A final misconception is that inventory optimization cannot provide the same profitability increase that a bump in sales will deliver. While sales are obviously important, ongoing inventory optimization practices actually afford the single largest opportunity to have a direct impact on profitability. Optimization of inventory can result in an inventory reduction of 30 percent, while also reducing out-of-stock situations and ensuring that the correct stock is available to satisfy demand. These are benefits that can't be realized by increasing sales.
How much profit can be achieved from effective inventory management? By empowering the purchasing and supply management department with intelligent inventory and purchasing tools, the opportunity to realize significant annualized profits and generate additional working capital to help your company achieve critical business objectives is very real. This is true whether your company's objective is to survive an economic slowdown or buy out your biggest competitor.
The following areas are key to achieving your inventory optimization goals. Closely monitoring and reviewing performance in each one will have a significant, positive impact on your inventory management process. Therefore, revising buying procedures, implementing software and tools to increase the sophistication of your process, and generally establishing the right type of inventory management mindset will make your company successful in its inventory management efforts.
- Lead-time Forecasting
You have your suppliers' promises of delivery and fill rates, and you have their average lead-time. But do you have their actual performance?
It's very hard to profitably sustain a customer service level of 98 percent if your suppliers are servicing you with a fill rate of 87 percent. If you have several stocking locations, that means you are cross-dock shipping, handling merchandise more than once or relying on your supplier to deliver each item to each location, on time. A common purchasing error is over-ordering to compensate for poor supplier performance.
- Service-Level Analysis
This is your company's image to the marketplace. A multi-location distributor needs to have the correct information on performance of every item at every location.
By monitoring this information, which should include demand history, demand variation, profit margin and lost sales costs, you can establish competitive service levels.
- Demand Forecasting
Most distributors track customers' consumption history along with demand velocity, lost sales, returns and other essential data. However, demand forecasting is not just about looking at recent or extended sales history. It must also include examining seasonality and life cycles, filtering promotional and spiked demand, reacting to trends, and evaluating item profit margins.
- Order Frequency
This is probably the most overlooked of the profit opportunities. Correct order frequency analysis alone can reduce inventory by 10 to 15 percent.
The cost of ordering too frequently ripples throughout your organization. When you consider the expense of generating the purchase order, the cost of freight/receiving/put-away, acquisition costs, carrying costs, volume discount levels and supplier minimums, order frequency can have a tremendous impact on your profits. An uninformed buyer will order to sustain service levels or for perceived economic reasons, such as free freight.
On the surface, replenishment seems like a simple concept. Buyers should be able to place the order at the most profitable advantage for your business.But there are a number of factors that are often overlooked. For example:
Is this the right time to order?
Have the next potential order points been calculated?
Have potential overstock and out-of-stock projections been evaluated?
Do I have all the information I need about promotions, advertising, product
production changes, etc.?
This is a crucial point. The order is ready to go to your supplier and profit loss or gain is going to be directly impacted. This is the core of the hidden profit opportunity that separates the distributors who have a 20 to 30 percent or greater profit return on inventory from those who fail to capture these profit dollars.
Perhaps most important of all, however, is to firmly establish the principle that you will treat purchasing and inventory management as a profit center. More than just an abstract idea, this mindset establishes your priorities and sends the right message to your customers, suppliers and employees.