Guide to Inventory Cycle Counts for Optimizing Your Warehouse Design and Layout
According to Generally Accepted Accounting Principles (GAAP) and IRS rules, it is expected that any business that stores items in a warehouse conducts an inventory count periodically. Inventory plays a critical role in Supply Chain Management; the purpose of inventory control is to efficiently manage the availability of stock for production and sales and therefore maximize profit. Despite being such a fundamental management principle, inventory control still presents a challenge for most companies who are either unaware of the benefits of doing it correctly or, they do not know where to start.
Research shows that there are several common blunders companies make when attempting to control their inventory. The most common ones are lack of performance measurements, little or no automation, poor warehouse design and layout, and the most important one: poorly executed inventory counts –or none at all.
The results of your inventory cycle counts become essential information for decision-making, such as production forecast, purchasing or providing clients with ESDs. Faulty inventory control will result in inaccurate information, and therefore the company’s entire planning system will be affected. For example: if records show an inexistent surplus of raw material, the Purchasing department will not request more from vendors. Production will be halted once they realize there is no material to fulfill the orders and ship dates will be delayed; the whole chain gets affected. In simple words, every company needs to know at any given moment exactly how much and what they have.
Although most modern companies have opted for an ERP software system to handle inventory numbers, relying solely on computer-based quantities is a dangerous practice. Discrepancies can be caused by many things: lost or stolen material, mistakes in the bill of materials, errors when registering orders, mistakes in shipping, to name a few. Corroboration with what physically exists on shelves is highly advisable; hence the importance of inventory counts.
Businesses can choose between two approaches to conduct inventory check-ups: physical inventory or cycle counting. There is no better method to do it; it depends on the companies’ particularities, preferences, and overall warehouse design and layout. The primary matter is to understand each of the techniques –pros, and cons thoroughly- and select whichever is more appropriate to the company.
Physical Inventory Count
As the name states it, physical inventory count involves counting materials and products, one by one. Numbers recorded in the company’s books must match the number of items; this includes the production floor and the warehouses (from raw material to WIP and finished product). All businesses usually conduct an annual physical inventory count at the end of each year, since it is often required to meet taxing regulations and other accounting statutes. This is a time-consuming process, hence the larger the company, the more challenging the method becomes. (This is why having an optimized warehouse design and layout is critical. Your physical inventory counting is much more methodic and organized when your warehouse is organized well.) Nevertheless, there are recommendations that aid in smoothing the process and make it more efficient, such as:
- Ship as many items from the finished goods warehouse as possible before the counting begins. Also, do not receive raw materials once the inventory counting has started.
- Notify all staff of when the process will take place. Assign specific count dates (it is advisable to divide the counting into different stages).
- Give the counting tasks only to trained personnel.
- You may split your counters per physical sections within your warehouse design and layout, or per category, the importance lays down on consistency.
- Count as many items as possible before the due date; come-up with a product marking strategy to avoid double-counts.
- Review discrepancies and record results.
Cycle Counting Count
This approach consists in counting a small, predetermined batch of goods frequently, as opposed to performing an entire physical inventory count once per year; when business say “frequently” they usually mean “daily “or at least “weekly.”
The main idea behind this method is to spot errors in the inventory and determine the cause of failure in a fast way. Fixing only the error and not the reason for it is a bad practice companies must avoid as it can cost further operating costs. Most businesses state that after one year of effectively implementing cycle counts, the efforts have paid off. A few of the great benefits are:
- Reduce of Losses: The closer a company watches its inventory the lower the risk of loss of product due to damage, expiration or theft.
- Reduced Costs: There is no need to interrupt operations by running a whole warehouse inventory; there is no need for production downtime.
- Improved accuracy and better insights into the company. By understanding the flow of the raw materials through the warehouse design and layout, it is easier to pinpoint how SKU’s are behaving and therefore make well-informed decisions.
In simpler words, Cycle Counting is performing small audits to your stock periodically in order to have fresher information.
There is ample information available to implement a Cycle Count Program, and different ways to conduct it, which will be explained below. Nevertheless, here is an essential piece of advice before starting:
- Meet with all head of Departments –specifically with finance and operations –to analyze how will the process impact the company.
- Meet with the auditors or counters to elaborate a document containing expectations and requirements of the procedure.
- Compare the results from with the report mentioned above and validate numbers against the ERP system. Test again before officially implementing.
The three types of cycle counting include the following:
This method involves counting items chosen randomly. This approach is useful for warehouses containing many similar items or units. To improve accuracy, this process should be carried daily to increase chances of most of the items to be counted in a short period.
This method is utilized to count items that perform the best; in other words, it focuses on a small number of items which are counted several times in a short period. By repeating the process with the same units, it is easier to find mistakes in the technique or in the process itself.
An alternative approach is the ABC Analysis, which bases itself in the Pareto principle also known as the 80/20 rule or the law of the vital few. (link to other article) The method is an inventory categorization method which consists in dividing items into three categories (A, B, C): A being the most valuable items, C being the least valuable ones.
The Battle between selecting Physical Inventory vs. Cycle Counts
There is no one-size-fits-all when it comes to inventory counting. It all relies on what the company is seeking to accomplish. For a better understanding of the differences and advantages of each one and therefore taking an educated decision on which one to implement, a comparison between their specific perks and cons are listed as follows:
- Consistency. Since Cycle Counts are often part of the day-to-day activities, there is higher consistency when performing Cycle Counts as opposed to wait until a year passes to compare numbers against written –or computer-based- records.
- Business and Warehouse Shutdown. Activities need to be halted completely when performing physical inventory counts; this includes everything from receiving raw material to fulfilling and shipping clients’ orders. Many companies cannot afford this luxury and therefore opt for the less disruptive method, which is Cycle Counting.
- Affecting Purchasing Decisions. When performing annual physical counts, the procurement department relies solely on numbers from an ERP system or the company’s books, which may contain errors. Cycle counting keeps an ongoing awareness of inventory levels at all times, that allows making better purchasing decisions and avoid running out of stock.
- Damaged products and lost inventory. By performing regular check-ups on the inventory, it is easier to spot any damaged products –which otherwise can sit forgotten for a whole year. The same principle applies to “lost” units.
The above comparison seems to push the balance towards Cycle Counting; however, to obtain the mentioned benefits, the process must be well-proofed; otherwise, the drawbacks may be higher. Besides, experts recommend that smaller companies with little inventory, choose to do an annual physical inventory as the best option. This method allows companies as such, to start with a clean slate and ensures a more accurate count of products. The larger the company and the less flexible your process be, the more you need to lean towards one of the types of Cycle Counting.
There is a universally accepted truth: whether you chose one method over the other, it is imperative to be aware, in an accurate manner, of your inventory levels at all time. By effectively implementing a process to a well-organized warehouse design and layout, you are ensuring your clients’ satisfaction and the maximization of the company’s profits.
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