Decoupling Inventory Defined: An Expert Guide

Fluctuations in demand, raw materials shortages, storms that disrupt shipping routes … a litany of issues can send ripples through supply chains. These disruptions can be costly in lost time, money and ultimately customer satisfaction.

While many challenges are outside a company's control, responsibility for getting production back on track ultimately falls on the business, specifically, supply chain and inventory managers.

Decoupling stock provides a cushion against inventory shortfalls and can help decision-makers cope with supply chain disruptions.

What Is Decoupling Inventory?

Decoupling inventory is the term used when product manufacturers set aside extra raw materials or work in progress items for all or some stages in a production line, so that a low-stock situation or breakdown at one stage doesn't slow or stop operations. Companies may also selectively stock up on maintenance, repair and operating (MRO) goods critical for production, like paint or PPE.

Decoupling inventory is also a useful tool to mitigate the effect of some manufacturing or supply chain processes moving faster than others.

Consider a computer manufacturer. There may be periodic disruptions in touchscreens due to heightened demand, while the keyboard and motherboard subassemblies are slow-moving processes compared with the rest of production. The company might hold extra display screens and run a second shift for certain subassemblies so that neither element derails the company’s ability to meet customer demand.

What are the 3 types of inventory in supply chain management?

The three main inventory types or categories for decoupling are:

• Raw materials: Items that are used in the manufacturing process to produce finished products. That includes direct raw materials such as metals, rubber and plant and animal products and indirect raw materials such as bolts, zippers, solvents and glue.
• Work-in-progress (WIP): Items or subassemblies currently in the manufacturing process or completed and awaiting final quality-control inspection or incorporation into a larger product. These items are still counted as inventory until the product is finished and approved.
• Maintenance, repair and operating (MRO) goods: Items necessary for operations, such as equipment and the tools needed to maintain them. This inventory category also includes uniforms and safety gear, janitorial supplies and packaging.

When a company holds an extra cache of finished goods — items that have completed the manufacturing process and are being held awaiting sale — that is generally considered anticipation inventory. Think of a retailer increasing its stock of laptops in the summer to prepare for back-to-school sales.

Key Takeaways

• Decoupling inventory is a useful tool for mitigating the impact of delays in one portion of the manufacturing or supply chain.
• The benefits of decoupling inventory must be balanced with the costs of carrying excess stock.
• Decoupling inventory shares some similarities with safety stock and pipeline inventory, but there are several key differences.
• A cutting-edge inventory management system is critical for proper oversight of all inventory types and tasks, including decoupling inventory.

Decoupling Inventory Explained

Decoupling inventory ensures all stages of a production operation can continue, even when there are inventory gaps or slowdowns in other areas.

Decoupling inventory is the "final product" produced by that stage of the manufacturing process. In the case of a computer manufacturer, for instance, motherboards that have central processing units (CPUs) attached and are ready to receive other components in the next stages of production can be set aside to ensure that orders can continue even if there are issues with suppliers, machinery or staff at the motherboard assembly stage.

Built-to-order manufacturing businesses use decoupling inventory most often as inventory disruptions in one production area can have significant consequences for other areas. However, the concept of decoupling inventory is applicable to supply chains across all industries.

How Does Decoupling Inventory Work?

To decouple inventory, inventory managers reserve a portion of the stock for each node of production. For example, the computer manufacturer would set aside a portion of the parts needed at each stage of building a laptop as a buffer against inventory interruptions in the operation's nodes.

That way, orders can seamlessly move from one step of production to the next despite inventory disruptions.

Figuring how much decoupling and other types of stock to hold is enabled by effective inventory tracking. By continually monitoring how raw materials, components and finished goods move through the supply chain, manufacturers can see where more decoupling and other buffer stock is needed and ensure no items become obsolete before they’re used.

What is an optimal level of inventory?

The amount of stock that should be held depends on the lead time for orders, the reliability of suppliers and the variability of demand rate, among other factors. In general, however, it's prudent to have enough decoupled inventory to cover the longest estimated lead time to meet the highest forecasted demand rate for that same period.

Companies should track average inventory to understand the amount and value of all categories of stock a company is holding.

Why Is Decoupling Inventory Important?

Decoupling inventory provides an invaluable buffer against unexpected disruptions within the inventory supply chain as well as within individual production line areas. It ensures that supplier issues, variable lead times and production stoppages in single nodes don't shut down the entire supply chain.

Without decoupling inventory, companies would fail to complete orders on time, forfeit revenue and, ultimately, lose customers.

Companies that lean toward a just-in-time (JIT) versus a just-in-case (JIC) inventory management model may want to hold higher levels of decoupling inventory.

Decoupling Inventory vs. Safety Stock

Like decoupling inventory, buffer or safety stock acts as a cushion that allows production to continue despite shortages. However, manufacturers use safety stock to cover inventory shortages driven by external sources, such as spikes in customer demand.

In contrast, decoupling stock is held to cover internal demand by production, such as for hard drives for laptop manufacturing. This distinction is essential as supply chain managers must have adequate inventory to ensure that operations are sustained in the face of fluctuations in demand or supply.

There's no set formula calculating how much decoupling or safety stock a business needs to hold, but there are a few key variables to consider:

Maximum demand: How many products can a business expect to produce or sell on its very best day?

Maximum lead time: What is the longest it has ever taken to reorder new stock or produce needed subassemblies?

Pipeline vs. Decoupling Inventory

Pipeline inventory has been ordered and paid for but has not yet arrived. However, it is still counted on to fulfill orders. For this reason, decoupled inventory is often used in tandem with pipeline inventory to stabilize production lines because, despite pipeline inventory being in transit, it can still take days or even weeks to arrive.

Decoupling inventory and pipeline inventory are similar concepts as both strategies are meant to eliminate production and supply chain bottlenecks and improve operational efficiency. Also, the basis of both is always to have stock at hand to avoid stockouts.

A significant distinction between the two is that decoupling inventory is already on-premises, while pipeline inventory is in transit — that is, “in the pipeline.” Additionally, while decoupling inventory is most often found in multi-step mass-production environments that take inventory from raw materials to finished goods, pipeline inventory is a shared concept in supply chains across all industries.

The formula to calculate the optimal pipeline quantity is:

Pipeline inventory = (Lead time)*(Consumption rate)

The lead time is how long it takes to complete a supply order, from placement to arrival, and the consumption rate is how much inventory is expected to be used within a given period.

Pipeline inventory cost formula

How is pipeline inventory cost calculated? The formula is written out as:

Pipeline inventory cost = Product cost x Holding rate x (Demand/lead time)

The price of various supplies; expenses such as damage, theft and loss, storage, insurance and taxes; forecast demand rate; and expected lead time all play a part in pipeline inventory costs and must be controlled carefully.

Advantages of Decoupling Inventory

Although safety stock and pipeline inventory are often necessary to keep businesses running smoothly, in some cases, decoupling inventory has advantages over both. For example, decoupling inventory takes into account complex production lines, where some subassembly processes introduce latency.

Another advantage is that it protects manufacturers and other process-based companies from late and canceled orders better than safety stock. Manufacturers can use decoupling inventory to cover increased demand rather than risk supply-side interruptions.

Similarly, decoupling inventory is of greater use to companies than pipeline inventory when they need to keep manufacturing or the supply chain going despite slowdown or stoppages in other areas because pipeline inventory isn't yet available for use.

How Does Decoupling Inventory Help Businesses?

The most significant advantage of decoupling inventory is the additional time it provides to wait out delays, repair broken equipment or find alternate suppliers. But how does decoupling inventory help businesses beyond providing additional flexibility?

Increases efficiency

Decoupling inventory increases efficiency across production lines and supply chains by allowing each stage to work autonomously if need be. Depending on stock levels, even if a disruption, such as raw materials shortages or the loss of a supplier, goes on for an extended amount of time, this inventory can keep output going seamlessly while other arrangements are made.

Allows for prioritization

Decoupling inventory allows businesses to fulfill high-priority orders while waiting for additional stock to come in. Focusing on the most critical orders, such as those that have been prepaid, were already on backorder, are bound by contractual obligations or are going to clients that represent a large share of a company's revenue, helps maintain satisfaction, which is good for the bottom line.

Promotes regular maintenance

Decoupling inventory makes it easier to perform regular maintenance of tools and equipment along the production chain because these short stoppages won't interrupt other points of the manufacturing process. Regularly cleaning and servicing production equipment also reduces the risk of machinery breaking down completely, reducing additional costs and downtime.

Decreases pressure on personnel

Decoupling inventory decreases pressure on decision-makers as well as employees. Supply chain and inventory managers don't have to worry about individual stages halting the entire operation, and staff can have regular, predictable work schedules.

Bolsters flexibility

Decoupling inventory increases flexibility, making businesses more agile and better able to respond to unexpected disruptions. It allows companies to mitigate the effects of unforeseen disruptions by ensuring that production can continue while a new supplier is secured.

Example of Decoupling Inventory

Manufacturers use decoupling inventory to allow different production stages to run somewhat independently when there are slowdowns or stoppages in other areas. Here's an example of how decoupling inventory keeps the supply chain running smoothly.

Our computer manufacturer has to install the central processing unit (CPU) before putting in the video card. However, a scheduled delivery of CPUs is unexpectedly held up in customs and is now due to arrive a week later than anticipated.

Without decoupling inventory, any orders that haven't passed the CPU installation stage may go unfulfilled until the inventory is replenished. That leads to backordered or canceled orders, lost revenue and disappointed customers.

Instead, our PC maker’s decoupling inventory provides a cache of CPUs that can be accessed to complete orders in progress and keep production going as the new CPUs move through customs. The company can fulfill current orders and avoid a backlog of work or a wave of cancellations.

Impact on Inventory Carrying Costs

Decoupling inventory helps companies mitigate the risks of lost revenue due to inventory disruptions, but the practice inevitably increases carrying costs. These expenses, also known as holding costs or carrying inventory costs, include insurance, storage, labor, transportation and inventory administration. There’s also a risk of loss from theft or that items may be misplaced or become obsolete.

Carrying costs can comprise up to 30% of total inventory value. This figure rises the longer decoupled stock is held due to increases in risk as well as depreciation, storage and opportunity costs.

Ultimately, decoupling inventory is a two-edged sword. On the one hand, the inventory set aside provides a buffer against unexpected delays and disruptions in the supply chain. On the other hand, the decoupled inventory sits stagnant if delays don't occur, increasing risk and carrying costs unnecessarily.

An effective way to control the increased carrying costs of decoupling inventory is to optimize demand forecasting to predict demand changes and maintain decoupling stock accordingly. Rotate older decoupling inventory into production regularly so that it doesn’t become obsolete, and regularly recalculate needed levels based on changes in operations or your supply chain. Decoupling stock is part of any thorough inventory management strategy.

Take Control of Inventory With NetSuite

Each type of inventory plays an integral role in the supply chain, so all items must be tracked, analyzed and appropriately managed. However, for many businesses, that process means rounding up data from siloed databases and then compiling the information into a usable framework for making decisions. Much of this process is manual, often resulting in errors, omissions and outdated information.

With so many stages of the supply chain and so many types of inventory, manual efforts are not going to cut it when you need to meet production needs, minimize downtime and carrying costs and maintain a positive bottom line. Effective inventory management requires a sophisticated enterprise resource planning (ERP) system to provide both bird's-eye and granular views of every type of inventory, as well as supplier, purchasing, warehouse and accounting data.

Netsuite's cloud-based production management system provides decision-makers with real-time information from every part of the supply chain. That allows them to set data-supported targets, better calculate lead times, improve forecasting accuracy and develop concrete, informed decoupling inventory strategies.

The term “decoupling inventory” refers to the ability to avoid slowdowns due to tightly knit, interdependent production processes. Having extra CPUs or motherboard assemblies provides a computer maker with peace of mind in the face of uncertain supply chains.

Decoupling Inventory FAQs

Q: What is decoupling in inventory management?

A: Decoupling inventory is an essential, albeit challenging, aspect of inventory management. One key is balancing the optimal decoupling inventory levels needed to keep each production stage running with the cost of holding excess stock costs. ERP software can keep track of costs and simplify the process of maintaining decoupling inventory. This level of control management allows companies to meet production needs while minimizing downtime and costs.

Q: What are the 5 types of inventory that inventory management systems should support?

A: The four main types of inventory are:

• Raw materials
• Work-in-progress
• Finished goods
• Maintenance, repair and operating (MRO) goods

However, your inventory analysis team should consider another type of inventory in the context of carrying costs and decoupling inventory: cycle inventory, or working stock. This is the inventory purchased after a company creates sales forecasts and is meant to be just enough to fill anticipated demand for various products. If a company consistently must supplement cycle inventory with decoupling or safety stock, that’s a sign that the team needs to circle back and recalculate projections.