Inventory Forecasting- 5 Steps to Success

Businesses of various sizes and industries are all dependent on inventory. To be able to satisfy consumer demand, they must ensure their shelves are always adequately stocked. Meaning, they are going to need to think carefully about inventory forecasting strategies.

Forecasting for inventory needs will help in demand planning and mapping of future sales in the days, months, or even years to come. Inventory levels will rise and fall as demand for certain products fluctuate throughout trends and seasons. However, with accurate predictions, businesses can be confident that they are ready to cope with unpredictable forces.

There are plenty of factors and variables, which can impact a company's sales potential and consumer demand, such as-

  • Seasonality
  • Competition
  • Shift in reputation
  • Supply chain issues
  • Recession
  • Change in government regulations
However, effective forecasting could help turn over profits during difficult periods and monopolize on trending sales periods.

How Can Businesses Benefit From Inventory Forecasting?

The advantages of forecasting for inventory demand are plenty. Ranging from improved customer satisfaction to cost reduction, the following are the most common benefits of producing demand projections.

  • Lower inventory costs - By reducing the chances of over-ordering inventory, businesses can reduce inventory-related expenses such as purchasing and holding costs. This will also reduce the risk of obsolete or idle stock and increase a company's net profitability.
  • Customer success - Accurate inventory forecasting will ensure consumers are able to receive their products without supply chain delays. This increases customer retention and satisfaction.
  • Reduced Stockouts - By ordering the optimal level of inventory to meet the projected demand, businesses can reduce the chances of stocking out on popular products.
  • Data-driven sales strategies - Inventory forecasting can also provide valuable insight into marketing, pricing, and promotion planning. By knowing which products are high sellers and which are in need of a boost, businesses can structure their sales strategies around promoting slower-moving products to prevent them from becoming dead stock.

5 Steps for Inventory Forecasting

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Each case is likely to be slightly different. However, most inventory forecasts utilize a combination of historical sales data, trends in demand, and average lead time to determine a reliable reorder point for each product.

For businesses choosing to produce projections manually, they can follow the following general 5 steps.

Step 1- Identify sales trends
Historical sales trends will reveal the demand for specific products, therefore notifying businesses of how much inventory to reorder and when. Determine the average daily sales quantity of the product using as much historical data as possible to increase accuracy. Keep in mind that seasonal changes such as major holidays can drastically shift sales demand.

Step 2- Calculate lead times
Observe previous purchase order receipts and invoices to determine how long suppliers typically take to fulfill an order. Account for any additional processing delays during the pre-shipment and pre-sale periods and take these factors into account.

Step 3- Determine lead time demand
The previous two steps would inform the business of approximately how much product they will require in certain time periods as well as how long it generally takes to replenish this stock. Now, businesses will need to make adjustments based on lead time demand.

The lead time demand can be calculated using the following formula-

Lead Time Demand = (Average Lead Time in Days x Average Daily Units Sold) / Forecasted Time in Days

Step 4- Calculate safety stock levels
Fluctuations in demand are unavoidable; this is when safety stock comes in. Safety stock is the backup inventory supply businesses have in reserve to meet any sudden peaks in demand. This ensures companies never stock out of key products.

However, storing more safety stock than necessary can increase operating and storage costs. Therefore, businesses should determine the most optimal point for their inventory. The general safety stock formula is as follows-

Safety Stock = (Maximum Daily Usage x Maximum Lead Time in Days) (Average Daily Usage x Average Lead Time in Days)

Step 5- Set optimal reorder points
Once the expected demand and optimal inventory volumes have been established, determine the reorder points to help prevent over and understocking. When calculating the appropriate reorder point, businesses can use the following formula-

Reorder Point = Lead Time Demand x Safety Stock

Once inventory levels reach this point, businesses can communicate with suppliers and reorder products.

Best Practices

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Of course, businesses will need to know how to make the most of this type of forecasting. Here are a few examples of best practices to consider.

Consider your competitors' performance - Look closely at their own sales data to gain insight into how to control your own inventory.

  • Consider regular orders and shipments - Look for correlations and averages in inventory data.
  • Consider the opinions of your customers and stakeholders - How do they perceive your inventory levels?
  • Consider input from various wings of your business - For example, you could consider data from sales teams and marketing professionals.
  • Conduct regular forecasts - Demand and trends will regularly fluctuate as popularity shifts. To ensure the business is able to keep up with changing demands, conduct the 5 steps of inventory forecasting regularly.

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