Alla Chernova, ABM Inventory Implementation Projects Head
Looking for a best inventory management software? Today you can select among hundreds of options, that can bring your retail business great results and help you to manage your relationships with external suppliers. All these software solutions work with different algorithms, methods and techniques. How to choose the best that will fit your business needs?
Each business is unique, with its own strategies, KPIs, metrics and inventory management approaches. However, the challenges and problems businesses face when dealing with inventory are often the same. Let’s discuss excess inventory, one of the most common problems almost all retails struggle with.
Let’s have a 360-degree-view on excess inventory:
- Excess inventory - a definition
- What are the causes of extra stock?
- Consequences of not paying attention to extra inventory
- Ways and examples of dealing with excess stock
All cases and examples are based on real-life retail business projects successfully implemented by ABM Cloud and its ABM Inventory management software.
What is excess inventory?
Excess inventory is a number of items (per a certain SKU, per location) that exceeds the rationally calculated and cost-effective inventory level.
In its turn, a rational cost-effective inventory level is calculated using the following metrics:
- Replenishment cycle - the number of days between a current order placement and next order delivery. This indicator includes time needed to complete, process and deliver the order.
- Average sales (quantity of items per SKU)
- Minimum order quantity. Packaging shall be considered, as some items are supplied per item, and some are sold in boxes or packages.
To calculate the optimal level of inventory for a particular SKU in a certain sales location, we have to multiply the average replenishment cycle time by average sales, adding a minimum order quantity.
The retailers have to maintain the optimal inventory level for each product. Exceeding this optimal level leads to stocking extra items and ending up with excess inventory.
The methodology of excess stock identification that is described above gives retailer a possibility to perform accurate inventory analysis and sort data by product categories/sub-categories/sales locations/sales managers etc.
What are the causes of extra inventory?
We have analyzed a lot of clients’ cases, and came to some conclusions. So, the main reasons why the retailers are holding too much stock are:
1) Intuitive order forecasting and poor order calculation. Procurement managers often tend to order more inventory to be "on a safe side", or they rely order quantities on their intuition and professional work experience rather than on real business needs and demand levels. The cases we analyzed showed that 80% of such "intuition-based" orders are poorly forecasted and they lead to overstock.
2) Ordering in bulk. Suppliers often give discounts for larger orders. Sometimes unethical suppliers can offer you discounts trying to get rid of their slow-moving goods. As a result, you end up carrying too much inventory you cannot sell. If goods are not sold, they become dead stock. Some retailers we worked with complained, that 3/4 of goods bought in bulk were gaining dust for more than a year, while the retailer managed to sell only 1/4 of the batch.
3) Sometimes suppliers pay retailers extra money to secure place for their products during a promotion season or other periods. On the one hand, this measure may seem a win-win situation for both retailer and the supplier, as the retailer gets guaranteed money and stock. On the other hand, if the promotion figures are not successful, or the sales level is lower than the expected level, a retailer ends up with overstocked shelves and the money received from the supplier is not enough to cover lost sales losses.
Shelf space is the main retailer’s asset. If you do not get the most out of shelf space, or you put slow-sellers there, you lose your main asset profitability.
4) Unfair practices and deals between procurement managers and suppliers. Unfortunately, sometimes a person responsible for procurement initiates a discriminatory and competition-distorting relationship with a supplier. Or vice versa, a supplier can get in contact with procurement managers offering money or other benefits for ordering particular goods in particular quantities. These orders have nothing to do with real business needs. Suppliers get rid of their dead stock by moving it to retailers’ warehouses.
5) Rarely, national or large international suppliers set special order thresholds, requirements or minimal order quantities influencing the orders made by retailers. This situation is not widely spread, but shall be considered risky.
6) Sudden drop in demand levels. If it happens, you have to quickly recalculate and reconsider your optimal inventory levels. Your current stock level will be higher than the optimal one. This risky situation is understandable, but to avoid it in future you have to regularly match your current inventory and demand levels, at least once per season/quarter. The more often you compare, the better.
What happens if you ignore your excess inventory?
Excess inventory is a tricky thing and you won’t find any magic formula that will help you to fully get rid of it. All your efforts may lead to just minimizing and reducing excess stock quantity. So, many retailers pay little or no attention to overstock and prefer to ignore extra stock problem rather than deal with it. Here are the implications of such behaviour:
- Excess inventory eats up warehouse/storage/sales space and ties up your capital. Holding too much stock which sits on the shelves and is not being sold for profits freezes operational and turnover capital.
- Perishable goods having expiration date (for example, food) if not sold, can spoil. Non-food goods, electronic appliances, fashion items can become outdated. Consumer demand trends can change quickly and badly affect your excess stock turning it into dead (or obsolete) inventory, costing you money.
- Having too much stock for a particular category, brand of position limits your ability to order new goods and enlarge your product range. And everyone knows, that a winning assortment brings winning sales, more customers and larger profits.
A step-by-step guide to getting rid of excess stock
First, analyze your inventory, both in terms of quantity and in terms of money. We strongly recommend to consider both terms and integrate both indicators into your analysis, as choosing either money or quantity will not get you a bigger picture. Such analysis will take a bit more time and efforts, but it’s totally worth it.
If you compare both quantities and money spend on inventory, you will see how much excess stock you have and which extra items are the most expensive ones. Sometimes retailers get rid of expensive excess inventory and it leads to nothing, the shelves are still stocked. Or vice versa, they throw away a lot of cheap slow-sellers and lose a lot of money.
Accurate and complete analysis will become a guidance on further effective steps on dealing with excess stock.
Then, divide your excess stock into 2 groups:
- Excess items having more or less regular sales (or at least, the items that can be sold one day), low-demand excess inventory.
- Inventory which is not expected to be sold.
Inventory management solutions can help you to group your stock by making a report on sales levels (inventory dynamics) for each product category/subcategory/SKU for a selected period of time. Of course, you have to get rid of items which are sitting on your warehouse shelves for longer period of times.
Image 1. An example of slow-moving goods dynamics report
The goods having low level of sales shall be closely monitored. You have to understand the causes of extra inventory and mitigate them. Then you shall concentrate on selling the existing extra items balancing the inventory levels, or start a promotion campaign to sell your overstock faster.
Dead inventory which does not have a likelihood of being sold shall be taken off the shelves. Do not focus on the causes of dead stock, instead, find proactive and creative ways to manage it.
How to manage dead stock?
- Return it to your supplier. There may be special conditions, that can be fixed in additional contractual agreements.
- Use obsolete inventory (non-food items) for your internal business needs (domestic production etc).
- Analyze inventory levels across all your sales locations. Transfer excess inventory to another sales location which may have a better demand or a product shortage. Demand levels can be very volatile and depend on geographical, location, social and other factors. To effectively analyze inventory levels across several locations you need an integrated inventory management solution, which produce special reports.
Image 2. An example of the report on excess inventory and product shortage per location
How to transfer goods between sales locations?
If you have a distribution centre (DC), you can move all excess inventory there and redistribute it between other locations or return to the supplier.
If you do not have a DC, or transferring goods there may be a costly/logistically ineffective procedure, you can turn the closest or most suitable store into a "temporary DC" (or a "temporary warehouse").
You can move goods between stores if they are closely located (in the same city/area/district/province) and if you are sure that your profits margins will not be affected. Sometimes logistics costs and transfer expenses are higher than the profit you may get.
After you eliminated your dead stock, you shall immediately take it out of the assortment range (or product matrix). If you still do not have an assortment matrix, we strongly recommend you to create it and regularly analyze, reconsidering slow-selling and low-profitability items. Your assortment range shall be up-to-date and filled with top-selling fast-moving and profitable goods.
Managing excess inventory is a complex process that requires long-term efforts of company’s management, procurement team and each category manager. The risk of having excess stock is high, there are no risk-less periods or secrets. All you have to do to mitigate the risk of having too much stock is to carefully and accurately manage your inventory, deploying systematic, strategic and well-grounded methodologies of working with inventory.
We hope that our guidelines and recommendations will help you to succeed!
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