Inventory management strategies for cost reduction

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June 13, 2010

Inventory management strategies

Managing inventory is an art: you want to have enough of it on hand to service your customers but not so much that it hampers your business operations. After all, inventory is money that's been invested at a negative rate of interest: the longer it sits on your shelves, the more it costs. It ties up a business’s cash reserves and it occupies valuable storage and display space.

There are various techniques to master this art and ensure that you have adequate inventory to keep customers happy without being a drag on your business.

Analyze patterns to establish forecasts

If you've been in business for a while, you should have some record of what sold and what didn't sell throughout the year. Analyze that data. Break the inventory down into categories and try to correlate the categories with customers. Trends or patterns will likely emerge. Depending on what business you're in, these might correspond to the rhythm of the seasons, or they could relate to the financial year-ends of your biggest customers.

Once you've discerned a trend or pattern, you can begin to plan acquiring and paying for the merchandise you require according to your needs. The idea is to stock the inventory just before you need to sell it, so that the money you've invested comes back into the business as quickly as possible.

A good inventory information system should allow you to capture sales history, and forecast sales to come, based on that history.

Turn dead inventory into cash

To recover some of the cash you have tied up in “dead” inventory, mark it down for quick sale. Divide your dead inventory into the "bad" (meaning not selling right now) and the "unsellable." Be realistic and merciless. Display and price the bad stuff so that it will sell. What you paid for it is not important. What is important is that customers buy it and take it off your hands.

Or you can see if your distributor might be willing to take some of that inventory back. Structure your proposal so that the distributor gets something out of the deal. Perhaps they have other clients who could use that stock. Alternatively, you might offer to try out that new range of products they've been pushing. The distributor may only be able to provide a discount on your next order, but that will at least help improve your future cash flow.

As a last resort, you may be able to donate the unsellable inventory to charity and generate a receipt for tax purposes.

Other ways of turning inventory into cash

There are other ways to do business without maintaining excess or unproductive inventory. You can, for instance, stock your fastest-moving items but maintain a drop-shipment agreement with the manufacturers or distributors of slower-selling products. Under a drop-shipment arrangement, the manufacturer or distributor takes care of shipping directly to the customer, and you don't have to keep inventory in stock.

You can also try to improve cash flow by negotiating better payment terms with your suppliers. For instance, if you can hold payment for 45 or 60 days while getting your customers to pay within 30 days or less, you'll have more cash on hand. Or to get cash quickly, you might sell your receivables to a factoring company, which then collects from the customer.

If your company has a good reputation for fulfilling its transactions, and your clients have a good credit history, you may be able to arrange purchase-order financing. In these arrangements, your inventory, purchase orders and accounts receivable are used as collateral for a loan. Asset-based lending is another way of securing cash for operations and growth.

Inevitably, there will be items that don’t sell at full price, so you will have to eliminate them from your inventory. By planning ahead, you can set the dates for the markdown sale and eventual liquidation of stock that isn't moving. With a plan, you'll be more in control: as each sales period passes, you'll be able to measure results against the expected outcome and adjust your business plan accordingly.

Still, if dead inventory is a recurring problem in your business, there could be deep-seated problems that you may have difficulty solving. In such circumstances, it might be helpful to call in outside expertise such as that offered by BDC Consulting, which has a national network of business advisers to help you plan inventory, manage accounts receivable and improve your company's cash flow.


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