6 Key Metrics to Improve Your Inventory Storytelling

Are you responsible for telling the story of how well you're managing your inventory? It can be challenging to determine if you're managing it efficiently because inventory is always in motion. Here are our insights into the narrative to present and the metrics to support it.

Why We Have Inventory

In the supply chain story, variability is the villain. If there were no unpredictability in our supply and demand, we could plan inventory delivery to match shipments perfectly, and there would be no need for inventory buffers. However, we live in reality, where there is a lot of variability on both sides. To buffer against variability, inventory is a common tool in supply chain management.

The ideal amount of inventory at each individual SKU level is enough to enable us to ship customer orders on-time and in-full (OTIF) without tying up excessive amounts of money (capital) in the process. For example:

• If you're running a business and need to buy three months of inventory, paying for that inventory with a line of credit means paying two months of interest before selling your inventory and paying off the balance. The interest rate is the cost to your business.
• Alternatively, if you have $10,000, and each month of inventory costs $3,000, spending $9,000 of your money to buy inventory means you won't have that money available to buy other things you need.
• If you only needed two or one months of inventory, you could avoid interest costs and/or keep $3,000-$6,000 available for other expenses.

It's crucial to align on the service level you're targeting. The difference in inventory requirements to get from 95% OTIF to 98% OTIF is exponentially higher than getting from 90% to 95%.

Telling The Story

We aim to maintain an optimal balance between service level and working capital investment while managing our inventory. As a supply chain practitioner, it's crucial to explain the rationale behind inventory targets, the impact on customers and operations, and how changes in business assumptions affect inventory requirements. These abilities are essential for effective inventory management.

However, taking a snapshot of inventory management is not sufficient to get an accurate picture. Measuring and trending over time is necessary to create the right metrics. Below, we explain our favorite metric trends that have helped our clients and previous employers gain better control over their inventory.

In The Absence Of Better Metrics

In most organizations, the only metrics used to measure inventory are Days of Inventory On Hand (DIO) and Inventory Turns, both of which are generally financial calculations derived by the Finance team. They are not particularly helpful in managing inventory from an operational perspective. A deeper look at these metrics is needed:

1. DIO = (Average Inventory Value / Cost of Goods Sold ) * # days in period
   1. To calculate DIO, take the value of inventory on Day 1 and the value of inventory on Day 30, average the two, divide by the cost of goods sold, and multiply the result by the number of days in the period, which, in this case, is 30. This gives the number of days of inventory on hand in financial terms.
   2. The risk with this metric is that materials with high cost/value variability will see fluctuations in value that are not actually reflective of the volumes of inventory movement. This metric is also generally aggregated to an overall or product grouping, which doesn't provide insights to optimization opportunities to the planning and inventory control teams.
2. Inventory Turns = Divide 365 by the # days of inventory to get the number of annual turns.
   1. This metric suffers from the same problems as DIO. If the numbers are financial in nature, they are at risk of fluctuating based on product cost or not being at a level of detail that's insightful for operations.

The Right Stuff

To help operational teams identify problematic products within a portfolio and determine optimal targets, we recommend adding the following metrics, measured at the material level and aggregated into meaningful categories as needed:

1. Days of Supply: Current inventory position divided by the number of anticipated units of sales or consumption. This provides a volumetric view of inventory relative to needs, which is not affected by product cost.
2. Percentage of Materials In-Range: Define minimum and maximum stocking positions and take a snapshot of how many materials are between those two limits.
3. Percentage of Inventory At-Risk: Inventory in hold status, off-spec, or approaching the end of its shelf life.
4. Percentage of Slow Moving Inventory: Inventory that is significantly over the target range.
5. Percentage of Inventory Stocked-Out: Ideally, no more than the tolerance set by the cycle service level. If the CSL is 95%, no more than 5% of materials should be stocked-out at any time.
6. Inventory Accuracy: Inventory adjustments (in the system) as a percentage of total inventory for a given period.

These metrics should be tracked over time to understand trends and set goals for improvement. Industry benchmarks for inventory performance are difficult to come by and not very helpful because inventory is unique to each business's needs.

Measuring at the material level enables the team to focus on right-sizing. These metrics offer a more holistic and insightful picture of how effectively inventory is being managed as a whole and where to focus on improvements. Improvements generally come in the form of overall business process and decision-making improvements.

For more information about inventory improvements, metrics implementation, or business process improvements, please contact us at info@waypostadvisors.com.