Measuring Supply Chain Performance

Doug Howardell
dhowardell@InventoryPerformance.com

Supply chain management is really about the management of inventories. Because you
can't manage what you can't measure, to excel at supply chain management you need an
excellent measure of inventory performance.
Inventory turns is the defacto measure of inventory performance for most supply chain
managers but it is not a very useful metric for those who are actually charged with
managing inventory. Turns is backward looking, based on historic cost of goods sold, so it
gives a score after the game is over. Turns doesn't say anything about whether current
inventories are good or bad, or whether they will be needed in the future or not.
Furthermore, it is difficult to calculate turns by the way inventories are actually managed: by
planner or buyer, by supplier, by product line, by location, etc.
Days of Inventory Outstanding (DIO) is also typically based on historical data, however,
some companies use projected sales as the denominator. DIO has the problem of mixing
cost and price in the same calculation which introduces other variables into the metric. Both
turns and DIO lump all of the inventories together and don't provide any insights as to where
performance can be improved.
Metrics should reflect what management is trying to accomplish. In managing inventories an
effective performance measurement should be:
1. Demand Driven. Whenever possible, inventory levels should be based on what we are
going to need in the future, not what we used in the past. This is particularly relevant in
today's changing economy.
2. Dollar Focused. Senior management measures inventory performance in dollars. Yet
all of our inventory management tools like ERP are planning part quantities. Management
does not care how many pieces are in the storeroom -- they care about how many dollars
are tied up in inventory.
3. Segmented. Different types of inventory should have different target objectives:
production inventory vs. finished goods vs. spare parts. Certainly, disparate commodities
like forgings and fasteners should not be lumped together or measured by the same
criteria.
4. Efficient. Not all inventories should be managed with the same level of effort. Dynamic
A-B-C analyses will identify the big dollar movers for tighter management and which C
items to put on auto-replenishment with different rules.
5. Accountable. Whether planners, buyers, product managers or supply chain managers,
each participant should have their inventory performance measured and tracked over
time to show improvement.
One approach, the Inventory Quality Ratio (IQR) which is described in detail at
www.InventoryPerformance.com, combines the above principles in a simple technique for
measuring inventory performance and managing inventory dollars. The IQR logic was
developed by the materials managers of 35 companies and was used by them to reduce
excess inventories $500 million while improving on-time deliveries. It is now being used by
over 3,000 planners, buyers and supply chain managers in manufacturing and distribution
companies worldwide to reduce inventories an average of 25%, most of it in the first in six to
nine months.
IQR works with any MRP, ERP or SCM system to identify active, excess, slow-moving and
no-moving inventories. In addition to calculating the ratio of active inventory dollars to total
inventory dollars for each inventory segment, IQR assesses the potential for inventory
reduction and then shows exactly were to get it. This will directly improve cash flow, free
working capital and increase bottom-line profits.