What is inventory management system and why businesses need one?
Whether it is a small business like a bakery or a large retail brand, inventory management is important for both. In general inventory management means the process of tracking the stock of products. The basic underlying principle of inventory management is to help companies manage and control costs. In this way, it helps companies operate profitably. However, taking a generalized approach to inventory management is generally not helpful for businesses. It is why a business needs to have a proper inventory management system in place to run its operations smoothly. From Walmart to Costco and Target, you can see that each of these retail brands has its own unique approach to inventory management. An inventory management system implies the process through which you track your products throughout the entire value chain from sourcing to production and sales. This system governs how you approach inventory management in your company.
The truth is that any business which handles stock needs to have an inventory management system without which the business will be operating on an entirely ad hoc basis. Unless a business has an inventory management system in place, it might quickly run into situations where it will find itself overstocked or understocked. Both are real problems related to inventory management and being either understocked or overstocked can lead to losses. When you are understocked, you cannot fulfil demand and when overstocked, it can lead to wastage or items lying unsold in your stock.
An inventory management system will help you know the raw material you need to create your final product. If you do not have this information, you may end up having excess stock which will hurt your bottom line. In another case, you may end up being understocked which means you will not be able to cater to customer demand properly. However, there are several approaches to inventory management and you can decide your inventory management system based on the type of business you run or the type of stock you handle.
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What are the objectives of an inventory management system?
An inventory management system has both financial and operational objective. Operationally, it aims to ensure that stocks are available in sufficient amount and that they are not overstocked or understocked. Financially, it aims to minimize working capital as possible. Some of the main objectives of an inventory management system are listed below. Remember, there are several approaches to inventory management, but all of them aim to achieve the operational and financial objectives.
Proper and timely order fulfilment: –
One of the leading objectives of an inventory management system is to ensure proper order fulfilment. You need to know how many pieces of a particular product you have available to meet orders properly. If you do not have that information at hand and a product goes out of stock, you would not be able to fulfil an order. You should have the right products available when you need them. Otherwise, you might find yourself in a difficult position when customers place orders for products that have gone out of stock.
Suppose you received an order of 100 pieces of a particular item and later when you checked out, there were only 50 of them lying in stock. Producing new ones is going to take time and you cannot fulfil the order requirement. When you inform the customer, he gets angry that you must have informed him before he placed the order. Now, this is the problem you face when you do not have a proper inventory management system in place. While you must have an inventory management system in place, the team members across various functions including production, marketing, sales and customer service, who need to have the information, must be aware of the inventory situation at any given time.
Ensuring sufficient stock: –
Another important objective of an inventory management system is to ensure sufficient supply of any particular item at a given point of time. Whether it is the raw material or finished goods, items must be stocked in advance to meet demand. You should have the raw materials necessary for production stocked and sufficient supply of finished goods so you can address customer demand.
One needs to track the supply to ensure that there are enough stocks to meet customer demand. It also gives you the opportunity to shape demand based on the supply of products. Suppose, a product is in high demand but lower supply, it can prove to be a profitable opportunity for you. However, to meet your sales objectives in any case, you first need to ensure that you have enough supply and therefore you should regularly track supply using an inventory management system.
Inventory control is also an important objective of having an inventory management system in place. There are several reasons that organizations need to have proper inventory control measures in place. First of all, it helps avoid both overstocking and understocking. Another important benefit of using inventory management system for inventory control is that it ensures that the inventory as it appears in the financial statements, matches that in the warehouse. In case, there is a mismatch, it must be identified and fixed.
Businesses need to maintain a systematic record of inventory for smooth operations. Inventory control ensures you can avoid various types of confusions in business. Apart from over and understocking, the problem of order duplication can also be resolved using inventory control. While understocking can be a cause of troubles, overstocking is also a risky affair for businesses. Especially, when you are dealing with perishable goods, overstocking can be harmful. Now, businesses are using inventory management software to help them deal with challenges related to inventory and warehouse accounting, purchase management, tracking orders and their inventory related documentation needs.
Minimizing expenses: –
Having an inventory management system in place also helps control operating expenses and can save businesses a lot of money. The main financial objective of having an inventory management system in place is to minimize expenses. In order to remain financially fit, a business must try to minimize the unnecessary capital. Businesses try to keep their investment at minimum while also controlling the costs of raw materials in order to control the costs of production. In case you have stocked items that do not sell, they will become unnecessary liabilities for your business. One of the critical objectives of inventory management system is to make sure that businesses do not lose money because of stocked inventory. Apart from that, an inventory management system also aims to reduce the overall costs related with inventory management.
Generally, there are three types of costs related with inventory management which include ordering, carrying and stock-out costs. The ordering costs include purchase requisitions, purchase orders and invoicing, labor, shipping and processing costs. Depending on the size and scale of your business some of these costs may be extremely small. The carrying costs include the warehousing costs, rentals, inventory insurance, storage, inhouse transportation and other similar costs related to storage and internal movement of goods. The stock out costs mainly include the losses occurring due to the shortage of inventory, excess inventory and losses due to higher sales return volumes. Inventory management system helps minimize all the three types of costs related with inventory management.
Avoiding wastage or losses:
When it comes to dealing with various types of losses, an inventory management system can be highly effective. In the absence of a proper tracking system, it is quite natural to experience loss and wastage. Another type of risk which can lead to loss is theft. If there is no proper guarding or security system for warehouses in place, theft can become a regular problem for businesses. It leads to inventory loss or wastage.
Even if it does not totally eliminate the chances of loss, having a robust inventory management system minimizes the risks of loss. Keeping proper record of items in stock is an important first step towards reducing the risks. It prevents wastage which can occur due to pilferage, obscolescence, deterioration, and damage. In case of companies handling perishable goods, it is even important to have a proper inventory management system to minimize losses. Even in the case of companies that handle goods in enormous amounts, inventory management system helps avoid various types of possible inventory loss risks.
Inventory management is also related to production or manufacturing and having a robust inventory management system in place can help improve manufacturing at various levels. Many times when you need to bring some changes or improvement to your production system, your inventory management system helps fast track the process.
Even at times when you need to scale your production or shrink it, you will need to go through your tracking system to make proper decisions. Apart from that, production relies on the proper supply of raw materials. Inventory management is an important part of effective supply chain management. Inventory management systems in this way ensure that production runs smoothly and every required raw material is there in stock. Smoother production depends on proper inventory management. If there is enough supply of raw materials and you are properly tracking them, you will not need to restructure your manufacturing. When production improves, it will lead to improved sales and revenue and a stronger bottom line.
Organizations need to focus on sales and sales patterns to know which of their products are more successful and which are not. You can depend on your inventory management system for analyzing sales patterns and making better decisions based on that analysis which will drive sales higher.
Your inventory management system can offer you a lot of data that will assist you at understanding demand and sales. Once you analyze the current situation, you can also form a strategy for the future on its basis. If you detect slow moving goods in your inventory management system, you can reduce their production or eliminate them totally. You can understand which ones of your products are not doing well in the market from your inventory management system and based on that discontinue those not performing well or make quality improvements and relaunch them. Several times when you have no other option and you have a lot of slow moving goods lying in stock, you might just reduce their prices or offer heavy discounts that can help clear them faster. Overall, inventory management system can help you make critical decisions related to sales and marketing.
Improve customer experience:
Companies that want to be successful in the market invest in maximizing customer satisfaction. They focus on building brand loyalty through superior quality products and improved customer service. Companies need to ensure that products are delivered to the customers in a timely manner, their prices are competitive and their quality is according to customer expectations. The inventory management system helps with managing all these aspects of customer experience and helps provide superior customer service. Improved customer experience results in higher loyalty and higher profitability.
Reduce inventory cycle time:
Inventory cycle time denotes the time taken to convert raw materials and work in process inventory to finished goods and bringing them to market. Businesses with lower inventory cycle time enjoy higher time and costs savings. In several cases, it is important for businesses to reduce their inventory cycle time in order to maintain their competitive advantage. Reducing the inventory cycle time also helps lower the inventory management related costs. An inventory management system can help businesses reduce their inventory cycle time. When inventory cycle time is lower, it indicates that your production system is highly efficient.