Effective inventory management is critical to the profitable rig operations. In many cases, consignment inventory is a practical solution to inventory challenges. Let's look at the benefits of consignment inventory as well as some things that tend to stand in the way of exploring this option.
Typical consignment inventory agreements allow the end user to hold the consigned inventory at their facility and are invoiced every month for items consumed in the period. The supplier typically restocks the consumed inventory at the same time.
The benefits for rig operators include:
- No capital expenditure. Capital is not transferred off the rig's books until an item is taken out of stock and put into operation.
- Reduced risk. By using parts on consignment, the rig lowers the risk of stocking items that may never be used, overstocking inventory or ordering the wrong items.
There are benefits for the supplier as well. They include:
- Provides service. In a highly competitive market, companies may compete on tight margins in order to secure and retain business. Offering consignment inventory options allows the vendor to add value without necessarily reducing price.
- User demand data. Consigned inventory that is invoiced when used allows the supplier to have actual user demand data instead orders based on replenishment (which we know may never be used).
- Lower freight costs. Freight costs are a major factor in oil rig inventory control. Consignment inventory at the rig helps reduce freight costs incurred when constantly shipping smaller quantities to maintain service.
In the right environment, consignment inventory offers many benefits. Still, it has not been explored in the industry on a large scale. Here are some of the issues that stand in the way of consignment inventory arrangements at many drilling companies:
- Lack of control. Rig personnel believe they will lose control if items are part of a consignment agreement. This should not be the case for consigned inventory as they would typically be held on the driller's facilities. Vendor managed inventory, on the other hand, could affect control.
- Additional risk. Some firms believe that consigned inventory brings additional risk that is not present in company-owned inventory. The risk should not change in a proper consignment agreement.
- Supplier resistance. There are some suppliers in the oil and gas industry who will never agree to consignment setups, and if they did, it would surely add to cost of spare parts.
Questioning who should make the inventory investment is one of the first questions that we should ask before stocking any item. With the current state of the industry, our largest vendors are more agreeable to contracts that were not interesting to them in the past. For example, if the average rig has all BOP rubber goods put on consignment, millions can be avoided.
Making consignment inventory work requires constant communication between the rig and suppliers. Both parties require visibility and transparency. The conversation between vendors and rig leadership should address several questions to create an optimal arrangement:
- What is the exact point ownership transfers from vendor to driller?
- Are there any customs or legal ramifications to consider?
- Who will undertake the responsibility for insurance and risk of stock items?
- What about loss or damage to stock — where do these costs take place?
- Are releases from stock notification policies in place?
- What credit and payment terms will be used, and what steps will be taken of payments are not made on time?
- What are the rules for stock control and stock-take responsibilities?
- What are the tax implications?
Perform a statistical analysis of inventory items and examine various lead demand times. Look at the supply chain from product manufacturer through regional and country hubs to rig storage. Implement dynamic inventory optimization programs so project managers are notified when to procure product for optimal service levels.
With proper analysis, inventory turns can be improved considerably, creating millions of dollars in saving and reducing working capital needs. In the right circumstances, consignment inventory is a powerful tool to increase rig efficiency and operational effectiveness. Is it time you considered it for your rig?