- Plans & Pricing
In a world of complex supply chains, rapidly changing sales trends, and the continued expansion of communication channels, correctly predicting what you will need to meet consumer demand can be quite a daunting task.
While the ability to collect and dissect a diverse range of data has given merchants deep insights into their operations, an eclectic mix of variables can impact even the most informed plans for the future. As a result, like many things in business, an accurate inventory forecast can best be viewed as both a piece of science and a work of art.
At SkuNexus, inventory management software is a core component of the systems we develop for our clients, and we understand the challenges inventory planning can present for even the most seasoned eCommerce companies. We also know the profound impact that getting it right can have across a merchant’s entire business.
Here, let’s take a deep dive into inventory forecasting (aka demand planning). We will cover the fundamentals, go over benefits and methods, and discuss what software can do to help put you on the road to optimized inventory management.
First things first.
Inventory forecasting is the practice of estimating the amount of stock needed to meet future customer demand. Retailers, both online and brick-and-mortar, use it to determine the appropriate time and quantity to restock their inventory. This process involves analyzing information from various sources including, but not limited to, past sales history, market trends, and customer behavior.
While forecasting involves some level of uncertainty, the more historical data available, the more precise the prediction. However, because no forecast is certain, many businesses adopt inventory management software with flexible demand planning capabilities to help adapt to changing situations.
Inventory management KPIs contain a wealth of actionable data, and knowing and understanding key metrics is crucial for forecasting demand and managing replenishment.
1. Forecast Accuracy
Formula: 1 – [(Actual Sales – Forecast Sales) / Actual sales]
— Forecast accuracy (FA) measures the degree to which demand predictions match actual sales. High forecast accuracy indicates a better alignment of operational costs with demand, leading to increased profits.
The standard for good or acceptable FA may vary depending on the product and business circumstances. For example, a new product without sales history will have a lower acceptable FA compared to products with a long-established sales history. However, for seasonal products, the forecast accuracy percentages may be lower due to weather-related fluctuations. FA may be calculated as frequently as needed or as feasible given the pace of business cycles.
2, Forecast Error
Formula: Actual sales - Forecast sales
— Comparing predicted sales with actual sales results gives insight into whether goals are being met by individual departments or teams. This basic metric can be reported on a regular basis for any period of time (weekly, monthly, quarterly, etc.) — frequency of reporting depends on the nature of the product or service and the urgency of decision making. Forecast error data is essential for an inventory planner to evaluate the accuracy of their predictions and for sales managers to monitor performance and provide guidance.
3. Lead Time
Formula: Order Processing Time + Production Time + Delivery Time
— Lead time is a fundamental element of both inventory and supply chain management. Inaccurate forecasts can lead to stockouts, wasted warehouse space and unmet customer orders. Conversely, accurate forecasting here can help merchants optimize inventory levels, streamline warehouse operations, and fulfill orders.
4. Inventory Turnover Rate
Formula: COGS (Cost of Goods Sold)/Average inventory
— Inventory Turnover Rate will help inform decisions about stock levels and/or pricing. The two methods of computing ITR are not equivalent, however, and this must be understood. The COGS ratio is considered more accurate as it does not incorporate sales markups on top of cost. Regardless of method used, a low ITR can denote poor sales or excess inventory whereas a high ITR, while preferable if due to strong sales, can also mean pricing levels are too low and need adjustment.
5. Reorder Point
Formula: (Daily Sales Velocity) × (Lead Time in Days) + Safety Stock
— Reorder points are set as thresholds or trigger points to prompt action when inventory reaches a specific level. These points simplify the decision-making process of when to reorder inventory and can easily be automated - inventory management software that provides real-time information makes it easy to place new orders when inventory drops to the reorder point level.
Determining the appropriate reorder points can be more complex, however, as it depends on various variables used in the calculation process.
By keeping just the right amount of inventory, businesses are able to enjoy a plethora of advantages. They include:
A handful of general methods, both technical and fundamental, exist to help merchants create proprietary forecasting models.
It's important to note that most forecasting methodologies use a combination of these different methods, and which one(s) to use depends on the nature of the product and the industry. Each one has its own strengths and weaknesses, and a good forecast is the result of a careful selection of methodologies and integration.
Increasingly critical to any eCommerce merchant’s success, inventory management software with predictive analytics can give them a broad array of weapons for gauging future demand and procuring the inventory to meet it. In general, look for a platform that provides the following:
As has been stated for millennia, the only constant in life is change, and the speed with which that change takes place has never been faster. Technology has made certain of that. By embracing that technology, however, eCommerce merchants can venture confidently into the future.
At SkuNexus, we aim to both help companies solve current issues and to empower them with the ability to conquer what may come. If you would like to learn more about what our management software solutions can do for your business, please schedule a demo.
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