Mental Inventory Turnover

Warehouse

Decisions fascinate me. Perhaps that’s because I’m not good at making them. It’s not that I make bad decisions – on the contrary, most of my decisions are pretty good – it’s just that I’m slow to make decisions. I’m a maximizer. I want the best possible result obtained the best possible way. The opposite of a maximizer is a satisficer – someone who has specific criteria that, when met, triggers the decision. Studies show that satisficers are generally happier. No single person is wholly a maximizer or satisficer, we are a mix of both in different scenarios.

The maximizer side of me frequently takes control when faced with a decision. It starts with research. I must research every single product X on the market. Once I narrow down the top contenders, I do a detailed analysis of each. A winner invariably emerges, and then I proceed to price. It’s not enough just to buy the best product X, I need the best product X on sale. Some products don’t go on sale very often, or go on sale seasonally, which can be months away. I wait. During those months I don’t think of product X often, but it pops up in my mind occasionally.

I realized after a particularly drawn-out purchase that between the time I knew I wanted product X and the time I actually purchased it, the thought of product X was always somewhere in the back of my mind, taking up space. Because it was taking up space, a different thought or dream could not take up that space. Like a physical inventory in a warehouse, the mind only has so many shelves.

In business, this concept is called inventory turnover. It’s a measurement of how many times a company’s entire inventory is sold and replaced over a period of time. The formula for calculating inventory turnover is Cost of Goods Sold (COGS) / Average Inventory.

inventory_turnover_formula

Let’s imagine I run a company that sells red wagons. I have a grand total of $10,000 in the bank. Each red wagon costs me $50 and I sell it for $80, making $30 profit. I sell 200 red wagons per year, so my is annual COGS is $10,000 and my profit from red wagons is $6,000

What if I made one purchase of 200 red wagons per year and held it all in inventory? My COGS would be $10,000 and my Average Inventory would be $5,000, making my inventory turnover ratio 2:1. The disadvantage of this approach is obvious – I need my entire $10,000 to do that. I can’t use that money elsewhere for other things (such as expanding my business to sell garden gnomes).

At the other extreme, if I hold 1 red wagon in inventory my Average Inventory is only $50. Assuming my annual sales remain the same, my COGS is still $10,000, which makes my inventory turnover 200:1. I’m using that same $50 over and over again to earn an annual profit of $6,000, while I have $9,950 remaining to make other investments. It sounds good until a customer comes in wanting to purchase 2 wagons, and I lose a sale. Also, I might get tired of ordering a new wagon nearly every day.

We’re on to something though. There is clearly an advantage to not tying up your resources in inventory that is sitting around. If the perfect inventory is 10 red wagons ($500), my inventory turnover ratio is 20:1. That leaves me with $9,500 to use to expand my business into garden gnomes, bird baths, and hula SkipIts.

Indecision is like spending $10,000 to fill the warehouse with red wagons. It ties up valuable resources so you can’t use them anywhere else. Sometimes you have to make a decision not because it is the best decision, but to get it out of your head so you can move on to something else. This is a concept I call mental inventory turnover.

Example 2. Imagine that it’s January and you want to buy a new high-end computer. Your budget is $2,000.
  
“Careful decision maker you” starts to research the best computer options in January. You find one that you think you want but just can’t pull the trigger. February and March pass by in a blur. You think about needing a new computer often but don’t act on it. In April you start looking again but realize that the new models will be out in July and September. Why buy a computer that will soon be obsolete? You wait until July and purchase the computer.

“Inventory turnover you” buys the new computer right away, in January. In February you learn how to edit videos and start compiling footage from your past trips. In April you start playing around with photo editing and the new digital SLR camera you received as a birthday present. When July rolls around you start building websites using WordPress. Pretty soon your friends all want websites, and you start a profitable side business.

You get the picture.

Sometimes you have to make a decision not because it is the best decision, but to get it out of your head so you can move on to something else.

A few parting thoughts. Fast decisions do not mean good decisions. Slow decisions do not mean bad decisions. Delayed gratification can be beneficial (Michel’s famous marshmallow experiments). Sometimes you just need to make a purchase. Henry Ford said “If you need a machine and do not buy it you will find that you have paid for it but do not have it.”

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