What is inventory management? Benefits, tips, and methods to improve your process

Inventory management is a systematic approach to sourcing, storing, and selling goods. It helps you maintain the right stock at the correct levels and at the ideal cost. Because a businesses products tie into its revenue, properly managing inventories will improve your business operations.

Inventory management includes stock purchases, maintaining the storage and quantity of your inventory, and order fulfillment. To help you get started, we've put together some quick and easy tips to save you time and improve your inventory management.

Read from start to finish for all our inventory management best practices or use the links below to jump ahead.

• Inventory management importance
• Inventory management process
• 11 tips for improving inventory management
• Future of inventory management

Why is inventory management important?

Inventory management helps you keep track of product stock levels and improves business operations. Its impact is widespread—from sales and customer satisfaction to the efficiency of your internal processes. As a result, inventory management is vital to any business's health.

Inventory management is crucial whether you run a retail storefront or an e-commerce business. Here are just a few examples of how it can make running your business easier:

• Ensure secure stock levels and always know the number of products on hand.
• Understand how your stock moves, including which products are selling and which aren't.
• Improve supply chain management through better planning and communication.
• Reduce warehousing costs by having optimal amounts of inventory on hand.
• Gain insight into sales data that helps with forecasting.
• Sell more goods on multiple channels by managing inventory flow across some of the top marketplaces.
• Save time on managing inventory so you can focus on other aspects of your business.
• Improve your bottom line by avoiding surplus and streamlining your processes.

Inventory management process overview

Inventory management involves a lot of moving parts. Business owners should review their product levels and restocks when necessary. Avoiding errors and gauging demand will ensure minimal delays and shortages. You can work through this process in six steps:

1. Order your materials: Ensure that raw materials and finished goods reach your warehouse.
2. Store your inventory: Sort and store the products you ordered.
3. Monitor your stock: Check your inventory levels, manage order cycles, and stay ahead of potential shortages.
4. Process customer orders: Approve all the orders you can handle and ship goods to customers or manufacturers.
5. Refresh your inventory: Once your inventory levels drop, restock your goods and share the expense with stakeholders. 
6. Repeat as needed: Sell and restock goods until demand shifts or you find a better product.

Types of inventory 

Business owners need to know the different inventory types. While no two products are the same, you can organize goods into five categories that help describe a product and how it fits into your revenue stream. The types include:

• Raw materials: Basic goods a company buys to create products
• Work-in-progress (WIP): Raw materials in the process of becoming a finished product
• Finished goods: Completed products that are ready for sale
• Packing materials: Materials used to pack the products you sell
• Maintenance, Repair, and Operating Supplies (MRO): Tools required to build or sell a product

Depending on the type of inventory you deal with, your management process may change. For example, you may order raw materials and send them to a manufacturer before storing them. You may also have to restock packing materials between orders. Always keep inventory types in mind when building your ideal process.

Improve your inventory management with these 11 tips

Inventory management improves when you enforce a few best practices. Making slight changes to your process is easy and worth the investment. Here are just a few ways you can see better results:

1. Pick the right inventory management method

Inventory management methods shape your approach to stocking goods. Each method offers unique pros and cons that should complement your business. Some of these management methods include:

• Just-in-time (JIT) manufacturing: Companies only keep the bare minimum amount of materials they need to make and sell products. 
• Materials requirement planning (MRP): Businesses use past sales records to predict transactions and plan stock levels in advance.
• Economic order quantity (EOQ): Businesses assume constant demand and order similar batches of goods to reduce holding and setup costs.
• Days sales of inventory (DSI): Businesses order goods based on the number of days it takes to convert products into sales.
• First in, first out (FIFO): Firms always sell their oldest stock first and restock when new goods reach the shelves.
• Last in, first out (LIFO): Companies sell their most recently purchased goods first and adjust prices based on overhead fees.

Recommendation: JIT and MRP suit companies with complex supply chains and production needs. EOQ, DSI, and FIFO offer simple inventory management for small businesses. Finally, LIFO fits companies that sell a product with a rising value. Try experimenting with different methods to see which works best for you.

2. Select an inventory management system

Software plays a key role in inventory management systems. These programs track inventory, automate production, and forecast demand. Using this real-time view of your stock lets you cut costs and invest in other areas while meeting customers’ needs. Here are three popular systems: 

• Manual Inventory System: Manually counting items and recording them on a spreadsheet
• Periodic Inventory System: Using barcodes and databases to record item details as goods move in and out of stock
• Perpetual Inventory System: Using radio frequency identification (RFID) tags for real-time stock data and updates on item movements, production, and sales

Recommendation: Small businesses that value simplicity can try manual entry. However, once demand for your product grows, you'll want the automation, data updates, and inventory forecasting other systems offer. 

3. Integrate with other systems

Savvy managers should combine their software for better results. Modern inventory tools allow integrations with other software. You can combine your inventory management system with the following:

• Customer relationship management (CRM): CRMs track the customer-facing side of your business. You can predict demand by reviewing your most popular goods and customer needs.
• Enterprise resource planning (ERP): ERPs track your businesses accounting, purchasing, shipping, and back-end operations. Because ERPs can track inventory data, they help manage production and shipping. 
• Software as a service (SaaS): Many SaaS tools track warehouse activity and stock levels in real time. Use this software to improve warehouse operations.

Recommendation: Many of these other systems integrate with each other. ERPs and CRMs may offer cross-functionality, and many SaaS tools integrate with CRMs, ERPs, or both. Many of these tools also come on accessible, cloud-based platforms. Speak with your IT staff or operations manager to make the most of your integrations.

4. Use insights to inform decisions like reordering and pricing

Sales data reports are invaluable for decision-making. These insights provide information on which of your products are popular, simply aren’t selling, or are moving slowly.

When you track sales based on customer demand and seasonality, you get in-depth inventory analysis. Better inventory control can help you:

• Keep track of inventory counts across all sales channels
• Time reorders
• Optimize order quantity
• Reduce carrying costs
• Improve cash flow
• Increase profitability

Recommendation: You can use data to base decisions on facts instead of assumptions or estimates. While personal experience guides choices, pure sales information will help, too. Check out this guide to inventory analysis for more information. 

5. Calculate and optimize reorder points

A reorder point is the level where it's most efficient to submit a supplier order to restock your inventory on a particular item. Knowing your ideal reorder point tells you when to place an order so you don't run out of stock or carry excess inventory.

If you have a great product on your shelves that sells fast, every purchase means more revenue. However, it also lowers your inventory levels. Reorder too early, and you'll need to spend more on storing excess items. Order too late, and you could face disappointed customers.

Recommendation: Optimize your reorder points to reduce excess spending and ensure you have enough stock for your customers. Use the below formula to determine your reorder point. 

You can also try QuickBooks Advanced Inventory for automation-assisted reorders. 

How to calculate your reorder point

1. Calculate your lead time demand in days—this is how long it takes for your vendor to fulfill your order. 
2. Calculate your average daily usage—this is the number of sales made in an average day of that particular product.
3. Calculate your safety stock—this is the amount of extra stock that you keep in your inventory.
4. Multiply your lead time in days by your average daily usage. 
5. Add the result to your safety stock to determine your reorder point.

Reorder point equation

(Lead time in days x Average daily usage) + Safety stock

Reorder point example

Let’s say you’re a retailer and you sell 50 headbands per day. Your vendor takes five days to deliver each reorder. You keep a safety stock of 250 headbands, or five days of sales. In this case, the formula is:

(5 lead time days x 50) + 250 safety stock headbands = 500

When there are 500 headbands left in your inventory, it’s time to reorder.

6. Conduct regular inventory cycle counts

A cycle count involves counting a small amount of inventory on a specific day without doing an entire manual stocktake. Instead, it's a sampling technique that lets you see how accurately your inventory records match what you have on your shelves.

Recommendation: How often you do a cycle count and how much stock you count will depend on the types of products you sell and the resources at your disposal. Regardless of your specific approach to inventory counts, here are some best practices to follow:

• Count one product category at a time 
• Choose count categories based on seasonality 
• Mix up your cycle count schedule

There are three main types of inventory cycle counts that you can use:

Control group cycle counting

This type of cycle counting focuses on counting the same items repeatedly over a short period. The repeated counting reveals errors in the count technique which you can then rectify to design an accurate count procedure.

• Best for: Streamlining your cycle count and revealing errors with your counting technique

Random sample cycle counting

Let's say your warehouse has many similar items; you might randomly select and count a certain number of items during each cycle count. Randomly selecting items can help reduce the disruption of any category at once, meaning you can carry out a count during business hours.

• Best for: Warehouses containing a high quantity of similar goods

ABC cycle counting

As mentioned above, ABC cycle counting uses the ABC inventory management technique and Pareto principle to classify items in A, B, or C categories based on value. This approach counts A items more frequently than B and C items.

• Best for: Focusing on products with the greatest impact on your business

7. Use order tracking

Whether you manage stock through a spreadsheet or software, careful order tracking is essential. Organizing your data into accessible lists lets you filter orders that:

• Have been paid
• Haven't been paid
• Are overdue
• Haven't been fulfilled yet

Recommendation: With order tracking, you'll have a clear view of order statuses and a better handle on order fulfillment overall. Additionally, you can update your customers each step of the way. Work with your IT staff and management to build order tracking into your core business model.

8. Focus on consistency and process

Consistent inventory processes will help your business run smoothly, especially if you manage more than one team. Inconsistency leads to inaccurate data, uneven stock levels, and displeased customers. For the best coverage, build processes around:

• Managing physical inventory
• Updating inventory tracking
• Restocking
• Adding new inventory to your site

Recommendation: Establish an inventory process that everyone can follow and understand. To ensure everyone reads it, put it in an accessible location like the employee handbook.

9. Streamline internal communication

Mistakes often come from poor communication. Streamlining contact between your employees keeps everyone on the same page and reduces errors. Keep your team in the loop by giving them the information they need when they expect it.

Recommendation: Reach out to employees with real-time status updates and periodic action emails. Depending on how your business runs, you can send these action emails weekly or daily. In other cases, a text or phone call should communicate last-minute updates.

10. Use multi-channel inventory management

Multi-channel inventory management is crucial if you sell your products across many online channels. Each new channel adds complexity to your process. An inventory management system connects all of your sales channels to one inventory hub. 

Let's say you sell an item on Shopify; once you ship the item, the inventory quantity will decrease on Shopify. However, you’ll need to update the inventory levels on your other sales channels. Updating your stock every time an order ships is daunting, especially as you grow your business. 

Recommendation: A multi-channel system streamlines updates and cuts down on issues that occur when the stock level is incorrect. Use your management system to note stock level changes as they happen. This improved inventory management will let you focus on running more aspects of your business.

11. Implement new Inventory management techniques

As your business grows, you should research new inventory strategies. Even though some methods will fit your model better than others, each offers its own benefits. Some popular techniques and terms include:

• ABC analysis: Comparing your most and least popular products
• Batch tracking: Grouping similar goods to track expiration dates and defective items
• Bulk shipments: Purchasing, storing, and shipping products in bulk
• Consignment: Paying for supplies after your inventory sells
• Cross-docking: Removing warehousing from your process by unloading items directly to a supplier or delivery truck
• Dropshipping: Asking supplies to ship items directly to your customer
• Lean manufacturing: Removing waste and products that don't provide value from your system
• Safety stock: Keeping extra stock of your products in case you can't resupply them
• Stock keeping unit (SKU) number: Assigning a product number that tracks stock levels and differentiate products

Recommendation: Experiment with these ideas in a limited capacity to see how they meet rising demand. Once you’ve found all the ideas that work for your business, try combining them.

The future of inventory management

As inventory systems improve, they rely more on advanced technology. Updated software improves inventory visibility and inventory control while staying user-friendly. You can predict orders and ship goods with artificial intelligence and enhanced data collection. Cloud and online inventory management will also become more popular. 

The best way to manage inventory varies from business to business, but these tips can only improve your current processes. Refining your inventory management strategies seems like a large undertaking, but with the right tools, it’s seamless.

With QuickBooks Commerce, you can quickly transform your multi-channel business's inventory management practices. Get started today to see how this advanced system can help you achieve successful inventory management and empower you to take control of your business.