Supply Chain Basics

1
Supply Chain Basics

• Supply Chain Management
• Fall, 2004
• Dr. Lu
• Note 2

2
Outline

• The supply chain processes
• Cycle view and pull push view
• Service metrics
• Average lead time, fill rate
• Performance drivers
• Inventory, transportation, information and
  facility
• Basic facts and their implications in SCM
• Economy of scale, risk pooling and information
  principle
• Introduction to the beer game

3
SCM Is Hot

• The competition becomes between a supply chain to
  another chain
• The Increased complexity of supply chain
• Emergence of global supply chain
• More demanding customers
• Shorter production lifecycles
• Outsourcing, decentralized control and more
• Feasibilities
• radical improvement in information technology and
  communication capabilities

4
Cycle View of Supply Chain Processes
Customer
Customer Order Cycle
Retailer
Replenishment Cycle
Distributor
Manufacturing Cycle
Manufacturer
Procurement Cycle
Supplier
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Customer order cycle

• Customer arrival
• Customer order entry
• Customer order fulfillment
• Customer order receiving

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Replenishment cycle

• Retail order trigger
• Retail order entry
• Retail order fulfillment
• Retail order receiving

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Manufacturing cycle

• Order arrival from the distributor, retailer, or
  customer
• Production scheduling
• Manufacturing and shipping
• Receiving at the distributor, retailer, or
  customer

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Push/Pull View of Supply Chains
Procurement, Manufacturing and Replenishment
cycles
Customer Order Cycle
PUSH PROCESSES
PULL PROCESSES
Customer Order Arrives
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Supply Chain Service Metrics

• Average lead time
• Percentage of demand met immediately from stock
  (fill rate)
• Percentage of orders filled within a prespecified
  time window
• Percentage of orders filled correctly

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Supply Chain Cost

• Ordering/transaction costs
• Ordering processing equipment, labor
• Inventory costs
• Capital, obsolescence, insurance, storage
• Transportation
• Truck, airfreight, shipping, labor
• Facilities
• Warehouses, retail space
• Taxes and tariffs

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Drivers of Supply Chain Performance

• Inventory
• Facility
• Transportation
• Information

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Inventory

• Inventory is the raw materials, work in process
  and the finished products within a supply chain
• Provides good service to the customer
• The higher inventory means higher fill rate
• Helps to take advantages of economies of scale in
  production and distribution
• Inventory can be used as a tool to reduce cost
• It incur cost
• Cost of space, equipment, labor
• Cost of insurance, tax
• Cost of perished, damaged goods
• Cost of obsolescence
• Cost of capital

13

14
Nordstrom

• Target high-end customer
• They are willing to pay premium price for high
  service level
• Stock high inventory to provide high service
  level
• High inventory cost can be justified by the high
  price

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Transportation

• Transportation moves the products from one stage
  to another stage
• Modes of transportation
• Air, truck, Rail, Pipeline, Electronic
  transportation
• In house or outsource the transportation
• Outsource usually can reduce cost, however,
  flexibility is restrict
• Overall trade-off
• Responsiveness or efficiency

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Facilities

• Facilities is where of the inventory are stored
  and transported to and from
• Decision about facilities
• Location
• Capacity
• Overall trade-off
• Responsiveness and efficiency

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Information

• Information is critical in todays SCM
• Coordination needs the information sharing
• The demand information, status of inventory,
  status of the supply
• Good decision need to be based on the good
  information
• Forecast need to be based on good information

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Major Tradeoffs in Decision Making

• Inventory costs vs. transportation
• Frequent shipments are expensive, but reduce
  inventory
• Inventory vs. service level
• More inventory provides better service, but is
  more costly
• Inventory vs. information
• Better information (more accurate demand forecast
  and more reliable supplier deliveries) reduces
  inventory, but requires efforts and investments

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Challenges

• Future is always uncertain
• Demand uncertainty
• Supply variability
• The existence lead times worsen the situation
• Transportation from one location to another
• Production time
• Order processing time
• While inventory can serve as a buffer to cope
  with the above difficulties, it is costly
• Opportunity cost of capital
• Maintenance, obsolescence, etc.
• Different players with different objectives

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Obstacles

• Increasing variety of product
• Decreasing product cycle
• Customer is more demanding
• Globalization

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SCM Tactics for the Challenge

• Future is always uncertain
• demand forecasting
• mechanism to reduce the variability of the demand
  at some cost
• The existence lead times worsen the situation
• Information technology, e-business
• While inventory can serve as a buffer to cope
  with the above difficulties, it is costly
• Inventory management
• Different players with different objectives
• Supply chain coordination

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Basic Facts (1)

• There exists fixed costs
• Production set-up, facility construction/equipment
  purchasing, transportation cost
• Fixed costs implies economies of scale
• Order more will reduce the average fixed cost per
  item

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Economies of Scale

• When there is fixed cost in producing or
  purchasing, the more one produces or purchases,
  the less the per unit cost will be
• Implications for SCM
• A central warehouse realizes economies of scale
  in consolidated purchasing
• Fewer large warehouses leads to lower total
  overhead cost relative to many smaller warehouse
• Outsource activities that are not core competence
  of economy and utilize someone elses economy of
  scale

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Basic Facts (2)

• There exists variation and hence risk
• Demand, processes
• Variation degrades system performance and there
  exists an effect of risk pooling
• When variation reduces, with same cost, the
  service level can be improved

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Risk Pooling

• Demand variability is reduced if one aggregates
  demand across locations because it is more likely
  that high demand from one customer can be offset
  by low demand from another customer
• We also call it the square root effect
• Let DD1D2Dn, where Di is the demand in
  location i, when Di are independent and
  var(Di)s2, then var(D)ns2

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Implication of Risk Pooling in SCM

• Centralized inventory enjoys the risk pooling
  effect and therefore requires less investment
• This is another reason why we see central
  warehouses
• Delaying product differentiation reduces the
  inventory of common components and/or
  standardized semi-productions
• Since it pools the risk of demand fore different
  products
• Postpone, Dells ATO system

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Implication of Risk Pooling in SCM

• Examples
• demand is i.i.d. we have two items, the
  transportation time from the warehouse to the
  retailer store is negligible

2
1
0
1
0
2
0
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Examples ATO

• demand is i.i.d. we have two items
• The product is AB or AC
• We have two components for either A, B or C

1
2
0
1
0
1
0
1
0
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Basic Facts (3)

• Information accumulates over time
• Observe demand, quality, etc.
• More information helps make better decisions

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Information

• Uncertainty is largely due to lack of
  information, so more information helps to
  increases the predictability of the environment
  and therefore helps to make better decision
• Implication in the SCM
• A central warehouse in effect delays the
  inventory allocation decision to a later point,
  at which better allocations can be made using
  more accurate estimation of the local demand and
  the stock levels in each stores
• Delayed customization utilizes this fact too
• Centralized decisions are better than the local
  decisions VMI is an implication of this idea
  Inventive schemes should be created so that to
  induce an decentralized system to act like a
  centralized system coordination

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Implication of Information

• The magic of relocating
• Demand is i.i.d.

Re-allocate
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10
10

10
10
10
10
10
10
10
10
10
10
-20
10
-20
-20
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Purpose

• Experience first hand the flow of materials
  through a distribution system.
• Understand what is happening in each stage
• Understand the information distortion

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The Beer Game
Manufacturer
Beers
Distributor
Wholesaler
Retailer
Orders
Customers
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Four Players on a Team
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Beer Game
Manufacturer
Retailer
Distributor
Wholesaler

• Four players without communication
• Event sequence in each stage
• Receives Beer (after Shipping Delay)
• Receives Orders from Downstream
• Ships Beer Downstream to meet Orders
• Orders Beer from Upstream (the only decision)

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Parameters

• Unsatisfied demand is fully backlogged (all
  demand is to be satisfied)
• No capacity constraints
• Parameters
• Ordering lead time is two weeks for each stage
• Inventory cost/week is 1.00
• Backlog cost/week is 2.00
• Objective function Minimize Total Supply Chain
  Cost
• Total Cost Sum of Costs at all four Stages

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Playing the Game

• Cost Inventory Stockout
• Goal Minimize Costs
• Delays
• No Communication within the Team
• Two decisions each period How much to ship?
  How much to order?
• Must click on Submit Button to enter decision.
• Play a few rounds to get the hang of it

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Game Tasks

• Plot your Weekly Orders
• Plot your Inventory and Backlog
• Plot your Guess on Consumer Demand Pattern
• Calculate Total Cost at your Stage
• Sum Costs over all Four Stages

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Playing Game

• Group nameust_001, ust_002,,ust_009,ust_010
• The retailer will create the game names
• The other players choose to join in the game
• When there are four players, the first player
  (retailer) will start the game and place order
• There are some initial shipments between all the
  stages and at the stages
• Make decision based on your own information!

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How to Start the Game

• Go to the website
• http//www.masystem.com/beergame
• Choose Start or Join
• The retailer choose start and the other players
  choose join
• Choose your role the first player choose the
  retailer
• The retailer starts the game
• The game will last for 52 weeks
• You can end it earlier

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Discussion

• What, if anything, is unrealistic about this
  game? Is reality more complicated or less
  complicated?
• Why are there delays between each stages?
• What happened?
• Variance in Orders
• Inventory/Shortages Feast or Famine
• What was the actual demand at the retailer?
• Did you find yourself blaming the person
  upstream for your problems?
• What commonalities do you see in the graphs for
  the different teams?
• What pattern do you see? What is the cost of
  this?
• What are the reasons that such patterns are seen
  in the supply chain?

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Summary

• An process view of supply chain
• Drivers for the performance of supply chain
• Challenges in supply chain management
• Some basics and principles
• Next week
• Achieving strategic fit and scope
• Discuss of beer game