Feb 17, 2020
Inventory classifications – your first step towards better inventory health.
From the moment we are born, we are classified in some or other way. As we go through life, the classifications continue, and this data becomes vital for companies to determine whether we are their target to sell or market to and what our level of risk is. For example, a life insurance company looks at data about our age, sex, demographics, and hobbies so they can make a prescriptive decision base on our level of risk before they quote us for life cover. The risk profile of a 45-year-old female who goes to book club each week will look at lot differently to the risk profile of a 25-year-old man who’s an avid skydiver. The two premiums quoted will be a lot different.
This same analogy applies to your inventory items. They all have their characteristics and based on these characteristics, we determine how they should be viewed or treated. They all have their life cycles, and some may be dependent on others as part of finished goods. Depending on what type of business you operate, you will determine the best way to classify your items, but most of the time, selecting a single criterion for classification is not enough to give you a reliable result. Once you have classified your items, you will have complete visibility and can quickly see the items that bring you the most turnover, ones that are dependent on each other, and those items that may be borderline obsolete. This information is critical when setting your inventory policies.
The ABC analysis is a criterion that is most often used by inventory planners. This analysis is based on the Pareto principle – better known as the 80/20 rule, whereby 20% of your items give you 80% of your sales. A = highest value, B = medium value and C = least value. However, using this information on its own has its downfalls. A high-value, low volume item like a car engine is planned and managed in your inventory system far different from that of a low-value, high volume items like nuts and bolts, even if the annual turnover is the same. By overlaying the ABC criterion with a 2nd criteria, you get a better picture of your inventory. With Sage Inventory Advisor, we use a 2nd criterion, the HML analysis, which is based on sales velocity H = high, M = medium, and L = low. Merging your ABC and HML data, you can easily see that an AH item is the most critical item as it’s a fast-moving, high-value item that makes up the bulk of your sales – you want to be extra careful not to run out of stock. Once your items are classified, you can begin to judge them on their characteristics and set up your inventory policies to match.
Besides all the inventory management tools available today, companies are still using spreadsheets to try and manage this function. Consider for a moment how complex your spreadsheet needs to be IF it were to give you what an inventory management tool gave you. Perhaps setting up ABC criteria is simple to do in a spreadsheet, but as soon as you introduce the 2nd classification set, it’s evident that a spreadsheet is not the most suitable choice. Besides the formulas and macros, the chance of human input error is high, not to mention how time-intensive it becomes from a data re-entry and update viewpoint. There is no denying that spreadsheets have their place as a business tool, but should they be used to manage inventory complexities?
Classifying your items is your first step towards better inventory management. By using Sage Inventory Advisor, you can effectively set up your classifications and then your inventory policies using sales history and supplier’s performance from your Sage ERP solution. Once all the data is in and has run through the numerous algorithms, you receive a dashboard summary that allows you to manage your inventory proactively. Alerts are provided to indicate where, for example, an AH item is in crisis and needs attention.
Here are just a few of the many business benefits you will derive by using an inventory management solution like Sage Inventory Advisor.
- Focus on the inventory that counts
- Better deployment of your capital through data insights
- Identify and resolve potential stock-outs before they happen
- Low impact items can be managed automatically in the system, freeing up your time to handle critical items
- Increased profits due to better-utilized employees and money
Accurate item classification forms the foundation of your entire inventory management process and, if not done and managed correctly, can cause significant inefficiencies throughout your entire operation. If set up and managed successfully from the start, you will see optimal inventory efficiency that will stimulate higher returns.
Please take a look at our short video that explains the Sage Inventory Advisor classification way