A Minimum Margin Threshold gives a carrier a disciplined way to decide which freight earns an acceptable return and how much capacity the profitable network can support.
The truckload market had fallen sharply from its peak, leaving carriers unsure how long margin pressure would continue. Regardless of the market cycle, KSMTA argues that carriers need practices that reduce the severity of those swings. Establishing and maintaining a Minimum Margin Threshold, or MMT, is one of them.
Establish a Minimum Margin Threshold To Optimize Profitability
Retirement planning offers a useful analogy. Time, available capital, risk tolerance, and future contributions determine the return required to reach a goal. If the required return demands too much risk, the investor must delay retirement or save more.
Trucking companies face the same arithmetic. Many owners operate businesses with high risk and historically low returns on capital. If they assessed that relationship pragmatically, some would choose to sell or liquidate.
KSMTA considers the MMT the number one KPI a trucking company should establish and measure. Trucking is capital intensive. The threshold must produce enough cash flow to maintain and replace equipment while keeping key people employed and engaged through every market cycle.
Setting the threshold is easier than maintaining it. Maintenance requires courage and fortitude.
Heartland Express and the Courage To Shrink
Heartland Express illustrates how a margin threshold can guide an organization. The company has been the most profitable large truckload carrier since its 1986 public offering, when it operated a fleet of 125 trucks. Its reputation rests on unusual operating and financial discipline.
Rather than treating truck count as the definition of success, Heartland has used margin requirements to guide network and capacity decisions. After acquiring Interstate Distributor Co., it reduced truck count to improve network density while expanding its footprint around franchise customers.
The company determined the scale required to sustain an acceptable margin and made the difficult decision to operate at that size. The lesson is that profitable growth may require shrinking.
The Path to Greater Profitability
Establishing an MMT requires both introspection and inspection. KSMTA outlines six steps.
1. Understand Your Costs
Some carriers respond to cost questions by creating an enormous general ledger; KSMTA has seen charts with more than 20,000 accounts. Others operate with fewer than 25. One extreme creates analysis paralysis, while the other encourages analysis avoidance.
The right level of detail varies, but the general ledger should separate the following categories.
Revenue
- Linehaul
- Accessorial revenue
- Fuel surcharge
Variable costs
- Driver compensation, including wages or salary, incentives, per diem, benefits, payroll taxes, and workers' compensation
- Owner-operator compensation or purchased transportation, including net settlements and incentives
- Fuel, including purchases, fuel taxes, DEF, and additives
- Tractor and trailer maintenance, including third-party repairs, labor, and overhead
- Insurance, including auto liability, excess liability, physical damage, cargo, deductibles, and self-insured accident damage
- Variable driving expenses such as scales, tolls, fines, and miscellaneous on-road costs
These variable costs are used to calculate gross margin: revenue minus variable expenses.
Fixed costs
- Truck depreciation, interest, and lease expense
- Trailer depreciation, interest, and lease expense
- Non-driver compensation, including wages, incentives, benefits, payroll taxes, and workers' compensation
- Fixed overhead such as facilities, telematics, software subscriptions, non-revenue equipment, office supplies, and driver screening
Gain or loss on equipment sales should not be included with truck or trailer fixed expense; it belongs in fixed overhead.
2. Build an Activity-Based Costing Model
Once costs are segmented, the carrier needs a method to assign variable expenses to the freight hauled. The model should support an objective comparison of customers, lanes, and individual loads and separate freight that contributes to the network from freight that erodes it.
The model also establishes baseline margins for OTR, one-way, and dedicated operations. Comparing those margins with the operating ratio helps show the relationship between gross margin and operating income.
The best allocation model depends on the carrier, but miles and transit time are common drivers. Refrigerated carriers may need different cost treatments for ambient, chilled, frozen, and deep-frozen freight. Trailer pools and local pickup-and-delivery expense may also matter.
3. Establish the Minimum Margin Threshold
The threshold should reflect the return required for the risk of the business. A starting point is to compare the carrier's current and historical return with risk-free Treasury bills and lower-risk blue-chip dividend stocks. If the carrier's operating income has not exceeded those alternatives, the MMT is too low.
The article identifies an operating ratio below 93 as top-quartile truckload performance. That equals at least 7% operating income.
After implementing activity-based costing, the carrier can compare gross margin with operating ratio. If the operating ratio is deficient, KSMTA suggests increasing the MMT on a two-to-one basis: every one percentage point of required OR improvement should produce at least a two-point increase in the margin threshold.
4. Measure Network Profitability
With the threshold established, the carrier can identify freight that erodes margin. Finding the bad apples is easier than simply trying to haul more “great freight.”
Loads must be grouped into common market areas so freight on the same lane can be compared across customers and against external market indexes. Once revenue, cost, and margin are visible by common lane, the low-hanging targets for action emerge quickly.
5. Define the Network
The carrier can then identify its profitable core using power and spider lanes. Count the loads in each lane over a defined period and divide the lanes into density quartiles.
The top 25% are power lanes. The bottom 25% are spider lanes.
KSMTA's core hypothesis is:
- Density builds efficiency.
- Efficiency builds velocity.
- Velocity builds profitability.
Low-density lanes consistently produce less margin. Spider lanes also tend to grow when the truckload market weakens: carriers open the borders of their core network to keep trucks moving, deadhead rises, and broker freight is needed to bring equipment back. The result is lower margin, profit, and cash flow.
6. Right-Size the Business
Using the MMT to right-size the company is difficult but necessary. Once loads, lanes, and customers below the threshold are identified, the miles associated with the remaining profitable freight provide a quick estimate of the trucks and drivers needed to serve it.
That estimate should lead to action. Excess unprofitable freight implies excess trucks, drivers, and often support personnel. The conversations are uncomfortable, but failing to act puts employees, stakeholders, and the community at greater risk.
Some freight removed from the asset network may still create margin through a logistics operation. A load that is unprofitable in one carrier's network can be profitable in another.
An MMT aligns the carrier's return with the significant risk of hauling freight and provides a repeatable basis for making hard decisions about freight, network scope, and company size.