17 Essential Inventory Management Techniques
Inventory management is the act of ordering, tracking, storing and selling inventory across the entire supply chain. It’s essential if you want the right mix of products available to sell to your customers. There are many inventory management techniques that help you better manage your inventory and run a more profitable business. In this article, we discuss the top 17 techniques.
What Is Inventory Management?
Inventory management is a supply chain function that tracks inventory from the manufacturer to point-of-sale. This includes forecasting demand, procuring raw materials or finished products, storing inventory, tracking sales and then reordering when inventory levels are low. The goal of inventory management is to ensure you have enough product to meet demand while reducing costs associated with your inventory.
Why Is Inventory Management Important?
Effective inventory management is important because it can help increase revenue, reduce cost and improve customer service. Specifically, inventory management is important due to the following reasons:
The benefits of inventory management are numerous. If you do it right, you’ll be able to increase sales, lower costs and better serve your customers. With this in mind, let’s take a look at the top inventory management techniques to help you manage your inventory more effectively .
Essential Inventory Management Techniques
There are many inventory management techniques, each with its own benefits and drawbacks. When choosing the best techniques for you, make sure to consider the type of product you sell, the size of your business, your overall budget and the level of accuracy needed to run an effective supply chain.
Here are the top 17 inventory management techniques and why they’re important:
1. Demand Forecasting
Demand forecasting is the act of accurately predicting future demand for your products and is something every business should do. If you forecast demand well, you ensure that you’ll have the right amount of inventory on hand to meet customer demand.
Some of the top ways to forecast your demand include a moving average, exponential smoothing, time series analysis and judgmental forecasting. The right technique will depend on your unique business. Regardless of the technique you choose, it’s important to note that demand forecasting will never be exact, which may lead to stockouts or overstocks.
2. ABC Analysis
ABC analysis is an inventory management technique that ranks inventory items based on their importance to your business. This is most helpful when a business needs to prioritize which items to order and store, allowing for more oversight on certain inventory items. When conducting an ABC analysis, divide your inventory into three categories:
3. Safety Stock
Safety stock represents the amount of extra inventory you keep on hand to cover unexpected demand or delays in future deliveries. Safety stock is important if you want to avoid stockouts. Safety stock is determined based on demand variability, delivery lead time, the cost of stockouts and the cost of holding inventory.
4. Reorder Points
Reorder points represent the inventory levels at which new orders should be placed. Reorder points are specific to individual inventory items and are based on that item’s average daily usage, order lead time and the amount of safety stock you have on hand. Reorder points are an essential part of inventory management and help you avoid stockouts.
5. PAR Levels
Periodic automatic replenishment (PAR) levels track the minimum and maximum levels of inventory maintained for an inventory item. When inventory quantity reaches the minimum level, a new order should be placed. However, inventory shouldn’t exceed the maximum level.
Implementing the PAR levels inventory management technique can therefore avoid both stockouts and overstocking and is best for businesses with perishable items, such as restaurants. PAR levels are based on an item’s average daily demand, lead time and amount of safety stock.
6. Just-in-Time (JIT) Inventory
Just-in-time (JIT) inventory is a management method that reduces the amount of inventory you have on hand by only ordering and delivering products at the exact time you need them. To do so, you’ll need to closely track inventory levels and work closely with suppliers. While JIT can reduce inventory costs, it can also result in stockouts and isn’t suitable for all businesses.
7. Dropshipping
Dropshipping is an inventory management technique that doesn’t require the seller to keep inventory items in stock. Instead, the seller works with a third-party supplier who ships the product directly to the customer when a purchase is placed.
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This is most popular with online businesses and is great for reducing inventory costs and upfront investments, but gives the seller less control and can also result in lower margins depending on the dropshipping fees.
8. Cross-Docking
Cross-docking is the act of receiving inventory from suppliers and then immediately shipping those products to customers without spending time in a warehouse. This technique can reduce handling and holding costs while improving fulfillment times, and is most commonly used for perishable products. However, it requires a lot of coordination with your suppliers and isn’t a good fit for companies selling non-perishable products or products with low turnover.
9. Inventory Management Software
Inventory management software is a supply chain management tool that helps you track inventory levels, forecast demand and place orders based on current levels. The best inventory management software will depend on your specific business needs but is something everyone should consider using since it helps increase efficiencies and reduce costs.
10. FIFO and LIFO
First in, first out (FIFO) and last in, first out (LIFO) are two inventory management methods that dictate which inventory is sold first and why. With FIFO, you sell the oldest inventory first, while with LIFO, you sell the newest inventory first.
The FIFO method is most common when you’re selling perishable goods that may go bad quickly. The LIFO method is most commonly used in industries where the cost of inventory rises over time, since it can better match costs with revenues and also help defer taxes.
11. Consignment Inventory
Consignment inventory is a technique where a supplier—known as the consignor—gives goods to a retail business —known as a consignee—but retains ownership of the goods until they’re actually sold. The benefit is that the consignee doesn’t actually pay for the goods until they’re sold and the consignor is responsible for shipping costs.
However, the consignee has to cover any holding costs and is responsible for selling the products, which means they can lose money if they don’t sell.
12. Economic Order Quantity (EOQ)
Economic order quantity (EOQ) is an inventory management technique that helps determine the optimal order quantity for a product that minimizes total inventory costs. EOQ is a calculation that takes into account the annual demand, ordering cost and holding cost of a specific product to arrive at the optimal quantity. This technique reduces cost while also ensuring there is enough inventory on hand to meet customer demand.
13. Perpetual Inventory Management
Perpetual inventory management is the act of continuously updating inventory levels as products are sold or received. Perpetual inventory management provides the most accurate view of inventory levels, improves inventory turnover and avoids inventory stockouts.
However, it can be more time-consuming, expensive and complex than other inventory management techniques, such as periodic inventory management. With the periodic technique, inventory levels are only updated periodically rather than continuously.
14. Minimum Order Quantity (MOQ)
Minimum order quantity (MOQ) sets the minimum number of inventory that must be ordered from a supplier at one time. MOQs are typically set by the supplier so they can reduce costs associated with shipping inventory. While beneficial to the supplier, it reduces the ordering flexibility of sellers and can increase costs if you need to order more than you need.
15. Six Sigma and Lean Six Sigma
Six Sigma is an inventory management methodology that focuses on reducing variations and defects in your inventory management process. With Six Sigma, you use data-driven methods such as statistical analysis to identify and remove issues in your process. For example, you might use it to better track and manage inventory levels.
Lean Six Sigma combines the Six Sigma methodology with lean manufacturing to increase efficiencies within your inventory management process. For example, you may use it to streamline your process by eliminating unnecessary steps.
16. Bulk Shipping
Bulk shipping is the act of purchasing and shipping inventory in large quantities. This helps reduce shipping costs and can also result in discounts from suppliers. However, bulk shipping can result in overstocking and is potentially harmful if you’re selling perishable items.
17. Batch Tracking
Batch tracking is an inventory management technique that helps businesses track groups of similar items throughout the supply chain. Batch tracking is most commonly used for perishable inventory items as well as items that can be recalled.
Businesses using batch tracking will typically use barcodes or RFID tags to track items. This especially helps with quality control and compliance for items with an expiration date.
Bottom Line
Effective inventory management is crucial for any business that buys and sells goods. There are many inventory management techniques that can help you increase revenues, reduce costs and improve customer satisfaction. Ultimately, the best techniques depend on your specific business. It’s important to test various techniques to find the best combination for you.