It sounds counterintuitive, but yes, inventory could be hindering your sales.
One of the most powerful levers to drive profitability and sales is inventory. As a small or medium sized business, you have more control over inventory than other components of profitability. This means that you should always be doing whatever you can to manage your current inventory.
There are three areas worth exploring when determining whether or not your inventory is hindering your sales, as well as how you can find a solution…
- Inventory Obsolescence
Carrying obsolete inventory, and having your cash stranded in it, is as bad as having no inventory. I would argue it is even worse. It is considered obsolete because it has essentially reached the end of its product life cycle, or there is simply very little to no market demand for the product. There are a few factors that cause inventory to become obsolete including, incorrect anticipation of customer demand or inadequate product design.
Fortunately, there are ways to handle obsolete inventory. It is important that you don’t allow this inventory to just wither in your warehouse, but instead deal with the issue right away. A drastic but common practice to reduce extra stock is to write-off obsolete inventory, which means taking the loss but ultimately moving beyond the issue. Many business leaders are reluctant to do this for the obvious impact on their P&L, specially in publicly traded companies. But they don’t realize the ongoing operating cost usually is much higher when you factor in the warehousing and operating expenses of constantly handling this inventory to keep it our of the way, not the mention the opportunity cost incurred for not having the right inventory.
It isn’t out of the question to remarket your items or sell them at a discounted price. Hosting a sales event might draw potential customers that haven’t been previously reached, and a fire sale will help you free up valuable warehouse space and cash.
Additionally, this inventory can be donated for tax deductions. It is perfectly acceptable that C corporations deduct the cost of donated inventory, plus half the difference between cost and fair market value. As an S corporation, partnership, or LLC, you can write of a straight cost deduction.
- Inventory Accuracy
If you find that your customers tend to request precisely the items that you do not carry, you might just be using your resources to stock up the wrong inventory. This is typically the result of inadequate communication between sales and purchasing, as these two parties should always be talking to each other.
A helpful tool when regularly dealing with inventory that is not ideal for your customers is sales and operations planning (aka S&OP). S&OP is a process in which management meets to review supply and demand projections, and the overall financial impact. To put it simply, this is a decision making process that ensures that smaller tactical plans align with the organization’s overall business plan. By implementing this process, you will increase communication and ensure that you are purchasing the correct items in the future.
- Inventory Turnover
Measuring how long a business maintains its inventory before making sales is known as the inventory turnover ratio (TOR). Another way of measuring how long it takes a company to sell its existing inventory is called DSI (Days Sales of Inventory). If after adopting one of these metrics you find your turnover is slow, there might be operational issues that are affecting your sales.
Perhaps warehouse operations aren’t performing fast enough when it comes to receiving, picking, packing, and shipping. If these operational concerns are taking a toll on your business, it is worth considering the implementation of ongoing improvement methodologies like Lean Six Sigma.
Lean six sigma is a methodology that focuses on how a team collaborates in order to ultimately improve the team’s performance by eliminating waste and reducing process variability. Ironically, processes variability is one of the most common root cause for operational inefficiencies and excess inventory, yet one of the least understood let alone addressed.
By applying adequate focus on these three areas of inventory management, you can finally get a grasp on how inventory might be hindering your sales. If you’d like to explore other ways in which you can increase sales by optimizing your inventory, contact us at [email protected]
Linar Advisors – Managing Partner