Inventory cost - the costs spent to store raw materials or finished products, is a significant chunk of the working capital of a business. High inventory cost weighs 20% - 25% heavier on a business's bottom line.

Supply chain managers should proactively manage inventory to boost working capital and optimize cash flow in the business. Inventory is the lifeblood of any e-commerce, F&B, and retail industry. This article will discuss six ways to reduce inventory costs and help optimize working capital.

What is Working Capital?

Working Capital is a measure of a company's short-term financial flexibility and health. On the financial side, faster invoicing is one way to free up working capital. On the operations side, underutilized inventory assets mean inefficiency and poor return on investment. Therefore, it is essential to have healthy working capital levels to maintain liquidity and solvency positions, uninterrupted operations, profitability, and manage contingencies.

Saving Inventory Cost To Optimize Working Capital?

The inventory cost comprises two aspects; the purchase price of goods and the carrying cost. The purchase price is the expense incurred by a business while buying inventory. The carrying cost is the businesses' expense while purchasing and storing inventory, including storage fees and insurance costs. To save on inventory cost and optimize working capital, businesses should focus on the following six key areas of Sales and Operations Planning.

1. Optimize Service Levels: Every company, whether in the food service industry or retail, has to manage its inventory costs. The most common way is to set the desired inventory level and then buy constantly more of a product as it becomes close to being out of stock. As a result, businesses tend to lock up money by overstocking certain products. Optimizing service levels can help solve this problem. Managers through Pareto analysis should identify the products that bring in the majority of sales revenue and ensure that they maintain high service levels (>90%) only for those; to never miss out on sales opportunities for products that are in high demand for considerably higher earnings. High service levels should be considered an essential investment in a business, not an expense. In addition, adopting a high level of customer service can help boost customer loyalty and word-of-mouth referrals and drive sales by reducing the likelihood of lost sales due to product or service problems. 

‍Kronoscope allows demand planners to maintain adequate service levels by classifying the entire SKU group into ABC classifications as per Pareto Analysis. Class A products bring in the majority of the revenue and 95% of service levels are maintained for them. In Class B the service level suggested by the system is 80%-90% and for class C service level is 75%-80%.

2. Dynamic Safety Levels: Safety levels are assigned based on the demand variability and lead time of a product. Dynamic safety stock levels are helpful in optimizing working capital by creating a dynamic buffer for only those products which have a high demand variability or unpredictable lead times. High dynamic safety levels should be maintained for high selling products with high demand variability. Once the demand prediction tool or model in use trains itself to predict demand accurately and reduce demand variability these safety levels can be brought down. Dynamic Safety Levels allows companies to optimize working capital by spending only on high-risk products, giving businesses more control over their supply chain. ‍‍

‍Kronoscope with its dynamic demand sensing and inventory planning capability, allows companies to maintain flexibility in safety levels to manage cash flows and working capital.

3. High Prediction Accuracy with Demand Sensing: Demand sensing is a new technology that is changing the way retailers do business. Demand sensing enables retailers to tailor their inventory on the fly in real-time in response to the actual needs of their customers. It does this by collecting data about the buying patterns of customers and employees and then adjusting inventory levels at stores accordingly. 

‍Fountain9’s predictive inventory planning product- Kronoscope, is an extremely capable, cost-effective, and reliable solution for accurate Demand Sensing.

4. Efficiency in Replenishment/Procurement Planning: The subsequent step of accurate demand prediction through demand sensing is replenishment and procurement planning. Good timing is essential for this process to create dependable, repeatable synchronization between demand and inventory. Businesses need to account for dynamically changing lead times, fill rates, pricing, shelf life, current inventory levels, and open orders for different categories and products to bring in motion shorter cycles of purchasing as businesses move to lower days on hands requirements. 

‍Kronoscope helps businesses to plan their replenishment and procurement processes accurately by factoring in supplier lead time, service levels, offset and replenishment durations.

5. Accurate Inventory Pile-Up Prediction: In a world where the demand for products is constantly fluctuating, and the supply of raw materials also changes, precise prediction of inventory pile-ups can help avoid wasted production time, unnecessary expenses, and opportunity costs. The cost of carrying this excess inventory also results in lost opportunities to invest in other operational and marketing initiatives. 

‍Kronoscope helps businesses optimize their working capital and reduce the complexity of managing multiple inventories. It allows managers to identify the products likely to sell out and inventory levels in advance. 

6. Accurate Stock-out Prediction: Stock-out is a complex phenomenon that has eluded economists and management gurus for a long time. All businesses need a steady flow of inventory to keep their customers satisfied. Yet, there are times when inventory runs out unexpectedly, contrary to demand predicted, with little warning, leading to lost sales and costly reordering. Businesses to counter this problem, maintain a safety threshold of inventory levels. 

Kronoscope can help businesses optimize their working capital by accurately predicting stock-outs and suggesting appropriate safety threshold levels.

Calculating Inventory Cost  & Out-Of-Stock Risk Exposure

Fountain9 with the help of proprietary algorithms can help businesses identify their exposure to the risk of potential out-of-stock losses and wasted inventory costs.  For a business generating $100M revenue through sales operations with 500 warehouses, DCs, and stores, 20 SKUs, and 5 days' worth on-hand inventory while maintaining a 30% margin is at a potential risk of out-of-stock losses of $13M. Kronoscope can help such businesses with incremental revenue ~$2.7M. Kronoscope also helps such businesses to bring down their potential inventory costs from $70M to $14M, making them a more agile and leaner organization.

Implementing and utilizing appropriate inventory management platforms and performance metrics is the first step towards realizing this goal. As a result, leading e-commerce, f&b, and retail businesses have turned to advanced technologies like AI/ML and data-science driven supply chain visibility applications like Kronoscope to reduce inventory management costs and improve working capital performance.

Wish to know how much working capital is lost with the mismanagement of your business’s inventory? Refer to our Working Capital Missed Opportunities Calculator and initiate a journey towards leaner and healthier operations.

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