SKUs Me! An Inventory Story

There are only two problems with inventory – too much or too little.

In the private sector too much means capital is tied up, obsolete stock is growing, operations are threatened and margins are squeezed. Too little means the company runs out of goods to sell or to maintain equipment, customers find another source or binge buying occurs to avoid stock outs. Private sector business management is compromised with poor inventory management. Companies such as Dell recognized how postponement could alleviate inventory investment through JIT; Amazon has taken inventory and service levels to a whole new competitive arena.

In the public sector too much inventory creates similar concerns, although it is often not as financially concerning. Cash flow is seldom recognized as a fiscal problem. Inventory carrying costs can run 15–45% and interest rates are currently at historic lows. In the case of too little public services may suffer and many customers have few choices but to wait.

As the above illustrates, one of the areas in need of attention in the public sector supply chain is inventory management. Many public organizations do not measure inventory turnover rates, as inventory staff don’t see it as a key performance indicator. The skills required for good inventory practices are not as highly regarded as, say, negotiating the best price.

A few years ago, the inventory turnover rate for medical and surgical supplies in one Health Region was running at approximately 20 turns per year. Earlier this year I asked a health care manger within the same Region about their inventory turnover rate, and the reply was that turnover was no longer an issue – they never calculated it as it was not a priority.

This article is not a critique of public or private inventory management but illustrates how some leading practices can be adopted by any operation. In particular, we will examine cycle counts and turnover.

Daily cycle counts.
This practice has been in use for at least 30 years, yet we still find that many do not have any form of cycle count and still require an annual physical shut down to count SKUs. The count is then compared to the book value and repeated year-over-year. Could you imagine Amazon saying ‘we are shutting down for 3-days at year end to do a physical count’?

The benefit of cycle counts is knowing much more accurately what you have in stock and improving business processes.

Some of the questions I encounter on this topic include:
1. What are the basics of a daily cycle count?
2. If we don’t count all the SKUs every day, how can we count all of the inventory items?
3. Won’t auditors object?

Let’s look at an example:
You have 500 SKUs in inventory. The total value of the inventory is $225,000. Which SKUs are most important?

The A-B-C analysis is:
A SKUs are 20% of volume and ~70% of investment
B SKUs are 30% of volume and ~25% of investment
C SKUs are 50% of volume and ~5% of investment

A SKUs = 100 and are valued at $157,500
B SKUs = 150 and are valued at $56,250
C SKUs = 250 and are valued at $11,250

The rule of thumb for ‘A’ SKUs is to count these monthly; ‘B’ SKUs are counted quarterly; and C SKUs are counted twice per year.

So, using our example:
For ‘A’ items, if we work 20 days per month we need to count (100/20) = 5 SKUs per day; we only count 5 ‘A’ SKUs and reconcile to the book value daily. If we count and reconcile a different group of 5 ‘A’ SKUs each day, we will have counted all the ‘A’ SKUs, once per month. The reconciliation catches the order filling and replenishment errors on a daily basis.

For ‘B’ SKUs, working 60 days per quarter (150/60) = 3 ‘B’ SKUs must be counted and reconciled each day. Every quarter we will have counted all the ‘B’ SKUs.

For the ‘C’ SKUs, working 120 days per 6-months (250/120) = 2 ‘C’ SKUs must be counted and reconciled each day. This means that we will have counted all the lowest value inventory items twice per year.

Based on my experience most public sector organizations could even reduce the count for A, B and C SKUs by half – in other words, using our example, only count 3 A SKUs per day; 1 B SKU per day; and 1 C SKU per day. Following a relatively easy to implement daily cycle count will lead to better inventory management practices and eliminate the annual inventory physical count utilizing existing staffing resources.

Inventory turnover rates:
This key performance indicator is critical to private sector organizations. Although public sector does not record ‘sales’, the standard formula can easily be adapted for public sector by instead recording the value of goods issued, which is a routine report generated by the most basic ERP system.

Value of Goods Issued/Average inventory.
$620,000/$130,000 = 4.76 turns per year.

The average inventory is calculated by using the Opening inventory value + the Ending inventory value divided by 2.

There is a great opportunity for public sector organizations to do benchmarking on the inventory practice of daily cycle counts and inventory turnover. Benchmarking by like sectors makes the most sense, such as a school district with another school district or cities of similar size and locales.

With some expertise in inventory turnover tracking, you will find you can target turnover rates, improve job satisfaction by having more accurate counts, and provide better services with fewer stockouts and a lower investment.