What is consignment inventory, and is it the right model for you.
You’re a manufacturer that produces high-end audio equipment, like speakers and headphones. You recently launched a new product line with innovative features.
While you know the technology works and provides value, you’re unsure about the market reception, and so remain reluctant to mass produce this product.
What do you do? You enter into a consignment inventory agreement to test the market.
But, what exactly is consignment inventory?
Consignment inventory is a supply chain approach or business arrangement where a consignor (e.g., manufacturer) provides stock to a consignee (e.g., retailer) without receiving payment upfront.
The consignor keeps legal ownership of the goods. At the same time, the consignee agrees to promote and sell the product, effectively handling the sales process.
The retailer pays for the stock only when it’s sold and typically receives a commission or percentage of the selling price as compensation. This business arrangement is usually governed by a detailed consignment agreement that both parties must sign.
Are there any pros and cons of consignment stock?
Yes, the consignment model has benefits and drawbacks for both consignees and consignors. Let’s take a look.
Benefits of consignment inventory for consignors
- Market expansion. Manufacturers can expand their reach and distribution network without having to set up physical locations, as they can piggyback off existing retailers.
- Market testing. Manufacturers can test interest in their products in different markets. This allows them to gather feedback, iron out any kinks, and assess the potential for success before mass production.
- Supply chain efficiency. Manufacturers don’t need to allocate warehouse space to store stock, so they can control inventory carrying costs.
Disadvantages of consignment stock for consignors
- No upfront payment. Payment is only received from consignees when goods are sold, which can potentially create cash flow problems.
- Great financial risk. If the products don’t sell, the manufacturer carries the losses.
- Sales dependency. The sales are dependent on the efforts and marketing capabilities of the retailer.
- Complex inventory management. Consigned stock needs to be tracked separately from other inventory for operational clarity and easier financial reporting. This can be an extra administrative and logistical burden.
Benefits of consignment inventory for consignees
- Reduced financial risk. Retailers don’t have to pay for stock upfront and don’t incur losses of unsold inventory.
- Greater product variety. There’s an incentive to offer a broader product variety, because there isn’t a financial commitment to one product.
- Competitive advantage. The improved product variety can be a differentiator for retailers.
- Better cash flow. Capital is freed up, because cash is not tied up in inventory.
Disadvantages of consignment stock for consignees
- Lack of control. Retailers don’t own the product, which can limit independent decision making around business areas, like pricing and promotion.
- Limited product margin. Retailers earn a commission or percentage of the selling price for products sold, representing a lower margin than can be achieved with their own inventory.
- Pressure to meet targets. Small commissions can put unnecessary pressure on retailers to meet sales targets.
- Complex inventory management. As with consignors, there’s an extra administrative and logistical burden of tracking and managing consigned inventory alongside owned stock.
How to effectively manage consignment inventory
Given the complexity around managing consignment stock, you’re probably wondering: How do I effectively manage it? Here are two ways:
1. Detailed consignment agreement.
The success of a business relationship depends on a mutually beneficial agreement that clearly establishes expectations. While the exact details will differ between agreements, you generally want to:
- Identify both parties with legal names and contact information.
- Describe the goods being consigned.
- State that ownership remains with the consignor until goods are sold.
- Establish the pricing: Will the consignee receive a fixed amount, commission, or percentage of the selling price?
- Specify the consignment period.
- Detail the consignee’s role in promotion and selling.
- Include details about dispute resolution and confidentiality.
2. Invest in a robust inventory management system (IMS).
An IMS is software that lets you manage and optimize inventory levels from a centralized platform. Use it to automate everything from inventory counts to stock replenishment and access real-time reporting to make better financial decisions.
While basic software exists for managing simple operations, more advanced IMS solutions can handle the complexities of inventory management, like that of managing consignment inventory.
For instance, Fishbowl provides the following features to help you manage consignment inventory:
- Separate consignment inventory tracking for operational clarity and easy reporting (side note: you can assign stock to certain consignees and locations)
- Consignment revenue and purchase tracking to track sales orders and invoices
- Consignment agreement management, so you can store and easily access any agreement and related documents
- Consignment stock replenishment abilities that let you set up automatic reorder points and create purchase orders
- Reporting abilities to analyze consignment inventory performance, sales trends, and other key metrics
- Integrations with essential business apps, like Shopify, QuickBooks, and Salesforce
So, is a consignment model right for you?
There’s no right or wrong answer. The consignment model has pros and cons, and you’ll need to weigh these up when making a decision while also considering your unique situation.
Does your current cash flow situation allow you to withstand payment delays from retailers? Is expanding market reach and testing new products a main priority? Are you comfortable with the financial risk of unsold inventory?
Just know that if you decide to use this model, it’s probably wise to diversify: use the consignment model as one way to get your product into customers’ hands.
Also, don’t forget to invest in the right software to make managing consignment inventory a breeze. Learn more about how Fishbowl can help by booking a demo today.