8 Steps for Efficient Retail Inventory Management
This article is part of a larger series on Retail Management.
Retail inventory management is stocking products that buyers want, using pricing and promotions to sell profitably, and maintaining inventory at levels that meet demand without over-purchasing. An overall inventory management plan guides how this all gets done, from intelligent purchasing and pricing to procedures covering receiving, inventory counts, and location tracking.
Let’s go through the steps.
1. Maintain Accurate Product Data
Any inventory management plan starts with creating a centralized record of data for every product stocked. This makes it easy to access any information needed to complete your inventory management tasks—from reordering costs and department locations to sales tracking.
To streamline and automate your inventory management process, we recommend using a POS system:
- Square for Retail: Square is our favorite low-cost cloud-based retail POS system that allows you to get real-time data, review reports, and set inventory alerts so that you never run out of an item.
- Lightspeed: Lightspeed is a cloud-based POS system that gives you unparalleled inventory control and retail analytics. Lightspeed is best for multiple location stores or those with a slightly higher budget.
If you would rather use a manual option, you can check out our inventory management workbook for tracking templates, as well as templates for supplier contacts and purchase orders, among others.
Download our Free Inventory Management Workbook
Whatever technology you use—paper logbooks and files, computer spreadsheets, or a POS system—you need to create a procedure that outlines the process and instructions that guide how you:
- Create a filing location: This might be built into your POS system or simply your own file cabinet to store physical folders. Either way, define where you are going to keep your product information and create an organization method so people can find specific products easily.
- Determine a recording method: Decide when and how you will record your products. Before or after storage? While unpacking new orders? Do you want one person to do it or will you disperse the responsibility? Whatever you choose, create a uniform method to avoid inaccuracies.
- Define the product information you track: Determine what kind of information you want to record on your product pages. Some of the most important information to include in your product sheets is:
- Product name
- Your internal SKU
- Variants like colors or sizes
- Your regular and sale pricing
- Your sales category, department, or class
- Brand, line, or collection details
- Related store promotions, if any
- All suppliers for the item
- Supplier SKUs and/or UPC code
- Product cost
- Case pack amounts for stock orders
- Lead times for reorders
- Inventory on hand (or adjust following new product receipt or a stock count)
- Handle product data updates: Vendor prices and other purchasing information change over time; have a plan to make these updates as needed.
If you use a POS system, you can also add a product description and images to your product data entries. This helps clerks answer customer questions, speed up store checkout, and connect product data to online sales channels.
The important thing to remember as you set up this procedure is that smart inventory management requires a full record of product data details—not just an item name, SKU, and stock amount. The more information you track—pricing, product costs, vendor lead times, store categories and departments, etc.—the easier it will be to handle other inventory management tasks and gather meaningful data.
2. Track Stock Location
You have to know where your stock is to properly merchandise and sell it. There are different ways to track stock locations in a store—department or category mapping, SKU numbers, barcode labels, color codes, and even high-tech RFID tagging. A very simple and efficient option for any size store is creating an internal SKU system with a category or department-specific SKU coding, like this:
This method is easy to launch but infinitely expandable, so it’s good for solopreneurs through multistore businesses. It also works with or without barcode labels and with any type of inventory management system you use—paper records, spreadsheets, or a POS system.
Here’s how to set up an SKU and department- or category-based stock tracking procedure like the one pictured above:
- Create departments (or categories): Create master departments and/or categories that you can group goods under.
- Identify and map departments in-store: Link these departments or categories to specific areas and special displays on your sales floor and create a physical map identifying these areas.
- Use product SKUs with identifiers: Create a SKU numbering system that includes department or category identifiers within the number—see our guide to creating SKU numbers for more on this.
- Assign SKUs to all products: Create unique SKUs for all of your products using this system.
- Record SKUs with product data: Include these SKUs when you enter your product data into your inventory management records or POS system.
- Print product SKU labels: Create and print labels with the new SKUs—with barcodes if you’re using a POS system that prints SKU barcode labels with product names and pricing, like Square for Retail.
- Tag stock with SKU labels: Tag existing and incoming stock with SKU labels during receiving procedures.
- Note overstock storage locations: When needed, note overstock locations in your product data system so stored stock isn’t forgotten.
- Note stock moves or special displays: Also when necessary, note any stock moved to different areas, such as store windows or displays, in your product data system.
- Make it public: Train staff on the new stock tracking system and post a printout of the sales floor department map in the backroom and by registers for quick reference.
Once in place, with a quick glance at a product tag or SKU lookup, you’ll know where the item is located on your sales floor. This speeds up restocking and reshelving tasks, and more importantly, lets you provide better customer service and sell more goods.
Create a Storage System: In addition to having an organized sales floor, you have to know where your stock is stored. Forgotten products shoved to the back of displays or storeroom shelves result in unsold goods, miscounts, over-ordering, and excess stock. All of this equals money lost for a small retailer.
3. Perform Regular Inventory Counts
Once your product database is established and your inventory is organized, the next step is to perform consistent and accurate stock counts.
Stock counts are an integral part of any successful inventory management plan and retail store operation. If you don’t know what products you have in stock and how many of each, it’s impossible to place accurate restock orders. This leads to sellouts and overstock situations, all of which impact profits.
Plus, without accurate counts, you won’t know when you need to reorder or you’re sitting on excess stock that needs to be marked down.
Maintaining accurate stock counts prevents all of these costly headaches. Along with keeping inventory levels on track, counts help you spot inventory problems. Issues like incorrectly shelved or displayed goods, inventory shrink from theft, unrecorded damage, or receiving errors all come to light through inventory counts.
Inventory Count Procedures guide how you handle the two different types of stock counts that retailers use—cycle counts and annual counts.
While we suggest using a POS system to maintain your inventory counts as you sell and acquire goods, you can also use one of our free templates for your counting procedures.
Periodic counts, called cycle counts, are partial counts of a line, department, or other grouping of goods. A cycle count procedure includes:
- Select category: Choose the merchandise you want to count and either filter that item in your POS system or make a list of items to count using paper logs.
- Pull your inventory count sheet: Count sheets show the expected current amount of inventory you should have on hand, barring any shrinkage. This number is easy to find on your POS system because it tracks your inventory levels live as you make sales. If you are using a manual system, you will have to determine this number yourself based on how many items you should have started with (based on your purchase orders) minus how many of those items you have already sold.
- Assign counts to staff or teams: Give a staff member your inventory count sheet and ask them to count the physical inventory and record any discrepancies. For small counts, one person can handle counting and recording numbers. For larger counts, however, it is faster and more accurate to assign teams of two.
- Check discrepancies and the source problem: If you find unexpected shortages or overages, double-check to ensure all stock was found and counted accurately. If the discrepancy turns out to be accurate, you will want to investigate the shrinkage and determine where the problem started.
- Adjust inventory numbers as needed: Make adjustments to your inventory records so they reflect your physical counts. Be sure to note the reasons for any adjustment for accounting purposes.
How often you perform cycle counts depends on your business and the inventory management technology system you use:
- Paper logs or spreadsheets: If you don’t adjust inventory daily or weekly to reflect sales, you’ll need to perform cycle counts to get accurate stock numbers each time you reorder.
- A POS system: When using a POS system, stock numbers automatically update with each sale, so cycle counts will mainly help spot-check stock numbers on fast-moving goods and guard against inventory shrink through receiving errors and theft.
Annual counts are year-end counts of your entire inventory for accounting and tax purposes. Since these are store-wide tasks, annual counts are generally done after hours or on a day the store is closed. Depending on the size of your operation, annual counts can be handled with just your staff, but if you have something larger, you might want to hire helpers to come and speed up the process.
Just like with cycle counts, using a POS system will simplify your annual count process because it prepares all of your count sheets for you based on your inventory levels and up-to-date sales numbers. Additionally, POS systems streamline your accounting procedures and will keep them organized in one place. If you do decide to go the manual route, you can opt for our count sheet templates to keep yourself organized.
To perform your annual count, follow these steps:
- Prepare sales floor and storage areas: Organize and tidy all stock areas and locate any overstock that’s not on the sales floor so counters don’t waste time looking for products on their lists. This will make things easier to find and count when the time comes.
- Have a system cut-off time: If you use a POS system, make sure all pending sales and returns are completed. Then assign a system cutoff so no sales or other inventory-affecting transactions are logged between when you pull your stock counts and start counting.
- Print inventory count lists: Print or prepare your count lists and sort them by line, category, or department—whichever works best for your counting teams.
- Assign two-person counting teams: Assign two-person teams to count specific areas, lines, or categories. Ideally, one person is counting (or scanning) and the other is recording (if using paper sheets) and spot-checking counts. The two-person team is widely used and a proven way to get the job done quickly with very few, if any, errors.
- Check discrepancies and source problem: Like cycle counts, if you find unexpected shortages or overages, double-check to ensure all stock was found and counted, including overstock, and that the correct items were counted. Then, try and figure out where the discrepancy arose.
- Adjust inventory numbers: Adjust your on-hand counts in your inventory management system after the counts and spot checks are complete, and note the reasons for each adjustment (damage, shrink, etc.) for accounting and tax purposes.
- Print a year-end inventory report: If using a POS system or spreadsheets, it’s a good idea to create a complete printout of your annual count for your records. This should include your final adjusted on-hand numbers, plus your year-end inventory valuation for accounting and taxes.
If you perform regular cycle counts, your annual count should reveal few surprises. If you do end up with big shortages or overstock issues, address adjustments and valuations with your accountant to be sure they’re recorded correctly for tax purposes. Then, see if you can identify the problem—such as poor receiving practices, theft, or inaccurate purchases due to bad stock counts—and put the procedures covered here in place to prevent them in the future.
4. Analyze Your Sales & Inventory Metrics
Once you’ve cycled through some inventory and collected your data, you need to use that data to measure your success and make adjustments to your process. Keep in mind that analyzing your data is not actually a discrete step in the retail inventory management process but rather an ongoing evaluation of its effectiveness.
Here we will take a look at some of the most important metrics in retail inventory management, how you can calculate them, and what they can tell you about your business.
If you use a POS software like Square or Lightspeed, they will calculate all of these metrics for you and you will be able to monitor them in real time with the click of a few buttons.
Use Low Stock Alerts to Stay Aware of Low-Stock Items
A key metric that you should keep tabs on for good inventory management is your low-stock items. You can do this either manually by keeping a constant eye on your inventory and spotting low stock products or automatically by using a POS system that sends out low stock alerts at set minimum inventory levels.
With both Square and Lightspeed, you can set a low stock threshold, say 45 units. This would then enable your software to send you notifications when any product reaches 45 units, which means it is time to place a reorder.
Keeping an eye on your low stock will help you avoid stockouts and frustrated customers. It will also give you a better picture of your stock so that you can make more informed purchases in the future.
For example, at my boutique, when we first introduced loungewear to our brand, we ordered in very small quantities to avoid having excess if the launch was unsuccessful. However, we soon learned that loungewear was extremely popular, and we were constantly going to face low stock alerts and stockouts if we continued to order in such conservative quantities. Our loungewear orders soon grew in size, and we were able to keep stock around consistently and meet our customers’ needs.
Calculate Individual Product Profits to Find the Biggest Impact on Your Bottom Line
One of the most important things you should determine to manage your inventory is the profitability of individual products. This is not always as simple as which item sells the most frequently or which item has the highest price tag. For example, say your most popular products are hair clips. While you sell these in high volume, they have a low profit margin, so they actually yield a low overall profit. On the other hand, say you sell a custom gown only about once a week, but because they are expensive with high margins, custom gowns are actually your most profitable product.
Understanding the profitability of your products will help you decide when to run sales, whether you should reorder, the quantities that you should reorder, and how you should price your items. It can even guide your merchandising process.
If you have a POS system, you can automatically pull reports on your products and see how individual items are performing in real time. Otherwise, you can refer to our Gross Margin and Markup Guide to learn how to calculate the profitability of your products by hand or use our gross margin calculator.
Check Your Inventory Value to See How Much of Your Cashflow Is Tied Up
Another metric that you should be aware of when managing your inventory is your inventory value, or the dollar amount that your on-hand inventory is worth. With a POS system, you can determine this number instantaneously. If you choose to go the manual route, you will have to either run frequent counts or rely on estimations to determine an exact inventory value.
Either way, knowing your inventory is not just important for your financial statements, but it also gives you insight into how much profit potential you have sitting in unsold inventory. To calculate your inventory value by hand, follow these steps:
- Count the inventory you have on hand.
- Calculate the gross profit that each item would yield if sold.
- Add up all the individual product’s gross profit.
- Your total is your inventory value.
While it can be done, this method takes a lot of time and energy. We highly suggest using either a POS system or inventory management software to do these types of calculations for you so that you can make more informed decisions about your business.
Use Inventory Turnover Ratio to Identify Slow-Moving Products
Your inventory turnover ratio measures how efficiently inventory is turned into sales. In retail, the average turnover ratio is around 8.6%. A higher inventory turnover number typically indicates a healthy business, whereas a lower number tends to indicate that a business is suffering. There are, of course, exceptions to this rule.
Knowing your inventory turnover can help you decide how and when to run sales, if your pricing is off, and what items will need to be ordered more or less frequently (or never again).
At a minimum, you should calculate your inventory turnover rate annually. A POS system will be able to produce your rate at any time, but to calculate your inventory turnover ratio by hand, use the following formula:
Inventory Turnover = Cost of Goods Sold / Average Inventory
Identify Best Sellers to Prevent Stockouts
Another thing that you should identify when doing inventory management is your best and slow sellers. Your best sellers are your products that sell the most often and thus require larger order quantities and more frequent repurchases to avoid stockouts. On the other hand, slow sellers are products that sell less frequently and therefore require restocks less often and in smaller order quantities.
You can identify your best and slow sellers easily on POS systems, or you can use your own sales data and observations. Either way, knowing your best and slow sellers is a great way to help gauge order sizes, understand your customer preferences, and make more informed purchasing decisions.
Use Past Sales Performance Data to Inform Product Purchases
The final thing you should be looking at to get a complete picture of your inventory is your past sales data. Your past sales data can provide insights into things like seasonal trends, future demand, and consumer preferences, and will help you make better-informed purchasing decisions overall.
Inventory management software and POS systems can run reports that project future demand based on past data. They can even factor in things like seasonality and lead times to help you better anticipate your reorder schedule.
If you want to learn more about metrics that can help you drive sales, read our guide to retail analytics.
5. Create a Data-Backed Purchasing Process
Once you’ve set up a data management system, stock tracking, inventory count procedure, and have an understanding of how your inventory is moving, you’re set to make profitable purchasing and pricing decisions. Now you can combine your sales data with your inventory numbers and make smart purchasing and pricing decisions.
How you do this depends on how you track your sales and inventory—using a POS system or manually using paper logs or spreadsheets—but it all can be outlined with procedures.
Purchasing procedures tell you what you need to purchase and how much and often. Pricing and promotional procedures spot slow-selling items and apply promotions to move them out quickly and profitably. Here are sample procedures for each task.
Establish a Retail Purchasing Procedure
The goal of purchasing is to order enough stock to cover sales over a period of time, but without ordering excess stock that you’ll eventually have to mark down. This is one of the biggest ongoing tasks for any retail store owner. The procedure you’ll use depends on how you track your sales and inventory—by hand, in spreadsheets, or using a POS system with automated purchasing features.
Here are the steps in a typical retail purchasing procedure:
- Set aside time for purchasing: Rushed purchases can be problematic, so set aside time to run your numbers and make smart restock orders.
- Review low inventory numbers: A POS will alert you when the number hits the low threshold, and you can pull reports to see other low levels. If you use a spreadsheet, you can sort your numbers low to high. For paper records, pull your low counts or tallies.
- Run your sales numbers: Pull your sales reports and see which hot sellers and evergreen products are sold out or below or nearing reorder levels. This is the start of your reorder list. A POS system does this for you, but you’ll need to manually compare spreadsheets or paper logs.
- Plan your purchases: Hot selling, profitable goods that aren’t hitting the end of the season should be first on your reorder list. After those, plan low-level reorders based on stock levels, how fast the items are selling (sales velocity), and how long it takes items to arrive once ordered (lead time). Manual methods require keeping your sales and inventory records updated and accurate, and closely reviewing them each time you create a purchase order. But there are POS systems that also let you quickly and easily create purchase orders based on the reorder points you set.
Submit and Store Purchase Orders
A purchase order is a form used to request products or services from your supplier. It includes details about items that you intend to purchase, including its unit cost, a short description or photo of the product, and the quantity that you want.
You should be sure to keep a copy of all of your purchase orders to use as a tool for checking received quantities and order accuracy. For example, you should contact your supplier when you receive 20 units of candles, but on your purchase order, you see that you ordered 45.
6. Record Stock Receipts Correctly
Suppliers make mistakes, plain and simple. They ship orders short, have unreported backorders, and ship the wrong goods; damage also occurs en route. Without a tight receiving procedure to accurately check and record received goods and catch errors and damage, you’ll wind up with problems.
Inaccurate stock receipts directly affect your counts and that trickles down to all related inventory management tasks. Ultimately, receiving errors lead to surprise stock outages or unrecorded overstock, incorrect reorders, and paying for items you didn’t order—all of which eat into your profits. The fix is putting receiving procedures in place and recording stock receipts. If you do, you’ll sidestep huge inventory management headaches and costly mistakes down the line.
To ensure that your stock receipts are accurate, use the following procedures:
- Count all units in the shipment: Before opening boxes or unpacking pallets, make sure you received all of the packed units expected. If your shipping labels or freight bill-of-lading state “1 of 4, 2 of 4,” etc., make sure you have all four units. If not, track those to see if they’re still en route and arriving separately.
- Organize your unpacking: Unpack the entire shipment and organize products for a receiving count.
- Count products against your purchase order: This is the most crucial step! Do not rely on your supplier’s order slip for accurate receiving—if it got your order wrong, this will not show up on the internal slip and will only be apparent against your original purchase order.
- Note errors, shortages, and any damage: If the received goods don’t match your purchase order, note problems on the paperwork and follow up with your supplier.
- Adjust inventory counts for received goods: Update the stock counts in your inventory management system. If you use a POS system, you simply receive the purchase order, and it automatically adjusts your stock counts. If using paper logs or spreadsheets, you’ll need to make count adjustments manually.
Once you have checked your purchase orders against what your supplier actually sent, you can create a stock receipt. A stock receipt is a document that records all the goods you got from your supplier. The biggest thing here is that you want your receiving numbers to be accurate. If you have discrepancies in your initial order count, all your future counts will be based on inaccurate figures, leading you to false conclusions about your inventory.
7. Establish Procedures for Handling Returns & Unsellable Inventory
It’s important to get unsellable inventory off your floor—and your books—as quickly as possible. This includes unsellable returns, incorrect or damaged stock shipments, in-store damages, and unsold stock like seasonal goods can be returned to the supplier. This inventory, often referred to as “deadstock,” has a bad habit of stacking up and affecting inventory counts and valuation reports. So, you need to regularly deal with these goods by adjusting counts and values, recording reasons, and disposing of as needed.
Here are the steps you can use to create your own deadstock procedure that keeps your shop tidy and stock counts and books up-to-date.
- Log all damages and unsellable returns: Keep a running log of damaged goods and unsellable customer returns and plan to deal with these regularly, like weekly, biweekly, or monthly.
- Remove goods from stock counts: If you use a POS system, unsellable customer returns can be removed from counts when returns are processed, and in-store damages can be adjusted when found or in a weekly batch. For paper logs or spreadsheets, regularly review your tracking logs and make adjustments as needed.
- Specify holding areas: Designate a space off the sales floor to hold damaged, unsellable, and mis shipped goods.
- Dispose of unsellable goods regularly: Don’t let your holding area stack up. Keep this tidy by regularly donating unsellable but otherwise usable goods to local charities and returning mis shipped or defective goods to suppliers—preferably using their prepaid return shipping labels. If needed, photograph damaged or defective items as a record for supplier credits. Deal with these items as instructed by the supplier.
- Deal with pullbacks promptly: Pullbacks are items removed from the sales floor and shipped back to suppliers for credit, like seasonal goods or other unsold items with return agreements. Pull, document, and return pullbacks per supplier instructions in a timely manner to receive credit and clear your sales floor for profitable goods.
8. Use Markdown & Promotions to Move Sellable Dead Stock
Along with purchasing to maintain stock levels on hot sellers and evergreen products, you’ll want to regularly review sales velocity and levels on slow-moving items too. Slow movers should be marked down and moved out as quickly as possible to free up cash and floor space for more profitable items.
Slow movers include:
- Products related to slowing trends: Trends hit hard and these items can be some of your bestsellers for a while. If you stocked up, put these on sale the minute you see the trend dip because they rarely make a quick comeback.
- Seasonal products nearing the end of the season: The list of seasonal goods goes on and on—swimsuits, holiday-themed goods, outdoor dining, winter sports gear, etc. Put these items on sale midseason to ensure you don’t have them on clearance at loss pricing months later. Or, put return agreements in place with suppliers for unsold seasonal goods; many do this.
- Bad buys: Are tea cozies not the comeback hit you thought they’d be? Or are the must-have see-through jeans not flying off the shelves? Cut your losses fast on bad buys by slashing prices. Or, if you’re taking a chance on specialty market goods, have a return agreement with your supplier in case the product is a dog.
Don’t hesitate to clear out your slow movers regularly using markdown and promotion procedures.
- Identify slow-movers: Purchasing reviews are a good time to scan for your slow-movers.
- Create markdown schedules: Have a markdown plan over a prescribed time period—10% off for week one, 15% off for week two, and so on. This bumps up sales at more profitable price points rather than instant deep discounts.
- Use sales and savings displays: Don’t hide your sale items in a sad clearance corner. Instead, use them for attention-grabbing displays to draw customers throughout your store.
- Send out promotions: Market deals like buy-one-get-one (BOGO) discounts or invitation-only clearance events through social media, ads, email, and loyalty program promotions.
Discounts and markdowns are part of healthy inventory management, so don’t shirk this task. Use this procedure to keep inventory moving out so you can bring in fresh stock. Done right, sales promotions draw customers in for the deal and give you the chance to cross-sell more profitable goods too.
Retail inventory management is critical to efficient operations and effective cash management. It’s helpful to turn inventory management techniques into a set of procedures to ensure that product data, stock counts, receiving, and location tracking is all handled quickly and accurately. Procedures can be developed around whatever inventory management tools you use—paper logs, spreadsheets, or a POS system that directly ties inventory to all sales activities.
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