Tuesday, August 7, 2007

Managing Your Inventory

When you sell a physical products of any kind, inventory control becomes the life-blood of your business and one of your biggest costs. eBay has helped many people with no business experiece create a viable business. One of their biggest problems is they just don't understand that inventory sitting on a shelf is costing them money every day.

There are two costs associated with inventory. The first one is your product cost and the second one is your opportunity cost. Product cost is simply what you invested in the merchandise including the cost to ship it to you. Opportunity cost is the money you are not making while your cash is tied up in that inventory. If you bought 200 items for $6.00 each that you hoped to sell for $12 each, your product cost is $1200 and your opportunity cost is $1200 (the money you will make if they sell at $12. Obviously you only incur the opportunity cost if the items don't sell. Once an item sells the opportunity cost on that item goes to zero and basically becomes gross profit.

There are two basic rules to follow if you want to maximize the return on your inventory purchases:

Turn your inventory over as often and as fast as possible (within reason). Let's use our $6.00 item as an example. If you price them to sell at $12 and you sell 10 widgets a week, at the end of 6 weeks you will have sold 60 widgets and made $6.00 on each one for a total of $360. Now let's say you find that by pricing the item lower --at $10 each your sales increase and you sell 20 widgets a week. You are making $2.00 less on each widget, but at the end of the same 6 week period you will have sold widgets for a total gross profit of $480.

Obviously if you reduced the price further you might be able to sell even more, but at some point you will not be making a profit. So the trick is to find that sweet spot where you maximize your return.

If you buy a product that won't sell, keep reducing the price until it will --even if you are losing money on it. What you are trying to do here is get rid of non-performing inventory. When you have inventory that doesn't sell you are tying up cash that could be spent on product that will sell. Remember your opportunity cost. When you are not making money you are actually losing money.

I know it can be painful to cut the price on an item to your cost or even below, but it really is a good business decision to do so. And remember, you also learned something valuable that will help you make money in the future.

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