TSM Maturity = Greater Visibility and Control Over Cost-to-Serve (CtS)
Cost-to-serve is one of the most important metrics to establish as businesses strive toward transportation spend management (TSM) maturity. For many leaders, it is hard to control or gain optimal visibility into cost-to-serve, even more so during the past two years.
In this article, we will unpack the following:
- What is cost-to-serve?
- What is a cost-to-serve analysis?
- CtS versus COGS (often confused)
- CtS in supply chain management
- The benefits of tracking cost-to-serve
- How CtS is an essential puzzle piece in TSM maturity
The team at Trax is dedicated to equipping teams like yours with all of the tools needed to achieve transportation spend management maturity. Imagine fewer barriers, completely accessible and accurate data, and a streamlined freight audit and management process. These are just a few of the components of our comprehensive software platform and products. Browse our website to learn more.
What is Cost-to-Serve?
Here is how we at Trax frame cost-to-serve:
Cost-to-serve is a process-driven accounting methodology used to calculate net profitability margin based on the actual business activities and overhead costs incurred in service that customers separate from Cost of Goods (COGS).
There are some important elements of that definition that provide clarity.
- Cost-to-serve is inherently process driven and a method of accounting.
- The goal of cost-to-serve analyses is to calculate the net profitability margin separate from Cost of Goods Sold (COGS, more on that in a minute).
- Cost-to-serve is not theoretical, but based on real numbers derived from business activities and other incurred costs.
- Ultimately, cost-to-serve calculates the profitability of customer accounts, which an organization can use to manage its own activities, improving profitability by reducing the cost of getting the product to the customer.
The decision making on service mix and operational changes is a key point that translates the process and methods into action items. While action is the goal, analysis comes first.
What is a Cost-to-Serve Analysis?
Cost-to-serve is uncovered through the process and method, then subject to analysis.
The total cost-to-serve is essentially this calculation:
Net sales - COGS = gross margin
That number (gross margin) - total cost-to-serve = net profitability
The total cost-to-serve a customer includes the following:
- Sales visits
- Order processing
- Customer support
- Expedited ordering/transportation
Transportation costs (including expedited ordering and delivery) make up the largest spend bucket in the calculation of total cost-to-serve (TCtS). Complete visibility into transportation spend is crucial for businesses to analyze and optimize their TCtS.
Here are some of the objectives of a cost-to-serve analysis:
- Identifying the average cost to serve customers
- Improving supply chain efficiencies
- Aligning distribution channels to minimize cost-to-serve
- Improving customer experiences
- Reducing the logistical costs of operations
Because cost-to-serve takes into account goods sold, a distinction between CtS and COGS must be made.
CtS versus COGS
More than ever, CtS is visible throughout the leadership team, up to executive levels. This dynamic has been forced by the market. Until recently, however, many organizations assumed that the Cost of Goods Sold (COGS) was the real cost. By paying better attention to CtS, they have come to appreciate that the real cost is COGS and total CtS.
Remember, net sales minus COGS equals gross margin. That number minus total cost-to-serve equals net profitability.
Cost-to-serve is an important number that will provide hard data on what it actually costs to serve a customer.
A landmark report published by the Chartered Institute of Procurement & Supply delineates the distinction in this way:
“....while companies often know in specific detail exact costs for producing a product, they are often less than well-informed about what it actually costs to serve a customer…. It is the customer, not the product, that makes the profit. Thus, CtS method is key to understanding customer profitability.”
Knowing how much it costs to produce or distribute a product is only one piece of the puzzle. CtS provides far more holistic information to drive decision-making.
CtS in Supply Chain Management
In the context of supply chain management, cost-to-serve is an important tool to analyze costs throughout the supply chain. CtS may be the ultimate measuring stick within the supply chain but getting visibility to it, much less control of it, is hard without insight into your transportation spend. Remember that transportation spend is one of the largest spend categories in the calculation of TCtS.
Customers have different cost profiles due to their demand for different activities. The exact cost related to those customers is an important metric for making strategic decisions.
As businesses grow toward transportation spend management maturity, leadership will refine processes that glean CtS effectively, empowering teams to identify areas for cost reduction, operational improvements, or other vital changes.
This is why Trax, as an elite provider to some of the world’s largest companies, has deployed systems for end-to-end transportation spend management. Through each leg of the supply chain, multiple things are happening to move goods along. These activities impact CtS in unique ways. Unmeasured, there can be missed opportunities or unaddressed loss.
Example of CtS in Transportation and Logistics
Optimizing CtS is crucial to improving profitability.
For example, imagine the cost of shipping something from China to the Port of Long Beach has increased by X percent. A weather event occurs, such as a major snowfall. This causes a delay of 2x, meaning both a shipping issue and a delayed revenue recognition.
Shippers are faced with a few choices: is it better to a) pay to expedite air freight at a different (possibly higher) cost to get the goods to Long Beach faster? Or b) produce the goods in the region? Or c) have the goods shipped via ocean to a European product facility at a moderate and slightly faster price point?
How does a shipper achieve On Time in Full (OTIF) delivery at the right cost? Shippers make these types of decisions everyday, and calculating not just goods but also cost-to-serve is imperative to making the right decisions. The goal is to optimize CtS, and it is not a difficult task to do.
Benefits of Tracking CtS in Supply Chain
If your business does not currently track CtS effectively, know that it is not a herculean task. The beauty of CtS is that most data points are already tracked in some form or fashion. A key activity, then, simply becomes centralizing, matching up, and otherwise standardizing the data.
Some of the features of CtS include the following:
- CtS is not resource-intensive
- CtS focuses on aggregate analyses around a blend of cost drivers
- CtS provides fact-based information and insights
- CtS offers integrated views
CtS in the supply chain impacts both short-term and long-term tactics:
1. Prioritizes Short-Term Actions
CtS will immediately shed light on inefficiencies, waste, and opportunities. This can identify areas ready for immediate change or improvement.
2. Defines Long-Term Decisions
CtS also helps identify areas of highest return, most valuable customers, best systems, worst systems, and other factors that can drive long-term decision making.
CTS as a Puzzle Piece: How Mature TSM Simplifies Operations
Cost-to-serve optimization is essential, and it is a puzzle piece in the larger picture of mature transportation spend management. The goal is not to add another layer of complexity or management task. The goal is to simplify everything.
Once the right data is being measured, tracked, and assimilated, business leaders aren’t operating in half-light. There is full transparency into what is and isn’t working, where money is being made or lost, and that is when the data begins to serve the business.
This is why at Trax, we purport that freight audit is the foundation of transportation spend management, because it enables data standardization. Having accurate and actionable data throughout each leg of the supply chain will impact a shipper's CtS delivery.
To get a snapshot of what Total TSM looks like, download the infographic. Need a partner to support your efforts to track cost-to-serve, or work toward transportation spend management maturity? We can help. Contact us to learn more.
Trax is the global leader in Transportation Spend Management solutions. We partner with the most global and complex brands to drive meaningful optimizations and savings through industry-leading technology solutions and world-class advisory services. With the largest global footprint spanning North America, Latin America, Asia, and Europe, we enable our clients to have greater control over their transportation performance and spend. Our focus is on your success.