Thursday, March 21, 2013

Reorder level planning for finished goods in the distribution network

There are many situations where reorder point planning is a very good choice of policy. Unfortunately, as to my experience and opinion, it is rarely used for finished products. And even more unfortunate, I have seen it being used in a way that really doesn't help with the communication, delivery service rating or inventory holding targets that are required in an effective supply chain.

A reorder level procedure is a stochastic replenishment method where stock is held before the actual orders come in. Therefore product is Made To Stock! The idea is to deliver to customer orders (or other requests... let's say from a warehouse or distribution center) from free available inventory; immediately! You should not - and I have seen this many times - wait until you have an order before you trigger any action to replenish and fulfill the order.

Look at the following graphic:

on the upper part you can see an example of a inventory level for a finished product on a timeline. Every time an order comes in, the inventory level drops. Only when an order causes the inventory level to drop below the reorder level, a replenishment is triggered... and only then! And if the reorder level is set (and designed) to have enough inventory within the replenishment lead time, you will not run out of stock. Any variability can be covered by having a safety stock lift up the reorder level.

If you follow this simple rule you will not run out of stock - within limits of course. And that limit is defined by the service level setting of... 95%? 98%? 99%? careful! the higher the service level, the more stock you'll carry in safety.

However, if the rules are not followed you might be faced with a situation like the following:
In case the planner waits until the orders come in before the replenishment is triggered, it will be very hard to get the inventory above the reorder level. In that case replenishment is triggered every time an order is placed and the production scheduling people are faced with an insolvable task. Your customer lead time will also be extended from only a few days for delivery, to many weeks including production, raw materials procurement, transport and delivery.

Reorder point processing is a great tool for automated service level and inventory holding optimization; but your planners need to use it the right way.

Sales & Operations Planning! Execution to the Commanders Intent

Every good leader has a good strategy. And every efficient organization knows their leader's intent. All employees at Southwest Airlines know and act to the CEO's intent. Herb Keleher says to his people: "We are THE low cost airline. Once you understand that fact, you can make any decision about this company’s future as well as I can.” Just check it out... next time you fly from Austin to Denver ask your flight attendant why Southwest doesn't have First Class seats, Foie Gras for dinner or luggage fees. Yes, I am sure, his answer will be the same as the person who checked you in. Because they all work towards the same goal: to be THE low cost airline, and because it's not that hard to make decisions on problems like 'expensive or cheap food?', 'expensive seats or more seats?', 'expedited boarding process or first class waiting lounge?'. It's all crystal clear and to the point!

So it should be with your Sales & Operations Plan. The S&OP is your commander's intent. So, first of all... you better have one!

For some the S&OP is simply the forecast; for others it's financial budgeting. Many companies, however, integrate their financial planning with a sales forecast on product group level and the real good ones also roughly check if the plant's capacity suffices and then subsequently ensure a proper transfer of demand. They also re-evaluate their product strategy (MTS vs. MTO vs. FTO vs. ATO) and make the appropriate adjustments in the master data. Is all of that done inside SAP functionality without the use of external applications? Mostly no, but that should be discussed in another blog post.

And here lies the crux of the matter. If you don't integrate finance with sales... if you don't connect the production department with a feasible plan... if you don't make the proper distinction between MTS and MTO... and you work in various, different systems; you will have a very hard time communicating the commanders intent; and have everybody putting their nose in the same direction.

A Sales & Operations Plan carries information about what products do we stock and how much of it? what do we need to invest - resources and capital? what's going to be our profit? what lead times will we promise for which product? What's going to be our supplier make-up? and what is our Plan B in case of variability (which is part of our life). Yes, it's the strategy, policy and general direction everybody should work towards to. For short: The Commanders Intent!

If you are interested in learning more about how bigbyte helps SAP customers to build an effective, integrated and automated S&OP - using standard SAP functionality - visit us at or drop me an email at

In my mind an isolated look at how you plan your finished goods does not suffice. S&OP is impacted by, and has an impact on, many areas within the supply chain. We all know that... but do we also live by it?