Inventory is at the core of success for every product-based business. It’s what generates revenue, but it’s also what ties up most free cash. For product-based businesses to operate efficiently and maximize potential, they must have accurate inventory management systems and track KPI’s. Determining what this exactly means for your company can be challenging, but with a little bit of research and education we’re confident that you can make significant improvements.
What are KPIs in business inventory management?
KPI stands for “key performance indicator” and is exactly what it sounds like – a metric or data point that is a key indicator of your company’s performance and success.
If you operate a product-based business, most of your KPIs are going to be related to inventory management and maintaining products in stock. By measuring key aspects of your company’s inventory in real-time, you can make informed business decisions that will increase profitability and improve your bottom line.
How is inventory management measured?
There are many different KPIs that can be used to measure the success or failure of your current inventory management systems. Companies often use specialized software or companies who provide analytics services to help them keep an eye on this key business data.
The benefits of measuring your inventory management performance includes the ability to see how efficiently your company is moving products off the shelves and how your actual product sales compare to sales forecasts. Utilizing this data helps your company anticipate future business needs and pivot when needed, which translates to increased revenue and profitability.
We’ll cover the most common and most helpful inventory management KPIs in more detail in the next section.
Top inventory management KPIs your business should be tracking
Proper analytics is key to your future business success, especially when it comes to inventory management. Knowing and understanding your company’s relevant data and trends will help your business increase profitability, reduce expenses, manage cash flow, evaluate the need for financing, avoid understocking or overstocking, and account for seasonality.
Here are the top KPIs your retail or product-based business should be tracking:
- Product Sales: You may also see this KPI called “sales revenue.” It’s the revenue gained from customer purchases minus any returns, discounts, and other losses. This metric is typically tracked on a monthly, quarterly, or yearly basis. To calculate product sales use the following formula: Gross sales revenue – sales returns – discounts.
- Cost Per Unit : This KPI measures how much it costs your company to produce or buy a single unit of a particular product. It’s important in calculating your profit margins and financial projections, placing orders, and knowing which products are the most cost-effective. To calculate cost per unit, use this formula: (fixed costs + variable costs) / # of units.
- Rate of Return: Rate of return (ROR), commonly known as return on investment (ROI) is calculated as a percentage and is used to show the profit or return made on the initial investment, usually expressed annually. This number is a key indicator of the strength of your business along with its potential for future growth. To calculate ROR, use this formula: [(final value – initial value) / initial value] x 100.
- Inventory Turnover Rate : Also known as the inventory turnover ratio, this KPI measures the number of times your business sells and replaces its product inventory in one year. This number indicates how fast your inventory is moving off the shelves, which helps you identify areas of overstock and measure the efficiency of your product sales. It also lets you know the current performance of your inventory management and marketing strategies. High turnover, while generally a good thing, can also be a red flag to areas of insufficient stock. On the other hand, low turnover can suggest issues with overstocking or simply be a result of sluggish product sales. The 2 most common ways to calculate turnover include: Cost of Goods Sold / Average Inventory OR Sales / Inventory.
- Days Sales of Inventory: This key metric helps calculate the amount of time it takes a company to turn its inventory into sales. DSI is typically expressed as an average number of days and uses the following formula: (Average Inventory / Cost of Goods Sold) X 365.
- Stock to Sales Ratio: Stock to sales is a ratio that measures the amount of inventory in storage vs the number of sales. This key metric is used in making inventory stocking decisions. Stock to sales ratio = $ inventory value / $ sales value.
- Stockouts: Usually expressed as a percentage, this number helps measure how many items are “out of stock” at the time of order. This KPI is an indicator of your ability to meet customer demand. Having too many stockouts results in a decrease in customer satisfaction as well as the potential loss of future business. Stock outs can be caused by seasonal increases in product demand, poor inventory management, production delays, or supply chain issues. There are a few different ways to measure stockouts including: Volume of unmet product orders as a percentage of total sales volumes, volume of unmet product orders as a percentage of total purchase orders, or number of products on stockout as a percentage of total product lines.
- Backorder Rate: Backorders not only cost your company time (and possibly money), but they also can hurt your reputation. When customers regularly find that your most popular items are out of stock, they begin to lose faith in your business. Backorder rate is the measurement of how many orders a company is failing to fulfill at the time of order. A low backorder rate indicates a well-managed inventory system, while a high backorder rate identifies a need for better forecasting to keep items in stock. To calculate your backorder rate, use the following formula: (# delayed orders due to backorders / total # orders placed) x 100.
- Inventory Shrinkage: The inventory shrinkage rate helps companies determine the rate at which the value of their inventory has been reduced due to loss, theft, or errors in reporting. To calculate this important KPI, simply subtract the actual current value of your inventory from the expected value of your inventory, and then divide this number by the expected value. This KPI can be most accurately measured immediately following a physical inventory count (otherwise known as an audit). You will want to keep an eye on your shrinkage rate over time and use it to help identify and correct any pain points such as inaccurate record keeping, frequently damaged goods, or employee theft.
- Lead Time: Lead time is the amount of time it takes for a customer to receive their order after purchasing it. Lengthy lead times can be an indicator of issues with your supply chain or order fulfillment process, while short lead times are an indicator of healthy business operations. To calculate lead time, simply add your order processing time + production lead time + delivery lead time. The faster your lead time is, the higher your customer satisfaction will be (think Amazon Prime).
How Kickfurther can help
Once you know and understand key inventory management metrics, your business can take advantage of funding opportunities. Keep in mind that funding can be costly so make sure you’ve accounted for additional costs. Traditional financing or funding methods are often the most expensive and hard to qualify for, thus forcing business owners to flee for alternative methods. Here’s where Kickfurther comes in to help. Kickfurther is the world’s first online inventory financing platform that enables companies to access funds they were unable to acquire through traditional sources. Compared to other funding sources, Kickurther is up to 30% cheaper.
So, how does it work?
Kickfurther has companies start by creating a profile. Next, we connect brands to a community of eager buyers who help fund the inventory on consignment and give brands the flexibility to pay that back as they receive cash from their sales. Flexible repayment schedules alleviate cash flow challenges that are often made worse by traditional lenders. Small businesses can take advantage of flexible repayment schedules by allowing the brand to scale quickly without impeding your ability to maintain inventory. To qualify for funding through Kickfurther, brands must sell physical products or non-perishable consumables. In addition, brands must have revenue between $150k to $15mm over the last 12 months. Our average funding amount is $78,000, but businesses can fund up to $1MM to manufacture new inventory or get reimbursed for current stock.
Whether you handle the collection of your key inventory management data points in-house or you outsource these calculations to a third-party company or software, knowing and tracking the top KPIs for inventory management are critical to future business success. With confidence in how much inventory you need to achieve sales goals, you can earn the confidence of backers to secure funding. Funding for inventory can resolve cash flow challenges that inventory may cause.