When companies are growing they typically do not spend too much time thinking about inventory or other efficiencies; they are busy making sure they have enough products to satisfy demand. When business slows down or is in transition there is more focus on cost – starting from the most visible one: excess inventory.
The typical approach to tackling inventory performance issues is threefold:
- Try to improve forecasts through better demand planning
- Introduce an S&OP or SIOP process to coordinate sales, marketing, finance and manufacturing
- Perform ABC analysis on the products to identify fast movers and slow movers
All these steps are useful but dealing with excess inventory without understanding the drivers of inventory is like taking care of the symptom instead of trying to cure the disease. Understanding the inventory drivers is the key to finding success in supply chain management.
What drives inventory in the supply chain?
- Service level – what is the commitment internally and to the customer? How much more inventory does a higher service level require? What service level do you really need to succeed? What are the desired transportation modes? Are you expediting shipments?
- Lead times and their variability – inventory is maintained to cover for the wait to replenish as well as the fluctuations in delivery. Therefore transportation modes, internal loading etc. have a big impact.
- Demand and its variability – of course forecast and variability impact inventory – the higher the variability the more inventory is needed.
- Reorder frequency and quantity – these decisions influence inventory levels required to cover for the cycle time.
- Inventory positioning across the supply chain – where you maintain inventory across the supply chain can make a big difference.
- Risk in the system – the level of inventory that you need to keep to cover for high financial risk unexpected events. Sometimes this is called strategic inventory.
Given the complexity of these factors and the various trade-offs, it is hard to tell where to start. We recommend an end-to-end inventory optimization process that enables you to quantify inventory opportunities, the drivers of these opportunities and create a common platform for management to identify new strategies that improve supply chain performance.
In addition, understanding the important risks in the system, those with a high risk exposure index can further enhance the resiliency of your supply chain strategy and your ability to protect the company from unforeseen events.
To hear more about how our customers work with us on these challenges, we recommend our recent webinar with Pepsico.
Written by Edith Simchi-Levi, VP of Operations at OPS Rules Management Consultants