The retail and distribution business are “cash negative” business models; growth reduces cash. This is because the primary driver of cash flow in these companies is inventory. The key to healthy cash flow is strong inventory management controls. Here are three ways inventory can rob you of cash:
Too little inventory
Running out of inventory is the “worst sin” of an inventory manager. Beyond the obvious loss of sales and cash flow, all the resources (advertising, brand equity, professional time) that goes into bringing a customer to the “Buy” button is lost. And the customer may be lost forever.
Too much inventory
Inventory managers have little incentive to keep inventories low. They get little attention when they have extra inventory but always get noticed when product sells out.
Reduced inventory value
Unless you sell expensive wine or exotic cars, the value of your inventory always reduces over time. Inventory gets lost, damaged and requires resources to store – and the cash invested is reduced every day it is held.
Inventory managers are typically very capable of managing ERP demand planning tools or building complex Excel models. But these systems are rarely (if ever) effective at measuring efficiency or accurately adjusting order levels based on changing demand.
Here are our recommendations on how to solve:
Forecast Demand
Forecasting demand is crucial to optimizing inventory. Without continual forward-looking analytics, an inventory manager is simply refilling shelves with the hope that it will end up right. Forecasting methods can vary from simple “forward” estimates based on trends to complex predictive forecasting that produces highly accurate demand estimates. In all cases, forecasting enhances purchasing and cash flow.
Adjust Safety Stock and Lead Time Demand
Prior to each order, the Inventory Manager should update the forecast, LTD and Safety Stock levels. This is crucial to inventory optimization. Without this step, you are simply sleep-walking through inventory management and missing what the market is telling you.
Write-down inventory
Most companies tend to build up inventory over time. Older products go unsold yet par values get stuck and are rarely re-adjusted when sales decrease etc. Additionally, there is little incentive to write down inventory as it reduces your asset value and hurts your balance sheet. But the costs are there – even if you don’t measure it.
Conclusion
If you want to run an optimized organization, you need to be disciplined about updating the true value of your inventory so you see inefficiencies when they occur and can minimize their negative effects. This forces the company to hold itself accountable and not let past over-purchases sit on the shelves which robs your company of cash.