In determining the ROP the following three factors need to be at hand:
- Demand – quantity of inventory used or sold each day;
- Lead Time – time (in days) it takes for an order to arrive when an order is placed; and
- Safety Stock – the quantity of inventory kept on hand in case there is an unpredictable event like delays in lead time or unexpected demand.
If the demand is constant and the lead time is known, then the ROP is written as the following:
ROP =Daily Usage ×Lead Time (in days)
Whenever a safety stock is maintained, then the ROP is:
ROP =(Daily Usage ×Lead Time (in days))+Safety Stock
Several factors determine how much delivery time stock and safety stock should be held. The efficiency of a replenishment system affects how much delivery time is needed.
Since the delivery time stock is the expected inventory usage between ordering and receiving inventory, efficient replenishment of inventory would reduce the need for delivery time stock. And the determination of level of safety stock involves a basic trade-off between the risk of stock-out, resulting in possible customer dissatisfaction and lost sales, and the increased costs associated with carrying additional inventory.