Total Cost Analysis

Total cost analysis is a decision-making approach that considers the minimization of total costs and recognizes the inter-relationship among system variables, such as:

transportation,
warehousing,
inventory,
customer service.

What is the purpose of Total Cost Analysis?

Total cost analysis aims to optimize resources across all aspects of logistics management so as to minimize overall costs while making sure that the quality of services provided meets or exceeds customers’ expectations. Essentially, it involves identifying all possible combinations of inputs (e.g., modes of transport) and outputs (e.g., levels of inventory) used in a logistical system, assessing their associated costs under different scenarios (e.g., different time horizons), choosing between them based on economic efficiency criteria like economic order quantity or net present value, and implementing the chosen solution.

Because total cost analysis is a holistic approach to decision-making in logistics, it relies heavily on various types of logistical data and involves different stakeholders, including:

logistics managers,
suppliers,
customers,
and government regulators.

Some key challenges in applying total cost analysis to logistical systems include identifying all possible options for inputs and outputs, calculating the associated costs of each option accurately, prioritizing between competing solutions from an economic perspective (e.g., weighing trade-offs between the marginal benefits gained by reducing transportation costs vs. inventory carrying costs), and communicating results effectively to stakeholders.

Despite these challenges, total cost analysis has been shown to be highly effective at optimizing logistical resource allocation and improving overall efficiency in many settings. Indeed, some prominent organizations – such as Walmart, FedEx, and UPS – have all used total cost analysis to achieve a competitive edge in their respective industries.

It is a tool that logistics managers can use

Total cost analysis is just one tool that logistics managers can use to make decisions; other common approaches include make-or-buy analysis, ABC analysis, and activity-based costing.

Advantages and disadvantages

However, total cost analysis has several advantages over these alternatives:

First, it is better suited than most other methods for handling complex systems with multiple interacting variables (e.g., transportation, warehousing, inventory).
Second, total cost analysis is not limited to any particular stage of the production process (unlike make-or-buy analysis) or product life cycle (unlike ABC analysis); rather, it can be applied across the entire supply chain.
Finally, total cost analysis is more comprehensive than activity-based costing in that it includes all relevant costs (e.g., opportunity cost) associated with different options, not just direct costs.

Despite its advantages, total cost analysis is not without its limitations:

First, the approach can be quite data-intensive and time-consuming to implement, especially in large and complex systems.
Second, total cost analysis does not always produce clear-cut results; rather, it often requires human judgment to interpret and make decisions based on the results of the analysis.
Finally, total cost analysis is subject to the same general limitations as other decision-making tools, such as the availability of accurate and up-to-date data, the objectives and preferences of stakeholders, and the availability of resources to implement any given solution.

Nevertheless, with careful planning and execution, a total cost analysis can be a powerful way for logistics managers to make decisions that help their organizations achieve greater efficiency while optimizing customer satisfaction.

Conclusion

Overall, total cost analysis is an effective method for managing complex logistical systems by considering all inputs, outputs, and costs in relation to one another. By identifying the most efficient allocation of resources, it helps logistics managers optimize overall performance across transportation modes, warehousing options, inventory levels, and other key system components.