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The Business Case for Vendor Managed Inventory

While the concepts and benefits of Vendor Managed Inventory (VMI) have been relevant for years, both inventory management providers and manufacturers struggle to identify the ROI associated with VMI programs.

Inventory Management Defined

VMI has been traditionally defined as a model where the supplier manages the on floor inventory at their customer’s location. The supplier typically manages basic inventory functions like reordering, replenishment, and delivery to the stocking location.

The majority of the challenges associated with inventory management programs are related to unexpected demand changes resulting in either stock outs from an increase in production or excessive inventory when production declines. In order to create an optimized and efficient inventory management program, an open dialogue about true inventory consumption between the supplier and the manufacturer are required. Regardless of how sophisticated the VMI technology is, without complete transparency and well-trained inventory management specialists, the program will be vulnerable to failure.

True Cost Opportunities

In many cases, the true ROI of inventory management gets lost in all the confusion of delivery schedules, efficiency improvements, shortages, overstock, moving parts, quality, etc. and as a result, manufacturers are hesitant to implement a program. For companies that already have programs they are usually cautious to make changes for fear of another failure and as a result, those programs do not continually improve as they should. Both the supplier and the manufacturer should frequently evaluate the total costs opportunities (TCO) associated with their jointly developed inventory program.

In order to design a new or improve an existing VMI program, collaboration with key functional area leadership team members is key. These discussions are aimed at mapping current processes and identifying TCO. In simple terms, the goal is to reduce the manufacturer’s transactions, remove inefficient processes and identify the TCO associated with these reductions. Cost savings are generally categorized by labor reduction, working capital improvement (as a result of lowering on-hand inventory) and warehouse space savings.

Typical Key areas of focus are:

  • Receiving
  • Quality Assurance
  • Warehousing
  • Manufacturing
  • Finance
  • Engineering

Calculating the TCO by functional area can help justify inventory management implementations or generate new ideas for existing programs.

true cost opportunities

Inventory management programs, in general, can improve with regular updates/discussions between the manufacturer and supplier with the key focus on driving TCO into the program as needs change. Bringing a tangible and quantifiable approach to cost savings can facilitate VMI design.

Inventory management systems continue to evolve by utilizing different technologies such as RFID, scales, Artificial Intelligence, and IoT.   With that being said, variance reporting by the supplier and clearer future demand from the manufacturer are required for high performing VMI programs regardless of the technology being utilized.