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The inventory advisor

Feb 26, 2016

The 9 steps to placing optimal replenishment orders

A review of stock-outs and items with excess inventory will generally lead to the conclusion that the orders placed were incorrect. Whilst there are many factors that contribute to stock-outs and excess, the best chance you have of getting (and keeping) your inventory in balance is by placing the best possible order every time.

Every single order placed ties up critical working capital. You make your margin every time the stock in the warehouse is sold or “turned around”. The more often in a year you do that, the greater your gross profit will be.

  • If too much inventory is ordered it will not be turned around in a reasonable period. The cash tied up in inventory is giving you a very poor or absolutely no return each year.
  • If too little is ordered, stock-outs will result. Customers will be unhappy and you may lose some who will not easily return.

So, the orders that you place are critical for achieving optimal stock levels, customer service and gross profit.

How do you currently place orders?

  • Do you take the Classification status into consideration?
  • How do you factor in the sales forecast?
  • Are you using the latest stock on hand figure and how accurate is it?
  • Are you considering all existing open purchase orders already placed on your supplier when ordering?
  • Are you factoring in the risk profile of the specific item, the target fill rate and the safety stock for the specific Classification status?
  • Are you being influenced by the opinions of others when determining the order quantity?
  • Are you determining the quantity to be ordered simply to get a good price or to make the ordering easier for you?
  • Do you know whether the order quantity will take you one step closer to achieving your model inventory level? Do you even know what your model inventory is?
  • Is the total value of orders being placed within the agreed cash flow budget for the month?

The facts will speak for themselves – the days of cover or stock turns, sales lost due to stock-outs, the value of excess and obsolete stock, and the number of unhappy customers.

So, how should you be placing replenishment orders?

The optimal replenishment order quantity is the end result of the following steps that must be completed in the sequence shown:

  1. Use up to date, accurate inventory data:
    1. The stock on hand must be accurate
    2. Open purchase orders must be accurate
    3. The correct (preferred) supplier must be assigned to each item
  2. Accurate Classification of inventory is the foundation for the ordering calculation
    1. Obsolete items will never be re-ordered
    2. Non—stocked items will only be ordered if a customer places a firm sales order first and you do not already have sufficient stock in the warehouse
    3. A, B and C category items will only be ordered when the reorder point is reached
  3. Accurate and agreed Forecasts are a critical part of the process
  4. Supplier lead times must be current, accurate and realistic
  5. Correct Policy parameters such as Target Fill Rates, Replenishment Cycles and Safety Stock are essential to achieving the correct balance between the investment in inventory and customers who are happy with your fill rate
  6. The reorder point and order up to are calculated and dynamic
  7. The unconstrained recommended order is then calculated from these ideal ordering levels by comparing to your current inventory position
  8. The unconstrained recommended order quantity is then modified by applying the minimum order quantity and order multiple supplier constraints, where relevant.
  9. A review of these final orders may lead to some adjustments being required, possibly due to containerisation or meeting supplier terms, and the orders are then sent to the relevant suppliers

A good inventory management system performs many of the above steps in the background, so that you need the minimum of time to review the largest recommended orders to ensure they are optimal before committing valuable working capital to purchasing inventory.

Life teaches us that no matter how well we complete the above process, customers order more or less than we forecast, and suppliers deliver earlier sometimes but often later than planned. An effective Exceptions Dashboard will identify problem areas so you can respond timeously.