The Expert Guide to Inventory Planning Methods

Maximize your inventory investment by understanding inventory planning methods, best practices, and supporting technology.

Inventory planning is a key component of merchandise financial planning (MFP), assortment planning, and item planning. It is a systematic approach taken to maximize inventory investment and increase profitability.

Since inventory is one of the biggest liabilities in a retail organization, managing this process is critical to ensure inventory investments are optimized and products are ultimately in the right place, at the right time.

Proper inventory planning methods strive to minimize markdowns due to overstock and lost sales due to stockouts. The leading practice for inventory planning is to enter key performance indicator (KPI) values based on either historical or forward-looking performance and derive the inventory values.

In this expert guide, Parker Avery’s experts outline six methods for planning inventory values, along with our strategic recommendation for implementing inventory planning that maximizes full-price sales and minimizes out-of-stocks in your retail business.

Parker Avery’s Inventory Planning Recommendation

Forward Weeks of Supply

Forward weeks of supply (FWOS) is superior for planning appropriate inventory levels in plans to the week level. Using FWOS allows a planner to think about their inventory across time and is essential to effectively manage inventory levels. The goal of effective inventory management is to have enough inventory on hand at any given time to support planned sales until the next delivery arrives. FWOS is calculated as the number of weeks of planned sales from the next week forward that the current inventory value represents. When FWOS is entered into a plan, it will calculate the ending period inventory (EOP) by counting the forward number of weeks of sales and summing the value to calculate the required ending inventory.

To illustrate (using the method of wrapping sales to the beginning of the plan when forward sales are exhausted):

	Week 1	Week 2	Week 3	Week 4	Week 5	Week 6
Sales	10	20	25	60	75	15
FWOS (entered)	4.0	4.0	3.5	3.0	3.0	4.0
EOP (calculated)	180	175	155	100	45	115

FWOS requires a complex calculation when planning the end of the plan time horizon and the sales of the plan have been exhausted. There are advantages and disadvantages to forward weeks of supply, but we believe its complexity is worth the effort.

Using Forward Weeks of Supply as a Planned Value

Advantages

Inventory is linked to the sales trend across time

Planned sales trends are the driving factor when using FWOS. Inventory levels are planned to meet forecasted demand and the potential for overstock situations is diminished. FWOS puts the focus on maximizing the return on the inventory investment by linking inventory levels directly to planned sales.

Better information to make merchandise choices

With explicit visibility of the amount of inventory required to meet sales objectives, forward weeks of supply provides greater insight into how each product and/or category will contribute to the overall inventory objectives.

Disadvantages

Requires planning to the week level

To calculate FWOS, plans must be created to the week level. Weekly planning is not always practical when creating high-level top-down plans.

As part of defining the FWOS calculation, planners need to define the behavior when sales in a plan are exhausted

Forward weeks of supply is calculated by counting the number of weeks of planned sales from the next week forward that the current inventory represents. A statement needs to be added to the calculation to address behavior when there are not enough forward weeks of sales available in a plan. Three methods are:

Enable the calculation to wrap around the beginning of the current plan’s time horizon. This solution means planning for the end of the current plan is based on the beginning of the current plan, which is less than ideal for businesses experiencing growth or retraction in sales or for plan horizons that are not a full year.
Use the average weekly sales for the entire plan horizon. This solution provides a less-than-ideal FWOS value for the ending of the planning time horizon because it normalizes sales and doesn’t accurately account for seasonality, yet it is the easiest to achieve in most planning solutions.
Enable the calculation to look into a future plan. This is a complex behavior not available in all planning solutions/processes. It is important to note that there will be no future plan available during the earliest preseason planning.

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Weeks of Supply

Weeks of supply (WOS) is an inventory measure calculated by dividing current inventory by average sales. WOS helps to educate a planner to think of inventory in terms of time. To illustrate:

	Week 1	Week 2	Week 3	Week 4	Week 5	Month A
Sales	10	20	25	60	75	190
				Avg. sales	190 / 5	38
EOP (BOP – Reductions + Receipts = EOP)	180	175	155	100	45	45
WOS (calculated)				WOS	45 / 38	1.18

(BOP = beginning of period; EOP = end of period)

While called “weeks” of supply, it is actually “months” of supply using average weekly sales. The resulting value of 1.18 WOS means that 45 units of inventory at the end of week 5 will last 1.18 months.

Using Weeks of Supply as a Planned Value

Advantages

Simple calculation

Weeks of supply is an uncomplicated calculation, taking the inventory position for a period (i.e., month) and dividing it by the average sales for the period. WOS requires no complex behavior for exhausted sales since the measure looks at past trends versus forecasted demand.

If the planning system is Excel, it is one of the easier formulas to replicate in a spreadsheet.

Disadvantages

Not appropriate for detailed inventory planning

Since WOS calculates average sales values, it cannot be used for planning weekly inventory requirements. WOS can only display values at an aggregated time level (i.e., month) and performs as an analytics measure rather than a planning measure.

Looks at past trend, not future forecast

WOS is not an appropriate measure to calculate inventory needs. By using past sales, WOS illustrates an inventory position based on where the business has been, not where the future sales trend is going.

Many products will have peak seasonality, and looking backward doesn’t account for future demand. Even unexpected products may have seasonality that you may not anticipate. Vinegar is a prime example. It seems like a basic cooking ingredient, but it does have seasonality: white vinegar peaks at Easter (for coloring eggs), and towards the end of summer when home gardens are in full swing and people are canning their excess produce. Another example is pumpkin spice (no explanation necessary).

Further, when you are going into high apparel and gifting seasons, like back to school, Mother’s Day, or many others, you may miss the opportunity to reduce stockouts on products that will be in high demand.

READ: THE EXPERT GUIDE TO MERCHANDISE FINANCIAL PLANNING

Stock-to-Sales Ratio

Stock-to-sales ratio (SSR) is ideal for planning appropriate inventory levels in plans to the month level. Stock-to-sales ratio forecasts how much inventory is required to achieve the projected sales. SSR represents the proportion of merchandise on hand at the beginning of a period to the expected sales for that period. SSR is calculated by dividing stock at the beginning of the period by sales for the period.

Using Stock-to-Sales Ratio as a Planned Value

Advantages

Provides an estimate of annual turnover

Stock-to-sales ratio provides a planner with a guideline of expected annual inventory turnover.

Inventory is linked to sales values

Stock-to-sales ratio is the most logical key performance measure to plan inventory values in a month-level plan. SSR calculates inventory levels to meet planned sales, resulting in the potential for overstock situations to be diminished.

Average Monthly SSR	Estimated Annual Turn
4.0	3.0
3.5	3.5
3.0	4.0
2.5	5.0

Disadvantages

Only looks to one period of time

Stock-to-sales ratio uses a single time value to calculate planned inventory and does not consider the movement of a sales trend over time. The higher the level of time dimension being planned (i.e., quarter versus month) the more the sales and inventory fluctuations over time are flattened.

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Sell Through Percent

Sell through percent (ST%) allows a planner to understand the rate at which inventory is consumed as compared to sales. While ST% is a key performance indicator (KPI), it is best suited for analysis rather than planning. Sell through percent represents the ratio of sales to beginning period inventory. ST% is calculated by dividing sales for a time period by stock at the beginning of the period.

Using Sell Through Percent as a Planned Value

Advantages

Links inventory consumption to sales

Sell through percent illustrates the relationship between sales and inventory, providing guidance to historical results and industry standards.

For seasonal product, it can be useful to determine how much product to buy (goods ordered and received). If there is a handbag that will only be available in the fall season, you believe that you can sell 1,000 units, and you want to sell thru 75% before going on markdown or to an outlet, you can calculate how many you should buy for full-price selling.

Sales	1,000 units
ST% target	75%
Calculation	1,000 / 75%
To be ordered	1,333

A merchant or planner may then apply rounding rules to the suggested order quantity to meet minimums, and provide a buffer if selling takes off, or due to case pack/carton requirements.

Disadvantages

Only looks to one period of time

Sell through percent uses a single time value to calculate planned inventory and does not consider the movement of a sales trend over time. The higher the level of time dimension being planned (i.e., quarter versus month) the sales and inventory fluctuations across time are flattened.

READ: THE EXPERT GUIDE TO ASSORTMENT PLANNING

Turnover

Turnover (also known as “turn”) refers to the number of times during a period that the average inventory is sold and replaced. Turn is a ratio of sales to inventory for a long period of time, usually season or year and is one of the most commonly used top-level key performance indicators (KPIs). While turn is tied to sales and is thus directly related to profitability, it does flatten inventory fluctuations across time which hampers the ability to reduce markdowns and avoid lost sales due to stockouts. Turn is typically calculated by dividing sales by the average inventory value.

Using Turnover as a Planned Value

Advantages

Provides a starting point to planned inventory

In the absence of all other inventory key performance indicators, turnover can provide direction in starting the inventory planning process. Typically turn targets are developed early in the planning process and can be used to roughly estimate inventory levels by month. It also serves as a “post-game analysis” metric that can contribute to an overall profitability discussion.

Disadvantages

Uses average values, thus flattening trends

Turn is not an ideal measure from which to calculate planned inventory since turn is calculated from average inventory. Average inventory is a blend of beginning and ending inventory values across time; using average inventory to calculate a specific time period’s beginning and ending inventory will result in seasonal fluctuations being flattened.

Basic Stock

The basic stock method of inventory planning calculates a baseline level of inventory that is the same for all months; inventory should not drop below the base level. Planned sales for each month are added to the basic stock to derive the beginning-of-period inventory value. Basic stock value is calculated as average inventory divided by average sales.

Using Basic Stock as a Planned Value

Advantages

Supplies a very conservative method of inventory planning

The basic stock method of inventory planning is an option to consider for businesses with very consistent sales and inventory levels, meaning there is little seasonality or fluctuation in sales, as the baseline stock is the same for all months.

Use of a replenishment system can be essential to account for minor fluctuations by keeping the inventory levels stable.

Disadvantages

Uses average values, thus flattening trends

Basic stock is not an appropriate method from which to calculate planned inventory for seasonal business, emerging categories, or products with less predictable selling patterns. Basic stock is calculated from average inventory. Using average values to calculate a specific time period’s inventory will result in seasonal fluctuations being flattened.

Better suited for planning at the lowest level of detail (SKU)

Basic stock method is suitable for planning individual SKUs (stock keeping units) and is often one of the parameters used by many replenishment applications.

Parker Avery’s Inventory Planning Recommendation

Based on the advantages and disadvantages of the different inventory planning methods as described, The Parker Avery Group recommends:

Forward weeks of supply (FWOS) is the ideal method for calculating planned inventory levels and should be used in all plans containing the week level of time. FWOS is the best method of planning inventory to support the projected sales trend across time and is a retail industry best practice inventory planning measure. The Parker Avery Group recommends enabling the FWOS calculation to wrap around the beginning of the current plan’s time horizon when future sales are exhausted.

Further, modern analytics-driven demand planning solutions that can provide week-level detail, such as Parker Avery’s Enterprise Intelligence, are ideal candidates for supporting the FWOS inventory planning approach.

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