Publication Detail
Over Prediction and Safety Forecasts Are Like A Double-Edged SwordI

By: Tenaka Budiman, Executive Board of ALI

Logistic+ Vol. IX Issue No. 47

Many senior managers of manufacturing companies are routinely involved in a particular kind of collaborative planning process in the hope of creating reliable sales forecasts with the distributors, which eventually become purchase orders. In the past, it was the sales team's responsibility to achieve sales without having the burden of also determining demand and sales forecasts which are of course needed so that manufacturing can provide the supply chain in accordance with the order. Sometimes, manufacturing follows a "make to order" agenda, only making enough of the final product to meet the requirements of the purchase order from the distributor. Other times, there can be over prediction and that can lead to over stock. In some cases, it is safe for the sales team to purposely over predict by creating a safety forecast with safety order, rather than relying on forecasting factors, current market statistics, internal and external company and/ or sales partners. One advantage of this is that it eliminates the need for frequent collaborative meetings between sales, distribution and manufacturing. In these collaborative meetings, the sales forecast to be safety order. In other words, they do a "safety forecast" by ignoring the achievement sales vs previous forecast and very seldom considering the "why" of their previous forecast did not accurate but still keep on sensibly over predicting. Isn't it better to add a certain extra quantity to the forecast to be ready for a possible spike in sales?

"Demand planning" acts as the counterweight needs to emphasize the effect of safety forecast when over prediction leads to overstock, which can occur not only in Finishes Goods (FG), but also in supply planning will either capture the demand signal, inside the influence of Raw Material (RM) and Packaging Material (PM). Supply and demand are more focused on a prediction based on analysis from historical records, sales trends, marketing activities and future signals, but the right forecast needs to include input from the sales team to help rationalize what is to be done by the planning division, by consensus. So, the final planning could very well include safety stock (SS), but this is different from unintentional over prediction, which means that too much safety stock especially true in multi-tier distribution systems when the SS is set at each level rather than set comprehensively across all tiers of distribution.

In many cases, the sales team does not realize the impact from over prediction because they are more focused on preventing the loss of sales opportunities. While trying to address a real issue that has huge financial impact, I believe the sales team's mindset can be detrimental as it can ultimately distort the forecast. Getting a forecast that is as accurate as possible is vitally important and we should always avoid distortions. There are two dominant factors that affect the amount of SS:

The Sales Team:

1.      Lead times - as we know, delivery times can be very uncertain outside Java, depending on ship schedules, weather and other factors. Often, shipments from factories do not reach their destinations on time.

2.      Market Volatility - generally, sales and distribution outside Java are done though agents, sub distributors and partners that forecast according to their stock availability and prioritize only fast moving products. They often do not use appropriate forecasting methods. The effects of No. 1 can also lead to bad forecasts and the lack of ability to determine the amount of SS being held in warehouses.

What we need is balance is this process, in addition to the application of measurement to limit forecasting errors. This is where the value of the safety forecast comes in, also need to measure the purchase order (PO) error rate for the "safety order" and the last is the Days of Inventory (DOI). DOI for distribution can be determined by taking the distribution of average stock and dividing it by the average delivery out from factory to the distribution. It is wiser when determining SS to see it as a potentially changeable figure as safety stock tends to fluctuate with anticipated demand.

When facing the problems of leadtimes and market demand volatility, the strategy for logistics is to have a hub and spoke system though the distribution centers (DC), regional DCs, forward stock locations (FSL) or though a postponement strategy. Postponement is often thought of in terms of inventory or distribution postponement. Based on the views of SCM expert Dr. Ramlee Ibrahin Phd, your ability tp postpone either the manufacturing or distribution of FG is determined by the markets order-to-delivery (OTD) lead time expectations and your supply chain's supply lead time is three weeks, there is very little opportunity for postponement and SS must be kept at the most forward stocking location. If on the other hand, the OTD lead time expectation is one week, SS could be kept as FG at the Factory. If the OTD lead time expectation is five weeks, then the SS can be kept as raw materials before manufacturing or assembly. In this case, we must consider the supply lead time and order-to-delivery lead time in order to implement a postponement strategy.

Postponement can only be used as long as the supply lead time from the point of postponement is shorter than the expected order-to-delivery lead time. If the expected order-to-delivery lead time is a lot shorter than the supply lead time, then the safety stock buffer has to be in FG. If the supply lead time is shorter than the order-to-delivery lead time, then the safety stock buffer has to be kept in the form of raw materials or components.

Reflecting back to the fact that sales team usually only think about safety orders and safety forecasts to anticipate the loss of sales opportunities, how should you calculate the right amount of safety stock for inventory? Should you even have safety stock, or should you plan to set up a hub and spoke system to anticipate lead time variabilities? You must remember that the system is use between distribution an order of manufacturing is based on the purchase order (PO), where distribution submits an order to manufacturing while they both determine a forecast together by collaborative consensus. Eventually, manufacturing will execute a "Make to Order".

In other words, if the demand is fairly stable, relative to volume, and the supply lead time id fairly stable, very little safety stock is required. Of course, this strategy works best for mature products with low demand variability relative to volume. For common FMCG and F&B companies, especially in Indonesia, demand characteristic could be described as uncertain and / or uncommitted, due to the many charging demands from traders and big wholesalers.

When trying to understand sales patterns in order to get better forecasts, demand signals can be captured by supply planning in production (PPIC-Production Planning & Inventory Control), but it is difficult as most of the time, the goods are covered by multiple promos, which we can not usually factor in. demand can spike up and spike down dramatically at times and sometimes sales performance is heavily influenced by promos, which usually bring the price increases. The problem is not merely the forecasting itself, or how to manage the safety stock, but more on sales engineering.


In summary, I think a safety order and / or a safety forecast is sometimes right in certain situations. But, I think the answer lies in deep analysis of both demand and in the products themselves when determining differentiated inventory policies, which many include postponements strategies, safety stock and reorder points (refer to my previous article, last December, 2011). Those who are the best at understanding the environment of the market and are better at planning around scenarios should make the decisions. It is hard to get the right safety stock and sell as needed and easier to determine a safety forecast and a safety order, especially if you do not realize the impact of over prediction, excess inventory and the disruptions it causes in the planning of supply and demand, not only between the distributor and manufacturer, but also to supplier.


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