It’s pretty common for brands to run out of stock. However, stockouts can do quite a bit of damage to both your business reputation and your bottom line. That’s why it’s important to have a strategy in place to ensure you never run out of stock, especially on your most popular product lines.
Having safety stock in place can help prevent stockouts and give you some breathing room as you await a new delivery from your supplier. In this article, we’ll take a look at what safety stock is, why it’s important, and how to calculate and implement safety stock into your business.
In this article
What is safety stock?
Safety stock is made up of back-up units that businesses can fall back on if sales unexpectedly spike or are otherwise higher than forecasted. The function of safety stock is to ensure that stockouts are avoided, and no sales opportunities are lost as a result.
Why it’s important to have safety stock
Running out of stock – especially on profitable, sought after product lines, can be extremely damaging to retailers. Safety stock acts as a vital line of defence as the extra stock gives you time to liaise with a supplier and replenish inventory.
Helps you navigate peak periods
Safety stock is particularly important during peak periods such as Black Friday and Christmas, as well as during seasonal peaks where you may be running promotional campaigns. Running out of stock during this time damages the sense of momentum and hype you may have built around a promotion, and can result in you missing out on important revenue.
Protects you against supply chain disruptions
Additionally, safety stock provides an important shield against long lead times and potential supply chain issues. Even if you’ve forecasted accurately and re-order at the optimal time, unexpected supply chain turbulence, such as bad weather, natural disasters, or political upheavals, can mean stock takes longer than normal to arrive at your warehouse. Safety stock can increase the amount of time you have to fulfil orders as normal while you wait for supply chain issues to resolve.
Helps you cope with market volatility
Finally, safety stock can provide protection against temporary or unexpected price surges. The raw materials that drive some markets are prone to volatility, meaning that the price you play for resupply might vary quite drastically from month to month. Having safety stock on hand means that you can avoid ressupplying during particularly volatile periods, and then topping up when prices are down to more suitable levels.
How to calculate safety stock
There are many different formulas you can use to calculate safety stock. The most common safety stock formula is:
Safety stock = (maximum daily sales x maximum lead time in days) – (average daily sales x average lead time in days).
Obtaining the figures you need shouldn’t be too difficult if you’ve been collecting sales data. To work out maximum daily sales, take a look at your sales numbers by day over a period of time (that could be a month, quarter, or longer) and extract the highest number.
To get your maximum lead time in days, look at your shipments for the same period and note down the shipment that took the longest time to arrive. This gives you a reasonable worst-case scenario.
Working out average daily sales and average lead time in days will take a little more effort, but it’s still a simple calculation. To calculate average daily sales, add up the number of sales over the period and divide by the number of days in the period. Similarly, to calculate average lead time, add up the total number of days it took for shipments to arrive, and divide by the number of shipments.
Example: Mad Top Hats
Let’s calculate the safety stock for a fictional brand called Mad Top Hats. Sarah, the Inventory Manager at Mat Top Hats, wants to put some safety stock in place for the next 100 days. She takes a look at the last 100 days of sales data and finds the maximum number of daily sales in that period was 50.
Mad top hats received 5 shipments in that period, and the longest one took 8 days to arrive.
Then, she adds up the number of sales over the 100 days, which comes to 1500. She divides that number by 100, which is 15.
Finally, she looks at her 5 shipments and adds up the total lead time of each shipment in days. In total, her shipments took 30 days to arrive. She divides that number by 5 (number of shipments), which equals 6.
Therefore, Sarah’s safety stock calculation is as follows:
Mad Top Hats’ Safety stock for the next 100 days = (50 x 8) – (15 x 6)
Safety stock = 310 units.
As a result, Sarah orders an additional 310 units in her next order.
Safety stock calculation tool
Below, we’ve included a calculation tool to help you work through your safety stock requirements. You should repeat the calculation for each SKU you wish to hold safety stock for.
Safety Stock Calculator
Avoid these safety stock pitfalls
While having adequate safety stock should be a priority for any retailer, there are still some dangers you’ll want to avoid to ensure you aren’t doing more harm than good. Here are the key pitfalls to avoid when implementing safety stock.
Too much safety stock
When calculating safety stock, make sure you don’t have a situation where you’re consistently overstocking. It can lead to situations where excess capital is held up in stock, which can result in poor cash flow and pressure on storage space.
Additionally, if you sell goods that have a shelf life, you can run the risk of wastage if safety stock isn’t sold before its expiry date. To solve this problem, consider managing inventory with the FIFO method.
Using an optimistic worst case scenario
One drawback of the safety stock formula is it uses historical lead time data in its calculation. This will not account for unprecedented matters such like severe supply chain disruptions or a particularly high increase in demand.
Therefore, if you are expecting a particularly busy period, you may wish to inflate lead times slightly to give yourself more safety stock.
Failing to review safety stock
It can be tempting to run safety stock calculations and then use the numbers indefinitely. However, if you’re a growing business, you’ll naturally increase in sales. When that happens, once accurate safety stock numbers become obsolete.
When you’ve wrapped up working out safety stock, it’s a good idea to set a date in the future, whether that’s in a month, 6 months, or a year, where you’ll review it again based on fresh data. Your review date might change if you experience rapid growth, but it’s good to book at a suitable time and date for review, based on your volume.
Relying on inaccurate data
Like any inventory management calculation, the safety stock formula is only as good as the data used to back it up. If you’re using outdated inventory management tools or legacy systems, your data might not be accurate.
If you’re serious about improving your inventory management strategy, investing in real-time inventory management tools can help you improve operational efficiency as it’ll always provide you with up-to-date, accurate information.
Improving your overall inventory management
If you’d like help implementing safety stock and improving your overall inventory health, James and James can help. We’re a 3PL that not only specialises in order fulfilment, but also provides the technology retailers need to make smart business decisions in regards to their inventory.
Our inventory management platform, ControlPort, is award winning thanks to the visibility it provides our clients. ControlPort automatically collects important inventory data and provides real-time insights on how you can reduce stockouts, cut down wastage, optimise storage costs, and much more.