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9 February, 2012 / Karl Maier

How to Buy $70 Million of New Inventory for $50 Million

Recently I was reminded of a consulting engagement I did for a company with two ownership groups.  The ownership groups were arguing about the On Targetvalue of my statistical / BI consulting work on their inventory. I proposed that the company could improve their inventory and purchasing practices. The management disagreed with these recommendations and was backed by the majority shareholder. The minority shareholders saw value in my recommendations.

At one point, the company had inventory of $70 million*.  At that time, the company received an offer to buy the company for $50 million*.  Essentially, the inventory was priced at a discount and the whole business was thrown in for free.

At first glance it is not obvious why the management would not want to improve the inventory management. Upon further inspection, the incentive system of management was focused on sales and profits, not return on capital like an investor would consider.  So it was to management’s advantage to have lots of inventory, because it was free from their perspective.

Make sure to step back and look at how everything fits together for your business including key performance indicators, reporting tools, incentive systems, ownership goals, communication and culture.

* The values are the correct relative numbers, but adjusted to avoid inadvertent disclosure of private information.

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