Evaluating the methods of ordering discussed in Chapter 9, explain why one specific method would be better suited for your organization (actual or

155

T h e P u r p o s e o f T h i s C h a p t e r

After reading this chapter, you should be able to:

• Calculate the correct order quantities and order times using the par stock, Levinson, and theoretical methods.

• Determine the optimal inventory level.

• Explain the benefits and problems of using only the theoretical method for determining inventory levels.

9C H A P T E R The Optimal

Amount

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CHAPTER 9 The Optimal Amount156

INTRODUCTION

The correct order size and its counterpart, the correct order time, are prob- ably the most important keys to inventory management. Without a reasonable idea of the optimal order size and time, you cannot maintain an ideal inven- tory level of food, beverages, and nonfood supplies.

OPTIMAL INVENTORY LEVEL

Years ago, few hospitality operators concerned themselves with inventory management concepts. When the industry was smaller, was less complex and competitive, and inventory costs were minor, the occasional overbuy or stock- out was a forgivable offense. Today, such a casual attitude is rare. Ordering is no longer haphazard. The emphasis now is on holding the optimal inventory; that is, management seeks to determine the amount of inventory that will adequate- ly serve the operation without having to suffer the costs of excess inventory.

A principal objective of inventory management is to maintain only the necessary amount of food, beverages, and nonfood supplies to serve guests without running out of anything, but not to have so much inventory that occasional spoilage and other storage costs result.1 We also need

to develop a cost-effective ordering procedure; for example, a buyer does not want to spend an excessive amount of time, money, and effort to order mer- chandise because this will increase the hospitality operation’s cost of doing business.

These objectives are more easily recited than achieved. Quite commonly, an individual manager may not know the exact value of inventory that should be on hand.

Over the years, hospitality operators have tried to devise ways of computing as accurately as possible the ideal amount of inventory that should be maintained to conduct business effective- ly and efficiently. Nonetheless, a major portion of the inventory management efforts that are car- ried out in our industry still rely heavily on rules of thumb. For instance, as mentioned in Chapter 7, many practitioners rely on a percentage of sales to guide their inventory management decisions. Recall that this percentage-of-sales concept suggests, for instance, that a full-service restaurant operation requires an inventory of food, beverage, and nonfood supplies to be equal to about 1 percent of annual sales volume.

A buyer can use other rules of thumb to determine the amount of inventory needed to service guests adequately. As mentioned in Chapter 7, the typical foodservice operation could devise an inventory management strategy to ensure that the food inventory that is kept on hand at all times does not exceed about one-third of a normal month’s total food costs. Also, in a fast-food restaurant, the general feeling is that the food inventory should turn over about three times per week, or about 156 times per year. Consequently, the buyer’s

correct order size The order size that minimizes the ordering costs, invento- ry storage costs, and stock- out costs.

correct order time The order time that minimizes the ordering costs, invento- ry storage costs, and stock- out costs.

optimal inventory level The amount of inventory that will adequately serve a hospitality operation’s needs without having to incur the costs associated with excess inventory.

ordering procedures Standardized process used by the buyer to ensure that the correct amounts of needed products are ordered at the appropriate time.

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Correct Order Size and Order Time: A Common Approach 157

inventory management strategy should include an ordering procedure that maintains this approximate inventory turnover target.

Most industry practitioners view inventory as an investment. Like any other investment, this one must offer a return. Unfortunately, an inventory investment does not lend itself to a precise calculation of return, as does, say, a certificate of deposit, whereby an investor can depend on an exact percent- age of return each year.

CORRECT ORDER SIZE AND ORDER TIME:

A COMMON APPROACH

Most part-time and full-time buyers use a relatively simple approach to calcu- late the best order size and order time. This approach is sometimes referred to as the par stock approach. The buyer usually accepts the supplier’s delivery schedule—for example, twice a week. The buyer then determines a par stock, that is, a level of inventory items that he or she feels must be on hand to main- tain a continuing supply of each item from one delivery date to the next.

The buyer accepts the supplier’s delivery schedule because he or she prob- ably cannot change it without incurring an exorbitant delivery charge. If, how- ever, the buyer’s company represents a very large order size, the supplier might make concessions. In addition, the buyer normally accepts the ordering sched- ule the supplier dictates; he or she places the order at a certain time prior to the actual delivery. For example, a call no later than Monday morning may be required to ensure a delivery on Tuesday morning.

Assume, for example, that the buyer feels that he or she needs six cases of tomato paste on hand to last between orders. On Monday morning, just before placing the order, the buyer counts the number of cases of tomato paste on hand. Suppose that 11⁄2 cases are left. If it is expected that half a case will be used that day, one case will be left on Tuesday morning. The par stock is six. The buyer then sub- tracts what he or she feels will be on hand Tuesday morning from the par stock (6 minus 1) and orders five cases.

Another way to calculate the order size is for the buyer to subtract what is on hand—in this situation, 11⁄2 cases—from the par stock of six cases and enter an order for 41⁄2 cases. Either way, the emphasis is on setting an acceptable par stock level and then ordering enough product to bring the stock up to that level. (This concept is a bedrock of our industry. For example, most bars set up a certain par stock level that must be on hand before opening for the afternoon or evening. The bartender on duty is responsible for counting what is on hand, subtracting this from what should be on hand, and then replenishing the overall inventory of beverages, food- stuffs, and nonfood supplies accordingly.)

Par stocks sometimes change. In a restaurant that does a lot of banquet business, the par stock for tomato paste might fluctuate monthly or even weekly. This fluctuation can complicate mat- ters, but buyers usually can solve the problem just by adding to the par stock the extra amount

inventory turnover Equal to: (actual cost of products used, or sold, divided by the average inventory value kept at the hospitality operation).

par stock approach to ordering Method used to determine the appropriate amount to order. Involves setting par stocks for all items and subtracting the amount of each item on hand to calculate the order sizes.

delivery schedule Purveyor’s planned shipping times and dates.

par stock The maximum amount of a product you want to have on hand. When reordering the product you want to buy just enough to bring you up to par.

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CHAPTER 9 The Optimal Amount158

of tomato paste needed specifically for any emergency or extra business volume, such as a ban- quet next week. So, for instance, buyers might order enough to reach their par stock level, plus additional product to be their “safety” stock or to use for the banquet.

The buyer, then, normally uses the following procedures when employing the par stock approach:

1. Accept the suppliers’ stipulated ordering procedures and delivery schedules. 2. Decide when it would be desirable to order enough product to bring the stock level of any

particular item up to par. This decision is normally influenced by the amount of storage facilities the buyer has, how expensive the inventory item is, and the shelf life of the prod- ucts the buyer orders. For example, if a preferred supplier delivers meat twice a week, and if the meats are expensive, perishable items, a buyer would most likely set a par stock to last about three or four days. For some inexpensive, nonperishable operating supplies, such as paper towels, the buyer might want to order once every three months. Consequently, he or she sets the par stock large enough to last for three months under normal operating conditions.

3. Set par stocks for all food, beverages, and nonfood items—enough to last between regu- larly scheduled deliveries.

4. When ordering, subtract what is on hand from the par stock. Then include any addition- al amount necessary to cover extra banquets, increased room service, seasonal patronage, a safety stock perhaps, and so forth.

5. Shop around, if necessary, and enter this order size at the time the supplier designates or at some agreed-upon time.

6. Periodically reevaluate the stock levels, and adjust them as needed. For instance, if you change suppliers and the new purveyor’s delivery schedule is different, you must adjust accordingly.

No magic formula is associated with the par stock concept. It is a trial-and-error process. If six cases are too many, the number can be adjusted downward. If it is too low, it can be increased. The trial-and-error procedure requires small amounts of management attention on a continuing basis; in time, however, these can add up to a significant amount. Nevertheless, the work involved is quite simple and lends itself to volume swings in overall sales, as well as in sales of individual products. The par stock concept works quite effectively in the hospitality industry.

The concept works so well for several reasons. Most important, there is only a slight differ- ence in annual storage and ordering costs between a theoretical order size and a more practical order size. (An extended discussion of a theoretical calculation of optimal order size and order time is included later in this chapter.) Another reason is the relative predictability of deliveries. The third reason is that most hospitality operations undergo major modifications in their cus- tomer offerings only occasionally. For the most part, menus, sleeping accommodations, and bar offerings remain unchanged, thereby giving a buyer sufficient time to determine acceptable par stock levels for each inventory item. Finally, if a considerable sum has already been invested in a hospitality operation, an inventory level that is a few hundred dollars more than a theoretical optimal amount will tend to generate little concern.

The major drawback to the par stock method is its emphasis on setting only the par stock level, to the possible detriment of the broader view of inventory management. Generally, the optimal amount of inventory on hand is related to annual storage costs, ordering costs, and

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Correct Order Size and Order Time: Another Approach 159

stockout costs. If acceptable par stocks are achieved, these costs will probably be minimized. However, these concepts may not be examined directly, and, as a result, a buyer may be unaware of the complete picture.

This innocence, or ignorance, can cause problems. For instance, buyers often have an oppor- tunity to purchase large amounts of a product at reasonable savings. The problem arises when buyers have little conception of the increase in storage costs that will accompany this huge order. (As with the par stock approach, though, some rule-of-thumb methods can be used to evaluate the economics of large orders, as discussed in Chapter 10.)

Regardless of its potential drawbacks, the par stock approach is common and works fairly well. It does not, however, represent the only approach to determining correct order size and order time.

CORRECT ORDER SIZE AND ORDER TIME:

ANOTHER APPROACH

Another approach used in the hospitality industry is just a bit more complicat- ed than the par stock approach. We call this approach the Levinson approach, since Charles Levinson was one of the very first persons to address these ideas for- mally in his book, Food and Beverage Operation: Cost Control and Systems Management, 2nd ed. (Englewood Cliffs, NJ: Prentice-Hall, 1989). Much of the material in this section of our text is adapted from Levinson’s volume. This book is now out of print. However, you might be able to find a used copy at Amazon (www.amazon.com) or on eBay (www.ebay.com).

Buyers using the Levinson approach will employ the following procedures: 1. Accept the suppliers’ stipulated ordering procedures and delivery schedules. 2. Determine the best time to place orders with the suppliers. For instance, fresh dairy prod-

ucts may be ordered daily, fresh meats and produce may be ordered perhaps every third day, and other less perishable items may be ordered less frequently. Consequently, the buy- ers’ work follows a reasonably predictable routine, in that they have enough work to keep busy each week, even though they are not ordering exactly the same items each day or each week.

3. Before ordering, forecast the amount of merchandise that will be needed during the period of time between regularly scheduled deliv- eries. The forecasting procedure includes the following steps: a. Forecast the expected total number of customers, based usually on

past history. b. Forecast the expected number of customers who will order each

specific menu offering, also based on past history. One way to do this is to compute a popularity index for each menu item. To determine a menu item’s popularity index, divide the number sold of that particular menu item by the total number of all menu items sold; this will give you a percentage, which is the menu item’s popu- larity index.

Levinson approach to ordering Method of determining the appropri- ate order sizes. Takes into account forecasted sales, portion sizes, and yield percentages when calculat- ing the amount of prod- ucts to order.

forecasting An attempt to predict the future. Current and historical information is used to estimate what might happen over the near or long term. Referred to as sales forecasting when attempting to predict future sales.

popularity index Another term for menu mix per- centage.

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CHAPTER 9 The Optimal Amount160

For example, if you project that you will serve 2,500 customers next week and you know that, based on past history, 25 percent of all customers eat T-bone steaks, then you can estimate that 0.25 × 2500, or 625 customers, will eat a T-bone steak.

c. Determine the number of raw pounds of each ingredient needed to satis- fy your projected sales. To do this, first you must figure out the portion factor (PF) and the portion divider (PD) for each ingredient that you need to satisfy your sales forecast. The PF is computed as follows:

PF = 16 oz. / Amount of ingredient needed for one serving (in ounces)

The PD is computed as follows:

PD = PF × (The ingredient’s edible- (i.e., servable-) yield percentage)

The edible yield percentage is computed in one of two ways: (1) you accept the supplier’s estimate of edible yield, or (2) you conduct your own yield tests for each and every ingredient; that is, you use the ingredients for a while and compute an average of unavoidable waste. This will give you a good idea of the edible yield percentage you can expect to derive from each ingredient.

d. Compute the order sizes for all items. An order size is equal to the num- ber of customers you feel will consume an ingredient divided by the PD for that ingredient—this will give you the order size in raw pounds. (Essentially, the PD is the expected number of servings per pound.)

4. Adjust this order size, if necessary, to account for stock on hand, extra banquets, increased room service, seasonal patronage, perhaps a safety stock, and so forth.

5. Shop around, if necessary, and enter the order size at the time the supplier designates or at some agreed-upon time.

6. Periodically revise the order time if necessary, as well as the PD of each ingredient if, for instance, you decide to change suppliers and the new supplier’s ingredients have a differ- ent yield percentage than those you are currently purchasing. (In Chapter 10, we discuss the procedures used to determine whether another supplier’s ingredient provides more value to you, even though it might appear that it has more waste. We also revisit the con- cept of the EP cost.)

INGREDIENT SERVING SIZE (OZ.) EDIBLE YIELD (%)

Steak 12 80

Beans 4 90

Potatoes 4 75

portion factor (PF) Equal to (16 ounces divided by the number of ounces needed for one serving). Alternately, equal to (1,000 milliliters divided by the number of milliliters need- ed for one serving). Alternately, equal to (1,000 grams divided by the num- ber of grams needed for one serving).

portion divider (PD) Equal to an item’s (portion factor (PF) multiplied by its edible yield percentage).

edible yield percentage Another term for yield percentage.

Example I

Given the following data, compute the number of raw (AP) pounds needed of each ingredient for a

banquet for 500 people.

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Correct Order Size and Order Time: Another Approach 161

Example II

Given the following data, compute the number of cases needed to serve 1,575 customers.

Ingredient: Iceberg lettuce

Serving size: 4 ounces

Edible yield: 75 percent

Minimum weight per case: 36 pounds

Solution:

PF = 16 / 4 = 4.00

PD = 4.00 × 0.75 = 3.00

Number of raw (AP) pounds needed = 1575 / 3.00 = 525 lb.

Number of cases needed = 525 lb. / 36 lb. per case = 14.58 (approximately 15 cases)

Example I (continued)

Solution:

Compute each ingredient’s PF:

PF(steak) = 16 / 12 = 1.33

PF(beans) = 16 / 4 = 4.00

PF(potatoes) = 16 / 4 = 4.00

Compute each ingredient’s PD:

PD(steak) = 1.33 × 0.80 = 1.06

PD(beans) = 4.00 × 0.90 = 3.60

PD(potatoes) = 4.00 × 0.75 = 3.00

Compute the order size, in raw (AP) pounds, for each ingredient:

Order size (steak) = 500 / 1.06 = 472 lb.

Order size (beans) = 500 / 3.60 = 139 lb.

Order size (potatoes) = 500 / 3.00 = 167 lb.

Example III

Given the following data, compute the number of gallons needed to serve 2,000 customers.

Ingredient: Prepared mustard

Serving size: 1⁄2 ounce

Edible yield: 95 percent

Solution:

PF = 16 / 0.5 = 32.00

PD = 32.00 × 0.95 = 30.40

Number of raw (AP) pounds needed = 2000 / 30.40 = 65.79 lb.

Number of raw (AP) ounces needed = 65.79 × 16 oz. per lb. = 1052.64

Number of gallons needed = 1052.64 oz. / 128 oz. per gal. = 8.22 (approximately 9 gallons)

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CHAPTER 9 The Optimal Amount162

CORRECT ORDER SIZE AND ORDER TIME:

VARIATIONS OF THE LEVINSON APPROACH

The procedures in the preceding Examples I, II, and III are appropriate for items purchased in pound units. However, the Levinson approach can be adapted for use with any purchase unit. The general formula for the PF needs to be altered to accommodate the specific purchase unit. The unit of purchase is divided by the portion size as depicted in that unit of purchase. For instance, if you purchase liter containers of liquor, the numerator for your PF calculation would be 1,000 milliliters, and the denominator would be the portion size of liquor, in milliliters. The computation of the PD remains the same.

Example I

Given the following data, compute the number of liters (l) needed to serve 250 customers.

Ingredient: Gin

Serving size: 55 milliliters

Servable yield: 95 percent

Solution:

PF = 1000 / 55 = 18.18

PD = 18.18 × 0.95 = 17.27

Number of liters needed = 250 / 17.27 = 14.48 (approximately 15 liters)

Example II

Given the following data, compute the number of cases needed to serve 500 customers.

Ingredient: Lobster tail

Serving size: 2 tails

Servable yield: 100 percent

Number of tails per case: 50

Solution:

PF = 50 / 2 = 25

PD = 25 × 1.00 = 25

Number of cases needed = 500 / 25 = 20 cases

Example III

Given the following data, compute the number of kilograms (kg) needed to serve 125 customers.

Ingredient: Fresh spinach

Serving size: 90 grams

Edible yield: 60 percent

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Correct Order Size and Order Time: Combination Approach 163

CORRECT ORDER SIZE AND ORDER TIME:

COMBINATION APPROACH

It is reasonable to expect the typical buyer to use a combination of the procedures just discussed to determine the proper order sizes and order times. For instance, a buyer could use the par stock approach to maintain sufficient stock for the normal, predictable business needs of the hospital- ity operation. However, when a buyer needs stock for special events, such as banquets and other similar functions, he or she could adopt the Levinson approach, or some variation thereof, when determining the correct order amount and order time.

Example III (continued)

Solution:

PF = 1000 / 90 = 11.11

PD = 11.11 × 0.60 = 6.67

Number of kilograms needed = 125 / 6.67 = 18.74 (approximately 19 kilograms)

PURCHASING FROM THE CHEF’S PERSPECTIVE Jean Hertzman, Ph.D., CCE, Assistant Professor, Department of Food and Beverage Management,

William F. Harrah College of Hotel Administration, University of Nevada Las Vegas

Do all these PF and PD calculations seem a little confusing? Don’t feel alone. They would be a mystery to the average chef. Although executive

chefs spend more and more of their time performing cost control and

human resources functions, most chefs would rather cook and develop new

menu items than spend a lot of time crunching numbers. Therefore, they

want to use as simple a formula as possible to determine the quantity of

food to purchase.

Chefs rely on the formula of AP (As Purchased) = EP (Edible Portion) ÷

Edible Yield Percentage to determine the amount of product to order. They

basically skip one step of the Levinson approach. But before we use the for-

mula, let’s make sure that you know exactly what the Edible Yield Percentage

means.

Let’s use the example of asparagus. If you buy whole asparagus, but use only the tips for service, you

trim off a lot of stems in the process. The amount cut off would be the trim loss, and the amount left would

be the edible portion. If you started with one pound (16 ounces) of asparagus and had 10 ounces of

asparagus tips after cutting, your yield percentage would be 10 ounces divided by 16 ounces per pound

or approximately 63 percent. If you were determining the yield percentage of other products, for example

roasted meat, you might also have to take into account trimming off the fat, shrinkage during cooking, hav-

ing unusable portions after cutting, and other factors.

Chef Jean Hertzman

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CHAPTER 9 The Optimal Amount164

PURCHASING FROM THE CHEF’S PERSPECTIVE (continued)

As discussed in this book, the most accurate method for determining the yield percentage is to

conduct your own yield test. In that way, you know exactly what you have left using your particular

foodservice operation’s specific procedures. However, calculating yield percentages for all the differ-

ent foods you use can be time and labor intensive. A quicker method is to use supplier estimates of

edible yield percentages. However, suppliers may overstate the percentage so that their product

looks like a better buy or understate the percentage so that you buy more of their product. You might

want to consider a third alternative. There are two excellent sources that give yield percentages for

just about every product you can imagine: The Book of Yields: Accuracy in Food Costing and

Purchasing by Francis Lynch (also available on CD-ROM) and Chef’s Book of Formulas, Yields, and

Sizes by Arno Schmidt. These chefs have spent years calculating portion sizes and percentages just

to make your life a little easier.

Now let’s use the yield percentage in the AP formula. Suppose a banquet chef wants to serve 4

ounces of asparagus tips as a side vegetable to 800 people. Therefore, she needs 4 ounces × 800 or

3,200 ounces (200 lbs) EP of asparagus. But she knows that the yield percentage of asparagus is only

63 percent. Therefore, she really needs 3,200 ounces divided by .63 or 5,080 ounces as purchased.

Translate that to pounds and she would order 318 pounds of asparagus. If she only ordered 200 pounds,

she would have to skimp on the portion sizes or lots of guests would not be getting their vegetable that

evening.

Here is another example. A chef serves a great hot roast beef sandwich using top round of beef roast-

ed fresh daily. A 15-pound top round yields 12 pounds of meat after cooking, removing the external fat,

and slicing. Each sandwich uses 6 ounces of cooked beef and the restaurant sells them to 200 hungry

guests daily. How many top rounds does the chef need to buy for each day?

12 lbs EP ÷ 15 lbs. AP = .80 or 80% edible yield percentage

6 ounces × 200 sandwiches = 1,200 ounces EP

1,20

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