Ultimate Inventory Optimization Strategies for Online Retailers

Inventory optimization is about far more than managing stock levels or selling stock. It’s the coming together of three important aspects of your online retail business: effective inventory management, merchandising, and marketing. 

And when it’s done right, it not only boosts sales but helps you stay ahead in a competitive landscape and build long-term profitability

So what is inventory optimization, and why do so many top store eCommerce managers, marketers, and merchandisers prioritize these strategies above others?

This is precisely what this post will walk you through. Here is what we will cover:  

Advanced Inventory Optimization Explained

Inventory optimization is the missing link between your marketing KPIs and objectives and the intricate management strategies of backend stock management and operations. It’s about far more than supply chain planning, inventory visibility, or a robust inventory management system investment.

While inventory control/management helps ensure you have enough inventory without overstepping your budgets, inventory optimization is continuously selling merchandise and adapting to brand and marketing changes. 

Essentially, it’s about finding the right balance between your store’s goals, fluctuations in demand, supply balancing, and your costs — using operational excellence to drive revenue while keeping costs down. 

Here’s a good summary of why it’s important to optimize inventory from one of our key partners, Cogsy. 

The bottom line is that an advanced inventory optimization strategy will factor in a wide range of factors — from supply chain management and reliability to customer demand and carrying costs — which then run harmoniously with your advanced merchandising strategies.  

And the inventory plan payoffs? 

The Payoffs of Advanced Inventory Techniques  

There are several benefits to upgrading to a new inventory optimization technique —ensuring you stay competitive and drive long-term profits. The main payoffs include: 

  1. Streamlined shipping
  2. Enhanced profits 
  3. Heightened customer satisfaction
  4. Mitigated supply chain fluctuations
  5. Reduced business costs 
  6. Diminished inventory instability 

Let’s take a quick look at each. 

1. Streamlined Shipping

Because inventory optimization enables you to consider real-time inventory changes across your entire supply chain, you can be sure that the right inventory is always at the right warehouse to meet customer demand. 

And how does inventory optimization ensure this? By enabling you to adapt quickly to in-the-moment changes and analytics. 

This is because inventory optimization will help you improve order accuracy, reduce stockouts, improve warehouse efficiency, optimize demand forecasting, and offer real-time inventory visibility. 

2. Enhanced Profits 

There are abundant ways that inventory optimization helps online retailers enhance profits and improve their bottom line. This is thanks to: 

  • Optimized demand forecasting, which allows for better inventory planning and purchasing decisions, reducing the likelihood of overstocking or understocking
  • Reduced holding costs — such as storage fees, depreciation, and insurance — thanks to better-optimized inventory levels 
  • Enhanced customer satisfaction, which in turn drives retention and loyalty 
  • Reduced capital requirements by minimizing the amount of capital tied up in excess stock
  • Minimized stockouts, which in turn boost sales and customer satisfaction — both of which enhance profits 
  • Decreased inventory holding and carrying costs that result from having unnecessary inventory or dead stock
  • Optimized pricing and promotions thanks to more accurate, real-time inventory, market, and business data
  • Improved cash flow thanks to the above benefits of inventory optimization

3. Heightened Customer Satisfaction

Preventing dead stock and out-of-stock (stockouts) is equally important to your bottom line and your customers. The right inventory optimization strategies mean that you always have just the right products to meet customers' needs — as well as your own. 

Why? Because inventory optimization improves and streamlines your: 

  • Product availability
  • Order fulfillment speeds
  • Delivery accuracy
  • Returns and exchange efficiency
  • Shopper communication
  • Customer reviews

[Source: Kimonix]

4. Mitigated Supply Chain Fluctuations

Having the right advanced inventory optimization strategies in place means that your inventory or stock levels are as close to balanced as they can be. Ultimately, this helps you better protect against supply chain disruptions and issues. 

How? Because improved inventory optimization leads to: 

  • More accurate demand forecasts, which reduce uncertainty in supply chain planning
  • Better collaborative relationships with suppliers, which enhances supply chain visibility and reliability
  • Reduced lead times, which lessen the impact of supply fluctuations
  • Enhanced historical data, which aids in anticipating and mitigating supply chain variations 
  • Automated, data-driven reorder points that adapt to changing demand patterns

5. Reduced Business Costs 

By improving inventory optimization strategies and updating your inventory plan, you have the potential to drastically reduce your operating costs. Not only because inventory optimization results in fewer inventory bottlenecks, but it helps you better determine what is more likely to sell, before ordering. 

Here are the contributing variables of an expert inventory optimization strategy that help reduce your overall business costs: 

  • Reduced holding costs
  • Streamlined processes, thanks to simplified order fulfillment, reduced labor, and less admin time
  • Lowered carrying costs 
  • Reduced labor hours, thanks to more efficient and effective inventory management, requiring fewer labor hours 
  • Upgraded, smoother operations minimize the chances of costly disruptions
  • Improved cash flow 

And that is just to name a few! 

6. Diminished Inventory Instability 

The better your inventory optimization is, the more balanced your inventory levels will be. This balance is because you can better predict demand, enabling you to purchase enough stock to meet demand while minimizing the risk of excessive holding fees and dead stock. 

In a nutshell, well-planned inventory optimization strategies mean more accurate demand forecasting, better supplier relationships, and shorter lead times, which reduce market fluctuations exposure. When you add this to the continuous monitoring, advanced data analytics, and alternative sourcing that these strategies allow, you get diminished inventory instability. 

Key Elements of a Successful Inventory Optimization Strategy 

Now that we have reviewed all the benefits of upgrading your inventory optimization strategies, let’s quickly look at the key elements that make a successful strategy.

  1. Demand forecasting. Demand forecasting is crucial for inventory optimization. It enables you to anticipate customer needs and plan inventory levels accurately, reducing the risk of overstocking or stockouts, ultimately leading to cost savings and improved customer satisfaction.
  1. Inventory storage. Proper storage practices enable businesses to maintain lean inventory levels while enhancing supply chain efficiency and customer satisfaction, ultimately leading to improved profitability.
  1. Inventory levels. Inventory levels are a vital part of inventory optimization strategies as they ensure you have the right amount of stock on hand, reducing holding costs while ensuring product availability.
  1. Inventory replenishment. Inventory replenishment enables you to automate the restocking process, helping you maintain optimal inventory levels to meet customer demand while minimizing overstocking and understocking risks.

7 Advanced Inventory Optimization Strategies for Maximum Performance

We know firsthand that inventory optimization is non-negotiable if you want to reduce costs and improve revenue — ultimately ensuring you are maximizing profitability long-term. 

So, what strategies should you be testing first? 

Here are some of the top inventory optimization techniques we recommend to online retailers looking to upgrade their inventory optimization to pro level! 

1. Harness the Power of Inventory Optimization Machine Learning 

Inventory optimization machine learning AI is an absolute must if you want to stay competitive and boost results. Automation will help you streamline your optimization elements and processes and give you access to valuable real-time analytics you can use to pivot where needed. 

We’re not just talking about eCommerce inventory management software. We’re talking about having the right tech stack of inventory optimization tools that all work together to streamline front and backend operations in perfect harmony. 

The secret is choosing just the right tools! 

Here are some inventory optimization tools that you can coordinate to optimize and streamline your inventory optimization — factoring in marketing and retail KPIs: 

  1. Littledata’s automated analytics tool
  2. Loox’s advanced social proof solution
  3. Cogsy’s retail operations tool 
  4. Loop’s backend return management app 
  5. Kimonix's advanced merchandising technology

You can read more about these top inventory optimization machine learning technologies here, and sign up for a free demo for Kimonix here

2. Test the FIFO Inventory Optimization Technique on Non-Perishables 

FIFO (first in, first out) is an inventory optimization and management technique whereby your oldest inventory is the first to be used (sold). Here's how FIFO inventory optimization works:

  1. When inventory is needed for sales or production, the items that have been in stock the longest (the "first in") are used first.
  2. As new inventory is acquired or produced, it is added to the inventory pool.
  3. The cycle (continual cycle) continues with the oldest items being used first and new items added to the back of the queue.

FIFO is commonly used in industries where perishable goods or products with expiration dates are involved, such as food, pharmaceuticals, and certain types of manufacturing. 

However, the same technique can be used for apparel retailers where style demand can be very fleeting. It ensures that older clothing items are sold before they become obsolete, reducing the risk of waste.

As an added bonus, FIFO can help with managing inventory costs, as it aligns with the assumption that the cost of older inventory is lower than the cost of newly acquired or produced inventory. This can have accounting and tax implications, particularly when the cost of goods sold (COGS) is calculated based on the inventory cost.

Pro Tip: Selling high-end luxury goods? Consider the just-in-time (JIT) inventory management technique instead. Developed by Toyota, JIT means stocking a product only when a customer requests it, substantially minimizing the risk of non-moving inventory and reducing costs on inventory storage. But your customers must be willing to wait for a more timely turnaround time.

3. Upgrade Your Inventory Policy

The rules or guidelines by which you manage your inventory and your inventory policies can affect your overall inventory performance, operational costs, and customer demand. Also known as an inventory management policy, these procedures govern how your online retail inventory is acquired, stored, tracked, and utilized (sold) to ensure efficient operations and proper alignment with the company's goals. 

A well-structured inventory policy should include the following: 

  • Reorder points. This inventory policy is often based on factors such as lead times, demand variability, and desired service levels. It determines at what inventory level a reorder should be initiated to restock items.
  • Order quantities. This can involve methods like Economic Order Quantity (EOQ) calculations to determine the optimal order size.
  • Safety stock levels. Establishing safety stock levels will help you buffer against demand variability and supply disruptions.
  • ABC analysis. This helps classify inventory items into categories based on their value or importance to the business.  
  • Inventory turnover targets. Turnover targets are an important inventory metric that you set for how often inventory should be sold/replaced within a specific period. 
  • Return and warranty policies. You can improve customer satisfaction while reducing costs by establishing procedures for handling returned inventory items or warranty claims.
  • Stocking policies. This inventory policy sets out which products to stock, including introducing new items and discontinuing underperforming ones.

In a nutshell, from reorder point to stocking goals, inventory policies are essential if you want to maintain the right balance between customer demand, operational efficiency, and cost control.  

4. Combine ABC Analysis with Smart Merchandising 

By classifying all your inventory using ABC analysis, you can better prevent stockouts or overstocks. Why? Because as you probably know already, ABC analysis enables you to classify your online retail stock into three categories depending on their revenue contribution potential or values. 

However, when classifying inventory, many retailers stick to the 80/20 rule (also known as the eCommerce Pareto Principle) — focusing on short-term revenue instead of long-term profitability. 

When stores focus only on promoting their top-selling items and displaying what's expected to sell well, they tend to get stuck in this cycle — mainly selling the popular 20% of products. This overlooks the remaining 80%, which results in a big pile of products that aren't moving off the warehouse shelves. Dead stock! 

So, what to do instead? You want to relook at how you do your ABC analysis and then integrate personalization with smart merchandising that considers a wide variety of parameters, such as: 

  • 1.1 personalization
  • Sales
  • Conversion rates
  • Inventory
  • Days to finish inventory
  • Number of variants with inventory
  • Margin – the real one, after all the discounts and promotions
  • Discount
  • Reviews – product rating and number of reviews
  • Days in store
  • Market demand

You can read more about how to do just that, here

5. Boost Demand Planning Efficiency with Advanced Analytics 

Demand planning is an integral part of inventory optimization. But you need heaps of data and systems in place to be able to adjust this data. 

Here are some steps to leverage advanced analytics to boost your demand planning efficiency: 

  1. Gather as much historical sales data, market trends, etc., as you can, and then integrate this data into a centralized database or analytics platform.
  2. Get data ready by removing unusual values and making it consistent and complete.
  3. Implement advanced forecasting models, like machine learning algorithms, to predict future demand more accurately. 
  4. Use advanced analytics to run scenario analyses and "what-if" simulations. 
  5. Segment your customer base and products based on various factors such as geography, seasonality, or customer behavior. 
  6. Utilize real-time data monitoring and analytics to detect changes in demand patterns as they happen. 
  7. Implement automated reporting and dashboard tools to provide insights into demand forecasts, KPIs, and exceptions. 
  8. Establish a feedback loop for continuous improvement.
  9. Integrate demand forecasts with inventory optimization techniques to maintain optimal stock levels while avoiding excess stock, or, the opposite, stockouts.

These steps will help you enhance demand planning accuracy, reduce excess inventory, improve customer service levels, and ultimately optimize your supply chain operations. But you won’t be able to do it without the power of AI. 

One of the most significant advantages of incorporating AI and automation into your eCommerce business is real-time analytics. This is because AI-powered tools have the ability to analyze vast amounts of data — data that you can then use to efficiently improve demand planning.  

Some Shopify apps and tools that can help with demand forecasting and/or advanced analytics include Stockbot Inventory Forecasting, Ecomdash, and Lucky Orange.

6. Use the Reorder Point Formula for Each SKU 

Your reorder point (ROP) formula is an important inventory optimization metric to consider. 

Because this metric defines the threshold at which new inventory should be reordered, it helps online retailers replenish stock at the perfect time to meet customer demand. This, in turn, means less stockout or excessive inventory holding — and the costs of each. 

Newbie Tip: If you haven’t yet used ROP metrics, here is the reorder point formula:

ROP = (Average Demand x Lead Time) + Safety Stock

Let’s say your average demand during 200 days of lead time is five units daily, and you have 900 units of safety stock. You would want to reorder more units when you have 1,900 units. Here’s a simple breakdown of how we got to this total using the reorder point formula above.

ROP = (5 x 200) + 900

ROP = (1,000) + 900

ROP = 1,900

Ideally, you want to do this for every single SKU in your online store. This will help you know your replenishment levels for each product you have. If you have a very small category of products, that can easily be managed manually. 

However, for most online retailers, you will need advanced inventory optimization tools, such as our Cogsy, which will not only automatically calculate your ROP per SKU but include real-time alerts and adjustments.  

7. Increase Your Inventory Audits 

No matter which inventory optimization tools you use and the strategies you have in place, you should be doing regular inventory audits. The frequency can vary from daily for high-value, perishable goods, to annually for low-value, non-perishable items. The trick is finding the frequency that suits your business and products.

Whichever frequency you pick, you want to ensure you don’t let them slide. Why? Because regular audits help: 

  • ensure accurate inventory records
  • minimize discrepancies
  • prevent stockouts
  • reduce the risk of overstocking

All contribute to better financial and cost management and excellent customer satisfaction. 

To get you started, here are some must-do steps to conduct an efficient inventory audit: 

  1. Choose the specific area or section of the warehouse or store to be audited.
  2. Physically count each item in the selected area, ensuring accuracy and consistency.
  3. Double check and reconcile the counted items with the inventory records to identify discrepancies.
  4. Adjust the inventory records to reflect the accurate count and make necessary corrections.
  5. Share audit findings with relevant marketing, merchandising, and management teams for transparency and decision-making.
  6. Take necessary actions to address discrepancies, prevent future inaccuracies, and ensure that the financial records align with the updated inventory counts.
  7. Continuously monitor inventory accuracy and repeat audits on a regular schedule to maintain accuracy over time.

Wrap Up 

There you have it: top inventory optimization techniques and strategies you need to help prevent excess stock and reduce inventory holding costs while meeting customer demand. 

As a recap, here are some inventory optimization software options worth considering: 

  1. Littledata’s automated analytics tool
  2. Loox’s advanced social proof solution
  3. Cogsy’s retail operations tool 
  4. Loop’s backend return management app 
  5. Kimonix's advanced merchandising technology

The bottom line is whether you are a large online retailer with an inventory manager and team or a smaller, bootstrapping eCommerce brand, you will need to invest in the right combination of inventory optimization tools, smart merchandising apps, inventory management software, and supply chain planning solutions. 

Optimization techniques will enable you to have more inventory control, higher inventory turnover, less inventory investment, and lower inventory costs.  

Still have merchandising, inventory optimization, or management questions? Reach out here.

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