Our family business manufactures compression springs for the aerospace and nuclear industries. We have annual sales of approximately $6 million and just over $1 million in finished-goods stock, giving us a large taxable inventory. This is contrary to everything I've learned about business. How much finished-goods stock is too much, and how can we reduce it?
-- G.S., South Bend, Ind.
Your business education and instincts are sound. Your goal for finished-goods inventory should be zero. Having $1 million in finished goods on $6 million in sales is way too high. Not only is your inventory taxable but it's also subject to damage, order cancellation, quality-control problems, and
handling costs. Add to that what it costs in floor space to store the inventory, and your company's carrying costs (excluding taxes) probably exceed $200,000 per year, experts say.
It may be of scant comfort, but your problem is not unusual. "Having high inventory and yet having trouble meeting customer demand would seem to be a paradox, but it is a very common problem," says Scott Buchko, operations manager at the Cincinnati-based Institute of Advanced Manufacturing Sciences. "Manufacturers build a lot of
product at once because they have long set-up times on equipment, and they don't want to perform setups more often than they need to. Once they have finished goods on hand, they wait for their customers to deplete it, which leads to high inventory levels and cash-flow problems."
Fortunately, you can take several steps to get control of your inventory and optimize your manufacturing systems so you can satisfy customer demand as profitably as possible, experts say. One way is to proactively enhance your relationships with your customers so you can work closer to the
rate of demand. Jerry Khoury, a supply-chain consultant working for the California Manufacturing Technology Center, recommends that you negotiate annual purchase agreements with your top customers that stipulate co-development teams and design for manufacturability and build in 30-, 60-, 90-, and, in some cases, 120-day purchasing forecasts, which will help you get a handle on reducing inventory.
Mike Coast, executive director of the Michigan Manufacturing Technology Center), says your company could benefit from an overall analysis and assessment that would determine how you can best balance production flow, with the goal of reducing setup times so you can manufacture efficiently in smaller batches. You can find documented setup reduction techniques that a manufacturing consultant could help your company implement.
You could consider creating a "finished-goods supermarket," Buchko suggests, that incorporates kanbans to optimize the level of finished goods. "Kanban, a Japanese word that means 'visual signal,' is a bucket of inventory that when depleted sends a signal to manufacturing to replenish this bucket," he says. "Many manufacturers hold two buckets of inventory for a finished good. When one is empty, the other is pulled from while the empty bucket is replenished. The size of the buckets depends on the level of demand."
Buchko also recommends that you hire an expert familiar with "lean manufacturing," a popular system whose goal is to eliminate all of the waste -- anything that doesn't add value to the customer -- within an enterprise. "They could approach their customers with the lean-manufacturing ideas and see if they are interested in helping or being involved. Many large companies, especially in aerospace, are actively working with their suppliers to help them," he says. The companies may offer training and/or assistance, either themselves or through a third-party consultant.
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