This article is the third and final article on achieving success with vendor-managed inventory (VMI). In the first article we discussed the advantages and disadvantages of having a vendor manage replenishment of the products it supplies to a customer. Last month we discussed how to calculate replenishment parameters to achieve success in vendor-managed inventory agreements. In this final article we will discuss policies and procedures that must be in place to assure the success of a VMI program.

The normal time period between deliveries to the customer. Most VMI agreements require the supplier to replenish stock at a customer’s site once or twice a week. Frequent replenishment helps to ensure that service-level goals can be achieved.

A method of transmitting collaborative forecast information to the supplier. Without this forecast information, the VMI supplier can only make decisions of when to replenish stock and how much to supply based on past history. This is the equivalent of driving down a highway with the windshield painted over with black paint so the driver can only see where he or she is going by looking out the rear-view mirror.

The supplier needs to understand the customer’s changing requirements for products. Collaborative information is normally gathered by the VMI customer’s own customers, salespeople, and other sources. This information is then translated into anticipated changes in future usage of products to the VMI supplier. Note that it is common practice for the VMI customer to assume full responsibility for additional inventory delivered due to collaborative forecasts supplied by the customer – that is, there is a handling charge if this speculative inventory must be returned.

The automatic return of material that has not been used for “x” number of months. Remember that under a VMI agreement a customer has purchased stock on the advice of the supplier. If that inventory is not used within six to nine months after delivery (and is not designated to be a critical repair part), the supplier should automatically issue a return goods authorization and give the customer full credit for the return. Note that this does not include any material supplied under collaborative forecasts supplied by the customer (as discussed in the preceding paragraph).

Performance guarantee. Under a VMI agreement, a customer invests in a specific amount of inventory anticipating a forecasted service level for the products supplied under the agreement. This service level is the percentage of product requests that can be completely filled from the VMI maintained inventory. But what happens if this service level is not achieved? For example:

  • The supplier may not retain enough inventory to adequately replenish the customer’s stock.
  • The supplier may not replenish inventory as promised.
  • The supplier’s forecasting and replenishment system may not result in the agreed-upon service level.

There must be penalties associated with supplier non-performance. After all, the customer is putting its reputation in the hands of the supplier. However, as long as the supplier fulfills all of its commitments under the VMI program, the customer should commit to purchase all products on the VMI agreement from the supplier.

A well-structured VMI agreement has the potential to provide benefits for both the supplier and customer. If each partner concentrates on their core competencies, both firms can increase their productivity and profitability.