Predicting seasonal demand is something of a performance art. First, you gaze into your crystal ball to determine which items will be hot. Then, you tiptoe across the high wire, teetering between backorders and overstocks. Traveling from initial forecast to season completion requires courage and skill. One slip in your balancing act, and sales or profits plummet.
Inventory management is especially challenging when 75%-90% of a company’s annual sales take place within ten to 16 weeks of the year. There is little time available to adjust for runaway items or miscalculations. The season is often over before new orders can be submitted or existing orders revised. Fear of huge overstocks can create backorders; fear of lost sales can easily create an overstock situation. The key to successful seasonal forecasting is finding the right balance between backorders and overstocks to maximize service and minimize expenses.
Every inventory level carries some risks — too much inventory increases liquidation and carrying costs, whereas too little inventory bumps up fulfillment costs, cancellations, and returns, and reduces customer lifetime value. Calculating the costs associated with each inventory level and combining this information with all other factors will optimize inventory management. If you follow the five steps below, you will be able to forecast seasonal demand more accurately:
Start with the company’s sales projections to determine your overall inventory requirements. Ultimately, you will drill down to the item level. The sum of the parts must equal the total. This means that the sum of the individual items forecast must equal the total sales projection. If the campaign totals $20 million, with a 60% margin, then the total inventory forecast must equal $8 million.
The sales projections must drive the inventory forecast. The forecast begins with the initial sales projection. Every revision requires updating the forecast. Once the orders start trickling in, you must adjust the outstanding orders quickly. A good forecasting plan includes campaign completion information; this allows the inventory forecast to continue to match the sales projections.
Segment the total inventory forecast into product class divisions. This makes the numbers much more manageable. You can even delegate compilation of the data to different members of the inventory management team as long as you communicate all updated information and there is a team leader managing the process.
Use historical sales information to weight product classes appropriately and define the order curve. The overall curve will follow the sales curve, but individual classes may vary from the norm. Be sure to factor in special promotions when analyzing the information. A special discount offered in the previous campaign will skew the historical data. Planned promotions in the new campaign will affect the projected curve. Appropriate numerical adjustments have to be applied.
Continue the segmentation process down to the item level. Consider historical sales information and new projections to determine the total units for each carryover item. Begin with the presumption that each item will perform exactly as before. For instance, an item with 1,000 units sold in the previous campaign would sell 1,100 units if the forecast were 10% higher. Apply historical data for similar items to project sales for new products.
Once the initial item forecast is complete, adjust sales by weighting each item. For example, a carryover item that sold exceptionally well in the last campaign may need to be adjusted down since it has already been presented to the customer base. A new item may need to be adjusted up because it hasn’t been seen before. Work with the marketing team to gain a clear understanding of the customer/prospect mix. A campaign going mostly to prospects may perform similarly to the previous one because the products will be fresh to the majority of the recipients. When this step is finished, forecast the total sales for each item.
Once the crystal ball stage is complete, it is time to build the high wire. Calculate all of the costs associated with inventory, backorders, and overstocks to determine the best inventory level for each item. Inventory expenses include carrying costs, product movement, and administrative overhead. These costs will vary significantly as the pendulum swings between backorders and overstocks. Backorder expenses include additional fulfillment processing and shipping costs for multiple shipments, lost opportunity from cancellations and missed sales, increased returns resulting from late shipments, and reduced lifetime value. Overstock expenses include liquidation costs and restocking fees.
Using the sales projection curve and demand forecast, break the total units for each item into orders. Be sure to consider lead times, vendor reliability, and processing. There will be three types of orders: Initial orders, which should cover the inventory until sales data can be analyzed to revise the plan; confirmed orders, which are firm and will cover the minimum sales forecast; and orders that are pending confirmation or cancellation depending on sales. If these orders are set up correctly, the vendor performs as promised, and the inventory team follows up in a timely manner, your merchandise inventory levels will provide maximum coverage at minimal expense.
Communicate, communicate, and communicate. Failure to communicate with your marketing team and vendors will derail the best inventory plan. Regular updates from marketing are required so the forecast can be adjusted. All needs must be communicated to vendors. They are your partners in this process. A good relationship with key vendors will reduce costs considerably and improve service levels. Work closely with them to ensure that your inventory management plan succeeds. This is a process in itself — it begins with the initial plan and continues throughout the campaign.
Julie Langlas, President of Educational Aids Inc., has a seasonal business that receives most of its annual orders in a ten-week period. Her inventory management challenge is increased by her shipping guarantee. Every order is guaranteed shipment within 72 hours or the customer receives a $5 coupon. There are no caveats such as “in-stock items only,” so inventory must be available when the orders are placed.
Langlas spends her off-season time planning her campaign and building relationships with vendors. The partnerships created during this time significantly reduce the risks associated with inventory management. She asks her vendors to help by allowing her to return overstock without restocking fees, carrying backup stock, and shipping reorders quickly. Her best advice for building strong vendor relationships is to “give them reasons to work with you and support you — show growth, be innovative, pay bills on time, be organized, plan ahead, and be reasonable in your requests.”
The relationship established and nurtured during the planning stage must be continued throughout the sales campaign. Everything must be proactive, because there is no time to react. Communication between the inventory management team and key vendors must include weekly follow-up calls for every pending order. If necessary, Langlas suggests, “be a squeaky wheel. Be nice, but call, call, call.” This will help keep your orders as a top priority for vendors.
There are many tools available for inventory management. Some are incorporated within order management systems, while others are stand-alone programs. The best tools are the ones that work with the individual company’s unique challenges.
Before investing in a new tool, develop your own process. This can be done with any spreadsheet program. If the number of items is overwhelming, start with the top 20% and manage these items well. This will cover approximately 80% of your sales. Tweak the process until you have it right. Once you understand your needs, the process can be automated. You will be dancing across the high wire in no time with the precision and skill of a true professional. Break a leg.
Debra Ellis is founder of Wilson & Ellis Consulting, a Barnardsville, NC-based firm specializing in strategic planning, logistics, and inventory management. She can be reached at (828) 626-3756 and firstname.lastname@example.org.