Three Ways of Reducing Inventory Safety Stock
Safety stock is a layer of inventory that acts as a buffer to prevent stock-outs caused by the demand variability for your inventory items and the lead time variability of your suppliers. It is there to protect you just in case an unforeseen spike in demand occurs or if your next shipment from a somewhat unreliable supplier is delayed. Safety stock isn't sized to protect you 100% of the time. Doing so is prohibitively expensive. For many businesses however, maintaining a safety stock that achieves a 95% service level is reasonable while some industries require service levels goals upward of 98%. While safety stock can be reduced by decreasing your service level, this comes at the cost of losing customers.
A better approach to safety stock reduction is to invest your safety stock dollars in the more predictable faster moving items in place of viewing all items equally. This strategy allows you to increase your average service level percentage with less safety stock investment. Because these items are more predictable the safety stock required to attain a higher service level is typically less than a slow more erratic “C” or “D” ranked item.
Accurate Demand History
Keeping your demand history free of abnormal spikes and outliers reduces the amount of demand deviation and safety stock. Identifying and removing promotional movement and one-time variances that are not considered “normal” demand will reduce the demand variability and allow for lowered safety stock to be carried to achieve your assigned service level.
Eliminating history periods that no longer represent the current demand and business can also reduce the demand deviation. Many systems today allow the user to select a time or period in history to begin calculating the forecast and demand deviation.
Supplier Lead Time
Collaboration with your vendors to establish a more accurate lead time can reduce the amount of lead time deviation. This in turn will reduce the amount of safety stock needed for the items within the vendor. You may be surprised to find that many companies build in an additional layer of lead time to account for this variance on top of the lead time deviation. In many cases, you may be able to reduce the actual lead time and the deviation for the vendor.
Centralize Your Inventory (Multi-Echelon)
If you maintain multiple warehouses that service different geographic areas, each warehouse must carry sufficient safety stock to account for regional demand variability. However, by pooling the separate inventories together into one centralized warehouse, the overall safety stock requirement is reduced. The reason is that when the individual demand uncertainties of the different regions are summed together, a certain amount of cancellation occurs.
When Region A has a demand spike, Region F for example may have a demand dip for that month. When taken together, the variations of the two regions cancel. Centralizing inventory locations in this way takes advantage of a
broader concept known as risk pooling.