Expanding the Freight Contract Portfolio: Index-Based Freight Contract Design Under Uncertainty

Abstract

Long-term, fixed-price contracts in the truckload transportation sector have been the prevailing relationship form between firms and their for-hire transportation service providers. While advantageous for planning and budgeting purposes, these contracts do not lend themselves well to contexts in which supply, demand, and market uncertainties are prevalent. We propose an alternative, market-based contract for the truckload sector to reduce the unanticipated costs and performance degradation that result from the standard fixed-price contract. With a uniquely detailed and expansive dataset that captures compounding uncertainties, we build empirical transportation provider decision models. We apply them to index-priced demand across a set of design, implementation, and segmentation strategies and present the those that offer Pareto improvements over the status quo fixed-price contract. Finally, we validate our models with a pilot study of indexed contracts implemented by a large agricultural firm in the US. We employ propensity score matching to quantify the causal effect of indexed pricing on transportation suppliers’ contract compliance and costs the firm incurs during a constrained market period.