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What are the biggest inventory optimization factors in ERP?

Replenishment strategies, lot sizes, safety stock, reorder point planning and replenishment lead time are five factors in ERP that can ensure inventory remains at an optimal level.

Inventory planners are acutely aware that stock availability depends on demand, supply and lead time, but these factors are always subject to uncertainty. To mitigate that uncertainty and find the optimal level of safety stock, they can review and update their ERP system with the following five compensating factors that affect inventory optimization.

Replenishment strategy

A replenishment strategy defines the materials planning approach that an ERP system needs to adopt to plan the procurement or production of a material. Some of the commonly used replenishment strategies are material requirements planning, master production scheduling, demand-driven planning, forecast-based planning and reorder-based planning. Inventory optimization is also possible with strategies that automatically calculate safety stock and reorder a quantity based on historical consumption of the material. When choosing a relevant replenishment strategy of a material in ERP, consider the following six inventory key performance indicators: past usage value (ABC analysis), usage variation (XYZ analysis), replenishment lead time (EFG analysis), material price (UVW analysis), storage constraints (LMN analysis) and product lifecycle (LRODI analysis).

The most practical approach to assigning a replenishment strategy to a group of materials in ERP is to classify and categorize them based on similar attributes.

Lot-sizing procedure

The most practical approach to assigning a relevant replenishment strategy to a group of materials in ERP is to classify and categorize them based on similar attributes.

When an ERP system determines that there's a material shortage, it looks for the lot-sizing information. A lot size is the quantity of material that is either procured (for external materials) or produced (for in-house materials). Some of the lot sizes available in ERP are the exact lot size of a required quantity, the fixed lot size regardless of the required quantity, the weekly or monthly lot size that combines all requirements of the period and the lot size that replenishes up to the maximum stock level.

When choosing a lot size, take the periodicity of the requirements into account. For example, if there's a monthly requirement of material, planning with a weekly lot size won't help. However, if the requirements are weekly and involve an expensive material, it is better to consider weekly lot sizes that will bring material into stock on this basis rather than having a monthly lot size that would result in high short-term stock value and additional storage costs. Other lot-sizing factors to consider in materials planning are storage constraints and vendor-dictated minimum lot sizes.

Safety stock

Safety stock is the additional stock used as a buffer to account for demand and supply variability and uncertainty. Three safety stock options are available in ERP: static safety stock, dynamic safety stock and automatic safety stock. With static safety stock, the business user manually maintains a safety stock level without considering fluctuations in demand and supply. With dynamic safety stock, the ERP system automatically calculates the average daily safety stock required to meet the planned demand of material for a given period of time. In an automatic safety stock calculation, the system automatically determines the safety stock based on historical consumption, variability in demand and supply, and anticipated future demand. Not maintaining safety stock of those materials can work well when there's low demand variability, when the lead time is short or when there is noncritical material with a high storage cost.

Reorder point

In a replenishment strategy that involves reorder point planning, the ERP software automatically triggers replenishment when the stock falls before a defined reorder point, thereby helping to achieve inventory optimization. A reorder point strategy is only applicable when reorder point-based replenishment planning is used for materials planning and works in tandem with safety stock and replenishment lead time. Like safety stock strategies, reorder point planning can either be maintained manually or an ERP system can automatically calculate it based on the targeted service level, the number of times a material needs to be available when needed, the replenishment lead time and the forecast accuracy. The more variable the demand or supply of a material, the higher the reorder point and the safety stock will be.

Replenishment lead time

The replenishment lead time (RLT) is the total period of time that elapses from the moment a material is required until it is available for use. It is the total time needed to either procure a material or produce it internally. RLT is also an important factor when determining safety stock -- the longer the RLT, the higher the safety stock and vice versa. When manually calculating safety stock quantity, always consider the RLT to ensure that there's sufficient stock coverage during that time until new material arrives. In the automatic safety stock calculation, the total RLT is part of the equation as well.

  • External procurement: RLT = planned delivery time + procurement processing time + goods receipt processing time
  • In-house production (lot size-independent): RLT = in-house production time + goods receipt processing time
  • In-house production (lot size-dependent): RLT = lot size × (processing time ÷ base quantity) + setup time + interoperation time

An ERP system can maintain the RLT of a procured material in three different fields: the material master, where an average RLT of a material is purchased from any supplier; the vendor master, where the delivery time is maintained; and the purchasing information record, which is a one-to-one procurement relationship between a vendor and a material. Based on the procurement history of a material that shows the difference between the planned RLT maintained in the three fields in the ERP system versus the actual RLT it takes to replenish a material, it is a prudent practice to update this information periodically to ensure inventory optimization.

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