Monday, January 26, 2009

Inventories Explode

Over the past 15 year, many businesses have adopted sophisticated inventory tracking systems and just-in-time inventory policies.  As a result, they have gotten much more efficient in their use of inventory, as shown in this chart:

Source: Wachovia Economics

This long downward trend in the inventory-to-sales ratio has recently and dramatically reversed.  What happened?

As we noted in an earlier post, companies are often slow to respond to lower sales, waiting to cut production and/or reduce purchases.  As managements "catch up" to the current sales reality (or as sales improve), we would expect the inventory-to-sales ratio to return to normal, lower, levels (with the associated benefits for corporate cash flow).

1 comment:

Santosh said...

I recall hearing somewhere that economies have two cycles: a business cycle and an inventory cycle. The business cycle is the well known expansion/contraction scenario that has a length of say 10 years. We're in a recession right now. The inventory cycle has a shorter length but results in changes to economic demand as companies decide to either build up their inventory (increasing aggregate demand) or running down their inventory (decreasing aggregate demand). I'm assuming that we are now in the running down stage. One companies see brighter prospects they should start building their inventories in anticipation of higher sales in the future. Anybody have any thoughts on this?