SHIPPING COST COMPARISON

AIR vs SEAFREIGHT

How to justify airfreight

Introduction
This article describes why and when airfreight should be used instead of seafreight for
distributing goods. The assumption is that a central manufacturing organization is used which
has the choice of sending goods via air or by sea to international distribution centers or
customers.

Sending by sea keeps transportation costs low but at the expense of high warehousing and
inventory carrying costs. Airshipments cause higher transportation costs but result in lower
warehousing and inventory carrying costs.

The basic objective is to meet the customer’s delivery requirements at lowest costs. The
decision, shipping by air or sea, involves a trade-off between reduced transit time by air
versus the higher cost to ship.

Logistics costs
Very often logistics decision were done which lead to sup-optimizing logistics costs, e.g.
reducing airfreight cost by a certain percentage. In a lot of cases if airfreight must be reduced
inventory costs at the receiving sites go up.

Normally the following cost elements are involved in transport decisions:

TotalCost = Transportation + Transit + PlantInv + WhseInv

ICDT ICQ IC ' Q
= RxD + + +
365 2 2
−−−−−−−−−
R = rate per unit
D = annual demand
I = annual carrying cost percent
C = product cost at plant
C ' = product cost at warehouse(C + R)

The variable ‘T’ in the above formula represents the transit time in days. For ease of
calculation only transportation and transit costs are considered. Bear in mind receiving using
air freight carry less inventory.

Value Density ( Value per Unit Weight )

The weight and cost of an item can justify centralized stocking with air shipments. The more
expensive an item is, the higher the inventory carrying costs will be.

If the total costs, transportation and transit, for air- and sea shipments will be compared, that
mode of transportation should be selected which results in lower total costs. Only considering
transportation costs is misleading. The inventory costs during transit must be considered as
well.

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As a decision variable the cost ( or price) of an item can be derived. To do the calculation we
need for each destination the freight cost by air and by sea and the corresponding
transportation times.

AirFreight − SeaFreight < SeaInv − AirInv

UnitCost × ICC × T_ Sea UnitCost × ICC × T_ Air
FreightDelta < −
365 365
b
FreightDelta < UnitCost × T_ Sea − T_ Air × g
ICC
365
365 × FreightDelta
UnitCost >
ICC × DaysDelta

With the above formula the unit cost ( or the price ) of an item becomes the decision variable
for air-freight.

Example
Let’s assume that for an item we need a decision to ship by air or sea. The inventory carrying
costs is 30%, the transit time by air two days and by sea eight days. For each destination
freight costs must be available per item and weight.

The table below calculates now the item price ( = unit cost ) at the break-even point. At this
point the freight increase equals the inventory saving. So each price higher results in lower
total cost justifying air-freight!.

SHIPPING DAYS Air: 2 Sea: 8 ICC: 30%

Weight Air-Freight Sea-Freight Break-Even Air vs Sea

Rate Inv Rate Inv Freight(+) Inv(-) Item-Price Unit
1 $11.50 $3.20 $1.91 $12.79 $9.59 -$9.59 $1,944.64 $1,944.64
2 $12.50 $3.38 $2.37 $13.51 $10.13 -$10.13 $2,054.14 $1,027.07
3 $13.50 $3.57 $2.78 $14.29 $10.72 -$10.72 $2,173.78 $724.59
4 $14.50 $3.77 $3.20 $15.07 $11.30 -$11.30 $2,291.39 $572.85
5 $15.50 $3.99 $3.54 $15.95 $11.96 -$11.96 $2,425.22 $485.04
6 $16.50 $4.21 $3.88 $16.83 $12.62 -$12.62 $2,559.06 $426.51
7 $17.50 $4.41 $4.28 $17.63 $13.22 -$13.22 $2,680.72 $382.96
8 $18.50 $4.60 $4.70 $18.40 $13.80 -$13.80 $2,798.33 $349.79
9 $19.50 $4.79 $5.12 $19.17 $14.38 -$14.38 $2,915.94 $323.99
10 $20.50 $4.99 $5.53 $19.96 $14.97 -$14.97 $3,035.58 $303.56

For example a 5 kg shipment whose average value is around $500 per kg should be shipped
by air. The break-even is $2,425.22. For this price the increase in freight cost is equal to the
transit inventory cost savings. Prices higher than the break-even price justify air freight!

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Proof of Formula
In the example given the break-even price for 5 kg was $2,425.22. A price of $2,000 must
then be shipped by sea because air transportation would be too expensive. On the other hand
items with a price greater than $2,425.22, the break-even price, should be shipped by air
because we achieve a
cost reduction.
AIR $2,000.00 $2,425.22 $3,000.00
The table compares
Freight $15.50 $15.50 $15.50
this scenario and it
Inventory $3.29 $3.99 $4.93
turns out that an item
Air-Total $18.79 $19.49 $20.43
with a value of $2,000
should be shipped by
SEA $2,000.00 $2,425.22 $3,000.00
sea and an item with a
Freight $3.54 $3.54 $3.54
value of $3,000 should
Inventory $13.15 $15.95 $19.73
be shipped by air.
Sea-Total $16.69 $19.49 $23.27

Cost-Delta $2.10 $0.00 ($2.84)

The picture below
shows the break-even price BEP and the possible savings for air-freight.

AIR
Freight

SEA AIR

more
expensive
+$2.10 BEP
neutral

-$2.84
cheaper

Unit
Cost
$2,000.00 $2,425.22 $3,000.00

Summary
It could be proven that the unit cost or price of an item within a certain weight class can and
should be used for decisions regarding air vis seafreight.