END-TO-END OPTIMIZATION OF SUPPLY CHAIN OPERATIONS
AHMAD RAZA (firstname.lastname@example.org)
Feb 1 - 7, 2010
Purchasing is a routine activity related to issuing purchase orders for needed products. Effective procurement, on the other hand, begins with an understanding of how much of what categories of products are being bought across the entire company as well as by each operating unit. There must be an understanding of how much and of what kinds of products are bought from whom and at what price.
An ongoing process to define the procurement capabilities is needed to support the company's business plan and its operating model. This definition will provide insight into the relative importance of vendor capabilities. The value of these capabilities, like quality, service level, just-in-time delivery, and technical support, have to be considered in addition to simply the price of a vendor's product.
In many product-making organizations today, the cost of material is the largest cost component. When you talk of the supply chain, these companies think of suppliers and procurement. This brings on programs such as sourcing initiatives, supplier reduction programs, and vendor-managed inventory (VMI).
These efforts reach outside the company into the upstream supplier base. They include "partnering" with the supplier and shrinking the supplier base. Often, especially when the buyer dominates the seller, partnership talk centers on price reductions. Usually this shifts profits from one party to another in the chain without fundamental improvement.
As particular business needs arise, contracts must be negotiated with individual vendors on the preferred vendor list. This is where the specific items, prices, lead times, minimum order quantities, and service levels are worked out. Also performance targets must be specified and penalties and other fees defined when performance targets are not met.
Once contracts are in place, vendor performance against these contracts must be measured and managed. Because companies are narrowing down their base of suppliers, their performance of each supplier that is chosen becomes more important. A particular supplier may be the only source of a whole category of products that a company needs and if it is not meeting its contractual obligations, the activities that depend on those products will surely suffer.
Make process is concerned with production, execution and managing "make" infrastructure. Specifically under production execution activities like manufacturing, testing, packaging, holding and releasing of product are undertaken here. Under managing "make" infrastructure, engineering changes, facilities and equipment management, production status, production quality, shop scheduling/sequencing and short-term capacity are planned and managed.
Production scheduling allocates available capacity (equipment, labor, and facilities) to the work that needs to be done. The goal is to use available capacity in the most efficient and profitable manner. The production scheduling operation is a process of finding the right balance between high utilization rates, low inventory levels, and high level of customer service.
Product design and selections of the components needed to build these products are based on the technology available and product performance requirements. A product design that does a good job of coordinating three perspectives - design, procurement, and manufacturing - will result in a product that can be supported by an effective supply chain. This will give a product a fast time to market and a competitive cost.
The first step in scheduling a multi-product production facility is to determine the economic lot size for the production runs of each product. This is a calculation much like the EOQ (economic order quantity) calculation used in the inventory control process. The calculation of economic lot size involves balancing the production set up costs for a product with the cost of carrying that product in inventory.
Once production quantities have been determined, the second step is to set the right sequence of production runs for each product. A common technique is to schedule production runs based on the concept of a product's "run out time". The run out time is the number of days or weeks it would take to deplete the product inventory on hand given its expected demand.
The run out time calculation for a product is expressed as: R = P / D, where R = run out time, P = number of units of product on hand, and D = product demand in units for a day or week. As reality rarely happens as planned, production schedules need to be constantly monitored and adjusted when necessary. (Hugos, Michael
This process consists of order management, warehouse management and transportation management. Under order management activities like maintaining and entering orders, generating quotations, configuring product are undertaken. Further create and maintain customer database, maintain product and price database, managing receivables and credit management also fall under this domain.
Physical movement of products along stages in the supply chain is an important part of most national economies. Logistics is that part of the supply chain process that plans, implements, and controls the efficient, effective flow and storage of goods, services, and related information from the point of origin to the point of consumption in order to meet customers" requirements."
In the logistics and transportation paradigm, when companies decide to anoint a supply chain executive, they will likely pick the distribution executive. In place of the supply chain term, these companies may turn to an alternative, the demand chain. This reflects attention paid to the outbound, rather than the inbound side, or supply side, of the business.
This is also a cost reduction effort aimed at incremental improvements in profit. Typical activities include modeling warehouse, distribution center, and transportation networks to reduce cost. Transporting and delivering goods is expensive so capabilities in this area are closely aligned with the actual needs of the market that the supply chain serves.
Highly responsive supply chains usually have high transport and delivery costs because their customers expect quick delivery. This results in many small shipments of products. Less responsive supply chains can aggregate orders over a period of time and make fewer and larger shipments. This results in economies of scale and lower transport costs.
SUPPLY CHAIN METRICS
Supply chains are fluid and are continuously adjusting to changes in supply and demand for the products they handle. To get the performance desired from supply chains requires a company to monitor and control its operations on a daily basis.
SCOR is a process model designed for effective communication among supply chain partners by giving them a standard "language". It is used to describe, measure and evaluate supply chain configurations by defining standard metrics and benchmarking of best supply chain performance, and therefore it supports continuous improvement and strategic planning.
The SCOR model suggests the kind of data that should be collected. In the plan operation, useful measures are the cost of planning activities, inventory financing costs, inventory days of supply on hand, and forecast accuracy. In the sourcing operation, it is useful to have data on material acquisition costs, sourcing cycle times, and raw material days of supply. Also some practice measurement are supplier delivery performance, payment period, and percentage of items purchased by their associated lead time.
Useful measures in the make operation are the number of product defects/complaints, make cycle times, build order attainment rates, and product quality. Suggested delivery operation measures are fill rates, order management costs, order lead times, and item return rates.
Also there are four performance categories that each supply chain participant should measure. These categories are customer service, internal efficiency, demand flexibility and product development. In the following paragraphs I will also discuss about some performance metrics that can be used in each of these performance categories.
Customer service measures the ability of the supply chain to meet the expectations of its customers. Depending on the type of market being served, the customers in that market will have different expectations for customer service.
Customers in some markets both expect and will pay for high levels of product availability and quick delivery of small purchase quantities. Customers in other markets will accept longer waits for products and will purchase in large quantities. Whatever the market being served, the supply chain must meet the customer service expectations of the people in the market.
The reason that any company exists is to be of service to its customers. The reason that any supply chain exists is to serve the market it is attached to. These measures indicate how well a company serves its customers and how well a supply chain supports its market. There are two sets of customer service metrics depending on whether the company or supply chain is in a build-to-stock or build-to-order situation.
A build-to-stock situation is one where common commodity products are supplied to a large market or customer base. Customers expect to get these products right away any time they need them. Supply chains for these products must meet this demand by stocking them in inventory so they are always available.
In a build to order environment the most popular metrics are: complete order fill rate and order line item fill rate; on-time delivery rate; value of total backorders and number of backorders; frequency and duration of backorders; and line item return rate.
A build-to-order situation is one where customer orders a customized product. This is any situation where a product is built based on a specific customer order and is configured to meet a unique set of requirements defined by the customer.
In a build to order environment the most popular metrics are: quoted customer response time and on-time completion rate; on-time delivery rate; value of late orders and number of late orders; frequency and duration of late orders; and number of warranty returns and repairs.
Internal efficiency refers to the ability of a company or a supply chain to operate in such a way as to generate an appropriate level of profitability. As with customer service, market conditions vary and what is an appropriate level of profit varies from one market to another.
In a risky developing market the profit margins need to be higher in order to justify the investment of time and money. In a mature market where there is little uncertainty or risk, profit margins can be somewhat lower. These markets offer the opportunity to do large volumes of business and to make up in gross profit what is given up in gross margin.
Internal efficiency refers to the ability of a company or a supply chain to use their assets as profitably as possible. Assets include anything of tangible value such as plant, equipment, inventory, and cash. Some popular measures of efficiency are: inventory value; inventory turns; return on sales; and cash-to-ash cycle.
Inventory value should be measured both at a point of time and also as an average over time. Supply chains and the companies that make them up are always looking for ways to reduce inventory while still delivering high levels of customer service. This means trying to match inventory availability (supply) with sales (demand) and not have excess inventory left over.
Inventory turns is a way to measure the profitability of inventory by tracking the speed with which it is sold or turned over during the course of a year. It is calculated by the equation:
Turns = Annual Costs of Sales / Annual Average Inventory Value
Return on sales is a broad measure of how well an operation is being run. It measures how well fixed and variables costs are managed and also the gross profit generated on sales:
Return on Sales = Earnings before Interest & Tax / Sales
Cash-to-cash cycle time is the time it takes from when a company pays its suppliers for materials to when its customers pay them. This time can be estimated with the following formula:
Cash-to-Cash Cycle Time = Inventory Days of Supply + Days Sales Outstanding - Average Payment Period on Purchases
Demand flexibility measures the ability to respond to uncertainty in levels of product demand. It shows how much of an increase over current levels of demand can be handled by a company or a supply chain. It also includes the ability to respond to uncertainty in the range of products that may be demanded. This ability is often needed in mature markets.
Demand flexibility describes a company's ability to be responsive to new demands in the quantity and range of products and to act quickly. A company or a supply chain needs capabilities in this area in order to cope with uncertainty in the markets they serve. Some measures of flexibility are: activity cycle time, upside flexibility, and outside flexibility.
The activity cycle time measure the amount of time it takes to perform a supply chain activity such as order fulfillment, product design, product assembly, or any other activity that supports the supply chain.
Upside flexibility is the ability of a company or supply chain to respond quickly to additional order volume for the products they carry. It can be measured as the percentage increase over the expected demand for a product that can be accommodated.
Outside flexibility is the ability to quickly provide the customer with additional products outside the bundle of products normally provided. There is an opportunity to acquire new customers and sell more to existing customers when outside flexibility is managed skillfully.
Product development encompasses a company and a supply chain's ability to continue to evolve along with the market it serves. It measures the ability to develop and deliver new products in a timely manner. This ability is necessary when serving developing markets that are changing constantly.
Product development measures a company or a supply chain's ability to design, build, and deliver new products to serve their markets as those markets evolve over time. A supply chain must keep pace with the market it serves or it will be replaced.
The ability to keep pace with an evolving market can be measured by metrics such as: percentage of total products sold that were introduced in the last year; percentage of total sales from products introduced in the last year; and cycle time to develop and deliver a new product.
INFORMATION SYSTEMS AND TECHNOLOGY THAT SUPPORT THE SUPPLY CHAIN
The information viewpoint seeks to improve the links both within the company and within the supply chain. New applications, plus new ways of moving information around, make this an active area. Electronic Data Interchange (EDI) is an early example of ways to improve communications among companies. One barrier has been the lack of integrated software both inside and outside the company.
Using high speed data networks and databases, companies can share data to better manage the supply chain as a whole and their own individual positions within the supply chain. The effective use of this technology is a key aspect of a company's success.
All information systems are composed of technology that performs three main functions: data capture and communication; data storage and retrieval; and data manipulation and reporting. Different information systems have different combinations of capabilities in these functional areas, and the specific combination of capabilities is dependent on the demands of the job that a system is designed to perform.
The first functional area is composed of systems and technology that create high-speed data capture and communication networks. It is this technology that can overcome the lag times and lack of big picture information. (Hugos,
These technology possibilities include the Internet, which is a universal communications network that can connect with all computers and communication devices. Also Electronic Data Interchange (EDI), a technology that was developed to transmit common types of data between companies that do business with each other. And XML (eXtensible Markup Language) that is being developed to transmit data in flexible formats between computers and between computers and humans.
The second functional area of an information system is composed of technology that stores and retrieves data. This activity is performed by database technology, and it provides different data retrieval according to the needs of people who use it.
For instance, consider a database that contains sales history for a range of different products to a range of different customers. A customer view of this data might show a customer the different products and quantities they purchased over a period of time and show detail of the purchases at each customer location. A manufacturer view might show all the customers who bought their group of products over a period of time and show detail for the products that each customer bought.
The third functional area is the way that system manipulates and displays the data that flows through. This is determined by the specific business operations that the system is designed to support.
There are several kinds of systems that support supply chain operations: enterprise resource planning (ERP); procurement systems; advanced planning and scheduling; transportation planning systems; demand planning; customer relations management (CRM); supply chain management (SCM); and warehouse management systems (WMS).
The complexities of getting material ordered, manufactured and delivered overload most supply chain management systems. The fact is that most systems are just not up to handling all the variables up and down the supply chain.
For years, it was thought that it was enough for manufacturers to have an MRP or ERP system that could help answer fundamental questions such as: What are we going to make? What do we need to make the products? What do we have now? What materials do we need, and when? What resources / capacity do we need and when?
Manufacturers need to know a lot more today to have a truly effective supply chain. In a supply chain, the fast flow of high-quality information and material is inextricably linked and of paramount importance to supply chain management success.
End-to-end optimization of supply chain operations requires the support of appropriate organizational structures. Behind the boxes, flows, and forks on the organization chart, the right design principles have to be in place to lift performance into the zone of lasting success.
At the core of managing supply chain performance lays the delicate balance between cost and service: inventory versus availability, distribution network versus transportation costs. A well-designed organization must support these decisions by defining clear roles and responsibilities and corresponding performance measures for the outcomes. Managers must clearly delineate these roles and responsibilities in order to make successful tradeoffs among the elements of the supply chain.
Seamless information flow to decision makers is critical for supply chain success. Managers accountable for key supply chain activities must have access to the information they need. Supply chain management performance metrics must be clear and accountability unambiguous. Companies that adopt the end-to-end perspective on key supply chain activities need to have performance measures and accountabilities that clearly support these processes.
Achieving a superior supply chain requires a deep understanding of underlying processes, critical success factors, and the organizational dynamics that guide individual behavior to determine the optimum tradeoffs. Clear roles and responsibilities are more important than structure. Critical supply chain activities and accountabilities should be defined before identifying the organizational "boxes".
Measuring performance is a process of selecting a handful of meaningful indicators and using them to track company performance. Supply chains are fluid and are continuously adjusting to changes in supply and demand for the products they handle. To get the performance desired from supply chains requires a company to monitor and control its operations on a daily basis.
As SCOR model includes standard process definitions, standard terminology, standard metrics, supply chain best practices, and references to enabling information technology, and as it is powerful and easy to use tool, it is gaining more and more support among supply chain practitioners.
Just few years ago companies were keeping in secret their unique processes and were more likely to develop unique software applications and approaches to business. A framework-based process redesign might not have been acceptable.
Today, however, businesses are more concerned about cost and speed, so this has moved most companies to using standardized applications and a standardized approach to high-level business process design. Also I feel that as most of the larger companies are increasingly dependent on suppliers and business partners, the standardized approach is almost mandatory, as different companies need to be able to communicate easily and integrate their business processes.
We should not forget that firms are highly complex organizations with multiple divisions. Making an "information slice" across divisions is complex and multidimensional. Addressing this type of information challenge requires business intelligence methods and techniques that look across multiple business dimensions and "mine" the data for its informational content.
(The author of this article is a qualified procurement & supply chain professional & researcher, and can be reached at email@example.com.)