I know of very few universal ways as effective for a company to generate free cash as to reduce inventory. Let’s assume an organization has all the correct resources in place to successfully execute an inventory reduction effort, and let’s also assume that strategically the inventory reduction targets have been well defined, and tactically the instructions have been effectively translated for each specific function and role. Finally, let’s clarify that we are talking about inventory reduction and not inventory optimization. What are you going to do with all that extra cash?

Maybe the upfront goal already necessitated that, and it is critical for ongoing operations or better borrowing terms, but we want to discuss more actively successful scenarios here. What I see most often has been an exercise to clean up the balance sheet, either for stock price or because a strategic guideline for metrics lists inventory optimization metrics like turnover should be at X. To be sure, those are helpful measures in understanding the health of an organization, but that in itself is not a goal but rather an indicator. A “bad” number that cannot be explicitly explained is an indicator that the company either lacks competent leadership or most commonly there is not sufficient representation of supply chain at the senior level to really articulate the challenges. And obviously that is not an answer as to why a company might want to reduce inventory and then what they will do with that windfall.

Why is this important to answer? First and foremost, it’s possible that inventory reduction is not the actual goal you want to pursue. If that can be adequately explained, then a “bad” inventory number becomes a strategy that communicates deliberate managerial effectiveness which inspires confidence and opens other opportunities. An example of this would be a new product that has highly variable sales with a strategic goal to always be available to the customer. To avoid supply chain snags the direction should be to hold excessive amounts of inventory right from the very beginning of the project. This communicates to shareholders that there is a specific plan for cash, and it communicates to new customers what they can expect should they engage in business with you. It can be part of the organization’s bankable goodwill. You know, that line on the balance sheet that is somewhat ambiguous.

A less concrete reason is that having more cash on hand at a time when the organization is not ready to spend it will at best just waste it and at worst chase opportunities that are destined to fail and burn through not only the initial cash infusion but also dip into reserves and extract other valuable company resources. There is a reason why shareholders pay attention to cash on hand and ask for reinvestment of that cash. Put simply, the goal of a traditional business should be to maximize ROI, and that can’t happen when cash is not being used appropriately.

So for an executive, the easiest way to not answer those questions is don’t bring them about unnecessarily. Let inventory be a bank to draw on when the company is prepared. In the meantime, enjoy fulfilling every single potential sale that comes along and highlight your higher than expected revenue numbers.

One final word of caution would be to not use these excuses cynically. Refer back to the importance of competent supply chain management leadership; if you use the above as an excuse without a supporting strategy, you will eventually be found out. There is always a cost. 99% of the time it’s better to understand it and pay it upfront.

So let’s get into the fun stuff. What are examples of how to utilize extra cash? My personal favorite is to develop and launch a new product line. You can develop a budget as a direct outcome of your inventory reduction goals. I would advise that the budget be a % of the goal and also make sure the goal itself is obtainable. Inventory is a moving target and there are times when an overreduction needs correction. I would also advise a % be set aside for a budget reserve in case it is needed to increase inventory. A small note on this is that successful inventory management strategies, in general, are indicative of a healthy organization which paradoxically can lead to unexpected growth that will require more cash to fund. It can feel like whiplash for the people within an organization, but the message should be to celebrate this as the team has likely overperformed!

This goal shows the supply chain team the specific importance of their role in assisting with value generation which not only educates the team but also builds morale through a sense of purpose and prepares them in future roles as they highlight specifics around how they have helped to create value for the organization as they prepare to move into more strategic roles.

Another investment that is perhaps considered more boring would be certain infrastructure or training activities. These investments often return a huge ROI but may not have the same power to move through an organization as something like a new revenue stream. Finding the money internally and not needing to borrow against the investment can be done within a financial calendar and avoids having to “ask” permission to fund that investment.

So to summarize, we need to make sure that first, inventory reduction is actually what we want and if yes are we ready to appropriately distribute the cash. Below is a quick guide for each question to help you arrive at the right answer for your organization. You can be the one asking these questions, but the answers must come with deep involvement from the supply chain function.

Is inventory reduction what you want, what you really, really want?

• Do you actually have extra inventory?
• Will you have a need for extra inventory based on forecasts?
• Is this specifically to make additional cash available?
• Is this to target specific product lines and redistribute resources to other product lines? If so, that is inventory optimization; you won’t have the cash available you need for reinvestment.
• Is this to reduce inventory carrying cost and free up shelf or warehouse space? If so, that is a question of supply chain operations optimization. That will increase profitability and will not have the significant effect desired for cash.

If the first three are yes and the last two are no, proceed to the next question, otherwise, reassess what it is the organization actually needs. To clarify the last two scenarios are completely valid and should be pursued. I would suggest you do not want to try and execute those at the same time as an inventory reduction effort as this can lead to competing and sometimes conflicting priorities which will only serve to fragment organizational effort and therefore results.

Is the organization ready to reinvest the cash in the correct way?

• Can the project be sufficiently funded by a % of the potential inventory reduction?
• Is the potential outcome well defined?
• Is it the right time? Are all your ducks in a row and you will be ready to spend the cash at approximately the same time it becomes available?
• If launching a new product line, has the cost of inventory for the launch period been considered?
• If investing in infrastructure, is there significant overlap between the inventory reduction team and those a part of the infrastructure project?

This second question obviously involves more uncertainty and collaboration with additional functions. There will not be exact answers as each project requires can have infinite avenues depending on the business requirements. This is really meant to prompt thought on how to optimize timing with the inventory reduction outcome and connecting to the launch of a reinvestment of that cash.

Thanks, you for reading, in the future I plan to provide in text links to specific subjects. If you see one that you specifically want covered sooner than later, feel free to send me a message. Likewise, please connect if you have specific scenarios you would like to have explored.

Until next time,

Blake