Stock On Hand Can Have a Big Impact On Cash Flow

Buying stock is challenging at the best of times. It can be difficult to gauge what stock to buy, or what are the right volumes to order, or what the right product mix is. This is a challenge faced by businesses big and small, however a few bad decisions can have a much greater impact on small businesses that don’t have enough of a cash buffer to carry them through.  

Generally speaking the faster you turnover your inventory, that is the faster you sell it, the less time your cash is held up in stock and the better your overall cash position. An easy way to assess how quickly stock is selling is to calculate your stock turns using the following equation:

Cost of Goods Sold/ (0.5 x Opening stock + 0.5 x Closing Stock)

The higher the number, the faster your stock is moving. Conversely, the lower the figure the slower your stock is selling and the longer your cash is tied up.  Low stock turns can have a substantial impact on liquidity, preventing the business from investing in further growth and in worst case scenarios strangling the business to the extent that it cannot pay its bills when they fall due.

But what is the right amount of stock to hold? Unfortunately there is no single answer to this question as it all depends on the industry you trade in, the type of product you sell and the lead times on orders placed on suppliers. For example businesses that sell perishable goods will have a greater number of stock turns in comparison to those that hold non perishable items which can be held for a greater length of time. Where you have a long lead time for stock, eg freight is shipped by sea from Europe, I would expect to see a higher level of safety stock and possibly lower stock turns.

Lets say you sell non perishable items that are purchased from the USA. From the time you place an order on your supplier, they manufacture it, it’s shipped via sea freight and you receive it, you know 8 weeks will lapse. You hold 12 weeks of stock at any one time to ensure you have enough coverage in the event of delays from your supplier (8 week lead time + 4 weeks safety stock). In a perfect world, you would want to see your stock turn every 12 weeks or 4 times per year, so that everything is sold as your next shipment is arriving. Slower stock turns would mean you are holding more stock than required and cash is tied up for long periods of time. Higher stock turns could mean you are not ordering or holding enough and regularly have stock outages. Finding this balance is crucial to managing both cash flow, customer expectations and on going profitability.

So what can you do if you find that your stock turns are quite low and you’re experiencing some cash flow stress. Here are a few tips on how to better understand your stock and ensure cash isn’t being unnecessarily tied up:

1.       Analyse all of the items you stock, grouping them in to A, B and C Lines:

a.       A being items that sell regularly

b.      B being those that sell semi regularly

c.      C being those that either sell irregularly or rarely.

2.       A lines are business critical, therefore you should never have stock outages on these top selling items, always ensure you have enough stock to meet customer orders in full at all times.

3.       B and C lines are still important, particularly if they form part of a range however not business critical, therefore stock levels should reflect sales trends. For example if you make one sale every second month, there is no need to hold 12 months worth of stock.

4.       Where you have substantial stock on hand, for B and C lines, implement measure to reduce stock or move this stock quickly. Examples include:

a.       Package them with higher selling items as part of a deal

b.      General promotions/fire sale/advertise a deal/distribute samples

c.       If comparable, offer them in place of high selling items

If measures have been implemented and sales have not improved, the decision must be made whether to discontinue the item and either return the stock to the supplier or write it off.

Understanding your stock turns and mix is just one part of the overall stock vs cash flow equation. Every business should have robust procedures around stock management to ensure they control their stock, it doesn’t control them.

If you’re experiencing cash flow difficulties or have queries regarding stock on hand send us an email at info@brambleandbriar.com.au.