Seems like most of us in supply chain management and logistics talk about inventories all the time, and my experience is that, as you would expect, those responsible for inventories within a particular company usually have a pretty firm grasp of their own numbers.
Well, at least sort of, most of the time. That’s because for many companies, inventory is something like the multi-headed hydra of mythology fame. Cut one head off, and another tends to grow back in its place.
People often ask me about inventory levels, and frankly I don’t often have good numbers off the top of my head. So we decided to do some data analysis that we hope will provide all of us a frame of reference that may be helpful in the never ending inventory wars. We offer a first look at the numbers in this week’s column.
But first, one of my favorite supply chain quotes came a couple of years ago from Johnnie Dobbs, now head of all supply chain and logistics for Wal-Mart. Dobbs told a group at the Retail Industry Leaders Association Logistics conference that “There are so many different ways inventory can enter our system, it’s a constant challenge to keep it under control.” Nearly everyone there could empathize.
And guess what? As good as Wal-Mart is in supply chain, in 2005/06 it found that inventories were rising much faster versus sales growth than the company had historically experienced, contributing to a slow down in its profit growth. Hence, the “Inventory DeLoad” program announced last year (see SCDigest’s Wal-Mart Inventory Policy Changes Impact Its Suppliers’ Financial Projections, Stock Prices).
In the U.S. overall, we have made a lot of progress in reducing inventory levels relative to sales. I don’t know the numbers for Western Europe or Japan, but would think they are similar (as a quick aside, SCDigest has a growing international readership). In January 1992, the monthly inventory-to-sales ratio in the U.S. overall stood at 1.56 – that is, for the month of January, there were 1.56 dollars of inventory for every dollar of goods sold.
You can see the subsequent progress:
- January, 1992: 1.56
- January, 1995: 1.45
- January, 1998: 1.43
- January, 2001: 1.44
- January, 2004: 1.32
- July, 2006: 1.26
This is the last month for which we have data. This means overall, average inventory levels across the economy are down about 20% from 1992 to 2006. Will the trend continue? Or have we reached a plateau?
Despite the apparent progress, Ohio State’s Bud LaLonde has pointed out that the numbers show most of the gains have really been in work-in-process inventories, as manufacturers got Lean religion. The finished goods story is not nearly as rosy, for a variety of reasons.
Some observers have also either seen or predicted a rise in inventory levels due to offshoring/global sourcing. It’s hard to be lean, really, with a very long supply chain, and most companies would seem to need increased inventory buffers due to the long lead times and greater uncertainty offshoring brings.
That’s the theory at least – do the data support it?
To see, we took the fine work done each year by CFO magazine and Hackett-REL in analyzing working capital efficiency, based on filings by public companies. Supply Chain Digest looked across the last three years of this data, focusing specifically on the Days Inventory Outstanding (DIO) component of the overall working capital analysis. DIO is basically the reverse of the “inventory turns” number that is probably more commonly used by supply chain professionals.
DIO is equal to inventory levels for the period divided by the average sales per day for the period. So, a company with average sales of $10 million per day and an average inventory of $200 million has a DIO of 20.
The CFO data goes back further, but unfortunately the industry groupings have changed quite a bit over the years, so that really only the last three years are good for industry sector analysis. I was hoping for five years, but the data past three years just doesn’t allow for comparisons.
Of the 24 sectors for which we have three years of data, eight of them saw DIO go up on average over the three years – sometimes substantially. Specialty retailers, for example, saw DIO rise from 57 in 2003 to 62 in 2005 (the last year calculated). More broad line retailers (mass merchants, department stores) faired even worse: from an average DIO across the sector of 44 in 2003 to a whopping 65 in 2005. Is offshoring the cause? Seems likely. I know others think so.
Interestingly, consumer packaged goods companies (consumer non-durables), which many people think of as leading the current charge in terms of being demand-driven, using CPFR, etc., to lower inventories, also saw substantially increased DIO during that time, going from an average for the sector of 34 in 2003 to 40 in 2005. The other five sectors seeing a rise in DIO over the three years were Aerospace and Defense, Wholesale Distributors, Food Manufacturers, Home Furniture (offshoring again?), and Pharmaceuticals (which surprised me).
Now, rising inventory levels aren’t necessarily bad – higher DIO might well be worth the benefit of lower products costs from China, to take the easy example. Customer service policies, distribution strategies and many other factors influence the level of inventory that is right for a particular company, and the current state of the economy or forecasts for demand always have an impact.
Still, it’s interesting to look at the data. Sorry to tease, but we’ll have our full analysis available for you next week.
What are your perspectives on inventory trends? Do the numbers in retail and consumer goods surprise you? What do you think are the key factors? Let us know your thoughts at the button below.