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  1. 1. stores empty-handed be- The following appeared in the March-April, 1997, issue of cause the specific items THE HARVARD BUSINESS REVIEW: they had wanted to buy were out of stock. WHAT IS THE RIGHT SUPPLY Why haven't the new CHAIN FOR YOUR PRODUCT? ideas and technologies led to improved performance? Because A Simple Framework Can Help managers lack a frame- work for deciding which You Figure Out the Answer ones are best for their par- ticular company's situa- BY MARSHALL L. FISHER tion. From my ten years of research and consulting on supply chain issues in Never has so much tech- worse. In some cases, industries as diverse as nology and brainpower costs have risen to un- food, fashion apparel, and been applied to improv- precedented levels be- automobiles, I have been ing supply chain perfor- cause of adversarial rela- able to devise such a mance. Point-of-sale scan- tions between supply framework. It helps man- ners allow companies to chain partners as well as agers understand the na- capture the customer's dysfunctional industry ture of the demand for voice. Electronic data in- practices such as an over- their products and devise terchange lets all stages of reliance on price promo- the supply chain that can the supply chain hear that tions. One recent study of best satisfy that demand. voice and react to it by us- the U.S. food industry es- ing flexible manufactur- timated that poor coordi- The first step in devising ing, automated warehous- nation among supply an effective supply-chain ing, and rapid logistics. chain partners was wast- strategy is therefore to And new concepts such as ing $30 billion annually. consider the nature of the quick response, efficient Supply chains in many demand for the products consumer response, accu- other industries suffer one's company supplies. rate response, mass cus- from an excess of some Many aspects are impor- tomization, lean manufac- products and a shortage tant - for example, prod- turing, and agile manufac- of others owing to an in- uct life cycle, demand pre- turing offer models for ap- ability to predict demand. dictability, product vari- plying the new technolo- One department store ety, and market standards gy to improve perfor- chain that regularly had to for lead times and service mance. resort to markdowns to (the percentage of de- clear unwanted merchan- mand filled from in-stock Nonetheless, the perfor- dise found in exit inter- goods). But I have found mance of many supply views that one-quarter of that if one classifies prod- chains has never been its customers had left its
  2. 2. ucts on the basis of their least expect it. For in- tators erode the competi- demand patterns, they fall stance, in the traditionally tive advantage that inno- into one of two categories: functional category of vative products enjoy, they are either primarily food, companies such as companies are forced to functional or primarily in- Ben & Jerry's, Mrs. Fields, introduce a steady stream novative. And each cate- and Starbucks Coffee of newer innovations. The gory requires a distinctly Company have tried to short life cycles and the different kind of supply gain an edge with design- great variety typical of chain. The root cause of er flavors and innovative these products further in- the problems plaguing concepts. Century Prod- crease unpredictability. many supply chains is a ucts, a leading manufac- mismatch between the turer of children's car It may seem strange to type of product and the seats, is another company lump technology and type of supply chain. that brought innovation to fashion together, but both a functional product. Until types of innovation de- IS YOUR PRODUCT FUNCTIONAL the early 1990s, Century pend for their success on OR INNOVATIVE? sold its seats as functional consumers changing some items. Then it introduced aspect of their values or Functional products in- a wide variety of brightly lifestyle. For example, the clude the staples that peo- colored fabrics and de- market success of the IBM ple buy in a wide range of signed a new seat that Thinkpad hinged in part retail outlets, such as gro- would move in a crash to on a novel cursor control cery stores and gas sta- absorb energy and protect in the middle of the key- tions. Because such prod- the child sitting in it. board that required users ucts satisfy basic needs, Called Smart Move, the to interact with the key- which don't change much design was so innovative board in an unfamiliar over time, they have sta- that the seat could not be way. The new design was ble, predictable demand sold until government so controversial within and long life cycles. But product-safety standards IBM that managers had their stability invites com- mandating that car seats difficulty believing the en- petition, which often leads not move in a crash had thusiastic reaction to the to low profit margins. been changed. cursor control in early fo- cus groups. As a result, To avoid low margins, Although innovation can the company underesti- many companies intro- enable a company to mated demand — a prob- duce innovations in fash- achieve higher profit mar- lem that contributed to ion or technology to give gins, the very newness of the Thinkpad's being in customers an additional innovative products short supply for more reason to buy their offer- makes demand for them than a year. ings. Fashion apparel and unpredictable. In addi- personal computers are tion, their life cycle is obvious examples, but we short — usually just a few also see successful prod- months — because as imi- uct innovation where we 2
  3. 3. Functional Versus Innovative Products: Differences in Demand Aspects of Demand Functional (Predictable Demand) Innovative (Unpredictable Demand) Product Life Cycle More than 2 years 3 months to 1 year Contribution Margin* 5% to 20% 20% to 60% Product Variety Low (10-20 variants per category) High (often millions of variants per category) Average margin of er- ror in the forecast at 10% 40% to 100% the time production is committed Average stockout rate 1% to 2% 10% to 40% Average forced end- of-season markdown 0% 10% to 25% as percentage of full price Lead time required for made-to-order prod- 6 months to 1 year 1 day to 2 weeks ucts *The contribution margin equals price minus variable cost divided by price and is expressed as a percentage. With their high profit ket mediation, whose pur- fect match between sup- margins and volatile de- pose is ensuring that the ply and demand can be mand, innovative prod- variety of products reach- achieved. Companies that ucts require a fundamen- ing the marketplace make such products are tally different supply matches what consumers thus free to focus almost chain than stable, low- want to buy. exclusively on minimizing margin functional prod- physical costs a crucial ucts do. To understand Each of the two functions goal, given the price sensi- the difference, one should incurs distinct costs. Phys- tivity of most functional recognize that a supply ical costs are the costs of products. To that end, chain performs two dis- production, transporta- companies usually create tinct types of functions: a tion, and inventory stor- a schedule for assembling physical function and a age. Market mediation finished goods for at least market mediation function. costs arise when supply the next month and com- A supply chain's physical exceeds demand and a mit themselves to abide function is readily appar- product has to be marked by it. Freezing the sched- ent and includes convert- down and sold at a loss or ule in this way allows ing raw materials into when supply falls short of companies to employ parts, components, and demand, resulting in lost manufacturing-resource- eventually finished goods, sales opportunities and planning software, which and transporting all of dissatisfied customers. orchestrates the ordering, them from one point in production, and delivery the supply chain to the The predictable demand of supplies, thereby en- next. Less visible but of functional products abling the entire supply equally important is mar- makes market mediation chain to minimize inven- easy because a nearly per- 3
  4. 4. Physically Efficient Versus Market-Responsive Supply Chains Physically Efficient Process Market-Responsive Process Supply predictable demand Respond quickly to unpredictable efficiently at the lowest pos- demand in order to minimize stock- Primary Purpose sible cost outs, forced markdowns, and obso- lete inventory Maintain high average uti- Deploy excess buffer capacity Manufacturing focus lization rate Generate high returns and Deploy significant buffer stocks of Inventory strategy minimize inventory parts or finished goods throughout the chain Shorten lead time as long as Invest aggressively in ways to re- Lead-time focus it doesn't increase cost duce lead time Select primarily for cost and Select primarily for speed, flexibility, Approach to choosing suppliers quality and quality Maximize performance and Use modular design in order to post- Product-design strategy minimize cost pone product differentiation for as long as possible tory and maximize pro- ket mediation costs pre- should be chosen for their duction efficiency. In this dominate for these prod- speed and flexibility, not instance, the important ucts, and they, not physi- for their low cost. flow of information is the cal costs, should he man- one that occurs within the agers' primary focus. Sport Obermeyer and chain as suppliers, manu- Campbell Soup Company facturers, and retailers co- Most important in this en- illustrate the two environ- ordinate their activities in vironment is to read daily ments and how the result- order to meet predictable sales numbers or other ing goals and initiatives demand at the lowest cost. market signals and to re- differ. Sport Obermeyer is act quickly, during the a major supplier of fash- That approach is exactly new product's short life ion skiwear. Each year, the wrong one for innova- cycle. In this instance, the 95% of its products are tive products. The uncer- crucial flow of informa- completely new designs tain market reaction to in- tion occurs not only with- for which demand fore- novation increases the risk in the chain but also from casts often err by as much of shortages or excess sup- the marketplace to the as 200%. And because the plies. High profit margins chain. The critical deci- retail season is only a few and the importance of ear- sions to be made about in- months long, the compa- ly sales in establishing ventory and capacity are ny has little time to react if market share for new not about minimizing it misguesses the market. products increase the cost costs but about where in of shortages. And short the chain to position in- In contrast, only 5% of product life cycles in- ventory and available pro- Campbell's products are crease the risk of obsoles- duction capacity in order new each year. Sales of ex- cence and the cost of ex- to hedge against uncertain isting products, most of cess supplies. Hence mar- demand. And suppliers which have been on the 4
  5. 5. Matching Supply Chains with Products Functional Products Innovative Products Efficient Supply Chain Match Mismatch Responsive Supply Chain Mismatch Match market for years, are high- diation costs. Hence, founder on this issue. That ly predictable, allowing when the company is probably because prod- Campbell to achieve a launched a supply chain ucts that are physically nearly perfect service level program in 1991 called the same can be either by satisfying more than continuous replenishment, functional or innovative. 98% of demand immedi- the goal was physical effi- For example, personal ately from stocks of fin- ciency. And it achieved computers, cars, apparel, ished goods. And even the that goal; the inventory ice cream, coffee, cookies, few new products are turns of participating re- and children's car seats all easy to manage. They tailers doubled. In con- can be offered as a basic have a replenishment lead trast, Sport Obermeyer's functional product or in time of one month and a uncertain demand leads to an innovative form. minimum market life cy- high market-mediation cle of six months. When costs in the form of losses It's easy for a company, Campbell introduces a on styles that don't sell through its product strate- product, it deploys and missed sales opportu- gy, to gravitate from the enough stock to cover the nities due to the "stock- functional to the innova- most optimistic forecast outs" that occur when de- tive sphere without realiz- for demand in the first mand for particular items ing that anything has month. If the product outstrips inventories. The changed. Then its man- takes off, more can be company's supply chain agers start to notice that supplied before stocks run efforts have been directed service has mysteriously out. If it flops, the six- at reducing those costs declined and inventories month, worst-case life cy- through increased speed of unsold products have cle affords plenty of time and flexibility. gone up. When this hap- to sell off the excess pens, they look longingly stocks. Although the distinctions at competitors that between functional and haven't changed their How do goals and initia- innovative products and product strategy and tives differ in the two en- between physical efficien- therefore have low inven- vironments? Campbell's cy and responsiveness to tories and high service. already high service level the market seem obvious They even may steal away leaves little room for im- once stated, I have found the vice president of logis- provement in market me- that many companies tics from one of those 5
  6. 6. companies, reasoning, if who aren't sure or who cess for functional prod- we hire their logistics guy, would like to confirm ucts and a responsive pro- we'll have low inventory their intuition, I offer cess for innovative prod- and high service, too. The guidelines for classifying ucts. Companies that have new vice president invari- products based on what I either an innovative prod- ably designs an agenda have found to he typical uct with an efficient sup- for improvement based on for each category. (See the ply chain (upper right- his or her old environ- table "Functional Versus hand cell) or a functional ment: cut inventories, Innovative Products: Dif- product with a responsive pressure marketing to be ferences in Demand.") The supply chain (lower left- accountable for its fore- next step is for managers hand cell) tend to be the casts and to freeze them to decide whether their ones with problems. well into the future to re- company's supply chain is move uncertainty, and es- physically efficient or re- For understandable rea- tablish a rigid just-in-time sponsive to the market. sons, it is rare for compa- delivery schedule with (See the table "Physically nies to be in the lower left- suppliers. The worst thing Efficient Versus Market- hand cell. Most companies that could happen is that Responsive Supply that introduce functional he or she actually suc- Chains.") products realize that they ceeds in implementing need efficient chains to that agenda, because it's Having determined the supply them. If the prod- totally inappropriate for nature of their products ucts remain functional the company's now un- and their supply chain's over time, the companies predictable environment. priorities, managers can typically have the good employ a matrix to formu- sense to stick with effi- DEVISING THE IDEAL SUPPLY- late the ideal supply-chain cient chains. But, for rea- CHAIN STRATEGY strategy. The four cells of sons I will explore shortly, the matrix represent the companies often find For companies to be sure four possible combina- themselves in the upper that they are taking the tions of products and pri- right-hand cell. The rea- right approach, they first orities. (See the exhibit son a position in this cell must determine whether "Matching Supply Chains doesn't make sense is sim- their products are func- with Products." By using ple: for any company with tional or innovative. Most the matrix to plot the na- innovative products, the managers I've encoun- ture of the demand for rewards from investments tered already have a sense each of their product fam- in improving supply of which products have ilies and its supply chain chain responsiveness are predictable and which priorities, managers can usually much greater than have unpredictable de- discover whether the pro- the rewards from invest- mand. The unpredictable cess the company uses for ments in improving the products are the ones gen- supplying products is chain's efficiency. For ev- erating all the supply well matched to the prod- ery dollar such a company headaches. For managers uct type: an efficient pro- invests in increasing its 6
  7. 7. supply chain's responsive- tain high-variety, short- protect or increase profit ness, it usually will reap a life-cycle circuits in-house margins. As a result, decrease of more than a rather than outsource many companies have dollar in the cost of stock- them to a low-cost Asian turned or tried to turn tra- outs and forced mark- country, because local ditionally functional prod- downs on excess invento- production gave the com- ucts into innovative prod- ry that result from mis- pany increased flexibility ucts. But they have contin- matches between supply and shorter lead times. ued to focus on physical and demand. Consider a World Company, a lead- efficiency in the processes typical innovative product ing Japanese apparel man- for supplying those prod- with a contribution mar- ufacturer, produces its ba- ucts. This phenomenon gin of 40% and an average sic styles in low-cost Chi- explains why one finds so stockout rate of 25%.1 The nese plants but keeps pro- many broken supply lost contribution to profit duction of high-fashion chains — or unresponsive and overhead resulting styles in Japan, where the chains trying to supply in- from stockouts alone is advantage of being able to novative products — in huge: 40% x 25% = 10% of respond quickly to emerg- industries such as auto- sales — an amount that ing fashion trends more mobiles, personal comput- usually exceeds profits be- than offsets the disadvan- ers, and consumer pack- fore taxes. tage of high labor costs. aged goods. Consequently, the eco- That logic doesn't apply to The automobile industry nomic gain from reducing functional products. A is one classic example. stockouts and excess in- contribution margin of Several years ago, I was ventory is so great that in- 10% and an average stock- involved in a study to telligent investments in out rate of 1% mean lost measure the impact that supply chain responsive- contribution to profit and the variety of options ness will always pay for overhead of only .1% of available to consumers themselves — a fact that sales — a negligible cost had on productivity at a progressive companies that doesn't warrant the Big Three auto plant. As have discovered. Compaq, significant investments re- the study began, I tried to for example, decided to quired to improve respon- understand variety from continue producing cer- siveness. the customer's perspective by visiting a dealer near 1 The contribution margin GETTING OUT OF THE UPPER my home in the Philadel- equals price minus variable RIGHT-HAND CELL phia area and "shopping" cost divided by price and is ex- pressed as a percentage. This for the car model pro- type of profit margin measures The rate of new-product duced in the plant we increases in profits produced introductions has skyrock- were to study. From sales by the incremental sales that re- eted in many industries, literature provided by the sult from fewer stockouts. fueled both by an increase Consequently, it is a good way dealer, I determined that in the number of competi- when one took into ac- to track improvements in in- ventory management. tors and by the efforts of count all the choices for existing competitors to 7
  8. 8. color, interior features, that variety but are unable technology, and the ac- drivetrain configurations, to because of dealers' ceptable lead time has and other options, the practices at the neck of the dropped to days. Yet be- company was actually of- glass. cause the industry has fering 20 million versions largely retained its em- of the car. But because or- The computer industry of phasis on a physically effi- dering a car with the de- 20 years ago shows that a cient supply chain, most sired I options entailed an company can supply an computer companies find eight-week wait for deliv- innovative product with themselves firmly posi- ery, more than 90% of cus- an unresponsive process if tioned in the upper right- tomers bought their cars the market allows it a long hand cell of the matrix. off the lot. lead time for delivery. In my first job after college, I That mismatch has engen- The dealer told me that he worked in an IBM sales dered a kind of had 2 versions of the car office helping to market schizophrenia in the way model on his lot and that the System/360 main- computer companies view if neither matched my ide- frame. I was shocked to their supply chains. They al specifications, he might learn that IBM was then cling to measures of phys- be able to get my choice quoting a 14-month lead ical efficiency such as from another dealer in the time for this hot new plant capacity utilization Philadelphia area. When I product. I asked how I and inventory turns be- got home, I checked the could possibly tell a cus- cause those measures are phone book and found ten tomer to wait that long. familiar from their main- dealers in the area. As- The answer was that if a frame days. Yet the mar- suming each of them also customer really wanted a ketplace keeps pulling had 2 versions of the car 360, it would wait, and them toward measures of in stock, I was choosing that if I couldn't persuade responsiveness such as from a selection of at most it to wait, there must be product availability. 20 versions of a car that something seriously lack- could be made in 20 mil- ing in my sales skills, That How does a company in lion. In other words, the answer was actually cor- the upper right-hand cell auto distribution channel rect: lead times of one to overcome its schizophre- is a kind of hourglass with two years were then the nia? Either by moving to the dealer at the neck. At norm. This meant that the left on the matrix and the top of the glass, plants, computer manufacturers making its products func- which introduce innova- had plenty of time to or- tional or by moving down tions in color and technol- ganize their supplies the matrix and making its ogy every year, can pro- around physical efficien- supply chain responsive. vide an almost infinite va- cy. The correct direction de- riety of options. At the pends on whether the bottom, a multitude of Now PCs and worksta- product is sufficiently in- customers with diverse tions have replaced main- novative to generate tastes could benefit from frames as the dominant enough additional profit 8
  9. 9. to cover the cost of mak- been simplifying many of for innovative cars, which ing the supply chain re- its product lines and pric- require inventory buffers sponsive. ing, is coming to the con- to absorb uncertainty in clusion that the answer is demand. The most effi- A sure sign that a compa- no. Toothpaste is a prod- cient place to put buffers ny needs to move to the uct category in which a is in parts, but doing so left is if it has a product move to the left — from directly contradicts the line characterized by fre- innovative to functional just-in-time system that quent introductions of — makes sense. automakers have so vigor- new offerings, great vari- ously adopted in the last ety, and low profit mar- In other cases when a decade. The just-in-time gins. Toothpaste is a good company has an unre- system has slashed parts example. A few years ago, sponsive supply chain for inventories in plants I was to give a presenta- innovative products, the (where holding inventory tion to a food industry right solution is to make is relatively cheap) to a group. I decided that a some of the products few hours, while stocks of good way to demonstrate functional and to create a cars at dealers (where the dysfunctional level of responsive supply chain holding inventory is ex- variety that exists in many for the remaining innova- pensive) have grown to grocery categories would tive products. The auto- around 90 days. be to buy one of each type mobile industry is a good of toothpaste made by a example. EFFICIENT SUPPLY OF particular manufacturer FUNCTIONAL PRODUCTS and present the collection Many suggestions have to my audience When I been made for fixing the Cost reduction is familiar went to my local super- problems with the auto territory, and most com- market to buy my sam- distribution channel I panies have been at it for ples, I found that 28 vari- have described here, but years. Nevertheless, there eties were available. A they all miss the mark be- are some new twists to few months later, when I cause they propose apply- this old game. As compa- mentioned this discovery ing just one solution. This nies have aggressively to a senior vice president approach overlooks the pursued cost cutting over of a competing manufac- fact that some cars, such the years, they have be- turer, he acknowledged as the Ford Fairmont, are gun to reach the point of that his company also had inherently functional, diminishing returns with- 28 types of toothpaste - while others, such as the in their organization's one to match each of the BMW Z3 roadster (driven own boundaries and now rival's offerings. in the James Bond movie believe that better coordi- Golden Eye), are innova- nation across corporate Does the world need 28 tive. A lean, efficient dis- boundaries — with sup- kinds of toothpaste from tribution channel is exact- pliers and distributors — each manufacturer? Proc- ly right for functional cars presents the greatest op- ter & Gamble, which has but totally inappropriate portunities. Happily, the 9
  10. 10. growing acceptance of weeks of supply. The deep discounts that this view has coincided company achieved this Campbell was offering. with the emergence of improvement because it Retailers responded to the electronic networks that slashed the delivery lead price cut by stocking up, facilitate closer coordina- time and because it knows in some cases buying a tion. the inventories of all re- year's supply — a practice Campbell Soup has How Campbell's Price Promotions Disrupted Its Supply System shown how this new game should be played. In 1991, the company launched the continuous- replenishment program with its most progressive retailers. The program works as follows: Camp- bell establishes electronic data interchange (EDI) links with retailers. Every morning, retailers elec- tronically inform the com- pany of their demand for all Campbell products and of the level or inventories in their distribution cen- ters. Campbell uses that information to forecast fu- ture demand and to deter- mine which products re- quire replenishment based tailers and hence can de- the industry calls forward on upper and lower in- ploy supplies of each buying. Nobody won on ventory limits previously product where they are the deal. Retailers had to established with each re- needed the most. pay to carry the year's tailer. Trucks leave the supply, and the shipment Pursuing continuous re- bulge added cost through- Campbell shipping plant plenishment made Camp- out the Campbell system. that afternoon and arrive bell aware of the negative For example, chicken-bon- at the retailers' distribu- impact that the overuse of ing plants had to go on tion centers with the re- price promotions can have overtime starting in Octo- quired replenishments the on physical efficiency. Ev- ber to meet the bulge. (See same day. The program ery January, for example, the graph "How Campbel- cut the inventories of four there was a big spike in l's Price Promotions Dis- participating retailers shipments of Chicken rupted Its Supply Sys- from about four to two Noodle Soup because of 10
  11. 11. tem.") Recognizing the equals at least 25% of lurking in the "everyday problem, Campbell re- what they paid for the low price" feature of quired its retail customers product. A two-week in- Campbell's program. Con- on the continuous-replen- ventory reduction repre- sumers of functional ishment program to waive sents a cost savings equal products offer companies the option of forward to nearly 1% of sales. predictable demand in ex- buying at a discounted Since the average retailer's change for a good product price. A retailer that pro- profits equal about 2% of and a reasonable price. motes Campbell products sales, this savings is The challenge is to avoid in its stores by offering a enough to increase profits actions that would de- discounted price to con- by 50%. stroy the inherent simplic- sumers has two options: it ity of this relationship. can pay Campbell an "ev- Because the retailer makes Many companies go eryday low price" equal to more money on Campbell astray because they get the average price that a re- products delivered hooked on overusing tailer receiving the pro- through continuous re- price promotions. They motional deals would pay plenishment, it has an in- start by using price incen- or it can receive a discount centive to carry a broader tives to pull demand for- on orders resulting from line of them and to give ward in time to meet a genuine increases in sales them more shelf space. quarterly revenue target. to consumers. For that reason, Campbell But pulling demand for- found that after it had in- ward helps only once. The The Campbell example of- troduced the program, next quarter, a company fers some valuable sales of its products grew has to pull demand for- lessons. Because soup is a twice as fast through par- ward again just to fill the functional product with ticipating retailers as they hole created by the first price-sensitive demand, did through other retail- incentive. The result is an Campbell was correct to ers. Understandably, su- addiction to incentives pursue physical efficiency. per-market chains love that turns simple, pre- Service — or the in-stock programs such as Camp- dictable demand into a availability of Campbell bell's. Wegmans Food chaotic series of spikes products at a retailer's dis- Markets, with stores in that only add to cost. tribution center — did in- upstate New York, has crease marginally, from even augmented its ac- Finally, the Campbell sto- 98.5% to 99.2%. But the counting system so that it ry illustrates a different big gain for the supply can measure and reward way for supply chain part- chain was in increased op- suppliers whose products ners to interact in the pur- erating efficiency, through cost the least to stock and suit of higher profits. the reduction in retailers' sell. Functional products such inventories. Most retailers as groceries are usually figure that the cost of car- There is also an important highly price-sensitive, and rying the inventory of a principle about the supply negotiations along the given product for a year of functional products supply chain can be fierce. 11
  12. 12. If a company can get its you want to do is fully certainty that exist today supplier to cut its price by share with me informa- in many markets. They a penny and its customer tion about your costs. But have a tendency to declare to accept a one-cent price that is what we both must a high level of forecast er- increase, those conces- do if we want to reduce rors unacceptable, and sions can have a huge im- supply chain costs by as- they virtually command pact on the company's signing each task to their people to think hard profits. In this competitive whichever of us can per- enough and long enough model of supply chain re- form it most cheaply. to achieve accuracy in lations, costs in the chain their forecasts. But these are assumed to be fixed, RESPONSIVE SUPPLY OF companies can't remove and the manufacturer and INNOVATIVE PRODUCTS uncertainty by decree. the retailer compete When it comes to innova- through price negotiations Uncertainty about de- tive products, uncertainty for a bigger share of the mand is intrinsic to inno- must be accepted as good. fixed profit pie. In con- vative products. As a re- If the demand for a prod- trast, Campbell's continu- sult, figuring out how to uct were predictable, that ous-replenishment pro- cope with it is the primary product probably would gram embodies a model in challenge in creating a re- not be sufficiently innova- which the manufacturer sponsive supply process tive to command high and the retailer cooperate for such products. I have profit margins. The fact is to cut costs throughout seen companies use four that risk and return are the chain, thereby increas- tools to cope with uncer- linked, and the highest ing the size of the pie. tainty in demand. To fash- profit margins usually go ion a responsive supply with the highest risk in The cooperative model process, managers need to demand. can be powerful, but it understand each of them does have pitfalls. Too of- and then blend them in a Once a company has ac- ten, companies reason that recipe that's right for their cepted the uncertainty of there never can be too company's particular situ- demand, it can employ many ways to make mon- ation. three coordinated strate- ey, and they decide to gies to manage that uncer- play the cooperative and Although it may sound tainty. It can continue to competitive games at the obvious, the first step for strive to reduce uncertain- same time. But that tactic many companies is simply ty — for example, by find- doesn't work, because the to accept that uncertainty ing sources of new data two approaches require is inherent in innovative that can serve as leading diametrically different be- products. Companies that indicators or by having havior. For example, con- grew up in an oligopoly different products share sider information sharing. with less competition, common components as If you are my supplier more docile customers, much as possible so that and we an negotiating and weaker retailers find the demand for compo- over price, the last thing it difficult to accept the nents becomes more pre- high levels of demand un- 12
  13. 13. dictable. It can avoid un- In 1986, in an attempt to nents, using a special certainty by cutting lead salvage the situation Mat- measuring stand to find times and increasing the sushita appointed as pres- the exact size of the frame supply chain's flexibility ident of National an exec- that he or she needed. The so that it can produce to utive from another divi- order would be faxed to order or at least manufac- sion who had no experi- the factory, where com- ture the product at a time ence in bicycles. The new puter-controlled welding closer to when demand president, Makoto Komo- equipment and skilled materializes and can be to, saw that the division workers would make the accurately forecast. Final- had many strengths: tech- bike and deliver it to the ly, once uncertainty has nical expertise in manu- customer within two been reduced or avoided facturing and computers, weeks. as much as possible, it can a highly skilled work- hedge against the remain- force, a strong brand Komoto's radical vision ing residual uncertainty name (Panasonic), and a became a reality in 1987. with buffers of inventory network of 9,000 dealers. By 1991, fueled by this in- or excess capacity. The ex- Komoto also noticed that novation, National Bicycle periences of National Bi- National Bicycle had an had increased its share of cycle, a subsidiary of Mat- innovative product seg- the sports bicycle market sushita Electric, and of ment that enjoyed high in Japan from 5% to 29%. Sport Obermeyer illus- profit margins: sports bi- It was meeting the two- trate the different ways in cycles that affluent cus- week lead time 99.99% of which these three strate- tomers bought purely for the time and was in the gies can be blended to cre- recreation. He concluded black. ate a responsive supply that National's only hope chain. National Bicycle was to focus on that seg- National Bicycle's success prospered for decades as a ment and use the divi- is a good example of a re- small but successful divi- sion's strengths to develop sponsive supply chain sion. But by the a responsive chain that achieved through avoid- mid-1980s, it was in trou- could supply sports bikes ing uncertainty. National ble. Bicycles in Japan were while avoiding the high has little idea what cus- functional products risk of overproduction tomers will order when bought mainly as an inex- that resulted from their they walk into a retail pensive means of trans- short life cycle and uncer- shop, but that doesn't portation, and sales were tain demand. matter: its produce-to-or- flat. Bicycles had become der system allows it to a commodity sold on the According to Komoto's vi- match supply with de- basis of low price, and sion, a customer would mand as it happens. By Japan's high labor costs visit a Panasonic dealer- radically increasing the left National Bicycle un- ship and choose a bike number of choices from a able to compete with inex- from a selection of 2 mil- few types of bikes to 2 pensive bikes from Tai- lion options for combining million, it can induce the wan and Korea. size, color, and compo- customer to sacrifice im- 13
  14. 14. mediate availability and plant during the winter, risks of demand uncer- wait two weeks for a bicy- when no one is buying tainty: stockouts of hot cle. bikes? It builds an inven- styles during the selling tory of high-end sports bi- season and leftover inven- National's program is part cycles. In addition, mass tory of "dogs" at the end of a new movement called customization is not nec- of the season. In 1991, the mass customization: build- essarily cheap. National's company's vice president, ing the ability to cus- custom production re- Walter R. Obermeyer, tomize a large volume of quires three times more launched a project to at- products and deliver them labor than assembly-line tack those problems by at close to mass-produc- mass production of bikes. blending the three strate- tion prices. Many other Interestingly, one of the gies of reducing, avoiding, companies have found main reasons why Henry and hedging against un- that they, too, can benefit Ford in the early 1900s certainty. To reduce un- from this strategy. For ex- moved in the opposite di- certainty, Sport Obermey- ample, Lutron Electronics rection — from craft to er solicited early orders of Coopersburg, Pennsyl- mass production — was from important cus- vania, became the world to slash labor costs, which tomers: the company in- leader in dimmer switches he succeeded in doing by vited its 25 largest retail- and other lighting con- a factor of three. So what ers to Aspen each Febru- trols by giving customers has changed to make cus- ary to evaluate its new an essentially unlimited tom production viable line. Sport Obermeyer choice of technical and now? Affluent consumers found that the early or- fashion features. Says are willing to pay for ders from this handful of Michael W. Pessina, high-margin, innovative retailers permitted it to Lutron's vice president of products; and those prod- forecast national demand manufacturing operations, ucts require a different, for all its products with a "With our diverse product more expensive, but more margin of error of just line, customer demand responsive production 10%. can be impossible to pre- process than the function- dict. Yet by configuring al Model T did. Although it was helpful to products at the time of or- get this information sever- der, we can offer cus- Sport Obermeyer, which al months before Sport tomers tremendous vari- is based in Aspen, Col- Obermeyer was required ety and fill orders very orado, designs and manu- to ship its products in quickly without having to factures fashion skiwear September, it didn't solve stock a huge amount of in- and distributes it through the company's problem, ventory." 800 specialty retailers lo- because long lead times cated throughout the forced it to commit itself Mass customization is not United States. Because to products well before without its challenges. For 95% of its products are February. Obermeyer con- example, what does Na- new each year, it constant- cluded that each day tional Bicycle do with its ly faces the challenges and shaved off the lead time 14
  15. 15. would save the company Obermeyer had the most Sport Obermeyer's ap- $25,000 because that was confidence in its forecasts. proach, which has been the amount it spent each But how could it tell called accurate response, day at the end of Septem- which those were? Then has cut the cost of both ber shipping products by the company noticed overproduction and un- air from plants in Asia to something interesting. derproduction in half — have them in stores by Obermeyer had asked enough to increase profits early October — the start each of the six members of by 60%. And retailers love of the retail season. Once a committee responsible the fact that the system re- that figure was an- for forecasting to con- sults in more than 99% nounced to employees, struct a forecast for all product availability: they they found all kinds of products, and he used the have ranked Sport Ober- ways to shorten the lead average of the six fore- meyer number one in the time. For example, the casts as the company's industry for service. (See person who had dutifully forecast. After one year of "Making Supply Meet De- used standard mail ser- trying this method, the mand in an Uncertain vice to get design infor- company found that when World," by Marshall L. mation to the production the six individual fore- Fisher, Janice H. Ham- manager in Hong Kong casts agreed, the average mond, Walter R. Ober- realized that the $25 ex- was accurate, and when meyer, and Ananth Ra- press-mail charge was a they disagreed, the aver- man, HBR May-June bargain compared with age was inaccurate. This 1994.) the $25,000 per day in discovery gave Sport added costs resulting Obermeyer a means of se- Companies such as Sport from longer lead times lecting the styles to make Obermeyer, National Bi- caused by mail delays. early. Using this in-forma- cycle, and Campbell Soup, Through such efforts, tion as well as data on the however, are still the ex- Sport Obermeyer was able cost of overproduction ceptions. Managers at to avoid uncertainty on and underproduction, it many companies continue half of its production by developed a model for to lament that although committing that produc- hedging against the risk of they know their supply tion after early orders had both problems. The model chains are riddled with been received in February. tells the company exactly waste and generate great how much of each style to dissatisfaction among cus- Nevertheless, the compa- make early in the produc- tomers, they don't know ny still had to commit half tion season (which begins what to do about the of the production early in nearly a year before the problem. The root cause the season, when demand retail season) and how could very well be a mis- was uncertain. Which much to make in Febru- alignment of their supply styles should it make ary, after early orders are and product strategies. then? It would stand to received. Realigning the two is reason that they should be hardly easy. But the re- the styles for which Sport ward — a remarkable 15
  16. 16. competitive advantage that generates high growth in sales and prof- its — makes the effort worth it. 16