Why do we have aged inventory?

I have heard this question asked time and time again in used-vehicle departments. The answers vary. Everyone has an excuse for their aged inventory. I only know of one reason for aged inventory: you simply have too much.

The reason we continue to be caught up in this aged-inventory problem month after month is that we lack a clear understanding of inventory control.

Few people in our industry truly understand and pay attention to proper stocking levels for used-vehicle inventory. Often, more attention is given to aging parameter rather than stocking level.

In most cases, when I encounter a dealer or general manager who understands the calculations, the information has not been shared with the used-vehicle manager, the one who really needs to understand the whole inventory-stocking situation.

Understanding inventory-stocking levels is simple. It should be a learned process practiced by all used-vehicle managers.

First, we need access to used-vehicle department financial data. The department manager needs to know the following information for cars and trucks:

  1. Retail sales dollar amounts, year-to-date.
  2. Gross profit, year-to-date.
  3. Reconditioning expenses, year-to-date, if it is not a memo item on your manufacturers statement.
  4. Number of units sold, year-to-date.
  5. Ending dollar balance of used-vehicle inventory at month-end.
  6. Ending number of units in inventory at month-end.

Next adhere to the following guidelines.

I recommend no more than a 45 dollar-days' supply of inventory maximum. This will yield eight turns of the used-vehicle inventory yearly. It should be the minimum acceptable level of inventory performance a dealer should expect. The chart below shows how to calculate that.

A good job would be if you were working with a 35-day supply that would net you 10 turns of the inventory yearly.

Unit Days' Supply Calculation
Retail Unit Sales 33
Divided By Selling Days In Month 25
Equals Daily Sales Rate 1.3
Number Of Units In Stock 58
Divided By Daily Sales Rate 1.3
Unit Days' Supply 45

But beware of too many turns. If a dealer turns inventory 1.5 times per month, or 18 times per year, I would fear missed sales opportunities. Maintain 10 turns a year. This is good inventory performance and still allows room for growth.

Our next evaluation of the inventory should be to calculate the unit days' supply. This is an area that I find most used-vehicle managers do understand, but I caution about calculating only the unit days' supply without the dollar days' supply. This can cause you to make wrong assumptions about the condition of your used vehicle inventory.

Dollar Days' Calculation
Retail Sales $ $250,000
Reconditioning Expense $ (Do not list this expense if it is a memo item on your statement) $0
Minus Retail Gross Profit $ $30,000
Equals Cost of Sales $220,000
Divided by 30-Days 30
Equals One Day Cost of Sales $7,333
Current Inventory Balance Divided
By One Day Cost of Sales
$330,000/$7,333
Equals Dollar Days Supply $45

The key point we want to make here is our dollar days' and unit days' supply should be within a few days of each other, indicating our inventory is evenly balanced with respect to what we are selling. When we see a high dollar days' supply (for example, 83), and a low unit days supply (for example, 41), this indicates current inventory is much more expensive than what we have been selling, or is improperly balanced. If you look at unit days' supply only, you may like the numbers you see, but still have under-performing inventory.

Good inventory management does not just happen. It requires focus and attention. But the rewards are many for the dealers who excel in this vital area of used-vehicle operations.

Dennis Gregg is a used-car consultant for NCM Associates Inc. He is at 913-649-7830 and dgregg@ncm20.com.