Inventory Optimization


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How Inventory Optimization can increase a company’s bottom line.

Published in: Business, Technology
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  • Inventory Optimization

    1. 1. Supporting Organizational Continuous Improvement Initiatives with Inventory Optimization Drew Forte Director of Supply Chain Improvement, FORTE
    2. 2. Agenda <ul><li>Defined: Inventory Optimization </li></ul><ul><li>Calculating an Accurate Carrying Cost </li></ul><ul><li>Classifying Inventory </li></ul><ul><li>Total Delivered Cost </li></ul><ul><li>Example: Business Case </li></ul><ul><li>Key Performance Indicators </li></ul><ul><li>Value and Benefits </li></ul><ul><li>Questions </li></ul>|
    3. 3. Definition: Inventory Optimization | <ul><li>Balancing inventory within the supply chain to achieve targeted customer service levels while minimizing supply chain total cost </li></ul><ul><ul><li>Inventory includes base and safety stock for finished goods, raw and WIP </li></ul></ul><ul><ul><li>Targeted Customer Service is a quantitative target such as day sales, turns, fill rate, etc. </li></ul></ul><ul><ul><li>Total Cost is the scope of cost components used to balance the targeted customer service level with total delivered cost </li></ul></ul><ul><ul><ul><li>Financial targets </li></ul></ul></ul><ul><ul><ul><li>Asset Management </li></ul></ul></ul>
    4. 4. Calculating an Accurate Carrying Cost | Observation: If inventory carrying costs are perceived low, more inventory will be carried. <ul><ul><li>“ Rule of Thumb” estimate applied across the board could result in bad inventory management decisions </li></ul></ul><ul><ul><ul><ul><li>Driven by automated Economic Order Quantity (EOQ) </li></ul></ul></ul></ul><ul><ul><ul><ul><li>EOQ = sqrt( (2 x order cost x demand) / carrying cost ) </li></ul></ul></ul></ul><ul><ul><li>Varying carrying cost for individual products or product families (more work but more effective inventory management) </li></ul></ul><ul><ul><li>Not uncommon to have inventory carrying costs in the 12% to 35% range </li></ul></ul>Expense Level Receiving & Repositioning Product or Family Rent/Utilities Product or Family Shrinkage and Obsolescence Product or Family Physical and Cycle Count Product Class Insurance and Tax Average Inventory Working Capital Cost Average Inventory
    5. 5. Classifying Inventory | Observation: Strategic inventory planning classifications must be aligned with tactical planning processes to assure success <ul><ul><li>Best to pick customer service versus operational or financial measurements </li></ul></ul>Classification Description Pro Con Gross Margin Average sales minus total delivered cost Hits the bottom line the fastest <ul><li>Could hurt new products </li></ul><ul><li>Not supported by traditional accounting </li></ul>Carrying Cost Average inventory times cost to carry inventory Targets SKUs that drive inventory costs <ul><li>Included in gross margin approach </li></ul><ul><li>Does not take into account other supply chain costs </li></ul>Usage Order line hits Targets handling costs Does not take into account other supply chain costs Variability Forecast error Enables fill rate strategy that targets customer service <ul><li>Requires ERP enabled processes </li></ul><ul><li>Higher level of supply chain competency </li></ul>
    6. 6. Classifying Inventory | Variability of Demand B C A Low High Gross Margin Medium <ul><li>Base and Safety Stock Strategy </li></ul>Exit <ul><li>No Safety Stock </li></ul><ul><li>Made to Order </li></ul><ul><li>Change Service Level </li></ul><ul><li>Postpone </li></ul><ul><li>Made to Order </li></ul>
    7. 7. Total Delivered Cost Source Deliver Make Customer $ P1 $ T1 $ S1 $ R1 $ DC1 $ PW1 $ FGINV1 $ PWINV1 $ RMINV1 Total Delivered Cost = $ PW1 + $ PWINV1 + $ R1 + $ FGINV1 + $ DC1 + $ O1 Plan t P1 t T1 t S1 t PW1 t R1 t DC1 Total Mfg Cycle Time = t P1 + t T1 + Mfg t Total Customer Order Cycle Time = t R1 + t DC1 + t O1 $ O1 t O1 Simple Network – Plant Warehouse and DC Inventory
    8. 8. Total Delivered Cost Total Delivered Cost = $ PW1 + $ PWINV1 + $ R1 + $ FGINV1 + $ DC1 + $ O1
    9. 9. Example | <ul><li>A specialty chemical company successfully reduced distribution and inventory expenses while maintaining a high level of customer service for core product offerings: </li></ul><ul><ul><li>Problem: Low inventory turns and excessive inventory write-offs caused financial management to challenge a 98% inventory fill rate policy. </li></ul></ul><ul><ul><li>Solution: Analysis of inventory drivers and planning process review found “sweet spot” for cutting inventory in half. Inventory was classified and marketing was engaged to de-list slow moving product and change customer service levels on lower contribution product. </li></ul></ul>
    10. 10. Example – Speciality Chemical Company | Gross Margin Pareto * Note: 338 products delisted Gross Margin Products* % Products Order Hits Weight Stnd Cost Sales 25% 28 2% 19% 24% 26% 25% 50% 102 8% 40% 43% 44% 48% 75% 274 20% 62% 66% 68% 73% 90% 525 39% 78% 78% 84% 88% 100% 1,350 100% 100% 100% 100% 100% 15,297 26,030K $11,000k 32,000k
    11. 11. Inventory analysis of BASE case and scenario C017 assumptions further reveal working capital opportunities through rationalization of:  ABC product classification schema  Inventory fill rates  Stock versus make-to-order * M ade T o O rder Iterative Process - Example Variability of Demand Versus Forecast Example – Specialty Chemical Company (continued) |
    12. 12. Over 126 simulations have been run to date. Distribution center location scenarios of particular interest are: <ul><li>* Includes prepaid and add transportation and </li></ul><ul><li>plant-warehouse operation expense. </li></ul>Iterative Process - Example Example – Specialty Chemical Company (continued)
    13. 13. Key Performance Indicators End-to-End Process Metrics Level 1 Metrics Level 2 Metrics Metrics Are Linked to Sub-Activities and Rollup To Executive View Target Setting Policy Setting Target Attainment
    14. 14. Continuously Improving | Low Weekly Inventory Flash Report Supply Chain Planning Targets to Achieve Policy A Target vs Actual Target vs Actual Target vs Actual Component Target Actual Service 98% 98.20% Base $8,249,678 $8,208,430 Safety $6,407,250 $6,375,214 Replenishment 96 Hours 93.75 Hours Target vs Actual Target vs Actual Target vs Actual Target vs Actual Target vs Actual Target vs Actual
    15. 15. Benefits and Typical Savings <ul><li>Benefits of Network and Inventory Optimization Include: </li></ul><ul><ul><ul><li>Desired customer service achieved </li></ul></ul></ul><ul><ul><ul><li>Reduced operation cost/enhanced profitability </li></ul></ul></ul><ul><ul><ul><li>Increased asset utilization </li></ul></ul></ul><ul><ul><ul><li>Increased competitive advantage </li></ul></ul></ul><ul><li>Typical service enhancements and cost savings: </li></ul><ul><ul><ul><li>Service: Consistency and/or improvements to 99% range </li></ul></ul></ul><ul><ul><ul><li>Inventory: 5 to 35 % reduction in investment </li></ul></ul></ul>|
    16. 16. 3 Things Your Company Should Review <ul><ul><li>Are service levels defined and followed? </li></ul></ul><ul><ul><li>Can company fine tune inventory to reduce working capital? </li></ul></ul><ul><ul><li>What inventory reductions would attract management attention? </li></ul></ul>|
    17. 17. Thank You! Drew Forte Director Supply Chain Improvement, FORTE [email_address]