Part II...We don’t have it in stock -- now what?

BY SCOTT STRATMAN

Inventory management specialist

In Part 1 of this article, we talked about asking the right questions of the customer before making some drastic decision when you are out of stock. I want to re-emphasize that being out of stock on certain items over time is not a life-and-death situation. Look at every out-of-stock situation to determine whether this is a rare occasion or something that needs to be fixed on a long-term basis. You are very likely to run into special orders that drive your in-stock quantity to zero. This happens from time to time when you have a customer order that no one anticipates. What you do then can make a big difference in overall inventory status.

Let’s look at some out-of-stock situations and determine what you should do. If you have items that are out of stock more than once a month -- and these are items that you have committed to having in stock -- you need to fix the replenishment plan. You can either order the item more often from the vendor, increase your safety stock or shorten the review cycle such that is gets looked at by purchasing more often. Stock outs that are happening multiple times in a month indicate that you have items that are moving but that you have not purchased to meet the anticipated demand. This situation is very fixable; just adjust your ordering controls.

If you have items for which stock outs occur two to three times a year, the problem is not as easy to fix. First, you must look at the items to see when the stock outs occur.

Seasonal items

Seasonal items often present one of the biggest hassles distributors face. There is no magic formula for when a season starts and ends. You might look to the Farmers Almanac to help, but even then you are “best guessing.” Looking back to other seasonal patterns is a great help, but that, too, is a best guess.

Stock outs of seasonal items can happen under the following circumstances:

• Before the season, when you are waiting for the seasonal buy to arrive
• At the end of the season, when your seasonal buy quantity did not match the customer demand for that season or during the season
• When a new customer has a big project and drives your item level to zero.

In these situations you need to carefully analyze how to react.

Seasonal items often cause stock outs to happen because you are relying on “Mother Nature” to define the “season.” Building materials distributors, for example, often suffer stock outs when winter does not start until two months later than it did the previous three years. You plan and purchase for seasonal items based on some seasonal history. You look to indicators to help you determine when you think the season will start and end. You make pre-season buys that you hope will cover you through a season. When nature changes your “best guess,” you will suffer stock outs.

Taking a drastic step and putting in a large buy quantity to a vendor at end-of-season pricing often causes you to have “non-moving” inventory for the long “off season.” Having a six-month supply of water coolers on the shelf during the winter months, for example, is not a good thing. Since you ran out towards the end of the hot season and needed some water coolers to get you by, you may have placed a large vendor order to get a great per-unit price. Then the hot season cooled off quickly, leaving you stuck with the water coolers until things warm up.

When you suffer stock outs of a seasonal item towards the end of a season, I would suggest that you look to your competitors for help. Buying a smaller amount from them to get you by is a much better deal than placing a larger purchase order to the vendor. If nothing else, you won’t have a seasonal item hanging around all during the non-season.

If you recall from our previous articles, this rule of inventory is very true: More bad things than good things can happen to anything you bring in and stock. One of the bad things is the fact that you end up moving those seasonal items around during the non-season; you lose them, you break them, you misplace them, and you often spread them around the place because you need the room for other items.

One simple rule for dealing with seasonal items is that only your most experienced personnel should be involved with buying them. New purchasing personnel should not even know you have seasonal items. Without some experience -- and you know that, in purchasing, experience equates to having made plenty of mistakes -- new buyers will often overbuy seasonal items. Experience, mistakes, wisdom and age are all beneficial skills for the seasonal-product purchasing agent.

Backorders

Backorders caused by stock outs are a constant nightmare. Some distributors swear that they are in the backorder processing business. They never seem to have the right stuff in the right quantity in stock. Backorders are the nature of the distribution business. If you never have any backorders, you probably have too much inventory. Backorders are an indicator that you are selling what you have in stock, but they can be a royal pain. Why they happen is hopefully not a mystery.

Backorder processing is a key component of customer service. Most software written in the last quarter century put in a routine called backorder processing. When a customer asks for a product and you are out of stock, you create the backorder in order entry. It is usually pretty clean, since you have a customer name, a customer number and a product number. You either find the product needed immediately or you wait until the incoming vendor order arrives. Once the product arrives from the vendor, another part of backorder processing kicks in -- backorder fill. This takes the received product and assigns it to the backorders waiting to be filled.

The most common method of filling backorders is called “oldest first.” This method looks at the date the backorder was created and compares it to the date the product was received. Those open or unfilled for the longest time get product allocated to them, then those with the next longest time and so on. In other words, you allocate product to old orders based on age. While this is easy for the software companies to program into the system, it may not be the most prudent method for filling backorders.

A few simple rules should apply when you are doing backorder fill. First, look at all orders older than two weeks (14 days). Based on the “oldest first” method, these orders should receive the allocated product first. But think about it for a second: You are going to allocate product to a backorder that is two weeks older or more. Some distributors will simply fill the backorders and send them out to the customer. But any order that is two weeks old or older should be scrutinized before the product is sent out. Unless you are the only game in town, there is a good chance that, in the past two weeks, the customer found what they needed somewhere else. If you just fill the backorder and send them the product, it is likely that you will get it back soon because the customer no longer needs it.

A good rule of thumb is to make a few phone calls before filling those orders. Ask whether they still need the product and what quantity they need. The need may have been different two weeks ago. Simply filling the backorder based on age could mean that you will soon get to process a credit memo. And you know that credit memo processing is an expensive venture, since you have costs from shipping, from returned goods, possibly costs for some damage, and in addition, you wasted your time.

Pick up the phone before shipping those orders. You will be amazed at how often you can sell the product you would have allocated and sent to the backorder customer to a new customer, thus eliminating another backorder. My preferred method of backorder fill is to allocate product to my best customers first (premier status) and then to allocate to the remaining customers, if there is anything left for them. Whatever you do, do not allocate the entire shipment to backorders; this will just create new backorders for the same product on the next order entry request.

Substitutes

One of the best ways to reduce your out-of-stock and backorder issues is to set up a good substitute item file for as many products as you can. Substitutes are items that can perform the same function as the product originally requested by the customer but that might be from a different vendor. Some customers are vendor specific, and will ask for the product by the vendor name. If you are out of stock but have the same item from a different vendor, have the order entry program pop that substitute up on the screen for you. This can be easily done by building the substitute item file as part of your inventory master file. Try it and see how many “duplicate” items you have in your inventory today. You may have an item from an oem vendor, for example, and the same product from a knockoff vendor. The items do exactly the same thing, but they have different labels.

There are hundreds of substitutes you can build to help make the sale, reduce your backorders and move your overall inventory. I am reminded of the distributor that had more than 300 different gloves in their stocking inventory. Many of the gloves did the same thing but were from different vendors. It drove the president crazy. They would only sell the gloves when a customer asked for them by vendor. The glove inventory never shrunk but grew to include more gloves from more vendors as more customers were added. The president finally drew a line in the sand and said, “We will carry ‘x’ number of gloves from ‘y’ number of vendors; everything else will be special order. If a customer asks for one vendor’s glove and you don’t have it, sell them the substitute item.”

This simple action caused the glove inventory to shrink substantially and to move much more smoothly. The president could not understand why a plumbing distributor should be carrying so many gloves in the first place. Stock outs on gloves were music to his ears.

Remember that a stock out can sometimes be a good thing. Every stock out, however, needs to be looked at carefully before making some knee-jerk reaction. Waiting is sometimes a good thing. While patience might be a virtue, I know that ignorance when solving stock outs will never be blissful.

Scott Stratman is the founder of The Distribution Team of Colorado Springs, Colo. He consults with distributors on improving their net profit. Stratman has been a guest lecturer at many national and regional distribution industry events. Contact Stratman at 719/597-5978 or e-mail him at scott@distributionteam.com.