- Inventory management involves ordering, stocking and using a business's materials or products.
- There are various types of inventory, like raw materials, cycle inventory and MRO goods.
- Prioritizing your inventory helps you understand what you need to order or manufacture more frequently so you can continuously fulfill your customers' needs.
Inventory management is a crucial piece of a business's profitability, but a lot of small businesses don't practice good management when it comes to the items they sell. Some businesses have too little inventory, unable to meet customers' expectations by supplying enough available products. This often drives customers away, sometimes to another business, and sometimes for good.
On the other hand, many businesses go the other way, overstocking items "just in case." Though you'll always have the items your customers are looking for, the risk with this strategy is bleeding money from your business. Excess inventory not only ties up valuable cash flow, but it also costs more to store and track.
Effective inventory management lies somewhere between these two extremes. While it requires more work and planning to achieve an efficient management process, your profits will reflect your effort.
Types of inventory
Before you can tackle effective inventory management, you'll need to understand exactly what inventory comprises. These are some of the many different types of inventory:
Raw materials, or materials you use to manufacture your products
Unfinished products, works in progress that are not ready to be sold
Finished products, which are typically stored in a warehouse until sold or shipped
In-transit goods, which are no longer in the warehouse and are being transported to their final destination
Cycle inventory, or products that are shipped to a business from a supplier or manufacturer, then immediately sold to customers
Anticipation inventory, or excess products in anticipation of a surge in sales
Decoupling inventory, which are parts, supplies, or products set aside in anticipation of a slowdown or halt in production
MRO goods, which stands for "maintenance, repair and operating supplies" and supports the production process
- Buffer inventory, or "safety stock," which serves as a cushion in case of an unexpected issue or need for more inventory
It helps to sort your inventory so you know which items fall into the same category, and then you can manage accordingly. For example, you'll handle your finished products differently from your raw materials.
What is the best program for inventory management?
Various inventory management software programs are available for small businesses, and the best one for your business depends on multiple factors. For instance, you'll want to consider your budget, your business type and certain features you're looking for, like mobile apps and cloud backup.
Our sister site, business.com, has an inventory software buying guide that explains five popular inventory management software systems:
- TradeGecko is easy to use and has many integration options.
- Odoo is easy to learn and makes it simple to track orders, but it has little customer support and can't directly import e-commerce products.
- Fishbowl is organized and easy to use, with sales- and order-tracking features, but it can't import products from your online sales channel.
- Stitch is user-friendly software for both digital and physical stores.
- Contalog is best for e-commerce businesses but makes it difficult to finalize orders.
Tips for managing your inventory
Here you'll find the 10 essential tips to effectively manage your inventory for increased profitability and cash flow management.
1. Prioritize your inventory.
Categorizing your inventory into priority groups can help you understand which items you need to order more of and more frequently, and which are important to your business but may cost more and move more slowly. Experts typically suggest segregating your inventory into A, B and C groups. Items in the A group are higher-ticket items that you need fewer of. Items in the C category are lower-cost items that turn over quickly. The B group is what's in between: items that are moderately priced and move out the door more slowly than C items but more quickly than A items.
2. Track all product information.
Make sure to keep records of the product information for items in your inventory. This information should include SKUs, barcode data, suppliers, countries of origin and lot numbers. You might also consider tracking the cost of each item over time so you're aware of factors that may change the cost, like scarcity and seasonality.
Editor's note: Need help managing your business's inventory? Fill out the questionnaire below to have our vendor partners contact you with information on inventory management software.
3. Audit your inventory.
Some businesses do a comprehensive count once a year. Others do monthly, weekly or even daily spot checks of their hottest items. Many do all of the above. Regardless of how often you do it, make it a point to physically count your inventory regularly to ensure it matches up with what you think you have.
4. Analyze supplier performance.
An unreliable supplier can cause problems for your inventory. If you have a supplier that is habitually late with deliveries or frequently shorts an order, it's time to take action. Discuss the issues with your supplier and find out what the problem is. Be prepared to switch partners, or deal with uncertain stock levels and the possibility of running out of inventory as a result.
5. Practice the 80/20 inventory rule.
As a general rule, 80% of your profits come from 20% of your stock. Prioritize inventory management of this 20% of items. You should understand the complete sales lifecycle of these items, including how many you sell in a week or a month, and closely monitor them. These are the items that make you the most money; don't fall short in managing them.
6. Be consistent in how you receive stock.
It may seem like common sense to make sure incoming inventory is processed, but do you have a standard process that everyone follows, or does each employee receiving and processing incoming stock do it differently? Small discrepancies in how new stock is taken in could leave you scratching your head at the end of the month or year, wondering why your numbers don't align with your purchase orders. Make sure all staff that receives stock does it the same way, and that all boxes are verified, received and unpacked together, accurately counted, and checked for accuracy.
7. Track sales.
Again, this seems like a no-brainer, but it goes beyond simply adding up sales at the end of the day. You should understand, on a daily basis, what items you sold and how many, and update your inventory totals. But beyond that, you'll need to analyze this data. Do you know when certain items sell faster or drop off? Is it seasonal? Is there a specific day of the week when you sell certain items? Do some items almost always sell together? Understanding not just your sales totals but the broader picture of how items sell is important to keeping your inventory under control.
8. Order restocks yourself.
Some vendors offer to do inventory reorders for you. On the surface, this seems like a good thing – you save on staff and time by letting someone else manage the process for at least a few of your items. But remember that your vendors don't have the same priorities you do. They are looking to move their items, while you're looking to stock the items that are most profitable for your business. Take the time to check inventory and order restocks of all your items yourself.
9. Invest in inventory management technology.
If you're a small enough business, managing the first eight things on this list manually, with spreadsheets and notebooks, is doable. But as your business grows, you'll spend more time on inventory than you do on your business, or risk your stock getting out of control. Good inventory management software makes all these tasks easier. Before you choose a software solution, make sure you understand what you need, that it provides the analytics important to your business and that it's easy to use.
10. Use technology that integrates well.
Inventory management software isn't the only technology that can help you manage stock. Things like mobile scanners and POS systems can help you stay on track. When investing in technology, prioritize systems that work together. Having a POS system that can't communicate with your inventory management software isn't the end of the world, but it might cost you extra time to transfer the data from one system to another, making it easy to end up with inaccurate inventory counts.
Dawn Kuczwara contributed to the reporting and writing in this article.