Great business ideas tend to be simple in concept. That’s their beauty. You have an idea for a new product? Great—build a prototype, find investors, sign a contract with a manufacturer, and you’re on your way.
Executing on some of those steps, however, is anything but simple, including developing a manufacturing plan. The success of any business that makes a product lies in its ability to generate enough revenue to cover expenses and yield a profit. A core part of profitability is understanding your materials costs. This is known as MRP, or material requirements planning.
What is MRP?
MRP, or Material Requirements Planning, is a critical system for production planning and inventory management. It calculates material needs based on demand forecasts and production schedules, ensuring efficient resource allocation. By utilizing MRP software, manufacturers can optimize their supply chain and reduce excess inventory, improving overall operational efficiency.
Why is MRP important?
MRP is essential for ensuring that necessary inventory levels of materials and components are on hand. Once you understand the bare minimum inputs and cost associated with making your product, you can more easily scale up or down, as needed.
MRP is also important for improving the manufacturing efficiency of the production process. MRP not only ensures that you have the right materials and components on hand when you need them—it can help you create systems to predict how that need fluctuates with the market and the retail seasons. Businesses live and die by their ability to adjust to changing conditions. Robust MRP helps you do that.
MRP is useful in a variety of manufacturing contexts, including in discrete manufacturing and process manufacturing. Discrete manufacturing is the production of products that are whole and complete. Examples include things like shoes and cars, as well as components like screws and buttons. Process manufacturing, on the other hand, refers to the production of goods that require a formula or recipe to be created. These goods are usually sold based on weight or volume, like concrete mix, liquid soap, and beverages.
How MRP works
MRP software draws data from a few vital sources:
Inventory records
Inventory records keep track of the products a business is selling—what’s coming in, what’s going out, and what’s staying put. These records can include details like product descriptions, stock-keeping units (SKUs), quantities, dates of purchase or sale, and the cost and selling price. Making sure that these records are accurate is key to anchoring the entire MRP process.
Bill of materials (BOM)
The BOM is essentially an index of all materials, components, and subcomponents that go into building the finished product. Companies arrange these items in the style of a reverse family tree, with the finished product at the top and the most basic materials and subcomponents at the bottom.
Items inventoried in the BOM are further sorted into one of two categories: dependent demand and independent demand. Independent demand items are finished goods. For a manufacturing business, independent demand items are final products. Their output is based on confirmed customer orders, analyzing past sales, and assessing current market conditions. Dependent demand items, meanwhile, are materials and components a business needs to make the finished product—their demand is contingent on the demand for parent items.
For example, let’s say your business makes and sells sneakers. While your independent demand items are the sneakers themselves, the dependent demand items are the materials and components that you order based on the demand for your sneakers. These could include things like canvas and leather, metal lace eyelets, laces, nylon logo-printed tags, and rubber soles. Dependent demand items can contain additional component dependent demand items—for example, a custom-blend pigment needed to dye raw material.
Master production schedule
MRP software tracks and manages all of the goods, raw materials, and components itemized in your BOM, and calibrates production deadlines against retailer delivery deadlines. These milestones and production schedules all live in your master production schedule.
A key objective of a MRP’s scheduling function is to determine lead times, or the period from when an order is placed to when the item is delivered, either to a retailer or to a final customer. The latter is known as customer lead time. Lead time can also refer to the time it takes for you to order materials or components and receive them (material lead time); or the time it takes to make and ship a product once materials are received (known as production lead time or factory lead time).
Some MRP systems can automate lead time calculation. Others rely on manual inputs from production managers. Many programs use both methods, depending on need and the specificities of the production cycle.
Benefits of MRP
- Reliable and predictable customer lead times
- Reduced and more controllable inventory costs
- More competitive product pricing
- Optimal inventory control
- Reduced incidental costs
The main purposes of MRP are to ensure in-house component and material availability and to ensure suppliers deliver them in a predictable and timely manner. Some other benefits of MRP include:
Reliable and predictable customer lead times
A customer that receives a product quickly is a happy customer. A customer that gets an estimate of when shipments will arrive is even happier—and implementing MRP can help you communicate lead times to your customers.
Reduced and more controllable inventory costs
Warehousing isn’t free. Neither is shipping. Being able to reasonably and consistently predict inventory needs is critical to avoiding unforeseen costs associated with paying for these things last minute.
More competitive product pricing
When costs associated with acquiring materials and components are better controlled, you can afford to offer lower prices on finished products.
Optimal inventory control
By minimizing production delays, businesses can reduce the risk of in-demand items running out of stock, which can lower customer satisfaction.
Reduced incidental costs
Effective MRP can improve labor productivity, induce better shop floor control (which schedules how work orders move through the manufacturing process), and even reduce wear and tear on manufacturing equipment by curtailing unnecessary use.
Risks of MRP
Though materials resource planning is generally beneficial, there are also a few potential drawbacks to be aware of.
Holding excessive inventory
MRP sometimes leads businesses to hold too much inventory if their systems incorporate incorrect assumptions. The general goal of MRP is to reduce the likelihood of shortages. However, when you’re first rolling out an MRP system, it may overstock materials and components. If this happens, adjust your planning parameters to account for considerations that might be leading to ordering too much stock.
Reduced flexibility
This can occur when a business over-automates key manufacturing process controls. Although the benefit of an MRP is that it optimizes your inventory levels (and can even allow you to use just-in-time inventory management), you’ll still need to be aware of the possibility of shocks that could hit demand.
Costly data management
Your MRP runs on precise business data, including information on product demand and existing inventory. Small errors in data can cause major ripple effects that could disrupt the entire supply chain. Avoiding this may involve costly data integrity requirements.
One way to tackle some MRP drawbacks is to employ advanced planning and scheduling (APS) software. This complementary programming helps provide more realistic lead-time estimates, which can more accurately inform material and component needs.
MRP vs. ERP: What’s the difference?
Enterprise resource planning (ERP), like MRP, is a type of operational management software. Businesses use it to manage day-to-day activities. ERP streamlines processes and information across various departments, including human resources, finance, procurement, manufacturing and more. Its integrated approach both enhances efficiency and offers a holistic view of resources. ERP systems often include features such as supply chain management, customer relationship management, business analytics, and even MRP itself.
In effect, MRP can be a subsystem within an ERP software ecosystem. It supplies information about materials and resources to the central ERP framework, which then synthesizes that data to inform other business functions. For example, an ERP subsystem used by the finance department might leverage MRP data to calculate accounts payable for materials vendors, and generate forecasts for future production needs and how materials costs might affect revenue long term.
Read more
- Free Cash Flow Yield Definition and Formula
- Understanding Business Credit Scores and How They Work
- What Is a Tariff? Definition and Guide
- Gross Margin vs. Net Margin: A Guide to Their Core Differences
- What Is Inventory? Definition and Guide
- What Are Payroll Taxes? A Guide for Employers and Business Owners
- How CRM Integration Works and How It Benefits Business
- What Is a Fiscal Year? Definition and Guide
- Net Cash Flow Guide and Formula for Small Business Owners
MRP FAQ
What does MRP mean in business?
MRP stands for “material requirements planning,” and refers to a system for tracking and forecasting needs and costs associated with making a product.
What is MRP also known as?
Material requirements planning is sometimes known as manufacturing resource planning, though this distinction isn’t very important, as both are abbreviated as “MRP” and refer to the same set of processes and tools.
How is an MRP different from an ERP?
ERP is a broader, more holistic planning process that takes into account all of a business’s operations management, capacity planning, and supply planning, not just production planning. The MRP process, on the other hand, specifically tracks and forecasts needs and costs associated with sourcing product materials and components.
