Less is more

Reap the benefits of better warehouse stock Management

Lowering your stock may sound like a negative measure for your service levels, but it can yield more than you think. Your Eureka reporter Gian Schiava discovers the opportunities that proper stock management can create and how inventory costs relate to cash flow.

Origin and purpose of the warehouse

Let’s take a step back and see how warehouses originated. Basically, a warehouse can be defined as a (large) building where (raw) materials or manufactured goods may be stored (temporarily) prior to their distribution. In ancient civilisations we already find evidence of people or communities gathering and storing agricultural surpluses. The Romans understood the necessity of creating buffers between demand and supply, and started using purpose-built locations with sizes up to 21,000 square metres.

The industrial revolution accelerated the process of development; warehouses evolved and became more specialised. Forklift and specially designed warehouse trucks boosted output and became the most applied tool after World War II. In the past few decades, warehouses have adapted to standardisation, mechanisation and technological innovation. Even robots are now starting to help us in getting the products shipped. Stock levels have increased and, for a long time, more stock has meant greater ability to fulfil demand and therefore generate turnover.

The other side of the coin

However, with increased ability to ship, costs have risen as well. Moreover, a company’s financial resources are tied up in stock and that can have a negative impact on cash flow. Besides that, it also costs a lot of money to run a warehouse. Before coming to the benefits of inventory management, we have to look at what the costs of stock-keeping are.

We talk to Jan Kraaijeveld from Slimstock, a company with a worldwide focus that specialises in optimising stock amongst producers, retailers, wholesalers and even logistics companies. Its clients have seen performance improving because the right items are in stock, costs are lower, urgent deliveries are eliminated and warehouse processes are beginning to run efficiently.

Jan explains that there are essentially three categories of costs for keeping inventory. “First, there are capital costs. A company pays interest to get activities financed. The second category lies closer to the warehouse itself: the costs of space. Simply put, these are defined as the costs incurred between the time the goods are placed in the racking and the time they leave the warehouse. They can be calculated as variable or fixed costs. Let’s start with the variable approach. If the warehouse activity is outsourced, it is easy; those are the costs per pallet charged by the service provider. For example, a few Euros per pallet per week. When you manage your own inventory, you have to make a list of all costs: the rent of the building, depreciation of equipment such as racking and materials handling systems, energy costs, personnel costs etc. Allocate these costs to your inventory.”

Jan continues: “Many companies who have their warehouse in-house regard space costs as fixed. After all, the warehouse and the employees are already there and a bit more or less inventory won’t make a difference, right? Wrong. This approach can lead to wrong decisions about the inventory. Inventory costs should serve as a factor in calculating or determining purchase batch sizes, for example. Without that, you will always be ordering too much stock.”

The third and last category is for the costs of risk. The largest components here are costs for obsolete stock (writing off inventory), but consider also insurance costs, like for fire and theft.

Most gains in cash can be found by reducing the amount of fast movers. Results are more modest when they concern non-movers, but here the purpose is to avoid building up new stocks of obsolete inventory. That is a road you don’t want to get onto again.

A company’s financial resources are tied up in stock and that can have a negative impact on cash flow.

Harvesting the results

Now, companies who develop a series of plans to forecast better, order in a much smarter way, create a more reliable supply chain, implement ABC classifications and apply proper product lifecycle management could reduce their stock by as much as 30%.

Jan gives us an example: “Let’s take a company with a stock of 1 million Euro. Typically, it would face around €320K of inventory costs. Reducing the stock value to €700K yields an immediate saving of €96,000 per year (€300,000 x 32%). Thus, in addition to that saving, €300,000 in cash flow is unlocked.”

Lowering stock may sound easy to do, but serious efforts and hard work lie ahead. “What now needs to happen,” explains Jan, “is a step-by-step approach. First you focus on the stock itself. Clean up the obsolete with, for example, special discounts; make an ABC analysis; and get the product range and build-up right. The next step is to analyse your data and make sure this becomes a reliable source. Without proper master data, you will not be able to steer in the right direction. When this is achieved, then move on to setting up KPIs, business rules and other parameters. You can see each step is important and necessary before you can move on. Now we can determine the proper minimal stock levels and ordering amounts, and we suddenly find ourselves doing proper inventory management.”

The last step is to go outside and meet with the other participants in your supply chain. Firm agreements must be made, and structural co-operation with both clients and suppliers are crucial if you are to maintain that lean but also effective inventory.

From now on, it will be a constant battle to find or maintain the balance between keeping stock and providing the desired service level to customers, whilst ensuring costs are low so cash flow can be deployed for other investment opportunities.