What Is SKU Rationalisation? Key Insights Revealed

SKU rationalisation

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SKUs, short for Stock Keeping Units, enable accurate inventory tracking and management, allowing businesses to control their stock levels precisely. However, managing an extensive array of SKUs becomes cumbersome, often resulting in overstocking, understocking, and, ultimately, missed market opportunities.

To mitigate these issues, SKU rationalisation provides a systematic method for evaluating and adjusting the product portfolio. This calculated strategic approach ensures inventory is both optimised and aligned with current market demand, leading to improved operational efficiencies. As a result, businesses experience an uptick in profitability and customer satisfaction.

In this comprehensive guide, we will explore the concept of SKU rationalisation, its critical importance, practical implementation steps, and the tangible benefits it brings. Armed with this knowledge, readers will be positioned to enhance their inventory management strategies and propel their businesses towards greater success.

SKU Rationalisation - A Brief Introduction

Meaning of SKU rationalisation

SKU rationalisation, also known as SKU optimisation or product rationalisation, is a strategic process businesses undertake to analyse and streamline their inventory based on a thorough assessment of each Stock Keeping Unit. 

This methodology aims to identify which products contribute positively to the bottom line and which do not. As a result, companies are equipped to make informed decisions about which items to continue stocking, which to discontinue, and which new products could be promising additions.

At its core, SKU rationalisation involves evaluating products against criteria, including sales performance, profit margins, customer demand, and inventory costs. The objective is to refine inventory so it is not only lean but also highly responsive to market needs, thereby minimising waste and maximising efficiency.

SKU rationalisation goes beyond mere inventory reduction; it is fundamentally about optimising the product mix to align with business objectives and market demand. Achieving this optimal mix allows businesses to swiftly adapt to shifts in consumer preferences and evolving market conditions, ensuring their offerings remain relevant and competitive. 

How Do You Measure SKU Performance?

Measuring SKU performance is crucial to the SKU rationalisation process, providing the data and insights needed to make informed decisions about inventory management. Performance measurement involves analysing several key metrics that collectively offer a comprehensive view of each SKU’s contribution to the business. 

Here are the primary metrics used to evaluate SKU performance. 

Sales Volume

The sales volume metric refers to the total number of units sold over a specific period. High sales volume indicates strong customer demand and market acceptance, suggesting that the SKU should likely be retained in the inventory.

Profit Margins

Understanding the profit generated by each SKU is essential. This involves analysing the cost of goods sold (COGS) against the sales price to determine the profitability of each item. 

SKUs with higher profit margins should be prioritised for retention.

Inventory Turnover Rate

The inventory turnover rate measures how quickly stock is sold and replaced over a period. A high turnover rate indicates that an SKU is selling well and not sitting idle in storage, contributing positively to cash flow and reducing storage costs.

Stock-Out Frequency

Frequent stock-outs can indicate strong demand but also reflect inadequate inventory management. Analysing this metric helps identify SKUs needing increased stock levels to meet customer demand.

Carrying Costs

Carrying costs include storage, insurance, and taxes related to holding inventory. Lower carrying costs are preferable, as they indicate that the SKU does not consume disproportionate resources relative to its sales performance.

Customer Demand and Trends

Analysing market trends and customer feedback can provide insights into future SKU performance. This qualitative data is essential for anticipating changes in consumer preferences and adjusting the product portfolio accordingly.

SKU Ratio

The SKU ratio quantifies the impact of individual SKUs on overall sales performance. It is calculated by dividing the number of SKUs within a certain gross profit range by the total number of SKUs, then multiplying the result by 100 per cent.  

This precise ratio provides insight into the profitability distribution across a company’s inventory, highlighting which SKUs contribute most significantly to gross profit. 

A higher SKU ratio within a profitable range indicates a healthy inventory composition, where a significant portion of SKUs drive profitability. Conversely, a low SKU ratio in this range signals that too many SKUs are underperforming, diluting overall profitability and indicating a need for inventory rationalisation. 

Why is SKU Rationalisation Important?

SKU rationalisation is essential in modern product lifecycle management, aligning product offerings with market demand and business objectives. It enables businesses to. 

  • Make data-driven decisions on which items to stock, leading to more effective resource allocation and capital investment.
  • Simplify shipping & logistical operations and inventory management, reducing complexity and potential for error.
  • Stay agile in response to market trends by quickly adapting the product mix to meet evolving consumer preferences.
  • Enhance decision-making processes regarding product introductions and discontinuations, ensuring a dynamic and responsive product portfolio.

Example of SKU Rationalisation

Consider a retail company specialising in outdoor gear that decides to rationalise SKUs to improve its inventory efficiency and customer satisfaction. The company starts by analysing sales data, profit margins, and customer feedback for all its products over the past two years.

Initial Findings:

  • High-Performance SKUs: Popular items like waterproof hiking boots and insulated jackets show strong sales and high profit margins. Customer feedback is overwhelmingly positive, highlighting functionality and quality.
  • Low-Performance SKUs: Conversely, they identify niche items like extreme cold weather tents and specialised climbing equipment with low sales volumes and high carrying costs. These items also have a high rate of stock-outs, indicating poor inventory management.
  • Setting Thresholds: To streamline inventory, the retailer implements precise criteria for SKU evaluation:
    • Sales Volume: To justify its place in the inventory, an item must achieve a minimum monthly sales volume. A product that sells less than 50 units per month is flagged for review.
    • Profitability: Each SKU must maintain a minimum gross margin threshold to remain in the product catalogue. Products with a gross margin below 25% are considered for discontinuation.
    • Operational Simplicity: Products must meet criteria for ease of storage and sales. Items requiring special storage conditions or complex sales processes thereby increasing operational complexity, are evaluated for potential elimination from the inventory.

Actions Taken:

  • Boost High-Performers: The company decides to increase stock levels of high-performing SKUs and invest in marketing efforts to further boost their visibility and sales.
  • Discontinue Low-Performers: Products with consistently low sales and high costs are phased out. This includes extreme cold weather tents, which, despite their high quality, appeal to a very narrow segment of the market.
  • Optimise Inventory Management: The company revises its strategy to manage inventory for items near the threshold such as specialised climbing equipment. Instead of discontinuing these items, it reduces stock levels and uses drop-shipping directly from suppliers to meet orders, thus minimising carrying costs.


The strategic adjustments made to the inventory resulted in significant enhancements across multiple dimensions of the company’s operations.

  • Inventory turnover rates experienced a marked increase, indicating that products were moving more efficiently through the sales cycle. This acceleration signifies heightened demand and leads to a leaner inventory, minimising the capital tied up in stock.
  • The company noted a substantial decrease in storage costs. This reduction is directly attributable to the lower volume of slow-moving stock, which historically occupied valuable warehouse space and incurred unnecessary expenses.
  • Profit margins witnessed a notable improvement as well. This uptick is largely due to eliminating underperforming SKUs, allowing the company to allocate resources and shelf space to items with higher demand and profitability. Focusing on these select products amplified sales, further bolstering the company’s financial health.

This example illustrates how SKU rationalisation can lead to a more efficient, profitable, and customer-centric business model. By systematically assessing each SKU’s performance and making informed decisions based on this analysis, businesses can optimise their product offerings to better meet market demand and operational goals.

In the retail sector, SKUs and UPCs are frequently misunderstood as being interchangeable due to their shared role in product identification. This commonality can lead to confusion, although they serve distinct purposes. To clarify these differences and provide a comprehensive understanding, we recommend exploring our article, UPC vs SKU

When Do I Need to Do SKU Rationalisation?

Eight indicators for the need to do SKU rationalisation

Determining the right time to undertake SKU rationalisation is crucial for maintaining operational efficiency and market relevance. Several indicators suggest that a business should reevaluate its inventory through SKU rationalisation. 

Inventory Overload

When your storage space is consistently at or beyond capacity, and you’re facing rising inventory carrying costs, it’s a clear signal that your product assortment may be too broad. SKU rationalisation can help identify which items are essential and which are surplus to requirements.

High Volume of Slow-Moving Stock

A significant portion of your inventory has not moved for several months or even years, indicating that these products are not in demand. This scenario ties up capital and increases storage costs, making SKU rationalisation necessary to trim the inventory to more desirable products.

Frequent Stockouts

Conversely, if you’re regularly experiencing stockouts of popular items, it may indicate that too much of your inventory capacity is being taken up by underperforming SKUs. Rationalising your inventory can help shift focus and resources to products in high demand.

Changing Market Trends

Consumer preferences and market trends are always evolving. If your product offering has not been reviewed in light of recent market shifts, you could be missing out on sales opportunities or holding onto outdated stock. SKU rationalisation enables you to align your inventory with current consumer demands.

Introduction of New Products

When launching new products, assessing the existing product mix is important to ensure that the new additions will complement rather than compete with your current offerings. SKU rationalisation can identify potential overlaps or underperforming products that could be phased out to make room for new SKUs.

Declining Sales and Profit Margins

If overall sales and profit margins are declining despite seemingly healthy inventory levels, it could indicate that your product mix is not optimised. This situation calls for SKU rationalisation to eliminate underperformers and focus on more profitable items.

Complexity in Inventory Management

An overly complex inventory can lead to operational inefficiencies, errors in stock management, and increased overheads. If managing your SKUs has become a logistical nightmare, it’s time to streamline your inventory through SKU rationalisation.

Addressing Market Saturation and Minimising Product Cannibalisation

When the market becomes saturated with similar products, either from within your portfolio or due to competitive offerings, distinguishing your products becomes increasingly challenging. This saturation can lead to product cannibalisation, where similar items in your lineup compete against each other, diluting sales and market share of potentially profitable SKUs. 

SKU rationalisation helps identify and eliminate redundant products, thereby reducing internal competition and focusing on unique, high-performing items that can better capture and retain consumer interest in a crowded market.

Benefits of SKU Rationalisation

Nine advantages of SKU rationalisation

SKU rationalisation offers many benefits that can significantly impact a business’s operational efficiency, cost structure, and customer satisfaction levels. Here are the key advantages of implementing SKU rationalisation. 

Improved Inventory Management

SKU rationalisation streamlines inventory by identifying and retaining only the most valuable and high-performing products. This clarity simplifies tracking and forecasting, making inventory management more intuitive and less prone to errors. 

With a refined product assortment, businesses can more accurately predict stock levels, minimise surplus inventory, and ensure a balanced stock that meets market demand.

Increased Sales and Profit Margins

Focusing resources on SKUs with proven market demand enhances sales opportunities by prioritising customer preferences. SKU rationalisation directs marketing and sales efforts towards products with the highest turnover and profit margins, effectively increasing the business’s financial health. 

This targeted approach elevates sales and boosts profit margins by concentrating on the most lucrative products.

Reduced Inventory Costs

Eliminating underperforming SKUs significantly cuts down on inventory-related expenses. These savings come from lower storage costs, reduced insurance premiums, and minimised losses from unsold stock. 

Rationalisation ensures businesses invest in a product that moves quickly, avoiding the financial drain of holding and managing extensive, slow-moving inventories.

Streamlined Operations and Efficiency

Managing a narrower range of SKUs simplifies operational processes, from logistics to stock replenishment and administrative tasks. This efficiency reduces operational costs and frees up resources, allowing businesses to focus on innovation and growth. 

Streamlined operations also facilitate quicker adjustments to market changes, improving the company’s agility and responsiveness.

Better Allocation of Resources

SKU rationalisation allows for a more strategic deployment of resources across the board. Financial investments, employee efforts, and physical space are focused on supporting and growing the SKUs that offer the most significant return. This optimised allocation leads to better overall performance and can drive more focused and effective growth strategies.

Increased Agility in Responding to Market Changes

A streamlined inventory makes it easier for businesses to pivot in response to new trends, consumer behaviours, or competitive pressures. SKU rationalisation helps create a flexible product portfolio that can be quickly adapted, enabling companies to seize new opportunities and mitigate risks associated with market fluctuations.

Minimised Risk of Overstock and Obsolescence

By aligning inventory closely with actual sales data and market demand, SKU rationalisation minimises the likelihood of overstock. It reduces the risk of products becoming obsolete. This proactive approach ensures that capital is not tied up in unsellable stock, safeguarding the business against potential financial losses.

Focused Marketing Efforts

Businesses can tailor their marketing strategies more effectively with a clear understanding of which products drive the most value. SKU rationalisation provides insights into customer preferences, enabling targeted promotions and advertising campaigns that resonate with the intended audience, thereby maximising the impact of marketing spend.

Data-Driven Decision Making

The process of SKU rationalisation relies heavily on data analytics, ensuring that decisions regarding the product range are informed by solid evidence. This reliance on data enhances the accuracy of inventory strategies, leading to more successful outcomes and a product assortment that is both profitable and aligned with consumer needs.

How to Implement an SKU Rationalisation Process?

Six steps to implement an SKU rationalisation process

Implementing an SKU rationalisation process involves several key steps, each designed to optimise the resulting product assortment. Here’s a structured approach to effectively carrying out SKU rationalisation.

Step 1: Define Objectives and Criteria

Start by establishing clear objectives for the SKU rationalisation process. Determine what you aim to achieve—whether it’s reducing inventory costs, improving profitability, or aligning the product offering with consumer demand. 

Next, set specific criteria for evaluating SKUs, such as sales volume, profit margins, customer demand, and inventory turnover rates. These criteria will be the foundation for data-driven decisions about which SKUs to retain, reduce, or eliminate.

Step 2: Collect and Analyse Data

Gather comprehensive data on all existing SKUs, including sales history, profit margins, inventory levels, and customer feedback. Utilise inventory management systems and sales analytics tools to collect this information.

 Analyse the data to identify trends, such as.

  • Best-selling products and their characteristics
  • Underperforming SKUs
  • Products with declining sales trends
  • Inventory holding costs and turnover rates
  • Seasonal fluctuations in demand
  • Customer preferences and feedback on products

This detailed analysis will highlight which products are valuable to your business and which are not meeting performance expectations.

Step 3: Evaluate SKUs Against Set Criteria

With the data in hand, evaluate each SKU against the established criteria to determine their impact on your inventory’s effectiveness. Classify and group SKUs into categories based on their performance—high performers, low performers, and those with potential for improvement. 

Also, during SKU evaluation, consider product cannibalisation—where similar products in your inventory compete against each other, diluting sales and profitability. Consider phasing out or repositioning these products to eliminate internal competition and focus on items that clearly contribute to your business objectives.

Step 4: Make Informed Decisions

Decide on the next steps for each category of SKUs. High-performing products are the candidates for increased investment, while low performers should be reduced or discontinued. 

For SKUs with potential, consider strategies for improvement, such as pricing adjustments, promotional efforts, or changes in presentation. 

Ensure that decisions are aligned with your overall business strategy and objectives.

Step 5: Implement Changes and Monitor Results

Begin phasing out selected SKUs, adjusting inventory levels, and implementing improvement strategies. Communicate changes to relevant stakeholders, including sales teams, supply chain partners, and customers, as necessary. 

It’s crucial to monitor the impact of these changes on sales, inventory efficiency, and customer satisfaction. Use the insights gained to make further adjustments and continuously refine your product offering.

Step 6: Review and Iterate

SKU rationalisation is not a one-time process but an ongoing cycle of evaluation and adjustment. Regularly review SKU performance and market trends to ensure your inventory remains optimised and responsive to consumer needs. 

This continuous improvement approach allows you to adapt to changing market conditions and maintain a competitive edge.

Pareto Principle of SKU Rationalisation

Definition of pareto principle of SKU rationalisation

The Pareto Principle, commonly known as the 80/20 rule, suggests that approximately 80% of effects come from 20% of the causes. It is a powerful concept in business that is used in various business strategies and frameworks, including SKU rationalisation.  

Specifically, in the context of inventory management, the Pareto Principle says that approximately 80% of overall sales are generated by 20% of the products. This principle also extends to customer behaviour, where 20% of customers typically account for 80% of total sales.

Applying the Pareto Principle in inventory management is driven by recognising that not all products perform equally. Seasonal SKUs, for example, may experience sales surges during specific periods, reflecting a transient increase in demand. Conversely, some items may consistently underperform, resulting in overstocking and escalated carrying costs. This variance complicates the identification of underperforming products, muddling decisions on which items to discontinue.

The challenge intensifies with the scale of a store’s inventory, which can encompass hundreds to thousands of distinct SKUs. In such scenarios, distinguishing between high and low performers becomes daunting.

Using the Pareto Principle enables the identification of the critical 20% of SKUs that usually account for 80% of the sales and profit. This insight is crucial for effective SKU rationalisation, allowing for precisely determining which products significantly drive sales and profitability versus those with minimal contribution.

With this insight, businesses are now better positioned to make informed decisions about which products to retain, enhance, or eliminate, thus streamlining inventory management and optimising product offerings for maximum impact. 

How to Use the Pareto Principle in SKU Rationalisation?

Five steps to use the pareto principle in SKU rationalisation

To effectively apply the Pareto Principle in SKU rationalisation, follow these steps:

  • Step 1: Sort SKUs by Sales Contribution – Begin with an organised list of your SKUs, ranked in descending order based on their sales contribution. This step establishes a clear hierarchy of product performance within your inventory.
  • Step 2: Calculate Cumulative Sales Percentage – For each SKU, calculate the cumulative percentage of total sales as you progress down your sorted list. This step helps visually and quantitatively identify which SKUs contribute most to sales.
  • Step 3: Identify the Top 20% – Look for the point at which the cumulative sales percentage reaches or surpasses 80%. The SKUs beyond this point represent your top 20%, the most significant contributors to your sales.
  • Step 4: Prioritise and Optimise the Top 20% – Focus on ensuring the availability of these top-performing products. These are your priority SKUs. Ensure they are readily available, competitively priced, and backed by targeted marketing campaigns. 
  • Step 5: Evaluate the Bottom 80% for Strategic Adjustments – The SKUs that fall into the remaining 80% category may not contribute as significantly to sales but still play a role in your inventory. Assess each for potential adjustments that could enhance their profitability. Consider actions like reducing inventory levels for these items, renegotiating supplier contracts to lower costs, or exploring alternative sourcing options to improve margins.
  • Step 6: Continuous Review and Adaptation – The market is dynamic, and consumer preferences shift. Regularly revisit your Pareto analysis to ensure your inventory aligns with current market demands. Adjust your strategy to keep your product offering optimised and responsive to trends.

SKU Rationalisation Best Practices

Five best practices of SKU rationalisation

Optimising your product assortment through SKU rationalisation is a strategic endeavour that demands careful planning and execution. The following best practices provide a roadmap for navigating this process effectively.

Conduct a Thorough Audit of Your Product Portfolio

A comprehensive audit of your product portfolio is the cornerstone of effective SKU rationalisation. This process involves a detailed analysis of each SKU, assessing factors such as sales performance, profitability, customer demand, and how well each item aligns with your overall business objectives. 

The goal is to categorise products to see which ones contribute to your success, which need improvement, and which should be discontinued. This categorisation lays the groundwork for making informed decisions that enhance inventory efficiency and business profitability. 

By regularly evaluating your product mix, you can ensure your offerings remain relevant and competitive, effectively meeting the market’s evolving needs.

Deeply Understand Your Target Market

Understanding your target market is crucial for SKU rationalisation to succeed. This involves more than just knowing who your customers are; it requires a detailed analysis of their purchasing behaviours, preferences, and evolving needs. This knowledge ensures that the rationalisation process supports strategic business goals without compromising customer satisfaction.

Continuously gathering and analysing market research data, alongside leveraging customer feedback, ensures that your SKU rationalisation decisions are closely aligned with what your customers truly want and need.

Establish a SKU Rationalisation Schedule

SKU rationalisation is not a one-time activity but an ongoing process that adapts to changing market conditions and business strategies to remain effective.  

Establishing a structured schedule for reviewing your SKU portfolio—be it quarterly, semi-annually, or annually—ensures that your inventory optimisation practices evolve in step with market dynamics and consumer behaviour. This scheduled review process allows for timely adjustments to your product offerings, ensuring that your business remains agile, responsive to changes, and ahead of the competition.

Ensure Cross-Functional Team Involvement

Successful SKU rationalisation demands a collaborative approach that involves stakeholders from across the organisation. Integrating insights from sales, marketing, operations, and finance teams ensures a comprehensive view of each SKU’s impact on the business. 

This cross-functional involvement fosters a more nuanced understanding of the inventory’s role in achieving broader business objectives. This also ensures that rationalisation decisions are balanced, strategic, and reflect the company’s collective expertise.

Implement a Phased Approach

Adopting a phased approach to SKU rationalisation minimises disruptions and allows for careful evaluation of the impacts of each change. 

Start by identifying and addressing the most clear-cut cases for discontinuation or enhancement, then progressively tackle more nuanced decisions. This systematic process enables your business to strategically manage inventory changes, assess outcomes, and adjust tactics as necessary. 

A phased approach ensures the rationalisation process is manageable, data-driven, and aligned with long-term strategic goals, facilitating smoother transitions and better outcomes.

Wrapping Up

SKU rationalisation is a key strategy for businesses that refine their inventory to increase efficiency and meet market demand. Through diligent evaluation and strategic adjustments, companies can reduce inventory costs, shed underperforming products, amplify their focus on high-value SKUs, and significantly improve operational efficiency. 

Adopting a systematic approach, informed by data and the Pareto Principle, not only simplifies inventory management but also propels sales and enhances customer satisfaction. Ultimately, SKU rationalisation is a key driver for maintaining a competitive edge in the market, ensuring businesses remain agile and responsive to consumer needs.

We hope this article was helpful. 

Thanks for reading! 

Frequently Asked Questions

What Is SKU Optimisation?

SKU optimisation involves analysing and adjusting a company’s product inventory to focus on items that offer the best balance of demand, profitability, and supply chain efficiency. It aims to enhance inventory management by retaining, discontinuing, or introducing SKUs based on performance and market needs.

Is Product Rationalisation the Same as the SKU Rationalisation Process?

Yes, product rationalisation is essentially the same as SKU rationalisation. Both processes involve evaluating the product portfolio to determine which items should be kept, discontinued, or introduced, aiming to streamline the inventory for better efficiency and profitability.

What Is the SKU Rationalisation Program?

An SKU rationalisation program is a structured approach that companies implement to systematically review and adjust their inventory. It involves analysing data on sales, profitability, and customer demand to make informed decisions about which products to continue offering, which to discontinue, and which new product line might be beneficial to add.

What Is the 80/20 Rule for SKU Rationalisation?

The 80/20 rule, or Pareto Principle, in the context of SKU rationalisation, posits that approximately 80% of a company’s sales or profits are generated by 20% of its products. This principle guides businesses to focus on and prioritise the top-performing SKUs, optimising inventory management and resource allocation.

Is There a SKU Rationalisation Formula?

While there isn’t a one-size-fits-all formula for SKU rationalisation, the process typically involves analysing SKU performance based on criteria such as sales volume, profit margins, and customer demand. 

The goal is to calculate and compare each SKU’s value to the business, aiding in decision-making about which products to keep or discontinue. Additionally, the Pareto Principle (80/20 rule) is often applied as a guiding formula to identify the most impactful products within an inventory.

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