9 Ways To Unlock Cash Trapped In Your Inventory
Managing cash flow and inventory levels is crucial for e-commerce businesses.
Having enough cash on hand to cover expenses and purchase inventory while also carrying optimal inventory levels can make or break your online store.
E-commerce businesses need to constantly manage their cash flow to ensure they have enough funds available to purchase inventory, pay for operating expenses, and reinvest in growth.
Carrying too much inventory ties up cash while having too little risks losing sales and customers.
Finding the right balance allows businesses to remain sufficiently stocked while maintaining healthy cash reserves.
Optimizing inventory management directly impacts cash flow.
Carrying excess inventory means extra costs for storage and tied up capital that could be used elsewhere.
Insufficient inventory risks losing sales and profits.
Managing inventory efficiently ensures sufficient stock is on hand to fulfill demand while freeing up cash flow for other business needs.
For e-commerce stores, diligent inventory and cash flow management also enables better customer service through accurate stock availability, fast order fulfillment, and optimal selection.
Maintaining a strong cash flow position and ideal inventory levels helps e-commerce businesses maximize sales and profits.
This Substack will explore the relationship between inventory and cash flow and provide actionable tips for managing both.
Define Cash Flow
Cash flow refers to the net amount of cash moving into and out of a business.
It represents the money available to a company for spending and investment after accounting for all sources and uses of funds.
There are two primary types of cash flow:
Operating cash flow - This reflects the amount of cash generated by a company's normal business operations. It looks at profits and expenses and adjusts for changes in working capital like inventory, accounts receivable, and accounts payable. A positive operating cash flow indicates a company is generating enough revenue to cover its operating costs and fund growth.
Free cash flow - This measures the cash a company generates after accounting for capital expenditures like investments in equipment, property, or infrastructure. It provides a picture of how much cash a company has available to pay dividends, reduce debt, or pursue new investments. A higher free cash flow means the company has more financial flexibility.
Understanding both operating and free cash flows is important for assessing a company's financial health and management effectiveness.
Positive cash flows give businesses more options to strategically invest and grow over the long-term.
Define Inventory
Inventory refers to the goods and materials a business holds for the ultimate purpose of resale.
Inventory is made up of three types of stock:
Raw Materials - The basic materials and parts that go into producing the company's product. For a manufacturer, this could include component parts required for assembly and ingredients required for food production.
Work in Progress - Partially finished products in various stages of the production process. For example, a car manufacturer will have body panels, drive trains, and interior components that have not yet been assembled into a finished automobile.
Finished Goods - Products that are complete and ready for sale. This includes merchandise a retailer has purchased from suppliers to sell in their store. It can also refer to finished products a manufacturer has completed for distribution and sale.
By managing inventory levels of raw materials, work in progress, and finished goods, a business can maximize efficiency and minimize costs.
Too much inventory ties up money that could be put to better use, while too little inventory can lead to stock outs and missed sales opportunities.
Understand The Relationship Between Cash Flow and Inventory
Inventory levels have a direct impact on a business's cash flow.
Higher inventory requires more cash tied up in purchasing and storing that inventory.
The more inventory a business has on hand, the less cash it has available for other operating expenses and investments.
Carrying excess inventory also incurs additional costs for a business like storage, handling, insurance, interest on loans, spoilage, and more.
Collectively known as inventory carrying costs, these can range from 25-40% of inventory value. The higher the inventory levels, the greater these carrying costs which then eat into cash flow.
Businesses need to strike the right balance with inventory to meet demand while not tying up excessive cash.
Setting proper inventory levels and improving turnover are key to freeing up cash flow for other priorities.
The choice of inventory accounting method also impacts how inventory costs are recognized and cash flow is affected.
Overall, poor inventory management and control has a direct negative effect on cash flow for small businesses.
How to Set Inventory Levels
Keep reading with a 7-day free trial
Subscribe to BowTiedParrotFish’s Newsletter to keep reading this post and get 7 days of free access to the full post archives.