Maintaining the right level of inventory of milk in your home refrigerator is easy enough: the past couple of months you have been using around three cartons weekly. You determine the number of cartons on the weekly grocery-shopping list by counting the remaining full cartons. Buy the number of cartons that gets you back to three full cartons, oh, and do take special circumstances into consideration. Part of the family out next week? One carton less. Kids have friends over for lunch? One carton more. If at home simple logic can ensure milk is available throughout the week, then why do supply chains at work have a hard time getting it right for products that should resemble milk carton logic?
For reference, products that resemble milk carton logic have been part of your portfolio for a while and will be part of your portfolio for at least another year. All customer orders are fulfilled out of inventory. The supply chain issues replenishment orders to ensure inventory is available (MTS) as opposed to issuing production orders to fulfill a customer order (Make to Order, MTO).
We regularly help companies that struggle with both service performance and working capital. They suffer from poor service, because they don’t have enough inventory to meet demand for some products. And they’re faced with a high impact on working capital caused by too much inventory of other products. Here are four reasons inventory replenishment does not result in the right levels of inventory:
- sales forecasts drive replenishment;
- upcoming special circumstances are not considered;
- the reliability of getting material on time is overestimated;
- stock outs triggers higher inventory targets.
Sales forecasts are hard to get right, specifically at item level. The accuracy of the forecast for a distant future is lower than that of next week. Sales ambition, optimism as well as bonus targets are among the factors that might skew the numbers. Using actual weekly sales data of the last twelve months instead of the forecast in many cases predicts future sales remarkably well. So, is your supply chain betting on sales forecast or counting on past data to set replenishment parameters?
In milk-carton terms: the family decides to have cereal and milk for breakfast next week, instead of toast and marmalade. Would you rely on the three cartons per week replenishment logic? So what happens if one of your big customers plans a promotion campaign for one of your MTS products? The question to ask is whether your supply chain trusts the replenishment settings to accommodate a sudden surge in demand or whether the upcoming promotion triggers a special action.
Overestimation of supply reliability
The milk replenishment logic does rely on a predictable supply. Milk availability might suffer if, instead of Saturday morning, you decide to defer grocery shopping to Monday. In your supply chain, how much time can you allow to pass between issuing a replenishment order, and receiving the goods? Are replenishment lead times specific to each item and set based on data? Are actual lead times measured and regularly reviewed? The question to ask your supply chain: when was the last time lead times as input to the replenishment settings were updated?
Stock outs trigger higher inventory targets
Running out of milk at home triggers action. Usually a quick replenishment at an odd hour on an odd day – no further questions asked. It rarely results in a change of stocking policy like aiming for four cartons from now on. Similarly, stock outs in the supply chain trigger action. Actions we typically observe: expediting of replenishment orders –that lead to increased costs- and changes in replenishment parameters – that lead to more inventory-. Unfortunately, these typical actions tend to address the stock out as a symptom, but do not address the underlying root cause that may well lie in one of the previously mentioned three reasons for not getting your replenishment right. The next time you hear about a stock out causing delivery problems to your customer, rather than asking for the action to resolve the symptom, ask your supply chain for the root cause.
We are curious to learn if any of these four reasons contribute to your supply chain challenge in getting the inventory replenishment right as well and if the questions mentioned are helping you to improve.
Jan Martens is Senior Business Process Consultant at R&G Global Consultants in the Netherlands.