First, we must take a step back. The optimal order size is that with which the total stock and order costs are the lowest. From a stock perspective, a product should be ordered at the exact moment when the current stock drops below the minimum. For a product range in the dozens, this is easy to achieve, but when dealing with hundreds or even thousands of products, it costs an enormous amount of time, effort, and therefore money to monitor the stock and place new orders. (Does this still sound illogical to you? Then read our blog about the optimal order size again).
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In order to keep these costs under control, it is wise to bundle orders so that you are not busy ordering new products at all times of the day. You do this by setting a so-called order period. An order period specifies the regularity with which you check the stock of the products and determine whether they need to be ordered. For example, this could be every week on Monday evening.
The consequence of implementing such an order period is that there is a chance that some products are already (far) below the minimum stock level. In these cases, it is smart not only to order the optimal order size but also to replace the deficit to maintain the minimum stock. This figure is called the maximum stock (the difference between the minimum stock and the actual stock plus the optimal order size), and when placing an order, always ensure that you aim for this maximum.
By maintaining the optimal order size, the stock will fall below the level of the minimum level, and you will be forced to order more often. With the maximum stock, you reset the stock level, as it were, and correct the fact that you do not always order the optimal number of products precisely on time.
Suppose you are a catering wholesaler. For the tablecloths, you have determined that the minimum stock is 150 pieces. Also, you have determined that the optimal order size is 450 pieces. Therefore the maximum stock in this example is 600 pieces. If the stock of tablecloths at the time of ordering, the ordering period is still 50, then you order 550 tablecloths to replenish the stock to 600. If you do not do this and ‘just’ order 450 pieces, then your new stock is ‘only’ 500 pieces (50 + 450).
Which order period you choose depends on the stock costs and the cost of an order. We discuss two extremes here, wherein situation 1 we assume high stock costs and low order costs, and in situation 2, we assume low stock costs and high order costs.
Situation 1: low order costs, high inventory costs
The supplier is based in Germany, and the ordering costs for a new order are low. Your inventory costs (the costs you incur, directly and indirectly, to keep products in stock) are relatively high. In this case, it is beneficial to maintain a structured ordering process and order regularly. After all, the order costs are low. For example, check the stock every Monday evening and replenish all products to their maximum if they have fallen below the minimum.
Situation 2: high order costs, low stock costs
The supplier is based in China, and orders go by container. The order costs are high, and the stock costs relatively low. When ordering, it is wise to replenish all products from that supplier to the maximum stock level, regardless of whether the products have fallen below the minimum level. The stock costs are higher, but this way you avoid a ‘no’ or an extra order.
Depending on the type of business you operate, there are two different strategies from which you can choose. If you have low ordering costs, then strategy 1 is more favourable. Choose a small order period and replenish your products to the maximum stock at that moment. High order costs? Then your order period depends on how quickly you sell the contents of a container (or truck). At the time of ordering, replenish your stock of products to the maximum level whenever possible.