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2024 Guide to Inventory Optimization: How to Succeed

Discover essential inventory optimization strategies to position your supply chain for success and gain a competitive advantage in the market.

Your inventory is one of the most significant investments in keeping your business agile and profitable in today’s disrupted environment. Whether you’re a small business or a large enterprise, maintaining the right amount of inventory available at the right place and time is critical to meeting customer demands, increasing efficiency, and maximizing profits.

In this post, you’ll discover why inventory optimization is critical to your business’s success.

What is inventory optimization?

Inventory optimization is a strategic process of creating a balance between having enough inventory to meet customer demand and minimizing the costs associated with carrying inventory.
The goal is to ensure that the right products are available in the right quantities at the right time without tying up too much capital in inventory or incurring unnecessary expenses like storage and handling costs.

What are the basics of inventory optimization?

Inventory optimization involves utilizing the right tools to access accurate data and gain inventory visibility. With the increased visibility of demand trends, supplier lead times, order frequencies, and supply chain constraints, you can develop an inventory strategy that maximizes profitability and minimizes waste for your business.

Here are the basic processes for inventory optimization success:

  • Set your inventory policy
    Setting the inventory policy is a crucial initial step in optimizing your inventory. The policy sets guidelines ensuring every order you place aligns with your goals for balancing your inventory investment and achieving your desired fill rate. These guidelines establish rules for each stock item or SKU, such as the target fill rate, replenishment cycle, safety stock level, lead time, and monthly demand. With an inventory policy in place, it’s easier to assess how well your inventory is performing or identify potential risks.
  • Understand how your inventory is classified
    It’s crucial to know which stock items are your best-sellers and which are in surplus is crucial. Using the ABC analysis method, you can easily classify your inventory into three groups: A for top-performing items, B for mid-range sellers, and C for the rest. By doing so, you can instantly identify the items that require more or fewer orders and those that should be phased out altogether. Classifying your stock also helps determine the amount of safety stock you need for a particular item. With your inventory classified, you’ll have more time to focus on driving sales by strategically managing your stock items.
  • Improve demand forecasting
    Demand forecasting can provide an accurate estimate of the quantity and timing of customer demand. By analyzing historical sales data and identifying patterns, trends, and seasonality, demand forecasting can help you make informed decisions about how much inventory to carry and when to restock. With this information, you can avoid stock-outs, minimize overstocking, and optimize inventory levels to meet customer demand while minimizing costs. Accurate demand forecasting is a powerful process that can help you optimize inventory, reduce waste, and improve your bottom line.
  • Reduce risk with safety stock
    Safety stock acts as your insurance policy, safeguarding your business against stocking out of critical items and helping your business prepare for unexpected changes in supply or demand. Safety stock is extra inventory held by a business to mitigate the risk of delays in supplier delivery or unexpected spikes in demand. By incorporating safety stock into your inventory management strategy, you can quickly respond to changing market conditions, minimize the risk of stock-outs, and maintain high levels of customer satisfaction. As a vital inventory optimization process, safety stock will also help reduce inventory carrying costs by avoiding rush orders or expedited, costly shipments.
  • Measure supplier performance
    Unreliable suppliers and long lead times can jeopardize your supply chain and force you to hold extra inventory to prevent stock-outs. Measuring and tracking supplier performance is another key process of inventory optimization. Having visibility of supplier performance allows you to respond promptly to supply changes and consistently meet customer demand. You can quickly identify reliable suppliers and eliminate the underperforming ones from your network. Achieving the optimal balance between lead time and inventory levels necessitates careful planning, execution, and understanding of supplier capabilities.
  • Place optimal orders
    Knowing how much to order and when to place the order while keeping your inventory levels balanced is often the biggest challenge when planning inventory. You can strike the ideal balance between inventory levels and order frequency by calculating the optimal order quantity based on lead time, demand variability, and safety stock levels. This approach can prevent excess inventory and related carrying costs, and minimize the risk of stock-outs and the potential for lost sales.

Additionally, optimal orders can streamline the ordering process, reduce the workload on the purchasing team, and enable better negotiation with suppliers by placing larger, infrequent orders.

What happens without inventory optimization?

Your business risks incurring surplus stock or experiencing stock-outs, resulting in decreased customer satisfaction, production efficiency, and limited cash flow.

  • You’ll experience stock-outs
    No one likes explaining to a customer the stock they want is unavailable. Not only will you potentially lose a sale, but it can also damage your reputation if it’s an ongoing problem. As customer demand is often unpredictable, inventory optimization processes will free up your time to quickly assess, pivot and respond to supply and demand changes, ensuring you have the right inventory in place at the right time. Stock-outs occur for many reasons, such as inaccurate forecasting, underestimating demand, late supplier deliveries, under-ordering, or calculating the wrong amount of safety stock. If not managed correctly, each of these reasons will cause a knock-on effect on your inventory levels and lead to stock-outs.
  • You’ll incur excess stock
    Allowing surplus stock to collect dust in your warehouse is not good for your business. Without inventory optimization, you risk having unsellable items that damage profit margins and limit cash flow, along with hidden costs like extra warehouse and insurance fees. Poor inventory visibility leads to bad planning decisions such as over-forecasting of the wrong products and using incorrect lead times. Often, planning teams are tempted to over-order to avoid the impact of supply chain disruptions. The first step in dealing with surplus stock is ensuring your inventory is classified so you can identify obsolete stock. Once you’ve identified the surplus, you’ll need a plan to quickly sell those items at a discounted price or as part of another promotion.

How does inventory optimization impact your business?

Inventory optimization takes your planning to the next level, enabling you to quickly reduce inventory costs, mitigate supply and demand risk, improve customer service, and secure a competitive advantage for your business.

You’ll be able to:

  • Reduce costs
    By optimizing inventory levels, you can reduce inventory carrying and warehousing costs, and other related expenses for your business. These savings can then be passed on to the customer through lower prices or higher profits for the company.
  • Unlock cash
    Inventory ties up a significant amount of a business’ working capital. By optimizing inventory levels, you can reduce the amount of cash tied up in inventory, which can improve cash flow and provide more resources for growth and investment.
  • Make quicker decisions
    Optimizing inventory requires data analysis and planning, which can lead to better decision-making across the business. When you prioritize inventory optimization, the executive team gains insights into business operations, and you’ll make informed decisions about production, procurement, and sales.
  • Improve customer service levels
    By maintaining optimal inventory levels, you’ll have the right products available to meet customer demand. This can help improve customer satisfaction and loyalty, which is crucial for long-term business success.
  • Mitigate risk
    Excess inventory can tie up valuable working capital, leading to obsolete, damaged, or spoiled stock.
  • Increase efficiency
    Inventory optimization can also help to improve operational efficiency by reducing the time and resources needed to manage inventory levels. This can free up resources to focus on other critical business areas, such as product development or new marketing initiatives.
  • Gain a competitive advantage
    Inventory optimization enables businesses to respond quickly to changes in customer demand, market trends, and other factors impacting the supply chain. This can help businesses stay ahead of the competition and maintain a strong market position.
  • Improve cross-functional collaboration
    Inventory optimization requires input and sharing of data across functions, reducing siloed working and encouraging better collaborations between finance, sales, planning, and marketing departments.
  • Improve employee morale
    Finally, inventory optimization enables planners to work more efficiently, reducing manual processes and errors, resulting in an improved work experience and potentially higher job satisfaction.

How to leverage technology and processes to optimize your inventory?

Managing inventory has become more efficient and effective with the latest technological advancements. By leveraging these tools, businesses can streamline inventory management processes, gain greater visibility, measure performance, automate processes, and quickly adjust planning in response to changes in supply or demand. Implementing predictive technology can also help businesses scale its offering and meet customers’ growing needs.

Here are a few practical steps to take:

  • Conduct an inventory audit
    It’s key to have an in-depth overview of your current reality. By performing an audit, you can quickly identify areas that require improvement, such as inefficient workflows, slow-moving or obsolete inventory, or where the amount of inventory on hand differs from the amount in your records.
  • Keep data updated
    Select a dedicated team of people who will be responsible for ensuring data accuracy. Then, create an ongoing maintenance routine to ensure the information used in your software is accurate. No process or software improvement will help enhance your inventory planning if the data is wrong.
  • Analyze historical data
    Analyze past sales and inventory data to identify patterns and trends. This analysis can help you forecast future demand, reduce waste, and adjust your inventory levels accordingly.
  • Encourage ongoing team collaboration
    Managing inventory should not take place in isolation. Greater team collaboration enables the business to pivot quickly if there‘s a sudden change in supply or demand. If there is a significant increase in demand for a product, and the marketing team wants to run a special, the demand planner will need to know this information in advance, so they can ensure the stock is available. The finance team will need to be aware of the additional spending and why and this once-off event will need to be adjusted in the sales forecast.
  • Automate replenishment
    Automating inventory replenishment will help you predict low inventory levels and automatically reorder stock items before they run out. This will help save time and reduce the chances of stock-outs.
  • Monitor inventory KPIs
    Working off a single-view dashboard gives you visibility of your stock holding and fill rate. You’ll improve inventory levels, optimize reorder points, improve forecasting, and identify areas where you’ll potentially stock out or incur excess stock by monitoring your inventory key performance indicators (KPIs).
  • Implement an inventory management system
    Extending the functionality of your ERP with a cloud-based predictive supply chain planning solution, will help you to monitor the movement of inventory in real-time, set up automated inventory reorder points, and generate reports that provide insights into which products are selling well and which are not. This information can be used to optimize inventory levels, reduce carrying costs, and prevent stockouts or overstocking.

How Netstock can help you optimize your inventory

We were able to reduce our inventory value by an impressive $1 million, thanks to Netstock – Becky Wilkinson, Supply chain manager

Netstock’s predictive supply chain planning solution uses advanced algorithms and machine learning to automate manual processes, optimizing inventory and demand planning. Using ERP data, Netstock reduces inventory holding, improves forecast accuracy, and enhances visibility. Netstock also gives you back time. With more time on your hands, you’ll be able to make quicker inventory planning decisions and focus on more strategic activities.

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