Inventory Management done properly Whats inside Even if you don t carry the inventory in your own warehouse, tracking the quantity and cost value of the products you are selling is essential. www.brightpearl.com
Welcome to Inventory Management Done Properly Inventory is the lifeblood of any retailer or wholesaler. Even if you don t carry the inventory in your own warehouse, tracking the quantity and cost value of the products you are selling is essential. You need to know how much you have in stock so that you can re-stock properly, you need to know how much profit you are making so that you can spend cash wisely and produce reports for tax purposes. You also need to be able to share this information with your team. And that s only the beginning... 2 www.brightpearl.com/resources
Introduction Your inventory management needs to be automated, efficient, accurate and timely. Inventory management can be broken down into five components: Processes Software Reporting Data quality Attitude But before we look into each of these, let s start with our objectives. 3 www.brightpearl.com/resources
What are you trying to achieve with inventory management? As with anything you invest time and resource into, you need to define your objectives so that you can measure your progress and (hopefully) success. Here s what a well implemented inventory management system should deliver. Accurate stock levels The most basic purpose of a stock control system is to let you, your staff and your sales channel systems (such as your online shop) know what you have in stock, so that you can deliver on promises to customers. Everyone needs to trust the system, which means that it needs to be reliable and accurate. When an item runs out of stock, the system needs to help prevent more of this item being sold. When an item arrives back in stock, the system needs to help sell the new inventory as soon as possible. Shared information If your stock levels are just managed in your accounting system, or a dedicated spreadsheet, then your team probably won t have access. This can lead to sales being made of items that are not in stock; sales that generally cost more than they are worth through hassle and dissatisfied customers. As well as sharing inventory levels with your team, you need to share them across all your software systems; ideally using an automated integration. Real-time information You need information to be updated quickly, so that you can react. There s no point learning that you ran out of stock of a critical part two weeks after the last item was shipped. You may have just missed two weeks of sales! Detailed, insightful reporting You need to know everything there is to know about your inventory. Detailed reports will let you see which inventory is sitting around tying up cash (reduce the price and sell it faster), and which items are selling well. When you re deciding what to re-stock, you need to combine inventory movement information (essentially sales reports) with current inventory levels and sales forecasts. A good inventory management system will have all these reports in the same system, so that you can react faster to changes, and be more efficient with your purchasing. 4 www.brightpearl.com/resources
Financial knowledge - cash flow and profitability Your inventory is probably the largest asset you have in the business. Even if you don t have your own warehouse, the cost of goods moving from your suppliers to your customers is going to make up the largest cost of the sale. The inventory management system is usually the one that is kept most up to date in a retail business, and can therefore be an essential tool in cash flow management. After all, inventory is really just cash in transit. Minimize inventory levels Since inventory sat on the shelf is tying up capital that could be used elsewhere in the business, for marketing perhaps, it s good practice and most profitable to keep as little in stock as possible, whilst never reaching stock-outs, and balancing the need for small and regular replenishment with the benefits of bulk buying. A good inventory system will let you track stock levels and replenishment cycles accurately so that you can use the data to optimize your inventory levels as much as possible. 5 www.brightpearl.com/resources
Inventory management principles and processes Before we look at the business processes that affect inventory levels, let s discuss what an inventory level actually is. For any one product, there are in fact a number of numbers that you should track. Currently in stock, i.e. what you have inside your stores Available to sell : on hand, which will be less than the above Required to complete sales : shortfall On order with suppliers The key to successful inventory management is understanding the difference between the first two; the concept of allocating inventory to a sale before the goods are actually shipped. Inventory allocation In the simplest case, you d add a sale to your system and remove the stock at the same time. Revenue in, cost out. Job done. However, things are usually a little more complex than that. Sometimes a sale is made for items you don t have in stock. Do you go negative? How do you account for that? Alternatively a sale is made but doesn t ship for a while, and if you ve removed the items from your stock system but not from the shelf, your physical count will be higher than that shown on the system when you come to do a stock take. In order to really see what s going on, we need to use the concept of inventory allocation. As soon as a sale is confirmed, all available inventory is allocated to that sale. If you don t have it in stock, you can t allocate it. The difference between in stock and allocated is what you have left to sell to other customers; i.e. the on hand amount. 10 in stock 3 allocated = 7 on hand Only when the order actually leaves the store or warehouse are the products are removed from stock; your stock levels go down, and the allocations are removed. In this way, the system in stock figure will match the total count of items physically in the warehouse, including items on any orders that are waiting to ship. Whilst goods are in your possession, responsibility for them lies with you, and they should show on your records. Looking at it another way, if your warehouse burnt down at this point, you d also want to claim the value of the goods on the waiting orders as part of the insurance sum. Allocation allows you to decrease available inventory immediately on all sales channels to prevent double selling, whilst still showing the items as in stock because they are still in your warehouse. 6 www.brightpearl.com/resources
Cost of Sales using a FIFO system With a FIFO (First In First Out) inventory costing system, the point of shipment is the time at which you know the actual cost of goods sold. Even if sale A was placed before sale B, if you ship sale B first, then it will consume the oldest inventory for accounting purposes. The actual physical goods may be shipped in any order, unless you are using a batch or serial number based shipping system where you can choose which batch you are shipping. Received Shipped Cost of Sale Jan 1st 10 @ $10 Jan 2nd 2 2 * $10 = $20 Jan 3rd 10 @ $12 We now have 18 in stock, 8 of them valued at $10 and 10 valued at $12. If we sell another two now, the value of the oldest items will be used as cost of sale. Jan 4th 2 2 * $10 = $20 Only when we have consumed all the $10 items will we start counting the cost of the $12 items. Jan 5th 10 6 * $10 = $60 4 * $12 = $48 Total $108 Goods in and Purchase Orders The goods in process is recording the receipt of items from a purchase order that was either placed earlier, or is created retrospectively when product arrives. When new inventory arrives, you need to update all your sales channels as soon as possible so that you can start selling it! If you are placing purchase orders when the products are actually ordered, then the goods-in process is just a case of pulling up the right purchase order, checking the quantities and receiving the goods. The point at which the goods are entered into your system is one of the most critical processes for correct inventory management. Like with most systems, entering bad data is going to cause problems for every downstream process. Using purchase orders helps reduce problems, since each goods-in will be checked against what was ordered. 7 www.brightpearl.com/resources
When goods enter your system, they will also need to be given a cost value, which should be the value that you pay the supplier for this particular delivery, excluding any freight or carriage (we ll cover the concept of landed cost elsewhere in the Commerce Acceleration 101 series). This value will flow through your processes and end up as the Cost of Sale, which is used directly for your profit reporting. The value of goods needs to be stored in your inventory management system even if you are not doing all your accounting in the same software because you ll need to produce inventory valuation reports at month and year end in order to calculate how much you have sold (for your Profit and Loss report) and how much you have left (for your Balance Sheet). It s vital to make sure that the price given to incoming inventory is as accurate as possible. The best inventory management systems will have an integrated financial module, which means that the purchase invoice will be reconciled against the purchase order to ensure accurate inventory values. Stock corrections Most of your inventory changes should be made via goods in against a purchase order, and goods out (shipments) for sales orders. Even free samples, promotional goods and such like should be processed using discounted or zero value orders which also makes it easier to track and report on the cost of inventory lost to these activities. When you need to just change the quantity of items in stock following a stock take, then a stock correction should be made, if your software system supports it. In a similar way to goods-in, every increase in inventory needs to be given a cost price, but for the case of stock corrections you won t have an invoice from the supplier, so use something sensible. Note that if you are just adding inventory to your business with no balancing supplier invoice, then you are effectively increasing your asset value for free this will show up as profit on your Profit and Loss report. Likewise, stock corrections to remove inventory will show as an immediate loss on your P&L. If your inventory and accounting systems are integrated, it s handy to show these stock corrections using separate accounting codes. If you are going to be paying a supplier for new goods added, then there should be a matching purchase order and subsequent purchase invoice. 8 www.brightpearl.com/resources
Stock take At regular intervals you should reconcile your real world inventory with the numbers on your software system. Some businesses choose to stop selling and focus on doing all product lines in a few hours (or days) but with online sales channels such as ebay, Amazon and your online shop this is pretty tricky. The concept of differentiating in stock from on hand helps here, in that you can continue to sell and allocate inventory, which doesn t affect your in stock quantity which is the quantity that you are counting. It s generally better to allocate a few hours each week to checking a certain category or brand, depending on where the stock is physically stored (check items that are close to each other). Using this continuous cycle counting, you should aim to cover all product lines at least once every 4 weeks; so if you have 2,000 SKUs you should try and check 500 each week. Some inventory management systems have a formalized stock take process where you track the variance, or error, each time. If not, then it s best to print out your product list, with a column for expected quantity, and another for actual quantity. Once you ve run the stock take, calculate the percentage inaccuracy, and aim to improve this each time you do a stock take. So say you expect to have 10 in stock, but when you come to count the items on the shelf you only have 9, you re 1 out, which is a 10% inaccuracy. Returns When goods are returned from a customer, they need to be either written off, or entered back into your systems. Depending on which software you use, you may need to choose the original sales order to create a return (tricky when someone is returning an order made on a different system), or else just create a new return without the original sales order. You should always create the return against a customer record; even if the original sale was for a guest or walk-in customer, so that you have their contact details should you wish to investigate fraud, and also to bring them into your marketing systems! You then receive inventory on the return. Typically the goods are first placed into a quarantine location, from where you can later assess the suitability for resale. If the goods are not suitable for resale, then they are written off, and if they are suitable for sale, they are added back into stock. Often, the items are seconds, of a lower standard than when new, perhaps damaged packaging, slightly used etc. Most customers want to know if the items they are buying are new or used, so you now need to manage two SKUs for the product; one for the new items and one for the used items. If you can repair or repackage the used items, then when the repair is completed you remove seconds inventory and add new inventory using the stock correction process. If you are selling via a sales channel where everything is marked as used, perhaps a separate discounted website or on ebay, then you could possibly use the same SKU, but have your seconds inventory in a separate virtual warehouse; which is set up to feed inventory levels to that sales channel. This ring fences the seconds inventory and prevents a customer from buying something you don t have in stock. Staying on top of your returns process, and understanding why people return goods is an important step towards improving your inventory management. Every time you have to deal with a return, you are wasting time. Every instance of seconds inventory you have to deal with creates inefficiency. Make sure you follow a strict process for returns, and track the reason for return in a format that you can report on. If you re seeing that items are always coming back with damaged packaging, for example, you may discover that investing a small amount extra in more robust cartons will save you considerable time and money. 9 www.brightpearl.com/resources
Consignment stocke Let s assume you re a retailer, who buys stock from a distributor. The distributor may send you inventory on consignment, which means that you don t have to pay for it until you sell it. Sometimes this is called sale or return. It s great for you, because you have the opportunity to get the sales revenue before you have to pay for the inventory, and it s good for the distributor because inventory in front of customers is more likely to be sold than if it was sat in a warehouse somewhere. It s a little harder to manage than regular inventory, since you don t actually own it, which means that it shouldn t appear on an inventory value report, and yet it should appear as available on your sales channels. Depending on the stock control system you use, there are different ways to handle consignment inventory - the most common way is to add the inventory to a different system location, or a different virtual warehouse. You can then filter reports to show inventory for just that warehouse, and when you are making inventory available to customers you choose to add up the inventory from all your warehouses. On a regular basis, you produce a sales report of all consignment items provided by the distributor, so that they can send you an invoice. To see how accounting works with consignment stock, have a look at the Accounting For Inventory ebook. Drop-ship Drop-shipping is the process of shipping goods directly from your suppliers to your customers, without you handling any of the physical inventory. In some industries, this is very common, and in others, it s taboo; suppliers want you to commit to stock up front, and don t want to gear up for large volumes of low value shipments. For the purposes of inventory management, you can generally ignore drop-ship sales, since you never pay see the goods you don t have goods-in or goods-out processes. Your software system needs to have some way to handle the sales order and purchase order processing requirements for drop-ship, however. If you do a mix of own-warehouse and drop-ship sales, then you ve an extra layer of complexity, in that you need to manage both in the same system with the same product SKU. If your supplier can get you regular electronic inventory information, you may want to set up your system to take the supplier feed and update your sales channels automatically; so that you don t sell an item that your supplier has run out of (and conversely, sell as soon as they get it back in stock). Since you re unlikely to be your supplier s only customer, and you would get a feed at most once a day, this is never going to be bullet-proof, but it can be an improvement on the scenario where you set items up as non stock tracked, so anything can sell at any time. If your supplier is 100% reliable, and always has everything in stock, then it s not worth the effort. As with any integration, think hard about the cost of not integrating before spending time and money on an automated process. 10 www.brightpearl.com/resources
3rd Party Logistics (3PL) Sometimes called outsourced warehousing, 3PL is becoming more and more popular. You buy inventory from a supplier, get it sent to a warehousing company who store it for you. When you get an order from a customer, you send the order through to the 3PL company who ship it for you. Each week or month, you ll get an invoice from the 3PL company for storage costs, and for shipping costs. The idea is that it s more cost effective to manage larger warehouses and higher shipping volumes, so by pooling products and orders from lots of smaller businesses, a 3PL company can pass those cost savings on. When you re designing your inventory management systems and processes with a 3PL, you have to be extra careful. They will have their own inventory management system, but you will also need to maintain your own so that you can integrate with sales channels, accounts, orders, returns and so on. A retail or wholesale business with 3PL will still involve all the principles we describe in this guide; it s not just shipments and goods out. When goods are received at the 3PL warehouse you will need to be told that they have arrived, allocated against the correct purchase order with the correct cost prices and so on. Similarly, when the 3PL does a stock take and notices a discrepancy, the data and system updates would be exactly the same as through you had just done it in your own warehouse. 11 www.brightpearl.com/resources
Software for inventory management Here we ll just discuss the operational software the stuff that your sales and warehouse people will be using, since detailed discussion of inventory reporting is outside scope of this ebook and is covered in Inventory Reporting And Optimization. Integrate your sales channels First and foremost, inventory levels need to be synchronized across all your sales channels. Sales channels could be trade fairs, an online shop, a retail outlet or trade counter, your telephone sales team, an ebay store and so on. Successful retailers of the future are going to be efficient multichannel operators and it all starts with inventory synchronization. If you have limited inventory, you don t want to be selling the same item twice; letting down one of the customers. If you re just trading on one channel, then the system you use can generally handle that, but as soon as you are multichannel then you need to coordinate stock levels across the entire business. A basic approach would be to pre-allocate a portion of your total inventory to each channel, but that prevents you from selling all your stock unless you manage each channel dynamically. So, your inventory management software needs to be a separate system from your sales channels, and it should update the stock levels on all channels as soon as items sell on any one of them. Similarly, when you receive new stock, it needs to be made available on your sales channels as soon as possible so you can start selling again! Your system should be synchronizing the on hand inventory level across all your sales channels, since that s the actual quantity available to sell. If you trust your supplier and are happy to sell certain lines even when you have no stock, then your software should allow you to set those products to sell when stock has reached zero. An advanced system should be able to tell you the average lead time from your suppliers for certain products to help you make this decision. For lots more information on managing products and inventory in a multichannel environment, see the Commerce Acceleration 101 ebook on Multichannel Product and Inventory Management. What s in stock? Your inventory management software should be able to tell you immediately what you have in stock, and more importantly, what s on hand. Using a cloud based inventory management system gives access to your whole team, so that they in turn can give customers immediate information. If you ve not got the item in stock, then your system should suggest or display similar items, so that you can still make the sale. If you re selling items with multiple sizes or colors (or other options) then you ll benefit from using a system that supports size/color matrix where all options are displayed neatly on one screen so you can suggest alternative colors or variants to the customer. When searching for products, the system should be able to find products by name, SKU, 12 www.brightpearl.com/resources
UPC, EAN, ISBN or barcode. Although many operators have a strange pride in being able to remember product codes off by heart, letting your system handle this will let you scale your team faster and rely less on memory. What s allocated? Sometimes, your system may say that you have none available, and yet you can see the item on the shelf particularly in a retail store where the sales phone is often in the same room! This is usually because the item is allocated to an order. Perhaps the order was only just placed online, and your inventory system has downloaded it and allocated stock to prevent it selling on other channels, or perhaps an existing order is part way through your pick-pack-ship process. Either way, your system needs to be able to tell you where the inventory is allocated so that you can investigate further and maybe reallocate. What s on order? Knowing what products have been ordered from your supplier is a key component of accurate and efficient inventory management. Without a shared, accurate on order figure, you will be restricted to one person handling replenishment, with little structure and no possibility for optimization. Your on order figure should be able to be broken down into specific purchase orders, with delivery dates, so that you can give accurate promises to customers, and plan for further replenishment later. Some businesses are prepared to commit (allocate) inventory that is not yet in their warehouse; taking pre-orders in effect, to be dispatched when the goods arrive. If we assume that you can only allocate inventory that you already have (the safest scenario), then you d need to find a way to receive the inventory in transit into a temporary location in your system and allocate the sales from that inventory. You can then do a stock report on that location to see how much is available for further pre-orders. Structure your product database properly In order for your software to work properly, and for your reports to make sense, you need to be working with good data. In addition to a good attitude towards maintaining data (see below), it s also important to make sure that your central stock control system and all your sales channels are set up with the right data structure for success. Key points are maintaining a single, unique SKU for each inventory item, building kits and bundles correctly, handling variants such as size and color properly, as well as understanding the different units in which you may be buying and selling; perhaps pallets, crates and cartons. Setting up a multichannel product database for accurate and efficient inventory management is covered in another ebook as part of the Commerce Acceleration 101 series : Organizing Your Products. 13 www.brightpearl.com/resources
Successful inventory management is about attitude Even the best software system in the world won t let you achieve your goals unless you have the right attitude towards the processes and people that work with it. Ensure everyone understands the importance of stock control Although you may have someone responsible for maintaining you warehouse or store, everyone that interacts with inventory needs to understand how important it is to keep everything shipshape. If your sales team spot an inconsistency, let them have a method to report it. Don t let it go ignored, otherwise it will cause more problems later, and you may be missing out on sales! Don t delay updating the software When goods arrive into your store or warehouse, add them into the system as soon as you can. If you sell an item before you have added it into your stock control software, you re asking for trouble. Likewise, when shipping goods to customers, make sure you update your software as soon as the goods leave your store. Time is generally not on your side, and once inventory management has started to slide out of control, it s very hard to bring it back on track without investing a lot more time later. Delays in updating your system will mean you miss out on sales, sell the same items twice, and generally lose a lot of efficiency. Maintain a snag list Most of the time when you discover an anomaly with your stock levels, you re in the middle of something else and don t sort it out immediately. If you pop a note onto the snag list, you can pick it up as part of your daily checks (see below). A paper notebook actually works quite well for this, especially in a warehouse or shop environment where a computer might not always be available. Otherwise, set up a Google doc where staff can add information from any computer but make sure you track who added the entry, and when, so that you can follow up if it s not clear enough. If you sell an item in store that you can t find on your stock control system, or if the stock system says you don t have any left, make sure you make a note of exactly what was sold and make the correction later. Assign time each day for a system check A daily check might sound like a chore, but it s much easier to correct mistakes just after they happen, and hopefully you ll find that you don t have anything to correct anyway- in which 14 www.brightpearl.com/resources
case you can perhaps change to a weekly check but then you ll have more to check each time! Write yourself a list of checks that you can do to make sure you catch problems early. Here s a suggestion: Goods-in/Purchase Orders are all put away into the correct locations within your store or warehouse. There should be no cartons lying around at the end of the day! Goods-in/Purchase Orders are entered into the system. Maintain a folder for delivery notes from your suppliers, in two sections; received and not entered. The not entered section should always be empty. Shipped orders are recorded as such. There should be no open shipments on the system if your goods-out area in the store / warehouse is empty. It helps to mark a physical goods-out location to store all packed orders; the consignments here should always match the list of ready shipments in your software. Sales for unknown/misc items are checked and corrected for. Sometimes you have to sell something that s not yet been entered into your software. Don t guess at what it might be if there s no obvious match. Use a misc item, and then at the end of the day check all sales with misc items and try to sort it out. Ideally you won t be in this situation if you structure your database properly, however. Transfers between stores / warehouses are completed or accounted for. Inter-warehouse transfers are as important to manage as goods in and goods out for customers and suppliers. Returns and exchanges are processed and the inventory is accounted for. If you ve got a quarantine inventory location, reconcile this with your software to make sure that you re not losing anything, and to make sure that your customers are not being left in the dark. If the goods are suitable for re-sale, you want to get them back on hand as soon as you can. Snag list is empty. If your snag list is slipping out of control, it s indicative of much larger problems; catch things early! Do what your system tells you If your system says to pick from a certain location, pick from that location. No exceptions. If there s nothing to pick, then put that shipment aside and correct the system first. As soon as you start second guessing, things will soon go out of control. If your system tells you that there are none on hand because all items are allocated, don t ignore the warning and sell it to a customer anyway unless you are sure that you can fulfil both sales. In the scenario where you have a walk-in retail customer wanting to buy the last of an item that was also sold online a few minutes before, don t be afraid to suggest an alternative to the walk-in customer; where you have a better communication and negotiation position. If you really have to bypass the system, put a note into your snag list and fix it as soon as possible. 15 www.brightpearl.com/resources
Document your processes You need to make sure that everyone in your organisation knows what the correct processes are for receiving goods in, shipping orders, dealing with conflicts or stock-outs and so on. Write them down, and share with everyone that deals with inventory which includes your sales team and your bookkeeper! Communicate your processes Don t assume that everyone will understand the processes you ve written down. Inventory management can be complex, so it s always worth running through each process with your team to check you ve explained it properly, and also to make sure you ve not missed anything out. Have backup plans Even the best suppliers have inventory problems, and may sometimes not be able to deliver. Depending on your product range, you may be able to find secondary suppliers for most of your products even if it might cost an extra 10% to order small quantities from them on an irregular basis, it s probably going to cost a lot less that the hassle and negative impact of a dissatisfied customer. Spot checks We talk about making sure that everyone understands the importance of accurate inventory so make a point of checking a random set of items regularly. It s good for your team to know that spot checks are going to happen, at a fixed time each week, so that they have an incentive to keep on top of everything. Share the responsibility of doing the spot checks; it s for everyone s good. United Kingdom First Floor, New Bond House, Bond Street, Bristol, BS2 9AG Phone 0845 003 8935 United States 625 Market Street, 6th Floor, San Francisco, CA 94105, USA Phone 1-888-320-5069 16 www.brightpearl.com/resources