Cost strategies

Scope

Understanding cost structure and cost management strategies is a core competency that all carriers must have and hone.

Regulatory citations

• None

Key definitions

• Capital expenditures: Amounts paid out that create long-term benefits, typically more than one year. This especially applies to costs that are incurred in the acquisition or improvement of property (capital assets). Vehicle purchases, property purchases, and the associated financing would be examples of capital expenditures.
• Operational expenses: Costs associated with the operation and maintenance of revenue producing units of the company (trucks). Fuel, maintenance staff, support staff, and utilities are all examples of operating costs.

Summary of requirements

Cost calculations. There are several cost calculation formulas a fleet manager can use to evaluate costs. When reviewing these formulas and results, outside benchmarks can be useful but many times the results are unique to the carrier. Benchmarking against past performance can be more useful for all carriers. This is especially true if the carrier has implemented changes that were intended to reduce costs. Here are several formulas that a fleet manager may find helpful when assessing costs:

• Cost per mile. To determine this, divide all costs of operation by all miles traveled. There are variations on this formula:
  • Use only the billable miles when doing the calculation
  • Use only the sum of customer-caused loaded and deadhead mileages. Some carriers refer to these as authorized or company miles. In each case, the fleet manager is attempting to benchmark against either an industry benchmark or an internal benchmark.
• Comparing “book” to actual miles. This can tell the fleet manager if the drivers are using routes that create excessive out-of-route miles. There is a normal variation of 5 to 10 percent between book and actual miles. A fleet manager needs to watch for variations above the norm. Out-of-route miles are a pure cost. Simply divide the book miles generated by the fleet and divide them by the number of total miles the fleet traveled. The closer to 1 the number is, the better the drivers are doing at using appropriate routes. If the number is below .95, the fleet manager may want to investigate the routes the drivers are using or use a different method to get more accurate mileages to cover the cost of the extra miles.
• Comparing “billed” miles to actual loaded miles. This is another comparison designed to determine if the book reflects what the vehicles are doing and locating the additional cost of extra miles. Determine the billed book miles generated by the fleet and divide them by the number of actual loaded miles the fleet traveled. The closer the number is to 1, the better. If there is a wide variation (.95 or more) determine if it is a driver routing issue or a book issue.
• Percentage of deadhead mileage. Using both billed book and actual mileages, determine what percentage of the fleet’s mileage is empty, or deadhead, by dividing the loaded miles by the empty miles, then multiply by 100. Empty miles are cost and lost revenue, so the lower this number, the better.
• Percentage breakdown of costs, operational versus capital. Determine total costs, then break them down into operational costs (money spent operating the company) and capital (money spent for long term improvement of the company). Divide the operational costs by the total costs. This determines how much of the costs are tied to operations. Subtracting this number from 100 provides the percentage of the costs related to capital expenditures. This is an important ratio as the capital expenditures are adding value to the company, while the operational expenditures are not.

Controlling costs. For a fleet manager to make any decisions based on costs, it is critical the Manager understand where the money is presently being spent. Once the costs have been separated and identified, then the process of controlling the costs can begin.

The company should:

• Itemize all costs on a line-item budget. A line-item budget attempts to break down costs to their lowest denominator. In this form of budget, it should be easy to see the costs of all company operations. Once each line has been determined, a fleet manager can then view the costs expressed either over time (monthly, quarter, or annually), or by the mile.
• Examine all costs. Review them line by line and compare them to known industry benchmarks.
• Determine if there is a way to reduce the cost, when looking at each line.
• Review the activities involved in each budget line, if using an ABC approach.
• Review all other cost lines for potential impact. The second step is to study the impact of reducing the lines or activities. When studying the impact of the change, review all other cost lines for potential impact. Either estimate or conduct a study to determine the additional costs the change will generate.
• Do a cost comparison. Determine if the cost reduction will lead to a cost increase elsewhere. The key with reducing any cost line is that the reduction must flow through to the bottom line, not just affect one line or activity in the budget.
• View costs as either operational or capital.
  • Capital expenditures can typically be viewed as investments, which put the company in a position to earn increased revenue.
  • Operational expenses are not recoverable. There is not a tangible long-term benefit generated by these expenses.
  • Operational and capital costs can also be tracked as a percentage of income. This tracking allows the fleet manager to see how much of the carrier’s revenue is needed to continue operations, and what percentage is being spent on capital improvements. The higher the percentage of revenue needed to fund operations, the lower the percentage of revenue available for capital improvements and profit. If 100 percent of the revenue is needed to cover operating expenses alone, the carrier cannot survive. This is because necessary capital improvements cannot be funded.

The concept of human capital is a fairly new concept in the transportation industry. It is a companion to the theory of human resources. Some carriers are now considering expenses aimed at employee improvement or retention as capital, rather than operational cost. This is because they view the training and retaining of employees as an investment, much the same as purchasing a vehicle is an investment for the company.

However a carrier decides to divide up the costs, the key is to keep operational costs as low as possible. This is because a carrier that wishes to remain in business needs to invest in capital, specifically vehicles. To sum it up, a carrier can reduce the capital expenditures by not purchasing vehicles, but without the investment in vehicles the carrier will slowly grind to a stop as the vehicles become unreliable and unusable, driving up the operational costs.

Separating costs as a private carrier. Private carriers need to be cautious when determining their costs of operation. Many times, the support and physical facility costs are mixed in with the company operations. An example would be the company handling the driver hiring qualifications through the company human resources office rather than as an internal function of the carrier operations.

The other example of mixing the costs is assigning all transportation department costs to the private fleet. If the traffic department solicits and works with outside carriers, the full cost of the traffic department cannot be assigned entirely to the private fleet. In some cases, the warehousing and freight storage costs are charged against the private fleet.

The fleet manager needs to separate the budget, and related costs, into functions. Using line-item budgeting and an ABC model, the fleet manager can separate out the non-carrier costs that may be appearing in the budget.

ABC allows the fleet manager to separate the private fleet’s costs from the company’s costs in areas where the costs are intertwined. In the example used earlier, the company is handling the driver hiring and qualifications for the fleet. To separate the costs of this arrangement, the fleet manager would need to determine the activities the human resources department has to undertake for the fleet. Once this is determined, a time requirement for each activity can be assigned. Next, simply multiply this by the full hourly rate of the human resources department. In short, the private fleet should only be billed for the time that the human resources department spends working for the fleet, no more, no less.

Being able to correctly separate costs is critical for a private carrier. If the company management is not viewing the true cost of fleet operations, they may make detrimental decisions as to the future of the fleet.

Methods of cost reduction. A fleet manager should be able to look at their operation and see where cost reductions can be made. Common areas of cost reductions include:

• Improving fuel mileage
• Decreasing support costs by the use of technology and/or outsourcing
• Decreasing support costs by combining positions to improve productivity
• Lowering equipment maintenance and repair costs
• Improving fleet efficiency
• Improving fleet utilization
• Using owner-operators or contracted technicians
• Brokering freight
• Using intermodal (railroad) for long distance movements
• Reducing payroll costs
• Reducing benefits costs
• Reducing turnover
• Reducing risk management costs of accidents, injuries, and cargo claims

This is assuming the carrier has a customer service function that generates loads or service orders through customer contacts for the dispatcher(s) or technician supervisors to work with. If the carrier does not provide a customer service function, the dispatcher(s) or technician supervisors may have to assume that function also. This will lower the number of drivers the dispatcher(s) or technician supervisor is/are able to deal with effectively.

Recommended safety, payroll, billing, and other support staffing ranges are determined for each department, again depending on the amount of technological support and outsourcing the personnel have available to them.

Common targets for the ratios for support personnel to driver, depending on the operation and the level of technology and outsourcing, are:

• Overall. One support person per 3 to 7 drivers.
• Dispatch. One dispatcher per 40 to 70 drivers, but this number can vary greatly if you have technicians or other skilled workers.
• Customer service. One customer service representative per 40 to 70 drivers. This category of support employee will see an increase or decrease in numbers based on the number of orders they are required to generate and enter.
• Safety, payroll, and billing. One support person in each department per 40 to 100 drivers.
• Maintenance department. One technician per 10 to 15 vehicles.

Lowering equipment maintenance and repair costs can be accomplished in several ways. First, the fleet manager will want to study the cost of operating the present equipment, taking all factors into consideration including repairs, downtime, payments, etc. Then compare that to the cost of replacing the equipment, including all replacement cost factors (trade value of existing equipment, financing charges, warranty coverage of repair costs, etc.). If replacing equipment will lower the equipment costs, it may be viewed as an investment rather than a cost.

Second, the fleet manager should review the equipment being purchased. Does it match the work required, or are the vehicle specifications exceeding what is needed for the work being done? If the reason cannot be explained, consider lowering the purchase price of the vehicles by better matching the vehicle to the intended task. Onboard safety systems, such as lane departure warning or automated emergency braking, can significantly impact the purchase price but may have a relatively quick payback on risk cost avoidance. As with any other change, the fleet manager would want to do an impact study, taking into consideration all factors involved in the change.

Improving the efficiency of the fleet is another cost control method. Deadhead, or empty mileage between hauls or service jobs, is a cost. In some cases, it is one of the “costs of doing business,” but it should be addressed by reviewing the customer base and assigned routes and making adjustments. Trying to avoid loads or service jobs to areas where the carrier cannot reload the vehicle or obtain another job with sufficient revenue, or locating customers in the area of unloading or clustering service jobs, are two strategies that can help to reduce deadhead. Another alternative is to negotiate with the customer to establish a shipping or per-job rate that addresses the excessive deadhead in such cases.

Efficiency can also be improved through proper use of assets. Making sure vehicles are preplanned, routed correctly, and loaded and unloaded, or jobs are completed, in a timely manner, are all good ways to become more efficient.

Toll strategies-cost, benefit, and ROI. Tolls are nothing other than a user fee. If you wish to use a toll road, you must “pay as you go.” The only way to avoid paying the user fee is to avoid using the toll road. You may want your drivers or technicians to use an electronic toll pass to help reduce the per-use cost of a toll road and to save time for the driver/technician and the back-office expense processing team. The questions a carrier must answer when deciding whether to use a toll road are:

• Are there legal and safe alternatives to the toll road?
• How many extra miles will be involved in not using the toll road?
• What will be the cost of the extra miles?
• How much extra time will it take to avoid the toll road?
• What will be the cost of the lost time (productivity and driver’s or technician’s hours)?
• Can an up-charge be put in place with the customer to pay the tolls?
• What are the tax implications/benefits of using the toll road?
• What is driver or technician acceptance of not using the toll road?
• Will there be a reduction in fuel mileage?
• Will there be an increase in maintenance cost if not using the toll road?
• Will there be an increased accident risk off the toll road?
• Will there be an increase in freight damage if not using the toll road?