6 Questions to Ask Yourself About Your Inventory Turnover

3 min read

Tags: Blog, Demand forecasting, Inventory management, Purchasing & replenishment

Daniel Fritsch   November 10 2014


Warehouse workers moving inventory

Index

  1. Why are inventory levels and turnover so important?

Inventory turnover is a measurement of the number of times inventory is sold or used in a given time period. Most companies will measure their inventory turnover over the course of a year long time period. The equation for inventory turnover equals the Cost of goods sold divided by the average inventory.

Inventory-turnover-ratio

Inventory turnover is also commonly known as inventory turns, stockturn, stock turns, turns, or stock turnover depending on the type of industry application. The role of inventory planners is often dictated by a company wide desire to increase inventory turnover or sales.

Many inventory planners or operations managers are told by their supervisors or bosses, “Our inventory turn rate is only three times per year, our competitors are at five. We should be able to turn around our inventory five times, as well! Make it happen!”

This is when the inventory reduction carousel starts. What’s the easiest way to lower inventory? It’s of course by reducing the stock level on the medium and fast movers. The inventory gets reduced and you achieve the five turns per year. The big question is, at what price? When taking this approach your expedited purchasing costs go up and service levels goes down.

Why does this happen? Because there was a focus on a single supply chain key performance indicator (KPI). In this case the inventory turn rate. This is not too uncommon in most companies and it can easily happen if a single problem rolls up to the management radar without them seeing the bigger KPI picture.

Inventory reductions can’t be managed in a vacuum and your inventory control can’t be done independently of the other variables and KPIs in your supply chain.

There are a number of questions you need to consider when creating a long-term winning strategy for fixing your inventory turnover challenges:

  1. What is your demand history and demand variability?
  2. What is your supply lead-time and lead time variability?
  3. Do you have an efficient and effective supply chain design?
  4. Do your manufacturing capabilities and customer purchase characteristics align?
  5. Are you using the most cost effective logistics for procurement and delivery?
  6. What is the right target service level for your business?

In order to achieve sustainable inventory reduction while maintaining or improving customer service, the variables that drive inventory must be improved. Too often, inventory is adjusted to meet financial goals, without understanding or improving management of the variables that drive inventory levels.

Why are inventory levels and turnover so important?

Inventory levels are often watched carefully and scrutinized often, because it shows up directly on the company’s financial reports in a very negative way. There’s no line item on the balance sheet for tracking target service levels or demand forecasting accuracy.

The bottom line is that inventory is expensive and it typically comprises 40% to 50% of a manufacturing or distribution organization’s capital investment. The cost is a combination of the value of the product and the storage costs associated with holding the inventory. It is usually a big number that the executive management team and shareholders see, and they don’t like it.

There are a number of KPIs that need to be measured and managed simultaneously to obtain a holistic view of your inventory performance. The top KPIs and variables are service level, development of capital tied up in stock, inventory turnover, back-order recovery and supplier performance.

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