Setting Optimal Levels of Product Availability in a Supply Chain in Practice

1. Beware of preset levels of availability. Often, companies have a preset target of prod­uct availability without any justification. In such a situation, managers should probe the rationale for the targeted level of product availability. A manager can provide significant value by adjust­ing the targeted level of product availability to one that maximizes profits.
2. Use approximate costs because profit-maximizing solutions are quite robust. Com­panies should avoid spending an inordinate amount of effort to get exact estimates of various costs used to evaluate optimal levels of product availability. It is not crucial that all costs be esti­mated precisely because a reasonable approximation of the costs will generally produce targeted levels of product availability that are close to optimal.
3. Estimate a range for the cost of stocking out. Firms’ efforts to set levels of product availability often get bogged down in debate over the cost of stocking out. The sometimes controver­sial nature of this cost and its hard-to-quantify components (such as loss of customer goodwill) make it a difficult number for people from different functions to agree on. However, it is often not neces­sary to estimate a precise cost of stocking out. Using a range of the cost, a manager can identify appropriate levels of availability and the associated profits. Often, profits do not change significantly in the range, thus eliminating the need for a more precise estimation of the cost of stocking out.
4. Tailor your response to uncertainty. A manager should recognize that strategies such as quick response and postponement are most effective when the underlying unpredictability is large. Thus, for the portion of demand that is relatively predictable, one should focus on the low­est cost production method, even if it is not responsive. The unpredictable portion of demand, however, should be served using a more responsive approach (postponement or quick response), even if it is more expensive.

Source: Chopra Sunil, Meindl Peter (2014), Supply Chain Management: Strategy, Planning, and Operation, Pearson; 6th edition.