How inventory transparency and segmentation generate profit

Optimizing your inventory isn’t just about making your balance sheet look better, or seeing your liquidity improve. If you streamline and readjust your approach to inventory, you’re going to see it start working for you.

Optimized inventories generate profit. Let's oversimplify it.

Operating profit = Sales – Operating expenses

Inventory management plays a role in both increasing sales and reducing the operating expenses. We see possibilities in increasing sales, with high product availability leading to high customer satisfaction and reducing lost sales. On the other side of the scales, there’s the opportunity to reduce carrying costs with decreased stock, which in turn can reduce associated labor costs, which in turn reduces operating expenses. If you play the game properly, inventory management can turn your income statement into a much cheerier sight.

Transparency is a prerequisite for effective inventory management

First of all, you need to know your inventory. You need to have sufficient transparency about stocks, from value, to storage locations, even to consumption patterns. Don’t perform analysis only at an aggregated, ‘family-of-products’ level, but work at an item number (SKUs) level to get a truly accurate understanding of what you’re dealing with. For this, you’re going to need a decent quantity of transactional data and master data with which, by using BI tools, it is possible to establish data-based classifications of the inventory portfolio. In less words, establish segmentation.

Segmentation enables a differentiated control of inventories

We often see companies treating their stocks with a one-size-fits all approach. Companies with a more advanced approach consider ABC classifications based on sales figures, or XYZ classifications that use consumption patterns. In many cases, however, this level of segmentation is not enough.

To take segmentation a step further, a distinction has to be made between stock types. Are we looking at raw materials, work-in-progress, finished products or spare parts? Each of these types entail specific controls and can have wildly different planning implications. Other helpful criteria for analysis include criticality, handling impact or perishability. Criticality describes how critical a component/ingredient is to keep a process respectively a machine running. The handling impact indicates the specific handling requirements of an inventory group, e.g. special transport requirements for hazardous goods or very large parts, whilst perishability requires special inventory planning.

Once company-specific inventory segments have been developed, they require policies. This means setting up a set of rules around the specific segments, i.e. regarding ordering policies, parameters, and processes. For instance, using formulas designed for generic safety stock calculations does not work for stocks with sporadic consumption patterns. Your service levels should be adapted to the items’ characteristics, with the level of safety stocks being set appropriately. Policies need to be followed by adapted processes to see real results, and these require transparency and proper use of segmentation.

So what?

With data transparency you can create a sophisticated inventory segmentation with policies that allow for optimized inventory levels. Your inventory could be an untapped area of improvement for your business, so we recommend that you critically review your inventory management now. Are you already implementing our suggestions? At aioneers, we can support you in collecting the data and performing the analysis you need to optimize your inventory.

Check out our AIO products or contact us directly to see how they could be assisting you!