Every aspect of your inventory management influences every aspect of your business. Therefore, developing effective inventory management best practices can be the difference between success and failure.
This guide provides you with the information and resources that will help you through the process of implementing a comprehensive retail inventory management system. We start with the planning process to align your goals with your processes, which creates a blueprint that includes:
- Inventory Management Systems
- Warehouse Space
- Vendors – Building Relationships
- Reports and Metrics
- Training Employees
- Physical Counts – Cycle vs. Annual
Create a Strategic Plan – Define Your Goals
The first step in building a retail inventory management system is creating a strategic plan that uses three simple questions to guide the process:
- Where are we now and where are we going?
- What needs to change?
- How will it change?
These broad questions help you think about your current position and what you need to change. Your answers will allow you to set goals and focus on areas of your business that are a priority. You can also create a timeline with realistic milestones.
These goals and milestones build a foundation for your strategic plan, so try to be as objective as possible when answering them. Make sure that you write them down and share them with your employees, which will engage them more with the process and increase your chances of success.
Start with Your Method of Inventory Management
There are multiple methods for managing inventory. Each will define how you manage your inventory and accounting practices. Once you have selected your inventory method, you need to remain consistent with it to be compliant with generally accepted accounting principles (GAAP). The most common methods are described below:
- First In, First Out (FIFO)
With FIFO, you are rotating your stock, essentially selling the oldest first. You can see why this process is used for perishable goods, but it’s also an excellent way to keep products from incurring more costs. It’s an easy way to understand the value of your ending inventory on the balance sheet for accounting.
- Last In, First Out (LIFO)
If your products’ price fluctuates every month or quarter, then LIFO may be the right method for you. You need to assume that the price to purchase stock always increases. If it doesn’t, then you could lose money. With LIFO, your stock doesn’t have to rotate because it’s not perishable. This method allows you to lower your tax burden by selling your newest inventory first, typically the most recent shipment. By selling the newest inventory, you can declare a greater loss on your cost of goods sold than FIFO.
- Average Cost Method
This method uses the average costs of similar items, regardless of purchase date. One benefit of the average cost method is less labor to calculate costs for each item sold. Expenses are not manipulated like the other costing methods and easier to calculate for wholesalers or businesses selling large volumes of similar items.
Your Current Inventory Management System
Your retail inventory management system should be integrated with Point of Sale (POS). Plus, it should be accessible from anywhere and at any time.
You may need to change your inventory management system if it’s not meeting your needs:
- Reports need to be calculated by hand.
- Loss of data residing on a computer hard drive.
- Cannot processes complex transactions, so you create workarounds.
- No system for layaway and delivery.
- No system to process and track repairs.
Spreadsheets and paper-based organizers that manage your inventory are slower and result in more errors than an integrated cloud-based software. Spreadsheets may have been a necessary evil many years ago, but that’s all changed with cloud-based point of sale software. Learn More >
When you migrate or upgrade to a point of sale system, you eliminate many of the pitfalls that obsolete systems have. Today’s POS has more functionality for complex inventory management.
Choosing the Right System
Customers expect smooth transactions that are quick and simple. They also expect timely delivery. The systems in place need to accommodate your future customers as much as your current ones.
Are the systems in place able to take you into the next three years? How about five years? This includes the number of employees, marketing/advertising, store locations, and back-end systems, such as accounting and inventory management software.
Your inventory management system should grow your business and improve employee productivity. It should also automate purchase orders and have all of your vendor-specific information at your fingertips.
Improve inventory management. Today.
Vendor Relationships
Retail businesses thrive on building strong, long-term relationships with their customers and vendors. Yet, the relationship between you and your vendors can be one-sided, or transactional, based solely on price and availability. This outlook supports a short-term relationship and doesn’t look beyond each purchase. Getting a good deal may increase your profits, but it doesn’t show your purchasing power’s full potential. Learn More >
If you’re starting your business, it isn’t easy to get the best prices from your vendor or a line of credit. Here are some tips for fostering a stronger relationship with them:
- Limit the number of vendors you use.
- Meet regularly with your vendors to get to know their business and they get to know yours.
- Take advantage of any offers and partner programs.
- Listen to any advice or guidance they have about your business.
- Treat them like they are part of your team, especially when they are on-site. Learn More >
If you have been in business for a couple of years or more, you should always remember that your vendors want to see you succeed. They have ways other than pricing that can benefit your business. It’s time to change “What can you do for me?” into “What can we do together?” Here are several ways that you can negotiate better pricing while improving your operations:
- Pricing Review
Conduct a pricing audit of all your products. You can also look at historical pricing to see the trends that support renegotiating your terms.
- Ranking Products
You can rank your products in several ways: gross margin, best sellers, and availability. Each of these indicates which products are the most important for your business and help you determine which ones you need to promote and the ones you need to abandon.
- Vendor Portfolio
To get better pricing on every deal, you don’t always have to order more of one thing. You can purchase from a new category to increase your total amount, while transitioning away from a poor relationship with another vendor. You can also negotiate better terms through delivery fees and interest on your line of credit.
Timing is also important to look at when purchasing from your vendors. When you use the customer buying cycle, you anticipate how much inventory you will need on hand and when. The customer buying cycle is based on a three-phase, decision-making process: awareness, comparison, and purchase. The buyer’s cycle anticipates seasonal trends as well as shifts in purchasing habits. The key to having the right amount of stock is knowing what your customers are looking for during each step of the buying cycle. Learn More >
From the Warehouse to Your Shelves
The right amount of warehouse space is essential for reducing costs and maintaining product availability. Optimizing this space requires a visual layout and strategic plan. You can sketch one out on paper or easily find an app to help you, giving you a map for faster picking and shipping.
You can start by looking at how you’re currently using warehouse space and determining how much of it is available. This will help you decide how much you need to rent or purchase. Product dimensions should be easy to find online, so you don’t need to assign slots for each one physically. Plus, you will want to leave enough space for seasonal inventory.
If you have several warehouse locations, you may need to consolidate them. This will lower your costs and increase employee productivity. Finding a property that’s closer to your store can save you a lot of time and headaches.
Train Employees on Inventory Procedures and Policies
Along with your map of the warehouse, you should develop a set of policies and procedures that maintain a safe and productive environment. Common injuries often occur in the warehouse, because of a failure to follow policies and proper procedures. The warehouse is where most personal injuries occur:
- Accidents
Forklifts and overexertion are the most common causes of workplace injuries. When an employee is in a hurry or tries to do too much at once, they may misuse tools and machinery or strain their back. Pushing, pulling, and carrying too many boxes can also cause unnecessary injuries.
- Hit by Objects
Poorly stacked and unorganized shelving has the potential to be a hazard. Your employees are at risk of severe injuries from falling objects and shifting loads.
- Slip and Fall
Slippery or wet areas are common in warehouses. Another thing to look for is uneven floors or hazardous flooring surfaces. Poor lighting makes it difficult for employees to see obstacles. Empty boxes and containers, pallets, and excess inventory can create tripping hazards.
The warehouse is also where a lot of mistakes are made, which impacts your customer service. Each employee should be trained on how they can make your business safer and more productive.
Here are some things to consider when training your employees.
- Receiving
Your employees need to know how to process shipments in your inventory system and edit any mistakes made by the vendor. Next, they should know how to unpack and place new inventory on the shelves. You will also have fewer misplaced items when shelves are appropriately labeled.
- Physical Inventory Counts
There are two ways to count your physical inventory. The first is year-end counts, and the other is cycle counts. Both maintain accuracy and are necessary to comply with the IRS and GAAP.
- User Permissions
Not everyone should have full access to your inventory management system. Setting specific user permissions will prevent the potential loss of valuable data.
- Delegate Tasks
Each employee should have a specific list of tasks that they need to complete. Effective managers know how to delegate these tasks to each employee. This allows them to manage their employees better while saving time and resources. Learn More >
- Preventing Loss
To prevent loss, employees should be trained on how to handle all of your fragile products. Dropped boxes and damage from forklifts are common causes for loss of product.
These measures for training your employees will lead to more accurate reports to better manage your inventory. Reliable reports and sales metrics are critical for the health of your business.
Inventory Reports and Metrics
For those of you who are just starting, there are several inventory reports that you need to know:
- Stock Reorder
This list should contain the items that have been reordered and flag the ones that need a PO.
- Stock On-Hand
Knowing the inventory amount in your warehouse helps you gauge any disparity between allocated and available stock.
- Dead Stock
Items that haven’t sold over a set period become dead stock. The parameters for this report depend on product type and self-life.
- Picking and Packing List
This list organizes your deliveries, so you can quickly pick, pack, and ship to maintain your excellent customer service.
Real-time reporting gives you the ability to know what’s on your shelves, which is critical for any successful inventory management system. The following metrics provide you with detailed information on the profitability of your inventory.
- Carrying Costs
The costs associated with holding inventory in stock can be a constant struggle for many retailers. This article can help you reduce those costs to help your bottom line.
- Inventory Turnover Rate
Whether your stock is moving too slow or it’s flying off the shelves, both extremes may have a negative effect on your business. Your turnover rate needs to strike a balance to maintain profitability. Take a look at these two articles to learn more about optimizing your inventory’s profitability. Article 1, Article 2
- Shrinkage
This report is calculated after a physical count of your inventory has taken place, and all accounts are reconciled. Of the many things that cause shrink, theft is the most significant contributor. Here is a comprehensive article on shrink and how you can prevent it. Learn More >
- Gross Margin Return on Investment (GMROI)
Another way to analyze your profitability is to calculate how much you earn (before expenses) on every product you sell. Your cash flow depends on how much money you make with each investment in your inventory. The article below will give you more information on this topic. Learn More >
And, when you combine this information with POS reports, you can learn about your customers’ buying habits, market trends, costs of goods sold, and much more. Here are some more reports that you should pay attention to:
- Average Ticket
This lets you know the average sale per customer. Improvements in upselling and add-ons will increase your overall revenue.
- Order Performance
How effective are you at filling and shipping orders on time? Order performance will also let you know about the number of complaints compared to orders filled.
- Sell Through Rate
This is the percentage of items sold during a specific period. Typically calculated monthly on specific products or categories, it differs from turnover rates performed on all of the inventory on an annual basis.
- Back Order Report
Orders delayed due to backorder can affect the overall customer experience. One way to prevent this is to have emergency stock to meet demand.
How to Physically Count Inventory
Each SKU in your inventory has to be reconciled with a physical count of products on the shelves. According to GAAP and the IRS, your inventory needs to be counted and reconciled annually. You could spend your New Year’s Eve counting inventory or you could do cycle counts throughout the year. Saving this task for the end of the year is nearly impossible when you have hundreds of SKUs and thousands of products.
Cycle counting gives you more flexibility. You can schedule when each count takes place and what it will be. One of the most significant benefits of cycle counting is that it helps you control inventory shrink and spot problems with theft quicker than counting once a year. Learn More >
Training your employees on how to take a physical count properly will prevent errors and improve productivity. Remember, this is an area where you can delegate to your employees due to the task’s simplicity. And, it’s great for filling up downtime during the day. Learn More >
A Final Note: Stockouts and Theft Prevention
We all know the feeling of going to a store and not finding the item we were looking for because it was out of stock. What do we do next? We go to another store. A stock out means more than losing a sale. It’s lost business and creates a negative experience that turns up in online rates and no recommendations. Try to avoid stockouts by setting alarms on stock levels and automating your purchase orders. Learn More >
Theft accounts for up to 70% of your inventory shrink. Prevention begins with vigilance and surveillance. Did you know that your employees are almost as likely to steal from your business as shoplifters? Your investment in the latest technology will pay for itself while providing you with peace of mind when you’re away from the store. Learn More >
As you can see, a successful retail inventory management plan encompasses more than just shuffling inventory and on-time delivery. It’s also about training your employees and having the best technology in place to get the job done. If you’re a startup business or want to upgrade your system, keep using this guide as a reference during every stage of your journey.