We live in a world of finite resources. We only have so much time, money, and space to build and scale our businesses.
One of the most essential skill sets across all industries is the ability to properly allocate the resources we’re given for maximum results. This is true of upper management professionals, football coaches, entrepreneurs, and eCommerce business owners. While their individual goals look different, they all involve getting the most out of what they have to work with.
For eCommerce business owners, instead of allocating players on a field, they are tasked with allocating inventory and products across sales channels. Knowing which channels have more juice to squeeze and which are dry is what helps set successful multichannel businesses apart from their peers.
In this post, you’ll learn:
What is inventory allocation?
Inventory allocation is the process of allocating inventory to specific locations in order to meet customer demand.
While it sounds simple on the surface, things can get vastly more complex.
Inventory allocation can be done manually or automatically, but it’s typically done through some form of inventory management software.
When eCommerce brands are selling via multiple sales channels, such as online marketplaces, it’s essential that you can see how much inventory is allocated across your website and brick-and-mortar store.
For example, a retailer may want to keep a certain amount of inventory in their brick-and-mortar store while also stocking inventory in their online store and in third-party warehouses. This could be because they only expect a certain number of in-person sales, because they have a higher margin elsewhere, or for any number of other business reasons. The important thing is that the retailer has the ability to parcel out inventory across channels.
The factors in the following sections are what dictate how much of each particular product is allocated to each particular channel.
If you’re selling perishable goods, that adds another layer of complexity to your inventory allocation strategy.
Why do eCommerce businesses need inventory allocation?
eCommerce businesses need inventory allocation in order to streamline their inventory fulfillment and meet customer demand.
Inventory allocation can help eCommerce businesses save time and money by ensuring that inventory is being sent to the right location at the right time.
Many customer service issues flow downstream from good inventory allocation.
Brands who get this right will enjoy many benefits, including:
- Mitigating the risk of overstocking inventory in one location and understocking inventory in another
- Mitigating the risk of overselling inventory and not being able to fulfill orders
- Improving multichannel sales management
- Building a scalable foundation for the business to grow
Even if you’re a small, boutique eCommerce shop with only one sales channel, inventory allocation can still help you save time and money by ensuring that inventory is where it needs to be, when it needs to be there.
The factors that affect how a business allocates its inventory
There are a few inventory allocation parameters eCommerce businesses should consider when trying to streamline their inventory fulfillment.
1. Allocation rules: When allocating inventory, businesses should consider their inventory strategy and what type of inventory they have on hand. Are you selling perishable goods or non-perishable goods? Do you have inventory that needs to be rotated?
Inventory allocation should go hand-in-hand with your overall inventory management strategy, whether that’s FIFO, LIFO, or something else entirely.
2. Capacity constraints: When allocating inventory, businesses should also consider their capacity constraints. This includes things like warehouse space and staff availability.
It’s impossible to allocate an infinite amount of inventory to a particular channel, so this is where using historical sales data can help you make the right decision or learn from previous mistakes.
3. Lead time: The lead time is the amount of time it takes for inventory to arrive at its destination. This should be taken into account when allocating inventory so that you can make sure inventory arrives on time and in the correct location.
For example, if you’re allocating inventory to a brick-and-mortar store, you’ll need to deal with lead time from your supplier.
However, if you’re trying to meet demand in your online store as well, you’ll need to consider both the lead time from your supplier and the lead time required to get the product to the end user.
4. Customer segmentation: When allocating inventory, businesses should consider their customer segments. This includes things like customer location, customer type, and purchase frequency.
For example, if you’re selling perishable goods, you’ll want to make sure that inventory is allocated to locations where customers are more likely to purchase it.
On the other hand, if you’re selling non-perishable goods, you may want to consider allocating inventory based on customer location so that you can minimize shipping costs.
5. Sales data: Sales data should be used when allocating inventory so that businesses can make sure they are allocating inventory to the locations where it is most likely to sell. This includes things like inventory turnover, customer demand, and channel sales.
6. Inventory data: Good inventory allocation can’t be done without real-time, accurate inventory data.
This means knowing what inventory you have on hand, where it’s located, and how much of it is available to sell.
This kind of accuracy is only possible with automated inventory management software.
7. Transportation and storage costs: There are many costs associated with both storing and transporting inventory.
This includes shipping costs, fuel costs, warehouse rental fees, and potentially even the payroll cost of staffing that warehouse.
Allocating inventory to a particular channel may satisfy customer demand, but it may also come with costs so high that it eats into your margins.
For example, allocating inventory to a brick-and-mortar store may require you to pay for inventory storage at that location in addition to labor hours at the store.
However, if the inventory doesn’t sell quickly enough, you may end up paying inventory carrying costs that exceed the revenue generated from sales.
This is why it’s important to consider both customer demand and transportation and storage costs when allocating inventory.
8. Returns: Unfortunately, not all inventory is sold, and not all sales are final.
Customers may return inventory for a number of reasons, including things like damaged goods, incorrect items being shipped, or simply changing their minds.
Businesses need to consider the likelihood of returns when allocating inventory and have a plan in place for dealing with returned inventory.
This may include things like setting aside inventory to cover expected returns, working with suppliers on return policies, or partnering with a returns management company.
If returns continue to be an issue, you may need to look into how to reduce returns to keep your business growing.
9. Seasonality: eCommerce is the business model most affected by seasonality, especially Q4 buying patterns.
Preventing stock-outs during the holiday rush can best be avoided by studying historical data and forecasts.
An IMS like SkuVault allows you to run these reports automatically, helping you once again make data-driven decisions in your inventory allocation.
How do I allocate inventory effectively?
Now that we’ve talked about the “what” of inventory allocation let’s talk about the “how” of inventory allocation. Namely, what are some best practices for inventory allocation?
Inventory allocation best practices:
Centralize your inventory
One of the best ways to improve inventory allocation is to centralize all your inventory data into one “single source of truth.”
This means having one centralized inventory management system that houses all of your inventory data in one place.
It’s not uncommon for businesses to have inventory data spread across many different repositories, including spreadsheets, scraps of paper around the warehouse, or even info in their own heads.
Decentralization will inevitably lead to error and dirty data, which will then lead to stock-outs, overstocking, and upset customers.
Inventory centralization is essential for both good inventory allocation and overall business health.
Not only does this make it easier to track inventory levels and sales data, but it also makes it easier to allocate inventory across multiple channels.
Study historical trends
If you’re tracking all your sales and inventory data in an IMS like SkuVault, you can study your records to best understand your bottlenecks. Ask yourself the following questions:
- Which channels have been most prone to stock-outs?
- Which channels have been most prone to overstocking?
- What are the average lead times on a channel-by-channel basis?
Understanding your most common inventory allocation issues will help you fix them in the future.
Set up automatic reorder alerts
A good inventory management system will allow you to set up automatic alerts that notify you when inventory levels reach a certain threshold.
This takes the guesswork out of inventory allocation and ensures that you’re never caught off-guard by stock-outs.
Of course, you’ll need to calculate the correct stock values needed for your particular business. This involves understanding your lead time demand and safety stock.
If you want to learn more, read our guide on how to use the reorder point formula for your inventory.
Speaking of safety stock…
Maintain safety stock
Safety stock is inventory that you keep on hand to cover unexpected spikes in demand.
It’s important to have safety stock because inventory is often unpredictable. You might get a sudden surge of orders that you weren’t expecting, or your lead time might be longer than usual due to supplier issues.
Safety stock is a delicate science. Keeping too much product on hand will result in dead stock, while not enough product on hand will result in stock-outs.
You can fall off the horse either way, and both are costly mistakes. This is why inventory management professionals use the safety stock formula to best understand how to calculate these values.
If you want to hedge yourself against the risk of stock-outs, there’s really no better way than with safety stock.
Use customer segmentation
Customer segmentation can also be used when allocating inventory.
Customer segmentation is the practice of dividing your customer base into groups based on shared characteristics.
This is usually done so that businesses can better understand the needs of each group and then allocate inventory accordingly.
For example, a clothing retailer might segment its customers by age, gender, or location. They could then use this information to allocate inventory to specific stores or channels.
Customer segmentation can be a helpful tool for inventory allocation, but it’s not always necessary. In many cases, inventory can be allocated on a first-come, first-serve basis.
It really just depends on your business and your inventory situation.
Conduct regular inventory audits
Regular inventory audits will help businesses keep track of their inventory levels and make sure inventory is being allocated correctly.
Audits are no fun. We get it. But they’re absolutely essential for inventory management. And you don’t need to shut down your entire operation to audit your warehouse.
Leverage cycle counting, which allows you to inventory a small section of your warehouse at a time. This will minimize the disruption to your business while still ensuring inventory accuracy.
Work with a third-party logistics provider
A third-party logistics provider (3PL) is a company that helps businesses with their inventory management and fulfillment needs.
Essentially, businesses outsource their entire logistics pipeline to another company.
3PLs typically provide warehousing, shipping, and other logistics services. And they can be a big help when it comes to inventory allocation.
A good place to start is to understand how much 3PLs cost to see if outsourcing makes sense for your business model.
Utilize just-in-time inventory allocation
Just-in-time inventory allocation is an inventory management technique that’s often used in manufacturing.
The goal of just-in-time inventory is to only produce inventory when it’s needed and not a moment sooner. This helps businesses avoid the cost of storing excess inventory.
It can be difficult to implement just-in-time inventory for eCommerce businesses because there’s often a lot of lead time involved in sourcing and manufacturing products.
The exception to this would be eCommerce businesses that manufacture all of their products in-house. In this case, just-in-time inventory would be much easier to implement.
However, it’s important to remember that even in-house products require materials, and those materials often have lead times from suppliers.
Unless you’re in the rare position of producing everything (including your materials) from scratch, you’ll need to consider materials allocation as well.
Try push inventory allocation
Push inventory allocation is an inventory management technique that’s once again often used in manufacturing but can be leveraged by eCommerce businesses.
The push inventory method involves producing products based on customer demand forecasts. In other words, you’re kind of “producing in faith” that customers will actually purchase your products.
Now, if you’re using a solid IMS with accurate reporting information, you should have nothing to worry about. However, it goes without saying that attempting this without an inventory management system is a recipe for disaster.
Push inventory is inventory that’s produced before it’s needed and then “pushed” down the supply chain to customers or retailers. The idea is to produce inventory before it’s needed so that businesses can avoid the cost of rush production.
The problem with push inventory is that it can result in high inventory costs, especially storage costs, if the inventory doesn’t sell as quickly as planned.
This is why many organizations combine push inventory with just-in-time inventory. That way, businesses can avoid the cost of inventory that doesn’t sell while still meeting customer demand.
We all have limited resources, and understanding where to put those resources is an essential skill set for eCommerce and warehouse business owners.
By following the tips above, you can streamline your inventory fulfillment process and avoid the cost of inventory that doesn’t sell, all the while keeping your customers happy and growing your bottom line.
Do you have any inventory allocation tips that we didn’t mention? We’d love to hear from you in the comments below.