Stockout-Calibrated Inventory Floor
Use occasional stockouts to find the lowest inventory that still serves demand
- Difficulty
- Moderate
- Time to result
- ~months to results
- Steps
- 5
- Confidence
- 97%
The Stockout-Calibrated Inventory Floor treats customer fulfilment as the objective and stockout frequency as a feedback signal. Hold enough parts and products to satisfy demand immediately, then observe availability. If the company never runs out, inventory may be above the minimum required, so stock can be reduced cautiously. If shortages happen often, inventory is below the serviceable floor and should increase. The target is the boundary where products are almost always available but occasional shortages confirm the business is not carrying an unknown cushion of excess stock. Supplier lead times matter because a lean-looking position can become a year-long inability to serve customers. This rule rejects inventory turns as a standalone target when improving that metric would make real customers wait.
Origin
Petty explained Blackmagic Design's inventory rule while rejecting inventory turns as the primary measure. He described seeking a floor with high availability and occasional shortages. Extracted from The Foundr Podcast.
Core principles
- 01Optimise inventory for immediate customer fulfilment
- 02Treat occasional shortages as calibration information
- 03Distinguish chronic shortages from chronic excess
- 04Do not optimise a proxy metric at the customer's expense
How to run it
- 1
Define the service objective
Specify how quickly customers should be able to receive the product. Make fulfilment the objective against which inventory is judged.
Pro tip Express the objective in customer time, not only accounting ratios.
Watch out A low inventory number can look efficient while producing poor service.
- 2
Measure shortages
Track when products or critical parts run out and how often the shortage prevents fulfilment. Separate rare calibration events from recurring inability to supply.
Watch out Do not ignore shortages hidden by backorders or long promised dates.
- 3
Adjust toward the floor
Reduce inventory cautiously when there are no shortages, because the minimum is still unknown. Increase it when shortages occur frequently.
Pro tip Make small adjustments so one demand spike does not cause a large overcorrection.
Watch out A zero-stock policy optimises inventory turns by transferring the cost to customers.
- 4
Account for replenishment time
Include actual supplier lead times when setting the buffer for parts and finished products. Longer lead times require decisions well before demand arrives.
Watch out A yearly lead time can make a seemingly minor shortage persist for months.
- 5
Hold the calibrated boundary
Aim for near-continuous availability with only occasional shortages. Recalibrate as demand, lead times, or the service objective changes.
Pro tip Review whether the boundary still serves customers rather than defending a historic ratio.
Watch out This boundary is dynamic; it is not a permanent fixed quantity.
In the wild
Petty said he wants enough stock to deliver to customers immediately while occasionally running out. Never running out suggests possible excess; running out frequently shows under-stocking. He contrasted that balance with suppliers whose inventory policies contributed, in his account, to lead times of roughly a year for some parts.
→ Inventory is judged by reliable fulfilment and observed shortage frequency rather than a target number of annual turns.
Common mistakes
Optimising turns instead of service
Reducing stock can improve an accounting ratio while making customers wait and losing sales opportunities.
Treating every stockout as failure
In this rule, a rare shortage supplies information about the minimum viable inventory level; frequency determines whether the floor is too low.
Ignoring supplier lead times
The ability to replenish determines how much risk a low inventory position carries.
Is it for you?
Best for
It is best for businesses that hold parts or products to fulfil variable customer demand quickly.
Not ideal for
It is not ideal when any stockout creates unacceptable safety, contractual, or customer harm.
From the transcript
“the level of inventory that I want is just enough to make sure that I can deliver immediately to customers”
“if I'm running out a product a lot they're not means I'm under stocked”
“I'm mostly almost always in stock but sometimes not quite that's the right level of inventory”
From the episode
236: Bootstrapping a $300M Cinema Company, With Grant Petty of Blackmagic Design
Grant Petty