Getting your Fixed Overhead in Order

This week’s post is the last in a series of articles focused on the Golden Ratio, a concept which has proven to be a successful way to frame and segment the operating expenses of a high-performing trucking enterprise. The Golden Ratio separates your variable expenses, your admin (non-driver) wages and benefits, and finally your fixed overhead. Re-aligning your existing P&L can be a time consuming process, but the feedback from companies who have adopted our suggested reporting model has been extremely positive to date.

For many, when you start talking about financial statements, eyes start to glaze over. However, having a set of proven and transparent (and thoroughly reconciled) financial statements each month will provide a great foundation for transforming your business. Based on my experience over the past three years with all sizes of trucking companies, I can attest that very few companies are employing a common, industry-specific, Profit and Loss statement. As a result, much of the industry isn’t getting a clear picture of the health of their operations, and as a result (in some cases) may be making improper business decisions. The added benefit of utilizing a proven, industry-specific P&L, is the ability to compare against your peers in an easier fashion. Standardization is at the core of inGauge and the Best Practice Groups. That is why we freely provide a proven P&L template for any company to download and use. To download the excel version, click here.

At the bottom of the template P&L, we break down the individual components of the last piece of the Golden Ratio: Fixed Overhead. Notably absent from Fixed Overhead in this template is Admin Wages and Benefits. Many of the existing P&Ls which I have reviewed over the years contain Admin Wages and Benefits. The common rationale provided has been that Admin Overhead is fixed and does not go up or down depending on levels of business activity. Our position is that this is incorrect and harmful thinking. Although you aren’t going to immediately layoff valuable Fleet Managers or Accounting staff when economic activity slows, breaking out this component from Fixed Overhead will provide you with a quicker route to decisions to maintain profitability while you ride out a downturn. Also, it reinforces the importance of incentive-based pay structures for your Fleet Managers, something we will talk about at a later date in a series of posts.

As a reminder, the target for inGauge users and Best Practice Group members is to achieve and maintain a Fixed Overhead level of 25% of Gross Margin. In other words, after subtracting your variable expenses from your revenue, your Fixed Overhead should be approximately 25% of this calculated value. Obviously, Fixed Overhead is going to fluctuate over time (e.g. you implement a new TMS or communications platform that includes upfront costs that you don’t want to amortize), but over a rolling six-month period, this should be a consistent goal for all. How do you get your Fixed Overhead on the right track? The three biggest opportunities for improvement based on companies we have worked with are:  1) Building Rent / Maintenance/Property Taxes , 2) IT related expenses and 3) Phone/Communications.

If you own your own property, you may be setting rent levels for your operating company for tax purposes. However, if you currently rent your facility, you may have substantial tools for improvement. This can include leveraging continued low interest rates to purchase or build your own facility. Many of our clients have done just that, and amplified the benefits by moving into a different (but close) municipality to take advantage of ongoing business incentives. Further, considering a new location allows you to better match a facility with the current attributes of your business (e.g. cross-docking capabilities etc). Finally, getting your current zoning and/or property valuation reviewed by a property tax expert can result in immediate and perhaps retroactive credits.

IT-related expenses can be a massive line item, and can vary substantially from company to company. Many companies have started to take advantage of cloud-based software solutions to drastically reduce their IT spend. Moving from locally hosted email/network configurations to cloud based services such as Google @ Work or Office 365 can immediately eliminate ongoing hardware (server) expenses, and depending on the size of the company, network admin labor. You may get resistance from your IT Team initially, but you should strongly encourage the investigation of cloud-based tools, and a thorough cost-benefit analysis. This should be done regardless of the size of your organization. Further, although many TMS providers currently focus on local installs, we suspect the trend over time will be move to the cloud – which will ultimately save money for Trucking companies and TMS providers alike.

Many of the companies we work with have reported substantial savings by routinely (every 2-3 years) shopping their communication needs with other suitable providers. Both hardware and networks costs have continued to drop over the years, and the vendor will be the last one to mention opportunities to save. Like any other expense, the key function is having a process in place to systematically review usage, costs and benefits to determine if you’re getting value for the expense.

Benchmarking Your Human Capital

Over the past month, we’ve introduced and reviewed three key metrics for trucking companies to focus their attention on. These three measures work in conjunction with each other, and Jack Porter (Lead Facilitator of TCA’s Best Practice Groups) has coined the term “Golden Ratio” to define them. As a reminder, they are: 1) Gross Margin (measuring your results after subtracting your variable expenses from your top line), 2) Admin overhead as a percentage of the above Gross Margin, and 3) Fixed Overhead as a Percentage of Gross Margin. The target (or Golden Ratio) for a healthy trucking company should be 25% : 25% : 25%. If you do the math, reaching these targets (or getting close) provides a very healthy Operating Ratio, while also ensuring that your capital is deployed in the proper proportion. Obviously, there can be dramatic changes to these measures on a monthly basis (seasonality, economic ebbs and flows, year-end bonuses etc), however, over a rolling six or twelve month period, these targets should be achievable, and if they seem out of reach, it provides a compass for where to focus your operational attention.

For this post, we are going to focus our attention on the second of the two measures – Admin overhead as a percentage of gross margin. To start, to properly measure this value, some standardization needs to be applied to your financials. This is helpful internally for reporting purposes, but also externally when benchmarking your performance against other companies. First, let’s define exactly what we mean by “Admin”. Based on years of iteration and feedback, TCA’s Best Practice Groups have defined admin overhead to include the following roles in a trucking enterprise: 1) Owners, Executives, GM, 2) Sales/Marketing, 3) Operations, 4) Safety/Risk & Orientation, 5) Information Services/Technology & 6) Finance/Administration. Noticeably absent from these categories is Shop Personnel (including Shop management). For benchmarking purposes, we include Shop Wages/Benefits in the Maintenance category (so, as a result, if you are including, this will provide an immediate improvement to your admin overhead calculation).  Once you have identified, and segmented these roles into the above categories, the next step is to begin capturing the Salaries/Wages/Benefits for these roles and categories separately – ideally on your monthly P&L (we provide all inGauge users with a template P&L to use in this regard).

Now that the proper roles and categories are defined for admin overhead, it is useful to start calculating various measures to determine if you are in line with both your historical results – and that of the industry. Here are some metrics which you should be able to calculate very quickly:

    1. Driver to Non-Driver Ratio – this one is the easiest for companies to calculate. Simply take the number of active drivers and compare to the count of active admin personnel (as defined above, not including your Shop personnel). For the average Dryvan operator, this measure should be above 4:1, and closer to 5:1. Depending on the operating mode, size, Average Length of Haul, and other business-specific factors, this measure can vary dramatically. This reinforces the value of benchmarking this metric versus companies of similar operating attributes. As an analogy, you expect to generate specific revenue targets per truck per week/month/year. You should expect the same type of production/leverage from your admin personnel.
    2. Non-Driver Wages & Benefits (% of Net and Gross Revenue) – although your Driver to Non-Driver Ratio may be in line with your industry peers, that doesn’t automatically mean you don’t have a problem on Admin Overhead. The next step is to calculate your Admin Overhead (Salaries/Wages/Benefits) as percentage of Net (excluding FSC) and Gross (including FSC) Revenue. Typically this value should be around 8% (net) and 7.5% (gross) as a percentage of revenue. But again, this will vary based on your operating attributes and size.
    3. Admin Turnover – Although turnover on the admin side isn’t a pressing industry issue, calculating your turnover for admin staff is something that should be measured consistently. Similar to Driver Turnover, there are both hard and soft costs associated with recruiting and retaining a high-performing admin team. If your managers and staff are constantly training new people, you are not going to get the same degree of leverage from these people over time – which means your admin overhead will be higher than average. Maybe it is not necessary to calculate every month, but probably good idea to calculate at least once per quarter depending on your size. Also, focus on the Short Term Turnover (Admin Personnel Departed hired in last twelve months divided by the Admin Personnel hired in last twelve months). If this result is high, you could have more than a financial issue, it could point to a culture issue (which can have dramatic long term consequences).

Now that you have calculated these important measures, you need to consistently track in order to drive improvement. If you are attending this year’s addition of Workforce Builders (June 12-14 in Kansas City, Missouri), we will be running an interactive presentation/workshop on workforce benchmarking. Angela Splinter of TruckingHR will be joining us to provide her valuable insights and Best Practices based on her many years of studying the Trucking Industry’s HR trends and opportunities.

Next week, we will focus on the third key measure: Fixed Overhead – making sure you are properly segmenting your fixed expenses, and ways to improve on the final component of the Golden Ratio.