SETTING THE RIGHT STOCK LEVEL

1. SETTING THE RIGHT STOCK LEVEL

2. SETTING THE RIGHT STOCK LEVEL •Order patterns with safety stock • Successful calculation of review level • When to expedite • The effect of supply lead times • Co-ordinating supply with target stock levels

3. SIMPLE ASSESMENT OF REVIEW LEVELS The basic calculation Our aim in stock control is to maintain a balanced inventory so that customer service for each stock item is maintained within its proper limits.The time at which we can influence the stock levels most effectively is when we order, and it is at this point that the major opportunity occurs for ensuring a balanced inventory. Originally stock-recording systems used to include stock control levels as ‘minimum’ and ‘maximum’ stock levels. These basic concepts are still applied today as a simplistic approach where tight control over stock is not necessary.

4. Figure 7.1 Stock controls as to whether to order. Where the demand has increased or lead times increased, orders are necessary; where the lead time is reduced or demand has diminished, then there is no need to purchase. Since demand can go up or down, the trigger level is treated in practice as a review level.

5. Minimum stock has also been replaced by the safety stock which is calculated as discussed in Chapter 6, and allowing for lead time (the analysis is shown below). Maximum stock is a result of negotiation with suppliers on delivery quantities. The maximum stock level should be a result, rather than a direct control. It is therefore necessary to control the delivery quantities directly by using three parameters to carry out simple and effective stock control , as shown in Figure 7.1, namely: • review level • safety stock •delivery quantity.

6. The starting point is the calculation of the safety stocks the historical demand for the two items illustrated in Figure 7.2 shows that the second will require a great deal more safety stock than the first if the customers are going to be equally satisfied. The average demand rate is the same in each case. The more the variability of demand, the more safety stock is required. Therefore the safety stock does not depend on the demand rate. (This means that safety stock calculated as number of weeks’ demand is simply wrong.) The safety stock for periodic delivery items is Figure 7.2 Historical demand patterns

7. given by multiplying the customer service factor by the standard deviation(or MAD) of the demand during the period. Safety stock depends on demand variability and not demand rate. If the demand is thirty per month and the supply lead time is two weeks,then there had better be fifteen in stock or on order or else there will be ashortage. This is because the time to order is given by: Review level=Usage rate × Supply lead time and to be safe: Review level=Usage rate × Supply lead time + Safety stock

8. Managing lead times Lead time Lead time is the time between a shortage occurring and items beingavailable to maintain supply. The lead time for supply is a balance betweenwhat the supplier wants and what the customer wants. If the suppliers arepowerful, they will specify a long lead time (such as a one year firmprogramme). If the customers have the upper hand, they will expect to besupplied immediately, without any commitment. Both of these extremecases increase the total operating costs. The compromise is a lead timewhich gives the suppliers sufficient supply time but do not force thecustomers to commit themselves further than they can predict. Theaccuracy of their forecasts of requirements reduces rapidly the furtherahead they look. Long lead times and large batch supply produce an orderpattern which is irregular and subject to change. Stocks are needed wherethe sales lead time is shorter than the supply lead time.

9. Components of lead time Lead time can be analysed into several components, some of which areessential and some avoidable. The supply lead time comprises: • order review time – the intervals at which the low stock situation isreviewed (e.g. printout every day, hourly, weekly, etc.) • order processing time purchasing and communication) – the time ittakes to:  –review the order  –decide to buy  –transmit to the ordering system  –raise an order –gain the appropriate authority  –inform the supplier (post, fax, e-mail) • supplier lead time (vendors’ manufacturing, buying and dispatch) • transport time – transfer of the item from supplier to receiving bay • receiving time – time taken for goods inwards and updating the storesrecords.

10. Setting the lead times If the lead time on the control system is set too short, this will lead tostockouts, since the stock level will be kept too low. If the lead time is setovercautiously (long), excess stock will result. The compromise for settingthe lead time is a fine judgement for the inventory controller. Minimizing the lead time Longer lead times make forecasting more difficult and increase the safetystock. Reducing the lead time is therefore desirable and can lead tostockless supply if the supply lead time is short enough. It is part of invento One of the simplest ways of reducing the lead time is to specify itmore precisely. ‘Delivery in the month of June’ as a request gives thesupplier plenty of leeway. ‘Delivery on 12 June at 11.18 a.m.’ suggests anentirely different expectation, and is likely to gain a much better deliveryperformance (during the day required rather than the month).Numerous experiments attempting this have shown that a majority of suppliers will improve their delivery precision greatly, simply by beingaskedrymanagement, therefore, to work on reducing the overall leadtime.

11. From the analysis of lead time above, the total lead time should beminimized by: • inputting information to stores and computer systems without delay(removing administration leadtime). It is important to minimize thetime between:  –the stock getting low in the stores and the supplier receiving thepurchase order  –receiving the delivery and the event being displayed on the companycomputersystem • partnership with major suppliers (giving schedule flexibility orkanbans)

12. Target stock levels Application of target stock levels The target stock level (TSL) is a maximum stock level which can be used to calculate the order quantities. Target stock levels marginally differ from the review level approach to ordering: Review levels fix the order quantity and vary the order frequency, whereas TSLs fix the order frequency and vary the order quantities. The TSL is a level to which the stock is topped up (theoretically) when the cycle time for ordering arrives. The process for setting up the ordering procedure is, first, to establish a routine for placing orders on the various suppliers by specifying the day each week or month on which the order is going to be dealt with and, second, on the allotted day, review the stock of all the goods supplied by that supplier. The amount to be ordered is given by the formula: Order quantity=TSL – Free stock – Supply orders outstanding

13. Here the ‘orders outstanding’ are, of course, only those orders which are due within the current supply lead time. Orders booked further ahead are not included in the calculation. Example TSL has been calculated as34 Free stock is currently16 Outstanding order due tomorrow5  Therefore Order quantity=34 – 16 – 5 =13  Calculation of target stock levels The calculation of TSLs is very similar to that for review levels. An extrafactor is included in the calculation of the TSL. The effective difference is that stock replenishment now needs to cover the period until the reviewcycle comes round again.

14. If the review cycle were a month and the supplylead time only one day, then the TSL would have to cover a month’s extrausage (plus safety stock) because the next order would be placed only in amonth’s time. Thus the formula for the TSL is given by: TSL=[Usage rate×(Lead time + Review period)]+ Safety stock And there is a similar adjustment to increase the safety stock level: TSL=[Usage rate ×(Lead time + Review period)]+ SafetystockSafety stock=Customer service factor×MAD×√(Lead time + Review period)

15. Applying target stock levels The TSLs are levels of stock to which the free stock never rises in a stable situation (see Figure 7.3.) The actual stock will rise to a maximum level which is TSL– (Usage rate × Lead time) The TSLs can be used for long review periods (e.g. one month) with short lead times or, of course, with short review periods (one week) and long supply lead times. In this latter case, there will always be one or moreordersoutstanding on the suppliers. This does not affect the validity of the calculation.