Vendor Managed Inventory

Vendor Managed Inventory (VMI) refers to a supply chain management strategy wherein a supplier undertakes the responsibility for overseeing and restocking a customer's stock of raw materials or finished goods. Here, the supplier and the buyer enter into a vendor managed inventory contract.

This approach enhances inventory control, minimizes stockouts, and fosters a more synchronized coordination within the supply chain between the vendor and the customer. In such a partnership, the retailer or customer needs to furnish factual time information on current inventory to the supplier for them to gauge the remaining inventory and analyze the buying trend.

• Vendor Managed Inventory (VMI) is a supply chain management strategy where a supplier takes on the responsibility of monitoring, controlling, and restocking a customer's stocks.
• The supplier and the retailer entered into a vendor managed inventory contract that states the inventory levels, restocking schedules, reordering points, payment terms, and all other terms and conditions as agreed upon by them.
• Vendor managed inventory benefits include cost and time-saving strategy that fosters better demand forecast and seamless operations.
• It poses particular challenges pertaining to data security, inventory control, communication and compatibility, high implementation cost, and handling of sudden demand rise.

Vendor Managed Inventory (VMI) promotes a collaborative and cordial relationship between suppliers and customers, optimizing inventory management and enhancing the overall effectiveness of the supply chain. It is one of the best supply chain practices for stores with a vast product range from different brands.

Given below is a step-by-step working of a VMI system:

1. Both the customer and supplier negotiate terms and conditions in a VMI agreement that contains details like inventory levels, reorder points, and restocking schedules.
2. The retailer shares relevant inventory and sales data with the supplier. This data helps the supplier to understand demand patterns and adjust stock levels accordingly.
3. Regular monitoring of the customer's inventory and sales pattern by the supplier through demand forecast, lead time, direct access to the customer's systems, or receiving periodic updates ensures that stock levels are efficiently maintained.
4. When inventory levels drop below agreed-upon thresholds, the supplier automatically initiates replenishment orders. This proactive approach prevents stockouts at the customer's end.
5. The retailer makes payment periodically to the supplier, usually when the new stock arrives or gets sold or any other payment schedule as per the agreement terms.

Hence, VMI aims to streamline the supply chain by minimizing stockouts, reducing inventory overstocking, and eliminating the hustle of frequent manual order placement to increase the overall efficiency for both parties.

The implementation of an effective vendor managed inventory system in a real-world business scenario is challenging. Let us gauge through the following examples to understand the concept better.

Example #1

Suppose a chain of bookstores, ABC Books, collaborates with a distributor, PQR Logistics, for Vendor Managed Inventory (VMI). The ABC Books inventory has thousands of different fiction and non-fiction books, and PQR Logistics consistently monitors the stock of all of them remotely.

When ABC Books' stock of bestsellers or new releases falls below a predetermined level, the distributor automatically initiates a restocking order. This collaborative arrangement ensures that ABC Books always has a sufficient supply of trending books to meet its customers' demands. Thus, the VMI facilitates inventory management and optimizes the overall bookstore operations of ABC Books.

Example #2

In 2023, a major multinational corporation with revenues exceeding approximately $27 billion is reshaping its supply chain for heightened customer-centricity, cash efficiency, and productivity. Operating in a complex ecosystem with over 15,000 suppliers and 170 factories across 40 nations, the corporation adeptly manages 300,000 products and utilizes a vendor managed inventory program for specific customers.

The ongoing transformation features Control Towers and Resilience360 implementation. Autonomous planning takes center stage with the adoption of Kinaxis for concurrent planning, accelerating planning cycles and improving responsiveness. Despite challenges, this evolution has yielded transparent connections between supply chain intentions and critical business goals, proving pivotal in navigating the intricacies of today's supply chain challenges.

The VMI system is a robust supply chain management strategy that has stamped out the limitations of the old-school methods of manual order placing by retailers. Let us find out the best practices to be adopted by the retailers and sellers in this context.

1. Clear Communication and Data Accuracy: Establishing transparent communication with vendors to exchange real-time information about inventory levels, sales forecasts, and market trends provides for more effective order management.
2. Set Performance Metrics: Establishing the specific key performance indicators (KPIs) and long-term goals helps to gauge the success of the VMI system, such as fill rates, order accuracy, replenishment cycle time, etc.
3. State Boundaries and Costs: The retailers should always specify in writing the inventory holding limit as per the storage capacity. Also, the payment terms, return policies, and applicable fees or costs should be transparent between the parties.
4. Technology Integration: It is always better to automate the process by using technologies such as RFID or barcode systems to enhance tracking accuracy and inventory management.
5. Plan for Crisis: Both the supplier and the retailer should develop contingency plans to address potential disturbances in the supply chain, such as natural calamities or economic fluctuations.
6. Collaborative Marketing Approach: The suppliers can assign representatives to promote their brand's product at the retailers' outlets to drive sales.
7. Precise Demand Forecasting: Retailers and vendors should together create more accurate demand estimates, reducing the risk of overstock or stockouts.
8. Cordial Supplier Relationships: Businesses should cultivate strong relationships with suppliers to build trust and collaboration, fostering improved responsiveness and flexibility in inventory management.
9. Data Protection: While the retailers share confidential data with the vendors, it's the latter's responsibility to secure the customer's critical information. The VMI contract should have explicit terms on data security, usage, and breach.

A strong and healthy partnership between the vendor and the retailer is imperative for the successful implementation of VMI. However, discussed below are the various pros and cons of this system:

Advantages

• Collaboration: VMI encourages cordial relationships and partnerships between suppliers and retailers, fostering improved communication and shared objectives.
• Efficiency: This approach streamlines the supply chain process, curtailing the need for manual inventory management practices. It is most suitable for managing the stock levels when the business deals in a massive range of products.
• Cost and Time Saving: VMI can result in lowering the overall supply chain expenses by limiting the surplus inventory, preventing stockouts, and reducing carrying costs. Further, it saves the retailer's time on manual inventory planning and order placing.
• Better Forecasting: It provides suppliers with timely insights into retailers' inventory levels, facilitating real-time demand forecasting and planning.
• Eradicates Human Errors: The automated VMI system is more reliable than the manual one since it eliminates the chances of miscalculation and wrong order placement.
• Mitigates Risk: When the suppliers handle inventory levels through automated software, there is potential for higher precision and reliability in stock management. Thus, it reduces the risk of overstock or understock.

Disadvantages

• Data Security Concerns: The sharing of confidential real-time data with suppliers poses a threat to data security and the protection of sensitive information.
• Poor Communication: The point of failure for a VMI is when the retailer fails to furnish all the required data for inventory management to the supplier.
• Compatibility Issues: If the supplier's and retailer's systems are incompatible, there can be disruptions in the effective implementation of VMI.
• Supplier Dependency: Also, when retailers rely entirely on suppliers for inventory management, they may face supply chain disruptions due to any issues at the supplier's end.
• Sudden Rise in Demand: VMI is not often trained to handle the immediate and unexpected increase in demand, causing stockout in such cases.
• Loss of Control: It is only sometimes wise to depend upon the supplier for inventory management since the business may lose control over the same, resulting in unexpected inventory changes.
• Implementation Costs: Establishing VMI systems can involve significant initial expenditures for both parties since it requires technology integration and training.
• Slow-Moving Inventory: If the retailer ignores what is not selling in the market, the vendor may pile up the slow-moving stocks of that product in the retailer's warehouse.

Vendor Managed Inventory (VMI) and consignment are distinct inventory management strategies. Given below are some of their dissimilarities:

This article has been a guide to Vendor Managed Inventory and its definition. We explain its examples, advantages, best practices, and comparison with consignment. You may also find some useful articles here -

• Vendor vs Supplier
• Vendor Financing
• Cycle Billing