How Does Vendor Managed Inventory Work?

As with most mission-critical operational systems, "the devil is in the details" when it comes to performing VMI. In order for this seemingly simple process to run smoothly, several important capabilities are required:

  • Close monitoring of data transmission and data validity (e.g. excessive quantities)
  • The flexibility to use multiple customer and supplier data formats (e.g. EDI, XML, flat files, etc.)
  • The flexibility to use multiple data communication methodologies (e.g. Value Added Networks, AS2, FTP, etc.)
  • The ability to quickly adapt when customer or supplier business systems change

The basic Vendor Managed Inventory (VMI) process can be described in terms of the following steps: data communications, calculations, monitoring and reporting.

Data Communications and Calculations

The VMI process starts with the customer sending a Product Activity Report (1). This report contains demand information such as sales and transfers, along with inventory position information such as on-hand, on-order and in-transit for the items that changed since the last report.

The VMI software analyzes the data and creates recommended replenishment orders (2). The recommendations are based on algorithms which use factors such as forecasts, frequency of sale, and dollar velocity of sales. Ideally, these processes include:

  • Periodic (e.g. weekly) review and calculation of order points and order quantities based on movement data and special information such as promotions, seasonality, etc.
  • Frequent (e.g. daily) comparison of on-hand inventory to order point and generation of recommended replenishment orders

The supplier's planner reviews the recommended orders and any exception conditions before approving appropriate orders (3). The VMI system then sends:

  • A Purchase Order to the supplier (4)
  • A Purchase Order Acknowledgment to the customer (5)

Monitoring and Reporting

When trading partners begin VMI, they start by agreeing upon objectives for:

  • Inventory turns
  • Fill rates (in-stock percentages)
  • Transaction costs

The system monitors actual activity with measurements against those objectives. The system must report the same information to both the supplier and the customer so that the process is highly transparent. Information should always be available to both parties on-demand. Ideally, the VMI system should also provide exception alerts to both parties when measurements get outside an acceptable range or when a problem with the data appears.

Why Do VMI? >

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