3. Key Inventory Management Techniques For Retail
Retailers can use several inventory management techniques for better inventory planning. Some approaches may be more effective than others and differ from company to company. Below are the most common inventory management techniques.
First In, First Out (FIFO)
As we mentioned above, the FIFO inventory management method for a retailer assumes that you sell the oldest products in your inventory first. This technique is easier to execute because it follows the natural life cycle of merchandise. In general, retailers favor selling the oldest products first, to prevent them from spoiling, becoming obsolete, or otherwise losing value.
Inventory can gain value over time, making it more valuable when it’s sold than when it was initially acquired. This is because, over time, the expenses associated with inventory generally increase. Thus, older inventory is generally acquired at a lower price.
Let’s say you sell men’s pants in your retail store, and the inventory management technique you use is FIFO. Earlier in the year, you bought men’s pants at $20 each. A few months later, the unit price of these pants has increased to $25 at your supplier. According to the FIFO method, the pants purchased at $20 were sold first. If you had attributed these first sales to the $25 pants, your profit margins would have been lower.
The FIFO method is ideal for retail businesses that sell perishable products. Grocery stores and convenience stores are ideal for this type of method. It is also suitable for businesses that sell seasonal goods.
Last-in, first-out (LIFO)
The LIFO technique involves selling the newest inventory first. These goods often have a higher cost than older inventory, reducing reported profits and taxes. However, this strategy has the danger of leaving inventory on the books indefinitely and undervaluing or overvaluing it relative to market costs. Let’s use the example of our men’s pants again.
Using the FIFO method, a pair of pants you purchased for $20 and sold for $40 will earn you $40. This profit will continue until you run out of the $20 pants in your inventory, at which point a new purchase price will be applied to the margin calculation.
On the other hand, the LIFO method calculated the profit margin based on the price of the newest batch of pants that you ordered. Say that you had ordered some pants at $20 each another batch at $25 each. Margin calculations will be done against the newest batch at $25, bringing down your overall profit and lowering your taxable income.
LIFO is an inventory data management technique commonly used in the U.S. but requires more book handling and is less simple than FIFO. This method is most appropriate for non-perishable products and heavy raw materials.
FSN stands for fast-moving, slow-moving and non-moving items. This method essentially divides inventory into three categories. The analysis looks at the quantity, consumption rate, frequency of issue, and use of the item.
- F refers to fast-moving items, which are items in your inventory that are issued or used frequently.
- S designates slow-consuming items, which are items that are issued or used during a specific period of time.
See related: Slow-Moving Inventory in Retail: How to Handle Your Overstock Products
- Finally, N refers to non-moving items that are not issued or used during a specific time period.
FSN analysis is similar to ABC analysis which allows you to go through your product list and identify products to be prioritized. To learn more about inventory control methods, visit our guide on the most common retail inventory control methods.