Stocking the correct amount of inventory can be a challenging task for many retail store owners. If you overstock, then you’re left with costly excess inventory. On the other hand, if you understock, you miss out on sales.
Over half of small businesses use offline inventory tools or no inventory tools at all. This leaves you at a high risk for overstocking.
So how do you make informed decisions when it comes to stocking your store?
Knowing how much to stock can be determined through a honed approach to inventory management and sales data. Without this type of informed decision making, the effects on your productivity and profitability are costly.
Below, we share the seven main causes of overstocking and a variety of ways you can avoid it.
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What is overstocking?
Overstocking, also called "surplus stock," happens when stores purchase more product than they sell.
Over-ordering inventory leaves retailers with too much stock, and that excess stock is left sitting on store shelves or in the warehouse, which can hurt profitability.
What causes overstocking?
Overstocking has many causes, but thankfully, nearly all of them can be mitigated through more careful calculation, planning, and analysis of your inventory.
The most common causes of overstocking inventory include:
1. Misjudged customer demand
Many retailers are facing an information deficit when it comes to their customers’ behavior, especially with COVID-19 limiting in-store purchases.
Not being able to answer questions like “Who is our customer?” and “Are they a repeat customer?” means many retailers are flying blind when it comes to maintaining inventory.
As a store owner, if you can’t differentiate new versus repeat customers and their purchases, there’s a massive hole in your data for when it comes to stocking.
Misjudging your customer’s demand for your products can then lead to costly surplus stock that's stuck on your shelves, taking up space that could be used for new products and sales opportunities.
2. Fear of “out-of-stock”
When stores have stockouts, the impact is compounding. Not only is there a lost opportunity for revenue, there are also long-term costs, like frustrated customers, impact on brand reputation, and the high price of rushing replacement goods.
"Stockouts cost retailers $1 trillion every year."
That said, retailers need to be careful not to swing too far in the opposite direction.
In fact, overcorrection from OOS to overstocking is one of the primary causes of surplus goods. Both are costly and both are avoidable when store owners maintain a baseline of inventory best practices, which we’ll discuss shortly.
3. Ineffective promotional marketing
Marketing can be a powerful tool for engaging customers and promoting your business. But when store owners rely too heavily on marketing alone to push products, it can lead to trouble.
If you buy a large quantity of goods from your vendors, don’t assume your customers will want to buy it just because you set up a compelling marketing campaign. This is how retailers can find themselves with unfortunate excess inventory.
Customer behavior and previous sales data should drive your purchase decisions with your vendors. Guesses and assumptions should not. Otherwise you may find your store with a surplus of immovable goods on your shelves.
4. Poor inventory management
Focusing on inventory and in-stock items is fundamental to running a brick-and-mortar retail business.
Inventory costs should also be top of mind when considering how to successfully mitigate overstocking. Unfortunately, a lack of insight into these important inventory management aspects is another cause of excess stock.
The three main types of inventory costs are purchasing costs, shortage costs, and carrying costs.
Carrying costs are the expenses related to holding or storing your inventory. This can include the labor salaries, the shipping, the opportunity cost, the warehousing or storage, and the loss due to depreciation over time.
If you don’t know what these costs are, then you’re acquiring new inventory without accurate data showing your profit margins and cost of goods sold. This information is key to beginning proper inventory management and avoiding overstocking.
Nearly all industries are affected by some type of seasonality, whether it’s Christmas—a great example of the impact of seasonality in retail—tax season for financial industries, or even planting versus harvest times for green industry businesses.
The question is, do you know which ones affect your store—and are you anticipating seasonal buying impacts when it comes to stocking?
Retail stores that are unprepared, not strategically pricing during seasonal buying windows, and not leveraging multiple channels to promote and sell products during these profitable times will be left with high volumes of overstock.
6. Compensating for supply chain issues
Supply chain disruptions are all too common right now. Manufacturers, vendors, stores, and consumers alike are affected by the impact the COVID pandemic is having on supply chains worldwide.
New research by the McKinsey Global Institute details the costs of various supply chain disruptors and the landscape of interconnected supply chain networks in 2020.
Retail stores can be tempted to provision for supply chain inconsistencies by overbuying, which leads to costly overstock. And while maintaining on-shelf availability is also a challenge, it’s important to have data tools readily available to gather insights from your POS.
These analytics should inform how you compensate for supply chain delays and help your in-store teams make decisions to avoid overstocking.
7. Industry-specific challenges
Depending on your industry, your retail store may face unique overstock challenges.
Fashion and apparel
Overstock clothing is an ongoing problem for stores faced with forecasting demand for seasonal trends, and buying the incorrect distribution of clothing sizes is hard to avoid when many distributors’ default is to sell equal amounts of each size.
Your customer sales data may show that you sell 50% of clothing in medium sizes, 30% in large sizes, and 20% in all other sizes combined.
Working with your distributor to adjust size quantities and forecasting sales based on historical sales data is key to mitigating excessive stock.
Retail stores that stock primarily perishable goods face a different challenge when it comes to avoiding overstock. The limited shelf life of products like prepackaged food, candles, shampoos, and pet products makes getting rid of excessive quantities before they expire and become unsafe a time-sensitive problem.
Learning to forecast demand for perishable goods is even more critical for profitability as the opportunity for selling discounted overstock items is limited.
What are the effects of overstocking?
Regardless of the cause, overstocking inventory can cause some serious (and costly) problems for your retail store.
After all, when surplus stock is taking up precious time and resources in your retail store, you are losing both productivity and profitability.
So, what are the main problems caused by overstocking inventory?
1. Storage costs
The most immediate and visible impact of stocking more than enough product is the cost of storage and space.
By taking up shelving or back-of-store stockroom space, overstock prevents the placement of products that could sell. This is a lost opportunity cost that can be hard to recoup as the need to expedite the sale of overstock goods often requires more time and energy, deeper discounts, and increased expenditure.
2. Tied-up cash
Additionally, there is cash tied up in purchasing goods that become overstock. And until products sell, that investment will not be recovered.
This begins to snowball as store owners lack the funds needed to replace overstock goods with new products and prevents new product releases that could be profitable.
3. Product expiration
Finally, in the case of perishable and time-sensitive goods, overstocking means risking expiration and product obsolescence.
In this case, the opportunity to sell overstocked items is limited and time is of the essence. This further pressures retailers to sell their products at below-margin prices simply to free up resources.
But these are just the most immediate effects of overstocking.
The downstream impact includes additional spending on labor and personnel salaries, time spent repositioning products, the cost of transshipment or transportation of goods or delivery, and the loss of your profit margin.
How can overstocking inventory be prevented?
Avoiding overstocks and stockouts boils down to inventory management. At the root of all overstocking is blind order placing without an understanding of your store’s inventory.
With accurate demand predictions through POS data and customer behavior insights, you can minimize both the cause and effect of overstocking on your business.
Consider following these five tips for reducing your risk of overstocking and implementing better stocking practices.
1. Invest in inventory management software
For many retail stores, inventory management software that can do a lot of the data tracking, analysis, and calculations for you is a value add.
Nearly 43% of small businesses either don’t track inventory at all or use manual tracking methods. Yet, there are affordable software options available to help you better understand what, when, and how much product you need to avoid overstocking.
"Nearly 43% of small businesses either don’t track inventory at all or use manual tracking methods."
When evaluating inventory management systems, think about the KPIs and metrics you want to begin tracking. Make sure the platform you select aligns with your goals so you have a scalable solution for your business.
2. Track sales with a POS system
Consider what POS system you’re using and if it's tracking the data that’s most valuable to help you make purchasing decisions.
POS data tools should enable quick, accessible information like type of sales, customer profiles, product categories, quantities remaining, and even product reorder point alerts.
Using a retail POS system like Shopify POS that's capable of advanced sales tracking and customer information is what you need to begin eliminating the guesswork of purchasing. Plus, a POS system should help optimize your inventory management and streamline stocking.
3. Use ABC analysis
Leveraging the power of ABC (Always Better Control) analysis can help retail stores arrange inventory from most to least important. ABC analysis is based on the 80/20 rule that 20% of your products contribute to 80% of your revenue.
- A = Items that are the highest priority. These items sell the best and are the most profitable inventory for your store. They are your focus for selling and restocking and have the most influence in your inventory cycle counting.
- B = Items that are of medium priority. They sell consistently well and are ordered on a regular, less frequent cadence.
- C = Items that are lowest priority and are often stocked in high quantities to avoid frequent reordering.
This type of hierarchical categorization is a great way for store owners to optimize storage space and streamline processes so the focus is on Category A items that are going to be the most profitable for the business.
4. Assess economic and market trends
Keeping a pulse on both economic and market trends is an important part of anticipating supply chain fluctuations in order to reduce your risk of overstocking. There are ways of knowing what is going to influence your demand so you can prepare accordingly.
Google Trends is a great tool for helping retailers gauge product interest over time and also offers other metrics that can assist in accurately stocking products.
Consider what data would help you better forecast demand and improve inventory purchasing and stocking. Then use Google Trends to search the topics and queries that can inform your decision making.
Using these trends and other data tools you have available, consider drafting an open-to-buy (OTB) plan for your store. This type of plan is great for eliminating the guesswork of purchasing, using a formulaic approach to stocking.
Learn more about how to use Google Trends to help run your retail business.
5. Audit your inventory regularly
Lastly, conduct regularly scheduled inventory audits. A successful audit involves knowing how you measure up to your key performance indicators, or KPIs. So, step one is establishing goals for your inventory management.
Data that may be most helpful for establishing KPIs for inventory management include:
- Cycle time: the amount of time from product manufacturing to sale
- Inventory turnover rate: how quickly you’re selling and replenishing products
- Inventory count: total amount of inventory (divided into ABC groupings)
- Order fulfillment time: amount of time it takes from product fulfillment to sale/delivery
Also think about these inventory metrics that can show you what your inventory is costing you:
- Gross margin return on investment (GMROI): Gross Margin / Average Inventory Cost
- Sell through rate: (Quantity Sold / Original Quantity Available) x 100
- Inventory Carrying Cost: Sum of all costs for unsold inventory ≤ 30% of inventory’s value
- Inventory-to-sales ratio: Available Inventory for Sale / Quantity Sold
These KPIs and metrics provide a fuller picture of your inventory, what products are working for you and what products are taking away from your business profitability.
This is going to help you refine what you should be restocking most frequently and what products, processes and other elements of your inventory structure are contributing to an overstock issue.
Why overstocking is really a data value issue
By now, it might seem like overstocking is a matter of what data you have available. And while that is the first step to gaining insight into how your business is run from an inventory perspective, the key is having the right data value structure in place so your store can stock successfully time after time.
It’s not just more data, more alerts, more tracking, more sales insights. It’s the right data, right alerts, right tracking, and right sales insights.
"It’s not just more data, more alerts, more tracking, more sales insights. It’s the right data, right alerts, right tracking, and right sales insights."
The key to successful inventory management that avoids overstocking is leveraging available tools to help streamline your stocking and help you make informed decisions when it comes to purchasing from vendors and manufacturing.
Want to learn how other businesses manage their inventory to avoid overstocking?
Learn how Greenery Unlimited figured out how to manage their complex, ever-changing inventory of live plants.Read their story