Vendor managed inventory
From Supply Chain Management Encyclopedia
Russian: Управляемые поставщиком запасы
Vendor managed inventory (VMI) is an approach of inventory management and order fulfillment whereby the supplier, not the customer, is responsible for managing and replenishing inventory. The principles of management usually are agreed with the retailer beforehand, and are based on the retailer’s sales information. The supplier assumes responsibility for monitoring sales and inventory. VMI helps to increase efficiency of the supply chain. The main difference from “general approach” is that in the latter the information about customer’s (retailer’s) sales and inventory level usually is not shared with the upstream companies and this makes inventory management complicated for both the customer and the supplier. The first attempt to introduce VMI was undertaken by Wall-Mart and Procter-and-Gamble when these companies tried to minimize inventory costs and simplify inventory management on Pampers diapers. The transfer of ownership in VMI system is similar to those in consignment arrangements where ownership of the goods is automatically transfered to the stocking location. Under VMI, the distributor monitors customers’ sales and inventory in order to place replenishment orders for the latter. In VMI system the supplier can observe every item (associated with this supplier) in the customer’s warehouse. In summary, VMI system reduces out-of-stock situations and increase efficiency of the supply chain through the following factors:
- shortening the supply chain,
- centralization of forecasting,
- acceleration of communication process on stock-outs and inventory level (because of EDI),
- absence or less frequent promotions (by the manufacturer or the distributor),
- increase in loyalty to a supplier and improving of relationships in a supply chain.
By pushing the decision making responsibility further up the supply chain to the manufacturer / vendor who is in a better position to support the objectives of the entire integrated supply chain we may achieve a sustainable competitive advantage:
- The manufacturer is responsible for maintaining the distributors inventory levels
- Collaborative supply chain initiative
- Optimizing supply chain performance
- The manufacturer has access to the distributor's inventory data and is responsible for generating purchase orders
Advantages and Problems of VMI
The benefits of VMI system approach are:
- Improved client service. Getting timely information from POS data, suppliers are able to respond better to customer’s needs providing required quantities in a right location at a certain time.
- Decreased demand uncertainty. Through permanent monitoring of market demand flows and customer’s inventories, a distributor is supposed to reduce the number of large unplanned customer orders and, finally, move them off at all.
- Decreased inventory requirements. VMI planning system helps a distributor to decrease the inventory requirements as he knows exactly how much inventory the customer disposes, therefore, there is no need to have reserve inventories in order to manage uncertain orders.
- Decreased costs. Despite the fact that VMI planning system requires additional expenses on its launching and implementation, all elements of a supply chain – manufacturers, distributors and customers – will reduce costs by re-engineering and merging their order fulfillments and distribution center replenishment activities.
- Improved customer retention. Installing of VMI system is a specific-related investment into long term relationship between supplier and customer. As the launching of the system costs a lot, switching costs for a customer is a relatively high so he will prefer to deal for a long time with the same supplier.
- Decreased reliance on forecasting. By using VMI, a supplier gets instant data about customer’s inventories so a supplier do not have to make forecasts the customer’s demand for a product which typically contain loads of errors.
In spite of growing popularity and potential advantages of VMI planning system it is not the only solution. In fact, this solution is not available to every company because many suppliers will consider it only for their major customers. In addition, many vendors who are powerful in the industry would not consider VMI system at all as it is more advantageous for the customer than for the vendor and for some vendors whose profit-margin is already not high this increased customers power may result into pushing them out of business.
It is also important that VMI is not a doubtless guarantee of increased efficiency which goes back to the outsourcing problem. Ideally, VMI should be as easy as a delegating of logistics operations to a specialized company (3PL). However, a company should not choose a 3PL without conducting the proper diligence. Similarly, a company should not hand off a part of its supply chain to a vendor (even a trusted vendor) without assessment if this vendor is certainly better choice for handling logistics. Unless company’s suppliers have access to the same types of discounts, experience and engineering tools, companies that go into VMI relationships can significantly lose some logistics ground and pay the price in conditions of lower efficiency, decreased reliability and higher transit costs. As a result, VMI often faces resistance. There are some organizational concerns about roles and skills, trust and power shift such as:
- influence of compensation: usually bonuses depend on efforts of the sales force, but under the VMI system sales force cannot influence its compensation,
- loss of control over inventory level,
- possible technical problems with VMI system,
- a concern that reduced inventory may lead to less shelf space and loss of market share.
Thus, VMI can be a significant shift in supply chain organization, but there are still some factors preventing its extensive implementation by companies. However, the potential benefits for both parties – the supplier and the customer – make the VMI approach an attractive, lucrative and attainable perspective.
- ↑ 1.0 1.1 Saxena R. (2009) Vendor-Managed Inventory, Industrial Engineer, Vol. 41, Iss. 7, 20-20
- ↑ Badrakhan B. (2010) Data-Driven Vendor-Managed Inventory, Electrical Wholesaling, Vol. 91, Iss. 6, 32-34
- ↑ 3.0 3.1 Evanko P. (2010) Vendor Managed Inventory, HVACR Distribution Business, Vol. 75, Iss. 12, 32-35
- ↑ Lapide L. (2008) Use VMI to Improve Forecasting, Journal of Business Forecasting, Vol. 27, Iss. 3, 28-30