What Is Landed Cost? Its Importance and How to Calculate It?
Are your business operations running smoothly, but you still can’t achieve your profit goals? Or is your budgeting way off the mark each month? You might want to pay closer attention to the flow of your finances and the costs you may not be tracking correctly.
Business expenses are complex, and keeping a close eye on them is important to continue generating healthy revenue and setting yourself up for success. An element you may be taking for granted is the overall landed cost. Errors in calculating it are a surefire way to set your business up for failure.
Keep reading to get a complete rundown of all things related to landed cost, the different ways it can benefit you, and how you should go about calculating it.
What Is Landed Cost?
Landed cost refers to the expenses incurred by a business from the acquisition of a product to its final delivery. These can include shipping, import duties, shipping insurance, raw materials, handling charges, and many more.
When calculated right, your landed cost should tell you the total investment needed for every product unit you sell. This can help you develop the most profitable pricing model possible for all items in your inventory. It is also a critical calculation that can help you adjust some of your operations to generate maximum profits while pricing competitively.
Components of Landed Cost
The landed cost for each item typically covers a wide range of expenses. These expenses can change depending on your operations and the nature of your business.
Most companies should be able to classify their expenses into one of the following components:
Product costs include money spent to acquire products from a manufacturer, the price of raw materials to create them, manufacturing overhead, labor expenses, etc.
Shipping costs include all the expenses incurred when transporting the product, starting from acquisition to final delivery to the customer. It can consist of freight, transportation fees, handling charges, etc.
Customs Fees and Import Duties
This category of costs includes import-export fees, duties, tariffs, harbor fees, brokerage, and more such customs-related fees.
Risk Coverage Costs
Risk coverage includes expenses incurred for insurance, quality assurance, and compliance.
Under overhead costs, you can include expenses for carrying costs, payment processing fees, salaries and wages, exchange rates, and more.
Importance of Calculating Landed Cost for Businesses
Calculating landed costs can help businesses in more ways than simply increasing their profitability.
Below, we list the biggest benefits and uses that businesses can make of their landed cost.
Product Pricing and Profitability
To generate profits, companies must accurately calculate their break-even points and price their items well above this. To make this calculation possible and reliable, it is first necessary to calculate the landed cost.
Furthermore, the more accurately the landed cost is calculated, the more businesses can benefit from their pricing. This ultimately ensures you can make the profits you intended to in your initial strategies.
Insights and Decision-Making
Calculating landed costs will help you better understand the gross margins for each product unit. Then, you can make better, more informed decisions regarding purchasing, shipping, and other expenses.
Landed cost will give you an insight into many aspects of your operations, such as the efficiency of your supply chain, storage efficacy, fulfillment and distribution, etc.
You can determine which products are worth the investment and risks, which expenses need to be reduced, whether you need to look for a better supplier, and more. It also allows your budgeting team to make quick decisions about where to invest more capital and how to optimize business operations for economies of scale.
Overall, landed cost will provide you with a realistic understanding of different elements of your operations. You can then account for all of your spending and present a detailed report of your finances to stakeholders and investors.
While these are the major benefits, you can also use landed cost for tasks like pre-costing or comparing differences for various product orders (based on volume, quantity, value, etc.).
The Landed Cost Formula
The formula for calculating landed cost is straightforward. You simply need to add up all expenses incurred from acquiring a product to its delivery.
You can also calculate the different components of costs involved in landed costs and then add them together.
Here’s the formula:
Landed cost per unit = product costs + shipping costs + risk coverage costs + customs duties + overhead costs
How Can a Business Calculate Landed Cost?
To calculate landed costs for your business, begin by gathering all your invoices and expense records to list down everything you spent to obtain and then sell a particular product.
Tally up all product and shipping costs and then make sure to include all the relevant expenses under tariffs, duties, taxes, insurance, overheads, etc.
Example of Landed Cost Calculation
Here is an example to help you understand how the calculation for landed cost for a unit item can look.
Let’s assume the total purchase cost of an item acquired from a manufacturer is $10 for each item. Now, if we further assume the business orders it in a quantity of four, the purchase cost will be $40. The shipping cost for the order of four items is $20, and the import duties are $10.
The landed cost for the order is as follows:
$40 + $20 + $10 = $70
And because there are four units in the single order, we can divide the total landing cost for the order by 4. That is:
$70 / 4 = $17.50
Therefore, $17.50 is the landed cost for each product unit.
Because the landed cost calculates all expenses to deliver an item to the customer, it is also your break-even price. This means that in the previous example, the actual pricing for each product should be above $17.50.
The amount businesses add to the break-even price depends on many more factors, such as competitor pricing, the cost of returns, current market demand, etc.
Another thing to note is that the above example is the simplest type of landed cost calculation. Expenses and final amounts will look very different depending on the nature of your business, whether you’re a manufacturer or a drop-shipping company.
With advanced software tools such as Nest Egg, the process of calculating landed cost will be much easier for businesses of any size. You can easily set up the system to accurately calculate data from purchase orders, item receipts, and vendor bills. This minimizes the manual work involved in separately tracking expenses for every product or order.
It is essential to list all the information relevant to landing cost components on every purchase order. You should include special discounts, free shipping offers, and other customer incentives. Complete information will make it easy to automate the data entry process and track all the changes in variables along with the resulting calculations for landed cost.
Landed Cost vs. Cost of Goods Sold (COGS)
Landed cost includes all expenses incurred from item acquisition to customer delivery.
In contrast, the cost of goods sold (COGS) only covers those associated with the production and purchase of goods. It only includes raw materials, manufacturing expenses, labor, and other such expenses. COGS often changes based on the business and operations. It can consist of the cost of sourcing raw materials, labor expenses, salaries to contractors, commissions to affiliates, etc.
This means COGS makes up part of the total landed cost.
While landed cost helps in overall decision-making, COGS provides deep insight into the production process.
Best Practices for Calculating Landed Cost
Unlike other business metrics and calculations, landed cost doesn’t have a benchmark against which you can set it.
However, there are some tips and tricks to help your business get the best out of your landed cost:
- Gather detailed information on all expenses incurred
- Identify and categorize expenses into categories, such as production, acquisition, shipping, duties, etc.
- Study different ways to lower your overall landed cost components
- Automate your landed cost calculations and records
The Difficulties in Calculating Landed Cost
The formula for landed cost is quite simple, but there are several challenges to overcome before you can successfully and accurately calculate it for all of your items. Some of them include:
- Accurately tracking and managing costs due to limited visibility into the supply chain
- The time required to gather data for calculating all expenses
- Fluctuations in costs due to supply chain disruptions and issues with suppliers
- Inefficient processes leading to higher expenses
- Currency fluctuations
- The difficulty of including and collecting the data on every single expense incurred
- Understanding what expenses to include
The more complex your supply chain, the more challenges you will face related to calculating landed costs. However, you can tackle them more confidently if you have some help from robust software systems.
These tools can streamline processes like cost comparison, data acquisition, data analysis, record maintenance, and more, to give you a better understanding of all of your expenses despite the above challenges.
Whether you are facing a lack of accurate data or you’re debating between different suppliers, a good inventory management solution can help you.
Calculating Landed Costs Accurately
Ultimately, landed cost helps you see the actual investment required to get a product from a manufacturer or supplier to your customer. It is a critical value that business managers must track to understand their operations better and optimize their supply chain to improve their bottom line.
Furthermore, calculating landed cost directly leads to improved financial transparency and operational efficiency in the long run. It suffices to say businesses need these numbers and must calculate them correctly and accurately.
With the increase in market competition, more businesses will employ new ways to optimize their operations and, thus, their pricing. And one of the things they’ll rely on most will be inventory management platforms.
From fewer risks and errors to improved tracking and automation, there’s a lot these platforms help out with. They will take out a considerable portion of guesswork, allowing you to better predict changes in landed cost and other calculations. Whether your analysis tells you to renegotiate contracts with suppliers or benefit from volume-based discounts, solutions like Nest Egg can surely help you gain a competitive edge in a tough market.
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