In the end, there is a cost to every business decision we make. If we choose a supplier based on lowest cost, there may be a cost associated with longer delivery times. When we look at bank financing, interest rates may be lower at one bank, but covenants may be more reasonable at another. Business is a world of trade-offs, and the winner is the business that makes the best trades.
Inventory eats cash, but is necessary, and as a small business, you do not have as many tools in your box as a large business to combat the cash loss. A large business, such as a GM or Walmart, can dictate terms to suppliers and run as close to a just-in-time inventory as possible, thus forcing the carrying costs of the inventory from themselves to their suppliers. While that kind of cost-shifting is not as easily achieved at a smaller business, that doesn’t mean that there isn’t plenty that can be done.
When was the last time you made a concerted effort to track inventory usage? You may have set up inventory minimums and maximums, but are you actively maintaining data to see if the standards that were used to develop those numbers are still accurate? The time you take to track usage will save you cash that can be used to purchase that new equipment or hire that additional employee.
As a small business owner, you are most likely keenly aware of which stock items turn the most. You always want to have a safety stock of these items just in case there are issues with your supply chain. Determining that safety stock amount will take time and study in order to ensure you are not investing too much in what is essentially inventory you are holding for your customers.
At the other end of the spectrum are the items of inventory that may not even turn once a year. Maybe this stock is made up of items that were purchased when a different technology or technique was used to manufacture your product, but that doesn’t change the fact that these items are now essentially a drain on your resources. Consider the scrap value of these items, because offering price discounts may lead down a slippery slope of customer expectations. Many business owners fear customer attrition if they can’t supply everything in their product line immediately. However, great quality and service can go a long way to fight this concern, and that a two-day delay in getting an obscure part may be the price that will need to be paid so that you are not just a consignment-inventory outpost for your customers.
Remember, the drain on your cash flow is not just the cost of the excess inventory, it is also the cost of the warehouse space, the warehouse personnel, and the transportation of the inventory, both internally and externally. Good relationships with suppliers are important, especially suppliers of your highest turning inventory items. Consolidating a supplier base should be considered, as you will become a larger customer to your supplier. In turn, this may encourage the supplier to offer better payment terms, better delivery times and, in some instances, collaboration on product improvements.
Sales and production forecasting are also important when it comes to inventory management. The better the forecast, the more likely we are to maintain inventory levels at optimal amounts. In some instances, you may also want to consider asking your supplier about the ability to carry a consignment inventory of their products. This would not save money on warehousing costs, but it would allow you to avoid buying inventory before you really need it. Another avenue you may want to consider is drop-shipping directly from your supplier to your customer, therefore avoiding the cost of handling the inventory all together.
Finally remember your ABCs. ABC analysis will show which are your A inventory items, high value items with low usage, B items, moderate value items with moderate usage, and C items, low-value items with high usage. More time is needed managing the A items because they are a larger drain on resources and are not necessarily contributing to the bottom line.
Jon Herdlein is a principal based out of our Buffalo, NY office.