Poor inventory management is among the top reasons why small businesses fail. Managing inventory is essentially a balancing act between having too little or too much. How much inventory is “just right” is often a moving target. Demand for different SKUs can fluctuate over some time due to a change in trends or seasonality. Poor inventory management impacts overall cost and profitability.
The effects of too little inventory are:
Missed Sales
This happens when you can’t immediately fulfil an order because of a stock-out of the ordered item. When this happens, the customer looks elsewhere to make his purchase. The damage caused by lost sales depends on the price of the item and the order quantity. Having a stock-out of a popular item during a peak buying season can be very costly. Many businesses carry a little extra stock than they expect to need to insulate against the risk of selling out. Having sufficient stock is crucial. A business that has a reputation for running out of stock frequently will struggle to reach its full potential. These common inventory management challenges can be solved by utilising an Enterprise Resource Planning software that can improve the understanding of customer demand, sales forecast, and supply chain lead times.
Lost Customers
Customers rarely look back after they find a company that can promptly fulfil their orders at a competitive price. They will continue to give the company their business until they have a reason to do otherwise. If these customers were turned away because of a stock-out problem in your inventory, you have lost their repeat business. Every one of these lost customers is a lost source of recurring profit for your company. As with the previous point, having a stock-out and losing many customers during a peak buying season will have a long term impact on your business.
The effects of too much inventory are:
Tied Up Money
Inventory that doesn’t move is tied up money that could be put to better use. It is money that could be used to pay wages, pay off debts, purchase more fast-moving inventory, pay the rent, or expand your business. Inventory often has a limited shelf life because of spoilage, obsolescence, material degradation, or changing consumer trends. If your inventory exceeds its shelf life, this tied up money is lost. Inventory needs to be managed like cash. This means businesses need to determine with precision how much inventory is enough without understocking or overstocking excessively.
Illiquidity
Inventory and stock are less liquid compared to cash. Tying up too much cash in raw material, work-in-progress items and finished products is detrimental to your company’s cash flow. In times of need, you will find that inventory will not be able to convert to cash swiftly to meet your business needs.
Excessive Warehousing Costs
The process of storing inventory also costs money. It means paying rent on oversized warehouses. Excess inventory gets in the way of warehouse operations, or it uses up space that could be used for faster-moving items. Management of the excess inventory also has a labour cost.
Beyond having too little or too much inventory, poor inventory management causes inefficiencies because you don’t have accurate real-time information on how much stock you have. This increases the risk of mistakes in reordering inventory from suppliers or of selling non-existent inventory. These mistakes can also result in lost sales and lost repeat customers or oversized inventory of the wrong SKUs.
An ideal scenario is to keep an optimal inventory level by effectively forecasting demand based on historical information plus an outlook of external trends. Effective inventory management helps businesses cope with variations in demand and also balance warehousing cost versus ordering cost.
To learn more about improving your inventory management through the use of inventory management software, please contact us.
