In the current series of articles we are working through how to optimally set parameters in your replenishment software. There are four critical factors that determine how successful you are in having the right quantity of the right item at the right location at the right time:

• The forecast
• The anticipated lead time
• Safety stock
• The order or review cycle

Moving down the list, this month we will look at the third factor: safety stock.

Safety stock provides protection against stock outs due to unexpected demand for a product or delays in receiving a replenishment shipment from a supplier. It is insurance. Like many other types of insurance, it is an expense.

In determining the safety stock amount for a particular product, you have to ask yourself:

• What is the likelihood that this product will experience a stock out?
• How disappointed will customers be if this product is not stock?…aka…How much will it hurt?
• How much $$ do we want to invest in preventing stock outs of this product?

Products are more likely to be out of stock if they experience:
• Inconsistent supplier lead times – If vendor shipments are often several weeks late, you may want to keep some extra stock to “cover” customer demand during these unexpected delays in receiving a replenishment shipment.

• Large fluctuations in sales or usage – You might sell 10 pieces or 1,000 pieces of a product in a month without much advance notice of when usage will significantly increase.

Though it is evident that some items need more safety stock than others, many companies maintain safety stock quantities with some inadvisable general rules that apply to all stocked products such as:
• We will maintain safety stock for all products equal to a certain percentage of lead time usage, or
• We will keep a certain number of days on hand as safety stock for all items

The unfortunate result is that some products have too much safety stock (unnecessarily tying up funds, suppressing turnover, and taking up too much warehouse space) while other items have too little safety stock (resulting in additional stock outs and disappointed customers). Rather than applying safety stock policy across your entire inventory with a paint roller, we would like you to take a fine tipped artists brush and “dab” specific amounts of safety stock exactly where it is needed.

The best way to maintain safety stock is to base this calculation on: 1) the average deviation or difference between the forecast and actual usage or 2) the average deviation between actual and anticipated lead times.

Next month we will discuss how to effectively implement this method of calculating safety stock quantities.

In preparation for next month, select 2-3 items from your inventory that have consistent usage and 2-3 items with erratic usage. You might include some items that would be “painful” if you ran out of stock. Then, you can use these items as you work through next month’s article to determine the appropriate safety stock for each item.