Proper inventory management is one of the most important things you can do to ensure your business's longevity for years to come. Receive accurate and timely analytics with Shypyard's robust inventory management system so you can make smart decisions about your business’s future.
In our previous article, we introduced the basic concepts of eCommerce inventory management and discussed why it’s so important for business success. This article will dig deeper into how to track the most important metrics related to inventory management so you can develop an effective, data-based management strategy.
Inventory Management Must-Haves
As previously described, inventory is the core of your business. Managing inventory well can enable you to make better strategic decisions and propel your business forward. The first step in making better inventory decisions is understanding your current position. To help yourself do this, look at key performance indicators (KPIs).
Inventory KPIs are quantitative goals you hope to reach in your supply chain during a certain time frame. Having inventory metrics like these can help you monitor your stock, define trends, and make better purchasing decisions.
More important than having metrics is tracking the right ones. The metrics you choose may vary greatly depending on the specific industry and business type your shop falls under. For example, eCommerce dropshippers can expect entirely different metrics than smaller brick-and-mortar based businesses.
When choosing inventory metrics, look for those that paint a complete picture of your business and help you forecast trends accurately. Along with tracking individual metrics, you should also consider integrating inventory management software like Shypyard. Software for inventory management for eCommerce like this can track key metrics, provide smart analytics, and communicate business needs.
Here are twelve of the most common and informative inventory management metrics, so you can select and start tracking those that will be most helpful for your business. They’re divided into three categories: basic inventory KPIs, sales inventory metrics, and operational inventory metrics.
Basic Inventory KPIs
The first metrics on the list are basic metrics that most every eCommerce business owner should keep track of.
#1. Gross Margin Return on Investment
This metric is a profitability ratio that can help you answer general questions regarding money made back on inventory. It can indicate how well your business is balancing sales and costs. In general, your gross margin return on investment (GMROI) represents your ability to turn inventory into cash.
Gross margin / Average inventory cost
A margin of 1 or higher indicates your business is selling its products for much more than what they cost to acquire. Margins below 1 indicate that you should slim down on inventory costs. Negative margins indicate that you’re spending more money on inventory than the money you make in sales.
Understanding what this ratio means can help you reduce the amount of unused inventory you carry so you can reinvest funds in a way that will meaningfully benefit your business. In the long term, seeing GMROI figures for specific products can help you decide what to stock up on, and what items to discontinue.
To improve your gross margin return on investment, we suggest...
- Finding cheaper suppliers or outsource certain tasks
- Raise store prices
- Buy inventory in bulk to reduce economies per scale
#2. Inventory Shrinkage
Imagine you have $500,000 worth of inventory recorded on your balance sheet, but find after doing inventory that you actually only have $480,000.
Inventory shrinkage represents the difference between the stock recorded on the books (e.g. accounting records), and the actual stock available. This can occur when products are damaged, stolen, or misplaced.
As a dollar value: Recorded inventory value – Physical inventory value
As a percent of shrinkage: (Recorded inventory value – Physical inventory value) / Recorded
Using these calculations, we can find that the inventory shrinkage of the business in the above example was 4%.
According to a 2018 survey done by the National Retail Federation, the average inventory shrinkage rate was 1.38% across all businesses. This figure is quite high as it takes into account all sectors of retail, including brick-and-mortar businesses which may experience shrinkage rates of up to 3%.
For eCommerce businesses in particular, we recommend comparing your shrinkage rate to the median: 1%. If your business has a lower shrinkage rate, you're doing well. Higher values indicate that you may want to reevaluate operational procedures.
Measuring shrinkage can help you see how your business compares to other retailers. In addition, it can point you in the right direction for ways to improve in your supply chain.
To improve your inventory shrinkage ratio, we suggest...
- Offering detailed employee training to reduce theft or misplacement
- Implement an inventory tracking system or software, such as Shypyard
- Implement tracking systems at different stages in your supply chain cycle
#3. Lost Sales Ratio
The lost sales ratio is used to evaluate sales you missed out on, and the value of your stock. It represents your ability to stock and sell the inventory that your clients want.
Number of days a product was out of stock / 365
This calculation works best for individual products, as it allows you to see what’s in highest demand. There’s no specific figure for benchmarking, as this ratio will vary greatly depending on your business and products. But in general, a high lost sales ratio suggests that your business struggles to forecast demand and does not have the required inventory to meet customer desires. A lower ratio indicates you manage your supply chain well.
While this ratio may seem disheartening at times, it can also show great potential for growth. Plus, if you have a higher ratio, it may indicate that your products are in high demand and that your marketing campaigns are effective.
To improve your lost sales ratio, we suggest:
- Identifying out-of-stock inventory
- Purchasing safety stock
- Calculating reorder points for popular items and purchasing early
- Offering a wait list for people who hope to purchase an out-of-stock item
Using a trend-forecasting tool like Shypyard to help with inventory forecasting
#4. Customer Satisfaction Rates
Your customer satisfaction rate is a loyalty metric that can help you understand your customers' experiences with your store and products. Using this metric requires you to have a scale (typically five points) on which clients evaluate their experience with your store.
((Total number of 4 and 5 responses) / (Number of total responses)) x 100
By evaluating the number of positive ratings you get, you can understand how your product is received in a wider scope. This can help you identify areas to improve as well as next steps for your business.
Good customer satisfaction rates are above 75%, and ideally 100%! Having high customer satisfaction rates will lead to greater customer retention, which means more loyal customers over the long term. On the opposite end of the spectrum, dissatisfied customers have power. According to data by ReviewTrackers, 94% of consumers say a bad review has convinced them to avoid a business. Improving the customer experience can give your brand the credibility to draw in new clients and boost brand awareness.
Valuable Sales Inventory Metrics to Track
In addition to the key performance indicators described above, here are several, more specific metrics you may want to track. The options listed below might fill in the gaps in your analytical process and provide a clearer overview of all moving parts.
#5. Inventory Days
Proper inventory management is one of the most important aspects of ensuring the longevity of your business. If you overstock on inventory, you risk wasting your cash flow—but if you don't carry enough stock, you risk running out of a product consumers love and losing out on potential revenue.
Inventory days looks at the average number of days it takes for a business to turn stock into sales. This varies depending on the industry you’re in. Fast-moving consumer goods and perishables have much lower inventory days than companies selling larger products, such as apparel and luxury items.
($ of available inventory / Monthly cost of goods sold) * 30
For retail and eCommerce businesses, the recommendation is 30 inventory days. (To compare: For restaurants and cafes, it’s just three days.) Keeping track of this metric can show you how efficient your business is. However, note that market fluctuations and trends may drastically impact the accuracy of this metric. Many clothing brands experience overnight success, for example, and global events may also shift this balance at any time.
#6. Sell-Through Rate
This metric is a comparison of the inventory sold to the amount of inventory purchased. Your sell-through rate reveals how quickly you’re turning inventory into sales during a specific time period.
Units sold / Total units received
A good sell-through rate can range from 40% to 80%. According to Accelerated Analytics, fast-moving consumer goods typically experience yearly sell-through rates of 86.3%, while cosmetics brands only experience 47.8%. A low sell-through rate indicates money is tied up in inventory, which may lead to dead stock.
While this metric can indicate that there are problems with inventory management, it doesn’t pinpoint specific areas. Also: If you’re looking at units received in smaller periods of time (eg: 8 weeks), this metric may be influenced by market trends.
#7. Weeks on Hand
An extension of the inventory turnover rate, this KPI provides an overview of the longevity of your business. Weeks on hand (WoH) represents the average time required for you to sell inventory on hand.
Accounting period / Inventory turnover rate
This calculation can help you understand your average inventory lifetime and balance inventory levels and customer demands. Having a lower WoH indicates you can quickly move inventory out of warehouses and into the hands of clients.
Valuable Operational Inventory KPIs
On the operational side, there are several KPIs you can track to ensure your supply chain is running smoothly and you're maximizing profits at every corner.
#8. Inventory Turnover
Let's say you run a retail store with $10,000 worth of inventory and a COGS of $50,000 in a year. When do you replenish stock? How often should you repurchase raw materials?
Your inventory turnover rate, also known as stock turn, answers this question. This metric measures the number of times stock is sold through, or used, in a certain time frame.
Cost of good sold / Average inventory
In our example above, the brand had an inventory turnover rate of 5, meaning they sold out of inventory five times a year. Generally, a higher inventory turnover rate is considered a good thing, as it represents that you have lean operations. However, it may also indicate that you carry too little inventory to support the volume of your operations.
Generally, you can check your lost sales ratio to validate your inventory turnover rate. If you have a low lost sales ratio and a high inventory turnover rate, your inventory operations are extremely efficient.
#9. Inventory Carrying Cost
Managing your supply chain comes with hundreds of moving parts including risk costs, capital costs, and service costs. Your inventory carrying cost is a percent of all inventory overhead costs divided by the total value of your inventory.
Inventory costs / Total value of inventory
Your inventory costs should be around 15-20%. A higher cost percentage indicates that you’re spending a disproportionate amount of money managing inventory, while a lower ratio indicates that you’re effectively managing your supply chain.
#10. Order Cycle Time
Your order cycle time (OCT) is a metric that measures the average time required to fulfill orders. This efficiency ratio can help you determine how responsive your business is to client orders. In a world where one-day shipping is common, it’s essential you complete operations in a timely manner.
Total orders fulfilled in a time frame / Time frame
Companies with shorter OCTs are better at responding to customer orders, while those with longer lead times may have unhappy clients. Despite this general concept, there’s no ideal order cycle time because it varies widely among different businesses. Companies that manufacture and produce all products in-house will have longer OCTs, while dropshippers and larger retailers may experience shorter OCTs. Still, looking at your OCT can help you approximate if there are ways to slim down your business and make it more efficient.
#11. Order Lead Time
Similar to the order cycle time, order lead time measures time after receiving an order. However, order lead time takes into account the entire time it takes for a customer to receive their product, while OCT only accounts for the fulfillment time.
Order lead time represents the average length of time that passes between a customer placing an order and the order being shipped.
(Time order is shipped from the fulfillment facility – Time order is placed by the customer) / (Total number of orders shipped)
According to a 2021 study by PwC, 41% of consumers are willing to pay for same-day delivery. That's almost half of all consumers!
As people become more fixated on receiving products quickly, larger retailers have begun offering same-day delivery, sometimes delivering products within hours of purchasing. It's important you can match this demand as best you can. While it may be unrealistic for your business to ship products within hours, you should look for ways to improve and optimize your shipping processes. This may include shipping directly from vendors, outsourcing transportation, and choosing more expensive shipping rates.
#12. Cost Per Unit
Cost per unit refers to how much your business spends producing one unit of product. Looking at this metric can give you an idea of what you need to be profitable.
(Total fixed costs + Total variable costs) / Total units produced
Running a successful business requires slimming down your costs as much as possible, especially in your internal operations. As a result, a lower cost per unit ratio is better. There’s no straightforward way to evaluate this metric as good or bad, however, because it doesn’t take into account your final product price. Still, cost per unit can be used to find the minimum number of products that must be sold for your business to be profitable (the breakeven point).
Shypyard and Inventory Management
We recommend keeping track of all 12 of these eCommerce inventory metrics and using them to help you make the right decisions in sales, marketing, and other areas of your business.
To simplify the process of tracking and managing your KPIs, consider using an inventory management solution like Shypyard. Shypyard provides customized inventory planning capabilities, as well as integrations with any 3PL, WMS, or inventory management system. It can help Shopify operators of all sizes create a customized inventory management service that meets their needs.
If you are using other platforms such as WooCommerce, BigCommerce, or Amazon, please write to us at firstname.lastname@example.org with your specific needs and an e-commerce specialist will be in contact with you!
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