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Replenishment Strategies in SAP ERP

May 30, 2012 | 2,584 Views |

Uwe Goehring
more by this author

MM (Materials Management)
SAP ERP | enterprise resource planning | pd | reorder level | sap erp logistics materials management | vv

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Replenishment strategies can be setup by way of the MRP type on the

material masters MRP1 screen. In combination with lot sizing, various safety
stocks, lead times and other indicators, the replenishment strategy is defined.
It is important to understand that the replenishment strategy is not just PD or

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V1. It is the combination in which the four MRP screens are set up, that
determines what strategy is actually executed by the system.

To make up an example; if the MRP type PD is combined with a safety stock,

then we are communicating to the system that we want to execute the
replenishment for that part as a combination of consumption based planning,
whilst primarily waiting or planning for demand. We cover demand spikes with
the safety stock, but the actual replenishment happens strictly after the
demand comes in.

In the following we will discuss possible replenishment strategies; how they

work, how they may be set up and configured and what kind of results should
be expected. Special focus is given to the analytics that can be used to
determine what strategy most likely works best for any given situation. What
works well for a specific item today, might not work so well tomorrow. An item
with very predictable consumption might suddenly receive spikes in demand
and is not fit for the current replenishment strategy anymore. This is why it is
so important to understand all strategies and their implications, so that the
right strategy can be applied when the circumstances call for it. If the material
planner knows one, two or three strategies and does not know how to switch
from one to another, your supply chain will function sub-optimally. I have seen
places where the MRP controller did not even have authorization to work in
change mode on the four MRP screens in the material master. IT was setting
lot sizes, lead times, strategies, MRP types and the like as per request. Many
times the list of usable MRP types is limited to PD, and VB.

Yes, it looks like you are coaching a football team and the offense has exactly
two plays they can choose from: run the ball left or through the middle. Your
quarterback never learned how to throw the ball.

Lets introduce and put together a playbook with which you and your team rip
up the defense and move the ball (product) in the most effective way across
the playing field (your network).

A Playbook for Replenishment Strategies

Plan on Demand (PD), the most widely used replenishment strategy in the
SAP universe, also requires the most manual labor. In no way would I ever
say dont use PD, but give me a break; you use it for 98 percent of your raw
and packaging materials? Well, maybe you dont and then Im particularly
proud of you. since you are definitely the exception.

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PD is deterministic and therefore, in its purest form, waits for demand before it
springs into action. If there is demand and the MRP run gets executed, a
supply proposal is generated to cover that demand. No magic, no automation,
nothing. Its as simple as that. Before your kid doesnt ask for a bathroom you
dont look for one, right? And as long as she gives you enough lead time you
dont have a problem (ever took your three kids on a stroll through midtown
Manhattan, though?)

No demand, no supply! Which works really well when the purchased part is
expensive and therefore costly to store, its consumption is highly variable and
unpredictable and the lead time to procure is short. But when your production
lines starve because a component is missing, your customers are told that you
cant deliver the Porsche because you plan the standard cigarette lighter on
demand or your bakery starts making pretzels after you walk in to buy one (or
your butchers starts raising pigs after you order a pork sausage) then we
are in real trouble!

Your PDs should be worth the constant attention they need. It is ok to carefully
watch and monitor how much of Johnny Walkers Blue Label you hold behind
the bar, but to tell a patron that you ran out of salt because you were waiting to
buy a sack until they asked for it, is flat out ridiculous (take a quick check to
see if any one of your highest consumable, standard parts is set to PD)

There are ways to make a PD work for situations described above. You can
set a safety stock, create a parts forecast or work with lot sizing procedures.
That way you cover up the disadvantages of a PD, with stochastic
(consumption driven) methods which help you somewhat to automate.
However if the part calls for such methods, why not employing a standard
consumption based planning method altogether? That is why they are there
and they work beautifully if combined with the right lot sizing, safety stock or
availability checking rule.

Reorder level planning is a consumption based method because it requires

a minimum inventory to be available at all times and does not wait until there
is demand before replenishment is triggered. Imagine the way your
metabolism works. Its inventory is energy and when that energy level drops
you get hungry and a desire to fill it back up is triggered. You get some food
and eat. Now, you dont wait until youre completely depleted of all energy;
there is an acceptable level or range from where you trigger
replenishment. When you trigger energy replenishment, you usually have
some lead time to deal with until you get that food, eat it and metabolize it so it
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becomes energy. You instinctively know that you have to have enough energy
left at the trigger point so that you dont run out completely within the
replenishment lead time. This is no different with the raw materials you need
to keep your lines going.

This kind of replenishment, like all other ones too, only works well in certain
situations. Since you can predict really well what your rate of loss of energy is
over time, you intuitively know how to set your trigger point. If your energy loss
rate would be completely unpredictable, the trigger point would have to be set
very high, because you really dont want to risk losing your life when you have
a very sudden drop in energy.

Also, if you are very far away from food lets say on a marathon run where
you cant stop and sit down for lunch you may eat some extra carbohydrates
beforehand so that your energy level is very high and gets you through a long
lead time. And last, but certainly not least, you want to think about your service
level. What is the percentage of time that would be acceptable for you to
wither away? (Now this metaphor does not work that well anymore).

These three variables determine where you set your reorder level. The more
predictable the consumption, the lower the reorder level needs to be. The
longer the lead time, the higher the reorder level needs to be. And the higher
your expectation to never run out (e.g. a 99% service level), the higher the
reorder level for safety. In the latter case the reorder level moves up
exponentially. This kind of thinking will also help us to determine at what
situation reorder level planning does not make sense anymore. Obviously, if
you have unpredictable consumption in combination with a long lead time and
high expectations to never run out, you should look for another strategy. Your
reorder level, and therefore your inventory holding, is too high.

Oh and dont forget about the other dimensions: value and size. Salt,
something that is cheap and does not take up much room, is assumed to be in
inventory at all times (I wouldnt go back to a restaurant that could not get me
a salt shaker on the table, after I asked for it). Even if the use is unpredictable,
or it takes a long time to get it, or I never want to run out. It still makes sense
to bring it back in after it breaks through an even very high reorder level, since
it is cheap to hold and easy to store.

Of course you could also plan salt on demand, but the point is, that if you do
that you would have to watch your salt at all times and with the reorder level

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procedure you get automation; you dont have to watch it; its out of the way
and plans itself.

SAP ERP provides you with four standard reorder level procedures to choose
from (technically there is a fifth one for time-phased planning which we will
cover later):

VB, the most basic of them all, where you set your reorder level
manually and MRP just simply creates a supply proposal when
inventory breaks through that level
V1, which also uses external requirements, like a sales order, within
the replenishment lead time only, to calculate when the reorder level is
broken
VM, where the reorder level (and the safety stock) is calculated
automatically by the material forecast
And V2 which is a combination of V1, using external requirement s
and VM, which calculates reorder level and safety stock using the
material forecast

Be careful with the automated reorder level procedures. They use

consumption patterns, lead time and service level to calculate reorder levels
and if one of the parameters is off, your inventories might go through the roof.
I always suggest to set the procedure to manual and simulate a calculation
procedure without saving it. If you do it that way, you can perform what-ifs
and monitor whats happening without risk.

Before we get to other consumption based replenishment strategies, I would

like to explore another method, which is very often confused with a reorder
level procedure and is not controlled by the MRP type on the MRP1 screen.
However, it is a consumption based replenishment strategy nonetheless:
Kanban!

In its original, simple sense, Kanban uses two bins with a certain quantity of
parts in each, and when one is empty, replenishment is executed while the
other bin or its content is used up. You just have to design the quantity
available in each bin, so as to have enough in one bin to not run out while the
other is filled back up.

So when do you use that kind of thing? Instead of a reorder level procedure?
Because its the same thing? I dont think so. Going back to our energy
example, it becomes clear that there are situations where you cannot simply

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trade a reorder level procedure for Kanban. I dont have a second bin of
energy that I can switch to, while I fill the empty one up. On an airplane you
usually have more than one tank and on my 1957 Money M20A, I was able to
switch over to the right wing tank before the left wing tank emptied out, but
that is simply not always possible (hmm was my fuel supply really Kanban
controlled?). When you fill Rum into bottles from a tank over the bottling line,
you dont want to switch back and forth between two tanks but rather start the
replenishment process for the blending at some point when that one available
tank gets to a level where the replenishment lead time fills it back up to where
it needs to be, before you run out.

Kanban is great for parts needed on an assembly line. You put two bins of
screws on there and the worker takes what she needs. When the bin is empty,
she takes screws from the second bin and sends the empty one to the
warehouse for replenishment.

Material forecast: I have not yet seen an SAP installation where the MRP
type VV is used to its full potential. Here are my five cents:

First off: a VV can also be used for finished goods. Its just that SAP never
thought about configuring that option into the initial version, so they didnt
customize the standard software delivery that way. You will have to maintain
some entries for VV in customizing transaction ???? before you can sell a VV
product in a sales order. There are many situations that would call to set a
finished product to VV. As an example, you can create a forecast in the
material rather then in S&OP and then copy the VV forecast as a VSF into
demand planning. This has the advantage that you have perfect, individual
control over the products forecast and the added advantage that sales orders
consume that forecast.

So what does the VV do? It is a consumption-based replenishment strategy, in

that it maintains inventory in anticipation of actual demand. The inventory is
replenished to a forecast which is based on the materials own consumption
history. Hence material forecast. This is a good strategy when you have
predictable demand but the lead time to replenish is long. Since you put
artificial demand out there by way of a forecast, MRP is able to generate all
supply elements way ahead of time and all you have to do is to turn the
requisition into an order at the date the system tells you to do so. But beware;
it does not take demand spikes into consideration. Any changes in demand
will flow into the consumption pattern and eventually be picked up by the
forecast module. The system might increase or decrease the forecast or tell
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you that the current underlying model does not hold water anymore. So, like
all the other strategies, you can only use a VV when it fits the bill. Dont blame
SAP when you use VV for a finished product and you complain that it does not
pick up immediately on a demand spike. It simply wont.

Its like a squirrel planning for his family for the winter. Rocky has a forecast in
his head and brings walnuts in to provide for the upcoming winter season.
Should he become unusually hungry, he just eats up what he has and does
not bring in more to cover that spike. There are no more nuts! So it is with your
long lead time items that are predictable. If it takes 6 months to bring in peach
skin micro fiber from China, you dont want additional sales orders introduce
nervousness into your procurement schedule because it just wont do any
good anyway.

You can cover variability in demand; but in case of the VV you do this with
safety stock. Either static, forecast adjusted, or dynamic with a range of
coverage profile. Once the safety stock is depleted you run out and the service
level degrades.

A VV provides a high degree of automation, but it needs to be monitored and

SAP provides various options to do so. One of the parameters you can look at
to see how good the forecast was, is the error total (FS). It looks at each
period where there was a forecast and subtracts the forecast values from what
was actually consumed. As the consumption most likely differs from the
forecast, the question is: how much different? If the underlying model
(constant, trend, season or seasonal trend) is correct then the error should
sometimes exceed and sometimes fall short of what was forecasted and over
the long run average out and approximate zero.

Another parameter calculated by the forecasting app is mean absolute

deviation (MAD). This is a measure of variability and forecast quality. The
MAD is calculated by adding up all absolute values of Error and dividing it by
the sum of the actual consumption values. Thi provides you with a measure on
how much the actual consumption deviates from the forecast on average. The
smaller the MAD, the better the forecast was; the smaller the average
deviation, the better.

Now the system is able to calculate the tracking signal for you which is
determined taking the error total divided by the MAD. If you think about it;
when that coefficient is high, then you have am]n error total which is high
above zero (therefore a bad model underlying your forecasting) and a low

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mean absolute deviation (meaning that consumption follows some pattern, just
not the one you had selected). Or, in different terms, the error total should be
close to zero and therefore if you get a high number out of the formula
FS/MAD, you have such a high error total that you might have to change
gears and select a different strategy altogether.

What is being compared to the tracking signal (TS = FS/MAD) in SAP is the
tracking limit. It is maintained on the forecast screen and in standard is set to
4.0. If the tracking limit is exceeded by the tracking signal, you get an
exception message in MP33 and you can even set the system so that a new
model selection procedure is automatically initialized.

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7 Comments
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Chintan Dhande

June 6, 2012 at 3:44 pm

Very useful article thanks

Senthil Kumar Akash Sampath

June 14, 2012 at 1:17 am

Nice Article Thanks.

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Isam Kamel

May 13, 2014 at 11:53 am

Excellent metapharic illustration! Thanks for this.

Daniel Strange

January 7, 2015 at 4:00 pm

Fantastic post Uwe! Brilliant use of metaphors to describe some difficult business
scenarios. Thanks for taking the time to write this.

Mariagrazia Bombini

June 23, 2015 at 4:05 pm

thank you Uwe. your article was very interesting.

now I have a question for you:
my customer use propylene for its production stored in tanks. the problem is that they
have 3 different type of propylene that could be in all of that tanks with the role that no
more than one type or one batch can be stored at the same time in the same tank.
How can I replenish them considering that they have to be replenished only when the
tank is empty?
I thought about MRP Area, Storage BIN or Kanban but my doubt is that the tank is not
dedicated to a single propylene type.

May you help me?

thanks a lot.

Maria Grazia

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Uwe Goehring Post author

June 24, 2015 at 11:33 am

Dear Maria Grazia

the only method that I can think of on th spot is Kanban. I once developed
this process for a rice company which stored rice in silos but there are too
many unknowns for me to come up with a definite solution

all the best

Uwe

John Krech

February 8, 2016 at 5:32 pm

Great summary of the complexities involved with MRP in SAP and how often settings
can be overlooked, especially when it comes to the inter-relationships between the
settings. Having a solution that ties together all the settings as well as all the
uncertainties in demand, lead-time, and yield can make identifying the right strategy
much easier. The key is to link them together with a metric to guide decisions, tools like
SAP Simple Logistics (S/HANA Enterprise Management) combine the multiple screens
but it cant tell you the impact of the different strategies. Fortunately, there are solutions
to this.

Regards

John

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