Understanding the Order Point
When a purchase order is issued, it is normally the result of sales or inventory management. We know who is doing the selling, but who is managing your inventory? It’s not just the people who have been assigned that responsibility.
Unless your company has an iron-clad, foolproof way of controlling what comes in the warehouse door, you have a number of people managing their shelf stock.
Right or wrong, company policy or not, many well-intentioned people are sure they know how much stock should be on hand, and darned sure know when to order more. So they either ask the buyer to place an order, generate a transfer from another location or place the order themselves. It’s much easier to ask forgiveness than to get a busy buyer to drop everything and place an order.
Purchases of this type are often a matter of perception. During the course of the day you may have a number of sales for one item, and it seems like stock is running low. There are still more of them on the shelf, but we’d better get some more on the way. A few minutes later a transfer or purchase order processed.
But is it time to place the order? If you really want to get some conversation going, ask what the minimum quantity on hand should be before an order is placed. This is where perception comes in to play. In the absence of knowledge, we will do what feels or looks right.
When to place an order is simple. If the quantity on hand is at, or less than the “order point,” it’s time to order more stock. How many people know what the order point for any item is? Better still, who knows how an order point is created? Probably the same number of people.
An Order Point (OP) is the sum of Lead Time Usage (LTU) and Safety Factor (SFT). LTU+SFT=OP.
The quantity of the product sold between the time the order is issued and it is received in the computer is your lead time usage. Of course this number varies as lead times shrink or stretch out.
Since sales will vary during the time an order is placed and it arrives in the warehouse, we need some way to allow for these increased/decreased sales. Enter the Safety Factor. The safety factor is a percentage of the lead time usage (often 50%).
If the product has a lead time usage of 10, it would have a safety factor of 5. This gives us an order point of 15. When the on hand quantity is less than 15, it is time to place an order.
This information should be readily available in your computer for anyone with basic access to see. The problem is, most who aren’t directly involved in purchasing have no idea such a thing as an order point exists. Consequently, they have no choice but to rely on their perception.
Often, people find a way “around the system” simply because they don’t know how to find basic information. The small amount of time explaining this very important (and easy to understand) part of how stock gets on the shelves is well invested.