Changes in "dim weight" formula proving a windfall for parcel carriers

FedEx Corp. appears to be generating a handsome revenue stream from its decision last September to change the way it calculates shipping charges for low-density packages.

Last fall, FedEx and rival UPS Inc. announced a change in their dimensional weight (dim weight) pricing formula that reduced the "volumetric divisor" mechanism used to calculate the amount of space allocated to shipments hauled by each carrier. The result was that shippers would be permitted less cubic capacity for the same shipment weight at current prices.

Shippers whose packages fell outside the new physical parameters imposed by FedEx and UPS faced three choices: shrink their shipment's cubic dimensions, find a way to increase the shipment's density, or swallow near 20-percent rate hikes on domestic and international services.

One consultant, Jerry Hempstead of Orlando, Fla.-based Hempstead Consulting, called the actions the "mother of all rate increases."

Because it was impossible for many FedEx shippers to drastically revamp their packaging processes on such short notice, they have been hit with significant rate increases on their existing traffic. For FedEx, the top-line impact has been significant and favorable.

At a FedEx internal conference last year, T. Michael Glenn, executive vice president, market development and corporate communications and the company's number-two executive behind Chairman, President, and CEO Frederick W. Smith, said in its 2011 fiscal year, which ended on Tuesday, the company would generate $100 million in additional domestic revenue from what amounts to a 17-percent rate increase on U.S. traffic. This follows a similar revenue boost to its international export business in fiscal year 2010 from a 19-percent increase based on the same formula, according to a slide obtained by DC Velocity from Glenn's presentation. The slide did not show the impact of the pricing changes on 2010 domestic revenue.

The slide highlighting the changes in dimensional weight pricing and their impact on the company's top line was titled, not surprisingly, "Brightening Our DIM View."

Susan L. Rosenberg, a UPS spokeswoman, declined comment on the impact of the pricing changes on the carrier's revenue stream. Hempstead said he estimates that UPS has raised even more revenue from the changes than FedEx because UPS transports more packages than its rival.

At the time the changes were announced, some analysts said it would ultimately benefit shippers by motivating them to improve their package designs and reduce or eliminate wasteful packaging. However, Hempstead said there was virtually no way that affected shippers could significantly revamp their packaging in time to offset the pricing adjustments. The carriers also knew that by changing the formula on current customers, they could make the changes stick.

"The change of the 'dim' rule was pure yield management" on the carriers' part, according to Hempstead. "It was something they could do to people [who] had existing contracts to get substantial additional revenue, and it's working better than FedEx or UPS had hoped," he added.

The pricing actions are part of what one parcel consultant, AFMS LLC, called the most aggressive rate increase strategies implemented by FedEx and UPS in 20 years. Portland, Ore.-based AFMS, considered by many the patriarch of parcel consultants, told an industry conference in late May that parcel contract rates could rise by more than 10 percent as they come up for renewal over the next 18 months. The changes in the dimensional weight pricing alone could result in increases of 10 percent or more, AFMS officials said, according to a report from New York-based investment firm Wolfe Trahan, which sponsored the conference.

AFMS has sued FedEx and UPS, alleging the two parcel giants engaged in anti-competitive behavior by forcing shippers, some of whom are AFMS clients, to deal directly with the carriers rather than through the consultant.