Thursday 9 April 2020

How to measure inventory and set the target?

One of the questions most of the business head used to ask is, " How do I know my inventory level is high or low? How can I measure Inventory and I track? What is the benchmark for the inventory level?


My answer would be as follows.

Comparing or benchmarking may not give the right approach. As we discussed in the Holistic approach to managing Inventory in small, emerging organizations, Inventory is a function of many factors like your business, trade type, supply chain factors, product mix, lead time, volume vs. variety.
The benchmarking may not give you clarity about all the elements in the benchmarking industry or organization.

Instead, understand your inventory metrics as on today, set a target to reduce it every year from now on.

How should I measure my Inventory?

There are different measures to measure Inventory.

For example, you can measure your inventory value as a % of sales. Every month, you can measure and track your inventory value regarding your sales value.

Another proven method of measuring Inventory is Inventory Turn, which implies your organizational capability of turning Inventory frequently to achieve the sales.

Inventory Turn = Cost of Goods sold / Avg Inventory.

Cost of goods sold = This is the cost to make the goods like raw material cost + manufacturing expenses + any other indirect expenses.

Average Inventory = In a given period, say in a month's time frame, you can take the average Inventory you are maintaining. For example, you can add up all the day's Inventory in a month and divide by the working days. That will give the average Inventory.

Some organization has a practice of taking closing stock or opening stock, but that will be skewed to an extraordinarily high or low value.

For example,

To make an annual sales turnover of 100 lakhs, if you have avg inventory 100 L, Your inventory turn would be 100/ 100 =1
alternatively, for the same sales turnover of 100 lakhs, if you have avg inventory 50 L, Your inventory turn would be 100 / 50 =2
In case, if your avg inventory is 10 L, your inventory turn would be =100/10 = 10

The higher the inventory turn, the more active you are.

If there is a higher inventory turn, that means, with minimal Inventory, you are turning many times to achieve the sales turnover, result in lesser working capital or better cash flow.

Hence, one of the practical measures of Inventory would be " Inventory Turn."

Increasing Inventory Turn is possible only when you look into the root causes of the symptoms and initiating strategic and tactic initiatives.

That is a continuous activity, and you need to benchmark yourself and continuously work on optimizing the Inventory without affecting the delivery performance.

Now the action for your organization is 

1. What is your organizational Inventory Turn?
2. What is the target you are setting for the next year to increase your Inventory Turn?






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