One of the major supply chain management challenges facing businesses today is to understand their cost to serve (CTS) in detail. Application of Cost to Serve can improve EBIT performance by up to 20%
What is Cost to Serve? What benefit does it deliver? How is it implemented?
A detailed understanding of CTS is vital, since it is a critical ‘enabler in identifying and driving improvement.
Major supply chain changes and challenges will impact suppliers’ processes, use of resources and costs. Within markets the challenges are geographic expansion, acquisition, and product range expansion. Retail stores need better stock allocation systems, and new point of sale unit loads. Distribution has the issues of rationalisation of DC networks and more supploer centralisation and factory gate pricing grapples with changes to order profiles.
The supply chain dimensions of CTS are: Asset Performance, Supply Chain Network and Planning.
Asset Performance encompasses the structure, responsibilities, accountabilities, culture and skills within an organisation and includes performance SOs and KPIs.
Supply Chain Network is the umbrella for physical assets such as facilities, storage equipment, vehicles, and MHE. It also takes in aspects of Transport such as speed, utilisation of time and capacity, consolidation and backloads. Time, Stock, Processes and Systems and Optimisation are all part of Planning.
For all businesses, there are many ‘paths’ through the supply chain for their products and services. The costs related to each ‘path’ vary considerably, based on the customer/product mix.
CTS is understanding the total cost of servicing our customers:
- at a customer and product level,
- so that the business can provide appropriate levels of service, and
- to achieve business goals
CTS is not Activity Based Costing which takes no account of customer and product characteristics that can drive additional costs into the supply chain. CTS identifies product and service characteristics as well as customer characteristics to establish customer and product matrices leading to change management of processes and behaviours, with ongoing reporting of CTS.
Looking at CTS concepts, typical outcomes include identification of low margin customers and products, and identification of high cost processes. The aim is not to delete low margin products or customers, but to make them all profitable, or more profitable!
A review of CTS is often the first step to major supply chain improvement. With CTS reporting, a company has the ability to negotiate terms with major customers, test alternative distribution modes/service, improve pricing methodology and processes.
CTS requires commitment. If CTS fails, there can be good reasons for this, such as: data is not comprehensive, data extraction is too difficult, there is lack of business ‘buy-in’, the process is too complicated, or it has not been fed into business strategy.
Starting with a specific area of the supply chain, such as warehousing or delivery, and focusing on costs by customer and product group only, is often a less resource intensive way to start.
As a first step, identifying those characteristics of customers that drive different service needs and costs in the business. Then to conduct CTS on those groups, rather than on a traditional customer grouping. As an example, he described the customer segmentation within the airline business, where service expectation and cost to serve vary considerably between first class, business, economy and discount economy customers. Case studies show how a comprehensive understanding of supply chain costs is essential, particularly for companies struggling with primary freight and factory gate pricing.
The Hospital Group which includes 20 hospitals, illustrates the potential of CTS. These hospitals purchase between 4000 and 7000 different supply items. Some supplies are purchased locally by each hospital and others (about 20%) are handles through the central purchasing department. Suppliers are also purchasing e-commerce. Although a complex supply chain, CTS highlighted easy wins for reducing costs, that were ‘invisible’ through normal cost reporting. Multiple handling, stock levels and order processing were minimised and supplier management improved.
For a consumer products business in Thailand with 13 warehouses/branches, the issues were poor fleet utilisation, high cost to serve ‘up-country’, small customers and small orders. The solutions were found to be the use of distributors, rationalisation of the contractor fleet and use of other transport modes. Savings of about 20% pa ($A10m) on distribution were realised.
Planning considerations for a CTS study should take into consideration what level of detail is needed, identifying the customers, identifying units of measure – whether they be tonnes, pallets, cases or dollars, what resources in terms of finance and IT support are available, timelines (a simple study = 3-4 weeks), and data availability.
CTS studies can be:
- One Off – a network audit for the strategic alignment of the supply chain.
- Periodic – carried out quarterly or annually to audit company performance.
- Dynamic – automated real time update of reports.
In summary, supply chains are constantly changing and emphasised again that the visibility of cost to serve is essential to business profitability.
