suresh materials

8/12/2019 Suresh Materials

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SC Strategy

I. Supply Chain Strategies &Organizing for Improvements

SC Strategy

Two-Day Seminar

Strategic Supply Chain & Logistics Management

Nallan C. Suresh, Ph.D.UB Distinguished Professor & Chairman

Dept. of Operations Management & Strategy

School of Management

& Associate Director,

Institute for Sustainable Transportation & Logistics

State University of New York, Buffalo, NY, USAE-mail: [email protected]

www.buffalo.edu/~ncsuresh

Muscat, Oman, January 15 &16, 2014


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SC Strategy

How Did We Get Here?

1750s- The Industrial Revolution: Division of labor &

Concept of interchangeable parts

1800s- Larger, more complex factories;

stage set for production explosion of 20th century

Scientific management, Industrial Engineering

1900s- Assembly lines and mass production

1930s- Human Factors, Quality movement

1940s- Operations Research

1950s- Cellular manufacturing

1950s- IT Revolution

1950s- Factory Automation: NC, CNC, FMC, FMS, Robotics

1960s- MRP, MRP II, JIT, OPT..

1980s- Supply Chain Management, Inter-org. IS (EDI)

1990s- Reengineering, Internet, E-commerce

SC Strategy

RM

WIP

FP

FG

Bought-out Parts

Suppliers

Parts ProductionAssembly

Traditional View: The Single Firm

Customers

IndirectMaterials (MROs)

The Rs: right product, right place, right time, right quality, right cost

Within-firm improvement strategies: MRP, Lean, TQM, Six Sigma, ERP,..

OutboundLogistics

InboundLogistics ERP / MRP


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SC Strategy

FirmSupplier Distributor

Supplier

Supplier

Supplier

Supplier

Firm

Firm

Distributor

DistributorCustomer

Customer

Customer

Customer

Customer

Customer

The Supply Chain Era

Inter-functional => Inter-organizational collaboration & integration

to eliminate delays, disconnects, inventories & inefficiency.

Within-firm => Inter-firm improvement strategies

Material Flows, Credit

Returns, Recycling, Remanufacturing, Cash

Information Flows

SC Strategy

Logistics Management is that part of Supply

Chain Management that plans, implements, and

controls the efficient, effective forward and

reverse flow and storage of goods, services and

related information between the point of origin

and the point of consumption in order to meet

customers' requirements.- Council of Supply Chain Management Professionals (CSCMP)

www.cscmp.org

Logistics: Our Definition


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SC Strategy

Our Definition of SCM

SCM is the integration of key business

processes from end user through original

suppliers that provides products, services,

and information that add value for

customers and other stakeholders

Global Supply Chain Forum (GSCF)

SC Strategy

Numerous sources of uncertainty & inefficiency:

wrong forecasts

late deliveries

poor quality

machine breakdowns

worker absenteeism

unexpected holidays

canceled orders

miscommunication

price uncertainties

speculation

licensing, freight forwardingdelays

red tape, corruption

The basic idea in supply chains is to minimize:Costs for everyone, including the customer,

Disconnects, delays, inventories, missed shipments, poorcustomer service, etc. in the supply chain

Through better inter-organizational communication & coordination


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SC Strategy

Map CurrentSupply Chain

Identify KeySC Members

Form SteeringCommittee &

Joint Strategies

Realign CoreCompetencies

Seek SynergisticFit & Barriers to

Entry

Organize forImprovements in

Various Areas

Supply Chain Strategy &Organizing for Improvements

SC Strategy

Supply Chain Mapping

Identify primary SC members:

Considering the total network may be toocomplex, unmanageable, and unnecessary

Which members are critical, from thevantage point of the focal firm, to satisfyingend customers?

Identify primary and supporting members: Primary members: all autonomous firms / SBUs which

actually perform the operational and/or managerial activitiesin the processes designed to produce a specific output for aparticular customer or market

Supporting members: firms which simply provide resources,knowledge, utilities, assets, etc. for primary members


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SC Strategy

A given firm may be a primary member for one

process, but a supporting member for another

System boundaries:

Point of origin: the left boundary where no more

primary suppliers exist;

Point of consumption: the right boundary where

no further value is added, and the product /

service is consumed.

SC Strategy

Supply Chain Structure

Horizontal structure: number of tiersalong the supply chain

Vertical structure: number of partiesin each tier

Horizontal position of the focalcompany: at the beginning, middle orend of the chain?

SC initiatives such as single sourcing,outsourcing, etc. change the SCstructure


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SC Strategy

Types of Process LinksPrioritize the links (relationships: 80-20 rule):

1. Managed process link: focal firm typically integratesthis process with another firm

2. Monitored process link: focal firm simply monitorsor audits how the link is integrated and managed

3. Not-managed process link: not critical: focal firmdoes not even monitor this link; focal firm trusts otherfirms to do well on this link

4. Non-member process link: link between members ofthe focal firms SC with non-members of the SC (e.g.,link between a supplier who also supplies to acompeting SC (non-member); cannot be ignored.

SC Strategy

What business process governs the link?

Procurement process

Customer relationship management

Demand management

Order fulfillment

Manufacturing flow management

New product & process development (NPDP) Reverse logistics process, etc.


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SC Strategy

SCM: The Basic Strategies

A supply chain strategy can be aimed primarilyat providingLow cost goods / services, orResponsiveness, orDifferentiated products

All elements and decisions in a supply chainshould be consistent with the overall SCstrategy:new product design, physical configuration (plant,

supplier, warehouse location), supplier selection,process characteristics, etc.

SC Strategy

Porters Five Forces Model:

Threat of New

Products,

Substitutes

Suppliers

Bargaining Power

Competition Among

Existing Firms

Buyers

Bargaining Power

Threat of New

Entrants

Barriers to entry

Porters Value Chain Diagram


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SC Strategy

Strategy & Fit

Strategy is about being different: deliberatelychoosing a different set of activities to deliverunique value; Operational effectiveness (lean, six-sigma, ERP, etc.) is not strategy (Porter, 2001).

Every thing matters, not just core competencies

All activities must fit well in the value chain

Good overall fit => sustainable competitive

advantage & barriers to entry

SC Strategy

Activity Mapping (e.g.): Southwest Airlines

(Source: Porter, 1998)


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SC Strategy


Supplier

Supplier

Supplier

Firm

Firm

Distributor

DistributorCustomer

Customer

Customer

Customer

Customer

Customer

B2B B2C C2C

Using Internet & E-commerce Judiciously in SC

SC Strategy

Supply Chains:From Inter-functional

To Inter-organizationalIntegration


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SC Strategy

Phase I: Inter-functional Integration

DEPT

1

DEPT

2

DEPT

3

Process: Cross-

Functional Team

Traditional

Re-engineeredValue Chain

Silos, Disconnects & handoffs

Departmental parochialism

Slow progress of work: non-

value adding times for

move, wait, information

gathering, clarification, etc.

Customer is far away->

customer orientation

confined to marketing

SC Strategy

Phase II: Inter-organizational Integration

Common goals for the supply chain: cost and serviceimprovements sought jointly

New performance metrics to avoid sub-optimization

A culture of partnerships, collaboration, trust,transparency & information sharing with keymembers

A meta-organization (steering committee) for SC

Standardization of systems & procedures in the chain:

IT, quality, material bar codes, RFID, etc.

Conflicts possible, if one firm benefits more or less

Benefits for entire supply chain, end customer, and bigpicture must be stressed at such times


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SC Strategy


Supplier

Supplier

Supplier

FirmDistributor

Customer

Customer

Customer

Customer

Supply Chain Map

Retailer

Retailer

Retailer

Scoping: high-impact

areas; 80-20 rule

Points of vulnerability &

potential supply disruption

Implementation

Organizing

RedesigningSustainability:

Minimum carbon

footprint

SC Strategy

Organizing for Improvements

SC Steering Committee

PhysicalReconfiguration

BusinessProcesses

IS & ITIntegration

Suppliers Manufacturers Distributors Retailers

NPDP

Purchasing

Operations

Inter-OrganizationalTeams

Inter-FunctionalTeams

Marketing

NPDP

Purchasing

Operations

Marketing

NPDP

Purchasing

Operations

Marketing

NPDP

Purchasing

Operations

Marketing

(Source: Braunscheidel & Suresh, 2004)


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SC Strategy

Inter-organizational Integration

1. Scoping: Identifying good process to redesign

High-impact process to enhance SC performance

Selecting a good partner who has strong interest;one who is experienced with process redesign;fast decision maker, has collaborative culture;has good IT infrastructure, etc.

2. Organizing:

Steering committee:Executives from member firms; define each firmsinvestment, roles, share of benefits, procedures for resolvingdisputes, establish performance goals & metrics

Design teams:6 12 members committed full-time to the project;members from both firms included; experts in processredesign, and change management. Select right people.

SC Strategy

Inter-organizational Integration (contd)

3. Redesigning :

Design the new, integrated process in a way that fulfills SCperformance goals: final customer always comes first; avoidduplications; work done by the person in the best position toperform; a single process, based on one common database; Design in such a way that both firms benefit, etc.

4. Implementing:

Roll out new process in clearly defined stages, focus on

achieving benefits early, maintaining momentum Communicate tirelessly: articulate rationale, define and

manage expectations, involve everyone, make everyone animportant member, etc. Good project management.


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SC Strategy

II. Global Trends inSupply Chain Restructuring

Product-Process Design

Rethink Products, Processes &

Supply Chain Networks

Well-designed package of [ Products & Services ] isalways an important order-winner

The cost, quality, producibility, maintainability,serviceability, etc. of product are all determined atthe Design stage itself

Process and Global Logistics issues must be

considered at the Design stage itself.

Design is an on-going, full-time activity, whichshould be proactive, seeking first-moveradvantages


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First-mover Advantages

Price

1st Movers Cost

Later Entrants Cost

Period of Exclusivity

For First Mover


Expectations from NPDP

Precisely match customer needs

Meet customer needs in simple, cost-effective

manner

But which preserve barriers to entry (strive for

inimitable designs and processes)! Fast time-to-market, low development costs!

Robust designs, with minimal revisions

Designs which


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Standardization:A major Source of Productivity

Design & Process Planning: lead times & cost reduced Production & Assembly: higher volumes

increase in productivity and quality; prospects forautomation; less training costs; less changeover times,productive capacity increased, etc.

Purchasing: Lower material costs; lower purchasecosts; lower lead times

Materials Storage: fewer parts / Stock Keeping Units(SKUs) in inventory

Quality: Fewer defects

Customer Service and delivery improvedDownside of standardization = limited customer

appeal


Line Breadth & Fit in Product Line

Too narrow =>loss of competitive position

loss of distributor and sales force support

Too broad =>Variety: less volumes => less economies of scale

Increase in SKUs, inventories

Changeover costs increased, waste of capacity,

inventory cost increaseDistribut ion and material costs increase

Confusion in product offering


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DFM => DFMA => DFS => DFE => DFL

Design For Manufacture (DFM) Design for easy & economical production

Consider manufacturability early

Identify easy-to-manufacture design characteristics

Use easy to fabricate & assemble components

Design for Manufacture & Assembly (DFMA)

Design for Service (DFS)

Design for Environment (DFE)Design for Logistics or Supply Chain (DFL)


Traditional Process

CUSTOMERSENGINEERING

DESIGN

R & D

PROCESSPLANNING

(MFG. ENGG)

MARKETING

Business &Marketing Strategy

PRODUCTION /OPERATIONS

DrawingsBills of material,assembly charts

PURCHASING

Make/Buy Decisions

VENDORS

Process Plans

VendorDevelopment

Prototypes

Make/Buy Decisions


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Phase I: Concurrent Engineering:

Inter-functional integration

MARKETING DESIGNPROCESS

PLANNING

Cross-functional

team

Traditional

Concurrent


Reduction in Time-To-MarketSilo Approach

Lead Time

Concurrent Approach

Lead Time

...

...

Defects caught early, and

much less expensively

Greater Producibility

Developmental lead times

and cost reduced

Less Resistance to design

changes


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Phase II: Inter-organizationalIntegration in NPDP

Target Costing:

Design driven by global cost targets (= China costs!)

Design for Logistics:

Global Logistics issues considered at Design stageitself.

Redesign of products & processes: form and logisticspostponement: Delayed Differentiation

Pre-sourcing:

Early involvement of suppliers & distributors in design

Mass customization initiatives

Inter-organizational integration: Cross-enterprise &cross-functional teams


Marketing

Design PurchasingProcess

PlanningVendors

Traditional

Drawings,

Bill of material

Specs

Process Plans

The New Way

Early Involvement of Purchasing + Pre-sourcing

Pre-selected

Vendors,Distributors,

Retailers

Vendor

Development

ExpandedConcurrentEngineeringTeam

Make /Buy

Decisions


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External Product Development Strategies

External Development Strategies AlliancesJoint Ventures

Purchase Technology / Expertise by Acquiring Developer

Internal Development StrategiesMigrations of Existing Products

Enhancement to Existing ProductsNewInternally Developed Products

Internal ----------------------Cost of Product Development --------------------- Shared

Lengthy--------------------Speed of Product Development---------------Rapid and/or

Existing

High------------------------- Risk of Product Development ----------------------- Shared


Design For Logistics (DFL) Principle of Postponement:

Do the common & generic things first, and

differentiating / customizing things in the end

Form & Logistics postponement (time & placepostponement)

Modularity in products and processes and itsimpact on SCM reconfiguration


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Redesign for Logistics: Case of theJapanese Cubic Watermelon

Product-Process Design:

(Source: Lampel & Mintzberg 1996)

Customization Approaches


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Mass Customization:Customization Without Cost Premium

Physical Network

Industry Restructuring Based on

Postponement Principles

Form Postponement

Logistics Postponement

Time & Place Postponement

Capacity Postponement

Purchasing Postponement


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Physical Network

Form Postponement

Rearrange bills of material so thatdifferentiating (customizing) elements are

postponed to last stage of assembly.

Permits central inventories and economies

of scale for early-stage items, which are less

subject to forecast errors

Differentiating elements performed later,

when mix forecasts become more accurate.

Physical Network

Expanded View of Bill of Material

Upholsterytool

Crevicetool

Hand-vacDusting

toolPackage

PackagedHand-vac

Forwardhousing

assembly

Screw &lock washer

assembly

Rearhousing

assembly

ServiceComponents

Include

Service

Components

Reorganize BOMs into genericcomponents & differentiators (athigh level)


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Physical Network

Industry Restructuring

(Some Examples)

Pharmaceuticals: global production of bulkchemicals + local fill-and-finish plants in numerouscountries

HP printers: two approaches

Benetton model

Paint manufacture & sale (postponement + masscustomization)

Auto Industry: platform architecture + delayeddifferentiation

Physical Network

HP: Channel Assembly Approach

HP DeskJet Printer:

Before: customized the printer at the factory in Singapore forAsian and European markets; differentiated as soon asproduction began

After: a country-specific external power supply: distributioncenters purchased the materials and assembled at the site;manufacturing costs went up slightly, but total manufacturing,stocking and shipping costs reduced by 25%.

This is known as channel assembly: The finalassembly, based on option-specific customer requests,are done within distribution centers. A new role forwarehouses and 3PL providers


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Physical Network

HP: Universal Product Approach

LaserJet Printer:Before: dedicated power supply (110v or

220 volts) for US or European markets;differentiated as soon as production beganin Japan

After: a universal (standardized) powersupply developed; flexibility in shipmentsfrom US, Europe, Japan, depending on

demand; total manufacturing, stockingand shipping costs reduced by 5%.

Physical Network

Postponement atEaton: Cutler-Hammer

Before:All 3500 industrial circuit breakers were madeat Arecibo, Puerto Rico, shipped to Jacksonville,FL, and trucked to warehouse in Duncan, SC.High inventory levels at both facilitiesSame-day service rate averaged around 90%

Now:

50 generic styles made at Puerto Rico, bar coded & shipped-trucked to SCFinal assembly done at Duncan, SC after orders are receivedBuild instructions downloaded for that style based on bar code in Duncan, SCShipping costs reduced, better containerization reduced damage levels, etc. Inventories reduced significantly at both locationsSame-day service level increased to 98%


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Physical Network

Benetton & Other Models

Benetton: Fresh look at the processing steps andradical re-sequence to postpone thedifferentiating step closer to selling time

Before: to make a red sweater, start with a redfabric, cut, sew, etc to make a red sweater;

After: start with uncolored fabrics, make whitesweaters for all colors, and coloring is the laststep, when mix forecast most accurate

Auto Industry: Platform architecture, delayed

differentiation: e.g., moon roof in a car, etc.

Paint Industry Restructure

Physical Network

The Physical Network Factories:

Heavy manufacturing plants (auto plants,steel mills, chemical plants); Light industrymanufacturing plants (small componentsmanufacturing, assembly)

Warehouse & distribution centers

Changing roles

Retail & service outlets; order entry andfulfillment points

Supply sources


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Physical Network

Facilities & primary focus for each facility? Facility location: consistent with overall strategy?

Capacity allocation:

economies of scale + ?

Sufficient economies of scope?

Market & supply sources: which market do they

serve? where are the supply sources?

Exploit duties & tariffs, & exchange rates?

Exploit form & logistics postponement? Consistent with overall strategy of low cost /

responsiveness / innovation, etc.?

Redesign of Physical Network

Physical Network

Reconfiguration of Global

Manufacturing & Supply Chains

Non-Reactive

Systems

Reactive

Systems

More stable production

configurations for generic

items: items with stable,consolidated demand, plus

minimum runs of items with

high uncertainty

Flexible & agile systems for items

with high demand uncertainty;

Responsiveness, customization,economies of scope logic; Based

on analysis of SKU-product-

process matrix, & demand

uncertainty.

Global

Markets


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Physical Network

Supply Networks:

Global Sourcing, Yet Greater Proximity

Distance from Assembly Plant

SupplierInvolvementinAssembly

Modular

Consortia

System

SuppliersLocal

SuppliersDispersed

SuppliersRemote

Suppliers

Devolution of assembly tasks:

locate near OEMs

Assembly tasks performed within OEM

Pressure for JIT deliveries

Physical Network

Types of Plant Focus

Product Focus Plant: Produces a product (line) inentirety for distribution within a firms entiredomestic or global market region

Market Focus Plant: Produces most or all productlines, for distribution to specific geographic region

Process Focused Plant: Segments of productionprocess are assigned to separate plants (e.g.,feeder plants -> assembly plants)

General Purpose Plant (Wide variety, low-volumeplant;with no focus; strive for economies of scope)


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Physical Network

Global Location Factors

Government stability

Government regulations

Political & economic systems

Economic stability & growth

Exchange rates

Culture

Climate

Export import regulations

Duties & tariffs

Raw material availability

Intellectual property rights (IPR)

Number and proximity of

suppliers

Transportation & distribution

system

Labor cost & education

Available technology

Commercial travel

Technical expertise

Cross-border trade regulations

Group trade agreements

Physical Network

Global Location Factors (contd)

Labor (availability,

education, cost & unions)

Proximity of customers

Number of customers

Construction/leasing costs

Land costs

Modes and quality oftransportation

Transportation costs

Incentive packages

Governmental regulations

Environmental regulations

Raw material availability

Commercial travel

Climate

Infrastructure

Quality of life


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Physical Network

Site Location Factors

Customer base Construction/leasing

cost

Land cost

Site size

Transportation

Utilities

Zoning restrictions Traffic

Safety/security

Competition

Area business

climate

Income level

Location Incentives:

Tax credits, Relaxed government regulation, Job training,

Infrastructure improvement, etc.

Physical Network

How much capacity to install?

Econ. of scale Diseconomies of scale

Economies of scale: plants of the right size, to ensureglobally competitive costs + agility & responsiveness

Avoiding diseconomies of scale

BureaucracyNon-value addedactivitiesStrategic inertia, etc.


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Physical Network

Economies of Scope

Should be systematically applied, especially

for market-focus plants

Rooted in group technology principles

Flexible technology that can produce a

variety of parts on the same setup

Flexible, cross-trained staff, etc.

Physical Network

Six Types of Foreign Factories

Low CostProduction

Access to Skills &Knowledge

Proximity toMarket

High

Low

SiteCompetence

Off-shore Outpost Server

Source

Lead

Contributor

Primary Reason for the Factory

Source: Ferdows (1998)


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Physical Network

Cons of Decentralized Structure

Inventories increasecycle stock increases (Square Root Law of

Distribution): inventory level isproportional to (no. of warehouses). So,in a 4-warehouse system, inventories aredouble that of a centralized system.

safety stocks are also higher due tospreading the inventory, and increase instock-out probability

Higher overheads, administrative expenses Need for better coordination and control

Physical Network

Physical Network:

Compress Overall Lead Times Reduce Product Development, Procurement,

Production & shipment lead times

Maximize concurrency in and among:

product development

sourcing (procurement)

production

shipments and delivery to retailersIn summary, the total physical network

should support overall SC strategy of:< low cost / responsiveness / .. >


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Physical Network

Key Advantage for Asian & MiddleEastern Countries: Exchange Rate

Differential with US$

The yuan is kept pegged to the US $

Kept undervalued by about 40%? MakesChinese exports very cheap

Other Asian currencies, such as IndianRupee are free-floating currencies,

trading at around Rs. 60-62 to one US $

Physical Network

Global Supply Chains:

(e.g.) China - US Supply Chain

USAChina

constant exchangerate with $

Low labor costs

Tax incentivesConstant exchange ratesCooperative labor sectorContract-based managementSingle party machineryGood infrastructureFDI-friendly business climate

Low prices for consumers

High standard of living, etc.but

Loss of jobsErosion of manufacturing base

Loss of technology baseMounting deficit


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SC Strategy

V. Design of Supply ChainNetworks

Supply Chain Network Design

Maximize Customer Service Level:

Response time

Product variety o ffered

Product availability

Customer experience

Order visibility

Returnability

Minimize Costs to Provide Service:

Inventories

Transportation

Facilities and handling

Information Systems


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Network Optimization Models

Customer

Store

Materials

DC

Component

Manufacturing

Vendor

DC

Final

Assembly

Finished

Goods DC

Components

DC

Vendor

DC Plant

Warehouse

FinishedGoods DC

Customer

DC

Customer

DC

Customer

DC

Customer

Store

Customer

Store

Customer

Store

Customer

Store

Vendor

DC

Network Optimization Models

Allocating demand to production facilities

Locating facilities and allocating capacity

Which plants to establish? How to configure the network?

Key Costs:

Fixed facility cost

Transportation cost

Production cost Inventory cost

Coordination cost


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Plant Location with Multiple Sourcing:Capacitated Location Problem

yi = 1 if plant is located at

site i, 0 otherwise

xij = Quantity shipped from

plant site i to customer j

Dj = Annual demand for

market j, j = 1 to m

Ki = capacity of plant I

fi = annual fixed costs

cij

= cost of producing &

shipping one unit from i to j

Example: Sun Oil Corp.

Capacitated Location Problem

Inputs - Costs, Capacities,

Demands

Demand Region

Production and Transportation Cost per

1,000,000 Units Fixed Low Fixed High

Supply

Region

N.

America

S.

America Europe Asia Africa

Cost($)

Capacity

Cost($)

Capacity

N. America 81 92 101 130 115 6,000 10 9,000 20

S. America 117 77 108 98 100 4,500 10 6,750 20

Europe 102 105 95 119 111 6,500 10 9,750 20

Asia 115 125 90 59 74 4,100 10 6,150 20

Africa 142 100 103 105 71 4,000 10 6,000 20

Demand 12 8 14 16 7


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Solver Example Spreadsheetfor Sun Oil Corp Problem

Telecom One & High Optic example


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DemandCity

Production&TransportationCostper1000Units Fixed Capa

SupplyCity Atlanta Boston Chicago Denver Omaha Portland Cost($) city

Baltimore 1,675 400 685 1,630 1,160 2,800 7,650 18Memphis 380 1,355 543 1,045 665 2,321 4,100 22

Wichita 922 1,646 700 508 311 1,797 2,200 31Cheyenne 1,460 1,940 970 100 495 1,200 3,500 24SaltLake 1,925 2,400 1,425 500 950 800 5,000 27Demand

10 8 14 6 7 11

Telecom One & High Optic Example

Yellow regions are High Optic (west coast)

& the others are Telecom One (east coast)

Separate Optimum SolutionsDemandCity

Production&TransportationCostper1000Units

SupplyCity Atlanta Boston Chicago Denver Omaha Portland

Baltimore 0 8 2Memphis 10 0 12

Wichita 0 0 0SaltLake 0 0 11

Cheyenne 6 7 0Costs for Telecom One = 28, 836, 000

Costs for High Optic = 21, 365, 000

Total for both firms = 50, 201, 000

See separate solver solutions for each firm


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If both fi rms merged, total costswill only be $ 47,401,000

= a savings of about $3 mill ion /month, as shown in the combined

Excel solver

Plant Location with Single Sourcing

yi = 1 if plant is located

at site i, 0 otherwise

xij = 1 if market j is

supplied by factory i, 0

otherwise


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Plant Location with Multiple Sourcing:

yi = 1 if plant is located

at site i, 0 otherwise

xij = Quantity shipped

from plant site i to

customer j

Dj= Annual demand for

market j, j = 1 to m

Ki= capacity of plant i

Sportstuff.com example

BioPharma example


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Case: SportStuff.com

(Adapted from: Chopra & Meindl, 2003)

In December 2000, Sanjay Gupta and his management team were busy evaluating the

performance at SportStuff.com over the last year. Demand had grown by 80 percent over the

year. The venture capitalists supporting the company were very pleased with the growth insales and revenue. Sanjay and his team, however, could clearly see that costs would growfaster than revenues if demand continued to grow and the supply chain network was notredesigned. They decided to analyze the performance of the current network in order to

redesign for the rapid growth anticipated for next three years.

SPORTSTUFF.COM

Sanjay Gupta founded SportStuff.com in 1996 with a mission of supplying parents with moreaffordable sports equipment for their children. Parents complained about having to discardexpensive skates, skis, jackets, and shoes because children outgrew them rapidly. Sanjay's

initial plan was for the company to purchase used equipment and jackets from families and

any surplus equipment from manufacturers and retailers and sell these over the Internet. Theidea was very well received in the marketplace, demand grew rapidly, and by the end of 1996the company had sales of $0.8 million. By this time a variety of new and used products weresold and the company received significant venture capital support.

In June 1996, Sanjay leased part of a warehouse in the outskirts of St. Louis tomanage the large amount of product being sold. Suppliers sent their product to the

warehouse. Customer orders were packed and shipped by UPS from there. As demand grew,SportStuff.com leased more space within the warehouse. By 1999, SportStuff.com leased theentire warehouse and orders were shipped to customers all over the United States.

Management divided the United States into six customer zones for planning purposes.Demand from each customer zone in 1999 was as shown in Table 1. Sanjay estimated that thenext three years would see a growth rate of about 80 percent per year, after which demand

would level off.

Table 1. Regional Demand in 1999

Zone Demand in 1999 Zone Demand in 1999Northwest 320,000 Lower Midwest 220,000Southwest 200,000 Northeast 350,000

Upper Midwest 160,000 Southeast 175,000

THE NETWORK OPTIONS

Sanjay and his management team could see that they needed more warehouse space to copewith the anticipated growth. One option was to lease more warehouse space in St. Louis

itself. Other options included leasing warehouses all over the country. Leasing a warehouseinvolved fixed costs based on the size of the warehouse and variable costs that varied with the

quantity shipped through the warehouse. Four potential locations for warehouses wereidentified in Denver, Seattle, Atlanta, and Philadelphia. Warehouses leased could be eithersmall (about 100,000 sq. ft.) or large (200,000 sq. ft.). Small warehouses could handle a flow

of up to 2 million units per year whereas large warehouses could handle a flow of up to 4


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million units per year. The current warehouse in St. Louis was small. The fixed and variablecosts of small and large warehouses in different locations are shown in Table 2.

Sanjay estimated that the inventory holding costs at a warehouse (excluding

warehouse expense) was about $600 F , where F is the number of units flowing through thewarehouse per year. Thus, a warehouse handling 1,000,000 units per year incurred aninventory holding cost of $600,000 in the course of the year.

Table 2 . Fixed and Variable Costs

Zone Small Warehouse Large Warehouse

Location Fixed Cost Variable Cost Fixed Cost Variable Cost

Seattle $300,000 / year $ 0.20 /unit $500,000 / year $ 0.20 /unit

Denver $250,000 / year $ 0.20 /unit $420,000 / year $ 0.20 /unit

St. Louis $220,000 / year $ 0.20 /unit $375,000 / year $ 0.20 /unit

Atlanta $220,000 / year $ 0.20 /unit $375,000 / year $ 0.20 /unitPhiladelphia $240,000 / year $ 0.20 /unit $400,000 / year $ 0.20 /unit

Table 3. UPS Charges per shipment of four units

LocationNorth-

west

South-

west

Upper

Midwest

Lower

Midwest

North-

east

South -

east

Seattle $ 2.00 $ 2.50 $ 3.50 $ 4.00 $ 5.00 $ 5.50

Denver $ 2.50 $ 2.50 $ 2.50 $ 3.00 $ 4.00 $ 4.50St. Louis $ 3.50 $ 3.50 $ 2.50 $ 2.50 $ 3.00 $ 3.50Atlanta $ 4.00 $ 4.00 $ 3.00 $ 2.50 $ 3.00 $ 2.50Philadelphia $ 4.50 $ 5.00 $ 3.00 $ 3.50 $ 2.50 $ 4.00

SportStuff.com charged a flat fee of $3 per shipment sent to a customer. An average

customer order contained four units. SportStuff.com in turn contracted with UPS to handle allits outbound shipments. UPS charges were based on both the origin and the destination of theshipment and are shown in Table 3. Management estimated that inbound transportation costsfor shipments from suppliers were likely to remain unchanged, no matter what the warehouseconfiguration selected.

Questions

1. What cost does SportStuff.com incur if all warehouses leased are in St. Louis ?2. What SC network configuration do you recommend for SportStuff.com ?


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C S E S T U D YB IO P H A R M A I N C

, ;

In 2005, Phillip (Phil) Landgraf faced several glaringproblems in the financial performance of his company,BioPharma, Inc. The firm had experienced a steep declinein profits and very high costs at its plants in Germany andJapan. Landgraf, the company s president for worldwideoperations, knew that demand for the company s products was stable across the globe. As a result, the surpluscapacity in his global production network looked like aluxury he could no longer afford.Any improvement in financial performance wasdependent on having the most efficient network in place,because revenues were unlikely to grow. Cutting costswas thus a top priority for the coming year. To help designa more cost-effective network, Landgraf assigned a taskforce to recommend a course of action.

B C K G R O U N DBioPharma, Inc., is a global manufacturer of bulk chemicals used in the pharmaceutical industry. The companyholds patents on two chemicals that are called Highcaland Relax internally.These bulk chemicals are used internally by the company s pharmaceutical division, and arealso sold to other drug manufacturers. There are distinctions in the precise chemical specifications to be met indifferent parts of the world. All plants, however, are currently set up to be able to produce both chemicals for anypart of the world.For 2005, sales of each product by region and the production and capacity at each plant are shown in Table 6-19.The plant capacity, measured in millions of kilograms

of production, can be assigned to either chemical as longas the plant is capable of producing both. BioPharmahas forecast that its sales for the two chemicals are likelyto be stable for all parts of the world, except for Asiawithout Japan, where sales are expected to grow by 10percent annually for each of the next five years beforestabilizing.The Japanese plant is a technology leader within theBioPharma network in terms of its ability to handle regulatory and environmental issues. Some developments inthe Japanese plant had been transferred to other plants inthe network. The German plant is a leader in terms of itsproduction ability. The plant has routinely had the highestyields within the global network. The Brazilian, Indian,and Mexican plants have somewhat outdated technologyand are in need of an update.CURRENT PL NT COSTS

T BIOPH RMAfter considerable debate, the task force identified thecost structure at each plant in 2005 as shown in Table6-20. Each plant incurs an annual fixed cost that is independent of the level of production in the plant. The fixedcost includes depreciation, utilities, and the salaries andfringe benefits of employees involved in general management, scheduling, expediting, accounting, maintenance,and so forth. Each plant that is capable of producingeither Highcal or Relax also incurs a product relatedfixed cost that is independent of the quantity of eachchemical produced.The product-related fixed cost includes

Region Plant CapacityLatin America Brazil 18.0Europe Germany 45.0Asia w/o Japan India 18.0Japan Japan 10.0Mexico Mexico 30.0U.S. U.S. 22:0

Highcal elax2 5 2 5 2 5 2 5Sales Production Sales Production

7.0 11.0 7.0 7.015.0 15.0 12.0 0.05.0 10.0 3.0 8.07.0 2.0 8.0 0.03.0 12.0 3.0 18.018.0 5.0 17.0 17.0

IThis case was inspired by pplichem Aj, Harvard Business School Case 9-685-051, 1985.


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lant Highcal Relax Highcal RelaxFixed Cost Fixed Cost Fixed Cost aw Material Production aw Material ProductionPlant (million ) (million ) (million ) ( /kg) cost ( /kg) ( /kg) cost ( /kg)Brazil 20.0 5.0 5.0 3.6 5.1 4.6 6.6Germany 45.0 13.0 14.0 3.9 7.0 5.0 8.5India 18.0 4.0 4.0 3.6 4.5 4.5 6.0Japan 17.0 6.0 6.0 3.9 7.5 5.1 9.0Mexico 30.0 6.0 6.0 3.6 5.0 4.6 6.5u s 21.0 5.0 5.0 3.6 5.0 4.5 6.5

depreciation of equipment specific to a chemical andother fixed costs mentioned that are specific to a chemical. a plant maintains the capability to produce a particular chemical, it incurs the corresponding product-relatedfixed cost even if the chemical is not produced at theplant.The variable production cost of each chemical consists of two components: raw materials and productioncosts. The variable production cost is incurred in proportion to the quantity of chemical produced and includesdirect labor and scrap. The plants themselves can handlevarying levels of production. n fact, they can also beidled for the year, in which case they incur only the fixedcost, none of the variable cost.

BioPharma transports the chemicals in specializedcontainers by sea and in specialized trucks on land. Thetransportation costs between plants and markets are asshown in Table 6 21. Historical exchange rates are shownin Table 6-22 and the regional import duties in Table 6-23.Given regional trade alliances, import duties in realityvary based on the origin of the chemical. For simplicity ssake, however, the task force has assumed that the dutiesare driven only by the destination. Local productionwithin each region is assumed to result in no import duty.Thus, production from Brazil, Germany, and India can besent to Latin America, Europe, and the rest of Asia without Japan, respectively, without incurring any importduties. Duties apply only to the raw material, production,

LatinFrom/To America EuropeBrazil 0.20 0.45Germany 0.45 0.20India 0.50 0.35Japan 0.50 0.40Mexico 0.40 0.30U.S. 0.45 0.30

Asia w/oJapan Japan Mexico U.S.0.50 0.50 0.40 0.450.35 0.40 0.30 0.300.20 0.30 0.50 0.450.30 0.10 0.45 0.450.50 0.45 0.20 0.250.45 0.45 0.25 0.20

Brazilian Indian Japanese Mexican U.S.eal Euro Rupee en Peso Dollar

2005 2.70 0.74 43.47 103.11 11.21 1.002004 2.90 0.80 45.60 107.00 11.22 1.002003 3.50 0.96 48.00 119.25 10.38 1.002002 2.30 1.11 48.27 131.76 9.12 1.002001 1.95 1.06 46.75 114.73 9.72 1.002000 1.81 0.99 43.55 102.33 9.48 1.00


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Retailer1

Retailer2

Retailer3

DCFactory PO POWO

Game Setup

TransitArea

We play a traditional, un-coordinated supply chain: no one talks to each

other: interactions entirely thru document and chip transfers

Instructorgenerates

dailydemand

WO = Work Order; PO = Purchase Order

Row 6 Row 5 Row 4 Row 3 Row 2 Row 1

TransitArea Transit

Area

Retailer1

Retailer2

Retailer3

DCFactory PO

POPOPO

WO

Factory, DC & Retailers: Move chips from Upstream into Stock

Note down Inflow and Available Beg. Inventory in the Form

(Factory: collect chips from Coordinator and place into upstreamtransit, based on earlier Work Order)

Day 23!

Step 1: Instructor Announces New day:Material Inflow & Stock Update


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Factory & DC: Demand = All Pending Purchase Orders : move ch ips to

downst ream transit area; Discard fulfilled POs; keep unfulfilled POs asBackorders (partial shipments also possible)Retailers: Demand = Random number generated by Instructor; hand over chips to

instruc tor; unfu lfilled demand = lost salesEveryone: Update Shipments / Demand, Endg. Inventory & Backorder / Lost sale,

if any, on the Form

Retailer1

Retailer2

Retailer3

DCFactory PO

POPOPO

Step 2: Meet Todays Demand

Check your Ending Inventory and qty on order (pipeline)

Place new PO/WO, if needed, and place it before upstream firm;note down this quantity in the last column of the Form

Note: Upstream firm acts on it next day as Step 2 (and you mightreceive material day after: Lead time >= 2 days).

Retailer1

Retailer2

Retailer3

DCFactory PO

POPOPO

WO

Step 3: Check Endg. Inventory &Place New Purchase/Work Orders,

if Needed


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Summary of Simultaneous Daily Steps for Each Player

Step 1:

Step 2:

Step 3:

Retailers

Move chips from Upstream pipeline into Stock (the DC would have placed the chips in

the pipeline the previous day). Note down Inflow and Beg. Available stock in form.Meet demand generated by Instructor: Move chips from Stock one step downstream.If Beg. Available stock is not enough, it leads to lost sale (no backorder for Retailer)

Place PO on DC, if necessary, based on ending & pipeline stock. The DC will act on thisthe next day (do not hand this to DC; just place this before DC in a FIFO stack)

Step 1:

Step 2:

Step 3:

DC

Move chips from Upstream pipeline into Stock (Factory would have placed the chips inpipeline the previous day). Note down Inflow and Beg. Available stock.

Meet Retailer demands: move chips for all the pending POs, placed by the retailers onprior day(s). DC does not look at / talk to Retailers. I t merely acts on the POs.

Place order on Factory, if necessary, based on ending & pipeline stock. Factory will lookat it next day.

Step 1:

Step 2:

Step 3:

Factory

Move chips from Upstream pipeline into Stock. Note down Inflow into Stock and Beg.

Available stock. Also move chips from Recycle Bin into pipeline based on Work Orderplaced by itself the previous day. Throw away this WO.

Meet DC demand: Move chips from Stock downstream, for POs placed by DC on priordays

Place a self- Work Order, if necessary, based on ending stock. The Factory will act onthis the next day.

Retailer

PO to DC

15

Retailer Form

Day inflow Avail.Stock

TodaysDemand

Endg.Invent.

Stock-out

OrderPlaced

7 10 0

8

9

Retailer Daily Operation

Stock-out = lost sales; cannot be carried over

Endg. Inventory & stock-out: one of them will be zero

Demand = 12 1. Move chips from upstream pipeline intoStock. Note Inflow & update Avail. Stock

2. Check & enter todays demand. Movedemand fulfilled chips to Recycle bin.Note Endg. Inventory & sto ck-out

3. Place Purch ase Order on DC if you want,and place it on central pile before DC

5 15 12 3 0 15

Chipsupstream = 5

Chipsdownstream = 12


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DC Form

Day Inflow Avail.Stock

Total

Shipped

Endg.Invent.

BackOrdered

OrderPlaced

7 0 10

8

9

DC Operation

Back orders are not lost sales; can be carried over

Endg. Inventory & back orders: one of them will be zero

1. Move chips from upstream. Note Inflow andupdate Available Stock

2. Check Demand: all POs from Retailers!

Update Endg. Inventory & back orders

3. Place Purchase Order, if necessary, on thefactory

DC

PO to Fac

60

R-PO-1

15

R-PO-2

20

R-PO-3

10 (bo)

Allo cate & s hip , on a FIFO basis , move chip sto pipeline before each retailer

FIFO Shipments: 10 to meet

store 3 PO (backorder), 15 for

store 1 PO, and a partial 15

for store 2 PO

Chips to downstream= 10, 15, 15

40 40 40 0 5 60

Chipsupst ream = 40

Factory Form

Day Inflow Avail.Stock

Shipped Endg.Invent.

BackOrdered

OrderPlaced

7 0 10

8

9

Factory Operation

Back orders are not lost sales; can be carried over

Endg. Inventory & back orders: one of them will be zero

1. Find any factory work order? If yes, move

chips from Recycle bin into stock & noteInflow & Avail. Stock

2. Check Demand: all POs from DC . Allocate &move chi ps, on a FIFO basis. Update Endg.Inventory & backorders

3. Place Factory Work Order (FWO) on left

Factory

FWO

40

DCPO

10 (bo) DCPO

50

FIFO Shipments: 10 to

meet earlier PO, 30

towards current demand

FWO

80

Chips todownstream= 40

40 40 40

0 20

80


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Participants will be divided into 2 or 3 such supplychains (SCs)

Each SC has 5 firms (three retailers, one DC, one factory;each firm can be operated by one or two players).

One SC will play the role of a benchmark SC. See gameparameters for benchmark SC in next slide.

The instructor may change the parameters for other SCs:one SC may have half the demand volatility (instructorwill generate different random demands for this SC);Another SC may have different inventory holding /shortage cost, etc. with respect to benchmark SC

The Game is played for 35 days, and the data is enteredinto the Game spreadsheet and analyzed later

Game Parameters for Benchmark SC

Factory DC Retailers

Demand =Backorders +Pending POs

Backorders +Pending POs

Uniform random(0 to 12) or (3 to 9)

UnfulfilledDemand

Carried over asbackorders

Carried over asbackorders

= lost sales;cant carry over

Cost ofUnfulfilledDemand

$ 2 / unitbackorder cost

$ 2 / unitbackorder cost

$ 5 / unitLost sales

Order (Setup)Cost

$100 / WO $ 25 / PO $ 25 / PO

Order Quantity25 to 100

(multiples of 5)

No Min / Max.Order Qty

(multiples of 5)

No Min / MaxOrder Qty

(multiples of 5)Inventory HoldingCost

$1 /unit/ day $1.50 /unit/ day $2.00 /unit/ day

Beg. Inventory 75 50 25


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Analyze & compare the results of all SCs withrespect to benchmark SC.

Discuss: Bullwhip effects & cost characteristics in all SCs How can end-customer service be improved? How can overall supply chain costs be lowered?

Work out a new SC coordination / informationsharing strategy and play the game again, iftime permits. This time, feel free to talk,exchange info, maintain visibility upstream &downstream & collaborate (but not collude).

Was there any: Improvement in end-customer service level? Reduction in overall supply chain costs?


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SC Strategy

VII. Collaborative Forecasting &Inventory Management

Collaborative Forecasting & Operations

Importance of ForecastingAf fects all upstream decisions in the supply chain

Forecast errors are expensive:Overestimation of demand =>

markdowns, excess commitment of resources,inventories of unwanted items, discounted sales

Underestimation of demand =>

stock-outs, opportun ity costs: lost sales, goodwill,image, market share, loss of revenue now & future

Forecasting provides extra lead time to: React to new situations: Less surpr ises

Make optimal and proactive decisions


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Traditional: Firm-level, IndependentForecasting & Operations Planning

APP

MRP Orders

Forecasts

ProductionPurchasing

APP

MRP Orders

Forecasts

ProductionPurchasing

Firm Firm


Management judgment, expert

opinion, sales force composites,

Delphi, Astrology & other methods

Quantitative

Time Series:

X-axis = TimeSimple and Wtd. Moving Average

Exponential Smoothing

Exp. Smoothing Adjusted for Trend

Trend-Seasonality Regression

Other models

Causal RegressionIndep. variables = causal variables

Traditional Forecasting Methods

Qualitative


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Forecasting in Supply Chain Era

Inter-organizational & collaborative:-Involvement of distributors in forecasting-updating forecasts with initial orders-early information sharing with suppliers,etc.

Advances in ITPoint of sale (POS) scanner technologies,Information sharing technology among firms,common demand data bases, Extranets, etc.

=> Greater visibility upstream & downstream !


Garment Industry:

Quick Response Movement

Variety: garment, gender, type, style, color, size =>numerous SKUs !

Intrinsic nature of the fashion industry

Long product development lead time: accuracy offorecasts greater when closer to the selling season

More intense competition, etc.

Forecasting problems !

Have to commi t product ion a year ahead

Long, globally extended supply chains

Quick-response initiative was developed


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New Use of Forecasting Committees

Each member of the buying committee makesindependent forecast

Items with less variance among members => moreaccurate forecasts (predictable items)

Items with high variance among members =>unpredictable items

Disagreement preserved; Consensus not enforced


Partition production capacity into:

Non-reactive capacity: used for :

items with more accurate forecasts

initial, minimum amounts of unpredictable items

Reactive capacity: used for :

unpredictable styles

second runs of production based on unfolding demand

Update initial forecasts with early demandinformation using POS technology

More costly styles carry greater risk: reactive

capacity greatly reduces costs

Capacity Postponement


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Reconfiguration of GlobalManufacturing & Supply Chains

Non-ReactiveCapacity Systems

Reactive CapacitySystems

More stable productionconfigurations forgeneric items: itemswith stable,

consolidated demand,plus minimum runs ofitems with highuncertainty

Flexible & agile systems foritems with high demanduncertainty; Responsiveness,customization, economies of

scope logic; Based onanalysis of SKU-product-process matrix, & demanduncertainty.

GlobalMarkets


Exploit Demand Aggregation Principle

Product line forecasts more accurate than SKUforecasts

Annual forecasts more accurate than weeklyforecasts

Central DC forecasts more accurate than local retailoutlets forecasts. Why?

Product Lineforecast

Items / SKUs

A B C

$$ forecast

SKU-levelforecast

Top-down Bottom-up

Sales repsadjustments

FinalForecast


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Why do Forecasts Always Seem to be Wrong?

q

Demand < q,

Loss from unsold inventory

Cost of over-stocking = c-s

Demand > qShortage, loss of revenue

Cost of under-stocking = p-c

Forecast Providedby Marketing

Capacity commitments &backup options to ensure>50% service level

Expected Demand


Setting Production/Order Quantity:

The Newsvendor Problem

q*

Demand q; Can sell only qCost of under-stocking

= (1-CFR) (p-c)

Balancing the two costs => CFR (c-s) = (1-CFR) (p-c)1. Compute: CFR = [ (p - c) / ( p - s) ]

2. Compute: q* = NORMINV (CFR, Exp. Demand, Std. Dev.)

CFR

Exp.Demand


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Collaborative Planning, Forecasting

and Replenishment (CPFR) Systems

Initiated by Voluntary Inter-industry CommerceStandards (VICS) Association: www.vics.org

Mission: to create collaborative relationshipsbetween buyers & sellers through co-managedprocesses and shared information.

Partners share plans for future events.

Working on issues before they occur, partners havetime to react: suppliers can build inventory in

advance of promotional orders and carry less safetystock at other times, etc.


CPFR: The Precursors QR pioneered in textile and garment industry:

Kurt Salmon Associates

Effic ient Consumer Response (ECR) pioneeredby Wal-Mart

Category Management (CM)

Vendor Managed Inventory (VMI)

CPFR is now v iewed as second generation ECR

(Details on CPFR taken from: Seifert, 2004; and www.cpfr.org)


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Wal-Mart-Warner Lambert Pilot

Both independently forecasted demand, six monthsin advance; the forecasts were by store, week, SKU

The forecasts were shared and discrepanciesresolved; shared on paper at first, and later byelectronic exchange of spreadsheets

Before: Wal-Mart placed orders 9 days in advance;

Af ter pi lo t: Wal-Mart placed orders 6 weeks inadvance, to match Lambert's 6-week lead time.

Warner-Lambert: became a make-to-order situation,

with big reduction in finished goods inventories Wal-Mart: in-stock position went up from 85% to 98%;

sales increased by $8.5 million; inventories reduced25%


CPFR Process Overview

1. Develop Front-End Agreement

2. Create Joint Business Plan

3. Create Sales Forecast

4. Identi fy Exceptions to Sales Forecast

5. Resolve / Collaborate on ExceptionItems

6. Create Order Forecast

7. Identi fy Exceptions to Order Forecast8. Resolve / Collaborate on Exception

Items

9. Order Generation


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Frozen Slushy Fluid

Now

Demand Time Fence Planning Time Fence

Time - >

Forecasts/

Orders

CPFR: I see it this way

Orders Firm

Planned

Orders

Planned Orders

Firm OrdersOrder

Forecasts Sales Forecasts

APICS Terminology

CPFR Terminology



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The CPFR Roadmap

Evaluate Current State Where does your company stand today?

Does your company have a culture that values

cooperation and communication between its

departments and with its trading partners?

Has your company implemented industry best

practices?

Is using IT to solve business challenges a company

priority? Develop Your Companys CPFR Vision

Are Your Trading Partners Ready for CPFR?

Develop a Business Case to take to Partners


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Check list: Your Partners Ready for CPFR?

Can your trading partner relationships becharacterized as open and trusting?

Do you and your trading partner have

complementary strengths and weaknesses?

Does your trading partner have the appropriate

commitment and resources required to make

CPFR successful?

Does your trading partner have experience with

CPFR with another partner?

Can your trading partner quantify the potential

internal and external benefits?


Collaborative Inventory Management:Value Stream View

RMWIP

FP FG

Bought-out parts

RM = Raw MaterialsWIP = Work In Process (Semi-finished Parts)FP = Finished Parts (this is also WIP)FG = Finished Goods

Targets for Inventory Turnover Ratio =Cost of Goods Sold / Avg. Total Inventory

SuppliersParts Production Assembly

COGS


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Supplier

Supplier

Supplier

FirmDistributor

Customer

Customer

Customer

Customer

Inventory Targets In The Supply Chain

Retailer

Retailer

Retailer


Root Cause Analysis:

(e.g.) Raw Materials

Finite lead times; Erratic lead times

Far-away suppliers

More economical to order in largebatches => creates inventory

Supply-side uncertainties

Volume discounts => inventories Speculative purchases: when prices are

going up, potential supply problems, etc.


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Types of Materials

DIRECT MATERIALS

Final assemblies

Sub-assemblies

Components (finished parts)

Semi-finished parts

Raw materials

INDIRECT

MATERIALS

peripheral items

DependentDemand

Independent

Demand


Right Techniques To Use

Independent Demand

Fixed Order Quantity Models

Fixed Order Period Models

Dependent Demand

MRP

ABC (Pareto or 80-20) Analysis

Just-In-Time (Lean) Systems


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ABC (Pareto) Analysis

In any system, a few items contributethe most: vital few & trivial majority:

80-20 Rule

20%

80%

80%

20%

ValueItems


FIXED QUANTITY MODELS:

Reorder Point & Safety Stock

R

SS

Q

R = Re-order Point ; SS= Safety s tockQ = order quanti ty; LT = Lead Time

LT0

EOQ= SQRT (2DS/C)

or through other models

LT * Demand rate

Z DDLT


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FIXED QUANTITY MODELS:Reorder Point & safety Stock

R

SS

Q

R = Re-order Point; SS= Safety stockQ = order quant ity; LT = Lead Time

LT

Reorder PointExpected DemandDuring LT

0

DDLT R

SS

R = DDLT +SS


FIXED PERIOD MODELS

min

Q

Order quantity varies

max

Review Period

SS

Avg. Cycle Stock =Demand Rate *Re-order Period /2

Safety Stock = Z * during (Re-order period + Lead time)


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Continuous Replenishment Systems (CRP)

Pioneered by Proctor & Gamble; May beimplemented with VMI

IBM: solution provider for CRP service: EDI

connections, software, training, data processing

and automated replenishment orders

P&Gs customer service reps use CRP to monitor

movement of materials at retailers DCs

Every day replenishments handled by the

software More forecasting accuracy at DC level


Distribution Requirements Planning (DRP)

DRP applies MRP logic to distributioninventories.

Integrates with.

Helps maintain inventories in warehousesby improving links between market and

manufacturing activities. DRP can yield significant logistics savings

thru improved transportation & delivery


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Positioning the Inventories &Exploiting the Square Root Law

higher service level

closer to customer

local presence may stimulate sales better market information

Warehouse 1

Warehouse 2

Warehouse 3

Warehouse n

Plant


Cons of decentralized structure Inventories increase !

cycle stock increases by square root law i.e.,

inventory level is proportional to the square

root of the number of warehouses (n); e.g.,

in a 4-warehouse system, inventories are

double that of a centralized system

safety stocks are also higher due to spreading

the inventory, and increase in stock-out

probability

Higher overheads, administrative expenses

Need for better coordination and control


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RM

WIP

FP

FG

Bought -out Parts

Suppliers

Parts ProductionAssembly

ERPs: Still Constrained by Single-firm Perspective

Customers

ERP MPS


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Countering Bullwhip Effects

Information sharing, channel alignment

Avoid multiple demand forecasts: enhancevisibility and information sharing

Decrease order batch sizes in production andtransportation; more possibilities to do thisnow

Stabilize prices: every-day-low-price (EDLP)

Reduce gaming & speculation throughtransparency


Inter-organizational Production Planning

Advanced Planning Systems (APS)

Demand Planning Sophisticated forecasting toanalyze customer buying patterns

Supply Planning Synchronizes operations ofmanufacturers, suppliers, and logistics serviceproviders through information exchange.

Demand fulfillment more accurate estimates oforder fulfillment dates; order promise, backlog

management, and order fulfillment Based on greater extranet visibility upstream

and downstream and newer optimization tools.


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The task force identified that plant capacities allowed any reasonable order to beproduced in one day. Thus, a plant shipped out an order one day after receiving it. Afteranother four days in transit, the order reached the DC. The DCs ordered using a periodic

review policy with a reorder interval of six days. The holding cost incurred was $0.15 per

unit per day whether the unit was in transit or in storage. All DCs carried safety inventories toensure a CSL of 95 percent.

Region 1 Region 2 Region 3 Region 4 Region 5

Part 1 Mean 35.48 22.61 17.66 11.81 3.36Part 1 SD 6.98 6.48 5.26 3.48 4.49

Part 3 Mean 2.48 4.15 6.15 6.16 7.49Part 3 SD 3.16 6.20 6.39 6.76 3.56

Part 7 Mean 0.48 0.73 0.80 1.94 2.54Part 7 SD 1.98 1.42 2.39 3.76 3.98

ALTERNATIVE DISTRIBUTION SYSTEMS

The task force recommended that ALKO build a national distribution center (NDC) outsideChicago. The task force recommended that ALKO close its five DCs and move all inventoryto the NDC. Warehouse capacity was measured in terms of the total number of units handled

per year (i.e., the warehouse capacity was given in terms of the demand supplied from thewarehouse). The cost of constructing a warehouse is shown in the Figure below. However,

ALKO expected to recover $50,000 for each warehouse that it closed. The CSL out of theNDC would continue to be 95 percent.

Given that Chicago is close to Cleveland, inbound transportation cost from the plantsto the NDC would reduce to $0.05 per unit. Given increased average distance, however,outbound transportation cost to customers from the NDC would increase to $0. 24 per unit.

Other possibilities the task force considered include building a national distributioncenter while keeping the regional DCs open. In this case, some products would be stocked at

the regional DCs while others would be stocked at the NDC.

FISHER'S DECISION

Gary Fisher pondered the task force report. They had not detailed any of the numberssupporting their decision. He decided to evaluate the numbers before making his decision.


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0

200000

400000

600000

800000

1000000

1200000

1400000

1600000

0 200 400 600 800 1000 1200

Units (Thousands)

$

QUESTIONS

1. What is the annual inventory and distribution cost of the current distribution system?

2. What savings would result from following the task force recommendation and settingup an NDC? Evaluate the savings as the correlation coefficient of demand in any pair of

regions varies from 0 to 0.5 to 1.0. Do you recommend setting up a NDC?

3. Suggest other options that Fisher should consider. Evaluate each option andrecommend a distribution system for ALKO that would be most profitable. How

dependent is your recommendation on the correlation coefficient of demand acrossdifferent regions?


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SC Strategy

XI. Strategic Sourcing &E-Procurement

Strategic Purchasing E-procurement

Two Major Changes1. Managerial Revolution: Strategic Sourcing

a) Elevation of Purchasing to a strategicorientation

b) Sourcing strategies that are aligned with thestrategy of firm and supply chain

c) Supply base optimization; supplier relationshipmanagement and selective strategic alliances

d) Early involvement of suppliers in product design

e) Better, cross-functional integration ofPurchasing with other functions.


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Two Major Changes

2. Technological Revolut ion: E-procurement

a) Use of IT such as EDI, Internet, Intranet,Extranets

b) Greater efficiency in ordering & transactionprocessing, within the firm as well

c) Effective information sharing with others in

supply chaind) Supports strategic, global sourcing.


Blanket Orders andStockless Purchasing

Blanket orders: long-term purchasecommitment for items that are to be deliveredagainst short-term shipping requests

Stockless Purchasing: supplier deliversmaterial directly to purchasers user

department or assembly line, rather than acentral stock room.


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Elements of Strategic Sourcing

Strategic segmentation

Analyze the sourcing process i.e., sourcingvalue chain for each category

Based on total cost of ownership (TCO)approach

Develop sourcing strategy for each groupbased on TCO and aligned with supply

chain goals


Total Cost of Ownership:

Based on the Big Picture

Reduce jointsupplier/company/

customer costs

Reduce

internal

company costs

MinimizeTCO

Purchase

Price

Transportation

Inventory

carrying costs

Warehousing

Purchasing

administration

R&DDamaged fieldproduct

Factory

yield

Specifications

Expediting

Productioncapacity

Reduce

purchase cost


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Sourcing Strategies

Expand geographic supply base

Develop new suppliers

Profit from global supply/demand imbalances

Capitalize on currency exchange

Take advantage of trade incentives

Compare total costs

Renegotiate prices

Unbundle pricing

Long-term contracts

Index pricing

Commodity hedging

Competitive bidding /online auction

Pool volume across business units

Consolidate number of suppliers

Redistribute volume among suppliers

Combine volume from different

sourcing groups

Rationalize/standardize specs

Substitute materials

Apply product value analysis

Examine life cycle costs

Develop long-term contracts

Reengineer joint processes

Share productivity gains

Integrate logistics

Support supplieroperations improvement

Long-term contracts

Establish/develop key suppliers

Employ strategic alliances/partnering

Examine strategic make-versus-buy

Develop integrated supply chain

Establish joint ventures

Exploit Buying Power Build Advantage

Global

Sourcing

Best Price

Evaluation

Volume

Concentration

Product

Specification

Improvement

Joint Process

Improvement

Relationship

Restructuring

Strategic

Sourcing


Emergence of Zero-level Suppliers

Distance from Assembly Plant

SupplierInvolvement

in assembly

Modular

Consortia

System

SuppliersLocal

SuppliersDispersed

SuppliersRemote

Suppliers

Devolution of assembly tasks:

locate near OEMs

Assembly tasks performed within OEM

Pressure for JIT deliveries


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Vendor Managed Inventory

Manufacturer

Purchasing

Vendor

Marketing

A/cPayable

A/cReceivable Reverse PO

EFT

Demand forecasts, production &assembly schedule


Impact of VMI Cuts overall costs

Minimizes double buffering of inventory

Eliminates paperwork

Reduces administrative & ordering costs

Cuts time for order fulfillment

Competitive advantages for both parties in the SC

Reduces selling-buying bureaucracy

Reduces fixed ordering costs, reduces barriers tofrequent shipments, facilitates JIT shipments

Counters the bull-whip effect


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The Firm

Direct Materials

Industry-specific

Indirect Materials

(MROs)

Vertical

Hubs

(Vortals)

Horizontal

Hubs

Catalog-based

Exchanges

MRO hubs

Horizontal

spot markets

E-procurement strategy should be part of strategic sourcing

Apply Kraljic matrix again for selective use of reverse auctions


Reverse Auctions

Traditional: forward auction by seller;

price movements are upward

Reverse: backward auction by buyer;

price movements are downward


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Sellers Reasons for Participating

Promise of increased business

Better market information about competitorsprices (traditionally, very little is known atRFQ time)

Penetration of new markets, with flexiblepricing based on needs of the new market

Less paperwork and low administrative

cycle time between bidding and award ofbusiness


Buyers Reasons Reduced purchase prices

Reduced administrative costs

RFQ process: 1) write specs; 2) id of suppliers; 3)qualify suppliers; 4) mail RFQs; 5) wait forresponses; 6) evaluate responses; 7) notifyselected supplier; 8) negotiate final terms. With

RA: steps 4 to 7 are much faster. Reduced inventory levels, faster replenishment

close to time of need


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Potential Disadvantages for Sellers

Purchase decision almost entirely based onprice Less loyalty, future business cannotbe expected

Investments made cannot be recovered:tooling, employee training, capital expenses

Buyer may be using RA only as negotiationploy (buyer might have already identifiedthe supplier and uses RA only for arm twist

Relentless downward price pressure


Buyer may end up destroying trust andloyalty structure

Suppliers may commit less resources dueto future order uncertainty

Too few suppliers may respond to an RA(that is happening increasingly)

Potential Disadvantages for Buyers


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Appropriate Conditions for RAs

1. Clearly state the commodity specs

2. Purchase lots must be large enough to justifysellers involvement (consolidate volumes byincluding whole part families; standardize partsand specs; leverage volumes across variousdivisions of the fir, etc.)

3. Supply market conditions must exist ( sufficientnumber of qualified suppliers; excess capacityincentive, economies of scale incentive; elastic

prices)4. Infrastructure: IT, employee training, etc.


Contracts to ImproveOverall Supply Chain Profits

Double marginalization: buyer and seller makeindependent decisions, instead of together =>Actual SC profits


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Returns Policy: Buyback Contracts

Manufacturer specifies wholesale price and abuyback price at which the retailer can returnunsold items at the end of the season

Results in an increase in salvage value forRetailer, inducing retailer to order larger qty

Manufacturer is willing to take on some of thecost of overstocking because the SC will end

up selling more on average Manufacturer profits and supply chain profits

can increase


Revenue Sharing Contracts Manufacturer charges Retailer a low

wholesale price and shares a fraction of therevenue generated by the retailer

The lower wholesale price decreases thecost to the retailer in case of an overstock

The retailer therefore increases the level ofproduct availability, which results in higherprofits for both the manufacturer and theretailer


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Quantity Flexible Contracts

Allows Retailer to modify order (withinlimits) as demand visibility increases closerto the point of sale

Better matching of supply and demand

Increased overall SC profits if Manufacturerhas flexible capacity

Lower levels of information distortion than

either buyback contracts or revenue sharingcontracts


Contracts to Coordinate SC Costs

Differences in costs for Buyer & Supplier canlead to higher total SC costs

Example: Replenishment order size placedby Buyer: Buyers EOQ does not take intoaccount Suppliers costs.

A quantity discount contract may encourageBuyer to purchase a larger qty (which would

be lower costs for Supplier), which wouldresult in lower total SC costs

But quantity discounts lead to informationdistortion because of order batching


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Contracts to Increase Agent Effort

Often when an agent acts on behalf of aprincipal, and the agents actions affect thereward for the principal

Example: A car dealer who sells cars of amanufacturer, plus those of other makers

Examples of contracts to increase agenteffort include two-part tariffs and thresholdcontracts

Threshold contracts increase informationdistortion, however


Bulk and Spot PurchaseFor the simple case where spot market price is

known but demand is uncertain:

cB = bulk rate

cS = spot market price

Q* = optimal amount of the asset to be purchased inbulk

p* = probability that demand does not exceed Q*

Marginal cost of purchasing another unit in bulk iscB. The expected marginal cost of not purchasinganother unit in bulk and then purchasing it in thespot market is (1-p*)cS.


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Bulk and Spot Purchase

If the optimal amount is purchased in bulk, themarginal cost of the bulk purchase shouldequal expected marginal cost of the spotmarket purchase, or cB = (1-p*)cS

Solving for p*, p* = (cS cB) / cSIf demand is normal with mean and std. dev., optimal amount Q* to be purchased in bulkis: Q* = F-1(p*,,) = NORMINV(p*,,)


Example

Bulk contract cost = cB = $10,000 per millionunits

Spot market cost = cS = $12,500 per million

= 10 million units; = 4 million units

p* = (cS cB) / cS = (12,500 10,000) / 12,500 =0.2

Q* = NORMINV(0.2,10,4) = 6.63

Therefore should sign a long-term bulk contractfor 6.63 million units per month and purchaseany additional capacity on the spot market


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SC Strategy

XII. Continuous Improvement &Sustainability

S ontinuous Improvement

Continuous Improvement Define and classify processes (standard

process c lassifications are being developed:see for instance, the system of AmericanProduct ivity and Quality Center (APQC):www.apqc.org)

Identify core processes ( the vital few )

Develop Metrics

Monitor Global Benchmark

Analyze performance gaps

Pursue process improvement


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Quality Measures:Defect Rates, Order Entry Accuracy, BillingErrors, Number of Customer Returns, Picking/ Shipping Accuracy

Productivity Measures:

Asset Management Measures: Inventory Turns,ROI, ROA, Profitability of Partners in theChain, etc.

NPDP: Developmental Cost, DevelopmentalLead Time, Innovativeness, Frequency of NewProduct Introduction, etc.

Supply Chain Performance Metrics


Several ImprovementPhilosophies

Theory of constraints approach:

(www.goldratt.com)

TQM, Six Sigma, Demings PDCA approach

Supply-Chain Operations Reference Model

(SCOR): Supply Chain Council

Value Stream Mapping (developed by Lean

Manufacturing group)


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Process Mapping Tools

IDEF (Integrated Definition System) Workflow management software Enterprise modelers Object oriented modeling, etc. Integrating material and information flows

and transformations, data bases, etc.continues to be a challenge

Keep mapping simple, transparent and easy

to use ! Ensure buy-in and participation throughout!


SCOR Developed by Supply-Chain Council (SCC)

www.supply-chain.org

These Process Reference Models integrateconcepts of BPR, benchmarking and processmeasurement in a cross-functional, and cross-enterprise framework

Used to capture the as is state, and derive tobe state, quantify and benchmark performancemetrics, and characterize management practicesand software solutions that result in best in classns that result in best in class performance


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SCOR (contd)

SCOR is based on Five Distinct ManagementProcesses: Plan, Source, Make, Deliver, Return

Supplier Customer CustomersCustomerSuppliersSupplier

Make DeliverSource Make MakeSourceDeliver SourceDeliver

(internal or

external)

(internal or

external)

Your Company

Source Deliver

Plan


SCOR (contd) Plan: Demand / Supply Planning & Management

Source: Sourcing stocked, MTO, ETO Product

Make: MTS, MTO, ETO production execution

Deliver: Order, Warehouse, Transportation, and

Installation Management for stocked, MTO, ETO

product

Return: Return of raw materials to supplier, receipt

of returns from customers for defective products,

excess products, etc.


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Value Stream Mapping

A visual tool or documenting current state

Method for envisioning future states

A means for ensur ing part ic ipation and buy-in from

people in the value stream

A cross-funct ional communication platform

Lean Enterprise Institute - www.lean.org

The Lean University - www.leanuniversity.com


Current State


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Future State

SC Strategy


Supplier

Supplier

Supplier

FirmDistributor

Customer

Customer

Customer

Customer

Ensuring Sustainability

Retailer

Retailer

Retailer

Scoping: high-impact

areas; 80-20 rule

Points of vulnerability &

potential suppl

suresh materials

Documents