Why is Inventory Control such a big deal? Do we really understand it? These are bigger questions than they seem, and require even bigger and more in depth answers. This short article is designed to provoke thought and raise Dealership Staff curiosity around the biggest questions:
What are Inventory Control best practices and do we utilize them in our dealership?
Why is Inventory Control such a big deal ? Money, pure and simple. Security of your money The Dealer’s money is safe when it is sitting in the bank, but as soon as we exchange that money for goods from a Vendor, then we are risking the Dealer’s money. You check bank accounts regularly to make sure the balance is correct, so why aren’t we as disciplined with Inventory? Dealers can have millions of dollars in Inventory in their Dealership but only a few tens of thousand dollars in the bank. So where is the logic in having the discipline to reconcile bank accounts daily, but only check Inventory once a year, or never? Inventory reconciliation should be more disciplined than cash reconciliation when we use that logic. Return on Investment Why did you buy that Inventory? To sell at a profit of course. However the longer that inventory sits in your store before being sold, the slower (and lower) the return on that investment. This is where your ordering and measurement practices are vital.
Do we really understand inventory management?
The problem for Dealers is that these practices can become very complicated if not viewed with a simple focus on “what is important”. So we will break it down into the areas to manage. Everyone thinks they know what inventory to buy, how much of it and how long it may be held before selling. But unless you use data to track these decisions it is just “opinions”. Consider the following:
- Days Supply: What are your KPI’s for “days supply” this is a simple enough concept. If you ordered no more inventory, how many days would it take to sell what you have in stock? Utilize your data to determine the annual turnover of a part, lead times from the vendor and quantity you hold in stock. There are seasonal factors to consider as well. This is often referred to as “physical stock turn.”
- Physical Stock Turn: A good rule of thumb for parts inventory turn is 90 day supply (4 sales of a part per year) as average. A slower turn rate will affect your profitability and once it drops below 3 times per year your holding costs are wiping out your profit retention.
- Economic Stock Turn: It can be difficult to measure physical stock turn when a Dealer has thousands of parts in stock, so a quick guide is to calculate your economic turn rate. This is a simple calculation of your annual parts sales cost of goods divided by your average inventory value for the year. If the number is 4 then you can rest easy. Naturally many parts are slower to turn and others faster, just by the nature of when and how that part is required. If your turn rate is slow, then it is time to look at your inventory aging.
- Inventory Aging: This is the easiest calculation to make, but the most overlooked. It is simply a calculation of how many days from your last purchase of that part until it was sold. So if your day’s supply is expected to be 90 days, then every part with an aging of 90 days is going to have a slow turn rate? Well in a perfect world that is true, but season factors come into this and you may sell 6 parts in a six month season and none the rest of year. Inventory aging is simple to report on and all good software platforms provide these reports, but so often Dealers ignore the signs. Good practice is to watch your parts that are approaching 180 days old. Is there a logical reason or is the part becoming obsolete.
- Obsolescence: Cripples cash flow and jams up your warehouse with non performing assets. However, obsolescence is a cost of business and can’t be avoided. SO you must be proactive, set yourself an obsolescence budget and use this to discount or discard non-performing stock. A sensible KPI is 1.5% of the cost of goods sold. Unfortunately some Dealers don’t wish to accept this, but eventually an audit of inventory and stock count of a poorly managed warehouse will prove this KPI is conservative. We suggest you make a monthly calculation of your obsolescence against the monthly parts sales, and accrue on your balance sheet ready to be used to discount or discard as needed. You now have a KPI to measure whether your practices are solid. If you spend less than you accrue you can rest easy.
- Inventory Counting: Last, but not least. What are we looking for here? Inventory shrinkage. All of the theft, broken parts, damaged packaging and misallocated parts fall into this category. If you have no shrinkage you have fantastic processes in place, but this is unrealistic to strive for. In our world inventory shrinkage is inevitable. Where the real problem is, how do we “minimize” shrinkage. The first place to start is recognizing how much of a problem we have, and in the process identify how it happened. With this knowledge you can make informed decisions on how to improve Dealership practices. A good Shrinkage KPI is 1/2% of your inventory per year.
The challenge for Dealers is how to count your inventory on a routine and regular basis. Remembering that without performing a count you can’t determine your level of shrinkage. With this in mind Inventory Counting should be a high priority, but too many Dealers shy away because it seems “too hard”. If you think of “Inventory Counting” as once a year, shut the store for two days and count every part in sight practice, then it is too hard. The only effective way is to implement a perpetual inventory count protocol in your business.
Perpetual counting is easy, but requires discipline. Ideally you want to count all of your inventory twice a year. Divide your inventory locations up into six segments, taking into account the line items involved. This is an easy task using software reporting. Allocate one segment to be counted each month. Within this segment allocate certain locations per parts department staff. Give each staff member one day per month to print off a location quantity on hand report and then count those. The results can be investigated by management for discrepancies, make a decision to write off or pursue. Using this method you will identify any problems with your practices earlier and with less interference to your business.
To wrap this up
Our intention with this article was to provoke thought. Be honest with yourself, is your business a “well oiled cash cow” or perhaps it is time to stand back, take a look and change your focus. Make sure you have good practices in place, KPI’s to meet and strong information systems to measure your results.