Order Optimization: Smaller (standard) order quantities, more full-pallet orders AND reduced retailer inventory

If you work in the Supply Chain between CPG and Retail this probably sounds too good to be true, but stick with me and I'll show you a win:win opportunity.


Background

When CPG product leaves a manufacturing facility, much of it is packed into corrugated cardboard cases.  Multiple cases of the same product are placed tightly together into layers on top of (typically) wooden pallets.  (To hold them together in transit they are then completely wrapped in a stretch-film not unlike the plastic film you may use to cover leftovers in your refrigerator)


Ideally, this is the last time the CPG company wants to touch these cases as manual handling is expensive.  If customers order whole pallets, the product can be quickly and cheaply shipped by operators using lift-trucks and just as cheaply unloaded at the customers facility.  

When a customer orders in quantities other than full pallets some additional handling is required.  There are varying levels of automation available though much of this is manual: a warehouse operator will physically "pick" individual cases and "pack" them onto new pallets.  When the customer receives this product they have a more difficult, expensive and error-prone job to figure out what they have received and put it away.

So, why do customer not just order full pallets?  Imagine that they average weekly demand for a product at a customer warehouse is 4 cases.  The pallet pictured above actually has 48 cases on it, so a full pallet has enough inventory to last about 12 weeks.  That's a lot of inventory and the amount of money a Retailer has tied up in their inventory is a big driver of their profitability and stock price.  

So, the standard order quantity agreed between a Retailer and a CPG is a big driver of handling costs and Retailer inventory cost.
  • The CPG wants to ship more orders as full pallets (and reduce their cost of handling).  
  • The Retailer might appreciate a reduction in  handling costs when receiving full pallets but they are heavily focused on reducing their own inventory; a key driver for their financials and stock price.  They can't do this by ordering more than they need.
This lack of alignment means that discussions around "standard order quantity" ( I'll call it "SOQ" from here onwards) often end with a win:lose situation.


Finding a win:win 

So, how do you find a win:win?  There are 2 keys to this:




  • Demand variability: simply put, the Retailer sometimes needs less product than average and sometime they need more.  This variability  can be large - individual orders can easily be double or even triple "average" demand.  Ignoring this variability is causing a big problem.
  • Ordering in multiples: Let's look at how the order processing system handles orders when demand is greater than the SOQ.  In many systems they will order multiples.  If the SOQ is set to 3 cases the only orders you can ever see are for 3, 6, 9, 12, 15 etc....  (FYI - You can make a very good guess as to what the SOQ is even if you don't know for definite by looking at order history and calculating the "Highest Common Factor".)
Now with these 2 keys in mind, consider a product with not quite enough average demand to justify full pallet ordering:

Typically CPG's will push to round-up to full-pallets (a "win" for the CPG but a "lose" for the Retailer).  The Retailer may well stand their ground and insist on SOQ being no more than  X days of average demand (a "lose" for the CPG).

Consider this option:  what happens if instead you reduce the SOQ to a half pallet ?
  • sometimes demand is low and orders actually are for half a pallet.
  • often demand will be higher, triggering the order processing system to order multiples of the SOQ, probably a full pallet, or possibly 1.5 or even 2 pallets.
  • as the ordered quantities more closely match demand, retailer inventory goes down.
The difference between setting an SOQ that will easily (and often) round-up to full pallet quantity and routinely ordering "almost a full pallet" can be significant both in handling and retailer inventory costs.   

Smaller (standard) order quantities, more full-pallet orders AND reduced retailer inventory.  Sounds like a win:win doesn't it ?