- The VMI inventory management model reduces inventory in the whole supply chain system more than the conventional order management model.
- VMI focuses on improving the level of cooperation in the supply chain and reducing a number of intermediaries who affecting the demand forecast, thus preventing the Bullwhip effect.
- VMI is used by Walmart, Home Depot, Amazon, Bosch, Procter & Gamble.
What is the VMI model?
Vendor Management Inventory (VMI) is a method of optimizing supply chain operations in which the supplier is responsible for the retailer’s inventory levels. Suppliers have access to retailer inventory data and are responsible for coordinating orders.
When applying VMI, the distortion and amplification of market demand when information is passed through many intermediaries from retailers to suppliers (also known as the Bullwhip effect) is minimized.
One of the most common examples of VMI implementations in business is the relationship between Walmart and P&G. P&G is responsible for managing the agreed inventory of P&G products on Wal-Mart’s shelf space based on real-time sales data shared by Walmart.
Comparison between the traditional ordering model and the VMI ordering model
In the traditional order management model, after receiving the forecast from the distributor/retailer, the manufacturer makes a production plan, from which the purchasing department proceeds to order the materials. When the supplier finishes delivering the materials, the manufacturer will store the materials and bear the cost of inventory. Similarly, for the downstream part of the supply chain, the distributor/retailer places an order from the manufacturer, when the manufacturer delivers the goods, the distributor/retailer picks up and keeps the goods in storage and bears inventory costs.
The control of inventory throughout the whole supply chain is difficult to implement because each unit in the chain manages its own inventory, there is no mechanism for sharing information. Therefore, the chain causes the Bullwhip effect leading to uncontrollable inventory in the entire chain, some units have too much inventory while others have too little.
The VMI model is a streamlined approach to inventory management and demand fulfillment. VMI involves cooperation between suppliers and their customers such as distributors, retailers, manufacturers. Instead of sending PO (purchase orders), customers send their daily needs information to suppliers using EDI electronic data or build a system that allows suppliers to access to know inventory information and customer demand information in real-time. Suppliers create and plan to supply goods into their customers’ systems according to the demand information provided.
The process of supplying and filling goods into the customer’s system is based on the inventory level, response rate, and transaction costs agreed between the seller and the buyer. The goal of VMI is to create an uniform flow in the supply chain between suppliers and their customers with the common goal of increasing inventory turnover, increasing service levels and sales, reducing general inventory of the whole chain, and stable production of suppliers.
The inventory control system under VMI can be implemented directly by the supplier or through third-party logistics service providers 3PLs. Goods from the manufacturer are gathered at the 3PLs warehouse, and then shipped to the distributor when needed. Under the VMI system, 3PL Warehouse will keep, manage and deliver goods to distributors according to market demand. Through the management system according to VMI, the parties in the supply chain will better coordinate to reduce both input and output inventories, thus reducing the bullwhip effect in the chain.
Benefits of VMI
One of the benefits of VMI is that the vendor is responsible for providing the its customer with the necessary items when the need arises from the end market, which can lead to:
- Removal of safety stock: VMI removes the need for the customer to have significant safety stock because the supplier manages the resupply lead times.
- Lower inventory levels: Lower inventories can reduce the need for warehouse space and warehouse resources.
- Reduction in purchasing-related admin costs: As the vendor receives data not purchase orders, the purchasing department has to spend less time on calculating and producing purchase orders.
For vendors or suppliers:
- Streamlines the delivery anticipation to a large extend with the point of sales data sharing;
- Makes it easier for product promotion by looking at current inventory situation;
- Reduces the product return rate from distributors by reducing the prediction and sales margin;
- Eliminates the product shortage situation by sharing the information among the supply chain network and increasing the distribution efficiency;
- Updates the manufacturing plan with better and more effective anticipation.
For distributors and resellers
- Speed up transportation by automating and reducing tasks that used to be handled by people;
- Decrease inventory cost;
- Reduce product shortage problem and thus increase customer satisfaction;
- Reduce the operation cost by shifting the planning and demanding workload to vendors;
- Increase the overall logistic performance by replenishing products in time;
- Response faster to customers’ needs.
- Minimize data error that may occur with the information shared in the system;
- Accelerate the overall supply chain efficiency;
- Establish a sustainable and trustworthy supply chain partnership;
- In the long run, more effective operation strategies, more new product development opportunities, and more sales will also add to the existing benefits.
Disadvantages of VMI
Loss of control: Giving over access to your data to a third party can be uncomfortable for some businesses. You might not want your inventory to be controlled by an outsider, especially if you’re unsure of that vendor’s ability to handle your unique needs. In addition, you may have reservations about handing over your data because of security concerns.
Limited options: Once you go with a VMI partner, it may cause a big disruption to that supply chain when you become unsatisfied with their service. Perhaps you may find other suppliers that are more cost-effective or have better products but being in a VMI relationship might dissuade you from making a change.
Less agile market responsiveness: If you feel that your expertise regarding your business’ demand fluctuations is your strong suit, going the VMI route might not be the best option for you. A VMI supplier will work with your data insights, but those might not accurately reflect your sales forecast or your unpredictable market shifts.
Bullwhip Effect and the solutions for Supply chain Efficiency