This is the second part of the three-part series on the relationship between freight and finance. You can read the first part here. Stay tuned for the final part of the series.
In the last blog, we pondered over the question of freight, its relation to profitability and inventory. Here we think over the impact logistics has on commercial strategies. Is there any?
CFOs are intimately involved in evaluating new business strategies. Too often, however, logistics is an afterthought in these evaluations, despite the fact that freight costs can significantly impact the viability of the commercial programs.
For instance, expansion into a new market may require costly creation of supply lines that don’t exist. Reducing order-to-delivery cycle time to achieve a competitive advantage means faster, more expensive modes of transport.
Evaluating payback on these strategies requires an accurate read on logistics costs, which can account for a good chunk of an industrial company’s operating costs. It behooves the CFO to have a more granular understanding of these costs and how they are determined. Unfortunately, the lack of clear communication between logistics and financial teams results in a no or false read.
Take the issue of carrier rates. Lower the rate, lower the cost to the business. Right? Well, not necessarily.
For instance, late deliveries can erode customer confidence and threaten revenues. Or, carriers may quote a low rate to win the business but then, during implementation, add hidden “accessorial” charges that drive up the bill. Accessorial charges common in the industrial sector that include:
- Fuel surcharges – allow the hauler to be reimbursed for excessive fuel costs
- Lashing charges – for placing a lash or protection over cargo on a flatbed
- Truck order not used – charged when freight is booked but the shipment is delayed due to weather or other reasons
- Detention – charged to shippers for delayed return of carrier equipment
These and other charges make it difficult to do an apples-to-apples cost comparison of carrier rate quotes since accessorials vary from carrier to carrier and some may include these in their quote, while others may not.
Carrier RATES don’t always equate to COSTS. CFOs need to collaborate with their transportation colleagues to understand the true cost of transportation and the impact of these costs on the viability of commercial strategies.
Balancing Fixed and Variable Costs
Managing transportation requires people, equipment, and systems. They can live on your books or someone else’s. While CFOs may see divesting non-core assets such as a fleet of trucks as good business, logistics managers may see this fleet as critical to reliability and maintaining customer satisfaction.
Again, the buy-or-rent decision is clouded by the fact that total costs are difficult to decipher. Costs are spread across multiple P&L statements and are never linked back to the decision to acquire the asset. Private fleets are a good example. Here is a list of all the costs associated with fleet ownership.
Driver pay, fuel, lease, insurance, cell phone reimbursement, permits & licenses, taxes, tolls, fines, parking, maintenance (tires, oil, parts, emissions compliance, washing, equipment (tarps, chains, etc.), hotels, systems, uniforms etc.
Systems support, dispatch/fleet management, risk/compliance management (auditors and management compensation, logbooks, handbooks, recovery programs), recruiting (recruiter compensation, advertising, screening and qualification, drug testing), driver orientation and training, maintenance (shop personnel and management compensation, parts inventory, shop tooling, depreciation, fuel dispenser expense), buildings and terminals, legal and professional services, record keeping, periodic inspections, insurance, utilities, bad debt accrual etc.
Another major factor in fleet ownership that many CFOs don’t consider is risk. Should an accident occur, it’s you, not a carrier, who is liable. Lawyers get involved and start asking tough questions about your safety program – one that, very likely, is not as robust as a quality carrier’s safety program.
When you examine risk management and all the other costs related to owning assets that could be outsourced, on balance, it’s a good idea to consider divesting as much as possible. Often, the true costs of a dedicated fleet are not allocated. For example, the fleet doesn’t always have its own insurance and may just be piggy-backing on the corporate insurance policy.
Business volatility also tips the scales in favor of outsourcing. When business slows, the relationship of assets to revenue becomes unbalanced. Outsourcing transportation to a logistics company – one that provides the required people, carrier capacity, and systems – helps manage this volatility by allowing your costs to parallel your revenue stream. Other financial advantages of being asset-light are:
- Reduced fixed costs for labor and systems
- Reduced pension obligations and other personnel costs
- Decreased SG&A expenses
- Improved return on assets
- Gain fast access to extra capacity to support unexpected or future growth
CFOs need to work closely with logistics managers to figure out what level of in-house assets will best serve the company’s needs. To make this decision, it’s critical to understand the total cost of owning transportation-related assets, such as a truck fleet or software system, and carrying a full-time professional and administrative staff.