Forget About Reducing Inventory; Perhaps You Have the Wrong Supply Chain StrategyArticle by Lisa Anderson, December 26, 2019
Clients and colleagues have demonstrated a heightened interest in inventory reduction recently despite not yet seeing the full value! Certainly with everyone worried about a potential recession in 2020, they are starting to think about not tying up as much cash in inventory but that is not the 100 pound gorilla. The real question is why we are thinking about corporate mandates and full warehouses instead of seeing the bigger picture – reevaluating our supply chain.
Of course, maximizing your customer service (on-time delivery, quicker lead times), margins/efficiencies and cash flow (inventory reduction) is an important standard best practice. To learn more about how to achieve this win-win-win, read our recent article ” Inventory Management as Fashionable as Automated Intelligence for Distributors” for ACHR News. Yet, it could become “rearranging chairs on the titanic” if your supply chain is not set up to deliver maximum performance. So, instead of jumping to erroneous conclusions, take a step back to reevaluate your end-to-end supply chain strategy.
When I was a VP of Operations & Supply Chain for a mid-market manufacturer, our private equity backers and Board of Directors were always asking about labor costs. It didn’t matter that labor costs was our smallest cost element. In fact, material cost was the 800 pound gorilla at around 70% of product cost, followed by freight. If we could double labor cost to reduce materials and freight, it would be a smart decision. Yet, it was never viewed that way. So, if a smart private equity group and executive team can bark up the wrong tree, we all might be speeding down the freeway but going in the wrong direction.
Typically, labor cost is 8-12% of the total cost of ownership. How does that compare to your materials cost? Unless you are in a labor-intensive industry, perhaps you better take a second look. Next there are freight costs. Not only do freight costs continue to rise but the rules, regulations and delays can be astounding. In a recent California Inland Empire District Export Council (CIEDEC) meeting, the new sulfur emission rules for shipping arose because costs will have to be passed on to importers and exporters. Of course, we don’t have to mention tariffs and global unrest. Now, let’s add inventory carrying cost into the equation. It is a minimum of 6%. Yet, most experts (and clients) agree that it is truly a minimum of 25% and could be as bad as a 1:1 ratio. Just think about how often your customer changes his mind, all the expediting you have to do to serve customers and the systems and complexity your team has to manage. Is it time to reevaluate?
Let’s not forget that this equation isn’t just an insource or outsource question. There are lots of opportunities. For example, you might want to think about the following questions:
- Where are your customers?
- Where are your suppliers?
- Is there disruptive technology that could impact your cost ratios?
- How complex is your supply chain? Have you thought about the price of complexity?
- Do you have a robust ERP system to support customer expectations while achieving profitable growth?
- Are there supply chain partner programs that could completely change the game?
No matter your situation, it is worth revisiting. Corporate strategies last NO MORE than a year so why are we leaving our supply chain to old rules? Instead, we should be future-proofing our manufacturing and supply chain business.