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Do you really need to carry Inventory?

A lot of home service businesses have told me lately that they think they need inventory and an inventory management system. However, that could be the start of a big mistake: assuming your business needs to stock parts and supplies itself, by failing to look at the big picture.

So let’s back up. The first question service business owners really need to ask is, “Should I even carry inventory?”

Remember that there are two types of inventory: the inventory technicians carry on their trucks, and the inventory a business carries in a warehouse to replenish its trucks or to supply installation jobs. When determining whether to carry one or both types of inventory, here are three things to consider:

How is your cash flow? Inventory is an asset, so it is essentially money sitting in a truck or warehouse that otherwise would be available to spend. Do you have the cash available to invest in that asset, and if so, how much return on it can you get? There might be greater returns in putting the money in the bank, buying another truck or hiring another technician.

What are the capabilities of your local distributors? Can they deliver the parts you need within 24 hours? If you are 50 miles from your sole distributor, you might have less access to parts and supplies than would businesses in suburban areas with multiple distributors nearby.

What would would you save by stocking inventory? Perhaps you get a discount for buying in volume, or you cut the “windshield time” of technicians driving back and forth to a distributor or warehouse.

To answer these questions, tap the skills of experienced accountants.

First, they can analyze your cash flow and evaluate whether you have the additional capital to buy inventory. The additional capital needs to be an amount above and beyond your normal expenses and overhead. Your accountant also can help determine how much of your cash to allocate to inventory and help you plan your investment, so it doesn’t hurt cash flow.

Second, consider carrying inventory if you have limited access to just-in-time distributors, if you expect prices to increase, or if the items you need require long lead times or are in high demand or short supply. Your accountant can help forecast seasonal or other variations in demand for standard parts and equipment. I recommend forecasting demand for standard parts that you are likely to sell, because stocking them could help you satisfy and keep customers. If a forecast shows you need other items only occasionally, think twice — stocking them will be a drag on cash flow.

Third, your accountant can help assess the potential costs and benefits of holding inventory. Costs can include the expense of maintaining a warehouse, the loss of any volume discounts, and finance charges on any loans you take out to buy inventory. Benefits can include technicians’ increased productivity, the increased probability of having critical parts if a supplier runs out, and more accurate estimates of what jobs will cost.

Ultimately, inventory is more than a “buy-or-not-to-buy” decision. It’s a strategy, and you need a reason for holding or not holding inventory, a plan for implementing your decision, and an end goal in mind.

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