Inventory Accuracy in 60 Days
By Paul Deis
Do you have inventory accuracy problems? Typical symptoms:
Lots of inventory errors
Surprise backorders, unplanned shortages, "lost material"
Nobody believes the records-- numerous calls to "check" on availability
Air freight bill exceeds the national debt
Nasty financial reporting "surprises"
Lack of consensus on importance of accuracy
Lack of consensus on how to measure it
Inability to reconcile inventories, cycle counts
Error causes largely unknown
Weak/no company tradition of data accuracy
New systems/software implementation causing more confusion
Solution recommendations are presented as follows
Results are usually best when there is a bit of a crisis atmosphere established. Business as usual won't usually serve to get serious inventory accuracy problems fixed within two months. Sometimes a humbling blow, such as losing millions in an inventory "write-down", or an unfavorable "write-up" by a customer, is helpful to shatter the status quo and energize an organization to begin work in earnest on a solution. Top level executive action works best to motivate and mobilize people. At a minimum, perception of a costly problem is needed, with some realization of a need to correct it.
This article is also available on our website: PROACTION - Generating Best Practices. It is an excerpt of a paper originally written by George Miller, Founder of PROACTION. It has been modified and updated by Paul Deis, PROACTION CEO.
Try to tie company goals and objectives to project objectives, to help ensure that people buy-in to the project and will be measured and rewarded on the results.
Once the initial goals are attained, don't just declare victory and go home. Set up a lower key ongoing maintenance effort to ensure that the problem stays fixed and that further improvements are made.
An Executive Sponsor is needed, someone with the clout to keep resources and attention focused on the problem until completion. Results are usually directly proportional to the strength and commitment of the executive sponsor. Sometimes it's not possible to get a sponsor until a case is made that there's a problem.
A Project Leader and Multi-Disciplinary Team is required, preferably from Operations, Materials, Finance, Distribution and possibly, Process and Design Engineering (depending upon the problems identified). In a large organization, a full time project leader may be needed. People will be needed for inventory verification, cycle counting and reconciliation. The amount of manpower needed is dependent upon organization size, complexity and magnitude of the problem. For example, one 500,000 sq. ft. process plant with about 4000 items and 30+% inventory accuracy needed a full time coordinator, four full time cycle counters and two part timers for six months, tapering off after that. Often, consultants and corporate auditors participate to make projects more successful.
A Project Plan is needed, incorporating recommendations from this paper and other company-specific activities. This plan, along with a running list of accuracy related issues and actions, should be used to drive the project and focus efforts on activities needed to attain accuracy goals. Issues should be identified, put on a master issues list, assigned to appropriate personnel to solve, then discussed and tracked at every weekly meeting for the duration of the initial improvement project.
The plan should contain specific activities, responsibilities and dates. It needs to be followed and managed competently. Unless carefully managed, a substantial amount of project time will be spent trying to figure out what the problems are, and getting resources assigned to them.
Choose Your Battles
Realize that there are limited resources available, and that these cost money, so prioritize by tackling issues offering the best payback and those that can be won.
For one company, it was very hard to keep track of color concentrates, since they were ladled out of barrels, were kept out on the floor, and didn't cost all that much anyway. So, these and other similar items were placed on "two bin" order control and expensed, eliminating a whole class of inventory record problems with little more than a stroke of a pen.
Another firm had three storerooms. The first one contained fabrics for airline seats and was very well organized and well run, so minimal effort was expended to improve it. The second one was a poorly controlled raw material storeroom with a short-timer supervisor about to retire. Material lead times were only a few days, so the effect of errors was less serious. We elected to wait out his retirement, which was only a couple of months away. The third storeroom contained purchased parts and specialty fabrications. Lead times were long, costs were high and the consequences of errors were serious, so we elected to initially focus on this area. To narrow scope even further, we initially concentrated only on items needed within the lead time horizon and ignored obsolete and excess materials.
The VP, Finance in still another manufacturing company agreed to waive physical inventories for areas demonstrating that accuracy goals were being met, freeing up resources for more productive purposes.
In general, controlled storerooms are the easiest to improve, since they are often physically restricted areas, have supervision more oriented to accuracy concepts, transactions less subject to process-related errors and they can be more easily counted. Then attack work-in-process areas, which are generally more challenging.
One team uncovered dozens of accuracy issues. These were prioritized so that problem-solving resources could be focused on the best payback items with the greatest chances of resolution.
A few companies we worked with have gotten almost immediate payback by conducting location audits. Simply check each location and compare it to your records. Physical locations not in the records may be exciting windfalls. The opposite case is cause for a corrective cycle count adjustment. This approach requires far less resources than a physical count inventory.
Most companies observed weren't able to reconcile all errors, especially in the beginning. They were advised not to even try. It's like attempting to bail out the ocean, because errors were being made faster than inventory balances could be corrected, let alone diagnosed and reconciled. So, they focused on eliminating the principal CAUSES of errors initially. Every time a cause is identified and corrected, it may likely eliminate dozens, hundreds or even thousands of future potential errors. This concept may be difficult to sell to some accounting personnel, who have been conditioned to balance every debit and credit to the penny. Choose your battles!
DEFINE INVENTORY ACCURACY
What It Isn't
We have often been told by representatives of various companies that their inventory accuracy was high, even "world class," 95, 98 or even 99+%, when in fact, there were surprise backorders, unplanned material shortages and unexplained excess inventories. When asked about inventory accuracy, shop floor and stores personnel would just smile and tell us their inventory horror stories.
So why does this happen? There are different ways of measuring it. For example:
One firm thought their inventory records were outstanding because they were accurate within $20,000 for a $6MM inventory, or 99.7% accurate, they boasted. Well, it turned out that this was merely an arithmetic sum of the financial errors and that the absolute value of the individual errors was actually $900,000. Even this sounded like 85% accuracy.
But, operations people know that products are built with specific components and that customers are shipped specific products or services, not dollars. When other factors like posting cut-offs, location errors and part number errors were considered, it was calculated that accuracy was actually only 66%!
Inventory accuracy is the probability of finding the right items in the right location and quantity that the books say are there. 66% accuracy means that 34% of items surveyed had quantities, locations or part numbers significantly differing from "book" records. Looking at it another way, for a ten item order, there would be only a 15% probability of finding all parts corresponding to what the books said was there. Is that any way to run a business? By the way, it's sad to say that 66% is about average.
Another reason for the accuracy credibility gap is that people delude themselves, occasionally even lie. The author once had to fire someone who was falsifying counts. The sad news came out of a routine audit designed to check the effectiveness of the cycle counting system. More often, people just rationalize that things are much better than they really are. Example:
What It Is
95% accuracy is said to be the minimum acceptable level to run a formal system. Our experience is that 95% is a lot better than the average company, but its nowhere near what is required to run a world class operation, where 98 or 99+% is more appropriate. Going from 66% to 90% is easier than going from 90 to 95%, which is easier than going from 95 to 97%. When a company sets a goal of 95, 98 or 99+% inventory accuracy, what should that mean? We usually recommend the following accuracy criteria, subject to company special requirements:
Quantity of book to reconciled physical inventory to be accurate, for example, within 1% for "A" items, 3% for "B" items and 5% for "C" items. These targets should reflect relative value of the material and the limits of counting process capabilities. Most firms compare physical to reconciled book quantity error vs. book quantity to measure accuracy, for convenience of computations. Sometimes we recommend comparing the calculated error to the weekly or monthly usage quantity, because it's statistically more valid, especially in a high-volume, low inventory environment.
Item identification must be correct, or it counts for two errors, since if it isn't what the records stated it was, then it must be something else. Unless inventory people are very thorough and knowledgeable about item identities, these errors often go unrecognized until detected by an inspector, production operator, or even a customer. We recommend item verification before storage or movement to the next process station. It is helpful to post item specifications and photos and train employees in their use to reduce such errors.
Item must be physically in the exact "book" location or it is considered an error. If you can't find it, that's even worse than not having it at all, because it cost money and it's taking up valuable space. Make sure you define item locations neither too detailed nor too general. If too detailed, it will be burdensome to maintain the records and control material.
Timeliness of records - Must be posted by some deadline, such as immediately when moved, within an hour, or by the end of the shift when transaction was physically executed. This greatly improves the timeliness of information and improves "cut-off" control for reports and reconciliations.
Accuracy percentage = (number of items sampled meeting above criteria/all items sampled) x 100. We sometimes convert performance measures to error parts per million (PPM), to make measurements more compatible with companies' quality systems.
MEASURE ACTUAL PERFORMANCE
Why It's Difficult
This too, is more difficult than it sounds. Many companies are simply unable to reconcile book to physical inventory because they:
Have multiple, incompatible inventory systems.
Can't master the timing "cutoffs" for count reconciliation.
Poorly define and enforce material and transaction flow procedures and policies.
Don't have people assigned to and/or schooled in inventory records reconciliation.
You'll need an initial survey to assess the level of accuracy. This is recommended, even if there is an ongoing system in place, to help verify how well it is working. To assess the level of inventory accuracy, pick a representative and statistically valid sample of items, crossing different product lines, processes and areas. Consult an expert in QC or SPC (Statistical Process Control) if not sure how to do this.
Make sure you have agreement on what is to be measured and how. Get agreement on the measurement criteria (see section II, above). If there is more than one inventory system, agree on which one(s) you will be reconciling to. Be aware of how these systems are updated and enlist the cooperation of those involved in their operation and maintenance.
Better results will be obtained if all transactions are posted before counting, especially if the inventory system is in poor working order. This helps eliminate a very common source of errors, "cut-off" timing. In particular, watch out for items in staging areas, QC, Shipping, Scrap, Bond, etc. It's best to do the survey while operations are shut down, since it further reduces the chance of transaction cut-off problems.
For improved objectivity, it is recommended that people who are removed from "ownership" of the current system be used to audit or even supervise this survey. Bias may be inadvertently or intentionally introduced otherwise.
The survey should be used to help establish "baseline" accuracy by area- for instance- "Store Room #1, "Shipping Area", QC Hold #3", "Disk Assembly," and "Total." Publish the results after careful verification, then discuss and act on them. The initial survey often helps to establish the dialogue that propels successful projects. It is possible that some diagnostic work can be done during the survey, but in general, we have found that diagnostics are problematic at best for a poor inventory system without baseline figures, good procedures in place and regular cycle counts.
FIX THE SYSTEM
Institute Improved Policies and Procedures
Procedures are often in need of a major overhaul. Many are poorly documented, unworkable or cumbersome. The project diagnostics, team meetings, cycle count results, conference room pilot and employee suggestions can all funnel information to the people who revise procedures.
Identify every single transaction and procedure potentially affecting inventory accuracy. Review and, if necessary, enhance, simplify and document them, then thoroughly train all applicable personnel in their use. Keep simple concise procedures available for employees' ready access. Have employees practice/drill in procedure use. An inventory system test or "demo" database is a good tool to practice with.
New procedures/changes should be reviewed with users in advance, thoroughly tested and documented prior to implementation.
Procedures should cover all aspects of inventory transactions: receiving, inspection, stores, issues to floor stock, production, substitutions, transfers, scrap, rework, return to vendor, completions to stock, shipments.
Set Up Basic Inventory Movement Structure and Controls
Most companies lack a common understanding on how inventory transactions- material and paperwork - should flow. One of the first evident symptoms of this is an almost total inability to reconcile cycle counts of active items, due to transaction "cut-off" problems attributable to unpublished/unenforced transaction document flow times. Forget about a full cycle counting program until this is corrected. First, establish, implement and enforce:
Inventory "transaction flow map" showing all work centers/cells/stores areas, material and paper flows, transaction types and account numbers, so that people will know what should happen. When people see a graphical depiction of system flow and have it explained to them, it often helps them to decode the mysteries of a system.
Flow times - How long it should take to receive a part, move it to stores, issue it, move it between operations. Publish these flow times, post them, and get people accustomed to working with them. Highlight transactions missing flow time targets.
Cutoff times - How long it should take to post a transaction after it physically occurred. Publish and highlight similar to the above item.
Drop points - Where material and transaction documents should be placed. Mark these areas plainly to reduce confusion. Painted lines on the floor, signs, sometimes even fences, may be needed to get the point across.
Logging and batch controls, especially for key "gateway transactions such as receiving and shipping. Comparing daily posted transactions to the logs often helps detect missing or erroneous data. Logs can also be useful in reconstructing "crashed" systems.
Write Cycle Counting Procedure
Cycle counting should be the principal ongoing performance measurement, diagnostic and problem-solving approach, basically "SPC for inventory control." It is a procedure to help determine if the other inventory procedures are working. The procedure needs to fully reflect the overall systems flow and timing. For instance, if inventories are updated daily by MIS, it may be necessary to adjust for unposted transactions prior to completing reconciliation.
In a high-volume repetitive production in a backflush environment, It is necessary to log production occurring between backflushes and to know precisely when these were performed. In addition, knowing the whereabouts of discrepant material routed for inspection and alternate processing, but still unposted, is vital, since counts of material in the area may omit it.
Consignment inventory rules sometimes need revision to facilitate cycle count reconciliation as well.
Run a Control Group
Once the program is underway, team members often want to quickly start an ambitious, large scale program of cycle counting. Some people come running out of cycle counting seminars, flushed with enthusiasm, wanting to use their new tools immediately to vanquish the demons of inventory error. In general, don't. Why? Because in most cases the infrastructure isn't yet in place to support an effective cycle counting system. Make sure it is in place BEFORE starting regular cycle counting, or you're in for some big disappointments and loss of credibility.
In the meantime, use the initial survey population as a "control group" to help regularly and frequently assess the propagation of errors. Count and reconcile these items over and over again until you start to get the hang of what's wrong. Chances are, this will be a very tough chore initially, because of the many things wrong with the system. Don't be surprised if you can't identify many item error causes with certainty in the initial period. As you count them more frequently, there will be shorter intervals between counts, increasing the likelihood that error causes can be isolated. As the basic controls identified above are established, they will eliminate many errors and make it simpler to identify those that remain. Make sure that problems are posted to the issues list, prioritized, assigned for resolution, discussed at meetings, completed, documented and resolved.
At some point, when the team feels that they have basic controls in place and have mastered control group diagnostics, they can turn the cycle counts loose on a larger scale.
When the control group is running in the mid 90% accuracy range, it's time to turn on large scale cycle counting. Companies trying to turn it on too early may get swamped by massive numbers of irreconcilable errors. Some even compound the errors when they start posting corrections before they've got reconciliation/posting procedures working satisfactorily.
Most error causes can be found and resolved during the initial control group period.
Make Physical Changes
Paint lines on floors to indicate drop points and department boundaries. Record tare weights on all containers used in weigh counting. Use bar code or other accurate, efficient data acquisition methods. Deploy counting scales where appropriate. Isolate obsolete inventory for final dispositioning. Assign designated drop points for discrepant or "hold" status material. Ensure that there is adequate and appropriate material handling and storage equipment. Sometimes something as simple as lines on the floor, a fence or a gate can make a significant difference. Consider a move to a process-related flow, which may greatly simplify material/inventory control.
A comprehensive facility location system is essential for success in locating material quickly and efficiently when it is needed All inbound and in-transit material should be directed to locations, or they should be assigned upon arrival. If the location system is simple enough, materials might be automatically routed. Reduce the number of possibilities to make mistakes. The location codes should be plainly marked all around the facility, so that there is no confusion about the location. Isolate/purge excessive, obsolete and damaged inventory.
As with most major change efforts, inventory accuracy needs strong, continuing management support to change the culture and practices.
Very little happens in some companies until top management makes poor results unacceptably uncomfortable to those failing to deliver.
Even after that, things sometimes don't improve until meaningful performance measurements and improvement mechanisms are implemented.
Strong project leadership is the next most important factor, along with a sound approach and an implementation plan.
The price of continued inventory accuracy success is eternal vigilance. When programs lose "mindshare," results often quickly deteriorate.
Inventory accuracy is a permanent state of mind, not a quickie, one-time project. Periodic backsliding needs constant attention. This is one area where zealots and dictators are needed!
Successful inventory accuracy efforts often have five phases:
1. Realization that there is a problem
2. Agreement on a solution approach
3. Problem-solving phase
4. Records correctionv 5. Ongoing cycle counting/maintenance
Inventory accuracy doesn't really improve by counting things. It only improves when basic systems, procedures and training improve.
Identifying issues and resolving them so that they never occur again is the key to achieving accuracy goals.
Leadership and peoples' attitudes are the two most important factors for success.
There are some significant differences in attaining inventory accuracy in non-discrete, process, repetitive, cellular and project-oriented enterprises.
Learn them well and adapt to their needs. Realize also that most companies are a mix of different environments, so mix approaches if warranted.
ABOUT THE AUTHORS
Paul Deis, CFPIM, is CEO, PROACTION. He brings over 25 years of consulting and senior executive experience to his work, including detailed work with nearly 60 companies. Prior to acquiring PROACTION, Pauls experience includes running a small ERP software company, leading other consulting businesses, prior work with PROACTION, Manager at Deloitte & Touche, VP Manufacturing at Raypak, Inc., where he was very successful with an early Lean management initiative. Our website: PROACTION Generating Best Practices.
George J. Miller, CFPIM, is Founder of PROACTION. Prior to selling the company to Paul Deis, George had worked with dozens of companies in assignments involving productivity, quality and service improvement, business systems, change management, acquisitions, and others.