Distributor inventory management software that results in even a one turn improvement, can save a typical wholesale distributor hundreds of thousands of dollars. The less money you have tied up in inventory, the more money you will have to accomplish other things in your business. Here’s why inventory management for distribution companies is critical.
Investing in distributor inventory management software to improve inventory turns is one of the most prudent things a distributor can do. While it is a given that some segments of your product line naturally move faster than others, actively optimizing your inventory as a whole for rapid turns can make or break your distribution business. Given two similar companies, with two similar product lines competing in the same market, the one with the better inventory management system is the one that will grow faster. Poor inventory turns is a bottleneck for growth and a drain on profitability.
“Turns” refers to the number of times your inventory is cycled through your business per year, per month, or over any desired reporting period. Inventory turn rate can be calculated for your entire inventory or just a segment of it, such as a product grouping or particular SKU family, and gives you a picture of how you are doing relative to last week, last month, or last year, or even compared to your competitors. In previous blogs we have talked about ABC inventory stratification; classifying your inventory this way allows you to drill-down and calculate turns on each stratum.
Aside from improved ROI, what are the other benefits of high turns? With any distribution business, the less money you have tied up in the inventory you need for order fulfillment, the more money you will have for working capital to do all the other things a company needs to grow — marketing, advertising, research and development, consulting, acquisitions, expansions, and other investments that fuel your business. Caveats for poorly buffered safety stock aside, the higher your number of turns, the better, and the harder your inventory is working for you and the higher your return on your investment (ROI) in inventory.
Using Distributor Inventory Management Software to Calculate Turns
There are a number of ways to calculate inventory turns but which is “right” and which gives you the best insight into your business?
The “official” calculation to figure out how you are turning inventory, during a given period, is:
Cost of Goods Sold (COGS) / Average Cost of Inventory
For example, if your COGS during the month is $10,000, and the cost of your inventory for that period was $1,000, then your inventory turnover rate is 10 (which would be very good!). If you are evaluating turns over a longer period of time, or if your inventory costs fluctuate during your reporting period, it might be more accurate to calculate your average inventory cost, using:
(Beginning Inventory Balance + Ending Inventory Balance) / 2
Don’t make the mistake of using the “Retail Method of Accounting”, which adds the beginning RETAIL value of your inventory to the RETAIL value of your purchases then subtracting the RETAIL value of the ending inventory, then divided that value by your total sales. This method has been used in the past because some distributors, on the advice of their accountants, used retail values because it was too difficult to calculate costs manually. But that assumes that everything you sell will be at the retail value. With a good distributor inventory management software system like ADS Solutions Accolent ERP, you will obtain a true Cost of Goods Sold. With a system that can generate the right inputs, you should use COST instead of RETAIL to produce an accurate picture of your inventory turns:
((Beginning Inv at Cost) + (Purchases at Cost) – (Ending Inv at Cost)) / (Cost of Sales)
If your inventory management for distribution companies software also has a method of tracking adjustments for shrink or scrapped items, then the more accurate formula would be:
((Beginning Inv) + (Purchases) – (Ending Inv) – (Cost of Scrapped and Lost items)) / (Cost of Sales)
There is a fine line between on the one hand a high number of turns and running out of product because your inventory quantity is too close to what you are actually selling and on the other hand having too much inventory in relation to your sales. Every distributor’s dream is to get their inventory to the correct levels so they have achieved “Just-in-Time Inventory”. Finding that perfect balancing point where your amount of inventory on hand earns the best return should be a systematic process of evaluating and analyzing real results based on sales and costs after adjusting for unusual occurrences. If this balance point has proven hard for you to find, then you need to invest in a good distributor inventory management software system like Accolent ERP, and you will get the tools you need.
For example, if you had $500,000 in inventory, and you only had sales of $50,000 in a month, you would have too much inventory and paltry turns. On the other hand, if you had $5,000 in inventory and $50,000 in sales, you would be buying too often and wasting money on shipping, receiving, and labor required to process frequent purchasing. The ideal target is to turn your inventory 5-6 times, and the best inventory management for distribution companies can help some companies achieve 8-10 turns.
Your goal is to keep your inventory investment at target levels with as wide a selection of goods as possible, and avoid both finished goods sitting in your warehouse, and lost sales opportunities due to insufficient safety stock.
ADS Solutions, a Leading Vendor of Distributor Inventory Management Software Can Help
ADS Solutions is a leading vendor of distributor inventory management software. We have been selling wholesale distribution software for more than 30 years and we would be more than happy to discuss your questions about inventory optimization and inventory stratification. Please feel free to call us for help.