What is Consignment Inventory and How Does It Work?

As any retailer would tell you, purchasing inventory comes with a certain amount of risk. Stocking retail products typically follows the process where the retailer purchases goods from the supplier then sells those products for a profit. 

However, if customers don’t purchase enough merchandise, the retailer is stuck with unsold products that they either need to markdown or unload.

This is where consignment inventory comes into play. Consigned inventory reduces the retailer’s risk because the consignor (i.e., the supplier or vendor) retains ownership of the merchandise until they’re sold. This means that the consignee (the retailer) doesn’t need to purchase inventory upfront.

In this post, we’ll go over the ins and outs of consignment inventory. You’ll learn what it is and how it works. We’ll also share consignment inventory management tips to help you stay on top of the consigned stock. 

Let’s get started. 

What is consignment inventory?

Consignment inventory is a supply chain strategy or business agreement in which the consignor (i.e., wholesaler, supplier, manufacturer) gives the goods to a consignee (i.e., the retailer) to sell. 

The consignor still owns the products and the consignee will only pay for them once they’ve been sold. 

For instance, a retailer may strike up a consignment agreement with a fashion designer and agree to sell the designer’s clothes in-store. The retailer will only pay for the goods that are sold, and the rest will be returned to the designer. 

Done right, a consignment inventory arrangement can provide a win-win situation for both parties. 

What are the advantages and disadvantages of consignment inventory?

Consignment inventory has pros and cons for vendors and retailers alike. Let’s break them down below. 

Advantages for retailers

Minimal financial risk. The main draw of consignment inventory for retailers is that the model comes with low financial risk. Since retailers don’t have to pay for the products until they are sold, they won’t have to worry about tying up or losing their capital on inventory costs. What’s more, you don’t have to deal with the hassle of unloading surplus stock.

Potential for more sales. Consigned goods can add breadth and depth to your retail inventory. You can add variety to your assortments, and when implemented correctly, a consignment inventory arrangement can actually increase your sales and profits. 

Disadvantages for retailers

Higher carrying costs or holding costs. While consignment inventory doesn’t have any upfront costs, stocking them in-store comes with certain expenses. You need to devote floor space to the goods, which means giving up space that can be used to sell other items. 

In addition, the consignee is usually in charge of shipping costs, especially if you’re selling consigned inventory via ecommerce. (If you, as the retailer, don’t want to handle the shipping costs, be sure to negotiate and specify this in the contract.)

Not to mention, holding goods in your store or warehouse comes with risks, and you will need to pay for any damaged items.

Increased complexity with inventory management. Consignment inventory could also make stock management more difficult. Consigned goods should be tracked separately from non-consignment items. And since they technically don’t come with any upfront supply costs, tracking your margins and profits can be trickier. 

Advantages for consignors

Product visibility. Consignment inventory gives suppliers the chance to put their products in front of new audiences. By selling them through retail stores, consignors can tap into the retail market, allowing them to generate revenue without having to establish their own sales channels. 

Ability to test unproven products. A consignment arrangement also helps suppliers test new products. They can, for example, produce a limited number of goods, sell them in retail stores, and evaluate product performance based on the sales they’ve generated. 

Disadvantages for consignors

Higher upfront costs. Consignors must carry the cost of producing the goods, without a guaranteed payoff. 

Potential for revenue loss. Cash flow is unpredictable. Vendors who own the goods face the risk of revenue loss when the items don’t sell. 

How consignment inventory works

So, how exactly can you make consignment inventory work in your store? While every arrangement will vary, strong consignment agreements typically take place when you implement these best practices. 

Start with a strong vendor relationship

A solid relationship with your vendors will be a foundational component of successful consignment. If you’re considering entering into a consignment agreement, make sure that you’re doing it with vendors you trust and whose values align with your own. 

There are many ways to find vendors. These could be suppliers you’ve worked with for years. Other times, you may meet them at trade shows or through an active search for supplies. Whatever the case, ensure that you vet them thoroughly before drawing up the paperwork. 

Draw up a win-win consignment agreement

The next step is to create and finalize a formal consignment agreement. At this stage, both parties should strive to establish a mutually beneficial arrangement. While the specifics of your agreement will depend on your situation, you generally want to cover the following items in the contract:

Right to sell. The “right to sell” section simply formalizes the agreement. It should say that the consignor officially authorizes the consignee to display and sell items in their retail store.

Pricing. Your agreement must have a section on pricing that indicates the amount for which the retailer will sell the items. Sometimes, this section could indicate the “minimum price” that the consignee is allowed to sell the products.

Consignment fee. This section outlines the percentage of sales that would go to the consignee and consignor. In many cases, this part of the contract also indicates the time frame for when the consigner will receive the funds. For example, if the consigner wants the sales proceeds to be delivered within 10 days of the sale, that should be indicated in writing.

Location of goods. This section should mention the exact location (address) where the consigned items will be kept and stored.

Time period. You should indicate a timeframe for when items need to be sold. In the event that the products aren’t sold by the given date, the items must be returned to the consignor.

How to manage consignment inventory

At this stage, you already have your agreement in place and are ready to sell the consigned goods in your retail store. 

Below are a few best practices to help ensure smooth inventory control when you’re selling consignment products.

Use the right method to track consignment sales and inventory 

Consignment inventory accounting and management can be tricky, particularly if you’re selling a combination of consigned and non-consigned goods. If your business model uses a hybrid of both, it may be helpful to track them separately. 

If you’re using Vend by Lightspeed, for example, we recommend that you set up a separate outlet for consignment inventory, so you can easily track it. If you’re only selling consigned items, using a single inventory management system may work. 

Use inventory management software and other digital tools

The best way to stay on top of consignment stock is to digitize your accounting and inventory systems. Instead of using spreadsheets or (heaven forbid) pen and paper to track and manage your inventory, adopt a cloud-based inventory management software that streamlines data entry, tracking, and reporting. 

The good news is that there are plenty of tools at your disposal. On the accounting side, software like Quickbooks and Xero both support consignment inventory accounting. 

As for managing your sales and inventory, Vend by Lightspeed offers robust tools that enable you to sell and manage your products. Vend also makes reporting much easier. You can build your own reports and easily see which items are selling and how profitable they are. 

The bottom line

Consignment inventory can be highly beneficial to retailers and suppliers alike. When you have a mutually beneficial agreement and are using the right tools to manage inventory, your consignment efforts will have a higher chance of success.