Solutions » Small and Medium Business

Inventory can become an unweildy animal in a lot of companies.  Over time the number of SKUs grow, quantities grow, things get disorganized and it becomes an increasingly difficult mountain of effort to regain control.  The thing is, a lot of business owners fail to connect the dots that excess inventory is consuming cash.  We had a new client come to us thinking they were hiring us to help them work with the banks to obtain debt financing.  What we discovered was the capital they needed was already on their balance sheet.  Upon review of their financials, we noticed that they appeared to have an excessive level of inventory.  We suggested that they undertake a review and initiate a program to work their inventory down by half.  As a result they “unlocked” $250,000 in cash without borrowing a single penny.  They thought we were magicians, but it is really just basic finance.  They had lost sight that they had been plowing money into inventory growth for a long time.  All we were doing is reversing that trend and with a little focus they were able to do it.  Going forward they recognized the relationship between inventory levels and cash flow.  They knew intuitively that more SKUs resulted in greater customer choice and higher stocking levels reduced the chance of stockout.  They now were armed with a balanced perspective, that inventory needed to be managed and optimized to also maximize cash flow. 

What is the answer?  The key to managing anything is to first shine a light on the situation.  Companies who carry inventory balances need proper systems in place to maintain control of their inventory.  And yes, you need good people from purchasing to sales to ensure relevant information is available to make good decisions.  For each SKU, a manager needs to understand not only the velocity of sales, but also the variability in sales.  Higher variability dictates higher average quantities.  Higher margin products cost more when you stock out.  Parts that may be key to selling other parts (i.e. products that are correllated to sales of other products) dictate carrying higher quantities.  These are just a few considerations.  The key is developing good reporting so management can make the right calls.

One final thought:  it is important to know the carrying cost of your inventory.  What is the total cost of keeping inventory?  This includes all direct costs, i.e. warehouse and fulfillment costs, but also the cost of financing the inventory.  There is a cost of capital implied in every business.   The objective is to ensure that the margins earned on each SKU are greater than the cost to stock the inventory and fulfill the order.  There is a lot to this analysis, but as they say, awareness of the problem is the first step.

Here is a great article about Managing Inventory for Profitability