What is the right amount of inventory to stock?

Every organization holds some stock, but there is always a challenge of determining the right amount of inventory to maintain. Owning a stock is very costly. Therefore, this is why organizations strive to maintain an optimum inventory level. Optimal inventory levels are the ideal quantities of products that you should have in a fulfillment center(s) at any given time. By optimizing inventory levels, you reduce the risk of common inventory issues, from high storage costs to out-of-stock items. Too much inventory can require too much capital, sit on shelves too long, or eventually become unsellable. But too little stock can lead to stock-outs and back-orders, which can reduce customer satisfaction.

When it comes to optimizing inventory levels, here are a few things to consider:

  • It will be different for every brand.
  • Each SKU may require a different optimal inventory level based on demand.
  • Optimal inventory levels can change quickly (monthly, seasonally, and annually as you grow).

Ultimately, optimizing inventory becomes more complex as:

  • Your order volume increases.
  • You introduce more products.
  • You expand your physical distribution.

How to determine optimal inventory levels

There are several inventory management strategies that organizations can use to maintain optimal inventory levels while ensuring that customer needs are met. These strategies include:

1. Improving data collection

It is essential that organizations know where inventory is, the lead times for products to reach customers, and the amounts and lead times of raw materials reaching production plants. Without this information, organizations cannot adequately gauge their inventory levels and will inevitably gather too much safety stock. To manage inventory and identify where cuts can be made, organizations should establish a regular counting system, such as cycle counts, in which all inventory is monitored and compared to other information coming in from the supply chain.

2. Increasing production speed

An organization must have enough inventories to meet customer demand. If it can produce goods faster or receive them faster from a manufacturer, it can meet the same level of demand with fewer inventories. For example, if it takes one month to make a product, inventory levels must cover at least four weeks’ worth of demand. If it only takes one day to make a product, inventory levels of two days’ supply will adequately cover demand and leave a small buffer zone.

3. Avoiding economies of scale

Many organizations purchase vast amounts of raw materials or components because it is cheaper to buy in bulk. However, purchasing bulk supplies can cost much more in inventory storage costs than it saves in purchasing price. Organizations should purchase only what is needed to meet the level of customer demand.

4. Reducing lead times

The longer an organization’s lead time, the more inventories it must have in its system. Organizations can investigate faster ways of getting products to customers, whether by using more efficient transport systems or by locating production plants closer to main customer hubs. The costs involved with inventory storage are so substantial that the additional expenses associated with more expensive transportation options might be justified.

5. Basing inventory management on market demand

Forecasts are necessary to help manage inventory, but they are really only educated guesses. Forecasts for months or even a year ahead are very likely to be inaccurate. Organizations should pair forecasts with market demand to decide when to replenish finished goods. This will keep inventory levels aligned with the amounts that customers are actually purchasing.

5. Determine reorder points

A reorder point is the level of stock that you don’t want to go below. An ideal inventory reorder point also includes the time it takes to make a new order before your stock reaches the threshold. In other words, when the stock level for one of your products is about to reach the reorder point, a replenishment order should be placed immediately.

It’s likely that your reorder points will be different for every individual product that you sell – items are likely to have different demand rates and vary in how long it takes to receive the replenishment delivery.

6. Use accurate demand forecasting

Using accurate demand forecasting is another way in which you can reduce stock levels and avoid stock outs. Forecasting demand from reports and historical sales data allows you to order just enough stock to satisfy demand throughout the year and reduces your cost of inventory as you won’t be overstocking or under-stocking your warehouse.

Besides, predictive data analysis better equips you to make business decisions based on previous months – helping you to estimate the correct size of your inventory. This way you don’t order too much stock and you don’t risk being too low on inventory ensuring optimum stock levels. Closely monitoring your sales trends helps your business to reduce the likelihood of carrying excess stock that you’re unable to sell.

7. Communicate clearly with your supplier

Clear communication with suppliers about your expectations, and the new goods schedule, is a cornerstone of good inventory management. You also need to be mindful of any holidays or closures your manufacturer has, such as factory shutdowns.

Having access to insights into your suppliers’ operations should be harnessed and built into your inventory tracking strategy. Your suppliers play a huge role in your supply chain, so be sure to monitor their performance over time.

In Summary

Striking the balance and maintaining optimum stock levels for your business is by no means an easy task. In fact, it can take a long time to perfect your stock levels. By keeping an eye on your inventory and using the above tactics to reduce stock levels and avoid stock outs, you can gain a much better understanding of how much you need to stock and eliminate out of stock issues for good.

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