Inventory can play a substantial role in the health of a business—having too much can cause problems, as can having too little. Possible troubles can include increased costs, missed sales and frustrated customers who can’t get their orders filled. By using key performance indicators (KPIs) to track and manage inventory, businesses can improve purchasing and production processes, cash flow and profitability. Moreover, KPIs enable companies of all sizes to measure the impact of business operations.
“…KPIs enable companies of all sizes to measure the impact of business operations.”
When it comes to inventory management, there are several metrics worth considering. Since every company is different, the key is to determine which make the most sense for you. Here are 10 popular inventory management KPIs to consider:
Inventory Turnover or Days on Hand
This KPI examines how many times inventory has been sold and replaced in a given time period. If the turnover is low, the company either has too much stock or too few sales. This is calculated in one of two ways, either: Cost of Goods Sold ÷ Average Inventory or Sales ÷ Inventory.
Average Days to Sell Inventory (DSI)
This KPI is a measure of how long it takes your company to turn its inventory into sales. This KPI varies from industry to industry depending on what you’re selling. Typically, large ticket items move slower than small ticket items or perishables, so make sure to take that into consideration if using this KPI. The formula for calculating DSI is: (Inventory/Cost of Sales) x 365.
This KPI is used to estimate the amount of inventory your company has on hand during a particular time frame. The goal here is to avoid spikes or unanticipated drops in inventory, and to keep a relatively constant flow of inventory in and out, based on the needs of the business. To calculate Average Inventory for a single month, the formula looks like this: (Beginning Inventory + Ending Inventory) ÷ 2.
This KPI measures the costs related to storing unsold inventory. This includes the cost of damaged and spoiled goods, as well as the cost of storage space, labor and insurance. To reduce holding costs, designate a reorder point.
This KPI represents the amount of times demand cannot be met due to the absence of required inventory, which can incur lost sales, missed opportunities, and frustrated clients. It provides a big picture view of how effective a business is at purchasing and production.
This KPI is used to compute the amount of stock required to avoid a stock-out (see above). Service level denotes a compromise between the cost of inventory and the cost of a stock-out.
This KPI is an important element of supply chain management and the inventory control process. To calculate lead time, take the sum of the time it takes a supplier to deliver once an order is placed (the delay), plus the time that transpires between the need to order again (the reordering delay).
Rate of Return
This KPI tracks and rates the percentage of orders that are returned and need to be restocked. Equally important is tracking the reason for the returns so that you can address any problems in the supply chain. This will also help identify key trends that might prevent future costly returns.
If what’s on your shelves doesn’t match what’s in your books—or, more likely, databases—you’ll experience poor order accuracy rates and higher costs. Inventory accuracy helps prevent this scenario by requiring the performance of an inventory headcount to verify that your internal data is accurate.
Perfect Order Rate
This KPI is the ratio of orders that fulfill the following: The right delivery place, the right product, the right package, the right quantity, and the right documentation. A high perfect order rate can lead to increased customer satisfaction.
The list of 10 KPIs above may seem daunting, but remember to choose the ones that make the most sense for your business and know that you don’t need to implement all 10 at once. If you’re new to this, consider starting with tracking inventory turnover, a relatively simple calculation that will allow you to measure how well your inventory is performing against your cost of sales. By choosing the KPIs that fit your business’ needs and tracking them over time, you may begin to recognize patterns that will help you figure out how to improve your inventory management processes, and ultimately transform your business into a highly efficient organization.
- Ryan C. Fuhrmann, “How do I calculate the inventory turnover ratio?” Investopedia, November 7, 2016.
- “Days Sales Of Inventory – DSI,” Investopedia.
- “Average inventory,” Investopedia.
- “Holding Costs,” Investopedia.
- Joannès Vermorel, “Optimal Service Level Formula for Inventory Optimization,” Lokad, January 2012.
- Joannès Vermorel, “Lead Time, Definition and Formula,” Lokad, November 2014. Image © The Good Brigade / Offset.com