How Emerging CPG Brands Can Master Demand Forecasting
When it comes to inventory planning, you have to think like Goldilocks. Too much inventory ties up cash and increases the risk of spoilage, while inventory shortages cause delays that can bring your sales to a screeching halt. You need just the right amount of inventory to satisfy customer demand. That's why demand forecasting is so important.
As the FP&A Team Lead at Balanced Business Group, I meet many business owners who are intimidated by the thought of CPG demand planning. They believe forecasting requires expensive software or advanced degrees, causing them to shy away from the process.
Demand forecasting isn't a burden — it's a process that can sharpen your brand's competitive edge. Once you learn more about this process, you can feel confident applying it to your business model.
What Is Demand Forecasting, and Why Does It Matter for CPG Start-Ups?
Demand forecasting is the process of predicting demand for a company's products or services. This concise definition doesn't tell you anything about what demand forecasting involves or why it's important for a start-up. To create an accurate forecast, you must review past sales data, pay attention to economic indicators, follow market trends, and communicate with customers about their needs.
Demand forecasting affects almost every decision in a consumer brand's operations. For example, an accurate forecast can help you answer these questions:
When should we reorder packing materials?
How many bottles of wine should we produce ahead of a direct-to-consumer launch?
How much cash do we need on hand to cover our expected inventory costs?
Can we afford to expand into a new market now or should we wait?
The Importance of Working Forecasts
Rather than creating one spreadsheet and relying on it forever, you need to construct working forecasts based on your sales cycle. This makes it possible to craft demand forecasts that reflect recent data and current market conditions so you're not basing decisions on what happened 2 or 3 years ago.
Why Inventory Problems Happen
Stockouts and overstocking are the two most common inventory problems for CPG brands. In inventory management, a stockout happens when you run out of a specific product. This can prevent customers from ordering the product online or in stores, reducing your total sales.
Conversely, overstocking happens when you produce or order too many of a specific item. It's natural to want to avoid stockouts, but ordering too much inventory increases the risk of spoilage and obsolescence. Overstocking also leaves you with less money for marketing and other activities.
Common Causes of Stockouts
Stockouts occur for several reasons:
Lack of demand forecasting: If you don't review historical sales data, market trends, and other critical information, you have no way of knowing how many units you might sell in the coming months.
Decision-making based on vibes instead of data: It's common for first-time entrepreneurs to make decisions based on gut feelings. If you forget to order additional units after a big marketing push, for example, you might experience stockouts on your most popular items.
Supply chain disruptions: Sometimes stockouts occur due to factors outside your control, such as shipping delays, raw material shortages, or problems with suppliers.
Inventory management problems: Inventory management for start-ups isn't something that comes easily to every business owner. Inaccurate records, lack of real-time inventory data, and inefficient warehouse operations can all contribute to stockouts.
Common Causes of Overstocking
Overstocking occurs for some of the same reasons as stockouts. Inaccurate demand forecasting, poor inventory management, and supply chain disruptions can also cause you to order more items than needed to meet customer demand.
Other common causes of overstocking include:
Fear of stockouts: Overordering to prevent stockouts can lead to overstocking, increasing the risk of spoilage and driving up your inventory carrying costs.
Discounts for purchasing in bulk: Savvy business owners know how important it is to keep their costs low. However, overordering to take advantage of bulk discounts can leave you with too much inventory.
Fluctuations in demand: If you overestimate demand during the holiday season or prior to trade shows and other special events, you might end up with a load of inventory you can't sell during the rest of the year.
Unsuccessful promotions: It's common to order extra inventory before a big promotion. If the promotion doesn't work as intended, this practice can lead to overstocking.
Overstocking and Stockouts Prevention
Again, it's natural to make these inventory management mistakes. If you correct your initial errors, you can meet customer demand without complicated algorithms or an increased risk of overstocking. You just need lightweight forecasting.
How to Start Forecasting Without a Fancy Tool
When you're starting out, you might get by with a simple spreadsheet or a basic sales report. However, you need a rock-solid process to ensure you make accurate predictions. Here's what I recommend for BBG clients.
1. Have Regular Team Meetings
Meet with sales, finance, and production staff as often as needed to create accurate forecasts. You might want to meet weekly to start and then biweekly or monthly once your forecasting process is under control.
2. Set Goals Based on Standard Production Lead Times and Transit Times
I recommend establishing goals for how much raw material and finished goods you want on hand. Set these goals based on anticipated production lead times and transit times. It might take you 1 week to produce a batch of items, but if it takes 2 weeks to get raw materials and another week to transport the items, you need at least 1 month of lead time.
3. Gather Past Sales Data
Past sales data can help you forecast demand accurately. You can get this data from the following sources:
Sales reports
Customer relationship management software
Accounting or bookkeeping software
Market research
4. Identify Reorder Points
Reorder points are inventory levels at which you replenish your stock. When you reorder, you need to have enough stock on hand to meet demand while waiting for the new inventory to arrive. The formula for calculating an appropriate reorder point is average weekly sales x lead time.
5. Build a Simple Spreadsheet
Now, all you need is Excel or another spreadsheet tool to build a sales forecast. Include these metrics:
Sell-through rate: Divide the number of units sold by the number of units received. Multiply the result by 100.
Order frequency: Divide your total number of orders by your total number of unique customers.
Lead time: Add your typical supply delay to your standard reordering delay to get inventory lead time. Supply delay is the time it takes for a supplier to deliver your order once they accept it. Reordering delay is the time it takes a supplier to process your order.
When to Upgrade to a Forecasting Tool
Here are some signs your business has outgrown its basic forecasting process:
You have inconsistent sales cycles.
You manage retail and direct-to-consumer sales simultaneously.
You manage multiple SKUs, increasing complexity.
These tools don't eliminate the need to understand your data. They simply make it easier to manage. NetSuite Light Manufacturing and Inventory Planner are just two examples of quality forecasting tools for CPG start-ups. Before choosing a support tool, be sure to consider the total cost of implementation, including the amount of time spent installing the tool and training team members how to use it.
Building a Forecasting Cadence That Works
Inventory management has many moving parts, from demand planning to inventory reconciliation. Once you have a forecasting process in place, apply it consistently, or else you won't have accurate data for other business planning activities.
At a minimum, you should review your demand forecast on a monthly basis. However, it's also important to schedule additional review sessions around holidays and other periods of peak demand. Involve operations and finance advisors in these discussions to ensure you've covered all your bases.
If your forecasts are consistently off, follow these tips:
Review your sales data to ensure it's accurate.
Make sure your forecasting methods are appropriate for the CPG industry.
Remove outliers from your data to prevent skewed forecasts.
Update your forecasting models regularly.
Forecasting isn't a box to check. It's a core business tool, so incorporate it into your company's overall strategy.
Forecasting Is a Founder's Edge
If you want to scale your business effectively, demand forecasting isn't optional. Accurate forecasts can help you avoid common inventory problems, reduce carrying costs, and keep your customers satisfied. For extra peace of mind, contact BBG to find out how we can help you build a forecasting system your team wants to use.
