Is your company making the right investment in inventory? Unless you regard inventory as a key component of your balance sheet, the odds are against you. In fact, it's likely that you're overspending—by up to 12 percent each year—on obsolete or stagnant inventory.

Successful companies understand that supply chain and inventory management are linked to financial health. The process begins on the ground floor and can affect every level of the supply chain.

Even a small amount of cash tied up in stagnant inventory can impede a distributor's overall efficiency and its ability to accomplish strategic business objectives. There are seven steps to financial improvement via pro-active inventory management:

1. “Right-size” inventory.
2. Optimize slow and excess inventory.
3. Reduce holding costs.
4. Optimize and synchronize supply chain management and increase visibility.
5. Improve forecast accuracy.
6. Make the right investment in inventory.
7. Monitor key performance indicators (KPIs).

“Right-sizing” inventory does not simply mean reducing inventory. It means taking the time to identify precisely where inventory is out of balance and bringing it under control to minimize uncertainty in purchasing cycles. This means analyzing buying behaviors and identifying improvement areas, slow-selling items and excess inventory, establishing a baseline and committing to a go-forward strategy.

A well-designed software program can be the key to implementing these changes. Such a program can reduce human error and eliminate the need for judgment calls that might over- or under-estimate forecast figures by automating calculations, such as:

• SKU ranking/classification within product lines.
• Automated statistical profiling of SKUs, based on velocity and frequency of demand, to predict future demand patterns.
• Historical demand averages to develop forecasts.
• Forecasting the predicted turning point for seasonal trends, based on item profile database.

An automated system can also automatically group inventory into “slow” and “fast” categories, identify replenishment requirements for safety stock and even establish parameters to manage stocking strategies for items that do not lend themselves to statistical analysis. Management features such as customized analytical reporting, online access to inventory and sales and margin analysis, coupled with customer service level measurement and vendor performance tracking, make the software valuable at all levels within an organization.

There are three KPIs that should always be analyzed, no matter how an inventory management program is implemented: The balance sheet, cash flow and EBITDA. Just these indicate overall viability, they are also signs of sound inventory management. Holding costs have a negative impact on overall financial performance, not just operations. In short, if you want to correct a drag in your cash flow, a review of your supply chain management practices is a good a place to start.

A focused inventory management program requires attenting to details that may have been overlooked or simply assumed. Properly applied, it can help improve any business' supply chain operations.