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Hidden drivers of freight cost

freight

Often the link between activities and costs within the supply chain can be very hard to see, understand and then unlock. In Prological‘s latest blog, Paul Erokhin, General Manager discusses the important relationship between a company’s Sales and Operations Planning process and its freight costs.

It’s commonly known that back orders consume margins and negatively impact your cost to serve equation. Not only are customers dissatisfied with service failures, all picking, packing, consigning and invoicing tasks are duplicated to fulfil a back order.

In this example, our client is a distributor of large, low value, low density product, with a national fright spend in excess of $15mil p.a. The business was aware that their current planning processes were poor, resulting in a large number of back orders relating to inventory availability. Whilst the scale of the small, split deliveries was known, the business had no idea of the impact this was having on their freight costs.

The table shows the company’s freight cost as a percentage of sales value and percentage of total spend for a range of consignment sizes. Consignments less than 0.5m3 were almost always a result of back-order activity. The back-order freight costs as a percentage of sales value were 20 to 62% – well above the 6 to 7% associated with larger consignments.

Our ability to segment this back-order activity, using purpose-built BI dashboards and consignment-level analyses, coupled with our thorough understanding of our client’s business operations, helped identify the following:

  1. Their S&OP processes were not working as well as required which was leading to an unsustainable number of small back orders
  2. The business was not aware of the connection between their poor S&OP and freight expenditure
  3. The business did not have the appropriate rate structures and freight partners to effectively deal with the back-order freight profile. Since most of their freight was large and cumbersome, that is how they saw all of their freight.
  4. Improving stock availability and/or freight solution to better service the back-order freight profile could reduce freight costs by 7 to 10%

While freight rates are clearly related to freight expenditure, reducing freight costs generally has little to do with commercial arrangements and more to do with optimising internal operations. This could be increasing cubic utilisation of vehicle through better planning or supporting systems, order consolidation, packaging design or in this instance, S&OP.

Identifying these hidden opportunities requires systems that are configured to capture all key transactional metrics and additional tools to convert data outputs into meaningful information. This is further complicated because areas of influence are often siloed and therefore unaware and unaccountable for the consequences of their upstream activities. The siloed activities often occur without the collaboration required to help demonstrate the relationships and between the supply chain verticals. As a result, the true cost drivers are missed, underlying causes inefficiencies are missed, and the right corrective actions are not put in place.

Internal collaboration, identify problems and corrective action is hard work and requires strong and decisive leadership.

We see companies increasingly turn to their procurement department to deliver freight cost reductions that generally focus on reducing rates for the same activity. This approach may deliver 3 – 5% in costs and may appear to be a good outcome there are three major problems with this strategy:

  1. There may well have been between 15% and up to 40% in hidden cost reductions that are available through operational transformation. This will have been left ‘on the table’.
  2. A procurement-led process will often achieve its result through transfer of profit from the supplier to the client. This is the same supplier that is expected to support your account, drive continuous improvement, innovate, and never make a mistake. This process will only deliver an outcome once.
  3. The company misses out on the opportunity to fix the root cause of issues – the cost of which could compromise the entire business beyond the supply chain.

An optimised supply chain that is designed to please the customer will not will also become the driver of increased market share, deliver strong return on investment, increase profitability while all the time unlocking resources to be redeployed elsewhere.

Getting the fundamentals of your supply chain right will drive your business forward. It will turn your supply chain into a powerful value-adding component of your business offering.

For more information on Prological, click here.

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