Inventory Optimisation and Inventory Reduction
Inventory is a requirement to protect supply and is one of the most important assets of any supply chain. Inventory ensures continuity of supply and service requirements during procurement or manufacturing lead times, and it it should also serve to protect against unplanned variations to demand and supply within those lead times.
All inventory levels must be justified and minimised. Every business needs to have a clear inventory management policy that ensures inventory levels are bridged with required service levels. ‘Just in case’ and ‘x-weeks of supply’ approaches are wholly inefficient and risk, not just higher inventory investment, but also poorer customer service levels, higher warehouse operating costs and stock obsolescence.
How Our Inventory Consultants Can Help
Principally inventory targets should be comprised of two elements: cycle stock and safety stock. Cycle stock is there to cover the normal expected demand during the replenishment lead time, whilst safety stock is an additional buffer to protect against unexpected demand and supply variations.
Our consultants can undertake a full inventory optimisation analysis for you. Using historical and forecast data we can establish the optimum inventory target for every product, based on the target service levels required and any working capital restrictions that need to be observed.
There are many approaches to inventory optimisation we can take, depending on the client requirements and the industry sector. Click on the tabs below to read about a typical 8 step approach our inventory consultants would take with a retail operation.
Inventory optimisation requires extensive statistical analysis and consequently requires a solid foundation of transaction and forecast data. It is crucial to the process of inventory optimisation to establish at least a 12-month data profile reflecting product sales, product purchase costs, planned lead-times, actual lead-times and supply variations.
Investment into inventory has to be prioritised according the products with the greatest commercial or strategic value. Not all products in a company’s portfolio will achieve the same margin, and it is logical to balance inventory levels in favour of products with higher margins or higher strategic importance.
In order to classify the importance of individual products, an ‘ABC analysis’, sometimes referred to as ‘runners, repeaters, strangers analysis’, must be undertaken. There are many factors that should be considered in this type of analysis, including margin, sales frequency, strategic fit and volume. Portfolio classification is a critical step in optimising inventory levels.
A probability analysis needs to be undertaken using a combination of historical transaction and forecast data. A detailed and fully assessed model must be created to establish the probability of events such as supplier delays, variations in supply volume, manufacturing delays and non-forecast demand.
Each product needs to have a service level assigned. The service level is typically set as a percentage and relates directly to ‘on-shelf’ availability.
The service level assignment should be aligned with the portfolio classification. So potentially products that are classified as ‘A’ may be targeted at 99% on-shelf availability, whilst products classified as ‘B’ may be targeted at 95% availability and so on.
Varying the service level according to the product classification ensures that working capital is deployed in proportion to where the most value is returned.
There are two elements of an inventory target: cycle stock and safety stock. These two elements added together provide the reorder point (ROP). The ROP is the level at which the stock must be before a replenishment order is placed.
Using the probability analysis and service level targets, the ROP will be the optimum level of inventory that will ensure supply during the replenishment lead time and protect against any unforeseen fluctuations in supply or demand.
As a focus for improvement, it is of value to undertake ‘what-if?’ scenario modelling against the calculated inventory targets. Typical scenarios to model include the impact to inventory costs of lead time reduction or varying service levels.
Modelling optimal inventory levels is not a ‘one-off’ exercise. It needs to be repeated periodically to reflect changes in demand profiles, supply lead times, new product introduction and product delisting.
This can be achieved quickly and easily where a robust inventory model has been created encompassing the preceding 7 steps.
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