Beyond the basic KPIs, there are 10 key inventory analytics that can improve the overall financial health of your distribution business.
In Episode 2 Dan Craddock, Catalyst supply chain consultant and guru, explains how business leaders can use inventory analytics to tell their story and make quick decisions. It’s not just executives, and it’s not just the basic KPI “usual suspects” that raise the inventory IQ of the organization.
Episode 2 Show Notes:
Q: Start by telling us… why are these inventory analytics numbers so important?
First, let’s realize that…. Most wholesale and retail distributors started and grew from a strong sales and marketing person or team. At some point they realize the important of THIS statement: “Selling generates revenue, but buying right generates profit.”
At this point, on this day, everything changes!
Those leaders, owners and executives need to not only embrace the buying side of the business, but learn the processes and the key financial numbers.
Q: So are these numbers pretty basic and common? Or are they values that we are not used to hearing?
A: Well that is the point of THESE numbers. We need to go way beyond the basics. We are talking about the financial health of these companies.
We expect that they will know their current Inventory On-Hand and On-Order values. They will probably also know their active SKU counts. But those numbers don’t tell much of a story, do they?
Q: So we are looking for numbers that tell a story? Stories that they don’t currently see today?
A: Exactly. We have so much data now and the data is screaming at us to take action. The data is there for the inventory team, but the leaders of the business also need to see these supply chain analytics, and to know them, and to take action with them.
Q: So are the business leaders asking for these 10 numbers?A: No! That is the problem. They don’t know them, and they don’t know they need them.
Todd, we did the podcast earlier this year on the State of the Wholesale Industry supply chain report, and during that session we mentioned a few of these numbers which each executive and leader should care about. Then next week, I visited a wholesale company and the president was in the meeting. Toward the end of the meeting, she shared that she was live on the podcast and had some anxiety that she did now know her company’s KPIs that we shared. I thought her reaction was perfect.
Q: So before we begin, is it mainly the president or top supply chain executives that should know these analytics?
A: Actually Todd, we would like to raise the Inventory IQ of every company. All department leaders should have a foundational understanding of inventory and how it impacts their income statement.
This list is going to hit several areas: The Portfolio, Demand, Inventory Components, Operations, Financials, Performance
Q: So let’s go. Where do you start on your list?
A: So you already mentioned the Portfolio basics of On-Hand and On-Order analytics; let’s hit a more unique value:
Here is the first unique number we want everyone to know.
One Day. What is One Day of $Inventory? If you are a $100 million revenue company… with a typical COG of 75%, One day of Inventory is about $200,000.
Everyone in the company should know that number. One Day. That’s important to know because as you make adjustments to inventory components and strategy, you know that reducing average inventory by One Day will remove $200,000 in inventory. Five Days is one million dollars. Also, every planner/buyer should know the value for THEIR products. Throughout a typical year, you probably have times where you need to tighten up, and you need to know what a day is worth!
Q: Okay, so executives walk in every day and they always know that number. Where do we look next?
2 & 3
A: Let’s go next to the Demand side. Let’s hit the heart of the business. Let’s put two numbers together that we should track over time:
Avg Demand Forecast & Avg Demand Deviation.
Let’s compare a company 10 years ago, versus today. 10 Years ago, they have 10,000 active items / Avg Forecast of 30 / week and Avg Demand Deviation of 20%.
Over the years they add a lot more items than they remove (which is common). And now they have 15,000 SKUs / Average Forecast drops from 30 to 20 and the Avg Demand Deviation of 30%.
Their financial world has changed and they might not realize it:
More items, slower moving, more erratic, thus higher safety stock needs, higher expense and reduced margin… Unless they are able to find higher gross-margin items, which is not easy. Hopefully sales are way up from the expanded item offering, but of course there is not a one-to-one ratio here.
This is happening to so many businesses and they don’t see it. It is a key element of Merchandise Management and many involved in these decisions don’t understand the impact of these components.
Q: So executives need a crash course in financial inventory management to drive their companies to profitability? What’s next?
4, 5 & 6
A: Let’s jump to the Inventory Components
Todd, the key components in a smart buying process are: Safety Stock, Lead Time & Order Cycle.
With inventory analytics today, we should always know what our Dollar Weighted / Forecast Weighted Values are! This morning, I did a group session with five European Inventory Teams. Every month we look at these three values. For example, one company had the following values:
Safety Stock = 10 Days Lead Time = 16 Days OC = 20 Days
This company’s One-Day Value was $400,000
Of course, from the above discussion, if this company adds a lot of slow-moving items to the mix in the coming years, that 10-Day Safety Stock value could grow to 13, which would be an additional $1.2 million in inventory.
We don’t have time to discuss in detail would attributes drive those numbers… That is for another podcast, but knowing those numbers is Step One to being in control!By the way, the formula for Average Inventory is:
Safety Stock + ½ of OC so 10 + 10 = 20 Days x $400,000 = $8,000,000
As the company needs to make strategy adjustments, or simply needs capital out of the business, they know what their options are and how every attribute will influence their inventory investment.
Q: Okay, so we have hit the Inventory Portfolio, Demand & The Components….What other categories and values?
A: Okay, so let’s hit the Financials next!
The report card for the inventory and for the inventory team is the Income Statement.
Wholesale and retail are quite similar. A typical wholesaler company that sells $100 million has a COG of 75%, leaving a gross Profit of $25 million, and then general operating expenses of about $22 or @23 million leaving a 2% or 3% Net Profit. Pretty tight!
Most of those expenses are salaries and facility, etc. but key pieces are the supply chain expense. Let’s leave transportation alone for now.
How often we buy, and how much we buy influence the Carrying Costs & Acquisition Costs. These numbers combined make up the Inventory Operating Expense % — The Inventory Operating Expense %
This is expressed as a % of Revenue and can range from 1% IOE to 4% IOE.
These values are drastically different for the various types of items that you have. Your A items are smooth moving and likely have a very low IOE, typically less than 1%.
Here is an example for a grocer: Overall a bit over 1% Slow items 1-5 4% 0 -1 10%
We need to know those numbers and use them in decisions like Stock / Non-Stock as well as Service Goal
Q: Okay, you mentioned Operations?
8 & 9
A: There are so many here, but let’s hit two:
8… Lead Time Delivery – Last 30 Days – Let’s face it, there is Lead Time seasonality. Some of it is based on the industry or the suppliers, but often it’s based on weather, driver availability, or even on vacationers at the DC and stores! You need to track the history/seasons and adjust. Here is why.
Without working this really well and really hard, the teams normally add cushion out of fear. I did! If the Lead Time Delivery is running 3 days lower than my settings, I have a 3-day cushion, which is like having 3 days extra Safety Stock, and we all know what that means…. $1.2 million in inventory for company A!
9… Number of Orders Planned vs. Actual.
What if you have strategy to replenish every 15 days on a line, but over the last 4 months you have placed 16 orders instead of the expected 8?Costs of buying are up of course… but so is inventory! You are never letting the inventory drop down properly, so it stays high high high. The key to lowering inventory is to buy later!
Q: Okay, finish it off with Number 10. The Performance Category correct?
A: That’s right. And I could make this number 10 – 20 because we want the inventory teams to report service attained far beyond one number.
Okay, so you attained 97.5% last month, shy of your goal of 98%. Close. Most companies respond as though everything missed by 0.5% That is never the case. The issue is in certain pockets or sectors of the business. You need to define and watch those sectors. Find the issues and fix them.
-Short Lead Time Items
-Short OC Items
-Recent Manual Forecast Items
-Or more likely, some blend of the two – Slow moving, seasonally profiled items
The inventory analytics want to tell you the story… so let them! This area has been the biggest eye-opener for me in the last decade. We are seeing stories that have been trying to be told for decades, and we finally have tools to see the stories!
Executives need to become familiar with these Inventory Sectors and get ahead of the issues.