Product Inventory Management

Whats is buffer stock, Reorder Point / Threshold inventory and Maximum Inventory, How to calculate reorder point

Christian Wijaya avatar
Written by Christian Wijaya
Updated over a week ago

Inventory management is the process of managing and controlling the inventory of goods or products to be distributed by the company to consumers. The objectives of inventory management in the retail business are :

  • Fulfill product quickly

  • Control inventory

  • Analyze product sales

Inventory management is useful for controlling the stock of goods and as one of the steps to determine the planning of goods needs every month. With proper inventory management, your business can be more productive and efficient because you don't have to count inventory every time.

I. Buffer / Safety Stock

Through good safety stock management, the supply chain can continue to operate so as to minimize delays in shipping goods. Safety stock Is the minimum stock of goods that must be prepared to prevent a shortage of goods when there is uncertain market demand.

This safety stock is needed to determine the right inventory level. If the inventory is too large, the circulation of money will stop in trading capital. Conversely, if there is too little inventory, the company will experience stockouts.

Here is the complete formula for finding Safety Stock :

The formula is calculated from reorder points and is useful when market changes occur over a long period of time (≥ 2 years). You can improve this reorder point calculation by compiling an income statement every 3 months.

II. Reorder Point (ROP) / Threshold Inventory

Reorder point / Threshold inventory is the reordering of inventory items, either raw materials or other supplies before the stock in the warehouse runs out. The reorder point / Threshold inventory determines the minimum inventory limit in the warehouse. If the amount of stock has reached the minimum reorder point / Threshold inventory, the company must immediately place an order again.

As a professional manufacturer, you definitely want to meet customer demands in a timely manner. The right ROP calculation will make ordering goods run smoothly. Professional business people will not use instinct to increase inventory.

Professional business people will definitely stock up on goods in warehouses to anticipate high seasons such as Festive Days. In principle, it's better if the sales reach the quota, it doesn't matter if the goods haven't run out.

How to Calculate a Reorder Point / Threshold Inventory

You need to know when to order each item in your inventory separately because different items have different sell-through rates. To calculate the ROP for each item, you’ll need to know the following parameters :

  • Lead Time

    Time taken (in days) for your vendor to fulfill your order

  • Safety Stock

    The amount of extra stock, if any, that you keep in your inventory to help avoid stockouts

  • Daily Average Usage

    The number of sales made in an average day of that particular item

A. Calculating ROP with Safety Stock

This method is used by businesses that keep extra stock on hand in case of unexpected circumstances. To calculate a reorder point with safety stock, multiply the daily average usage by the lead time and add the amount of safety stock you keep.

rop = (daily average usage lead time) + safety stock

Suppose you are a shirt retailer who sells 100 pieces of shirt every day. Your vendor takes 10 days to deliver each batch of shirts you order. You keep enough excess stock for 7 days of sales, in case of unexpected delays. Try to calculate ROP according to the example above.

Lead Time = 10 Days

Daily Average = 100 Pieces

Safety Stock = 7 Days x 100 Pieces = 700 pieces of shirt

Reorder Point = (100 x 10) + 700 = 1700 pieces of shirt

The order for the next batch of shirts should be placed when there are 1700 pieces left in your inventory.

ROP & Safety Stock

In the above graph, the maximum level is the sum of the safety stock and the order quantity, or 2400 pieces. Once the stock left in your inventory reaches the reorder level of 1700 pieces units, you should place a new purchase order with your vendor. The minimum level, which is 1000 pieces, will help you fulfill your orders until your ordered stock reaches the warehouse. Once the new order is received in your warehouse, the stock level returns to the maximum level of 2400 pieces of shirts.

B. Calculating ROP without Safety Stock

Businesses that follow lean inventory practices or a just-in-time management strategy usually don’t have safety stock. In such cases, your reorder point can be calculated by multiplying your daily average sales by your lead time. Usually, when you don’t have safety stock, your reorder level and the frequency of your orders tend to be higher.

rop = daily average sales x lead time

Taking the above shirt example without including safety stock :

Lead Time = 10 Days

Daily Average =100 Pieces

Reorder Point = 100 x 10 = 1000 pieces of shirt

Therefore, you should place an order for the next batch of shirts when you have 1000 pieces left.

III. Maximum Inventory

Maximum inventory is the maximum amount that is allowed to be stored in inventory so that the costs incurred can be as small as possible according to the order quantity.

The maximum amount of inventory in the warehouse can be found by adding up the quantity of inventory according to EOQ with the amount of safety stock.

As for knowing the maximum amount of inventory according to Assauri (2004:254), a formula can be used, including the following :

maximum inventory = safety stock + eoq

Maximum inventory is required by each company so that the quantity or amount of inventory in the warehouse is not excessive (over) so that there will be no waste of working capital.

Our system has already can handle Reorder Point / Threshold inventory and Maximum Inventory for every item on your inventory. Try to read this Reorder Point & Maximum Inventory.

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