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Inventory Optimization: A Technique for Improving Operational-Inventory Targets

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This white paper will help SAP customers understand how to gain better visibility into demand, enabling planners to modify inventory to reduce carrying costs without negatively impacting …

This white paper will help SAP customers understand how to gain better visibility into demand, enabling planners to modify inventory to reduce carrying costs without negatively impacting customer-service levels and sacrificing product availability.

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  • 1. Thought Leadership Supply Chain Management INVENTORY OPTIMIZATION A TECHNIQUE FOR IMPROVING OPERATIONAL INVENTORY TARGETS
  • 2. The stochastic multistage, multi-inventory model recognizes a simple fact: inventory targets at one location affect, and are affected by, targets at different locations. To minimize the need for excess safety stock, this model uses an efficient computational process where multiple mathematical equations are solved simultaneously to reveal optimal inventory targets.
  • 3. EXECUTIVE SUMMARY ON THE ROAD TO OPTIMIZATION For years, supply chain planners have used outdated inventory management models, resulting in supply chain inefficiencies that their companies can ill afford in today’s ultracompetitive environment. To boost efficiency, run leaner, and This paper examines how the stochas- Inventory optimization drive down the cost of supply, many tic multistage, multi-inventory model organizations are exploring inventory supports inventory optimization. It also augments existing ERP optimization – a technique for improving looks at how the SAP® Enterprise and advanced planning and operational inventory targets to Inventory Optimization application by address the realities of today’s highly SmartOps uses the model to help sup- scheduling systems, helping complex, ever-evolving global supply ply planners execute more effectively in planners improve operational chains. a highly collaborative enterprise envi- ronment that extends beyond organiza- inventory targets. tional boundaries. Overview Namplius nora notasdacto conis, C. M. Seriae publi, dem iu quem, paridii ssenat, considi ncussolum ma, C. Ivive, non ipicis. Astre fatarictui poricia cesta, que tem, Cat, virit venihil te consu se nonemni muliam maio mo us. Lutus et? Les labusu- locci prore publiisus, nostandicis crum es il vium scepec facta iam obus, nes publi- na, Catrate, conensus, omnihil ictus. Ifenti comne in auctandiem, que clere, idescid in Etrunium efauctussa nostimu spionfec venatis tervivericit C. Morit; non- ductorbi publius veropubli faucerfec tamquid ia? Namplius nora notasdacto conis, C. M. Seriae publi, dem iu quem, paridii ssenat, considi ncussolum ma, C. Ivive, non ipicis. Astre fatarictui poricia cesta, que tem, Cat, virit venihil te consu se non- emni muliam maio mo us. Lutus et? Les labusulocci prore publiisus, nostandicis crum es il vium scepec facta iam obus, nes publina, Catrate, conensus, omnihil ictus. Ifenti comne in auctandiem, que clere, idescid in Etrunium efauctussa nostimu spionfec venatis tervivericit C. Morit; nonductorbi publius veropubli faucerfec.Equismod tet vel utetum iurem nit nisl ea aut lor sustrud molutat, quat. Ut praesed magnit acipsustrud el ing eum el ipit la feum acilisi.Elit lumsandrer summodi onsequat alit.
  • 4. INVENTORY MANAGEMENT HAS CHANGED HAS YOUR APPROACH CHANGED WITH IT? Traditional approaches to inventory planning – based largely on rules of thumb rather than formal data analysis – lead to out-of-stock situations and supply inefficiencies. Traditional approaches to inventory (APS) systems, helping planners staggering number of variables, con- planning are based largely on rules improve operational inventory targets straints, and what-if scenarios, this of thumb. Planners develop a set of with item-location-period granularity for model empowers planners to manage heuristics for determining safety stock finished goods, intermediates, or raw the complexity of today’s supply levels, and these rules get handed down materials and components. The result chains. This differs from traditional from one generation to the next. Some is better visibility into demand, enabling inventory management models that organizations also use rudimentary planners to modify inventory to reduce depend on deterministic, discrete-time analysis, where items are weighted on carrying costs without negatively im- inventory theory in the following ways. an A-B-C scale with the top priority pacting customer service levels and of keeping A-level items in stock. The sacrificing product availability. This Molecular, Not Atomic assumptions made for this sort of analy- empowers organizations to improve Traditional inventory management views sis, however, are typically revisited only performance and more effectively meet the supply chain according to a single- rarely. In fast-changing environments, the terms of service-level agreements. stage, single-item model that can be this approach leads to out-of-stock situ- characterized as atomistic. This model ations and supply chain inefficiencies. The Science sees each stock item and each stage or stock location (such as a distribution The complexities and uncertainties rep- The science behind inventory optimiza- center) as isolated entities with few if resented by today’s constantly evolving tion involves stochastic (probabilistic) any meaningful dependencies. global supply chains demand a dynamic multistage, multi-inventory modeling new approach, and that’s called inven- where a sophisticated algorithm is used The multistage model, in contrast, views tory optimization. The inventory optimi- to assess vast amounts of historic and the supply chain in terms of molecules – zation approach augments existing real-time information while accounting which are made up of atoms. This re- enterprise resource planning (ERP) and for multiple variabilities and interdepen- flects the reality of today’s multistage advanced planning and scheduling dencies. By enabling the analysis of a supply chains that include suppliers, 4 SAP Thought Leadership – Inventory Optimization
  • 5. numerous manufacturing stages, sub- Variable, Not Unvarying planning functionality for understanding contractors, vendor-managed inventory, Traditional models lack the mechanisms inventory liabilities, maintaining service central warehouses, and multiple distri- to dynamically capture changing values levels, and operating according to sup- bution centers. This model recognizes or correct for time-varying errors. The plier and vendor-managed inventory a simple fact: inventory targets at one multistage model, by contrast, is flexi- business models. location affect, and are affected by, ble enough to continuously incorporate targets at other locations. To minimize the results of ongoing data analysis. Flexibility the need for excess safety stock, this This analysis helps identify forecast An inventory optimization application model uses an efficient computational errors and biases so that planners can needs to be flexible enough to accom- process where multiple mathematical correct values and modify assumptions modate different industries – such as equations are solved simultaneously to over time, thus supporting continuous consumer products, chemicals, manu- reveal optimal inventory targets. improvement and closing the loop on facturing, wholesale distribution, and inventory management. high tech. A useful feature in this Dynamic, Not Static respect would be reporting tools that To accommodate the reality of con- The Business Requirements can help validate, analyze, and improve stantly changing demand, inventory industry-specific supply chain informa- planners often cobble together sets of The purpose of the multistage model is tion regarding demand, supply, and pro- unconnected static models to ensure to help planners in real-world supply duction elements. proper levels of safety stock. In con- planning scenarios. Any application that trast, the multistage model is designed seeks to leverage the multistage model Data Input Connectivity to be nonstationary or time varying to must meet the following requirements. Better outputs require better inputs. accommodate shifting demand. Excess Thus, an inventory optimization applica- inventory from previous periods can be tion should include data connectivity used to satisfy demand in future lower- No planner knows every- modules that can work with a wide demand periods, making the model thing, and the models that range of data sources to transform and intertemporally consistent. The non- load raw data easily and automatically. stationary character of the model also planners work with should These modules should also accommo- allows organizations to model season- reflect this reality. date the supply chain network structure ality, promotions, and end-of-quarter itself, which is often the most challeng- spikes. It also accommodates the fact ing aspect of data connectivity. that uncertainty is greater when looking Enterprise Readiness farther ahead in time – something tradi- Many inventory optimization applica- Built-In Intelligence tional approaches cannot do. tions – designed as desktop tools for The ability to access data is important. offline analysis – fail to address the fact But planners also need to work with Data-Driven, Not Assumption-Based that supply planning is a collaborative that data. An inventory optimization The multistage model recognizes that activity that extends beyond enterprise application, then, must support robust organizations work only with finite his- boundaries. They are neither scalable analysis to help planners understand torical data. Traditional models, on the nor capable of automating planning pro- issues involving forecast bias and accu- other hand, start with an idealized cesses. What’s needed is an applica- racy, supplier uncertainty, schedule assumption that planners possess tion that leverages the multistage model adherence, and more. complete knowledge of demand distri- at an enterprise level. Requirements bution. No planner knows everything, include visibility across multiple ERP and the models that planners use applications and planning systems, should reflect this reality. along with support for global inventory- SAP Thought Leadership – Inventory Optimization 5
  • 6. Approval Workflow or the SAP Advanced Planning & Opti- In the end, these capabilities enable Planners need to review updated inputs mization component. In either case, it your planners to optimize inventory (such as forecasts), perform due dili- enables planners to dynamically deter- levels throughout the organization, gence, and formally approve any modi- mine optimal demand-driven, time- helping you improve customer service fied targets in order to avoid problems phased inventory targets for every item levels while minimizing working capital downstream. An inventory optimization at every location throughout your supply requirements. This makes you more application should accommodate this chain. Specifically, planners can: efficient and far more competitive. Find Out More To learn more find out more about Many inventory optimization applications – designed inventory optimization and how SAP as desktop tools for offline analysis – fail to address Enterprise Inventory Optimization can help your organization compete more the reality that supply planning is a collaborative effectively, contact your SAP represen- activity that extends beyond enterprise boundaries. tative today or visit us online at www.sap.com/solutions /solutionextensions. requirement with automated workflow • Coordinate capacity, inventory, and alerts that allow planners to man- demand, lead time, and product avail- age by exception. ability variables to gauge how much inventory should be carried by item, Continuous Improvement location, and time period Supply chains are in constant flux. This • Leverage a multistage modeling is why inventory optimization applica- approach to calculate the relationships tions need to support continuous im- among inventories, service levels, provement processes. Planners should capacity, and costs across all stocking have the ability to play out what-if sce- locations and stages – and across narios and study the ramifications of different types of supply chains within proposed actions. organizations and beyond enterprise boundaries to support supplier- and The Application vendor-managed inventory • Set and manage targets such as The SAP Enterprise Inventory Optimi- safety stocks more frequently at zation application addresses these a more granular level, supporting requirements, helping organizations lean processes strike the right balance between service • Accurately track and streamline inven- levels and inventory investment. The tory positions throughout the order-to- application can be used on a stand- cash value chain, using advanced alone basis, if desired, or as an inte- algorithms that eliminate waste and grated part of the SAP ERP application help the organization run lean 6 SAP Thought Leadership – Inventory Optimization
  • 7. 50 097 312 (09/10) ©2009 by SAP AG. All rights reserved. SAP, R/3, SAP NetWeaver, Duet, PartnerEdge, ByDesign, SAP Business ByDesign, and other SAP products and services mentioned herein as well as their respective logos are trademarks or registered trademarks of SAP AG in Germany and other countries. Business Objects and the Business Objects logo, BusinessObjects, Crystal Reports, Crystal Decisions, Web Intelligence, Xcelsius, and other Business Objects products and services mentioned herein as well as their respective logos are trademarks or registered trademarks of Business Objects S.A. in the United States and in other countries. Business Objects is an SAP company. All other product and service names mentioned are the trademarks of their respective companies. Data contained in this document serves informational purposes only. National product specifications may vary. These materials are subject to change without notice. These materials are provided by SAP AG and its affiliated companies (“SAP Group”) for informational purposes only, without representation or warranty of any kind, and SAP Group shall not be liable for errors or omissions with respect to the materials. The only warranties for SAP Group products and services are those that are set forth in the express warranty statements accompanying such products and services, if any. Nothing herein should be construed as constituting an additional warranty. www.sap.com /contactsap