How to Answer the Question: How Much Inventory do I Need

Businesses that carry inventory constantly struggle to determine the ideal level of product to hold. Even if your business doesn’t have seasonal sales fluctuations, many operations must increase inventory at year-end to accommodate higher holiday sales. The conclusion is that the right amount of inventory for any business is the quantity needed to meet customer demand.

No business owner wants to turn away customers because of insufficient inventory. Nor does he or she want to pay premium prices and rush delivery charges to replace sold-out stock. On the other hand, holding too much inventory ties up your cash and complicates physical inventory counts.

Particularly with a seasonal operation, you must consider varying sales volume in different periods. And while you can’t predict future sales, you can use prior periods as guidelines. Your financial data holds the key to determining whether your inventory level is sound.

Financial records can tell you how much inventory is sold every month, quarter, or year, and show you how much you sell of each inventory item or category.

Start the process by finding out the cost of inventory sold in an accounting period. Divide this amount by the cost of current inventory on hand. Then, divide the number of days in the accounting period by the result. This gives you the number of days historically required to sell your present inventory.

Compare this result to prior months. While a steady figure is usually desirable, a rising trend is satisfactory if your company’s sales are growing.