July 28, 2005
Notes From an Inventory Management Consulting Job: Part II of IV
2 of 4: Collecting the remaining data needed to determine
Reorder Points
To recap, at the end of the first day of consulting I had found out what went into the kits and the lead times for the materials. On day two it was my job to determine what the demand was and how much standard deviation was in that demand. Lucky for me the mail room manager keeps excellent records of this data. Not so lucky for me was that their demand recently increased by quite a sizeable amount due to a permanent increase in advertisement and that this demand was projected to remain high. This cut my useable demand data drastically.
Fortunately the manager was still able to supply me with 19 pieces of demand data. This data was enough for me to determine the average demand the mail room faces as well as the standard deviation in that demand. I then took that data and turned it into weekly figures and determined the average weekly demand and average weekly standard deviation. Although this weekly demand data is only based on 3 complete weeks worth of data, the data will be better in the future, as I’ll explain later.
As I mentioned earlier however, there are certain types of
kits that require an additional booklet as well as an additional 30 pieces of
paper. In order to determine the
approximate demand for these materials, I determined the approximate percentage
of kits that require these extra pieces and then I counted those pieces into
the use of raw materials only as often as I projected they would be used.
Now I had the information I needed to determine the Reorder Point. I had the average lead time, the average demand, and the standard deviation of the demand. The missing piece of this formula is the z value which comes from the service level. Service level and z values are explained in greater detail in a previous post which can still be found on this blog.
I multiplied the average lead time by the average demand together in order to get the point at which they should reorder assuming there is no deviation in demand. However, since there is always deviation from the average demand I also determined the safety stock.
To get the safety stock, I used the following formula:
z*Square Root of (Average Demand^2*Standard Deviation of Lead Time^2 + Average Lead Time*Standard Deviation of Demand^2)
I Then added the safety stock to the result determined from multpiplying demand with average lead time and together they make the reorder point. When current inventories reach this level, the managers need to reorder.
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