Ask the Experts | Limiting Inventory Costs While Being Prepared

Question: How do you limit inventory costs, while still being prepared to address your customers’ concerns?

Gary Elekes: Inventory is one of those areas that can create a lot of dollars that creep up over time and there could be a lot of areas of shrinkage and/or material that doesn’t get returned back on job usage.

So how we limit inventory is, we sit down and evaluate our service tickets. And we look hard at what has happened to us as a business in a marketplace, and we’ll typically use a year’s worth of service tickets. I’ve done this three or four times now in my own firms, where we’ve acquired a business as an asset and said, “OK, what is the product?” Are we doing heat pumps, are we doing gas furnaces, are we split systems, are we packaged, are we plumbing, what’s the type of product? And then look at the service calls and evaluate service calls and you create a histogram.

This is an analytical process, because what happens is you need to begin deciding what inventory you want to have on your vehicles and, in order to do that, you need some data to tell you what type of flow of material that you’ve dealt with over the past. And one month is not enough. Statistically you usually want somewhere around one to five percent of your overall tickets, and that would be of your company history. So a year’s worth of history is probably enough to look at. And I literally take the manual tickets and sit them down, open an Excel spreadsheet and say, “OK, great, contactor. OK, that’s one.” And you could do this with stick figures or an abacus, but Excel is probably the easiest way to create a histogram.

And what that does is it identifies what actually happens inside of your community, and what’s going on inside of the world of inventory. And it also allows you to have the conversation with the suppliers about what they’re seeing. And that’s the second step in that process is, OK, what does the supplier I’m doing business with, or suppliers, what do they recommend? What are their histograms?

Now, they’re not always in love with the idea of sharing that data with you, and there’s also the idea sometimes that if the supplier relationship isn’t a strong one, sometimes they might want to sell you some things. Back in the early 2000s I asked the Trane Corporation factory operation for that information and they gave me a 16-page “stock this on your truck” list and I just laughed. I’m like, “that’s about 13 pages more than I have now, why would I want to do that? I’m trying to thin it down.”

We had circuit boards on the truck and we discovered through that process that we really only did about three circuit boards in a year, and if you had eight service vehicles with one or two circuit boards on them, you have 16 circuit boards in your inventory model that you’ve probably paid for. Why would you want to do that when we only sell three a year? So that was an example of something that we narrowed down on our histogram and said, hey, we don’t really have very many of those repairs, let’s take that off the truck.

And so what we want is a business model that puts 80% of the items we deal with on a regular basis in our repairs – so if you took all of your repairs and said “What number represents 80% of our repairs?” – that’s inventory that you’re going to put on your truck.

The second step of that, and then the other 20%, really you could narrow that down to about 15%. That’s really what would go into the inventory channel in your warehouse, if you were going to keep inventory at all. Some suppliers are local, so you don’t necessarily need to do that. Some businesses are rural and don’t have suppliers close by, so you might need to put a little different inventory model in place in your warehouse. So you have to recognize that as a process.

But then the third phase of that is set up seasonal indicators. Contactors, in the air conditioning season, are probably more important to have on your vehicle at a higher level. So you begin to look at the flow of your inventory – how many times you’ve actually used a contactor in June, versus how many times you might use it in February. So you have this bulk number of repairs – let’s call that 100 contactors – well if 75 of them occurred in June, July and August, then you don’t really need to keep five contactors on your truck in February. So we set up seasonal indicators with min/max quantities.

So the minimum might be one and the maximum might be seven. And then you use what we call an economic order quantity, which means whenever I get down to my minimum, whatever I order, I order an economic quantity that allows me to get the best supplier transaction – no freight, maybe they can consign the inventory, whatever.

So, we’re going to keep inventory on the vehicle active and live and reduced, and that’s going to be about 80 percent of the repairs we run into. And we treat each vehicle as a unique warehouse.

So we use purchase orders, we used standardized truck stops, we use seasonal indicators – min/max, economic order quantity – and we need to count that truck on a regular basis and validate that the inventory we said was on the truck, that’s supposed to be on the truck, is actually on the truck so there is no shrinkage. So we randomly count a truck once a month, no one knows which truck we’re going to count, and that’s just a process that we use. Of course, then you have to decide how often you’re going to reinventory your trucks, or reinventory your warehouse, and that’s when you really get down to min/max and how many you’ve used and so forth.

I can honestly tell you that most companies in the trade carry way too much inventory. And the reason they do that is because most of us have come through the service technician background, and having the parts on the truck is a convenient process when you’re a smaller business so that you don’t have to go to a supply house and wait around and burn that time. The unfortunate part of that is you’re deploying capital, in a lot of cases, for that inventory. So reducing the inventory allows that capital to be freed up to do other things, like create a digital footprint, or hire a salesperson, or do something that’s productive, even CSRs.

So I think what you want to do is look at your 80/20, and you want to analyze that. You want to create your chart, you want to figure out your min/maxes, and you want to thin down your inventory on your vehicles and match that up. We’ve always involved our service techs in that process so they’re bought-in and they understand why we’re doing it and how we’re doing it and a lot of times they have some really good input.

So I would include your service group, your service management function, anyone that’s attached to the inventory usage, I’d make sure they’re involved. If nothing else, just so they have an opportunity to understand what the usage actually is, that it’s not just “hey, we’re reducing inventory”; that we’re trying to put the right inventory on the truck, and there should be a regular feedback process to adjust.

There’s an action plan for that as well, so if anyone’s interested in that I can make sure that they get that.

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