Excess inventory can reduce cash reserves (typically used to cover unexpected expenses during uncertain economic periods) and create a strain on a manufacturing or distribution company’s ability to pay unanticipated expenses. Therefore, tough times require companies to get back to the basics of controlling inventory to generate cash. While inventory turnover declines when a company’s sales begin to drop, a hallmark of active inventory management is quickly identifying a downturn and reducing inventory to align with the lower sales volume. Conversely, as demand increases, companies should anticipate the upswing and build inventory levels accordingly to support sales growth.
Square One: Know Your Company’s Numbers and Needs
Various factors can influence the decision to reduce or increase inventory. These include market conditions, customer and vendor relationships, and weather patterns. Ultimately, companies should determine inventory by forecasting sales and weighing risks against rewards. One of the first steps a company should take is conducting an inventory count. A proper inventory count requires scheduling a brief pause in production, shipping, and receiving to perform a complete count of all items. In addition to this annual complete inventory count, companies should also perform “cycle” counts on shorter intervals.
A manufacturing or distribution company can identify excess inventory after determining accurate quantities. It can also begin monitoring any noticeable “shrink,” or the difference between its perpetual inventory and actual inventory. This difference could result from failure to double check invoices, incorrect data entry, or theft.
Homework: Steps for Improving Inventory Management
Here are five recommendations for improving inventory control processes:
1. Monitor orders. Companies should carefully manage all inventory order points by monitoring orders. They should not only develop a system for quick and timely ordering, but also vigilantly monitor the reorder quantities that suppliers provide.
2. Analyze sales. By monitoring sales patterns, a company can determine which items are in high demand or, alternatively, which items to discount because they are not selling or have a slow sales cycle. A company can replace these slow-selling items with items that provide a better return.
3. Examine inventory. Companies that continuously monitor product inventory levels may find opportunities to discount overstocked or low-demand merchandise. Companies may need to consider instituting a supplier return policy on such items.
4. Forecast inventory requirements. Businesses should identify variables that impact sales and then develop a system to predict inventory needs. Ideally, companies will maintain the lowest possible inventory levels without adversely affecting sales or client service.
5. Study current suppliers and identify potential alternatives. Negotiating strategic alliances with suppliers can be effective in mitigating inventory issues. By reducing the time it takes to receive the inventory, the company can order smaller quantities more frequently, which increases cash flow. Some suppliers may offer incentives (e.g. discounts) to earn new business.
CRI Can Help You with Inventory Control
With reliable internal data and a thorough understanding of supplier resources, manufacturing companies can use inventory control to quickly improve their cash flows. CRI’s manufacturing and distribution CPAs can provide options and advice specifically benefiting your company. We can consult you with accounting software, improving internal controls, managing inventory with alternative methods, and mitigating the tax impacts of carrying inventory.