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Total Cost Analysis Total Cost Analysis
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Learning Objectives Learning Objectives
Understand the total cost concept
Appreciate how organizational structure and IT systems
help / hinder the application of total cost analysis
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Logistics Logistics Activities Drive Total Cost Activities Drive Total Cost
Place/Customer Service Levels Place/Customer Service Levels
Customer Service Customer Service
Parts & Service Support Parts & Service Support
Return Goods Handling Return Goods Handling
Transportation Costs Transportation Costs
Traffic & Traffic &
Transportation Transportation
Warehousing Costs Warehousing Costs
Warehousing & Storage Warehousing & Storage
Plant & Warehouse Plant & Warehouse
Site Selection Site Selection
Inventory Carrying Costs Inventory Carrying Costs
Inventory Management Inventory Management
Packaging Packaging
Reverse Logistics Reverse Logistics
Lot Quantity Costs Lot Quantity Costs
Material Handling Material Handling
Procurement Procurement
Order Processing & Information Costs Order Processing & Information Costs
Order processing Order processing
Logistics Communications Logistics Communications
Demand Forecasting/Planning Demand Forecasting/Planning
The cost trade-off associated with customer service is that of lost sales and
potential future sales
Transport costs, as we have already seen, vary with the weight, value and
volume of the items being shipped
Lot quantity costs include setup costs time, scrap & operating inefficiencies
plus the opportunity cost of lost capacity
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Logistics Trade Logistics Trade- -Off Decisions Off Decisions
LOW LOW
COSTS COSTS
Optimise Optimise
material material
costs, capital costs, capital
costs & costs &
overhead overhead
expenses expenses
HIGH SERVICE HIGH SERVICE
LEVELS LEVELS
Optimise Optimise
reponse reponse
toward toward
production & production &
markets markets
QUALITY QUALITY
ASSURANCE ASSURANCE
Maintain & Maintain &
improve improve
quality of quality of
material material
LOW LEVEL LOW LEVEL
OF TIED OF TIED- -UP UP
CAPITAL CAPITAL
Optimise Optimise
capital capital
tied tied- -up in up in
inventories inventories
SUPPORT SUPPORT
OTHER OTHER
FUNCTIONS FUNCTIONS
Support sales, Support sales,
design & design &
development development
Objectives Objectives
Source: Yunus Kathawala & Heino H. Nano, Integrated Logistics Management: A Conceptual Approach, International Journal of Physical Distribution and Materials Management 19, no. 8, p. 10
In every logistics activity we must make trade-off choices that reflect our
understanding of our markets.
In purchasing, inventory transportation and warehousing we are determining
the balance required to meet the marketing needs of the right product or
service in the right place at the right time at a price the consumer is willing to
pay.
If we buy too large a quantity of a product because the unit price is low, what
is the trade-off cost of holding greater levels of inventory; if we buy in
accordance with customer demand, what are the chances of a surge in
demand that will cause out-of-stock and therefore lost sale situations?
Materials flow is about providing customer service at every point within the
supply chain not only to the final, end-user customers but to internal
customers. There are five key objectives often we find that these are in
conflict with each other and we need to make trade-off choices.
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Controlling Logistics Activities Controlling Logistics Activities
Control over
logistics
can be
accomplished
by:
Activity
Based
Costing
Statistical
Process
Control
Productivity
Standards
Budgets
Standard
Costs
You cannot manage what you cannot measure therefore the old style of
cost reporting is inadequate for managing the logistics and supply chain task.
The challenge is less to create new data but to tailor the existing data in the
accounting system to meet the requirements of the logistics function. These
are the core elements that enable the control of logistics activities through
understanding and application of cost data.
Standard cost involves determining a benchmark or norm for measuring
performance and managing exceptions to that standard
Budgets can be developed using standard costs but also to control capital
expenditures, and for non-activity related costs
The use of productivity standards is similar to standard cost control
exceptions to the benchmark standard can be managed on a case-by-case
basis
Statistical process control is primarily used in the manufacturing process and
requires an understanding of the variability of the process itself prior to
making any management decisions
Activity Based Costing examines the demands made by particular products
or customers on indirect resources
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Shareholder
Value
Invested
Capital
Revenue Costs Working
Capital
Fixed
Capital
Profitability
Greater Customer
Service
Greater Product
Availability
Lower Cost of Goods
Sold
(transportation,
warehousing,
materials handling,
distribution,
management costs)
Lower raw
materials &
finished goods
inventory
Shorter order to
cash cycles
Fewer physical
assets
(trucks,
warehouses,
materials handing
equipment)
Competitive Advantage of Integrated Cost Competitive Advantage of Integrated Cost
Management & Total Cost Analysis Management & Total Cost Analysis
The impact of integrated cost management and total cost analysis has
considerable potential to provide the following sources of competitive
advantage:
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Overhead
Pool
Supervision Supplies Utilities Office
Support
Equipment
Product
Division A
Product
Division D
Product
Division C
Product
Division B
Typical Full Costing Model Typical Full Costing Model
Accounting systems are designed to report the aggregate effects of a firms
operation to its shareholders, creditors and government
They provide a historical record of the companys operations. All of the
firms costs are allocated to various business segments but on average
rather than reflecting the actual cost of the business service to that segment
Accounting systems typically record marketing and logistics costs in
aggregated accounts and seldom attempt to attach the costs to functional
responsibilities and to individual products and customers
Profitability reports do not show a segments contribution to profitability but
include fixed costs, joint product or service costs and corporate overhead
costs
In many standard cost systems fixed costs are often treated the same as
variable costs, masking the true behaviour of fixed costs
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Supervision
Product
Division A
Product
Division D
Product
Division C
Product
Division B
Receiving
Supplies Utilities Office
Support
Equipment
Put-Away Set-Ups Packing Shipping
Activity Based Costing (ABC) Model Activity Based Costing (ABC) Model
This slide demonstrates how activity based costing may be used to apportion
activity costs in a warehouse
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Narvik
Hammersley
Rotterdam
Bremen
Total Cost Analysis
Consider two options facing a Bremen steelworks:
Scenario 1
1,400,000 tonnes of iron ore is bought each year from a company in the
Hammersley region of Western Australia at a low price per tonne
(US$23.12/tonne) or US$32.4 million per annum.
The ore is shipped from Hammersley to Rotterdam, Holland in large bulk
carriers seven shipments are required each year, each shipment taking 45
days including loading and unloading. The cost per day for the bulk carrier
is US$39,252 or US$12.4 million per annum.
Once in Rotterdam the iron ore is transferred to trains for the final journey
to the steelworks in Bremen, Germany. This is necessary as Bremens port
cannot accommodate large bulk carriers. This takes a further six days and
costs US$5.8 million per annum.
Due to the infrequent receipt of iron ore shipments from Hammersley the
Bremen steelworks maintains a maximum inventory holding capacity for
300,000 tonnes of iron ore. This costs a further US$1.56 million per annum.
Scenario 2
1,400,000 tonnes of iron ore is bought each year from a company in
central Sweden. Because the mine is underground costs associated are high
and the cost of this iron ore is US$28.39/tonne) or US$41 million per
annum.
The ore is shipped by slurry pipeline from Malmberget to the port at
Narvik, Norway where it is loaded on small bulk carriers that take three days
to reach Bremen. 48 shipments are required each year. The total cost per
annum for the pipeline and small bulk carrier is US$4.9 million per annum.
Due to the frequent receipt of iron ore shipments from Narvik the Bremen
steelworks maintains a maximum inventory holding capacity of only 45,000
tonnes of iron ore. This costs US$234K per annum.
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Suggested Reading / Research Suggested Reading / Research
www.clm1.org
http://www.optimizemag.com/issue/001/strategies.htm
Journal of Supply Chain Management
http://www.ism.ws/Pubs - various articles

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