What’s more important for a small business owner: serving every customer who wants to buy a product, or making sure the products don’t expire or become obsolete? If you use the right inventory method, you don’t have to choose. You can set minimum and maximum quantities of your products to have on hand. That way, you’re always ready for demand surges but won’t get burned by warehousing fees or product obsolescence.
One great way to manage inventory is the min-max method. Learn how the inventory management system works, its benefits, and how to calculate it for your business.
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What is min-max inventory management?
Min-max inventory management is a simple method for controlling and managing inventory, with a goal of keeping it within a predetermined range. Also known as the min-max system or reorder point system, it involves setting minimum and maximum levels for each item in stock and reordering products when the inventory level falls to the set minimum.
Min-max inventory system variables
Four variables control the min-max inventory control system:
Minimum inventory level
Min is the lowest quantity of product a business is willing to keep in stock before reordering. When the stock level drops to or below this min value, inventory control software or supply chain management software can trigger a reorder.
Maximum inventory level
Maximum inventory levels (max) represent the highest quantity of a product a business is willing to keep in stock. Inventory management software can ensure the inventory does not exceed these maximum stock levels.
The reorder point is the inventory level at which a business will place a new order to replenish the stock. Businesses usually set the reorder point at or just above the minimum inventory level to prevent stockouts and keep revenue flowing.
This is the amount of a product that a business will order when the inventory reaches the reorder point. Several factors, including supplierlead time and delivery time can help supply chain managers determinehow many units to order. In all cases, the reorder quantity will not exceed the pre-established maximum levels set by your inventory management team.
How to calculate min-max inventory
To calculate minimum and maximum inventory levels, start by determining your reorder point and order quantity based on factors like lead time, demand variability, and desired service levels. You can plug this data into the following formula to calculate your min inventory level:
Reorder point (ROP) = demand during lead time × lead time in days
Your ROP represents your min level. You’ll then input your min into your max inventory calculation:
Maximum inventory level (max) = min + reorder quantity
For example, imagine you sell tablecloths. Your supplier needs 10 days to deliver new inventory from the time you place an order. This means your lead time in days is 10.
You sell an average of 15 tablecloths per day, which is your demand during lead time. So, 10 × 15 = 150, which represents your reorder point. It also represents your min level in a maximum inventory level equation.
Thus, you set 150 as your min, and you also input your reorder quantity. In this case, we’ll say that you’ve chosen to order 200 tablecloths in each supplier shipment. 150 + 200 = 350. Therefore, your max inventory level is 350.
Industries most likely to implement min-max inventory management
The min-max inventory management approach helps companies balance between holding enough inventory to meet customer demand and minimizing carrying costs that come with excess inventory. Industries using min-max inventory optimization include:
Perishable goods like fresh produce and dairy often use min-max inventory management to maintain a consistent supply of products while minimizing waste.
Pharmacies often use min-max inventory management to set optimal stock levels for medications, over-the-counter drugs, and other health care products with steady demand.
Manufacturing and product assembly
Manufacturing companies may set min and max values for components and raw materials used in production processes, ensuring a steady supply for assembly lines.
Electronics retailers may use min-max inventory management for products with consistent demand, such as cables and batteries. They may not use the same system for items that sell less reliably, like luxury home theater systems.
Warehouse facilities serving as hubs for storing and distributing goods often use min-max inventory management to manage their inventory efficiently. This can have a downstream effect on the retail stores that rely on warehouses for their own stocking needs.
Benefits of a min-max inventory strategy
- Easy reordering workflows
- Improved demand forecasting
- Maintaining steady cash flow
- Less overstocking
Implementing a min-max inventory strategy offers several benefits for businesses, particularly those that enjoy consistent and predictable customer demand. Here are the key advantages of using a min-max inventory strategy:
The min-max inventory strategy is straightforward to implement, making it accessible to small businesses or those without complex inventory management systems. While inventory management software can smooth the process thanks to automation, the min-max system requires only simple calculations.
By setting minimum and maximum inventory levels, businesses can effectively control the amount of inventory they hold. This helps reduce overstock and its associated inventory costs, such as storage, insurance, spoilage, and obsolescence.
Easy reordering workflows
The defined reorder point (min level) triggers a reorder when the stock on hand drops below the minimum amount. This automates the ordering process and ensures businesses can restock products in a timely manner, reducing the risk of stockouts.
Improved demand forecasting
Over time, the min-max strategy allows businesses to analyze reorder patterns and adjust the minimum and maximum levels accordingly. This helps refine demand forecasting and optimize inventory management practices. For instance, a surge in customers may require setting a new total stock level to accommodate increased demand.
Maintained steady cash flow
Finding the ideal min value and max value will help you find a balance between too little stock, which results in lost sales, and too much, which may force you to reduce inventory levels at a loss. A min-max inventory system helps you find a balance and keep cash flowing.
Unsold inventory can become obsolete or expire. Setting a maximum inventory level based on demand forecasts reduces the risk of dead stock (inventory that doesn’t sell) and associated losses.
Min-max inventory vs. set-units inventory
Min-max and set-units are two different approaches to managing and controlling inventory levels within a business. Here’s how they compare:
- Objective: Both methods aim to maintain adequate inventory levels and ensure products are available to meet customer demand.
- Reordering protocol: Both methods set reorder quantity targets to boost a business’s current total stock level.
- Limitations: Neither method is as sophisticated as inventory approaches like economic order quantity (EOQ) and just-in-time (JIT). These methods may be best for businesses with complex inventory needs, such as multiple suppliers with disparate lead times.
- Objective: Min-max works by increasing or reducing inventory levels based on demand patterns and business needs. Set-units inventory emphasizes predictability, as it orders the same exact quantities every time.
- Reordering protocol: The min-max approach triggers reordering when the inventory level falls below the reorder point. The order quantity restores the stock to the maximum inventory level. In the set-units approach, a fixed order quantity is established and remains constant, regardless of the current inventory level.
- Limitations: Set-units inventory can be difficult to adjust to surges in demand. Min-max can adapt to shifting demand, yet it may lead to frequent ordering if the reorder quantity is small. This can be less cost-effective than ordering large quantities every time.
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Min-max inventory FAQ
What are the pros and cons of min-max inventory?
The pros of min-max inventory include simplicity, cost-effectiveness, and automated processes to control stock levels and keep your inventory within a specific range. Cons include a potential oversimplification of inventory management. For example, min-max does not factor in the need for buffer stock (or safety stock) that some businesses keep to handle the most extreme demand surges.
Is min-max the best way to control stock levels?
Small businesses with simple operations may find min-max to be the best, most cost-efficient method to manage inventory and meet all the demand of their customer base. Businesses with more complex supply chains may prefer a more sophisticated inventory control method like economic order quantity (EOQ) or just in time (JIT).
How do you optimize reorder points with min-max inventory management?
Optimize reorder points (ROP) by accurately calculating your company’s demand during lead time and your supplier’s lead time (in days). If there’s a difference in lead times among various suppliers, create individual ROP calculations for each of those suppliers.