Inventory Risk: What Is It And How To Handle It [+ Examples]

Inventory Risk: What Is It And How To Handle It [+ Examples]

Physical inventory always comes with risk. But the right risk management strategy and tools can protect you during unexpected storms.

Although it isn’t fun to think about, inventory will always be the biggest risk direct-to-consumer (DTC) brands take on. After all, demand will always be somewhat unpredictable, and unsold stock is always at risk of going stale.

While inventory risk is inevitable, you can keep them to a minimum.

How? By making smart decisions when it comes to inventory purchasing and storing your stock. This way, your business can safeguard its profitability and keep customers satisfied.

What is inventory risk?

Inventory risk is the chance that a retail brand’s inventory doesn’t sell or lose value, which would lead to a loss in profit. Inventory risk usually involves some combination of:

  • The wrong goods: Carrying products your customers don’t want to buy
  • The wrong price: Pricing products too low and suffering thin profit margins or too high, curbing demand
  • The wrong place: Poorly distributing products among your warehouse locations
  • The wrong time: Dealing with product obsolescence or expiration

As you might’ve guessed, the key to offsetting all of these inventory risks is to sell the right amount of the right goods for the right price in the right place at the right time (phew, that’s a mouth full).

But this is no small task since it means constantly balancing supply and demand.

In other words, retailers that sell inventory need to juggle supply risks (think: supplier-side issues like long lead times or a manufacturing work stoppage) along with demand risks (like inaccurate forecasting).

7 examples of inventory management risks

Outlining a bunch of inventory risks might sound like a glass-half-empty perspective. But it’s wise to understand common pitfalls so you can sidestep them.

While there’s a laundry list of potential inventory risks, we’ve rounded up 7 examples of risks brands face daily.

Risk 1: Inaccurate forecasting

Inventory forecasting aims to plan for future customer demand so you can order the optimal amount of stock when needed. Sounds simple enough—and yet, it’s one of the hardest tasks for retailers to get right.

Brands often misinterpret their inventory data (or don’t have enough information to make informed decisions), which leads to inaccurate forecasts.

Regardless of the cause, unreliable predictions can have some pretty severe consequences for your brand.

Underestimating demand (AKA, not having enough products) can lead to stockouts, lost sales, and even lost customers.

The opposite issue—overestimating demand (AKA, having too much stock)—can leave brands with excess inventory that costs extra to store and ties up their cash flow.

Either way, these faulty forecasts can eat away at your bottom line.

👩‍⚖️ Case in point
Before the pandemic, stockouts cost brands about $1 trillion annually. But during the 2020 holiday season, stockouts increased by 360% from the previous year (costing brands even more).

To avoid much-dreaded stockouts, many retailers got more aggressive with their inventory forecasts to meet the huge upward swing in demand.

But the approach backfired as people eventually returned to “normal” life. This shift back to old shopping habits (plus rising inflation) created a big drop in demand for consumer goods.

The result? Brands like Nike and Target were left scrambling to offload tons of unexpected, excess inventory (that undoubtedly drove up their warehousing costs) and missing Wall Street expectations.

Even if this example feels a bit extreme, it paints a clear picture of the impact of inaccurate forecasting and the risks retailers face when predicting demand.

🧠 Keep in mind
While stockouts and excess inventory are inventory risks in their own right, these issues often stem from inaccurate forecasting. So, by improving the accuracy of your forecasts, you radically reduce the amount of risk your ecommerce business endures.


Risk 2: Supply chain shortages

Even though supply chain shortages existed long before the COVID-19 pandemic, they’ve captured more headlines lately thanks to dramatic shifts in demand (on top of extensive labor shortages).

Supply chain shortages create a significant inventory risk, seeing as you can’t sell products (or make a profit) if there aren’t any goods available. (The exception, of course, is if you sell on backorder.)

The recent baby formula shortage in the US is a prime example. Nationally, 23% of powdered baby formula was out of stock by the end of May 2022. For comparison, the pre-pandemic out-of-stock rate for powdered formula was just 5-7%.

The high demand for baby formula (coupled with the shortage of available inventory) allowed manufacturers to increase prices and maintain their profit margins.

After all, parents have to feed their children, so naturally, they opted to pay more for whatever was available.

However, supply chain shortages trigger large-scale revenue loss.

According to Reuters, supply chain disruptions (which include product shortages) may have caused up to $4 trillion in lost revenue in 2020 alone.

Risk 3: Damage

Damaged inventory is stock you can’t use or sell that eventually becomes waste. Ditching damaged products is a costly problem as those costs add up quickly.

In fact, around $81 billion worth of inventory is wasted annually due to product damage or perishability.

As you might’ve guessed, mishandling merchandise is the biggest root cause of inventory damage.

This often happens during order fulfillment or because of poor storage conditions (like throwing all sorts of products into the same bin).

To prevent this kind of mishandling, define your protocols for handling (and storing) products at your warehouse or fulfillment center. For example, if your brand sells fragile items, properly label them to ensure no one places heavier items on top.

Risk 4: Theft and loss

Another big risk for business owners is inventory theft or loss (AKA, shrinkage). This is especially important if you sell high-value inventory or luxury goods with a higher price point.

The more expensive the stolen or missing products, the more potential revenue is slashed from your sales ledger. And while stolen luxury goods pack a powerful fiscal punch, theft and loss impact brands of all sizes.

After all, stolen products are lost sales opportunities, and you often have to pay for that inventory twice. At first, to stock SKUs that are ultimately stolen, then again to replace that stock.

Many of us picture brick-and-mortar stores when thinking of inventory theft.

We’ve all heard horror stories of customers strolling out of stores with merchandise they didn’t pay for. But this is a problem that plagues ecommerce stores as well.

Employee theft alone is responsible for an estimated 42% of inventory shrinkage—which isn’t a huge surprise when your staff has direct access to all your products.

📝 Note
Inventory shrinkage is any excess stock listed on your books but no longer exists on your shelves—leading to phantom inventory. In other words, inventory shrinkage happens when your actual product count is less than your recorded balance.

Inventory loss also contributes to inventory shrinkage. While inventory loss and theft both deal with the physical loss of a product, they aren’t the same.

Unlike theft, inventory loss usually happens due to poor handling (like when discrepancies occur with the goods receipt or during the returns process).

On top of that, natural disasters like floods, fires, and tornados can damage your warehouse (and the inventory stored inside).

As you already know, brands lose revenue from those lost goods (and then have to pay to replace them). But they also fork out extra costs for security systems or personnel to prevent this kind of theft down the line.

Any way you look at it, inventory theft slash loss will cost you money and create a huge hassle in terms of replenishing your stock levels.

Risk 5: Unreliable suppliers

While a reliable supplier will deliver exactly what you need when you need it, an unreliable one could leave you high and dry with long lead times and incorrect orders.

For example, an unreliable supplier will communicate their lead time up front but deliver your order too early or too late.

So, your brand could fluctuate between having too much and too little stock on your shelves. And the wider the gap between these early and late deliveries, the greater the risk you’ll have an overstock or stockout situation.

Meaning, underperforming suppliers—those that can’t meet delivery schedules or quality standards—will cost you money and even drive away customers.

How so? When suppliers don’t stick to the agreed-upon delivery schedule, it can cause major fulfillment delays at your warehouse. Delays that you then must pass along to your customers and take responsibility for (even if it technically wasn’t your fault).

This naturally leads to a sub-par customer experience. And 17% of customers will switch brands after only one bad experience (that number jumps to 59% after multiple bad experiences).

Meanwhile, good supplier relationships help minimize inventory risks and maintain optimal inventory levels. That way, you can easily meet customer demand and satisfy customers.

Risk 6: Shelf life and expiration

Working with perishable products means working against the clock. Many products either have a limited shelf life or expiration date.

If retailers don’t stay on top of them, they can incur major losses. The shorter a product’s shelf life, the greater the risk it will expire before it’s sold.

Like damaged inventory, expired or stale products can’t be sold and eventually become dead stock and lost revenue.

Companies discard a whopping $163 billion of merchandise yearly due to expiry or overproduction. And most of those losses stem from food, supplement, and beauty supply brands.

That’s why many retailers adopt a minimal stocking approach for perishable goods. This gives the older stock a better chance of being sold first (ahead of newer products with a later expiration date).

Risk 7: Product life cycle

Nearly all retail products go through a four-phase life cycle:

  1. Launch: The product is introduced to consumers
  2. Growth: The product generates growing sales
  3. Maturity: The focus shifts to maintaining market share
  4. Decline: The product experiences reduced demand

Even though brands often see a surge in sales during the launch and growth phases, customer interest wanes, and sales slow down (or stop completely) over time.

All sorts of factors trigger this decline, from changing trends and consumer attitudes to product obsolescence and growing competition. The harsh reality of retail is that no product is immune to losing favor with customers.

With that said, any SKUs entering the final 2 phases of their life cycle become high-risk inventory since demand is winding down. These products can quickly turn into dead stock if you don’t sell out before customers lose interest.

Not only does dead stock take up valuable space at your warehouse, but the average total holding fees are upward of 30% more than the inventory’s value. Those hefty costs can take a big bite out of your profitability.

📝 Note
Retailers need to stay on top of market trends and customer buying behaviors so they don’t over-order inventory that’s declining in demand. Brands that don’t pay attention to trends could run into overproduction, obsolete inventory, and extra holding costs for SKUs that won’t move.


How to mitigate inventory risks

While all these inventory risks threaten your profitability, the silver lining is that there’s a lot you can do to reduce these challenges (and maximize your revenue).

Some of the best strategies for risk mitigation include creating accurate demand forecasts, optimizing safety stock levels, offloading excess stock, and shortening your lead times.

Strategy 1: Accurately forecast demand

Accurate demand forecasts are key to maintaining the right inventory to fulfill customer orders, avoid inventory shortages, and keep logistics costs low. In short, accurate planning alleviate a lot of inventory risk.

And what’s the best way to generate accurate forecasts? Team up with innovative operations software that can do all the heavy lifting for you.

For example, leading end-to-end inventory purchasing platform like Cogsy keeps track of product movement, previous sales, and the inventory you have on hand. That way, you know exactly when (and what) to reorder.

In fact, Cogsy’s actionable dashboard tracks all your inventory data in real-time, then uses this data (plus historical insights) to create forecasts with pinpoint accuracy for your business.

Plus, if your brand struggles to keep your most popular products in stock, Cogsy can help you stay ahead of supply chain disruptions by selling on backorder.

If that wasn’t enough, Cogsy’s multi-location support gives you full visibility into your inventory across all your locations at any time.

This transparency lowers your risk of accumulating expired or excess inventory. And when you stop overstocking on goods that will likely go unsold, you’ll also avoid paying surplus carrying costs for storing those items at your warehouse.

That’s a win-win for everyone, right?

🔥 Tip
DTC brands that use Cogsy generate 40% more revenue on average. But don’t take just our word for it—try Cogsy free for 14 days!


Strategy 2: Have safety stock on hand

Safety stock is extra inventory you keep on hand as a buffer against unexpected shifts in demand and uncertainty in your supply chain.

By maintaining high order accuracy and ordering the right amount of safety stock, your brand can prevent stockouts, reduce lead times, and compensate for times demand outperforms your forecast.

Prevent stockouts

When your brand hits low inventory levels on any particular SKU, safety stock ensures you can keep selling while you wait for replenishments.

In other words, safety stock allows you to continue fulfilling orders (and bringing in sales) until your warehouse is fully restocked.

Compensate for inaccurate forecasting

Even when you do everything right, sometimes your forecasts aren’t as spot-on as you’d hoped. For example, maybe there’s a spike in demand your forecasts didn’t anticipate because you went viral on TikTok (meaning your stock levels suddenly take a dip).

Safety stock helps you quickly pivot before you hit stockout territory. Thanks to safety stock, you can keep fulfilling orders as you work on building your next (more accurate) forecasting estimates.

Strategy 3: Offload excess stock

More often than not, excess inventory puts your company at risk of accumulating additional holding costs, reduces your available cash flow, and creates a lot of unnecessary waste. That’s why it’s in your brand’s best interest to offload excess stock as soon as possible.

Some of the most efficient ways to clear out excess inventory include:

  • Product bundling: Package and sell slow-moving inventory with more popular SKUs
  • Sell at a discount: Launch a promotion to encourage customers to snatch up any stagnant inventory (everyone loves a bargain, after all!)
  • Offer it as a free gift: Offer low-cost merchandise as a free gift with a minimum purchase
  • Recycle it: Check if your products can be recycled (rather than going to a landfill)
  • Donate it: Collaborate with a nonprofit organization (and earn a federal tax deduction)

Regardless of your approach, any effort to reduce your excess stock can help protect your profits and bring down your holding costs in a big way.

Strategy 4: Reduce lead time

We’re circling back to this point because it’s that important to mitigating your inventory risks. And fortunately, keeping safety stock isn’t the only way to reduce long lead times.

You can also team up with trusty operational software, build better relationships with your fulfillment partners, and place smaller orders with increased frequency.

Team up with trusted operational software

As we alluded to this above, but the right tools can set you up for success in various ways. An ops platform like Cogsy helps you oversee your inventory levels and make proactive business decisions.

With Cogsy, you can stay organized and maintain inventory control since you can closely track delivery progress and product movement across all your locations.

On top of that, Cogsy sends automated replenish alerts, which notify you when it’s time to top up your inventory. And you can take the rest of the guesswork out of reordering since Cogsy uses real-time data to create more accurate forecasts (and greater supply chain visibility).

You can even run “what-if” scenarios to identify your best-case, worst-case, and most probable inventory strategies. That way, you can stock up accordingly.

Build better relationships with fulfillment partners

Successful working relationships are the bedrock of building a thriving business. That’s why Cogsy makes it easy to strengthen relationships with your fulfillment partners with its intuitive planning feature.

Leverage real-time and historical insights to plan for your inventory needs up to 12 months in advance. While this foresight is great for shortening your lead times, it also gives you leverage to negotiate better terms with your vendors.

Vendors are much more likely to cut you a deal when you provide this level of consistency (and transparency) with your orders. Why? Because they can count on your business (and the steady volume of your orders).

Keep in mind: If you’re working with an overseas supplier, you might want to consider switching to a local supplier instead.

Although some international vendors offer lower shipping rates, you’ll need to weigh that benefit against longer delivery windows and recurrent delays.

By partnering with a domestic supplier, you can often reduce your lead times by several weeks (compared to shipping from China or another foreign country).

Place smaller orders with increased frequency

Although large order quantities can sometimes save you money (thanks to bulk discounts), they can also translate to longer lead times (which end up costing you money). To combat those lead times, place smaller orders more frequently.

If your suppliers have a higher minimum order quantity (MOQ), you can share your ops plans and commit to ordering a big percentage of your inventory with them.

In exchange, you can ask for smaller runs or have that supplier hold a portion of the stock (so you’re not the one collecting all the storage costs).

With more frequent purchase orders, you can enjoy shorter lead times and greater efficiency—since smaller orders take much less time to process.

🤿 Dive deeper: 16 ways to reduce lead times.


Strategy 5: Improve inventory visibility

Increasing inventory visibility is one move that gives you the best bang for your buck when reducing risk.

With greater transparency, you have a better chance of spotting demand trends, tracking future demand needs, and predicting when interruptions might occur.

Cogsy has various features that instantly broaden your brand’s visibility. This includes perpetual inventory updates, automatic replenishment notifications, and powerful integrations with other systems you’re likely already using to run your business.

And because Cogsy stores all your real-time and historical inventory data in the same place, you can see all your inventory metrics at a glance.

Better yet, Cogsy helps you make sense of this inventory data. You can pull clear, personalized next steps from all those numbers—and then use these recommendations to make better decisions for purchasing, forecasting, and beyond.

Strategy 6: Price stock competitively

Businesses have 3 options when it comes to setting the price for their goods:

  1. Set the price below the competition
  2. Set the price equal to the competition
  3. Set the price above the competition

Pricing your products is a true Goldilocks dilemma. If you set your prices below the competition, you could sell at a loss.

If your prices are higher, you’ll have to justify that price point with generous payment terms or special product features. You could also easily end up with dead stock if customers decide the higher price isn’t worth it.

Instead, you can charge the same (or close to the same) price as the competition. This strategy (known as competitive pricing) is where retailers select strategic price points relative to their competitors.

Keeping prices competitive can help you maintain a healthy profit margin on your products while also avoiding dead stock.

Just remember: Competitive pricing is also helpful when a product’s price has reached a level of equilibrium. Meaning, the product has been on the market for a long time, and there are now multiple substitutes for that SKU.

Switching to competitive pricing can drum up more customer interest (and, subsequently, more sales).

Your brand can mitigate the risk of losing sales, revenue, and entire customers to the competition by continually evaluating product pricing and making adjustments as needed.

🤿 Dive deeper: Start experimenting with pricing—here’s how.


Strategy 7: Get insurance

Let’s face it: Nobody cares about insurance until they need it. But if you’re an ecommerce business owner, you can likely benefit from product liability insurance.

This type of insurance protects your online store from 3rd-party claims of property damage or bodily injury caused by a product you sold (or made).

More simply, product liability insurance protects your business against:

  • Product defects from manufacturing
  • Design flaws that cause issues or injury
  • Failures that occur because of inadequate instructions or warnings labels

Let’s say one of your products triggers a customer’s allergies. Product liability insurance will pay medical expenses, legal fees, and other costs to settle the case.

You can also use insurance to protect your inventory and warehouse equipment against property damage (and loss) caused by fire, natural disasters, or theft.

A reliable insurance policy protects your entire inventory at market value. This is an incredible way to cut down on inventory risk, seeing as the cost to replace damaged or unsellable inventory can add up fast.

From that perspective, you can’t really afford not to have insurance coverage, right?

Admittedly, we’re by no means insurance experts. So, check out this Shopify guide to learn more about different insurance options for ecommerce brands.

Suing an insurance company in small claims court can be a costly exercise, so do your due diligence and make sure you go with a highly reputable provider with plenty of positive claim reviews.

Build a resilient inventory system with Cogsy

Mitigating inventory risks and maintaining profits are major challenges for small businesses and veteran brands alike.

Thankfully, Cogsy is here to help Shopify and Amazon brands of all sizes curb inventory risks.

Cogsy pulls all your inventory operations into one platform and helps you build a resilient inventory system to achieve greater agility, alignment, and control throughout your brand.

More specifically, Cogsy helps you maintain optimal inventory levels across all your warehousing locations via accurate demand planning and real-time inventory management.

It’ll even share replenishment alerts when it’s time to place your next purchase order (complete with restock recommendations).

That way, you can get your POs out the door faster. And your brand can bypass stockouts, overstocks, and excess inventory with little effort on your part, making it easy to reach your most audacious revenue goals.

But don’t just take our word for it — try Cogsy free for 14 days.

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Inventory risk FAQs

  • How do you manage inventory risk?

    Inventory risks threaten your brand’s profitability. But the silver lining is you can do plenty of things to minimize these hazards (and maximize your revenue). Some of the most popular ways to reduce inventory risks include creating accurate demand forecasts, optimizing safety stock levels, offloading excess stock, and shortening your lead times.

  • What are the risks of holding inventory?

    More often than not, holding onto excess inventory puts your company at risk of accumulating additional holding costs, tying up your available cash flow, and creating a lot of unnecessary waste. That’s why it’s in your brand’s best interest to offload any excess stock through product bundling, selling at a discount, and recycling whenever possible.

  • What is inventory quality control?

    Inventory quality control is a process that measures production output to ensure the numbers are just right. Brands essentially do mini-inspections to check that each unit meets the company’s quality and quantity standards. By continually monitoring your inventory, you have a better chance of identifying quality issues throughout the supply chain (from supplier to customer).

  • How can companies effectively use inventory management software?

    Inventory management software can be a powerful tool for companies to optimize their supply chain and increase operational efficiency. Here are some ways that companies can effectively use inventory management software:

    • Accurate tracking of the amount of inventory
    • Automate inventory control
    • Streamline order fulfillment
    • Better forecasting and demand planning
    • Integration with other systems
  • How does managing inventory risk affect customer satisfaction?

    The inventory risk management process  is critical to maintaining customer satisfaction. With efficient inventory tracking, companies can ensure that they have the right quantity of products in stock at the right time, reduce the risk of stock-outs and overstocking, and improve order accuracy and speed, all of which can lead to increased customer satisfaction.