Introduction
Keep your business competitive by managing inventory levels, calculating reorder points, and knowing when to restock. However, many retailers do not take care to properly manage their inventory orders. Mismanaged inventory can be costly, and the potential for it increases as your portfolio grows.
While calculating inventory for seasonal products and tracking cash limits for backorders, it can be difficult to manage inventory and future order quantities. However, including reorder points and safety stocks in your replenishment calculations allows you to better manage both current inventory and future order quantities.
Keep your business running by keeping track of your inventory and knowing when to restock. You can avoid running out of stock by setting a reorder time. The reorder point formula is the key to determining when to restock products and is the focus of this article.
Article Content-
- Meaning of Reorder Point
- Why is Reorder Point essential?
- How to calculate reorder points correctly
- How often should one calculate their reorder points?
- How does SWIL help you automate your inventory management?
- Bottom Line
Meaning of Reorder Point (ROP)
A reorder point (ROP) is the minimum inventory level for a particular product that, when reached, will trigger a backorder of more inventory. When calculating reorder points for various SKUs, the lead time to replenish inventory is taken into account to avoid zero inventory levels. By setting accurate reorder points, businesses can avoid running out of products while waiting for new inventory.
Simply put, reorder points are triggers when you need to reorder more products. Reorder points are designed to meet demand without unnecessarily tying up money on excess inventory. Most reorder points are determined by the inventory level of a particular product. If the product meets or falls below this predetermined threshold, it’s time to reorder.
Reorder points should be calculated for each SKU, especially if there is a large variance in lead times and customer demand. The concept is simple, but the process of actually finding the exact reorder point requires some thought. This post systematically describes each step of the reorder point “recipe”, or formula for reorder points.
Why is Reorder Point essential?
The reorder point calculation will not delay the next batch of inventory. With exact reorder points for each SKU, you always have enough inventory to meet customer demand without spending extra capital on inventory.
Some of the benefits of reorder points are as follows:-
Diminished costs
Holding more inventory than can be sold in a timely manner is not a productive use of capital. Reorder points increase a company’s financial flexibility by allowing them to keep a minimum inventory without running out of products.
Lessened stock- out situations
Too much inventory is costly. However, too little inventory can lead to out-of-stocks. This can affect your business badly. Orders may be delayed or cancelled, and your business may lose customers and damage its reputation.
Efficient forecast
Calculating reorder points goes hand in hand with having a clear idea of buying trends over a period of time. Accurately forecast and ensure you are using the back order quantity formula correctly.
Improved customer experience
Out- of- stock is one of the worst ways to make your customers feel ignored. You will miss out on potential sales and repeat business. A properly calculated reorder point ensures that this never happens. If a consumer is obsessed with a particular product, they won’t give up when the stock runs out. They buy products you sell on another platform or sell your business to a competitor. Established customers tend to stick with trusted providers. Continuous out- of- stockings are not a good way to earn customer trust.
Better margins
If you’ve been in the world of e-commerce or inventory management, you know that bad inventory management decisions are the biggest loopholes for your business. It ends up impacting everything from customer experience, logistics, warehouses and budget. From an accounting perspective, we can see an increase in the cost of rent, plant and equipment and a decrease in operating cash flow. The money you lose has to come from somewhere. That means pulling out cash reserves, taking loans, and struggling with profit margins. However, such decisions can cause problems months later. This is one of the main reasons for setting the exact reorder point in the reorder point formula.
Accurate forecasting
Calculating reorder points goes hand in hand with having a clear idea of buying trends over a period of time. Accurately forecast and ensure you are using the reorder quantity formula correctly.
How to calculate reorder points correctly
Retail businesses can use a very simple formula in order to calculate reorder points for all their products. The formula is:-
Reorder point (ROP) = Demand during lead time + Safety stock
Now that you know the formula for reorder points, let’s understand how to calculate every element of the formula.
Demand during lead time:
Lead time equals the number of days present between when you placed the order with your manufacturer/supplier for the products and when you actually received the product. If your supplier resides in a place that is not your home country, the lead time will be longer. In order to find the demand during lead time, you need to multiply the lead time for the product by the average number of units sold on a daily basis.
(Lead Time Demand) = (Lead Time) x (Average of Daily Sales)
Safety stock:
Solely depending on the average demand for a product is not sensible. Demand can fluctuate suddenly or any unforeseen problems can prevent you from restocking as expected. These include changes in weather, catastrophic events, a sudden surge in demand, etc. Safety stock is the extra stock you keep in your warehouse just in case of any variability in the demand or supply ratio.
(Safety stock) = (Maximum daily orders X Maximum lead time) – (Average daily orders X average lead time)
Do Reorder Points vary?
Yes, they certainly do. Reorder points aren’t a fixed approach for ain of your products. Certain common and similar variables are present. However, mostly reorder points differ from product to product basis. It’s important that you calculate reorder points for each SKU or required raw materials.
How often should one calculate their reorder points?
Remember that your reorder points will evolve as your business grows. Recalculate your reorder points, preferably, on a quarterly basis or whenever you see a significant change in your business. For example:-
- Decrease in demand of products
- Shifting to a new supplier or vendor
- Adding/ Removing new SKUs
- Any disruptions or alterations in your existing supply chain
How does SWIL help you automate your inventory management?
Inventory management is a boring but important part of running a retail business. If you don’t pay attention to inventory levels, you may forget to place new orders on time so that they arrive before stock runs out. SWIL software offers the industry’s best inventory software for SMEs. It is a robust, modern tech software which is GST compliant, handles POS and more. It simplifies the billing process and creates professional invoices so businesses can track expenses and pay them quickly. Get started today by automating, integrating, and digitizing your business with SWIL software.
Bottom Line
Setting reorder points frees up critical capital to ensure your company operates at maximum efficiency in inbound and outbound logistics. The most important and sometimes the most difficult part of calculating reorder points accurately is knowing exactly what customer demand is, requiring reliable data to plan the supply chain. Wrong data can lead to inaccurate calculations and too much or too little inventory.
