Inventory management – being good at it

By Peter Cox October 12, 2015 Industry news

Over the last 12 years of writing in this magazine I have repeatedly banged the drum on improving inventory management.

In almost any town, hardware stores traditionally have the lowest stock turn. Why? Because of the range of products they carry to satisfy the customer’s hardware needs and expectations.

But feedback from readers tells me that some of you have taken up the challenge and have substantially increased your stock turns, releasing cash for investment in such areas as new lines, staff, premises and dividends to shareholders, to name just a few.

A lot of the increases in Stock Turn I am hearing about have come about by eliminating the “dogs”, that is products you have not sold one unit of over the last 12 months.

Yes you can take a hit in profit but, when it finally leaves the store, it frees up shelf and floor space for other products and new lines.

Then there are what I call problem lines. These products are lines that customers do not necessarily associate with hardware / trade stores and are sold by other businesses which cover a greater range.

The most common example I have come across in a hardware store is giftware for example but please note every store is different.

Some stores have also achieved a better Stock Turn by taking a really good look at the depth they have in inventory of their best sellers, for example cement.

 

HOW MUCH IS TOO MUCH?

Having said all this, you can go too far. How? By constantly running out of stock, particularly with your “cash cows” (low margin and high stock turns) the basic hardware and building products customers are coming into the store to buy and “star lines” (high margin and high stock turns), i.e. add-on products like paint accessories, fasteners etc.

The danger in running out of these lines are:

  • The shelf looks empty.
  • The store looks empty.
  • The customer does not come back.

The Key Performance Indicator in inventory management is what I call the Stock Productivity Index (SPI) or as some readers refer to it as the Gross Margin Return on Inventory (GMROI).

The calculation I use is: Gross Profit Margin x Stock Turn. The target I use is 150 points.

Let’s look at a case study. If a product has a Gross Profit Margin of 30% it needs 5 Stock Turns xpa (times per annum).

If the Cost of Sales for the product is $1,000 for the year, then the Target Stock Holding is $1,000 ÷ 5 which equals $200. If the product has a unit cost of $10 then the Target Stock Holding in units is 20 units.

How to identify potential stock-outs? When the actual stock turn of say a competing product with same unit cost, Gross Margin and Cost of Sales of $1,000 for the year is not 5xpa but say 20xpa.

That means the stockholding is $1,000 ÷ 20 Stock Turns, which equals $50 in stock holding (that is 5 units in stock at a cost of $10 each).

Whilst it is great to achieve 20 Stock Turns (and 20 Stock Turns x 30 % margin gives an SPI of 20 x 30 which equals 600 points), the alarm bells should start ringing.

In hardware I get concerned when products achieve an SPI greater than 250 points

 

HOW MUCH IS TOO LITTLE?

So – how to minimise stock-outs? Firstly you will never be able to manage the situation where a customer comes in and cleans you out of 1,000 bags of cement in one hit.

Now that may not be the norm, yet I am still surprised at the number of stores which set their minimum inventory point based on the largest purchase by one customer in one sale over the last 30 years!

You can do two things to help minimise stock-outs:

  1. Review your internal inventory management data – Hopefully your system reports SPI or GMROI. (If it does not, it should, so keep this on your shopping list for future point of sale systems.) Watch out for product lines with high results!
  2. Review your shelves – It should be mandatory that before the doors are open each day a deliberate visual inspection is made of each shelf to identify the gaps and therefore identify potential stock-outs.

Nothing sends a clearer warning sign to customers and suppliers of potential problems in a Hardware store than empty shelves and gaps on the shelves.

There is much to be said about the old industry proverb “You can’t sell it if you don’t stock it”. Inventory management is all about getting the balance right.

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Peter Cox is a senior consultant for Macquarie Advisory Partnership based in Sydney. He has over a decade of experience training and consulting in the retail hardware industry. He conducts key-note addresses, and management and sales workshops, which are aimed at improving profitability and liquidity in one of Australasia’s most competitive retail environments. Phone 0061 438 712 200 or visit www.petermcox.com.au

 

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