Why Lowering Distribution Costs and Managing Inventory is Critical to Boosting Supply Chain Profitability
All business owners want their companies to be more profitable. But while increasing revenue by attracting new customers, retaining your current customers, and otherwise drumming up new business are all worthwhile goals, it can be easy to forget that you can also boost your profitability by evaluating two important financial metrics—distribution cost and inventory.
If you do not accurately and consistently evaluate these two KPIs to find room for improvement, then you are likely leaving a lot of money on the table. Uncontrolled distribution costs can easily eat away at margin and make even the most innovative products and services virtually unprofitable, and ensuring proper inventory levels is paramount for any operation to succeed.
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Lowering Distribution Costs
Boosting revenue gets most of the glory when it comes to increasing an operation’s profitability. And that makes sense: It’s exciting when a product or service finds its intended market and really takes off, especially if the product really takes off and becomes a cultural icon like the iPhone. But in the battle for increasing profitability, there are a lot of unsung heroes. One of the most important is lowering distribution cost.
The health of an operation can be measured by tracking distribution costs as a percentage of sales. In today’s competitive marketplace, any reduction in the cost of goods can positively impact your profit margins: Substantial reductions in your distribution costs can have really powerful effects on your profits.
Beyond simply decreasing your distribution costs, it’s also important to track them over time: As revenues accelerate, any change in quality or a sudden increase in the distribution cost can indicate the need to take corrective action. Tracking this cost accurately allows you to establish a baseline so that you will know if your operations begin to deviate from it. As with most problems, this is something that is much easier to address early on than it is if you let it continue for too long.
You should also track distribution costs on a “per unit shipped” basis, which allows for a more focused approach to driving costs down by concentrating on specific areas within your distribution center. By understanding the costs associated with both the big picture (distribution cost as a percentage of total sales) and the small picture (distribution cost per unit shipped) you can create a clear plan of action that will allow you to reduce costs as much as possible.
Managing Inventory for Increased Revenue
In addition to lowering distribution costs to boost profitability, particular attention must be devoted to managing inventory levels to ensure that you aren’t throwing money away or leaving it on the table.
Inventory management is a balancing act: If you have too much of a product on hand (an overstock) then you take up valuable storage space, limit the capital you could be investing elsewhere, and risk that the excess will become out of date before it is purchased; if you have too little of a product (an out-of-stock item) then you risk pushing current and prospective customers towards competitors who can fill their orders.
To put this in perspective, a study conducted by Retailwire found that the average retailer has around 7.3 percent lost revenue due to inventory issues. 3.2 percent of that comes from overstocks, while 4.1 percent comes from out-of-stocks. By continually managing and evaluating your inventory levels, you reduce the risk of having too much or too little product on hand. Just imagine what a 7.3 percent boost to your revenue can mean for your business.
One critical means of evaluating your inventory situation is understanding your inventory days of supply (IDS). IDS represents how many days of projected usage you can cover with the amount of finished goods currently on hand.
Though a lower IDS is typically recommended, the exact number varies greatly based on industry and individual business challenges. (For example, a company that handles perishable goods would need a much lower IDS than a technology company, simply due to the perishable nature of the product.) Your product type, business model, and warehousing strategy will all impact how much inventory you can or should have on hand at any given time.
Another critical piece of the puzzle is understanding how SKU proliferation is impacting or can impact your operation.
Always Striving for Efficiency
To be successful in today’s business world, you must constantly be striving to improve efficiency. Reducing your product costs (including your distribution costs) and accurately managing your inventory can have a dramatic impact on your profitability, allowing your operations to grow in both size and revenue. And who doesn’t want that?