and Penalty Out of stock Breech of Service Level Agreement factors, a short list of 3PL global trade expertise providers is obtained. An are much needed to proTable 1. Differences between evaluation criterion is sent to the short-listed 3PL vide strategic options 3PL and SCM providers. After receiving the completed evaluation and innovative solutions list, the prospective providers are interviewed. After in the areas of logistics, inventory control, demand management to meet the desired features and criteria are compared and optimum allocation levels, multidirectional global analyzed, a 3PL provider is selected. This process has transportation, and warehousing. Firms will gain been tested in a Fortune 100 company and yielded competitive advantage if they fully understand the good results. The basic process, as follows, was implications of SCM and tailor programs for cus- obtained from previous research [9]. Gathering 3PL information. A list of 3PL providers tomers. As e-commerce grows globally, the financial benefits of supply chain logistics leadership can be can be obtained from professional organizations. Google and Yahoo searches reveal about 430 logistics exponential. Global information flow. Information flow signifi- providers, of which roughly 75% are U.S.-based. Web

92

January 2005/Vol. 48, No. 1 COMMUNICATIONS OF THE ACM

3PL Provider ALI BAX Global Brokers CNC Emery Pacer Redwood Lufthansa Exel Kace KaneIsAble Menlo NYK Ozburn Ryder Wheels UPS USF

Global Global Inventory Global Transportation Global Management Customer Global (Integrated IT Services and Logistics Services Warehousing Carrier)

Table 2. Comparative functions of 3PL providers.

lowing set of factors can be used to evaluate a 3PL provider [5, 9]: IT Quality Cost Services Performance metrics Intangibles Using the six factors against the framework we created for 3PL provider evaluation, we derived the criteria shown in Table 3. Final 3PL selection. An evaluation criteria sheet as part of a formal request for proposal (RFP) is usually sent to the prospective short list finalists. This proposal initiates the process whereby the client and the 3PL provider enter into negotiations, not only regarding price, but also skill, culture, and commitment matching. RFP preparation is important because it forms the basis upon which the 3PL provider formulates its assessment of client needs, the resources needed to serve those needs and, finally, the cost of its services. A clear explanation of needs and requirements should be included in the RFP. In addition, a
Cost
Cost of warehousing Cost of IT services for effective information flow Cost of transportation Cost of logistics, supply chain and inventory management

Key:

Available

Partially available

sites such as 3plogistics.com, logisticsworld.com, inboundlogistics.com, and purchasingresearchservice. com offer informal organizational information. Compiling the short list. This preliminary screening eliminates 3PL providers that do not provide the overall functions listed in Table 2. This table also illustrates framework features of few logistics providers, obtained from provider Web sites. Current suppliers of traditional transportation and distribution services, and outside consultants with Information Technology logistics expertise can help com Transfer of data at scheduled intervals from 3PL to pile the short list. Most compacustomer Transfer of data in real time nies usually consider six to eight Connectivity to warehouse locations to the potential suppliers, and evaluate data center Encryption of data two or three finalists. Automated technology to capture data for all shipment, directed put-away, picking, and cycle Evaluation criteria. To evalucounting Accuracy of data transmissions with existing clients ate prospective provider, a set of Validation and verification of data from flat file criteria must be defined. These transmissions and XML transmissions and usage of standards evaluation criteria typically Data security to maintain the security of customer data. include quality, cost, capacity, Application security to validate security and access delivery capability, and financial to application programs and screens Network security to prevent intruder access stability. In addition, cultural Systems, Networks, Data Centers availability and compatibility analysis compatibility, customer refer IT infrastructure availability and compatibility ences, financial strength, operatanalysis Redundancy, Scalability, Availability of systems ing and pricing flexibility, and FTP, VPN, extranet connectivity EBPS and Billing systems IT capabilities play predomi Data Integrity and reliability nant roles [9]. Performance Performance metrics that must be part of the Historical On-time delivery schedules and evaluation criteria [5] include deviations Historical Inventory Carrying Rate shipment and delivery times, Historical average obsolescence rates Historical forecast errors in a year error rates, and responsiveness Historical average lead times to unexpected events. The fol Historical shipment errors in the past
Table 3. Criteria for 3PL evaluation.
Historical productivity metrics Historical DTT (Delivery Turnaround Time) Historical quality of units delivered/month Historical late/lost delivery

Quality
FAA/FDA or other compliance requirements for warehousing requirements ISO procedures for units handling, storing, and preservation ISO procedures for Pick, Pack, and Ship facilities and quality requirements ISO procedure for delivery Six sigma and commitment to continuous improvement Facilities and personnel to identify, correct, collect, index, access, file, store, maintain and dispose quality records in accordance with ISO Training procedures

Service
Physical warehousing services Security and scalability services in warehousing Monitoring/Tracking efforts in warehousing Historical delivery and reverse logistics metrics Historical order Management Metrics Historical transportation Management Metrics Customer support services (24x7 help desk) Historical average time to settle warranty claim Summarized reports available on monthly basis Inventory Management historical metrics

Intangibles
The intangibles include questions on the business growth of the prospective 3PL to make sure that they will be conducting business for some time. Financial stability Strong profitability Experience with similar companies Global scope

COMMUNICATIONS OF THE ACM January 2005/Vol. 48, No. 1

93

A careful consideration of this framework and the use of IT in logistics and supply
chain management can provide insights to logistics managers, procurement managers, IT managers, and academicians.

clear and concise statement of the tasks involved and the measurements against which success will be judged must also be included. Once the evaluation sheets are received, prospective 3PL providers are interviewed. In this final faceto-face interview between the 3PL customer and the prospective 3PL provider, each party must clearly understand project details, goals, and expectations. During this step, problem resolution procedures are established, and incentives to assure continued process improvement are defined. A cultural match between a 3PL provider and the client is also established. A 3PL provider will likely have personnel operating at the client site and cultures must mesh for success. Based on the interviews, RFP responses, and a functional comparison, a 3PL can be selected.

References
1. Aertsen, F. Contracting out the physical distribution function: A tradeoff between asset specificity and performance measurement. International Journal of Physical Distribution and Logistics Management 23, 1 (1993), 2329. 2. Bakos, J.Y. Information links and electronic marketplaces. The role of inter-organizational information systems in vertical markets. Journal of Management Information Systems (Fall 1991), 3152. 3. Cooper, M.C. and Gardner, J.T. Building good business relationships: More than partnering or strategic alliances? International Journal of Physical Distribution and Logistics Management 23, 6 (1993), 1426. 4. Gurbaxani, V. and Whang, S. The Impact of information systems on organizations and markets. Commun. ACM 34, 1 (Jan. 1991), 5973. 5. Menon, M.K. et al. Selection criteria for providers of third-party logistics: An exploratory study. Journal of Business Logistics 19, 1 (1998), 121136. 6. Lewis, I. and Talalayevsky, A. Third-party logistics: Leveraging information technology. Journal of Business Logistics 21 (2000), 173185. 7. Lieb, R.C. and Randall, H.L. A comparison of the use of third-party logistics services by large American manufacturers, 1991, 1994 and 1995. Journal of Business Logistics 17, 1 (1996), 305320. 8. Rabinovich, E., et al. Outsourcing of integrated logistics functions. International Journal of Physical Distribution and Logistics Management 29, 6 (1999), 353373. 9. Sink, H.L. and Langley, C.J. A managerial framework for the acquisition of third-party logistics services. Journal of Business Logistics 19, 1 (1997), 121136. 10. Van Damme, D.A and Van Amstel, M.J. Outsourcing logistics management activities. The International Journal of Logistics Management 7, 2 (1996), 8594.

Conclusion The evaluation criteria framework presented in this article can help IT management evaluate outsourcing logistics services. The conceptual framework using IT as the focus peruses the core functionalities of 3PL providers such as inventory management, logistics, transportation, warehousing, and customer Ganesh Vaidyanathan ([email protected]) is an assistant the School of Business and Economics at Indiana Universervices. Using this framework and the factors essen- professor inBend. sity, South tial to quantify outsourcing, we have established a to make digital or hard part set of criteria for 3PL provider selection. A careful Permissionuse is granted without fee copies of all orcopies of this work for personal or classroom provided that are not made or distributed consideration of this framework and the use of IT in for profit or commercial advantage and that copies bear this notice and the full citathe first page. To copy otherwise, to republish, logistics and supply chain management can provide tion on to lists, requires prior specific permission and/ortoa post on servers or to redistribute fee. insights to logistics managers, procurement managers, IT managers, and academicians. The continued presence of 3PL providers with advanced IT will lead to lower logistics costs and integrate all aspects of the supply chain with increased productivity and growth. c
2005 ACM 0002-0782/05/0100 $5.00

94

January 2005/Vol. 48, No. 1 COMMUNICATIONS OF THE ACM