Buffer Inventory: How It Can Make Or Break A Business
April 30, 2021
A buffer acts as a cushion to absorb the impact of potential harm.
For ecommerce businesses, having a buffer in inventory levels helps prevent shortages and delays in the retail fulfillment process. But ordering too much inventory can quickly cut into profit margins and increase holding costs.
Calculating the ‘right’ buffer inventory levels (above the cycle stock) brings greater certainty of supply while being resourceful.
There are several ways to determine a healthy level of buffer stock, but it will require you to have access to historical inventory and order data and other tools to help you find the optimal amount of inventory buffer to order.
In this article, you will learn:
- The advantages of having buffer inventory
- Different ways to calculate the right amount
- How a third-party logistics (3PLs) partner like ShipBob can help you optimize your supply chain
What is buffer inventory?
Buffer inventory (also known as safety stock, supply chain safety net, or contingency stock) refers to a surplus of inventory that is stored in a warehouse in case of an emergency, supply chain failure, transportation delays, or an unexpected surge in demand.
The amount of buffer inventory you decide to store can be based on the type of product(s) you sell, average production lead times, and historical inventory and order trends.
Sometimes, changes in demand can be predicted, such as running flash sales or other types of planned promotions. Other times, a business might see an influx in sales due to a sudden change in demand or market shortage (e.g., hand sanitizer during the COVID-19 pandemic).
Even if you don’t predict a higher volume of orders in the near future, having a “buffer” in how much inventory you have available to meet demand provides peace of mind, as both your supply chain and the market can be unpredictable
Buffer inventory vs. safety stock
The terms ‘buffer inventory’ and ‘safety stock’ are used interchangeably, referring to the extra stock that an ecommerce business has on hand to act as a cushion for uncertainties in supply and demand.
In some cases, ‘buffer inventory’ refers to inventory held specifically for unexpected increase in product demand (e.g., a promotion that brings in more sales than expected), and ‘safety stock’ refers to inventory held in case of work-in-process inventory or supplier delays (e.g., manufacturing shutdown).
Overall, they serve the same purpose: to ensure there is enough inventory to meet demand and fulfill orders on time.
Why you need to keep buffer inventory
Higher than expected sales is great, but running out of ecommerce inventory is never good for business. Even if your business takes the time to forecast demand, inventory forecasting is never 100% accurate and so much can happen throughout the supply chain.
This even helped many direct-to-consumer (DTC) brands meet customer expectations during the start and continuation of the pandemic.
“We were already growing quickly when COVID began, then we completely sold out the first week of the pandemic.
In three weeks, more than 34,000 customers were waitlisted on Touchland.com. We even did pre-orders to try and meet demand.
Between March and May 2020, we had up to 700 orders per day and sold 10,000 dispensers to industry-leading brands in those three months.”
Andrea Lisbona, Founder & CEO of Touchland
To calculate the right amount of buffer stock to have on hand, you will need to implement an inventory management system that tracks inventory and demand over time (and also ensures inventory accuracy).
How to calculate buffer inventory levels
How much inventory you have on hand to act as a buffer depends on several factors. There is no one-size fits all in determining how much buffer inventory to store, so you will have to do some math to determine the right amount that make sense for your business.
There are several ways to calculate optimal buffer inventory levels, but no matter what method you choose, you will need access to analytics and reporting tools that help you control inventory by providing historical order data, SKU performance insights, and demand forecasting tools.
Having the right type of data at your finger tips will help you easily calculate the right amount of buffer inventory to optimize inventory storage and ensure orders are fulfilled on time.
Safety stock calculation
To calculate the right amount of buffer inventory, the safety stock formula is a great way to easily determine an optimal amount inventory buffer in case of an unexpected situation. To calculate it, you will need the following data:
- Maximum daily usage
- Maximum lead time
- Average daily usage
- Average lead time
Once you collect this data, you can use the formula below:
(Maximum daily sales x Maximum lead time) – (Average daily usage x Average lead time)
To test the safety stock formula, you can use this safety stock calculator and quickly determine how much safety stock makes the most sense for your online store.
Hezier and Render’s method
Jay Hezier and Barry Render are professors and the authors of Operations Management: Sustainability and Supply Chain Management. Heizer and Render developed an inventory buffer method that works well if inventory levels vary significantly due to inconsistencies with your supplier or manufacturer.
The Hezier and Render’s buffer inventory method uses the standard deviation of the lead time distribution and desired service factor (i.e., probability that a stockout will not occur). This gives you a more accurate picture of how much buffer you should have on hand based on previous supply chain delays.
The Hezier and Render method is calculated by multiplying your desired service factor (Z) by the standard deviation in lead time (𝜎LT), which is the degree and frequency by which the average lead time differs from the actual lead time. See formula below:
Z x 𝜎LT
Keep in mind that the higher your service factor level is, the more buffer inventory you will need, which can significantly increase carrying costs.
Andrew Greasley is a UK-based lecturer and author of several books related to operations management. Greasley’s method of inventory calculation not only takes into account both the standard deviation of lead time and desired service factor but also average demand. The formula is as followed:
𝜎LT x average demand x Z
Here, the standard deviation in lead times refers to the variability or volatility in lead times, over a period of time, while average demand signifies the number of goods needed to meet customer demand in a fixed period.
This method is commonly used when the demand and the lead time tend to vary a lot. However, it does not take into consideration the quantities of stock that are still in production and not yet ready for sale.
Historical demand-based buffer inventory
No matter how you calculate inventory, it’s always a good idea to have access to historical order and inventory data. Inventory forecasting requires extensive planning to ensure your business is prepared to consistently meet demand while staying conscious of not ordering too much (which can increase the costs of storing excess inventory and eventually cut into profits).
By using demand forecasting tools, you can easily integrate all of supply chain data from multiple channels to provide an overview of actual product demand and insight into sales forecasts.
Being able to view inventory turnover rate, SKU performance by location and sales channel, and other insights can help you forecast growth and trend projection on a more granular level, so you know just how much buffer inventory makes the most sense based on past supply chain trends.
“Our B2C and B2B order volume changes month to month. Between shipping new collections for wholesale earlier in the year and Q4 madness for direct-to-consumer sales, we’ve been able to get through our heaviest seasons while staying ahead of production using ShipBob’s forecasting tools — even as order volume more than quadrupled in a year.”
Ryan Casas, COO of iloveplum
Simplifying your inventory management
Managing inventory is not easy and is often a moving target. Managing inventory can be a full-time job, not to mention it can take up a lot of time and resources.
As your business grows, you might want to consider ways to simplify the inventory management process by investing in technology and/or partnering with logistics experts that can help you save time and money.
Use inventory management software
By implementing inventory management software, you can track and manage inventory from multiple channels in real time. Different types of inventory apps and software are designed to help you analyze historical order trends and inventory data to make better decisions on inventory that optimizes costs while meeting demand.
For instance, ShipBob’s technology offers inventory management tools built-in to help you track inventory in real time. From ShipBob’s dashboard, you can view inventory on hand by fulfillment center and see what inventory is in transit:
ShipBob’s technology also integrates with leading inventory management solutions, which makes it easy to plug ShipBob into your already existing tech stack.
“Another ShipBob integration I love is Inventory Planner. It saves me hours every week in Excel spreadsheets, and I can raise a PO in minutes when it used to take me hours.
For every order I placed for years, I was ordering too much or not enough. Between inventory forecasting tools and the ability to auto-create WROs, we don’t have stockouts much anymore. I sleep better at night.”
Wes Brown, Head of Operations at Black Claw LLC
Hire a professional consultant
The closer you are to a problem, the more difficult it is to identify solutions. This also implies in operating your own supply chain.
Logistics takes up a lot of time, and if you’re like most business owners, you didn’t build an online store to spend all your time optimizing inventory. But the decisions you make related to inventory have a tremendous impact on your ability to offer reliable fulfillment and fast shipping for your customers.
Fast-growing online brands tend to hire experts in logistics, such as 3PL companies, that provide expertise, technology, and resources to help you optimize inventory levels while spending less time on logistics.
For instance, ShipBob is a 3PL with an intuitive technology that offers historical order data, which can can help you calculate your ideal reorder quantity and how much buffer inventory you need to prevent stockouts.
“So many 3PLs have either bad or no front-facing software, making it impossible to keep track of what’s leaving or entering the warehouse.
On the supply chain side, I just throw in what we placed at the factory into a WRO in the ShipBob dashboard, and I can see how many units we have on-hand, what’s incoming, what’s at docks, and so on. I can see all of those numbers in a few seconds, and it makes life so much easier.”
Harley Abrams, Operations Manager of SuperSpeed Golf, LLC
Outsource to a 3PL like ShipBob
A tech-enabled 3PL like ShipBob can help you with supply chain planning and management with built-in inventory management tools, fast fulfillment, and automated shipping. With ShipBob, you can store inventory in multiple fulfillment centers across the globe while tracking the entire order and inventory process all from one dashboard.
ShipBob’s intuitive, user-friendly fulfillment software also gives you access to real-time inventory updates, as well as the ability to set automatic reorder point notifications, forecast demand, and allocate inventory strategically across your distribution network.
“I felt like I couldn’t grow until I moved to ShipBob. Now I am encouraged to sell more with them. My CPA even said to me, ‘thank god you switched to ShipBob.’”
Courtney Lee, founder of Prymal
By partnering with ShipBob, you can optimize supply chain operations while reducing logistics costs, saving time, and providing a consistent and reliable experience for your customers. Optimize your logistics operations by getting in touch with ShipBob today through the button below.
Buffer inventory FAQs
Here are answers to common questions related to buffer inventory when it comes to running an ecommerce supply chain.
What is buffer stock?
Buffer stock refers to extra inventory kept on hand in case of manufacturing delays or an unexpected increase in demand. Calculating the right amount of buffer stock to have available helps to keep carrying costs low while making sure customer orders are fulfilled on time.
What are the advantages of buffer inventory?
Managing inventory can be a moving target, especially if your inventory turnover rate is high. In such situations, having sufficient buffer inventory helps safeguard your business from unexpected delays and shifts in demand. Thus, it reduces the likelihood of out-of-stock issues and lost sales.
What are the disadvantages of buffer inventory?
Buffer inventory provides businesses with peace of mind, knowing they have extra stock to meet demand. However, buffer inventory will always consists of higher carrying costs, and you may risk paying for storage on unsellable inventory if it sits on the shelves too long.
Is buffer stock and safety stock the same thing?
In some cases, ‘buffer stock’ refers to inventory held specifically for unexpected increase in product demand and ‘safety stock’ refers to inventory held in case of supply chain delays. However, both terms are often used interchangeably and serve the same purpose: to ensure orders are fulfilled on time and prevent stockouts.