How to calculate the order point
September 16, 2024
September 16, 2024
When you have inventory to manage, the concept of point of order is crucial to ensure efficient supply and optimal inventory management. Understanding and using the order point correctly can help businesses minimize the risks of running out of stock while avoiding unnecessary costs associated with excessive inventory.
In this article, we'll dive into the concept of the point of order, its importance in inventory management, and how to calculate it effectively to maximize the profitability of your business.
The order point, also called the “reorder point or threshold,” is the stock level at which a replenishment order must be placed in order to maintain an optimal stock level.
It is determined taking into account several factors, such as sales forecasting, supplier delivery time, and safety stock needed to avoid stock-outs.
Example: Let's imagine a company that sells electronic products. Its order point for a given product could be set at 50 units. This means that as soon as the stock of this product reaches 50 units, the company must place a new order with the supplier to replenish the stock.
The order point plays a crucial role in inventory management for several reasons:
Prevention against stock-outs: By triggering restocking orders at the right time, the order point minimizes the risk of running out of stock. This ensures that products are always available for customers, which prevents missing sales and maintains customer satisfaction.
Optimization of Stock Levels: By calculating and using the order point effectively, businesses can optimize their inventory levels. This prevents excessive inventory, which can lead to high storage costs, while ensuring that items are available when needed.
Cost management: By placing replenishment orders only when necessary, the company ensures optimal management of procurement and procurement expenses. Therefore, the company's working capital requirement is preserved.
Calculating the control point involves several steps, including:
1 Estimated Demand Forecast: It is essential to estimate sales forecasts for the product over a period of time, taking into account past sales trends and seasonal factors.
2 Determination of the Delivery Time: You should also take into account the supplier's delivery time, which is the time it takes to receive an order once it has been placed.
3 Calculation of safety stock: Safety stock is an additional amount of inventory that is kept in order to deal with unexpected fluctuations in demand or delivery delays. It is calculated based on the variability of demand and the supplier's delivery time.
4 Determination of the Control Point: Once all of these elements are taken into account, the order point can be calculated as follows:
Order point = safety stock + average sale (or average forecast) x average replenishment time.
Example: If a product has an average demand of 100 units per week and a delivery time of two weeks, and if the safety stock is 20 units, then the order point would be (100 * 2) + 20 = 220 units
The order point is an essential tool for optimizing inventory management and maximizing the profitability of your business. By understanding its importance and calculating its level correctly, you can minimize the risks of stock-outs, optimize inventory levels, and reduce the costs associated with excessive inventory.
By effectively integrating the order point into your inventory management strategy, you can position your business for sustainable and profitable growth.
A poorly calculated order point can lead to several significant risks for your business, here are a few of them with the consequences they cause:
Loss of sales: Customers can't find the products they want and go to competitors.
Customer dissatisfaction: Disappointed customers may not come back.
High storage costs: Storage and management costs are increasing.
Obsolescence: Products can become obsolete and lose value.
Capital immobilization: Money is stuck in excess inventory, reducing available cash.
Need for external financing: It may be necessary to borrow to cover cash flow needs.
Inaccuracies in forecasts: Wrong forecasts lead to poor supply chain planning.
Lack of reliability: Frequent urgent orders can hurt relationships with suppliers.
Less favorable purchase conditions: Shopping urgently or in small quantities can be more expensive.
To avoid these problems, it is crucial to use accurate methods for calculating order points and to monitor inventory levels regularly.
In order to optimize your order point as much as possible, you will have to take several aspects into account:
Make sure you always have reliable data on demand and delivery times available so that your order point is always up to date. This therefore requires regular updates to reflect as much as possible the purchasing habits of consumers and any changes in supplier deadlines.
Likewise, pay particular attention to storage costs when defining your order point: it should be optimized so that it minimizes storage costs while avoiding stock-outs.
In fact, everything is a question of balance! (For more information: https://www.erplain.com/en/blog-en/reorder-point-and-eoq)
Automating the order point in inventory management offers numerous advantages for businesses:
Firstly, it allows for increased accuracy through real-time analysis of sales data, which leads to more accurate restocks and prevents human error. In addition, it saves a significant amount of time by eliminating the need to manually monitor stock levels and by automatically generating orders when stocks reach a predefined threshold.
Finally, automation provides significant adaptability by adjusting replenishment thresholds according to market fluctuations, thus ensuring greater responsiveness and flexibility. This automation therefore improves operational efficiency, reduces costs, and increases customer satisfaction.
Order point automation is therefore an asset for your inventory management.
At Stockpit, we understand the importance of this feature and offer tools to define and manage your order points efficiently!
In fact, you will be able to configure order points for each of your products, which will reduce stock-outs, optimize stock levels and thus improve customer satisfaction.
Connect Stockpit to your management software - invoicing, accounting, CRM - to benefit from stock management features.
Say goodbye to stockouts! Get your inventory valuation, monitor the inflow and outflow of products and keep track of your inventory.
