Re-engineering grain logistics: Bulk handling versus containers
February 01, 1999
by Teresa Acklin
In this 2-part series, Barry Prentice, director of the Transport Institute at the University of Manitoba in Winnipeg, Canada, explores the opportunity to re-engineer the logistics of the grain handling system. Part one examines the historic development of the bulk handling system, economic advantages and disadvantages and the role of the grading system.
Complacency in business is always risky, but it is particularly dangerous during periods of economic transition.
Rapid changes in global trade are being spurred and reoriented by growing world populations and rising incomes. Competitive advantage is being sought through technological advances in computers, genetics, robotics, telecommunications and transportation. Governments are intensifying competition with policies of deregulation, “free” trade and privatization.
The drivers of structural change have seldom been more diverse or more profound. To survive, businesses are being forced to re-engineer their manufacturing and logistical processes to lower costs and increase quality.
After 150 years of growth and development, most grain exports are marketed through grain elevators, rail hopper cars and bulk carriers. The bulk handling system is so ubiquitous and entrenched as to be uncontested. No doubt it appeared the same to the handlers of bagged grain when the bulk method was first introduced.
There have been many refinements and productivity improvements in the bulk handling system, but the basic concept remains unchanged. Meanwhile, the economic rationale for the creation of bulk handling of grain has changed. Technological advances in information collection and transmission now make container shipment a rival for the bulk handling of grain.
The motto of the Industrial Age can be summed up with the expression, “If it ain't broke, don't fix it!” In the modern era, which some have termed the Information Age, this expression could be changed to, “If it still works, it's probably obsolete!”
New information technology is causing rapid change and forcing many systems to be overhauled. These changes spare no sector of the economy, least of all the grain handling industry.
FROM SACKS TO BULK.
Before 1850, most grain was marketed in sacks and depended almost entirely on water transport. Sacks had certain advantages given the logistics of the period. Sacks of grain could fit into the awkward spaces of river boats and could be carried on a man's shoulder across gang planks, down a set of stairs and along narrow corridors.
The disadvantages of sacks were equally compelling. Handling was very labor-intensive and, consequently, expensive. There were few opportunities for economies of size and the water routes were circuitous and slow.
Marketing grain in sacks incurred high transaction costs. No buyer would purchase grain sight unseen. This meant that each lot of sacks had to be kept separately, with a corresponding paper trail. All risk of physical loss, as well as the risk of a price change, was borne by the shipper. Consequently, freight insurance was a major cost associated with handling grain in sacks.
Re-engineering of grain handling in the 1850s was caused by technological and institutional changes that accompanied the invention of the telegraph in 1844 and the expansion of the railway.
The speed of oncoming trains had to be very slow with a manual system to signal an approaching train. The speed of telegraph signals enabled trains to run faster and safer. This encouraged the building of rail lines over longer distances and increased their competitiveness for freight.
Only 2,800 miles of railway track had been built by 1840. Within six years of the invention of the telegraph, the railway network grew to 9,000 miles.
The railways were early promoters of bulk handling of grain because it reduced their labor costs and sped up the loading of railcars. Lack of an accepted grading system impeded bulk handling of grain. As long as ownership and value were distinguished by individual lots of grain, commingling was impossible.
The first grading system for grain was introduced in 1856 by the Chicago Board of Trade. The ability to mix lots into a fungible commodity eliminated the need for buyers and sellers to be in physical proximity to the product, or to each other, when conducting their transactions.
The superior speed and lower cost of the railway would have increased bulk transport in any case, but the impact of the telegraph on transactions costs sealed the fate of traditional grain handling. Information about prices, quality and quantity moved at the same speed as the transport of goods prior to the telegraph.
The advent of “electronic” communications linked prices between surplus and deficit regions. This greatly reduced the marketing risk of shippers and enabled buyers to purchase when the price was most advantageous.
Bulk handling, grading standards and the telegraph were the prerequisites for a commodity futures exchange. The futures market came into being over the period 1853 to 1865. Once established, traders could make transaction decisions in remote markets based on telegraph quotes of price and grade. Telegraph-enabled buyers and sellers could hedge their transactions risk by committing to firm prices for future delivery.
The grain handling system in North America was well on its way to being completely re-engineered by the end of the American Civil War. Sacks were still used, especially for the movement of grain from farm to country elevator, but the superiority of bulk movement was evident.
The cost of trading and transporting grain from the interior of the continent fell dramatically and the volume of trade increased exponentially. This opened the settlement of the Great Plains, and, ultimately, the prairies of western Canada.
ECONOMICS OF BULK SYSTEMS.
The cost advantages of bulk handling stem from automation and economies of size. Mechanizing grain loading and unloading has continued to increase labor productivity with every new generation of elevator. Economies of country elevator size are determined by the costs of collecting grain from more distant farms, the density of production and the number of competing facilities.
The economies of size in movement are associated with equipment utilization and labor savings. Covered hopper cars, which are faster to load and unload, decrease car turn-around time and improve railway asset utilization.
The efficiency of bulk rail handling can be further improved by increasing the number of hopper cars assembled at bulk loading sites. The ultimate efficiency in bulk handling is a unit train (104 cars) that has one pickup and one delivery. Ocean transport is subject to similar economic considerations. Larger ships with lower per-unit at-sea operating costs dominate marine transport except where port access limits service.
Savings in packaging costs is a further advantage of bulk handling. No packages are needed in bulk shipments because the product takes the shape of the shipping vehicle. Hence, a double benefit: avoidance of the costs of packaging and the cost of shipping the package.
The disadvantages of bulk handling are related to quality and inventory costs. Handling grain repeatedly damages its inherent quality. Physical handling splits some kernels and abrades the seed coat. It also creates the potential for dangerous dust explosions. The necessary dust control measures at warehousing and loading facilities add to the cost of bulk handling.
Commingling grain creates an average-quality product based on the lowest common denominator specified in the grading system. This leaves no incentive for quality improvement. If the grading standard calls for 1% foreign matter, no less will be provided. In fact, grain companies often add back dockage to meet the maximum grade allowance.
Bulk handling systems tend to have empty backhauls. The specialized design of bulk handling equipment makes it difficult to move products in both directions. Terminal elevators are designed to load grain to export, not to receive imports. Most grain hopper cars return empty to the country elevators.
The bulk ships often arrive at the port in ballast. All the transportation and handling costs of the bulk system must be paid by the front haul shipper. Moreover, all the operating costs must be paid by the single commodity. If the shipping pattern is subject to seasonal fluctuation, the commodity shippers will have to cover the costs of idle capacity during the “off-season.”
The lower unit costs of bulk transportation are traded off against the higher costs of financing and storing large pipeline inventories. A 45,000-tonne grain ship needs at least this quantity of the correct grade assembled at the port. Any delay in assembling sufficient inventories can lead to large demurrage charges.
The cost of financing pipeline inventories depends on the velocity of marketing. The slower the inventory turnover, the higher the holding costs. Risk of physical loss due to spoilage and pests increases the longer grain sits in the pipeline.
The advantages of bulk movements stem from the economies of size in handling and transportation. These savings are traded-off against the losses in product quality and higher costs for inventory and storage.
The direct, or “visible,” costs of bulk handling have determined its dominance. The indirect, or intangible, cost trade-offs, however, are becoming increasingly important (see box on Page 25). The negative impacts on marketing are subtle. The key to these impacts is the grading system.
MAKING THE GRADE.
The grading system was developed when information was expensive to collect and costly to transmit. The information pertaining to the quality attributes of grain could be reduced to a single code, such as “1CRSW.” Grade classifications lowered transaction costs when telegraph messages were charged by the word.
The grading system created a fungible commodity that reduced clerical work. There was no need to keep paper records of each lot, with multiple carbon copies filed and stored. A simple warehouse receipt with a grade specification was all the paper documentation needed to claim and exchange ownership. Grading reduced the effort and increased the speed of order processing.
The communication benefits of grade classification has evaporated now that voluminous information can be stored electronically and transmitted at negligible cost. The Internet makes it as cheap to send the contents of an encyclopedia across the ocean as it is to mail a letter across the street.
The clerical benefits of grading also have diminished as computer technology has advanced. Electronic Data Interchange (EDI) and bar codes have revolutionized information processing.
Customs have electronic clearance procedures in which no paper documents are required. Just-in-time manufacturers use EDI to issue orders, receive and process purchases and make financial settlement without human intervention. Bar codes are used to sort and track millions of individual courier envelopes on a global scale. The difference in processing cost between one large order and a thousand small orders has become inconsequential.
Grading systems have opportunity costs. Market prices of grain adjust to the lowest common quality dominator. Blending better quality grain with lower quality product is a commonly accepted practice. This may raise the value of the lower quality grain, but it denies the benefit to the producer of higher quality grain. The benefits of superior quality are lost through commingling or captured by grain handlers.
Consistent quality has become more important as food processors have become more sophisticated. The quality attributes identified in grading systems are becoming less relevant.
Millers observe that grain varieties of the same grade react differently. Processors are required to adjust their formulas continuously to compensate to differences in the “average” quality. The benefits of “consistent” quality are lost through commingling varieties. Some buyers are beginning to request specific grain varieties to minimize the variances in the grade classification.
Next month: Innovations in transportation, communication and technology support the argument for containerization of grain.
The article “Re-engineering Grain Logistics: Bulk Handling versus Containerization,” by Barry E. Prentice, recently won the annual Rail-Tex award for the outstanding paper in the field of agricultural and rural transportation.
The Agricultural Chapter of the Transportation Research Forum, sponsors the competition. The T.R.F. is an international organization of transportation professionals dedicated to the exchange of information and ideas related to passenger and freight transportation.
Rail-Tex, which operates 30 short-line railroads throughout North America, sponsors the $500 research award.
Past winning papers included “The Economic Impact of Alternative Rail Pricing Schemes for Export Wheat,” by Victor E. Eusebio, Stephen J. Rindom and Ali Abderzak, 1995; “A Short Run Analysis of Grain Barge Rates on the Mississippi River System,” by Greg Harnish and James W. Dunn, 1996; and “Determinants of Profitability of Grain Dependent Short Line Railroads,” by Marvin Prater and Michael W. Babcock, 1997.