Good inventory management in supply chain companies achieves two objectives:
- To ensure a ‘proper visual display,’ for an attractive offer that makes consumers want to buy (the right stock).
- To have enough to cater for sales, that can be expected until the next delivery (enough of it).
Dr Goldratt, founder of the Theory of Constraints and Throughput Accounting, and the author of the title quote and many great publications, used to refer to these two as ‘marketing inventory’, and ‘sales inventory’. He jokingly used to describe the responsibility of the marketing department as ‘getting the ducks to sit’, while sales is responsible for ‘shooting sitting ducks’.
‘Simple, but not easy!’, as the whole supply chain needs to ensure that the right product is always in the right place at the right time. So, let’s dig a little deeper.
Useful KPIs for the Responsive Supply Chain
The performance of supply chains is negatively affected when one of two things happens:
- Too little supply. Measured in units of Understock (failure to meet demand; system not responsive enough).
- Too much supply. Measured in units of Overstock (surplus inventory from push behaviour).
In the perfectly responsive supply chain, understocks and overstocks do not occur, and consumers can always find what they are looking for, everywhere, all the time, and the throughput and thus the profitability of the whole chain, are maximised.
Perfectly responsive supply chains do not exist. There is always an element of uncertainty, requiring responses to be proportional and effective at the same time. Disproportional responses can be an overreaction (e.g., stop shipping or ship way too much).
For KPIs to trigger proportional, effective responses, they should first be classified as either operational or tactical.
Operational metrics focus on high frequency decisions and executions of systems and processes, where ‘high frequency’ is typically daily or even more frequently. Replenishment decisions are typical operational decisions, as the effects of responses are usually felt the same day or within a few days.
It is often thought that a better forecast is the answer to a more profitable supply chain. The problem is that consumer demand is simply unpredictable at an operational level. It may be possible to predict how many T-shirts will be sold in a retail network in a season with an elevated level of accuracy, it becomes a lot more difficult to forecast how many units of the blue short-sleeve T-shirt in size M will be sold in one week in July in the Amsterdam store. When Rates of Sale (the number of units sold in a week) are as low as they are in the fashion- a sporting goods sector, adding or subtracting even one or two units of inventory to the supply chain to retail can make the difference between making a profit and making a loss.
Another, better way is to calculate, for each SKU (Stock Keeping Unit, or a unique item in a unique location) its probability to make or lose money for each next delivery cycle. A good response therefore considers, every day, for each SKU the value of that SKU in driving sales, the cash lost from having too many or too few, the lead-times, the volatility of supply and demand, the stock on hand and what is on the way. Supply chain constraints also need to be factored in (such as pack sizes and ‘economic’ order batches), to calculate ideal inventory levels and how many units to ship.
Simple, but not easy. Especially when the retail network consists of hundreds of locations, carrying thousands of unique SKUs per location, requiring hundreds of thousands of decisions every day.
Tactical metrics are based on a longer timescale than operational ones (but not much longer) and consider multiple transactions. Tactical metrics trigger tactical actions, like adding or removing a product from the store’s assortment, renegotiating a contract, or setting up cost-saving measures.
On a tactical level, three things can go wrong:
- Inventory Turns decrease (too much stock tying up capital),
- Stockouts and lost sales, as a percentage of total sales, increase,
- Operating expenses increase at a higher rate than gross margins do.
A decreasing Turn is either caused by a slow-down of sales or by an increase of stock. These in turn (excuse the pun) can be caused by new collections cannibalising the current assortment (too much choice), lead-times getting longer, or sales becoming less predictable.
High stockouts (as a percentage of sales) are always caused by supply not keeping up with demand. When operating expenses increase at a higher rate than gross margins, the activities generating the expenses do not increase the throughput of the system as a whole. This can be caused by spending money on the wrong things (not on flow-constraints), or by spending more than is gained (e.g. shipping twice daily may have some value, but the costs are much greater).
Whatever the cause of success or failure to meet tactical KPIs, most companies know how to respond: buy more, buy less, or even cancel orders, mark goods down, delay or bring forward new product introductions, source locally, set higher safety stocks for fast movers, or approve or deny requests for more expenses.
The strategic perspective defines how well the company is tracking toward its objective of reaching the envisioned future. While ‘a high ROI now and in the future’ is an obvious strategic objective, other strategic objectives can go beyond ‘making money’ and help motivate the company and its employees with a genuine purpose. At Retailisation, that purpose is “to eliminate all waste from the world’s consumer goods supply chains”.
Staying on focus
ROI is still the most important metrics for shareholders, but it is not a metric to run the business by. Like the Balanced Scorecard, it is not actionable. Rather, the business needs to maximise Throughput (T) while controlling Operational Expenses (OE) and Inventory (I). So, throughput is the main driver, but it should not be increased at the sacrifice of company profitability.
In other words: throughput is maximised when returns start to diminish.
For KPI’s to be ‘useful’, they need to be both actionable and integrated. ROI is not actionable; Throughput, Inventory and Operational Expenses are, and together, they drive the company result.
Performance KPIs at Retailisation
Retailisation’s software gives immediate insights and actionable reports based on KPIs for the Responsive Supply Chain, broken down into operational and tactical metrics, with notifications to the users to respond appropriately. Fed with data, the Retailisation algorithms continually crunch the numbers, generate instructions, and provide intelligent insights and actionable information via a dynamic dashboard and a set of standard reports.
Most importantly, the Retailisation KPIs are integrated, and suggested actions are always aimed at improving the throughput of the system as a whole.
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