How to Manage Inventory More Efficiently

 

Businesses have multiple ways to manage inventory. Selection—and they can employ as many as they see fit—will depend on the product type, seasonal needs, and other factors that can affect demand. Here are some common inventory management methods and techniques:

• Just-in-time (JIT) cues orders and deliveries to arrive exactly when they are needed—i.e., just in time. This method helps reduce waste, lower costs, and improve efficiency, but it also requires accurate demand forecasts and close supplier relationships, especially in industries where supply chains are complex or prone to disruption.
• ABC analysis sorts inventory items into three categories, A, B, and C, according to their value. On one side, “A” items hold the most value but represent a small percentage of total inventory, while on the other side “C” items offer the least value but often constitute a significant percentage of inventory. This multitiered categorization assists in prioritizing investment, marketing, storage, and management decisions.
• Material requirements planning (MRP) is a system used primarily by manufacturers to predict the quantity and timing of materials needed for production so that companies can maximize their resources and meet demand, without tying up capital in excess inventory. MRP systems are often integrated into broader ERP systems for comprehensive resource management.
• Safety stock is extra inventory kept on reserve to cover a company’s production and sales needs in the event of a supply chain disruption, delivery delay, or unforeseen spike in demand. The ideal level of safety stock will depend on inventory turnover rate, current and expected demand, and supplier lead time, among other factors.
• Economic order quantity (EOQ) is the ideal amount of inventory a business should order to maximize its profits. Its formula assumes constant demand and fixed costs for ordering and holding goods, but it can be adjusted to account for quantity discounts, storage constraints, or seasonal fluctuations. EOQ is calculated by doubling annual demand, multiplying that number by order costs, dividing the product by holding costs, and finally determining the square root of that quotient.
• First in, first out (FIFO) is a commonly used inventory valuation method—especially among businesses with perishable goods—in which inventory that has been on hand the longest is sold first. During inflationary periods, FIFO typically results in lower COGS and higher reported profits. Remaining inventory is valued at the most recent purchase prices.
• Last in, first out (LIFO) assumes the newest inventory is sold first. During inflationary periods, LIFO generally leads to higher COGS and lower recorded profits, which potentially results in tax benefits—at least, in the US—because it lowers taxable income.
• Reorder point (ROP) is the moment when inventory drops below a designated level and needs to be restocked. ROPs may fluctuate throughout the year or for different products due to factors like seasonal trends, changes in delivery times, and evolving sales patterns, so it’s important to reassess them periodically.
• Lean manufacturing seeks to trim any activities that don’t directly benefit customers through continuous improvements. For inventory management, lean means regularly identifying excess stock that wastes space and capital, reducing quantities to minimum viable levels, and then tweaking these levels so customers don’t bear the brunt of paying higher prices for unnecessary inventory.
• Dropshipping is a retail model in which sellers don’t store physical inventory but, rather, contract with third parties to house and ship the items straight to customers. For retailers, the benefits of dropshipping include lower capital investment and fewer carrying costs, as well as the ability to quickly scale through use of multiple suppliers. Visibility into suppliers’ stock levels thanks to integrated systems is critical for accurate delivery estimates.

 How to Manage Inventory More Efficiently