A Large US Retailer Selects Transportation Carriers Under Diesel Price Uncertainty
Date of Original Version
Interfaces July/August 2012 vol. 42 no. 4 365-379
Abstract or Description
A large US retailer that procures transportation services from third-party carriers experienced an unexpected jump in fuel surcharges as the price of diesel fuel skyrocketed in the summer of 2008. As a result, it sought to limit its future exposure to diesel price risk. We collaborated with this retailer to create a lane assignment optimizer (LAO) that incorporates diesel price risk when selecting carriers for its transportation lanes. The LAO tool has significantly improved the retailer's capability to evaluate the trade-off between the two crucial components of a lane's per-shipment cost: base price and risk-adjusted fuel surcharge. The retailer can now take diesel price risk into account when selecting cost-effective carriers for its lanes, negotiating fuel surcharge limits to share diesel price risk with its carriers, and better aligning the fuel surcharges it pays with the true cost of diesel. We estimate that the more favorable contract terms the retailer negotiated for 2009–2011 translate to nearly $5 million in potential savings during years with unexpected diesel price hikes, such as 2008.