Table of Contents
1. Excess Inventory Definition
Products do not always sell as quickly as anticipated by businesses. There are some items that stay on the shelves for too long because of consumers’ lack of interest in them. Eventually, these approach the end of their life cycle without getting sold. And that’s exactly what excess inventory is. Excess inventory refers to the products that companies keep for a very long time, failing to sell them in a timely manner. In the course of time, this inventory becomes an obsolete stock that carries no value.
The value of inventory kept for too long steadily begins to depreciate, which causes this “deadstock” to be written off companies’ books. However, it is important not to confuse this concept with deadstock. Excess inventory sales or “overstock” occurs when there isn’t enough demand for a particular product; therefore, it remains unsold. There are numerous disadvantages of excess inventory that you want to avoid, which is why it is essential that companies take steps toward reducing the amount of excess inventory they carry on hand.
The reason for this hiccup can be anything from poor demand forecasting to canceled items or guestimate orders that end up being far too much. Several things can cause it, but what it really comes down to is poor data quality. When dealing with inventory, accurate data and insights can guide your decisions and prevent situations that can threaten your bottom line
There are companies that don’t give much attention to having extra stock. They believe that having extra stock is not necessarily a bad thing. Moreover, they think that they will manage to sell the inventory at some point for full price. Such an approach results in great losses for many businesses, especially with perishable products. The excessive stock may exhaust the cash flow and result in loss of capital for inventing. It is therefore crucial that companies always realize the importance of carrying an inventory of fresh products only.
The remainder of this article will present you with all of the important knowledge regarding extra inventory: why it happens, what are the disadvantages of excess inventory, how to sell it, and why to sell it?
2. What Causes Excess Stock?
Inaccurate Demand Forecasting
Let us begin with the basics: demand forecasting and planning. In today’s competitive and ever-changing landscape, not having a demand forecasting system can be fatal for your company’s survival. Many business owners simply skip this step and implement irrelevant forecasts. However, they are soon exposed to the reality that this decision has become their company’s leading cause of excess inventory. Using basic calculations of simple sales average or static ordering models will not suffice.
When you conduct a forecast calculation, you need to consider all the factors that can affect the demand. These include both internal and external factors. Internal factors are those that directly influence consumers’ desire to own the product. For example, the seasonal trends. External factors are harder to predict because they affect buying habits indirectly. For example, consider weather changes or unexpected economic fluctuations.
It is also important to consider whether your forecasting should take place manually, or with the help of special software. If you run a bigger company, it’s best to rely on demand forecasting software as it will do the work more accurately and save you time.
Lack of Product Life-Cycle Tracking
Similar to bad forecasting, businesses tend to lose track of slow-moving inventory.
By leaving items sitting on the shelf, you’re wasting money and space. Pay attention to every product’s life cycle and tweak your selling strategy to appeal to your customers.
Again, you might purchase in-bulk one busy season, and naturally, you expect the same level of interest in future seasons over the same time. Unfortunately, this is a false sense of security. Things change, and relying on old tactics is the fastest way to generate excess inventory.
Always factor in seasonal demand, current turnover, and market trends into your planning.
Bad Inventory Management
Inventory must be well-managed in the company. Sometimes, you might end up having too much inventory because of a poor inventory management system. When the inventory management team lacks coordination and is unorganized, overbuying inventory is an inevitability. You should also expect poor inventory tracking and ordering mistakes. There are several tasks that the inventory management team should take responsibility for. Some examples may include making transactions, ordering, purchasing, as well as all sales-related work.
The inventory management team should also take hold of excess inventory management. Lack of organization and carelessness within the management team can lead to the ignoring of slow-moving inventory. Therefore, poor inventory management organization will result in inaccurate inventory tracking and ordering mistakes.
Suppliers are a big part of your supply chain. Having a smooth and well-organized supply chain is essential for excess inventory management. If your suppliers are unreliable then you will face a lot of problems when making orders.
For example, consider the following scenario. You are making your orders timely, but your suppliers keep the products for an unknown period. Eventually, your order arrives later than expected. You learn your lesson and place an order even earlier next time. In addition, you order way more than you need to cover the future demand, positioning yourself in the risky situation of ending with too much inventory. That is why it is essential to work with reliable suppliers who deliver your orders in a timely manner.
You want your suppliers to provide you with a realistic estimate of lead time. In fact, you don’t want anyone in your supply chain to add a safety factor to their lead time. When you know how long each member in your supply chain takes to accomplish their task, you will end up having a more efficient supply chain and thereby, improve excess inventory management.
Ongoing Supply-Chain Disruption
The issue is not always with the supplier, but with the supply chain itself. During and post the COVID-19 pandemic, companies globally have experienced supply chain disruptions. This, of course, affects customers in numerous ways and, as a result, leaves businesses in a vulnerable position. To combat this, businesses tend to over-order to avoid disappointment. These decisions should not be taken lightly. Instead of guesstimating, invest in a demand planning solution that can help you better predict and respond to disruption. These tools will provide you with the right information to make smart decisions.
Intuendi has performed an interesting case study on how to combat supply chain disruptions
Everyone in your supply chain, from suppliers to manufacturers, makes sure to add a safety factor to their lead time. They do so to have some extra time if something goes unplanned. This results in long lead times and inefficient supply chain. It’s important that everyone in the supply chain process provides you with a realistic estimate of lead time. This will help reduce lead times, upgrade the supply chain, and permanently decrease the stock number you keep on hand.
3. What Are the Downsides of Excess inventory?
One of the main disadvantages is that excess inventory may lead to big expenses. The cost of carrying inventory is high, and the cost of carrying excess inventory is even higher. When you have a lot of stock on hand, you need to store it somewhere. Usually, there are two options: you either rent a space or your store the inventory in your warehouse, both of which involve additional expenses.
If you rent a storage space, you will have to pay for it. If you have enough storage in your warehouse, you will still have to face extra expenses. Consider the utility costs for keeping the storage. You will also have to pay to employees who will be managing that inventory, which includes maintaining storage space, organizing the inventory, transporting it from one place to another, etc. And this is not the only drawback. If you decide to keep the stock in your warehouse, you will risk not having enough space for the new items.
Consumer demand changes very fast. The inventory you have today can be rendered obsolete tomorrow due to a sudden drop in demand. It is therefore essential that you order a quantity that corresponds to the amount you’ve initially forecasted. The worst thing that can happen to your inventory is it becoming useless. Consider food and medicine products. These types of products increase the risk of becoming waste, due to their quick deterioration rate. Inventory ordered on a pure guess exposes you to not being able to sell all your products. When you order too much inventory, eventually, the stock will cease to sell because of demand variability. With more stock you keep, the risk to lose it to demand variations increases. In fact, the best strategy is to always keep your inventory at an optimal level and to not overstock it.
Negative Cash Flow
Lastly, keeping too much inventory is a bad idea because it adversely affects your profit and cash flow. Since products depreciate over time, they eventually lose their initial value. The longer you keep a commodity product, the cheaper it gets. So excess inventory may lead to lower profit margin and loss of revenue.
Holding cost of extra inventory ties up cash that you could invest in other areas of your business growth. First you spend money on buying the inventory, and then you end up in ongoing expenses for holding that inventory. You also make sure to maintain it in a saleable condition. However, the inventory depreciates over time, and you end up selling it for much cheaper than you’ve initially purchased it.
4. How Can You Identify Excess Inventory?
If you’ve decided on an excess stock clearance, you need to start by determining much surplus inventory you hold. There are some practical ways to identify the inventory surplus your company has. You can use the following formulas to estimate how much obsolete inventory you hold as of now:
Sales per square foot = annual sales ÷ total square feet of store
The higher is your SPSF the more efficiently your store creates sales based on your store’s space. This equation can be used for each department or section of your store. This is an especially useful tip for bigger stores because that way you will get more accurate results.
Days inventory outstanding = (average inventory ÷ cost of goods sold) x 365
The lower your store’s DIO the better. This equation identifies how long it takes before the inventory turns into sales. For example, if your DIO is 40, this means that your store sells its entire inventory within a 40 day period.
Keep in mind that the SPSF and DIO numbers vary depending on the industry. If you want to improve these metrics then compare yourself with the industry average. This way, you’ll understand how-well you store keeps up the sales and determine the extra stock you have.
5. How Can You Avoid Excess Stock?
It is the best practice to avoid excess inventory from the beginning, as it may lead to many problems. If you have already accumulated some extra inventory, it is advisable to first determine how much of it you carry, as described in the previous section. After that, proceed to excess stock clearance. Once these steps are completed, it is important to find the root of the issue and to eliminate it. Let us have a look at the top 3 ways to avoid carrying too much stock and achieve inventory control.
1 – Planning Ahead
We’ve already discussed the importance of planning and forecasting. Failing to plan the inventory beforehand forms the base of the issue of surplus inventory. To improve inventory management in your company, you need to have end-to-end visibility in the supply chain processes. You also need to run real-time analysis of the inventory items.Demand planning is further necessary for the successful implementation of the entirety of supply chain management.
2 – Automating Processes
To achieve the maximum level of accuracy of internal operations, it is best to automate as much of the processes as possible. Manual operations can hitch the processes by slowing everything down. Today’s digital world provides companies with numerous solutions for dealing with such issues. You can adopt an inventory management software, demand planning and forecasting software, and finally, you can automate the ordering process.
Automating the ordering process will help ultimately avoid human errors. There are many benefits of the automated ordering process, including enhanced accuracy, efficiency, and speed of the automation. The visibility is improved within the supply chain processes, and tangible waste is eliminated because physical labor is not required. The automated process will resolve all the issues more quickly.
3 – Planning and Implementing Marketing Strategies
Although you can try to minimize the amount of excess inventory, it’s impossible to eliminate it entirely. The reason behind this is that it’s not possible to forecast the demand with 100% accuracy. And there will always be some inventory which will not make it to sales. That’s why your business needs to have preplanned marketing strategies to implement, which will help you sell excess inventory. We will discuss the top strategies to sell excess inventory a bit later!
4 – Optimise, Optimise, Optimise!
Carry out an inventory audit to identify long-term and best-selling products. Use these products to regain momentum in troubled times and consider cross-merchandising tactics too. You can also use slow-moving inventory as promotional add-ons to products to speed up your excess clear out. It is crucial that you use accurate data when planning to deliver your ideas to increase the chances of success and to avoid future demand forecasting failures.
6. What Is Inventory Turnover?
What is inventory turnover? Inventory turnover ratio is another helpful method for inventory control. It’s a metric that helps businesses identify how often they sell and replace their entire inventory within a given time period. Simply put, it is an inventory to sales ratio. As the name suggests, the inventory turnover equation calculates how your inventory turns over and sells during a fixed period. The inventory turnover ratio is essential for business success.
The inventory turnover ratio formula has two important components: cost of goods sold (COGS) and average inventory. The COGS is usually found in the annual income statement. The average inventory is calculated by adding together the beginning and ending inventory and halving the number (divide by two). Once you have these two components, you can calculate the inventory turnover ratio. The inventory turnover equation is equal to COGS divided by average inventory. The COGS is also known as “cost of sales”, so the ratio is also referred to as inventory to sales ratio. The formula looks like this:
Inventory Turnover Ratio = Cost Of Goods Sold ÷ Average Inventory
The inventory turnover is a key measure of efficiency, as it calculated how much a business sell as a percentage of the total inventory it has. It’s a useful metric for the following reasons:
– It can be used as a comparison metric to industry averages and help identify your company’s performance in the market.
– It will give you insights and visibility into how well your company’s internal operations are coordinated, especially between sales and purchases.
– You will get an idea of how efficiently your company controls the merchandise
– It shows how liquid your company’s inventory is. Inventory is the biggest asset of the company, making it especially important for investors to see how well the company transforms inventory into cash.
– A low inventory turnover rate is an indicator that the company fails to turn the inventory into cash. Businesses should aim to achieve a high inventory turnover. However, the “high turnover ratio” is not a one-size-fits-all approach. Each company decides on its own what a “high rate” is. This depends on many different factors. You want to always compare your rate with the industry benchmark. This will give you a good understanding of where you stand.
However, comparing yourself with only industry benchmark is not enough. You need to also take into consideration the size of your company. For example, you don’t want to compare your turnover rate with a company that’s in the same industry but is much larger. Small manufacturing operations naturally do not scale up to large manufacturing. However, it is important for a business to always strive for high turnover ratio for successful inventory control.
7. How Can You Sell the Excess Stock?
We’ve finally approached the most important question that bothers all business owners. How to sell excess inventory at a maximum? Below, we present the best techniques to get rid of excess stock, while also turning a profit out of it.
1 – Liquidation
One of the most well-known ways of getting rid of surplus stock is liquidating excess inventory. Inventory liquidators buy all types of inventories and resell the products for a lower price. They specialize in purchasing the excess stock that companies want to get rid of.
Liquidating excess inventory is by far the fastest way to sell the inventory surplus you have… however, it is not the most profitable option. A liquidator usually buys the stock for a very low price. You also must consider the cost of delivering the inventory to the buyer. Be sure to work with a well-known and reliable liquidator, who won’t jeopardize your brand.
2 – Steep Discounts
Offering huge discounts is another great way to free your shelves from extra stock. Discounts work well for boosting the demand and sales for products. Keep in mind the importance of having a strategic approach when it comes to big sales. Discounts between 40-70% drive sales most efficiently. Consider running seasonal sales whenever the season is changing but you have some leftover inventory. This will help you avoid generating an excess old-season inventory.
Another sales type one can implement is a flash sale. This is one of the most effective sales as it is premised off a strong psychological effect – creating a sense of urgency. Lastly, consider running clearance sales. These are often used specifically for excess stock clearance because the products are not selling well. It’s important to not run such discounts too often because people will get used to them. They will refuse to buy products at full price at the anticipation of sales.
3 – Bundling
Bundling is one of the most popular promotion techniques used by all retailers. It’s proven to be extremely effective. Bundling means pairing one product with another or even multiple products. A bundled offer involves selling multiple products for a slightly lower price than if the products were sold separately. People often are very attracted to bundle offers.
When bundling your inventory items, make sure to follow these rules. Bundle complementary products to create an attractive package deal. For example, consider bundling last season sunglasses that no one wants to buy with the latest swimsuits. Additionally, consider bundling fast-moving products with slow-moving ones. If a customer wants to buy a fast-selling product, there is a big probability that they would pay a slightly higher price if that product is bundled up. Everyone loves a great deal with a discounted price!
Carrying excess stock has numerous disadvantages and is very costly. Unfortunately, it is impossible not to have an inventory surplus at all. However, there are many ways to avoid it if you understand the main causing factors. And after all, you can use your company’s marketing efforts to create attractive offers to sell the leftover inventory. Always strive to make your inventory work for you and not against you. Keep your inventory turnover high and manage your stock for the long-term profitability of your business.
4– Charity Donations
While this method will not create any revenue but would bring intangible benefits to your company. Consider giving away products via promotions. You’ll improve customer satisfaction rates and the experience they have with your brand.
Excess inventory loses company money and restricts cash flows. Dealing with it is important for the long-term profitability of your company. Low turnover means poor sales. Get rid of that overstock and grow your business tremendously!
8. Are You Ready to Reduce Overstock for Your Business?
Reducing overstock involves solid planning strategies and smart tools, it can sound complex and demanding and for sure there are no magical tricks that deliver results.
The good news is that companies like Intuendi can share years of on-field expertise and AI-driven innovative tools to tackle the inventory optimization challenge.
Are you presently evaluating the impact of overstock and understock in your business? If we were to inform you that it’s possible to decrease excess stock without compromising product availability, would you be open to believing it? Discover further details about our effective approach in our complimentary ebook!