Freight-In

Freight-In (also known as 'Transportation-In') is the shipping and handling cost a company pays to get the goods it has purchased from a supplier to its own warehouse or store. Think of it as the delivery fee for your business's shopping. Unlike the shipping fee you might pay for a personal online order, which is just a one-off expense, freight-in is special in the world of accounting. It’s not immediately treated as an expense. Instead, this cost is added directly to the value of the purchased goods, becoming a part of the total Inventory cost. This means the cost of freight-in sits quietly on the Balance Sheet as part of the inventory asset until the goods are actually sold. Only then does it move to the Income Statement as part of the Cost of Goods Sold (COGS), directly affecting the company's profitability. It's a small detail that tells a big story about a company's efficiency and cost control.

In accounting, costs follow the items they relate to. Since freight-in is a necessary cost to acquire inventory, it's “capitalized”—meaning it's added to the asset's value on the balance sheet rather than being immediately expensed. Imagine a furniture company buys 100 chairs for €10,000. The shipping cost from the manufacturer to the company's warehouse is an additional €500.

• Cost of Inventory: The total cost of the inventory is not just €10,000. It's €10,000 + €500 = €10,500.
• Cost per Chair: The cost per chair is now €105 (€10,500 / 100 chairs), not €100.

This total cost remains part of the inventory asset until a chair is sold. When a chair is sold, €105 is moved from inventory (on the balance sheet) to the Cost of Goods Sold (on the income statement).

It's crucial not to confuse freight-in with its opposite, Freight-Out. Freight-out is the cost a company pays to ship goods to its customers. This is considered a selling expense (part of Sales, General & Administrative expenses, or SG&A) and is expensed in the period it occurs, as it's a cost of making a sale, not a cost of acquiring an asset.

For a value investor, seemingly minor details like freight-in can be a treasure trove of information about a company's management, competitive position, and profitability.

A company with a well-managed supply chain can keep its freight-in costs low. If you see freight-in costs rising as a percentage of revenue or COGS over several years, it could be a red flag. It might signal:

• Inefficient logistics or poor route planning.
• Unfavorable shipping contracts.
• An over-reliance on distant suppliers, making the company vulnerable to rising fuel prices or shipping disruptions.

Shipping terms, such as FOB (Free On Board), dictate who pays for shipping and when ownership of the goods transfers.

• FOB Shipping Point: The buyer (our company) pays the freight-in costs and takes ownership as soon as the goods leave the supplier's dock.
• FOB Destination: The supplier pays the shipping costs, and the buyer only takes ownership when the goods arrive.

A company with strong bargaining power can often negotiate for “FOB Destination” terms, pushing the shipping costs onto the supplier and simplifying its own accounting. Analyzing these terms can reveal how much clout the company has with its partners.

Since freight-in is a component of COGS, it directly eats into a company's gross margin. Gross Margin = (Revenue - COGS) / Revenue Two companies could sell the exact same product for the same price, but the one with lower freight-in costs will have a higher gross margin and, ultimately, be more profitable. A stable or decreasing freight-in cost demonstrates a company's ability to protect its margins, a hallmark of a well-run business.

Let's follow the €500 freight-in cost for our furniture company.

1. Quarter 1: The company buys the 100 chairs for €10,000 and pays €500 in freight. Its inventory account increases by €10,500. No sales are made. The income statement is unaffected.
2. Quarter 2: The company sells 60 of the chairs.
   • COGS Calculation: 60 chairs x €105/chair = €6,300.
   • This €6,300 now appears as COGS on the income statement for Q2.
   • The inventory account on the balance sheet is reduced by €6,300, leaving a balance of €4,200 (for the remaining 40 chairs).

The €500 shipping cost was systematically allocated to the goods and only recognized as an expense when those goods generated revenue.

• Freight-in is the cost of shipping goods from a supplier and is part of the inventory's total cost.
• It directly impacts the Cost of Goods Sold and, therefore, the gross margin. It is not an operating expense like freight-out.
• Analyzing trends in freight-in costs can provide valuable insights into a company's operational efficiency, management skill, and supplier relationships.
• A company that effectively controls its freight-in costs is often a more resilient and profitable investment.