distribution and 3pl
TRANSCRIPT
Effects of Demand / Lead Time Variability
Safety Stock level
s
Expected demand ataverage demand rate d
Placeorder
Receiveorder
L
Variable demand
QUESTION: How much inventory is
needed during lead time L?
KEY POINT: s is larger when there is uncertainty
about demand or L
Summary of Inventory ModelsUse EOQ model
•When: inventory level drops to 0 if lead time is 0 L·D if lead time L > 0•How much: EOQ formula, Q* = sqrt(2D ·K / h)
Use EOQ model•When: inventory level drops to 0 if lead time is 0 L·D if lead time L > 0•How much: EOQ formula, Q* = sqrt(2D ·K / h)
Use (s, S) model•When: inventory position drops below s s = AVG·L + z·STD ·sqrt(L)•How much: EOQ formula, Q* = sqrt(2AVG ·K / h) (S = s+Q*)
Use (s, S) model•When: inventory position drops below s s = AVG·L + z·STD ·sqrt(L)•How much: EOQ formula, Q* = sqrt(2AVG ·K / h) (S = s+Q*)
Is demand rate Is demand rate deterministic?deterministic?
YesYes
NoNo
Risk Pooling• (safety) stock based on standard deviation
– square root law: stock for combined demands usually less than the combined stocks
• Centralizing inventory control reduces safety stock, hence average inventory level for the same service level.
(This phenomenon is called risk pooling)
• works best for – negatively correlated demand.
– high coefficient of variation, which increases required safety stock.
• other kinds of risk pooling: across markets, products, time
Risk Pooling Example• Consider two systems:
Warehouse 1
Warehouse 2
Market 1
Market 2
Supplier
Decentralized System:Two warehouses,each serving one customer
WarehouseMarket 1
Market 2
SupplierCentralized System:One warehouse,serving both customers
Questions: Q1: For the same service level, which system will require more inventory?Q2: For the same total inventory level, which system will have better service?
Example
AVG STD SS s Q SAverage
Inventory
Warehouse 1 39.3 13.2 25.08 65 132 197 91
Warehouse 2 38.6 12.0 22.8 62 131 193 88
CentralizedWarehouse
77.9 20.7 39.35 118 186 304 132
Decentralized system: total SS = 47.88
total avg. invent. = 179
Safety Stock SS = z ·STD · L
Reorder Point s = AVG·L + SSOrder Quantity Q = sqrt(2K·AVG/h)Order-up-to-level S = s + QAverage Inventory SS + Q/2
WarehouseMarket 1
Market 2
d1+d2: (, 2)
Calculating demand variability of centralized systemCalculating demand variability of centralized system
Warehouse 1
Warehouse 2
Market 1
Market 2
d1: (1, 12)
d2: (2, 22)
2 = 1
2 + 22 + 212,
where -1 12
= 12 + 2
2 + 212,
where -1 1
: correlation coefficient of d1, d2
1+ 2 1+ 2
Conclusions: 1. Stdev of aggregated demand is less than the sum of stdev of individual demands2. If demands are independent or negatively correlated, the std of aggregated demand is much less
Conclusions: 1. Stdev of aggregated demand is less than the sum of stdev of individual demands2. If demands are independent or negatively correlated, the std of aggregated demand is much less
1. If d1, d2 positively correlated, > 02. If d1, d2 are independent, = 03. If d1, d2 negatively correlated, < 0
= 1 + 2
= ??
1+2
10-1
22
21
P.C.N.C. Ind.
DecentralizedCentralized
Inbound transportation cost (from factories to warehouses)
Facility/Labor cost
Outbound transportation cost (from warehouses to retailers)
Inventory cost
Responsiveness to customers (lead time)
Centralized vs. Decentralized
Means to Achieve Risk Pooling
• Universal product• Modularity/Component commonality• Product differentiation postponement
• Inventory aggregation (centralized system)
A Typical ABC Curve
% of SKU
% of Total Dollar Value
A
B
C
20% 50% 100%
60%
90%100%
Sport Obermeyer Case 1. Identification of major issues in the supply chain. 2. Recommendation on ordering units of each style during
initial phase of production.(using sample data in Exhibit 10; assume all ten styles in the sample problem are made in Hong Kong, and that Obermeyer's initial production commitment must be at least 10,000 units; ignore price differences among styles in your initial analysis.)
3. Recommendation of operational changes to lower risk and improve performance.
4. How should Obermeyer management think (both short-term and long-term) about sourcing in Hong Kong vs. China?
The Supply Chain
Lining Fabric
Lining Fabric
Shell Fabric
Shell Fabric
Insulation Materials
Insulation Materials
SnapsSnapsZippersZippers
OthersOthers
Cut/Sew
Distribution Center
Retailers
Textile Suppliers
Obermeyer
Obersport
Retailers
Speculative vs. Reactive Capacity
Initial Forecast
Orders
Speculative Production Capacity
Reactive Production Capacity
Scenario Outcome
Excess inventory
Stock out
End of Season Problem
•Loss of 8%/unit ~ $9
•Limited capacity effects (could have used that capacity to produce something that stocked out
•Loss of profit (24%/unit) ~ $27
Increasing Reactive Capacity
New Info / 2nd prod’n order
Increase Total CapacityAdditional Reactive capacity
Decrease Lead TimesAdditional Reactive capacity
Obtain Information EarlierAdditional Reactive capacity
New Info
Base case
Material LT Prod’n LT Delivery LT
Mar/93
Nov/92
Jun/93 Sept/93
Aug/93
1st Prod’n Order
Original Reactive capacitySpeculative production capacity
The Forecast Process: Input for Production Planning
• Independent versus consensus forecasts
• Aggregation of expert estimates
– Average of expert estimates is a proxy for the mean of
the demand distribution
– Standard deviation among expert estimates is a proxy for
half the standard deviation of demand distribution
• Forecast updates
Which Units are Safest to Build First?
• Highest demand– More likely that unit will sell
• Less variable (lower /)
• Less expensive– Lower overage costs – In speculative capacity, you are worried about
being over – being under not a problem, because you can always use reactive capacity
Risk-Based Production Planning: Accurate Response
• how to develop initial probabilistic forecast of demand?
• risk measures? assess _________ and _________ costs
• determine appropriate initial production quantities:– produce ___________________ units early
• “read” early demand indicators• update demand forecast• determine final production quantities
What Obermeyer did
• Early Write program gets sales info one month in advance of Las Vegas Show.
• More stocking of raw materials in Hong Kong.
• Risk-based production planning with forecast uncertainties captured by independent expert estimates used.
• Try to extend risk-based production planning concept to raw materials production.
• Increase commonality of zipper by 5-fold. Increase raw materials sharing across styles.
Did They pay off? Obermeyer Results
Before Accurate Response
After Accurate Response
Total production (units) 121,432 124,805
Over-production (units) 25,094 22,036
Under-production (units) 7,493 792
Over-production as % of sales 1.74% 1.30%
Under-production of % of sales 1.56% 0.18%
Total cost as % of sales 3.30% 1.48%
Obermeyer Results (cont.)
• Improved profits by 50% by
reducing inventory costs to
1.48% of sales (from 3.3% of
sales) - Profit margins in
industry around 3% of sales
• No. 1 customer rating.
Obermeyer 2.94Bogner 2.88White Stage 2.82Helly Hansen 2.80Nordica 2.63Marker 2.56North Face 2.55Columbia 2.52Descente 2.48Roffe 2.40Couloir 2.37… …Head 1.74
Dealer Confidence IndexApparel, 1/94
Sports Research Inc.
Summary
• Intelligent forecast process:– obtain early signal;– forecast uncertainty as input to production planning;– forecast update.
• Power of risk-based production planning.• Use inventory to establish de-coupling point in supply
chain (e.g., stock of raw materials in HK).• Material commonality to improve flexibility.• Coordinated demand and supply roles.
Distribution Strategies
• Direct shipping
– Examples:
• Shipping via warehouses
– Examples:
• Shipping via cross docks– Cross docks serve as ____________________ points– Products spend __________________ at cross docks– Examples:
• allowing transshipments
Strategy 1: Direct ShippingStrategy 1: Direct Shipping
retailermanufacturer
Type 1. Single origin single destination
Direct shipping with milk runs
manufacturer retailer
Type 2. Single origin multiple destinations
manufacturer retailer
Type 3. Multiple origins single destination
manufacturer retailer
Type 4. Multiple origins multiple destinations
Strategy 2: Shipping via WarehouseStrategy 2: Shipping via Warehouse
manufacturers retailers
Type 1. Without milk runs Type 2. With milk runs
manufacturers retailers
warehouse warehouse
Role of WarehousesRole of Warehouses
• Warehouses play important roles in the supply chain– Position _________ ___________ to customer– ______________ function
• ______________ shipments from multiple suppliers• ______________ shipments to multiple customers
– Even if firms sell products directly to customers (no retailers), they may still use warehouses
Example:
Strategy 3: Shipping via Cross DocksStrategy 3: Shipping via Cross Docks
• Warehouses: Receiving, Sorting, Storing, Order Picking, Shipping
• Cross Docks = Warehouses without inventory Receiving, Sorting, Shipping
Sorting
Receiving
Inbound shipments
Shipping
Outbound shipments
Requires coordination & IT supportRequires coordination & IT support
Comparison of the Three StrategiesComparison of the Three Strategies
Transportation
Lead Timefrom mfg to retailer
Direct Shipping
Shipping via warehouses
Shipping viacross docks
Inventoryat retailersFacility
SS proportional to what factors?
Why direct shipping has higher transportation or/and higher inventory cost?Why direct shipping has higher transportation or/and higher inventory cost?
• Example: Retailer’s weekly demand = 1/2 truckload Shipping cost from manufacturer to retailer = $100
1/2 truckloadper wk
per wk per wk
Full truckloads 1/2 truckloadper wk
Direct Shipping Shipping via Warehouse
1 truckloadper two wks
per 2 wks per 2 wks
Full truckloads 1 truckloadper two wks
1/4 truckloadper 1/2 wk
per 1/2 wk per 1/2 wk
Full truckloads 1/4 truckloadper 1/2 wk
Types of Strategic AlliancesTypes of Strategic Alliances
• Third Party Logistics (3PL)
• Retailer-Supplier Partnerships (RSP)– Quick response (QR)– Continuous replenishment (CR)– Vendor managed inventory (VMI)
3PL3PL
• 3PL = Some or all of a firm’s logistics functions is taken over by an independent logistics service provider (LSP)
• Example: Ryder Integrated Logistics– Annual revenues around US$ 1.5 billion– Offers everything from transportation to network design and
consulting– Key customers: HP, Daimler-Chrysler, Ford, GM
• Advantages of 3PL:
• Issues with 3PL:
Why 3PL can achieve economy of scale & provide better service?Why 3PL can achieve economy of scale & provide better service?
• Consolidation is the key!
Example: 2 independent firms, 2 independent supply chains
Consider 2 scenarios
Scenario 1: The firms performs their own logistics functions
Scenario 2: A 3PL takes care of both firms’ logistics functions
Firm 1
Firm 2
Firm 1
Firm 2
2 warehouses2 separate distribution networks2 warehouses2 separate distribution networks
1 warehouse1 distribution network1 warehouse1 distribution network
3PL
Major 3PLsMajor 3PLs
360Federal Express
420APL Logistics
488UPS Logistics
578Fritz Companies
650North American Logistics
650Americold
659Tibbet & Britten Group
875Schneider
959Penske Logistics
$1,300Ryder Integrated Logistics
Revenues ($ million)
Company
Source: Logistics Magazine (07/00)
3PL in Practice3PL in Practice
• “3PL Study: Results and Findings of 2001 Annual Study” by Cap Gemini Ernst & Young
– 93 companies– Covering automotive, chemical, computer, consumer products, &
electronics– 52% with sales revenues over $1B, 10% between $500M to $1B
How many companies use 3PL?How many companies use 3PL?
From “3PL Study: Results and Findings of 2001 Annual Study” by Cap Gemini Ernst & Young
What 3PL functions do companies use?What 3PL functions do companies use?
From “3PL Study: Results and Findings of 2001 Annual Study” by Cap Gemini Ernst & Young
Benefits of 3PLBenefits of 3PL
From “3PL Study: Results and Findings of 2001 Annual Study” by Cap Gemini Ernst & Young
Retailer-Supplier Partnerships (RSP)• Quick Response (QR)
– Supplier receives POS data from retailers– Supplier use it to improve its own forecasting and production scheduling – but retailer still prepares its own orders
• Continuous Replenishment (CR) – Supplier replenishes retailers– Supplier receives POS data and use it to prepare shipments at previously agreed upon intervals to maintain specific levels of inventory
• Vendor Managed Inventory (VMI)– Supplier replenishes retailers– Suppliers have the total control over replenishment decisions
Increasing trust level
Increasing trust level
Inventorydecision-makingincreasinglyglobal
Inventorydecision-makingincreasinglyglobal
Barilla Case; Manugistics guest speakerBarilla Case; Manugistics guest speaker
Continuum of RSP RelationshipsContinuum of RSP Relationships
Informationsharing
VMI withsupplier inventoryownership
Suppliercontrolof inventorydecision
Jointforecasting& planning
increasing ______ level
_______inventorycontrol
_______ inventorycontrol
Quick Response Continuous replenishment
VMI
RSP Issues and AdvantagesRSP Issues and Advantages
Issues• _________ ownership• IT (heavy investment)• Mutual ______• Suppliers have more
responsibility• Sharing benefits• Confidentiality
Advantages• Improved ___________• Decreased ___________
– Lower __________– Lower __________
Why does RSP have those advantages? Why does RSP have those advantages?
Without RSP: sequential, myopic optimization
Supplier Retailer
CustomerSupplier
Information flow
With RSP (particularly, VMI): Joint optimization
Information flow
Retailer optimizes its operations first. Then supplier optimizes its operations subject to the constraints imposed by the retailer.
Retailer optimizes its operations first. Then supplier optimizes its operations subject to the constraints imposed by the retailer.
Supplier optimizes its operations and the retailer’s. This is system-wide.
Supplier optimizes its operations and the retailer’s. This is system-wide.
Example of RSP SuccessExample of RSP Success
• VF Corporation’s Market Response System:
– The VF Corporation, which has many well known brand names (including Wrangler, Lee, Girbaud, and many others), began its VMI program in 1989.
– Currently, about 40 percent of its production is handled using some type of automatic replenishment scheme.
– This is particularly notable because the program encompasses 350 different retailers, 40,000 store locations, and more than 15 million replenishment levels.
– VF’s program is considered one of the most successful in the apparel industry.
Example of RSP FailureExample of RSP Failure
Spartan Stores (grocery chain)
– Shut down its VMI effort about one year after its inception
– Buyers were not spending any less time on reorders than they did before
– Issue: buyers didn’t trust suppliers -- continued to carefully monitor inventories and deliveries and to intervene at hint of trouble.
– Suppliers did little to allay these fears; suppliers did not deal well with promotions -- delivery levels were often unacceptably low during these periods of peak demand.
Other Kinds of Partnerships: Other Kinds of Partnerships: Third Party e-Fulfillment (3eF)Third Party e-Fulfillment (3eF)
• 3eF = the outsourcing of the back-end logistics of e-business including: the integration with front-end Internet
operations, order capture and processing, fulfillment of individual orders, and return logistics.
• Differences between 3PL & 3eF?
S M W R
C
Logistics: physical flow from suppliers to manufacturers, or/and frommanufacturers to retailers
M W R
E-Logistics: “last mile”, i.e. logistics of order fulfillment of e-businesses
Why is 3eF different from 3PL?
Traditional Supply Chain e-Supply Chain
Supply Chain Strategy Push Push-Pull
Shipment Type Bulk Parcel
Information Flow Unidirectional Bi-directional
Reverse Logistics Simple Highly Complex
Destination Small Number of Stores Highly Dispersed Customers
Lead Times Depends Short
3eF Examples3eF Examples
1. Fingerhut Business Services– A major provider of e-fulfillment service– Wal-Mart’s cyberstore is managed by Fingerhut
2. OrderTrust – Manages SkyMall.com’s order fulfillment
• Return Percentage in the Offline World (Online world has much higher percentages)
Industry
Magazine Publishing (50%)
Book Publishers (20-30%)
Book Distributors (10-20%)
Greeting Cards (20-30%)
Catalog Retailers (18-35%)
Computer Manufacturers (10-20%)
CD-ROMs (18-25%)
Consumer Electronics (4-5%)
Source: Rogers and Tibben-Lembke
3eF: Why Need for Reverse Logistics?3eF: Why Need for Reverse Logistics?
Case: Tale of Two Electronic Distributors 1. What is the value proposition offered by AESCO & ESCI?
Why might an OEM prefer to buy from a distributor rather than directly from a manufacturer?
2. What must AESCO and ESCI do to grow?
3. How are broad industry trends (consolidation, globalization, and the Internet) likely to affect each of these distributors?
Case Discussion
AESCO & ESCI: general description of business model.
value addition to SC channel? (elimination a la Dell direct model always good?)
role of distributor in general in SC risk-pooling (safety stock) break-bulk and mixing (allowing smaller order quantities) closer to buyer, emergency (expedited) shipments one-stop shop value-added services (e.g., some assembly, design) coordinate SC activities and reduce manufacturing costs specialized: matching inventory shortages and surpluses