The most misunderstood calculation I find among motor carriers is “break-even revenue,” a point where revenue covers expenses and that’s it— you don’t lose any money but you don’t make any money either.
Not understanding break-even revenue and how it reacts to changes in costs has put many carriers out of business. It also keeps many carriers wallowing around in mediocrity.
Break-even revenue is driven by variable cost. Let’s look at a month’s worth of data from a less-than-truckload carrier to see how this works.
In this example, the fleet’s total revenue is $3,376,676. Total expenses are $3,316,688 and are separated into variable and fixed/semi-fixed costs.
What is the break-even revenue for this month? If you said total expenses of $3,316,688, you are incorrect and that’s what gets many companies in trouble.
The number that determines break-even revenue is contribution margin percent.
Let’s get some definitions out of the way before we go any further.
- Variable cost is the expense to operate fleet assets.
- Contribution dollars is revenue minus variable cost. It is the money left over after covering variable cost to cover fixed and semi-fixed costs.
- Contribution margin percent is contribution dollars divided by revenue.
- Variable cost as a percent of revenue is variable cost divided by revenue.
Here is an example using the same data as above, broken out further to show the percentages we will be using to further our discussion:
In this chart, variable cost as a percent of revenue is 67.3% and contribution margin percent is 32.7%. Notice if you add those two numbers together we get 100%.
What this means is that 67.3 cents of every revenue dollar that comes into the company is consumed by variable cost. That leaves us 32.7 cents of every revenue dollar left to cover fixed and semi-fixed costs.
As you can also see, fixed and semi-fixed cost as a percentage of revenue is 30.95%. Since our contribution margin is 32.7%, the company had an operating ratio of 98.23 = (32.7 – 30.95)*100, and posted a profit this month of 1.77 cents of each revenue dollar.
What is the break-even revenue of the company above?
You must understand that 67.3 cents of each revenue dollar is consumed by variable cost. That means we only have 32.7 cents of each revenue dollar left over to cover fixed and semi-fixed costs. Our fixed and semi-fixed cost is $1,045,012.
To determine how many revenue dollars we need to cover $1,045,102 we must divide our fixed and semi-fixed cost by the 32.7 cents of revenue we have left after covering variable cost.
$1,045,012 / .327 = $2,809,172 revenue dollars to break-even. It makes sense because the company was actually profitable, so the break-even revenue dollars would be less than the actual revenue of $3,376,451.
Now, let’s calculate the percent of break-even. To do that we simply take actual revenue and divide that by the break-even revenue: $3,376,451 / $2,809,172 *100 = 120.2%. This means that for the month the company was 20.2% above break-even.
I like to look at numbers on a per-day basis to take out the impact of different workdays per month. This particular month had 21 workdays, so the actual revenue per day was $160,783. Break-even revenue per day is $133,770 and the difference is $27,013 per day.
I know that the fleet handled 28,445 shipments this month and based on 21 workdays averaged 1,354 shipments per day. Our revenue per shipment is $118.70 ($3,376,676 / 28,445), and therefore our break-even shipments for the month is 23,666 ($2,809,172 / $118.70). If I take the 23,666, I find my break-even shipments per day is 1,127 (23,666 shipments / 21 days).
I now know that I am $27,013 a day above break-even and 227 shipments a day above break-even. This means more to me as a leader. I can relate to that.
If an LTL carrier is in a loss position, meaning their percent of break-even is less than 100%, my experience shows that a cost fix will turn the carrier around if they are running at 75% or higher. Working on operating efficiencies and fixed and semi-fixed cost reductions will get the carrier whole.
If the company is 63% to 75% of break-even, a combination of cost cutting and revenue improvement will get the company turned around.
Below 63% and you’re in a revenue/sales fix. At that point, you can’t take enough cost out to get to break-even and if you did you would kill the company. You do not want to get in the position of a revenue/sales fix because you burn through cash, and it takes a long time.
By this point the balance sheet is totally underwater and unless you have a sugar daddy, you’ll simply run out of cash and resources that could provide the company enough cash to get through the stages of a turnaround.
In summary, the key number for a carrier is variable cost as percent of revenue. This number is what drives profitability. A one percent increase in variable cost will increase break-even revenue by at least 5 to 7 percent. Not understanding this principle has caused carriers to chase increasing cost with more revenue. Never works, never will.
Be sure you calculate, understand and trend the break-even point of your company. The earlier you detect a negative trend, the easier it is to arrest it and turn it around.
Robert Sullivan is the CEO of Transportation Profitability Group, which provides a costing and operations productivity software package and profit improvement consulting services for the carrier industry.