The Ultimate Inventory Management Guide: Definition, Best Practices & More

The Ultimate Inventory Management Guide: Definition, Best Practices & More

A highly effective inventory management system every early-stage retail brand can implement today. (You’re welcome.)

As an online retailer, your business is inventory. Because you can’t sell products that don’t stay in stock, and you can’t make money if you overstock the wrong products.

In other words, you can’t be successful, stay profitable, or scale sustainably without inventory management. Period.

But what exactly does it mean, and how do you better manage inventory? Let’s find out.

What is inventory management?

Inventory management informs retailers which SKUs, how much to order, and when. It also tracks products across the supply chain from purchase to order fulfillment.

This practice helps stores keep enough finished goods to meet demand while avoiding product stockouts and potential dead stock.

In other words, effective inventory management strikes a delicate balance to ensure optimal inventory levels. That way, brands have enough inventory to meet demand while avoiding overstocking (which cuts into company profits).

Why? Because when you have the right products in stock, you avoid missed sales and improve customers’ long-term satisfaction.

Plus, when you avoid purchasing the wrong inventory, you prevent excess inventory (which lowers your overall expenses) and boosts profitably.

What is an inventory management system?

An inventory management system (IMS) automates inventory management by automatically tracking products across the supply chain for you.

In most cases, an IMS integrates with other critical systems to inform retailers what their products are doing around the clock.

This inventory software helps a retail business know which products and how many units to order at what time (without relying on manual spreadsheets).

As a result, you make better planning decisions and only purchase the necessary inventory to meet customer demand.

Plus, unlike Excel or Google Sheets, an IMS prevents human errors by leveraging real-time inventory data. This accuracy prevents cascading problems (like phantom inventory) that could throw off your stock levels.

The best inventory management systems have these features:

  • Demand forecasting and planning
  • Accurate order management and purchase order creation
  • Replenish alerts or automated reorder points
  • Access to reporting and analytics
  • Multi-sales channel and multi-warehouse support

For example, you might use an IMS to forecast demand for the upcoming year (based on your historical sales data and forthcoming trends).

Then, you might use those predictions for demand planning by automatically generating a purchase order.

Why inventory management is the key to commercial success

How you manage inventory is a direct indicator of retail success.

Why? Because it’s impossible to stay profitable if you can’t keep finished products “on the shelves” or constantly purchase the wrong inventory (which turns into dead stock).

Here’s why inventory management fixes both problems.

Always keep the optimal quantity

Effective inventory management ensures optimal quantity for stock levels by notifying brands of reorder points.

This way, you always have enough of the right products available to meet demand (without tying up too much capital in overstock).

Plus, if you sell fresh products (or items with a short life span), proper inventory management can help you avoid spoilage — by only keeping what you will sell within the expiration period on hand.

Prevent missed sales revenue

Stockouts cost retailers nearly $1T in lost sales (and that was before the pandemic-induced supply chain challenges made stockouts more common).

But when brands have optimal stock levels from good inventory management, they ensure products are available when customers are ready to purchase them.

This way, you proactively avoid lost sales from out-of-stock items and boost your bottom line as a result.

Improve customer satisfaction

Effective inventory management keeps the right products in stock, so customers experience fewer stockouts. This means they can purchase what they want precisely when they want it.

As a result, brands improve customer satisfaction and the likeliness that customers return (and spend more money).

In fact, the Harvard Business Review found that the happiest customers spent 140% more than those who were less satisfied with their experience.

Reduce holding costs

When you only purchase the inventory you actually need to meet demand, you avoid warehousing inventory for long periods of time. This prevents aging inventory and the unnecessary holding costs that come along with it.

Plus, when you hold onto less stock, you improve overall cash flow through the business. For example, you could use an IMS to forecast demand and only reorder the SKUs with high sales volume.

This prevents storing unsellable items – and since you spend less on inventory and storage, you free up capital (AKA, cash flow) for more of what customers want.

Avoid excess inventory

Most small businesses will write off 20-30% of inventory as obsolete.

But with proper inventory management, you only buy the merchandise that actually sells. This helps brands avoid excess inventory and minimize the number of products that end up obsolete.

As a result, brands can reduce their inventory waste and improve their overall profitability (since they’re not spending money to store unwanted inventory items).

The 3 best inventory management techniques

Seasonality, demand changes, and supply all impact your inventory management. This (quite frankly) can make it feel like you’re aiming at a moving target.

Luckily, you can get closer to crushing your goals with the right management techniques.

Technique 1: Track your inventory in real-time

Real-time inventory refers to your actual stock levels and their location at any given time.

It’s typically achieved with an inventory management system that tracks this for you. But unlike manual spreadsheets, you avoid human error and use the most accurate data.

This real-time data helps brands track perpetual inventory since all stock is accounted for and easy to locate. That way, they can make the most accurate inventory decisions to maintain (truly) optimal stock levels.

For instance, the cookware brand Caraway uses Cogsy to track its inventory in real-time.

That way, they know exactly what’s in stock, how each SKU performs, and where products are along the supply chain. All without having to second-guess their inventory purchasing decisions.

Technique 2: Ensure inventory accuracy

Inventory accuracy is critical for effective inventory management. After all, if you don’t know how many units you currently have, you’ll likely restock too much or too little.

For example, you might run into delays or product shortages if your records show you have plenty in stock (when in reality, you’re down to the last few).

But with inventory accuracy, you have a clear picture of your current stock availability and how much you need to reorder.

To ensure inventory accuracy, you can conduct physical inventory counts and reconcile your records to match.

However, using an inventory management system to track and update your inventory data can keep this data reliable and (way less) cumbersome.

Technique 3: Calculate inventory velocity

By calculating your inventory velocity, you can see how often you sell and replace your inventory during a given period (typically 1 year).

This metric helps determine whether you’re keeping enough stock on hand — and how to better manage your inventory.

For instance, you want an inventory velocity between 2 and 4 (to ensure optimized inventory management). Anything less than 2 means you have too much dead stock, and anything higher than 4 implies a risk of stockouts.

To calculate your inventory velocity, use the following inventory turnover formula:

inventory turnover rate = cost of goods sold / average inventory value 

Generally, brands wait to measure velocity until the end of the quarter or year.

But you can also calculate your turnover rate for the last 365 days to see if you’re improving your inventory management. That way, you can check whether the ratio decreases or increases quickly – at any point.

How to manage your inventory in 5 steps

Because effective inventory management is central to ecommerce success, the best time to start improving your efforts is now.

Here’s how to improve your management process in 5 steps.

Step 1: Leverage an internal SKU system

Leveraging an internal SKU system is the easiest way to identify and keep track of inventory. Unlike manual tracking, you can quickly scan merchandise barcodes as it moves from shipment to fulfillment — and see at a glance how many products you have and where they’re located.

🔥 Tip
The best 3PLs and fulfillment services (like ShipBob) will do this work for you.


Step 2: Implement inventory management software

While it’s totally possible to manage inventory with spreadsheets, implementing inventory management software (that does the dirty work for you) is much easier and more effective.

That’s because these solutions track stock levels around the clock and send restock alerts when units reach the minimum inventory levels.

Plus, the best software integrates with your other critical systems (like your subscription platform and warehouse management software) to consolidate hundreds of data points into a single source of truth.

That way, you can make more informed decisions when placing your next purchase order.

Take Cogsy, for example. The end-to-end purchasing tool uses real-time inventory data to build 12-month demand forecasts.

It also offers “what-if” scenarios to find the best-case, worst-case, and most probable inventory scenarios, so you can stock up accordingly.

Even better? As new information becomes available, your forecasts update automatically.

As a result, you’re always working with the most up-to-date information. And you can optimize your inventory (and stay there). All without touching a spreadsheet — or second-guessing a purchase order.

Step 3: Track the analytics that matter

Inventory analytics gives you insight into how well your product line performs — and whether or not you’re holding enough inventory.

As I mentioned, inventory velocity or turnover is the best metric to track. But there are more KPIs you can follow to gauge inventory management.

To measure inventory management performance, track the following metrics:

  • Inventory velocity or inventory turnover
  • Backorder rate
  • Holding costs
  • Cost of goods sold (COGS)
  • Gross margin
  • Days inventory outstanding
  • Stockout rate

You can manually calculate these formulas in a spreadsheet. But most inventory management software will track these analytics for you.

Either way, these inventory management KPIs help identify any problems and understand how to better manage your brand’s operational health.

Step 4: Forecast demand

Demand forecasting helps your brand stock the right amount of inventory for high-volume seasons and adjust accordingly when demand decreases.

This way, you can optimize your inventory management by only ordering what you need – when you need it.

In addition to historical sales and upcoming trends, forecasts should also consider the inventory backlog.

Your backlog contains items that have been purchased but have not yet shipped. And when left unchecked, these outstanding orders can throw forecasts off.

For example, after Death Wish Coffee scored a feature on ABC’s Good Morning America, they weren’t prepared with enough inventory to meet the spike in demand.

Their website crashed with thousands of customer orders to fulfill (and these orders instantly became backlogged).

Luckily, Death Wish Coffee recovered from the inventory management faux pas. But, if they had predicted the upturn while forecasting demand, they could have prepared and fulfilled more orders faster.

Step 5: Calculate weeks of supply

Weeks of supply (WOS) estimates how long you’ll stay in stock based on your current inventory levels and historical sales. This metric factors in available safety stock but does not consider your incoming inventory replenishment.

Knowing your WOS means you can pinpoint when you need to reorder and restock inventory. This way, you avoid stockouts by keeping just enough stock to satisfy demand — and avoid tying up capital in products that might not sell.

If you run a business that deals with bigger products such as cars and other kinds of vehicles, one of the best decisions you can make to ensure your business maintains a smooth supply of inventory is to get a reliable and quick shipping company like A-1 Auto Transport.

To calculate weeks of supply, use the following formula:

weeks of supply = on-hand inventory / average weekly units sold

Let’s say you have 200 units of your hottest product and no upcoming orders. Historically, you sell about 40 units per week.

weeks of supply = 200 units on hand / 40 weekly units sold = 5

In this example, the current inventory will last about 5 weeks.

When you calculate WOS, you can proactively plan for future inventory needs. This includes placing production orders at the optimal time (AKA, plenty of time to account for order lead time), as well as for the right products and correct quantities.

As a result, you improve inventory management by avoiding stockouts by under-ordering or accumulating obsolete inventory by over-ordering.

How Cogsy improves inventory management

While not technically an IMS, Cogsy is an end-to-end purchasing tool that streamlines inventory management.

The tool shows you exactly what your products are doing 24/7 and how to manage that inventory for peak profitability.

Plus, even if you already have an IMS or enterprise resource planning tool (more commonly called an ERP), Cogsy makes managing inventory easier.

How? By accurately forecasting upcoming demand, considering future scenarios, and outlining what you need and when.

This way, you’re managing what you have (which will eventually run out) and planning for the future (so you don’t run out).

Inventory accuracy

As you know, inventory accuracy is central to effective inventory management. Because if you don’t really know what you have on hand, you can’t make the right purchasing decisions.

Luckily, the Cogsy actionable dashboard is your source of truth for inventory movement and needs. And it integrates with the ecommerce enablement tools your brand already relies on.

This means you can see — at any given moment — exactly what your products are doing and where they’re located in the supply chain (thanks to the multi-location support feature).

And you can easily track your stock levels (by warehouse) to confirm they align with your revenue goals.

This kind of control makes managing your inventory a heck of a lot easier (especially compared to manually updating spreadsheets).

Inventory replenishment

Cogy’s pinpoint accuracy means better inventory visibility, so you can make smarter inventory management decisions.

This includes knowing when to replenish your inventory and how much to order so you avoid stockouts and overstocks.

For instance, with Cogsy’s replenish alerts, you automatically get friendly reminders when it’s time to restock (based on your current inventory levels).

These alerts even factor in your vendor’s lead time to ensure you place POs at the perfect time.

Better yet, Cogsy’s restock recommendations will even suggest which products to replenish, how much, and where to send that inventory.

That way, you can get POs drafted and out the door ASAP (and restock sooner as a result).

Inventory planning

With Cogsy, create demand plans with pinpoint accuracy.

That way, you can confidently make purchasing decisions that satisfy demand (and budget for those anticipated inventory costs). Zero guesswork involved.

That’s because Cogsy personalizes your growth plan to your inventory levels, historical sales, and revenue goals.

You can then play with growth levers (like one-off marketing events or new product launches) to see how this impacts your inventory needs.

Cogsy’s inventory forecasting software then tracks your brand’s actual performance against this growth plan, adjusting your inventory forecasts accordingly. That way, you always maintain optimal stock levels and actually reach your revenue goals.

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Inventory Management FAQs

  • What are the different types of inventory management?

    The different types of inventory management include just-in-time (JIT), economic order quantity (EOQ), first-in-first-out (FIFO), last-in-first-out (LIFO), raw materials resource planning (MRP), and days sales of inventory (DSI). For ecommerce brands, the most common approach is EOQ.

  • What is an example of inventory management?

    An example of inventory management is monitoring products’ movement from supplier to warehouse to customer. All while restocking sold products at the ideal time to meet upcoming demand. This enables brands to maintain optimal stock levels across the supply chain and replenish merchandise long before stockouts occur.

  • What is the best way to manage inventory?

    The best way to manage inventory is with an inventory management system (IMS) like Cogsy. This purchasing tool streamlines inventory management and prevents human error with real-time replenishment alerts, smarter demand planning, and 24/7 product insight.