Inventory Management Techniques for Online Businesses

Inventory management is a core part of good supply chain management. No matter what you sell, keenly monitoring inventory can help keep revenue flowing and customers happy.

Companies adopt numerous techniques to ensure stock levels are optimal and profitable. But selecting the right inventory management practices is no easy task, especially for a fast-growing business. That’s why setting the proper foundation from the start is so crucial.

This guide explains five stock management strategies online businesses should know and smart tips companies can apply to keep inventory ticking over nicely.

Table of Contents
What is inventory management?
Why is inventory management important?
Inventory management KPIs
5 shrewd inventory management techniques for online business
Tips for online businesses to manage inventory
Conclusion
Inventory management FAQs

What is inventory management?

Inventory management covers the strategies and tools that companies use to receive, sort, store, track, and deliver goods. It includes all processes in getting goods ready for sale, from production or procurement to final delivery.

Inventory management aims to optimize the process of holding inventory and reduce costs. Likewise, companies manage inventory to increase the speed of receiving and fulfilling orders so customers stay happy and business moves briskly.

Companies commonly use inventory management systems to aid effective inventory planning and control. Your inventory system may be a spreadsheet or an automated software system, but what’s most important is that it supports a realistic picture of your business and promotes great decision-making.

Why is inventory management important?

No matter a company’s size, inventory typically takes up a lot of capital. Consequently, it’s essential to protect that asset and find the best ways to utilize it — and that’s why companies practice inventory management.

Here are some reasons why it’s critical to practice good inventory control:

Promote stock visibility: Stock visibility is when you can tell the level and state of your inventory at a glance. Poor visibility may lead to low or inaccurate stock levels, or worse, it can result in stranded or dead stock — inventory you could have sold but didn’t notice.
Save money: Excess and stranded stock only take up storage space without providing a return on your investment. But good inventory planning moves goods briskly in and out of your warehouse and saves money on storage.
Increase revenue: Certain items will always sell fastest, for reasons like seasonality or changing customer preferences. But with good inventory management, you’ll know when that happens and be ready to take advantage.
Keep customers satisfied: Your customers want fast and accurate delivery, and creating a seamless inventory management process helps achieve that — and ultimately ensures rising customer satisfaction.
Eliminate waste: Lastly, good inventory management eliminates resource wastage from excess and spoiled inventory. You’ll learn what’s in your warehouse and move them quickly before their sell-by date.

Inventory management KPIs

Although it’s critical for profitable selling, inventory management is also a complex process. Keeping track of all the items moving through your warehouse, from supply to delivery, can become overwhelming. But there are several key performance indicators (KPIs) that can help you quickly see the big picture.

Inventory turnover ratio: This KPI measures how quickly inventory gets sold and replaced. High turnover indicates that business is brisk and efficient. You can calculate inventory turnover ratio by dividing cost of goods sold by average inventory value.
Demand forecast accuracy: Demand forecasting anticipates future demand over a period. With this metric, you can determine the accuracy of your forecasting and adjust accordingly, thereby increasing turnover and cutting carrying costs. Mean Absolute Deviation and Mean Absolute Percent Error are ways to calculate this KPI.
Backorder rate: Orders that cannot be delivered are backorders. A high backorder rate indicates inaccurate demand planning and can result in falling customer satisfaction. You can calculate backorder rate by dividing the number of undeliverable orders by total number of orders x 100.
Carrying costs of inventory: Carrying costs are the total costs of maintaining warehouse stock. They include capital, storage space, inventory service, and inventory risk costs. High carrying costs indicate poor warehouse efficiency. Calculate carrying costs by totaling each of the four cost items mentioned here and dividing them by the average annual inventory cost.
Order cycle time: This KPI calculates how frequently you restock your warehouse. A low order cycle time shows that you place orders with suppliers often. And the more often you order, the less stock you carry which means lower carrying costs and a better turnover ratio. But keep in mind that this metric can be affected by supplier requirements such as order frequency.
Rate of return: Your rate of return tracks how often orders get returned. It’s calculated as the number of units returned divided by the number of units sold x 100. While it’s natural to want to keep this KPI low, return orders may be more frequent for some products compared to others. So, account for contextual data, such as the product type and reason for return, for effective analysis.

5 shrewd inventory management techniques for online business

While it’s clear that inventory management is important, how each company performs the process is different. That’s because numerous techniques and methods are available to each business, depending on their needs and supply model.

Nevertheless, the following stock control tactics will improve your inventory management, regardless of your techniques.

1. First in, first out

As the name implies, first in, first out (FIFO) means older stock gets sold first. It’s a trusted inventory planning technique that applies to most product types, including perishables and durable goods.

With perishables, the rationale for this tactic is clear — you don’t want to end up with spoiled goods you can’t sell. So, FIFO gets new stock into the back of the warehouse while older stock sits out front and next in line for deliveries. It also helps move durable goods quicker while they’re still neat and before they become obsolete due to changing packaging or product design.

2. Just in time

With just-in-time (JIT) inventory management, companies purchase and maintain inventory on an as-needed basis. As a result, inventory is kept at the lowest levels possible to fulfill orders without going out of stock. The purpose of JIT is to eliminate wastage and the possibility of excess, spoiled, or dead inventory.

While JIT provides many benefits in terms of storage cost savings, efficiency, and a lean operation, it can be risky to operate. You’ll typically only purchase inventory a few days before it’s needed for sale, meaning even a tiny delay in the process can be fatal.

Practicing JIT also requires your business to be agile and dynamic to keep up with the shorter fulfillment cycle. But it’s possible to succeed with careful and accurate inventory planning.

3. ABC analysis

Not all stock items are created equal. Some sell faster or capture greater revenue than others. As a result, sound inventory practice dictates prioritizing your most valuable stock items in terms of availability and throughput.

ABC analysis splits inventory into three categories to identify which ones have the best revenue potential.

Category A products are your most valuable, bringing in between 40-60% of revenue.
Category B products are in the middle; they represent 15-30% of revenue.
Category C products are the least valuable, with only 5-10% of revenue.

While A stock should typically be readily available and fast-moving, C items can populate the rear of the store and are not re-ordered as often.

With ABC analysis, businesses can allocate resources better and prioritize the right inventory items. This technique can also enable strategic and profitable pricing. On the other hand, ABC analysis could ignore products that are just gaining popularity with customers, and implementing the technique often requires significant time and human resources.

4. Consignment inventory

Consignment inventory is similar to JIT in terms of how it helps manage storage and inventory costs. But unlike JIT, you don’t own any of the stock you sell with consignment inventory. Instead, the stock belongs to the wholesaler (the consignor) until it gets sold. The retailer only pays for the goods after sale.

This inventory planning technique is great for inventory costs. You don’t have to pay for stock upfront; if the goods don’t get sold, you never have to pay. This, in turn, helps with liquidity, especially for online businesses that might not have the capital to hold massive inventory.

The strategy is also beneficial if you want to offer a wider product range but don’t want to overburden your operations. However, suppliers may not support this approach unless the seller has substantial demand since most of the risk in consignment selling falls on the supplier.

5. Inventory cycle counting

As the name implies, inventory cycle counting involves taking stock of inventory in small cycles. The technique uses small inventory samples to monitor inventory records and test whether they tally with the physical items in your store. Some types of inventory cycle counting are:

Control group cycle counting: It involves counting the same group of items multiple times. This helps reveal errors in records or count technique that can then be rectified in designing a better count procedure.
Random sample counting: Sellers with large warehouses or substantially similar items can benefit from random sample counting. The technique involves randomly selecting and counting a number of items from each stock lot, thereby minimizing disruption.
ABC cycle counting: With this technique, you’ll count items based on their revenue value to your business, according to ABC analysis. Items in A category will get counted more often than B or C stock items.

The immediate value of cycle counting is how well it saves time and labor. With this technique, you don’t have to do a full stocktake every time you want to reconcile the physical items in your warehouse with inventory records. It also keeps warehouse operations running with minimal disruption, even while you count inventory.

But the technique also has its flaws. For example, it doesn’t compare to a full stocktake. Also, there’s always the risk that, in picking samples to count, you’ll bypass stock areas with problems that need fixing.

Tips for online businesses to manage inventory

As you’ve seen, how a company performs inventory management can affect business costs, revenue, and customer satisfaction. While you strategize on the best stock planning techniques for your business, follow these tips to optimize your process for the best results.

Use an inventory management system: Inventory management can get tedious, and mistakes can happen. As a result, it’s best to automate your process with an inventory management system. Besides, the software will produce other benefits such as data-led demand forecasting, real-time alerts, and inventory tracking.
Preserve good supplier relationships: Reliable suppliers are valuable to your business, so it makes sense to work to retain them. You can maintain healthy supplier relationships by paying bills on time, communicating clearly, and treating vendors respectfully.
Keep stock at optimal levels: Unless you’re practicing JIT or another lean inventory strategy, you’ll want to ensure optimal stock levels. A good rule of thumb is maintaining enough inventory to fulfill orders on a rolling basis, whether that’s a two-week period or more. This provides sufficient time to make deliveries and restock without understock or excess inventory problems.
Deal smartly with overstock items: Even with your best efforts, you might still find that you have excess stock. Deal smartly with these items by providing special deals or discounts to move them asap. While the items will likely sell for less than you wanted, they’ll move off your shelves, letting you increase turnover rate and make more money in the long run — and that’s more important.

Conclusion

Overall, good inventory management will save you money and help grow your business. The more efficiently you manage stock, the faster you’ll make sales and earn profit. With the inventory planning practices shared here, you’re in a great place to get started.

Inventory management FAQs

What are the four primary types of inventory?

Business inventory refers to all of the product stock a business owns and intends to sell. It includes four main types:

Raw materials
Work in progress
Finished goods
Maintenance, repair, and overhaul of goods

What are the major inventory management techniques?

The major inventory management techniques are first in, first out (FIFO), demand forecasting, and just-in-time (JIT) inventory management. However, please note that each technique has unique pros and cons, so it’s worth studying each to learn which best suits your business needs.

What are the five elements of inventory management?

The five core elements of inventory management are: