What is the Purpose of Stock Control?
If your business deals with physical products, you need stock to be able to sell. The purpose of stock control is to make sure you always have enough stock for your customers, while limiting the amount spent on storing and buying in stock.
On that level, stock control seems simple. But unless your sales are identical week in and week out, it’s not so simple in practice.
As a simple example, consider a manufacturer of ice cream; the wholesalers and retailers they supply will be placing much larger orders when hot or sunny weather is predicted. The amount of stock they need to provide for these times is much larger.
The problem is, weather prediction is only accurate a few days out. It’s not enough notice to make all the excess. To satisfy their customers, they need to have reserves of pre-made ice cream ready to sell. And that means they need to hold more stock and absorb the cost of that stock.
Why is Stock Control Important?
Done correctly, stock control keeps your costs down to a minimum, while allowing you to make as many sales as possible. Good stock control could be the difference between loss and profit. Great stock control increases your profitability on every single sale.
The advantages of stock control should be clear. However, let’s take a closer look. What costs are tied up in holding stock, and how much can holding less stock cost you?
What Does It Cost to Hold Stock?
The usual rule of thumb is that held stock costs a third of its value per year. If your warehouse holds £1,000,000, you will be spending around £333,333 over the year to hold that stock.
This number must be adjusted if your stock is perishable or if it requires special facilities. The ice cream manufacturer from our earlier example holds perishable stock, increasing cost, and must use freezers to maintain it, which also increases the cost.
Other common costs include:
- Wages – your warehouse team need to be paid
- Returns – Some products will be poor quality and need to be returned. While you’ll receive credit, the inspection process has costs of its own.
- Warehousing Fees – Your storage space has costs. Rent, insurance, electricity, and any security costs are all factored in.
- Obsolescence – If your product is rebranded or replaced, any remaining stock will either be unsold or sold at deep discount. This stock was still bought at full price.
Another significant cost is stock which hasn’t been replaced but can’t be sold.
Stock that can’t be sold (because it’s out of date, damaged, or missing) is called shrinkage. Shrinkage of perishable goods can be reduced through stock rotation.
Stock rotation involves arranging your stock so that the oldest material which can be used is used first. This is also known as FIFO: First In, First Out.
Shrinkage through damage can also be reduced by arranging stock carefully. High towers can collapse, leading to significant damage. Items stored on the ground might be damaged by a spill.
Shrinkage through theft can be reduced with better security. More valuable stock (and smaller stock) increases the importance of this.
While you can reduce shrinkage, you should never assume it will reach 0% and stay at 0%. In fact, if you work in the food industry, a significant amount of shrinkage should just be assumed.
If the cost of your held stock is too high, your business may have cash flow problems. This is especially true if you use loans or other financing to buy your stock – that money is now costing you interest, but is tied up in stock.
What Does It Cost Not to Hold Stock?
Holding little stock reduces all these costs a lot, but it increases the chance of a stock-out. Stock-outs mean that the company is out of stock and cannot fulfil orders for their product. These businesses may choose to refuse the order or accept it and hope to process it before the customer becomes frustrated.
Consequences of a low stock level include:
- Longer lead times for delivery – Amazon has established next-day delivery as a standard. If you can’t promise fast delivery, you miss out on a significant chunk of your market.
- Uneconomical purchasing – Bulk purchasing discounts make buying 1000 units at once much cheaper than buying ten batches of 100 units. There may be other savings on delivery costs, too.
- Can’t handle large orders – Especially if they’re unexpected, large orders can easily drop when your stock levels are lower than usual. Missing out on any order can hurt profitability; missing large orders is much worse, as it can also lead to…
- Long-term loss of goodwill – Customers who have their orders refused stop treating you as a reliable supplier. Customers whose orders are delayed can become frustrated, leading to negative online reviews, bad word of mouth, and more. Failing to fulfil one sale doesn’t just lose revenue from that sale; you could potentially lose dozens or more over time.
So How Much Stock Should You Hold?
The typical answer involves some calculations and some estimations. You know how quickly your stock is sold, and what the shrinkage rate for that stock is. Taking into account the factors we listed earlier, you can calculate the cost of holding a specific amount of stock.
It’s harder to calculate the costs of not holding much stock, but you can make estimates. How quickly you sell a given product lets you figure out roughly how much stock you ‘expect’ to sell in a given time. How many of those orders drop out when you carry ¾ of the stock? What about when you halve your maximum stock level?
One theory says you should try to find the ideal balance between high stock levels and low. But you could also try a Just in Time (JIT) approach, if you’re confident in your stock management.
Just in Time Stock Control
Just in Time stock control is done with a low held stock (or even no held stock) and a responsive stock management system.
The idea is that stock comes into your dispatch facility ‘just in time’ to fulfil customer orders. This requires accurate records, good predictions, and responsive suppliers. (If the products you sell have a high lead time, JIT is probably not going to work for you. If their lead time is low, you may be able to make it work. Especially if customers in your industry don’t expect next-day delivery.)