The cost of materials makes up a huge portion of spending in most businesses. Failure to monitor and control those costs can create serious cash flow problems. Conversely having the knowledge and ambition to identify and control big cost areas can make quick heroes of new and seasoned managers alike.
The starting point is identifying the major variable cost items in a typical business and investigating the opportunities and impacts of managing each one. Something that top managers and CEOs all understand is that in most businesses the cost of inventory is the single biggest opportunity for cost savings and cash flow control available. Few managers make it to the top without learning this lesson well.
The cost of inventory is the largest regularly occurring expenditure in most businesses, along with salaries. Having enough supplies available to service all of your customers is critical to your business success. Ordering too many supplies can put you in a serious cash flow crisis. Managing inventory costs is critical business.
In theory you just predict what you are going to sell, and then purchase the required components. The problem is the word "predict". Depending on your business, predicting not only total sales but also the mix of what different things you are going to sell is far from an exact science. There is a certain amount of guess work required in forecasting. Sales forecasts are generally optimistic and generally speaking management tip number one is that inventory levels should be heavily based on past performance and not just on future sales forecasts.
Maintaining high levels of inventory has some definite advantages. High inventory enables you to secure volume purchase discounts, ensure fast delivery times and reduce the risk of losing sales due to supply shortages. The price is that you tie up large amounts of working capital and run the risk of getting stuck with "stranded inventory" that you are unable to sell when something new or better comes along. For slow changing industries the benefits of high inventories often outweigh the risks.
On the flip side, running low levels of inventory with just enough supply also has its advantages. You can save significantly on warehouse space and let your suppliers worry about storage costs and facilities. You can also keep more working capital available for other activities. Remember that money is not free and dollars not tied up in inventory can be re-invested in the business, or even in outside investments. The downside is that you will not get the same volume discounts as you can if you keep high stock levels, and you run the risk of lost revenue if your suppliers have problems, or you have a period of higher than expected demand and run short of supplies. Getting just enough supplies, just in time is great if you need to keep money available for other things, and if your supply needs change frequently.
As a manager you need to understand that inventory control is a huge factor in your success. You need to carefully balance inventory levels to ensure adequate supply without wasting money. Managing supply levels requires good, trained people, and is not an area you want to scrimp on to save a few dollars.
The most important management tip when it comes to inventory control is that this is your first line of defense when you get in a cash flow crunch. It is most often the easiest thing you can turn up or turn down to manage cash in a significant way. You may find other items to control, but few things inside a business have the large dollar impacts you need when quick corrections need to be made.
As an effective manager you need to know the inventory situation of the business, and learn to use it to your advantage.