Consignment inventory is stock physically held at a customer location while legal ownership remains with the supplier until an agreed event—commonly withdrawal, consumption or transfer to company-owned stock. The model can improve local availability and reduce the buyer’s cash tied up in inventory, but only when ownership, consumption and reconciliation are tightly controlled.
SAP’s current consignment documentation describes the same principle: the vendor provides and stores material on the customer’s premises, remains the legal owner until withdrawal, and a liability to the vendor arises when the customer consumes or takes ownership of the material.
Consignment Inventory Process
Supplier Delivers → Stock Recorded Separately as Consignment → Buyer Stores/Controls Physical Stock → Buyer Withdraws or Consumes → Ownership/Liability Trigger → Periodic Settlement → Reconcile Remaining Supplier-Owned Stock
What Changes Under Consignment?
| Area | Typical Consignment Treatment |
|---|---|
| Physical location | Stock may sit at buyer/customer site |
| Legal ownership | Supplier retains ownership until agreed trigger |
| Buyer payment | Generally follows consumption/withdrawal/settlement rather than initial delivery |
| Inventory records | Consignment quantity must be identifiable separately from buyer-owned stock |
| Replenishment | Can be buyer-managed, supplier-managed or jointly agreed |
| Risk allocation | Must be defined contractually for loss, damage, shrinkage, expiry and obsolescence |
Example: MRO Spare Parts
A supplier places 100 specialized bearings in a plant storeroom. The bearings remain supplier-owned. During the month, maintenance withdraws 18 units for equipment repairs.
At month end:
- Physical consignment stock expected: 82 units
- Quantity consumed/withdrawn: 18 units
- Liability/settlement basis: 18 units × agreed consignment price
If the physical count shows only 80 units remaining, the two-unit difference must be investigated rather than automatically billed or written off. The contract should define how shrinkage and unexplained losses are handled.
Consignment Is Not the Same as VMI
Consignment determines ownership timing. Vendor-Managed Inventory (VMI) determines replenishment responsibility. They can be combined, but neither automatically implies the other. A buyer can manage replenishment of supplier-owned consignment stock, or a supplier can manage replenishment of buyer-owned inventory.
See VMI vs Consignment Inventory for the full distinction.
Key Contract Terms
- SKUs, locations and maximum quantities included
- When title/ownership transfers
- Who bears risk of loss or damage while stock is on site
- Consumption/withdrawal transaction that triggers liability
- Consignment price and price-change method
- Settlement/invoicing frequency
- Physical-count frequency
- Shrinkage and discrepancy treatment
- Shelf-life and expiry responsibility
- Obsolete or slow-moving stock
- Returns and programme termination
- Insurance responsibilities where applicable
- Tax/accounting treatment required by the relevant jurisdiction
Inventory Control Requirements
- Separate stock status: supplier-owned quantities must not be confused with buyer-owned inventory.
- Transaction discipline: withdrawals, transfers and returns must be posted when they occur.
- Physical reconciliation: system stock should be compared with counted stock periodically.
- Supplier reconciliation: deliveries, withdrawals, returns and settlements should agree between buyer and supplier.
- Access control: uncontrolled withdrawals create ownership and billing disputes.
- Ageing control: slow-moving supplier-owned stock still creates space, obsolescence and relationship risk.
Settlement and Invoicing
In some ERP processes, consignment liabilities are settled periodically from recorded withdrawals rather than through a normal supplier invoice for the original delivery. SAP, for example, supports periodic settlement of consignment withdrawals. The exact invoicing, tax and accounting treatment varies by system, contract and jurisdiction.
Benefits for the Buyer
- Local availability without immediate ownership of all stock
- Reduced working capital before consumption
- Potential reduction in emergency purchases
- Faster access to critical spares or consumables
- Potentially simpler replenishment when combined with VMI
Benefits and Risks for the Supplier
The supplier can improve customer retention and visibility of usage, but must finance inventory until withdrawal and may carry inventory at customer sites. Poor agreements can expose the supplier to slow-moving stock, uncertain consumption, disputes and delayed settlement.
Useful KPIs
- Consignment inventory value / quantity
- Days of supply
- Inventory turns / consumption rate
- Stockout rate
- Inventory-record accuracy
- Count variance / shrinkage
- Settlement accuracy and timeliness
- Slow-moving / ageing stock
- Return / obsolescence value
Common Mistakes
- Physically mixing consignment and owned stock without system separation.
- Assuming stock on the buyer’s site automatically belongs to the buyer.
- Not defining when risk transfers separately from legal title.
- Allowing consumption without a reliable transaction record.
- Leaving old consignment stock on site indefinitely.
- Assuming consignment automatically means the supplier manages replenishment.
Interview Question: What Is the Main Control Risk in Consignment?
A strong answer is: The key risk is losing control of the ownership and consumption record. I would keep supplier-owned stock separately identified, define the withdrawal event that creates liability, reconcile physical stock to system stock, settle consumption regularly and contractually allocate shrinkage, expiry and obsolescence responsibility.
References
- SAP Help Portal, Consignment
- SAP Help Portal, Settling Consignment Liabilities
Accounting, tax and legal treatment varies by jurisdiction and contract. Confirm local requirements before implementing a consignment model.
