What Is Obsolete Inventory and How Can You Manage It?
For companies of all sizes, an important part of the business is ensuring that you do not have too little of an item or service to fulfill customers’ wants, but not so much that you don’t sell enough of your products. Understocking and overstocking can harm a company monetarily and can harm its reputation if there are constant issues with a company’s inventory.
While understocking minimizes a company’s profit, overstocking can harm a company even more. Overstocking is a problem because it often creates obsolete inventory that companies cannot sell at full value or cannot sell at all.
What Is Obsolete Inventory?
Obsolete inventory, also called dead or excess inventory, refers to inventory a company still has after they should have sold it. This means that a product has reached the end of its product life cycle without being purchased or used by consumers. Obsolete inventory consists of items that a company owns but has not recently sold and does not expect to sell in the future.
Many factors can contribute to inventory becoming obsolete. This includes inaccurate conjectures of consumer demands, low-quality production or marketing, fast-paced industry advancements and outdated or inadequate inventory systems.
More specifically, when companies overestimate how many consumers will purchase a product, they often overstock the item, and customers do not purchase the product as quickly or as frequently as the company projected.
Similarly, low-quality production of a product may also affect the number of obsolete inventory because if a highly anticipated item does not meet the standards of early buyers, fewer people will consume the product than what companies expected. If companies overstock an item in a fast-paced industry that quickly advances and expands, new versions of old products can become available more quickly than the old ones sold.
What defines an outdated or inadequate inventory system varies between companies because a company with greater stock and higher demands may need a more advanced system than a smaller retailer with little inventory. Although some companies may use less advanced systems, the more business a company does, the less likely cheap or basic systems will work effectively. These factors all can contribute to the accumulation of obsolete inventory and can hurt their revenue.
Understanding Obsolete Inventory Management
Inventory management requires a person within the company to be in charge of overseeing the ordering, storing and selling of the company’s inventory. Related to this is obsolete inventory management, which is the process of tracking any excess products that the company cannot sell and reporting those losses.
The key to understanding obsolete inventory management is understanding and meeting the demands of your customers. Ideally, your company should manage your inventory both online and in person. Specifically, while warehouses and storerooms hold your items physically, you should also have a digital system that files your inventory.
An easy way to help track and manage this is through cloud-based inventory systems with high-volume applications that can efficiently and accurately track inventory. Having an online system that updates in real-time can help you better gauge the demands of your customers. With the proper data and applications, you can decrease your obsolete inventory, essentially increasing income.
Inventory management is a necessary part of business, and you should not solely rely on digital software to track your inventory. Instead, you need to assess the needs of your company and utilize customizable software so that you can tailor it to your needs. Work with your software instead of counting on it to do the work for you. Take advantage of the different features your inventory management software offers to maximize your experience while minimizing obsolete inventory.
Not only do you have to work with your system, but you also need to analyze the data the system helps to provide. The analytics of your software should allow you to identify trends in sales, helping you achieve a new understanding of your customers, what they purchase and how they do so. Search for any patterns in the data and adjust your sales tactics and inventory to reflect the analytics.
For example, if you work for a retail company that has a physical store and an online presence of sales, use your inventory management system to see where your customers purchase things from most often. If you see high amounts of sales for one item and overstock of another, you can identify the things people are more likely to buy and focus your resources on those products rather than the ones that are likely to turn into obsolete inventory.
Inventory management is important not only for tracking sales, but it is a necessary part of keeping track of products and detecting stock discrepancies. Because most cloud-based software updates in real-time and works on multiple devices and not just on a singular position of sales system, managers can see who completed tasks and when. This eliminates any confusion about missing stock.
Because working with inventory management systems gives you data about your sales and products, it also gives you the tools to better understand your management skills by evaluating productivity and concerns in staffing.
Why Does Obsolete Inventory Matter?
Studies show that the average company has between 20 and 30 percent obsolete inventory at any given time. This matters because it costs your company a lot of money, and obsolete inventory creates waste in the disposal of unusable or unsellable products. So, not only do you have to account for the monetary loss of products that you invested too much into, but you also have to properly dispose of any remaining product at the end of its shelf life.
When a product is becoming obsolete, there are two accounting processes that companies must use to track the value of their inventory. An inventory write-down occurs when the market value of your inventory drops below its initial price range. To handle this, you can either markdown your product or write it off completely. An inventory write-off happens when you formally acknowledge that part of your inventory no longer has value. Both write-downs and write-offs reduce the net income of the company.
According to the U.S. Census Bureau, the inventory/sales ratio at the end of June 2021 was 1.25, meaning that for every $1 in sales, the company has $1.25 of inventory. This is problematic for both small and large companies because the money already invested then becomes a financial loss for them. Too many financial losses can add up and put the company at risk of debt and closures.
How to Identify Obsolete Inventory
Although the shelf life of inventory differs based on what type of company you have, there are two key terms leading up to obsolete inventory that can help you identify future obsolete inventory. Slow-moving inventory includes products that are not selling quickly and have been in storage or warehouses for a certain period. Excess inventory refers to inventory not yet sold and past its expected sell point.
Identify Obsolete Inventory
The best way to identify obsolete inventory is to recognize slow-moving and excess inventory before they become obsolete. This allows you to prepare ahead of time and come up with a plan to help move along sales of the product. This can include mark-downs and clearances or focusing a marketing campaign on that product to draw attention to it.
Track Past Sales Records
Another way to make sure you can recognize obsolete inventory is to diligently track past sales records. Specifically, using digital inventory management systems allows you to organize financial statements, including write-downs and write-offs. Knowing the company’s history of sales and overstock can help you understand business trends and product movement patterns.
Identify Usage Patterns
You can also identify obsolete inventory by the stock you have on hand and usage patterns. You can calculate months on hand by dividing monthly usage from the amount of stock. This equates to the ratio of the average number of months inventory stays in stockrooms or warehouses. You can adjust this ratio with outside factors that may affect the product’s sales, including season, location and past sales history.
Calculate Inventory Turnover Ratio
Additionally, you can calculate your inventory turnover ratio to see how quickly the product leaves stockrooms or warehouses. You can get the inventory turnover rate by dividing sales of a product by average inventory to get an idea of the time it takes for you to sell products to customers.
Calculate Days to Convert Inventory to Sales
Calculating the number of days it will take for the company to convert inventory to sales is another way to identify obsolete inventory. You can find the number of days by dividing average inventory by the cost or sales, then multiplying this number by the number of days in a sales period. If the result of this equation is a low number, that means that your company more quickly turns inventory to sales.
If the result is higher, this indicates that the product may not be selling well. This means that if you have a high number of days of outstanding inventory, it is more likely that your stock will become obsolete.
Consider Holding Cost
Another factor to consider when gauging the probability of inventory becoming obsolete is the holding cost of the product. This means that you should think about whether you are spending money on warehouse or storage room space to house these items that are not selling. If you are, you not only are losing the investments you made on purchasing the stock, but you are also spending money to house these products.
On the other hand, if you are not spending money on storing your obsolete inventory, it may take up space you could use for other, more profitable inventory ventures.
After performing these calculations and understanding the money put into a product versus the money you receive for the sale of the product, you can see where you make a profit and where you are not making financial gains. Inventory planning and managing are difficult tasks that take business operators a lot of experience to perfect.
It is important to understand that financial losses are not necessarily your fault if you follow the trends of past sales. To combat this, however, as the world changes and purchasing habits evolve, you need to adapt to these changes.
Seeing your company and product from the perspective of the consumer is a good step in understanding how to stock your inventory. When you combine the inside information you have about company sales with the outside view of your company and how to make the product desirable for consumers, you will be able to increase attention toward your inventory before it becomes obsolete.
How to Avoid Obsolete Inventory
Being able to identify slow-moving and excess inventory and knowing the sales trends of your products before they become obsolete can help you save your company from the financial burden of obsolete inventory.
For example, if the shelf life of a product is one year and you still have a lot of that product left after four months, you can classify that as slow-moving inventory. If after another four months you still have that inventory on hand, you can consider it to be excess. After the one-year shelf life of the product ends, then that inventory is obsolete.
Once you categorize the inventory as slow-moving, you now know that you should pay attention to the sales of that product and employ strategies to attract consumers to it. If the item still is not sold and it becomes excess inventory, amp up your approach to selling this product and push consumers toward it. If you hold on to this inventory until it is obsolete, you will have to just accept your losses and analyze your data to improve the sales of the rest of your inventory.
To avoid obsolete inventory, you must use this data to understand how much of a product to stock and when to stock it. Staff needs to know when they need to order an item to avoid under or overstocking. You can use inventory management software to trigger alerts about when a high-sale item’s stock runs low.
Although there is a lot of uncertainty in the economy and the complete sales of all items are not guaranteed, understanding your data analysis, business history and customer demands makes it easier for you to predict your inventory needs. Analyzing your company’s data and working with digital inventory management systems adds ease to your inventory management and better prepares your company to avoid obsolete inventory.
Find the Inventory Management Product For You at Finale Inventory
Overall, inventory management is an important yet difficult part of keeping a business profitable. All industries, and even different companies within the same industry, have different strategies to avoid excess obsolete inventory. Regardless of the type of company, there is customizable software that will work for you.
At Finale Inventory we are a fast-paced and adaptable inventory management system that collaborates with companies to help meet their specific inventory management needs. This software can help a growing company keep pace with their inventory needs based on their sales. We work for a variety of industries and companies, helping both multi-channel e-commerce businesses and warehouse supply businesses keep track of their inventory and sales.
You can sign up for a free 14-day trial today where we offer free training to assist with the onboarding process and show you how to use the process. By the end of your trial, you should see if we fulfill your needs, and you can then sign up for a paid membership.