For companies who face cyclical and seasonal demand, the inventory method of choice is Min/Max. While the company knows they’ll get an order within a given period of time, say a quarter, they aren’t exactly sure when, and must maintain a minimum amount of product in order to capture those opportunistic sales. However, the question for most companies is how to come up with those values inside the Min/Max system.
Contrary to popular belief, Min/Max is still a viable and useful system of inventory management. While there are additional holding costs month to month, and companies do risk damage to inventory the longer its held, overall, these costs can be offset provided the company uses its economies of scale to secure lower freight costs, and lower pricing, on incoming parts.
What Information Does a Company Use to Determine Inventory Levels?
Companies must match their inventory levels to their business model, and their customers’ order patterns. A company must use its historical sales figures, and future sales forecasts, to determine both the minimum and maximum level of inventory held at any given time. From both the historical data, and from constant feedback from sales, a company can develop a realistic safety stock threshold.
For example, if a company’s average per quarter sales volumes are 10,000 units, purchased by 20 customers, and include a typical order size of approximately 500 units, then it should be able to determine its sales cycle times for each individual customer. This information, coupled with the historical data on customer order patterns, should provide the company with a realistic benchmark on its safety stock levels.
How Would a Company Determine Minimum Inventory in This Case?
From the example above, if the company averages 3000 units sold a month, and the lead time for stock replenishment is approximately 3-4 weeks, then a relatively save minimum inventory threshold would be to cover this 3000 units, plus 50% of this value to account for any sudden spikes in demand. So, in this case, a minimum inventory level might be 4,500 units, and a maximum level could be as high as 10,000 in to cover the entire quarter’s requirement.
Gradually, over time, the sales cycle time can be shortened provided the inventory is properly managed. Lead times for stock replenishment must take into account the customer’s sales cycle times, and must accommodate for increased demand or seasonality. Feedback from sales is essential and any information relating to a change in customer demand must be conveyed immediately.
- Analyze demand from customers within a given period.
- Assess the average units per order.
- Determine customer sales cycle times.
- Use historical order patterns, and account for seasonality.
- Determine number of customers ordering within that given period.
- Encourage constant feedback from sales on changes in customer demand.
When it comes to managing inventory, it is always a give and take between buying too much, and too little inventory. Neither of these outcomes is good for the company. Therefore, in order to be as accurate as possible, companies must have solid sales forecasts, understand their customers’ purchase requirements, and have a handle on the order times.
Ian Johnson - I currently run a business blog called www.driveyoursuccess.com. I have over 15 years consulting experience in production cell management, ...
