Reorder points: What is Reorder Point? Calculate the Reorder Point Formula

Reorder points

If the delivery of an item is delayed or the consumption rate increases rapidly and unpredictably for any reason, the safety stock will cover the shortage of items. Some businesses include other inputs, such as the standard deviations of sales velocity and lead time. Adding such fancy math is useful when using more complex models and assumptions, which are often best for situations where sales and lead times vary quite a bit. But the three variables above form the core of almost every ROP calculation. Average delivery lead time is the time it usually takes for product shipments to arrive.

Even if there are production shortages or shipping delays, Archon Optical’s safety stock ensures that they can sell Ghost glasses for two more weeks before they run out of stock. For example, you could keep 15 extra chairs, 3 days’ worth of products, in stock in case the shipment arrives late. Regular audits spot trouble sooner and identify opportunities for improvements.

Your extra stock will quickly pile up, and the cost of holding it may increase significantly, especially if you need to rent more space to store it. Had there been multiple entries for lead days, she would have needed to calculate the average lead time. So now you know the reorder point formula, but what about demand during lead time? In this section we break down ROP and tell you exactly how to calculate it. Calculating reorder points goes hand in hand with having a clear idea of purchasing trends over a given time period.

This article looks into the reorder point formula, safety stock, and how to calculate it all. Safety Stock is the optimal level of inventory you wish to keep to ensure sufficient delivery times to your customers. Your inventory for a product or material should not drop below the Safety Stock level under normal circumstances. If you sell 5 chairs each day, for example, your daily sales velocity is 5.

Once inventory levels reach the reorder point, this triggers the replenishment process to reorder that item. The ultimate goal of reorder point is to maintain an amount of inventory at a level that can always meet customer demand without having more than is realistically possible to move. Your reorder point should include enough stock to last on-hand until the delivery of new stock arrives. Keeping optimal stock levels in order to avoid stockouts is an integral task of inventory management. One of the most fundamental ways in which to ensure this is setting and maintaining the right reorder points. Usually, for a business, inventory consists of raw materials or finished goods stored in storage.

Avoid Using Absolute Reorder Point

Even if they don’t do so explicitly, it’s good to build in some allowance to cover uncertainty and unexpected events. If your business doesn’t have a concept of safety stock (or a similar concept that serves as a cushion in your inventory levels), you may still want a “safety stock” term in your equation. That number could serve in place of your safety stock number, or even be added to your safety stock if late deliveries are a legitimate concern.

The reorder point can be different for every item of inventory, since every item may have a different usage rate, and may require differing amounts of time to receive a replenishment delivery from a supplier. Then multiply it by the days it takes between ordering a  product from your supplier and receiving it. Reorder point refers to that stage of inventory management in which the inventory needs to be reordered to ensure the timely availability of goods for sales. It ensures that a business can have a minimum product quantity in storage to prevent operational disruptions from a stock out. At the same time, reorder points will prevent holding stock beyond the safety point to avoid incurring unnecessary storage costs.

Reorder points

The aim is to specify the most favorable product quantity for your business that goes beyond your replenishment schedule. Safety stock calculation involves determining your service level, the standard deviation of lead time, and the average demand for a product. The daily sales velocity, or the average number of units you sell per day, differs for everything you sell. The reorder point tells you when to reorder inventory, so that you won’t run out of stock. It usually triggers the purchase of a predetermined amount of replenishment inventory. If the purchasing process and supplier fulfillment work as planned, the reorder point should result in the replenishment inventory arriving just as the last of the on-hand inventory is used up.

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The reorder point varies from product to product and is primarily influenced by two critical factors – daily sales velocity and lead time. Please note that the reorder point only indicates when to place a replenishment order; it does not calculate the amount of items that should be ordered (which is addressed by the economic order quantity formula). Better yet, consider using a just-in-time or material requirements planning system, which only order new inventory when there is a specific, identified reason for doing so.

Reorder points

However, modern inventory management systems usually have various degrees of ROP functionality built-in that automatically trigger parts of the stock replenishment process. Modern solutions often use ROPs in conjunction with constraints management and other advanced forecasting methods, enabling deeper insights into stock consumption. ROP stands for reorder point, which tells a business when to place an order (where the “when” is given in terms of current inventory levels). EOQ stands for economic order quantity, which determines how much to buy when placing those orders.

Many advanced formulas exist, however, that enable arriving at more accurate and efficient safety stock levels. If you’re a business owner, knowing when to order more stock is important. If you order when you still have a lot of stock on hand, it will lead to extra stock piling up, which will increase your holding costs.

Calculating average daily unit sales

The decision on how much stock to hold is generally referred to as the order point problem, that is, how low should the inventory be depleted before it is reordered. First, reorder points allow a business to make fast, low-stress, data-driven decisions about ordering inventory, without having to start from first principles every time. A simple, rules-based approach saves time and reduces the possibility of costly mistakes in inventory management. Add the total delivery time (15 days ) and divide it by the number of orders (3 orders). In addition, it will save you time, reduce the chance of human errors, and streamlines your entire production process. Try Katana for free with a 14-day trial and see for yourself why thousands of manufacturers use it daily to manage their business.

  • As you can see EOQ and ROP are very closely related, and are metrics that help prevent both overstocking, and shortages.
  • However, many retail companies don’t give their stock orders the attention needed to manage them correctly.
  • Your lead time will be longer if your supplier is overseas as compared to a domestic or in-house production facility.
  • It usually triggers the purchase of a predetermined amount of replenishment inventory.
  • He is especially interested in environmental themes and his writing is often motivated by a passion to help entrepreneurs/manufacturers reduce waste and increase operational efficiencies.

But the concept is not limited to businesses that buy inventory for resale (e.g., buying at wholesale prices and selling at retail). Your safety stock is your trump card in emergencies, but you shouldn’t have to keep dipping into it. The ideal reorder point ensures that your business does not fall below your safety stock levels.

Reorder point formula is the mathematical equation used by businesses to calculate the minimum amount of inventory needed to order more products, to avoid running out of inventory. When your inventory is down to 160 pieces, that’s when you need to order more from your supplier. It might seem like a lot for a product that only moves four units a day, but in this case it’s the long lead time that drives the result. 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 of 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. If you’re struggling to answer these questions, you can use a reorder point calculation to help you out. You can set a Reorder point for each product and material directly on the Stock screen. In Katana, Purchase orders and Manufacturing orders are not created automatically. You can see the difference from the optimal level for each item in the Stock screen by looking at the Missing/Excess column. Inventory levels below optimal are highlighted in red, indicating that you should create a new Purchase order or Manufacturing order.

You can set Excel or Google Sheets so that cells turn red when they hit a reorder point. This will effectively warn you when you need to start on a new purchase order. Safety stock is similar to a reorder point, but it’s a surplus quantity to ensure that you don’t run completely out of stock if there are delays. It’s based on your own purchase and sales cycles, and it varies on a per-product basis. However, once you have a handle on the patterns of a product, you’re ready to start putting the variables together. If you want to dive deeper into the topic, you can read more about calculating your safety stock here.

Working closely with manufacturers on case studies and peering deeply into a plethora of manufacturing topics, Mattias always makes sure his writing is insightful and well-informed. To help think through various possible reorder point scenarios, download this free calculator based on the classic ROP formula described above. With it, you can plug in different numbers for each variable to see how those differences may change the reorder point..

Based on your historical sales data, you need to determine an average of how many products you can sell in a week. Start by taking the weekly sales figure and then divide it by the number of days in the week your business was open. Then, it would help if you determined how long it takes to receive a product after you order it. Calculating ROP for each product can be time-consuming and challenging, especially if your inventory is patched together from several suppliers or you sell lots of products. ShipBob’s cutting-edge inventory management software and analytics tools make it easier than ever.

Safety stock is the level of emergency inventory that is kept to reduce the risk of stockouts caused by shifting supply, demand, or both. A reorder point, however, is a stock value at which new stock should be ordered in order to avoid the stock level falling below the safety stock value. The value of the sales or manufacturing rate also needs to be as accurate as possible to ensure the reorder point calculation is reliable. Capable manufacturing ERP software can simplify this process by way of automatic reports of sales and manufacturing data. The reorder point formula is daily unit sales multiplied by delivery lead time, with some safety stock for good measure. It saves holding costs and prevents stockouts, overstocking, and lost sales by ensuring that sufficient stock is always available in your inventory.

The calculation consists of an item’s delivery time, demand or consumption rate, and, if applicable, its safety stock level. Since all of these are dynamic variables, the ROP of an item can vary greatly depending on changes in the supply chain, market circumstances, selected suppliers, etc. The ROP model is based on analyzing historical consumption and lead time data to predict consumption rates. The basic formula for the reorder point is to multiply the average daily usage rate for an inventory item by the lead time in days to replenish it. For example, ABC International uses an average of 25 units of its green widget every day, and the number of days it takes for the supplier to replenish inventory is four days. Therefore, ABC should set the reorder point for the green widget at 100 units.