From the August 2010 Issue
Fran Distributing Company saw the economic downturn strike home in the fall of 2009: Cash reserve hit near bottom, reports continued to show orders were down and CEO Fran Rodgers got a letter from the bank stating that it was reducing their credit line by half.
It was always a point of pride that Fran Distribution (not the real name) was a regional leader in their medical and electronics parts business. Their well-stocked warehouse had separated them from the competition, and their strong cash position and flexible line of credit supported that business model for 15 years. Now the dynamic had changed. What options were there for an inventory-intensive parts distribution company?
INVENTORY WAS SACRED
Their broad inventory selection had always been the differentiator, and Fran was not willing to change that or their rapid delivery service. Her questions:
- Could they reduce their cash needs without impacting service?
- Could they change any processes to reduce the financial burden of their large inventory?
- Could some inventory carrying or fulfillment expenses be cut?
- How much could their current system help?
They started with a physical inventory to identify any discrepancies between what their system showed and what they actually had in inventory. Many were surprised at the difference in the two numbers. As they began to “peel the onion” to find the reasons, they uncovered their inefficiencies. Among them was the old accounting system. It was good for producing financial reports that kept the accountant happy, but where was the operational detail about customers and inventory? There was more information Fran Distributing needed. They came up with a list of five areas to be addressed immediately ($$$$ = opportunity for cost savings):
1. Expiration Dates: Two of the product lines they carried had items with expiration dates. They had no process to identify this important information when the items were received into inventory. So when they did this inventory count, they discovered that nearly 15 percent of their goods from these suppliers had expired, reducing their value to zero ($$$$). It was like burning money.
2. Rush Shipments: They were meeting the company mission to deliver quickly to customers, but it was a shocker to see nearly 20 percent of their customer orders required a rush shipment from their supplier due to being “out of stock.” Fran Distribution incurred extra shipping expense ($$$$) and an additional loss because volume price breaks were often eliminated ($$$$) when purchasing smaller quantities for these rush orders. This was another case of burning money, where the goal to keep customers happy with fast delivery was reducing margins dramatically.
3. Alternative Parts: As they counted inventory, they noticed some anomalies, one of which was that battery orders stood out. Fran stocked brand names like Duracell, Eveready and Rayovac. The reports showed plenty of Eveready batteries in stock and several rush shipments of Duracell and Rayovac orders to customers over the last six months, all of which incurred extra ($$$$) shipping charges. Could they not substitute with customer approval? Sure, but there was no prompt to alert their customer service team to suggest selling an “alternative part” when the original requested part was out of stock.
4. Know Thy Customer: Their physical inventory revealed that they had fallen into a regular habit when it was time to replenish: Reorder the same quantity as last time, instead of regularly reevaluating demand. The result was overstock of an item a customer used to order, but had stopped ordering ($$$$) after a change in manufacturing specs. They now required a different item, with a longer lead time. Fran would probably have to fire sale the old product unless they lucked into finding a new buyer for it. Worse, their relationship with this long-standing customer was at risk since they were ($$$$) out of stock the last three times the customer ordered the new product.
5. Seasonal Fluctuations: Several of their large customers had seasonal fluctuations in purchasing, but Fran’s analysis of inventory showed they were not adjusting for this. The effect was to tie up their capital ($$$$), keeping stock levels high on these items year-around when they only needed those higher quantities for about five months. It impacted cash flow.