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Signing a VMI Contract? Here is the checklist

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by Shobana J , Senior Cost Modeling Specialist
14 March 2019



  • As and when the VMI services are hired, there will be a need to share internal data with the service provider, which includes sales, production volume, budget, and customer details, which gives rise to potential Data Leakage risk. The contract should have data protection clause.
  • Classification of goods in the inventory as per ABC method (i.e., classifying products from fast to slow moving goods) is a must to optimize the floor space and reduce shipment time.  This could lead to increased cost savings.
  • Demand Optimization: Demand forecast based on historical data might go wrong in this ever changing dynamic market scenario. Hence, it is best to analyze demand based on recent developments, current price point and supply/demand scenario of the product.
  • Buyer should clearly spell out “minimum and maximum” budget to procure inventory. Fixing an Inventory Budget that has a minimum-maximum boundary will help avoid operational risk through optimal credit period, reduced working capital interest expense, improved planning  efficiency etc which will all lead to improved customer satisfaction.
  • Inventory stored at a third-party location needs Periodic Monitoring, especially for perishable goods. Physical stock can be audited either monthly or quarterly.
  • MIS – ERP and WMS – Ensure the ERP system of the service provider is integrated with the Procurement Organization.  In order to maintain data confidentiality, share internal data only with the relevant team on the service provider’s side.
  • 3PL/4PL/5PL –As VMI service provider charges only for the services rendered and not for the warehouse, it is imperative to understand the bouquet of services included in the deal to calculate overall benefits. Typical services offered by service providers are inventory management, purchasing, product handling, logistics, shipment, marketing/advertising, distribution (sales, collection etc.)

Following are some of the popular VMI models:

  • Single-vendor, Single-buyer is a classic example of a dedicated VMI service provider to a single manufacturer. In most cases, this option is not suitable for the buyer because the business model is almost similar to buyer carrying out the inventory management on their own.
  • Multi-vendor, Single-buyer is a beneficial supply model for large procurement teams. This model is optimal when a variety of raw materials needs to be procured from multiple suppliers.  Usually this model is more cost effective.
  • Single-vendor, Multi-buyer, there are two aspects to this model
  1. Downstream of the supply chain -- Single vendor collects similar products from a branded manufacturer and sells it to multiple retailers. For example, tire manufacturers follow such a model to sell their products. In this case, the service provider will store finished goods, take care of warehousing, marketing and distribution of tires to multiple buyers. This model will hold good for manufacturers of branded merchandise.
  2. Upstream of the supply chain -- Many small-volume raw material buyers (manufacturers) can come together and hire a VMI service provider in order to gain volume discount.  This model is usually suitable for small-scale manufacturers who look to remain cost competitive in face of large competition.
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