Inventory Management Methods for E-Commerce Businesses

Inventory is a tricky thing to manage. Order too much stock and you meet customer demand, but end up with slow-moving products draining your resources. Or, more realistically, boxes of stock filling up the corners of your apartment as you wait for it to sell.

On the other hand, maybe a product goes viral and sells out in a few days. That’s brilliant… but it leaves you without enough stock. So you pause sales for months as you desperately wait for your next shipment, but end up losing customers in the process.

If this sounds like your business, you’re not alone! 43% of small businesses don’t actively monitor their inventory, which is a key cause of inaccurate predictions, stockouts, and overstretching. In this article, we’ll talk you through how to tackle each of these problems.

What Are The Key Challenges?

Overstretching is where a company orders more stock than they can sell. It's an easy trap to fall into, especially during high seasonal demand. When a company is overstretched, it ties up cash in excess stock, meaning it has less flexibility with its purchasing power. In contrast stockouts refer to situations where products are unavailable for purchase because the supply has been depleted. They occur when demand exceeds supply at the current price, leading to empty shelves or "out of stock" indicators on retail websites.

Small businesses tend to struggle with both overstretching and stockouts - either they're stuck with excess inventory that won't sell, or they sell out of viral products and have to stop selling for months while they wait to get more stock from their manufacturer.

Businesses faced significant challenges with overstocking during the COVID-19 pandemic, resulting in a 30% surge in discounted products as retailers scrambled to clear excess inventory and protect their cash flow. At the start of the pandemic, stockouts—also rose sharply across nearly all consumer goods categories. Globally, stockouts increased from about 10% pre-pandemic to over 40% by May 2020. While health and personal care products were initially the hardest hit, shortages soon extended to other sectors, including food. apparel and household items.

It’s safe to say that inventory management for small businesses is a common problem. So here at CloudFO, we’ve created this guide to help you find an inventory model that suits your business.

Exploring Inventory Management Methods

There are several ways of tracking and stocking inventory to ensure you can order enough inventory to meet your company’s needs. Let’s discuss some popular methods.

How Does JIT Work?

Just-in-time management, or JIT, is where companies order quantities according to how many products they can make per season, and schedule inventory to arrive as they begin production. Tim Cook, CEO of Apple, also used JIT strategies to reduce turnover of Apple stock from months to days. Despite this, many businesses that used JIT were badly impacted by the supply chain crisis caused by the Covid-19 lockdown.

JIT tends to benefit businesses with long wait times on production lines, as opposed to e-commerce where wait times are more immediate. For example, a car manufacturer might schedule the window panes to be delivered as the cars reach that stage of the production line. However, e-commerce businesses can still use this strategy for limited edition releases or exclusive product drops. By using JIT, businesses can schedule the arrival of materials or products just in time for these special events. This strategy helps create scarcity and urgency, generating buzz and driving sales by aligning inventory with the anticipated demand for these exclusive items.

How Does MRP Work?

Another popular option is materials requirement planning or MRP. This is a more responsive approach to inventory since it uses earlier sales and inventory records to anticipate demand for each season and bases material orders off of those predictions. 

MRP would also be more suited to small businesses that manufacture their own products, like a skin care or hair care company. This allows them to plan and purchase ingredients based on seasonal demand, and saves on lead time since the product is made in-house.

How Does JIC Work?

JIC planning, or just-in-case planning, is where companies keep a well-stocked inventory, in case of emergencies. They usually anticipate spikes in demand and order stock accordingly: for example, before flu season arrives. JIC businesses also reorder stock before it reaches minimum levels - this ensures the business can keep sales going while waiting on deliveries, and minimises disruption to orders.

Additionally, for businesses that use JIC, the cost of stockouts, losing customers, or a supply chain collapse is usually far greater than the money saved with JIT.

JIC planning might work for an e-commerce shop selling vitamins and supplements. By stockpiling essential items, the brand can prevent disruptions due to supplier delays and consistently fulfil customer orders, even if it means higher carrying costs. This approach helps the brand maintain product availability and quality throughout the year.

How Does ABC Work?

ABC management sorts products into categories A, B and C to help businesses prioritise their inventory. The categorisation is based on the value of the goods and the profits they generate. This model is loosely based on the idea that 80% of profit is generated by 20% of goods (which would become the A category). 

Category A items are the most expensive. They sell slower as a result but generate more money. Conversely, category C items sell very quickly but are far cheaper. This means that category A needs less stock, but must be monitored more closely, while B and C are more popular but lower-priority.

This model is best suited to established companies that stock a variety of products ranging in value, like an online electronics retailer. Category A products may include games consoles and PCs, category B may include tablets and mid-range phones, and category C may include accessories like cases or chargers.

How Do FIFO & LIFO Work?

Lastly, some businesses use FIFO (First In, First Out) which is a method where the first stock purchased is the first to be sold. This approach ensures that older stock is sold before it becomes outdated (as in the case of fashion items) or expires (as with perishable food). FIFO is particularly useful for calculating inventory value, especially when prices fluctuate over time. It helps reduce the amount of old stock that needs to be discarded.

However, the profitability of FIFO can be influenced by inflation: if prices rise, earlier sales might yield higher profits; if prices fall, profits could be lower.This method works for small businesses selling mid- to long-term perishable items, such as makeup or gourmet preserves. This reflects the need to sell older goods faster so they don't perish while in storage, ensuring little to no stock is wasted.

The main drawback of FIFO is that customers often prefer fresher stock. For example, in grocery items like milk, which expires quickly, customers usually want the newest products with the longest shelf life.

As a result, you may prefer to use LIFO when dealing with rapidly perishable items. This stands for last in, first out, and means that the most recent stock purchased is the first to be sold. This works well for the fashion and food industries since it keeps goods fresh and fashionable. However, using LIFO often means a lot of older stock is either neglected or wasted.

Contingency Plans

While inventory planning strategies are an effective way to minimise the amount of discarded inventory, you should always have a contingency plan in case you over- or under-stock. It’s important to maintain a close relationship with your suppliers through communicating clearly, and providing as well as receiving regular updates. This can help increase flexibility when managing and ordering stock levels.

However, if you ordered too much stock, and demand is falling as the season draws to an end, try selling stock in bundles, selling at discounted prices, or giving them away as promotional material - you can give old stock a new life as advertising.

How Can CloudFO Help?

Understanding your sales and order performance as well as demand forecasting are vital to help you get your inventory management right the first time. Why not consider a more efficient, cost-effective finance option tailored towards small e-commerce businesses?

CloudFO, your AI finance colleague, can help you make informed decisions on how much inventory to order and when. Its weekly finance review function acts like a personal finance meeting every week, providing you with insights on your cash flow, expenses, and inventory costs, ensuring you don’t tie up too much capital in stock.

CloudFO's predictions can also help with sales forecasting and highlight which products are likely to sell out earliest. Careful planning and consistent inventory monitoring make it easier for you to strike a good balance between selling out and saving money.

So, in summary, aim for a high product turnover rate to streamline your inventory; the secret to good inventory management is always to plan ahead; and finally, inventory management depends on sales patterns analysis, so you’ll need to make sure yours are accurate. Let CloudFO get to work, so you can maximise profit at minimal cost to your business.

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