Inventory Optimization Guide: Meaning, Significance, and Benefits

With globalization and technological advancement, people can order almost anything from their phones and expect it to arrive immediately, which puts additional strain on the manufacturer’s inventory control processes.

Overstocks cost the average retailer 3.2 percent of revenue lost, while understocks cost 4.1 percent. Businesses are estimated to lose $123.4 billion per year due to overstocks, with out-of-stocks costing another $129.5 billion.

However, inventory management is a difficult needle to thread. Surplus warehouse stock represents wasted costs, but limited stock makes meeting customer demands difficult. 

But how can you meet the customer’s expectations?

Inventory optimization is the solution in a highly competitive market.

Inventory optimization is all about finding a happy medium between customer satisfaction and capital preservation.

This article will detail what inventory optimization is, why it’s important, and its benefits for your business.

Let’s get started.

What is Inventory Optimization?

Inventory optimization entails managing stock levels to meet performance and demand targets while minimizing inventory costs. In other words, it lowers inventory levels to reduce inventory-related expenses, freeing up capital for other operations.

Businesses must understand their supply and demand ratio to optimize their inventory. This necessitates accurate forecasting to prepare inventory for fluctuating demand. Inaccurate sales forecasting can lead to:

  • Stockouts
  • Excessive storage expenses
  • Backorders
  • Disruptions in the supply chain
  • Dissatisfied customers
  • Reduced customer loyalty and advocacy income

As a result, businesses should assess their supply chain requirements to determine how to maintain low stock levels while not under- or over-stocking. Each product line’s lead time, shipping rate, daily usage, and economic order quantity (EOQ) should be considered by management. 

Inventory planning allows businesses to gauge and capitalize on fluctuating customer demand, giving them a competitive advantage over companies with poor forecasting skills.

Main elements of inventory optimization

To optimize inventory, a company must understand when and how much product to order to meet customer demands without increasing stock maintenance costs. 

Companies must understand the following elements to achieve inventory optimization.

1. Demand forecasting

Accurately forecasting inventory to stock for the next sale cycle is a critical component of inventory optimization. When calculating ideal figures, businesses should consider account sales data, input from a sales force or on-the-ground personnel, and the previous year’s supply and demand data.

Businesses should look for any shifts in trends or technological advancements that could render a product obsolete. Implementing machine learning can help in various ways, from quick analyses of previous year’s data to forecasting current sales volume.

2. Inventory policies

Inventory policies of inventory optimization

Following that, businesses must establish their inventory policy, which involves determining the optimal stock level for each product line. Many businesses employ the ABC analysis method, also referred to as the Pareto Rule, in which management divides inventory into A, B, and C groups based on usage.

Group A is typically the smallest category and contains the items with the highest turnover rates. Products in Group B have average consumption levels, falling between Groups A and C. Finally, group C comprises goods with the slowest turnover rates and contributes for less than 5% of the total annual consumption.

By dividing inventory using the ABC system, businesses can determine which products should be kept on hand and which can be ordered on demand. Management must then decide how much safety stock to keep on hand if unexpected demand increases, supply chain disruptions, or vendor complications occur.

3. Stock replenishment

Companies must reorder and determine the optimal stock levels for each product to maintain a healthy inventory count. 

Management must determine order sizes to avoid overstocking and understocking products. Businesses must concentrate on the following to optimize stock replenishment:

  • Supplier Dependability

The time it takes a supplier to fulfill an order has a significant impact on stock availability. If a vendor has long lead times, businesses must plan ahead of time for reorders, making operations reliant on purchase orders. 

  • Transported Goods

When replenishing stock, it is not enough to have an accurate count of on-hand inventory; companies should also account for the goods in transit. Otherwise, management may inadvertently place double orders, increasing storage and stock costs.

4. Keep track of product life cycle

When a product enters the market, its impact and popularity generate future demand. Every seller must determine which stage each stock-keeping unit’s product life cycle is in.

Knowing how your products are faring will help determine where they are heading logically, which ones to keep in stock, and which to drop. It will give you a huge advantage when it comes to inventory optimization.

5. Demand and supply uncertainty

Demand and supply uncertainty

Customers cannot be asked to wait for an item that is out of stock. Businesses are placed on a level playing field with aggregator websites and eCommerce marketplaces, and one company’s inability to supply becomes a competitive advantage for another.

Small and medium-sized businesses are particularly vulnerable to customer churn if they cannot stock or replenish at the same rate as larger enterprises with more extensive supply chains. As a result, you must keep a network of reliable vendors and backup methods for procuring stock-keeping units. 

6. Promotional campaigns

Seasonality can be difficult to navigate for retailers. A tartan coat may be popular one season, but it will be out of style by spring. Even though fashion is cyclical, storing unsold merchandise can increase maintenance costs and capital, especially if that design goes out of style. Forecasting is difficult in this area, and it can hinder inventory optimization.

You can unload excess inventory through “end-of-season” promotional campaigns, which is also important for inventory management and optimization in retail.

Why Does it Matter for Your Business?

The rising popularity of multichannel retailing, combined with the unpredictability of natural disasters, raw material shortages, manufacturing shutdowns, and other factors, can make optimizing your supply chain challenging.

Fortunately, by implementing the appropriate tools, technology, and resources, you can better prepare for the unexpected while still meeting demand and keeping logistics costs low.

Inventory optimization is critical for supply chain planning and growth in the future as it helps in the following ways:

1. Eliminates variability

Inventory optimization could lead to more efficient operations by providing better visibility into the material that needs to be procured, production cost forecasts, and service requirements.

It helps to maintain a consistent flow of production, and ensure that the product reaches the market and the customer on time.

2. Prevents overstocking

When you don’t have the resources to make better inventory decisions, it’s common to overstock inventory to be safe. However, it can result in higher carrying costs and deadstock caused by items that become unsellable due to seasonality, expiration dates, or a drop in demand over time.

For instance, the decrease in face masks in the United States now that millions of people have received full vaccinations.

3. No unnecessary costs

You can reduce the amount of capital used for production while improving service levels by optimizing inventory processes. It allows more time to research and deliver what customers want and when they need it without holding too much material.

It typically reduces inventory fill-ups and is an excellent financial motivator for businesses because money saved is earned, which you can use to improve other aspects of your job.

4. Balance inventory levels

Knowing which SKUs are available in your warehouse or distribution center at any time helps with inventory accounting, profitability, and the ability to meet customer demand. Inventory optimization aims to balance inventory levels to avoid overstock or understock.

Balancing inventory levels can help you improve cash flow, optimize warehousing capacity, and consistently meet customer demand.

5. Customer loyalty

Better inventory management will improve your delivery and service times, thereby satisfying and keeping customers happy. This boosts customer loyalty and strengthens your company’s market share.

Some Notable Benefits of Inventory Optimization

Optimizing inventory levels can provide significant benefits to your organization, let’s check them out:

1. Improves stock management

Instead of stockpiling and potentially storing materials that you don’t even need, it’s best to reduce excess product storage.

Inventory optimization helps in determining the stock to keep in the inventory. This expedites inventory turnover, prevents uncertainties, and frees up a significant amount of space for additional storage.

2. Pulls down inventory costs

Optimizing inventory processes can reduce the amount of capital used for production while improving service levels. It gives time to study and deliver on what customers want, when they want it, without holding too much material.

This typically reduces inventory fill-ups by 10-30% and is a great financial change and motivator for businesses. Money saved is earned, allowing you to use that money to improve other aspects of your job.

3. Opportunity to meet new partners

Clarity on inventory levels allows your company to collaborate more effectively with upstream and downstream supply chain partners and stakeholders. It also helps employees understand how best home inventory affects various aspects of your business, such as sales and marketing, customer demand, accounts receivable, and human resources.

4. Improved time management

With a better understanding of inventory, you can allocate products to warehouse locations, reduce delivery time, improve customer satisfaction, lower delivery costs, and increase sales and revenue due to inventory availability.

How Upper Helps You Optimize Inventory?

Upper Route Planner is an advanced route planning and optimization software that offers on-demand reports, single-click dispatch and proof of delivery ePOD.

Optimizing inventory won’t be easy if you cannot see where your products are going. Thankfully, Upper’s sophisticated algorithm makes it easier for managing inventory and logistics planning. It centralizes all of your real-time and historical data.

Upper Route Planner allows businesses to focus on their business operations and reduce manual planning and scheduling hours while the algorithm handles the rest. You can also generate delivery reports to analyze your driver’s performance.

Sign up for a 7-day FREE trial today if you want to optimize your inventory for your business.

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FAQs

Inventory management is the administration of non capitalized assets, also known as inventory and stock items. As part of supply chain management, inventory management oversees the flow of goods from manufacturers to warehouses and from these facilities to points of sale. It is an important inventory management function to keep a detailed record of each new or returned product entering or leaving a warehouse or point of sale.

Multi-echelon inventory optimization assists businesses in optimizing inventory levels across their distribution centers. Inventory optimization and multi-echelon planning are successfully combined in this supply chain planning.

Based on demand variability at the various nodes and higher-level performance, it determines the correct levels of inventory across the network (lead time, delays, service level). It approaches inventory optimization holistically or globally, assisting in successfully optimizing inventory throughout the supply chain.

With changing customer demand, a well-developed supply chain execution strategy is more important than ever in an organization’s short- and long-term business plans.

Adopting the right strategies can help reduce costs, improve customer service, and support your business goals. It can also assist you in understanding your historical data, locating your inventory, and adapting to changing demand.

Most businesses take every precaution to prevent stock-outs, even though excess inventory can act as a buffer. Here are a few reasons why having excess items on hand can be cumbersome and expensive.

  • Keeping surplus money in inventory can quickly lead to a cash-flow shortfall, which no business wants. Furthermore, such a shortfall may necessitate borrowing money and paying interest on that loan.
  • Excess inventory takes up extra floor space, making it impossible to offer new products to your customers.
  • Too much inventory reduces your company’s ability to respond to changing customer demand. A lean, optimal inventory allows the company to remain adaptable to market changes.

Knowing when to order more stock is critical if you own a business. If you order while still having a large amount of stock on hand, excess inventory will accumulate, increasing your holding costs. If you order when you don’t have any stock on hand, you won’t be able to sell anything for the duration of the order.

The longer your vendor takes to deliver the items, the more sales you will lose. Setting a reorder point allows you to optimize your inventory, replenish individual item stocks when needed, and meet market demand without running out of stock.

Conclusion

To scale your business to great heights, it is necessary for you to optimize inventory that will help you to avoid stockpiling items and reduce inventory-related expenses, releasing capital for other operations. We understood the main elements, importance, and benefits of inventory optimization that will help you in improving your supply chain management. 

Besides, if you are dealing with daily delivery operations, you can optimize your inventory using the right route planner such as Upper Route Planner. It will help you with the fastest routes, advance route scheduling, proof of delivery, and much more. Upper aims for providing an excellent customer experience with its unique routing features.

Sign up for a 7-day free trial and see how it helps your business to reach its maximum potential. 

Author Bio
Rakesh Patel
Rakesh Patel

Rakesh Patel is the founder and CEO of Upper Route Planner. A subject matter expert in building simple solutions for day-to-day problems, Rakesh has been involved in technology for 30+ years. Looking to help delivery businesses eliminate on-field delivery challenges, Rakesh started Upper Route Planner with the ultimate goal of simplistic operations in mind.

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