Forecasting Inventory: How To Do It Right

It doesn’t matter what type of business you run, an online ecommerce store or a brick and mortar store, inventory forecasting is vital to the success of your business. Think about it, what happens if you don’t have enough inventory on hand? Simple, you lose sales! What happens if you have too much inventory on your shelves? Well, it may mean we have too much cash tied up. We may also be in trouble if that product is not selling anymore. To our point, forecasting inventory is important.

Forecasting inventory plays a key role in proper inventory management.

So, here’s the real question, “how do you create the perfect balance of keeping inventory stocked while managing your cash flow?” That’s why we need inventory forecasting.

How To Forecast Inventory?

Great question! Since we need to figure out our inventory on hand, we’re going to start by forecasting our future sales. We’re going to forecast sales in 30 day increments. Here’s what we’ll have;

  • 30 Day Sales Forecast
  • 60 Day Sales Forecast
  • 90 Day Sales Forecast

We’re going to be relying on our past sales velocity for this forecast.

Before you jump in, here’s what you need to be on the lookout for.

  • Sales Velocity – Your sales velocity is the rate of sales that omit stockouts, also referred to as Out Of Stock Days. Why not just use average sales? We want to know our rate of sales when inventory was fully stocked. If we don’t omit days when inventory was out of stock, we would underestimate our future sales.
  • Seasonality – Many companies have trends for different seasonal times, so you need to be able to account for those trends when you’re forecasting your inventory. We always recommend using the past 12 months of data.
  • Sales Trends – If you’ve seen increasing demand, you need to make sure you account for this in your formula.

How Do You Treat Seasonal Products

Yes, another great question. Some of you have seasonal products, we have to treat these differently from year round products. Just to clarify, a seasonal product is going to be one that sells at a specific time of the year. If you’re thinking “holidays,” you’re absolutely right, that’s a great example. Other examples for seasonal product could be winter clothing or summer lawn care items.

In short, your default forecast projections will be steady sales month after month. Your seasonal forecast projections are going to see spikes at specific times of the year. Remember, they will also reference trends from the prior 12 months.

What About Forecasting Sales For New Products?

So many great questions, right? In all seriousness, forecasting new product sales can be a challenge. You don’t have the historical data we often rely on, so how can forecast sales and be accurate?

If your company has launched prior new products, we can go back to that historical data and it can help us forecast new product sales. You need to go back and examine the trends of your new product launches. If you haven’t been tracking that data, you better get tracking right now.

When you go through your past data, look at the trends. Did you see strong sales for the first 2 months and then sales trended down? Were sales strong and consistent for the first 6 months? If you’re using a similar formula for all your new product launches, this data can be invaluable for forecasting new sales.

Now, we do want to stick to the same category or brand with the forecast. We’re not saying you couldn’t use another category or brand, but we try to keep those 2 relative for our forecast.

Does Your Marketing Or Advertising Change During Forecast?

Yes, absolutely. If you have annual promotions or events, we need to account for that. If you’re doing that advertising or marketing every year, this is going to show in your 12 month sales data anyway.

If you’re planning on spending $30K this month on Google Adwords, you need to forecast for it. If you’re working with an affiliate partner for the month of October, you need to account that in your sales forecast.

Like we said earlier, you must pay attention to your trends. If August is your best sales month and that happens to co-exist with a big promotion, we want to accurately forecast those expectations.

What About Future Events Or Promotions?

If you’re planning an event or promotion in your upcoming forecast period, you need to account for it.

Remember, go back to your historical sales data. Here’s some questions we want you to ask yourself and answer.

  • Do we have the sales velocity from the same promotion last period?
  • Do we have the sales velocity from a similar promotion we ran?
  • What was the sales velocity the last time we spent $30K for marketing?
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There’s a lot of great data points you can get from your past promotions to help you with forecasting inventory. If your past promotion was in the same period you used to calculate your sales velocity, you’ll likely not need to change your forecast much, if at all.

Replenishment VS Forecast

These two differ, so we wanted to clear this up (although you likely already know).

  • Replenishment – Refers to the additional stock needed to cover sales.
  • Forecast – An analysis that looks at the predicted sales for the next 30, 60, 90 days.

Now, replenishment focuses on 3 key pillars, your current stock levels, lead time with vendors and stock on order. Let’s break these 3 down.

  • Current Stock Levels – How much do we already have on hand?
  • Lead Time With Vendors – How long does it take for us to place an order, receive that order and have it inventory?
  • Stock On Order – How much product has already been ordered from a supplier and will arrive during our forecast period?

To better help you understand this, we want to use an example. This is a made up example but how it’s calculated is the right way.

We are forecasting to sell 600 units of vanilla brown candles during the next 30 days, which is our sales forecast. We have a total of 50 on hand and our lead time is only 3 days, so the replenishment is going to be 550 units. Our current sales velocity is 10 per day. Our current stock allows us to cover 5 days. Since our lead time is 3 days, we still need to cover 25 days of sales. At 10 a day, this is going to equal 250, which is the amount we need to cover the remainder of the 30 days.

Overstocked Or Understocked?

Now, you may be focused on seeing if you have enough stock to cover the next 30 days. Rather, perhaps you already know you have too much stock and you’re wanting to find out how much overstock you have on hand. How would we calculate these?

The first thing you need to do is figure out how many Days Of Stock you need to have on hand. Days of stock refers to the number of days you want to cover with inventory stocked in your store, this could be in your warehouse too. When you calculate days of stock, there’s a few things you need to know.

Lead Time – We talked about this earlier, you know this but lead time refers to the amount of time it will take to receive products from a supplier. This amount of time varies from one supplier to the next, so you have to know how long each product takes to get to your inventory.

If you have a short lead time, you can have short days of stock. If you have a long lead time, like 45 days, you’re going to have long days of stock. The days of stock will be equal to how often you need to place an order. For example, if it takes 45 days to get to us, it wouldn’t make sense to place orders every 10 days. Why? You don’t want several orders in transit at once of course.

Out Of Stock Cost – How Much Is Each Lost Sale Costing Your Company?

If a day of out of stock is going to cost you $7,500, you’re going to want to have more stock on hand. To determine your out of stock cost, you’ll want to multiply your sales velocity per day times the retail cost of that product.

Next, you need to subtract that number from your targeted days of stock, this is going to give you how many days are understocked or overstocked.

In Closing

Forecasting inventory plays a big role in proper inventory management. Our hope is you walk away now with a better understanding on how you can improve your own inventory forecast.

Here at Accelerated Analytics, our POS Reports allow you to make informed decisions that will make immediate impacts on your bottom line. POS Data can help you continuously grow your business, but only when your POS data is easy to read and understand. This is exactly why we recommend our EDI 852 reports. Schedule a demo today!