What is cycle stock and how can you use it?

Why is cycle stock important for your business?

Cycle stock is essential to growing businesses because these items are used to fulfill customer orders.

Furthermore, cycle stock directly converts into sales and generates cash flow for the business. It plays a significant part in proper accounting principles, listed in the cash flow statement as cash flow resulting from operating activities. Even when still held as inventory, cycle stock is listed in the business balance sheet.

If cycle stock runs low, whether due to sudden excess demand or a faulty forecast, a business will be forced to dip into their safety stock (more on this in the following section).

Conversely, if there is a high amount of inventory left at the end of the period, it decreases cash flow and increases carrying costs. The business may be holding cycle stock inventory than it needs and should take it as an indication to review future orders.

Cycle stock vs. safety stock

Cycle stock works in tandem with safety stock to comprise the total level of on-hand inventory. At any given time, the stock held by a business is either cycle stock or safety stock.

Total on-hand inventory = cycle stock + safety stock 

While cycle stock is what a business plans to use to fulfill customer orders, safety stock is carried in case the cycle stock inventory runs out.

Safety stock is a second type of on-hand inventory, which a business doesn’t actually plan to use, but maintains to avoid the risk of stockouts or losing sales. For this reason, safety stock is also referred to as buffer stock or fluctuation stock.

One key difference between cycle stock and safety stock is how the two figures are calculated. Safety stock guards against sudden, unforeseen changes in supply. This makes it challenging to determine the exact quantity of safety stock to hold and typically involves a combination of lead time, demand or supply chain changes, and service level factors.

Cycle stock is comparatively easier, as it relies on historical sales data and sales forecasts. One calculation that can be used to calculate cycle stock levels is economic order quantity.

Cycle stock and economic order quality

One way to determine how much cycle stock to hold is by calculating the economic order quantity (EOQ).

EOQ is the optimal number of units that should be ordered to minimize inventory costs while still meeting customer demand. It looks at three variables: demand, fixed cost, and holding cost.

To calculate your EOQ, use the following formula:

EOQ = √ (2DS / H)

Where: D is fixed costs per year, K is demand in units per year, and H is carrying cost or holding cost per unit per year.

Say, for example, an electronic goods store sells 10,000 laptops a year. It pays a $250 flat fee every time it places an order and incurs a carrying cost of $10 per laptop per year.

Using the formula above, the EOQ for laptops is 708. By sticking to a cycle stock of 708, the store can effectively minimize inventory costs without missing out on sales.

It’s important to note the EOQ formula assumes costs will remain the same for the entire year. With EOQ covered, here’s why your business should go to all the trouble of forecasting how much cycle stock it should carry.

1. Boosts efficiency of your most valuable asset

The main benefit of analyzing cycle stock levels is to optimize revenue.

The payment received with every sales order of cycle stock then goes toward purchasing more inventory and other operating expenses. The more cycle stock you sell, the more revenue is generated to help grow the business.

2. Enables you to meet customer demand

Cycle stock inventory is held by a business so it can immediately satisfy customer orders. Not having on-hand stock leads to more than lost sales — it can also cause customer dissatisfaction and decreased loyalty. If a certain product is unavailable from one store, customers usually don’t have a problem finding that product somewhere else.

It’s common to equate lower inventory levels with lower costs — which can be true for new products or unverified market demand.

But in cases of inventory stockout, a business may find itself having to reorder and shoulder even higher expenses in expedited shipping and rush order fees.

3. Provides insight into business performance

Changes in cycle stock inventory over time can be a good measure of how well a business is faring, as it directly reflects the sales forecast for a given period.

Steadily increasing cycle stock typically indicates a high customer demand for the product, an optimistic sales forecast, and a rise in orders.

If cycle stock levels are decreasing, however, it can mean a dip in demand or the presence of other factors leading to lowered sales.

How to start managing cycle stock in your business

One way to start managing cycle stock is by looking at historical sales data. This provides you the info you need to start applying the EOQ formula and determine the cycle stock level your business should maintain.

If starting with a blank slate, you can use sales forecasting for a given period. Keep in mind any seasonality or market trends that may affect customer demand.

By looking at these key figures—historical sales data, EOQ, and sales forecasts—you will arrive at the optimal cycle stock level for every period.

Final Thoughts

Cycle stock is one of the major types of inventory held by a business and directly impacts the bottom line. It’s important to have enough cycle stock to meet customer demand while minimizing any excess that remains unsold.

With historical sales tracking, routine order reviews, and inventory management, a business can quickly begin balancing cycle stock inventory levels with its sales.