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In-house vs. 3PL Ecommerce Fulfillment: Deciphering the Logistics Puzzle
As businesses grow, the need to scale operations efficiently means that a strategic decision must be made: will operations be run internally or by a third-party logistics (3PL) provider? Read on to learn the key factors to consider and why being customer-centric is key.
March 28, 2024
7 min read
Internal capabilities: key considerations for in-house ecommerce fulfilment
To commission an ecommerce fulfilment service, several actions need to take place, each of which requires a degree of expertise in their own right.
From start point, these are:
1. Facility selection
- Location. This will impact on cost, security, proximity to accessible labor pool and downstream services such as courier network.
- Flexibility of the contract. Businesses must have the possibility to upsize or even downsize and exit without penal cost of so doing within a lease term.
- Layout. Are the inbound and outbound access points suitable for an efficient flow of order process?
- Condition of building. It is vital to ensure that the roof doesn’t leak and consider flood risk.
2. Choosing the right supporting software for ecommerce fulfilment
- If outsourcing this product, there is a basic balance to be struck between cost and capability. It is critical to always remember that if the WMS fails, the operation will halt, and it will be almost impossible to change providers within the same building.
- A lack of function flexibility within the chosen software may exclude future business changes, so the cost and flexibility of any change requires in-depth understanding.
- It is possible to build a WMS in-house, but lessons must be learned from using an outsourced solution before this should be considered.
3. Staffing and workforce management
- The solution necessitates the addition of a substantial fixed cost base adding both costs but also the notoriously difficult task of recruiting and retaining the right skill set. Get the key hires wrong and the solution will fall apart.
- Shift patterns play equally into this solution. Moving from a 1-shift, 5-day operation to 2-shift, 5-day through to 4-shift, 7-day will place a substantial burden on cost on structure and cost but will equally have a fundamental impact on customer service.
4. Downstream logistics considerations
Relationships with final mile couriers are critical and will be a barrier if subscale. In any event, commercial terms and technical integrations so that order data can be passed and tracked must be right. These are substantial pieces of work.
Likewise, a returns process will need to be implemented to effectively collate, process and refund any received orders.
5. Balance sheet strength: capital efficiency in business operations
Creating any in-house solution will require initial and ongoing capital to fund. With growth, this burden increases.
Outsourcing to a 3PL fulfilment partner will remove this requirement.
Any business wishing to remain capital-light should partner with a third-party provider, as automation will become inevitable with scale.
6. Growth rate: assessing the business’s journey and ecommerce fulfilment needs
In a high growth rate environment, consideration must be given to the likely frequency of fulfilment center upgrades. In these circumstances, any infrastructure or planning beyond a two to three-year window can be pointless, and flexibility must be built into all plans to allow change.
A strong relationship with a 3PL ecommerce fulfilment partner, who has access to a property estate, should facilitate relatively low-risk and low-cost building hopping in the absence of long-term commitment to specific property. They will also have the project management capability to ensure a smooth transition to a new, larger building when the time comes.
Conversely, if growth rates are relatively flat, a much longer-term planning, and payback, window will be available. In this circumstance, an in-house solution may pay back over that longer term. For example, decisions can be made on automation projects that traditionally demand longer payback periods.
7. Territorial reach and international expansion: the dynamics of scaling operations
The factors in the equation will be the cost, risk and management resource in setting up and running an overseas operation versus the savings in delivery cost combined with the value of the customer acquisition and retention of a much faster localized service.
The risks of running an international in-house fulfilment operation are numerous, including:
- Choosing the correct location overseas with limited local knowledge
- Navigating tax legislation, which will differ from home regulations. Local presence will likely trigger new requirements and obligations
- Complying with employment legislation that will undoubtedly be different to that in the home territory and can be a minefield to manage
- Requiring substantial management time.
In the light of these significant risks, it would take a very risk-loving, nay foolhardy, organization to make that first move in any way other than by partnering with a 3PL provider.
A couple of years of this kind of relationship will allow greater scale, and in-depth local knowledge that should give sufficient confidence to go for the in-house overseas approach.
Cost: weighing the pros and cons of ecommerce fulfilment models
There is no right or wrong answer here — just pros and cons of both systems, which will ultimately be dependent upon quality of execution.
There are structural weaknesses in the 3PL fulfilment model; these may be countered by both scale and a highly efficient delivery. They are:
1. Margin requirements
The 3PL provider will have a minimum margin requirement from any arrangement. The benefit of procurement scale and operational skill and efficiency may deliver more than this margin back to a client.
That said, it is probable that the 3PL will always operate on a cost-plus basis. Gross margin disclosure is not common, with financial disclosure limited to EBITDA and operating profit.
2. Contract terms and investment constraints
The short terms of most fulfilment contracts (three to five years) and a high degree of customer churn mean that long term capital expenditure projects are rare.
The focus is on operating cashflow, which will inhibit most forms of efficiency driving investment. This makes the 3PL model highly susceptible to the vagaries of employment legislation. There is a high correlation between the operating cost base and National Minimum Wage, which has increased by 28% in the UK between April 2021 and April 2024.
3. Balancing cost efficiency and customer service
There is a direct conflict between maintaining as low a cost base as is possible, particularly in a high wage inflation environment, and the service level given to the ultimate customer on the doorstep.
This will most commonly manifest in restricted shift cover, meaning that five-day shift patterns are common in an industry where customers expect and demand immediate and seven-days-a-week deliveries.
Next-day options may not be available on weekends or cut-off times may be uncompetitive, and customers may get a totally different delivery experience depending on what day they place an order.
4. Pre-existing courier relationships and delivery costs
It is likely that any 3PL client will be forced to adopt pre-existing courier relationships in place with the provider. In a low-returns environment, final mile delivery costs will be around double warehousing costs.
If the 3PL partner is applying a pass-through margin on final mile, it can be very meaningful and certainly one that requires transparency.
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