When it comes to the complex world of e-commerce fulfillment, there are several pieces that drive the success (or downfall) of a brand. One of the key terms often used is “safety stock.” What is safety stock and how is it applied? We’re sharing a brief overview of how to calculate safety stock and exploring the value of applying a safety stock level to your business. In fact, if you’re also interested in learning about how to calculate the inventory turnover ratio, we’ve got you covered.
What Is Safety Stock?
Safety stock is the amount of inventory you have on hand “just in case” there are unplanned shifts in supply or demand for your products. To determine the safety stock calculation, you must first identify the lead time demand for each item you sell by multiplying your business’ average daily sales by its average lead time. This formula is key for understanding how to keep track of inventory.
Lead time demand = average daily sales x average lead time
For example, if you are a computer equipment retailer, and you sell an average of 10 computer monitors per day with an average lead time from the supplier of 30 days. The lead time demand would be 300.
To calculate safety stock using this example, identify the maximum number of computer monitors per day and multiply by the maximum number of days in your supplier’s lead time. Say the highest number of monitors sold in a single day across all channels is 20, multiple this number times the longest amount of supplier lead time you’ve experienced.
Safety stock = (maximum daily sales x maximum lead time) – (lead time demand)
The number you’ve calculated is the amount of safety stock you need to keep on hand in case your reorder shipment is delayed or there’s a forecast of a seasonal influx of sales with the reorder point formula. In this case, with a maximum lead time of 40 days, the safety stock is (20 x 40) – (300), or 500 units.
Applying the Safety Stock Formula to Prevent Stock Outs
Using this safety stock formula prevents stock outs, which can discourage customers and make your company miss out on sales. Safety stock inventory can be your saving grace in case your buffer stock level can’t stack up to your actual demand. This safety factor can help out if your demand rate is higher than the expected average inventory in usual daily demand.
Though some customers are brand loyal, if they need their items delivered in a specific timeframe, they may try another brand that can meet their needs faster- especially if you stock out. Whether a customer is shopping in-store and sees an empty shelf or goes online and sees an out-of-stock message, this derails them from getting what they need at the time they need. As a result, they are likely to look elsewhere.
Use Stock Calculations to Meet Customer Demand
Customers are focused on when they’ll receive their purchases rather than the logistics that help get them there. It is up to the company to create a seamless solution for them regardless of the external factors that may delay the process. A safety stock calculation provides an inventory “insurance” that allows you to stay ready for the ebbs and flows of the sales cycle.
Although knowing how to calculate safety stock is valuable for maintaining enough inventory to meet customer demand, it isn’t a catch-all solution as there are still factors that affect demand and lead time certainty.
Demand can rise significantly during peak shopping season, seasonal trends, and even as product visibility increases due to advanced marketing efforts. Conversely, demand can dip as new competitors enter the market, if there is an increase in returned or damaged goods, and other outlier situations.
This same level of uncertainty can be applied to supplier lead time. A surge in demand from other retailers could slow down a supply chain and affect inventory level. Economic events, such as inclement weather or reduction in workforce, can also alter the lead time of suppliers. By using inventory management software, data can be monitored real-time to make decisions that adapt to abrupt changes as best as possible.
Drive Business Decisions by Calculating Stock
Keep in mind when calculating your safety stock value, it’ll change from SKU to SKU. By reviewing reports, you can identify the popularity of each product from greatest to lowest and insight into which products sell best and how often.
However, depending on the type of goods you’re selling, this data may fluctuate at different points throughout the year. It can also fluctuate as you introduce new items and expand your offerings to meet customer demand. Although the safety stock formula is precise in its calculations, buy behavior predictions are fluid.
To hone in on the best possible calculation, use the data provided from your inventory management system to calculate safety stock based on your store’s unique sales and lead time data versus making guesses and hoping for the best. This will help you maintain efficiency throughout the logistics process and feel better prepared when unexpected events occur.
Having enough inventory in stock at all times to keep up with your desired service level is a critical part of the selling process. Calculating your safety stock number will help reduce the number of stock outs that can ultimately result in poor customer satisfaction and lost sales. Focusing on inventory management efficiency in this way is another strategy to implement to reach your sales goals, partner with Flowspace to continue your business growth.
Written By:
Allison Champion
Allison Champion leads marketing communication at Flowspace, where she works to develop content that addresses the unique challenges facing modern brands in omnichannel eCommerce. She has more than a decade of experience in content development and marketing.
