Safety stock is stock that is kept on hand as a buffer in the event of an expected problem with supply or an increase in demand. Companies use supplies of safety stock to reduce the risk that they will sell out and not have stock available for customers who want to buy it. Calculating the amount of stock to keep in the form of reserve inventory is a delicate balance because companies do not want to keep unused stock on hand, but they also do not want to run short.
With a well-organized inventory system, companies know approximately what the demand levels are like under normal circumstances, and they know about the lead time required to get new supplies in. When stock falls below a certain level, an order can be sent out to refill it. By the time the order arrives, the stocks are usually critically low and the new stock bumps the levels back up to ensure that enough will be available.
However, sometimes demand randomly increases and companies sell out sooner than they expected. Likewise, problems with delivery like holidays that interrupt shipments, strikes, poor weather, problems with the manufacturing line, and so forth, can mean that stock isn't delivered when it is expected. Even if the store orders on time, the new products won't arrive in time to restock before the store runs out.
Safety stock is a form of insurance against these unwanted events. A store keeps a reserve of several items available so it can compensate for unexpected fluctuations in supply and demand. The store does not want to keep too many items because it must pay to obtain and store the stock, but it also does not want to run out at critical moments. Determining the right amount of safety stock to order can be a challenge and people may factor in seasonal issues, order history, and other information when deciding how much safety stock to have.
Newer companies are more likely to maintain safety stock because they have not yet gotten to know their suppliers and their customers. As the person in charge of the inventory learns the business better, smaller supplies of safety stock can be kept. Concerns like the value of the stock and whether or not it is prone to expiration are also important. Another issue can be seasonal demand; a store that orders items for the summer months, for example, would be less worried about big orders at the beginning of the season when they are likely to sell, while large reserves of stock could become a problem at the end of the summer.
