Inventory Analysis: Meaning, Benefits, and KPIs

January 13, 2023

Inventory Analysis: Meaning, Benefits, and KPIs

Inventory analysis is an important aspect of managing any business, as it allows companies to keep track of their stock levels and ensure that they have enough products on hand to meet customer demand. Through inventory analysis, businesses can also identify and address any inefficiencies in their supply chain, ultimately leading to cost savings and increased profitability.

In this article, we will explore the various methods and tools used in inventory analysis, including inventory turnover ratio, days of inventory, and ABC analysis, and discuss how businesses can use these tools to improve their inventory management.

What Is Inventory Analysis?

Inventory analysis is the process of evaluating the level, movement and management of a company's stock or inventory. The analysis helps businesses to understand the performance of their inventory and identify any inefficiencies in their supply chain. This knowledge can be used to make informed decisions about purchasing, production and sales. Inventory analysis can include analyzing inventory turnover ratios, days of inventory, reorder points, and safety stock levels. It also can include ABC analysis and other methods to categorize inventory based on value, importance and other criteria.

The goal of inventory analysis is to optimize the inventory levels and minimize the carrying cost of inventory while ensuring that the company has enough stock to meet customer demand.


Benefits Of Inventory Analysis

Inventory analysis can provide a number of benefits for businesses, including:

  1. Cost savings: By analyzing inventory levels and identifying inefficiencies in the supply chain, businesses can make adjustments to reduce costs and increase profitability.
  2. Improved customer service: Having the right amount of stock on hand to meet customer demand can help businesses maintain a good reputation and retain satisfied customers.
  3. Better cash flow management: By keeping inventory levels under control, businesses can free up cash that would otherwise be tied up in excess stock.
  4. Reduced waste: By analyzing inventory data, businesses can identify slow-moving or obsolete products and make adjustments to reduce waste and avoid overproduction.
  5. Better decision making: Inventory analysis provides businesses with valuable data that can be used to make informed decisions about purchasing, production, and sales.
  6. More efficient supply chain management: By analyzing inventory trends, businesses can identify bottlenecks in the supply chain and make adjustments to improve efficiency and reduce lead times.

Overall, inventory analysis can help businesses to improve their bottom line and ensure that they have the right products available to meet customer demand.

What Are The 4 Types Of Inventory?

There are several different types of inventory that businesses may keep on hand, but four common types include:

  1. Raw materials: These are the raw materials or components that a business uses to produce finished goods.
  2. Work-in-progress: These are the partially completed products that are still in the production process.
  3. Finished goods: These are the completed products that are ready to be sold to customers.
  4. Maintenance, repair, and operating (MRO) supplies: These are the supplies that a business uses to maintain and repair its equipment and facilities.

Each of these types of inventory serves a different purpose and can be managed differently. Raw materials and work-in-progress inventory are usually managed through a production process, while finished goods and MRO supplies are managed through a sales and distribution process. The specific inventory types will depend on the nature of the business, and some companies may have subcategories or additional inventory types.

3 Key Measures Of Inventory

There are several measures that businesses use to evaluate the performance of their inventory, but three key measures include:

  1. Inventory turnover ratio: This measures how often a business sells and replaces its inventory over a given period of time. A high inventory turnover ratio indicates that a business is efficiently selling its products, while a low ratio suggests slow sales or overstocking.
  2. Days of inventory: This measures how long it takes for a business to sell its inventory. A low number of days of inventory indicates that a business is selling its products quickly, while a high number suggests slow sales.
  3. Reorder point: This is the point at which a business needs to restock a particular product to prevent stockouts. By setting a reorder point, businesses can ensure that they always have enough inventory on hand to meet customer demand.
ITR = Cost of goods sold (COGS) during specified period / Average inventory during the period

These three measures are interrelated and can help businesses to understand the performance of their inventory and identify any inefficiencies in the supply chain. By regularly monitoring these measures, businesses can make adjustments to improve their inventory management and ultimately increase profitability.

Ways To Analyse Inventory Performance (Inventory Control Metrics And Techniques)

Inventory control metrics are quantitative measures that businesses use to evaluate the performance of their inventory management processes. These metrics help businesses to understand how well they are managing their inventory, identify inefficiencies, and make improvements to increase profitability. Some examples of inventory control metrics include:

  1. ABC analysis: This is a method of categorizing inventory items based on their value and importance. "A" items are high-value, high-volume items that require close attention, "B" items are of medium value, and "C" items are low-value items that may not require as much attention.
  2. FSN analysis: This is a method of categorizing inventory items based on their Fast moving, Slow moving and Non-moving nature.
  3. Safety stock analysis: This is a method of determining the amount of inventory that a business should keep on hand to mitigate the risk of stockouts.
  4. Gross margin return on investment (GMROI): This measures the profitability of a business's inventory by comparing the gross margin to the investment in inventory.
  5. Stockout rate: This measures the frequency at which a business runs out of stock on a specific item. A high stockout rate can indicate poor inventory management or a lack of forecasting accuracy.
  6. Carrying cost of inventory: This measures the total cost of holding inventory including the cost of capital, storage, insurance, taxes and obsolescence.
  7. Order lead time: This measures the time between placing an order and receiving the inventory.
GMROI = Gross profit margin / average cost of inventory on hand
STOCKOUT RATE = (Stockout order / total customer orders) x 100

These methods can be used individually or in combination to provide a comprehensive view of inventory performance. By regularly monitoring these measures, businesses can make adjustments to improve their inventory management and ultimately increase profitability.

Examples Of Inventory Analysis (Use Cases)

There are many examples of how businesses can use inventory analysis to improve their inventory management, here are a few:

  1. A clothing retailer uses inventory turnover ratio to identify slow-selling items and make adjustments to their purchasing and pricing strategy to improve sales.
  2. A manufacturer uses days of inventory to identify production bottlenecks and adjust their production schedule to reduce lead times and improve customer service.
  3. A business uses reorder point analysis to determine optimal order points and quantities for each product, reducing the risk of stockouts and improving cash flow.
  4. A business uses ABC analysis to prioritize the management of their inventory and focus on high-value items while reducing the attention on low-value items.
  5. A business uses FSN analysis to classify their inventory based on their Fast moving, Slow moving and Non-moving nature, and make adjustments to their purchasing and production accordingly.
  6. A business uses Safety stock analysis to ensure that they always have enough inventory on hand to meet customer demand and avoid stockouts, while minimizing the carrying cost of inventory.
  7. A business uses Gross margin return on investment (GMROI) to measure the profitability of their inventory and make adjustments to their pricing and purchasing strategy to increase profitability.
  8. A business uses Stockout rate to monitor the frequency of stockouts, and identify areas for improvement in forecasting, purchasing, and production.

These are just a few examples of how businesses can use inventory analysis to improve their inventory management and increase profitability. In reality, the specific inventory analysis techniques will depend on the nature of the business, and it's important to use the methods that are most appropriate for a specific situation.

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