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Dr. Michael Watson
Northwestern University

Supply Chain by Design

Dr. Michael Watson, one of the industry’s foremost experts on supply chain network design and advanced analytics, is a columnist and subject matter expert (SME) for Supply Chain Digest.

Dr. Watson, of Northwestern University, was the lead author of the just released book Supply Chain Network Design, co-authored with Sara Lewis, Peter Cacioppi, and Jay Jayaraman, all of IBM. (See Supply Chain Network Design – the Book.)

Prior to his current role at Northwestern, Watson was a key manager in IBM's network optimization group. In addition to his roles at IBM and now at Northwestern, Watson is director of The Optimization and Analytics Group. 

May 12, 2016

You Can Set Inventory Levels and Other Such Myths

Developing a Good Inventory Policy is Difficult: One Contributor may be that Inventory Levels are not Being Directly Set


If you are like me, when you first got into the inventory field it was hard to figure out what it was planners were actually doing. 

Watson Says...

And, that's it. After you've made these two decisions, you can only observe what happens to inventory...

What do you say?

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When I asked inventory planners and managers what they were doing.  They gave answers like the following:

  • “We set our inventory levels to make sure we meet our fill rate targets.”
  • “We maintain 4 weeks of inventory for every part”
  • “We set a safety stock level and never dip below that safety stock level.”
  • “For each part, we keep inventory between a minimum and maximum.”

These all sound perfectly reasonable. 

But, as it turns out, they are all wrong.  

Because these quotes are still being used, it makes it more difficult for new planners to learn about inventory control.  It also makes it difficult for management to understand the inventory planning process, and that can lead to some counterproductive edicts:  “take 1 week of inventory out of the system.”

As background to why all these answers are wrong, think about how difficult it is to control the amount of inventory you have on-hand.  The amount of inventory you have on-hand can vary quite a lot from day to day with unexpected large orders or arrivals of products from suppliers or plants.

For example, you may think you are maintaining 4 weeks of supply.  A change in demand can quickly leave you with 1 week or 22 weeks of supply.  How are you “maintaining” 4 weeks if it can so quickly swing?  In another case, you may try to set an inventory level of 100.  You have about 5 on-hand when you realize that your supplier is 2 weeks late and when the shipment arrives there is only 85 of the 100 items you ordered.  During those two weeks, at no time did you actually have anything close to 100.   

As the above examples should make clear, it is easy to quickly grow frustrated trying to directly control inventory.  Management may also grow frustrated with wildly fluctuating inventory levels.

What you are actually controlling and what you should point out is that you can only determine:

  1. When you order
  2. How much you order

You control when you order a product—maybe once a day or week, maybe every time your on-hand inventory hits a certain point, when your sales team starts screaming, or, if you have a Kanban system, when you have free bin.   

Once you decide when to order, your next decision is how much to order. 

And, that’s it.  After you’ve made these two decisions, you can only observe what happens to inventory.  Your resulting inventory is a function of when you order, how much you order, the demand you see (which has some randomness), and when items arrive from your supplier or plants (which has some randomness).   

Final Thoughts

I think it is important to point this out.  If your new planners understand this from the first day, they will become better planners faster.  If management understands that these are the controls, they will better understand why addressing inventory directly is not likely the answer.  And, by keeping this in mind, it helps us design better inventory planning processes that lead to better results. 

Any reaction to this Expert Insight column? Send below.

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