Being a business owner is never more enjoyable than when your products are flying off the shelves and you have enough available inventory to accurately fulfill every order. But what happens when your SKUs start collecting dust? Stagnant, excess inventory can cause serious issues, from mounting storage costs to diminished profit margins and perception of lack of consumer demand for your brand.
Yet, there’s a viable solution to avoid the traps of unmoved inventory and keep your cash flowing: tracking your aging inventory. This metric is popular among product-based brands because it offers exceptional visibility into your stock and allows you to make inventory adjustments as needed.
Read on to learn more about the importance of calculating aging inventory and how this method can enhance your entire inventory management strategy.
Calculating average inventory age is an important part of inventory management, as this knowledge helps you shine a light on inventory inefficiencies and/or lost profits. To work out inventory age for your own product listings, you’ll need to know your average inventory cost, cost of goods sold (COGS), and your inventory turnover ratio (ITR).
With some products or product categories, where the selling window is shorter than average due to seasonality or best-before dates, you may want to track this on a specific SKU-by-SKU basis or by product category.
Average inventory estimates the amount (or value) of a company's inventory over a specific time period. While inventory balances can fluctuate significantly—depending on seasonality, when shipments are received, and so on—an average cost calculation evens out these sudden spikes in either direction, and serves as a reasonable indicator of inventory valuation.
To calculate your average inventory cost, use this formula:
Average Inventory Cost = Annual Cost of Goods ÷ Total Ending Inventory
Having a good grasp on these numbers can empower ecommerce businesses of all sizes, as they reveal whether the amount of inventory you’re carrying has actually become a detriment to your bottom line.
Cost of goods sold refers to the price of producing the goods sold by a brand or business. The COGS amount includes expenses directly related to production (like raw materials and cost of labor), but it excludes a range of indirect expenses (like overhead and marketing).
The COGS formula is as follows:
Cost of Goods Sold = Beginning Inventory + Purchases - Ending Inventory
Here, the beginning inventory is the amount of inventory leftover from the previous period (month, quarter, etc). As its name suggests, purchases during the period point to the cost of what you purchased within the designated accounting period. Lastly, ending inventory is what didn’t sell during that period.
The inventory turnover ratio is an expression of how often a company sold and replaced its inventory during an established period (like over a year, for example). Calculating inventory turnover can help ecommerce businesses make more informed decisions on pricing, marketing, manufacturing, and purchasing new inventory items.
The inventory turnover formula is:
Inventory Turnover Ratio = COGS ÷ Average Inventory Value
A slow turnover rate might imply weak sales or a large volume of excess inventory, whereas a faster ratio likely signifies strong sales or insufficient inventory levels. Either way, ITR is an important tool for analyzing areas of inventory improvement.
Your inventory’s age reflects the average number of days it takes to sell off certain SKUs. For that reason, analysts often utilize this measure to determine the efficiency of a company’s sales. On occasion, the average age of inventory is also called days sales in inventory (DSI).
To find the inventory age for your products, follow this formula:
Inventory Age = Average Inventory Cost ÷ COGS × 365 days
In general, it’s recommended that retailers confirm this figure with supplemental inventory metrics (such as gross profit margin).
To help your inventory management strategy excel, you’ll need to integrate a variety of software and technologies, as well as comprehensive analytics and reporting. While trial and error will inevitably be involved in finding the right inventory tools for your business, integrating inventory age has been known to benefit brands across all industries.
Without an effective inventory management strategy, your company risks frustrating its customers, losing vital sales, or housing inventory that just doesn’t sell. But inventory age can give a huge boost to your existing management approach and help you make necessary pivots with your products (that may have otherwise gone unrecognized or unresolved).
Demand trends tell you how well a product performs by honing in on fluctuations in consumer demand and buying patterns from your customer base. Perhaps you had a product that sold well for the first six months after its release, but it hardly moved any units in the second half of the year. Inventory age often suggests whether an item might prevail with a seasonal promotion, a substantial discount, or being sold in a product bundle. It may also help you identify an item that could benefit from further extensions, like additional colors or sizes, to further capitalize on demand while it is hot.
Inventory planning is integral to supply chain management, because it helps stores purchase the ideal amount of stock and determine how often to reorder. Inventory age can largely inform inventory planning, in that it acknowledges which products don’t merit reordering after all. Likewise, inventory age gives your planning a more solid structure, since you have a road map to work from and can remove much of the guesswork associated with this process.
Making data-driven sales decisions is all about using the insights and information from inventory reporting. With this info at your disposal, you can avoid marking down items on a whim (or, worse yet, reordering a product without knowing the quantity you already have in stock). These rash inventory transactions can be quite detrimental long-term, especially for small businesses just starting on their ecommerce journey.
Extensiv’s solutions for brands can take your ecommerce operations to the next level. With real-time inventory and order visibility as well as built-in data analytics dashboards, our solutions can help you easily calculate inventory costs and make better informed decisions with aging inventory.
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