Reorder Point Formula to Maximize Sales
Every manufacturing business out there faces questions like:
— How much material do I need to order from my supplier?
— When do I need to place my next supply order? and
— When do I generate a new manufacturing order?
If you’re struggling to answer these questions, you can use a reorder point calculation to help you out.
In this article, we look into the reorder point formula, safety stock, and how you can take your order efficiency to the next level with Smart Manufacturing Software.
What is the Reorder Point?
The reorder point is a stock threshold that you don’t want to go below. 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:
1. When it is the right time to order more materials from your supplier(s); and
2. When it is the right time to manufacture more products by creating a manufacturing order (MO).
This means your stock will be regulated much better, with fewer interruptions like supply-chain breakdowns or production 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.
For example, Katana Smart Manufacturing Software lets you set reorder points and tells you when you need to order materials for optimal levels.
Get automatic reorder point alerts to your phone, tablet, and PC.
All with Katana MRP Software. Try 14-days for free.
The reason it’s important to learn how to calculate your reorder points is that as your business grows, and handles more products and SKUs, the more difficult it's going to be to maintain your ideal stock levels.
Next, let’s look into how to calculate your reorder point with the reorder point formula.
This doesn’t have to be done by hand, you can get cloud-based software to do it for you, and let you know when you’re running low.
How to Calculate Your Reorder Point?
Now you know how important the reorder point formula is, how do you actually go about calculating it?
First things first, you’re going to need to figure out how much safety stock you carry. If you’re not sure, you can read more about calculating your safety stock here. But very quickly, the safety stock formula is:
Safety stock = (maximum daily usage x maximum lead time in days) - (average daily usage x average lead time in days)
But moving on, the actual ROP formula is pretty straightforward:
Reorder Point = (Average Daily Usage x Average Lead Time in Days) + Safety Stock
Optimize your inventory management by tracking reorder points effortlessly with Katana MRP Software.
But, let’s break it down to avoid any confusion.
What is Average Daily Usage?
Depending on what you’re looking into, the average daily usage is the number of raw materials you consume, or finished goods you sell in one day.
What is the Average Lead Time in Days?
The average lead time in days is how long it takes for your raw materials to be delivered from a supplier or how long it takes you to manufacture a product.
However, both the delivery time and manufacturing rate both form a part of understanding your manufacturing lead time too.
Reorder Point and Safety Stock
Your safety stock is your trump card in emergencies. You shouldn’t have to keep dipping into it.
The ideal reorder point ensures that your business does not dip below your safety stock levels.
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 deplete down to nothing and, more orders cost more money, so you should try to avoid this.
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.
Why is this the case? Well, let’s take a look at these two reasons:
— Reason one - 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; and
— Reason two - During the lead time, you keep using the remaining stock 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; and
— 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 the perfect balance, 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 direct-to-consumer manufacturers use a Shopify order management system to help them calculate these points.
Reorder Point Formula and Safety Stock Formula Combined
Let’s put the reorder point formula to the test and use it in a scenario so you can get a better understanding.
Firstly, just for the recap, the reorder point formula is:
Reorder Point = (Average Daily Usage x Average Lead Time in Days) + Safety Stock
So, let’s say you’re a manufacturer that:
— Uses 10 units of a specific raw material per day;
— Has a resupply or delivery of this raw material that takes 7 days to arrive; and
— Keeps a safety stock level of the raw material at 50 units.
Using this information, your reorder point formula is going to look like this:
(10 x 7) + 50 = 120
Using the reorder point formula, you can calculate that your reorder point is 120 units. The moment your inventory levels fall below this number, you’re going to need to place a new order.
Reorder Quantity Formula
Now you know how and when to order new materials to avoid stockouts. However, the real question is how much material do you have to order to keep your productions running smoothly.
This is where the reorder quantity formula comes into play to determine the best amount to order.
The reorder quantity formula is:
Reorder Quantity for Raw Materials = Average Daily Units Used x Average Lead Time
Using the example above, a manufacturer who uses 10 units of raw material a day and has a delivery time of 7 days for a resupply would mean the reorder quantity formula would look like this:
10 x 7 = 50
The reorder quantity formula is going to help you calculate your reorder point formula.
The difference between the two is:Reorder point - A trigger that notifies a manufacturer or manager that they need to order more inventory.
Reorder quantity – The amount of a particular item that needs to be reordered.
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.
However, using inefficient spreadsheets can be tedious, time-consuming, and lead to business damaging errors. This is why many manufacturers and managers turn to Smart Manufacturing Solutions, like Katana, to help them automate their reorder points.
Reorder faster and more efficiently with Katana
Katana Manufacturing Software is an all-in-one solution that allows manufacturers to take control over their:
— Inventory management (raw materials, WIP, and finished goods);
— Production planning and scheduling; and
— Procurement process.
Using production and shelf-life management software like Katana 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 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 a reorder point for an existing item, follow these simple steps:
1. Navigate to the "Items" screen and select either "Products" or "Materials" tab from the top of the table;
2. Find and click on the product or material you wish to set a Reorder Point for;
3. Find the Reorder Point column for this product or material (3rd column from the left); and
4. 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:
And there you have it — your reorder point is set in a few seconds.
This makes setting up and managing your reorder points a breeze, as well as saving you time, reduces the chance of human error by removing spreadsheets, and streamline your entire production process.
Try Katana for free and see for yourself.