Key Performance Indicators (or KPIs) are essential for every business. They measure how effectively a company is achieving its key business goals and give indication where action is needed to make improvements. For many companies, inventory is the biggest asset. Therefore, it is important to define KPIs specifically related to inventory metrics, since the management of inventory is often a determining factor of how profitable a business is.
Some of the most important Inventory KPIs include:
Inventory Turnover is the number of times a company sells through its inventory in a year. The calculation is: Cost of Goods Sold / Average inventory. Turnover can be compared to the industry average to determine how well a company is performing. Generally, the higher the turnover, the better.
One way Inventory Turnover can be improved is by reducing the average inventory a company holds. Forecasting software is an essential tool for increasing turn. It gives companies visibility to their inventory. If slow-sellers or outdated inventory from past seasons are still on hand, this is the first place to start liquidating. Then, going forward, unproductive inventory should be worked through on a regular basis – markdowns should be taken early for maximum profitability. Assortments should be analyzed and refined, eliminating duplicate styles and underperforming categories. Forecasting software helps companies optimize their inventory so they can achieve greater sales with less inventory.
Inventory Carrying Costs
Inventory Carrying Costs are the total costs of purchasing, housing, handling and accounting for depreciation of inventory. Capital costs represent the cash that is being tied up in inventory. Non-capital costs consist of costs associated with inventory storage and services. Inventory risk costs vary depending on the type of product that is being held: some may be perishable (e.g. food) or become obsolete quickly (e.g. technology). Accounting must be done for depreciation. Inventory risk costs also include insurance of the inventory, taxes, and shrinkage. Inventory carrying costs should be kept as low as possible.
Strategies to reduce Inventory Carrying Costs include inventory reduction, drop shipping from vendors, using Just in Time replenishment, and reducing safety stock. Forecasting software helps companies reduce their inventory carrying costs by accurately forecasting future sales so the right amount of inventory can be brought in at the right time, allowing for production lead times.
Inventory Write-offs and Write-downs
Related to Carrying Costs is the KPI of Inventory Write-offs and Write-downs. Accounting must be done for obsolete inventory. A write-off occurs when inventory is no longer sellable. A write-down occurs when the stock has not sold, but the market value has fallen below the purchase price. A forecasting system can help companies lower their write-offs and write-downs. It can give companies vision and insight into their inventory, so they are buying smarter: buying into the categories and items that are selling and avoiding duplication. Forecasting systems help companies project future sales so they are buying the correct amount of inventory.
Inventory Accuracy is extremely important. If inventory counts are incorrect, results can include stockouts for prolonged periods of time, customer dissatisfaction, duplication or excess inventory.
In addition to a Warehouse Management System or a system that records transactions, cycle counts are necessary to maintain accurate inventory counts. Even a small percentage of inaccuracy results in profit losses to a company so it is imperative to have a very high percentage of inventory accuracy. Forecasting software can also be helpful in maintaining inventory accuracy. By having visibility to all the sales and inventory data, discrepancies in inventory accuracy are often detected.
Other related Inventory KPIs to consider include:
Weeks of Supply
Stock Out %
Order cycle time
When developing KPIs, companies should identify their areas of weakness and set KPI goals to improve. Inventory KPIs, like any KPI, should be evaluated using SMART criteria. They should be Specific, Measurable, Achievable, Relevant, and Time-bound. Action plans should be developed that enable the company to achieve these KPIs. Inventory KPIs must be clearly defined and communicated to ensure that the team players are working towards achieving the company objectives. As results are recorded, they can be evaluated against the goals that were set. Action plans can then be tweaked to direct the company to their goals.
Forecasting software is an essential tool for optimizing inventory and improving Inventory KPIs. [basic-code] ™ has helped many companies improve their inventory turnover, reduce their carrying costs and inventory write-offs and write-downs, and has even enabled its clients to detect inventory inaccuracies. ROI for [basic-code] ™’s forecasting software is usually achieved within the first 18 months of use.
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Companies that achieve the holy grail of Inventory Optimization (IO) realize maximum profit by holding the least amount of inventory necessary, while still fulfilling consumer demands and achieving fill rate goals. By matching supply to expected demand, companies reduce the cost of carrying inventory and increase cash flow and operational efficiencies.
An excess of inventory can cause many problems for a company. The typical cost of carrying inventory is at least ten percent of the inventory value. Excess inventory takes up space and cash flow that could be used for profitable inventory. It can be damaged, expire, or become obsolete, forcing the company to write off the inventory.
There are many challenges to achieving inventory optimization. Increased globalization lengthens transit times, increasing mergers and acquisitions often result in compromised data integrity, stringent customer service level agreements pressure companies to carry more inventory than necessary, and multi-channel and omni-channel distribution can complicate the collection of data. In addition, brick and mortar are increasingly competing against online retailers, trying to manage inventory at hundreds (or thousands) of locations while their competition may have just one location.
How to Achieve IO:
First, products and inventory should be classified into ABC categories according to their priority. Different products will have differing profitability and seasonality, just as customers or sales channels may be of differing priorities. Sales usually follow the 80/20 Rule, where the top 20% of the products produce 80% of the sales. By categorizing products in this way, a company may realize that they are over-assorted and may move to liquidate excess inventory immediately, thus saving themselves the inventory carrying costs associated with that inventory.
Next, companies must determine what level of service they can afford and what level their customers are willing to pay for. The relationship between customer service levels and inventory cost is non-linear, meaning the amount of inventory needed increases much faster than the level of customer satisfaction once you hit a certain point. Because products have been categorized by priority, it is clear that not all products have the same service level goals.
A company can then use demand forecasting to determine future inventory needs, factoring in sales curves, lead times, velocity, and criticality. This process must meet the KPI’s of the company, and must be continually monitored for changes, so improvements can be made. Because of the increasing complexity of the marketplace, it is important to have tools, such as a forecasting system, that can gather the data from the multiple sources and provide visibility to the inventory.
As a product’s sales slow, it is not hitting its inventory turn goals, and the product becomes obsolete. It is imperative that a company takes action to liquidate slow selling or unprofitable items in a timelymanner. The faster slow-selling products are removed from inventory, the faster they can be replaced by more profitable, better-selling items.
An added benefit of inventory optimization is the efficiencies gained in the warehouse. Because the products are categorized by priority, they can be assigned locations in the warehouse to reflect that. Operational efficiencies are gained when faster-moving product is housed closer to the outbound stations. By not holding excess inventory, costs are saved because the product takes up less space and fewer footsteps are needed to fulfill orders.
Despite the challenges to achieving Inventory Optimization, it can be done, especially with the right tools in place. Companies can gain an edge over their competition by improving their efficiency and cash flow.