Have you recently had a decrease in cash flow? Is your inventory up? Is your cash tied up in inventory? Are you looking for better ways to manage your inventory stock? Are you trying to understand how your company’s cash flow relates to your company’s inventory?
How closely you monitor and manage your inventory directly impacts your business’s cash flow. Cash flow is the total amount of money being transferred into and out of your business. If you fail to effectively manage your inventory, you are putting your business at a disadvantage by tying up your cash (remember, cash is king).
The main correlation between cash flow and inventory control is determined by the levels of inventory stock you hold, your choice of inventory accounting methods, and your inventory turnover. Effective inventory control can increase your cash flow; ineffective inventory control can lead to additional costs and cashflow issues.
- Too much inventory ties up cash that could be invested in other areas of the business while bearing the ongoing costs of holding the inventory and maintaining it in a sustainable condition.
- Not enough inventory puts you at risk of not having enough inventory to fill orders/sales, which could lead to lost sales, potential loss of future sales, and reduced customer satisfaction.
- Both too much or not enough inventory can decrease revenue and profitability, and cash flow can be affected.
Inventory Control and Cashflow
Inventory control is one of the best ways to improve profitability and cash flow. Inventory creates cash flow, but when it comes to purchasing inventory, a cash outlay is required that affects your company’s cash balance.
When you increase stock, your cash flow statement will indicate a negative amount, which indicates a cash outlay (when your company has purchased more goods than you have sold).
When you decrease stock, the reduction of inventory shows a positive amount on your cash flow statement.
Your business’s cash flow is mainly dependent on how you manage and source your inventory. If you hold more inventory than what is needed for the current sales demand (and forecast) will increase expenses and reduce your company’s available cash.
A key measure of how well your business is doing is your inventory turnover. The inventory turnover ratio determines the number of times your inventory is bought and sold in a financial year. Inventory turnover improves business cashflow when your stock is “turning over” and not sitting on a shelf in a warehouse. High inventory turnover implies you have strong sales and that it’s important to invest time into increasing inventory control efficiencies to meet the high demand for your market’s needs.
To calculate your company’s inventory turnover ratio, divide the cost of your goods sold (COGS) by your average inventory. The higher your ratio, the better you are at managing your business’s inventory and the greater your cashflow. If your ratio is low, you are buying more inventory faster than you are selling and do not have an efficient inventory control process in place.
Inventory Turnover Ratio = Cost of Goods Sold / Average Inventory
For example, if your business has an average of $1,000 in inventory and sales of $10,000, your Inventory Turnover Ratio is: $10,000 / $,1000 = 10 Times
Accounting for Your Inventory
To determine the cost of your inventory you can use the following three accounting methods:
- FIFO Method (first-in, first-out)
- Use to determine the cost of your oldest inventory and multiply that cost by the amount of inventory sold.
- Multiply the cost of your oldest inventory by the amount of inventory sold.
- LIFO Method (last-in, first-out)
- Use to determine the cost of your most recent inventory and multiply it by the amount of inventory sold.
- Multiply the cost of your most recently sold inventory by the amount of inventory sold.
- Weighted Average Method
- Use to yield the weighted average cost per unit.
- Divide the cost of goods available for sale by the number of units available for sale, which yields the weighted-average cost per unit.
Business inventory is directly linked to positive or negative cash flow. The way you manage your inventory, account for stock and optimize turnover directly influences’ company’s profitability and cash flow.
Conduct an Analysis of Your Inventory
Before investing in an inventory solution, make sure you have analyzed everything about your inventory. Not just what is in your inventory, but:
- Are you keeping track of sales trends in your inventory management?
- Are you keeping track of your inventory?
- Are you buying too much product?
- Is your inventory overstuffed with impractical (items that aren’t making you money) items?
Consider Investing in an Inventory Management Software
Sometimes an Excel sheet isn’t enough. If you find your inventory turnover increasing, you may find that using software to track everything will eliminate a lot of headaches and stress. Some of the top inventory management software to consider are:
- Oracle NetSuite OneWorld
- Zoho Inventory
- Open Systems Traverse
- QuickBooks Desktop Enterprise
- SAP Business One Professional
- Cougar Mountain Denali Summit
Like all investments, make sure you ask the right questions and only invest in a product that will support all of your needs (or will be able to with their upcoming development pipeline). Make sure they have a solid implementation and support model, so you know you can always call them if an issue arises.
Looking to Invest in Your Company’s Inventory?
If you are interested in investing in your business’s inventory, First Union Lending is here to help.
We have nine different business loan types to choose from. This means that we’re uniquely qualified to help you find the perfect loan to open your small business.
Applying for a business loan doesn’t affect your credit. Better yet, your business loan may be approved as soon as the same day.
To discuss our business loans with one of our lending experts, click here or call 863-825-5626. We’ll talk about our various business loans and help you find the right one.
Get started with the process now by learning more about our business loan types here.