Do these hypothetical situations sound familiar?
- Acme Company has a large, priority customer called Wylie Company. Acme must service Wylie flawlessly to maintain the contract, so to ensure stock is always available when Wylie needs it, Acme agrees to a guaranteed safety stock level for Wylie. And, Acme ends up following the typical inventory strategy of “increase inventory to ensure customer delight”.
- However, Wylie doesn’t buy as anticipated (even if Wylie buys the anticipated total volume, the item by item volumes are quite different than anticipated), so the right products are not in stock to satisfy customer orders and Acme continues to build inventory to service Wylie company. The higher the service level expected, the more inventory built. For example, let’s assume that Acme sells t-shirts in multiple colors. If your goal is to keep your service level at 96% (96% of the time when a person asks for a red shirt, you have a red shirt available), you’d need more red shirts in inventory (let’s assume 1000 shirts) than if your goal was 90% service level (let’s assume 500 shirts).
- Soon, Acme Company begins to struggle with cash flow. Inventory must be reduced immediately. Therefore, inventory goals are set and inventory is reduced; however, Wylie’s customer service is impacted (red shirts are not available when requested) and customer complaints increase. Suddenly Acme is working overtime to ensure expedited shipments arrive in time to keep Wylie a happy customer.
As a supply chain consultant and former executive, I’ve seen these scenarios more times than can be counted. Yet, there is an alternative that “works” in delivering seemingly conflicting goals of inventory reduction combined with customer service and delight – inventory velocity.
How can the Acme Company situation change with inventory velocity? One company I worked with more than doubled inventory turns two separate times (from 4 to 9 and, in a different time/ situation, from 6 to 12) while reducing lead times by 25-50% and taking customer service levels from the low 70%’s to the high 90%’s within 6-9 months. Based on my experience and research, I’ve found a 25-50% inventory improvement feasible for most companies. With a typical cost of capital of 25%, there is significant cash flow and cost savings when reducing inventory so long as customer service is maintained / improved.