It’s no secret that indirect inventory is the glue that holds a company’s operations together. MRO materials keep production lines running and delivery services operating. According to some estimates, indirect spend accounts for 15 to 30% of an organization’s total expenses.
Yet for such an essential spend category, indirect categories do not get the attention they deserve.
Operations managers tend not to treat MRO materials with the same level of concern as direct materials, simply because they do not form part of the final product. Teams are allowed to procure indirect materials whenever they want, from whichever vendor they like, with little regard for formal procurement processes.
For firms wishing to compete in an increasingly complex supply chain environment, these are dangerous practices. Duplicate indirect materials can tie up precious working capital and create inaccurate stock levels. Poor inventory data may cause miscommunication between plants and increase your firm’s vulnerability to downtimes and disruptions.
The best way to protect yourself against these risks is by reducing your indirect inventory. In this article, we take a look at 6 indirect inventory reduction methods that can help you clean up your supply chain.
The effect of indirect inventory on the health of your supply chain
Most supply chain managers are so busy with direct materials management that they forget to optimize how their teams manage their indirect inventory.
Getting a good handle on your MRO materials can mean all the difference between a disorganized, reactive supply chain environment and one that proactively prevents problems.
Indirect vs direct inventory
The vast amount of items that go into making a product or service can make differentiating between direct and indirect materials difficult.
An easy way to tell the difference is to remember that direct materials are usually sold to customers as part of a finished product. They are procured through contracts and typically have a part number.
Indirect materials, on the other hand, encompass materials, services, and maintenance activities required to operate the business. They include everything from cleaning supplies to advanced analytics software that is vital to the day-to-day operations of the supply chain.
The challenges to keeping indirect spend under control
While the business industry may rely heavily on indirect materials for its operational needs, indirect spend management is not without its challenges.
For one, indirect materials are considered less of a priority than direct materials, and therefore not always regulated by formal procurement procedures. Operations teams may create their own indirect spend contracts with vendors of their choice, usually for one-off purchases or emergency needs.
Also, the diversity of indirect materials and services means there are multiple channels and vendors to choose from. In firms with weak procurement systems, operations personnel may buy MRO items from the cheapest suppliers or those closest in location to them, sometimes without checking to see if the required item is already in stock.
Key benefits of clean indirect inventory spend
Firms that make an effort to clean up their indirect inventory spend can achieve better supply chain resilience than their competitors.
A lean indirect inventory increases the efficiency of your supply chain processes. Just by reviewing your materials data and removing obsolete or duplicate MRO materials, you can create a more transparent and reliable database that helps operations personnel develop accurate production and procurement work plans.
With fewer indirect inventory materials to manage, your firm also becomes more agile in fulfilling orders and responding to disruptions.
Risk within your supply chain decreases because you are now much more likely to have the MRO stock you need to keep operations running smoothly. Your operations personnel will feel much more confident to produce demand forecasts and meet shifting customer requests.
And last but not least, a clean indirect spend ensures that you have less money tied up in inventory and fewer losses caused by spoilage or obsolete items. The extra working capital can be used to make higher return investments, such as automated machinery or AI-enabled supply chain software.
6 ways to use indirect inventory reduction to clean up your supply chain
Gain detailed insights to mitigate risk
The process of reducing your indirect inventory helps you gain rich insights into the current state of your MRO stock levels and overall operations capabilities.
As managers sift through the available indirect materials data to identify which items to offload, they may find old, inaccurate, or inaccessible data that reflect pain points within the supply chain.
Upon further investigation, they may discover issues such as multiple vendors for the same MRO item, indicating an informal, ad hoc procurement process among operations personnel.
Such insights can reveal the level of risk within your supply chain. They may even serve as valuable entry points for addressing weak supply chain practices that may have been overlooked by supply chain managers.
Analyze the indirect materials spend
Indirect spend is often fragmented due to the wide variety of vendors and contracting styles. Some contracts may contain inappropriate terms like evergreen clauses while others may not come with mechanisms for price adjustments.
Reviewing your indirect spend, particularly your supplier contracts, allows you to identify the different contractual agreements you are bound to as well as the suppliers with whom you have non-contracted spend.
You may discover that some of your plants are working with non-contracted vendors that do not offer negotiated price agreements.
You may be paying these vendors above-market prices for MRO items that you could have gotten bulk discounts for using formal contracts. You may also be increasing the risk for yourself if these vendors are unable to deliver essential items to you on time and at the agreed price.
Using standardized contracts and working mostly with contracted vendors reduces the risk of disruptions, lowers costs, and establishes a leaner supply chain.
Consolidate suppliers by evaluating their performance
In addition to indirect spend analysis, supplier performance evaluation could be another avenue for selecting suppliers that offer the best value to your organization.
A regular audit of your relationship with indirect spend suppliers––in particular the prices you’ve negotiated with them, the frequency of additional charges and taxes they invoice you, and the quality of their service and products––can be a good starting point for determining which vendors are trustworthy and cost-effective for your business.
After all, it’s your suppliers’ prices that impact the final cost of your products.
Reviewing a supplier’s quality of service, such as their delivery times, the accuracy of delivery quantities, and payment terms can also help you understand which suppliers best meet your organization’s operational needs.
By keeping only the best suppliers, you become more likely to fulfill your downstream customers’ requirements.
Offload your MRO inventory with VMI agreements
Some firms prefer to reduce their indirect inventory by creating vendor-managed inventory (VMI) agreements with suppliers they trust. These suppliers manage most, if not all, of the company’s MRO needs and perform maintenance and repair operations as required.
With fewer suppliers and MRO items to manage, firms can focus their supply chain staff on more strategic tasks such as aligning teams on standardized procurement policies.
They can also manage their indirect spend more prudently by only paying for MRO items and services only when they need them, thereby eliminating the risk of over-or understocking items.
Firms that have switched to VMI report having more responsive supply chains that can adapt to seasonal changes and commodity supply fluctuations.
Centralise indirect procurement to harmonise data
One of the best investments a company can make to reduce its indirect inventory is to install an intelligent, centralized materials management system that can automatically harmonize its materials data.
This software can track inventory levels across multiple plants and automatically classify and categorize indirect spend. Using powerful Artificial Intelligence (AI) algorithms, they can deduplicate items, consolidate vendors, and identify similar MRO items used across the organization.
The result is a harmonized materials master database that is free from the siloed data repositories created by legacy systems and proprietary software.
Managers no longer have to estimate inventory levels like they had to with bad data – instead they can see the most up-to-date stock levels via visualized dashboards and make collaborative key decisions based on reliable data.
Increase visibility and make decision-making more efficient
With the help of supply chain management software, you can also gain real-time visibility into your material flows and vendor performance.
Managers can quickly compare contracts to identify the best-value items and vendors for requesting favorable volume discounts. They can also gain total visibility of their indirect and direct spends to determine the appropriate budgetary levels for different spend categories.
More importantly, the increased visibility can help managers discuss and develop formal indirect material procurement processes that cater to the needs of both the organization and on-the-ground personnel.
Doing so aligns all personnel on key procurement policies and reduces the risk of maverick spending and private inventories that cause unnecessary spending outside the purview of formal procurement.
Clean up your indirect inventory with AI-enabled supply chain management software
Here at Verusen our industry-proven AI supply chain platform enables your business to consolidate indirect and direct materials data from all your facilities quickly and cost-effectively.
By implementing our software, companies can better balance operational and supplier risk to fulfill customer orders on time and at the right price.
Our advanced AI and machine learning algorithms harmonize indirect inventory data automatically without the need for costly and time-consuming data cleanses, allowing your personnel to focus more on more strategic tasks like evaluating vendor performance and optimizing working capital.
To learn more about how Verusen can help your firm achieve supply chain success, visit us here.