What Is Vendor-Managed Inventory?

Traditionally, sellers manage inventory once they receive it from their suppliers, but sometimes, there's a better approach. That's why many modern companies let vendors handle inventory for them. But exactly what is vendor-managed inventory?

VMI is one of several ways sellers can outsource aspects of their fulfillment process. We’ll explain VMI and how it can help you reduce inventory costs and improve relationships with key stakeholders.

Typical features of vendor-managed inventory solutions

A vendor-managed inventory process relies upon an agreement between a supplier (often the manufacturer) and a retailer or other type of seller in which the supplier is responsible for inventory management, leaving the seller free to focus on other activities. This relationship is often facilitated by dedicated software.

The nature of a VMI agreement varies depending on what will best optimize operations. Still, most VMI solutions share some common characteristics.

• Inventory ownership and control: In a VMI system, vendors retain ownership and control of the inventory. Sellers display the products on their premises, making them available to consumers or other business owners. They receive a commission on each sale.
• Collaborative planning and communication: A successful vendor-managed inventory requires effective collaboration between trading partners. Working together helps identify sources of risk and ensure everyone has the correct data.
• Demand forecasting: VMI software helps the supplier forecast the demand for each item, reducing carrying costs and ensuring they stock the right products. Forecasting also identifies items that don't sell so they can adjust their product mix based on current trends.
• Data exchange: Suppliers must track stock levels, process purchase orders, and ship items. If they ship items across international borders, they must also comply with stringent customs requirements. An effective VMI system streamlines the exchange of inventory-related documents between stakeholders.

Benefits of vendor-managed inventory

Once you implement a VMI system, you can look forward to taking advantage of the following vendor-managed inventory benefits:

Enhanced supply chain collaboration

The primary goal of a vendor-managed inventory process is to optimize operations for all trading partners. Everyone works together to achieve common goals. This requires a high level of collaboration throughout the supply chain.

Improved inventory management

A robust VMI system simplifies demand forecasting and determines when to order more of each item, minimizing the seller's required storage space. Because the vendor manages inventory, VMI also reduces unnecessary ordering. All these changes lead to optimized inventory management.

Better customer experience

Vendor-managed inventory reduces the likelihood that popular items will go on backorder. When customers can rely on a seller to carry their favorite products, they have better experiences with the brand. Improved customer experiences may increase brand loyalty, making the company even more successful.

Improved decision-making capabilities

A digital vendor-managed inventory solution provides access to data on everything from daily units sold to monthly revenue. This data informs decisions about pricing and ordering.

Stronger relationships with trading partners

Suppliers and sellers must implement a robust communication system and mutually beneficial terms and conditions to achieve success with vendor-managed inventory. Setting ground rules strengthens the relationships among stakeholders.

Increased forecasting accuracy

Demand forecasts are only as good as the underlying data. Accurate information is needed to ensure precise forecasting that prevents stockouts and unhappy customers. A VMI system’s advanced reporting capabilities provide high-quality demand forecasts.

Reduced costs

As previously noted, a vendor-managed inventory process reduces unnecessary ordering. The less a company orders, the less it has to manage. Therefore, VMI reduces inventory carrying costs.

Challenges of vendor-managed inventory

VMI certainly provides benefits, but you must understand its challenges before committing to a new type of inventory management. Here are some of the most common roadblocks associated with a VMI approach:

• Increased data management: VMI increases access to inventory-related data, but you must be wary of data-entry errors and other mistakes.
• Difficulty establishing communication: VMI improves communication between suppliers and sellers over time, but there's often a learning curve. It may take some time before everyone is on the same page.
• Dependency on the vendor: If you’re a seller implementing VMI, you must rely on vendors for inventory management. An unreliable vendor may cause you to run out of popular items or experience other inventory-related problems.
• Technological demands: Before implementing a VMI system, you may need to purchase new servers or update your technical capabilities — potentially costly endeavors. Once you update everything, you may also need to train employees to use the new systems and equipment.
• Admin costs: Implementing and maintaining a VMI system increases administrative costs, which may diminish your company's profit margin.

5 considerations when implementing VMI systems

Once you have determined that a VMI system is right for your business, you must plan for several requirements. These are the primary considerations for a company getting started with VMI:

1. Planning and coordination: Before you set anything in stone, communicate with trading partners to determine the best way to implement a vendor-managed inventory process that benefits all parties.
2. Forecasting: Ensure you’re up to speed on demand forecasting. You may need to invest in forecasting tools, hire someone with experience producing demand forecasts, or train existing employees to handle forecasting duties. Accurate forecasts will tell you how much safety stock — extra items kept on hand to avoid stockouts — you should order, among other considerations.
3. Service level: When establishing a service level, you set goals and create metrics for measuring them. For example, your agreement with a vendor may state that you expect to have no more than three stockouts per quarter.
4. Lead time: You need ample time to implement a VMI system correctly. Before choosing a plan, you must also assess how much lead time your trading partners need to perform certain actions.

Real-life examples of companies using VMI

It's easier to understand the benefits of VMI after examining a good vendor-managed inventory example. Here are two examples to inspire you:

Walmart

When shopping at Walmart, you may see vendors stocking shelves or taking notes on stock levels. That's because Walmart relies on vendor-managed inventory for its success.

Every supplier can access Walmart's inventory data, allowing them to determine when to order more items or remove certain items from the shelves. In exchange, Walmart controls the delivery of merchandise from warehouses to stores.

Amazon

Amazon has thousands of third-party sellers and uses a vendor-managed inventory process to keep things organized. Maintaining control of millions of items would be nearly impossible, so every third-party vendor is responsible for its own inventory.

Amazon gives each vendor access to inventory data so they can determine when to replenish stock. Amazon’s vendor tools also help vendors determine if certain products aren't selling as well as expected, allowing them to replace underperforming products with more popular ones.

Overcome inventory challenges with Orderful

Vendor-managed inventory solutions reduce costs, enhance collaboration, and improve inventory management. Combining VMI with electronic data interchange (EDI) maximizes these benefits by allowing you to seamlessly exchange electronic documents with your trading partners.

Orderful offers a fast, modern EDI platform to help you grow your business. Learn more about how we can help you enhance your inventory data interchange process by talking to one of our EDI experts.