When should you install perpetual inventory?

When should you install perpetual inventory in your retail operation?

Few businesses start off with a perpetual inventory system to track and control their inventory. The owner/operator is there every day and knows almost exactly what is in stock. After all, he or she probably placed the order, negotiated the price and terms, and signed the check to pay for it. Not only would a perpetual inventory system be redundant, it is an expensive system to install and operate.

Eventually a successful retail operation will outgrow the owner/operator's mental ability to track his stock. At this time he faces a large dilemma - Do I invest in perpetual inventory or do I go for more sales growth? A second or third store forecasted to have the same or higher profitability as the first store will have an immense leverage impact on the owner's earnings. An investment in an inventory system on the other hand, is strictly a cost that will most likely not be recovered in the first year. On the face of it, not a tough decision - go for the new store and plan to use their profits to pay for the new inventory system later.

However, lets look at the problem from another angle - risk. What happens if the demand for our industry products turns static or declines? The most likely impact will be lower margins as we and our competition struggle to maintain sales levels. Suddenly you are in a new environment with elements such as:

The new stores are not as profitable as forecasted and possibly turn to a cash drain.
Your inventory isn't turning as much resulting in a much higher cash investment.
You have no unbiased reporting for what inventory items are not moving (gee, it would sure be nice to be able to turn them into some cash if I could identify them).
Your competition has an advantage in that while perpetual systems are not perfect, companies that have them tend to have better controls than ones that don't. This could mean a one to three percentage points difference between their costs and ours.

The failure to do the basics in the beginning, such as installing inventory controls, will then come back to bite you big time. The impact on you, the owner, could include:

The necessity of investing in an inventory system while your net earnings are declining.
Reduced cash flow will require you to cut many of the people that made your company what it was. This will have a big time impact on your fun level.
You probably will have to take a pay cut which will reduce the standard of living that you have come to enjoy.
You could eventually even go out of business.

We tend to base our strategy on the assumption that our market place will be about the same. The economy may be up or down, but our customers will be the same and our pool of potential employees will not change. These static assumptions can lead you to ruin in much the same way that history has shown generals to be consistently planning for the wrong war. The last war may have been one of static trenches, so little consideration is given to a possible war with speed and movement.

So, when should you install perpetual inventory? My answer is as soon as you have the vision of becoming a great business you need to make sure that all the basics are in place. This means install perpetual inventory now, even though you don't need it. Sooner or later you will.

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