What is SKU, SKU Rationalization and SKU Optimization?

How can you reduce costs and complexities of your supply chain? What is the difference between SKU Optimization, Product Realization, and SKU Rationalization?

What is an SKU?
"SKU stands for Stock Keeping Unit. It is the identification of a product or service using alphanumeric code. Each product will have its own SKU code so customers can tell the difference. For example, one product with 3 different labels should have 3 different SKU codes. Then, SKU code is used to track how many product variants the company has."

The Impact of Too Many SKUs
In a traditional business sense, it is always good to have many products for customers to choose from. However, having too much stock keeping units (SKUs) can become a complex business operation. Because, too many products will lead to too many suppliers, too many data to collect and analyze, too many people to control, too many machines used to make products and too much storage space required.

What is SKU Rationalization?
"SKU Rationalization, also known as SKU Optimization or Product Rationalization, is the decision-making process to determine if a particular product should be kept or discontinued. So the company can reduce inventory costs and cut down on complexities in procurement, production and distribution processes."

How to Reduce SKUs

Since there are so many factors come into play, then we would like to offer some guidelines for the project as below,

1. Select Product Categories
SKU rationalization project is not the job of inventory control people alone and a cross-functional team is required. Establishing the clear project boundary is the key to success. At this stage, you pick which product family or category or brand you would like to review. 

2. Identify Market Segment
Sometimes one product category may serve many customers. Then it may be necessary to know which market segment or sales channel we are focusing on. So project scope can be narrowed down further. 

3. Make a List of Strategic Products
At this stage, we try to identify SKUs that we would like to keep. Then, you need to collect data on each SKU such as demand, profitability and common pack sizes. 

4. Review All Other SKUs
In order to eliminate bad SKUs without sacrificing the value to customers, a company should try to find one or more of product characteristics as below, 

- High stock-out
- High shrinkage
- High product returns
- High pack size variety
- Erratic demand
- Demand declines in recent 1-2 years
- Low consume big shelf spaces

- High setup time
- High labor processing
- High defects 
- Low inventory turns 

- Long lead-time
- Strict import control 
- High currency risk 

Do you need to know these demand/production/supply characteristics? Consider an item with an average sales volume with long lead-time and demand fluctuation. Do you really want to keep this item?

When you know all aspects of each item, it's easier for a team to make the objective decision whether to keep the items or eliminate some of them.

5. Eliminate Unnecessary SKUs
The final step is to trace SKUs you want to eliminate back to their raw materials, WIP, and all related finished goods.

As you can see, when you do this kind of project properly, you can reduce the numbers of suppliers you have to deal with, unnecessary machine setup time, unnecessary storage requirements. You can also free up your manpower so they can focus on some other things more productive.

- Hilliard, D. D. J. (2012). Achieving and sustaining an optimal product portfolio in the healthcare industry through SKU rationalization, complexity costing, and dashboards (Doctoral dissertation, Massachusetts Institute of Technology).

- Leiter, K. M. (2011). Assessing and reducing product portfolio complexity in the pharmaceutical industry (Doctoral dissertation, Massachusetts Institute of Technology).

- Lew, M. (2010). Modeling supply chain benefits of efficient assortment (Doctoral dissertation, Massachusetts Institute of Technology).

- Wilding, R. (1998). The supply chain complexity triangle: uncertainty generation in the supply chain. International Journal of Physical Distribution & Logistics Management, 28(8), 599-616.

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Last review and update: August 30, 2018
About the Editor
Ben Benjabutr is the editor of SupplyChainOpz. He holds an M.Sc. in Logistics Management with 10+ years of experience in various functions in supply chain magement. In his free time, he enjoys reading business and management books. You can learn more about him here or connect with him via Twitter, and Quora or drop him a line via e-mail.