Breaking down the basics of inventory management for SMBs
This blog was last updated on April 1, 2022.
Few things are more challenging than having proper inventory management. In fact, 43% of retailers rank inventory management as their biggest day-to-day challenge. And a third of businesses miss their shipping deadlines due to selling a product that they don’t actually have.
Safe to say that good inventory management is essential to a well-oiled eCommerce business.
Read Also: How to start a business
In this guide, we’ll discuss how to keep a tight leash on your inventory and avoid costly mishaps like overselling or wasted storage space. Learn how to manage your inventory with greater confidence—and with more money in your pocket.
Table of contents
What is inventory management?
Inventory management refers to how you track, order, store, and sell stock. It covers the entire process, from how you source your products to how you get finished products off your shelves.
The main purpose of inventory management is to have the right amount of stock in the right locations at the right time, all while controlling costs so that you make a profit.
To meet this level of precision, many companies now turn to software for help controlling several aspects of inventory management. For example, platforms like Wix eCommerce come with built-in inventory tracking tools that automatically sync inventory across all of your sales channels. But whether you’re a single-channel seller, multichannel seller, or omnichannel retailer—having a unified system is essential for success.
Why do you need inventory management?
Let’s first talk about the consequences of poor inventory management: delayed shipments. Stockouts. Spoilage. Cash tied up in products that sit idly in your warehouse for months.
In its worst form, poor inventory management can lead to disgruntled customers who quickly lose trust in your brand and seek relief from your competitors. Meanwhile, you might be left reeling from a slew of order cancellations and/or negative reviews. Not to mention, sunken costs from wasted inventory.
Before this happens, establish a proper inventory management strategy.
Know how and when you plan on acquiring new products, plus how they’ll be monitored over time. Look forward to the rewards of good inventory management, which include:
Reduced costs - from being able to better predict demand and order just the right amount of stock, as opposed to blindly reordering a set number of stock every 30, 60, or 90 days.
Happy customers - from remaining in stock for popular items and meeting your customers’ shipping expectations.
Less waste and/or theft - from knowing how much stock you have in each of your warehouses, and selling items before they expire. Also, by having a close eye on your inventory, you can avoid shrinkage due to theft.
Greater efficiency - from being able to identify bottlenecks in how your product is received, stocked, packed, picked, and shipped.
Improved cash flow - from freeing up cash (read: not funneling it all into inventory) for other marketing activities, ads, and/or payroll.
Key inventory management terms and formulas: a cheat sheet
Inventory management is a complicated topic. So, before we dive into it, here’s a quick rundown of common words you’ll hear and formulas that will come in handy.
A technique for categorizing inventory into three different groups with varying levels of priority. Category A is for high-dollar-value products, category B is for medium-value products, and category C is for low-value products.
The average amount of on-hand inventory over a certain period of time. Formula: (current inventory + previous inventory) / number of periods.
Average inventory cost (AVCO)
The average cost per inventory unit. Formula: total cost of inventory / total units of inventory.
An order for a product that is out of stock but will, assumedly, be available again soon.
Extra inventory that’s kept on hand in case materials become scarce in the near future. Buffer stock is usually purchased at times of uncertainty to account for potential downtime (concerning supply chain issues) or price fluctuations.
Also known as “holding cost,” carrying cost refers to the price you pay to have inventory on hand. This accounts for warehousing costs, production costs, labor costs, and other fees.
Inventory that belongs to you but is held by a third-party (the consignee) who, in turn, helps to sell your product.
Cost of goods sold (COGS)
Total cost of producing the products that you sell, including any material and labor fees. Formula: previous inventory + total purchase – current inventory.
The process of regularly counting a small amount of inventory in your warehouse to make sure that your records are accurate.
Days of inventory outstanding (DIO)
The average number of days it takes for your inventory to turn into sales. Formula: (COGS / average inventory) x 365.
Unsold items that are sitting in your warehouse and aren’t likely to sell any time soon.
A fulfillment strategy in which your supplier ships the order on your behalf. This effectively eliminates the need for you to handle or store inventory yourself.
Enterprise resource planning (ERP)
An inventory management strategy in which the first products that you receive are the first products that you sell. This is meant to limit spoilage or expiration of goods.
Inventory days on hand (DOH)
A measurement of how many days (on average) it takes for you to sell your inventory. Basic formula: average inventory / COGS / days in the accounting period.
The art and science of predicting which products to restock, when, and how much in order to keep up with customer demand.
Inventory pick list
A document (online or physical) that warehouse employees use to fulfill customer orders. A pick list includes order details such as the SKU, quantity, order date, and more.
A situation in which you have fewer items than what your records show. Shrinkage could be due to spoilage, damage, loss, or theft.
Inventory turnover ratio
A measure of how often you sell and replace your products in a given time frame. Basic formula: COGS / average or total value of inventory.
A fulfillment strategy where you order and receive stock just in time to ship it out to your customers. This is meant to minimize storage cost and dead stock.
The amount of time it takes for you to receive goods at your warehouse from the moment you place a purchase order.
Order management system (OMS)
A software for streamlining and automating order management, inventory management, order fulfillment, and reverse logistics (among other things).
A situation in which you sell more products than you actually have on hand.
Reorder point (ROP)
A minimum stock level that triggers you to purchase more inventory. Basic formula: (average daily usage rate x lead time) + safety stock.
Extra inventory that’s kept in your warehouse to avoid stockouts.
Third-party logistics (3PL)
An organization that takes care of warehousing, inventory management, and fulfillment on your behalf.
Warehouse management system (WMS)
A software used to track the movement of materials and finished goods inside a warehouse.
4 types of inventory to track
Inventory can be grouped into four different buckets:
Raw materials or components - the materials (and/or private label products) needed to create your product
Works-in-progress (WIP) - the items that are currently being produced
Finished goods - the items that are fully produced and ready to sell
Maintenance, repair, and operations (MRO) goods - supplies (like safety equipment) that are used when producing items but aren’t part of the product itself
Each of these should be accounted for in your strategy; you should know where most of your time, money, and resources are going, and where the bottlenecks are. If one type of inventory is held up—then most of the others will likely be impacted as well.
Say, for example, you sell lotions. In order to create your signature lotion, you need materials (oils, liquids, wax, bottles, stickers for labels) and equipment (machine mixer) to create the actual product.
This step could take as quick as a day—but that’s assuming that you already have all the materials on hand.
And once your products are in their finished state, you need a system for making sure that they get transported quickly to your warehouse. A lot is happening in the background to get even the simplest products off the ground, and it only gets more complicated the larger your business gets.
How to pick the right inventory management software
Of course, it’s impossible for any human to keep track of all these moving pieces around the clock. That’s why it’s important to find reliable software that can keep you organized from day one.
If you use Wix eCommerce, you benefit from having a platform that already supports multichannel inventory sync. This means that if you’re selling the same product across eBay, Amazon, and your own branded site, Wix will automatically update your inventory whenever an order comes in from any channel. This helps you to avoid overselling (and, in turn, angry customers).
From Wix, you can additionally forward purchase orders to your suppliers or send inventory updates directly to your 3PLs. Alternatively, if you own a dropshipping business, you can send orders to your dropshippers and track shipments from the platform.
Learn how you can manage your online business with Wix eCommerce.
There are various other solutions available at your disposal, including OMS, WMS, and ERP systems. Netsuite, ShipBob, and ShipStation are several crowd favorites. As you evaluate your options, make sure to ask yourself the following questions:
Which are your current challenges and goals related to inventory?
What channels do you sell on?
What types of inventory do you need to track?
Who will be using your software?
What other apps and systems does the platform need to integrate with?
What is your budget?
How to finance and forecast inventory
Your inventory management directly impacts your cash flow. To state the obvious, you need the money to be able to purchase new inventory, storage space, and other resources. Especially if you’re injecting a lot of cash into production, you may need to apply for a loan, crowdsource funds, or entertain other options for inventory financing.
To make sure you’re spending your money wisely, develop an inventory forecasting system that works best for you as a small business owner. Platforms like ShipBob include forecasting tools, which help you to establish the right reorder points based on sales history, sales velocity, profit margins, and more.
You could also build your own formula based on factors that matter most to your business. These could include seasonality and any marketing campaigns that you have planned. Whatever the case, you’d benefit from regularly checking, testing, and optimizing your approach.
Some of the largest brands to date—including Nike—have flubbed forecasting. In the early 2000s, Nike lost millions of dollars to excess inventory. The root of the issue? Inaccurate forecasts due to software bugs and data errors.
How to cut costs and boost efficiency: 4 techniques
Beyond what we covered, how can you avoid throwing tons of money into inventory or storage? Here are a few tips to consider.
01. Order products in bulk
It’s no secret that ordering items in bulk can reduce your shipping costs. However, this approach requires having enough money upfront to make a large purchase. You’ll also need a keen understanding of how quickly (and how likely) your products will sell. The last thing you’ll want is to have a ton of inventory taking space in your warehouse or becoming dead stock.
02. Consider just in time (JIT) inventory
JIT inventory is an oft-praised system for lowering inventory on hand and combating overstock. It’s what allowed Apple to reach a spectacular inventory turnover rate (“Wow! Apple Turns Over Its Inventory Once Every 5 *Days*” reads a headline from an old The Atlantic article). And it’s practically what keeps the automobile industry afloat (JIT is sometimes called the "Toyota Production System").
In fair warning: the JIT system isn’t everyone’s cup of tea. It’s considered a risky, fragile technique. Disruptive events, such as the COVID-19 pandemic, can easily puncture holes into your JIT plans. So, while it’s worth exploring for your business, always have a backup plan to avoid shortages in your stock.
03. Consider dropshipping
This inventory management technique eliminates the cost of holding inventory altogether. When you have a dropshipping agreement, you can directly transfer customer orders and shipment details to your manufacturer or wholesaler, who then ships the goods directly to your customer.
This isn't only helpful for new sellers. It's also a helpful (and popular) strategy for established businesses to shave shipping and storage costs.
When taking this approach, it’s important to have a tight relationship with your dropshippers to ensure quality control and on-time delivery. Read more tips in our guide for how to start a dropshipping business.
04. Accept pre-orders
A great pre-order strategy can help to build hype around your products—even before they exist. It enables you to test the waters and gauge demand before spending money on production. Think: Kickstarter, except you should already have the means to build your product.
To start accepting pre-orders, create a landing page with a button for pre-ordering or a “notify me when back in stock” message. Both options effectively communicate that it will take a little while before your products arrive. However, some retailers will only take pre-orders until they’ve generated enough sales to place a large bulk in order with a supplier.
How to audit your inventory
A major part of inventory management is establishing the right process for auditing the inventory that’s already in your warehouse. While automation is helpful (and necessary) for reconciling your inventory with online orders, it’s always a good idea to back this up with manual cycle counts.
Cycle counting involves counting a small amount of inventory regularly without having to do a full stock take (which would entail shutting down your warehouse temporarily). It’s a type of sampling that allows you to see how accurately your inventory records match up with what you actually have in stock, and it helps to account for stolen, misplaced, or lost inventory.
There are various methods for cycle counting:
ABC analysis - This technique involves categorizing products by their order of importance, with A being the most valuable and C being the least. The idea is that not all products are of equal value, and more attention should be paid to more popular products. Using this approach, you may choose to count Category A products every month, whereas you only count Category B products every quarter.
Location-based counting - This method involves counting products according to their physical location within your warehouse. In other words, you may count certain sections or shelves of your warehouse at various times. Eventually, you’ll have analyzed every inch of your warehouse—and continue to do so regularly.
Opportunity-based counting - This is a more reactive approach in which you count your inventory when a big event or movement has happened. Say, for instance, you host a flash sale. You may choose to take stock afterwards to ensure accuracy. In another instance, you may count stock when your product is reorder or relocated.
Control group - Using this approach, you’d pick a particular group of items to count many times in a short period of time. This helps to air out any crinkles in your counting technique.
There are other cycle counting techniques to explore beyond these. But at the end of the day, you’ll want to find the system that works best for your operations, resources, and products.
How to manage items in your warehouse: 11 expert tips
In addition to knowing what and when to restock, it’s crucial to make sure that everything on your warehouse floor is running smoothly. Check out the tips below from Jake Rheude, director of marketing at Red Stag Fulfillment.
01. Check that everything is in its right place
For you (us) older warehouse teams, it’s time to fire up your inner Radiohead fan and sing a little bit of “Everything in Its Right Place.” That simple mantra is the guiding light for inventory management because it encompasses two key points.
First, everything needs a specific place to go in your warehouse. “The floor” doesn’t count.
Second, this refrain reminds you that having a place for things only counts if teams put them away correctly. So, put everything away like you have to clean your room and your mom is checking.
Organizing your warehouse like this will make everything easier, from counting goods and inventory to grabbing the right items when you ship, and using WMS or other tools to count inventory correctly for resupply needs.
02. Put commonly ordered items near packing stations
Some inventory management policies can help your warehouse in its other operations. One of our favorites is moving your bestsellers closer to packing stations. This serves a few purposes, the best of which is it can make picking and filling orders faster because your team has to move less.
Beyond that, it can also make it easier for your team to see and count these goods as they’re used. You may have a sharp-eyed associate who notes inventory levels are low and can alert you, prompting managers to reorder or to verify that a shipment is on its way.
Managers also like this practice because it can help reduce overall travel time and labor costs. If you apply this practice to products that have more significant time constraints, such as perishables or goods frequently expedited, you’re eliminating time and worry with this move.
03. Make gaps between items that look similar
Proper inventory management is about understanding what you have and using it correctly. That means correctly counting and picking inventory is an absolute must.
If you have products that are similar or sell the same objects in packages of assorted sizes, ensure that there is some variation between them. When you can’t control the coloring on boxes, try adding physical space. This reduces the chance that someone accidentally picks up the 12-pack of batteries instead of the 24-pack.
One problem we’ve seen is that stacking multiple options near each other can even fool scanning systems. This happens because the picker will scan the correct barcode, but then grab the wrong item from the shelf unintentionally. There’s always a risk that some products may be put away incorrectly, too. When things that look similar are on top of each other, the risk here increases.
04. Check orders multiple times
There are multiple scanning options you can use in a warehouse, though many eCommerce businesses and their warehouse partners opt for barcode scanners. These handheld items are easy to use and can give teams direction for how to do their tasks.
If you built your site with Wix, you can easily add SKUs, as well as track, locate, and manage inventory using the barcode scanner on the mobile app.
Checking orders multiple times is designed to protect your inventory knowledge and counts. Scanning an order sheet and each product as it’s picked can update counts and match the right product to the right order. Rescanning everything when it goes to a packing station verifies that orders are going out accurately and that your inventory counts are correct.
Checking procedures like this will help your team get into a good rhythm for how they operate and meet broader accuracy goals. Once you get that under control, it’ll be easier to adopt more advanced inventory processes, like just-in-time production.
05. Standardize as many processes as you can
Routine and standards make it easier for managers and employees to knock out tasks quickly and correctly. It’ll protect your people and your business, plus make it easier to control and respond to outside factors.
In the warehouse, this is important for safeguarding people and stock. If you use perishable goods or those with other timetables, start with the way you store and label goods. FIFO (first-in, first-out) is a widespread practice here where the goods added to your inventory first are sold first. It helps avoid major spoilage that eats into your profitability. Not selling perishable goods, so LILO (last-in, last-out) is another way to standardize inventory management.
The key is standardization. You can trust that your team knows how to accomplish tasks, use the software you have and is prepared to spot something out of place.
06. Invest in repeat training
When you standardize a process and teach it to your teams, they can learn and repeat while reducing errors. However, one-time training can fade, and people sometimes slip back into habits that aren’t good for them or inventory.
Training on processes and reviewing these training requirements is a must-have for managing your inventory. It’ll help ensure that people aren’t cutting corners, mis-stacking or mislabeling inventory and operate safely in your warehouse. Repeat training also reduces the chance of an accident or harm.
07. Involve the whole company
Here’s one tip that’ll get you out of the warehouse briefly. Everyone in your company needs to have some idea about your inventory management strategy. Teach them the entire process and their specific role in your strategy, too. Not only should teams get some training on what the concept includes, but you’ll want to share how they can get real-time information and give you feedback or support.
A comfortable place to start is your marketing and sales department. If you’ve got something gathering dust on the shelves, let marketing and sales know that this stuff can be moved at a lower price to save your company storage costs.
Sharing warehouse costs, such as storage or maintenance, gives your sales team a better idea about when things may want to move or what they should be willing to try. At the same time, offers like buy-one-get-one-free or giving away items when an order reaches a specific value will impact warehouse operations.
You might even score big by combining these offers with special packaging and inserts. To make sales and packing smooth, you’ll want coordination.
Sales can also have useful insights for your warehouse team. Let’s say you offer a variety of umbrellas and the hot color of the year is blue. Sales may identify this potential trend ahead of your big selling season. Sharing that data can help you adjust inventory levels accordingly and even proactively change how you restock goods.
08. Track travel time
Everything takes time in a warehouse. Reducing time involved in activities helps businesses get more done and reduces the need to rush, allowing your team to take their time, and ensure accuracy in what they do.
One way to control the time spent in the warehouse is to review how far your team has to move to pick orders and accomplish tasks. If you’re tracking this based on orders, you might find that some goods in your average order are put too far apart.
Alternatively, your warehouse layout may cause forklifts and workers to backtrack, instead of being able to move forward continuously. It can be worthwhile to separate racks and shelves where a forklift or cart is required because you’ll protect workers from accidents when two people are trying to get into the same aisle.
Your WMS and eCommerce tools can be a tremendous help here. Look for solutions that help you optimize both warehouse layout and the order your pickers are giving goods. A system-aided picking process can help you significantly reduce walking, which takes up about half of the time used during normal picking.
09. Automate par levels
Your eCommerce software and inventory management tools should help you establish a par level—a quantity of inventory you should have at all times. This threshold ensures that you meet all of the orders you have on hand and expect to receive for a product before you can restock.
A par level system identifies the amount and will tell you to reorder these products or materials as soon as you fall below that threshold. Generally, par levels are set so that you still have time to place the order with a supplier and wait for standard freight shipments to arrive, plus a little extra time just in case.
Automating your par levels and reorders can significantly protect operations. You have accurate inventory counts that don’t need to be hand-checked or spotted with just an eyeball. Because par levels vary by product, you’re also eliminating the risk that someone mixes up two inventory counts, and you end up reordering the wrong goods.
Automation and cloud tools stand out here because they can ultimately leverage your order history. Knowing that your busy season starts in August can mean the system is smart enough to tell you to change par levels starting at the end of July. Plus, it can help you spot and respond to changes that may occur this month compared to the same time last year.
From a more practical benefit, par levels also mean you can worry less about over-ordering. So, you can allocate the right space to some products and make more room for bestsellers. You can also operate efficiently in your warehouse without necessarily needing to increase shelving or rent a bigger space.
10. Outsource when it makes sense
Many eCommerce businesses like yours will outgrow their initial warehouse space. You might have moved from a garage to a small retail shop or industrial location as you grew, and then once again need to shift.
When you’re facing the decision to move your locations to manage inventory and order needs, there’s a lot to consider:
Staffing increases and potential turnover if the new location is far
Space costs, including increased parking, break rooms, and bathrooms
Disruption to fulfillment when moving
Costs for new racks, shelving, sprinkler systems, and more
Potential costs for breaking ground and building your facilities
Inspections at the new facility
Installation of electronics, equipment, and IT infrastructure
On top of that, you still have plenty of costs associated with your old site. These include moving existing inventory, crates, pallets, boxes, and equipment, plus ending agreements and notifying suppliers and carriers of the changes.
These costs can climb rapidly, and you might be in a place where you need more room but can’t afford a costly move or to staff up to handle the larger warehouse. This situation is when many eCommerce businesses turn to 3PLs to take care of fulfillment for them.
3PLs design their business to be more affordable than expanding for most companies. They handle labor and inventory costs, space rent/mortgages, carrier relationships, and more. You pay only for the space you need and the labor you use, plus you can often get a better carrier rate because the 3PLs have negotiated deals based on their order volume.
Determining when this is right for you can get a little complicated. It’s always best to speak with multiple vendors and use a common system to judge their responses.
11. Let data guide you
Your business data can help you optimize a wide variety of your operations. Case in point: workforce and order tracking can help you determine the best design of your warehouse, equipment to use, and how big of a staff you need to pick and pack orders. Inventory counts can keep you from running out of stock while also limiting the chances of ordering too much.
Monitoring data up and down your supply chain can help you understand if a certain supplier is late more often than others or when it provides great savings. Even something like pairing a dimensional weight calculator with your order list can optimize carrier selection, or identify when it’s cheaper to send a single order via two boxes instead of one.
Take advantage of the tools and information your platforms provide. Build forecasts, analyze spending, audit processes, and quadruple-check your inventory.
Use inventory management to your advantage
Improving your inventory management and warehouse controls is a never ending process. There’s always new risk and new opportunities to grow. Embrace the flexibility required and plan for what you can, and your eCommerce business will be best-prepared for whatever comes next.
Ready to put proper inventory management practices to use? Create your eCommerce site and start selling today.
Editor, Wix eCommerce
Allison is the editor for the Wix eCommerce blog, with several years of experience reporting on eCommerce news, strategies, and founder stories.