What is Reorder Point and Reorder Point Formula?
Every manufacturing business out there faces questions like:
How many units of materials should I order from my supplier?
— When should I place my next supply order? and;
— When should I place a new manufacturing order?
The answer to the first question is: it depends on the demand for your products. You project this based on historical demand, and other factors like seasonal changes.
The other two questions are answered by calculating your reorder point, or ROP.
When you first started out in your manufacturing journey, you might have used your instincts and common sense to estimate how much of each material to order.
After all, you know your workshop better than anyone. Your supply orders came in and you manufactured your product range problem-free.
But intuition can only take you so far. As your business grows, and your orders get more complex and numerous, it may start to get more difficult to accurately work out your raw material requirements.
Your workshop only has so much space, and excess amounts of material A and B are piling up, while you keep running out of material Z. Not to mention the increased complexity of adding more products, generating more SKUs.
As soon as you apply a reorder point formula, you can take your order efficiency to a whole new level.
What is a Reorder Point?
In short, a reorder point is a stock threshold that you don’t want to go below. Therefore the ideal inventory reorder point allows for adequate time to make a new order before your stock reaches this threshold.
Reorder point is the metric that tells you two essential things:
When it is the right time to order more materials from your supplier(s); and
When it is the right time to manufacture more products by creating a manufacturing order (MO).
When the stock level for a material or finished product is about to reach the reorder point, a new order should be placed immediately.
This takes away any doubts or second-guessing. Your reorder point is there, clear as day, and you just need to react when it is reached.
Your stock will be regulated much better, with fewer interruptions like supply-chain breakdowns or bottlenecks.
Your inventory reorder point levels should cover every item in your inventory, including every product variation’s product recipe. Sound complicated? This is part of a bill of materials (BOM).
You can link your inventory levels with each product’s BOM and track it with the right MRP system.
In fact, you will have more time on your hands to develop your business and focus on your craft.
More accurate materials requirements planning and more peace of mind. There’s no downside to setting reliable reorder point levels and sticking to them.
Keep safety stock in reserve where it belongs.
Get automatic reorder point alerts to your phone, tablet, and PC.
All with Katana. Try for free here.
Reorder Point and Safety Stock
The ideal reorder point ensures that your business does not dip below your safety stock levels.
Your safety stock is your trump card in emergency situations. You shouldn’t have to keep dipping into it.
Think about it. If you miss your reorder point and use some safety stock, you need to order even more materials to replace that safety stock once the supply order arrives. If you don’t, your safety stock will eventually be worn down to nothing. Of course, extra orders costs extra money, so should be avoided.
Therefore, an ideal reorder point is typically a little higher than your safety stock level to factor in delivery time. But how much higher does it need to be? It depends on the average lead time of your reorder and the average demand during the lead time period.
Why is this the case?
Firstly, it's because when you place a new order, it does not arrive at your warehouse immediately. It may take weeks or sometimes even months for the order to be processed and shipped to your desired location. This delay in delivery is called "lead time”.
Lead time refers to any delay from when an order is placed, to when an order is fulfilled. Delivery lead time is just one example of lead time and is added to total lead time.
Secondly, during lead time, you keep using the quantities still left in your warehouse for your manufacturing and sales operations. Thus, a good reorder point also needs to take into account how much quantity of the ordered item is actually left in your warehouse by the time the reorder arrives.
It is essential to take this lead time into account. Otherwise you run the risk of running out of stock, before the reorder arrives.
Your reorder point should make production in your business flow, not stop and start.
Setting your reorder point too late defeats its purpose.
Setting it too early means it sits around doing nothing for too long, increasing carrying costs and harming your bottom line.
You can get more information on how to reduce lead time to increase customer satisfaction here.
Reorder point calculation formula and safety stock calculation formula are in a way two sides of the same coin. Safety stock describes the amount of inventory a business keeps in the warehouse to protect against spikes in demand or shortages in supply.
Your reorder point is the last line of defense before you resort to using safety stock, and opening backorders. It keeps your safety stock in reserve for true emergencies only and makes sure that each material you use is reordered in line with their usage.
Therefore, you don’t have an overabundance or drought of stock. You get perfect balance in your workshop, safe in the knowledge that you can deal with anything and still keep going.
Read on to find out how to use a reorder point formula to set your reorder point.
PRO TIP: Knowing the difference between your reorder points and safety stock is one thing, but finding the right levels for both is another. That’s why many makers use a Shopify order management system to help them calculate these points.
How to Calculate Reorder Point?
Right, here is where we’ll put the theory into practice.
PRO TIP: To make things easier it’s best to calculate your safety stock levels before doing your reorder point formula. Here’s a guide to calculating your safety stock that we made earlier.
After you’ve made your preparations, the actual ROP formula is pretty straightforward:
Reorder Point = (Average Daily Usage x Average Lead Time in Days) + Safety Stock
If your manufacturing uses approximately 10 units of a raw material per day, it takes a week for a reorder to arrive, and the safety stock level for that raw material is 50 units - your reorder point calculation is:
(10 x 7) + 50 = 120
Your inventory reorder point is 120 units. If your stock for this item falls below that number, then a new order should be placed.
Here is an alternative ROP formula. It’s a shortcut to calculating your reorder point without knowing your safety stock level.
Reorder point = Maximum Daily Usage x Maximum Lead Time Days
Estimate the maximum quantity of products or materials you need per day and multiply the figure by the maximum expected lead time for purchasing or manufacturing activities.
You are estimating the maximum usage so you get a more conservative estimate, with room for error.
It’s a good idea to then use the full formula when you get the chance to count up your safety stock.
Safety stock not part of your vocabulary? Although we are huge fans of lean manufacturing, it’s a good idea to have some safety stock. Even just-in-time manufacturing needs just-in-case stock. This negates the obvious downside of vulnerability to supply-chain disruptions for the JIT approach.
Once you think you’ve got calculating reorder points down, you can then begin learning more about Shopify inventory management to optimize your business’s performance.
Perfect Your Order Fulfillment with Your Accurate Reorder Point Policy
When calculating reorder point levels, pay attention to changes in the underlying metrics. Daily usage and lead time are not carved in stone. Like everything else, they are subject to change, which means your reorder points are too.
So although having an effective reorder point policy means you have freed up more time in your week, you still need to stay on top things by making new reorder point calculations.
Reorder point levels may increase as your business grows and they may fluctuate depending on whether you are approaching high or low season.
Thus, you should recalculate reorder point levels from time to time. A good tip to follow would be to revisit these calculations in every 3-4 months.
To sum up, using production and inventory management software allows your company to set reorder points for each raw material and finished product variant under your roof.
Everything is tracked automatically, so you can prevent cognitive overload as your business grows. Increased success and sales demand do not have to become a burden.
Katana flags the product and material variants that have dipped below their reorder point automatically allowing you to easily identify the areas that require action.
It’s basically an automatic alarm clock that tells you when you need to place an order so you never miss a deadline, and get your customer wait times to a record low.
If you wish to set or edit reorder point for an existing item, follow these simple steps:
Navigate to the "Items" screen and select either "Products" or "Materials" tab from the top of the table.
Find and click on the product or material you wish to set a Reorder Point for.
Find the Reorder Point column for this product or material (3rd column from the left).
Enter the desired Reorder Point level for this product or material.
This reorder point for your product or material can now be seen in the "Inventory" list. It is used in calculating your "Missing/Excess" inventory level.
See the process in this handy demo:
There you have it — your reorder point is set in a few seconds.
Try Katana for free and see for yourself.