I can’t imagine being an inventory planner in spare parts, distribution, or manufacturing and having to create safety stock levels, reorder points, and order suggestions without using key performance predictions of service levels, fill rates, and inventory costs:

Smart’s Inventory Optimization solution generates out-of-the-box key performance predictions that dynamically simulate how your current stocking policies will perform against possible future demands.  It reports on how often you’ll stock out, the size of the stockouts, the value of your inventory, holding costs, and more.  It lets you proactively identify problems before they occur so you can take corrective action in the short term. You can create what-if scenarios by setting targeted service levels and modifying lead times so you an see the predicted impact of these changes before committing to it.

For example,

• You can see if a proposed move from the current service level of 90% to a targeted service level of 97% is financially advantageous
• You can automatically identify if a different service level target is even more profitable to your business that the proposed target.
• You can see exactly how much you’ll need to increase your reorder points to accommodate a longer lead time.

If you aren’t equipping planners with the right tools, they’ll be forced to set stocking policies, safety stock levels, and create demand forecasts in Excel or with outdated ERP functionality.   Not knowing how policies are predicted to perform will leave your company ill equipped to properly allocate inventory.  Contact us today to learn how we can help!

​When you should use traditional extrapolative forecasting techniques.

With so much hype around new Machine Learning (ML) and probabilistic forecasting methods, the traditional “extrapolative” or “time series” statistical forecasting methods seem to be getting the cold shoulder.  However, it is worth remembering that these traditional techniques (such as single and double exponential smoothing, linear and simple moving averaging, and Winters models for seasonal items) often work quite well for higher volume data. Every method is good for what it was designed to do.  Just apply each appropriately, as in don’t bring a knife to a gunfight and don’t use a jackhammer when a simple hand hammer will do. 

Extrapolative methods perform well when demand has high volume and is not too granular (i.e., demand is bucketed monthly or quarterly). They are also very fast and do not use as many computing resources as probabilistic and ML methods. This makes them very accessible.

Are the traditional methods as accurate as newer forecasting methods?  Smart has found that extrapolative methods do very poorly when demand is intermittent. However, when demand is higher volume, they only do slightly worse than our new probabilistic methods when demand is bucketed monthly.  Given their accessibility, speed, and the fact you are going to apply forecast overrides based on business knowledge, the baseline accuracy difference here will not be material.

The advantage of more advanced models like Smart’s GEN2 probabilistic methods is when you need to predict patterns using more granular buckets like daily (or even weekly) data.  This is because probabilistic models can simulate day of the week, week of the month, and month of the year patterns that are going to be lost with simpler techniques.  Have you ever tried to predict daily seasonality with a Winter’s model? Here is a hint: It’s not going to work and requires lots of engineering.

Probabilistic methods also provide value beyond the baseline forecast because they generate scenarios to use in stress-testing inventory control models. This makes them more appropriate for assessing, say, how a change in reorder point will impact stockout probabilities, fill rates, and other KPIs. By simulating thousands of possible demands over many lead times (which are themselves presented in scenario form), you’ll have a much better idea of how your current and proposed stocking policies will perform. You can make better decisions on where to make targeted stock increases and decreases.

So, don’t throw out the old for the new just yet. Just know when you need a hammer and when you need a jackhammer.

What’s different about inventory planning for Maintenance, Repair, and Operations (MRO) compared to inventory planning in manufacturing and distribution environments? In short, it’s the nature of the demand patterns combined with the lack of actionable business knowledge.

Demand Patterns

Manufacturers and distributors tend to focus on the top sellers that generate the majority of their revenue. These items typically have high demand that is relatively easy to forecast with traditional time series models that capitalize on predictable trend and/or seasonality.  In contrast, MRO planners almost always deal with intermittent demand, which is more sparse, more random, and harder to forecast.  Furthermore, the fundamental quantities of interest are different. MRO planners ultimately care most about the “when” question:  When will something break? Whereas the others focus on the “how much” question of units sold.

Business Knowledge

Manufacturing and distribution planners can often count on gathering customer and sales feedback, which can be combined with statistical methods to improve forecast accuracy. On the other hand, bearings, gears, consumable parts, and repairable parts are rarely willing to share their opinions. With MRO, business knowledge about which parts will be needed and when just isn’t reliable (excepting planned maintenance when higher-volume consumable parts are replaced). So, MRO inventory planning success goes only as far as their probability models’ ability to predict future usage takes them. And since demand is so intermittent, they can’t get past Go with traditional approaches.

Methods for MRO

In practice, it is common for MRO and asset-intensive businesses to manage inventories by resorting to static Min/Max levels based on subjective multiples of average usage, supplemented by occasional manual overrides based on gut feel. The process becomes a bad mixture of static and reactive, with the result that a lot of time and money is wasted on expediting.

There are alternative planning methods based more on math and data, though this style of planning is less common in MRO than in the other domains. There are two leading approaches to modeling part and machine breakdown: models based on reliability theory and “condition-based maintenance” models based on real-time monitoring.

Reliability Models

Reliability models are the simpler of the two and require less data. They assume that all items of the same type, say a certain spare part, are statistically equivalent. Their key component is a “hazard function”, which describes the risk of failure in the next little interval of time. The hazard function can be translated into something better suited for decision making: the “survival function”, which is the probability that the item is still working after X amount of use (where X might be expressed in days, months, miles, uses, etc.). Figure 1 shows a constant hazard function and its corresponding survival function.

Figure 1: Constant hazard function and its survival function

A hazard function that doesn’t change implies that only random accidents will cause a failure. In contrast, a hazard function that increases over time implies that the item is wearing out. And a decreasing hazard function implies that an item is settling in. Figure 2 shows an increasing hazard function and its corresponding survival function.

Figure 2: Increasing hazard function and its survival function

Reliability models are often used for inexpensive parts, such as mechanical fasteners, whose replacement may be neither difficult nor expensive (but still might be essential).

Condition-Based Maintenance

Models based on real-time monitoring are used to support condition-based maintenance (CBM) for expensive items like jet engines. These models use data from sensors embedded in the items themselves. Such data are usually complex and proprietary, as are the probability models supported by the data. The payoff from real-time monitoring is that you can see trouble coming, i.e., the deterioration is made visible, and forecasts can predict when the item will hit its red line and therefore need to be taken off the field of play. This allows individualized, pro-active maintenance or replacement of the item.

Figure 3 illustrates the kind of data used in CBM. Each time the system is used, there is a contribution to its cumulative wear and tear. (However, note that sometimes use can improve the condition of the unit, as when rain helps keep a piece of machinery cool). You can see the general trend upward toward a red line after which the unit will require maintenance. You can extrapolate the cumulative wear to estimate when it will hit the red line and plan accordingly.

Figure 3: Illustrating real-time monitoring for condition-based maintenance

To my knowledge, nobody makes such models of their finished goods customers to predict when and how much they will next order, perhaps because the customers would object to wearing brain monitors all the time. But CBM, with its complex monitoring and modeling, is gaining in popularity for can’t-fail systems like jet engines. Meanwhile, classical reliability models still have a lot of value for managing large fleets of cheaper but still essential items.

Smart’s approach
The above condition-based maintenance and reliability approaches require an excessive data collection and cleansing burden that many MRO companies are unable to manage. For those companies, Smart offers an approach that does not require development of reliability models. Instead, it exploits usage data in a different way. It leverages probability-based models of both usage and supplier lead times to simulate thousands of possible scenarios for replenishment lead times and demand.  The result is an accurate distribution of demand and lead times for each consumable part that can be exploited to determine optimal stocking parameters.   Figure 4 shows a simulation that begins with a scenario for spare part demand (upper plot) then produces a scenario of on-hand supply for particular choices of Min/Max values (lower line). Key Performance Indicators (KPIs) can be estimated by averaging the results of many such simulations.

Figure 4: An example of a simulation of spare part demand and on-hand inventory

You can read about Smart’s approach to forecasting spare parts here: https://smartcorp.com/wp-content/uploads/2019/10/Probabilistic-Forecasting-for-Intermittent-Demand.pdf

Probabilistic scenarios are sequences of data points generated to represent potential real-world situations. Unlike scenarios in war games or other simulations, these are synthetic time series used as inputs to system models or as intuition-builders for decision-makers.

For instance, scenarios of future item demand can be fed into Monte Carlo simulation models of inventory control systems, thereby creating a virtual laboratory in which to explore the consequences of management decisions, such as changing reorder points and/or order quantities. In addition, plots of metrics like on-hand inventory or stockouts can help inventory planners deepen their “feel” for the randomness inherent in their operations.

Figure 1 shows daily demand scenarios generated from a single observed demand series recorded over one year. Note that the same data generating process can “look quite different” in detail from sample to sample. This mimics real life.

Figure 1: An observed demand sequence and demand scenarios derived from it.

Figure 2 shows two demand scenarios and their consequences for stock on hand in a particular inventory control system. The difference between the two inventory plots illustrates the degree to which randomness in demand dominates the problem. The top plot shows two episodes of stockout, while the bottom plot shows nine. Averaging over many scenarios will clarify the typical values of Key Performance Metrics (KPIs) such as the average number of stockouts associated with any choice of Reorder Point and Order Quantity (which are 10 and 25, respectively, in Figure 2.)

Figure 2: Two demand scenarios and their consequences for on-hand inventory

In this note, we’ll describe techniques for creating scenarios and list criteria for evaluating scenario generators.

Criteria for Scenarios

As we’ll see below, there are several ways to create scenarios. No matter the source, what criteria define a “good” scenario? There are four main criteria: fidelity, variety, quantity, and cost. Fidelity summarizes how accurately a scenario imitates real-world situations. High fidelity means the scenarios mirror actual events closely, providing a solid foundation for analysis and decision-making. Variety describes the diversity of scenarios a generator can create. A versatile generator can simulate a wide range of potential situations, allowing for a thorough exploration of possibilities and risks. Quantity refers to how many scenarios a generator can produce. A generator that can create a large number of scenarios provides ample data for analysis. Cost considers both the computational and human resources required to produce the scenarios. An efficient scenario generator balances quality with resource usage, ensuring the effort is justified by the value and accuracy of the outcomes.

Scenario Generation

Again, think of a scenario as a time series. How are scenarios created?

1. Geppetto’s Workshop: This approach involves hand-crafting scenarios manually by experts. While it can yield high fidelity (realism), it is very resource-intensive and cannot easily generate variety, which requires a large number of scenarios.
2. Groundhog Day: This method involves repeatedly using a single real-world situation as input. While it’s realistic by definition and cost-effective (no resources are used beyond recording the data), this approach lacks variety and so cannot accurately reflect the diversity of real-world scenarios.
3. Parametric Models: Examples of parametric models are the classics studied in Statistics 101 classes: the Normal, exponential, Poisson, etc. The demand plots in Figure 2 are generated parametrically, being the squares of Poisson random variables. These models generate an unlimited number of low cost scenarios having good variety, but they may not always capture the complexity of real-world data, potentially compromising fidelity. When reality is more complicated, these models generate over-simplified scenarios.
4. Non-Parametric Time Series Bootstraps: This approach can score well on all criteria: fidelity, variety, quantity, and cost. It’s a versatile method that excels in creating massive numbers of realistic scenarios. The synthetic demand histories in Figure 1 are simple bootstrap samples based on the observed values in the top graph. (For some nitty-gritty details about generating scenarios, see the links below.)

Exploiting Scenarios

Scenarios prove their worth in two ways: As inputs to decision making and as intuition-builders. For instance, when demand scenarios are used as inputs to simulation models, they enable stress testing and performance estimation for system design. Scenarios can also serve as intuition-builders for decision-makers or system operators. Their visual representation aids in developing insight into and appreciation for the risks involved in making operational decisions, be they for demand forecasting or inventory management.

Scenario-based analysis is very computer intensive, especially when the scenarios are generated by bootstrapping. At Smart Software, computation happens in the cloud. Imagine the computational load involved in determining reorder points and order quantities for each of tens of thousands of inventory items using hundreds or thousands of demand simulations for each item. Further imagine the software not only evaluating a specific proposed reorder point/order quantity pair but roaming over the entire “design space” of pairs to find the best pair of control parameters for each item. To make this practical, we take advantage of the parallel processing power of the cloud. Essentially, each inventory item is assigned its own computer to use in the calculations, so that all that computing can happen simultaneously rather than sequentially. Now we can cut loose and really get you the results you need.

Learning More

Those interested in further technical details and references can find more information here.

What Makes a Probabilistic Forecast?

Probabilistic Forecasting for Intermittent Demand