Contract vs Spot Rates
To ensure efficient operations while simultaneously optimizing costs, it’s vital to understand the pricing models that are used for freight.
Shippers can choose between contract rates and spot rates. While both may come across as straightforward, each has its own set of advantages and scenarios where they are best to use that can significantly impact a company’s bottom line.
For those involved in fleet management, logistics, or cost-effective shipping, a solid grasp of the two primary freight pricing models is more than beneficial – it’s essential. It is a critical component in the optimization of freight strategy.
Contract Rates
Contract rates, or dedicated or primary rates, are pre-negotiated, fixed rates agreed upon between a shipper and a carrier for a specific period. The time can range from several months to up to a year. These rates are negotiated based on factors such as service requirements, the volume of freight, route characteristics, and market conditions.
These contracts outline terms of service, including the rate per load or mile, the frequency of shipments, and other relevant conditions. It also holds both the shipper and the carrier responsible for their commitments.
Shippers agree to a specific volume of shipments and in contrast, carriers commit to providing a certain level of service.
This commitment highlights the most significant benefit to contract rates – stability and predictability. 80% of the trucking market utilizes contract rates instead of spot rates.
A contract rate is a consistent pricing structure, protecting the shipper from sudden increases, which can help them financially plan for the future or other costs, without worrying about spikes in shipping costs. For the length of the contract, a shipper will know exactly what they will be paying.
Spot Rates
Spot rates are much more volatile than contract rates, only used by 20% of the trucking market. Spot rates are the current market rates for shipping freight on a one-time basis or for the shippers who don’t have consistent needs.
They fluctuate based on the current market conditions, such as carrier capacity, seasonal demand, and fuel prices. The rates may vary based on the specific needs of the shipment, like the complexity or the distance it takes to deliver the freight.
However, spot rates are characterized as unpredictable because of the constant fluctuation of the market conditions.
The Relationship Between Rate Types
Contract rates are based on market conditions at the time the contract is written, while spot rates reflect real-time market conditions. However, as spot rates rise and fall, so do contract rates.
When spot rates are lower, typically, shippers have the power over the carriers to get their freight picked up at a cheaper rate.
Contract rates contracts are sometimes broken because shippers want to take advantage of short-term savings by spending less on spot rates when they are down.
However, strong relationships between the shipper and the carrier are vital to the supply chain and success of the transportation industry.
When contracts are honored, even at times when spot rates are cheaper, it increases the chances of the partners continuing to do competitive business even when the market turns.
When To Choose What Rate Is Best
It’s important to know when to choose between contract and spot rates. Although both have benefits, depending on the shipping situation, one may be more advantageous over the other.
Contract rates are the most stable option for shippers with regular and predictable shipping needs. Contract rates appeal more to shippers because they often provide dedicated capacity availability without constantly reassessing pricing or other supply chain strategies.
For businesses seeking to build relationships with carriers, contract rates are an ideal option because of the time shippers are locked in with a carrier.
Spot rates are more beneficial for those with low or sporadic shipments or who need to send goods on a short notice. Unlike contract rates, spot rates offer the flexibility that is sometimes necessary in logistics.
Additionally, it can help with short-term cost savings. Due to the fluctuating nature of the spot market, especially during off-peak seasons, shippers can optimize costs by getting a rate at just the right time.
For companies looking to grown new relationships with other carriers, spot freight allows them to assess service quality before committing to a contract.
Although each rate type offers unique advantages in the logistics industry, it solely depends upon the shippers’ needs and financial goals.
Both contract and spot rates are essential in the freight industry. Understanding each one and its distinct characteristics is vital so that shippers and carriers can be financially savvy while optimizing their freight operations to be more efficient.
