Transportation Costs and Pricing Transportation Costs FOB vs Delivered Pricing Value of Service/Differential Pricing Optimal Pricing Factors that Affect Rates Weight Breaks Rate Negotiation

Transportation Costs and Pricing Types of Costs Fixed Costs Variable Costs Common Costs Joint Costs Sources of Costs The Way Terminals Vehicles Transportation Costs

Transportation Costs and Pricing Free on Board FOB Origin (Buyer Owns Goods in Transit) FOB Destination (Seller Owns Goods in Transit) Prepaid vs Collect/Allowed vs Charged Back Delivered Pricing Seller Retains Ownership in Transit Seller Arranges Transportation Seller Files Freight Claims Average Transportation Market Expansion Phantom Freight Freight Absorption FOB vs Delivered Pricing

Transportation Costs and Pricing. C1C1 C2C2 Delivered Price to all = $13/cwt FOB vs Delivered Pricing FOB Plant= $10/cwt Rate to C 2 = $4/cwt Rate to C 1 = $2/cwt C 1 pays more than fob C 2 is subsidized

Transportation Costs and Pricing FOB Destination, Freight Allowed: Buyer is allowed to deduct the freight charges from the invoice. FOB Origin, Charged Back: Seller is allowed to add freight charges to the invoice. FOB Destination, Collect and Allowed: Buyer pays freight but deducts it from the invoice. FOB Origin, Prepaid and Charged Back: Seller pays the fright but adds it to the invoice. Forms of FOB Pricing

Transportation Costs and Pricing What is it? Why Use it? High Fixed Costs Excess Capacity Opportunity Competition When is it Profitable? When Above Full Cost When Below Full Cost If: Above Variable Cost Excess Capacity Elastic Demand Value of Service/Differential Pricing

Transportation Costs and Pricing Unwise Truck Lines The Unwise Truck Lines Company operates five pieces of equipment daily over five routes with end points in common. The company just hired a new comptroller who is studying the profitability in order to determine which, if any, of the routes are not covering full costs, and, thus, not contributing to profits. He found that each route incurred $500 per day in variable operating expenses and earned the following revenue per day: Route 1 = $1,440; Route 2 = 1,220; Route 3 = 960; Route 4 = 800; Route 5 = 640. The new comptroller has stated that any route showing a loss after variable costs and a prorated share of overhead will be eliminated. Presently, the daily overhead is $1,500, or $300 per route. If any run is eliminated, overhead will decline by $50. Equipment will be sold to payoff any outstanding debt.

Transportation Costs and Pricing Should any routes be eliminated? RevenueVariable Over- Routeper RunCost/RunGrosshead Net 11,440(500) 940 (300) ,120(500) 620 (300) (500) 460 (300) (500) 300 (300) (500) 140 (300)(160.00)

Transportation Costs and Pricing Eliminate Route 5 RevenueVariable Over- Routeper RunCost/RunGrosshead Net 11,440(500) 940 (362.50) ,120(500) 620 (362.50) (500) 460 (362.50) (500) 300 (362.50) (62.50)

Transportation Costs and Pricing Eliminate Route 4 RevenueVariable Over- Routeper RunCost/RunGrosshead Net 11,440(500) 940 (466.67) ,120(500) 620 (466.67) (500) 460 (466.67) (6.67)

Transportation Costs and Pricing Eliminate Route 3 RevenueVariable Over- Routeper RunCost/RunGrosshead Net 11,440(500) 940 (675.00) ,120(500) 620 (675.00) (55.00) Eliminate Route 2 RevenueVariable Over- Routeper RunCost/RunGrosshead Net 11,440(500) 940 (1,300)(360.00) Eliminate Route 1

Transportation Costs and Pricing Price Elasticity of Demand Elasticity = Response in Quantity Sold to a Change in Price Q% P% E = Q% P% Q% P% = 1 = Unitary Elasticity > 1 = Elastic < 1 = Inelastic

Transportation Costs and Pricing Elastic Inelastic Unitary P Q Price Elasticity of Demand

Transportation Costs and Pricing Price Elasticity of Demand Changing Prices Increase price in an elastic market and decrease revenue Decrease in price in an elastic market and increase revenue Increase in price in an inelastic market and increase revenue Decrease in price in an inelastic market and decrease revenue

Transportation Costs and Pricing Optimal Pricing Maximize Profit Where: Marginal Cost Equals Marginal Revenue Which Financial Statement has Marginal Cost? Which Financial Statement has Marginal Revenue?

Transportation Costs and Pricing Optimal Pricing Maximizing Revenue Optimal Pricing Revenue Curve Price * $ Zero Price, Large Q, 0* = 0 High Price, Zero Q, P*0 = 0 8 Inelastic RangeElastic Range

Transportation Costs and Pricing Profit = Revenue - Cost (  = R - C) Revenue = Price * Quantity (R = P * Q) Cost = Fixed Cost + Variable Cost * Q (C = F + VQ) Quantity = a + bP (Q = a + bP) (  = R - C) (R = P * Q) (C = F + VQ) (Q = a + bP) Optimal Pricing

Transportation Costs and Pricing Y X Y = a + bX a b (Slope) Intercept General Form of a Straight Line Optimal Pricing

Transportation Costs and Pricing Q P Q = a + bP a b (Slope) Intercept Optimal Pricing General Form of a Straight Line (Quantity Sold is Dependent upon Price)

Transportation Costs and Pricing Optimal Pricing Q = a + bP However, the slope (b) is probably negative, but that must be determined) General Form of a Straight Line (Quantity Sold is Dependent upon Price)

Transportation Costs and Pricing  = [PQ - (F + VQ)] Q = a + bP  = [P(a + bP) - (F + V(a + bP))]  = [aP + bP 2 - (F + aV + bVP)]  = aP + bP 2 - F - aV - bVP To maximize Profit, set 1 st derivative = zero, solve for P Optimal Pricing

Transportation Costs and Pricing  = aP + bP 2 - F - aV - bVP First Derivative =  ' = [aP + bP 2 - F - aV - bVP] To maximize Profit, set 1 st derivative = zero, solve for P  ' = a + 2bP - bV = 0 2bP = -a + bV -a V + 2b2 P* = Optimal Pricing

Transportation Costs and Pricing Price Slope Positive Slope Negative Slope = Zero * Profit = aP + bP 2 - F - aV - bVP Optimal Pricing $ Profit Curve

Transportation Costs and Pricing Cost Related Commodity Factors Route Factors Demand Related Commodity Factors Route Factors Factors that Affect Rates

Transportation Costs and Pricing Commodity Factors Loading Characteristics Susceptibility to Loss and Damage Volume of Traffic Regularity of Movement Equipment Requirements Route Factors Distance Operating Conditions Traffic Density Backhaul Factors that Affect Rates Cost Related

Transportation Costs and Pricing Commodity Factors Value of Commodity Economic Conditions of User Industry Competing Rates Route Factors Competition with Other Carriers Competition in Shipper Industry Competition in Receiver Industry Traffic Density Factors that Affect Rates Demand Related

Transportation Costs and Pricing Weight Breaks A point of indifference between a given rate and a rate charged for a larger volume TL LTL Volume $

Transportation Costs and Pricing TL * MW = LTL * X Example: TL = $8.00/cwt MW = 40,000 LTL = $ *400 = 20* X 3200/20 = X X = 160 or 16,000 lbs If shipment is less than 16,000 lbs, ship LTL If shipment is over 16,000 lbs, ship TL as full TL (40,000lbs) Weight Breaks

Transportation Costs and Pricing New Business Threat of Loss of Old Business Rule of Analogy (Protests) Bases of Power Reward Coercive Legitimate Referent Expert Know the Cost of Your Next Best Alternative Rate Negotiation

Transportation Costs and Pricing Determining Prices LTL vs TL Tapering Rates Class Rates Tariff Example