What is Safety Stock and How Do You Calculate?

Stock market conceptWhat do you do if your product suddenly becomes popular and you can’t keep up with the demand? Of if your machine breaks down and can’t finish production on time? You can’t just stop selling to your customers, right? So how do you handle incidents like this? Do you even have a plan? The answer to all of this is simple—safety stock.

What Exactly is Safety Stock?

Safety stock is a small emergency stash that you could count on when incidents like those mentioned above happen and you run out of stock to sell. The thing with safety stock, however, is that you need to have enough of it to tide you over until you address the cause of your troubles, but not too much that you end up compromising your budget due to the high carrying costs, explains a warehousing specialist and logistics consulting provider.

You might be tempted to stockpile enough stock that would suffice until you receive a new shipment. However, keep in mind that more stock equal higher carrying costs because every product that you don’t sell has to cover its carrying cost plus the carrying cost of your safety stock as well. So how can you find that sweet spot? Consider the following formula for calculating your safety stock:

  • Max daily usage X max lead-time (in days)
  • Average daily usage X average lead-time (in days)
  • Find the difference between the two, and you get your safety stock.

The Bottom Line

Your safety stock exists (or should exist) to safeguard you against unexpected demand fluctuations and lead-times, and keep your operations going regardless of unforeseen delays. Ideally, you need to stock just enough for the rainy days, but don’t overdo it or else you’ll have to deal with increased carrying costs. It’s also worth noting that you might have to keep an eye on the seasons, depending on the products you’re selling.

For instance, if you sell toys, you’ll probably experience increased demand during the holidays due to all the people scrambling to get their precious kids the best gift around. This means that you should adjust your safety stock calculation to anticipate the increased demand or risk disappointing your customers. Conversely, you should then recalculate and reduce your safety stock once the holidays are over or risk wasting your budget on increased carrying costs.