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Shining a Bright Light on Returns Inventory Increasing Recovery through Proactive Disposition of Returns Inventory
by Anne Patterson, VP of Client Delivery, Freeflow
Reverse Logistics Magazine, Spring/Summer 2006
The consumer electronics industry is a shining star in the US economy with robust growth and record-breaking productivity, according to the March 2006 report of the Consumer Electronics Association (CEA). The consumer electronics industry employs almost two million US workers across both retail and manufacturing sectors. Over the ten-year period from 1994 to 2004, CE-related retail productivity increased 309 percent, versus 52 percent in general retail. Unfortunately that shining star has a dark side: a returns rate in consumer electronics hovering at an astonishing twenty percent. Improving the inventory asset management of the volume of inventory in the reverse supply chain is the next major area of productivity improvement. This article will explore new trends in inventory asset management, leveraging the now ubiquitous internet auction paradigm and the insatiable global market for technology products, including all conditions of returns inventory.
Let's first take a brief look at the costs of carrying returns inventory. Costs come from two primary sources, declining market value and carrying costs. Most inventory practitioners are well familiar with the latter but will have had little exposure to the concept of price erosion.
The graph to the right illustrates the value of $1 million in inventory after six months. The price erosion factor of 15% per month is typical of high-turnover products such as compact flash memory. Disk drive price erosion can be as high as 8% per month, and personal peripherals up to 4% per month. With a 15% monthly price erosion factor, inventory looses a startling half its value in slightly less than six months, at which point the cumulative loss begins to exceed the residual value of the inventory. Returns inventory may have lost a good deal of its value prior to entering the reverse supply chain, but the price curve does continue to drop albeit at a flatter rate. Moving quickly to remarket ensures increased recovery dollars.
Figure 2 illustrates the period costs associated with carrying that same amount of inventory over the same timeframe. Period costs include warehousing costs (in this example, an amount of $17,875 per month), cost of capital at 10% annualized, reserve taken against excess and obsolete inventory (E&O Reserve), and standard revision costs of 2.5% per quarter. In a period of six months time the cumulative period costs is over $300,000—almost one-third of the value of the inventory itself—at its starting point! In the case of returns inventory, the inventory may be being carried at zero cost, reducing the impact of some of the period costs, but others, especially warehousing costs, continue to accumulate.
Figure 2
The point is clear: time is money. On a basis of $20M in excess inventory, the cost of holding on to that inventory for another month rather than proactively moving to disposition it would approach $1M with both factors considered. What operations team wouldn’t like to bring that kind of improvement to its company’s bottom line?
Get It Moving
The fact that the inventory needs to be sold is clear—the challenge is to whom, at what price point, and with what resources? Finding the time to address these challenges is what prevents most organizations from developing processes that will turn their inventory assets into cash. Here’s an effective four-step approach to progressive management of at-risk inventory with a special focus on returns inventory.
- Tune up your inventory policy. Our finance organizations typically set our inventory policy, and policy is based on the setting of reserves that represent the value of inventory according to accounting principles. But the setting of fiscally-prudent reserves seldom moves anyone to take action. Incorporate the product lifecycle in your inventory policy and you start to build actionable thresholds, a prescription for inventory health. With respect to returns inventory it is critical to have aggressive inventory policy, as illustrated in Step 2.
- Build a progressive disposition process. With inventory policy driven by the product lifecycle, a disposition process can be developed that is straightforward and easy to integrate with your Sales and Operations Planning (S&OP) process. As shown in the table below, inventory thresholds are clearly dictated for active, end-of-life, and returns inventory. Returns inventory should be reviewed proactively on a weekly basis due to the amount of downstream processes that are required to make the inventory salable, ranging from re-packaging to testing and even refurbishing. Active inventory needs to be repositioned in the forward supply chain immediately. Ensure that quantity of returned active inventory is netted in the planning process.
- Go to market. As you build your strategy for taking inactive product to market, the key is to recognize that there is a different disposition process for each stage of product lifecycle: excess active inventory moves through the normal sales channel while obsolete, returned, and refurbished product can be dispositioned through e-wholesalers, consignment brokers, or direct to consumers. There are many solutions for inventory disposition ranging from broker consignment to building and operating your own e-commerce intranet or extranet. Or you may turn for help to the emerging category of logistics services providers who specialize in inventory asset management—companies that provide a range of services from market intelligence and pricing, hosted private auctions, and logistics, credit, settlement administration. The decision you must make is the size of investment you can afford for the development and ongoing support of your inventory disposition platforms. With respect to returns, be miserly about adding internal overhead costs to the repair, refurbish, and remarketing process. And be aggressive on turnaround time—get returns inventory remarketed as quickly as possible.
- Keep score. What can be measured can be improved. The challenge with inventory disposition historically is that it is an informal process, and as a result metrics are difficult to define and track. As a start, as you define your product lifecycle-driven inventory policy, take a snapshot of current inventory levels as compared to your policy thresholds and measure progress on a monthly basis. As you formalize your inventory disposition processes additional metrics will come to mind. For example, the disposition of excess active inventory to the channel via an intranet auction will suggest measures such as inventory movement by region. Clearing returned and refurbished inventory through the use of a private broker auction suggests measures such as broker bid activity and actual recovery vs. target recovery.
The most significant obstacle to establishing proactive inventory management processes is for most companies that of inertia. Companies in the consumer electronics business know that they have excessive returns inventory but they often lack the awareness of its financial and operational cost, they lack the headcount to focus on its disposition as a priority, and they lack efficient processes and technology appropriate to the problem. Shining a bright light on the cost of inaction—price erosion and period costs—may well be the catalyst for tuning up your returns inventory disposition process.
About the author: Anne Patterson is VP of Client Delivery at Freeflow (www.Freeflow.com), a company that helps its customers improve product lifecycle profitability with proactive inventory asset management processes, including web-based private auction platforms for remarketing of all classes of inventory.
