Why Classify Inventory?
Classifying inventory is one of the most basic, yet essential and strategic parts of inventory management. Classifying inventory allows business owners to focus on items that make the most impact on their business goals while identifying (and potentially removing) items that aren’t contributing to the bottom line, selling or are obsolete.
Beyond simply identifying items as revenue-generating and dead weight, classifying items provides a better way to assign service levels to meet target fulfillment rates. The classification also simplifies the assignment of safety stock inventory (dollars of investment) to each item based on its contribution to the organization. Alignment of service levels to the various classifications of inventory will unite execution with strategic intent. This will mean happy customers and happy customers mean repeat business and recommendations.
Lastly, classifying inventory helps streamline your inventory management processes. With more predictability and less fires to put out, business owners can focus on the future rather than the now.
Inventory Coach Tip: Classifying inventory, also know as SKU rationalization, provides additional benefit through focus on items that contribute and elimination of distractions on items that carry less importance. Your teams will be more effective with their time spent managing inventory.
Is My Inventory Classified Correctly?
There are a number of issues that can occur when items are not classified properly. Below are some trigger questions that might help identify classification problems in your inventory. In the last 12 months:
- Where items in your inventory that should not be ordered, ordered?
- Are the quantities of items that have been ordered correct? Are you left with too many (excess stock) or do you run out too soon (stock-out)?
- Does it take your team too much time to run through the inventory management process?
- Are your target fulfillment rates and safety stock level applied to all items instead of individualized based on demand? (Do you have target fulfillment and safety stock levels?)
Inventory Coach Tip: A common but costly approach to establishing safety stock is often applying a days of supply to each item. This blanket approach may be easy to assign and administer but often contributes to too much inventory on predictable items and not enough (stock outs) on items with less predictable sales.
How Can I Improve My Inventory Management Classification Process?
The facts is that each business owner has unique inventory management needs based on a number of different business goals. Ideally, an inventory management consultation is the best, most effective route to take to improve efficiencies and increase revenue. However, below are a few general guidelines that most business owners can benefit from.
- Identify obsolete items that are inflating your inventory unnecessarily. A general rule of thumb is that items that have not sold in 24 months should be considered for the “Obsolete” classification.
- Next, identify items that have not sold in the last 12 months and consider them for “Non-stocked” classification.
- The rest of the items are selling and triggering orders consistently and will be classified as A, B, or C items.
- Compute high, medium, low velocities of the items.
Classifying items as A,B, or C involves a few calculations to identify cutoff points and ends with identifying the 20% of your stock that produces 80% of your revenue, or margin. This helps business owners focus on the highest producing items, to ensure they are properly stocked. The problem with only classifying products using the A,B, or C method is that it doesn’t account for cheap items sold at a high rate. Including unit sales, or velocity, will ensure that these items don’t get improperly classified and cause issues with stock-outs.