TOC solutions -Distribution Chain in FMCG Sector

by Kuldeep Singh Malik

TOC solutions in Distribution Chain in FMCG SectorA case study

Research Papers

ConsumerGoods

Vector Consulting Group www.vectorconsulting.in

The paper presents Theory of constraints’ solutions in retail operations and distribution to ensure better performance in a supply chain. A case study of TOC implementation in retail operations and distribution areas of a 200 Mn USD FMCG businesses has been presented. TOC results in reduction in inventory levels increase in ROI of distributors and retailers, improving customer service and sales force performance. A care is required in generalizing the results to the wider framework of industries as the methodology is based on the case study approach. This study guides the managers of an FMCG firms on how to utilize TOC solutions at retail to manage inventories, to ensure that the right stock is available at the right time in the right quantity leading in improvements in retail services and customer satisfaction. There is a scarcity of papers covering TOC. This paper presents several new insights in TOC implementation process at retail and distributor level.

In today’s highly competitive environment it’s just not good enough to rely on experience and intuition to know what’s right. Such a body of knowledge is found in the advanced management doctrine known as the „Theory of Constraints‟. The TOC is a system’s management philosophy developed by an Israeli physicist Eliyahu M. Goldratt. Goldratt states that a firm’s goal is to make money now and in the future. A company will not exist if it is not making money. Any activity that does not help make money is a waste of time and resources (Goldratt, Eliyahu M. (2004). TOC has been adopted globally by firms like General Motors, the United States Air Force, Navy and Marines, Lucent Technology, Godrej Sara Lee, and Nike. The TOC applications range from Project Management, Distribution, Production, Supply Chain, Financial Management, Marketing, HRM, Sales & Buy-In, Managing People, and Strategy & Tactics, Healthcare and Education sector.

1. Literature review Majority of books and items on TOC claims increased throughputs, reduced inventories and lead-times (Mabin, V.J; Balderstone S.J (2003), (Pophaley, Mahesh; Vyas, R K (2010) discussed the combination of TOC and TPM. (Kohli, Amarpeet S; Gupta, Mahesh (2010) implemented TOC in Restaurants using a case study of a small family-owned Pizza restaurant. (Roy Stratton, Alex Knight (2010) reported improved patient flow in UK hospitals using Jonah software and reported reduction in length of stay over 20%, improvement in emergency and accident handling. ( Gupta, Mahesh; Chahal, Hardeep Kaur; Gurjeet Sharma, (2010) suggested a 3 M frameworks for small firm owners with a new mindset of "Increasing Throughput rather than "Reducing Expenses". TOC and A3 reports were implemented by (Chakravorty, Satya S (2009) in an Aircraft repair project. The role of TOC in innovation has been described by ( Dalton, Michael A (2009). TOC applications in retail and supply chain were studied by (Andotra, Neetu; Pooja (2009) by comparing a firm practices and its customers' perceptions on supply chain links. ( Inman, Anthony R (2009) examined relationships among TOC, expected results of TOC, and organizational performance. (Larsson, Mats; Arif, Mohammed; Aburas, Hani M (2008) discussed limitations of continuous improvement philosophies and proposed nine ways of increasing the system boundary. (Noriaki Aoki, Sachiko Ohta, Nobutaka Kikuchi, Mariko Oishi (2008) presented TOC applications in medicine, diagnosis and treatment field.TOC Literature was reviewed by (Mahmoud, M Yasin; Czuchry, Andrew J; Kady, Rani A (2008) and a field research revealed operational and customer related benefits as a result of TOC implementation and emphasized the need of systematic implementation, change management techniques, the total system and Benchmarking. TOC for Green

TOC solutions in Distribution Chain in FMCG Sector

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Environment was discussed by ( Lockhart, Julie; Audrey Taylor (2007) the role of TOC has been highlighted in the production of clean products with maximum benefits through a better mix of Earth-friendly products. Supply chain management through replenishment has been discussed by (Mabin, V.J; Balderstone S.J (2003) using a case survey to ascertain the real impact of TOC for improving lead time, cycle-time, and revenue. Goldratt considered that points of sale generally operate with shortage levels of at least 20%.The TOC distribution methodology decreases system stock (typically 50%),an increase in sales (typically at least 20%),an increases stock turnover (typically over 100%),decreases internal transferences between regional warehouses, a decrease in obsolescence (typically to less than 50%),Operational Expense(OE) kept approx the same and improvement in relationship between clients and suppliers. TOC applications in FMCG sector has been described by (Malik, Kuldeep Singh; PK, Hemalatha (2011) to improve ROI of distributors and retailers and described how TOC helped an FMCG firm to reduce stock pressures at retailers and distributors.

2. Measuring performance of FMCG Sytem using TOC Measurement of performance of FMCG system is carried out through the following performance indicators:

è Throughput (T)—the rate at which money is generated through sales or interest. It is computed as revenue minus totally variable costs (TVC).

è Inventory (I)—all money invested in things intended for sale. It includes totally variable costs such as material, plus resources used in production such as land, machines, trucks, and computers. The more conventional term, Investment, is sometimes used instead of Inventory.

è Operating Expense (OE)—All money spent turning Investment into Throughput. It includes direct labour, rent, plus selling, general, and administrative costs.

3. The five step thinking process of TOC The TOC is based on the Thinking Process, a mechanism to analyze systems and to identify and remove any constraints which act as obstacles by preventing the company from achieving its goals. Constraints are the weakest links within a system, in critical situations, are first to become sources of problems. If they are not properly removed, they adversely affect the development of the enterprise or supply chain. Application of the Thinking Process functions as a connector in the supply chain makes it possible to establish robust standards to achieve economic efficiency.

The process is in the following order:

Step1: Determine the systems constraint Step2: Determine how to exploit the systems constraint Step3: Sub-ordinate everything else to the above Step4: Elevate the systems constraint Step5: Go back to step 1, as by definition another link turned into the weakest link

4. Theory of constraints applications at retail To protect sales becomes necessary to avoid unavailability and the company needs to have high stocks, while, on the other hand, to control costs the company needs lower stocks. But both 'control costs' and 'protect sales' are critical needs to have a profitable growth. If the next stocking is replenished by only what is being sold by then, the stocking point can have near 100% availability. But, if the initial inventory of SKUs




at the stocking points is inadequate, then this replenishment cannot guarantee 100% availability at this stocking point. As forecasts are never accurate and demands fluctuate, if there exists a reliable mechanism to change stocks levels according to the trends in demands or changes in the supply conditions, then a good enough starting stock is sufficient. This good enough stock levels is determined by- Good enough starting stock level at a stocking point= average dispatch (or sales) per day x Total Replenishment Time (TRT) x a factor of safety. TRT is the time taken from the dispatch of the SKU till it is received from the delivery point. Due to the monthly planning horizon and that the plants produce in large batches to achieve highest efficiency and utilization. The items are generally produced 2-3 times a month. So a regional CFA could receive material 2-3 times a month. So from the time the monthly order is placed till the material is received the time elapsed is over 30 days. Adding some factor to account for variability in demand and supply reliability, the safe inventory will be over 45 days. Using TRT of 45 days does not reduce inventory. As average demand is an external factor, the only parameter to be reduced to have lower inventories is TRT. [Figure 1] illustrates the inventory level of regional warehouse ordering once a month from the plant.

If the regional CFA orders every day, the OLT will be reduced to 1 day and the data can be easily transferred to the earlier delivery point. If the supplies to the regional warehouse take place from a plant warehouse which has 100% availability, the production lead time can be eliminated from the TRT. The plant warehouse receives daily sales data from the regional warehouse and has near 100% availability of all SKUs, and then it can fill up trucks with full load with an assortment of SKUs, rather than, as in the existing system with no plant warehouse, wait for the large batch to be produced. The TRT reduction the OLT reduced to 1 day from about 30 days, PLT reduced to zero from the normal 15-30 days, and TLT reduced to less than half. The effect of these reductions on the inventory levels and availability is illustrated below in blue.

The inventory to be maintained at the central warehouse / plant warehouse = average demand per day on it x production lead time x factor for unreliability of the plant. The initial stock level is designated into three colors- red, yellow and green for each 33% band. Stock at a level lower than 66% of the designated stock level will be in red.

Order L.T.

Production L.T.

Transportation L.T.

Supply

Inventory

Time

Figure 1

Figure 2 Order L.T.

Production L.T.

Transportation L.T.

Supply

Inventory

Time


100%

66%

33%

0 Units

Consumption Receipt

Green Level

Replenishment Time

Figure 3


With increasing demand trend, the stock level will continuously be in red as the supply is insufficient to cater to the rising demand. If the stock remains in red for a period of time equal to the replenishment time to that stocking point, the stock level is changed by 33% i.e. one color band. Any further change in stock level is carried out only after observing the stock levels after the addition (33%) material has already arrived at the stocking point. Similarly for decreasing demand trend, the stock level is reduced by 33% if the stock is always in green.

5. The case study The data collection and fieldwork was carried out at the distributor points and retail stores and also includes participant’s opinion survey along with the collection of documents used, Monthly Sales Summery (MSS), Sales force’s Daily Sales Reports (DSRs) and performance data.

The case study is about 200 Mn USD Indian FMCG sector firm with market leader position in the relevant category. It has about 1,000 direct distributors across the country of which Class-A distributors (business of 40 to`10 lakh and more) comprise about 30 percent of the total strength, Class B (`10 to 5 lakh) and Class C (less than `5 lakh) distributors comprise the rest. The total numbers of SKUs handled are approximately100 in number. The case study firm is the only FMCG firm in India to implement a replenishment model based on Theory of Constraints (TOC) in the SCM area. The firm has consistently worked on the consolidation of its consumer portfolio by combining the operational synergies and scale of its consumer brands to stay at the top.

5.1 The characteristics of the case organization

5.2 The environment of the case organization The case study firm’s factories supply to the firm’s plant warehouse. Goods move from the plant warehouse to regional warehouses, thereon to the CFAs, distributors, and to retailers. For the small towns, the firm has an alternate model. The CFAs supply to superstockists, who in turn, supply to sub-stockiest which are situated in small towns to service the local retailers. This model distribution aims at increasing depth of distribution. The firm has more than four thousand sub-stockiest to cover all the towns and the nearby villages in India. The remote villages are covered by vans that make a trip once in 15 days and supply to the local retailers. More than forty two percent of our sales come from the rural areas. The firms Supply chain department uses the hub-and-spoke model to service each node on a daily basis by consolidation of the products at the hub. In a case if a particular CFA functions properly the associated hub can be bypassed by sending the material directly. The company chose MFG/PRO for its ERP to decentralized structure to beat Internet connectivity issues so that each factory, each branch and each CFA could operate the ERP on its own .The firm went live on all the applications simultaneously and connected downstream supply chain members in phased manner using a middleware on a real-time basis to reduce lead times, increase order accuracy, better quality of service and overall, and profit margins. For Upstream supply chain management, the firm linked all its major distributors in a phased manner together through a middleware. For the Downstream supply chain management, the firm customized and installed downstream supply chain management tool developed by a south Indian IT firm - the market leader in the Indian Downstream SCM market. The objective was to gain access to the periodic sales and stock data. The firm uses information gathered on the middleware to decide the quantity to be produced at its manufacturing plants. Similarly, the Downstream SCM tool helps the firm to gather data from its retailers. The traditional system of pushing products was responsible for out of stock or excess stock situation. The bottleneck was policy constraints in the form of fifteen days stock norms at distributor point and generally, small quantities of orders could not be served. There was no policy on stock norms at retail points. The sales volume of slow moving items was very low and the market was dictating the pace of production for these items. The firm carried high dependency and stock pressure on a particular category and the stock





pressure needed to be reduced for this identified category. The high stock pressures on distributors due to managerial policy resulted in lowering down the ROI of the distributors that needed to be changed to a better replenishment system. The practice of focusing on only primary sales needed to be changed to the secondary sales & off- Take oriented replenishment practices. Stock outs at retail points needed to be controlled by monitoring stock at retail point periodically. A fast moving SKU stock shortage in the peak season was a constraint that was to be changed to more reliable and responsive system of replenishment. Low productivity, range selling and bills productivity of the salesmen needed to be improved by fulfilling all the orders booked by them in retail outlets by addressing the stock shortages.

5.3 Why TOC - the other approaches would give different results Whereas Lean sees the case study firm as a sum of parts which can be improved individually, TOC focuses on that one area (the “constraint”) which, when improved, will have the greatest holistic benefit. Improvements elsewhere are then made, but the priority at all times remains the constraint resource. Lean could have reduced lead time and inventory and thus costs by eliminating waste; TOC has reduced lead time and inventory in order to gain capacity, increase Throughput and provide a competitive edge – thus enabled the business to grow. Lean could have promoted maximum resource efficiency, whilst TOC promotes maximum resource flexibility. Lean could have eliminated excess inventory, idle capacity and variability; TOC has recognized that in practice, variability can never be completely eliminated - but its effects can be protected against by the use of time buffers, whilst protective capacity and inventory can safeguard Throughput against variability of supply.




Though, the implementation of Lean could also prove to be a success, yet Lean has serious limitations in terms of long time taken, high cost involved, slow execution and fewer improvements in the bottom line. Lean doesn’t guide from which weak area to start in terms of reaching goal of perfection thereby, creating priority conflicts among different department. On contrast, The Theory of Constraints provides a clear cut methodology for identifying the priority area and focusing improvements locations having the maximum impact on the entire organization in totality

There were seven steps taken for TOC implementation. Firstly, Strategic plan was formulated wherein TOC was incorporated in the mission statement, "The Viable Vision" was included and organization was restructured from TOC perspective. Tactical and Operational planning were formulated in the second and third stages respectively. In the next stage, under “Train the trainers” programs, training was imparted to all the 31CFAs of the firm and later on, all the 980 distributors, 470 Sales officers, and 1698 salesmen were also trained. In the fifth stage, a survey of the concerns/opinions of the related entities on TOC was carried out. In the sixth stage, TOC rollout took place in the target beats as per the operational plan. Finally, Continuous feedback and control ensured continuous improvements. The TOC Five Step Thinking Process was used in the firm to identify certain bottlenecks which were constraints on the performance of the entire system. Several bottlenecks had appeared while applying the first step of the TOC based Thinking Process, such as Material constraints (Source: High stock pressures on one category), Management constraint (Source: Policy of 15 days stock at distributors), Measure constraint-sales (Source: The excess focus on primary sales), Measure constraint-sales force performance (Source: Sale force evaluation based on sales volume only), However, the actual constraints was Market constraints. The firm switched to a complete replenishment model with a new mindset to give away forecasting and work with replenishment. A complete replenishment model depends on the information flow on a daily basis in the supply chain dynamic. Every day, till midnight, the firm collects sales and stock data from its distributors through the IT network. This information flow continues till midnight. Then from midnight to early in the morning, the firm runs the replenishment engine that shows t how much stock needs to be supplied between particular nodes in the chain along with the required quantity of stock to be manufactured. The daily processing of information keep inventory costs low and save on storage, loading and unloading costs for these products. As per the TOC guidelines, replenishment model had negligible requirement of forecasting demand. However, the firm did not do away with the forecasting of demand and forecasting is done for the SKUs exhibiting high seasonality in demand .The purpose of demand forecasting in such a case was to analyze the market trends. The TOC based replenishment engine does not need dependency on forecasting. On a day today basis, TOC based replenishment system points out the behavior of the sales in a market with respect to each SKU in respective territories of the distributors. The TOC based replenishment approach helped in inventory cost-control. The firm could clearly see the benefits in the coming months wherein, there was an improvement in the availability of all the SKUs and the inventory levels actually came down. The result of the lower inventory was reduction in cost. The firms distributors had a concern that TOC implementation was a risk for their business as it involved of the unknowingness of future results and a strong element of

5.4 The implementation of TOC in the case organization


Supply Chain



complexity. Majority of the respondents felt that TOC might lead to loss of control over system because it being a new process. However, the sales department was found to be more concerned about the potential loss of Primary and Secondary sales in short runs.

5.5 Results of TOC implementation As described by ([12] Malik, Kuldeep Singh; PK, Hemalatha (2011); the average inventory per distributor reduced from 15 days to 2 days, ROI of distributor increased from 13 to 38 percent, salesman bill productivity increased from 41% to 88%; ,Average TLSD per sales man, per day, per beat increased from 44 to 72,the focus shifted from the push system to the pull system, An increase in TLSD indicates a new focus on range selling, the improvement in ROI of the distributors led to increments in salaries of salesmen,

retailer’s performance indicators also exhibited remarkable improvements due to availability of right stock ,in the right quantity and at the right time . TOC resulted in increase in sales of retailers and distributors, strengthening the relationship between various links in the company’s sales of retailers and distributors system.

There could be several challenges in front of managers of the TOC implementation firm. As per the cases study in this paper, some challenges were namely; initial loss of sales volume due to transition from a traditional system to the TOC system. There could be loss of man days as the sales team must attend the TOC Workshops. There could be a resistance to change from several entities within the organization or the distribution channel members. To provide TOC training for all the distributors and sales force could become an extremely challenging task for the management. Retailers’ excess stock in the inventory pipelines needs to be managed and this excess has to be bought back by the firm to set stock norms for retailers on TOC guidelines. The TOC implementation firm’s sales force has to do regular monitoring of physical stock at retail with the increasing database; accuracy becomes a challenging task for the sales force. The distributors must supply all the order generated at retail and if the purchase order size is small then it becomes very difficult to recover their costs. Retailers must be briefed on TOC inside their stores and in this in formal training is very tough to be conducted. The top management must support the initial loss of sales to clean

excess stock piled up in the Supply chain. The loss of man days of sales force in TOC training should not be factored as a loss. All the concerns and doubts in the minds of distributors, retailers, managers and employees must be resolved prior to TOC implantation in order to get buy-ins. Sales force should be trained on TOC appropriate training methods. Retailers should be motivated by offering additional margins on the basis of adherence to the TOC norms set for them by their respective Sales Officers. The adherence to the TOC norms at retail leads to improved product visibility at the POS. A retail audit should be made by the managers to correct the non-cooperating TOC outlets. TOC outlets can serve as the Key outlets for launch of new products.

6. Conclusions Theory of constraints’ solutions in retail operations and distribution ensure better availability at retailers with reduced inventory in supply chain for FMCG firms. The reduction of inventory of retailers and ensures stock availability with an increase in TOC. The result of this study can be tested quantitatively to generalize

5.6 The managerial implications of TOC implementation results




for different industries .This study is unique for the reason that there is a scarcity of papers covering TOC applications through case studied. This paper is unique to cover new insights into TOC implementation at retail level to guide the managers of FMCG firms on how to utilize TOC solutions at retail to manage inventories, to ensure that the right stock is available at the right time in the right quantity leading realization of the "The Viable Vision" conceptualized by Dr.Goldratt.

Reference

Andotra, Neetu; Pooja., 2009. TOC Supply Chain Management Solution for Food Processing Industries. Journal of Small Business and Entrepreneurship, 22(2), 239-14 Chakravorty, Satya S., 2009. Process Improvement: Using Toyota's A3 Reports. The Quality Management Journal, 16(4) 7- 20. Dalton, Michael A., 2009. What's Constraining Your Innovation? Research Technology Management, 52(5)52-13. Goldratt, Eliyahu M., 2004. The Goal: A Process of Ongoing Improvement. North River press Gupta, Mahesh; Chahal, Hardeep Kaur; Gurjeet Sharma, Ramji., 2010. Improving the weakest link: A TOC-based framework for small businesses. Total Quality Management & Business Excellence; 21( 8), 863-883, Inman, Anthony, R ., 2009. Analysis of the relationships among TOC use, TOC outcomes, and organizational performance. International Journal of Operations & Production Management, 29(4), 341. Kohli, Amarpeet S; Gupta, Mahesh., 2010. Improving Operations Strategy: Application of TOC Principles in a Small Business. Journal of Business & Economics Research, 8(4); 37-9. Larsson, Mats; Arif, Mohammed; Aburas, Hani M., 2008. Incremental changes and efficiency leaps in the improvement of internal effectiveness. Management Research News. Patrington, 31( 8), 583 Lockhart, Julie; Audrey, Taylor., 2007. Environmental Considerations in Product Mix Decisions Using ABC and TOC Management Accounting Quarterly. 9(1), 13-6. Mabin, V.J; Balderstone S.J., 2003., The performance of the theory of constraints methodology: Analysis and discussion of successful TOC applications. International Journal of Operations & Production Management, 23( 6). Mahmoud, M Yasin; Czuchry, Andrew J; Kady, Rani A., 2008. Re-engineering operational practices and processes to improve the customer focus of a marketing organization . Advances in Competitiveness Research, 16(½), 47-62 Malik, Kuldeep Singh; PK, Hemalatha., 2011. Theory of Constraints applications in FMCG Distribution channel: A case Study" proceedings of the Biennial Supply Chain Management Conference. organized by Indian Institute of Management Bangalore, dated Jan 7– 8, 2011. Mehra, Satish; Inman, Anthony R; Tuite, Gregory, 2005. A simulation-based comparison of TOC and traditional accounting performance measures in a process industry, Journal of Manufacturing Technology Management, 16 (3),328-343 Noriaki, Aoki, Sachiko Ohta, Nobutaka Kikuchi, Mariko, Oishi., 2008. An Introduction to the Theory of Constraint and How it Can Be Applied to Medical Management. Physician Executive, Tampa, 34(2), 52-57 Roy Stratton, Alex Knight., 2010. Managing patient flow using time buffers. Journal of Manufacturing Technology Management, 21(4), 484 Roztocki, Narcyz.,2002. Successfully Managing an E-Business by Applying the Theory of Constraints. IIE Annual Conference Proceedings, 2002 Pophaley, Mahesh; Vyas, R K., 2010. Optimizing Maintenance Management Efforts by the Application of TOC: A Case Study. UP Journal of Operations Management. 9(3), 48-62 Stratton, Roy; Knight, Alex, Knight., 2010., Managing patient flow using time buffers. Journal of Manufacturing Technology Management, 21(4), 484


Kuldeep Singh Malik is Head of Research at .

Vector Consulting Group ( ) is the leader of ‘Theory of Constraints’ consulting in India. Vector has been working closely with some of the well known retail chains, FMCG, fashion products, custom manufacturing industry and auto after market companies to improve their overall profitability through supply chain effectiveness.

Kuldeep Singh Malik can be reached at

Vector Consulting Group

www.vectorconsulting.in

[email protected]


TOC solutions -Distribution Chain in FMCG Sector

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