In vendor-managed inventory, a company turns to its suppliers to determine when to restock its shelves based on retailer data and the vendor's own forecasting of customer demand. This presents a host of benefits to a company, from reduced inventory carrying costs to a shortened supply chain. When managed well, this can reduce stock-outs and wasted product. But VMI carries potential disadvantages, as well.

Supplier That Can't Deliver

When a business relies on vendor-managed inventory, it's placing a big bet on that company's ability to deliver. The vendor has to be able to determine when to send new stock, what specific products to send and in what quantities. This can be beyond the means of a supplier that doesn't have the software, infrastructure or expertise in place to make that work. If just-in-time inventory turns into way-too-late shipments thanks to poor demand forecasts or a supply-chain breakdown, VMI isn't going to work.

Unscrupulous Partners

Even with return policies in effect, a business risks being taken advantage of by a supplier looking to make its numbers. For example, a vendor might ship an excessive amount of product at the end of the quarter and book it as revenue to boost its sales figures regardless of the customer's needs. The customer may return the unneeded merchandise, but the vendor already has gotten what it wants out of the transaction. In addition, VMI may require a company to share sensitive information with the supplier, which can leave it in a delicate position should the relationship between the parties ever falter.

Limited Options

A vendor-managed inventory system can be bad for a business when it keeps the business from seeking better-suited or lower-cost options. Because VMI links the supply chain together so closely, it serves as a disincentive to make a change that necessitates changing the company's inventory management system. As a result, a business may find its inventory savings negated by settling for higher-priced or inferior goods.

Market Responsiveness

Customer preferences can change in a heartbeat, with favorites falling out of style and new items becoming more in demand. If your vendor doesn't supply a wide enough range of products and your contract prevents you from going to the competition, you may be stuck with items your customers don't want and no way to fix the problem. Make sure your contract doesn't bind you so tightly to your vendor that you both sink together when the market changes.