How to Budget and Manage Inventory for 2011
Be careful what you wish for.
If you're like many small-business owners still struggling to survive in today's tough economy, what you're most hoping for in the New Year is an increase in demand. Fact is, however, should orders rise too quickly, you might find yourself in a different type of jam: an inability to come through with the goods, thanks to sparse inventory levels at your suppliers.
In fact, inventories are critically low nationwide. Most companies have an average of less than 29 days of inventory on-hand, an 11.5 percent drop from the year before. That's the lowest level since 2003, according to a recent analysis of the 1,000 largest public companies in the U.S. by REL, a consulting firm that focuses on working capital performance.
The economy is the driving force of this predicament, of course. Suppliers simply can't afford to keep a lot of inventory on their shelves. But that creates the potential for a difficult situation. 'Inventory levels are at a point where you really need to worry about just how you're going to meet an upturn in demand,' says Jerry Mills, CEO of B2B CFO, a provider of temporary CFOs located in Mesa, Arizona.
If you're projecting increased demand in 2011, your best chance of meeting it is by working closely with your key suppliers now. Here are steps to help you in that process.
Managing Inventory: Get a Backup
When possible, your first step is ensuring you have more than one supplier. Don't go overboard, however. Two choices is best, advises Ken Kaufman, CEO of CFOwise in Pleasant Grove, Utah. The reason: you will find it cumbersome to manage too many supplier relationships.
That said, having extra suppliers also allows you some bargaining room. Take Linda Minde, co-owner of Tri-Lite Builders, a 29-year-old, four-employee Chandler, Arizona, home remodeling company. Several years ago, according to Minde, during busy times, she had to wait as long as six weeks for fixtures and other parts. So Minde sat down with her key suppliers and had a talk, explaining that, while she valued their business, she knew of other companies able to get her supplies in two to three weeks. It worked. 'They realized it would help them to help us,' she says. 'The more jobs we can do, the more products they can sell.' Now, the same vendors usually keep a stock of certain often-used products on hand for Minde, to tide her over when demand spikes.
Managing Inventory: Think 'Partner'
Certainly, her suppliers' loyalty is also a result of Minde's long relationship with them, as well as many years of paying bills on time and providing a steady, reliable source of business. In fact, with any important vendor, you need to make sure that 'you become their favorite customer,' says Kaufman. Your goal is to encourage vendors to see you as a partner and, as a result, keep you at the top of the list. You can accomplish that by not just paying bills on time, but also responding quickly to questions and being willing to agree to flexible terms. If there's a problem, says Kaufman, 'Don't pick up the phone and scream. Ask how you can work together to solve the issue.'
Perhaps the most important ingredient is communication. That includes going out of your way to meet face-to-face. Kaufman points to a 35-employee medical device manufacturer that uses six vendors to supply about 18 pieces containing dozens of components; the company takes care of the final assembly. To make sure suppliers are able to come through, the business stays in constant touch with them. One vendor, in particular, the only supplier of a key component, happens to be about an hours' drive from the firm's headquarters. 'We're in their office regularly,' says Kaufman.
That paid off recently, when the vendor was having trouble meeting orders because it couldn't get materials from one of its own suppliers. But because his client was there all the time, says Kaufman, the vendor "had people working late into the night, at no extra cost to us."
Managing Inventory: Keep an Eye on Vendor Data
The more information you have about your suppliers' inventory levels, the better you can plan. As part of the information-gathering process, ask your vendors to provide web access to product data. It's unlikely they'll allow you to see cost information, but they probably will let you monitor how many items they have on hand.
There's also the old-fashioned way of keeping in touch through phone calls and e-mail. Be sure to prioritize your suppliers and focus on a few, critical materials, rather than an entire product line. For example, John Marrero, who heads LivingSpace Technologies, an eight-employee Jupiter, Florida, company that designs and installs home and commercial audiovisual systems, regularly checks in with vendors about their pipeline for high-end speakers and a handful of other products. Marrero talks to especially important suppliers as often as once a week.
This is especially important if your business experiences high turnover, because even a slight increase could put a real strain on suppliers. A best practice is to break your inventory turnover down to individual products to see where potential supplier trouble spots are and address them.
Managing Inventory: Be Ready on Your End
For service businesses, the issue, of course, is finding ways to ramp up personnel quickly. One solution is to use sub-contractors. That, however, might mean higher costs, at least in the short run. Plus, you might simply prefer to have people on staff. If that's the case, you should develop a system for constant interviewing to generate a list of candidates to call on at a moment's notice. Kaufman points to a 70-employee search engine marketing company as a case in point. Managers at the firm spend at least part of every day interviewing candidates and building up a database of potential employees.
Managing Inventory: Budget for Different Scenarios
Now back to those budget spreadsheets that need filling out. Your best bet is to create a minimum of three budgets: one with an aggressive forecast for sales increases; another using more conservative-assumptions; and a third with worst-case scenarios. That's something you should always do, of course. But, in an environment where the prognosis for demand is especially unclear, it's particularly important. Your top consideration should be the effect of increased costs on cash flow, a critical issue when demand increases, since your needs for working capital will also rise.
Managing Inventory: Final Thoughts
Budgeting season is the perfect time to scrutinize vendor relationships. Your suppliers are in all likelihood mapping out their expectations for the year and you can help them do so by providing your outlook. As a best practice, you should share your budget and the variety of scenarios you might face to see whether they can handle each level of demand.
'Ask them, if we're going to grow at this rate, will you be able to accommodate our needs,' says Ken Gaebler, a small-business specialist in Chicago. 'If they can't you're probably dealing with the wrong guys anyway.'
Many businesses have failed because they couldn't meet demand. There's no good reason to join those ranks if you plan ahead properly.