There are countless business principles, theories and practices that can help improve the way original equipment manufacturers (OEMs) manage and maintain the factory floor, from production to inventory control. One of the theories that can prove especially useful if you're working to adopt lean manufacturing practices is the Pareto principle. This theory focuses on pinpointing which aspects of business have the biggest impact and get the most results, and it can be applied in virtually any industry. For OEMs, the principle can come in handy, especially in terms of inventory management.
What is the Pareto principle?
The Pareto principle is based on a theory devised by Italian economist Vilfredo Pareto in 1906 after observing that 80 percent of the land in Italy was owned by 20 percent of the population. For this reason, the theory is sometimes also called the 80/20 rule and the law of the vital few. In a business setting, the distribution can be broken down in a number of ways. In financial terms, it can be looked at as 80 percent of your sales are typically generated by 20 percent of your customers. This principle has much more far-reaching implications for OEMs in terms of production downtime, ABC analysis, supply chain management, lean manufacturing and inventory management.
How can you apply this principle in business?
The main benefit of familiarizing yourself and your employees with the Pareto principle, which extends to virtually every aspect of business, is that you can empower those individuals to identify and focus more effort on the 20 percent of their work that produces the most important results. Pinnicle Management pointed out that the principle's primary function is to serve as a reminder to put 80 percent of your efforts into the 20 percent that will make the most impact.
How can it be used to improve inventory control?
The aspect of this principle that OEMs should focus on in terms of improving inventory control is the ABC analysis. The Association for Operations Management explained that ABC analysis helps you to determine the importance of various items in relation to the budget and the inventory as a whole. By assigning value to each different type of inventory, typically dividing them into three groups – A, B and C – it will be much easier to know which need to be tracked more closely for more cost efficient manufacturing.
The source pointed out that "A" stock should account for 80 percent of the budget, but 20 percent of the items, "B" inventory represents 15 percent of funding and 30 percent of items, and "C" items make up about half the inventory but only 5 percent of the total cost. Considering A items comprise so much of your funding, it's especially important that you keep a close eye on demand, order quantities, surplus stock and other details. These factors are important for B and C inventory as well, but the metrics can be tracked less frequently, as the impact is not as consequential in relation to budget.
Since class C inventory accounts for approximately 50 percent of total inventory, Purchasing has a daunting task to ensure that these parts are always in stock, as production uptime is the ultimate measure of success. This is where a vendor managed inventory (VMI) program for your class C items can add true value to overall operations and purchasing goals, freeing up time spent on generating purchase orders, ordering, inspecting, receiving, stocking and replenishing, to focus on the 20 percent of the inventory and tasks that make the most overall impact.