Inventory is one of your biggest expenses as an eCommerce business owner. Small changes to when, how often, and how much you order can make a huge difference when it comes to cash flow management and being able to cover payroll and your operating expenses next month.
That’s why inventory management is so important. And setting up regular inventory forecasts can come in handy.
Inventory forecasts allow you to predict future sales trends based on historical sales and market data.
In this post, we’re covering what an inventory forecast is, why they are important, and some best practices for creating one.
What is an inventory forecast?
Inventory forecasting, sometimes referred to as demand forecasting, uses data and modeling to know exactly where your inventory stands today to predict future trends and plan accordingly.
This gives you a clear understanding of your current inventory needs and allows you to avoid running out of inventory prematurely or having too much inventory in your warehouse.
Why do you need an inventory forecast?
When you sell at scale or on multiple channels, getting an accurate count of the amount of inventory you have at any given time can be a challenge. Not only do you have to account for inventory sell through rates on each channel you sell on, but you also have to account for refunds, exchanges, damaged products, and seasonality.
Doing regular inventory forecasting through your inventory management software, at least monthly or quarterly, can help you stay on top of all that to make sure you are ordering enough and at the right times.
Inventory forecasting benefits
While inventory forecasting is more complicated than it might seem, the benefits far outweigh the cost for most growing businesses.
Here are some of the benefits:
- Avoid running out of product too quickly – You can only sell what you have on hand. This means if you run out of inventory halfway through the busy holiday shopping season or during a promotion, that’s unrealized revenue that you are turning away. And it can also impact your brand’s reputation negatively.
- Prevent overstocking – The flip side of that isn’t any better, though. You don’t want to order so much inventory that it takes forever to sell through, or you have to eat the costs when it goes bad if the item is perishable. Not to mention, the storage and fulfillment costs can also add up quickly.
- Free up cash flow – It is no secret that eCommerce businesses are some of the most cash intensive businesses to run. Small changes to when and how you reorder inventory can make a huge difference when it comes to cash flow management and being able to meet payroll next month. For instance, If you consistently work with 1 or few suppliers, pooling your spend and ordering large quantities may result in discount pricing, savings that pass down to your bottom line
- React faster to changing market conditions – If the last three years have taught us anything, it is to expect the unexpected. Having an inventory forecast helps you plan better, so you can adjust as needed.
3 main inventory forecasting methods
When it comes to creating your first inventory forecast, there are three primary models you can use.
- Trend / Seasonal Forecasting – This uses your historical sales data alongside market data to predict future sales trends.
- Quantitative Forecasting – This is the most accurate forecasting method for established eCommerce businesses because it relies solely on your historical sales and inventory data.
- Qualitative forecasting – This method works best for brand new eCommerce businesses or established businesses with a new product line since it relies solely on market data to make sales predictions.
7 best practices for creating inventory forecasts
Here are some best practices to help you create more accurate inventory forecasts.
Use inventory management software
Keeping track of your inventory in a spreadsheet or through the Shopify dashboard works great when you are small and only sell in one channel. However, if you are selling on more than one channel or scaling quickly, then you should use inventory management software like DEAR Inventory.
Related Reading: DEAR vs. Cin7: Which one is right for your eCommerce business?
Inventory management software makes inventory accounting a lot simpler for you and your accounting team as you can keep tabs on everything from inventory counts and unsold inventory to cost of sales, fulfillment and storage costs, and merchant processing fees.
Get in the habit of doing regular inventory audits
Another added benefit of inventory management software is it makes it simpler to do regular inventory audits, so you know exactly where you stand at any given time.
As part of your audit, you should also look for any inventory trends. You want to know if you’re running low, high, or staying steady on certain products. In addition, you want to know if your product prices are rising or falling. This information can help guide your purchasing decisions so you can plan ahead and avoid buying unnecessary stock.
Keep your bookkeeping is up-to-date
This should be obvious, but your inventory forecasts will only be as accurate as the data you include in them.
So, if you haven’t updated your books in 3 months and you run an inventory forecast, your projections won’t be nearly as helpful.
The key inventory and sales metrics that you must know in order to create your demand forecast include the following:
- Re(order) lead time
- Sales velocity
- Reorder point
- Inventory turnover
- Average Inventory
- Safety Stock
Keep track of both leading and lagging indicators
Just like you need up-to-date books, you also need to measure both leading and lagging indicators.
A leading indicator is a predictive, forward-looking metric that indicates how likely you are to reach your goal.
And a lagging indicator is a reactive metric that looks backward at what has already happened.
For instance, sales would be a lagging indicator, and the number of people you have packing boxes in your warehouse might be a leading indicator.
Account for seasonality
Chances are, you probably have one or more products that sell better at specific time periods. If you get 70% of your sales in Q4 around the holidays, you need to account for that in your inventory forecast.
So, taking the example above, if you get the most sales in December, use that month as the baseline. Then, build your inventory forecast off the relative percentage of sales compared to December. You can attribute the percentage change to seasonality.
Related Reading: Inventory planning best practices for the holiday season
Build out different forecasts for different products
In addition to seasonality, you also need to factor in the different sell-thru rates of different SKUs. So, if you have some products that sell consistently year-round and others that only sell once every couple of months, this should be factored into your forecasts.
Make sure your forecast matches your business goals
Where do you want the business to be in a year from now? 3 years from now? 5 years from now? These are tough questions, but knowing where you want to go can help you map out not only enough inventory for what you need in 3 months but also can help make the necessary adjustments to plan ahead.
Create your inventory forecast
At Bean Ninjas, we recommend getting in the habit of creating new inventory forecasts at least once a quarter if not monthly. As you get more comfortable creating these forecasts, you should be able to spot trends and potential issues faster. For instance, you may notice you have surplus inventory for a particular SKU, so you may want to create a discount for that particular SKU to avoid higher warehouse storage costs.
Want to see how long your inventory will last and when to reorder next? Check out our free inventory planning calculator.