Here at Supply Chain Secrets, we like to talk about some of the issues in supply chain that matter to professionals in other parts of an organisation, like finance and IT for example.
In this post, we cover some of the reasons why inventory should be a point of interest if you work in finance for a company operating a supply chain.
Inventory in your company’s supply chain has an important bearing on financial health, so as a finance professional, it’s in your interest and that of your team to keep a pulse on the inventory management side of your business operation.
Supply Chain Inventory and Corporate Financials
You may hear a lot of talk in your organisation about the need to reduce inventory in the supply chain. This is largely a financial concern, due to the huge and direct impact that raw material, work-in-progress, and finished goods stockholdings have on corporate financials.
Some of the important financial benefits of reducing supply chain inventory are as follows:
It increases net income: When your company reduces supply chain inventory, there is less need for working capital.
As inventory on the balance sheet goes down, you will see a corresponding dollar for dollar increase on the cash flow statement. The extra availability of cash eases the interest burden on short-term borrowing, which in turn leads to increased net income for your enterprise.
However this is not the only way an inventory reduction would be reflected in your company’s income statement. There is also the associated reduction in inventory carrying costs—the expenses connected with storage, handling, insurance, taxes, obsolescence, and shrinkage.
It drives greater return on assets: Every item of inventory in your supply chain is an asset. When inventory is reduced, so is your company’s overall asset base. This translates into a higher return on assets for your business.
It Shortens Cash Conversion Cycles: The lower your company’s inventory levels fall, the faster the inventory turns over. Faster turnover leads to a reduction in inventory days outstanding, making for shorter cash conversion cycles.
A Healthy Balance Must Be Maintained
While the emphasis on inventory reduction is intense in most corporations, it is possible to overdo it. When supply chain inventory levels are cut too far, customer service is often the first thing to suffer.
Without sufficient safety-inventory in the system, manufacturing and sales organisations can suffer excessive stock-outs, or find themselves with inventory located in the wrong place to meet orders on time.
Stock-outs and shipping delays can result in lost sales and also in extra operating costs, as inventory is shuttled between distribution nodes and expedited shipping costs are incurred.
These issues are all detrimental to financial performance and should hence be cause for concern among you and your colleagues in the treasury. The balance is a fine one and with growing supply chain complexity, becomes ever more challenging to achieve.
As time goes on, companies are finding the need to involve finance professionals more deeply in supply chain operations and since inventory management is a major influence on financial health, it’s one area that will benefit from collaborative efforts between your team and those in the supply chain.