Oftentimes, some of the most obvious ways for a company to save money aren’t so obvious. Inventory is one of those areas.
Even among well-run businesses, quite often the actual costs of inventory are inaccurate, underestimated and incomplete. It can be pretty easy to overlook piles of boxes or parts tucked away in the back of a warehouse, but the bottom line is that surplus inventory is one of your largest expenses. One widely known study calculates inventory-related costs are between 25-55%, with “static” inventory being the biggest drain on the bottom line.
So where are these inventory costs coming from?
- Cost of Capital – While you want to be ready to meet sales demands, too much sitting inventory comes with a sizable price tag. In addition to the cost of materials, interest rates on the financing of parts or products supplies need to be factored into the equation. Depending on your industry, the cost of capital can range from 2% to as high as 12%.
- Taxes & Insurance – Need we say more? Depending on your industry, expect to pay between 3% to 9% for taxes and insurance premiums combined.
- Storage Costs – Excess inventory becomes a challenge when on-site space is limited. Warehouse storage can cost a company up to 5% of product value per year–even more if you need a climate controlled space. If you’re using that space to store “dead inventory, according to Industrial Distribution it can cost your company 25% to 30% more than the value of the inventory’s unit cost.
- Handling Costs – Transporting products from storage to a manufacturing facility and then on to a distribution center can be time consuming, and costly. You should factor an additional 2% to 5% of the cost of your goods to get parts or products from point A to point B.
- Administrative Cost – The people and systems you rely on to manage your inventory are an additional cost you might not have in your equation, but you should. Plan to allocate 3% to 6% of the cost of goods to admin costs.
- Cost to Scrap or Update – At 6% to 12% of product value, the cost of unloading an item before it is sold at full price makes up the largest chunk of hidden inventory costs. Products that remain on hand for too long either undergo pricey upgrades, sold at a reduced cost, or considered waste.
- Loss & Theft – Having parts or products get damaged or go missing happens. Unfortunately, that “cost of doing business” will cost your company 3% to 6% of the product’s value.
What Can You Do to Reduce Your Inventory Costs?
Rather than hold inventory, many manufacturers are finding considerable cost savings and improved efficiencies by outsourcing inventory and supply chain management to manufacturing partners. Since a contract manufacturer has more production capacity (the ability to produce more goods) than your company may have, it can respond to increased production requirements faster.
A partner who offers a complete supply chain solution can also streamline many of your business operations by assuming partial or, in some cases, complete manufacturing responsibilities for specific components or product lines. This is achieved by designing a program that ensures parts are always available when needed. Programs your manufacturing partner may develop include:
- Custom, mechanical assembly systems
- Single, multi-level and configurable bill-of-materials (BOM) assemblies
- Customized kitting and component packaging
- Kanban programs
For one automotive aftermarket company, rather than manage its own sizable aluminum parts inventory, Vitex Extrusion developed an automated Kaban program that triggers the need for materials based on actual customer demand rather than sales forecasts. Programs like Kaban allow a company to reduce in-house inventory levels, reducing many of its inventory related costs.
Additionally, rather than make a capital investment in new equipment to increase your own production capacity—an investment that could sit idle if demand falls—you can partner with a manufacturer who has already invested in new technologies and can more easily handle production volume changes.