By monitoring key inventory metrics, companies can better manage their exposure to risks in the supply chain. Key performance indicators (KPIs) show the activity of processes and management systems, allowing businesses to efficiently track and regulate operations. This enables them to anticipate and prepare for various internal and external risks, mitigating potential threats.
Additionally, inventory management metrics can indicate a company's profitability, strengths, and weaknesses. Tracking these figures allows management to make the appropriate improvements to promote the bottom line. Therefore, organizations should prioritize calculating and monitoring inventory metrics in their operations.
6 Key Inventory Metrics
Tracking inventory metrics enables companies to recognize trends and develop actionable insights on how to improve operations and minimize risks. There are 6 vital indicators that businesses need to know-
1. Gross Margin Return on Investment
Gross margin return on investment (GMROI) in reference to inventory indicates the amount of funds a company gets back for every dollar spent on stock. This metric measures the profit generated from investments, determining whether funds were returned or if the expenses led to a deficit.
GMROI = Gross Margin / Average Inventory Cost
For example, if a retailer has a gross margin of $40,000 and an average inventory cost of $25,000, their GMROI is 1.6. This means they earned $1.60 for every dollar they spend on stock. If the GMROI was less than one, the company would be spending more money than they were making.
Understanding the GMROI metric allows companies to mitigate the risk of bankruptcy and develop strategies to promote profitability. By negotiating inventory costs with suppliers, businesses can boost their ROI.
Shrinkage is the difference between the amount of stock on file and the actual number of products on hand. If the amounts do not match, warehouse management is responsible for reconciling discrepancies. Shrinkage is commonly caused by internal theft, shoplifting, clerical errors, and supplier fraud.
Shrinkage % = (Shrinkage / Sales) x 100
In 2015, the National Retail Federation reported that the average inventory shrinkage in terms of sales was 1.38%. However, the percentage differs according to the market. For example, grocery stores, clothing departments, and wholesalers have 3.6%, 1.2%, and 1.1% shrinkage rates, respectively.
So, while stock discrepancies are common, companies should measure their shrinkage often to determine their inventory accuracy and identify threats to the products.
3. Sell-Through Rate
The sell-through rate is the percentage of units sold per number of units available for sale.
Sell-Through Percentage = (Number of Units Sold / Beginning Inventory) x 100
For example, if a retailer orders 300 shirts and sells only 200, their sell-through rate is 67%. However, businesses can improve their rate by applying discounts to products to promote sales and revenue. The sell-through metric is an excellent indicator of a retailer's ability to sell goods.
4. Stock Turn
Stock turn, also known as inventory turnover, is the rate of usage or selling of products within a specified period. Typically, the higher the turnover rate the better, as it usually indicates that a business can efficiently turn stock into revenue.
Stock Turn = Cost of Goods Sold / Average Inventory
For example, if a bookseller's average annual inventory is $30,000 and the cost of goods sold within a year is $70,000, their stock turn is 2.3. This means that the company sold out of its stock 2.3 times within one year.
Businesses can calculate their stock turn for short periods, such as monthly or quarterly, to define their peak seasons. This can be done by simply altering the formula to divide the monthly cost of goods sold by the average monthly inventory.
5. Product Performance
Product performance metrics track the speed and frequency of sales, consumer demand, and item profit margins. Companies should focus on their top and lowest performing goods and monitor their orders, marketing promotions, and sales.
By tracking product performance, companies can determine what items they should reorder, discontinue, and focus more promotions on to increase profits. Product performance is easy to monitor on management software, such as point-of-sale (POS), inventory, and ordering systems that report daily KPIs.
Managers can pull automatically generated analysis on average sales per product to determine which items generate the most revenue. These metrics enable businesses to manipulate stock to drive sales and income.
6. Lost Sales
Lost sales refer to the estimated product sales and revenue lost to stockouts. Stockouts can significantly restrict income, whether it was due to understocking and poor inventory management or an unexpected surge in customer demand.
Lost Sales = Number of Days Item is Out of Stock x Average Sales Rate
For example, if a television distributor sells out of their top-selling product for 12 days and they typically sell four per day, they have potentially lost out on 48 sales. Depending on the product's price and profit margin, these sales could significantly impact the company's bottom line.
By continuously monitoring key inventory metrics, businesses can avoid risks that may lead to lost sales, decreased profits, or lower stock turn. Managing inventory KPIs also allows retailers to improve internal processes to generate more revenue.