Consignment stock is goods which are stored at one location, such as a business or a warehouse, but are legally owned by a different company such as a supplier. Consignment inventory is very common in manufacturing, such as the auto industry. Stock remains under ownership of the supplier until the customer is ready to use it. The customer is not obliged to pay for these supplied goods until they remove them from their consignment stock. It is at this point that they technically buy the stock. If the stock does not sell or the customer decides that it no longer needs it, then the items that are left over are returned to the legal owner.
Consignment stock is closely related to Vendor Managed Inventory (or VMI). Since the inventory is still under ownership of the supplier, an immediate invoice is not needed when the stock arrives at its location. Only when the stock is sold will the customer create an accounts payable. The supplier is responsible for crediting a customer’s inventory and debiting their stock.
Why Use Consignment Stock?
In today’s fast-moving business world, the relationship between customers and their suppliers can make all the difference in a successful business plan. In order to stay competitive, customers must work with their suppliers for an arrangement that best suits the customer’s needs. That is the main reason for the consignment stock method.
Consignment stock is often used to make it more convenient for the customer to have their supplies and raw materials close to where they manufacture their products. It is also used to reduce a customer’s total working capital. By having consignment stock on hand, either in a stock room or nearby warehouse, a customer can continue with their manufacturing without interruption.
Functions of Consignment Stock
The supplier normally inspects the stock quarterly or every half-year. If there are any errors in invoicing and more consignment stock has been used than recorded, the customer is billed for the usage.
When setting up a contract for consignment stock, the supplier and customer will agree on the terms such as how long the contract will last and what to do with left-over consignment. Details are recorded on estimated usage and reorder quantities. Consignment stock contracts can vary in several ways.
Advantages of Consignment Stock
Dealing with consignment stock has many advantages. For instance, the customer knows that raw materials will always be readily available. They do not have to worry about hunting for new suppliers every few months. Consignment stock also saves on money that would normally be invested in unused inventory. This helps keep up a positive cash flow for the customer.
Another advantage is that the purchasing of inventory is not tied into re-supplying and waiting for the new stock to arrive. Purchasing is automatic when the items are used. This saves on time.
One of the main benefits of consignment stock is that customers store the consignment goods at their own warehouses. They can access the goods in the consignment warehouse at any time which makes it much more convenient for the customer.
Customers do not get billed up front for the entire stock. They are only billed for the goods when they are removed from the warehouse and only for the actual quantity taken. Capital is increased because there is less money tied up in non-used inventory.
Re-supply of the consignment can be made at convenient and regular times. This keeps production running smoothly and without having to stop.
Dealing in consignment stock prevents customers from being susceptible to what is known as panic buying. This is when there is a change in the market and the customer panics trying to buy (or sell) stock in order to adapt with the change.
Risks of Consignment Stock
Although there are advantages to consignment stock, there are some risks and disadvantages as well. One disadvantage is that the supplier does not get paid until the stock is used. If customer production is slow, then this will be reflected in the supplier’s cash flow.
Although the customer is saving money by not buying the stock until it is used, it still takes up physical space. This is space that could be put to better use storing supplies the customer actually owns.
Having a well supplied consignment stock is not necessarily a good thing. Stock inventory may increase due to duplicating inventories and to the suppliers negotiating inflated stockholdings.
There is not as much pressure to reduce inventory because the customer does not have money tied up in it. While beneficial for the customer, it is a disadvantage for the supplier.
Customers may not be properly motivated to come up with an optimal business plan. This is again due to the fact that they do not have any money sitting in stock that is not being used.
One major disadvantage for customers is that any discrepancy in consignment stock that is short is the financial responsibility of the customer. So they could end up paying for stock that was misplaced and never used.
Most of consignment stock’s record-keeping is designed to be done by computer but usually ends up being done manually. Because accuracy is key, record-keeping must be of the highest quality. This can lead to the possibility of human error.