Recently, I was at lunch with a client that unprofitably manufactures children’s toys. Our attention focused on the company’s inventory management. They had fallen victim to the same problem experienced by many business owners who sell from large inventories.
I purposely startled the client by saying, “As much as you love creating and selling your wonderful line of children’s toys (insert your product line here), you are actually in the business of inventory management. How well you do it will largely determine the financial results of your company.
Inventory management is the elephant in the room for many companies!
The Right Way
Effective inventory management requires constant attention, detailed data, discipline, and good judgment. Your goal should be to buy the right products, for the right price, in the right quantity, at the right time, from the right vendor. Get these five things RIGHT and you will see a big improvement in cash flow and profit.
- The RIGHT Product – Know your customers and carry products they want, not what you like or think will sell. Don’t let emotions drive your buying patterns, and don’t be lazy by purchasing a general mix of styles or models suggested by the vendor. Test every unique product (SKU) to learn the preferences of your target market. There are warehouses all over the world filled with slow-moving and obsolete inventory—a terrible waste that you can avid. While some variety or completeness of a product line may be necessary, stay lean and stock-up with best sellers.
- The RIGHT Price – Work for your customers and become a strong negotiator. Shop around to find the best prices and terms—your lowest overall cost. Let vendors compete for your business if you can. Use detailed purchase orders to avoid costly mistakes. Remember that inbound freight is part of the cost. Take trade discounts when possible; they are pure profit. While buying and selling, always strive to maintain your expected profit margin, and increase it if possible.
- The RIGHT Quantity – Purchase in smaller quantities (even if it means a higher cost), and TEST-TEST-TEST before you commit to larger amounts. Products have a life-cycle so be careful to watch trends and spot the downturns. Lean inventory levels and frequent turnover reduce operational costs and improve cash flow and profit, as long as you don’t run out of product and lose sales. Inventory buildup for any reason can be a risky strategy, so be cautious!
- The RIGHT Time – The longer you can delay purchasing and still satisfy customer demand, the better your cash flow and the lower your carrying costs. Know your vendor’s fluctuating lead times—the number of days from your order to their ship date. Short lead times give you a significant financial advantage—fewer products gathering dust on shelves and more working capital.
- The RIGHT Vendor – Establish a good relationship with reliable vendors. Allow vendors to compete for your business, but leverage your buying power with one or two. Make sure your vendors have good systems and processes and supply consistently high-quality products. They should stay competitively priced and able to ship as promised. Vendors are among your most important business partners. Pick the best and be among their best customers (pay on time and help them keep their costs down).
The Downside of Inventory
The only real virtue of inventory is that it allows you to fill customer needs quickly. Many companies today have discovered drop-shipping to avoid inventory altogether. However, if you are a manufacturer, or traditional brick-and-mortar distributor or retailer, inventory is a necessary evil.
Keep in mind that inventory comes with a carrying cost of rent, utilities, insurance, and labor to manage, count, and handle. Inventory ties up money and can keep you cash-poor, even if your company is profitable. Furthermore, bad things happen when products sit around. Merchandise becomes outdated and damaged. Quality problems go undiscovered and accumulate. Shrinkage is inevitable. Be smart! Be lean!
Good inventory management is a skill that takes time to learn. Nowadays, technology combined with disciplined oversight is essential to getting the job done RIGHT.
Remember: The velocity that products move in and out of inventory is a key to success.
Master your inventory management system—the elephant in the room—and you are well on your way to controlling your financial future!
