What is Inventory Optimization?
Inventory optimization is an inventory management process that aims to improve inventory availability throughout the supply chain and production while enhancing cash flow by carefully planning inventory purchase and reducing excess stock.
Optimizing the inventory process improves operational efficiency and boosts customer satisfaction. By offering higher visibility into inventory, modern ERP software empowers you to make informed, data-driven decisions and automate your inventory management.
Why is Inventory Optimization Important for Businesses?
As reported in the Economic Times, unsold car inventory in India reached a record 70-75 days in August 2024, forcing automakers to give huge discounts to sell their inventory. High inventory pile up increases storage and maintenance costs and reduces profitability margins, highlighting the importance of accurate demand forecasting.
To stay competitive and have a strong cash flow position, every business must have inventory-optimized models. And with the best ERP software in India, you get all the capabilities you need to manage your inventory well. Here are some of the key factors that make it all the more important for you to have better control over your inventory process.
1. Demand Fluctuation
Whether it is the change in market trends, seasonal factors or weak economic conditions, demand is always fluctuating and businesses must find a way to adapt to changing demand patterns. Fluctuations in demand can be best handled with optimized inventory management to ensure customer satisfaction.
2. Complex Supply Chain
Global supply chains can get very complex. For a drug manufacturer dependent on critical minerals like bismuth from China, any supply disruption can severely affect production. By forecasting demand and calculating safety stock, pharma ERP software helps them minimize the impact of disruptions.
3. Complex Products
Product configurations and customization make inventory optimization complicated. Make-to-order manufacturing operations have to account for specific customer requirements before starting the production line, which may involve securing unique parts from different suppliers.
4. Evolving Business Models
Your business model can evolve over time which requires you to be one step ahead in your inventory optimization. Whether you adopt a just-in-time inventory system or open multiple sales channels, you must automate inventory management using ERP system to improve operational efficiency.
What Are The Key Components of Inventory Optimization?
While you must optimize your inventory, what does it take to achieve your inventory optimization goals? Take a look at the key components that you have to take into account.
1. Strategic Planning
A well-planned inventory management takes a strategic role in leading organizations. To optimize inventory, it becomes necessary to plan production, sourcing and warehousing locations. For existing operations, you may need to have strategic partnerships with vendors for more stability in sourcing.
2. Forecasting Demand
Whether you follow a push or pull strategy, you must have a demand forecasting model in your manufacturing ERP software. It allows you to prepare for various market scenarios, bringing agility to your inventory process. From SKU to safety stock planning, you get precise demand projections.
3. Inventory Replenishment
Knowing when you need to replenish inventory in your warehouse to meet production targets and customer demand is important. Doing this process manually is not feasible, which is why you need a warehouse management system that closely monitors inventory movement.
4. Skilled Workforce
One of the most important factors in inventory optimization is the availability of skilled workforce that has the right training to operate automated ERP software. Top service providers of ERP software in India offer comprehensive training and support to your employees.
You Might Also Like: What is Push and Pull Strategy in Manufacturing?
What Are The Advantages of Inventory Optimization?
Inventory optimization unlocks the following benefits for your organization.
1. Reduce Carrying Costs
Carrying cost is the inventory holding cost you incur to store unsold inventory in your warehouse. When you optimize your inventory management, consequently your carrying costs also reduce.
2. Minimize Shortage Risk
With inventory optimization, you can make sure that you never run out of inventory. Also, it ensures that you don’t tie up excess capital in inventory.
3. Operational efficiency
Your supply chain and production can be more efficient when inventory is under control. Having information on what to order and when to order using inventory management software makes your team more productive.
4. Improved Cash Flow
Last-minute rush to order inventory can be costly. Optimized inventory management leads to waste reduction, optimal stock and better negotiation with suppliers, thereby improving your cash flow.
5. Delivery Efficiency
Fulfilling customer orders on time and cost-effectively is what gives you an edge over competitors. Inventory optimization helps you meet delivery timelines, leading to high customer satisfaction rates.
6. Improve Vendor Relationships
When your suppliers have a fair amount of certainty over when and how much quantity you are going to order, they are better prepared to meet your requirements, strengthening your relationship with them.
7. Make Informed Decisions
One of the crucial advantages of optimizing your inventory process using an ERP solution is the ability to make data-driven decisions. What, when, how much, where – you have all answers at your fingertips.
8. Meet Sustainability Goals
Inventory optimization makes your operations more eco-friendly. For example, a food manufacturer can significantly reduce food waste and optimize ingredient consumption using ERP for food industry.
What are the Common Problems in Inventory Optimization?
Despite their determination to optimize inventory, manufacturers may face many challenges to streamline their inventory process. Some of the common problems they face are as follows:
1. Process Automation
If you have always followed traditional inventory management processes, automating your inventory using a scalable ERP system may seem like a huge change that you need to prepare for.
2. System Integration
Are you already using some tools that cannot scale with the growing complexity of your inventory? Also, you may not have the right IT infrastructure to integrate your existing tools with other ERP modules.
3. Inaccurate Data
How well your inventory data is collected, organized and stored in your ERP software matters a lot in inventory management. Inconsistent and inaccurate data may not give you the result you are expecting.
4. Inventory Tracking
Tracking your inventory in real-time gives you enhanced visibility into inventory and even helps you identify deadstock. But do you have the right inventory management ERP that can measure inventory KPIs?
5. Inventory Valuation
Inventory valuation enables you to price your inventory carefully and get a realistic view of your liability. Implementing the right valuation method that suits your business model is important.
6. Multi-channel Order Fulfillment
The complexities in inventory optimization increase further when you open multiple order fulfillment channels, such as from your distribution centers, warehouse, and production site.
What Inventory Optimization Techniques You Can Follow?
There are several well-established inventory optimization techniques that you can implement, some of which we have discussed below.
1. ABC Analysis
ABC analysis method of inventory management classifies inventory into ABC categories based on their importance and cost. Category A is of the highest value and strategic importance to production and requires accurate monitoring. Category B is of lesser value than Category A yet important. Category C, on the other hand, is a low-value inventory and does not require a manager’s time.
2. Demand Forecasting
One of the most sought-after inventory optimization techniques is demand forecasting which enables you to track the demand of your final products and accordingly predict the demand for individual stock items that are used for making that product. Demand prediction using advanced ERP applications can be transformational for your financial success.
3. Safety Stock Measurement
Safety stock is the buffer stock that helps you meet uncertainties such as unexpected spikes in demand, forecasting errors and higher-than-expected delivery times from suppliers. The right approach to safety stock management requires safety stock calculation and managing reorder points for every item using a safety stock formula. All these calculations are performed by your ERP software.
4. Just-in-Time Inventory (JIT)
Just-in-time is an inventory management concept where you only order inventory as and when needed. This significantly reduces the costs associated with purchasing and storing inventory and allows you to follow a lean production method. However, this technique requires close collaboration with suppliers who are ready to supply the required quantity just when you need.
5. Economic Order Quantity
Economic Order Quantity (EOQ) is an inventory technique aimed at meeting customer demand while avoiding inventory shortage. To calculate EOQ, one must take into account, annual product demand, ordering costs and inventory holding costs per unit. The formula for EOQ is as follows:
formula- https://www.sagesoftware.co.in/blogs/top-10-techniques-of-material-control/
Where:
D = Demand rate (units sold per accounting period)
S = Order cost (per order)
H = Holding cost (per unit per accounting period)
6. Inventory Auditing
Periodic inventory audits enable you to identify errors in inventory tally and take corrective measures. It makes sure that your physical stock matches the one in your ERP system. When you manage inventory via perpetual inventory system, it improves inventory accuracy and minimizes the chances of inventory discrepancies.
Also Read: What is Perpetual Inventory System?
What are the Best Practices For Inventory Optimization?
1. Automation
Inventory automation is about building system capabilities that minimize manual data entry, repetitive tasks and manual inventory calculations. Your optimized inventory management system gives you all the information in real-time to power your decisions.
2. AI-driven Inventory Forecasting
Artificial intelligence connected into your inventory management system allows you to analyze complex sets of data, which can include customer ordering patterns, market trends, weather factors and supply disruptions. Such analysis gives you enhanced understanding of demand, aiding inventory planning.
3. Collaboration with Partners
Collaboration with suppliers and customers plays a critical role in optimizing your inventory. For example, it is a common practice among auto parts manufacturers to form long-term contracts with their partners both upstream and downstream and use automotive ERP to closely monitor supply chain.
4. Inventory Budgeting
Budgeting for inventory means always having sufficient funds to purchase inventory. Inventory managers take advantage of the advanced reporting capabilities of ERP software to align their procurement needs with cash resources and customer demand.
5. Quality Control
Quality control mechanism ensures that you minimize inventory waste, optimize resource use and improve the quality of finished goods. There are multiple quality control techniques, such as total quality management and Six-Sigma, to help you set higher standards of quality.
6. Storage Space Management
How much space do you need to store your raw materials, work-in-progress inventory and finished goods? To calculate this requirement, you must know the required inventory levels at every stage. Accordingly, you can plan for building or leasing the necessary warehousing space.
7. Supply Chain Monitoring
Do you need to diversify your suppliers? A constant monitoring of your supply chain allows you to plan improvement strategies. Track supplier performance and raw material compliance standards. Analyze potential risks in your supply chain that can impact your business operations.
Run Efficient Inventory Processes With Sage X3 ERP
As the landscape of supply chain management continues to evolve, the role of inventory optimization has never been more crucial. From reducing costs and improving cash flow to preventing stockouts and overstocking, the advantages you get with inventory-optimized models are plenty.
Sage X3 offers a powerful inventory management solution that optimizes your inventory by tracking inventory performance throughout the supply chain and giving you real-time insights. Besides, you get complete control over your production, procurement, warehousing and distribution processes.
FAQ
1. What Do You Mean By Inventory Optimization?
Inventory optimization is a process of implementing the most effective inventory management model that minimizes stock out and overstocking events in your organization while boosting customer satisfaction, improving cash flow and reducing costs.
2. What Is the Main Objective Of Inventory Optimization?
The main objective of inventory optimization is to strike a balance between supply and demand while improving the efficiency of operations.
3. How Can I Optimize My Inventory Process?
Optimizing inventory requires a comprehensive approach using robust ERP software where you get visibility across the supply chain, enabling you to make data-driven decisions at the right time.
4. Can You Give An Example Of Inventory Optimization In The Supply Chain?
A furniture manufacturer partners with suppliers to implement a vendor-managed inventory system using ERP for furniture manufacturing. Suppliers monitor stock levels of materials like wood and deliver replenishments automatically based on real-time usage data, ensuring smooth production without overstocking or shortages.
