Inventory management: Methods, tools and tips for your business

Published Wednesday 5 November 2025

Table of contents

• What is inventory management?
• Inventory management methods every small business should know
• Understand the inventory types your business has
• Why efficient inventory management matters for your business
• Steps to implement your inventory management system
• Improve your forecasts
• Track your inventory
• Use the best tools
• Efficient inventory management means better cash flow
• FAQs on inventory management
• Start using Xero for free

Key takeaways

• Implement a systematic inventory management process that includes planning and forecasting demand, purchasing stock, receiving and storing goods properly, tracking inventory levels in real-time, and fulfilling customer orders efficiently.

• Use dedicated inventory management software instead of spreadsheets to automate tracking, reduce errors, integrate with your accounting system, and provide real-time visibility into stock levels from anywhere.

• Apply demand forecasting by analysing historical sales data to identify seasonal trends and popular products, then adjust your stock levels based on these insights to prevent overstocking and stockouts.

• Recognise that efficient inventory management directly improves cash flow by reducing money tied up in excess stock, preventing lost sales from stockouts, and freeing up capital for other business investments.

What is inventory management?

Inventory management is the process of ordering, storing, and selling your business's stock. It covers everything from raw materials to finished goods. The goal is to have the right products in the right place at the right time, so you can avoid running out of popular items or having too much money tied up in stock that isn't selling.

Inventory management methods every small business should know

There are several ways to manage inventory. The best method depends on your business.

Just-in-time (JIT)

With JIT, you order stock from suppliers only as you need it for production or to fulfil customer orders. This reduces your storage and insurance costs.

Materials requirement planning (MRP)

MRP is a system that looks at your sales forecasts to plan what raw materials you'll need, how much you'll need, and when you'll need them. It's most useful for manufacturing businesses.

Economic order quantity (EOQ)

This is a formula that helps you find the ideal amount of stock to order. It balances the cost of ordering inventory against the cost of holding it, helping you minimise both.

Days sales of inventory (DSI)

Days sales of inventory (DSI) is a ratio that shows you the average number of days it takes to sell your entire inventory. A lower DSI usually means you sell stock quickly and efficiently.

Understand the inventory types your business has

represent different stages of your products in the business cycle. Understanding these categories helps you track costs, plan purchases, and manage cash flow more effectively. Most businesses work with three main types:

Raw materials

These are the basic materials from which your final product is made. Depending on your field of work, they can take up a lot of space.

Work in progress (WIP)

These are goods that are in the process of being manufactured but are not yet complete. Examples include toys to be painted and ceramics that haven't yet been fired.

Finished goods

These are products that are ready to be sold to your customers. They may be sent to distributors or you might sell them directly to your clients.

Each category has different storage needs, and each depends on the others. When you have enough raw materials, you can make finished goods. If demand for finished goods falls, plan your raw material orders to avoid excess stock.

Why efficient inventory management matters for your business

Efficient inventory management directly impacts your business's profitability and cash flow. Poor inventory control can tie up your money in unsold stock and create compliance challenges. For example, in 2020, 12% of certain New Zealand entities were referred for non-filing of financial statements, where accurate inventory valuation is critical. Here’s how inefficient inventory management can affect your business:

• unsold items don't generate revenue
• warehousing costs money, and so does inventory accounting
• stored items take up space that could be used for something else
• stock may deteriorate or become obsolete
• items could be damaged or even stolen

When you reduce excess inventory, you free up money to invest in other areas of your business.

If you keep the right amount of inventory, you can meet demand and keep your customers happy. You’ll be ready to fill large orders and stay ahead of your competitors.

Efficient inventory management helps you save money and grow your business.

Steps to implement your inventory management system

You can set up an efficient system with a few simple steps. Follow these steps to get your process in order.

1. Plan and forecast: Use your sales history to predict future demand. This helps you know what to order and when.
2. Purchase and order: Create a clear process for buying new stock from your suppliers.
3. Receive and store: When stock arrives, check it for accuracy and damage. Then, store it in an organised way so it's easy to find.
4. Track your inventory: Use a system, like barcodes or software, to keep a real-time record of what you have and where it is.
5. Fulfil orders: Pick, pack, and ship customer orders accurately and on time.

Improve your forecasts

Demand forecasting helps you predict how much stock you'll need and when you'll need it. Accurate forecasts prevent overstocking and stockouts, improving your cash flow and customer satisfaction.

To improve your forecasting:

• Analyse historical sales data: Look for patterns in your past sales to identify seasonal trends and popular products
• Use accounting software reports: Quality software generates detailed sales reports that reveal which products sell best at different times
• Adjust stock levels accordingly: Plan your purchases based on these insights to match expected demand

Track your inventory

shows you exactly what stock you have, where it's located, and how it moves through your business. Real-time tracking prevents stockouts, reduces theft, and helps you make informed purchasing decisions.

Effective tracking becomes more complex as your business grows. You need visibility across all inventory types:

• Raw materials: Usually stationary and easier to count
• Work in progress: Moves frequently and requires regular monitoring
• Finished goods: Must be tracked from completion through customer delivery

Common tracking methods:

• Barcode scanning: Traditional, reliable method that's still widely used
• RFID tags: Faster and more flexible, with decreasing costs making them accessible for small businesses

Use the best tools

Inventory management software automates tracking, reduces errors, and integrates with your accounting system for better financial visibility. The right tools save time and provide real-time insights into your stock levels, which is critical during disruptions.

For example, during the COVID-19 pandemic, 21% of regulated entities in New Zealand relied on an exemption to get more time to file financial reports, highlighting how many businesses' systems were not prepared for disruption.

Why spreadsheets don't work for inventory:

• Limited collaboration: Multiple people can't easily work on the same file
• Error-prone: Easy to accidentally delete entries or entire files
• No automatic backups: Risk of losing all your data
• Not purpose-built: Missing essential inventory management features

Benefits of dedicated inventory software:

• Accounting integration: Connects directly to your financial records
• Cloud-based access: Check and manage inventory from anywhere
• Automatic updates: No manual upgrades or backup management
• Real-time reporting: Instant visibility into stock levels and trends

Efficient inventory management means better cash flow

Efficient inventory management directly improves your cash flow by reducing money tied up in excess stock and preventing lost sales from stockouts. The right system frees up capital for other business investments.

Key cash flow benefits:

• Reduced waste: Less money lost to obsolete or damaged stock
• Faster turnover: Items spend less time in your warehouse
• Better demand prediction: More accurate purchasing prevents overstocking
• Integrated reporting: Clear visibility into how inventory affects your finances

When your inventory system integrates with cloud-based accounting software, you get real-time financial insights alongside stock tracking. This means you can manage everything remotely while making informed decisions about purchasing, pricing, and cash flow.

Every dollar you free from unproductive stock is a dollar you can invest in growing your business. Discover how Xero inventory management software can improve your cash flow and business efficiency.

Frequently asked questions about inventory management

Here are answers to some common questions about inventory management.

What are the 4 types of inventory management methods?

Common methods include just-in-time (JIT) to reduce holding costs, materials requirement planning (MRP) for manufacturing, economic order quantity (EOQ) to find the ideal order size, and days sales of inventory (DSI) to measure efficiency.

What are the 5 stages of the inventory management process?

The process typically includes planning and forecasting demand, purchasing new stock, receiving and storing goods, tracking inventory levels, and fulfilling customer orders.

How often should I review my inventory levels?

It depends on your business. Fast-moving goods might need daily or weekly checks, while slower items can be reviewed monthly or quarterly. Using inventory software can give you real-time updates.

What's the difference between inventory management and stock control?

Stock control is part of inventory management. It focuses on what you have in the warehouse right now. Inventory management is broader and includes forecasting, ordering, and managing stock from supplier to customer.