The relationship between inventory, sales, and cash
The relationship between inventory management and sales is important because you can only know what inventory you have, if you know what has been purchased and what has been sold, with the net effect being the impact on the cash flow. The business owner must keep accurate records to track the
profitability, cash flow, and making decisions about re-ordering products, how much to purchase, and when.
In business terms, inventory management means the right stock, at the right levels, at the right place, at the right time, and at the right cost and selling
price. Although services and physical products are different, the general rule is that 80% of the sales come from 20% of the products. Controlling inventory is essential, especially during a time when consumer spending is low, as it can help you to save a lot of money. Sometimes business owners are tempted to buy larger quantities to make use of vendor discounts and free delivery but having excess stock is not always contributing positively to the bottom line.
Excess stock is problematic for a few reasons. It depletes cash on hand whilst the inventory is standing on the shelves. If the sell-by date is reached or it is
seasonal products you could risk losing money. Have you ever thought about the impact of Christmas merchandise not being sold before the 25 th ?
Consumers expect large discounts and you might sell at a loss. The storage cost must also be kept in mind. If consumers are presented with a large variety of
brands on a specific product the decision-making becomes too difficult and they do not buy at all. The impact of insurance and taxes must also be kept in
A German study found that 63% of shoppers who can not find what they are looking for chose to buy the product from a competitor or did not buy at all.
Another costly problem is losses due to theft, paperwork errors, supplier fraud, damaged goods. It’s a double hit – you cannot recoup the cost of the inventory
and you cannot sell the inventory. In some cases it is possible to increase the prices, thus passing it on to the customers, this all depends on the price sensitivity of the consumers. Processes can be put in place, like additional security, increasing overheads.
What are the effects of your inventory management? Do you have the right products available when needed? Did you lose out on business when products
are out of stock or presenting the consumer with too many choices? Or did you lose money due to excess inventory?
You can use manual tools, good old Excel or inventory management software or systems to know when to reorder, how much to order and where to order.
Most important is the accuracy of the record-keeping. Here is how to have enough inventory, without compromising sales and cash flow.
1. Forecasting – planning ahead is crucial.
a. Adjust the forecast based on seasonal trends and economic conditions. Analyze the data of your competitors or the industry, in general, to assist with the forecasts.
b. Analyze the sales of your business. Are you selling essential or luxury products?
2. Productive inventory – Find the 20% of products
a. Classify inventory according to a system eg fresh produce
b. What are you purchasing and what are you selling?
c. What is not selling; just sitting on the shelves?
d. Reduce or stop selling the other 80%. If it is difficult to make this decision do the calculations below for an eye-opener.
3. Do the calculations
a. Economic order quantity – The EOQ is the optimum number of products to be purchased to minimize the total cost of ordering and storage.
b. Days sales of inventory – This refers to the number of days it takes to sell the inventory. It differs from industry to industry, but generally, a lower nr of days is ideal.
c. Re-order point – Do determine the right time to order more inventory.
d. Safety Inventory – The buffer to ensure that you have enough inventory to meet demand, but not too much to increase storage cost and to impact the cash flow.
Balancing the inventory, sales delicate process as it has a direct impact on the cash flow of the business.
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