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Inventory Reduction: Stopping the Flow

"There are two methods that produce immediate results relative to reducing inventories: The first and best method is to ship it as customer invoiceable products. The second is to stop inventory from arriving at your receiving docks....... ."

The complete article, "Stopping the Flow," appears below the line.

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Bill Gaw

Business Basics, LLC
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bg@bbasicsllc.com


          Inventory Reduction: Stopping the Flow

There are two methods that produce immediate results relative to reducing inventories: The first and best method is to ship it as customer invoiceable products. The second is to stop inventory from arriving at your receiving docks.

The first is fairly straightforward, if you're currently scheduling your factory with an ERP/MRP system, investigate the benefits that sequential production and point-of-use logistics could bring to your manufacturing environment. It may be that a few crucial, up front changes could dramatically speedup shipments and inventory reduction. 

The second method is one that most material managers dread---turning it off.  Early in my career, as a materials manager, I was told to stop inventory from arriving at our receiving docks---it was in the form of an executive order. I was directed by my CEO to limit our monthly inventory intake to 75% of the previous month's inventory relief. 

Such simplicity was not in my standard operating procedures. How do you keep shipments going out the door with such a restriction? What about our commitments to suppliers?  How do we know what to stop from coming in? And, what happens if the inventory restriction stops parts from arriving that are required for outgoing shipments.

As a materials manger, I was so directed twice and I hated it. I always took the position that I was a professional and did not need nor want an arbitrary dictate to control the execution of my inventory responsibility. As much as I detested the dictate, I learned that this arbitrary decision actually helped focus our inventory reduction efforts and in one case saved our company from bankruptcy.  

To cope with INVENTORY MANIA, you will need to consider unconventional inventory reduction actions.  The arbitrary dictate of limiting input to a percentage of output while I agree is not a professional approach to inventory reduction, it is one that helps to get the job done. So before your CEO gives you such a directive, self-impose one on your materials team. 

Establishing Lower Level Control

If your company is measuring inventory effectiveness by inventory turnover ratios, chances are that your information is too little, too late, and too distorted for effective inventory management. Why? First, because financial turnover calculations are based on past sales and consequently are a trailing indicator that communicates false performance data. Second, because the data is aggregate, it does little to help track problems to their root causes. And third, because the data is provided on a monthly basis, planners are always in a reactive planning cycle. For planners to become proactive, inventory performance data must be provided on a more frequent basis and at the part number level.  

To effectively reduce inventories, you need to provide planners with valid and timely inventory performance data. The first thing that needs to be done is to get your materials team to work with your financial group to develop an inventory performance measurement that is predicated on forward requirements at the parts level. Such a system is called Days-of-Supply. This type of system takes the net requirements generated from a master schedule and calculates a daily consumption rate for each part. This rate is then divided into the on-hand inventory balance for each part to arrive at its designated Days-of-Supply.  

Next is to establish a Days-of-Supply target for A, B and C items (e.g.10, 30, 60 days). This information is then used to create a report that defines excess inventory in terms of $$$. It calculates by part number the quantity of parts above the Days-of-Supply target and multiplies the result by the part's unit cost. A simple Pareto analysis of this data will provide a value based priority focus for an inventory reduction program. It's not the perfect system but it is far superior to using turnover ratios. 

An Inventory Perspective

For simplicity, let's limit our perspective to three inventory classifications: Active - Inactive - Obsolete. Active inventory can be defined as the in-house inventory purchased and manufactured in support of the master schedule and in accordance with your Days-of-Supply targets. Inactive inventory is valid inventory that is in excess of your Days-of-Supply targets, (often referred to as slow moving), and finally, obsolete inventory is inventory that has been declared no longer required in support of your products.  

With a Days-of-Supply road map as your guide, inventory action should begin by identifying all open orders that require immediate action. If MRP is calling for the release of new orders for parts that are targeted for reductions, an analysis is required to determine what is wrong with either the MRP ordering parameters or the Days-of-Supply calculation. If there are excess orders placed, suppliers must be contacted to stop shipments until a reassessment of requirements can be made. And, finally where open purchase orders are no longer required, supplier shipments must be rescheduled and/or canceled. At this time, key supplier on-site physical inventories may be in order. 

Once the open purchase order situation has been brought under control, the next step is to evaluate your on site inventory situation. Obsolete inventory needs to be isolated from all other inventories and written off the financial books in accordance with legal and ethical practices. It has a direct negative effect on the company's profitability as it directly impacts the bottom line. Consequently, it is important that prior to inventory being declared obsolete, it be reviewed for: Rework into useable inventory, resale back to suppliers, sales to customers as heavily discounted spare parts, and engineering uses.  

Inactive inventories, especially slow moving inventories should also be reviewed for innovations for consumption but unlike obsolete inventories, cost effectiveness needs to be taken into account during such a process.      

Supply Chain Management 

In the future, more than at anytime in past, the management of active inventories will significantly impact profit and loss for many manufacturing companies. Yes, inventory-carrying costs should be coming down, but blindly carrying excess inventories as a means of coping with ineffective production practices will be the downfall of many companies as we move further into next year.  

What are leading manufacturers doing about inventory management? They're moving from ERP/MRP shop order "launch and expedite" systems to sequential production and point-of-use logistics. Some of these companies have reduced their inventories by 50% while increasing their on-time delivery performance.  

How are they doing it? By moving from the "Push" system of lot size production to the "Pull" System of flow technology. We call it Kaizen Based Supply Chain Management™ (KBSCM) This supply system incorporates a set of BASICS, principles and techniques that can optimize supply chain performance and help companies to consistently exceed performance expectations. The 8-Basics of KBSCM provide the foundation for world class logistics and the foundation for the creating a lean enterprise.  


August's Special Offer for MBBP Subscribers


If your company is in need to improve its inventory management, don't miss out on this month's MBBP Subscriber's special offer: The Supply Chain Management, Back-to-Basics, PowerPoint-Plus, Training Package. You can take $100 off our special Website visitor's price and have it at your desk in 2-3 days. Shipping and handling are free, 100% refund guarantee, but take action today... you'll not see this offer again until August of next year. Take five minutes to check it out... simply click on the below link:

Kaizen Based Supply Chain Management

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