If you run a merchandise business such as a retail store, you normally produce or buy your inventory before you sell it. The consignment method gives you an alternative way to sell goods that doesn't require you to pay for inventory in advance. Such a method has several advantages.
How Consignment Works
Under the consignment method, a retail merchandiser acts as a consignor for goods supplied by the consignee. The consignee produces or procures items for sale but uses consignor facilities to display the wares and handle the sales. The consignor doesn’t pay in advance for the consignee’s goods. Instead, the consignor pays the consignee after the sale and keeps a percentage of the proceeds. The consignor can return unsold stock to the consignee. The consignee is responsible for delivering and removing stock.
Consignment saves the consignor money, because it doesn’t have to buy inventory before selling it. The consignor thus avoids the overhead costs of managing inventory, such as storage, insurance and transportation. Also, because the consignor doesn’t have to pay for consigned goods until after the sale, it collects revenue before paying for merchandise. This is desirable sequence of cash flows, because it means the consignor can conserve its funds and reduces the need to borrow money to pay for its inventory, thereby saving interest expense. By the same reasoning, these cash flows are less desirable for the consignee.
Consignment arrangements offer the consignor time-saving conveniences. If you are a consignor, you don’t need to spend time reordering stock, because the consignee will promptly replenish sold items. Naturally, this serves the consignee’s purposes by ensuring its stock is always available for sale. If you normally order merchandise to complete a sale -- for example, in a business that displays but does not stock inventory -- you will have fast and easy access to consigned goods because the consignee will do everything possible to facilitate a sale. Often, consignees will physically arrange their wares for display in the consignor’s store, saving the storeowner time and labor costs.
A consignee benefits from the consignment method by gaining an opportunity to display its wares to the public and build demand. A retailer might be more amenable to showing new products from a consignee than from a conventional wholesaler because of the many benefits of consignment. Consignors might be more willing to temporarily stock seasonal or holiday items that it otherwise might not bother with because of limited demand. By explaining the benefits of consignment to a shop owner, a consignee might be able to compete with items sold through conventional means.
Based in Greenville SC, Eric Bank has been writing business-related articles since 1985. He holds an M.B.A. from New York University and an M.S. in finance from DePaul University. You can see samples of his work at ericbank.com.