8 inventory management KPIs to improve inventory performance

Inventory management KPIs for effective stock management

Managing inventory is a complex business. Lots of activities, processes and people are involved in ordering, receiving, storing, picking and shipping items with the ultimate aim of keeping customers happy with the complete orders that are on time.

Inventory management KPIs are important as they help analyse and track the performance of inventory management activities e.g how stock is ordered, managed and turned. They help measure the progress of supply chain objectives and identify areas for improvement.

But with a wealth of KPIs available to help management the performance of your processes, which ones are the most important to ensure you’re on the right track to optimum efficiency? Here’s some of the most common inventory management metrics you can track for success.

How to choose inventory management KPIs

• KPIs need to be SMART – avoid any that are too broad and are difficult to quantify and measure. SMART goals are specific, measurable, achievable, relevant, and timely. So instead of saying “we’d like to increase our stock turnover” it becomes “we’d like to increase our stock turnover by 2% by the end of this year”.
• Ensure KPIs all contribute towards your organisation’s strategic goals e.g whether these are customer service targets, growth strategies or profitability objectives.
• KPIs will influence how employees carry out their jobs, so ensure the metrics you choose promote the right collaborative behaviour and avoid any that encourage competition between departments.

Don’t forget once your KPIs are in place, they then need to be tracked and communicated on a regular basis across your business. Employees need to understand their importance and how they’ve individually impacted performance. Offer praise when you’re performing well and feedback when performance needs to improve to keep everyone motivated towards the same goal.

Inventory management KPI examples

1. Inventory turnover ratio

Inventory turnover ratio measures how quickly stock is sold and replaced, or turned over, in a predefined time period, usually a year.

A common way to calculate an inventory turnover ratio is:

Inventory turnover is a good indicator of the efficiency of your inventory management processes. A higher turnover generally means greater efficiency. However, be careful not to simply lower inventory levels across the whole warehouse to improve your turnover rate, as this could be at the expense of order fulfilment. Read our whitepaper on How to Fix Inventory turnover challenges for more tips.

2. Demand forecast accuracy

Aiming to get your demand forecasting as accurate as possible is critical to ensure stock availability so you can maximise sales and keep customers happy, whilst preventing excess stock.

This KPI analyses how accurate your forecast was against actual sales. The less of a gap between what was forecasted and what was sold indicates that your demand forecasting is strong. The more accurate your demand forecasts are, the better your inventory turnover rates and the lower your carrying costs.

There are many formulas for calculating demand accuracy, or demand error, including the Mean Absolute Percent Error (MAPE) and Mean Absolute Deviation (MAD) – see our blog post on calculating forecast error for the specific calculations.

Whilst an enterprise resource planning system may include some forecasting functionality, consider investing in inventory optimisation software. An inventory optimisation ERP plug-in will not only dynamically forecast your demand, but also provide data on the accuracy of your forecasts and adapt them for future.

3. Backorder rate

This inventory KPI keeps track of the number of delayed orders due to stockouts. It shows the percentage of orders that cannot be filled at the time a customer places them.

A high backorder rate can indicate poor demand forecasting and planning and can obviously affect customer satisfaction. It is simply calculated as so:

If your orders often include multiple lines and shipments, you can also drill down into the actual line orders for more accuracy.

4. Carrying costs of inventory

The inventory carrying costs include all the overheads (many hidden) you incur by stocking items in your warehouse. These costs include:

Capital costs – all costs related to the investment in buying stock, e.g the cost of the stock, the interest on working capital and the opportunity cost of the money invested.

Storage space costs – a combination of the warehouse rent or mortgage and maintenance costs, such as lighting, heating and air conditioning.

Inventory service costs – these include insurance, security, IT hardware and the cost of physically handling the goods.

Inventory risk costs – costs that cover the risk of items losing value whilst stored, shrinkage, or becoming obsolete.

The carrying cost of inventory is calculated by totaling the above overheads and dividing by the average annual inventory cost. Carrying costs are expressed as a percentage, and the values typically range on average between 15-20%.

More efficient warehouse and inventory management processes will help improve this KPI. If you can keep goods moving through your warehouse and avoid excess and obsolete stock, your carrying cost KPI will be in good shape!

5. Order cycle time

Order cycle time measures the time period between placing orders with your supplier (do not confuse this with lead time which is the time between placing the order and it being received).

By analysing this KPI you can understand how efficiently you prepare and process orders. If you have efficient processes or automation you should be able to handle ordering on a frequent basis. The more often you order, the less stock you need to carry, which reduces carrying costs and improves your turnover ratio.

However, replenishment can be restrained by your suppliers’ ordering stipulations in terms of order frequency and minimum order quantity.

6. Rate of return

This simple KPI tracks the percentage of orders that are returned using the formula:

Instinct tells you that you want to keep this KPI low as possible, as it adversely impacts customer satisfaction. However, it’s a well-known fact that in some industries, retail in particular, returns are growing at an increasing rate.

For effective inventory analysis this KPI should therefore be broken down by reason for return, to establish if it’s a quality issue, the incorrect item sent, or simply the result of a growing social trend etc.

7. Order pick, pack and dispatch accuracy

These inventory management KPIs can be as top level or specific as you require, and your systems allow. The process of locating items, packing and shipping them is the core function of most warehouses and therefore monitoring the efficiency of each stage is key to improving productivity.

Pick, pack and dispatch KPIs can reveal where your warehouse processes are especially strong and where they require improvement.

8. Service level

At EazyStock we believe that service level is one of the most important inventory KPIs that you can analyse and track! Here’s why: