What is Inventory Management and Why Is It Important?

Any company that sells physical products needs good inventory management. It’s an essential part of running a smooth business

In this article, we’ll go over what inventory management is, why it’s important, its benefits, and the different types of inventory management systems.

Let’s get started!

What Is Inventory Management?

Before we can define inventory management, we need to understand what inventory is. Inventory (aka stock) refers to all the goods, merchandise, and materials a business holds to sell for a profit. For example, the inventory for an ice cream business would include ice cream. But that’s not all.

Inventory can be divided into four separate categories:

  • Raw materials—These are the materials a company buys to make their product. If an ice cream company makes their own ice cream, this would be the ingredients like milk, sugar, water, etc.
  • Work in process—These are raw materials in the process of being transformed into a finished product. This could be the mixed ice cream ingredients. 
  • Finished goods—These are completed products that are ready to be sold. This could be the finished ice cream.
  • Merchandise—These are finished products bought from a supplier for resale. This could be finished ice cream bought from another company.

That said, inventory management refers to how a business orders, sorts, sells, and otherwise uses its inventory. It allows you to know how much stock to order and when to order it so that you never have too little or too much. In other words, inventory management helps your business keep a healthy inventory turnover rate.

For an ice cream business, good inventory management means ordering enough ice cream at the right times so that you minimize the chance of running out of ice cream or having ice cream go bad.

Why Is Inventory Management Important?

Good inventory management is important for several reasons. On the one hand, it helps prevent product shortages. On the other hand, it limits product spoilage, theft, and damage from having too much in stock.

In addition, public companies must make sure their inventory complies with the Securities and Exchange Commission (SEC) and the Sarbanes-Oxley (SOX) Act. So businesses are legally motivated to have good inventory management as well.

The Benefits of Inventory Management

Other reasons to invest in good inventory management include: 

  • Saving money by understanding stock trends
  • Improving cash flow by only buying a stock that sells
  • Tracking changes in customer demand
  • Optimizing warehouse space 
  • Developing a safety buffer with extra stock

For example, a good inventory management system can tell you what ice cream flavor is popular so that you can order more of it.

Types of Inventory Management Systems

So how exactly do companies manage their inventory? Well, there are 3 main types of inventory management systems: 

  • Manual inventory system—This is when you manually count and measure stock and record it on paper or in a spreadsheet. Most small businesses start out with a manual inventory system.
  • Periodic inventory system—This is when you count inventory at the end of an accounting period rather than when the inventory is purchased. It’s also a method commonly used by small businesses.
  • Perpetual inventory system—This is when you leverage inventory management software to streamline inventory management. It’s a method often combined with RFID tag scanning technology so you can get real-time insights on the stock.

In addition, many inventory management software is cloud-based these days. That means you can access them from multiple devices and locations and have them updated in real-time. 

Wrapping It Up

Regardless of what inventory management system you choose, having one is what’s most important. That way, your business will be more efficient, competitive, and profitable. Adopt an inventory management system today and you won’t regret it.