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Create an Inventory Management Strategy

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Inventory management is vital to any e-commerce business. If you don’t establish an effective inventory management approach, you risk frustrating customers, losing vital sales or investing in inventory that doesn’t sell. The following article is part of our Inventory Management Blog Series which covers all aspects of developing an effective inventory management strategy so you can optimize your sales and profit.

All businesses have an inventory, but not all businesses put in place an effective inventory management strategy. Without a solid inventory management strategy in place, many things can go wrong. Efficiency and productivity slows down, and a business might not be able to meet the demands of their customers.

Retailers commonly see an effective inventory management strategy as an afterthought. They only get around to building one once their business is up and running. By this point, costs have started to pile up, orders have been delayed, or they might be overstocked with items that aren't selling. Costs spiral and cash-flow issues set in.

Without an inventory management strategy, your inventory will probably cause you to lose cash.

Consequences of a Poor Inventory Management Strategy

Here are some ways poor inventory management can cost you your business:

  1. It Leads to An Overstock

Without an inventory management strategy in place, it’s very hard for a business to make accurate forecasts regarding what to order and when. They don’t really know what sells well and what doesn’t. And this can cause them to take a gamble on new stock.

For example, retailers often get tempted by suppliers who are offering a “buy one, get one free" deal. It sounds good, but it can lead to overstock if you buy products that your customers don’t want.

With an inventory management strategy, you can still take advantage of the right offers and have a better idea of what your customers actually want.

  1. You Won’t Know When To Reorder

When a business isn’t sure about when to reorder, they could easily end up in short supply or overstocked. Neither are good. When overstocked, you’re left with mounting holding costs. When in short supply, you’re faced with disappointed customers who aren't able to purchase what they want from you.

An inventory management strategy gives you access to data that helps you accurately schedule when to reorder so you aren’t left in either situation.

  1. You’ll Lose Time

Time is an asset, and businesses should always be looking for ways to save time.

An inventory management system saves you time because it lets you automatically keep track of records without having to go over them manually to make sure they are correct.

It also mean you no longer need to waste time trying to make forecasts without access to data - or getting the forecast wrong.

  1. You’ll Lose Cash

Once a business starts to leak cash, it isn’t long before the ship sinks. Forget stray icebergs - what can sink a business is the lack of an inventory management strategy.

Without one, a business can't handle the common costs associated with having an inventory, including space and storage, handling, working capital costs, insurance and taxes, obsolescence, investment and even criminal activity.

An inventory management system helps a business handle these costs and provides more working capital, which you can then use in other areas of your business.

Creating an Inventory Management Strategy

Now that you know how important an inventory management strategy is, let’s take a look at how to create one:

Decide on a Location for Storing and Processing Your Inventory

Choosing the right location for your warehouse is key, especially for bigger businesses who need multiple warehouses. Software can help you keep track of what’s going in and out of each location.

There will be an opportunity for you to save cash if you can keep labor and energy costs down. Choosing a warehouse that is close to your manufacturer, supplier or vendor will also allow you to stock and ship products faster than your rivals.

You can also choose to outsource your logistical and warehouse needs to 3PLs. This will help scale your business so you can focus on more important operations.

Choose an Inventory Software Program

Software and tools are a fundamental part of life for businesses in 2018. They allow you to make smart decisions to support your growth.

Inventory management softwares makes your life easier by giving you access to data that help with forecasts. It also makes it easier for you to process orders and returns, manage multi-warehouse inventory, complete vendor & purchase order workflow and remove inevitable human error.  

Skubana’s cloud based software allows you to control all of these back-end eCommerce operations.

However, choosing the right software isn’t easy and there are many options. The first thing you’ll need to decide on is your budget.

You also need to be aware of the specific inventory challenges you face, as well as the integrations you need. Any software you buy must be able to integrate with the systems your operations team is already using.

Setup a Vendor Agreement With Suppliers

Don’t waste time - set up a vendor agreement as soon as possible.

Once you’ve decided which suppliers you’re going to work with, finalize an agreement regarding your shipping and payment arrangements.

Set some time aside to have a chat about timetables with your suppliers. For example, once you’ve submitted a purchase order, get the supplier to commit to an estimated turnaround time for when you’ll receive that order at your warehouse.

There will be occasions when a product is either selling slowly or isn’t selling at all. This is bad for you as you’ll be paying for it for as long as it remains in your inventory.

As such, it might be cheaper for you to just return the items to the supplier. To be able to do this, you’ll need to work out a returns agreement. Establish these terms once you’ve started to work with a supplier.

Establish a Clear Cut Process For Getting Rid of Excess Inventory

Dead stock - stock that just isn’t selling and won’t sell - is costly because it’s in your warehouse, which means that it’s contributing to your carrying costs.

You can return the excess stock to its supplier if you’ve already agreed on return terms. If you haven’t, or if the returns policy has expired, the next best thing to do is donate the stock. Donating to nonprofit schools or charitable organizations is a good idea because you’ll receive a federal tax deduction.

Moreover, if you donate your excess stock, you’re preventing your rivals from buying it and putting it back on the market for their own gain.

Include Your Inventory Strategy In Your Business Plan and Other Aspects of Your Businesses

It’s important that everyone involved with your business is kept up to date with your inventory strategy. Write it into your business plan and communicate it with your team.

Also, update it as and when you need to.

Use Metrics To Improve Future Forecasting Decisions

In eCommerce, the majority of cash is tied up in inventory. Inventory can be both your biggest asset and liability.

When you make better future forecasting decisions, your inventory is less likely to suffer from an overstock or a deficit. It should also contain only items that are going to sell according to seasonality, supply & demand.

Metrics help you to make better forecasting decisions. Here are the ones you need to take a look at frequently so you can update, control and optimize your inventory correctly.

Inventory Turnover

Inventory turnover is the number of times a business sells out and replaces their inventory in a specific time period.

Most often, we measure it by year, quarter or month, and the higher it is, the more efficient our operations. To figure this number out, divide the costs of goods with the average inventory.

Use your findings to improve your inventory management strategy and aim for a higher inventory turnover. You can do this by shrinking your inventory orders, reducing supplier costs and always investing in products where the demand is high.

Set a Reorder Point For Ordering New Inventory To Replace Sold Items

It’s an amazing feeling when we start selling products. However, finding out you don't have fresh items to replace the sold items can be a stop to your parade.

You might tell yourself that it’s okay because you’ll just put in a new order for inventory,  but you can lose customers and their potential long-term loyalty while developing a bad reputation.

Swerve this issue by setting a reorder point. Put in place an inventory management strategy and then reorder whenever the stock drops to - for example - 60 units. Your ultimate reorder point should be based on past demand, average turnaround time and lead time.

And it’s an inventory management strategy and software that helps you know all this data.

Gross Margin Percent

Businesses frequently overlook this metric, but it is too important to be left unattended.

Gross margin is a leading indicator of cash flow and profitability. It can show you how productive your inventory investment is.

To calculate the gross margin, you need to take your company’s total sales revenue before subtracting the costs of the goods sold. Then, divide it by the total sales revenue.

Tracking your gross margin percent is key. If you can increase your volumes, you can increase your efficiency while increasing the margin.

Customer Order Fill Rate

Customer order fill rate is how well you are able to meet customer demand. Leaders in fill rate are exceeding 98%, and the average is 94.7%, according to a report by the Tompkins Supply Chain consortium.

In other words, it’s the percentage of items that a consumer ordered which you were able to fulfill them.

If you’ve got a low ratio, it’s an indicator that your inventory is performing poorly, or that your management strategy isn’t working.

This could lead to a loss of customers, sale and poor reputation.

If you are unable to meet your customers expectations, make sure to communicate with them directly and offer them alternatives.

Costs of Carrying

For as long as you have an inventory, you will have carrying (or holding) costs.

But how much does your inventory cost you at any given time? Without assessing this metric, you could be spending more money than is necessary.

We talked extensively about these costs in Chapter 2. If you have not read it yet, we encourage you to learn about about this important metric in detail.

Average Sell-Out Days

How long does it take you to sell your monthly inventory? 5 days? 15? 28?

This figure will you help assess if your inventory management strategy is working.

If the average sell-out day is as low as 5, you run the risk of a deficit. If it’s too high, you might have too much dead stock.

It's important to analyze these findings and move forward with a strategy that works well for your business.

Key Takeaways

The only way to grow your business is by selling, and once you’ve got products to sell, you’ve got an inventory that needs to be managed.

There are a number of things to consider when you first start to establish an inventory management strategy, but once it’s up and running, you can use software to automate the process.

Choose a strategic location for your warehouse, form a strong relationship with suppliers and discuss return terms, set a reorder point, and regularly assess your metrics so that you are able to save on costs and make better forecasting decisions.

Remember, if a product is sitting on the shelf and not selling, it is costing your business money.

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