11 Most Important Inventory Management KPIs in 2023
Any company with a physical inventory needs to ensure optimized stock levels and inventory movements. Tracking inventory management KPIs can go a long way in achieving these goals. In this post, we look at 11 of the most important inventory management KPIs and give tips on how to put them to use.
What are inventory management KPIs?
Inventory management KPIs are key performance indicators specific to the storage, quantities, costs, or movements of a company’s stock. Like all business KPIs, they work by measuring and comparing various business metrics in order to track the performance of and set goals for various business processes.
There is an important distinction between KPIs and metrics. While all KPIs are based on metrics, not all metrics are KPIs. Metrics are measures of assessment of virtually any quantifiable process. KPIs, on the other hand, use metrics to measure the performance of specific business goals that companies set in order to gauge certain aspects of their functioning. For example, the number of instances a door is opened within a time is a metric. If opening a door is a relevant indicator of employee participation, for example, tracking it could be a basis for a KPI.
Tracked KPIs are often compiled into performance dashboards. These are then updated regularly or in real-time, depending on implementation, to provide an overview of company performance for decision-makers and stakeholders. They can exist in the form of a spreadsheet, dedicated performance management software, or within the inventory management system of choice.
Why are KPIs important in inventory management?
The utility of tracking inventory-specific KPIs is not limited to warehouses or distribution companies. Inventory management is an exceedingly important aspect of business for all manufacturers, retailers, or indeed any company with physical stock. Inventory accuracy, procurement, and production scheduling depend wholly on relevant, up-to-date insights on inventory metrics.
First and foremost, tracking relevant inventory management processes enables setting clear objectives and goals that provide deeper insight into the health of the business. KPIs act as benchmarks that allow setting baselines, comparing performance over time, and identifying shortcomings.
By providing info on optimal stock levels, time-cost ratios, etc., KPIs simplify optimizing inventory. This leads to better overall stock management, inventory control, less waste, and cut overhead costs. KPIs measuring customer order fulfillment can also be a reliable indicator of other aspects of the company’s health, like customer satisfaction.
All in all, inventory management KPIs provide useful, cost-effective, and data-driven insights that can hugely aid in decision-making processes. They serve as a feedback mechanism that indicates if the business is being steered in the right direction. As the inventory is directly tied to manufacturing, customer relations, supply chain, accounting, and aspects of business, inventory management KPIs constitute some of the most instrumental of all business metrics.
How to pick the right KPIs to track?
Choosing which inventory management KPIs to track can make the difference between redundancy and efficiency. There are literally dozens of metrics to choose from so which ones to opt for should be a matter of careful consideration.
The SMART method
A tried and tested approach for picking KPIs is by following the SMART method. Developed in 1981 by George T. Doran. SMART is heavily used to this day in various forms in different business management applications. According to SMART, the relevance of a metric can be scrutinized by analyzing whether it is:
S – Specific enough; measuring a concrete process or aspect, clearly defined; taking into account strategic goals.
M – Measurable, which in inventory and warehouse management almost always means quantifiable.
A – Achievable; actually attainable and coherent to a company’s use case. In other words, don’t strive for a lead time of “instantly”.
R – Realistic or relevant; both in terms of aligned well with the realistic goals of the organization as well as what is actually possible given existing resources.
T – Time-bound; following a preset timeline related to the objective of the metric, and having a deadline.
Tips on picking the right KPIs
Besides the SMART method, here are a few more tips that might simplify picking the right KPIs to track:
- Consider industry-specific KPIs. Many KPIs might be more relevant for your industry or business type than others. For example, retail businesses may focus on metrics like sell-through rate, markdown percentage, or gross margin return on inventory investment (GMROI), while manufacturing companies should prioritize production cycle time, work-in-process (WIP) inventory, or capacity utilization.
- Assess data availability and accuracy. Only track KPIs that you have reliable and accurate data for. It pays to consider the systems and processes in place to capture the necessary data, whether from work reports in an MRP system, sensors on workstations, accounting data, etc. If it’s not readily available or requires significant effort to collect, it might be wise to choose alternative KPIs that are more easily measurable.
- Review and adjust regularly. Regularly review your chosen KPIs to ensure their relevance and effectiveness down the line. As your organization evolves, your chosen KPIs may need to be adjusted to align with changing priorities and objectives.
- Do not track too many KPIs. Tracking around 10 main KPIs is mostly considered a good amount, although this might vary depending on the size and complexity of the operation. These should include all business KPIs of which inventory KPIs constitute a good few.
For managers that do their homework and pick the right KPIs for their use case, compiling a simple dashboard or setting up trackable metrics within your preferred inventory management software (IMS) or warehouse management software (WMS) will most likely suffice in providing an adequate overview. For deeper insight into strategic goals, however, methods exist for organizing tracked KPIs into systems. A relevant example would be Gartner’s Hierarchy of Supply Chain Metrics.
Top 11 inventory management KPIs
Here are the 11 most important inventory-specific KPIs that you should consider including in your performance dashboards.
Average inventory level
Starting the list off at the absolute foundation, the average inventory KPI returns the estimated average amount of inventory you have on hand at a given time. It is mostly useful as a baseline for calculating other metrics, however, it also provides a clear representation of the mean stock level throughout the fiscal year. In most cases, companies aim to keep the average inventory level constant.
Average inventory = (beginning inventory value + ending inventory value) / 2
Order lead time, order cycle time
An essential KPI that forms another baseline for measuring the efficiency of your inventory and supply chain management efforts is order lead time, a.k.a order cycle time. This measures the total time it takes for products to reach customers. It is counted from the moment customers put in an order to the moment they receive the finished product.
Different versions of this metric are in use, such as production, material, or delivery lead time. It is an equally important KPI both for distributors and manufacturers and should definitely be tracked in one form or another.
Order cycle time should not be confused with manufacturing cycle time, which is a KPI measuring the time it takes to complete a single manufacturing process step. Lead time also has many other related KPIs such as sales cycle length, which calculates the total time from first contact with a customer to a closed deal, or time to receive, which measures supplier performance.
Inventory turnover rate
The inventory turnover ratio measures the frequency at which you sell your entire stock. In other words, it returns the percentage of total stock that you managed to sell in a given time period. Tracking this KPI provides a ratio of sales to the amount of inventory in stock. It is a reliable means of gauging whether your sales numbers and stock values are proportionate. A higher inventory turnover rate generally correlates with lower storage and operating costs, because the less time stock spends sitting around, the fewer overheads it generates.
The inventory turnover rate is calculated by dividing the number of units sold by average inventory, or by dividing the cost of goods sold (COGS) by the value of average inventory.
Inventory turnover rate = number of units sold / average inventory
Stock-to-sales ratio, inventory-to-sales ratio
Another easy way to gain information on turnover performance is the inventory-to-sales ratio a.k.a stock-to-sales ratio. This compares the average inventory value of a given time period with finished sales for the period. The stock-to-sales ratio is important to keep at a balanced level – too low is indicative of an increased risk of stockouts; too high, however, means tighter profit margins due to mounting storage costs.
The KPI is calculated by dividing the average inventory value of a given time period by the net value of completed sales.
Stock to sales ratio = average inventory balance / net value of sales made
Days sales of inventory, inventory days on hand
Closely following from inventory turnover rate is the days sales of inventory (or days sales in inventory) a.k.a the days on hand or weeks on hand KPI, or DSI. This measures the average time it takes for stock to be sold and therefore, how long cash is tied up in stock. A low days sales value correlates with faster turnover and, among other things, can be a good indicator of stockout risk. The KPI provides insights into setting optimal stock levels and demand forecasting accuracy.
Days on hand can be calculated by dividing the accounting time period by the inventory turnover rate. The lower the value, the better.
Days sales of inventory = time period / inventory turnover
Carrying cost of inventory
This KPI, also known as inventory carrying cost or simply holding cost, signifies all of the overhead costs that you incur by holding inventory in stock. The metric returns a percentage which, naturally, you want to aim to be as low as possible, whilst covering all bases. The costs included in the carrying cost of inventory are:
- capital costs – direct purchases and their investment costs;
- inventory risk costs – the costs of inventory shrinkage and lost market value;
- storage space costs – warehouse rent, mortgages, and utilities;
- service costs – things like insurance, handling costs, warehouse security, etc.
Carrying cost of inventory = ((inventory capital costs + inventory risk costs + inventory storage costs + inventory service costs) / total inventory value) x 100%
The overheads that the carrying cost of inventory KPI includes should not be confused with total manufacturing overheads. The latter comprises all of the extra costs that are related to the production of goods.
The backorder rate is a KPI that details the percentage of incoming orders that could not be fulfilled for a given time period. It is calculated simply by dividing the number of incoming orders that you weren’t able to complete by the total number of incoming orders. Backorder rate is an easy metric, high values of which reliably point towards lax supply chain management or planning practices. It usually correlates inversely with the demand forecasting accuracy KPI.
Backorder rate = total orders on backorder / total incoming orders
The sell-through rate KPI returns the percentage of stock that you’ve sold relative to the total available stock for sale for a given product. It is a useful metric for quickly evaluating the selling performance of stock items and can be used to adjust production volumes or replenishment accordingly. The KPI is calculated by dividing the number of units of a product that were sold by the number of units available for sale.
Sell-through rate = number of units sold / number of units available for sale
For manufacturers that sell inventory that they produce in the same time period, the number of units sold should be divided by the sum of the beginning finished goods inventory and goods manufactured within the time period.
Demand forecast accuracy
Demand forecasting is critical for ensuring stock availability whilst avoiding excess inventory throughout the fiscal period. As such, it is especially important for make-to-stock (MTS) manufacturers that rely heavily on forecasting customer demand in order to set their stock levels and production capacities for upcoming periods.
This KPI measures the accuracy of the demand forecast for the previous time period by comparing the actual numbers of sold, ordered, and/or produced goods with the forecast. It returns a percentage indicating whether the forecast matched actual demand. The smaller the percentile, the more accurate the forecast. There are many ways to calculate this KPI. A simple formula would be:
Demand forecast accuracy = (1 – ((|actual demand – forecasted demand|) / forecasted demand)) x 100%
Perfect order performance, on-time-in-full
An order efficiency KPI, the perfect order performance (POP), also known as the perfect order index or perfect order rate, measures the percentage of orders that were completed without issues.
POP is calculated by dividing the number of perfect orders by the number of total orders. Here it is with all relevant metrics accounted for:
Perfect order performance = (number of total orders – (number of orders not delivered on time + number of orders not delivered in full + number of orders delivered with damage or defects + number of orders inaccurately processed)) / number of total orders.
POP is largely analogous to the on-time in-full (OTIF, a.k.a DIFOT, or delivery in full, on time) KPI. However, the latter generally only takes into account the order quantity and fulfillment date, whereas POP also counts in damages, defects, and processing errors.
On-time in-full = Number of orders delivered on time and in full / number of total orders.
Most manufacturers generally try to maintain a POP or OTIF value of around 90%. It can be calculated both for your own order fulfillment, as well as for your suppliers, in which case the metric is called supplier POP or OTIF.
Dead stock, spoilage
Lastly, dead stock constitutes the part of the inventory that, for one reason or another, has become impossible to sell and needs to be written off. This can be due to goods expiring in the case of perishables (in which case it’s referred to as spoilage), leftover seasonal stock, products going out of fashion, or items that are damaged, forgotten, or otherwise obsolete. The dead stock KPI is represented as a percentage:
Dead stock = (unsellable goods / total goods) x 100%
A high dead stock percentage indicates a need to revamp your inventory optimization efforts and warehousing practices, as obsolete items rack up storage and overhead costs and decrease a company’s overall profitability.
- Inventory management KPIs are key performance indicators specific to the storage, quantities, costs, or movements of a company’s stock. Like all business KPIs, they work by measuring and comparing various business metrics in order to track the performance of inventory-related processes.
- Tracking inventory management KPIs enables setting clear objectives and goals that provide deeper insight into the health of the business. KPIs allow setting baselines, comparing performance over time, and identifying shortcomings.
- Inventory-specific KPIs simplify optimizing inventory which leads to better stock values, more inventory control, reduced waste, and less overhead costs.
- There are different ways for picking the right KPIs to track such as the S.M.A.R.T method. KPIs should always reflect the strategic goals of the business and be based on reliable data.
- Tracked KPIs are often compiled into performance dashboards. These can be in the form of a spreadsheet, dedicated performance management software, or within the inventory management or warehouse management software of choice.
- A good number of KPIs to track at any given time is around ten, as too many can congest a company’s performance dashboards and introduce unwanted complexity.
Frequently asked questions
A KPI or key performance indicator is a tracked metric that companies use to scope the performance of various business processes. In inventory management, KPIs are mostly centered on measuring inventory performance and control, like optimal stock levels, delivery times, stock-to-sales rates, etc.
There are many important inventory management KPIs and which one is most relevant to you depends on a number of considerations such as your business type, the product’s supply chain, and market considerations. Among the most important inventory KPIs are inventory turnover rate, stock-to-sales ratio, perfect order performance, and order lead time.
A metric is any quantifiable and measurable aspect of a process. A KPI, however, is a measure of the performance of a process over time. A metric counts occurrences of a process in time, whereas a KPI is goal-oriented, indicating the performance of the metric(s) it is based on. For example, the value of completed sales over a time period is a metric., whereas the value of completed sales over a time period divided by the value of inventory at the end of the period is a KPI.
Inventory turnover rate is a KPI signifying how many times inventory was used and replenished in a given time period. It can be calculated simply by dividing the number of units sold by the average inventory, or by dividing the cost of goods sold (COGS) by the value of average inventory.
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