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August 1, 2006 Do You Really Need To Sell That? In today’s information driven marketplace many organizations are so overwhelmed with the amount of information and data they see on a day to day basis that they tend to overlook simple ways to address opportunities to reduce inventory investment costs. If your company needs help taking $$$ out of inventory, there are a number of strategies you can implement today that will provide a payoff. In this issue we will talk about one of those strategies, specifically deciding if an SKU (item) is really necessary for you to carry. We all know that the decision to remove a product from your line can be a very “touchy” process, but if handled in the right way it can reduce your inventory significantly. A great place to start is to figure out exactly how much an ITEM is costing you to sell to a customer. The best way to do this is to develop Activity Based Costing for each ITEM. These ITEMS should be classified under 3 specific categories: · ITEMS with selling prices that create positive adjusted gross margin These are the items that make you money. They will have the lowest carrying cost and the highest turnover rate. As the old saying goes “80% of sales come from 20% of the products”. These are those products. · ITEMS with Selling Price that cover their Variable Cost but do not cover their Fixed Cost To really understand this concept we need to understand what a Variable and Fixed cost of a product is. Fixed Costs do not change directly as the your inventory changes, for example you pay $2000 a month for rent on a warehouse no matter how much inventory you have. On the other hand Variable Costs change with the amount of business you do. For example, if you get a bigger product line then you would have to hire more workers to maintain it which means paying more labor costs from one month to the next. Combine these two costs together and get the total cost of the product.
The variable cost of an item is directly related to how much you sell. As you can see from the chart it costs you the least amount of money to sell hamburger patties in January and the most in June. The reason why, is that in January you would assume that less people would buy the patties then in June so you would need less variable costs (Labor, Materials, and Utilities) for that item. You also notice that in June your costs are the highest. You can safely assume that June is a great month for hamburgers so the demand for them will be larger. Since you will be selling more hamburger patties you may need to hire some more labor to help with the extra load. All of these costs need to be incorporated and looked at when pricing an item. · ITEMS with Selling Prices that do not cover their Variable Cost The final group that should be considered is the ITEMS that have selling prices that do not even cover their variable cost. With these ITEMS you are probably losing money, but you may only stock them for a specific customer in the first place. These items are around to achieve customer satisfaction. Now that you have all of your ITEMS defined in a group you can see which ITEMS are making you money and which are just dogs and are hold you back. A common misconception is that you need to carry everything so that you can supply everybody. This is great but for example if you were to have a product that only one person buys from you on occasion then you would be constantly ordering that product but not selling it all time. You can make more money from carrying 50 items that are popular with your customers and bring you the most profits then from 200 items that may or may not sell quickly, therefore they sit in your warehouse and increase your carrying costs. You need to look at all your ITEMS and decide which mix of products will maximize your profits and still keep your customers satisfied. PICKING THE RIGHT ITEMS TO MINIMIZE INVENTORY COSTS ! To Unsubscribe
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