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Demand Planning & Inventory Forecasting and how to do it

· 4 min read
Oleksandr Drok

Accurate inventory forecasting and demand planning are essential for any store that work with its own warehouses. The precise forecast allows for preventing out-of-stock for trending products, reduces overstocks, and in time identity dead inventory.

Opposite to inventory value report, inventory forecasting - also known as demand planning - asks questions for all three time periods:

  • Past: How many products were sold and how fast?
  • Current: What is the actual stock status?
  • Future: How many products do we need and when?

What questions the inventory forecasting can answer​

Usually, each question and answer used its own report. The overview of answers:

  • how quickly the inventory is used (sales velocity)
  • how to minimize chances of out-of-stock situation
  • when to replenish stocks
  • what inventory is dead (i.e. long time without expected sales considering to current stock)
  • what inventory is overstock
  • what is the turnover ratio for stock
  • what products require to revamp pricing or discount policy

This list is incomplete but gives the overview look at the problem.

Explanations on inventory forecasting​

To know how many products we need for next week or month, we should understand how fast products we will sell - it's a Sales Velocity (also called Average Daily Sales).

Once we know sales velocity we can easily calculate how many products we need for the next 14 days. But also we need to know when to place an order for the supplier - it's a Reorder Date and Reorder Point (ROP) if we talk about quantity.

Feature more to forecast, we need to know one constant number - how many days we need to transfer product from supplier stock to our stock - it's a Lead Time.

In overview, to simplified forecasting we need just 3 values:

  1. Sales Velocity
  2. Lead Time
  3. Actual Quantity

Key terms and calculations​

The below graph illustrated actual stock quantity with replenishment during time.

Graph

  • Sales Velocity - the number of sold items for the period (usually means velocity per day)

    Simplified formula to calculate velocity based on the past 30 days:

    Sales Velocity = Sold Quantity ÷ 30

  • Lead Time - how many days you need to receive a product to your stock (that time includes all steps: placing an order to the supplier, signing, delivery, etc)

  • Lead Time Quantity - how many items will be sold within the Lead Time period.

    Lead Time QTY = Lead Time × Sales Velocity

  • Service Level - is the expected probability of not hitting a stock-out during the next replenishment cycle (or probability of not losing sales).

    Usually, the Service Level is in the range of 70-90%.

  • Safety Stock - extra quantity of inventory (buffer or reserve) to prevent out of stock if some problems happened.

    Safety Stock = Sales Velocity × Lead Time × Service Level

  • Reorder Point (ROP) - the stock quantity that triggers replenishment.

    Reorder Point = Safety Stock + Lead Time QTY

  • Stock QTY - actual stock quantity.

  • Stock Covered Time - how many days current stock will cover sales.

    Stock Covered Time = Stock QTY ÷ Sales Velocity

  • Stockout QTY - if the value is positive, is a deficit, since the product can be delivered from the supplier in time, even placing the order right now.

    Stockout QTY = Lead Time QTY - Stock QTY

  • Replenishment Quantity - how many items need to order to prevent out-of-stock.

    Replenishment QTY = Reorder Point QTY

  • Replenishment Time or Time To Reorder - when (how many days) products should be reordered

    Replenishment Time = (Stock QTY - Reorder Point QTY) ÷ Sales Velocity

Key takeaways​

  • Forecasting requires history. On seasonal markets, for accurate forecasting, you need as least one year of sales history. In other stable (linear) markets, the forecast can analyze the past 90 days.
  • Modern reporting and inventory planning platforms, allow you to manage stock as a guru.
  • Many non-programmable factors may reduce accuracy. You always need to get in touch with the current market situation and adjust forecasts and plans.

Examples of inventory planning reports for Shopify​

Below we collected different variations of inventory forecast and demand reports that can be with our app.

Additionally, you can adjust built-in inventory reports or create new reports.