Vendor Managed Inventory
28 May

Vendor Managed Inventory: A Comprehensive Guide

Vendor Managed Inventory (VMI) optimizes the supply chain through collaboration between buyer and supplier, enhancing efficiency and cost savings.

Given the disruptive nature of supply chain dynamics, an important aspect of Supply Chain planning and control is the attempt by supply chain managers to improve supply chain performance. One way of avoiding this is to allow an upstream supplier to manage the inventories of its downstream customer.

 

This guide covers VMI elements, arrangements, and explores associated benefits, challenges, and risks.

Key Takeaways

 

  • Learn the definition of Vendor Managed Inventory (VMI)
  • Examples of Vendor Managed Inventory (VMI)
  • The typical Vendor Managed Inventory (VMI) process
  • The benefits and risks that come when implementing Vendor Managed Inventory (VMI)

 

Excess and Obsolete Inventory Policy Guide

 

What is Vendor Managed Inventory (VMI)?

 

Vendor managed inventory (VMI) is defined as a system of collaborative inventory management between a buyer and seller. In this arrangement, the seller continuously monitors the buyer’s inventory levels and adjusts shipments accordingly. It is a supply chain initiative where the supplier is authorized to manage inventories of agreed-upon stock-keeping units at customer locations. The benefits of VMI include improved pricing, reduced ordering and carrying costs, improved service levels and faster reaction times to changes in customer demand.

 

Successful retail businesses like Wal-Mart actively recognize the benefits of VMI programs.

 

Vendor Managed Inventory (VMI) minimizes the distortion of demand information (known as the Bullwhip Effect), transferring it from the downstream supply chain member (e.g., the retailer) to the upstream member (e.g., the supplier). Moreover, it reduces the frequency of stock-out situations and significantly cuts down inventory-carrying costs.

Furthermore, in a VMI supply chain, the supplier has the liberty of controlling the downstream resupply decisions rather than filling orders as they are placed. Thus, the approach offers a framework for synchronizing inventory and transportation decisions.

 

Examples and Types of Vendor Managed Inventory (VMI)

 

  • The customer, while having a vendor on-site, decides when and how much inventory to order, and assumes the responsibility for ordering and owning the inventory. (e.g. Fastener VMI)
  • Vendor at the customer site, in possession of the inventory, making the inventory decisions and placing the orders, with customer taking ownership of the inventory when customer takes the item of inventory for use. (e.g. Tool Crib/Items issued through supplier owned vending machines).
  • Vendor not at the customer site, has inventory at the customer site and periodically reviews (either remotely or physically) the inventory on hand and restocks the inventory when the vendor deems it necessary – a form of consigned inventory.
  • The vendor, not present at the customer site, subcontracts inventory management to a third party and utilizes a third-party warehouse for holding and shipping the inventory, as seen in examples like UPS VMI.

 

To summarize, VMI is a collaborative strategy between a buyer and supplier to optimize the availability of products at minimal cost. Overall, inventory management cost plays a significant role in reducing supply chain cost. Specifically in the fast-moving consumer goods (FMCG) sector, inventory–turnover ratio needs to be very high in order to be able to compete in the global market.Throughout the supply chain, organizations actively use VMI to reduce inventory-related costs and maintain low inventory levels.

VMI helps organizations to reduce the inventory-associated costs by shifting the responsibility of managing and replenishing inventory to vendors.

 

If you wish to know more about the Inventory Planning Method in detail, click here to get the The Ultimate Guide to Inventory Planning Methods.

Procurement Toolbox

Procurement Toolbox #1: Communication & Facilitation in Procurement

« » page 1 / 9

 

The Typical Vendor Managed Inventory (VMI)  Process

 

When the customer needs product, they place an order against a supplier. The customer should be in total control of the timing and the size of the order being placed, based on one of the examples above. The customer maintains the inventory plan.

 

The supplier receives electronic data (usually EDI or via the internet) that tells the supplier the customer’s sales and stock levels. They can view every item that the customer carries as well as true point of sale data in most cases. The supplier is then responsible for creating and maintaining the inventory plan. Under VMI, the supplier generates the order for the replenishment of the inventory, not the customer. Hence, this is what we mean by the inventory being directly managed by the vendor.

 

An important point to note here is that VMI does not change the ‘ownership’ of the inventory. The ownership remains the same as it did prior to implementing the vendor managed inventory system.

 

Vendor Managed Inventory VMI

Benefits of Vendor Managed Inventory (VMI)

 

Now, let’s explore the numerous benefits of Vendor Managed Inventory (VMI)

Benefits to the Customer

 

  • Better visibility will make it possible to change from air-to-sea freight.
  • Improvement in Fill Rates from the supplier and to the end customer as well as a decrease in stock-outs and a decrease in inventory levels.
  • Planning and ordering cost will decrease due to the responsibility being shifted to the supplier.
  • The overall service level is improved by having the right product at the right time.
  • The supplier is more focused than ever in providing great service.

 

Benefits to the Supplier

 

  • Visibility of the customers’ point-of-sale (POS) data makes forecasting easier.
  • Incorporating promotions into the inventory plan becomes easier.

    A reduction in customer ordering errors – which in the past would probably lead to a return.

  • Visibility of the stock levels helps to identify priorities such as allowing to replenish for stock or cater to a stock-out. Before VMI, the supplier would have no visibility to the quantity and the products that are ordered. With the VMI system in place, the supplier can see the potential need for an item before the item is ordered.

 

Dual Benefits to both the Supplier and the Customer:

 

  • Computerized and digital communications reduce data entry errors and improve the speed of processing.

  • Both parties are interested in giving better service to the end customer. Having the correct item in stock when the end customer needs it, benefits all parties involved.
  • A true partnership is formed between the supplier and the customer. They work closer together and strengthen their ties.
  • Generate Purchase Orders (POs) on a predefined basis to stabilize the timing.

 

Information to Consider

 

From To What
Customer Supplier • Sales (actual & forecast)

•Minimum & maximum stock levels per part

•Actual stock levels per part

Supplier Supplier Production order (replenishment)
Supplier Customer Shipment plan (lead times)

 

Risks of Vendor Managed Inventory (VMI)

 

In my experience, implementing and following through with Vendor Managed Inventory (VMI) may entail managing the following risks during transactions:

  • Slow Moving items: It is not ideal to include slow moving items in the VMI model, I would not recommend especially if the item has a stock turn of 4 or less. Generally, the supplier asks the customer to take the inventory if it is not moved in 4 months maximum.
  • Physical Count of Inventory: The supplier and the customer must make sure the ownership of physical stock count is defined from the outset of the agreement.
  • New Product Introduction/Phase Out Items: I have found it is quite a headache to manage to manage New Product Introduction and Phase Out plans for inventory on ramp down. This is a scenario which needs special communication.
  • Monthly Exception: We like to trust the data in our ERP or Inventory management system, but discrepancies are bound to occur over long periods of time. Therefore, I strongly recommend monthly exception reporting to align physical inventory between the supplier and the customer.

To summarize…

 

Vendor-managed inventory (VMI) is a collaborative strategy between a buyer and supplier to optimize the availability of products at minimal cost. Overall, inventory management cost plays a significant role in reducing supply chain cost.

 

VMI is a logistics distribution strategy through which the supplier manages inventory at customers’ sites and decides on replenishment policies, subject to stipulated levels of availability and service. The supplier benefits by reducing its inventory levels, reducing customers’ demand variability, and improving routing strategies; customers benefit by reducing resources dedicated to manage inventories and by decreasing their stock-outs, thus increasing their revenues.

 

Installing technological equipment at participating sites enables the supplier to actively track customer demand and inventory, making VMI possible. The decrease in the cost of applicable technologies, such as EDI and the Internet, has accelerated the adoption of this strategy across several industries. The objective of the supplier in VMI is to decide on distribution tactics that will minimize the inventory and transportation costs across the supply chain.

 

While enjoying numerous benefits, users of VMI must consider associated risks.

Frequently Asked Questions (FAQ)

What is VMI and how it works?

Vendor Managed Inventory (VMI) is a supply chain management practice where a supplier takes an active role in managing and replenishing a customer’s inventory. In this arrangement, the supplier monitors the customer’s inventory levels and makes decisions about when to restock, ensuring that the right amount of products is available at the right time. VMI relies on real-time data exchange, often facilitated by technology, to provide accurate information about stock levels, demand forecasts, and order fulfillment. This collaborative approach enhances efficiency, reduces stockouts, and minimizes excess inventory, fostering a more streamlined and responsive supply chain.

Where is vendor managed inventory used?

Vendor Managed Inventory (VMI) is commonly used in supply chain management, where the supplier assumes responsibility for managing and replenishing a customer’s inventory, ensuring optimal stock levels and minimizing stockouts while improving overall supply chain efficiency.

What is an example of VMI?

An example of Vendor Managed Inventory (VMI) is when a retail store allows its suppliers to monitor and restock their shelves, ensuring that the products are always available and minimizing the risk of stockouts or overstock situations.

What is the purpose of VMI?

VMI optimizes inventory levels and enhances supply chain efficiency by enabling suppliers to proactively manage and replenish customer inventory. This approach minimizes stockouts, reduces carrying costs, and fosters improved collaboration throughout the supply chain.

MRPeasy – Fast and easy production planning

 

Recommended Reading

 

Vendor Managed Inventory: Exploring objectives, benefits and shortcomings of the business concept

 

About the Author- Dr Muddassir Ahmed

Dr MuddassirAhmed is the Founder & CEO of SCMDOJO. He is a global speakervlogger and supply chain industry expert with 17 years of experience in the Manufacturing Industry in the UK, Europe, the Middle East and South East Asia in various Supply Chain leadership roles.  Dr. Muddassir has received a PhD in Management Science from Lancaster University Management School. Muddassir is a Six Sigma black belt and founded the leading supply chain platform SCMDOJO to enable supply chain professionals and teams to thrive by providing best-in-class knowledge content, tools and access to experts.

You can follow him on LinkedInFacebookTwitter or Instagram