We will explore through the following illustrations how time phasing and lead time impact the order planning and Net Requirement calculation. Let us assume we are having the following “Distribution Network System”.
In this model we have a manufacturing plant dispatch items to central Distribution Centre (CDC). CDC in turn send items to various Regional DCs (RDC). We will learn how net requirement is computed through various advanced models.
Before we proceed further, we understand few terminology related to “Inventory Management”, which we will be used in the Net Requirement calculation. We will learn more about “Inventory Management” concepts and calculations in our latter session shortly.
Lot Size or Lot Quantity - A “Lot or Batch” size is the quantity that company either produces or purchases at a time.
The number of units of a product or item (Lot Quantity) to be manufactured at each setup or purchased on each order so as to minimize the cost of purchasing or setup and the cost of holding the average inventory over a given period usually annual.
Safety Stock - Safety Stock (also called Buffer Stock) exists to counter uncertainties in supply and demand. Safety stock is defined as extra units of inventory carried as protection against possible stock outs. It is held when an organization cannot accurately predict demand and/or lead time for the product.
Lead Time - is the time from the moment the supplier receives an order to the moment it is shipped
In the above explained model CDC is only serving point and catering to the need of Regional DCs. Hence safety stocks are calculated at Regional DC level and not at Central DC level. Net Requirements and planned orders are calculated at Regional DC and getting rolled up to CDC. We give below Net Requirement and order Planned calculations of three regional warehouses for clear understanding.
The users are requested to click on the table to get clear view of the data.
Let us take Regional Distribution Centre -1 as an example and explain how the calculation has been performed. In this case the Safety stocks is 30 units, Lot Quantity i.e., the minimum quantity required at this distribution centre for a given order is 200 units and lead time i.e., time taken to deliver stocks from CDC is 2 days.
Forecast Quantity Split - Monthly forecast quantity apportioned as per customer requirement. It could be daily, Weekly or Fortnightly dispatch plan.
Gross Requirement – Forecast Quantity + Safety Stock for a particular day or period
Opening Inventory - Previous day Closing Inventory will become today Opening Inventory
Schedule Receipt / Transit - Stocks which has already been dispatched earlier from CDC has yet to reach the RDC on a particular day
Net Requirement Calculation - The difference between the Gross requirement (Forecast quantity + Safety stock) and the (Opening Inventory + schedule receipt/Transit stocks) . NR Formula is given below
Net Requirement = (Forecast Quantity + Safety Stock) – (Opening Inventory + Schedule Receipt/Transit)
Order Planned – Order planned depends on two criteria i.e., Lot Quantity and Lead Time. RDC cannot place order in piecemeal quantity to CDC. The quantity should be in Lot Size. It also depends on Lead Time. For example if lead time is 2 days then Lot quantity dispatched by CDC today will reach the RDC after two days.
Since the lead time is two days as per our example the closing Inventory as on day 1 should be sufficient enough to cover next two days (day 2 and 3) gross requirements (Forecast quantity + Safety stocks). If the closing stocks is not sufficient then we need to plan order as per lot quantity.
In our above example the closing Inventory for DC 1 as on day 1 is 170 units. The Gross requirement for day 2 and day 3 is 190 units (100 + 90 units). There is shortfall of 20 units (closing inventory – 2 days cumulative gross requirements). Since the lead time is 2 days we need to consider next two days gross requirements as the stocks will get connect the DC after two days. If the lead time is 3 days (refer Regional Distribution centre 3 with lead time 3 days model) then we need to consider 3 days gross requirements. Even though the short fall quantity is 20 units only, we need to place order as per lot quantity i.e., 200 units. Order planned formula is given below
Order Planned = Closing Inventory as on day – cumulative Gross Requirements as per lead time
Planned Receipt – Order planned quantity received as per lead time. As per our example we have ordered 200 units on day 1 to meet cumulative gross requirements. Since the lead time is 2 days the stocks will be reaching DC on day 3 against the order planned on day.
Closing Inventory – The calculation is given below.
Closing Inventory = (Opening Inventory + Schedule Receipt / Transit + Planned Receipt) - Forecast quantity split
We consider Forecast quantity split to compute closing inventory and not Gross Requirement as gross requirements contains safety stock also.One may wonder why the Order Planned quantity is used for dispatching the stocks from plant to Distribution centre rather than Net Requirement ? Order Planned Quantity is based on Lot Quantity and Lead time and hence the same is considered for placing orders.
In the next session we will see how DRP is computed for Centre Distribution Centre by rolling up the orders of all three regional DCs.