Better safe than sorry - DHL Logistik

The strategic reserve for maximum security

In times of outsourcing and tight supply chains, any delivery delay, no matter how small, can cause tremendous problems and costs. To reduce this risk and avoid vulnerability as much as possible, companies add a safety stock to their inventories. But how large should an optimal reserve be? A company has to consider which approach generates higher costs: a possible shortage or a higher level of inventory that would preclude a shortage.

The optimal level of the safety stocks

In the context of stockholding, a determination must be made on how large the safety stocks should be in order to keep total storage and shortfall costs to a minimum. The level of the safety stocks is determined by four factors [1]:

Replenishment lead times
Forecasting errors
Delivery readiness Delivery readiness
Total warehouses

Replenishment lead times

The shorter the replenishment lead time Replenishment lead time for a warehouse product, the lower the safety stock Safety stock level needed to satisfy possible demand during the replenishment period.
A shortened replacement time, however, normally generates higher costs in the logistics system, arising from factors like the use of faster communications and means of transport. Reducing the replenishment time is beneficial only if the increase in these costs is more than offset by the decrease of storage costs associated with the safety stocks [1].

Forecasting errors

Forecasting errors occur because the predicted and the actual demand for a certain period generally differ. Unforseen fluctuations in demand can lead to excess inventory retrieval, while inaccurately forecasted replenishment periods can result in missed replenishment deadlines. The more accurate the forecast is, the smaller safety stocks need to be [1].

Readiness to deliver

A slight improvement to a high level of readiness to deliver is associated with disproportionately large increases in safety stocks and storage costs. At a high level of safety stocks, the probability of developing shortages decreases only slightly with further increases in the safety stock level. A 100 percent readiness to deliver can be reached only in theory, with an infinitely large safety stock [1].

Connection between safety stock and degree of delivery readiness

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Number of warehouses

The overall level of a safety stock Safety stock for an item depends on the number of warehouses that are used to meet a particular demand. If several smaller distribution warehouses are operated, the total amount of safety stocks there is larger than the safety stock level in a single large distribution warehouse.
If only one customer is supplied from a warehouse, then that warehouse must be able to satisfy the peak demand of this customer. By contrast, if two customers are being supplied, then it is very unlikely that the peak demands of both customers will coincide. As a result, the warehouse must be able to satisfy only one peak demand, which is lower than the total peak demands for both customers [1].
In general, the effect of an increase in the number of the warehouses on safety stocks can be measured by the following formula [2]: