IV. A Dealer Guide to Parts Inventory Management

In today's dealership, all aspects of operations are continually evolving, and the parts department is no exception. Due to recent changes, the parts manager faces many dynamic market factors :

▪	Narrowed profit margins
▪	Intense aftermarket competition
▪	Retail merchandising
▪	Scores of increased used-vehicle reconditioning
▪	The impact of parts availability on customer satisfaction and survey

 
The supply side has also changed. Now, dealers and managers must consider :

▪	Parts proliferation from expanded model offerings
▪	Crossover parts applications from platform standardization
▪	Centralization/decentralization of manufacturer parts distribution operations
▪	Additional vendors in the supply chain including spurious supplies
▪	Expanded order and return capabilities

 
Add to these the issues of transportation, automation, and manufacturer-driven lean supply systems initiatives, and the process of sourcing parts have become just as complex as selling them.

What is the common thread linking all of these changes, variables, and issues? Parts inventories. And the only thing separating a non-performing inventory from one that provides a tremendous return on investment is how well that inventory is managed.

This guide is intended to provide you, the dealer and the parts manager, with information to help you analyze and effectively manage your parts inventory.

It will focus on two primary aspects of inventory management:

▪	The latest trends and information for measuring inventory performance.
▪	The demand factors that affect the buying/stocking decision.

 
By using this information and actively managing your parts assets, you can greatly improve your inventory performance and increase your investment return.

A. PERORMANCEMEASUREMENTS:

Historically, inventory performance in this industry has been measured in turns, which provided dealers and parts managers with a measure of comparison relative to return on investment. Due to changes in the ordering and delivery process, turn measurements are no longer considered time-sensitive enough to achieve and maintain the highest levels of inventory performance. In response to these changes, most manufacturers are already on or are switching to a daily stock order system. The current trend toward lean stocking and overall inventory reductions requires a more precise view of inventory performance than that provided by turns. In order to reduce your inventory without compromising your fill rate, the inventory must be viewed from a shorter time span, i.e. one of days, as opposed to months or turns.

For a clear picture of your inventory performance, you must now focus on different measurements. The Primary measurement (days supply and fill rate) allow you to view your inventory not only from the perspective of your investment, but also by how well your inventory serves your market. The secondary measurements (non- stock parts and obsolescence/months-no-sales) tell you how efficiently you are purchasing .parts, how much of your inventory is usable, and how much is obsolete.

In this section, we will discuss how to calculate each of these measurements and why it is important to do so.

(a) Primary Measurements:

Changes in order scheduling and frequency, as well as improvements in freight transportation systems are just two of the many factors which today allow you to reduce your overall inventory investment. Calculating your days supply will help you monitor your investment levels while you reduce your inventory.

1. Days Supply :

It is recommended that you calculate days supply based on 30, 90, and 365-day averages for sales, gross profit, and cost of sales, as well as inventory. This will help you to take into account factors such as seasonal demand, service campaigns, and minor errors in the ordering process.

To calculate days supply, refer to your financial statement for the following data:

	Example figures	Your figure
1) Total Parts and Accessories sales (in one month i.e. 30 days)	Rs. 2,76,000
2) Gross profit	Rs. 83,000
3) Cost of Parts and Accessories sales	Rs. 1,93,000
4) Current Inventory	Rs. 1,50,000
5) No. of days' suppy of Inventory = (4) / (3) x 30 = 23.32	23 days

 
The result of the calculation (in the example figures, 23 days) is the days supply of inventory. "By performing this calculation regularly, you can keep track of how well you are attaining the goal of reducing the days supply.

There is significant difference between rupees days supply and unit days supply. Rupees days supply is based on the cost of the total parts inventory. Unit days supply is based on the quantity of an individual part that you have in stock. The goal, which is to reduce overall rupee days supply, is facilitated by lowering the unit days supply on each part number to its best level. However, you do not want to reduce the unit days supply to the extent that every order is an emergency purchase. That would cost you more money overall through added acquisition cost and lost obsolescence credit. That is why it is important to also focus on your service level or fill rate to your various customers.

2. Fill rate :

Fill rate, the measure of parts first-fill rate (i.e rate of exstock supply on demand) to the customer, balances your effort to trim inventory to the minimum investment level. While reducing the rupee days supply can increase your return on investment, this benefit is significantly reduced and can be completely negated if you lose a sale and its subsequent profit because you did not have the part in stock.

Fill rates should be calculated and monitored on a frequent basis, preferably weekly. Daily measurements are not only tedious, but may also produce inconclusive results due to work-in-process. On the other hand, postponing measurements until the end of the month creates two potential problems. First, the sheer volume of work necessary to review an entire month is overly burdensome. Second, a longer period of time between reviews may allow a minor supply issue to escalate into a significant problem. Monitoring fill rates on a weekly basis avoids both pitfalls.

Measure your fill rate by transactions, not by the number of lines filled on individual R.O.s. For example, if the service department is performing a scheduled maintenance on a customer's vehicle and needs spark plugs, a fuel filter, an air filter and an oil filter to complete the job and you have everything but an air filter, you have a zero percent fill rate because the service department can't complete the job. But, if separate requests come to get the same parts, you have a 75 percent fill rate because you have filled three out of four requests.

When you perform your weekly analysis, be sure to monitor the fill rates for each category of parts sales, i.e., wholesale, retail, service and body shop. Every time the fill rate drops for service requested, even by a single percentage point, your work-in-process, technician productivity, staff utilization, effective labour rate calculations, and profitability suffer. Many of these same variables are compromised for wholesale and body shop accounts as well, where inadequate fill rates ultimately mean lost customers.

Monitoring your fill rate can also help your retail parts sales. If you have a low fill rate, your customers are more likely to purchase their parts from your competitors because they have the parts in stock when they are needed.

Even the new and used car departments benefit from an increased fill rate. For example, a customer buys a new car and wants an accessory installed. You have the part in stock and install it before delivery. He starts enjoying his new car immediately. He even tells a few friends about the wonderful service he received.

But what if you don't have the part in stock? The customer takes the car home. Then a few days later, he has to take time out of his busy schedule to bring his bright, shiny new car back to the dealership to have the part installed. He is not as excited because he was inconvenienced by having to bring the car back in. In this case, the positive word-of-mouth advertising for your dealership does not occur.

By monitoring your fill rate correctly, you can, generally, avoid the second scenario.

While losses from each category impact your profitability, some have a greater effect than others. You should track how each category is doing from most critical to least critical. To track the fill rate for each category, use the following equation :

No. of parts transactions with 100% first fill (i.e out of ready stock)
-----------------------------------------------------------------	X 100 = Fill Rate
Total transactions which include no. of parts transactions of ready supplies plus by -secondary purchases like emergency purchases etc., plus supply not effected.

 
The acceptable minimum fill rate should be 90 percent. The optimum fill rate is in the range of 92%­95% overall for the entire inventory. These percentages are based on mathematical factors affecting profitability. If you do not fill 90 percent of your parts requests, you are either losing customers. causing delays for the service technicians, or making so many emergency purchases that you are negatively impacting your profitability.

Most computer systems can generate all the information you need to calculate your fill rate. Although the worst-case scenario involves manually calculating fill rates, the benefits of increased sales, profitability, and customer satisfaction far outweigh the time expended. Monitor and utilize the information provided by your fill rate because it will show you where the balance lies between providing optimum service and minimizing parts inventory rupee investments. Remember lost sales produce zero profit.

Fill rate is also important due to the high cost of acquiring parts from outside sources. When you order parts on a stock order, you typically receive a discount and an obsolescence credit (which will be discussed later). When you order a part from an outside source, not only are you losing these bonuses, but you are also paying costs such as markup (because the other shop is making its profit), freight, telephone expenses (for locating the part), and labor (for retrieving the part). Therefore, a part which costs you Rs. 100/- on a stock order could wind up costing twice as much overall.

(b) Secondary Measurements :

The two primary measurements of days supply and fill rate will provide the significant information necessary to maintain a lean inventory, high sales, and related profits. Monitoring the performance of non-stocked parts, and months-no sales items will furnish valuable information that will help you further refine the investment levels of your inventory.

1. Non-stock Parts:

There are two ways to analyze non-stock parts. The first is to run a non-stock test through your computer system. Most computer systems will let you take a part number and track the activity of that part number without ordering the part. This is what is known as non-stock test. Placing a part in non­stock testing informs the system that you will be tracking the demand against that specific part number. Many parts managers will utilize the non-stock test as a means of determining the point at which to phase the part in or out. The average parts department may have as many as 20-30 percent of the active part numbers on non-stock test.

The second type of non-stock review is to analyze the part numbers being stocked as emergency purchases against the demand for those specific parts. One of the easier types of review is to analyse the emergency parts purchases, comparing the part numbers purchased to their individual sales history. If the part is, in fact, being purchased and sold on an emergency purchase basis, the stocking decision should be made at the point that demand becomes consistent. Ideally, emergency purchases should not exceed 10 percent (a mathematical profitability percentage) of your total monthly purchases. When they do, losing the manufacturer's obsolescence credit begins to adversely affect your inventory and diminish profitability.

If your computer system does not have a non-stock testing feature (some don't) and will not allow you to analyze your emergency purchases in this fashion (some won't), you still do this manually. One way to track emergency purchases is to manually record the classification of these parts. Every part has a class (A. B. C etc.) depending on how quickly it sells throughout the system. Whenever you receive an emergency purchase, track the class of the part. You shouldn't be purchasing many fast-moving parts on an emergency basis.

2. Months-No-Sales/Obsolescence :

Definitions of obsolescence, as well as guidelines, vary between manufacturers. Technically, obsolescence stems from a decline in sales for a given part. These declines gradually take place as a part reaches the mature stage of its life-cycle. Rarely does this create high levels of obsolescence, however. Large-scale reductions in sales, speculative purchasing, and paper-flow deficiencies are responsible for the largest share of obsolescence growth in a modern parts department.

Obsolete parts are traditionally defined as "parts with 12 month-no-sales". Now that inventories can be reduced through high-frequency stock orders, dealers are reducing the parameter from 12 months to nine or ten in an effort to fine tune the inventory.

Manufacturer recommendations for 12 months-no-sales range from 5-8 percent of the total inventory. But, if you reduce the time span to nine or ten months, this guideline may temporarily increase until the amount of obsolete inventory begins to decline.

Regardless of the span of time selected, you have an obsolescence problem if the value of obsolete parts in your inventory dramatically exceeds the amount of the credit you have for returning parts to the manufacturer.

A note of caution: Though there are instances where manufactures in India have lent credit to obsolete stock in selective ways, this is not a prevalent practice as a routine procedure observed in manufacturer - dealer transactions.

B. DEMAND FACTORS:

Parts inventories are thought to be controlled on the supply side through the ordering process. What really controls the inventory, though, is total demand. Total demand consists of :

▪	Stock Sales
▪	Lost Sales
▪	Emergency Purchases

 
Prior to examining these three factors, a clear explanation of the life-cycle of a part is necessary. Historically, the life-cycle has been viewed as a sine wave, with the top representing peak demand for the part. Recent research, however, confirms that the part life-cycle actually occurs in multiple stages, at varying levels of intensity.

The difference in the two life-cycles highlight that a part actually starts with an initial increase in sales, followed by a dramatic jump. Sales growth then begins a stabilization period prior to maintaining a period of peak demand. Following this, sales radically drop, then decline at a slower pace prior to becoming obsolete. To reduce the overall span of time that the part is in stock (and thus reduce your overall inventory), you can defer the phase-in of the part and accelerate phase-out, once you have decided that either decision is justified.

Establishing proper computer parameters will help you monitor the life cycle of individual parts. These parameters differ not only from manufacturer to manufacturer and from system to system, but also from dealership to dealership. Your manufacturer and system provider will be able to inform you as to how to set the parameters in your dealership's computer system. What does not change, however, is the criteria that you should use to set your parameters. The criteria consist your dealership's market, the conditions and economy of your market, and a sensitivity toward the category which, has the most sales.

Once the proper computer parameters for your dealership are established, monitoring the life-cycle will provide additional information necessary to facilitate the buying/stocking decision process. Though there is no graphic indication of an individual part's life-cycle available, reviewing the sales history of each part should provide an interpretation of where an individual part is in its life-cycle.

(a) Stock Sales :

The number of sales is the predominant mathematical factor in the demand equation. Declines, seasonal parts, and the outer limits of the part life-cycle are the only aspects of the sales factor that may adversely impact the inventory by causing you to stock parts which are or will become obsolete. Parts with consistent sales require the least analysis prior to purchasing. One of the most volatile times for a part is at the introduction of its life-cycle, as sales are just beginning to increase. Coinciding with this time is the detrimental practice of speculative purchasing in advance of the demand. This typically occurs in an effort to avoid a shortfall in supply or in anticipation of a price increase. Speculative purchasing rarely produces profits significant enough to offset the capital expended on carrying costs.

Recalls, campaigns, special promotions, and seasonal sales also create inconsistent demand that can lead to increased inventory of unwanted parts. Recalls and service campaigns to fulfill a specified modifications programmes should be tracked against the number of such specified vehicles and demand forecasts provided by the manufacturers. As these parts reach the point of obsolescence, arrangements should be made to return the parts to the manufacturer or supplier, without utilisation of return accruals, if possible.

Parts needed for special promotions, sales events, etc. should be carefully evaluated prior to placing the initial order. This evaluation should include market analysis, an anticipated response rate, and should take into account the investment needed to stock the necessary parts. The initial order can then be reduced 10-20 percent in an effort to minimize the potential for excessive stocking. For example your manufacturer says that there will be a recall on the ignition systems for 1995 XYZ vans and that there are approximately 100 of these vans in your area. If your lead time allows, you can order only 80 parts and once you have sold 60 of them, you can order the last 20. But, if you order 80 and only sell 50 before the demand stops, you only have 30 to return instead of 50. This can reduce the overall amount of money you have tied up in your inventory as well as minimize the impact on your obsolescence credit.

In certain regions of the country, specific parts or groups of parts experience their own seasonal life cycle each year. You should review and analyze parts such as these more frequently than the remainder of your inventory. By doing so, you can reduce inventory during the dormant period, thus reducing the overall rupees days supply of inventory. This is a useful technique, as you can introduce alternative parts with a growing demand into the inventory, or increase stocking levels to meet the demand.

Finally, as sales peak and stabilize, each part must be closely monitored for a decline in demand. Once the sales begin to decline, the potential for overstocking increase exponentially. Establish and monitor computed settings and order parameters on a consistent basis to reduce this potential.

(b) Lost Sales :

Lost sales are the second critical demand factor. Without the addition of lost sales data to the purchase/stocking criteria, total demand will be underrated, often by as much as 30 percent. This, in turn, affects all aspects of the buying decision :

▪	Phase-in/Phase-out
▪	Days Supply Settings
▪	Economic Order Quantity (EOQ)
▪	Min/Max (minimum and maximum stocking points)

 
As we have discussed, phase-in/phase-out is important to the stocking decision because of the life­cycle of various parts. The days supply settings are the computer settings which determine when new parts are ordered. EOQ, available for some dealerships on their computer systems, is a formula based on the current amount of sales which helps determine the quantity of a part that should be stocked in order to achieve maximum profitability. Min/max are computer settings which allow you to order a minimum number of a certain part, but set a maximum number that can be ordered. Please note: EOQ and min/max are not recommended for daily stock order dealerships. If lost sales are not posted accurately, these factors will not help you achieve maximum profitability and may lead to increased obsolescence.

In order to post lost sales accurately, you need to establish a working definition of a lost sale. Difficulty in identifying or defining a lost sale has long been cited as the primary reason for not posting a sale as lost. Questions leading to the confusion typically include:

IMPORTANT TO KNOW

▪	Was the sale really lost, or was the customer just shopping?
▪	What if another dealership parts department inquires for its customer?
▪	What if the service department inquires, but doesn't perform the service?
▪	Is the sale only lost when you know that the customer has walked away?

 
While all of these are reasonable questions and should be clarified with the customer, they are not necessary to make the decision as to whether a sale has been lost. Unfortunately, many parts sales professionals are told not to post the sale as lost until they definitely know that the customer has walked away. The result is that, since they never really know what has occurred, parts professionals play it safe and avoid posting the lost sale. With this practice, the computer will only recognise the demand when the part is forced into the system via a special order or emergency purchase.

To alleviate this, you can simply define the sale as lost if

1. You experience an inquiry on an out-of-stock part, or
2. You experience an inquiry on a non-stocked part

If an inquiry occurs and you do not have the part in stock and it does not result in a special-order by the customer, consider it a lost sale.

By using these simple criteria, you greatly enhance the accuracy of total demand. Failure to post lost sales leads to emergency orders in the ways previously discussed. Posting each lost sale should lead you to maintain an inventory that increased your fill rate.

(c) Emergency Purchases :

The third demand factor is the emergency purchase. Emergency purchases are

▪	Outside purchases (from non-standard sources)
▪	Special Orders (out-of-stock or non-stocked; standard sourcing)

 
Non-standard sources include any and all purchases outside the normal channels of supply for your dealership, e.g. other dealers, aftermarket parts suppliers, and direct-from-vendor purchases. Because of today's customer service demands, the parts department occasionally needs to acquire parts from these sources in order to complete a repair. This practice is certainly beneficial to the dealership in terms of productivity, profitability, and market retention. The primary problem occurs when these purchases become more of a habit than in unusual circumstances. Therefore, you should carefully monitor these purchases on a weekly basis to ensure that outside purchases are not getting out of hand. Generally, outside purchases should not exceed 2-3 percent of total monthly purchases (the rest should come from regular stock orders or emergency purchases from your manufacturer).

Special orders are the other segment of emergency purchases. Special orders parts can be one of the most serious causes of obsolescence if the system for ordering these parts has not been set up properly. Follow these steps to ensure that you have a streamlined special order process :

1. Secure accurate information prior to ordering the part
2. Properly order the part based on time requirements
3. Monitor the status on a daily basis, providing updates to the customer
4. Log in the parts and notify the customer that they have arrived
5. Maintain the parts in separate bins, preferably established in an aging order
6. Perform daily maintenance of the parts bins
7. Follow up with service advisor(s) to ensure parts pickup and installation

If you follow these minimal steps, you will significantly reduce the potential for special orders to increase obsolescence.

Non-stock-order purchase can lower your profitability significantly because they can increase your level of obsolete parts. Whenever you make a stock order, the manufacturer gives you credit towards returning obsolete parts up to a certain percentage of the order (not very common practice in India). When you make a non-stock order purchase, you do not receive this credit. So, if you make a stock order of Rs. 100/- and your manufacturer gives you a 12 percent credit, you can then return one or a number of obsolete parts whose cost equals Rs. 12/-. If you make a non-stock order purchase, you not only do not earn the Rs. 12/- credit, you also retain that amount in obsolete parts. This illustrates how non-stock-order purchases increase your obsolescence and reduce your profitability.

SUMMARY

The information presented within this guide is designed to provide general information for measuring the performance of parts inventories and the factors contributing to the demand for those parts. Inventory performance should be measured by analyzing parts inventory variables. These variables are the primary measurements of days supply of inventory and parts fill rates, combined with the secondary measurements of non-stock parts and months-no-sales. While specific guidelines and recommendations vary from manufacturer to manufacturer, this information should help you to increase your potential for maintaining a lean, market-driven parts inventory.

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