Transportation Accounting: How Understanding Transportation and Freight Costs Leads to Strategic Thinking and More Profitable Business
This post is the start of our freight and transportation accounting series. We will first talk about the importance of transportation accounting and what are the key practices or services around freight and transportation accounting. After defining the key practices, we will go further in depth on subjects such as: when you should record freight costs for proper accounting, freight payment benefits, what is included in a freight invoice and what costs in total you should expect to incur, the value of freight invoice consolidation, recap an earlier blog post with some added statistics on the importance of freight invoice auditing, and then finally cover some of the reports you could run through your transportation management system to get the data you need to show to your c-suite or finance department that will aid in budgeting and financial transportation decision making.
This series is perfect for those who want a better understanding of how to drive more value out of your transportation department by better understanding the key areas of one of the most important aspects of any business that ships freight: the money involved and resources needed to effectively manage transportation and freight.
Freight and Transportation Spend as a Percentage of Sales Continues to Increase, Cementing Importance of Freight and Transportation Accounting Knowledge
As you grow, so should freight costs. However, it's important to review your pattern of freight spend in relation to sales so that you may set a benchmark. Above average increases in freight costs could indicate your expenses are cutting into your bottom line. This is why it is vital to understand, master, or outsource managed transportation services, such as freight and transportation accounting. When your freight spend becomes a significant percentage of your total revenue, it starts to have a negative impact. To put it in perspective, if you average $1 million in annual sales, imagine the impact paying or saving an additional $10,000 a year in transportation could have on your bottom line?
Typically, according to the 22nd Annual "Masters of Logistics" study, results confirm that transportation costs increased at a brisk rate from the previous year. Companies who spent more than 5 percent of sales on domestic transportation grew from 26.8 percent to 30.9 percent from 2012 to 2013. While this shift was noteworthy, the largest swing occurred for those companies that previously had been spending 1 percent to 2 percent of sales on transportation and are now spending 2 percent to 3 percent, representing a 26.3 percent increase in the companies in this spending category—a difference that can translate into millions of dollars.
As a logistics or transportation manager who must interface with your accounting or finance department, controller, CFO, or even the owner in the business where you manage freight, the more you know about freight and transportation accounting, the more likely you are to internally collaborate or work with a logistics service provider to more strategically drive out costs and run an efficient transportation department.
The Key Components of Practices around Freight and Transportation Accounting
There are 6 key components when it comes to understanding freight and transportation accounting. We will define each fairly quickly here, but know we will do a deep dive into each subject.
- Freight Quote and Freight Cost: Of course before you can account for anything, you have to receive a freight quote from a carrier directly or through the rates served up in your transportation management system. You can at this point consider if the least cost carrier is the best choice or if another carrier with faster transit time is the best choice. Then, once you book the load and decide the carrier, on the bill-of-lading you will see the freight costs. There are several ways to lower freight costs (even beyond the rate), so view our two part series on how to reduce freight costs with part 1 here and part 2 here.
- Freight Invoice: A bill rendered by a carrier to a consignee of freight and containing an identifying description of the freight, the name of the shipper, the point of origin of the shipment, its weight, and the amount of charges. Freight bills or freight invoices are different from bills of lading in that they do not serve as a key piece of “evidence” in any dispute. While freight bills should match up closely to their bills of lading counterparts, they can also include additional charges (such as accessorials), information, or stipulations that serve to clarify the information on the bill of lading document.
- Freight and Transportation Invoice Auditing: Once freight invoices are entered into your accounting system, they are audited for accuracy. Auditors verify the bills’ validity, mileage, duplicate payments, accessorial charges, and use of correct tariffs. After auditing, the charges are coded and reconciled, and the bills are paid.
- Freight Payment: Freight payment is a collection of processes that can be thought of in general terms as an accounts payable service for transportation invoices.
- Freight Invoice Consolidation: Freight Invoice Consolidation is vital to your company’s bottom line when you ship freight LTL, TL, or small package. Think of all the freight invoices your company pays in any given week. Imagine being able to receive one consolidated freight invoice per week instead of dozens or hundreds. A logistics service provider can assist in cutting down the amount of paperwork by providing a weekly consolidated invoice. Because they are doing the freight payment, they take all your carriers freight invoices, pay them for you, and send you just the one with all the details. Often, these are also accessible electronically through the providers transportation management system.
- Understanding Freight or Transportation-In & Freight or Transportation-Out: Freight-in, also called transportation-in, as it pertains to freight and transportation accounting, is the shipping cost to be paid by the buyer of merchandise purchased when the terms are FOB shipping point. Freight-in is considered to be part of the cost of the merchandise and should be included in inventory if the merchandise has not been sold. Freight-out is the delivery expense to be paid by the seller when its merchandise is sold with terms of FOB destination. This is an operating expense and is not included in the cost of merchandise.
Transportation-in or freight-in costs are part of the cost of goods purchased. The cost of goods (or any asset) includes all costs necessary to get an asset in place and ready for use. Transportation-in costs are allocated to the products purchased and will "cling" to the products. Those products in inventory (items not yet sold) will include their share of the transportation-in costs (as part of the inventory cost). The products that have been sold, will include their share of the transportation-in costs (as part of the cost of goods sold).
Transportation-out or freight-out costs are not product costs and are not inventoriable. Transportation-out costs are costs of selling the products and will appear as a selling expense (perhaps as Delivery Expense) in the period in which they occur.
The Impact of Proper Freight and Transportation Accounting on Corporate Profitability
Surely the days of viewing freight and logistics costs as a fixed cost are behind us right? Key corporate decision makers who are tasked with the measurement and management of all line item expenses and transportation accounting surely understand the impact of and cost reduction opportunities represented by freight savings and transportation related expenses, don't they?
Believe it or not, even in the wake of the last recession that rocked a lot of shippers and as the sector and the economy recovers, most companies miss the boat completely on the critical area of effective freight and transportation accounting for improving corporate profitability. Many key financial players at the "C" and "V" level assume their companies are doing all they can to directly reduce and control costs associated with delivering their product to market and sourcing and delivering materials used in manufacturing their products. Having asked, "so what do you spend per year on transportation services?" countless times of the person or persons within a company who is/are charged with buying transportation services, the usual answer is " I don't know". The old, but spot on adage in our business is, "if you're not measuring it, you're not managing it". The best way to measure it is through understanding the practices, services, and elements around freight and transportation accounting. In knowing this info, or outsourcing to a turn-key transportation management company, a shipper can allocate costs down to the SKU level and provide a wealth of data useful in managing costs and insuring proper pricing strategies for your product and business.
By adopting a ‘Best in Class' logistics management approach, freight and transportation related costs as a percentage of sales can decrease over time and put valuable resources (time and money) back to your bottom line so you remain more profitable. As the economy is slowly recovering, now is the time more than ever to achieve this "best in class" status. For a company with sales of $10,000,000, that's a contribution to corporate profitability of $500,000 to $700,000. How many widgets do you have to sell to net that kind of return? Maybe it's time your company adopted a ‘Best in Class' management approach to your transportation and logistics costs with proper execution of freight and transportation accounting. If you need help in these areas, set up a consultation with one of our expert freight and transportation account executives today.