Every human on the planet is an inventory manager. The first humans’ survival depended on how effectively they managed life’s essentials and in some parts of the globe today, people still actively manage critical personal inventories.
Companies around the globe manage inventory items required to produce goods and services in the most efficient manner possible. And like the first humans; having the right product, in the right place, at the right time, for the lowest investment in capital possible matters.
Evolution of Inventory Management
Growing global competitiveness has made inventory control a critical component of overall business strategy for manufacturers and elevated inventory management to a science. Despite the benefits of available inventory many experts have focused on the importance of maintaining low inventory levels in order to reduce cost. Current philosophies like JIT (Just in Time), Lean Manufacturing or TQM (Total Quality Management) consider inventories a cost. Any inventory that exceeds production is a passive liability, not an active one. Furthermore, inventory investment does not gain value, but rather depreciates and constitutes an inventory cost. The goal is to purchase materials only when needed, eliminating or considerably reducing warehouse space and carrying costs.
Inventory excess increases costs. In addition, the product quality will be adversely affected due to inventory deterioration. The highest value an inventory item has is the day it’s placed into inventory and declines in value from that day forward. However, a stock-out, the inability to respond to demand, can be just as damaging — if not more so — than an excess of inventory. It affects goodwill and sales demand. Stock-outs can quickly affect the competitiveness of a company.
Integrated ERP Software Falls Short
Inventory management has gone significantly beyond the costs generated by excesses or shortages based on the most well intentioned ERP software. It also extends to how that inventory is controlled and consumed. The efficiency of inventory consumption has become an area of growing concern in the manufacturing sector. Every day, uncontrolled inventory, including indirect materials, amounts to billions of dollars — compliance, accuracy, accountability, obsolescence, pilferage, hoarding, deterioration, security, availability, tracking, logistics and identification.
To compete globally, every manufacturer must not only manage the efficient acquisition, warehousing and movement of inventories, they must also control the consumption and disposition as well. Integrated ERP software products focus on the movement of materials, which represent a significant percentage of direct material costs, but often ignore the indirect materials that are required to transform those direct materials into products. From hard hats and safety equipment to fasteners and fitting as well as tools and repair items, efficiently managing every indirect material can determine success or failure. With over $5 trillion dollars in indirect materials being consumed annually by US manufacturers, this is not an insignificant opportunity to increase manufacturing efficiency. Indirect material management has become an increasingly important efficiency driver in modern 360 degree based inventory strategies.
The Direct Cost of Indirect Materials.
While manufacturing’s attention was focused on investing in people and processes to manage the quality and cost of the direct materials that are essential to the final products they produce, they have overlooked the direct and processing cost of indirect materials. Historically relegated to industrial distributors for aggregation and disbursement, manufacturers are now taking a hard look at the diverse assortment of spare parts, fasteners, bin stock, cleaning supplies, safety equipment and the like with a keen eye toward efficiency and their bottom lines. Recognizing that indirect materials and the cost to manage them cannot only have a dramatic effect on profits, but on competitiveness — especially as direct labor continues to increase locally and drop globally, reducing manufacturing’s ability to compete.
Most production managers understand what drives direct labor and materials costs, but they are much less aware of what drives indirect and processing costs — especially when their indirect materials are aggregated into bulk commodities contracts. Without manufacturer insight into procurement or processing costs, management metrics generally accepted as KPIs for direct materials management (material usage, trends, alternatives, inventory levels, carrying costs, processing costs, procurement costs, scrap, etc.) is obscured by aggregation or unavailability. In many cases, the hard fought financial efficiencies gained using lean manufacturing strategies in direct material management are lost by being transferred to a third party when it comes to indirect materials management. However, both manufacturers and innovative industrial distributors are now seeing the value of applying lean concepts to indirect materials management and adopting new approaches.
Forward-thinking manufactures have applied lean management concepts to indirect materials. Especially when improved management leads to increased profitability and reduced downtime risk; manufacturing efficiency improves. Increasing material control and visibility reduces waste due to increased accountability. Excess materials are removed from the system and the accuracy of demand is improved. The result is continuous improvements to the monitoring and measurement of material utilization in the manufacturing operation.
The management of materials alone is not sufficient. Most managers understand what drives material costs, but are much less aware of what drives processing costs. The cost of processing transactions manually can be ten times the cost of processing them automatically. This cost directly impacts not only the bottom line, but also reduces competitiveness due to increased time to market.
A manual transaction can also take ten times as long as an automated one. CAPS research pegs the cost of processing a single purchase order at $217 or approximately $300,000 per procurement employee. The cost of overhead as a percentage or labor or burden rate [the ratios of overhead costs to direct labor costs] has been steadily increasing. Although most production managers have direct responsibility for labor, they have little impact on processing costs — leaving their authority and responsibility misaligned.
Gaining a Measurable Advantage – Locally and Globally
There is a significant opportunity to turn indirect materials management into a measurable source of sustainable competitive advantage. As America’s factories struggle to compete globally, they are challenged to increase productivity. Ensuring materials are available in the right quantities at the right place and at the right time for employees to perform their responsibilities is imperative. The emergence and evolution of information technology systems; hardware and software that enable organizations to capture, organize, analyze and transform real-time operational data into actionable insights can produce previously unimaginable increases in the bottom line.
Historical route cards and manual record-keeping have been replaced with handheld devices that capture data and provide real-time actionable insights. Mobile applications turn common cell phones into inventory control devices when they are connected to cloud-based inventory software that can deliver real-time data-driven decisions. Costs are reduced, profitability and customer satisfaction are increased. This cost effective use of connected devices is in its infancy, but the potential is tremendous.
Our ability to compete globally not only depends on product innovation, but equally on process innovation to produce those new products competitively. Every aspect of the supply chain becomes critical to success. The old saying, “leave no stone unturned” can be applied to efficiently managing indirect materials such as washers, screw drivers, welding tips, cutting bits, safety goggles and gloves. It pays to sweat the small stuff.
Floyd Miller is CEO of SupplyPro.