Supply Chain Integration

1. Supply Chain Integration Ranjan Ghosh Indian Institute of Management Calcutta

2. Outline of the Presentation • The Bullwhip Effect • Distribution Strategies and Information Systems • Supply Chain Management: Pitfalls and Opportunities

3. The Bullwhip Effect and its Impact on the Supply Chain • Consider the order pattern of a single color television model sold by a large electronics manufacturer to one of its accounts, a national retailer. Figure 1. Order Stream Huang at el. (1996), Working Paper, Philips Lab

4. The Bullwhip Effect and its Impact on the Supply Chain Figure 2. Point-of-sales Data-Original Figure 3. POS Data After Removing Promotions

5. The Bullwhip Effectand its Impact on the Supply Chain Figure 4. POS Data After Removing Promotion & Trend

6. Higher Variability in Orders Placed by Computer Retailer to Manufacturer Than Actual Sales Lee, H, P. Padmanabhan and S. Wang (1997), Sloan Management Review

7. Increasing Variability of Orders Up the Supply Chain Lee, H, P. Padmanabhan and S. Wang (1997), Sloan Management Review

8. We Conclude …. • Order Variability is amplified up the supply chain; upstream echelons face higher variability. • What you see is not what they face.

9. What are the Causes…. • Promotional sales • Volume and Transportation Discounts • Inflated orders - IBM Aptiva orders increased by 2-3 times when retailers thought that IBM would be out of stock over Christmas - Same with Motorola’s Cellular phones

10. What are the Causes…. • Single retailer, single manufacturer. • Retailer observes customer demand, Dt. • Retailer orders qt from manufacturer. Dt qt Retailer Manufacturer L

11. What are the Causes…. • Promotional sales • Volume and Transportation Discounts • Inflated orders - IBM Aptiva orders increased by 2-3 times when retailers though that IBM would be out of stock over Christmas - Same with Motorola’s Cellular phones • Demand Forecast • Long cycle times

12. What are the Causes…. • Single retailer, single manufacturer. • Retailer observes customer demand, Dt. • Retailer orders qt from manufacturer. Dt qt Retailer Manufacturer L

13. Var(q)/Var(D):For Various Lead Times • Lead time of the manufacturer = L so that an order placed by the retailer at the end of period t is received in the beginning of period (t+L). • In every period, the retailer calculates a new mean and standard deviation, based on the p most recent observations of demand. If the variance of the customer demand seen by the retailer is Var(D), then the variance of the orders placed by the retailer to the manufacturer, Var(q), relative to the value of the customer demand, satisfies • Var(q)/Var(D) ≥ 1 + ( 2L/p ) + ( 2L2/p2 )

14. Var(q)/Var(D):For Various Lead Times 14 L=5 L=5 12 10 L=3 L=3 8 6 L=1 4 L=1 2 0 0 5 10 15 20 25 30

15. Consequences…. • Increased safety stock • Reduced service level • Inefficient allocation of resources • Increased transportation costs

16. Consequences…. • Single retailer, single manufacturer. • Retailer observes customer demand, Dt. • Retailer orders qt from manufacturer. Dt qt Retailer Manufacturer L

17. Consequences…. • Increased safety stock • Reduced service level • Inefficient allocation of resources • Increased transportation costs

18. Multi-Stage Supply Chains Consider a multi-stage supply chain: • Stage i places order qi to stage i+1. • Li is lead time between stage i and i+1. qo=D q1 q2 Retailer Stage 1 Manufacturer Stage 2 Supplier Stage 3 L1 L2

19. Multi-Stage Systems:Var(qk)/Var(D) • Supply Chain with Centralized Demand Information The variance of the orders placed by the kth stage of the supply chain, Var(qk), relative to the variance of the customer demand, Var(D), is k k Var(qk) / Var(D) ≥ 1 + (2 Σ Li ∕ p) + 2( ∑ Li )2 ∕ p2 i=1 i=1 where Li is the lead time between stage i and stage (i+1).

20. Multi-Stage Systems:Var(qk)/Var(D) • Supply Chain with Decentralized Demand Information The variance of the orders placed by the kth stage of the supply chain, Var(qk), relative to the variance of the customer demand, Var(D), is k Var(qk) / Var(D) ≥ Π[1 + (2 Li ∕ p) + 2( Li2 ∕ p2)] i=1 where Li is the lead time between stage i and stage (i+1).

21. Multi-Stage Systems:Var(qk)/Var(D) Dec, k=5 Cen, k=5 Dec, k=3 Cen, k=3 k=1

22. The Bullwhip Effect:Managerial Insights • Exists, in part, due to the retailer’s need to estimate the mean and variance of demand. • The increase in variability is an increasing function of the lead time. • The more complicated the demand models and the forecasting techniques, the greater the increase. • Centralized demand information can reduce the bullwhip effect, but will not eliminate it.

23. Coping with the Bullwhip Effect in Leading Companies • Reduce Variability and Uncertainty - POS - Sharing Information - Year-round low pricing • Reduce Lead Times - EDI - Cross Docking • Alliance Arrangements • Vendor managed inventory • On-site vendor representatives

24. Example: Quick Response at Benetton • Benetton, the Italian sportswear manufacturer, was founded in 1964. In 1975 Benetton had 200 stores across Italy. • Ten years later, the company expanded to the U.S., Japan and Eastern Europe. Sales in 1991 reached 2 trillion. • Many attribute Benetton’s success to successful use of communication and information technologies.

25. Example:Quick Response at Benetton • Benetton uses an effective strategy, referred to as Quick Response, in which manufacturing, warehousing, sales and retailers are linked together. In this strategy a Benetton retailer reorders a product through a direct link with Benetton’s mainframe computer in Italy. • Using this strategy, Benetton is capable of shipping a new order in only four weeks, several week earlier than most of its competitors.

26. How Does Benetton Cope with the Bullwhip Effect? 1. Integrated Information Systems • Global EDI network that links agents with production and inventory information • EDI order transmission to HQ • EDI linkage with air carriers • Data linked to manufacturing 2. Coordinated Planning • Frequent review allows fast reaction • Integrated distribution strategy

27. Distribution Strategies • Warehousing • Direct Shipping • No DC needed • Lead times reduced • “smaller trucks” • no risk pooling effects • Cross-Docking

28. Cross Docking In 1979, Kmart was the king of the retail industry with 1891 stores and average revenues per store of $7.25 million • At that time Wal-Mart was a small niche retailer in the South with only 229 stores and average revenues about half of those Kmart stores. • Ten years later, Wal-Mart transformed itself; it has the highest sales per square foot, inventory turnover and operating profit of any discount retailer. Today Wal-Mart is the largest and highest profit retailer in the world.

29. What accounts for Wal-Mart’s remarkable success • The starting point was a relentless focus on satisfying customer needs; Wal-Mart goal was simply to provide customers access to goods when and where they want them and to develop cost structures that enable competitive pricing • The key to achieving this goal was to make the way the company replenished inventory the centerpiece of its strategy.

30. What accounts for Wal-Mart’s remarkable success? • This was obtained by using a logistics technique known as cross-docking. Here goods are continuously delivered to Wal-Mart’s warehouses where they are dispatched to stores without ever sitting in inventory. • This strategy reduced Wal-Mart’s cost of sales significantly and made it possible to offer everyday low prices to their customers.

31. Characteristics of Cross-Docking: • Goods spend at most 48 hours in the warehouse, • Avoids inventory and handling costs, • Wal-Mart delivers about 85% of its goods through its warehouse system, compared to about 50% for Kmart, • Stores trigger orders for products.

32. System Characteristics: • Very difficult to manage, • Requires linking Wal-Mart’s distribution centers, suppliers and stores to guarantee that any order is processed and executed in a matter of hours, • Wal-Mart operates a private satellite-communications system that sends point-of-sale data to all its vendors allowing them to have a clear vision of sales at the stores

33. System Characteristics: • Need a fast and responsive transportation system: • Wal-Mart has a dedicated fleet of 2000 truck that serve their 19 warehouses • This allows them to • ship goods from warehouses to stores in less than 48 hours • replenish stores twice a week on average.

34. Distribution Strategies

35. Supply Chain Integration – Dealing with Conflicting Goals • Lot Size vs. Inventory • Inventory vs. Transportation • Lead Time vs. Transportation • Product Variety vs. Inventory • Cost vs. Customer Service