Picture this: you’re having an incredible holiday season, with more orders than ever before. And they just keep coming, so much that you don’t have enough inventory to keep up with demand. So you start experiencing stockouts and putting items on backorder, leading to shipping delays—and angry customers (or worse, refunds).
No company ever wants to deal with this, especially during peak seasons where customer demand is high. That’s why many are opting to supply their inventory with buffer stock as a safeguard against future shortages. And with the right inventory forecasting, you can have a good idea when you may need this extra inventory most, and when you don’t. So what exactly is buffer stock, and how can you make it work in your fulfillment process?
Buffer Stock: Your Safety Net
Also known as safety stock or contingency stock, buffer stock is extra inventory stored at your warehouse in case of the unexpected, such as:
- Transportation delays
- Supply chain shortages
- Demand spikes
- Uncertainty in supply and demand
- Emergency situations
Often, companies will keep this buffer stock on hand as a safety net to meet customer demand, avoid out-of-stock situations, and fulfill orders on time, as well as maintain their inventory performance index scores if they sell on Amazon. While demand forecasting can give you a good idea of your upcoming demand needs, it’s never perfect.
With our inability to predict the future, having buffer stock is a smart strategy. Yet if you get overzealous with your buffer stock and keep too much of it on hand, your profitability can be negatively impacted and your inventory holding costs can increase. That’s why calculating the correct amount of buffer stock needed is also important.
Getting Your Buffer Stock Inventory Just Right
When determining the amount of buffer stock you need on hand at any time, it’s ideal to find that sweet spot between having enough to keep up with demand but not so much that your holding costs get too high. To determine this, you’ll need to understand your lead time, or the time between when an order is made and when the order is delivered. Methods for calculating the right amount of buffer stock vary, so it’s vital you choose the calculation that works best for your business:
Safety Stock Formula
The safety stock formula is a straightforward, easy way to calculate your ideal buffer stock level for a specific product. To start, determine the maximum number of units you’ve ever sold in one day (known as the maximum daily usage) and multiply this by your maximum lead time. Then subtract this number by the result of multiplying your average daily usage with your average lead time. The resulting calculation will give you the amount of buffer stock needed moving forward.
Buffer Stock = (Max Daily Usage x Max Lead Time) - (Average Daily Usage x Average Lead Time)
Fixed Buffer Stock
To calculate fixed buffer stock, you don’t need a formula. Just determine a comfortable amount of extra inventory you want to have on hand at all times, and this number becomes your buffer stock. This number generally remains unchanged, but can be adapted based on demand forecasting and other factors. This is a simple approach to utilize when having excess inventory on hand is something your company can easily afford.
Hezier and Render Method
Created by two professors, the Hezier and Render method is helpful when your inventory levels typically fluctuate due to supply chain delays. To calculate buffer stock, you multiply the standard deviation of your lead time (the degree and frequency where your average lead time is different from your actual lead time) by your desired service factor, or the probability that a stockout won’t occur.
Buffer Stock = Z (Desired Service Factor) x 𝜎LT (standard deviation in lead time)
Greasley’s Method
Used often when demand and lead time fluctuate, Greasley’s method incorporates average demand into its buffer stock calculation, or the number of items required to fulfill customer orders over a set period of time. Multiply the standard deviation of your lead time by average demand by the desired service factor, and you’ll have your target buffer stock amount.
Buffer Stock = 𝜎LT (standard deviation in lead time) x average demand x Z (desired service factor)
Better Inventory Management with Smart Warehousing
While buffer stock is a vital component of keeping up with your orders, it’s clear that it’s one aspect of a larger need: expert inventory management. As a national 3PL, Smart Warehousing has the resources, technology, and experience to flawlessly manage your inventory, even when the unexpected comes. We can also take ownership of your entire logistics, from fulfillment to replenishment, transportation and beyond—so you can meet customer demand in any season. Contact us today to learn more.