February 2, 2017
How you charge your customers for delivery is often a function of a well-intended yet misguided calculation. While it is relatively easy to isolate delivery costs on your P&L, coming up with a rational method to charge your customers for delivering their product is often problematic. We have discussed many times in these pages that the market sets the price for your products and services, and that it might be more fruitful for you to step away from the cost-plus calculations that your full absorption costing system spits out, and to look at the variable profit of the order. How does delivery figure into this paradigm?
Are delivery charges merely another “zero-sum game” where you just need to recoup your perceived costs? If this is the case, then you simply need a rational way of allocating them to each situation. This leads you to calculations such as cost per mile, cost per stop, and cost per trip. Many of you have begun measuring the time it takes to deliver, and adding that to the equation. In previous articles, I have endorsed this concept as forward-thinking and a means to reward customers who cooperate with you and reduce barriers to inefficient delivery situations. Armed with this knowledge, you might be able to influence your customers’ behavior to create a win-win situation.
Signed, Sealed, Delivered
Should delivery be a profit center? After all, we are capitalists, aren’t we? The core mission is to create profits to provide a return on investment to ownership, right? If so, then we should be trying to profit on our delivery function in the same manner that we mark up plates and dies and pallets and everything else we sell. If we do things a little better than others, we should be able to charge a little more, right?
Or maybe delivery costs are like every other cost on the P&L, in that some of the costs are fixed and some of the costs are incurred only if you accept the order. If this is the case,
then you need to make sure that your out-of-pocket costs are covered by each order and that your fixed costs are part of the pool of expenses that must be covered by the variable profit from the order.
Most of the time, customers want one price for their products and services, and periodically they will try to compare the price that you are charging them to the price that a competitor may charge. In the last issue of BoxScore, we discussed “unbundling” the sale to get a better understanding of what the true contribution of the order by profit center was. Delivery charges are certainly a part of this equation. We know that we must design, produce, and deliver—on time—quality packaging to our customers to convince them to pay us. We also know that to do so, we incur fixed plant and other operating costs that are necessary to support this endeavor. Our customers want us to charge them a reasonable, market-based price, and for the most part, they really don’t care how we calculate it.
The Problem and Solutions
Therein lies the problem, and there is no universally correct solution, because all customers are slightly different. Let’s take a look at the hypothetical ABC Box Inc. ABC is a sheet plant that employs six nonunion drivers that it pays an average of $25 per hour. It runs a fleet of five tractors and one straight truck and leases the tractors, but owns its own trailers. On the previous page is a snapshot of their delivery costs and other delivery data for the six months that ended September 30, 2016.
As you can see, ABC’s total cost of delivery for those six months was $335,667, which represents $2.90 per MSF shipped and 3.27 percent of sales. They have also calculated that their average cost per trip is about $329, their average cost per stop is $94, and their average cost per mile is $3.40. Obviously, there are other variables that need to be considered, such as cube utilization, traffic, the specific needs of the buyer, and so on.
Most of you have tables built into your estimating systems that make these calculations and supposedly consider these and possibly other factors. At the end of the day, most of you don’t really know how much of these costs you are recouping because you haven’t been able to break out the delivery charge on all orders. In addition, very few of you have only the variable component of this function above the contribution line, thus further clouding the real contribution of the order. My recommendations in this area are:
Take the time to really understand what is included in these tables, so you have a good understanding of how your system is calculating what to charge for delivery. As I have advocated in previous articles, start to track the time it takes to deliver, and make that part of how these charges are calculated. Try to use this to influence customer behavior whenever possible.
Keep track of the freight charge on each order, so that at the end of every accounting period you can find out whether your delivery charges are sufficient. Hopefully you can do this through your system directly or by taking steps to unbundle the sale. If this isn’t possible, consider tracking this on a spreadsheet outside the system.
Use the averages calculated above (cost per MSF/trip/stop/mile) as sanity checks for each situation.
Determine which of these costs vary directly with each order, and make sure that your estimating VPP (variable profit prediction) systems don’t allocate fixed costs such as leases and depreciation to the variable cost pool used in your contribution calculations. In my view, the variable costs would be fuel, tolls, driver overtime, and related payroll costs. I say this because most of you pay your drivers for a 40-hour week, and most of the maintenance costs don’t vary much if the mileage is 10 percent higher or lower. However, you must make this decision based upon how you run your business. If you look at things the way I am suggesting, the average variable cost of delivery is $0.49/MSF, yet I’ll bet that if most of you were running this company, you would have a variable freight charge of well over $2/MSF. On a tight order, $1.50/MSF could make a big difference.
Mitch Klingher is a partner at Klingher Nadler LLP. He can be reached at 201-731-3025 or mitch@klinghernadler.com.
