Some folks started “Just In Case” operations after the pandemic and war.
I don’t follow their conversations, but based on what I encounter frequently, they seem to have an agreement to keep three months of inventory.
Three months of inventory???
Let’s talk about how silly this inventory is.
2️⃣ Cash on hold
Last couple of weeks, I ran into many operations and supply chain managers who claim that for “Just In Case,” they need to keep three months worth of materials.
I don’t understand.
I have not heard a logical explanation for why a three-month inventory is required.
Let’s talk about how illogical this is.
Before talking about business, let’s think about our personal life.
Did we change our storage behavior in daily life? Did we start to store more goods just in case the next pandemic hits? Is there a trend in selling more giant freezers and storage spaces so that we can store more daily stuff? Maybe I am not connected to the “civilized” world, but I have not heard such behaviors change to store more in usual life. Instead, we laugh about that toilet paper panic. We have some additional sanitizers and musk sitting in the house. But our daily (or weekly) shopping habits have not changed in a way to keep more storage.
Why? Simple, it doesn’t make sense.
Most food items do not last three months. We don’t live only with the canned stuff. Even if we decide to store by freezing, the freezer will consume a tremendous amount of electricity, and your electric bill will skyrocket. Once in a while, food or grocery delivery is an excellent service, but using that every day is unaffordable for a typical household. That’s why most of us will shop a couple of times a week and wait in line, risking and exposing ourselves to viruses. But that is normal. We don’t live like celebrities.
The operations and supply chain managers can afford huge freezers and storage at home. (But I am not jealous at all.)
2️⃣ Cash on hold
“But business can afford.” That’s the mentality of “Just In Case.”
Let’s do some math. Suppose the material cost is 50% of sales. That means 12.5% of sales worth of cash must be kept as safety stock. Interest rates are skyrocketing, and can your business afford such use of cash? Inventory turn is 4 per year. I would have a heart attack if I were a CEO or CFO. These are only materials. To keep these inventories, you will need a giant warehouse, forklifts, and other devices to handle them. Additional Information technology will be required to keep the data of inventories. And people to manage.
Keep dreaming, “Just In Case.” Most will say, "We can’t afford such luxury."
Let’s talk about the real work of operations and supply chain.
One thing that drives us crazy. It’s the daily chaos of orders and materials. It changes so frequently. You can’t predict what will be next week or even tomorrow. So many people are working on sorting the orders and what they can produce.
If you want three-month safety stock, “What is three-month forecast accuracy?” Some companies only chase monetary values of such accuracy. If so, and you are the operational managers, we know how difficult it is to get that number with so many SKUs. And one small component missing will make that product impossible to produce. For the forecasting person, it might be a “1%” difference (Yes, 99% forecast accuracy. I’m a dreamer). But while that 1% of inventory sits in the warehouse, 1% of the sales target is missed because we can’t produce what we can sell. It’s a double hit.
Then, the materials that you kept will sit longer. Inventory will increase, and the CEO and CFOs will start knocking on your doors, “Why aren’t you producing what we sell, yet have more inventories?” The true answer is that you didn’t say “No” to “Just In Case, " which was the beginning of the downfall. It’s not the pandemic or the war. In Japan, a proverb says, “When you talk about next year, even the demon (Oni) will laugh.” Well, the truth is that a three-month inventory is a quarter demon. Don’t kiss the demon.