Managing Uncertainty in the Supply Chain: Safety Inventory - Review Notes

Review Article on Chopra and Meindl - Supply Chain Management

Chopra and Meindl's book, Supply Chain Management: Strategy, Planning, and Operation, is a comprehensive introduction on supply chain management.

Safety Inventory

Safety inventory or safety stock is inventory carried for the purpose of satisfying the demand that exceeds the amount forecasted as systematic component for a given period.

While in olden days, if an item is out of stock, customer used to wait and come back to the store after sometime, in the E-commerce days, customer will search another site that offers availability. Hence, availability is a critical issue in the modern supply chains.

The appropriate level of safety inventory is determined by taking into consideration, the uncertainty of demand represented by the forecast error, and the desired level of product availability.

Measures of uncertainty of demand

Given a past demand history of 'n' periods we can find the average demand and standard deviation.
If lead time is k periods the forecasted demand during the leadtime will be 'k' multiplied by the average demand for the period and standard deviation of demand during lead time will be square root of 'k' mulitplied by standard deviation of demand.

Measures of Product Availability

Some important measures are:

1. Product fill rate
2. Order fill rate
3. Cycle service level (CSL)

Cycle service for an item can be evaluated using the EXCEL Function NORMDIST(ROP or ROL,DL,SDL,1)

Where
ROP = reorder point
DL = demand during lead time
SDL Standard deviation during lead time


If the cycle service level (CSL) is given, safety inventory to be maintained can be found from the EXCEL function NORMSINV(CSL) and SDL

Safety Inventory or Safety stock = NORMSINV (CSL) * SDL

Managerial Alternatives to Manage Uncertainty in Demand

Aggregation of Inventory in Supply Chain
Information centralization
Product substitution: Supplying a higher quality item when lower quality item is out of stock. Customer pay the price of lower quality item only.
Informing customer of substitution possibilities: When a customer makes an enquiry for an item not in stock, he is informed of the substitution possibilities.

References


Sunil Chopra and Peter Meindl, Supply Chain Management: Strategy, Planning and Operations, Prentice Hall, 2001. Supply Chain Management: Chopra and Meindl - Book Information and Review

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