Published March 9, 2017
As we explained in Part I of this series, inventory planning is a journey and not a task. Your end exemplifies your strategy, the products that will position your business, and the customers that are important. It is the tactical representation of your strategy.
During the last discussion, we presented the basic equation for inventory planning and discussed the meaning and components of defining the demand.
Inventory Level = Average Daily Demand * Average Product Lead Time
Through the discussion we realized that thinking of demand as a quick exercise of pulling sales history may not be a good approach. We broke the forecast demand into its fundamental components and provided a perspective of how statistical methods aid in the process.
In the ensuing discussion we take on understanding the lead time component. We will take a similar approach in starting at a high level so you can grasp the concepts before digging into the particulars. If you can firmly grasp the fundamentals, the details will become very easy.
High Level Perspective
Consistency in supply is critical to planning when to expect additional inventory. Without a predictable supply, it is hard to ensure the supply of goods with the need for them. The technical term for this is Just-in-Time (JIT). Just-in-time (JIT) is an inventory strategy companies employ to increase efficiency and decrease waste by receiving goods only as they are needed in the production process, thereby reducing inventory costs. JIT inventory planning exemplifies the most efficient inventory management process.
In the base equation provided, once we have a firm grasp of the forecasted demand our attention critically moves to the lead time for inventory. As with demand, simply using the average real lead time experienced from a vendor ensures that we will meet demand half of the time. How can we plan for the unknown? It is as described, the unknown.
In this discussion of the supply side of the process, we will discuss ways of analyzing and/or forecasting this parameter. While analytics provide a great degree of guidance, working directly with your suppliers will help you truly unlock the opportunities to better manage lead times. By better understanding the processes and “lock windows” of your supplier, you will be able to better communicate your needs during their planning periods so they can ensure they have a plan to meet your needs.
Managing your supplier as a real partner is critical to ensuring an effective product flow. Because you are reliant on your supplier for the things you sell, you need to change your approach from one of vendor-consumer to one of partner-vendor for goods. Many let the need to increase profitability of their business to over shadow the need to work with their suppliers in a collaborative fashion.
Lead Time Impacts
In our simplified equation, we defined lead time as a key component. Let’s take a moment to dive into this to understand the complexities. As before, we will start this discussion at a very high level and work our way into the detail. To tackle the equation element we first need to have a clear definition of what lead time means.
As a firm base for our journey, it is imperative that we define what lead time means. Webster’s New World dictionary defines lead time as, “the time between the initiation and completion of a production process.” Ensuring the team clearly defines the start and end points of the process is critical to providing the right supply.
It is very common for a business to use the start of the process as the order creation date and the end point as the warehouse/store receipt date. This assumes all requests are approved as they are presented and all items received are available immediately. While this data may be easy to retrieve, it may provide time gaps, what you are not planning for.
At what level (e.g. total vendor, plant, product category, item, etc.) should you plan? Let’s briefly discuss the value of planning at each level:
- Planning Levels
Planning lead time around a single vendor factor assumes that all parts are controlled equally by your suppliers. You are planning for your orders to be shipped like clockwork without regard for what it is.
Products are manufactured within a manufacturing facility. Based on the level of competency of the manager at each plant, the order responses may vary. While this takes into account specific location performance, it continues to assume that all parts within the plant will be handled the same way.
- Product Category
Similar products typically require similar components. Reviewing performance at this level acknowledges the supply or component parts’ impacts on lead time. It fundamentally assumes it is the nature of the part that drives the lead time and not the vendor or manufacturer.
At the lowest level, reviewing the item performance recognizes that each item is unique and as such has its own potential issues. It makes no assumption about the supplier, but assumes the part will be managed uniquely.
Most times, you will use a combination of these factors. By understanding the historical performance of each item and vendor, you can determine the right metric or combination of metrics.
- Planning Levels
- Factors Impacting Lead Time
In the discussion on demand, we introduced the fundamental factors for dissecting the performance and creating a forecast. While the topics are similar for lead time, the application and recommended solution will be quite different.
Understanding any predictable seasonal variations is imperative to adjust the lead time, to match market conditions. The key here is the impact must be predictable and consistent. While some may point to the Chinese New Year, for example, the fact that this holiday moves year to year means one must manually adjust history to take it into account.
This is at best understood as a subtle movement of the business. Because it is slow in materializing, many processes fail to find trends early enough so they can respond appropriately. If you are always chasing stock-outs no matter how much inventory you are buying, this is usually caused by a trend that you have not recognized.
- Service Level
This is probably the hardest concept for most people to fully grasp. It is probably easiest to explain using a customer complaint application. If you have 100 customers you will sell to this holiday. How many of these customers do you want to come back to your store with a complaint?
I think it is easy to say you do not want half of them. Using the average demand, basically plans for half of them to come back. If you only want one, you will be planning for a 99% service level. This is an important definition because it has a high impact on the level of inventory you are planning.
Most analysis starts with 0% complaints, and works their way back to a realistic number that they are comfortable investing in. Understanding where you will land will be a business journey. You will begin to educate the business on the impact of reducing complaints and the cost (in inventory) to accomplish this.
You will quickly recognize that you cannot afford to treat each item equally.
While statistical processes can consume these factors and provide a forecast, experience would tell you that the result you will receive will not be one you can invest in.
- How to Forecast?
Unlike the approach we used in forecasting demand, for supply we do not recommend using statistical methodology. We have tried using these tools in the past, but the many factors which impact the end order to receipt time make the variability too large. You may want to try it to prove this to yourself, but we recommend bypassing this effort.
The recommended approach is to arrange your historical lead time performance by item from shortest to longest performance. Select the value that aligns with the defined service level. For example, if you have 100 historical values for an item and you want a 98% service level, select the 98th value.
Why take the recommended approach? There are too many factors which can impact your lead time:
- Transportation Delays
As goods move from point to point in the supply chain, there are many things that can delay the flow of goods.
- Tractor Breakdown
- Flat Tire
- Port Congestion
- Natural Disaster/Road Closure
- Asset Constraint
You contracted this to a 3rd party so you did not have to manage the details. Accept these potential obstacles as regular business and work to plan for them in your lead time component.
- Order Issues
As the business runs, repeatable activities often promote laziness in an attention to detail. As this occurs, orders can be delayed while they are fixed. These delays should be planned for.
- Operational Clock Mismatches (i.e. Time of Day for Order Receipt to Ship)
Every business has an operational clock from which they run. This clock establishes when shifts will change, the work to be done on each shift, and the activities customers should expect. Missing these windows can cause delay and elongate the lead time.
There are too many operational or tactical real world things that can happen that you do not want to burden your process with managing. As a result, you can use the recommended approach and review the output. If the lead time appears unacceptable, you can accept a different value knowing the potential supply gap you are planning for.
- Transportation Delays
- What to Forecast?
As we discussed, defining the clock start and stop is critical to ensuring ample inventory supply. While this sounds simple, a little thought up front will ensure you have mapped the supply chain and ferreted out operational issues that drives inventory.
The start of the process is when you recognize the need within your business. It must include any approvals for this need to become and order, as well as any time to enter an order. You will find that there are internal delays that slow the progress of an order. By understanding these delays, you can establish business management rules that allow a set of activities to occur without delay.
By flowcharting the process you will easily see a lot of time that the internal management system creates that equates to inventory. Any delay in the request can result in a transmitted order, equating to additional inventory in your supply chain.
- Vendor Start
The clock for your vendor should start when you transmit your order to your supplier. You should work with your supplier to understand when they acknowledge your order and when it is entered into their system. As your partner, your vendor has to recognize that acknowledgement of an order, starts your clock.
Take the time to understand any delays between when your request becomes an actionable order for your vendor. As you work together you will begin to understand the process and be able to remove delays.
Most organizations stop the clock at receipt of the inventory in their facility. This is done because they can easily pull a transportation invoice or a Receiver can tell them when an order is received into the business. One must recognize, however, that receiving product into the DC does not mean it is available for use.
Many organizations do not pull inventory until it is moved into a “pickable” location. When this is the case, the clock should not stop until the product is in a location. It is important to note that you do not eliminate this time because in a rush we can grab it from the dock. You should plan for the desired (e.g. every day) operational flow to ensure you eliminate “rush” activities.
As you can see, it is important that you clearly understand the processes and factors that can impact the flow of goods. By facilitating this discussion, you can help the business streamline their processes, and as a result reduce inventory.
In this discussion, we investigated ways to understand and define the lead time. We learned it was an important measurement that defines the efficiency of the business to reduce a need into on-hand supply. We challenged the team to review the entire process, both internally and externally, to ensure we eliminated delays in inventory flow.
The nature of the process necessitates that you open up dialogue with your vendors to find ways to work better together. By recognizing the strategic partnership, you will work together to reduce operational inefficiency. Concepts like Collaborative Planning and Forecasting (CPFR), Vendor Managed Inventory (VMI), and Vendor Collaboration are industry terms used to define the intended processes.
Supply gap also means lost sales. Making sure you understand the true part lead time will ensure you never experience cancelled orders.
“When solving problems, dig at the roots instead of just hacking at the leaves.”
Anthony J. D’Angelo
Creating a burning platform of organizational efficiency ensures that you minimize your investment in inventory. Every player of the business has a role to play in the process. Engage in the business during your planning process and get the business to understand their impact on inventory. Get the team aligned to help reduce inventory.