Contract vs. Spot Rates 101 — Everything You Need to Know
Successfully navigating the complex world of logistics means familiarizing yourself with both industry lingo and the terms and conditions of shipping agreements. Two of the most important terms you need to know are “spot rates” and “contract rates,” as these pricing models will have a huge impact on your shipping costs.
In this guide to contract vs. spot rates, you will learn everything you need to know about these agreements, including what they are, their benefits, and their drawbacks.
What Are Contract Rates?
Contract rates are negotiated agreements between shippers and carriers for a specified period, usually spanning about a year. These agreements outline the terms, conditions, and pricing for shipping services, providing you and your carrier with pricing stability and capacity predictability.
As part of this contract, your carrier will guarantee the provision of a specific capacity for their trailers and other shipping vehicles. Here’s a glimpse into the good and bad of contract rates:
Benefits of Contract Rates
Opting for contract rates gives you price stability. You know exactly what you’ll pay for shipping for the duration of a contract. If you are happy with the terms and rates, locking them in can be a great option for you.
Many carriers offer volume-based discounts, too. If you ship a large volume of cargo, you might be eligible for these kinds of price breaks. Perhaps most importantly, carriers guarantee you a certain capacity, which ensures your freight gets prioritized. Even during peak season, there will be room for whatever cargo you need to ship.
Drawbacks of Contract Rates
The biggest downside of a contract is that you will not enjoy the flexibility to adjust your shipping strategy to market conditions. Even if rates get better or your shipping volume needs to decrease, you’ll be stuck paying the same amount for the duration of the agreement.
Speaking of contracts, the shortest rate agreements are usually a year. However, if a carrier is offering you a major volume discount or other perks, they may require a multi-year contract.
What Are Spot Rates?
Spot rates, also known as market rates, are prices quoted by carriers for shipping services on a short-term basis. Spot rates fluctuate based on market conditions, supply and demand dynamics, fuel costs, and other external variables. The following takes a look at the pros and cons of spot rates:
Benefits of Spot Rates
Spot rates offer you considerable flexibility, as you can scale your shipping operations up or down as needed. If consumer demand suddenly drops, you can adjust accordingly without breaching a contractual agreement.
You may also be able to tap into cost savings by ramping up activity during market downturns. If carriers have the extra capacity they need to fill or experience a dip in demand for logistics services, they will likely offer discounts.
Drawbacks of Spot Rates
Spot rates do have their downsides. One drawback is that they are subject to market volatility and can fluctuate significantly in just a few days. For instance, if fuel prices skyrocket at the same time that demand increases, rates will rise as well. As a result, your shipping costs will become unpredictable.
Additionally, you may have a tough time getting the capacity you need during peak shipping seasons or periods of high demand. After all, carriers are going to prioritize shippers who entered into a long-term agreement.
Making Informed Shipping Decisions
There aren’t any one-size-fits-all approaches when it comes to contract vs. spot rates. If you have consistent shipping needs and want to ensure adequate capacity, a contract may be the most pragmatic solution for your business. Conversely, if you need flexibility, consider spot rates.
You can also leverage a third option, which involves entering into a modest contract that covers most of your shipping needs and using spot prices to fill the gaps. In this scenario, you would base contract terms on shipping volume during either your slowest quarter or the average volume throughout all 12 months.
If you’d like to learn more about contract vs. spot rates and whether either is right for your business, R2 Logistics can help. Contact our team to obtain a custom quote on logistics services.
