Supply Chain Engineering

SUPPLY CHAIN ENGINEERING…MN 799 TEXT: SUPPLY CHAIN MANAGEMENT – Chopra and Meindl – Prentice Hall COURSE OUTLINE – Description Book pages 1/22 Introduction, curriculum, rules, exams, Infrastructure (1-27) 1/27 Strategic Fit and Scope. Supply Chain Drivers (27-51) 2/05 No Class 2/12 Demand Management (169-204) 2/19 Aggregate Planning, Managing (205-225) 2/26 Guest Lecture Network Operations (71-168) 3/04 Managing Supply and Demand (121-144) 3/11 Class trip to see Supply Chain in Operation 3/18 No Class 3/25 Mid Term 4/01 Managing Inventory(249-295); 4/08 Product Availability (297-384) 4/15 Sourcing and Procurement (387-410) 4/22 Transportation (411-219); Facility Decisions (109-133) 4/29 Beer Game 5/06 Co-ordination Information Information Technology & E-Business (477- 557) 5/13 FINAL EXAMINATION

GUIDELINES GRADING: HOMEWORK – 20% BEER GAME – 5% MID TERM – 30% FINAL – 45% HOMEWORK MUST BE COMPLETED IN TIME. LATE SUBMISSIONS WILL START WITH A ‘B’ GRADE CLASSES WILL START AT 6.00PM AND GO STRAIGHT THRU TO 8.00PM

DEFINITION OF A SUPPLY CHAIN WHAT IS A SUPPLY CHAIN? A SUPPLY CHAIN COVERS THE FLOW OF MATERIALS, INFORMATION AND CASH ACROSS THE ENTIRE ENTERPRISE SUPPLY CHAIN MANAGEMENT IS THE INTEGRATED PROCESS OF INTEGRATING, PLANNING, SOURCING, MAKING AND DELIVERING PRODUCT, FROM RAW MATERIAL TO END CUSTOMER, AND MEASURING THE RESULTS GLOBALLY TO SATISFY CUSTOMERS AND MAKE A PROFIT WHY A ‘SUPPLY CHAIN’?

Traditional View: Logistics in the Economy 1990 1996 2006 Freight Transportation $352, $455 $809 B % Freight 57% 62% Inventory Expense $221, $311 $ 446 B % Inventory 39% 33% Administrative Expense $27, $31 $ 50 B Logistics related activity 11%, 10.5%,9.9% % of GNP. Source: Cass Logistics Homework: What are 2007 statistics?

Traditional View: Logistics in the Manufacturing Firm Profit 4% Logistics Cost 21% Marketing Cost 27% Manufacturing Cost 48% Homework: What it the profile for Consumables; Pharamas and Computers Profit Logistics Cost Marketing Cost Manufacturing Cost

Supply Chain Management: The Magnitude in the Traditional View Estimated that the grocery industry could save $30 billion (10% of operating cost by using effective logistics and supply chain strategies A typical box of cereal spends 104 days from factory to sale A typical car spends 15 days from factory to dealership Compaq estimates it lost $0.5 billion to $1 billion in sales in 1995 because laptops were not available when and where needed P&G estimates it saved retail customers $65 million by collaboration resulting in a better match of supply and demand Laura Ashley turns its inventory 10 times a year, five times faster than 3 years ago

HAMBURGERS AND FRIES HAMBURGERS (4/LB) CATTLE FARM – 50c/lb BUTCHER PACKAGING DISTRIBUTION CENTER RETAILER CUSTOMER Provide Sales Price at each stage FRIES (3Large/lb) POTATO FARM 25C/lb POTATO PROCESSOR DISTRIBUTION CENTER RETAILER CUSTOMER Provide Sales Price at each stage

What problems do you foresee in this Supply Chain? Please write some down Burger and Fries Examine this process – What do you observe?

Understanding the Supply Chain … a chain is only as good as its weakest link Recall that saying? The saying applies to the principles of building a competitive infrastructure: Manufacturer Wholesaler Retailer Customer Supplier … there is a limit to the surplus or profit in a supply chain We are all part of a Supply Chain in everything we buy Strong, well-structured supply chains are critical to sustained competitive advantage.

OBJECTIVES OF A SUPPLY CHAIN MAXIMIZE OVERALL VALUE GENERATED SATISFYING CUSTOMER NEEDS AT A PROFIT VALUE STRONGLY CORRELATED TO PROFITABILITY SOURCE OF REVENUE – CUSTOMER COST GENERATED WITHIN SUPPLY CHAIN BY FLOWS OF INFORMATION, PRODUCT AND CASH FLOWS OCCUR ACROSS ALL STAGES – CUSTOMER, RETAILER, WHOLESALER, DISTRIBUTOR, MANUFACTURER AND SUPPLIER MANAGEMENT OF FLOWS KEY TO SUPPLY CHAIN SUCCESS UNDERSTAND EACH OBJECTIVE

DECISION PHASES IN A SUPPLY CHAIN OVERALL STRATEGY OF COMPANY – EFFICIENT OR RESPONSIVE SUPPLY CHAIN STRATEGY OR DESIGN ? LOCATION AND CAPACITY OF PRODUCTION AND WAREHOUSE FACILITIES? PRODUCTS TO BE MANUF, PURCHASED OR STORED BY LOCATION? MODES OF TRANSPORTATION? INFORMATION SYSTEMS TO BE USED? CONFIGURATION MUST SUPPORT OVERALL STRAGEGY SUPPLY CHAIN PLANNING? OPERATING POLICIES – MARKETS SERVED, INVENTORY HELD, SUBCONTRACTING, PROMOTIONS, …? SUPPLY CHAIN OPERATION? DECISIONS AND EXECUTION OF ORDERS?

Basic Supply Chain Architectures ( Examples ) 1. Indirect Channel 2. Direct Channel 3. Virtual Channel Supplier Supplier Supplier Supplier Supplier Supplier Supplier Supplier Customer Customer Customer Customer Customer Factory Factory Factory Wholesale Wholesale Integrator Express Freight Retailer Retailer Retailer Virtual Store Fabricator Fabricator Credit Service C 1999. William T. Walker, CFPIM, CIRM with the APICS Educational & Research Foundation. All Rights Reserved.

SOLE SOURCE SINGLE SOURCE MULTI-SOURCE INDIRECT CHANNEL DIRECT CHANNEL VIRTUAL CHANNEL MAKE vs. BUY Supply Demand Supply Chain Architecture Strategic Issues . Demand Reach . Demand Risk Cost Structure Asset Utilization Responsiveness Supply Risk LOCAL REGIONAL GLOBAL MARKET MARKET MARKET C 1999. William T. Walker, CFPIM, CIRM with the APICS Educational & Research Foundation. All Rights Reserved.

SUPPLY CHAIN FRAMEWORK AND INFRASTRUCTURE PRINCIPLE: BUILD A COMPETITIVE INFRASTRUCTURE This principle is about VELOCITY

Cycle View of Supply Chains DEFINES ROLES AND RESPONSIBILITIES OF MEMBERS OF SUPPLY CHAIN Customer Order Cycle Replenishment Cycle Manufacturing Cycle Procurement Cycle Customer Retailer Distributor Manufacturer Supplier to to to to

PROCESS VIEW OF A SUPPLY CHAIN CUSTOMER ORDER CYCLE TRIGGER: MAXIMIZE CONVERSION OF CUSTOMER ARRIVALS TO CUSTOMER ORDERS ENTRY: ENSURE ORDER QUICKLY AND ACCURATELY COMMUNICATED TO ALL SUPPLY CHAIN PROCESSES FULFILLMENT: GET CORRECT AND COMPLETE ORDERS TO CUSTOMERS BY PROMISED DUE DATES AT LOWEST COST RECEIVING: CUSTOMER GETS ORDER

PROCESS VIEW OF A SUPPLY CHAIN REPLENISHMENT CYCLE REPLENISH INVENTORIES AT RETAILER AT MINIMUM COST WHILE PROVIDING NECESSARY PRODUCT AVAILABILITY TO CUSTOMER RETAIL ORDER: TRIGGER – REPLENISHMENT POINT – BALANCE SERVICE AND INVENTORY ENTRY – ACCURATE AND QUICK TO ALL SUPPLY CHAIN FULFILLMENT – BY DISTRIBUTOR OR MFG. – ON TIME RECEIVING – BY RETAILER, UPDATE RECORDS MANUFACTURING CYCLE INCLUDES ALL PROCESSES INVOLVED IN REPLENISHING DISTRIBUTOR (RETAILER) INVENTORY, ON TIME @ OPTIMUM COST ORDER ARRIVAL PRODUCTION SCHEDULING MANUFACTURING AND SHIPPING RECEIVING

PROCESS VIEW OF A SUPPLY CHAIN PROCUREMENT CYCLE SEVERAL TIERS OF SUPPLIERS INCLUDES ALL PROCESSES INVOLVED IN ENSURING MATERIAL AVAILABLE WHEN REQUIRED SUPPLY CHAIN MACRO PROCESSES CRM – All processes focusing on interface between firm and customers ISCM – A processes internal to firm SRM – All processes focusing on interface between firm and suppliers

A Customer’s View of the Supply Chain Order the product... with configuration complexity on-line Pay for the product... in a foreign currency by credit card Service the product... anywhere in the world Take delivery... the next day at home, and get started without a hassle Ex.-Travel arrangements on line FRONT OFFICE C 1999. William T. Walker, CFPIM, CIRM with the APICS Educational & Research Foundation. All Rights Reserved.

Push/Pull View of Supply Chains PULL – PROCESSES IN RESPONSE TO A CUSTOMER ORDER PUSH – PROCESSES IN ANTICIPATION OF A CUSTOMER ORDER Procurement, Manufacturing and Replenishment cycles Customer Order Cycle Customer Order arrives PUSH PROCESSES PULL PROCESSES

UNDERSTANDING THE SUPPLY CHAIN Homework EXAMPLES: EXAMPLES OF SUPPLY CHAINS –1.5 – pp 20-25 WHAT ARE SOME OF THE KEY ISSUES IN THESE SUPPLY CHAINS ANALYSE AND COMMENT ON 7-Eleven and Amazon– ANSWER QUESTIONS 1TO 6 FOR EACH

SUPPLY CHAIN PERFORMANCE – STRATEGIC FIT AND SCOPE ( Lesson 2) New Product Development Marketing and Sales Operations Distribution Service Finance, Accounting, Information Technology, Human Resources Business Strategy New Product Strategy Marketing Strategy Supply Chain Strategy Supply and Manufacture FILM – CHAIN REACTION EXAMPLES?

ACHIEVING STRATEGIC FIT Step 1. Understanding the Customer and Demand Quantity - Lot size Response time Product variety Service level Price Innovation Implied Demand Uncertainty See Table 2.1 Regular Demand Uncertainty due to customers demand and Implied Demand Uncertainty due to uncertainty in Supply Chain

Levels of Implied Demand Uncertainty Low High Price Responsiveness Customer Need Implied Demand Uncertainty Attributes (Table 2-2) Low Implied Uncertainty High Implied Uncertainty Product Margin Low – High Aver. Forecast Error 10% 40-100%; Aver. Stockout rate 1-2% 10-40%; Aver. markdown 0% 10-25% Detergent Long lead time steel High Fashion Emergency steel

SUPPLY SOURCE UNCERTAINTY TABLE 2.3 SUPPLY UNCERTAINTY FREQUENT BREAKDOWNS UNPREDICTABLE AND/OR LOW YIELDS POOR QUALITY LIMITED SUPPLIER CAPACITY INFLEXIBLE SUPPLY CAPACITY EVOLVING PRODUCTION PROCESSES LIFE CYCLE POSITION OF PRODUCT NEW PRODUCTS HIGH UNCERTAINTY DEMAND AND SUPPLY UNCERTAINTY FIG 2.2

Step 2 - Understanding the Supply Chain: Cost-Responsiveness Efficient Frontier (Table: 2.4) High Low Low High Exercise: Give examples of products that are: Highly efficient, Somewhat efficient, Somewhat responsive and highly responsive Cost (efficient) Responsiveness Responsiveness – to Quantity, Time, Variety, Innovation, Service level Fig 2.3

Step 3. Achieving Strategic Fit Low Cost High Cost Companies try to move Zone of Strategic fit Implied uncertainty spectrum Responsive supply chain Efficient supply chain Certain demand Uncertain demand Responsiveness spectrum Zone of Strategic Fit

SCOPE Comparison of Efficient & Responsive Supply Chain Table 2.4 EFF Vs RESPON. STRATEGY for DESIGN; PRICING; MANUF; INVEN; LEAD TIME; SUPPLIER THERE IS A RIGHT SUPPLY CHAIN STRATEGY FOR A GIVEN COMPETITIVE STRATEGY (without a competitive strategy there is no right supply chain!) OTHER ISSUES AFFECTING STRATEGIC FIT MULTIPLE PRODUCTS AND CUSTOMER SEGMENTS TAILOR SC TO MEET THE NEEDS OF EACH PRODUCT’S DEMAND PRODUCT LIFE CYCLE Fig 2.8 AS DEMAND CHARACTERISTICS CHANGE, SO MUST SC STRATEGY - EXAMPLES COMPETITIVE CHANGES OVER TIME (COMPETITOR) EXPANDING STRATEGIC SCOPE INTERCOMPANY INTERFUNCTIONAL SCOPE MAXIMIZE SUPPLY CHAIN SURPLUS VIEW – EVALUATE ALL ACTIONS IN CONTEXT OF ENTIRE SUPPLY CHAIN (FIG 2.12) FLEXIBLE INTERCOMPANY INTERFUNCTIONAL SCOPE FLEXIBILITY CRITICAL AS ENVIRONMENT BECOMES DYNAMIC

Strategic Scope Suppliers Manufacturer Distributor Retailer Customer Competitive Strategy Product Dev. Strategy Supply Chain Strategy Marketing Strategy

Drivers of Supply Chain Performance TRADE OFF FOR EACH DRIVER Competitive Strategy Supply Chain Strategy Efficiency Responsiveness Inventory Transportation Facilities Information Supply chain structure Drivers

INVENTORY ‘WHAT’ OF SUPPLY CHAIN MISMATCH BETWEEN SUPPLY AND DEMAND MAJOR SOURCE OF COST HUGE IMPACT ON RESP0NSIVENESS MATERIAL FLOW TIME I = R T (I – Inventory, R – Throughput, T – Flow time) ROLE IN COMPETITIVE STRATEGY COMPONENTS CYCLE INVENTORY – AVERAGE INVENTORY BETWEEN REPLENISHMENTS SAFETY INVENTORY - TO COVER DEMAND AND SUPPLY UNCERTAINITY SEASONAL INVENTORY – COUNTERS PREDICTABLE VARIATION OVERALL TRADE OFF: RESPONSIVENESS VS EFFICIENCY

TRANSPORTATION ‘ HOW’ OF SUPPLY CHAIN LARGE IMPACT ON RESPONSIVENESS AND EFFICIENCY ROLE IN COMPETITIVE STRATEGY COMPONENTS MODE – AIR, TRUCK, RAIL, SHIP, PIPELINE, ELECTRONIC ROUTE SELECTION IN HOUSE OR OUTSOURCE OVERALL TRADE OFF: RESPONSIVENESS VS EFFICIENCY

FACILITIES ‘WHERE’ OF SUPPLY CHAIN TRANSFORMED (FACTORY) OR STORED (WAREHOUSE) ROLE IN COMPETITIVE STRATEGY COMPONENTS LOCATION - CENTRAL OR DECENTRAL CAPACITY – FLEXIBILITY VS EFFICIENCY MANUFACTURING METHODOLOGY – PRODUCT OR PROCESS FOCUS WAREHOUSING METHODOLOGY – STORAGE – SKU, JOB LOT, CROSSDOCKING OVERALL TRADE OFF: RESPONSIVENESS VS EFFICIENCY

INFORMATION AFFECTS EVERY PART OF SUPPLY CHAIN CONNECTS ALL STAGES ESSENTIAL TO OPERATION OF ALL STAGES ROLE IN COMPETITIVE STATEGY SUBSTITUTE FOR INVENTORY COMPONENTS PUSH VS PULL COORDINATION AND INFORMATION SHARING FORECASTING AND AGGREGATE PLANNING ENABLING TECHNOLOGIES EDI INTERNET ERP SCM OVERALL TRADE OFF: RESPONSIVENESS VS EFFICIENCY ?

Considerations for Supply Chain Drivers

MAJOR OBSTACLES TO ACHIEVING FIT Multiple global owners / incentives in a supply chain Information Coordination & Contractual Coordination Increasing product variety / shrinking life cycles / demanding customers/customer fragmentation Increasing demand and supply uncertainty Local optimization and lack of global fit

OBSTACLES TO ACHIEVING STRATEGIC FIT INCREASING VARIETY OF PRODUCTS DECREASING PRODUCT LIFE CYCLES INCREASINGLY DEMANDING CUSTOMERS FRAGMENTATION OF SUPPLY CHAIN OWNERSHIP GLOBALIZATION DIFFICULTY EXECUTING NEW STRATEGIES ALL INCREASE UNCERTAINTY

Dealing with Product Variety: Mass Customization Mass Customization Low High High Low Long Short Lead Time Cost Customization

Fragmentation of Markets and Product Variety Are the requirements of all market segments served identical? Are the characteristics of all products identical? Can a single supply chain structure be used for all products / customers? No! A single supply chain will fail different customers on efficiency or responsiveness or both.

HOMEWORK Page 49 – Nordstrom Answer Questions 1 to 4 Answer the above questions for Amazon.com Page 67 Answer Questions 1 to 4

REVIEW QUESTIONS WHAT IS STRATEGIC FIT? HOW IS IT ACHIEVED? COMPANY’S APPROACH TO MATCH DEMAND REQUIREMENTS AND SUPPLY POSITIONING MULTIPLE PRODUCTS AND CUSTOMER SEGMENTS PRODUCT LIFE CYCLE WHAT IS STRATEGIC SCOPE? INTERCOMPANY, INTERFUNCTIONAL EXTENSION WHAT ARE THE SUPPLY CHAIN DRIVERS. WHAT ARE THEIR ROLES AND COMPONENTS? INVENTORY; FACILITIES; TRANSPORTATION; INFORMATION OBSTACLES

Forecasting (uncertainty) Order service (certainty) Demand management Demand-Management Activities RULE: Do not forecast what you can plan, calculate, or extract from supply chain feedback. Source: Adapted from Plossl, “Getting the Most from Forecasts,” APICS 15th International Conference Proceedings , 1972 Lesson 3

DETERMINING DEMAND FORECASTING TWO TYPES – WRONG AND LUCKY TWO NUMBERS – QUANTITY AND DATE ELEMENTS of a GOOD FORECASTING SYSTEM: EQUAL CHANCE OF BEING OVER OR UNDER INCLUDES KNOWN FUTURE EVENTS HAS RANGE OR FORECAST ERROR ESTIMATE REVIEWED REGULARLY

FORECASTING GENERAL PRINCIPLES: MORE ACCURATE AT THE AGGREGATE LEVEL MORE ACCURATE FOR SHORTER PERIODS OF TIME CLOSER TO PRESENT SET OF NUMBERS TO WORK FROM, NOT TO WORK TO MOSTLY ALWAYS WRONG EXAMPLE: MONTHLY vs DAILY EXPENDITURE

FORECASTING MAIN TECHNIQUES: QUALITATIVE MANAGEMENT REVIEW DELPHI METHOD MARKET RESEARCH QUANTITIVE MOVING AVERAGE WEIGHTED MOVING AVERAGE EXPONENTIAL SMOOTHING REGRESSION ANALYSIS SEASONALILTY PYRAMID

FORECASTING QUALITATIVE USEFUL ON NEW PRODUCTS AS A SUPPLEMENT TO QUANTITATIVE NUMBERS QUANTITATIVE NEEDS HISTORICAL DATA OR PROJECTED DATA AVAILABLE CONSISTENT ACCURATE UNITS - MEASURABLE

WORK OUT JUNE’s FORECASTS FOR ALL SKU’s

Simple Moving Averages (SMA) Simple Moving Average (SMA) Where F = Forecast T = Current time period D = Demand n = Number of periods( max) Forecast Forecast Demand (3-period   4-period   start-up start-up             Exercise: Work out the SMA for two periods Question: What determines the number of periods used? Why? n D D D F 2       - - + + + =

Weighted Moving Averages Weighted Moving Average (WMA) Where: F = Forecast T = Current time period D = Demand n = Number of periods (max) W = Weight, where greatest weight applies to most recent period and sum of weights = 1 Forecast Forecast Demand    start-up start-up             Exercise: Work out forecast for two periods with weights of 0.4,0.6 What periods and weights will use for forecasting soap and fashion clothes Why?

Exponential Smoothing   Decision þ Select or compute a smoothing constant (  ) þ Relationship of exponential smoothing to simple moving average Where n = number of past periods to be captured Where F = forecast value T = current time period D = demand  = exponential factor <1 Formulas

Period Demand Forecast Forecast Forecast (  = .1) (  = .5) (  = .9) 0 180 start-up start-up start-up 1 160 180 180 180 2 220 178 170 162 3 200 182 195 214 4 260 184 198 201 5 240 192 229 254 6 196 234 241 Exponential Smoothing — Continued F T+1 = F T + a (D T – F T ) Work out forecasts with  =0.3 What  ’s will use for forecasting soap and fashion clothes Why?

Simple Trended Series — Example  Algebraic Trend Projection X Y a. Trend (“rise” over “run”) = (13 - 4)/3 = 3 = b 0 4 1 7 2 10 3 13 c. Period 4: Y = a + bX = 4 + 3 (4 [for period 4]) = 16 b. Y-intercept (a) = “compute” the Y value for X = 0, thus Y-int = 4 1 2 3 13 10 7 4 Run Rise

REGRESSION ANALYSIS Regression formula b=slope, a=intercept Slope b= Intercept and Work out this example: Year Variable Y (Passengers) 1 77 2 75 3 72 4 73 5 71 What is the regression equation? What is the forecast for Year 6?

TRENDED TIME SERIES FORECASTING Question: How do you forecast a seasonal item Y (forecast) = [A (intercept) + X (trend) x T (time period) ] x S (seasonality factor) FIRST DETERMINE LEVEL AND TREND - IF SEASONAL DESEASONALIZE THEN FORECAST USING EXPONENTIAL OR TREND RESEASONALIZE

Seasonal Series Indexing Seasonal Month Year 1 Year 2 Year 3 Total Index Jan 10 12 11 33 0.33 Feb 13 13 11 37 0.37 Mar 33 38 29 100 1.00 Apr 45 54 47 146 1.46 May 53 56 55 164 1.64 Jun 57 56 55 168 1.68 Jul 33 27 34 94 0.94 Aug 20 18 19 57 0.57 Sep 19 22 20 61 0.61 Oct 18 18 15 51 0.51 Nov 46 50 45 141 1.41 Dec 48 53 47 148 1.48 Total 395 417 388 1200 12.00 Yr 1 Yr2

Seasonal Series Indexing Sample Data — Continued FIND SEASONALITY FOR EACH PERIOD DEASONALIZE PROJECT USING EXPONENTIAL, REGRESSION ETC REASONALIZE Monthly Total (MT) Formula: Seasonal Index (SI) = Average Month (AM) 33 SI JAN = = .33 100 94 SI JUL = = .94 100 Where: 1200 AM = = 100 12

 Given Deseasonalized Seasonal Demand Forecast Index July 34 36 0.94 Aug 0.57  Rationale and Computations 1. Deseasonalize current (July) actual demand 2. Use exponential smoothing to project deseasonalized data one period ahead (  = .2) 3. Reseasonalize forecast for desired month (August) = Deseasonalized forecast  seasonal factor = 36.03  0.57 = 20.53 or 21 36.03 (36) (0.8) (36.17) (0.2) )F (1 D F T T 1 T          Integrative Example: Calculating a Forecast with Seasonal Indexes and Exponential Smoothing 34 0.94

Exercise Boler Corp has the following sales history: Quarter Year1 Year2 1 140 210 2 280 350 3 70 140 4 210 280 What seasonal index for each quarter could be used to forecast the sales of the product for Year 3? What would be a forecast for year 3 using an a=0.3 and assuming the forecast for year 2 was 1000? What would be the forecast for each quarter in this forecast?

Normal Distribution Using the Measures of Variability Source: Adapted from CPIM Inventory Management Certification Review Course ( APICS, 1998).

Standard Deviation ( sigma) F= A = Actual Error (Sales –  Error Period Forecast Sales Forecast) Squared              –      –                     –            –      

Standard Deviation — Continued Standard Deviation   About the use of n or n - 1 in the above equations n Use with a large population (> 30 observations) n - 1 Use with a small population ( < 30 observations) Standard Deviation ( ) ( )    n F A     n F  2 i i 2 i i = = - = = = - - =  

Bias and MAD Cumulative sum of error = Bias = Mean Absolute Deviation (MAD) = ( )  n   F  i i = = -   F  n   i i = = -  F = A = Actual Error  Sales – Absolute  Period Forecast Sales Forecast) Error              –      –                     –            –      

 Cumulative Sum of Error  Bias  Mean Absolute Deviation (MAD)  Standard Deviation =1.25 MAD or NOTE: About the use of n or n-1 in the above equations n Use with a large population (> 30 observations) n-1 Use with a small population ( < 30 observations) Measures of Forecast Error F ( )  - i i A ( ) n F A  i i  - n F  i  i  - ( )  n F    i  i - -  ( ) n F A  i i  - or

 Definition A confidence interval is a measure of distance, increments of which are represented by the z value  Formulas  Relationship  1 standard deviation (  ) = 1.25  MAD  In the example data  = 1.25  MAD = 1.25  160 = 200 Source: Raz and Roberts, “Statistics,” 1987 Confidence Intervals ( ) ( ) ( ) s s s z x x or x x Deviation Standard Mean Distance z n F A OR  n F A Dev Std  i i 2 i i 2 i i + = - = - = - - - =  

z            ack Expressing z Values (for +ve probabilities) Probabilit y D +1 SD +2 SD +3 SD Cumulative normal distribution from left side of distribution (x + z)                                            

Application Problem — Service Level  Given Average sales for item P is 50 units per week with a standard deviation of 4  Required What is the probability that more than 60 units will be sold? a. .006 b. .494 c. .506 d. .994

Homework Q1 - 2. A demand pattern for ten periods for a certain product was given as 127, 113, 121, 123, 117, 109, 131, 115, 127, and 118. Forecast the demand for period 11 using each of the following methods: a three-month moving average, a three-month weighted moving average using weights of 0.2, 0.3, and 0.5, exponential smoothing with a smoothing constant of 0.3, and linear regression. Compute the MAD for each method to determine which method would be preferable under the circumstances. Also calculate the bias in the data, if any, for all four methods, and explain the meaning. Q2 - The following information is presented for a product: 2001 2002 Forecast Demand Forecast Demand Quarter I 200 226 210 218 Quarter II 320 310 315 333 Quarter III 145 153 140 122 Quarter IV 230 212 240 231 a) What are the seasonal indicies that should be used for each quarter? What is the MAD for the data above?

Supply Chain Network Fundamentals William T. Walker, CFPIM, CIRM, CSCP Practitioner, Author, and Supply Chain Architect

Understanding How Supply Chains Work The Value Principle and Network Stakeholders Mapping a Supply Chain Network The Velocity and Variability Principles Locating the Push/Pull Boundary The Vocalize and Visualize Principles Summary Session Outline

Learning Objectives By teaching the principles of supply chain management to understand how a supply chain network works... We learn how to map a supply chain network. We learn how to engineer reliable network infrastructure by maximizing velocity and minimizing variability. We learn how the Bill Of Materials relates to the network. We learn how locating the push/pull boundary converts network operations from Build-To-Stock to Build-To-Order. We learn how to maximize throughput by engineering the means to vocalize demand and to visualize supply.

A SUPPLY CHAIN is the global network used to deliver products and services from raw materials to end customers through engineered flows of information, material, and cash. Contributed to the APICS Dictionary, 10th Edition by William T. Walker

Network Terminology Physical Flow Info Flow Cash Flow "Source" "Make" "Deliver" "Return" Upstream Midstream Downstream Reverse Stream Zone Zone Zone Zone Customer Value-Adding Value-Subtracting

Supplier Customer Trading Partner $ 3 M 1 M 2 M 3 $ 1 $ 2 Cash Material Material moves downstream to the customer. Cash moves upstream to the supplier. Supply Chain Network Operations

Suppliers Customers Trading Partner Shareholders Employees Value is the Perfect Order The Value Principle: Every stakeholder wins when throughput is maximized. Value is Employment Stability Value is Return In Investment Value is Continuity of Demand

The Network Rules In an effective supply chain network each trading partner works to... Maximize velocity , Minimize variability , Vocalize demand, and Visualize supply ...in order to maximize throughput providing Value for each stakeholder. However, a lack of trust often gets in the way.

The Network Trust Factor Network trust is based upon personal relationships and the perception that things are okay regarding: Network operating rules are clear Supply and demand information is shared Performance measures are agreed upon Relationship non-disclosures are kept secret Inventory investment is not a win-lose game

Bill Of Materials For Example Items: A3, B2, B5, C1, C2, C3, D1 Suppliers: S1, S2, S3, S4, S5 Item Master - Stock Keeping Unit (SKU) Number - Description - Unit Of Measure - Approved Supplier - Country Of Origin - Cost - Lead Time Product Structure - Parent To Child Relationship - Quantity Per Relationship S3 S5 S4 S2 S1 D1 A3 B5 B2 C1 C2 C3 BOM Level 0. BOM Level 1. BOM Level 2. BOM Level 3.

Supply Chain Network Map Upstream Midstream Downstream Driven by the Bill Of Materials Driven by the Delivery Channel

Start midstream and imagine finished goods sitting on a rack at the central depot. Now, use the Bill Of Materials and work upstream to reach each raw material supplier. Then, identify each different fulfillment channel used to reach the local mission. Determine which organizations are trading partners versus nominal trading partners. Logistics service providers, information service providers, and financial service providers are not part of the network map. How To Map A Network

The Velocity Principle: In network implementation throughput is maximized when order-to-delivery-to-cash velocity is maximized by minimizing process cycle time. The 5V Principles of Supply Chain Management explain how a supply chain network works by answering what, when, where, why, and how: Velocity – how are relationships connected to make the delivery?

The Network Flow Model From: William T. Walker, Supply Chain Architecture: A Blueprint for Networking the Flow of Material, Information, and Cash , CRC Press, ©2005. Supplier Customer Trading Partner Order-To-Delivery Order-To-Stock Invoice-To-Pay Invoice-To-Cash Material Material Cash Cash Info Info

Logistics Touches Every Subcycle Transportation moves material from seller to buyer In some cases orders/ invoices/ cash move by mail Warehouse issues trigger invoices Warehouse receipts trigger payments Order-To-Delivery Order-To-Stock Invoice-To-Pay Invoice-To-Cash

Import/ Export Boundaries Country A exports and Country B imports in a forward supply chain. Country B exports and Country A imports in a reverse supply chain. Import duty and export licensing add complexity to network linkages decreasing velocity and increasing variability. Country A Country B Buyer Return Seller Shipment Exports Imports Exports Imports

The Variability Principle: In network implementation throughput is maximized when order-to-delivery-to-cash variability is minimized by minimizing process variance. The 5V Principles of Supply Chain Management explain how a supply chain network works by answering what, when, where, why, and how: Variability – what is likely to change from one delivery to the next?

Outward Signs of Variability Unplanned demand Backordered inventory Inventory leakage Capacity constraints Lower than normal yields Longer than expected transit times Delays in clearing Customs Delayed payment

To Maximize Velocity Eliminate unnecessary process steps Shorten the longest serial process steps by eliminating queue time and automating steps Convert serial process steps into parallel process steps To Minimize Variability Rank order the variances Minimize the root cause of largest variance Continue with the next largest variance, etc.

Push/Pull Boundary Pull Push Order Push/Pull Boundary Forecast Demand Supply

Customer Lead Time Customer Demand Pull Push Order Build-To-Order (BTO) Push/Pull Boundary Customer Demand Pull Push Build-To-Stock (BTS) Push/Pull Boundary Order F/C F/C

Know the competitive situation; for example, if competitive products are off-the-shelf, then the push/pull boundary must be close to the customer. The push/pull boundary is a physical inventory location that bisects the entire supply chain. Order-To-Delivery Cycle Time = Order Processing and Transmission Time + Shipment Processing, Picking, and Packing Time + Transportation and Customs Clearance Time How To Locate A Push/Pull Boundary

The Vocalize Principle: In network operations throughput is maximized by pulling supply to demand by vocalizing actual demand at the network constraint. The 5V Principles of Supply Chain Management explain how a supply chain network works by answering what, when, where, why, and how: Vocalize – who knows the full requirements of the order?

Common Causes of Stockouts L Quantity Time R SS L Q Quantity Time R SS L Q Quantity Time R SS Q Demand Uncertainty Supply Uncertainty Lead Time Variability (LT = Cycle Time + Transit Time)

The Planning Interface Pull To Demand Push From Forecast Sales & Operations Plan Master Schedule Downstream The Supply Chain Network Push Zone Pull Zone Push/Pull Boundary I MRP Materials Requirements CRP Capacity Requirements I Upstream C C Capable Network Preload Inventory Throughput

Push Inventory And Capacity Ending Inventory = Starting Inventory - Forecasted Demand + Production When actual demand exceeds forecasted demand, either capacity or inventory can constrain production causing lead time to expand. I Throughput Push Zone Forecast Safety Safety C

I Throughput Pull Zone Order C Pull Inventory And Capacity Max Max Ending Inventory = Starting Inventory - Actual Demand + Production Throughput is limited to the smaller of limited inventory or limited capacity.

The Visualize Principle: In network operations throughput is maximized by pushing supply to demand by visualizing actual inventory supply across the network. The 5V Principles of Supply Chain Management explain how a supply chain network works by answering what, when, where, why, and how: Visualize – where is the inventory now and when will it be available?

Packaging And Labeling [ ] Transportation and warehousing costs are a function of cubic dimensions and weight. [ ] Items that have to be repalletized for transport or storage cost more. [ ] Cartons, plastic cushions, and labels may be missing from the product BOM. [ ] RFID/ bar code on all packaging. [ ] Select a wall thickness and box burst strength to protect the product. [ ] Keep Country Of Origin labeling consistent from the product to the outside packaging. Cartons Master Carton Unit Load

Apply Technology To Visualize Bar Code and 2D Bar Code Point Of Use Laser Scanners Radio Frequency Identification (RFID) Global Positioning by Satellite (GPS) Wireless Communication

Measuring Network Inventory 1. Look for leakages between upstream issues and downstream receipts. 2. Look for inventory balance discrepancies at each trading partner. 3. Look for process yield issues within each trading partner. Upstream Issues = Downstream Receipts Ending Inventory = Starting Inventory + Receipts – Issues Complete Products Reflect BOM Part Proportions

To Vocalize Be precise about units and configurations Acknowledge and handshake all information Don't skip any link holding inventory in the chain Measure throughput rather than production Measure the network capacity constraint Measure total network inventory To Visualize

Suppliers Customers Trading Partner Employees We win! Shareholders Work the 5V Principles to maximize throughput. In Summary I win! I win! We win!

AGGREGRATE PLANNING (Chap8) Lesson 5 PROCESS OF DETERMINING LEVELS OF PRODUCTION RATE WORKFORCE OVERTIME MACHINE CAPACITY SUBCONTRACTING BACKLOG INVENTORY GIVEN DEMAND FORECAST – DETERMINE PRODUCTION, INVENTORY/BACKLOG AND CAPACITY LEVEL FOR EACH PERIOD FUNDAMENTAL TRADE-OFFS CAPACITY(REGULAR TIME, OVERTIME, SUBCONTRACING)/COST INVENTORY/SERVICE LEVEL BACKLOG/LOST SALES

AGGREGRATE PLANNING STRATEGIES STRATEGIES - SYNCHRONIZING PRODUCTION WITH DEMAND CHASE- USING CAPACITY AS THE LEVER BY VARYING MACHINE OR WORKFORCE (numbers or flexibility) DIFFICULT TO IMPLEMENT AND EXPENSIVE. LOW LEVELS OF INVENTORY TIME FLEXIBILITY – UTILIZATION AS THE LEVER IF EXCESS MACHINE CAPACITY, VARYING HOURS WORKED (workforce stable, hours vary) LOW INVENTORY AND LOWER UTILISATION THAN CHASE USEFUL WHEN INVENTORY COST HIGH AND CAPACITY CHEAP LEVEL – USING INVENTORY AS THE LEVER STABLE WORKFORCE AND CAPACITY LARGE INVENTORIES AND BACKLOGS MOST PRACTICAL AND POPULAR

SOP FORMAT PRODUCTION PLAN = SALES + END INV – BEGIN INV PRODUCTION PER MONTH = PRODUCTION PLAN NUMBER OF PERIODS PRODUCTION PLAN = SALES – END BACKLOG + BEGIN BACKLOG PERIOD INVENTORY/ BACKLOG PRODUCTION SALES 6 5 4 3 2 1

Sales and Operations Planning Strategies

Production Rates and Levels Application 1 — Make-to-Stock Table Format (Inventory) Period 0 1 2 3 4 Forecast 150 150 150 150 Production plan Inventory 200 100 FOR A LEVEL STRATEGY, WORK OUT THE PRODUCTION PLAN AND INVENTORY BY PERIOD PRODUCTION = SALES + END INV – BEGIN INV

Production Rates and Levels Application 2 — Make-to-Order Table Format (Backlog) Period 0 1 2 3 4 Forecast 150 150 150 150 Production plan Backlog 200 100 FOR A LEVEL STRATEGY WORK OUT THE PRODUCTION PLAN AND BACKLOG BY PERIOD PRODUCTION = SALES + BEGIN BL - END BL

OPTIMIZATION THRU LINEAR PROGRAMMING AGGREGATE PLANNING MODEL – RED TOMATO Pp 210 (105) MAXIMIZING HIGHEST PROFIT OVER TIME PERIOD DETERMINE DECISION VARIABLES PP212(107) OBJECTIVE FUNCTION – MINIMIZE TOTAL COST DEVELOP EQUATIONS FOR ALL THE COST ELEMENTS- Eq 5/8.1 CONSTRAINTS EQUATIONS WORKFORCE CAPACITY INVENTORY OVERTIME OPTIMIZE OBJECTIVE FUNCTION FORECAST ERROR SAFETY INVENTORY SAFETY CAPACITY

Aggregate Planning (Define Decision Variables) W t = Workforce size for month t , t = 1, ..., 6 H t = Number of employees hired at the beginning of month t , t = 1, ..., 6 L t = Number of employees laid off at the beginning of month t , t = 1, ..., 6 P t = Production in month t , t = 1, ..., 6 I t = Inventory at the end of month t , t = 1, ..., 6 S t = Number of units stocked out at the end of month t , t = 1, ..., 6 C t = Number of units subcontracted for month t , t = 1, ..., 6 O t = Number of overtime hours worked in month t , t = 1, ..., 6 Excel File

Aggregate Planning 8.2 DEMAND Table 8.1 (5.1)

Aggregate Planning (Define Objective Function) Monthly

Aggregate Planning (Define Constraints Linking Variables) Workforce size for each month is based on hiring and layoffs

Aggregate Planning (Constraints) Production for each month cannot exceed capacity

Aggregate Planning (Constraints) Inventory balance for each month

Aggregate Planning (Constraints) Over time for each month

SOLVING PROBLEM USING EXCEL STEP 1 BUILD DECISION VARIABLE TABLE (fig8.1) ALL CELLS 0, EXCEPT PERIOD 0 FOR WORKFORCE AND INVENTORY ENTER DEMAND (TABLE 8.4) STEP 2 CONSTRUCT CONSTRAINT TABLE (fig8.2) STEP 3 CREATE a CELL HAVING THE OBJECTIVE FUNCTION (Formula 8.1) Optimizing TOTAL COSTS (Fig 8.3) STEP 4 USE TOOLS SOLVER (Fig 8.4) REPEAT IF OPTIMUM SOLUTION NOT OBTAINED HOMEWORK (see homework)

AGGREGATE PLANNING IN PRACTICE MAKE PLANS FLEXIBLE BECAUSE FORECASTS ARE ALWAYS WRONG PERFORM SENSITIVITY ANALYSIS ON THE INPUTS – I.E. LOOK AT EFFECTS OF HIGH/LOW RERUN THE AGGREGATE PLAN AS NEW DATA EMERGES USE AGGREGATE PLANNING AS CAPACITY UTILIZATION INCREASES WHEN UTILIZATION IS HIGH, THERE IS LIKELY TO BE CAPACITY LIMITATIONS AND ALL THE ORDERS WILL NOT BE PRODUCED

Process Flow Measures FLOW RATE (R t ), CYCLE TIME (T t ), & INVENTORY (I t ) RELATIONSHIPS F = Flow Rate or Throughput is output of a line in pieces per time T = Cycle time is the time taken to complete an operation I = Inventory is the material on the line LITTLE’s LAW: Av. I = Av. R x Av. T x Variability factor Examples: If Inventory is 100 pieces and Cycle time is 10 hours, the Throughput rate is 10 pcs per hour If Cycle time is halved; Throughput is doubled If Inventory is halved; cycle time is halved See Equation 8.6 How do we get Av Inv of 895 and Flow time of 0.34 months on page 227/216

Homework Ex . Work out Inventory, Rate and cycle time for values in Tables 8.4,8.5

Supply Chain Network Basics – Lesson 4 Guest Lecture – go to Poly Blackboard

MANAGING SUPPLY AND DEMAND PREDICTABLE VARIABILITY ( LESSON 6 ) Predictable Variability – Change in Demand that can be forecast or guided MANAGING DEMAND – Short time price discounts, trade promotions MANAGING SUPPLY – Capacity, Inventory, Subcontracting & Backlog, Purchased product MANAGING CAPACITY TIME FLEXIBILITY FROM WORKFORCE (OVERTIME) USE OF SEASONAL WORKFORCE USE OF SUBCONTRACTING USE OF DUAL FACILITIES – DEDICATED AND FLEXIBLE DESIGN PRODUCT FLEXIBILITY INTO PRODUCTION USE OF MULTI-PURPOSE MACHINES (CNC MACHINE CENTERS) MANAGING INVENTORY USING COMMON COMPONENTS ACROSS MULTIPLE PRODUCTS BUILD INVENTORY OF HIGH DEMAND OR PREDICTABLE DEMAND PRODUCTS

MANAGING DEMAND (Predictable Variability) Manage demand with pricing Factors influencing the timing of a promotion: Impact on demand; product margins; cost of holding inventory; cost of changing capacity Demand increase (from discounting) due to: Market growth Stealing market share Forward buying Discount of $1 increases period demand by 10% Reduce price by $1 in Jan, increases sales by 10% in first month - Tab 9.4, 9.5 – effect on cost, profit, inventory If discount is in April, highest demand month - Tab 9.6, 9.7 See the effects of various combination Tab 9-12 Summary Tab 9.12 & 9.13 Discuss

PREDICTABLE VARIABILITY IN PRACTICE COORDINATE MARKETING, SALES AND OPERATIONS SALES AND OPERATIONS PLANNING ONE GOAL MAXIMIZING PROFIT, ONE GAME PLAN TAKE PREDICABLE VARIABILITY INTO ACCOUNT WHEN MAKING STRATEGIC DECISIONS PARTNER WITH PRINCIPAL CUSTOMERS, ELIMINATE PREDICTIONS! PREEMPT (PROMOS ETC.), DO NOT JUST REACT TO PREDICTABLE VARIABILITY

MANUFACTURING - MANAGING LEAD TIME CRITICAL DRIVER OF ALL MANUFACTURE LAYOUT AND WORKPLACE ORGANIZATION CONSTRAINT MANAGEMENT VARIABILITY AND QUEUES LOT SIZES AND SET UP REDUCTION WORK IN PROCESS FLEXIBILITY MUST BE COMPANY FOCUS MEASURED AND MONITORED X BUTT TO BUTT

MANAGING INVENTORY The role of inventory in the supply chain Cycle Inventory (making or purchasing inventory in large lots) takes advantage of economies of scale to lower total cost – material cost, fixed ordering cost and holding cost. Why hold inventory? Economies of scale Batch size and cycle time Quantity discounts Short term discounts / Trade promotions Stochastic variability of supply and demand Evaluating service level given safety inventory Evaluating safety inventory given desired service level Levers to improve performance

Role of Inventory in the Supply Chain Overstocking: Amount available exceeds demand Liquidation, Obsolescence, Holding Understocking: Demand exceeds amount available Lost margin and future sales Goal: Matching supply and demand

ROLE OF CYCLE INVENTORY (10.1) Q – lot or batch size of an order D – Demand When demand steady : Cycle Inven = lot size/2 = Q/2 Saw tooth diagram Average flow time = cycle inven / demand = Q/2D C – material cost S – fixed ordering cost H – holding cost h – cost of holding $1 in inventory for one year H = hC cost of holding one piece for one year

Cycle Inventory related costs in Practice Inventory holding costs – usually expressed as a % per $ per year Cost of capital (Opportunity cost of capital) Obsolescence or spoilage cost Handling cost Occupancy cost (space cost) Miscellaneous costs (security, insurance) Order costs (same as set up costs in a machining environment) Buyer time Transportation costs Receiving costs Other costs Cycle Inventory exists in a supply chain because different stages exploit economies of scale to lower total cost – material cost, fixed ordering cost and holding cost

Fixed costs: Optimal Lot Size and Reorder Interval (EOQ) C: Cost per unit ($C/unit) h: Holding cost per year as a fraction of product cost ($%/unit/Year) H: Holding cost per unit per year Q: Lot Size D: Annual demand S: Setup or Order Cost Annual order cost = (D/Q)S Annual inventory cost = (Q/2)hC Optimum Q =  2DS/hC T: Reorder interval (Q/D) # orders/yr = D/Q = Optimal order freq Total Annual Cost = CD+(D/Q)S+(Q/2)hC See Fig 10-2 Showing effects of Lot Size

Example 10.1 Demand, D = 12,000 computers per year Unit cost, C = $500 Holding cost, h = 0.2 Fixed cost, S = $4,000/order What is the order quantity Q, the flow time, the reorder interval and Total cost? Q = 980 computers Cycle inventory = Q/2 = 490 Flow time = Q/2D = 0.049 month Reorder interval, T = 0.98 month Total Cost = 49,000 + 49,000 + 6,000,000 = $6,098,000

EXPLOITING ECONOMIES OF SCALE SINGLE LOT SIZE OF SINGLE PRODUCT (EOQ) = Q ANNUAL MATERIAL COST = CD NO. OF ORDERS PER YEAR = D/Q ANNUAL ORDER COST = (D/Q)*S ANNUAL HOLDING COST = (Q/2)H = (Q/2)hC TOTAL ANNUAL COST (TC) = CR+(D/Q)*S+(Q/2)hC Optimal lot size Q* =  2DS/hC Optimal ordering frequency = n* = D/Q* =  DhC/2S Key Point : Total Ordering and Holding costs are relatively stable around the EOQ and a convenient lot size around the EOQ is OK (rather than a precise EOQ) Key Point : If demand increases by a factor of k, the optimal lot size and no of orders increases by a factor of  k. Flow time decreases by a factor of  k Key point: To reduce Q by a factor of k, fixed cost S must be reduced by a factor of k 2

Reducing Lot Size - Aggregating Exercise: To reduce Q from 980 to 200, how much must order cost be reduced Key point: To reduce Q by a factor of k, fixed cost S must be reduced by a factor of k 2

LOT SIZING WITH MULTIPLE PRODUCTS & CUSTOMERS Lot sizing with Multiple Product or Customers Aggregating replenishment across products, retailers or suppliers in a single order, allows for a reduction in lot sizes because fixed costs spread across multiple products and businesses Ordering and delivering independently (See Ex.10.3) Each order has independent Holding, Ordering and Annual costs with independent EOQ’s and Flow Times – Table 10-1 Total cost = $155,140 Total cost Ordered and delivered jointly (See Ex.10.4) Independent holding costs but combined fixed order cost Table 10-2 Total Cost = $136,528 Transportation capacity constraint – aggregating multiple products from same supplier; single delivery from multiple suppliers (Ex. 10-5) Key Point –The key to reducing cycle inventory is reducing lot size. The key to reducing lot size without increasing costs is to reduce fixed costs associated with each lot – by reducing the fixed cost itself or aggregating lots across multiple products, customers or suppliers. We reduce lot size to reduce cycle time

Impact of product specific order cost Tailored aggregation – Higher volume products ordered more frequently and lower volume products ordered less frequently (rather than ordered and delivered jointly) 10-6 Summary

Delivery Options No Aggregation: Each product ordered separately Complete Aggregation: All products delivered on each truck Tailored Aggregation: Selected subsets of products on each truck

Economies of Scale to exploit Quantity Discounts Two common Lot Size based discount schemes All unit quantity discounts Pricing based on specific quantity break points Marginal unit quantity discounts or multiblock tariffs Pricing based on quantity break points, but the price is not the average per block, but the marginal cost of a unit that decreases at breakpoint See example in book on these discounts pages 276-280

WHY QUANTITY DISCOUNTS Improved coordination to increase total supply chain profits Commodity Products = price set by market. Large Manufacturers should use lot based quantity discounts, to maximize profits (cycle inventory will increase) The supply chain profit is lower if each stage makes pricing decisions independently, maximizing its own profit Coordination to maximize profit Two part tariff or quantity discounts – supplier passes on some of the profit to the retailer, depending on volume Extraction of surplus through price discrimination Trade Promotions Lead to significant forward buying by the retailer Retailer should pass on optimal discount to customer and keep rest for themselves

Quantity Discounts Discounts improve coordination between Supplier and Retailer to maximize Supply Chain profits. Quantity Discounts are a form of manufacturer returning some reduced costs (less orders) to the retailer (costs increase as more holding costs) Supply chain profit is lower, if each stage of supply chain independently makes its pricing decisions with the objective of maximizing its own profit. A coordinated solution results in higher profit For products that have market power, two-part tariffs or volume based quantity discounts can be used to achieve coordination in the supply chain and maximize profits Promotions lead to significant increase in lot size and cycle inventory, because of forward buying by the retailer. This generally reduces the supply chain profits 280-281

Strategies for reducing fixed costs Wal-Mart: 3 day replenishment cycle Seven Eleven Japan: Multiple daily replenishment P&G: Mixed truck loads Efforts required in: Transportation (Cross docking) Information Receiving Aggregate across products, supply points, or delivery points in a single order, allows reduction of lot size for individual products Ex 10.6

ESTIMATING CYCLE INVENTORY COSTS HOLDING COSTS Cost of capital Obsolescence or spoilage costs Handling costs Occupancy cost Miscellaneous Order Cost Buyer time Transportation costs Receiving costs Other costs

Lessons From Aggregation Key to reducing cycle inventory is reducing lot size. Key to reducing lot size without increasing costs is to reduce the fixed cost itself by aggregation (across multiple products, customers or suppliers) Aggregation allows firm to lower lot size without increasing cost Complete aggregation is effective if product specific fixed cost is a small fraction of joint fixed cost Tailored aggregation is effective if product specific fixed cost is large fraction of joint fixed cost

Lessons From Discounting Schemes Lot size based discounts increase lot size and cycle inventory in the supply chain The supply chain profit is lower if each stage independently makes pricing decisions with the objective of maximizing its own profit. Coordinated solution results in higher profit Lot size based discounts are justified to achieve coordination for commodity products – competitive market and price fixed by market Volume based discounts with some fixed cost passed on to retailer are more effective in general Volume based discounts are better over rolling horizon

Levers to Reduce Lot Sizes Without Hurting Costs Cycle Inventory Reduction Reduce transfer and production lot sizes Aggregate fixed cost across multiple products, supply points, or delivery points Are quantity discounts consistent with manufacturing and logistics operations? Volume discounts on rolling horizon Two-part tariff – volume based discount in stages Are trade promotions essential? EDLP (Every day low pricing) Base on sell-thru (customers) rather than sell-in (retailers) HOMEWORK EXERCISES 1 AND 2 Pp291/297

Discussions on Site Visit Macy’s Distribution Center (DC) In teams please answer the following: What is the size of the operation What strategy do they adopt and why What are the key competitive practices How do they deal with each of the Supply Chain Drivers Measurements used for efficiency? How can they improve their operations?

Mid Term Show your calculations Do not get stuck on any question Strategy applications and implications 15 Demand Management 20 Aggregate Demand 20 Cycle Inventory 20 Supply Chain Networks 25

Role of Inventory in the Supply Chain ( LESSON 7) Cost Availability Efficiency Responsiveness

WHY HOLD SAFETY INVENTORY? (SAFETY STOCK) DEMAND UNCERTAINTY SUPPLY UNCERTAINTY TODAY’S ENVIRONMENT INTERNET MAKES SEARCH EASIER PRODUCT VARIETY GROWN WITH CUSTOMIZATION EASE AND VARIETY PUTS PRESSURE ON PRODUCT AVAILABILITY PUSH UP LEVELS OF INVENTORY / SAFETY STOCK KEY QUESTIONS APPROPRIATE LEVEL OF SAFETY STOCK WHAT ACTIONS IMPROVE AVAILABILITY AND REDUCE SAFETY STOCK? Measures of product availability Product fill rate ( fr ) Order fill rate Cycle service level (CSL) - THIS COURSE WILL DEAL mainly WITH CSL

APPROPRIATE LEVEL OF SAFETY STOCK DEPENDS ON: UNCERTAINTY OF DEMAND OR SUPPLY REPLENISHMENT LEAD TIME & DESIRED SERVICE LEVEL CSL – Cycle service level -CSL is the fraction of replenishment cycles that end with all the customer demand being met. A replenishment cycle is the interval between two successive replenishment deliveries Time Inventory Cycle Inventory Q/2 Safety Stock Demand during Lead time ROP Lot Size = Q SS = ROP - DL

Replenishment policies Replenishment policies When to reorder? How much to reorder? Continuous Review : Order fixed quantity when total inventory drops below Reorder Point (ROP) Periodic Review : Order at fixed time intervals to raise total inventory to Order up to Level (OUL) Factors driving safety inventory Demand and/or Supply uncertainty Desired level of product availability Replenishment lead time Demand Uncertainty– Av.Demand; Stnd Devn; Lead Time

Continuous Review Policy: Safety Inventory and Cycle Demand Uncertainty & Service Level L : Lead time for replenishment D: Average demand per unit time  D :Standard deviation of demand per period D L : Mean demand during lead time  L : Standard deviation of demand during lead time CSL : Cycle service level – Probability of not stocking out in replenishment cycle SS: Safety inventory ROP : Reorder point Cv: Coefficient of variance Average Inventory = Q/2 + SS SS = ROP - RL

FORMULAS USED FOR CALCULATING SERVICE LEVELS

Example 11.1&2, 11.4 (Continuous Review Policy) = 8.xx New book 11.1 : R = 2,500 /week;  R = 500 L = 2 weeks; Q = 10,000; ROP = 6,000 CSL = 90% SS = ROP - D L = Average Inventory = Average Flow Time = 11.2: Evaluating CSL given a replenishment policy CSL = Prob (demand during lead time <= ROP) Distribution of demand during lead time of 2 weeks Cycle service level, CSL = F( R L + ss, R L ,  L ) = F( ROP , R L ,  L ) Excel: NORMDIST ( ROP , R L ,  L ,1) X 1 = Xbar + Z  L or ROP = R L + Z  L Calculate the % z represents. Calculate Safety Stock for above Z Chart

Examples of Safety Stock Calculations Weekly demand for Lego at Wal Mart is normally distributed with a mean of 2500 boxes and a standard deviation of 500. The replenishment lead time is 2 weeks. Assuming a continuous replenishment policy, evaluate the safety inventory that the store should carry to achieve a cycle service of 90 percent

Factors Affecting Fill Rate Fill Rate: Proportion of customer demand that is satisfied from Inventory. Directly related to CSL Safety inventory : Safety inventory is increased by: Increasing fill rate (Table 11-1) Increasing CSL Increasing supplier lead time by factor k – SS increases by factor of SQRT k Increasing standard deviation of demand by factor k – SS increases by factor of k Lot size : Fill rate increases on increasing the lot size even though cycle service level does not change. Actions: 1. Reduce supplier Lead Time L 2. Reduce underlying uncertainty of demand  R

Evaluating Safety Inventory Given Fill Rate Required safety stock grows rapidly with increase in the desired Product availability The required SS grows rapidily with increase in desired Fill Rate The required SS increases with increase in Lead time and the σ of demand

Impact of Supply Uncertainty Considering variation in Demand and in Replenishment Lead time (Ex 11.6) D : Average demand per period  D : Standard deviation of demand per period L : Average lead time for replenishment  s L : Standard deviation of supply lead time Standard Deviation of demand during lead time Mean demand during lead time

Impact of Supply Uncertainty ( ( See Ex. 11.6 & Table 11.2) Ex.11.6: R = 2,500/day;  R = 500; L = 7 days; Q = 10,000; CSL = 0.90 (z=1.29); s L = Standard Deviation of lead time=7days What is S.S? Large potential benefits of reducing Lead time or lead time variability in reduction of Safety stock SS units SS (d) Stnd Dev(  L ) Safety inventory when s L = 0 1,695 0.68 1,323 Safety inventory when s L = 1 3,625 1.45 2,828 Safety inventory when s L = 2 6,628 2.65 5,172 Safety inventory when s L = 3 9,760 3.90 7,616 Safety inventory when s L = 4 12,927 5.17 10,087 Safety inventory when s L = 5 16,109 6.44 12,750 Safety inventory when s L = 6 19,298 7.72 16,109 Safety inventory when s L = 7 is 22,491 8.99 17,550

Basic Quick Response Initiatives Reduce information uncertainty in demand Reduce replenishment lead time Reduce supply uncertainty or replenishment lead time uncertainty Increase reorder frequency or go to continuous review

Factors Affecting Value of Aggregation DEMAND CORRELATION – AS CORRELATION INCREASES, THE SS BENEFIT OF AGGREGRATION DECREASES IF THERE IS LITTLE CORRELATION BETWEEN DEMAND, AGGREGRATION REDUCES STND. DEVN. OF DEMAND AND HENCE SAFETY STOCK (see ex. 11.7, Table 11.3) Coefficient Of Variation = Stnd Devn/Mean (uncertainty relative to size of demand) p=0 No Correlation THE HIGHER THE COEFFICIENT OF VARIATION OF AN ITEM, THE GREATER THE REDUCTION IN SAFETY STOCK AS A RESULT OF CENTRALIZATION (LOW COEFFICIENT OF VARIATION ALLOW ACCURATE FORECASTING AND DECENTRALIZED STOCKING) REDUCING SUPPLY VARIATION REDUCES SAFETY STOCK WITHOUT REDUCING CSL VALUE OF A PRODUCT DIRECTLY DETERMINES THE SAFETY STOCK LEVEL

IMPACT OF AGGREGRATION ON SAFETY STOCK HOW TO REDUCE SS WITHOUT REDUCING CSL? AGGREGRATION REDUCES STANDARD DEVIATION OF DEMAND, ONLY IF DEMAND ACROSS AREAS IS NOT CORRELATED, THAT IS EACH AREA IS INDEPENDENT See Table 11.4 p323 AGGREGRATION REDUCES SS BY THE SQRT OF NUMBER OF AREAS AGGREGRATED (REDUCING NUMBER OF STOCKING LOCATIONS)– SQUARE ROOT LAW (Ex. AMAZON) See Fig 11.4 INFORMATION CENTRALIZATION – ORDERS FILLED FROM WAREHOUSE CLOSEST TO CUSTOMER SPECIALIZATION BY LOCATION LOW DEMAND, SLOW MOVING ITEMS: CENTRALIZED – HIGH COEFFICIENT OF VARIATION HIGH DEMAND, FAST MOVING ITEMS: DECENTRALIZED – LOW COEFFICIENT OF VARIATION Centralization Disadvantage: Increase in Response time; Increase in Transport costs

IMPACT OF AGGREGRATION ON SAFETY STOCK HOW TO REDUCE SS WITHOUT REDUCING CSL? PRODUCT SUBSTITUTION MANUFACTURER DRIVEN – AGGREGATE DEMAND & REDUCE SS; IF PRODUCTS STRONGLY CORRELATED, LESS VALUE IN SUBSTITUTION CUSTOMER DRIVEN – TWO WAY SUBSTITUTION – ALLOWS REDUCTION IN SS WHILE MAINTAINING HIGH PRODUCT AVAILABILITY GREATER THE VARIABILITY AND LESS THE CORRELATION OF DEMAND, THE GREATER THE BENEFIT IN SUBSTITUTION COMPONENT COMMONALITY (TABLE 11.5) WITHOUT COMMONALITY, UNCERTAINTY OF DEMAND FOR COMPONENTS SAME AS THAT FOR PRODUCT (SEE Ex. 11.9) POSTPONMENT DELAY DIFFERENTIATION OR CUSTOMIZATION AS CLOSE TO SALE TIME AS POSSIBLE COMMON COMPONENTS IN PUSH PHASE POWERFUL CONCEPT FOR E-COMMERCE

Example 11.9: Value of Component Commonality Y Axis – SS Quantity; X Axis – No. of common components Without component commonality and postponment, product differentiation Occurs early in the Supply Chain and inventories are disaggregate

ESTIMATING AND MANAGING SS IN PRACTICE ACCOUNT FOR LUMPY SUPPLY CHAIN DEMAND CAUSED BY LARGE LOT SIZES & ADDS TO VARIABILITY EMPIRICALLY – RAISING SS BY HALF LOT SIZE ADJUST INVENTORY POLICY IF DEMAND SEASONAL CHANGE BOTH MEAN AND STND DEVN USE SIMULATION TO TEST INVENTORY POLICIES EXCEL START WITH A PILOT MONITOR SERVICE LEVELS FOCUS ON REDUCING SAFETY STOCK PERIODIC REVIEW REPLENISHMENT REQUIRES MORE SAFETY STOCK THAN CONTINUOUS REVIEW POLICIES

Mass Customization I: Customize Services Around Standardized Products Deliver customized services as well as standardized products and services Market customized services with standardized products or services Continue producing standardized products or services Continue developing standardized products or services Source: B. Joseph Pine DEVELOPMENT PRODUCTION MARKETING DELIVERY

Mass Customization II: Create Customizable Products and Services Deliver standard (but customizable) products or services Market customizable products or services Produce standard (but customizable) products or services Develop customizable products or services DEVELOPMENT PRODUCTION MARKETING DELIVERY

Mass Customization III: Provide Quick Response Throughout Value Chain Reduce Delivery Cycle Times Reduce selection and order processing cycle times Reduce Production cycle time Reduce development cycle time DEVELOPMENT PRODUCTION MARKETING DELIVERY

Mass Customization IV: Provide Point of Delivery Customization Deliver standardize portion Market customized products or services Produce standardized portion centrally Develop products where point of delivery customization is feasible Point of delivery customization  ens Warehouse and Restaurants DEVELOPMENT PRODUCTION MARKETING DELIVERY

Mass Customization V: Modularize Components to Customize End Products Deliver customized product Market customized products or services Produce modularized components Develop modularized products  utos DEVELOPMENT PRODUCTION MARKETING DELIVERY

Types of Modularity for Mass Customization Component Sharing Modularity Cut-to-Fit Modularity Bus Modularity Mix Modularity Sectional Modularity

Example of Point of Service Replenishment Safety Stock and Re-order point management in Toyota Another advantage of Toyota’s new system is that safety stock criteria can be adjusted according to seasonal requirements. Previously, the company had no ability to recognize the seasonality of items such as wiper blades. It worked from one forecast model — a simple moving average — that didn’t allow for fine-tuning or sudden shifts in consumer taste. Reorder points were recalculated just once a month. To support the new system, Toyota implemented Exam Inventory, a solution made by Entity Software in Epson, U.K. Exam is an inventory management program that runs on a PC and is fed raw data directly from a computer. As a result, Toyota (GB) was able to fully customize the package to its needs with minimal impact on the company’s larger computers. The software allows for more sophisticated forecasting and more accurate calculation of reorder points (ROPs), while keeping safety stocks low. Toyota now has moved to weekly ROP calculations and hopes eventually to carry out that function on a daily basis when the technology permits, Results of the program so far include an improvement in Toyota’s service level from 94 percent to 96 percent, reduction in the number of manual order changes from 3,000 a day to 50, and reduction in run times from 12 to 3.5 hours.

Cautions in Implementing Postponement and Modularity End products must look suitably different to the consumer Design and production costs can only be justified over a family of products Performance and cost of a product can be optimized by eliminating modularity. Do a small set of products provide most of the sales?

Summary of Learning Objectives Reduce Buffer Inventory Economies of Scale Supply / Demand Variability Seasonal Variability Cycle Inventory Safety Inventory Seasonal Inventory Match Supply & Demand Reduce fixed cost Aggregate across products Volume discounts EDLP Promotion on Sell thru Quick Response measures Reduce Info Uncertainty Reduce lead time Reduce supply uncertaint Accurate Response measures Aggregation Component commonalit and postponement

HOMEWORK Page 336 Q4 and Q5 Provide actual examples of the five types of customization

OPTIMUM LEVEL OF PRODUCT AVAILABILITY Exercise: Swimsuit Production Lesson 8 Fashion items have short life cycles, high variety of competitors SnowTime Sporting Goods New designs are completed One production opportunity Based on past sales, knowledge of the industry, and economic conditions, the marketing department has a probabilistic forecast The forecast averages about 13,000, but there is a chance that demand will be greater or less than this Production cost per unit (C): $80 Selling price per unit (S): $125 Salvage value per unit (V): $20 Fixed production cost (F): $100,000 Q is production quantity, D demand Profit = Revenue - Variable Cost - Fixed Cost + Salvage

Demand Distribution      

Exercise Scenario One: Suppose you make 12,000 jackets and demand ends up being 13,000 jackets. Profit = 125(12,000) - 80(12,000) - 100,000 = $440,000 Scenario Two: Suppose you make 12,000 jackets and demand ends up being 11,000 jackets. Profit = 125(11,000) - 80(12,000) - 100,000 + 20(1000) = $ 335,000 Find order quantity that maximizes weighted average profit. Average demand is 13,100 (work out – Σ p.D) Question: Will this quantity be less than, equal to, or greater than average demand? Look at marginal cost Vs. marginal profit if extra jacket sold, profit is 125-80 = 45 if not sold, cost is 80-20 = 60 So we will make less than average

OPTIMAL LEVEL OF PRODUCT AVAILABILITY FACTORS AFFECTING OPTIMAL PRODUCT AVAILABILITY COST OF OVERSTOCKING Co PROFIT FROM SALES INVENTORY HOLDING COSTS OBSELESCENCE – SALVAGE COSTS COST OF UNDERSTOCKING Cu LOST SALES LOST CUSTOMERS EXAMPLE OF L.L.BEAN (Table 12.1) For all references New Book 12.xx

Parkas at L.L. Bean Cost per parka = $45 Sale price per parka = $100 Discount price per parka = $50 Holding and transportation cost = $10 Profit from selling parka = $100-$45 = $55 Cost of overstocking = $45+$10-$50 = $5 Expected demand = =1026, ordered 1000 parkas CSL51% Expected profit from ordering 1000 parkas = $49,900 See formula on page 224 Expected profit =

Summary Tradeoff between ordering enough to meet demand and ordering too much Several quantities have the same average profit Average profit does not tell the whole story Question: 9000 and 16000 units lead to about the same average profit, so which do we prefer? Work out probabilities of profit and loss The optimal order quantity is not necessarily equal to average forecast demand (13,100) The optimal quantity depends on the relationship between marginal profit and marginal cost As order quantity increases, average profit first increases and then decreases As production quantity increases, risk increases. In other words, the probability of large gains and of large losses increases

How much to order? Parkas at L.L. Bean (Table 12.1) The probability that demand is greater than 1100 is 0.29 but the probability that demand is greater than or equal to 1100 is 0.49. O.51 is the probability that the demand is 1000 or less. Thus, 1-0.51 = 0.49 is the probability that the demand is greater than 1000 = probability that demand is greater than or equal to 1100

Parkas at L.L. Bean (Table 12.2) Expected Marginal Contribution of each 100 parkas Fig 9.1

Optimal Order Quantity Optimal Order Quantity = 13 0.917 Prob

Optimal level of service (Eqn. 12.1) p = retail sale price; s = outlet or salvage price; c = purchase price; C o = cost of overstocking by one unit, C o = c - s C u = cost of understocking by one unit, C u = p - c CSL * = Optimal SL. Optimal order size O * If O * +1, expected marginal benefit from increasing order size by 1 = (1 -CSL * )(p - c ) ( understocking cost x prob of understock ) If O * -1, Expected Marginal Cost = CSL * ( c - s ). Thus expected marginal contribution of O * to O * +1 (1 -CSL * ) C u - CSL *  C o (or optimally) = 0 CSL * = prob. (dem. =< O * ) = C u / (C u + C o ) = (p-c) (p-s)

Order Quantity for a Single Order (ex 12.1) Salvage value = $80 C o = Cost of overstocking = c-s = $20 C u = Cost of understocking = p – c = $150 O * = Optimal order size

MANAGERIAL LEVERS TO IMPROVE PROFITABILITY How to Estimate Demand Distribution? Historical data: Time series forecasting Dependent factors: Regression, causal forecasting Expert opinion: Buying committee Key: Forecast must include estimated demand and uncertainty (standard deviation) of demand

Levers for Increasing Supply Chain Profitability Increase salvage value (cost of overstock) or decrease margin lost from stockout – backup sourcing; rain checks. As C o /C u gets smaller, optimal level of product availability (CSL) increases (see Fig 12.2). Companies with high margin have high cost of understocking and so provide high CSL Improved forecasting to lower demand uncertainty (table 12.3) – CSL is constant. Optimum order size decreases and Expected profit increases Quick response Reduce replenishment lead time so as to increase number of orders per season (table 12.4, 12.5). With two or more orders: Possible to provide same CSL with less inventory Average overstock at end of season is less Profits higher with second order If quick response allows multiple orders in the season, profits increase and overstock quantity reduces (Fig 12.4,12.5)

Levers for Increasing Supply Chain Profitability Postponement of product differentiation Better match of supply and demand for products not positively correlated and about the same size Postponment may reduce overall profits, if one product contributes to majority of demand (extra cost of later manufacturing) Tailored postponement only uncertain part of demand, producing predictable part at lower cost without postponement Tailored supply sourcing – focus on two sources One source focus on cost; unable to handle uncertainty – predictable portion One source focus on flexibility; at a higher cost – unpredictable portion

Tailored Sourcing: Multiple Sourcing Sites

SUPPLY CHAIN CONTRACTS DOUBLE MARGINALIZATION (SUBOPTIMIZATION) BUY BACK (Ex. Mfg cost 10, retailer cost 100, selling 200 – SC profit 190, retailer profit – 100, manuf profit 90). EACH TRY TO MAXIMIZE OWN PROFIT, NOT THE SUPPLY CHAINS) RETAILER ORDERS LESS AS THE LOSS FROM UNSOLD PRODUCT HIGH (100). Loss to Supply Chain is 10 only MANUFACTURER IN BUYING BACK UNSOLD PRODUCT, INCREASES SALVAGE VALUE, AND INDUCES RETAILER TO ORDER MORE (table 9.70 TOTAL SUPPLY CHAIN PROFITS INCREASE QUANTITY FLEXIBILITY CONTRACTS MANUFACTURER ALLOWS RETAILER TO CHANGE CONTRACTS AFTER CHANGING DEMAND INCREASES PROFITABILITY OF ALL AND TOTAL SUPPLY CHAIN VMI REPLENISHMENT BY MANUFACTURER (Ex. P&G/WALMART) CONTROL OF REPLENISHMENT MOVES TO MANUFACTURER CUSTOMER INFORMATION TO MANUFACTURER

SETTING OPTIMAL LEVELS OF PRODUCT AVAILABILITY USE ANALYTICAL FRAMEWORK TO INCREASE PROFITS COMPANIES SET TARGETS WITHOUT ANALYSIS BEWARE OF PRESET LEVELS OF AVAILABILITY OFTEN SET WITHOUT JUSTIFICATION WORK ANALYSIS TO MAXIMIZE PROFITS USE APPROXIMATE COSTS AS PROFIT MAXIMIZING SOLUTIONS ARE ROBUST ESTIMATE A RANGE FOR STOCKING OUT ENSURE THAT LEVELS OF PRODUCT AVAILABILITY FIT WITH STRATEGY HOME WORK Page 373 Ex. 1 and 3

CASE STUDY – OPTIMIZED DEMAND PULL HIGHLY VARIABLE, HI TECH, HIGH COST 12 MONTH ROLLING FORECAST WITH MANUFACTURING LEAD TIME COMMITTED CHANGE OUTSIDE LEAD TIME LIMITED TO +/- 20% TWO YEAR FORECAST ON YEAR FORECAST COMMITTED TO, NOT MONTHLY QUANTITIES INCENTIVES FOR INCREASED FORECAST, DISCOUNTS FOR REDUCED FORECASTS REPLENISHMENT RATE DRIVEN BY MAX/MIN ON HAND LEVELS WEEKLY ON HAND MONTHLY 12 MONTH ROLLING FORECAST

SOURCING and PROCUREMENT ( CH 14 ) Lesson 9 SOURCING Entire set of business processes to purchase goods and services Includes: Selection of supplies Design of supplier contracts Product design collaboration Procurement of material Evaluation of Supplier performance PROCUREMENT Process of purchasing materials, products and services COGS 50% or more of product cost Even higher % with outsourcing

EFFECTIVE SOURCING ECONOMIES OF SCALE – ORDERS AGGREGRATED MORE EFFICIENT PROCUREMENT TRANSACTIONS (LESS) REDUCES OVERALL COST DESIGN COLLABORATION IMPROVE FORECASTING CONTRACTS FOR SHARING RISK LOWER PURCHASING PRICE

IN HOUSE OR OUTSOURCE HOW DO THIRD PARTIES INCREASE SUPPLY CHAIN SURPLUS CAPACITY AGGREGRATION INVENTORY AGGREGRATION TRANSPORTATION AGGREGRATION WAREHOUSING AGGREGRATION PROCUREMENT AGGREGRATION INFORMATION AGGREGRATION RECEIVABLE AGGREGRATION RELATIONSHIP AGGREGRATION LOWER COSTS AND HIGHER QUALITY (Table 14.1)

RISKS OF USING A THIRD PARTY THE PROCESS IS BROKEN – lack control UNDERESTIMATE COST OF COORDINATION REDUCED SUPPLIER/CUSTOMER CONTACT LOSS OF INTERNAL CAPABILITY AND GROWTH IN THIRD PARTY POWER LEAKAGE OF SENSITIVE DATA AND INFORMATION INEFFECTIVE CONTRACTS THIRD AND FOURTH PARTY PROVIDERS (Table 14-2) Transportation Warehousing Information technology Reverse Logistics International Special skills/handling

SUPPLIER SCORING AND ASSESSMENT MUST BE BASED ON IMPACT ON TOTAL COST (Tab14-3) IN ADDITION TO PRICE REPLENISHMENT LEAD TIME; ON TIME PERFORMANCE SUPPLY FLEXIBILITY DELIVERY FREQUENCY/ MINIMUM LOT SIZE SUPPLY QUALITY INBOUND TRANSPORTATION COSTS INFORMATION COORDINATION CAPABILITY DESIGN COST REDUCTION EXCHANGE RATES, TAXES AND DUTIES SUPPLIER VISIBILITY RESPONSIVENESS

SOURCING DECISIONS SUPPLIER PERFORMANCE BASED ON IMPACT ON TOTAL COST (see Table 14.1) Ex. Green Thumb gets bearings at $1.00 in lots of 2,000 with a lead time of 2 weeks and a stnd devn of 1 week. New supplier offers $0.97 with lot size of 8000, a lead time of 6 weeks and stnd devn of 4 weeks. Given 1000 bearings needed per week with a stnd devn of 300 and that holding costs are 25% and CSL is 95% which supplier should be selected

SOURCING DECISIONS CONTRACTS BUYBACK OR RETURN CONTRACTS LOWERS COST OF OVERSTOCKING REVENUE SHARING CONTRACTS REDUCES COST PER UNIT TO RETAILER & COST OF OVERSTOCKING QUANTITY FLEXIBILITY CONTRACTS – BEST RETAILER CAN MODIFY ORDER CLOSER TO POINT OF SALE CONTRACTS TO INDUCE PERFORMANCE IMPROVEMENT SHARED SAVINGS CONTRACT DESIGN COLLABORATION HELPS REDUCE COST, IMPROVE QUALITY AND TIME TO MARKET PROCUREMENT PROCESS FOCUS ON IMPROVING DIRECT MATERIALS COORDINATION AND VISIBILITY WITH SUPPLIER LOOKING SEPARATELY AT DIRECT AND INDIRECT MATERIAL COSTS (14-7) CLASSIFYING ITEMS PER COST AND CRITICALITY (FIG 14.2) FOCUS ON IMPROVING INDIRECT MATERIALS BY DECREASING TRANSACTION COST OF ORDER BOTH SHOULD CONSOLIDATE ORDERS FOR ECONOMIES OF SCALE

SOURCING DECISIONS SOURCING DECISIONS IN PRACTICE USE MULTIFUNCTIONAL TEAMS ENSURE APPROPRIATE COORDINATION ACROSS REGIONS AND BUSINESS UNITS ALWAYS EVALUATE TOTAL COST OF OWNERSHIP BUILD LONG TERM RELATIONSHIP WITH KEY SUPPLIERS

Make or Buy Decision Cost Time Capacity Utilization Control of Production/Quality Design Secrecy Supplier Reliability and Technical Expertise Volume Workforce Stability

Make-or-Buy Decision Original Data: Produce 10,000 units Cost Factors Raw material $9,000 Direct labor $12,000 Variable factory overhead $5,000 Fixed factory overhead $24,000 Total Cost to Make $50,000 Make cost per unit = $50,000/10,000 = $5.00/unit Purchase proposal = $4.50/unit Should the product be bought? Factors to Consider: 1. You only avoid 80% of the variable factory overhead cost 2. And only avoid 10% of the fixed factory overhead cost

Cost Avoidance Analysis (Solution) Solution Cost avoided by purchasing Total cost to make $50,000 Less cost avoided: Raw material $9,000 Direct labor $12,000 Variable factory overhead ($5,000@0.80) $4,000 Fixed factory overhead ($24,000@0.10) $2,400 Total Avoided Cost $27,400 Analysis Cost not avoided $22,600 Plus cost to purchase $45,000 Total cost to purchase $67,600 Compare to cost to make $50,000 Increase in cost to purchase $17,600 Actual cost per purchased item 67500/1000 = $6.75/unit !

SUPPLIER PARTNERSHIPS QUALIFICATION AND SELECTION RATIONALIZATION OF SUPPLIER BASE PARTNERSHIP WIN-WIN AND TRUST SHARING OF RISK AND COMMITMENT PRICE REDUCTIONS AND INCREASES BASED ON FORECAST RATE REPLENISHMENT MEAUREMENT AND FEEDBACK QUALITY, DELIVERY, RESPONSIVENESS QUARTERLY FEEDBACK IMPLICATIONS

MANAGING TRANSPORTATION IN A SUPPLY CHAIN (Chap 13) – Lesson 10 Key modes of transport and major issues Transportation System Design Tradeoffs in transportation design – costs vs. responsiveness Transportation and inventory: Choice of mode Transportation and inventory: Consolidation

LOGISTICAL PROCESSES TRANSPORTATION PALLETIZATION AND CONTAINERIZATION FREIGHT FORWARDERS AND CUSTOMS TRADE-OFF IN TRANSPORTATION TYPES & TRANSITONS WAREHOUSING AND DISTRIBUTION CENTRALIZED OR REGIONAL REPLENISHMENT STRATEGIES DRP POINT OF USE CROSS DOCKING DELIVERY GLOBAL SUPPLY CHAINS

Fundamental Logistics Tradeoffs Transit Time Variability Landed Cost Supply Chain Inventory Units C 1999. William T. Walker, CFPIM, CIRM with the APICS Educational & Research Foundation. All Rights Reserved.

Tailored Logistics Transportation costs in 1996 - $455 billion (6% GNP). In 2005 744b 10% GDP E-com and home delivery of small loads makes transport more significant Wal-Mart – low inventory, frequent replenish, cross dock Amazon – centralized warehouses, package carriers and postal system Dell – centralized assembly, package carriers (Airborne) Each Logistically Distinct Business (LDB) will have distinct requirements in terms of Inventory Transportation Facility Information Key : How to gain efficiencies while tailoring logistics ?

FACTORS AFFECTING TRANSPORTATION DECISIONS CARRIER VEHICLE RELATED COST – cost of vehicle FIXED OPERATING COST – terminals, labor TRIP RELATED COST – fuel, labor QUANTITY RELATED COST - weight OVERHEAD COST – planning, dispatching SHIPPER TRANSPORTATION COST – cost per Ton mile INVENTORY COST – holding FACILITY COST - storage PROCESSING COST – loading unloading SERVICE LEVEL COST – not making delivery

Transportation Modes (See Table 13.1 ) Trucks TL LTL Carload Intermodal Rail Air Package Carriers Water Pipeline DISCUSS USES AND ISSUES

AIR Freight Revenue 777b 2002 (96.7% change from 1993) Average revenue / ton-mile (1996) = 58.75 cents Average haul = 1,260 miles Average load = 10.5 tons 1998 Freight expense $22.678b Key Issues Location/Number of hubs Location of fleet bases / crew bases Schedule optimization Fleet assignment Crew scheduling Yield management Best Use

Truckload (TL) Freight Revenue 6,660b (42.2% change from 1993) Average revenue per ton mile (1996) = 9.13 cents Average haul = 274 miles Average Capacity = 42,000 - 50,000 lb. 1998 Freight expense $ 401.68billion Low fixed and variable costs Major Issues Utilization (Idle and empty travel) Consistent service Backhauls Best Use?

Less Than Truckload (LTL) Average revenue per ton-mile (1996) = 25.08 cents Average haul = 646 miles 1998 Freight expense with TL Higher fixed costs (terminals) and low variable costs Major Issues Location of consolidation facilities Utilization Vehicle routing Customer service (delivery time and reliability) Best Use?

Rail Freight Revenue 388b (39.2% change from 1993) Average revenue / ton-mile (1996) = 2.5 cents Average haul = 720 miles Average load = 80 tons 1998 Freight expense $35.35billion Key Issues Scheduling to minimize delays / improve service Off track delays (at pick up and delivery end) Yard operations, transitions Variability of delivery times Best Use?

Other Modes Water – 0.73c per ton mil Freight Revenue 867b (39.9% change from 1993) average haul miles 500 internal to 1500 coast 1998 Freight expense $ 25.35b Cheapest mode for global shipping Issues: delays at ports, customs, management of containers Pipe – 1.40c per ton mile Freight Revenue 285b (-8.7% change from 1993) Average haul 400 products to 760 crude 1998 Freight expense $ 8.74b Issues: Infrastructure Intermodal Freight Revenue 1,111b (67% change from 1993) Combination – most common truck/rail Very useful in global trade Issues: exchange of information to facilitate transfer

Tradeoffs in Transportation Design Transportation, facility, and inventory cost tradeoff Choice of transportation mode Inventory aggregation Transportation cost and responsiveness tradeoff Ranking of Transportation Modes in terms of Supply Chain performance – Table 13-3

DESIGN OPTIONS FOR TRANSP NETWORK DIRECT SHIP NETWORK (fig 13.2) IF REPLENISHMENT LARGE ENOUGH FOR TL DIRECT SHIP WITH MILKRUNS (fig 13.3) SINGLE SUPPLIER TO MULTIPLE RETAILER OR VICE VERSA ELIMINATE INTERMEDIATE WAREHOUSES LOWER TRANSPORTATION COSTS ALL SHIPMENTS VIA CDC (FIG 13.4, 13.5) DC STORE INVENTORY OR TRANFER LOCATION CROSS DOCKING SHIP VIA DC WITH MILK RUN TAILORED NETWORK (FIG 13.5) EXERCISE: ADVANTAGES AND DISADVANTAGES OF EACH – next slide

PROS AND CONS OF TRANP. NETWORKS (Tab 13.2) *Highest coordin complexity * Match trans choice with needs Tailored network *Further increase in coordin complexity * Lower outbound trans cost for small lots Shipping via DC using milk runs * More coordination complexity *Very low inventory *Consolidation-less trans Cost Ship via CDC with cross docking *Increased Inventory *Increased handling *Consolidation less inbound transp cost All shipments via CDC with inventory storage * More coordination complexity *Lower transp costs small lots *Lower inventories Direct Shipping with milk runs *High inventories *Significant Receiving expense *No intermediate Whse * Simple to coordinate Direct Shipping Cons Pros Network Structure

TRADE OFFS IN TRANSPORTATION DESIGN TRANSPORTATION AND INVENTORY COST TRADE-OFF Choice of Transport Mode: Eastern Electric Corp (Ex 13.1) Annual demand = 120,000 motors Traditional lot size 3000 Cost per motor = $120 Weight 10lbs Current order size = See Table 13.4 Safety stock carried = 50% of demand during delivery lead time Holding cost =25%. Annual holding cost =120 x 0.25 =$30/motor Lead times – 1 day to process, transit time days - rail 5, road 3 Work out the total cost for each transport proposal See Table 13.5 Proposal Quantity over 250cwt $4/cwt to $3/cwt and shipment batch size 4000. What should plant do Total Costs = Inventory costs (include Cycle, Safety) + Transportation costs (depend on weight and form of transport )

Eastern Electric Corporation (Table 13.5)

Inventory Aggregation at HighMed Ex 13.2 (Table 13.6) Highval (cost $200/unit, 0.1 lbs/unit) demand in each territory  H = 2,  H = 5, CSL= 0.997, Holding cost = 25% Lowval (cost $30/unit, 0.04 lbs/unit) demand in each territory  L = 20,  L = 5 UPS rate: $0.66 + 0.26 x {for replenishments} FedEx rate: $5.53 + 0.53 x {for customer shipping} where x is quantity shipped in lbs Factory 1 week replenish, local inventory 4 wks replenish Average customer order – 1 Highval & 10 Lowval Option A – Replenish weekly instead of every 4 weeks Option B – Elimin inventory in territories, aggregate all inven in one warehouse, replenish warehouse once a week

Inventory Aggregation at HighMed (13.6) If shipment size to customer is 0.5H + 5L, total cost of option 2 increases to $36,729 .

Physical Inventory Aggregation: Inventory vs. Transportation cost Firms can significantly reduce SS by physically aggregating inventory in one location As a result of physical aggregation Inventory costs decrease Inbound transportation cost decreases – one destination DC Outbound transportation cost increases – several deliveries Advantageous when inventory and facility costs form a large fraction of supply chain costs Large value to weight ratio (ex PC’s) High demand uncertainty and large value (ex designer dresses) Large customer orders to cover economies of scale on outbound transportation

Tailored Transportation (Table 13.9) Factors affecting tailoring – Optimizing response vs cost Customer distance and density Short distance Med distance Long distance Hi Density Private fleet milk runs Crossdock, milk runs Crossdock, milk runs Med Dens Third party milk runs LTL carrier LTL or package carrier Low Dens Third party milk runs or LTL LTL or package carr Package carrier Customer size Large can use a TL; medium and small LTL use LTL or milk runs Product demand and value (Table 13.10) Product Hi value Lo value High demand Disaggreg cycle inven Disaggreg all inven, use inexpen trans Aggregate safety stock, for replen inven inexpen transp for replen, cycle & fast mode for safety inventory Low demand Aggregate all inven. Use fast Aggregate Safety inven only. Use inexpen trans for filling cust orders trans for replen cycle inven

ROUTING AND SCHEDULING IN TRANSPORTATION Chapter 5) Framework for Network Design Decisions (Table 5.2) Phase I : Define a supply chain strategy Phase II: Define regional facility configuration Phase III: Select a set of desirable potential sites Phase IV: Location Choices Exercise Sun Oil Fig 5-3 Phase II Network Optimization Models: Capacitated Plant Location Model Decide on Network design that maximizes profits Phase III: Gravity Location Models (Table 5-1) – Work out manually Identify the distance matrix Identify the savings matrix Assign customers to vehicles or routes Sequence customers within routes

RISK MANAGEMENT IN TRANSPORTATION RISK THAT SHIPMENT IS DELAYED RISK THAT SHIPMENT DOES NOT REACH ITS FINAL DESTINATION, BECAUSE INTERMEDIATE NODES DISRUPTED RISK OF HAZARDOUS MATERIAL

MAKING TRANSPORTATION DECISIONS IN PRACTICE ALIGN TRANSPORTATION STRATEGY WITH COMPETITIVE STRATEGY CONSIDER BOTH IN HOUSE AND OUTSOURCED TRANSPORTATION STRATEGIC IMPORTANCE AND PROFITABILITY DESIGN A TRANSPORTATION NETWORK THAT CAN HANDLE E-COMMERCE DECREASE IN SHIPMENT SIZE & INCREASE IN HOME DELIVERY USE TECHNOLOGY TO IMPROVE TRANSPORTATION PERFORMANCE IDENTIFY LOCATION AND SHIPMENT IN VEHICLE DESIGN FLEXIBILITY INTO THE TRANSPORTATION NETWORK TAKE INTO ACCOUNT UNCERTAINTYIN DEMAND AND IN AVAILABILITY OF TRANSPORTATION

HOMEWORK EXERCISE 13.1 Coal and MRO Ex 13.2 Work out single location and 1 week replenishment EXAMPLE HIGHMED (Ex 13.2) WORK OUT OPTION A & IF SHIPMENT SIZE IS 0.5H + 5.0L WHAT ARE YOUR CONCLUSIONS?

FACILITY DECISIONS: Network Design Decisions Lesson 11 (Chap 4) FACILITY ROLE What processes are performed FACILITY LOCATION Where should facilities be located CAPACITY ALLOCATION How much capacity should be allocated to each facility MARKET & SUPPLY ALLOCATION What markets should each facility serve What supply sources should feed each facility

Factors Influencing Network Design Decisions Strategic Cost or Responsiveness focus Technological Fixed costs and flexibility determine consolidation Macroeconomic Tariffs and Tax incentives. Stability of currency Political stability - clear commerce & legal rules Infrastructure sites, labor, transportation, highways, congestion, utilities Competition Logistics and facility costs

The Cost-Response Time Frontier Local FG Mix Regional FG Local WIP Central FG Central WIP Central Raw Material and Custom production Custom production with raw material at suppliers Cost Response Time Hi (LONG) Low (QUICK) Low Hi

LOGISTICS AND FACILITIES COSTS INVENTORY COSTS TRANSPORTATION COSTS INBOUND AND OUTBOUND FACILITY (SETUP AND OPERATING) COSTS TOTAL LOGISTICS COSTS SEE SUCCEEDING CHARTS

Service and Number of Facilities Number of Facilities Response Time Costs Costs Response Time AS THE NUMBER OF FACILITIES INCREASE, RESPONSE TIME REDUCES, AND COST INCREASES

Costs and Number of Facilities Costs Number of facilities Frequent inbound trans Inventory Transportation Facility costs

Percent Service Level Within Promised Time Transportation Cost Build-up as a function of facilities Cost of Operations Number of Facilities Inventory Facilities Total Costs Labor

FRAMEWORK FOR NETWORK DESIGN DECISIONS DEFINE A SUPPLY CHAIN STRATEGY COMPETITIVE STATEGY, COMPETITION, SWOT DEFINE A REGIONAL FACILITY STRATEGY LOCATION, ROLES AND CAPACITY SELECT DESIRABLE SITES HARD INFRASTURCTURE – TRANSPORT, UTILITIES, SUPPLIERS, WAREHOUSES SOFT INFRASTRUCTURE – SKILLED WORKFORCE, COMMUNITY CHOOSE LOCATION PRICE LOCATION AND CAPACITY ALLOCATION SEE FRAMEWORK NEXT

A Framework for Global Site Location (107) PHASE I Supply Chain Strategy PHASE II Regional Facility Configuration PHASE III Desirable Sites PHASE IV Location Choices Competitive STRATEGY INTERNAL CONSTRAINTS Capital, growth strategy, existing network PRODUCTION TECHNOLOGIES Cost, Scale/Scope impact, support required, flexibility COMPETITIVE ENVIRONMENT PRODUCTION METHODS Skill needs, response time FACTOR COSTS Labor, materials, site specific GLOBAL COMPETITION TARIFFS AND TAX INCENTIVES REGIONAL DEMAND Size, growth, homogeneity, local specifications POLITICAL, EXCHANGE RATE AND DEMAND RISK AVAILABLE INFRASTRUCTURE LOGISTICS COSTS Transport, inventory, coordination

Tailored Network: Multi - Echelon Finished Goods Network Regional Finished Goods DC Regional Finished Goods DC Customer 1 DC Store 1 National Finished Goods DC Local DC Cross-Dock Local DC Cross-Dock Local DC Cross-Dock Customer 2 DC Store 1 Store 2 Store 2 Store 3 Store 3

Network Optimization Models Allocating demand to production facilities Locating facilities and allocating capacity Speculative Strategy Single sourcing Hedging Strategy Match revenue and cost exposure Flexible Strategy Excess total capacity in multiple plants Flexible technologies Which plants to establish? How to configure the network? Key Costs : Fixed facility cost Transportation cost Production cost Inventory cost Coordination cost

Gravity Methods for Location – Min. cost of transportn 316,116) ASSUMPTION: TRANSPORT COSTS GROW LINEARLY WITH SHIPMENTS Ton Mile-Center Solution (Table 11.29, 5.1) x,y: Warehouse Coordinates x n , y n : Coordinates of delivery location n d n : Distance to delivery location n F n : Cost per ton mile to delivery location n D n Quantity to be shipped F i = D n F n Min Total Cost TC= D n d n F n Reiterate x,y calculation till x,y values close

Demand Allocation Model (pp319) (Table 5.2) Which market is served by which plant? Which supply sources are used by a plant? x ij = Quantity shipped from plant site i to customer j C ij = cost to produce & ship one unit from factory i to market j n = no. of factory locations m = no. of markets D j = Annual demand from market j K i = Annual capacity of factory i All mkt demand satisfied No factory capacity exceed

NETWORK DESIGN DECISIONS IN PRACTICE DO NOT UNDERESTIMATE THE LIFE SPAN LONG LIFE HENCE LONG TERM CONSEQUENCES ANTICIPATE EFFECT FUTURE DEMANDS, COSTS AND TECHNOLOGY CHANGE STORAGE FACILITIES EASIER TO CHANCE THAN PRODUCTION FACILITIES DO NOT GLOSS OVER CULTURAL IMPLICATIONS LOCATION – URBAN, RURAL, PROXIMITY TO OTHERS DO NOT IGNORE QUALITY OF LIFE ISSUES WORKFORCE AVAILABILITY AND MORALE FOCUS ON TARIFFS& TAX INCENTIVES WHEN LOCATING FACILITIES PARTICULARLY IN INTERNATIONAL LOCATIONS

HOMEWORK Page 330– Exercise 2

BEER GAME Lesson 12 Beer Game HOMEWORK – WRITE UP A SUMMARY OF THE LESSONS FROM THE BEER GAME GIVE AN EXAMPLE OF THIS PHENOMENA IN REAL LIFE WHAT WOULD YOU DO TO CORRECT IT

DISCUSSION OF BEER GAME GET INTO SAME TEAMS FORMULATE TWO OR LEARNINGS – WHAT IS THE EFFECT; WHY IS IT CAUSED; HOW CAN IT BE REDUCED? FROM THE GAME FROM YOUR INTUITION FROM YOUR KNOWLEDGE OR INDUSTRY PRESENT THEM TO CLASS FOR DISCUSSION

SUPPLY CHAIN COORDINATION (Chap 16) Lesson 13 The role of Information Technology What is coordination? Take action to increase total SC profits Obstacles to coordination: The Bull-Whip Effect –every trading partner must understand effect of its actions on other trading partners Effect of lack of coordination Increased costs – Manufacturing, Inventory, Transportation, labor Increased Replenishment lead time Lower level of Product availability Countermeasures to achieve coordination The role of information technology in a supply chain

As Information Moves Thru A Supply Chain Supplier Manufacturer Retailer Customer Distributor Demand uncertainty becomes more AND MORE distorted C 1999. William T. Walker, CFPIM, CIRM with the APICS Educational & Research Foundation. All Rights Reserved.

Bullwhip Effect Order Quantity Time Retailer’s Orders Order Quantity Time Wholesaler’s Orders Order Quantity Time Manufacturer’s Orders The magnification of variability in orders in the supply-chain. A lot of retailers each with little variability in their orders…. … can lead to greater variability for a fewer number of wholesalers, and… … can lead to even greater variability for a single manufacturer.

Information Coordination: The Bullwhip Effect Consumer Sales at Retailer 0 100 200 300 400 500 600 700 800 900 1000 1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35 37 39 41 Consumer demand Retailer's Orders to Wholesaler 0 100 200 300 400 500 600 700 800 900 1000 1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35 37 39 41 Retailer Order Wholesaler's Orders to Manufacturer 0 100 200 300 400 500 600 700 800 900 1000 1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35 37 39 41 Wholesaler Order Manufacturer's Orders with Supplier 0 100 200 300 400 500 600 700 800 900 1000 1 4 7 10 13 16 19 22 25 28 31 34 37 40 Manufacturer Order

Bull Whip Effect - Incentive Obstacles Contributing factors Incentives based on sell-in leading to forward buy Localized optimization Ex Transportation Mgr linked to lowest transport cost – even if inventory cost increased Sales Force incentives – quantity sold to next stage, not final customer Buying policies based on max profits at one stage of supply chain Counter Measures Align goals and incentives across functions Price for coordination - Focus sales force on increasing sell-thru to customer Incentives based on rolling horizon Sales force do not compete with each other but with the competition

The Bullwhip Effect: Information Processing Obstacles Contributing factors No visibility of end demand Multiple forecasts, based on orders received not customer demand (magnifies incr/decr) Long lead-time Lack of information sharing Counter Measures Collaborative forecasting and planning (CFAR, CPFR) Access sell-thru or POS data. Sharing POS data Direct sales (natural on web) Single control of replenishment – continuous replenishment and VMI Leadtime reduction State of Practice Sell-thru data in contracts (e.g., HP, Apple, IBM) CFAR, CPFR, CRP, VMI (P&G and Walmart) Quick Response Mfg. Strategy Dell direct supply to customer

Bull Whip Effect - Operational Obstacles (Batching) Contributing factors High Order Cost – Ordering large lots Large replenishment times Full TL economies Random or correlated ordering Counter Measures Reduce replenishment lead time – EDI, manuf techniques, Advanced Shipping notices (ASN), & Computer Assisted Ordering (CAO) Reduce Lot sizes – reduce fixed costs to (order, manuf, transport, receive) Discounted on Assorted Truckload, consolidated by 3rd party logistics Regular delivery appointment, milk runs, mixing deliveries Volume and not lot size discounts State of Practice McKesson, Nabisco, ... 3rd party logistics in Europe, emerging in the U.S. P & G

Bull Whip Effect - Operational Obstacles (Rationing Game) Contributing factors Rationing and Shortage gaming (inflating order rewarded) Proportional rationing scheme Ignorance of supply conditions Unrestricted orders & free return policy Counter Measures Allocation based on past sales. Shared Capacity and Supply Information Flexibility Limited over time, capacity reservation State of Practice Saturn, HP Schedule Sharing (HP with TI and Motorola) HP, Sun, Seagate

Bull Whip Effect - Pricing Obstacles Contributing factors Lot size based quantity discounts High-Low Pricing leading to forward buy Delivery and Purchase not synchronized Counter Measures Lot size based to Volume based quantity discounts EDLP (Every day low pricing) Limited purchase quantities Scan based promotions State of Practice P&G (resisted by some retailers) Scan based promotion

Managerial Implications of the Bull Whip Effect - Behavioral Factors Contributing factors Lack of trust Local reaction – to current local condition Each stage sub –optimizes Each stage blames each other for fluctuations Counter Measures Building trust and partnership Aligning incentives and objectives – co-identification Sharing information – sales and production Eliminating duplication (Inspection) State of Practice Wal-Mart and P&G with CFAR

How Should A Middle Link Behave? IF: The Middle Link makes an independent decision to increase production THEN: Finished goods inventory increases for the Middle Link THEN: Return On Assets are reduced for the Enterprise, and there is no improvement in end-to-end throughput! IF: The Middle Link makes an independent decision to decrease production THEN: The system constraint moves to the Middle Link THEN: There is no reduction in operational costs for the Enterprise, and profit margins are lowered for every trading partner! THEREFORE: The Middle Link should stay synchronized to the demand signal from the system constraint C 1999. William T. Walker, CFPIM, CIRM with the APICS Educational & Research Foundation. All Rights Reserved.

ACHIEVING COORDINATION IN PRACTICE QUANTIFY THE BULLWHIP EFFECT GET TOP MANAGEMENT COMMITMENT DEVOTE RESOURCES FOR COORDINATION - DEDICATED FOCUS ON COMMUNICATION WITH OTHER STAGES TRY TO ACHIEVE COORDINATION IN THE ENTIRE SUPPLY CHAIN NETWORK USE TECHNOLOGY TO IMPROVE CONNECTIVITY IN THE SUPPLY SIDE - INCREASING VISIBILITY&COMMUNICATION REDUCE TIME TO – ORDER, MAKE, TRANSPORT, REPLENISH SHARE BENEFITS OF COORDINATION EQUITABLY

ROLE OF INFORMATION IN SUPPLY CHAIN SUCCESS Information is the glue that binds the other three drivers, to create an integrated, coordinated supply chain. Provides facts to give visibility of whole supply chain and make sound decisions to improve performance * TYPES – Supplier, Manufacturing, Distribution & Retailing, and Demand * CHARACTERISTICS –Accurate, Timely, Accessible, Appropriate * OPTIMIZING – Inventory, Transportation, Facilities Global scope enables decisions to maximize the total supply chain profit

USE OF INFORMATION INVENTORY SETTING OPTIMUM INVENTORY POLICIES DEMAND PATTERNS, CARRYING COSTS, STOCK OUT COSTS, ORDERING COSTS, SERVICE LEVEL, LEAD TIMES ETC TRANSPORTATION DECIDING NETWORKS, ROUTINGS, MODES, SHIPMENTS AND VENDORS COSTS, CUSTOMER LOCATIONS, SHIP COSTS & LOCATIONS FACILITY DETERMINING LOCATION, CAPACITY AND SCHEDULE TRADE OFFS EFFICIENCY VS FLEXIBILITY; DEMAND, EXCHANGE RATES, TAXES ETC

Information Technology in a Supply Chain: Legacy Systems THERE ARE IT SYSTEMS ACROSS ENTIRE SUPPLY CHAIN STRATEGIC – HIGH ORGANIZATIONAL LEVEL, LONG TIME FRAME, LITTLE LOW LEVEL DETAIL, HIGHLY ANALYTICAL, TOP MANAGERS LEGACY – ONE FUNCTION OR ONE STAGE OF SUPPLY CHAIN, TRANSACTIONAL ABILITY, DIFFICULT TO MODIFY, NO ANALYTICAL

Information Technology in a Supply Chain: ERP Systems Supplier Customer Retailer Distributor Manufacturer Strategic Planning Operational ERP Potential ERP Potential ERP ERP SYSTEMS – BROAD INFORMATION AVAILABILITY, REAL TIME, CAN USE ENABLING TECHNOLOGY LIKE INTERNET – WEAK ANALYTICAL

Information Technology in a Supply Chain: Analytical Applications Supplier Customer Retailer Distributor Manufacturer Strategic Planning Operational Supplier Apps SCM MES Dem Plan Transport execution & WMS APS Transport & Inventory Planning CRM/SFA

The Least Common Denominator Of Information Technology Supply Chain Trading Partners Customer Retail Wholesale Factory Supplier Advanced Planning & Scheduling Enterprise Resource Planning Data Warehousing DRP Legacy System MRP II Legacy System Electronic Data Interchange Internet Browser Electronic Mail Voicemail For orders, replenishment, payment, returns loops... LCD C 1999. William T. Walker, CFPIM, CIRM with the APICS Educational & Research Foundation. All Rights Reserved.

Information Technology in a Supply Chain: Future Trends and Issues Best of breed versus single integrator Shifts in Platform Technology Client server Browser based internet Application service providers (ASP) – owns and hosts software and charges for third party use of software The role of the Internet and B2B exchanges Exchanges create efficient market AUCTIONS, REVERSE AUCTIONS, FIXED PRICE, BID/ASK Collaboration between buyer and seller essential Convergence between B2B and Supply Chain What do you see? Teams – come up with three major trends - present

SUPPLY CHAIN INFORMATION TECHNOLOGY IN PRACTICE SELECT AN IT SYSTEM THAT ADDRESSES THE COMPANY’S KEY SUCCESS FACTORS COMPUTERS – INVENTORY LEVEL, OIL REFINERY - UTILIZATION ALIGN LEVEL OF SOPHISTICATION WITH NEED FOR SOPHISTICATION - KISS USE IT SYSTEMS TO SUPPORT DECISION MAKING, NOT TO MAKE DECISIONS THINK ABOUT THE FUTURE WEB-BASED APPLICATIONS FLEXIBILITY OF SYSTEMS TO ACCOMMODATE CHANGE

Which E-Business is Right for Your Supply Chain? What is different about e-commerce? What are some potential opportunities in a supply chain? Implications of e-business in different industries

Applying the Framework to e-commerce:What is e-commerce? Commerce transacted over the Internet Is product information displayed on the Internet? Is negotiation over the Internet? EBay Is the order placed over the Internet? Amazon Is the order tracked over the Internet? Is the order fulfilled over the Internet? Is payment transacted over the Internet? Information publicly available, no dedicated connection required B to C and B to B Expected to reduce prices, increase productivity, lower labor costs

Existing Channels for Business Product information Physical stores, EDI, catalogs, face to face, … Negotiation Face to face, phone, fax, sealed bids, … Order placement Physical store, EDI, phone, fax, face to face, … Order tracking EDI, phone, fax, … Order fulfillment Customer pick up, physical delivery

Potential Revenue Opportunities from E-Business Direct sales to customers 24 hour access for order placement Accessibility to all customers Information aggregation Personalization and Customization of Information Information sharing in supply chain Flexibility on pricing and promotion Price and service discrimination Faster time to market Efficient funds transfer - reduce working capital Disadvantage: Takes longer to deliver, transport costs and shipping time

Potential Cost Opportunities from E-Business Direct customer contact for manufacturers (no handoffs) Coordination in the supply chain Customer participation Postpone product differentiation to after order is placed Downloadable product Reduce product handling with shorter supply chain Reduce facility and processing costs Geographical centralization and resulting reduction in inventories Improving supply chain coordination thru information sharing

POTENTIAL COST DISADVANTAGES INCREASED TRANSPORTATION COSTS INVENTORY AGGREGRATION SMALLER, MORE FREQUENT ORDERS INCREASED HANDLING COSTS COMPANY HAS TO PICK, PACK AND SHIP LARGE INITIAL INVESTMENT in INFORMATION INFRASTRUCTURE PROGRAMMING WEB SERVERS SECURITY ?? CASH AND PRODUCT

Basic evaluation framework How does going on line impact revenues? How does going on line impact costs? Facility (site + personnel) Inventory Transportation Information Should the e-commerce channel position itself for efficiency or responsiveness? Who in the supply chain can extract most value? Is the value to existing players or new entrants?

The Computer Industry: Dell on-line Procurement cycle Customer Order and Manufacturing Cycle Customer Order Arrives PUSH PROCESSES PULL PROCESSES

Potential opportunities exploited by Dell Revenue opportunities 24 hour access for order placement Direct sales Providing customization and large selection information Flexibility on pricing and promotion Faster time to market Efficient funds transfer –Negative working capital Revenue negatives Longer response time than store and no help with selection

Potential opportunities exploited by Dell Cost opportunities Geographical Centralization and reduced inventories (aggregated) Reduce facility costs – no physical distribution or retail Direct sales eliminating intermediary Customer participation: Call center & catalog costs Information sharing in supply chain Postpone product differentiation to after order is placed using product platforms and common components Outbound transportation costs increase

Opportunities Significant, but must be combined with component commonality, and build to order. Must move product customization to pull phase of supply chain and hold inventories as common components during the push phase Opportunity most significant for new, hard to forecast products Complements strength of existing retail channels

Retailing: Amazon.com Amazon Supply Chain Bookstore Supply Chain Pull Pull Publisher Distributor Amazon Customer Publisher Warehouse (?) Retail Store Customer

Potential opportunities exploited by Amazon Revenue opportunities 24 hour access for order placement Providing large selection and other information Attract customers who do not want to go to store Flexibility on pricing Efficient funds transfer Revenue negatives Intermediary (distributor) reduces margin Longer response time than bookstore Cannot browse

Potential opportunities exploited by Amazon Cost opportunities Geographical centralization and reduced inventories: Most effective for low volume, hard to forecast books, least effective for high volume best sellers Reduce facility costs Cost increases Outbound transportation costs increase Handling cost increase

Opportunities Going on-line, by itself, offers lower cost advantages (may be some disadvantages) than in Dell model given current form of books Cost and availability advantages are more significant for low volume books On-line channel has significant cost benefit if books are downloadable

How should bookstore chains react? An on line channel allows it to match Amazon’s revenue advantages Use a hybrid approach in stocking and pricing High volume books for local storage Low volume books for browsing and purchase on line Pricing varies by delivery and pick up option

Grocery on-line Manufacturer Online Grocer Customer On-Line Supply Chain Ex. Fresh Direct (NY) Supermarket Supply Chain Suppliers Warehouse (?) Supermarket Customer

Key Messages Some supply chains are better suited to exploit the cost benefits of going on-line Ability to increase processes in pull phase Ability to delay product differentiation Big inventory benefit from geographical centralization Significant facility cost reduction on centralization Transport to customer is a small fraction of product cost All are achieved if product is downloadable

B2B: Free Markets The worldwide market for direct materials procurement is approximately $5 trillion, with the U.S. segment at approximately $1 trillion Morgan Stanley Dean Witter Internet Industry Research FreeMarkets is a B2B Internet company that creates online auctions for procurers of direct materials MSDW Claim: FreeMarkets’ clients typically achieve savings of 2% to 25%

B2B: Matching Base Demand and Capacity Potential opportunities Ability to reach more bidders and get lower unit price E Bay and Price Line (price set by customer) Key questions What does it do to total cost of material? How many bidders do you need to achieve this? How does this impact cooperative relationships within supply chain? Does intermediary provide any value?

B2B: Matching Demand Shortage and Surplus Capacity Potential opportunities Ability to aggregate and display all available surplus capacity Better match of surplus capacity and unmet demand Best provided by an intermediary Key issue Total cost (product + transportation + …) must be accounted for in the auction

Key Messages Significant B2B opportunity to use Internet to reduce cost and improve efficiency of existing processes Significant B2B opportunity to improve collaboration within existing supply chains Auction opportunity for B2B is primarily for matching demand shortage with surplus capacity, not for base load

USING E-BUSINESS TO CREATE MARKETS INTERNET EXCHANGES, MARKETPLACES or PORTALS – ELECTRONIC MARKETPLACES AND COMMUNITIES OF INTEREST, WHERE COMPANIES/INDIVIDUALS CAN OBTAIN INFORMATION AND BUY AND SELL PRODUCTS. CAN AGGREGRATE DEMAND AND SUPPLY BUYERS CAN USE EXCHANGES BY: USING THIRD PARTY TO FACILITATE TRANSACTIONS CONDUCTING AUCTIONS BETWEEN MANY BUYERS AND SELLERS ADVANTAGES FOR BUYERS: REDUCE TRANSACTION COSTS, IMPROVE PERFORMANCE AND COLLOBORATIVE PLANNING WITHIN THE SUPPLY CHAIN OFFER BUYERs ABILITY TO SEARCH ACROSS MULTIPLE SUPPLIERS DOWNWARD PRESSURE ON SELLING PRICES ADVANTAGES FOR SELLERS: REDUCE REPLENISHMENT LEAD TIME AND BETTER SUPPLY DEMAND MATCH THROUGH IMPROVED COORDINATION USEFUL IN SELLING SURPLUS INVENTOY & CAPACITY

SETTING UP E-BUSINESS IN PRACTICE INTEGRATE THE INTERNET WITH THE EXISTING PHYSICAL NETWORK – CLICKS AND MORTAR SUCCESS CLOSELY LINKED TO DISTRIBUTION CAPABILITIES OF EXISTING SUPPLY CHAIN NETWORK DEVISE SHIPPING STRATEGIES THAT REFLECT COSTS MUST INCLUDE SIZE AND WEIGHT CONSIDERATIONS OPTIMIZE E-BUSINESS LOGISTICS TO HANDLE PACKAGES NOT PALLETS NEED TO CONSOLIDATE OR BUNDLE, WITH OTHER SUPPLIERS DESIGN THE E-BUSINESS SUPPLY CHAIN TO HANDLE RETURNS EFFICIENTLY LIKELY TO BE INCREASED RETURNS – IDEALLY TO ONE LOCATION KEEP CUSTOMERS INFORMED THROUGHOUT THE ORDER FULFILLMENT CYCLE STATUS ON LINE END

Factory Cash-To-Cash Cycle Time 1. Arrange the trading partner nodes from supplier to customer. 2. Start with a negative number to represent the time a factory has to pay a supplier’s invoice. 3. Work in a complete, closed loop. 4. Add the incremental time(s) to send the factory invoice down the chain to the next paying trading partner. 5. Add the incremental time(s) for each node to send the payment back up the chain to the factory. 6. Sum the negative time of step #2 with the positive loop time of step #4, #5. CUSTOMER RETAIL WHOLESALE FACTORY SUPPLIER C 1999. William T. Walker, CFPIM, CIRM with the APICS Educational & Research Foundation. All Rights Reserved.

Continuously Stocked Items: Optimal Safety Inventory Levels (Eq 11.6) For each order cycle Benefit of increasing safety stock by one unit = (1 -CSL) C u Cost of increasing safety stock by one unit = HQ * /R where CSL = probability of not stocking out in a cycle with current level of safety stock = Cycle Service Level H = cost of holding one unit for one year R = Annual demand Q * = Economic order quantity

Optimal Safety Inventory Levels (Ex 9.3) CSL = 1-(HQ * /C u R) R = 100 gallons/week;  R = 20; H = $0.6/gal./year L = 2 weeks; Q = 400; ROP = 300. What is the imputed cost of stocking out?

Postponement Adds Value Within Logistics By Trading Information For Inventory Without Postponement: With Postponement: Trading Partner Postponement FGI Orders None FGI Orders None Design for generic production Postpone to an actual order “ Postponement is delaying product differentiation until the customer demand is known.” Corey Billington, Hewlett-Packard Strategic Planning and Modeling Trading Partner Trading Partner Trading Partner Trading Partner C 1999. William T. Walker, CFPIM, CIRM with the APICS Educational & Research Foundation. All Rights Reserved.

1. Arrange the trading partner nodes from customer to supplier. 2. Work in a complete, closed loop. 3. Add the incremental time(s) to send the order from the customer to the first node with product inventory. 4. Add the incremental time to pick the product from inventory. 5. Add the incremental time(s) to transport the product to the customer. Customer Order-To-Delivery Cycle Time CUSTOMER RETAIL WHOLESALE FACTORY SUPPLIER Customer Order-To-Delivery Cycle Time C 1999. William T. Walker, CFPIM, CIRM with the APICS Educational & Research Foundation. All Rights Reserved.

Amazon vs Barnes and Noble The effect of Barnes and noble Responsive supply chain strategies today, the company is enhancing its original system by transitioning the back-end services fulfillment systems to an on-line, real-time, Microsoft BackOffice-based shipping, order management, and financial reporting system called PRISM—or Pod Receiving and Integrated Shipping Management System. PRISM allows Barnes and Noble to ship products much faster and deliver higher service levels to customers Amazon is going to become a market leader because of its early start in Web enabled low-cost access to an infinite number of customers. Treating every customer the same, with limited choice of access, is an unwise Barnes and Noble approach. Amazon has several advantages over Barnes and Noble, which could provide significant competitive leverage, such as: •Real-time customer information and transaction data, •Direct customer "dialog" opportunities, and •Low-cost channel operations

Amazon vs Barnes and Noble Both have some unpredictable demand and some predictable demand. Yes basically Amazon is efficient and B&N responsive (to a point). Both try and influence demand by suggesting (and discounting) what they have stock in and want purchased. Amazon stocks what it presumes or knows will be best sellers I see the future bringing down the price of books further (particularly text books) by even more outsourcing. I also see inventory in supply chain reducing by print on demand, especially for books not commonly popular. There will also be a lot more on line books, and condensed books, that one can read or review The key question is how will Amazon compete with a Chinese or Indian on line supplier with similar products. I do not think it can compete. I see Amazon partnering with a major Chinese and/or Indian company. As for Barnes and Noble, they have to also move more to print on demand and outsource more (they are already doing a lot of that). They provide a social function that they are emphasizing, so there will be some need for them, but not as a major book supplier

Amazon The company’s management has started to expand the business geographically, as well as into new product areas. Amazon now has a U.K. subsidiary, headquartered in Slough, west of London, employing around 500 people — Amazon.co.uk — as well as a slightly smaller German one, Amazon.de, headquartered in Regensburg, Germany. It resoled in increasing the overall sales of the company. Amazon is currently achieving a run rate of $280m a year. Amazon.co.uk started offering same-day delivery, at least within London... So, provided that customers order within a given time window, they are offered the option of same day delivery as a free upgrade. It resulted in better and efficient customer service than any other online stores. Identifying desirable global locations for new distribution centers is one use Amazon will make of new supply-chain software from Manugistics of Rockville, Md. It would install Manugistics’ NetWORKS solutions to support its global expansion and operational improvement initiatives. It will use NetWORKS Strategy to model fixed and variable network costs, taking into consideration such factors as varying transportation and supplier lead times, and global constraints such as tariffs and taxes. The model will then be used to design an optimal global network

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