Apply simple ABC analysis to analyze inventory. Identify As, Bs and Cs by value (volume x cost/unit). Control your As (make every A every day or week, depending on cycle times), and loosen the Cs (which are usually the problem children) to balance investment with service levels. This will reduce inventory as well as improve service levels.
Define what to make to order and what to carry in stock. A lot of companies by default make everything to stock just because they have always done so. Institute a program that looks periodically at the profitability, velocity and volatility of inventory by SKU. Based on the analysis, make decisions on what to make to stock and what to make to order. As a rule, make to stock the higher velocity, higher margin SKUs. Demand a higher price and lead time for slower-moving and lower-margin products, and make them to order.
Are you bleeding cash?
Understand the cash inflow and outflow impact — or, in other words, the difference between speed of payment to your supply base and speed of collection from your customers. Supply chains play a key role in optimizing or suboptimizing the accounts payable and receivable cycles for companies.
Analyze the gap between account receivables (A/R) and account payables (A/P) by company and each SBU if financial reporting permits. You may be surprised to find out that you are paying out faster than you can collect and hence bleeding cash — or borrowing at high interest rates to keep the business going.
Create the recognition that a day of payables is worth much less than a day of receivables, as there is value added for conversion and then a margin on top of it. This results in the required payables cycle being much longer than the required receivables cycles to net out on cash flow. For example: It’s not OK to have 30 days of payables if you have 30 days of receivables. To equal 20 days of receivables in value, your payables probably need to be at 35 days. This actual calculation will depend on your company’s conversion and margin structure.
Make the AP cycle greater than the AR cycle
After you understand where the gap is, identify the business segments/units where you need to create alignment.
Create a cross-functional team comprised of Sales, Finance/Accounting and Procurement/Supply Chain. Then, for each business unit, list out:
Top five customers and collection cycle in days and dollars for customers.
Top five suppliers and payment cycle in days and dollars for those suppliers.
Understand the difference between collection cycle and payment cycle for your top fives. Attack the difference and create alignment based on industry practices. In some cases, you might have to renegotiate with your customer and supply base as they are looking for the same cash as you.
Become a Cash Soldier for Your Company
Recognize that most small businesses go out of business due to insufficient cash flow. Use this recognition to squeeze the cash out of your supply chains. Once you start taking a few basic things like those outlined above, you’ll see the cash pile up on your balance sheets. This is the cash you can distribute to your shareholders or invest to grow your business. Your Finance colleagues and the CFO will be proud of you as you will be the cash soldiers of your organization.