Inventory health check: How to improve inventory management
Business executives understand that effectively managing their inventory is important but often are at a loss as to how to improve inventory management. Many base their decisions on assumptions that aren’t necessarily true.
Two examples: the belief that the best way to reduce inventory is to improve the accuracy of sales forecasts, and that good customer service requires high levels of inventory. Both of these assumptions can lead to problems.
Achieving optimal inventory levels is vital. Not only does it reduce costs, but it can also serve as an indicator of the overall financial health of a company. Attentive analysis of the factors involved can help you to improve inventory levels by 20 to 50 percent.
So, how healthy is your company’s inventory management? The following ten questions will help you assess the effectiveness of your organization’s inventory control practices, and discover how to improve inventory management control within your organization.
Your inventory health check starts here:
1) Do you set these three inventory levels for each item: Safety, replenishment and maximum?
Safety = The minimum amount of stock needed to ensure that you won’t be caught short if you encounter a problem in the supply chain, such as a manufacturing glitch or delivery problem.
Replenishment = How much to order at regular intervals (e.g. every two weeks) to replenish stock.
Maximum = The maximum amount to keep on hand.
Breaking it down this way helps you to make intelligent decisions about what are appropriate inventory levels, and thereby improve inventory management. It ensures you will rarely have out-of-stock problems, and minimizes accumulation of excess inventory or obsolete products.
2) Does your company use the best method for calculating safety stock levels?
Your formulas should take into account sales forecasts, production lead times, manufacturing schedules, and service levels. These should be calculated for each SKU.
If you use the “rule of thumb” method, for example, keeping two weeks of stock for all products from a particular factory, this can be problematic, as it doesn’t take into account the historical data for individual products.
The savviest approach is to use formulas that calculate appropriate levels for each product.
3) How often do you re-calculate safety stock levels?
The most efficient operations review and update their calculations regularly. Doing so every three to six months will ensure that you are making decisions based on up-to-date data.
4) Who sets the inventory policy?
A balance between customer service and cost-effective inventory management is one of the key strategies to keep your business profitable. These are critical strategic decisions that need to involve top level management. They shouldn’t be left only to the purchasing or production departments.
5) Who selects the optimal ordering or production frequency?
Again, the purchasing or production departments do have a vital role, but they should not be the only players. Several factors are involved. For example, marketing campaigns can alter required inventory levels.
A multi-department team will be more efficient at bringing all factors to the table, resulting in better decision making. This approach can significantly reduce inventory costs while also ensuring that the necessary products are on hand for promotions.
6) How to determine the frequency for ordering and inventory production?
The following factors should be considered. Try and strike a balance that minimizes these costs as far as possible:
- Inventory costs (e.g. warehousing)
- Changeover costs in manufacturing
- Negotiations between parties involved (e.g. volume discounts)
- Upcoming events, such as holidays or marketing campaigns
- Uncertainties like bad weather
7) Do you regularly review and re-calculate your optimal order or production frequency?
Optimizing inventory isn’t a one-time exercise. Over time your expertise will improve, and you will be able to lower your inventory and related costs even more. Don’t focus on just one factor – be on the lookout for other areas where you can make improvements. More accurate sales forecasts, for example, or reducing lead times from suppliers, can help you to improve inventory management control.
8) Do you know what products in your inventory are overstocked or obsolete?
Past inefficiencies such as poor planning or inaccurate sales forecasting can lead to excess inventory. This, in turn, generates warehousing costs that reduce profitability. To learn how to manage stock inventory well, you need to have a clear picture of such excesses, so that you can deal with them effectively. Which leads us to the next question…
9) Do you analyze the cause of excess and obsolete stock, and have a plan to prevent the problem from recurring?
Stock savvy companies, who know how to improve inventory management, generally use a two-pronged approach to deal with excess and obsolete inventory.
- They have a process to determine what caused the overstock situation. Identifying the root cause allows them to adjust their methods to avoid making the same mistakes again.
- They create an action plan to sell off the excess stock.
Failure to correct these problems will lead to massive write-offs and have a significant impact on profitability. Hanging on to old stock just makes the problem worse. Deal with it promptly, and treat it as a learning opportunity.
10) Do you practice these inventory management principles on your finished goods only, or on all parts of your inventory?
A common misconception about how to do inventory is to view inventory management as something that applies only to a certain portion of inventory, most commonly finished goods ready for sale.
But these principles also apply to raw materials, spare parts, works in process, and so on. In retail operations, up to 50 percent of inventory is on store shelves, so inventory management needs to include retail stock, not just inventory in warehouses.
Taking a more global approach to inventory management across all organizational entities will lead to more efficient inventory management overall.
The answers to these ten questions provide an overview of the health of your inventory management practices. Any weaknesses that were identified offer an opportunity to adjust your practices and improve the overall financial health of your company.
We hope this article has given you some insight into how to improve inventory management in your organization.
If you need further advice, feel free to talk to one of our experts.