What do major retailers like Walmart, Dillard departmental stores, and JCPenny have in common? Among other things, all these companies are the initial adopters of vendor-managed inventory (VMI). Over the years, numerous organizations have adopted VMI, but what is it?
VMI, also called supplier-managed or continuous replenishment inventory, is a process of inventory management where the supplier (manufacturer or distributor) is responsible for managing the inventory on the retailer’s or the consumer’s premises. The ownership of the inventory lies with the vendor until the products are sold. However, the buyer and the vendor can agree on a different ownership arrangement during contract negotiations.
Today, some of the major corporations around the world run their inventories using the VMI model either partially or completely. Companies like Amazon, Walmart, The Home Depot and Bosch have successfully adopted VMI into their inventory management.
For instance, if a retailer sells Procter & Gamble’s products, the retailer would not be responsible for inventory decisions, such as replenishment, reorder quantity, shipping, and reorder time for the inventory. Instead, the company would verify whether the retailer had enough stock and send them the goods that have reached reorder levels.
In VMI, the responsibility of purchasing shifts from the retailer to the supplier. Under VMI, the supplier contacts the retailer with a purchase order. The supplier will greenlight the purchase, ship the goods and send shipping notices to the retailer.
What are the benefits of vendor-managed inventory?
Let’s look at the principal benefits of VMI.
Cheaper introduction of new products
When vendors manage the inventory at the retailers’ premises, they can introduce new products with relative ease and limited costs. The vendor owns the inventory, and the risk that comes with it. Therefore, the retailer won’t incur additional expenses for ordering new products, while the vendor can have their products marketed
Moreover, the unsold goods are returned to the vendor at the end of a stipulated period. This takes care of any apprehensions that the retailers might have about testing out new products.
When the retailer is in charge of inventory, they will usually order throughout the year. They may order monthly or quarterly. For example, if the supplier has a benefits program that calculates quarterly orders, the retailers might order the goods in time to get the benefits. The problem with this kind of ordering is increased cost as follows:
For the supplier
- The cost of storing the goods produced throughout the year and selling them periodically.
- The cost of transportation of goods to different retailers at different times.
For the retailer
- The retailer has to store the goods and bear the cost of storing them to be utilized for a longer period. So, instead of the stock being consistent, there may be overstocking or understocking over the period.
- The ownership of goods belongs to the retailer, so the retailer bears the investment cost.
When the vendor manages the inventory, the supplier and the retailer can control costs. Many vendors use quick response (Q/R) systems for inventory management which refers to a system where the vendor reorders when inventory gets low. Products ship as soon as they are low. This system lowers the reorder point (ROP) of the goods.
The supplier supplies the products to all the retailers regularly to manage transportation costs. Retailers are relieved of the overstocking expenses due to constant supervision from the supplier.
Above all, the customers – the final consumers – value the availability and cost of the product. If a product is not available on the shelves, customers could quickly move to the competitors’ items. VMI can solve both issues. The supplier takes charge of resellers’ inventory management so they will never face understocking issues. There won’t be availability issues for the final customers.
Moreover, VMI can ensure that the customers have the choice to buy new products as soon as the suppliers release them in the open market.
In VMI, if retailers cannot sell the goods within a stipulated time, the vendor will transport the goods to another location. In contrast, if VMI is not in practice, retailers must send the goods back to the vendor, who will sell them to another retailer.
Reduced returns at the end of the product life cycle
A vendor has all the inventory data at their fingertips, including the purchase, sale, and returns for all the retailers. This gives the vendor a clear picture of the life cycles of each of their products. If more retailers return the unsold product, the supplier can gauge that the product is reaching the end of its lifecycle and will soon be obsolete. The vendor can put brakes on the production of a particular product.
The vendor can give discounts on such products to clear out the inventory. Of course, it is beneficial to both parties if there is minimum inventory to discard at the end of the life cycle. Therefore, the vendor and the reseller can benefit from reducing dead stock. VMI can help limit the loss arising from obsolete stock lying in the warehouse.
Improved inventory visibility
The manufacturer/vendor has a clear vision of the product performance with all the resellers. They can judge product performance by:
- Types of consumers,
- Marketing efforts, and
- Product lifecycle stages.
The manufacturer can plan production around these indicators. Rather than maintaining the same level of production, they can increase or decrease the production according to estimated demand. VMI can increase the reliability of demand estimation.
What are the disadvantages of vendor-managed inventory?
Every system has its own limitations, and so does VMI. Let’s look at some of VMI’s disadvantages.
Higher costs for the vendor
If you’re a vendor, it’s certainly not cheap to manage the inventory of so many of your resellers. The administrative cost of the vendor increases exponentially as opposed to the customer-managed inventory system.
The other significant cost is setting up a real-time IT network, connecting all the locations. All the distribution centers should be connected to the vendor’s computer network. Moreover, the vendor must have a reliable inventory management system to handle the inventory.
Loss of control for the retailer
As the vendor gains control, the retailer loses theirs. The retailer/reseller has no control over the stock in their store. The vendor makes inventory decisions, which might misjudge the retailer’s potential. The retailer might lose some business due to the vendor’s perspective.
Final thoughts on vendor-managed inventory
Vendor-managed inventory is the system where the manufacturer/vendor manages the inventory at the retail store. The vendor and the retailer draw a contract to specify details that include the terms and conditions of the arrangement. The supplier refills the stock sold by the retailers periodically. They have a clear vision of the stock on the premises of multiple retail outlets and can make timely decisions to maximize their profits.
If you are thinking about starting the vendor-managed inventory for managing your customers’ stock, DEAR systems can help you set up the entire system.