Essential 3PL Definitions and Terms

Introduction to 3PL Through an Exploration of Essential Terms

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Andrew Newman

The Rise of Third Party Logistics Companies

Third party logistics (3PL) is one of the largest, most complex, and most profitable industries. This is an easy reality to ignore as a consumer because they do their work behind the scenes. However, when you order from Shopify, ASOS, or Amazon, there is a significant 3PL warehouse management software (WMS) and ERP component to deliver the products to your doorstep. Generally speaking, the growing digital economy has driven demand in eCommerce and global industry, which has meant an exponential increase in movement of goods. For 3PL companies such as Amazon, this has meant massive profits but no shortage of logistical issues to contend with.


Nonetheless, even with the potential profits of handling logistics in-house, most companies lack the human, WMS, ERP, and order management software resources of a company like Amazon. Consequently, handling logistics tasks can not only be daunting but can even make many companies commercially inviable. Fortunately, there are standard 3PL options to help companies build and manage their 3PL business.


Through descriptions of essential 3PL definitions and terms, this article will give a general overview of what 3PL providers do and where they add value.

freight boat which is an essential 3PL definition and term

Essential Definitions and Terms Explained

There are certain activities that 3PL companies perform that add substantial value to their role in product delivery. Some essential 3PL terms may not be familiar to those without logistics experience.


It would be useful to start off with a definition of logistics in this context. Logistics are the planning, implementation, and oversight of activities involved in the efficient storage and transportation of goods. Third party logistics involves the outsourcing of these logistics activities to a specialized company.


Now, we will go into some terms specific to 3PL software and the industry as a whole:

3PL Software

With so many moving parts, it’s integral to any well-run 3PL business that it uses software for warehouse management, kitting assemblies, inventory management, order tracking, and a plethora of other tasks. For example, instead of clients calling warehouse managers for inventory details and shipping statuses, they can view data through online portals.


Gathering data on operations is highly useful for increasing operational efficiency. Additionally, data on item location allows for improved warehouse navigation for workers.


Some essential 3PL software terms:


Warehouse Management System

The most common example of how software can be useful in 3PL is a warehouse management system. This software keeps track of the location and movement of goods within the warehouse. The introduction of a WMS is a game-changer for the efficiency of a warehouse. Keeping track of data can shed light on areas of improvement. Additionally, it reduces the chances of product loss and saves employees time by making items easy to find.


Yard Management System

A YMS is like a WMS in that it involves the tracking of goods but specializes in the coming and going of carriers in the yard outside of a warehouse.

dynamics 365 supply chain management dashboard

Significance of Software for 3PL

Software provides important data to 3PL companies and their clients about stocks, inventory, and the movement of goods. They can also serve 3PL firms by tracking where their services add the most value, creating valuable datapoints that prove their business model to potential clients.


Microsoft’s Dynamics 365 Supply Chain Management and Dynamics 365 Finance and Operations are applications that can revolutionize the 3PL process. Read more about these on our dedicated pages and request a demo to find out how they can make your business more efficient. As a 3PL company, value is dependent on reliability. These applications give businesses the tools to become the most effective versions of themselves.

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Essential Terms for 3PL Operations

Vendor-Managed Inventory (VMI)

This can be a massive money-saver for a company that needs warehouse storage. Instead of a company managing their own warehouse and inventory, the business outsources these duties to a 3PL company (the vendor). The 3PL company forms agreements with manufacturers to obtain and store goods that their client will eventually need. When the time comes that the client needs that good, the 3PL company sends it to them immediately, only charging them for that singular good. This is referred to as a just-in-time (JIT) delivery. As a result, the client never needs to predict how much of a particular good they will need or keep supplies in-house. When they need something, the 3PL company has them covered.  It also greatly reduces warehousing costs and the labor and administrative overhead involved in receiving goods.


Example: Home Depot uses VMI, exporting inventory management and stocking to third parties. This is useful for the third party because they can utilize the Home Depot staff’s expertise as well as their reliable client base. Conversely, Home Depot then does not need to keep track of how many items they sell, and a third party analyzes their store data.


This is a case of customer pressure for item availability in-store leading to a business requiring software intervention. It would reflect poorly on Home Depot for them to go out of stock of an item and this would cause them to lose business. Their vendor keenly adds value to their services by using software to manage store inventory. This gives vendors an edge when negotiating to supply a store and reduces likelihood of the store switching vendors.

Warehouse using Microsoft's warehousing and distribution solution with boxes stacked on top of each other

Distribution Center

These are more localized cogs in the 3PL machine that receive finished products, store them, and ship them to customers in their region.


Benefits of a distribution center: Centralized shipping means manufacturers save on shipping costs. In the case a company has their product manufactured abroad, the manufacturer or supplier can send goods directly to the distribution center, thus saving the company an additional shipment.


Additionally, there are marketing benefits to working with a distribution center. For example, you can have the distribution center include a marketing pamphlet as a part of their kitting. That pamphlet could be a simple business card that has a QR code to encourage consumers to leave reviews.


Example: Amazon uses distribution centers that they refer to as fulfillment centers. This helps them and the private sellers on their site deliver their goods to customers as quickly as possible, using order management software and WMS. Customers are used to fast, reliable delivery of goods purchased online. Amazon has risen customer expectations in these departments, reaching levels of excellence that necessitate other businesses to utilize software to keep up. Companies that do not implement 3PL efficiency software risk being outcompeted by industry leaders.


Freight Forwarding

As part of the 3PL process, a freight forwarding firm will often become involved in the shipping of goods. These firms specialize in combining many goods into large shipments that they can ship for lower rates than competitors. They can undercut prices due to mass-buying of transportation at low rates.


Context: DHL is among the largest freight forwarding companies in the world. They move large volumes of goods over land, air, and sea. Their volume allows for them to offer low rates than they could otherwise, and their experience makes them highly reliable.


In addition to their experience, supply-chain and order management software allow them to remain as a leader in this sector. It would be impossible to maintain their reliability standards without digital infrastructure. Customers are not satisfied with late deliveries; they want tracking data so they can know with near-certainty when their packages are arriving. DHL and other 3PL providers have the financial fortunes of companies in their hands and they use ERP systems to ensure reliability. Manufacturers will not tolerate late deliveries of materials, as the economic consequences for their business can be massive.

freight forwarding shipping containers


The process of locating several parts for assembly in a large warehouse can be time consuming and difficult if improperly organized. Many companies will see this as a large enough resource sink for their employees that they bring in a 3PL company to create “kits.” Instead of having the employees identify and acquire all the necessary parts and then assemble them, they will have a 3PL company locate the necessary parts and package them together. Consequently, the employees tasked with assembly are delivered these neatly packaged kits, allowing them to do their job much faster. Kitting is the process of locating the necessary parts and packaging these kits. This allows a company’s worker to specialize in their given task and takes the burden of warehouse maintenance off the company.


A 3PL company will typically charge a set price for locating and packaging the first piece of the kit, and then a lower rate for each subsequent piece. This is usually a product of flat-rate shipping and reduced cost on the 3PL company’s behalf for each additional item.


Scenario: Costco uses kitting to make their goods cheaper per unit, due to more items being packaged together. Kitting products together makes them cheaper to ship and therefore cheaper to buy.


Product Rework

Manufacturers don’t always get it right the first time. Sometimes a company receives a product but it’s missing a piece or a pamphlet that is supposed to be included. Returning this to the manufacturer and having them send it back is an expensive proposition. However, a 3PL company is prepared for this scenario and can make this change in-house, saving money and reducing turnaround time. This is a massive cost saver for companies and can significantly hedge risk.


Scenario: The 3PL company receives a new Nespresso machine but the box is missing the instruction manual. Luckily, they have several spare in-house and don’t need to send it back to the manufacturer for them to repackage it.


eCommerce Pick and Pack

To minimize warehouse operations costs, the management service will often design patterns of picking up items in the warehouse that increase efficiency and decrease walking distance. This allows the employee to find items faster, use their time most effectively, and reduce physical stress. Packaging instructions guide them through the next steps so they can get the package of items prepared.


Scenario: You order a new pair of gym shoes and a jersey from the Nike Store. Someone at a warehouse will want to put both items into one shipment, because it is the sensible and cost-efficient way to transport goods. The warehouse employee will then be given instructions on product location and how to package these items most effectively to be sent to the customer.

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Terms Relating to Third Party Logistics Tax Privileges

3PL companies usually have access to areas with special taxation rules, giving them a competitive advantage for international shipping. This further cuts costs for the 3PL firm, allowing them to ship and dock at lower rates. Here are some instances where they can leverage these advantages:


Free/Foreign Trade Zones

These are specified areas within nations that are regulation and tax-exempt to streamline the international movement of goods. This is particularly helpful for companies that involve several nations in their manufacturing.


Export Processing Zones

Similar to free trade zones but specifically involves the receiving of goods, reprocessing them, and re-exporting them. These areas have special status that allows for tax privileges.

international trade port

3PL Benefits Businesses and Their End-Customers

Business to Customer 3PL (B2C)

3PL companies can manage your inventory and ship items your customers buy through an eCommerce platform. The B2C relationship requires agile management of inventory to deal with the relative unpredictability of consumer behavior. 3PL is useful for removing this burden from your company and allowing the warehouse management service to organize your inventory in ways that allow for more efficient order fulfillment with methods such as eCommerce pick and pack. WMS and ERP are essential parts of this equation to meet high customer expectations for reliability and speed of delivery. 


Business to Business 3PL (B2B)

For this type of business relationship, 3PL companies will create custom labels and item packages, as specified by your clients. They also manage the delivery of goods and can determine the most cost-effective methods, either performing deliveries themselves or using an external service. Large-scale packaging and shipping involved with B2B can be very complicated to handle in-house. Therefore, having a 3PL company handle standardization and efficient building of large packages for shipment using a WMS can save companies significant time and money.


Key Performance Indicators (KPI’s)

KPI’s are the metrics by which you assess the effectiveness of your 3PL partner. Any company has standards that they will want a 3PL firm to uphold, as they are representing the company and delivering their products. These standards are very high because 3PL companies are paid specialists. Consequently, 3PL providers are minimizing human error through WMS and ERP, which directly correlate to more impressive KPI numbers. KPI’s can deal with on-time product delivery, picking accuracy, inventory count accuracy, etc.

3PL Benefits Businesses and Their End-Customers

To learn more about the 3PL and the software directly used in the industry, visit our Ultimate Guide to Microsoft Software for 3PL blog article and read about our original 3PL Warehouse and Billing Solution for Dynamics 365.

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