8 Ways to Reduce Your Inventory Investment

Thursday, October 31, 2013 , Cost Reduction, by Rich Rafdahl

One of the most challenging aspects of procurement and supply chain management is inventory control.  In larger organizations these two responsibilities are often managed by separate staff.  The purchasing staff is responsible for costs, contracts, negotiations, supplier selection and evaluations, market knowledge, new products, new services and future trends.  The inventory management team is typically responsible for ensuring all products/services are available on time when needed with the minimal amount of investment and unnecessary risk. On the other hand in smaller companies, both these functions may reside with the same individual or team.  However your inventory management program is set up, it is often a very challenging responsibility – which some would say is similar to “herding cats”.

DSCN0055 Every organization has its’ own unique perspective on inventory management.  For example, the level of inventory that senior management is usually comfortable with is often dependant on any combination of the following:   The business culture, the organization’s financial health, cash flow, the industry’s competition and performance standards, the customers’ tolerance for backorders, supplier minimums, ability to leverage a supplier(s), the sales objectives and current level of profitability.   For example, if a company is highly profitable they may be inclined to invest in additional safety stock to maximize fill rates and service levels vs. a company that has cash flow limitations and each inventory dollar is scrutinized.  Obviously, the latter scenario is by far the more challenging.

The following are a number of ideas that could assist in reducing the inventory investment without compromising service levels and fill rates to your clients.

1. Negotiate More Favorable Payment Terms.  Typically, the primary issue with businesses who must carry sizeable inventory to service their business is the limitation of cash flow.  One way to address this, assuming you are in good favor with your suppliers, is to request extended terms.  For example, if your company is currently paying in net 15 or 30 days, ask for net 60 or longer.   There is no rule that says you cannot ask for extended terms.  If you have been using a particular supplier for numerous years, they will often accommodate such as request to ensure their position with you. Even if you are only able to secure net 45 terms you have now delayed the payment to your supplier by 15 or more days which may significantly help relieve the cash flow pressure.    The real issue is if your customers are demanding extended terms from your company then you must secure similar arrangements with your suppliers or there will always be a cash crunch which will inevitably impact the performance, service levels and profitablity of the business.

2. Negotiate Reduced Supplier Minimums:  Often buyers are obligated to abide by suppliers (dollar$ or volume$) minimums which can force a company to purchase more product than needed.  This can significantly increase unnecessary inventory.   If your company has a good industry reputation and has paid their bills timely, requesting reduced minimums is an excellent strategy.    Also, if you put the program out to bid, minimums and payment terms should be a key part of the discussion.

3. Consolidate Similar Suppliers:  Another way to reduce the impact of supplier minimums is to consolidate the number of similar products to fewer suppliers – where possible.  Having a larger spend with fewer suppliers will significantly reduce the number of supplier minimums issues. This approach will  also increase your leverage  and importance with the remaining suppliers- which may allow for further cost reductions and improved services and accommodations from the supplier.  In other words, a major win on a number of levels when achieved.

4. Consignment: Some suppliers will be open to a consignment program that will allow you to carry the inventory at your location, but payment is only required once the product has been used or shipped.   There are a number of versions of this but it is a great option since it allows you to have the product on-site for your immediate needs while benefiting your cash flow.  Many suppliers who are attempting to penetrate a new market or secure new customers are willing to offer consignment programs.

5. Customer Agreements:  Organizations who service large customers, are often required to carry specific inventory on behalf of these clients.  In fact, this may be their primary responsibility in servicing these larger clients. In some cases, the customer issues the initial or even subsequent replenishment purchase orders which are then shipped from the original supplier to their supplier/distributor.   These distributors are required to accept shipments which were ordered by their customer – which can present some financial and relational challenges unless there is a working agreement that addresses procedures, parameters, approvals, inventory ownership, quantities, costs, information exchange as well as slow moving, excess and dead inventory.  Without detailed rules of engagement for both parties significant inventory dollars could sit idle for months, payment could extend beyond what was expected, profitability could be impacted and tensions between both parties could arise out of misunderstandings.  Any or all of these could damage the relationship and the program’s success.   I bring this issue up since it is not uncommon for a smaller company to be so excited when securing a large client that they overlook the importance of establishing a mutual working agreement and assume their business will be handled respectfully and fairly via a verbal discussion and handshake.  I caution you that if time is not applied to hammering out the written details regarding all the “What Ifs”, the program’s profitability and success could be put at risk.

6. Consider Hiring an Expert:  If possible, consider hiring an experienced inventory professional who specializes in reducing carrying costs, increasing inventory turns and optimizing the service levels.   Companies that are carrying many months of unnecessary inventory are significantly impairing their productivity, space optimization, cash flow, profitability, competitiveness and potential success as a business.  I frequently engage with companies who defer this responsibility to a warehouse person or someone else – who may be a great employee but has no formal training with inventory management, forecasting and optimum replenishment processes and tools. In addition many organizations have a difficult time dumping old obsolete inventory which is often carried on the books for years.  An experienced inventory expert can provide the critical facts, strategies and logic to address these difficult issues.

7. Invest in an ERP System: For those companies that have yet to invest in an ERP system, the manual replenishment process is frequently reactionary vs. proactive and strategic – which results in frequent purchase orders, difficulty meeting supplier minimums, excess inventory, redundant purchase orders issued due to misplaced or lost stock and poor inventory tracking within the manual system.  All of which can increase the level of inventory investment.   A good ERP system can tie all the information from the initial forecast, sale, inventory reduction, purchase order, receipt, payment functions and beyond into one system. The inventory applications can allow the company to immediately record the sale of any product so that the inventory function is  immediately informed of the reduction and can take the necessary steps to replenish the products needed by issuing a purchase order.  In most cases, all products are connected to a supplier(s), then to the initial receipts, specific warehouse stocking locations, the eventual shipment to a customer, the subsequent invoice and then payment.  It can also record and track, by original purchase order or supplier producton lot number, all the way through the supply chain process to the final customer and date they received it. There are many more features and tools that a good ERP can provide but what I described above are some of the basic benefits for the inventory control area.

8. Invest in Your Staff. The APICS Organization offers many different training options, seminars and certification programs for inventory management and supply chain management.  I encourage any business owner or CEO/CFO who has a sizeable inventory to consider the CPIM (Certified in Production and Inventory Management ) or CSCP (Certified Supply Chain Professional) training programs for the individual(s) responsible for inventory management and replenishment areas. This training will pay huge dividends by educating your team on intelligent strategies, state of the art tools and best practices in order to right size the inventory investment.   The following is a link to the APICS training programs available. http://www.apics.org/careers-education-professional-development/faq/certification


Leave a Reply