The most important KPIs for inventory management your business should track

Learn which KPIs are appropiate for your business

The retail industry already knows it: Better inventory management = faster growth.

But inventory management is a complex matter, involving different steps from the moment you place an order with your supplier until the product reaches your customers' hands.

The simplest trick to improve it is to monitor the performance of your inventory.

And just like with all things related to performance, defining Key Performance Indicators (KPIs) is a good starting point. You can use them as your compass to determine how close you are to reaching your goals.

In this article, you will learn all about inventory management KPIs: how to choose them, which are the best to track, and why they are important.

5 tips for choosing the right KPIs for inventory management

There is no strict rule for choosing the right KPIs for inventory management. However, they should be as specific, measurable, achievable, relevant, and timely as possible. Follow these suggested tips when deciding on the best inventory KPIs for your organization.

Review your company's strategic objectives

If KPIs are the compass, strategic objectives are the destination. For this reason, aligning metrics with your objectives is crucial for achieving tangible results.

First, identify short-term goals that you hope to achieve in the next month or quarter. Do you want to increase your sales? Set a specific and achievable amount for each season.

For long-term goals, the following question can serve as your North Star: What do you expect to achieve in the next three to five years?

As your business changes, make sure that both short-term and long-term goals remain relevant.

Discard vanity metrics for performance metrics

Vanity metrics include numbers that generate a positive feeling but do not contribute to achieving your goals. Positive KPI results alone do not indicate that you are on the right track. Instead of vanity metrics, use actual performance metrics to avoid distractions.

Consider this: a 100% service level index (i.e., orders delivered divided by orders received) is a dream, right?

You never run out of stock, so you consider it a good sign. This could also be due to unnoticed inflated inventory, which could negatively impact your bottom line. There's nothing wrong with measuring your service level, but you should include other KPIs like storage cost and turnover.

These inventory management KPIs are better at showing you a realistic view of what's happening in your inventory.

Consult with your warehouse manager and inventory staff

Diagnosing your current performance is a practical way to determine your KPIs. Do this step by observing your operations firsthand.

Is your team dealing with inefficient controls and processes? Ask for their opinions and identify key people involved.

For example, you can break down your KPIs to the individual level instead of calculating averages by teams. This will make them more accountable and help the right person take necessary actions.

Limit the number of KPIs you measure

KPI overload can lead your organization downhill instead of uphill. Imagine tracking over 100 inventory KPIs, do you have the time and patience to review them?

Even if you do, it's still counterproductive and hardly sustainable in the long run.

Go back to your strategic objectives and select your three current priorities from that list. Then, craft at least three inventory management KPIs for each. The more you limit your KPIs, the more specific, measurable, achievable, relevant, and timely they will be.

Review, review, and repeat

Changes in your organization or team objectives are inevitable. That's why reviewing your KPI results, perhaps with a scorecard or dashboard, is crucial to the process.

Are your current measures still appropriate for the goals months or years later? If not, consider replacing or retiring obsolete ones.

As your business grows, your inventory KPIs may no longer be as relevant as they were before. So, it's always a good idea to update your top inventory metrics to reflect your new goals.

What are the best inventory management KPIs to track?

Demand Forecast Accuracy

One of the most critical aspects of inventory management is getting your predictions right. Inaccurate forecasts result in dissatisfied customers, lower sales, and higher retention costs.

Therefore, we consider demand forecast accuracy the most important KPI for inventory management. Many of your business decisions are based on how well you predict the future demand for your products.

This KPI measures how well your forecast aligns with your actual scales. Is there a large disparity? When anticipated demand closely matches what was sold, it's a good sign that you can forecast demand well.

Measuring accuracy can be done in many ways. The two most common are:

Mean Absolute Deviation (MAD): Calculates the difference between actual and forecasted demand and averages it over the forecasted periods.

Mean Absolute Percentage Error (MAPE): Indicates how far off the actual quantity is from the forecast.

If there is a significant margin of error, it's best to address it head-on and start adjusting your forecasting processes or choose a forecasting tool that can improve your business.

Customer Satisfaction Levels

While customer satisfaction involves more than just inventory, it constitutes a significant part of the overall picture.

Out-of-stocks have led 39% of shoppers to abandon stores. Though you may still secure some of these potential sales, as 75% of surveyed millennials and 53% of Generation X shoppers left stores without purchasing, only to buy from the store's website later.

It's expected that these customers will look for alternative products. Besides compromising customer satisfaction, your bottom line may also suffer. Out-of-stocks were shown to cause the retail industry an impressive $1 trillion in lost sales.

Another inventory-related factor that you can do to improve customer satisfaction is offering diverse products, especially since 88% of respondents in the Google survey stated that product selection and variety are important when choosing a retailer. That's why we encourage our clients to maintain a healthy product portfolio.

There are many ways to calculate customer satisfaction: Net Promoter Score (NPS), Customer Effort Score (CES), and Customer Satisfaction Score (CSAT score), to name a few. But the easiest way is to conduct a survey. It will provide you with more than just figures, but also useful and practical insights from your customers.

Maintaining a steady availability of products and offering sufficient selection makes shopping with you more enjoyable for your customers, resulting in repeat sales and long-term relationships. Use this inventory management KPI to choose products that will keep your customers coming back.

Inventory Storage Costs

It's important to examine the cost of carrying and maintaining inventory, but it often goes unnoticed. However, using it as an inventory management KPI will help you understand how unsold inventory affects the bottom line.

Excessive storage costs can have a significant impact on profitability. In most industries, storage costs represent between 20% and 30% of the total inventory value. It becomes more expensive the longer an item is held.

Calculating inventory storage costs is complex because there are many factors to consider. But considering these expenses can give business owners an idea:

Storage space costs, including rent, electricity, security, repairs, and much more.

Capital costs, including purchase price, taxes, and other fees.

Service or operating costs, including transportation, insurance, and software tools.

A high inventory turnover rate will help keep these expenses low. Avoiding overstock and eliminating slow-moving and obsolete items helps improve