Excess stock is inventory that is purchased in excess of the demand. But why all the fuss about it?
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It’s safe to assume that those dusty old piles of inventory lying around your warehouse that has not moved in ages are most likely excess, obsolete or dead stock. Besides the actual cost of goods, the warehouse floor space cost to house this inventory is costing you money.
Excess stock is inventory that is purchased in excess of the demand. But why all the fuss about it? Surely, logic would dictate that by having all this excess, you aren’t at risk of stock-outs? While that may be true, there are many downfalls to excess stock, and there are more effective ways to manage your excess and still maintain high customer service levels.
The more critical cash flow is in your business, the more important it is to identify your excess and minimize the risk of creating more.
Identifying excess stock
To quickly identify your excess stock, it is imperative that your inventory is correctly classified:
Non-stocked items
As the name suggests, the goal of non-stocked items is to hold ‘no stock.’ Any stock on hand (less your backorders) will generally be regarded as excess.
Stocked items
Identifying excess on stocked items requires additional information. The stock on hand must not exceed the “safety stock plus the replenishment cycle stock.” This is often referred to as the “maximum stock level.” Any stock on hand greater than this quantity is therefore excess and should not be in the warehouse.
Beware: the portion of this excess that can be disposed of without compromising customer fill rates requires a different calculation. See below for the impact of the lead time
- Forecasts must be as accurate as possible
- The lead time must be accurate
- The replenishment cycle must be correct
- Safety stock must be correctly set.
The impact on the lead time in the replenishment process cannot be ignored when determining the quantity of excess that can be disposed of. Remember that if the excess above the “maximum stock level” is disposed of and there are no purchase orders in the pipeline, any order placed now would only arrive a lead time later.
Tip: Before considering implementing an inventory management system, verify that the system includes the impact of the lead time when calculating the “disposable excess quantity” for stocked items.
The cost of excess stock to the business
The cost of carrying excess stock is not always obvious.
- Due to warehousing costs, stock-taking, insuring, shrinkage, and damage, excess stock increases operating costs and decreases overall competitive advantage.
- Lost opportunity cost; the money tied up in excess could have been used to purchase an optimal stock volume that sells fast. The more times you turn your stock in a year, the more cash and profit you generate. The longer the opportunity is lost, the more significant the impact on the business.
- The cash lying in the warehouse in the form of excess stock generates nothing of value. In fact, it will ultimately have to be provided for, written down, written off, or even scrapped. This impacts the bottom line, and management is usually reluctant to deal with it. Ignoring it does not make it go away. The impact just gets worse.
What causes excess stock?
- Over-forecasting is one of the most obvious causes as this results in over-ordering. The longer the lead time, the more dramatically over forecasting will create excess
- The temptation to purchase a larger than normal quantity in order to get a ‘good deal’ often ends up being a very bad deal. Accurate information, a thorough understanding of how money is made by turning inventory as quickly as possible, and a sound inventory management system are all essential when considering these ‘good deals.’
- Calculating recommended order quantities using lead times longer than the supplier’s actual lead time results in deliveries being received before they are actually required
- Ordering without an effective inventory management system to calculate the recommended order poses a high risk. Without a system, the Buyer will always have an opinion on what quantity must be ordered. This opinion may well be unfounded.
- Supplier’s minimum order quantities result in excess stock.
- Ordering non-standard products without a firm customer order often results in excess.
- Placing a poorly considered “initial purchase order” for a new product launch without thorough market research is a prevalent cause of excess.
- Over-ordering products with a limited shelf life.
- Over-ordering products with a short life cycle can result in excess stock that cannot be sold even at a considerable discount.
In summary
Excess inventory for any business that carries stock is inevitable, but this can be kept to a minimum. If you follow the actions below, you will reduce the risk of generating excess and facilitate the disposal of it at a minimal cost to the business:
- Use an inventory management system with effective classification, forecasting, safety stock, and ordering modules to place the best possible order in the first place.
- A key requirement of the system is a dashboard that identifies and displays the excess items by descending excess value.
- The ability to identify and correct over-forecasted items as soon as possible is essential.
- Periodically review lead times, especially for the suppliers from whom you purchase the most inventory.
- An excess will always be generated. Set up a formal excess stock disposal team.
Too much excess stock?
