What Is Inventory Management? Best Practices

Picture this: You see an ad online for a product you really, really want — so you take it as a sign from the universe to treat yourself. But when you click the Buy button, you get an irritating out-of-stock message: “Currently unavailable.” How frustrating. The backstory here is all about inventory management. 

Proper inventory management allows companies to keep track of all their products as they’re received, stocked, ordered, and shipped. From the warehouse to the customer’s hands, successful inventory management helps your business deliver stellar customer experiences. It’s what makes it possible to always know what’s in stock — and what’s not.

In this guide, we’ll cover:

First things first: What is inventory management?

Inventory management is how companies track and control the goods they buy, store, sell, and use. For some companies, like manufacturers, “goods” are the raw materials or components they use to make products. For others, like retailers, it’s ready-to-sell stock. Inventory management strategies and needs differ from company to company. But regardless of your business or industry, the objective is identical: Get the right amount of the right goods in the right place at the right time.

The goal sounds simple enough. However, the data tell a different story: 43% of retailers rank inventory management as their #1 day-to-day challenge. So, how can businesses find success despite difficulties like supply chain issues and changes in demand? Here’s everything you need to know.

Why is inventory management important?

The underlying challenge behind inventory management is clear: Buy too much and risk accumulating outdated stock, but buy too little and you won’t have anything to sell — resulting in unhappy customers who will shop elsewhere. Knowing when and how much to order is key to successfully managing inventory. With real-time inventory data and the right inventory management tools, companies can apply AI, automation, and predictive analytics to surface key moments earlier. Automating inventory management saves money and avoids wasted labor.

Popular inventory management techniques

The inventory management strategies you use will depend on your company’s business model. Here are a few popular techniques. 

Dropshipping: This technique involves outsourcing your warehousing and manufacturing. However, just because dropshipping allows you to bypass these steps doesn’t mean there aren’t other inventory management tasks to take care of. Focus on monitoring your supplier’s stock levels in real time. Implement automated order processing systems, and maintain clear communication channels with your suppliers to ensure timely fulfillment of customer orders and avoid stockouts or delays.

Demand forecasting: Demand forecasting is the art and science of predicting customer demand for particular products. Accurate, timely forecasts are critical for businesses of all sizes. Factors such as seasonality, competition, geography, and the types of products you sell can all affect demand. All business decisions should be based on data, so forecasters should consider investing in the right tools for trend projection, market research, and more. 

Perpetual inventory management: This technique relies on inventory management software to continuously track inventory levels in real time. By digitizing and automating the inventory management process, businesses can improve accuracy, maintain better control over stock levels, and reduce costs. Another key advantage of a perpetual inventory system is its ability to integrate with other systems across your business, like order management, accounting, customer service, and more. 

Economic order quantity (EOQ): With this technique, you crunch the numbers to determine your ideal order quantity, which helps you meet demand while minimizing the total costs associated with ordering, receiving, and holding inventory. The EOQ formula is an equation that can be used to pinpoint the optimal amount of inventory to request from a manufacturer or supplier. 

EOQ is best used in situations where demand, ordering, and holding costs remain constant. Although the formula can be altered to determine varied production levels or order intervals, most businesses with extensive supply chains and high variable costs rely on algorithms within their computer systems to calculate EOQ. 

Minimum order quantity (MOQ): This technique prioritizes purchasing the least amount of inventory possible. MOQ can be based on either the number of units or a dollar figure. It’s crucial to understand the impact of MOQs on your inventory and profitability. If you’re a buyer, you need to consider your inventory needs and storage capacity before committing to an MOQ. If you’re a seller, you should carefully set your MOQs to ensure profitability without deterring potential customers.

Just-in-time inventory management: This technique involves ordering the exact amount of inventory you need, precisely when you need it. The objective is to have as little excess inventory as possible at any given time. It’s an ideal solution for companies without ample storage space and those with smaller margins, or for those that want to reduce overspending on materials. To make JIT inventory management work, sellers must stay in constant communication with suppliers and manufacturers. Time is of the essence, and this method requires committed, streamlined software to operate smoothly. 

When done correctly, JIT can decrease costs and waste, and increase efficiency. Just-in-time inventory management also has its drawbacks. Supply chain disruptions, order errors, and damaged items can cause delays, leading to frustrated customers. That’s why this technique requires the right tools and meticulous tracking to keep things running smoothly. 

No matter what inventory management techniques your business chooses to use, it’s critical to keep an eye on your operations during every phase of inventory management. 

The key moments in the inventory management process

Every step of the inventory management process builds on the next, so it’s crucial to have all your ducks in a row from the get-go. Here are the key moments of inventory management:

Step 1 — Receive inventory and input data: When suppliers deliver materials or products, relevant data must be recorded and uploaded into your inventory management system. Pro tip: Implement AI tools to help your teams automate the data entry process. This reduces administrative tasks and improves accuracy.

Step 2 — Strategic storage: During this step, key considerations include storage space, the traffic flow of the facility, and how to make your most popular products easily accessible. AI-powered generative models trained on warehouse details and historical sales data can help here. AI can quickly uncover insights that help you optimize storage and make the best use of your space.

Step 3 — Order management and fulfillment: Once a customer makes a purchase, order management kicks in. This process involves everything that happens after the Buy button; It’s what controls all the downstream operational processes, people, systems, and partnerships that help fulfill orders. Order management is what makes it possible to give your customers real-time updates about where their order is (“Your order has left the warehouse and is on its way to your doorstep!”)

Step 4 — Update inventory levels: When your inventory and order management systems are in sync, the entire post-purchase process is transparent for your employees as well as your shoppers. Inventory is updated automatically in real-time, so you always know what’s in stock and what’s not. This gives your merchandisers and inventory managers an accurate view of orders and makes it easier to manage and coordinate packaging, shipping, and fulfillment processes.

Step 5 — Reordering and restocking: As orders are fulfilled and inventory levels decrease, reorders allow you to maintain a continuous supply of products. It’s crucial to know when and how much to reorder. Ordering too much too soon could result in deadstock (inventory that is no longer sellable because it’s expired, obsolete, or out of season). Waiting too long to order or not ordering enough could mean stockouts — and frustrated customers. AI-powered tools can help you monitor inventory levels, generate reorder alerts based on predefined thresholds, and even automatically place orders with suppliers. 

To help you get the right amount of inventory to the right place at the right time, leverage AI technology throughout the various steps of the inventory management process. With AI, you can automate tasks, gain valuable insights, and make your operations more efficient. 

The lynchpin of inventory management: Inventory visibility

The first step to successful inventory management is knowing where your products are at any given moment. The ability to view the quantity and flow of your goods in real-time is known as inventory visibility. Once you have a clear view of all your inventory, it’s much easier to track and store massive quantities of data, match supply with demand, and reduce instances of overselling and underselling. This also enables growth at scale. So, how do you get a crystal-clear view of inventory?

Tools like barcode scanners and SKUs can track the physical flow of goods, but that’s only part of the picture. The most advanced inventory management systems also account for real-time reservations across selling channels. For example, a platform that integrates sales data from a retailer’s website, app, and brick-and-mortar stores offers a more holistic view of your inventory. At these companies, operations and merchandising teams know at a glance exactly how many units of each item are in stock at each location, how many await shipment, and where they are stored within a fulfillment center or warehouse location. Automated reordering and predictive analytics ensure brands can replenish goods at key moments, such as when demand is rising but the reorder point hasn’t been reached. 

Greater visibility enables bulk purchasing while cutting storage costs and embedded analytics make it possible to more accurately predict demand to make timely purchases. Automated reporting and reordering reduce costly mistakes like out-of-stocks, overstocks, mis-picks, and mis-shipments. This increases the chances you can keep shelves stocked and deliver goods quickly and correctly, which builds customer satisfaction and drives repeat business.

How to improve inventory visibility

Many businesses still use spreadsheets to manage inventory. But even the most well-organized and routinely updated spreadsheet can’t deliver real-time insights into marketplace conditions on its own or pinpoint emerging supplier problems, such as a ship with goods that is stuck in port. It also doesn’t support flexible fulfillment options like Buy Online, Pick Up in Store (BOPIS) — which are becoming increasingly popular with consumers.

The bottom line is that manual inventory management is not a sustainable practice as companies grow and scale. But by elevating inventory data from siloed teams to the right digital platform, you can efficiently manage the flow of goods across your entire supply chain. That’s true even for omni-channel companies that sell on brick-and-mortar, social media, and app-based channels. This protects your business from easily avoidable problems like overselling online.

Digitizing and automating inventory management:

• Facilitates the tracking, storage, and analytics of massive quantities of inventory data.
• Ensures accurate inventory counts in real-time, lowers holding costs, cuts down on deadstock, and streamlines dock-to-stock journeys.
• Enables order tracking and accountability along picking, packing, and shipping processes.
• Delivers granular visibility to the location and warehouse location level, ensuring you can accurately match demand and delivery, and reduce overselling and underselling.

Combine good inventory visibility with some inventory management best practices, and you have a recipe for success.

What are inventory management best practices?

Visibility is critical to your inventory management efforts, but there are a few other best practices to consider. Here’s what to keep in mind as you plan your inventory management strategy:

Quality control: It’s essential for businesses to thoroughly check all inventory for defects or any other potential issues before selling products to customers. Without quality control, customers may end up purchasing damaged goods, which leads to negative reviews and a tarnished reputation. 

Inventory should be inspected as it arrives at your warehouse facilities, but quality control should also be prioritized throughout your handling, storage, and shipping processes. This includes proper packaging and working with reliable shipping partners who handle your inventory with care. 

Connected systems: By connecting your inventory management system with others in your ecommerce stack, you create a transparent, holistic view of your business for cross-functional teams. It’s much easier to gain insights that will drive your business forward when inventory management is integrated with your customer relationship management (CRM) platform and order management system. 

Monitor and optimize: Inventory management isn’t a “set it and forget it” task. Market conditions, customer demands, and business goals change. If you are continuously monitoring and improving your inventory management practices, it’s much easier to adapt. Collect and analyze feedback, data, and track metrics to identify improvement opportunities for your business. 

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How to track inventory management success

Wondering how you gauge the performance of your inventory management systems and operations? Here are a few key performance indicators (KPIs) to track: 

• Stockouts: A stockout is when a product is unavailable — which can be frustrating for customers and damaging to brand loyalty. If and when stockouts occur, investigate why there wasn’t enough of that product and use trend forecasting to stay on top of demand. By better predicting when sales will increase, you’ll have time to adjust your inventory in advance. 
• Inventory holding costs: Inventory holding costs are the total costs involved in storing and protecting unsold products. The lower this number, the higher your net margins. Determine which products have higher holding costs (likely larger items that take up space in a storage facility, or items that require unique storage considerations like a specific temperature or climate). Come up with a strategy to ensure that you aren’t overordering products with high holding costs. 
• Inventory days on hand: Inventory days on hand measures how efficiently a business turns over its inventory on average. The fewer days a unit sits in your warehouse, the better. When businesses accurately calculate days on hand, they can minimize stockouts by keeping their inventory levels lean and restocking just in time. 
• Inventory turnover rate: Inventory turnover rate measures how often a company sells through and replaces its inventory within a specific period (usually a year). This metric assists brands in determining if they have too much or too little stock to satisfy demand. Keeping an eye on your turnover rate can help you optimize the size of your reorders.
• Backorder rate: Backorder rate measures the number of orders that a brand can’t fulfill when a customer tries to make a purchase. This rate is an indicator of how well a company stocks high-demand products. Does your brand have a high backorder rate for certain products? If so, consider placing larger orders to satisfy demand and keep customers happy.

Inventory management FAQ

1. What are the different types of inventory?

• Raw materials inventory: These are materials used in the production of a company’s finished goods. Although raw material inventory is not directly sold to end customers, it is maintained by businesses to facilitate the transformation into work-in-process (WIP) inventory or finished goods inventory. For example, a furniture company that manufactures its own pieces would keep an inventory of lumber — and this would be considered a raw materials inventory.
• Work-in-progress (WIP) inventory: This refers to inventory that has entered the manufacturing process and is no longer classified as raw materials inventory, but is not yet a finished product. 
• Maintenance, repair, and operating (MRO) inventory: This encompasses essential materials, equipment, and supplies required for maintenance and operational activities. It includes any items used in the production process that are distinct from the raw materials, but that are not part of a final product.
• Finished goods inventory: This represents the comprehensive stock of goods readily available for customers to purchase. By using a finished goods inventory, sellers can accurately assess the value of their merchandise for sale. It’s important to note that the term ‘finished goods’ is relative, as what may be considered finished goods for a seller could potentially serve as raw materials for a buyer.
• Packing materials inventory: This includes the necessary raw materials, components, and any finished goods needed to package your products for different markets and customers. By properly managing your packaging material inventory, your business can reduce costs, improve and maintain quality, and meet customer demand more efficiently.

2. What is the difference between inventory management and order management?

Inventory management focuses on the overall control and optimization of inventory levels, while order management is concerned with fulfilling customer orders. Both processes are essential for effective supply chain management and ensuring customer satisfaction. Inventory management and order management are two distinct but interconnected processes in the supply chain.

3. How do I know if my inventory management is successful? 

To gauge the success of your inventory management, continually track key performance indicators (KPIs) that align with your business goals. By leveraging robust analytics and reporting capabilities, you can gain valuable insights into inventory turnover, order fulfillment rates, and customer satisfaction levels. 

Monitoring inventory accuracy, minimizing stockouts, and improving supply chain efficiency are all indicators of effective inventory management.