Carrying the right amount of safety stock . . .
I can’t recall ever coming across a company that does not employ safety stock in some manner. However, I also can’t recall many businesses that use it intelligently and effectively. While safety stock is necessary for avoiding disruptions and delivering an acceptable level of customer service, it also is an easy thing to abuse.
According to the APICS Dictionary, the purpose of safety stock is to “protect against fluctuations in demand or supply or, in the context of master scheduling, protect against forecast errors and short-term changes in the backlog.” There are two main problems with the way companies use safety stock: They treat it as the default method to compensate for all possible causes of shortages; or they do not manage it, instead taking a “set it and forget it” approach.
While safety stock is meant to help compensate for variability and forecast inaccuracy, it is not intended to protect against inventory loss, including damage, pilferage, and expiration; scrap or losses in production; and late receipts from the vendor or customer. There are other ways to reflect these risks in planning calculations: shrinkage factors, adjusted bill-of-material quantities, yield factors, and safety lead time, for example. While each of these methods generate additional inventory, they do so in ways that are more appropriate to their situations.
Properly adjusting for each factor that drives inventory loss provides the opportunity to directly address causes of risk, measure risks and actual losses, and manage the right amount of additional inventory to get the job done. If all causes and compensation are rolled into the single category of safety stock, you will miss out on this opportunity and wind up with more inventory than you need or less protection than you expect.
Set it—but don’t forget it
At most companies, when a new system is implemented or a new item defined, some amount of safety stock is established. This safety factor is not revisited unless shortages occur. If they do, safety stock is increased until the pain goes away, and the result usually is more inventory than is justified by the level of variability.
Safety stock is one of the first areas a company should examine when seeking to trim down inventory. With proper management, excess inventory can be reduced without a measurable increase in stockouts. However, when safety stock is used as the single compensation for all shortage risk, it is far more difficult to determine the proper amount to carry.
The best approach is to identify the level of risk for each potential shortage factor, set the proper controls in your planning system, and institute a program of periodic review of each factor to make sure it still is appropriate for current conditions. With this process in place, your continuous improvement efforts can focus on eliminating extra inventory through lessening variability, boosting forecast accuracy, reducing scrap and yield loss, improving on-time receipt performance, and increasing inventory record accuracy. If successful, perhaps you can adjust your safety stocks’ compensating factors and even further reduce your inventory.
Reprinted from APICS Magazine: Enterprise Insights. January/February 2014