Darren Gilbert Oct 10, 2018 4:32:28 PM 9 min read

A Beginner's Guide to Safety Stock

Safety Stock

Safety stock is a strategic tool which is critical for effective inventory management. Invest wisely, and you can provide your customers with the right products at the right time. Fail to treat it with respect, however, and you could end up with too much or too little stock. While the former affects your holding costs, the later results in lost sales and a high customer churn rate.

What is Safety Stock
What is safety stock?

A term most often used by logisticians, safety stock is fortunately not difficult to unpack or understand. That's because you can discern its meaning by examining it. Here it is:

Safety stock refers to the additional amount of a product or products you would hold in your store or storeroom to lower your risk of suffering from stockouts and the consequences thereof.

You would also invest in it in anticipation of an unexpected increase in demand, or to guard against any issues with the lead time of your supply chain. That’s why it’s often referred to as backup stock.

In the case of increased customer interest, you can turn to your retail analytics to forecast demand. Your historical retail data can also assist you here as well as any market data that you may have collected.

Mind you; you do need to be careful. While it’s a good idea to stock more product than you sell, you can go too far. Excessive inventory holding can prove costly, and instead of helping you, your stock reserves can work against you. Overstocks and obsolete inventory are just two consequences.

But there is no doubt that you should invest in it. And that’s irrespective of the size of your store or your retail type. For example, if you’re an independent pharmacy retailer, you’d need to invest in safety stock as much as you would if you’re a supermarket or even an e-tailer.

There is, of course, a time when you do need to step back and consider your approach. It’s when it comes to your product assortment. Let’s say you run a small convenience store in a rural area. Here, you could lose out on sales by not ranging additional stock of a product that is popular in your catchment area or during a seasonal event.

Likewise, if you sell perishables, health and safety standards would limit you to how much additional stock you could keep.

Why invest in Safety Stock

Why should you invest in safety stock?

The theory behind safety stock should be enough to explain why you should consider it seriously. You could even argue that there is no need to say more once you’ve read the definition. But that doesn’t mean it’s not worth digging deeper into the topic or unpacking the benefits.

If anything, focusing on the benefits will further entrench the idea that it makes good business sense for you to invest in it.

Here’s are the benefits in point form:

  • It reduces the possibility of stockouts;
  • It protects you against unforeseen customer demand; and
  • It acts as a buffer against any protracted supplier lead times.

In many industries, including retail, it’s impossible to predict with 100% certainty the amount of stock that you would need to supply your customers over a given period. As mentioned above, you can use your historical retail data to anticipate demand. Forecasting is also an invaluable exercise. But there will always be an unexpected scenario.

Customer demand fluctuates constantly. It’s affected by seasons, one-off ‘shock’ events and marketing campaigns, and new customers are arriving with different expectations and old customers leaving. That’s over and above any other surprising scenarios that could arise such as a product that failed to sell well last season suddenly selling more than expected.

There is also the fact that it’s impossible to guarantee an expected level of supply fully.

Let’s say that both situations occur. You’ve experienced an unexpected bump in demand for a product and your supplier experiences problems delivering enough stock on time to fulfil the customer need. It’s not a scenario that you want to face.

But, by planning your inventory carefully and investing in safety stock, you can at least cover a portion of the demand while you order more to account for the change. If you're looking to prevent any additional stress, it’s also worth employing a team to look at the market and social trends and determine the implications that they will have on what you sell and ascertain if you need more stock of particular items.

How to determine Safety Stock size

How do you determine an acceptable size for your safety stock reserves?

Regardless of the dangers of mismanaging your inventory, the above benefits indicate why it’s worth investing in safety stock. But what constitutes an acceptable size? More importantly, how do you determine it?

The first step is to understand your weekly movement, which allows you to calculate your Days of Supply. The reason why you start here is that your weekly movement speaks directly to demand and the frequency of your supply of goods. How often do your products sell and when does your supplier deliver them? It also assists you in determining your rate of sale which affects your replenishment engine.

Then there is the physical size of your stockroom that you need to keep in mind.

It’s all well and good saying that you want to keep three weeks of stock, but your space might only allow you to hold for one week. One of the last scenarios you’d want to face is to either not have enough space to stock a product or have too much product in your back of house that it becomes a mess, and you can’t find anything.

Besides that, there are also a variety of factors that you need to deal with when determining an acceptable amount of backup stock.

One factor, for example, is that you need to consider your average demand rate as well as your lead time. The higher your demand rate or lead time, the more safety stock you would need. It’s the same with demand and lead time variability and your desired service level. The higher the variability and the higher your service level goals are, the more backup stock you would need.

Seasonal events and any promotions that you plan to host also play a significant role in determining the amount. You would naturally need to keep more stock of certain items during seasons than others. When running a promotion, you could view a large amount of inventory in your stockroom as safety stock.

A word of warning: be mindful of your costs. The higher your safety stock level, the more expensive it is to maintain.

Conclusion

Part of DotActiv software includes an assortment planning tool that helps you to optimise your inventory so that you can offer a product assortment that will please your customers. More than that, it’ll help you to spot any signs that’ll tell you if your inventory plan needs work. You can visit our online store here to find out more or click below to book a demo.

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Darren Gilbert

With over 10 years of writing and marketing experience, Darren joined DotActiv in 2017 as a content writer where he was responsible for producing blogs, Ebooks and more. He has since worked himself up to the role of content manager, where he oversees all and any content produced by the company. He has a Bachelor of Arts in International Studies from the University of Stellenbosch.