Close the skill gap with the Financial Modeling & Valuation Analyst (FMVA)™ Certification >> Enroll today and save!

Lead Time

The time taken between the start and completion of an operation or project

What is Lead Time?

Lead time refers to the time taken between the start and completion of an operation or project. The term is commonly used in supply chain management, project management, and manufacturing fields.

 

Lead Time Diagram

 

Longer lead times often results in inefficiencies and wastage of resources, and companies must review their processing times against benchmarks to identify ways of improving their lead times. Reducing the lead time improves the overall productivity, resulting in higher revenues and profits.

 

How lead time affects Inventory

Companies that hold inventory for use in production often face cases of stockouts when the stock in hand gets exhausted without new stock coming in. Stockouts often inconvenience customers who must wait for orders to be fulfilled while increasing costs for the company since it may be forced to stop the production process. The reason for the higher costs during stockouts is that employees and production machines will be idle most of the time, while the company will continue incurring utility costs such as electricity, water, and gas.

Failure to replenish stock is mostly caused by lead time delays, which varies among suppliers. Some common causes of lead time delays include natural disasters, human error, raw material shortages, inefficient inventory management systems, and other factors.

Companies can reduce stockouts by using a vendor-management inventory program that automates the stock ordering process. The program stores supplier information for specific components, making it easy to order specific components when they are nearing completion. Automatic ordering reduces lead time by making inventory requests early enough, hence reducing shipping time and costs. For the most critical components, the company can maintain a database of backup suppliers who can supply inventory when the main supplier is unavailable.

 

Components of lead time

 

1. Preprocessing time: It is also referred as the planning time, and it includes the time taken to receive a request for replenishment, understand it and create a purchase order (when buying an item) or create a job in the case of a manufacturing firm.

2. Processing time: The processing time is the time taken after receiving a purchase order to procure or produce the item.

3. Waiting time: The time taken between procuring the items to the time the production process commences.

4. Storage time: Storage time is the amount of time that the items stay in the warehouse or factory awaiting delivery.

5. Transportation time: The time that the produced item takes from the warehouse/factory to reach the customer.

6. Inspection time: The time spent by the customer checking the product to see if it meets the specifications and any non-conformity with the order request.

 

How to reduce lead time

The following are some of the ways that a company can reduce lead time:

 

#1 Reduce non-value-added activities

The company should perform value stream mapping to identify non-value-added activities that prolong the lead times. Prepare a list of these activities and eliminate those that the company can do without and remain with those that provide a positive impact on the product quality.

 

#2 Change shipping methods

The company can also organize for alternative shipping methods that are quicker than the current shipping method and that offer more frequent shipments. The suppliers may prefer shipping methods that are slow but result in more cost savings, which can affect lead times. Transitioning to a more flexible shipping method can gradually reduce the lead time, even though it may come at an additional cost.

 

#3 Source locally

If the raw materials imported by the company are available locally, the company can change to the local suppliers, as long it does not compromise the quality of products. Buying products locally as opposed to sourcing from international suppliers reduces the lead time because the goods are transported over shorter distances.

 

#4 Vertical integration

Vertical integration may involve combining the processes of two suppliers or production processes of the company. For example, where the company manufactures and assembles components in locations that are far apart, it may consolidate these two processes internally. It reduces the transportation time of the components from one location to another.

 

#5 Automate the process

Sometimes, lead time delays are caused by human errors, when the person responsible for ordering new stock delays contacting the suppliers. The company can use a Vendor-Managed Inventory (VMI) or a Vendor-Owned Inventory (VOI) system to replenish the stock automatically when it nears completion. The system reduces lead time since the supplier gets a request early enough before the company experiences a stock out.

 

Lead time vs. Cycle time

Both lead time and cycle time measure the duration it takes from the start of a process to the end. Cycle time is the time it takes from the start to the end for an internal process to end, while lead time is the duration it takes from the start to the end to fulfill a customer’s request, which may be an inquiry or delivery of a product.

 

Additional resources

CFI offers the Financial Modeling & Valuation Analyst (FMVA)™ certification program for those looking to take their careers to the next level. To keep learning and advancing your career, the following resources will be helpful:

  • Days Inventory Outstanding
  • Last-In-First-Out (LIFO)
  • Inventory Turnover Ratio
  • Operating Cycle

Financial Analyst Certification

Become a certified Financial Modeling and Valuation Analyst (FMVA)® by completing CFI’s online financial modeling classes and training program!