MODUL KORPS SUPPLY CHAIN MANAGEMENT
KORPSMENWAINDONESIA
WidyaCastrenaDharmaSidha
HUMANCAPITALDIVISION
2016
Contents
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CONTENTS
Chapter 1: Introduction and History ....................................................................................................................... 1
Supply Chain ................................................................................................................................................... 1
Supply Chain Management....................................................................................................................... 2
Objectives of Supply Chain Management ........................................................................................... 6
Customer Orientation.................................................................................................................................. 7
Importance and benefits of Supply Chain Management .............................................................. 7
Components of supply chains ................................................................................................................. 8
Supply Chain Decisions ........................................................................................................................... 12
Supply Chain Management Today ...................................................................................................... 14
Trends in Development ........................................................................................................................... 15
Where the Supply Chain Creates Value? .......................................................................................... 17
Chapter 2: Global Supply Chain Management .................................................................................................. 21
2.1 Focus of Present Supply Chain Management: Going Global .................................................... 21
2.2 Managing a Global vs. Domestic Supply Chain ............................................................................. 22
2.3 Supply Chain Management Features that provide Global Competitive Edge ................... 24
2.4 Dimensions of Challenges ...................................................................................................................... 26
2.5 Response of Supply Chain to Globalisation .................................................................................... 28
2.6 Supply Chain Integration: Challenges and Good Practices ....................................................... 31
2.7 Competitive Factors Influencing Supply Chain Competition.................................................... 31
2.8 Contemporary Trends in SCM............................................................................................................... 35
Chapter 3: Planning and Designing the Supply Chain ................................................................................... 38
3.1 Planning Supply Chain Network .......................................................................................................... 38
3.2 Efficiency and responsiveness in Supply Chain Management ................................................. 38
3.3 Decision phases in Supply Chain ......................................................................................................... 39
3.4 Drivers of Supply Chain Performance ................................................................................................ 42
3.5 Designing distribution in the Supply Chain..................................................................................... 48
3.6 Supply Chain Network Design .............................................................................................................. 49
3.7 Factors influencing network design decisions................................................................................ 52
3.8 Phases of Global Network Design decisions ................................................................................... 54
3.9 Outsourcing and Offshoring .................................................................................................................. 56
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3.10 Benefits of outsourcing business processes .................................................................................... 56
3.11 Importance of Location Decisions in SCM operations ................................................................ 58
3.12 Capacity Planning ...................................................................................................................................... 59
3.13 Bullwhip Effect ............................................................................................................................................. 60
Chapter 4: Lean Supply Management .................................................................................................................. 63
4.1 Lean Manufacturing ................................................................................................................................... 63
4.2 Focusing on Cost-to-Serve ...................................................................................................................... 64
4.3 Principles of Lean Supply ......................................................................................................................... 65
4.4 Lean Process Mapping Tools .................................................................................................................. 67
Chapter 5: Agile Supply Management ................................................................................................................. 75
5.1 Agile as Supply Chain Model ................................................................................................................ 75
5.2 Characteristics of the Agile Supply Chain ........................................................................................ 76
5.3 Comparison of lean supply with agile supply ................................................................................. 78
5.4 From supply chain to demand chain .................................................................................................. 81
5.5 Using the supply chain to compete .................................................................................................... 82
5.6 Developing agility in the organisation .............................................................................................. 82
Chapter 6: Purchasing and Supplier Selection .................................................................................................. 85
6.1 Strategic Role of Purchasing ................................................................................................................. 85
6.2 Purchasing Process .................................................................................................................................... 87
6.3 Supplier Selection ...................................................................................................................................... 90
6.4 Contributions to the Kraljic matrix ...................................................................................................... 96
6.5 Strategic change in the Kraljic matrix ................................................................................................ 98
6.6 Towards Knowledge Based Sourcing ............................................................................................... 100
Chapter 7: Supply Relationship and Integration ........................................................................................... 103
7.1 Supply Relationship ................................................................................................................................ 103
7.2 The Partnership Model .......................................................................................................................... 104
7.3 Strategic Alliance ...................................................................................................................................... 107
7.4 The Power of Partnership ..................................................................................................................... 109
7.5 Strategic Alliances: Collaboration as a Resource ......................................................................... 110
7.6 Behavioural Characteristics and Results .......................................................................................... 110
7.7 Integrating the Supply Chain .............................................................................................................. 113
7.8 Benefits of the Integrated Supply Chain ......................................................................................... 115
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Chapter 8: The Present and Future Challenges of SCM ............................................................................. 116
8.1 Creating Customer Centric Supply Chain ....................................................................................... 116
8.2 Dynamics in SCM ..................................................................................................................................... 117
8.3 Current issues in SCM ............................................................................................................................ 122
8.4 Business renovation in SCM ................................................................................................................ 124
8.5 Supply chain risks..................................................................................................................................... 127
8.6 Supply chain frameworks and standards ........................................................................................ 129
8.7 Performance measurement in SCM .................................................................................................. 132
8.8 Supply chain informatisation ............................................................................................................... 135
Chapter 1: Introduction and History
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Chapter 1: Introduction and History
Supply Chain
American Production and Inventory Control Society (APICS, 1990) defines the term supply chain
as either the “processes from the initial raw materials to the ultimate consumption of the finished
product linking across supplier-user companies,” or as the “functions within and outside a
company that enable the value chain to make products and provide services to the customer.”
The APICS dictionary defines value chain as “functions within a company that add value to the
products or services that the organisation sells to customers and for which it receives payment.”
The differences between the supply chain and the value chain are illustrated in the Figure below.
The supply chain is shown as a series of arrows moving from the raw materials stage to the final
customer.
Each of these arrows represents an individual firm, which has its own value chain. In Figure 1.1
this value chain is enlarged for one firm in the supply chain so that some of the internal functions
of the firm that add value can be shown. In this example note that purchasing, marketing, and
operations management are shown as part of the firm’s internal value chain. These are internal
functions of the firm and they occur in every firm that is a member of a supply chain.
Figure 1.1 Supply Chain vs Value Chain
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Supply Chain Management
1.2.1 Emergence of Supply Chain Management
The term “supply chain management” is relatively new in the literature, appearing first in 1982
(Oliver & Weber, 1982) to describe connecting logistics with other functions, and by Houlihan
(1985, 1988) to describe the connections between logistics and internal functions and external
organizations. The evolution of SCM continued into the 1990s due to the intense global
competition (Handfield, 1998).
Before the 1950s, logistics was thought of in military terms. It had to do with procurement,
maintenance, and transportation of military facilities, materials, and personnel. The study and
practice of physical distribution and logistics emerged in the 1960s and 1970s (Heskett et al.,
1973).
Around 1950s changes occurred that could be classified as a first “Transformation.” The
importance of logistics increased considerably, when physical distribution management in
manufacturing firms was recognised as a separate organizational function (Heskett et al., 1964).
The SCM concept was coined in the early 1980s by consultants in logistics (Oliver and Webber,
1992). The authors emphasized that the supply chain must have been viewed as a single entity
and that strategic decision-making at the top level was needed to manage the chain in their
original formulation. The emergence and evolution of Supply Chain Management may be
depicted as a timeline shown in the Figure below.
Supply chain management (SCM) has emerged as an important pursuit among business
organisations. Textbooks in the fields of purchasing, logistics and operations are increasingly
Figure 1.2 Evolution of Supply Chain Management
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using the term “Supply Chain Management” in titles. The same is true of course titles, department
names, and faculty titles.
1.2.2 Definition of Supply Chain Management
“The design and management of seamless, value-added process across organisational
boundaries to meet the real needs of the end customer”
- Institute for Supply Management
“Managing supply and demand, sourcing raw materials and parts, manufacturing and assembly,
warehousing and inventory tracking, order entry and order management, distribution across all
channels, and delivery to the customer.”
-The Supply Chain Council
How could one draw a boundary of a supply chain? In order to answer this question, one needs
to understand the four intrinsic flows of a supply chain.
Material Flow: From the beginning of the supply chain to the finished products at the end of the
supply chain, all manufacturing supply chains have material flows from the raw materials. For
instance, a furniture-making supply chain will have the wood cut down from forest at the
beginning of its supply chain and home furniture at the end of supply chain. It is clear in this case
that the continuous flow of wood been transformed through the chain and end up to furniture
forms the whole supply chain. A furniture supply chain can never be confused with a sugar
manufacturing supply chain because the material flows in between are clearly different and never
will they cross with each other.
The flow of material (“products and services”) starts from the source of materials forward (or
upstream) to the final consumer in the external chain. It should be noted that there is also a
backward (or downstream) flow of materials, mainly associated with product returns. The growing
importance of reverse logistics in recent years has sharpened the focus on management of these
flows. For example, “Return” is the process most recently incorporated into the SCOR model
(Supply Chain Council, 2005).
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Much SCM theory has its origins in the well-established field of materials management. The
evolution of materials management in many ways mirrors the evolution of SCM as a whole. For
example, the focus on manufacturing inventory reduction in the 1960s and1970s became an
integral part of the broader field of materials management in the 1980s and early 1990s (Sweeney,
2006). The need for more integrated approaches to materials management across the supply
chain became a strong focus in the 1990s (see, for example: Hines, 1993). It could be argued that
the whole field of logistics, with its origins in a military context, is fundamentally concerned with
the efficient and effective management of the flow of materials through supply chains. In any
event, The SCOR model Version 8.0 was released by the Supply Chain Council in June 2006.
Information Flow: All supply chains have and make use of information flows. Throughout a
supply chain there number of information flows. Demand information flow, forecasting
information flow, production and scheduling information flows, and design and NPI information
flows are common. The information can run both directions, towards upstream and downstream
alike. It should be noted that most of them are unique to the specific supply chain. The
information of children’s toy has no value to a motorbike supply chain. Every supply chain has its
own set of information flows, which is vital to its existence and protected against those of other
supply chains.
The need to share information across the various entities along the supply chain is definitely of
paramount importance. Chopra and Meindl (2001) stress that information “serves as the
connection between the supply chain’s various stages, allowing them to coordinate their actions
and bring about many of the benefits of maximising total supply chain profitability.”
In all the information sharing that takes place in supply chain managemetn, however, there is a
need to ensure that the information flow is accurate and reliable. Procter & Gamble (P&G) started
to explore, after experiencing erratic shifts in ordering along the supply chain for its popular
brand of disposable diapers, a phenomenon referred to as the bullwhip effect. This phenomenon
results in the flow of distorted information from one entity to another along the supply chain. In
particular, it was found that distributors’ orders showed more variability than that of sales
(customer demand) and, further along the supply chain, P&G’s orders to its supplier exhibited
the greatest variability. Managers at every link in the supply chain tend to magnify even slight
demand uncertainties and variability, and will tend to make ordering and inventory decisions in
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their own entity’s interest. The phenomenon can give rise to excessive inventories, poor customer
service, and lost revenues, among others. It is not unique to P&G or the consumer packaged
goods industry, but has also been experienced in a computer company and a pharmaceutical
company (Lee et al., 1997).
Finance Flow: Every supply chain obviously has the finance or money flow, which the experts
also call the blood stream of a supply chain. This flow is an integral part of the supply chain.
Financial resources also flow up and down the supply chain, align with product and information
flow. The invoices are flowing down the supply chain, while payments are flowing up the supply
chain. Invoices and payments flow up and down along the whole supply chain.
The manufacturers are getting paid, but are also paying their suppliers. The suppliers are paying
their suppliers, while consumers are paying retailers, etc. The finance flow is endless in circular
motion.
Order processing is the main supply chain management process that initiates the flow of
payments. The ordering is directly related to customer credit limit, invoicing, and accounts
receivable. Customers place orders and pay for products through order processing systems.
Considering the fact that this process is multiplied to every single customer, the whole process
needs to be automated.
Payment flows are affected by terms of trade between players in the supply chain, such as
payment terms, credits, return policies, etc. By changing the terms of trade, the physical flows of
products can also be changed as well. For effective supply chain management companies must
design appropriate financial flow so that these three flow streams (product, information, and
financial resources) are aligned.
Commercial flow: All supply chain represents a transactional commercial flow. This means that
the material flow that run through the supply chain changes its ownership from one company to
another, from supplier to buyer. The transactional process of buying and selling shifts the material
flow’s ownership from the supplier to the buyer repeatedly until the end of the supply chain –
the end-consumer. This transactional commercial flow will only take place in a supply chain where
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there are more than one companies. On the other hand, if it is with an organisation there will be
material flow, but no ownership change, and hence no commercial flow.
The four flows described above not only better explain the function of the supply chain, but also
define it more thoroughly. They represent four major areas of concerns and research activities in
the supply chain management, which covers most of the known issues in the published literatures.
Objectives of Supply Chain Management
The fundamental objective is to "add value".
That brings us to the example of the fish fingers. During the Supply Chain Management'98
conference in the United Kingdom, a participant in a supply chain management seminar said that
total time from fishing dock through manufacturing, distribution, and final sale of frozen fish
fingers for his European grocery-products company was 150 days. Manufacturing took a mere
43 minutes. That suggests an enormous target for supply chain managers. During all that time,
company capital is--almost literally in this case--frozen. What is true for fish fingers is true of
most products.
Examine any extended supply chain, and it is likely to be a long one. James Morehouse, a vice
president of consulting firm A.T. Kearney, reports that the total cycle time for cornflakes, for
example, is close to a year and that the cycle times in the pharmaceutical industry average 465
days. In fact, Morehouse argues that if the supply chain, of what he calls an "extended enterprise,"
is encompassing everything from initial supplier to final customer fulfilment, could be cut to 30
days, that would provide not only more inventory turns, but fresher product, an ability to
customise better, and improved customer responsiveness. "All that add value," he says. And it
provides a clear competitive advantage.
Supply Chain Management becomes a tool to help accomplish corporate strategic objectives:
By reducing working capital,
By taking assets off the balance sheet,
By accelerating cash-to-cash cycles,
By increasing inventory turns, and so on.
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Customer Orientation
The end-consumer to a supply chain is perhaps the most important factor of all as far as its
management is concerned. Everything a supply chain does is driven by the needs and wants of
the end-consumer. The contents of SCM are populated with the approaches, activities as well as
the strategies that are aiming at delivering the products and services to satisfy the end-consumer.
Therefore, it is safe to say that the SCM should be and has always been a customer centred
management. This reflects the typical characteristic of supply chain’s customer orientation.
Importance and benefits of Supply Chain Management
In the ancient Greek fable about the tortoise and the hare, the speedy and over confident rabbit
fell asleep on the job, while the "slow and steady" turtle won the race. That may have been true
in Aesop's time, but in today's demanding business environment, "slow and steady" won't get
you out of the starting gate, let alone win any races. May be you need to become “fast and
steady”. Managers these days recognise that getting products to customers faster than the
competition will improve a company's competitive position. To remain competitive, companies
must seek new solutions to important Supply Chain Management issues such as modal analysis,
supply chain management, load-planning, route- planning and distribution network design.
Companies must face corporate challenges that impact Supply Chain Management such as
reengineering globalisation and outsourcing. Why is it so important for companies to get
products to their customers quickly? Faster product availability is key to increasing sales, says R.
Michael Donovan of Natick, Mass., a management consultant specialising in manufacturing and
information systems.
"There's a substantial profit advantage for the extra time that you are in the market and your
competitor is not," he says. "If you can be there first, you are likely to get more orders and more
market share." The ability to deliver a product faster also can make or break a sale. "If two
alternative [products] appear to be equal and one is immediately available and the other will be
available in a week, which would you choose? Clearly, "Supply Chain Management has an
important role to play in moving goods more quickly to their destination."
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The goals of modern SCM are to reduce uncertainty and risks along the supply chain, thereby
positively affecting inventory levels, cycle time, processes and customer service. All these
contribute to increased profitability and competitiveness.
Components of supply chains
1.6.1 The broad components of supply chains
The term supply chain comes from a picture of how the partnering organisations are linked
together. As shown in Figure 1.3, a simple supply chain links a company which manufactures or
assembles a product (middle of the chain) with its suppliers (on the left), and distributors and
customers (on the right). The upper part of the picture shows a generic supply chain, while the
bottom part shows a specific example of making toys.
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The arrows in Figure 1.3 shows the flow of material among the various partners. Not shown is the
flow of returns, which may be in reverse direction. The broken lines, which are shown only in the
upper part, indicate the bi-directional flow of information.
The supply chain is composed of three parts:
a. Upstream. This part includes the suppliers (which can be manufacturers and/or assemblers)
and their suppliers. Such a relationship can be extended, to the left, in several tiers, all the
way to the origin of the material (e.g., mining ores, growing crops).
b. Internal supply chain. This part includes all the processes used in transforming the inputs
received from the suppliers to outputs, from the time the inputs enter an organisation to the
time that the product(s) goes to distribution outside the organisation.
c. Downstream. This part includes all the activities involved in delivering the product to final
customers. (The supply chain actually ends when the product reaches its after use disposal -
- presumably back to Mother Earth somewhere).
As one can see a supply chain involves activities during the entire product life cycle, from "dirt to
dust." However, a supply chain is more than that, since we also deal with a movement of
Figure 1.3: Supply Chains of Toys Making (--- = information)
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information and money, and with procedures that support the movement of a product or a
service. Finally, the organisations and individuals involved are considered as part of the chain as
well.
Supply chains come in all shapes and sizes and may be fairly complex as shown in Figure 1.4. As
can be seen in the Figure 1.4, the supply chain for a car manufacturer includes hundreds of
suppliers, dozens of manufacturing plants (parts) and assembly plants (cars), dealers, direct
business customers (fleets), wholesalers, customers, and support functions such as product
engineering and purchasing.
Notice that in this case, the chain is not strictly linear as in Figure 1.4. Here we see some loops in
the process. Sometimes the flow of information and even goods can be bi-directional. For
example, not shown in this Figure 1.4 is the return of cars to the dealers, in cases of defects or
recalls by the manufacturer.
1.6.2 Conceptual components of SCM
Any supply chain management practice and activities is captured by the three conceptual
components:
Figure 1.4: An Automotive Supply Chain
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Supply Chain Configuration
Supply Chain Relationship
Supply Chain Coordination
Supply Chain Configuration is about how a supply chain is created from all its participating
firms. This comprises how big is the supply base for OEM (original equipment manufacturer); how
wide or narrow is the extent of vertical integration (which is the single ownership of consecutive
activities along the supply chain); how much of the OEM’s operations are outsourced; how the
downstream distribution channel is designed; and so on. It is also known as supply chain
architecture. The decision on supply chain configuration is strategic and at a higher level.
Supply Chain Relationship is about inter-firm relationships across the supply chain although
the key focus of relationship is often around the OEM and its first tier suppliers and first tier
customers and the relationship in between. The type and level of the relationship is determined
by the contents of inter-organisational exchanges.
Supply Chain Coordination refers mainly to the inter-firm operational coordination within a
supply chain. It includes the coordination of continuous material flows from the suppliers to the
buyers and through to the end consumer in a preferably JIT manner. Inventory management
throughout the supply chain could be a key focal point for the coordination. Production capacity,
forecasting, manufacturing scheduling, even customer services will all constitute the main
contents of the coordination activities in the supply chain.
Given the critical importance of coordination, few researchers have appeared to develop and test
the concept of coordination in the supply chain. Senge (1990) popularised systems thinking that
can be used to understand the reality of logistics and coordinate the chain members in order to
create collective knowledge. Konijnendijk (1994) examined the coordination process at tactical
and operational levels about product specification, volume, mix and lead-times between sales
and manufacturing in engineer-to-order (ETO) companies. Stank et al. (1999) studied inter-firm
coordination processes characterised by effective communication, information exchange,
partnering and performance monitoring in food industry supply chains. Lee et al. (1997)
suggested channel coordination, operational efficiency and information sharing to improve the
overall supply chain performance. Current research often emphasises a single coordination mode
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as the act of managing specific objects such as interdependent processes, information and
knowledge. Little attention has been given to exposing different coordination modes and their
interactions. The exception was Lee (2000), who provided an interesting concept of supply chain
integration that consists of information sharing, logistics coordination and organisational
relationship linkage. Pykeet al. (2000) shared this concept and tested it in an empirical study.
However, Lee (2000) considered only the coordination mode due to process realignment and said
nothing about combining different modes of coordination.
Supply Chain Decisions
We classify the decisions for supply chain management into two broad categories -- strategic
and operational. As the term implies, strategic decisions are made typically over a longer time
horizon. These are closely linked to the corporate strategy, and guide supply chain policies from
a design perspective. On the other hand, operational decisions are short term, and focus on
activities over a day-to-day basis. The effort in these type of decisions is to effectively and
efficiently manage the product flow in the "strategically" planned supply chain.
There are four major decision areas in supply chain management: 1) location, 2) production, 3)
inventory, and 4) transportation (distribution), and there are both strategic and operational
elements in each of these decision areas.
1.7.1 Location Decisions
The geographic placement of production facilities, stocking points, and sourcing points is the
natural first step in creating a supply chain. The location of facilities involves a commitment of
resources to a long-term plan. Once the size, number, and location of these are determined, so
are the possible paths by which the product flows through to the final customer. These decisions
are of great significance to a firm since they represent the basic strategy for accessing customer
markets, and will have a considerable impact on revenue, cost, and level of service. These
decisions should be determined by an optimisation routine that considers production costs, taxes,
duties and duty drawback, tariffs, local content, distribution costs, production limitations, etc.
(SeeArntzen, Brown, Harrison and Trafton [1995] for a thorough discussion of these aspects.)
Although location decisions are primarily strategic, they also have implications on an operational
level.
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1.7.2 Production Decisions
The strategic decisions include what products to produce, and which plants to produce them in,
allocation of suppliers to plants, plants to DC's, and DC's to customer markets. As before, these
decisions have a big impact on the revenues, costs and customer service levels of the firm. These
decisions assume the existence of the facilities, but determine the exact path(s) through which a
product flows to and from these facilities. Another critical issue is the capacity of the
manufacturing facilities--and this largely depends the degree of vertical integration within the
firm. Operational decisions focus on detailed production scheduling. These decisions include the
construction of the master production schedules, scheduling production on machines, and
equipment maintenance. Other considerations include workload balancing, and quality control
measures at a production facility.
1.7.3 Inventory Decisions
These refer to means by which inventories are managed. Inventories exist at every stage of the
supply chain as either raw materials, semi-finished or finished goods. They can also be in-process
between locations. Their primary purpose to buffer against any uncertainty that might exist in the
supply chain. Since holding of inventories can cost anywhere between 20 to 40 percent of their
value, their efficient management is critical in supply chain operations. It is strategic in the sense
that top management sets goals. However, most researchers have approached the management
of inventory from an operational perspective. These include deployment strategies (push versus
pull), control policies --- the determination of the optimal levels of order quantities and reorder
points, and setting safety stock levels, at each stocking location. These levels are critical, since
they are primary determinants of customer service levels.
1.7.4 Transportation Decisions
The mode of transportation choice aspect of these decisions are the more strategic ones. These
are closely linked to the inventory decisions, since the best choice of mode is often found by
trading-off the cost of using the particular mode of transport with the indirect cost of inventory
associated with that mode. While air shipments may be fast, reliable, and warrant lesser safety
stocks, they are expensive. Meanwhile shipping by sea or rail may be much cheaper, but they
necessitate holding relatively large amounts of inventory to buffer against the inherent
uncertainty associated with them. Therefore customer service levels, and geographic location play
vital roles in such decisions. Since transportation is more than 30 percent of the logistics costs,
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operating efficiently makes good economic sense. Shipment sizes (consolidated bulk shipments
versus Lot-for-Lot), routing and scheduling of equipment are key in effective management of the
firm's transport strategy.
Supply Chain Management Today
If we take the view that Supply Chain Management is what Supply Chain Management people
do, then in 1997 Supply Chain Management has a firm hand on all aspects of physical distribution
and materials management. Seventy-five percent or more of respondents included the following
activities as part of their company's Supply Chain Management department functions:
Inventory management
Transportation service procurement
Materials handling
Inbound transportation
Transportation operations management
Warehousing management
Moreover, the Supply Chain Management department is expected to increase its range of
responsibilities, most often in line with the thinking that sees the order fulfilment process as one
co-ordinated set of activities. Thus the functions most often cited as planning to formally include
in the Supply Chain Management department are:
Customer service performance monitoring
Order processing/customer service
Supply Chain Management budget forecasting
On the other hand, there are certain functions which some of us might feel logically belong to
Supply Chain Management which companies feel are the proper domain of other departments.
Most difficult to bring under the umbrella of Supply Chain Management are:
Third party invoice payment/audit
Sales forecasting
Master production planning
Today Supply Chain Management includes services such as:
Operational Analysis and Design Materials Handling
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Distribution Strategy
Operational Improvements, Distribution Management
Computer Systems
Warehouse Design Project Management
Operational Commissioning
Computer Simulation
Technical Seminars
Write-in responses reveal the leading edge of what some Supply Chain Management
departments are doing. These include engineering change control for packaging; custom design
packaging; drafting national Supply Chain Management standards; and implementing SCM
software.
Trends in Development
The future for Supply Chain Management looks very bright. This year, as well as last year, two
major trends are benefiting Supply Chain Management operations. These are
Customer service focus
Information technology
Successful organisations must be excellent in both of these areas, so the importance of Supply
Chain Management and the tools available to do the job right will continue to expand.
The continuous development of SCM is partly driven by the changes of overall business
environment and intensified competitions in the global market place. But partly it is influenced
by the new understanding of the supply chain that they participate. Following are a number of
early trends in the subject’s development quite clear and apparent.
1) From functional to process perspective. Business management used to see and take action
on the functional (departmental) silos in the business. It was understandable that naturally the
function is what seen to be the distinctive delivery part of the business. But, today with supply
chain management concept managers can see their problems more from the process (to serve
the customers) perspective, understanding that functions can only make sense if it is perceived
from a supply chain process perspective.
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2) From operational to strategic viewpoint. At early years of applying supply chain
management concept, managers tends to see it as another operational tactics that will help to
reduce operational cost, such as purchasing function improvement and optimising the logistics
operations. But, gradually more and more managers realised that the effective changes can only
be achieved if the operational issues are addressed from the supply chain wide strategic
viewpoint. Operational excellence can only be manifested through its strategic fit.
3) From single enterprise to extended enterprise. Enterprise management is now arguably
displaced by the supply chain management, where the supply chain is by definition the extended
enterprise. The long established enterprise centred management thinking was based on that the
competition was raged between the organisations, thus it becomes obsolete as the competitions
are now predominantly between the supply chains. Management thinking over the extended
enterprise produces a great deal ideas that a single enterprise cannot.
4) From transactional to relationship based engagement. Business engagement between firms
in the past was predominantly transaction based and cost driven. The merit of any purchasing
and procurement of externally sourced materials and services was judged by the transactional
measures such as price, volume and delivery terms. But what’s now more of the practices in
working with external organisations within the supply chain is so called relationship based
engagement. This relationship approach does not abandon the transactional activities but put its
decision baking on much wider consideration of knowledge exchange, long-term commitment,
incentives and reward.
5) From local to regional, and from regional to global. Connections of supply network have
over the last two decades grown from local to regional and to global. Hardly any major enterprise
and supply chains is not connected to some part of the world. You need to get out before you
can get up. This trend is spurred by the lower cost of labour and materials in many parts of the
world, as well as first mover advantages in setting up global market presence.
We cannot conclude that the trends in development are always positive and promising. With
support of the supply chain management risks are now continuously growing. The task of
managing and improving supply chain performances across all industrial sectors is only becoming
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tougher, not easier. This calls for deeper and more thorough understanding of the challenges
supply chains are facing.
Where the Supply Chain Creates Value?
Supply chain management's ability to affect profitability and shareholder value should come as
no surprise. As Richard Thompson, a partner in Ernst & Young's supply chainpractice, points out,
supply chain management affects virtually every aspect of a company's business. "Everything is
involved," he says. "Supply chain management [influences] plan-buy-make-move-and-sell."
Enhanced revenues, tighter cost control, more effective asset utilisation, and better customer
service are just the beginning.
Thompson and his colleagues have identified five areas in which supply chain management can
have a direct effect on corporate value. They include:
Profitable growth. Supply chain management contributes to profitable growth by
allowing assembly of "perfect orders," supporting after-sales service, and getting
involved in new product development. The bottom-line numbers give the answer.
According to A.T. Kearney's research, inefficiencies in the supply chain can waste up to25
percent of a company's operating costs. With profit margins of only 3 to 4 percent, the
consultants point out, even a 5-percent reduction in supply-chain waste can double a
company's profitability.
Working-capital reductions. Increasing inventory turns, managing receivables and
payables, minimising days of supply in inventory, and accelerating the cash-to-cash cycle
all are affected by supply chain execution. Thompson cites the case of a consumer-
products company that took 20 minutes to make a product and five and a half months
to collect payment for it. "If you can cut the cash cycle down, there are millions of dollars
there," he says.
Fixed-capital efficiency. This refers to network optimisation--for instance, assuring that
the company has the right number of warehouses in the right places, or outsourcing
functions where it makes more economic sense.
Global tax minimisation. "There's a ton of money here," Thompson says, if companies
look at assets and sales locations, transfer pricing, customs duties, and taxes.
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Cost minimisation. This largely focuses on day-to-day operations, but it also may
involve making strategic choices about such issues as outsourcing and process design.
Based on experience with companies participating in MIT's Integrated Supply Chain Management
Program, there has been found that the most commonly reported bottom-line benefits are
centred on reduced costs in such areas as inventory management, transportation and
warehousing, and packaging; improved service through techniques like time-based delivery and
make-to-order; and enhanced revenues, which result from such supply chain related
achievements as higher product availability and more customised products.
The companies studied by Metz have recorded a number of impressive supply-chain
accomplishments, including:
a 50-percent inventory reduction.
a 40-percent increase in on-time deliveries.
a 27-percent decrease in cumulative cycle time.
a doubling of inventory turns coupled with a nine-fold reduction in out-of-stock rates.
a 17-percent revenue increase.
On a broader scale, research conducted by Mercer Management Consulting reveals that
organisations with the best supply chains typically excel in certain pivotal performance areas.
Specifically, they outperform their counterparts along such key metrics as reducing operating
costs, improving asset productivity, and compressing order-cycle time. In a separate study,
Mercer found that close to half of all senior executives surveyed had specific supply-chain
improvement projects among their top 10 corporate initiatives. This is a resounding affirmation
at the highest levels of supply-chain management's competitive potential.
A study by the management consulting firm of A.T. Kearney has come at the supply-chain
payback from another angle--the costs of not paying careful attention to the supply-chain
process. The Kearney consultants found as discussed previously that supply-chain inefficiencies
could waste as much as 25 percent of a company's operating costs.
Finally, the PRTM study cited earlier documented the powerful advantages of supply-chain
management across a range of critical measures. The leading companies, for example, enjoyed a
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cash-to-order cycle time that was fully one-half of the median companies'. Similarly, their
inventory days of supply turned out to be 50 percent less than the median. The best-in-class
companies, moreover, met their promised delivery dates 17 percent more often than the rest of
the pack.
1.10.1 Examples
These are some of the big-picture numbers. Most companies, though, find it more meaningful to
focus on the payback potential of specific activities within the total supply-chain process. The
following examples illustrate the kinds of benefits that can be realised. Individually, these
improvements can bring important cost savings and service enhancements. Collectively, they can
lead to dramatic breakthroughs in profitability and market share.
Morehouse believes that Supply Chain Management also can play key roles in increasing a
company's market share--"... not by cutting price, but by doing such a superb job that you attract
profitable market share," he says. In other words, a company needs to have not only the right
product, but also the right processes for the market.
Distribution network optimisation. Optimising the distribution network--that is determining
the best location for each facility, setting the proper system configuration, and selecting the right
carriers--brings immediate cost advantages of 20 to 30 percent. That's the figure determined by
IBM's Wholesale Distribution Industry Segment, based on consulting engagements in a wide
range of industries. "This typically breaks down into transportation savings of 15 to 25 percent
and improvements in inventory-carrying costs of 10 to 15 percent," says Mark Wheeler, national
solutions manager for the IBM consulting unit.
Shipment consolidation. A proven, though often overlooked, supply-chain lever lies in shipment
consolidation. Nabisco offers an instructive example. For one retail customer, the company had
been delivering product from multiple plants via six different LTL (Less Than Truckload) deliveries.
Through the use of a third-party SCM provider, it was able to consolidate these multi-vendor
loads into two truckloads. By strategically consolidating the shipments, reports Rick D. Blasgen,
senior director of product supply, Nabisco cut its transportation costs by half. On top of that, it
reduced inventory levels, increased inventory turns, cut lead-times, improved on-time delivery,
and enhanced case-fill rates.
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Cross docking. Another supply-chain technique with proven payback potential is cross docking.
This is the practice of receiving and processing goods for reshipping in the shortest time possible
and with minimum handling and no storage. According to Maurice Trebuchon of Coopers &
Lybrand's SysteCon Division, cross docking can yield savings of 25 percent or more over
conventional warehousing.
Supplier management. Research from McKinsey & Co. demonstrates the substantial
improvements possible through aggressive supply management. An article by McKinsey
consultants in the winter 1998 issue of SCM Review mentions a client in the automotive industry
that had successfully integrated vendors into its product-development process. On one particular
team, the integration paid dividends in triplicate: the parts count dropped by 30 percent, the
number of assembly steps and material specifications was reduced by half, and development time
shrank from years to months.
Supplier integration. The abundant advantages of supplier integration were again evident in a
two-year study conducted by the Global Procurement and Supply Chain Initiative at Michigan
State University. Drawing on responses received from around the globe, the study showed that
companies that involved suppliers earlier on in the product-design and -development process
consistently outperformed those that did not. This was true across a range of supply-
management metrics. The comparative improvement in purchased material costs alone was 15
percent.
Industry experts say most of those barriers fall into one of three broad categories:
information sharing,
integration,
or the people themselves.
Until these barriers are dismantled, products will not flow swiftly to customers and companies
will not achieve the benefits promised by supply chain management.
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Chapter 2: Global Supply Chain Management
2.1 Focus of Present Supply Chain Management: Going Global
Multinational companies, entrepreneurs, and management consulting firms will increasingly
recruit individuals with the competencies required to identify, develop and analyse sources of
value-addition in global supply chains. According to Jeff Berg, Director, PRTM: "Vanguard
companies are exploiting supply chain thinking and technologies to enhance their competitive
position.
They are shifting to more responsive and cost-efficient channels, seamlessly integrating their key
customers and partners into their supply chains, and reorganising themselves to optimise their
product, capital, and information flows. Anecdotal and ad-hoc decision-making won't get the job
done in the competitive landscape of the future.
Just as supply chain innovators such as Wal-Mart and Dell computer have carved out their place
at the table using supply chain strategies, new players will emerge with supply chain optimising
technologies. These players will not only be `technology´ companies, such as Amazon.com, they
will include well-established players in automotive, chemicals, packaged goods, and retail. In fact,
the companies who can remove excess costs and assets from their supply chains and improve
their delivery and responsiveness will be the darlings of Wall Street and their customers, in the
next few years."
Global supply chain management focuses on the operational and strategic process of the entire
network of business that transform inputs (e.g., raw materials and information) into value-added
finished products and services for end customers. Notably, global supply chain managers
integrate, leverage, and monitor the continual flow of information among all supply chain entities
in both manufacturing and service businesses. Usually the activities in early stages of the supply
chain are manufacturing-oriented (e.g., weaving fabric or building airplanes) and the latter stages
are service-oriented (e.g., retailing apparel, logistics or managing an airline). However,
service processes often occur at the interfaces between firms in the supply chain to coordinate
information flows from customers, and service businesses have their own unique supply chain
characteristics. Thus, a fundamental understanding of both manufacturing and service operations
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is vital to this concentration. We believe the business leaders of the future will be those that can
best use supply chain excellence as a strategic competitive asset.
2.2 Managing a Global vs. Domestic Supply Chain
Variables like border crossings and multiple hand-offs make for more uncertainty, but experts
say it all comes down to managing information. Truth be told, there are very few solely domestic
companies left these days. Businesses are either directly sourcing overseas or their suppliers are;
fewer and fewer companies are not selling their goods in international markets. And, even if your
strategy is to stay wholly domestic, your competition is coming (or will soon come) from every
area of the globe.
“There are very few companies that are not touched by global issues; if not directly, then through
their suppliers or customers,” says Mike Peters, First V.P., ProLogis Solutions Group. Yossi Sheffi,
Director, Center for Transportation and Logistics, MIT, takes the concept one step further. “Even
if a company only has domestic suppliers and domestic customers, it must always be analysing
whether it would be better to go overseas. And companies are always subject to global
competition, they must be conducting constant analysis of their global competitors,” he says.
So, if the focus is global and companies are sourcing, selling or manufacturing overseas, does the
domestic supply chain still exist? Or, on the other hand, has formerly domestic components
simply become part of a larger, overall global supply chain?
The answer isn’t clear cut. While almost everyone agrees that companies must function in a global
marketplace, there is far less agreement on how this context translates when it comes to
managing the supply chain. Although companies may think globally in scope, when it comes
down to actual tactical operations there’s a lot of local blending going on.
Sheffi and Peters both agree that there are certain elements that are required to manage any
supply chain regardless of whether it’s domestic or global. Things like visibility, technology and
flexibility are basic ingredients that need to be incorporated seamlessly in order for a supply chain
to function efficiently regardless of the length of the chain.
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“Technology is crucial. It speeds the supply chain and creates visibility,” says Sheffi. He believes
that technology is becoming more aligned as standards are coming into place that allow different
systems to communicate and share information. This is an issue that companies must address
whether they operate in the home country or around the world.
Visibility is another key element. “You need to know where the goods are,” says Peters. This is
particularly critical in order to allow companies to manage their supply chain strategically,
identifying various points throughout the supply chain where goods can be held to reduce the
risk of delays. And, with capacity issues still a concern in North America, a delay-reduction
strategy applies across the board.
Jack Gross, VP & GM International, Schneider Logistics, also suggests that flexibility is critical to
the success of the supply chain. Companies need to ensure that both their supply chain and their
partners can readily integrate alternate locations should circumstances dictate quick response.
For instance, if the goods normally come into the Port of Long Beach, but because of delays, they
go to Port of Seattle instead, the supply chain needs to be flexible enough to handle the change
at both the domestic and global level. Globally, the destination port needs to be switched, and
domestically, the transportation providers must be flexible enough to meet the goods at the
alternate location and get them to their ultimate destination.
Technology, visibility and flexibility are all tied to information and this leads to an area
increasingly important in supply chain management—the need for upgraded information
management. “The movement of goods is not really the challenge, information is,” says Keith
Goldsmith, Sr. VP, Business Development and Technology, TNT Logistics. Companies operating
today are collecting tremendous amounts of data and the trend to move towards point of sale
information is resulting in mountains of information being fed into a company’s system. While
ultimately this information will help businesses streamline their operations and reduce inventory,
the trick right now is to take the raw data and translate it into a form that is useful for the
customer. In fact, many would argue that today, managing the supply chain is more about
managing information than moving goods.
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2.3 Supply Chain Management Features that provide Global
Competitive Edge
Today’s popular supply chain management can help companies achieve and maintain a
competitive edge globally by empowering them to streamline and enhance their most important
supply chain operations from start to finish. With supply chain management in place,
organisations can maximise cost-efficiency, increase productivity, and give their bottom line a big
boost.
Software enables realisation of broader benefits. How does supply chain management software
enable the realisation of all these benefits? By offering a broad range of robust features, delivered
through a comprehensive suite of tightly integrated modules and applications. This functionality
is designed to fully automate and support supply chain processes from end-to-end, and includes:
Inventory Management
With supply chain management, companies can significantly improve the way they track and
manage their supplies of raw materials and components needed for production, finished goods
to satisfy open sales orders, and spare parts required for field service and support. This eliminates
excess and waste, frees up valuable real estate for other important purposes, and minimises
related storage costs.
Order Management
Supply chain management software can dramatically accelerate the execution of the entire order-
to-delivery cycle by helping companies to more productively generate and track sales orders.
Supply chain management also enables the dynamic scheduling of supplier deliveries to more
effectively meet demand, as well as more rapid creation of pricing and product configurations.
Procurement
All activities and tasks associated with sourcing, purchasing, and payables can be fully automated
and streamlined across a company’s entire supplier network with supply chain
management software. As a result, businesses can build stronger relationships with vendors,
better assess and manage their performance, and improve negotiations to leverage volume or
bulk discounts and other cost-cutting measures.
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Logistics
As companies expand globally, their supply chains become more and more complex. This makes
the coordination of the numerous warehouses and transportation channels involved quite a
challenging endeavour without supply chain software in place. With supply chain management,
businesses can improve on-time delivery performance and boost customer satisfaction by
achieving complete visibility into how finished goods are stored and distributed, regardless of
the number of facilities or partners that participate.
Forecasting and Planning
With supply chain management, organisations can more accurately anticipate customer demand
and plan their procurement and production processes accordingly. As a result, they can avoid
unnecessary purchases of raw-materials, eliminate manufacturing over-runs, and prevent the
need to store excess finished goods, or slash prices to move products off of warehouse shelves.
Return Management
Supply chain software can simplify and accelerate the inspection and handling of defective or
broken goods – on both the buy and sell side of the business – and automate the processing of
claims with suppliers and distributors, as well as insurance companies.
Many supply chain offerings also include add-on options or modules designed to enhance
related activities. Through these features, support is provided for a variety of important processes
such as contract management, product lifecycle management, capital asset management, and
more.
Top Supply Chain Challenges
According to Supply Chain Council (SCC), the Five Most Common Supply Chain Management
Challenges are:
Unable to apply the right metrics to manage supply chains effectively
By far the most 'popular' challenge, finding and implementing the right metrics remains a
problem in supply chain management. This includes disputes about the right metrics between
supply chains, product lines or departments within a company, agreeing on definitions and
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calculations, having too many metrics or too few metrics, difficulty benchmarking and difficulty
finding metrics that are supported 'of-the-shelf' in reporting tools.
Difficulty prioritising supply chain improvement efforts
Companies struggle to identify where to deploy their expert resources and in what sequence.
Problem solvers are scarce, you want them to work on those problems that have the biggest
impact on your supply chain performance. This includes lack of a standard approach (every group
has their own methods with varying results), internal politics, lack of fact-based prioritisation,
capabilities/skills are limited to few key individuals.
Performance is lagging
Whether a company is driven by the need to reduce costs or inventory, need to improve customer
satisfaction, or want to increase the speed to respond to market changes, performance gaps
continue. Supply chain require to improve the performance of a lagging.
Complexity of supply chains
Serving many different customers with a wide variety of products and services may result in a
complex, global, network of suppliers, factories, warehouses, transporters, customers and others.
The complexity of such a network is hard to unravel and makes it difficult to find where and why
problems occur. This includes challenges like: "We don't know what our supply chains are", "What
is the right number of supply chains?", the desire to standardise processes.
Finding and holding on to supply chain talent
Although supply chain management is now a generally accepted and understood function in a
company, it is difficult to find true supply chain talent. Supply chain management covers multiple
disciplines and it can therefore be difficult to find that all-round supply chain person. How many
people in your organisation have deep and wide knowledge of planning, sourcing,
manufacturing, distribution and order management functions? How many can see the supply
chain as a whole? This includes problems like finding the right people, reducing attrition and
developing hiring, training and redeployment plans.
2.4 Dimensions of Challenges
Challenges can also be viewed in the following dimensions:
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2.4.1 Market dimension
Continuing demand volatility across the world market has hampered many supply chains’ ability
to manage the responsiveness effectively. Demand fluctuation at the consumer market level
poses a serious challenge to the assets configuration of supply chain, capacity synchronisation,
and lead-time management. With increased market transparency, many B2B and end customers
simply shop for the lowest price, overlooking their loyalty to particular suppliers or products. A
lack of robust forecasting and planning tools may have contributed to the problem, as companies
and their suppliers frequently find themselves scrambling to meet unexpected changes in
demand.
2.4.2 Technology dimension
Technology and the level of the sophistication in applying the technology for competitive
advantages have long been recognised as the key strategic challenges in supply chain
management. This is even more so, when we are now talking about the supply chain development
in a global stage. (Discussion on this point is more elaborate in the following chapters).
2.4.3 Resource dimension
From resource based perspective, global supply chain development is both motivated by dinging
new resources around world and by make better use of its own already acquired resources to
yield economic outputs. It comes as no surprises that one of the key strategic challenges in global
supply chain development is about resource deployment.
2.4.4 Time dimension
Most of the key global supply chain challenges are time related, and it appears to be that they
are becoming even more time related than ever before. Competitions on many new electronic
consumer products is largely about who developed it first and become the industry leader. From
the internal supply chain perspective, the cost and core competences are all largely measured
against time. Inventory cost increase, if the materials do not move on quick enough; supply chain
responsiveness is can be significantly influenced by the lead-time and throughput time. Indeed,
one of the key supply chain management subject areas is about agility and responsiveness. That
is basically defined as how fast the supply chain can respond to the unexpected and often quite
sudden changes in market demand.
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2.5 Response of Supply Chain to Globalisation
Knowing the challenges is one thing perhaps to begin with, but learning about how to face up to
the challenges is quite another. Despite the plethora of literatures on supply chain management,
there are still no universally agreed “one size fit all” recipes for managers to prescribe in order to
survive the challenges. Academic and empirical studies show the following approaches that
supply chains have survived the global challenges.
2.5.1 Collaboration
A great deal of global supply chain management activities are not necessarily about competing
against one another, rather it is more about collaboration and partnering. Inter-firm collaboration
in supply chain management context is simply defined as working together to achieve a common
goal. The collaboration is usually mentioned when there is an area or a project the activities of
the collaboration can be associated with. The parties that involved in the collaboration are often
referred to as the partners or collaborative partners. There are a number of obvious reasons why
collaboration is one of the most favourite supply chain management approaches.
Sharing resources: collaboration between two firms helps to share the complementary resources
between them. Information, knowledge and intellectual resources are also very common
resources that are shared during the collaboration.
Achieve synergy: collaboration of the two partnering firms will usually result in what is called
‘synergy.’ Synergy, in general, may be defined as two or more things functioning together to
produce a result not independently obtainable. That is, if elements A and B are combined, the
result is greater than the expected arithmetic sum A+B.
Risk sharing: a properly constructed collaboration can help to mitigate the company’s market
and supply risk significantly for both parties. By collaborating on investment and marketing, the
negative impact of the supply chain risks can be borne by both parties and thus shared and
halved.
Innovation: collaboration in technology development and R&D partnering is particularly
effective way to advance their competitive advantages through innovation in the technological
frontier. In most of innovation training programmes one can always recognise one of steps of
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generating innovative ideas and that can be through the brain storming across a multi-functional
team.
2.5.2 Supply chain integration
The nature of a supply chain is that it is usually a network which consists of a number of
participating firms as its member.
For a global supply chain the network stretches many parts of the world, and the participating
member firms of the network can be an independent company in any country around the world.
Supply chains are therefore voluntarily formed ‘organisations’ with fickle loyalties and often
antagonistic relations in between the member firms. Communication and visibility along the
supply chain are usually poor. In other words, supply chains are not born integrated.
Supply chain integration therefore can be defined as the close internal and external coordination
across the supply chain operations and processes under the shared vision and value amongst the
participating members. Usually, a well-integrated supply chain will exhibit high visibility, lower
inventory, high capacity utilisation, short lead-time, and high product quality (low defect rate).
Therefore, managing supply chain integration has become one of the most common supply chain
management approaches that can stand up to the global challenges.
However, there is no supply chain that is strictly 100% integrated, nor any one that is strictly 0%
integrated. It is about how much the supply chain is integrated from a focal company’s point of
view. To illustrate this degree of difference in supply chain integration, Frohlich and Westbrook
(2001) suggested a concept of ‘Arc of Integration’ (Figure 3). A wider arc represents a higher
degree of integration which covers larger extent of the supply chain, and a narrow one for a
smaller extent. The issue about supply integration is particularly important when the supply chain
is formed by the members around the globe.
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Figure 2.1 Arc of integration (Source: Frohlich and Westbrook, 2001)
2.5.3 Divergent product portfolio
A conventional wisdom says that ‘don’t put all your eggs in one basket.’ It also makes sense in
formulating a global supply chain development strategy. Translated into business management
terminology, the wisdom is very similar to the ‘divergent product portfolio’ strategy. Then it may
make even more sense when the global market becomes the stage for the supply chain. Two key
characteristics of global market are volatility and diversity.
Develop divergent product portfolio will make the supply chain more capable of satisfying the
divergent demand of the world market. Many leading multinational organisations have already
been the firm believer of this strategy. They have developed a wide range of product or even
business sector portfolio to cater for the market needs. Virgin Group, General Electric, British
Aerospace are just some well know examples.
Development of “blue ocean strategy”
Based on a study of 150 strategic moves in many globally active supply chains over the last thirty
years, Kim and Mauborgne argue that developing the ‘blue ocean strategy’ (as they coined it) has
already been proven an effective response to the global challenges for many supply chains.
Tomorrow’s leading supply chains will succeed not by battling competitors, but by creating ‘blue
ocean’ of uncontested market space that is ripe for growth. They have proved that one can face
up to the challenges most effectively without actually doing so. Creating new market space is
actually a lot easier than you think if you know how.
Figure 2.1: Arcs of integration
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2.6 Supply Chain Integration: Challenges
From Peter L. Jennings, Research Associate, CAPS Research we get the following Challenges to
Supply Chain Integration:
1. Establish a vision of how financial and non-financial results will improve with supply chain
integration.
2. Develop people, culture and an organisation that supports the supply chain vision.
3. Develop customer-centric metrics.
4. Develop multiple supply chains to meet the needs of different customer and market
segments.
5. Establish the correct positioning of work on a global basis.
6. Incorporate supply chain consideration into product and service design decisions.
7. Maintain sourcing as a first-level priority.
8. Stay focused and consistent in relationships with customers and suppliers.
9. Create an effective Sales and Operations process.
10. Develop valid and reliable databases, data and information.
11. Develop the capabilities and analytic tools required to make effective decisions in an
increasingly complex and risky environment.
12. Build trust within and across organisations in the supply chain.
13. Find ways to share risk equitably among supply chain partners.
14. Find ways to share rewards equitably among supply chain partners.
This research does not provide all of the answers to overcoming these challenges to integrating
your supply chains or even a comprehensive approach for doing so. But in the following pages,
you will find strategies and good practices developed by our focus companies to meet these
challenges and to push ahead in integrating supply chains.
2.7 Competitive Factors Influencing Supply Chain Competition
From Peter L. Jennings, Research Associate, CAPS Research we also get a discussion on
Competitive Factors Influencing Supply Chain Competition:
The Quest for Competitive Advantage
The idea of sustainable competitive advantage requires that superior economic performance
compared to competition be achieved over time. It is based on unique capabilities valued by the
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market and is difficult to duplicate in a particular industry space. However, it appears that
sustainable competitive advantage is difficult to achieve and maintain over time as measured by
superior economic performance.
Two studies done by Wiggins and Raefli, 2002 and 2005 (from a sample of 6,772 firms in 40
industries over 25 years) found that:
Only a small minority of firms exhibit superior performance for a 10-year period.
Regulating mechanisms in the market constantly pressure superior performing firms to
return to the main group, while sub-performing firms either improve efficiencies or
continue in a downward spiral of decline and eventual failure.
In the follow-up study by the same researchers in 2005, additional evidence was provided that
competitive advantage is getting harder to attain, harder to sustain and is shorter in duration.
Also, competitive advantages becoming less a matter of a developing and maintaining single
advantage over time but more a matter of “concatenating over time a sequence of
advantages”(Wiggins and Ruefli 2005).
The overall implication is a paradigm shift for the strategic management of the supply chain in
which the key challenge to attaining and sustaining competitive advantage becomes how to
continuously improve internal flexibility and reduce competitive response time. In addition, the
continuous implementation and improvement of multiple versus single strategies providing for
competitive advantage and agility across all elements of the supply chain will be a likely
requirement.
Examples of the rapid change that supply chains of the firms studied have had to respond include:
Faster than anticipated market shifts to new products and technologies
Erosion of dominant worldwide market positions
Increasing supply constraints and upward pricing pressure from suppliers
Increasing size and complexity of projects
Remote and complex project locations worldwide
Fewer available suppliers and customer requirements for cycle-time reduction
Rapidly changing customer mix with pressure for reduced response times
Significant price/cost squeeze with less available market share
“Flawless execution” required for new product and service introductions
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Product design cost reductions with product innovations
Significant emphasis on “lean” and “agile”
Time Compression
The idea of time-based competition is not new. The ever-accelerating pace of competition,
however, continues unabated. Senior executives in the current study testify to a significant
compression of time within just last two to three years. Transitions of all kinds —markets,
products, processes, technologies — are quickening and increasingly overlapping, adding to the
complexity of managing a global supply chain.
To compete effectively, supply chains will have to be increasingly agile to meet changing
customer and competitive demands. In addition, firms will have to quickly respond to labour rate,
fuel and energy cost, and political uncertainties. These dynamic changes will require rapid shifts
in manufacturing sites, distribution centres and outsourcing locations for both manufacturing
and business processes, and the agile reconfiguration of supply chains.
Information Technology
By definition, a supply chain includes the flow of information to and from all participation entities.
Many, if not most, of the supply chain problems are the result of poor flow of information,
inaccurate information, untimely information, etc. Information must be managed properly in each
supply chain segment.
Therefore, another major catalyst of change and source of competitive advantage in supply chain
management is information technology. It is transforming the way firms communicate with,
transact with and learn from customers, competitors and supply partners, and therefore compete
across the supply chain. Information technology enables firms to exchange information with a
broader set of partners, leading to positions of greater certainty across more relationships.
Consequently, the strategic role of effectively and efficiently managing supply chains has steadily
expanded across enterprises and extended across geographies.
Overall, firms are now confronted with more complex environments. These complex
environments are characterised by rapid and/or discontinuous change in demand and resource
availability, or technology shifts, which lead to contingencies difficult or impossible to anticipate.
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As firms increase the scope and distance of their activities, and work to include more constituents
in their decision process, they introduce additional management complexity. Therefore, valid and
timely information across all elements of tightly coupled supply chains is required to provide for
the appropriate allocation of human, physical, financial and information resources across these
extended and complex supply chains operating in changing environments.
Information systems are the links that enable the communication and collaboration along the
supply chain. They represent “one of the fundamental elements that link the organisations of
supply chain into a unified and coordinated system. In the current competitive climate, little doubt
remains about the importance of information and information technology to the ultimate
success, and perhaps even the survival, of any SCM initiative” (Handfield and Nichols [1999]).
Case studies of some world-class companies such as Wal-Mart, Dell Computers and Federal
Express, indicate that these companies created very sophisticated information systems, exploiting
the latest technological developments and creating innovative solutions. Representative IT
solutions are shown, together with the problems they solve, in Table 2.1
Supply chain problem IT solution
Linear sequence of processing is too slow. Parallel processing, using workflow software.
Waiting times between chain segments are
excessive.
Identify reason (DSS software) and expedite
communication and collaboration (Intranets,
groupware).
Existence of non-value added activities. Value analysis (SCM software), simulation
software.
Slow delivery of paper documents. Electronic documents and communication
system (e.g. EDI, e-mail).
Repeat process activities due to wrong
shipments, poor quality, etc.
Electronic verifications (software agents),
automation; eliminating human errors,
electronic control systems.
Batching; accumulate work orders between
supply chain processes to get economies of
scale; e.g. save on delivery.
SCM software analysis, digitise documents for
online delivery
Learn about delays after they occur, or learn
too late.
Tracking systems, anticipate delays, trend
analysis, early detection (intelligent systems).
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Excessive administrative controls such as
approvals (signatures). Approvers are in
different locations.
Parallel approvals (workflow), electronic
approval system. Analysis of need.
Lack of information, or too slow flow. Internet/intranet, software agents for
monitoring and alert. Bar codes, direct flow
from POS terminals.
Lack of synchronisation of moving materials. Workflow and tracking systems.
Synchronisation by software agents.
Poor coordination, cooperation and
communication.
Groupware products, constant monitoring,
alerts, collaboration tools.
Delays in shipments from warehouses. Use robots in warehouses, use warehouse
management software
Redundancies in the supply chain. Too many
purchasing orders, too many handling and
packaging.
Information sharing via the Web creating
teams of collaborative partners supported by IT
(see Epner [1999]).
Obsolescence of parts and components that
stay too long in storage.
Reducing inventory levels by information
sharing internally and externally, using
intranets and groupware.
Table 2.1 IT solutions to supply chain problems
One of the most important topics related to IT and SCM is information sharing along the supply
chain.
2.8 Contemporary Trends in SCM
Changing business dynamics and intensifying competition have brought about new challenges
for supply chain professionals. Globalisation, shortened product lifecycles, stringent regulations
and volatile markets have made effective supply chain management a prerequisite for business
success and growth. So supply chain professionals are constantly assessing their supply chains to
make sure that gaps are filled and inefficiencies corrected promptly.
Globalisation does not seem to have reduced process and management costs. In fact those
hidden costs could be on the rise when supply chain becomes more global if not careful.
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Leading companies are taking an end-to-end approach in managing risk at each node of the
supply chain. To keep the supply chain as lean as possible, they are taking a more active role in
demand planning, which ensures they order only the amount of material needed to fill firm
orders.
Volatile market demands and economic conditions have brought about some interesting and
noteworthy trends in supply chain management:
More Emphasis on Visibility: Increasingly supply chain professionals are realising the need for
more visibility in supply chains. So today's supply chain solutions focus on offering analytics data
that facilitate decision-making, as opposed to merely providing static visibility. These solutions
provide consolidated, real-time analytics and share them with relevant stake-holders, thereby
making information more actionable.
Improved Responsiveness: Traditionally supply chains have been driven by forecasts, and
supply of inventory has been based on predicted demand. However, this model does not work in
the current dynamic market scenario. Manufacturers are now expected to be highly responsive
to changing market demands. And this has led to the emergence of tools which enable better
visibility, communication, and collaboration, and empower manufacturers by making their supply
chains more responsive, flexible and versatile.
Enhanced Collaboration & Communication: Globally distributed operations, outsourced
manufacturing, and multiple regulatory standards necessitate better co-ordination and timely
communication in supply chains. And these are crucial aspects in supply chain management
today. So there is growing emphasis on the need for efficient collaboration and communication,
to enable judicious decision-making. Hence supply chain solutions are also increasingly catering
to this need.
Low Investment & High ROI with Advanced Software: Unfriendly economic conditions have
forced manufacturers and supply chain professionals to cut down on their IT budgets. This has
led to the growing use of SaaS-based applications in supply chain management, which offer
advanced, and integrated information management capabilities. Unlike traditional applications
these solutions are on-demand services which can be deployed easily without having to install
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complex software or hardware. These do not require high capital investment or expensive
maintenance. These are low cost solutions, but guarantee high ROI.
Increased Use of Supply Chain Consulting: Manufacturers have realised that today’s supply
chains are highly dynamic in nature and therefore require dedicated time, and resources. Hence
they are now resorting to supply chain consultant, who offer their expertise to help resolve issues
and manage supply chains more efficiently. Their vast experience helps in overcoming challenges
and in making supply chains more flexible and responsive.
Globalisation of manufacturing has revolutionised economies worldwide. While low-cost regions
are being used for manufacturing, they also pose a unique set of challenges which need to be
addressed. Global supply chain models are susceptible to increased risks, lack of visibility, reduced
control and collaboration. And the above-mentioned trends in supply chain management reveal
that manufacturers are trying to overcome the limitations of global supply chain models in order
to build seamless supply chains.
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Chapter 3: Planning and Designing the Supply Chain
3.1 Planning Supply Chain Network
A vital issue in supply chain management is to design and plan out the overall architecture of the
supply chain network and the value adding flows that go through it. This means that managers
should step back and looks at the supply chain as a whole and formulates strategies and
processes that maximise the total supply chain value-adding and minimises the total supply chain
costs. There are several key contents of such architecture design and planning. The major ones
have been discussed in this chapter.
The general business environment is a lot more dynamic than in the 1990's, with customer
expectations of delivery lead-times shortening tremendously. At the same time, much of the
manufacturing capability has been outsourced – meaning that companies have to be much more
responsive to the customer, even though they have less direct control over operations. Today's
environment requires more collaboration than control; more coordination than optimisation.
3.2 Efficiency and responsiveness in Supply Chain Management
Responsiveness can be defined as the “ability to react purposefully and within an appropriate
time-scale to customer demand or changes in the marketplace, to bring about or maintain
competitive advantage” (Holweg, 2005, p. 605). In contrast, a supply chain would be considered
efficient if the focus is on cost reduction and no resources are wasted on non-value added
activities (Naylor, Naim and Berry, 1999, p. 108).
Supply chain responsiveness includes a supply chain's ability to do the following:
• Respond to wide ranges of quantities demanded
• Meet short lead times
• Handle a large variety of products
• Build highly innovative products
• Meet a high service level
• Handle supply uncertainty
These abilities are similar to many of the characteristics of demand and supply that led to high
implied uncertainty. The more of these abilities a supply chain has, the more responsive it is.
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Responsiveness, however, comes at a cost. For instance, to respond to a wider range of quantities
demanded, capacity must be increased, which increases costs.
This increase in cost leads to the second definition: Supply chain efficiency is the inverse of the
cost of making and delivering a product to the customer. Increases in cost lower efficiency. For
every strategic choice to increase responsiveness, there are additional costs that lower efficiency.
Providing the right degree of responsiveness and having an efficient supply chain at the same
time is a goal that is hard to achieve and that typically involves trade-off decisions by
management, since increased responsiveness can be perceived to come at the expense of
reduced efficiency, and vice versa. However, there may be strategies, such as revised planning
approaches, that restructure supply chain processes to achieve both goals at the same time and
enable a supply chain to be responsive and efficient simultaneously.
3.3 Decision phases in Supply Chain
To make supply chain management effective and efficient, managers need to take various
decisions related to the flow of information, product and funds. Decisions in supply chain
management could be categorised in three phases depending on the frequency of each decision
and the time frame during which decision phase impact.
3.3.1 Supply Chain Strategy or Design
A supply chain strategy determines the nature of procurement of raw materials, transportation
of materials to and from the company, manufacture of the product or operation to provide the
service, and distribution of the product to the customer, along with any follow-up service and a
specification of whether these processes will be performed in-house or outsourced. Given that
firms are rarely completely vertically integrated, it is important to recognize that the supply chain
strategy defines not only what processes within the firm should do well but also what the role
played by each supply chain entity is.
During this phase, given the marketing and pricing plans for a product, a company decides how
to structure the supply chain over the next several years. It decides what the chain's configuration
will be, how resources will be allocated, and what processes each stage will perform. Strategic
decisions made by companies include whether to outsource or perform a supply chain function
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in-house, the location and capacities of production and warehousing facilities, the products to
be manufactured or stored at various locations, the modes of transportation to be made available
along different shipping legs, and the type of information system to be utilized.
A firm must ensure that the supply chain configuration supports its strategic objectives and
increases the supply chain surplus during this phase. Cisco's decisions regarding its choice of
supply sources for components, contract manufacturers for manufacturing, and the location and
capacity of its warehouses, are all supply chain design or strategic decisions. Supply chain design
decisions are typically made for the long term (a matter of years) and are very expensive to alter
on short notice.
Consequently, when companies make these decisions, they must take into account uncertainty
in anticipated market conditions over the next few years.
We must remember two important points regarding Supply Chain Management:
i. There is no supply chain strategy that is always right
ii. There is a right supply chain strategy for a given competitive strategy
3.3.2 Supply Chain Planning
For decisions made during this phase, the time frame considered is a quarter to a year. Therefore,
the supply chain's configuration determined in the strategic phase is fixed. This configuration
establishes constraints within which planning must be done. The goal of planning is to maximize
the supply chain surplus that can be generated over the planning horizon given the constraints
established during the strategic or design phase. Companies start the planning phase with a
forecast for the coming year (or a comparable time frame) of demand in different markets.
Planning includes making decisions regarding which markets will be supplied from which
locations, the subcontracting of manufacturing, the inventory policies to be followed, and the
timing and size of marketing and price promotions. Dell's decisions regarding markets supplied
by a production facility and target production quantities at each location are classified as
planning decisions. Planning establishes parameters within which a supply chain will function
over a specified period of time. In the planning phase, companies must include uncertainty in
demand, exchange rates, and competition over this time horizon in their decisions. Given a
shorter time frame and better forecasts than the design phase, companies in the planning phase
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try to incorporate any flexibility built into the supply chain in the design phase and exploit it to
optimize performance. As a result of the planning phase, companies define a set of operating
policies that govern short-term operations.
3.3.3 Supply Chain Operation
The time horizon here is weekly or daily, and during this phase companies make decisions
regarding individual customer orders. At the operational level, supply chain configuration is
considered fixed, and planning policies are already defined. The goal of supply chain operations
is to handle incoming customer orders in the best possible manner. During this phase, firms
allocate inventory or production to individual orders, set a date that an order is to be filled,
generate pick lists at a warehouse, allocate an order to a particular shipping mode and shipment,
set delivery schedules of trucks, and place replenishment orders. Because operational decisions
are being made in the short term (minutes, hours, or days), there is less uncertainty about demand
information. Given the constraints established by the configuration and planning policies, the
goal during the operation phase is to exploit the reduction of uncertainty and optimize
performance.
Supply Chain decision making framework can be shown with the figure below:
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Figure 3 Supply Chain decisions making framework
The design, planning, and operation of a supply chain have a strong impact on overall profitability
and success. It is fair to state that a large part of the success of firms like Wal-Mart and Dell can
be attributed to their effective supply chain design, planning, and operation.
3.4 Drivers of Supply Chain Performance
To understand how a company can improve supply chain performance in terms of responsiveness
and efficiency, we must examine the logistical and cross-functional drivers of supply chain
performance: facilities, inventory, transportation, information, sourcing, and pricing. These drivers
interact with each other to determine the supply chain's performance in terms of responsiveness
and efficiency. As a result, the structure of these drivers determines if and how strategic fit is
achieved across the supply chain.
First we define each driver and discuss its impact on the performance of the supply chain.
3.4.1 Facilities
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Facilities are the actual physical locations in the supply chain network where product is stored,
assembled, or fabricated. The two major types of facilities are production sites and storage sites.
Decisions regarding the role, location, capacity, flexibility of facilities have a significant impact on
the supply chain's performance.
For instance, an auto-parts distributor striving for responsiveness could have many warehousing
facilities located close to customers even though this practice reduces efficiency. Alternatively, a
high-efficiency distributor would have fewer warehouses to increase efficiency despite the fact
that this practice will reduce responsiveness.
Deciding where a company will locate its facilities constitutes a large part of the design of a supply
chain. A basic trade-off here is whether to centralize in order to gain economies of scale or to
decentralize to become more responsive by being closer to the customer. Companies must also
consider a host of issues related to the various characteristics of the local area in which the facility
is situated. These include macroeconomic factors, quality of workers, cost of workers, cost of
facility, availability of infrastructure, proximity to customers, the location of that firm's other
facilities, tax effects, and other strategic factors.
Companies must also determine a facility's capacity to perform its intended function or functions.
A large amount of excess capacity allows the facility to be very flexible and to respond to wide
swings in the demands placed on it. Excess capacity, however, costs money and therefore can
decrease efficiency. A facility with little excess capacity will likely be more efficient per unit of
product it produces than one with a lot of unused capacity. The high-utilization facility, however,
will have difficulty responding to demand fluctuations. Therefore, a company must make a trade-
off to determine the right amount of capacity to have at each of its facilities.
3.4.2 Inventory
Inventory encompasses all raw materials, work in process, and finished goods within a supply
chain. Changing inventory policies can dramatically alter the supply chain's efficiency and
responsiveness. For example, a clothing retailer can make itself more responsive by stocking large
amounts of inventory and satisfying customer demand from stock.
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Inventory exists in the supply chain because of a mismatch between supply and demand. This
mismatch is intentional at a steel manufacturer, where it is economical to manufacture in large
lots that are then stored for future sales. The mismatch is also intentional at a retail store where
inventory is held in anticipation of future demand. An important role that inventory plays in the
supply chain is to increase the amount of demand that can be satisfied by having the product
ready and available when the customer wants it. Another significant role that inventory plays is
to reduce cost by exploiting economies of scale that may exist during production and distribution.
A large inventory, however, increases the retailer's cost, thereby making it less efficient. Reducing
inventory makes the retailer more efficient but hurts its responsiveness.
3.4.3 Transportation
Transportation entails moving inventory from point to point in the supply chain. Transportation
can take the form of many combinations of modes and routes, each with its own performance
characteristics. Transportation choices have a large impact on supply chain responsiveness and
efficiency.
The role of transportation in a company's competitive strategy figures prominently in the
company's consideration of the target customer's needs. If a firm's competitive strategy targets
a customer who demands a very high level of responsiveness, and that customer is willing to pay
for this responsiveness, then a firm can use transportation as one driver for making the supply
chain more responsive. The opposite holds true as well. If a company's competitive strategy
targets customers whose main decision criterion is price, then the company can use
transportation to lower the cost of the product at the expense of responsiveness. Because a
company may use both inventory and transportation to increase responsiveness or efficiency, the
optimal decision for the company often means finding the right balance between the two.
For example, a mail-order catalogue company can use a faster mode of transportation such as
FedEx to ship products, thus making its supply chain more responsive, but also less efficient given
the high costs associated with using FedEx. Or the company can use slower but cheaper ground
transportation to ship the product, making the supply chain efficient but limiting its
responsiveness.
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3.4.4 Information
Information consists of data and analysis concerning facilities, inventory, transportation, costs,
prices, and customers throughout the supply chain. Information is potentially the biggest driver
of performance in the supply chain because it directly affects each of the other drivers.
Information presents management with the opportunity to make supply chains more responsive
and more efficient. For example, with information on customer demand patterns, a
pharmaceutical company can produce and stock drugs in anticipation of customer demand,
which makes the supply chain very responsive because customers will find the drugs they need
when they need them. This demand information can also make the supply chain more efficient
because the pharmaceutical firm is better able to forecast demand and produce only the required
amount.
Information serves as the connection between various stages of a supply chain, allowing them to
coordinate and maximize total supply chain profitability.
Information is also crucial to the daily operations of each stage in a supply chain. For instance, a
production scheduling system uses information on demand to create a schedule that allows a
factory to produce the right products in an efficient manner. A warehouse management system
uses information to create visibility of the warehouse's inventory. The company can then use this
information to determine whether new orders can be filled.
Information can also make this supply chain more efficient by providing managers with shipping
options, for instance, that allow them to choose the lowest-cost alternative while still meeting the
necessary service requirements.
3.4.5 Sourcing
Sourcing is the choice of who will perform a particular supply chain activity such as production,
storage, transportation, or the management of information. At the strategic level, these decisions
determine what functions a firm performs and what functions the firm outsources.
Sourcing decisions affect both the responsiveness and efficiency of a supply chain. After Motorola
outsourced much of its production to contract manufacturers in China, it saw its efficiency
improve but its responsiveness suffer because of the long distances. To make up for the drop in
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responsiveness, Motorola started flying in some of its cell phones from China even though this
choice increased transportation cost. Flextronics, an electronics contract manufacturer, is hoping
to offer both responsive and efficient sourcing options to its customers. It is trying to make its
production facilities in the United States very responsive while keeping its facilities in low-cost
countries efficient. Flextronics hopes to become an effective source for all customers using this
combination of facilities.
3.4.5.1 Components of Sourcing Decisions
In-House or Outsource
The most significant sourcing decision for a firm is whether to perform a task in-house or
outsource it to a third party. This decision should be driven in part by its impact on the total
supply chain profit. It is best to outsource if the growth in total supply chain profit is significant
with little additional risk. Within a task such as transportation, managers must decide whether to
outsource all of it, outsource only the responsive component, or outsource only the efficient
component. Once again, the decision should be based in part on the growth in total supply chain
profitability.
Supplier Selection
Managers must decide on the number of suppliers they will have for a particular activity. They
must then identify the criteria along which suppliers will be evaluated and how they will be
selected. For the selection process, managers must decide whether they will use direct
negotiations or resort to an auction. If an auction is used, it must be structured to ensure the
desired outcome.
Procurement
Procurement is the process in which the supplier sends product in response to customer orders.
Managers must decide on the structure of procurement of direct as well as indirect materials, and
strategic as well as general materials. In each case, it is important to identify the critical
mechanism for increasing supply chain profits. For example, a firm should set up procurement
for direct materials to ensure good coordination between the supplier and buyer. In contrast, the
procurement of MRO products should be structured to ensure that transaction costs are low.
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3.4.6 Pricing
Pricing determines how much a firm will charge for goods and services that it makes available in
the supply chain. Pricing affects the behaviour of the buyer of the good or service, thus affecting
supply chain performance. For example, if a transportation company varies its charges based on
the lead time provided by the customers, it is very likely that customers who value efficiency will
order early and customers who value responsiveness will be willing to wait and order just before
they need a product transported.
Early orders are less likely if prices do not vary with lead time.
Components of Pricing Decisions
We now describe key components of pricing decisions that affect supply chain performance.
Pricing and Economies of Scale
Most supply chain activities display economies of scale. Changeovers make small production runs
more expensive per unit than large production runs. Loading and unloading costs make it
cheaper to deliver a truckload to one location than four. In each case, the provider of the supply
chain activity must decide how to price it appropriately to reflect these economies of scale. A
commonly used approach is to offer quantity discounts.
Care must be taken to ensure that quantity discounts offered are consistent with the economies
of scale in the underlying process. Otherwise there is a danger of customer orders being driven
primarily by the quantity discounts even though the underlying process does not have significant
economies of scale.
Everyday Low Pricing Versus High-Low Pricing
A firm such as Costco practices everyday low pricing at its warehouse stores, keeping prices
steady over time. Costco will go to the extent of not offering any discount on damaged books to
ensure its everyday low pricing strategy. In contrast, most supermarkets practice high-low pricing
and offer steep discounts on a subset of their product every week. The Costco pricing strategy
results in relatively stable demand. The high-low pricing strategy results in a peak during the
discount week, often followed by a steep drop in demand during the following weeks. The two
pricing strategies lead to very different demand profiles that the supply chain must serve.
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Fixed Price versus Menu Pricing
A firm must decide whether it will charge a fixed price for its supply chain activities or have a
menu with prices that vary with some other attribute, such as the response time or location of
delivery. If marginal supply chain costs or the value to the customer vary significantly along some
attribute, it is often effective to have a pricing menu. We have already discussed Amazon as an
example of a firm offering a menu that is somewhat consistent with the cost of providing the
particular supply chain service. An example where the pricing menu is somewhat inconsistent is
seen at many MRO suppliers. They often allow customers to have their order shipped to them or
to be picked up in person.
A customer pays an additional shipping fee for home delivery but pays nothing for a personal
pickup. The pick, pack, and deliver cost at the warehouse, however, is higher in the case of a
personal pickup compared to home delivery. The pricing policy thus can lead to customer
behaviour that has a negative impact on profits.
3.5 Designing distribution in the Supply Chain
Distribution refers to the steps taken to move and store a product from the supplier stage to a
customer stage in the supply chain. Distribution occurs between every pair of stages in the supply
chain. Raw materials and components are moved from suppliers to manufacturers, whereas
finished products are moved from the manufacturer to the end consumer. Distribution is a key
driver of the overall profitability of a firm because it affects both the supply chain cost and the
customer experience directly.
It would be no exaggeration to state that two of the world's most profitable companies, Wal-
Mart and Seven-Eleven Japan, have built the success of their entire business around outstanding
distribution design and operation. In the case of Wal-Mart, distribution allows the company to
provide high availability levels of relatively common products at a very low cost. In the case of
Seven-Eleven Japan, effective distribution provides a very high level of customer responsiveness
at a reasonable cost.
Performance of a distribution network should be evaluated along two dimensions:
i. Customer needs that are met
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ii. Cost of meeting customer needs
Firms that target customers who can tolerate a long response time require only a few locations
that may be far from the customer. These companies can focus on increasing the capacity of each
location. In contrast, firms that target customers who value short response times need to locate
facilities close to them. These firms must have many facilities, each with a low capacity. Thus, a
decrease in the response time customers desire increases the number of facilities required in the
network.
Managers must make two key decisions when designing a distribution network:
1. Will product be delivered to the customer location or picked up from a preordained
site?
2. Will product flow through an intermediary (or intermediate location)?
Based on the firm's industry and the answers to these two questions, one of six distinct
distribution network designs may be used to move products from factory to customer, which are
classified as follows:
1. Manufacturer storage with direct shipping
2. Manufacturer storage with direct shipping and in-transit merge
3. Distributor storage with package carrier delivery
4. Distributor storage with last-mile delivery
5. Manufacturer/distributor storage with costumer pickup
6. Retail storage with customer pickup
3.6 Supply Chain Network Design
Supply chain network design decisions include the assignment of facility role, location of
manufacturing, storage, or transportation-related facilities, and the allocation of capacity and
markets to each facility. Supply chain network design decisions are classified as follows.
1. Facility role: What role should each facility play? What processes are performed at each facility?
2. Facility location: Where should facilities be located?
3. Capacity allocation: How much capacity should be allocated to each facility?
4. Market and supply allocation: What markets should each facility serve? Which supply sources
should feed each facility?
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Network design decisions have a significant impact on performance because they determine the
supply chain configuration and set constraints within which the other supply chain drivers can be
used either to decrease supply chain cost or to increase responsiveness. All network design
decisions affect each other and must be made taking this fact into consideration. Decisions
concerning the role of each facility are significant because they determine the amount of
flexibility the supply chain has in changing the way it meets demand. For example, Toyota has
plants located worldwide in each market that it serves. Before 1997, each plant was capable of
serving only its local market. This hurt Toyota when the Asian economy went into a recession in
the late 1990s. The local plants in Asia had idle capacity that could not be used to serve other
markets that were experiencing excess demand. Toyota has added flexibility to each plant to be
able to serve markets other than the local one. This additional flexibility helps Toyota deal more
effectively with changing global market conditions.
It is important for a firm to identify the mission or strategic role of each facility when designing
its global network. Kasra Ferdows (1997) suggests the following classification of possible strategic
roles for various facilities in a global supply chain network.
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3.6.1 Offshore facility
This is a low-cost facility for export production. An offshore facility serves the role of being a low-
cost supply source for markets located outside the country where the facility is located. The
location selected for an offshore facility should have low labor and other costs to facilitate low-
cost production. Given that many Asian developing countries waive import tariffs if all the output
from a factory is exported, they are preferred sites for offshore manufacturing facilities.
3.6.2 Source facility:
This would be a low-cost facility for global production. A source facility also has low cost as its
primary objective, but its strategic role is broader than that of an offshore facility. A source facility
is often a primary source of product for the entire global network. Source facilities tend to be
located in places where production costs are relatively low, infrastructure is well developed, and
a skilled workforce is available.
Good offshore facilities migrate over time into source facilities. Many Chinese and Indian apparel
manufacturers are attempting to transform into source facilities since the drop in apparel quotas
in 2005.
3.6.3 Server facility
This is a regional production facility. A server facility's objective is to supply the market where it
is located. A server facility is built because of tax incentives, local content requirement, tariff
barriers, or high logistics cost to supply the region from elsewhere. In the late 1970s, Suzuki
partnered with the Indian government to set up Maruti Udyog. Initially, Maruti was set up as a
server facility and produced cars only for the Indian market. The Maruti facility allowed Suzuki to
overcome the high tariffs on imported cars in India.
3.6.4 Contributor facility
This is a regional production facility with development skills. A contributor facility serves the
market where it is located but also assumes responsibility for product customization, process
improvements, product modifications, or product development. Most well-managed server
facilities become contributor facilities over time. The Maruti facility in India today develops many
new products for both the Indian and the overseas markets and has moved from being a server
to a contributor facility in the Suzuki network.
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3.6.5 Outpost facility:
This is a regional production facility built to gain local skills. An outpost facility is located primarily
to obtain access to knowledge or skills that may exist within a certain region. Given its location,
it also plays the role of a server facility. The primary objective remains one of being a source of
knowledge and skills for the entire network. Many global firms have set up outpost production
facilities in Japan despite the high operating costs.
3.6.6 Lead facility:
Facility that leads in development and process technologies. A lead facility creates new products,
processes, and technologies for the entire network. Lead facilities are located in areas with good
access to a skilled workforce and technological resources.
3.7 Factors influencing network design decisions
A wide variety of factors influence network design decisions in supply chains.
3.7.1 Strategic Factors
A firm's competitive strategy has a significant impact on network design decisions within the
supply chain. Firms that focus on cost leadership tend to find the lowest-cost location for their
manufacturing facilities, even if that means locating very far from the markets they serve.
Convenience store chains aim to provide easy access to customers as part of their competitive
strategy. Convenience store networks thus include many stores that cover an area, with each store
being relatively small.
Global supply chain networks can best support their strategic objectives with facilities in different
countries playing different roles. For example, Nike has production facilities located in many Asian
countries. Its facilities in China and Indonesia focus on cost and produce mass-market lower-
priced shoes for Nike. In contrast, facilities in Korea and Taiwan focus on responsiveness and
produce higher priced new designs. This differentiation allows Nike to satisfy a wide variety of
demands in the most profitable manner.
3.7.2 Technological Factors
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Characteristics of available production technologies have a significant impact on network design
decisions. If production technology displays significant economies of scale, a few high-capacity
locations are most effective. This is the case in the manufacture of computer chips, for which
factories require a very large investment. As a result, most semiconductor companies build few
high-capacity facilities.
In contrast, if facilities have lower fixed costs, many local facilities are preferred because this helps
lower transportation costs. For example, bottling plants for CocaCola do not have a very high
fixed cost. To reduce transportation costs, Coca-Cola sets up many bottling plants all over the
world, each serving its local market.
3.7.3 Macroeconomic Factors
Macroeconomic factors include taxes, tariffs, exchange rates, and other economic factors that are
not internal to an individual firm. As global trade has increased, macroeconomic factors have had
a significant influence on the success or failure of supply chain networks. Thus, it is imperative
that firms take these factors into account when making network design decisions.
3.7.4 Customer Response Time and Local Presence
Firms that target customers who value a short response time must locate close to them. For
example, customers are unlikely to come to a convenience store if they have to travel a long
distance to get there. It is thus best for a convenience store chain to have many stores distributed
in an area so that most people have a convenience store close to them.
3.7.5 Logistics and Facility Costs
Logistics and facility costs incurred within a supply chain change as the number of facilities, their
location, and capacity allocation is changed. Companies must consider inventory, transportation,
and facility costs when designing their supply chain networks.
Inventory and facility costs increase as the number of facilities in a supply chain increase.
Transportation costs decrease as the number of facilities is increased. If the number of facilities
increases to a point where inbound economies of scale are lost, then transportation cost
increases. For example, with few facilities Amazon.com has lower inventory and facility costs than
Borders, which has about 450 stores. Borders, however, has lower transportation costs.
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3.8 Phases of Global Network Design decisions
Global network design decisions are made in four phases as shown in the figure below:
3.8.1 Define a supply chain strategy/design
The objective of the first phase of network design is to define a firm's broad supply chain design.
This includes determining the stages in the supply chain, and whether each supply chain function
will be performed in-house or outsourced. Phase I starts with a clear definition of the firm's
competitive strategy as the set of customer needs that the supply chain aims to satisfy. The supply
chain strategy then specifies what capabilities the supply chain network must have to support the
competitive strategy.
3.8.2 Define the regional facility configuration
The objective of the second phase of network design is to identify regions where facilities will be
located, their potential roles, and their approximate capacity.
An analysis of Phase II starts with a forecast of the demand by country. Such a forecast must
include a measure of the size of the demand as well as a determination of whether the customer
requirements are homogenous or variable across different countries. Homogenous requirements
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favor large consolidated facilities, whereas requirements that vary across countries favor smaller,
localized facilities.
The next step is for managers to identify whether economies of scale or scope can play a
significant role in reducing costs, given available production technologies. If economies of scale
or scope are significant, it may be better to have a few facilities serving many markets. For
example, semiconductor manufacturers such as Advanced Micro Devices have very few plants for
their global markets, given the economies of scale in production. If economies of scale or scope
are not significant, it may be better for each market to have its own facility.
Next, managers must identify demand risk, exchange-rate risk, and political risk associated with
different regional markets. They must also identify regional tariffs, any requirements for local
production, tax incentives, and any export or import restrictions for each market. The tax and
tariff information is used to identify the best location to extract a major share of the profits. In
general, it is best to obtain the major share of profits at the location with the lowest tax rate.
Managers must identify competitors in each region and make a case for whether a facility needs
to be located close to or far from a competitor's facility. The desired response time for each
market and logistics costs at an aggregate level in each region must also be identified.
Based on all this information, managers identify the regional facility configuration for the supply
chain network using network design models discussed in the next section. The regional
configuration defines the approximate number of facilities in the network, regions where facilities
will be set up, and whether a facility will produce all products for a given market or a few products
for all markets in the network.
3.8.3 Select a set of desirable potential sites
The objective of this phase is to select a set of desirable potential sites within each region where
facilities are to be located. Sites should be selected based on an analysis of infrastructure
availability to support the desired production methodologies. Hard infrastructure requirements
include the availability of suppliers, transportation services, communication, utilities, and
warehousing infrastructure. Soft infrastructure requirements include the availability of skilled
workforce, workforce turnover, and the community accessibility to business and industry.
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3.8.4 Location Choices
The objective of this phase is to select a precise location and capacity allocation for each facility.
Attention is restricted to the desirable potential sites selected in the earlier phase. The network is
designed to maximize total value to the firm taking into account the expected margin and
demand in each market, various logistics and facility costs, and the taxes and tariffs at each
location.
3.9 Outsourcing and Offshoring
The decision and processes of moving any strategically significant operations out to the external
suppliers is called outsourcing.
Outsourcing or strategic outsourcing is commonly known as the “make-or-buy” decision.
Organisations may want to contract some of its in-house operations such as design,
manufacturing and marketing to its external suppliers. If a Chinese organisation can produce the
same components at a fraction of the usual cost, it will surely attract many OEMs to outsource
the production of the components to it. But it is also possible, that if some companies, say in
India, may have much better capability of developing a better software and outsource its
operations to them in order to gain the supply chain value adding.
There are two points to clarify. First, outsourcing is not just a decision of make or buy, but also a
process that includes identifying the potential suppliers, contractual negotiation, regular
evaluation and review of the outsourced operation. Second, not all operations that carried out by
the external suppliers are suitable to be classified as outsourcing; only the strategically significant
operations can be classified as outsourcing. For example, to a manufacturing supply chain,
outsourcing some key components manufacturing operations is strategically significant; but the
external catering service supply used by the same company is not. That’s why outsourcing is often
interchangeably called strategic outsourcing.
3.10 Benefits of outsourcing business processes
There are many benefits of outsourcing business processes to destinations around the world.
Some of them are:
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Cost advantages
The most obvious and visible benefit relates to the cost savings that outsourcing brings about.
Companies can get your job done at a lower cost and at better quality as well. Due to the
difference in wages between western countries and Asia, the same kind of work that is done over
there can be done in China or India, for instance, at a fraction of the cost. Often the cost savings
is around 50% to 60% by outsourcing. Plus, the quality of the services provided is high thereby
ensuring that low-cost does not mean low-quality.
Increased efficiency
When a business is outsourced it needs to an outsourcing partner, they bring years of experience
in business practices and expertise in delivering complex outsourcing projects. Thus, they can do
the job better with their knowledge and understanding of the domain. This leads to an increase
in productivity and efficiency in the process thereby contributing to the bottom-line of a
company.
Focus on core areas
Outsourcing business processes would free energies and enable to focus on building your brand,
invest in research and development and move on to providing higher value added services.
Save on infrastructure and technology
Outsourcing eliminates the need for investment in infrastructure as the outsourcing partner takes
the responsibility of the business processes and hence develops infrastructure for the same.
Access to skilled resources
Through outsourcing businesses get access to experts and professionals get their work done.
Time zone advantage
Apart from the cost advantage, the other much touted benefit has to do with the time zone
differential between your country and the location you are outsourcing to. This unique advantage
gives you the benefit of round-the-clock business operations.
Faster and better services
Standard and competitive services offer better with high quality deliverables and decrease the
lead time it takes a company’s product to reach the marketplace. Thus it gets faster in getting
ideas converted into products and better at delivering the value-added proposition.
The types of outsourcing business can be broadly observed in three categories.
Business process outsourcing (BPO)
• Marketing / call centre outsourcing
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• R & D process outsourcing
• Engineering process outsourcing (EPO)
• HR and recruitment process outsourcing
• Knowledge process outsourcing (KPO)
Business function outsourcing
• Financial auditing
• IT services
• Logistics services
Facility and man power outsourcing
• Capital equipment leasing
• Free length experts hiring
Outsourcing is relatively simple to understand as a concept, but is difficult to implement in
practice. The debate surrounding the outsourcing decisions can be lengthy and complicated. The
decision often will involve many factors from all levels of management and are intricately inter-
related. It is therefore recommended that managers should set up and follow an appropriate
process to make the outsourcing decisions and execute the decisions.
Another closely related concept in supply chain architecture design is called ‘offshoring’.
Offshoring is defined as moving the on-shore operations to offshore locations in order to take
the advantages of local resources, and to reduce operating cost or create market presence.
However offshoring does not necessarily mean outsourcing, especially when the ownership of
the off-shored operation remains unchanged. There has been no outsourcing taken place.
3.11 Importance of Location Decisions in SCM operations
The choice of geographical locations for supply chain operations is an important decision area
for supply chain design and planning. Location decision is about the geographical positioning of
the supply chain functions (such as assembly and distribution). It is normally done for the purpose
of better serving the customers and further reducing the operational cost in the supply chain.
Clearly, not all the locations are suitable for the supply chain operations. But one thing is assured
that when changing a location, many business-related factors change along with it. That makes
the location change a powerful management instrument. Without doubt, a location decision will
have profound impact on labour cost, material cost, taxation, currency exposure, financial and
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legal regulations and so on. These will further lead toward the significant changes in business
outcomes, supply chain performance, and even environmental consequences.
It is important to understand that the operational considerations for the location decisions are
not enough for the supply chain location design. Operational considerations for choosing a
location are still valid and useful, but they are mainly the measures of the operations costs from
many different dimensions.
Zara manufactures its apparel using a combination of flexible and quick sources in Europe (mostly
Portugal and Spain) and low-cost sources in Asia. This contrasts with most apparel manufacturers,
who have moved most of their manufacturing to Asia. About 40 percent of the manufacturing
capacity is owned by Inditex, with the rest outsourced. Products with highly uncertain demand
are sourced out of Europe, whereas products that are more predictable are sourced from its Asian
locations. More than 40 percent of its finished-goods purchases and most of its in-house
production occur after the sales season starts. This compares with less than 20 percent production
after the start of a sales season for a typical retailer.
To facilitate managers to make locations decision, Dr. Dawei Lu suggests using the common
weighted scoring method as shown in figure 3.5.
Figure 3.4 The weighted scoring method. (Source: Slack et.al. 2006)
3.12 Capacity Planning
Capacity planning is the process of determining the production capacity needed by an
organisation to meet changing demands for its products. Effective capacity is the maximum
amount of work that an organisation is capable of completing in a given period due to constraints
such as quality problems, delays, material handling, etc. A discrepancy between the capacity of
an organisation and the demands of its customers results in inefficiency, either in under-utilised
resources or unfulfilled customers. The goal of capacity planning is to minimise this discrepancy.
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Given today's economic times, capacity planning and management is getting a lot of scrutiny. On
the one hand, companies must have the capability to fulfil demand. On the other hand, cash is
too precious to invest in capacity, production, or materials before they are really needed. Plus,
companies need a flexible and cost-effective way to respond to changes in demand, given the
current volatility and uncertainties in the marketplace.
To carry out the capacity planning in real-world supply chain, however, one needs to deal with it
in three levels.
At the level 1
Managers will have to manage the company internal capacity synchronisation to achieve the
capacity planning objectives. This is because the desired capacity for the supply chain will
eventually to be executed and implemented by each and every individual participating member
of the supply chain.
At the level 2
The key to achieved optimised capacity for a supply chain lies in its external synchronisation. The
need for synchronise the capacities of each participating member is very simple. It is to reduce
and eliminate the waste incurred by the redundant capacities and to eliminate possible risks of
short supply due to the bottlenecks.
At the level 3
The whole supply chain’s capacity must be synchronised with the market demand changes, and
market demand change is often unknown or uncertain. Forecasting has long been used to assist
the planning of the supply chain’s capacity but with limited successes. The credential of the
analytical forecasting methods has not lived to its promises. As the result forecasting is either
lucky or wrong. Thus supply chain managers must resort to other more effective means of
managing capacity synchronisation and ultimately the supply chain responsiveness.
3.13 Bullwhip Effect
Distorted information or the lack of information, such as inaccurate demand data or forecasts,
from the customer end can ripple back upstream through the supply chain and magnify demand
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variability at each stage. This can result in high buffer inventories, poor customer service, missed
production schedules, wrong capacity plans, inefficient shipping, and high costs. This
phenomenon, which has been observed across different industries, is known as the bullwhip
effect. It occurs when slight to moderate demand variability becomes magnified as demand
information is transmitted back upstream in the supply chain. Figure 3.6 presents a detailed
perspective of the bullwhip effect.
Figure 3.6 The Bullwhip Effect
The bullwhip effect is created when supply chain members make ordering decisions with an eye
to their own self-interest and/or they do not have accurate demand information from the
adjacent supply chain members. If each supply chain member is uncertain and not confident
about what the actual demand is for the succeeding member it supplies and is making its own
demand forecast, then it will stockpile extra inventory to compensate for the uncertainty. In other
words, they create a security blanket of inventory. As shown in Figure 3.6, demand for the end
user is relatively stable and the inventory is small. However, if slight changes in demand occur,
and the distributor does not know why this change occurred, then the distributor will tend to
overreact and increase its own demand, or conversely reduce its own demand too much if
demand from its customer unexpectedly drops. This creates an even greater overreaction by the
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manufacturer who supplies the distributor and the suppliers who supply the manufacturer. One
way to cope with the bullwhip effect is for supply chain members to share information, especially
demand forecasts. If the supply chain exhibits transparency, then members can have access to
each other's information, which reduces or eliminates uncertainty.
Understanding the bullwhip effect is therefore essential to the supply chain design and planning.
Bullwhip effect is also known as Forrester Effect as Jay Forrester (1961) showed that this was so
by modelling supply chain mathematically and he called it industrial dynamics. What happened
basically is that when the small demand ripple in the market place is felt by the retailer at the end
of the supply chain, the retailer will then start adjusting their orders to the wholesalers, and the
wholesaler in turn will adjust its orders to the distributer, and the distributer to the factory. One
would imagine when the factory receives the orders, it will have the equally small changes.
Unfortunately, it could not be farther from the truth. The small ripples have been significantly
amplified stage by stage towards the upstream of the supply chain. When it reaches the factory
or components manufacture the magnitude of fluctuation becomes unrecognisable.
Basically, the bullwhip effect has three key characteristics. The first is oscillation. The demand,
orders or inventories move up and down in an alternative pattern. The second is amplification.
The magnitude of the alteration and fluctuation increases as it travels to the upstream end of the
supply chain. The third is phase lag. The cycle of peaks and troughs of one stage also tends to
lag behind the one in the previous stage. Those characteristics can be clearly demonstrated by a
supply chain simulation game.
The causes of the bullwhip effect are systemic. They are a combination of structured delays both
in order processing and shipping, over ordering and ignoring the incoming good in the pipeline,
under ordering and failing to see the build-up of downstream demand, panic and over react, lack
of coordination, poor forecasting and so on. In real-world supply chain operations, there will be
even more factors that worsening the bullwhip effect, such as batching, facility breakdown, poor
maintenance, inappropriate scheduling and communication, poor capacity coordination, market
disruptions and many more.
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Chapter 4: Lean Supply Management
4.1 Lean Manufacturing
Lean principles are derived from the Japanese manufacturing industry. The term was first coined
by John Krafcik in his 1988 article, "Triumph of the Lean Production System”.
From the beginning of 1950s to the end of 1980s, Toyota led Japanese automotive industry
created a unique production / manufacturing system, which brought the industry from the ruins
of the 2nd World War to the biggest automobile exporter in the world. That system was known
as the Toyota Production System (TPS), now more commonly known as lean manufacturing. The
term ‘lean’ was first coined in a large scale research programme called IMVP (International Motor
Vehicle Programme) initiated by MIT (Massachusetts Institute of Technology).
Both lean and TPS can be seen as a loosely connected set of potentially competing principles
whose goal is cost reduction by the elimination of waste. These principles include: Pull processing,
perfect first-time quality, Waste minimisation, Continuous improvement, Flexibility, Building and
maintaining a long term relationship with suppliers, Automation, Load levelling and Production
flow and Visual control. The disconnected nature of some of these principles perhaps springs
from the fact that the TPS has grown pragmatically since 1948 as it responded to the problems it
saw within its own production facilities. Thus what one sees today is the result of a 'need' driven
learning to improve where each step has built on previous ideas and not something based upon
a theoretical framework.
Lean manufacturing was not designed and implemented in a short period. It took long years of
continuous drive and continuous improvement, trial-and-error, and in stages perfected a system
that works best. Compared with the mass production system, lean manufacturing is focused on
management improvement of people -particularly the operators on the shop floor. The whole
production system is basically pulled from the demand rather than entirely depend on forecasting
based scheduled production. Product customisation and increased scope of customer choices
are the direct results. Lean manufacturing develop and make use of employee’s intellectual assets.
Everyone is encouraged to make improvement suggestions and even have the power to stop the
assembly line if they see something wrong. High commitment, hardworking, well educated
workforce and loyalty to the company become part of the organisational culture.
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Lean manufacturing emphasises the optimisation across organisations and supply bases not just
the functional silos. It promotes close partnership relations with the first tier suppliers and other
strategic partners in the distribution channel. It created the tiered supply base structure. The
waste between the organisations, often ignored in the past, has been identified as key
improvement area.
4.2 Focusing on Cost-to-Serve
Many may think that the focus of lean supply chain is just cost cutting. This is a wrong concept.
It would become a ‘mean’ supply chain if that is the case. Cost and efficiency appears always on
the top agenda when it come to make a process leaner, but cost cut is not the focus of lean
supply chain. A slight misunderstanding of the concept could have a long lasting negative
outcome in supply chain performance. In a lean supply chain, a cost-cutting idea can only be
acceptable if it passes the ‘cost-to-serve’ test. In other words, the focus of lean is not on the cost
but on the cost-to-serve.
Organisations have been harnessing lean concepts to corporate logistics systems and the wider
domain of supply chain management ever since Toyota demonstrated its inevitable leadership
position in production management. However, as so often occurs when new concepts are applied
to supply chain thinking, people can start to have irrational expectations about the actual
benefits. The reason for such irrational expectation appears always grew out from the delusion
of the original terms and ideas.
The basic concept of lean is identifying and eliminating waste in the material, processes, time and
information, and adding value perceived from the eyes of consumer. Thus waste is the one to be
cut across the management spectrum, not necessarily the cost. When a cost is identified as the
waste, which does not seem to have added any value, it should be rightly slashed. The key issue
here, therefore, is to looking for the cost that adds no value. If the cost that does add value to
the supply chain has been cut, value has been cut with it. There is little justification why should
value adding cost is to be cut. Toyota’s three original criteria for value adding activities are:
i. Physical changes should be there
ii. Customer concern oriented
iii. Right at the first time
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Thus, wasteful activities are defined as non-value adding activities. If the activity adds the value
and the value is identified by the customer, the activity ‘serves’ the customer. Therefore a suitable
interpretation of the lean principles in terms of approach towards the cost should be that to
identify and eliminating the non-value adding or non- ‘serving’ activities. Thus, a measure for
how wasteful is a cost or a cost incurring activity can be defined by what’s known as ‘cost-to-
serve’.
With this measure, one can relate activities to see which one adds more value and which one is
more of a waste. When the ‘total cost involved’ remains unchanged, the more ‘Customer
perceived value and service’ received the lower the ‘cost-to-serve’, and vice versa. So, the lean
approach is not cost cutting but cost-to-serve cutting, which clarifies the opening confusion in this
section. Furthermore, the purpose of lean approach can, therefore, be interpreted as to minimise
the level of cost-to-serve.
The lean concept based on cost-to-serve can explain why some supply chains achieve low cost
by ensuring customers are not over-serviced, while others achieved much leaner supply chain by
investing more into the operation.
4.3 Principles of Lean Supply
Robert Martichenko and Kevin von Grabe, authors of Building a Lean Fulfilment Stream:
Rethinking Your Supply Chain and Logistics to Create Maximum Value at Minimum Total Cost
described eight guiding principles for lean supply chain networks.
While many companies have embraced lean in manufacturing processes, they have yet to un-tap
the wealth of opportunity lean brings to the supply chain. Senior executives often acknowledge
lean can add value, but many still haven't moved past the education stage into full-scale lean
supply chain implementation. One reason may be that they haven't made the mental leap as to
how to accomplish this task. The Lean Supply Chain is a system of interconnected and
interdependent forces that operate in unison to accomplish overarching supply chain objectives.
These objectives are accomplished in alignment with 8 key principles, these principles are:
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1. Eliminate all waste in the supply chain so that only value remains. Creating a smooth
flow of products downstream in a supply chain requires all departments and functions in the
organisation to work in harmony. The seven types of waste in manufacturing are well known.
The Toyota approach to identifying areas of waste is to classify waste into seven ‘mudas’. The
seven ‘mudas’ are:
i. Transportation: Each time a product is moved it stands the risk of being damaged, lost,
delayed, etc. as well as being a cost for no added value. Transportation does not make
any transformation to the product that the consumer is willing to pay for.
ii. Inventory: Inventory, be it in the form of raw materials, work-in-progress (WIP), or
finished goods, represents a capital outlay that has not yet produced an income either
by the producer or for the consumer. Any of these three items not being actively
processed to add value is waste.
iii. Motion: In contrast to transportation, which refers to damage to products and
transaction costs associated with moving them, motion refers to the damage that the
production process inflicts on the entity that creates the product, either over time (wear
and tear for equipment and repetitive strain injuries for workers) or during discrete events
(accidents that damage equipment and/or injure workers).
iv. Waiting: Whenever goods are not in transport or being processed, they are waiting. In
traditional processes, a large part of an individual product's life is spent waiting to be
worked on.
v. Over-processing: Over-processing occurs any time more work is done on a piece other
than what is required by the customer. This also includes using components that are
more precise, complex, higher quality or expensive than absolutely required.
vi. Over-production: Overproduction occurs when more product is produced than is
required at that time by customers. One common practice that leads to this muda is the
production of large batches, as often consumer needs change over the long times large
batches require. Overproduction is considered the worst muda because it hides and/or
generates all the others. Overproduction leads to excess inventory, which then requires
the expenditure of resources on storage space and preservation, activities that do not
benefit the customer.
vii. Defects: Whenever defects occur, extra costs are incurred reworking the part,
rescheduling production, etc. This results in labour costs, more time in the "Work-in-
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progress". Defects in practice can sometimes double the cost of one single product. This
should not be passed on to the consumer and should be taken as a loss.
2. Make customer consumption visible to all members of the supply chain. Flow in the
supply chain begins with customer consumption. Visibility to customer consumption for all
supply chain partners is critical for acting as the "pacemaker" of the supply chain.
3. Reduce lead time. Reducing inbound and outbound logistics gets us closer to customer
demand which results in reduced reliance on forecasting, increased flexibility and reduced
waste of "overproduction".
4. Create level flow. Levelling the flow of material and information results in a supply chain
with significantly less waste at all nodes in the system.
5. Use pull systems. Pull systems reduce wasteful complexity in planning and overproduction
that can occur with computer-based software programs such as material resource planning
(MRP), and they permit visual control of material flow in the supply chain.
6. Increase velocity and reduce variation. Fulfilling customer demand through delivery of
smaller shipments more frequently increases velocity. This in turn helps to reduce inventories
and lead times and allows you to more easily adjust delivery to meet actual customer
consumption.
7. Collaborate and use process discipline. When all members of the supply chain can see if
they are operating intake with customer consumption, they can more easily collaborate to
identify problems, determine root causes, and develop appropriate countermeasures.
8. Focus on total cost of fulfilment. Make decisions that will meet customer expectations at
the lowest possible total cost—no matter where they occur in the supply chain. This means
eliminating decisions that benefit only one part of the stream at the expense of others. This
is the real challenge, but can be achieved when all members of the supply chain share in
operational and financial benefits when waste is eliminated.
4.4 Lean Process Mapping Tools
Lean approach has been quite long-standing. The lean movement is still going firm. In today’s
business management world, lean method is still the most popular one across the world. Over
more than 70% of organisations have, to various extents, exercised lean. One of the reasons why
lean is so widely applied and continues to be the most popular method is that it has a set of
practical tools that can be readily applied in almost all business circumstances.
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Several extensively used tools can directly support lean supply chain management. Most of the
figures of the tools are sourced from the article ‘Going lean’ by Peter Hines and David Taylor
(2000).
Value Stream Mapping
Time Based Process Mapping
Process activities mapping
Supply chain response matrix
Logistics pipeline map
Production variety funnel
Quality filter mapping
Demand amplification mapping
Value adding time profile
Value stream mapping is a graphic mapping technique that helps managers understand the
material and information flows as a product makes its way through the process. Value stream
mapping also considers factors such as capacity, quality, and variability. One of the major metrics/
outputs of a value stream mapping exercise is to identify the percentage of the total lead time
that is value-adding.
Figure 4 Time-based process mapping
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Time-based process mapping tool is a simply ‘walk through’ tool to identify and map out the
activity time (suppose to be value adding) and waste time (non-value adding) in every steps that
the material has gone through, as shown in Figure 5 below.
The process activity mapping tool maps out the different activities i.e. operation, transport,
inspection and storage that the materials have to go through. Keys are assigned to each activity
types to help visualisation. Plan flow diagram can also be added to optimise the flow. A process
analyst must decide whether to show small activities separately in a map or to show them
collectively as larger, more aggregated activities. This decision weighs the benefit of including an
activity against the cost in time and effort to handle such minute detail. Pictures, physical layouts
or blueprints, work routing sheets, and other documents might be needed to give a better overall
description of the process.
Figure 5 Time-based process mapping
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Supply Chain Responsiveness Matrix (SCRM) is such tool used for analysing stock, process and
lead-time. It is constructed by reviewing stages of the companies’ process and reviewing
the inventory and lead time associated with each step – then displaying the results pictorially.
In the example below we can see that the process takes 33 days to complete and there is 48 days
(lead time) inventory within the supply chain with a total lead time therefore of 81 days.
Figure 6 Process activity mapping
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The approach does have some drawbacks however as there may be valid reasons for some
“overstocking” for example – risk avoidance mitigating obsolescence, batch break buying. These
may all account for surplus inventory but have been made with appropriate rationale.
However given these drawbacks, SCRM has many benefits:
Once produced the diagram is very easy to understand
Can help improvement teams “home in” on areas which have large stock holdings
Can show areas that may represent quick win improvement targets.
Figure 7 Example Supply Chain Responsiveness Matrix
Figure 8 Supply chain response matrix.
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Logistics pipeline map is a compliment to the supply chain response matrix. It shows the
accumulation of process time on the horizontal axis and of inventory levels on the vertical axis. It
shows exactly where the inventory and time accumulate within each operation.
Production variety funnel is a visual mapping technique that plots the number of product variety
at each stage of the manufacturing process. This technique is used to identify the point at which
a generic product becomes either increasingly or totally customer specific.
Figure 9 Logistics pipeline map
Figure 10 Product variety funnel
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Quality filter mapping is a tool designed to identify quality problems in the order fulfilment
process or the wider supply chain. The map shows where three different types of quality defects
occur in the value stream.
Demand amplification mapping is a graph of quantity against time, showing the batch sizes of a
product at various stages of the production process. This may be plotted with a company or along
the supply chain. It also can be used to show inventory holdings at various stages long the supply
chain.
Figure 9 Quality filter mapping
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Value adding time profile plots the accumulation of both value adding and non-value adding
costs against the time. It is an excellent tool for looking at time compression or mapping out
where money is being wasted.
Figure 10 Demand amplification mapping
Figure 11 Value adding time profile
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Chapter 5: Agile Supply Management
5.1 Agile as Supply Chain Model
Agile refers to the ability to react and adapt to the changes in demand and supply situations in a
supply chain. To accommodate the inherent variations in demand and supply, supply chains need
to react and adapt to such changes as they happen, to minimise the disruption and optimize the
objectives, such as costs, fulfilment rates, inventory, and so on. So what does it mean to have an
agile supply chain?
An agile supply chain design will have redundancy built into its processes, allowing it to quickly
respond to expected changes. This supply chain will be best to maximize the service levels for
fulfilling demand, manufacturing personalized products, and providing excellent customer
service. These objectives will drive the supply chain to keep higher levels of inventories to
maintain order fulfilment targets, favour on-time deliveries over cheaper shipments, and favour
quality inputs and personalised services over mass produced, commoditized goods. These supply
chains will have more flexible supplier contracts that enable them to change order quantities,
destinations, need dates, and even cancel the orders altogether if the demand falls off a cliff.
Suppliers will typically allow such flexibility for a cost. When demand suddenly rises and the
primary suppliers cannot cope with the increased demand, an agile supply chain will go to a
secondary set of suppliers that would have been established in advance for maintaining supplies
for such an eventuality. As purchase volumes for the secondary suppliers will be low and demand
uneven, the costs of such contracts is generally higher. However, having all these layers of extra
inventories, warehousing, transportation, and suppliers will provide enough buffer to the supply
chain to handle most variations in demand, supply, or lead-time while maintaining its stated
service levels.
Yusuf et al. (2003) claim that there are four pivotal objectives of agile manufacturing as part of
an agile supply chain. These objectives are (1) customer enrichment ahead of competitors, (2)
achieving mass customisation at the cost of mass production, mastering change, (3) mastering
change and uncertainty through routinely adaptable structures and (4) leveraging the impact of
people across enterprises through information technology.
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Apparently, the focus in an agile supply chain is on being fast and also on being smart in how
you aligning with the increasingly demanding customers. But the tenet is still that supply chains
are driven by the end-consumers in the dynamic market places. The need for supply chain agility
ultimately comes from the consumer. However, the customer behaviours could be driven by
uncertainties caused possibly by the world oil prices, terrorism-related demand change or by the
impact new technological advancement. The unpredictability is not so much the result of one
customer ad hoc behaviour; it is combined effect of an uncertain world rippling up and down the
supply chain.
Often the longer the supply chain the more complexity and increased risk of bullwhip effect. In
industries such as fashion and consumer technology, the plethora of products seem to increase
exponentially while in the same time the product life cycles in the market are getting shorter.
5.2 Characteristics of the Agile Supply Chain
Agility is a supply chain-wide capability that embraces organisational structures, value chain
configurations, information systems, logistics processes and in particular mindset and culture. A
key characteristic of an agile supply chain is flexibility, which should be interpreted from two side
of supply chain. From the inside of supply chain, such flexibility means configurations and
structures are not fixed. They may transform quickly as the needs arises. From outside, i.e. from
market and consumer perspective, the supply chain must deliver timely products and services;
and deliver them at the beginning of the usually short profit widows; often to be innovative and
to be the market leader.
Thus ‘agile supply chain’ is essentially a practical approach to managing supply networks and
developing flexible capabilities to satisfy the fast changing customer demand. It is about moving
and transforming a supply chain that is structured around the focal company and its product
categories to the one that is centred on end-consumers and their requirement.
In order to achieve the responsiveness required for innovative products, an agile supply chain
should contain the following key characteristics:
1. Flexibility
2. Market sensitivity
3. A virtual network
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4. Postponement
5. Selected lean supply chain principles
Flexibility is a key characteristic of an agile supply chain. Flexibility in manufacturing is the ability
to respond quickly to the variations of manufacturing requirements in product volume, product
variety and of the supply chain. The variability in volume is demonstrated by product launching,
seasonal demand, substitution and promotional activities. The changes in variety relate to
increased number of SKUs in new products, distributors’ own brands (DOB), etc. The variations in
the supply chain result from variability of lead times of both suppliers and customers, increased
service level, change in order size, etc.
There are instances of failures during the 1980s where companies invested in sophisticated
flexible manufacturing systems (FMS) in pursuit of flexibility. At the other end of the scale all the
attentions were given to organisational flexibility (e.g. cultural and skills integration between
craftsmen and operators), producing limited success. Recognising a closer link between agile
processes there is a huge interest in the service sector, also how to optimize the benefits of agile
processes for a faster response to customer demand. In order to improve flexibility in a supply
chain, it is crucial to reduce complexity in product specifications to maximize mass customisation,
reduce complexity in processes by standardizing them and enhance organisation flexibility by
multi-skilling and seamless working practices.
Market sensitivity means that the supply chain is capable of responding to real demand. This
requires demand planning not to be driven by periodically adjusted annual forecast, but by actual
customer requirements. The scheduling of operations will be reverse scheduling based on
customer orders rather than forward scheduling based on forecast. In addition to actual customer
order, the use of information technology and efficient consumer response (ECR) and customer
relationship management (CRM) systems should be utilised to capture data directly from point
of sales and consumer buying habits. The growth in ‘loyalty cards’ and ‘store cards’ is also another
source of consumer data to enhance the management of market sensitivity.
Virtual integration is characterised by informal and flexible and dynamic relationships between
the divisional units and different sectors of the supply chain. The use of internet and information
technology have enabled the real-timesharing of data between customers, buyers, suppliers,
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planners, manufacturers and distributors in a virtual network. The visibility of demand and
collaborative planning forecasting and replenishment (CPFR) systems (see Chapter 12) in a virtual
network are important tools to respond to the real needs of customers in a global market. The
concept of competitive advantage through world class manufacturing in individual sites has now
shifted to network excellence. The supply chain where a group of partners can be linked together
in a virtual network and communicate on-line and on time is a vital characteristic of agility.
Postponement is based on the principle that semi-finished products and components are kept
in generic form and the final assembly or customisation does not take place until the final
customer or market requirements are known. The principle of postponement is an essential
characteristic of an agile supply chain. The rapid response tailored the customer needs is also
helped by the buffer capacity of key workstations. The point in the supply chain where the semi-
finished products are stocked is also known as ‘de-coupling’ point. This point should be as close
to the market place as possible in the downstream of the supply chain. In addition to responding
quickly to specific customer demand, the concept of postponement offers some operational,
economic and marketing advantages. As the inventory is kept at a generic level there are fewer
SKUs and this makes easier forecasting and less inventory in total. As the inventory is kept at an
earlier, stage stock value is also likely to be less than the value of finished product inventory. A
higher level of variety can be offered at a lower cost and marketing can promote apparent
exclusivity to customers by ‘mass customisation’.
An agile supply chain also shares some lean supply chain principles or characteristics. The
enhanced responsiveness of an agile supply chain is in addition to the high level of efficiency,
quality assurance and smooth operation flow which are the key characteristics of a lean supply
chain. An agile supply chain also focuses on the elimination of waste or mud as in a lean process
but with a different strategy for buffer capacity and inventory required for postponement.
However, a pure lean strategy can be applied up to the de-coupling point and then an agile
strategy can be applied beyond that point. It should be possible to achieve volume-oriented
economies of scale up to the de-coupling point. This is similar to a service operation (e.g. a bank)
where the repetitive activities are isolated or de-coupled and carried out in the back office with
lean thinking while responsive customer service is provided at front end.
5.3 Comparison of lean supply with agile supply
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The capabilities of an agile supply chain is created and measured from the ‘outside in’ as opposed
to pushing product offerings into the market – the ‘inside out’. The strategic focus of an agile
supply chain is a relentless pursuit of customer value in every part of its fabric. The operational
planning of agile supply chain is focused on the capabilities for responsiveness and constantly in
anticipation of unpredictable sudden changes in demand. Such capability building and customer
attention cannot be achieved without a cost. Typically, in order to ensure availability, extra
production and service capacity need to be reserved; this will incur additional cost of over
capacity. However, when the strategic positioning of the supply chain is rightly set, the gains from
the agility are worth the effort and cost. This actually raised an important question. In which
business circumstances that the agile supply chain is worthwhile?
To answer this question, we may do some comparative observations between lean and agile by
looking at some most common variables in supply chain management. First, we can make
observation on the volume and variety of the product that supply chain produces. As shown in
Figure 5.1, lean works best for high volume, low variety and more predictable operating
environment; whilst agility is needed in less predictable environment where the demand for
variety and choice is a dominant feature.
Figure 5.1 Volume and variety observation.
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We can also make observation from some specific characteristics of demand and supply. As
shown in Figure 5.2 the supply characteristics in lead-time can be long or short; whilst the
predictability of market demand can be categorised into either predictable or unpredictable. It
then become intuitive that in the case of long supply lead-time with predictable customer
demand, the plan and execution style of lean model works the best; while in the case of short
supply lead-time with unpredictable demand, the Agile responsiveness works the best.
Figure 5.2 Demand characteristics observation
More comprehensively, Mason-Jones et al. (1999) developed a comparative analysis between
lean and agile by observing a whole host of supply chain attributes as shown in Table 1. This list
clearly mapped out two distinctively different attributive profiles for both lean and agile supply
chain to home in.
Table 1 Distinguishing Attributes Lean Supply Agile Supply
Distinguishing Attributes Lean Supply Agile Supply
Typical products Commodities Fashion goods
Market place demand Predictable Volatile
Product variety Low High
Product life cycle Long Short
Customer drivers Cost Availability
Profit margin Low High
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Dominant cost Physical cost Marketability cost
Stock-out penalties Long-term contractual Immediate and volatile
Purchasing policy Buy materials Assign capacity
Information enrichment Highly desirable Obligatory
Forecasting mechanism Algorithmic consultative
5.4 From supply chain to demand chain
There is a fundamental difference between the traditional approach to supplying product to
markets and the newly emerging model we have described here. The traditional approach is
based upon optimising production, handling and transportation through the calculation of
‘economic batch quantities’. It is essentially a ‘push’ type of system were product is produced
ahead of demand, normally against a forecast and is then held in the market place awaiting
orders. The model suggests that ideally the supply chain should become a ‘demand chain’ - in
other words, everything that is moved, handled or produced should ideally be in response to a
known customer requirement. A supply chain tends, by its very nature, to focus on creating
efficiency in terms of the flow of material from source to user. On the other hand a demand chain
is focused more on effectiveness in the sense that it seeks to be market-driven responding to the
needs of the market more rapidly.
The key to this transformation - from supply chain to demand chain - is agility.
Table 2 summarises the major differences between the traditional model and the new approach
to supply chain management.
Table 2: Agile supply chain management versus traditional approach
Agile approach Traditional approach
Stock is held at multiple echelons, often
based on organisational and legal
ownership considerations.
Stock is held at the fewest echelons, if at
all with finished goods sometimes being
delivered direct from factory to customer.
Replenishment is driven sequentially by
transfers from one stocking echelon to
another.
Replenishment of all echelons is driven
from actual sales/usage data collected at
the customer interface.
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Production is planned by discrete
organizational units with batch feeds
between discrete systems.
Production is planned across functional
boundaries from vendor to customer,
through highly integrated systems, with
minimum lead-times.
Majority of stock is fully finished goods,
dispersed geographically, waiting to be
sold.
Majority of stock is held as ‘work in
progress’ awaiting build/configuration
instructions.
5.5 Using the supply chain to compete
It is becoming increasingly clear that the changed conditions in the global marketplace demand
a much more agile response from the organisation and its partners in the supply chain. The idea
in the past was that marketing success was based upon strong brands and innovative
technologies. Today brands and innovation are still critical but they are not enough. Instead the
winning combination is strong brands and innovative technologies supported by an agile supply
chain capable of responding more rapidly to volatile demand.
True competitive advantage is gained when the organisation is able to consistently meet the
needs of customers more precisely and in a more timely way than anyone else. As the realisation
grows that it is no longer company competing against company but rather supply chain against
supply chain, then the prospect of market leadership will surely be enhanced.
5.6 Developing agility in the organisation
There are number of things the organisations in the supply chain need to get it right before they
can become competitive in the agility dominated operating environment.
This may include organisational structure change, process reengineering, cultivating appropriate
culture, developing KPI, and investing in IT system. The top level executives commitment and
direct involvement is the transformation is critical. It may also down to the right style of
leadership.
Structure Change
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As mentioned earlier, agile supply chain differs from the lean one from its structure to say the
least. The structure change required for developing an agile supply chain applies to two aspects.
One is the supply chain architecture; another is the organisational internal structure. It has to be
said here that we assume business and supply chain strategies have been and will be developed
appropriately to support the structure decision making.
For the supply chain structure, it all about the organisations external connections and how the
whole supply chain is networked together. The first consideration is the extent of vertical
integration. For an agile supply chain, the broad guidance is to have small or narrow span of
vertical integration. This will give the supply chain a great deal of flexibility without feeling
bogged down by the fixed assets. The second aspect to consider might be the outsourcing
alternatives. To have a network of capable suppliers that can take outsourcing contracts from
you, will materially improve the agility of the supply chain. The other one to consider is the
location of the suppliers. Long distance and poor infrastructure will certain impede the supply
chain’s fast reaction and thus need to be pruned in the network.
From the organisational internal structure point of view, agile supply chain also demands some
structure changes. Some historically centralised operation may need to be decentralised to cut
the bureaucracy and respond to local conditions. Multi-divisional structure may be advisable to
concentrate on the product, service, and geographical area and allowing units to adapt to local
needs. Agile operations would also prefer more flat structures not tall hierarchies. High degree
of empowerment and less formal rules are also positive factors to the agile structure.
Process Change
In the agile supply chain, processes are still necessary, but they are fewer by definition. Any
process slows down the response time should be considered for reengineering. It is likely that
some process short-cuts are necessary for the agile operation and the level of operational risks
may rise. But the top priority is still the responsiveness, so long as the safety is not compromised.
Ways may be found to by-pass the regulations and opportunistic flair could play a role in
achieving unanticipated profit. However, this does not mean to create any expansive purchasing
or costly deliveries. Quite the contrary, the process that drive and support agile supply chain are
often the unique combinations of standard or modular process which is the key to containing the
cost while delivering the service to unexpected demand.
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The postponement process discussed in the previous section is a widely applied process to
achieve higher agility. It is also important that the business processes are aligned through the
supply chain. Thus a coordinated process development for agile response is essential.
IT Systems
Agile supply chains are best underpinned by an ERP system similar to those used in other supply
chain types. An array of additional applications designed to optimise the agile capabilities
including process alignment and joint forecasting and planning. Zara’s achievement of
remarkable responsiveness was due no small measure of its IT systems. The centralised design
teams for man’s ware, woman’s ware and children’s ware are hardwired with the retail stores
around the world. Using on-line market information the teams will be able to change or creating
new designs quickly ahead of the competition. Anecdotally, if as few as three people have come
to the store and asked something that Zara don’t have. Zara’s design team will take it on and
design it for them.
Nevertheless, investing in applications does not necessarily mean investing in large lump of
capital equipment. In fact, investing in hardware may even hinder the agility development.
Hardware is generally rigid and non-transferable between markets, once invested it will only
depreciate, and it depreciates much faster when new updated equipment are coming onto the
market. Renting or buying the service without taking the ownership of the hardware appears to
be a better choice for agile supply chains.
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Chapter 6: Purchasing and Supplier Selection
6.1 Strategic Role of Purchasing
Purchasing function has a strategically indispensable role to play in supply chain management. It
covers the sourcing end of supply chain management interfacing with the delivery end of the
suppliers.
According to the classical definition of purchasing is: to obtain materials and/or services of the
right quality in the right quantity from the right source, deliver them to the right place at the right
price.
A much modern and comprehensive definition of purchasing is: the process undertaken by the
organisational unit which, either as a function or as part of an integrated supply chain, is
responsible for procuring supplies of materials and services of the right quality, quantity, time
and price, and the management of the suppliers, thereby contributing to the competitive
advantages of the achievement of the corporate strategy. Purchasing management thus, by
definition, supports and implements the supply chain management strategies. It is one of, or
maybe the most important, delivery arms of supply chain management. Often it directly delivers
the cost saving, quality improvement and fulfils the supplier relationships. Purchasing function’s
critical role can also be illustrated from a simplified income statement:
Total sales = £10,000,000
Purchased Service / materials = £7,000,000
Salaries = £2,000,000
Overheads = £500,000
Profit = £500,000
Suppose this is a company’s profit-loss account for the current year, and the shareholders
demand the CEO to deliver double the profit in the next year. What can the CEO do with regards
to those factors associated with the account? Well, assume everything else remains equal,
doubling the total sales will eventually double the profit. It is equivalent to create two companies.
But the problem with this approach is that the sales volume is often constrained by the market.
If the product cycle has passed the maturity and started to decline, to maintain the amount of
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sale would be difficult let alone to double it. Or, the company could reduce the salary by 25%,
which could make £500,000 saving for the bottom line.
Common sense tells that it is not feasible, and the CEO would not agree as his 25% cut would be
biggest of all. Another alternative is to get rid of all the overheads costs, which also makes
£500,000 saving. However, this is almost impossible to do practically, nor agreeable theoretically.
What’s left is to curtail the buyer-in goods and service by 7% which will make $500,000 savings
for the bottom line. Now, just 7% cut in purchasing would result in 100% increase of profit. This
is no doubt a very effective approach as the effort appears to be small and the gain is amazingly
high. It is apparently the only viable and convincing choice there is to it.
Who is going to do that for the company? It is the purchasing function. This is why purchasing
function is distinctly so important to the company’s profit level. It is the company’s profit
leveraging point, whereby a small input can generate large output. No wonder we see many
OEMs often try to enforce the supplied material cost reduction by 4-5% year on year, albeit, this
may not be the best approach from the contemporary supply chain best-practice perspective.
The operational processes of purchasing function can be represented by the diagram shown in
Figure 6.1. It basically intermediates the company’s internal operations with the suppliers,
ensuring the right suppliers are found and engaged in a process of supply and delivering the
required materials, components and services that best suit the internal operations.
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Figure 6.1: Operational purchasing activities (adopted from Slack, 1998)
These are just the visible parts of purchasing function. Beyond these processes, there might more
important high level strategic decisions to be made for the purchasing. Typically, make-or-buy
decisions, supply base rationalisation, supplier development and etc.
6.2 Purchasing Process
Procurement or Purchasing is an important process for a business or a company that focuses on
providing the right quality and quantity of products to people. It is important that a business is
aware of how the process will affect the whole purchasing strategy that they are using with their
products or services.
Using the Kraljic Matrix is one way to help make the process easier and smarter. This strategy
helps companies to use to minimize the vulnerability of their supply chain while simultaneously
maximizing the buying power that they can have from the goods that they are offering.
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The Quadrants of the Kraljic Matrix
Kraljic Matrix is divided into four quadrants that will show the potential result of the profits that
a certain business can have when it is on one axis and see how vulnerable the business will be,
with the suppliers’ disappearance from the other side of the axis. The four quadrants are: Strategic
Items, Leverage Items, Bottleneck Items and Non-Critical Items. For those businesses whose
purchasing managers are interested in incorporating the use of the matrix into their business, it
is important that they know the most and the least critical parts of the Kraljic Matrix as well as
those that show high and low impact on the business’ strategy.
Strategic Items
These products are those that are included in the critical needs of the buyer because of the fact
that these products may either be difficult to deliver, hard to find, costly, or directly impact the
profitability of the company. Although all quadrants work together to make up the complete
picture, because of the very nature of this quadrant and its relation to the business’s bottom line,
this should be the quadrant to examine in depth first.
Leverage Items
This quadrant is on the right side of the matrix with a high financial risk involved in the items that
fall here, but it is at the bottom so the supply risk is low. Therefore, even though the financial
impact on the business is very high, the strategies and considerations for these items are different
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because of the wide variety of options available to procure them. Items in abundant supply tend
to work well with competitive bidding as a part of the overall strategy.
For such leverage products, Kraljic proposes a purchasing strategy of competitive bidding.
Understandably, competitive bidding will only work if there is more than one supplier. The low
supply risk factor of leverage products supports this strategy. Alternative suppliers are in this case
available and substitution of supplier is possible. The buyer can then benefit on the lower price
and cost advantages. It is important to understand that the buyer need to do so, because the
high financial impact the leveraged products.
Bottleneck Items
This is the first of the two on the left side so you know it has a low financial risk. However, being
on the top means the risk to the supply is greater with possibly only 1 or 2 vendors out there with
the specific items needed. As a result of the reduced financial impact, these items are a little safer
to explore other options. It is a sound strategy to nurture the relationship with the vendor while
at the same time investigating and looking into other resources.
Non-Critical or Routine Items
The products in this quadrant are at the bottom left so that means low financial risk and low
supply risk. A perfect example of this would be basic office supplies such as paper, pens, binders,
tape, etc. The challenge is that in many cases, the fees associated with shipping, transporting and
receiving them are more than the items themselves!
For the non-critical or routine products, Kraljic proposed a purchasing strategy of system
contracting plus e-commerce solutions, because these products have large varieties and high
logistics complexity and often labour intensive in handling. The sophisticated computer based
system ordering suits well with the nature of the products. Although the alternative sources of
supply are available, bidding is not recommended. This is because the low cost nature of the
materials made the bidding unnecessary; and the variety complexity of the materials will make
the bidding unaffordable.
By using the Kraljic Matrix, a business can better understand the potential profit in relation to the
supply chain weaknesses and vulnerabilities. By being aware of the four quadrants, there is no
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doubt that purchasing managers will have an easier time dealing with their procurement
processes. They can make better strategy decisions, work on those relationships that are key to
the financial success of the business, and identify items of lesser importance that may work better
finding alternative sourcing or even outsourcing.
6.3 Supplier Selection
One of the critical tasks of purchasing function is to identify and select the suppliers. This is
particularly true when we talk about strategic components and bottleneck components. In both
of these categories, suppliers are by no means ascertained. The quality of the suppliers and the
righteousness of their selection will have direct implications on the supply chain’s long-term
competitiveness. The processes of going about selecting suppliers can be suggested as follows,
but by no means comprehensive and universal:
Set up Selection criteria
Initial contact
Formal evaluation
Price quotation
Financial data
Reference checking
Supplier visit
Audits, assessments or surveys
Initiation test
Apparently, these processes are mainly around setting and taking measures against the criteria.
However, there are three significantly different approaches toward supplier selection. The first is
based on the product that the supplier can deliver. This approach will normally check the product
prototype to see if the quality and technical specifications can be met and the delivery terms are
satisfactory. The second is based on the capability that the supplier displays. It typical checks
whether the supplier has the design and development capability, strategic investment in
technology and skills, and up to scratch management. This capability approach is often used for
long-term supplier selection and can be done well before the idea of component is taking shape.
The third is the combination of product and capability selection. It applies to when a strategically
important new part is to be outsourced to a new supplier. Not only the supplier must comply
with all the product specific requirements but also should have the capability of making future
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generation of the products in the long run, so as to sustain the supply chain development. Some
frequently used criteria for capability filtering are as follows.
Assessment criteria on the supplier’s capability:
Total quality management policy
BS 5750/ ISO 9000 certification or equivalent
Implementing latest techniques e.g. JIT, EDI
In-house design capability
Ability to supply locally or world-wide as appropriate
Consistent delivery performance, service standards and product quality
Attitude on total acquisition cost
Willingness to change, flexible attitude of management and workforce
Favourable long term investment plan
The power dependence between the buyer and the supplier
The second phase in Kraljic’s framework, after the classification of the product categories, deals
with market analysis by plotting the bargaining power of the suppliers against its own strength
as a buyer. This concerns everything from quality and quantity aspects to the relative strength of
existing suppliers.
Important factors during this phase are the check of supplier’s capacity utilisation, supplier’s
break-even stability, uniqueness of supplier’s product, past variations in capacity utilisation of
main production units and the potential costs of non-delivery and inadequate quality. Taken
together, Kraljic stress the importance of knowing both the supplier strength and company
strength in order to do a good market analysis. The evaluation criteria will also differ for different
industries.
Strategic positioning of the products identified in the classification phase
The third phase concerns strategic positioning of the materials/products identified in phase one.
This makes it possible spot opportunities and vulnerabilities in the supply markets and it also
makes it possible to develop counterstrategies. Three basic risks categories are possible in the
strategic quadrant depending on where in the matrix a product category is positioned: exploit,
balance and diversify. As appendix II shows, different actions are needed for volume, price,
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contractual coverage, new suppliers, inventories, own production, substitution, value engineering
and logistics. The normal situation is that companies will have different roles when different items
and suppliers are regarded. The company will have more flexibility in negotiations if the company
is stronger than its supplier. The exploit strategy is used when the buyer plays a dominant role
and the supplier’s strength is medium or low; there should however be a balance in order not to
jeopardise the relationship with the supplier. With an equal power situation a balanced approach
are used and when the supplier dominate a diversified approach is used. This can also mean that
the buyer should try to find material substitutes or new suppliers. This can lead to inducements
as longer contracts and higher prices. This stage is more related to the prevailing conditions the
purchasing department faces.
Long-term actions plans and strategies
The fourth phase concerns setting up actions plans for the long term and opens up for changing
the prevailing conditions in phase three above. The previous phases have dealt with volume,
price, supplier selection, material substitution, inventory policy and so forth. The fourth phase
makes it possible to improve the general sourcing strategy. This can mean securing long-term
supply and taking actions depending on the risks the company faces. Options with clear
objectives, steps, responsibilities and different measurements need to be clear for the top
management. The fourth phase should lead to strategies for critical purchasing materials both
considering time and what actions that need to be taken.
Kraljic also discuss in his article the importance that the purchasing department reflects the
overall corporate set-up. This concerns for example if the purchasing department should be
centralised or decentralised. He also points out the problem of the purchasing department not
being informed when new actions are taken and that the information period is too short. The
purchasing department need information at least three to six months before the start-up of a
new project, in order to negotiate prices, rescheduling supply quantities and so forth. Tailor made
systems are probably also needed for complex companies with numerous products and multiple
plants. This can include forecast systems, EDP-supported planning, integration of purchasing
systems with other corporate systems, purchasing analyses approaches such as commodity
analysis, value analysis and improved systems support, both in order to work less with
administrative task but also in order to be more efficient.
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Alternative purchasing portfolio approaches to purchasing
The purchasing portfolio models that are used for comparison and as a critique to the Kraljic
matrix, are gathered foremost from the literature review by Dubois and Pedersen (2002),
regarding different and prominent purchasing portfolio models. They are summarised in
appendix III. Improvements of the Kraljic matrix has according to Dubois and Pedersen (2001)
mainly concerned (1) the purchasing behaviour in relation to single materials or components and
supply and purchasing situations (Kornelius and Van Stekelenborg, 1994; Olsen and Ellram, 1997)
and further (2) the classification of buyer-supplier relationships (Bensaou, 1999; Gelderman and
Van Weele, 2000). We have added some articles, which in our opinion contributes and is in line
with the purpose of this master thesis. These are foremost articles by Gelderman and Van Weele
(2002), (2003) and Caniëls and Gelderman (2005).
The purchasing behaviour in relation to single materials or components and supply and
purchasing situations
Concerning the authors in the literature review by Dubois and Pedersen (2002), Kornelius and
Van Stekelenborg (1994) mean that the purchasing- and supply literature only recognises ideal
types of relationships between buyer and supplier. Descriptions of the buyer- supplier
relationship is not linked to a specific situation but are instead based on differences on just one
contingency (e.g. the power balance and so forth), which makes it difficult answering the
question: when to do what. It is about an understanding of what purchasing principles to apply
in what supply situation. The authors see this as an imperfection in the existing literature that
only describes the control measures without saying anything about the situational characteristics.
This also concerns Kraljic, because of his focus on the power-dependence between the buyer and
the supplier as a contingency and the fact that control measures cannot be defined at random
since they depend on the situational characteristics. In addition to this the time span must be
considered.
Ellram and Olsen (1997) criticises portfolio models on a general basis. Among other thing they
stress the importance of considering the complexity of the dimensions used to categorise the
elements in the portfolio. If the dimensions are too simple important variables can be overlooked.
The process of categorising is also more important than the classification itself, because during
the categorisation process, the decision-makers must agree on the importance of the different
products, suppliers, or relationships segmented in the specific portfolio model. Furthermore,
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portfolio models have a tendency to result in strategies that are independent of each other. The
strategies for products and suppliers are seldom linked in the overall long term purchasing
strategy and there is also no general guidance of choosing among the resulting strategies.
Regarding the supplier relationship, and in line with Kornelius and Van Stekelenborg (1994), the
authors stress that it is not enough only to focus on the power balance between the buyer and
the supplier and suggest strategies based on that current balance (as Kraljic suggests). Exploiting
its power as a buyer can be a strategy that works in the short run but not such a wise move in
the long run. Ellram and Olsen make a parallel to the methods by Lopez as a former manager at
General Motors. Lopez used his buying power to impose massive cost reductions from their
suppliers. However, the main critique concerns the need of models to assist in the management
of the company’s entire portfolio of relationships.
Classification of buyer-supplier relationships
Bensaou (1999) discusses the implications of the fact the business press and academics
recommend managers to move from arm’s length relationships to longer-term collaborative
strategic partnership. This was largely based on empirical studies of Japanese production and
supply practices, for example the success stories of Toyota. The author discusses some of the
negative aspects of a more collaborative partnership, i.e., they are costly to develop, nurture, and
maintain. The investments in the relationships also increase the risk for the buying company.
Bensaou’s conclusion that collaboration should be avoided under some circumstances is in sharp
contrast to still another discussion departing from the Kraljic model, namely Håkansson &
Persson (2007), who argue that collaboration is always possible and can be applied in Kraljic’s
matrix all quadrants. This means that partnership should not only be prevalent in the strategic
quadrant of the matrix and that exploitation of different types of interdependencies can always
be useful.
A buyer and a supplier can create more efficient activity structures through
collaboration
Gelderman and Van Weele (2000) on the other hand, highlight the power dependence
perspective in the Kraljic matrix. They stress that there is a natural conflict of interest in the buyer
supplier relationship, i.e., both prefer a dominant power position due to the attached benefits.
Furthermore, it is not clear in what way the balance of power enters the Kraljic matrix.
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Strategic change in the Kraljic matrix
Gelderman and Van Weele (2002) highlight that the Kraljic model does not provide guidelines
for strategic movements of commodities and/or suppliers within the matrix, i.e., how movements
should be done in the matrix before or after decisions regarding strategic change. In addition to
this, they mean that purchasing professionals should always look for possibilities to move to
another more favourable strategic position in the matrix. The authors stress that previous
research do not reveal how purchasing professionals handle the problem of positioning
commodities and/or suppliers into the portfolio and how they actually develop purchasing
strategies, and what results are derived from using portfolio techniques. Kraljic’s
recommendations for the four categories in the matrix are recommendations such as: strategic
partnership, exploiting power, efficient processing and volume insurance. The authors mean that
these recommendations are generic by nature and thereby only rough indications.
Gelderman and Van Weele (2003) also mention that previous researchers always claim strategic
partnership in the strategic quadrant, which is not according to Kraljic ideas (balance, exploit,
diversify). Furthermore the authors highlight the importance of considering how the supplier
accesses the situation.
A partnership is only possible if both parties have the same intensions. An extension from the
previous authors and also a critique of the dyadic relationship between the buyer and supplier is
the ideas by Fredriksson (2007) concerning triadic sourcing. This concept deals with managing
interdependencies in triads including one buyer and two suppliers and where the supplier-
supplier relationship simultaneously is subject to both competition and cooperation. This concept
means that the dyadic relationship is not always valid. Gelderman and Van Weele (2003) further
argue, in line with Day (1986), that there are unanswered questions regarding measurement in
the Kraljic matrix. Day (1986) also questioned how the dimensions in the matrix (profit impact
and supply risk) should be measured. Gelderman and Van Weele (2003) stress that measurement-
and strategic issues are handled differently and that companies adjust the Kraljic approach in
order to for example match the conditions on the end markets and the overall business strategy.
Canïels & Gelderman (2005) verifies that contributions to the Kraljic model typically recommend
one purchasing strategy for each portfolio quadrant (this report is a supplementary research of
the report by Gelderman and Van Weele (2003)). However the authors mean that purchasers
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make a clear distinction between alternative strategies within each quadrant. Little is also known
about how the concept of the power dependence between buyers and suppliers and how that
influence the choice for a specific purchasing strategy.
6.4 Contributions to the Kraljic matrix
In the literature review by Dubois and Pedersen (2002), Kornelius and Van Stekelenborg (1994)
mean that prescriptive models are needed in order to choose the appropriate purchasing strategy
in a given situation. In order to cope with this the authors presented a typology for the
characterisation of supply situations. For each purchasing situation a working method is
presented, which will support decision makers in coping with the diversity in supply situations.
The control principles of purchasing in a specific time span, should derive from the internal
market demand (strategic importance of the purchased goods and services, product
characteristics, unpredictability of the customer demand) on the one hand, and the delimitations
of the external supply market (buyer’s importance of the supplier, switching costs, supply scarcity,
number of suppliers, geographic concentration the financial situation of the supplier, overall
market conditions and so forth) on the other hand. This led to four purchasing situations: plain
supply situation, internally problematic situation, externally problematic situation, and a
complicated situation. This enables purchasers to focus their attention on the contingencies that
need attention and by that develop purchasing strategies for the different quadrants in the
proposed portfolio. The complicated situation (high control need of the internal- and the external
supply market) can be compared to the strategic quadrant of the Kraljic matrix, where the
purchase needs to comply with very detailed specifications and conditions. In this situation
purchasing must be integrated with other functions within the buying company. Taken together
the control activities are directed towards supply situations that are causing a high control need.
Ellram and Olsen (1997) expanded differently on the Kraljic matrix to analyse a firm’s portfolio of
supplier relationships. They propose a multi-step approach to analyse a company’s supplier
relationships. The first step in the portfolio analysis is to analyse spend in order ascertain ideal
relationships for major purchases. In this step weights are assigned to each of the factors in the
two dimensions. The second step concerns a descriptive analysis of the company’s current
suppliers in order to look at how the supply task is managed. Finally, actions plans are formed
how to adapt existing supplier relationships based on the link between the analysis made in step
one and two. The first step generated a portfolio model with the dimensions: difficulty of
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managing the purchase situation and strategic importance of the purchase. The latter dimension
describes factors internal to the firm (competence factors, economic factors and image factors)
and the first dimension describes external factors to the company (product characteristics, supply
market characteristics and environmental characteristics). This division between internal- and
external factors can be seen as similar to Kornelius and Van Stekelenborg (1994) and the control
principles for internal market demand and the external supply market.
The second step in the working method, analysis of the company’s suppliers, leads to a new
portfolio model with the dimensions relative supplier attractiveness and the strength of the
relationship. In relation to Kraljic, power dependence and supply risk are only two factors in this
phase influencing the appropriate strategy when managing supplier relationships. Factors
influencing the dimension relative supplier attractiveness are: financial and economic factors,
performance factors, technological factors, organisational, cultural, and strategic factors and
finally complemented factors, such as actions plans based on changes in a specific business
context and the safety record of the supplier. Factors in this dimension, describe why a buyer
should choose a specific supplier and it depends on the contingency for a specific
commodity/supplier.
This is also in line with Kornelius and Van Stekelenborg (1994). The second dimension, the
strength of the relationship, includes economic factors, character of the exchange relationship,
cooperation between the buyer and the supplier and the distance between the buyer and the
supplier. The importance of each relationship is represented by a circle, where the size of the
circle illustrates the current allocation of resources to the relationship. Finally and the third step
of the working method by Ellram and Olsen, is to develop action plans for moving from current
to the ideal supplier relationship regarding purchases highlighted in step one. If the ambitions
are to keep a strategically important supplier, it is important to strengthen the relationship.
Bensaou (1999) also proposed a framework for managing a portfolio of relationships. His
framework for managing a portfolio of relationships departs from the correlation between the
buyer specific investment and the supplier specific investment. From this perspective, strategic
partnership correlates with the investments from both the buyer and the supplier in the
relationship, and as one of the respondents of the study declared – “We are tired of this smooth
talk about let’s work in partnership”. The findings in the authors study leads to a portfolio of how
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to manage a portfolio of relationship. This portfolio will help senior managers handle the
governance structure and/or the relational design under different external contingencies.
Furthermore, there will be guidance how to manage each relationship.
Each quadrant of the first portfolio (specific investments) is from the perspective of managing the
relationship not seen as inferior to one another. Therefore a strategic partnership does not mean
a high performing relationship. Based on this, Bensaou (1999) proposes a portfolio of managing
relationships based on the dimensions relationship requirements and actual relationship
capabilities. If the relationship requirements are high and the actual relationship capabilities are
graded low, the status is an under designed relationship. This means that the capabilities of the
current relationship need to adapt to the requirements of the relationship in order to be match
and to be competitive.
Gelderman and Van Weele (2000) developed the Kraljic matrix model further by trying to identify
and classify the content of the buyer-supplier relationship. The authors created a model with the
dimensions buyer’s dependence and supplier’s dependence. The main variable used is the power
dependence between the buyer and supplier. Gelderman and Van Weele highlights different
action plans, i.e., how to manage suppliers given a specific category. To be able to assemble “high
points” in purchasing situations the authors suggest a balanced relationship. Important supplier
strategies are: volume insurance, exploiting power and efficient processing.
6.5 Strategic change in the Kraljic matrix
Gelderman and Van Weele (2002) highlight the conditions for changing positions in the Kraljic
matrix. The company in the study always try to reduce the dependence on the supplier involved,
but in some cases (monopolistic situation) the company must accept a locked in position. In order
to solve that situation, new suppliers need to be introduced. This could be a problem if patents
are part of the locked in relationship. The study also stresses the importance of working with
world-class suppliers because they are performing better both technically and economically. If a
strategic partner is underachieving an alternative is to make the product less complex and find
alternative solutions with new suppliers. Furthermore, moving from the leverage quadrant to the
strategic quadrant might be a good choice for co-design. A general conclusion is that portfolio
approaches is very helpful in positioning commodities in different segments and in developing
purchasing strategies. Furthermore, the Kraljic matrix is useful for discussing, visualising, and
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illustrating the possibilities of differentiated purchasing-and supplier strategies. It can also be
useful for coordinating purchasing and supplier strategies among different fairly autonomous
business units. However the case company doesn’t make any calculations for assessing high or
low in the matrix. As one respondent stressed –“It is better to be roughly right than totally wrong”.
Gelderman and Van Weele (2003) illustrate in their case study a clear tendency that buyers want
to avoid supply risk and thereby position more in the center of the matrix. Regarding strategic
movements in the matrix and the movements to and from the strategic quadrant, three distinctive
situations were found: (1) holding the position and maintain strategic partnership, (2) holding the
position and accept a locked in partnership and (3) moving to another position and terminate
the partnership and thereby find a new supplier. In a move to the strategic quadrant it is about
developing a partnership. Most likely it concerns a commodity positioned in the leverage
quadrant. Furthermore three distinctive measurement methods were found: the consensus
method (strategic discussions), one-by-one method (one key variable per dimension) and the
weighted factor (a number of factors for each dimension). The consensus method has some
attractive features and is based on reasoning and discussions. The last remark is that experienced
portfolio users always include additional information with reference to the overall business
strategy, the situation in the supply market and the capacities and intension of the individual
suppliers.
Canïels and Gelderman (2005) empirically looked at the relative power and total interdependence
for a number of portfolio-based purchasing strategies. The result of the study, among Dutch
purchasing professionals, is that there appear to be a significant difference in the power positions
between the purchasing strategies within each quadrant, and that it might be associated with
differences in power and dependence positions. The choice of a specific purchasing strategy
within each quadrant is yet unclear but can be associated with differences in power and
dependence between the buyer and the supplier. New findings concerned the fact that positions
in the bottleneck and the strategic quadrants were associated with supplier dominance while the
other two quadrants had a more balanced power structure. This means that when a strategic
relationship was maintained in the strategic quadrant, there was supplier dominance. The authors
mean that one could have expected a more balanced power structure, because of the general
thoughts by Kraljic of using power dependence as a key element when designing strategies in
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the strategic quadrant. Furthermore, the perceived supply risk by the buyer was strongly
associated with the power balance between the buyer and the supplier.
The structure of the power balance highlighted by Canïels and Gelderman (2005), can be
extended to Fredriksson (2007) and his conclusions regarding “triadic sourcing”. He suggests in
his study that triadic sourcing may lead to higher performance since suppliers are put under
competitive pressure. This involves among other things product development. However, more
than two suppliers used in this hybrid strategy is not a good choice because of the fact that the
number of interfaces grows exponentially with the number of suppliers involved. This limit the
resources spent on managing each interface. On the other hand, one supplier would take away
the positive tension created by competition.
6.6 Towards Knowledge Based Sourcing
Purchasing practice and theory never stops developing. It really is a dynamic and evolving subject
in both theory and practice. Looking back at the recent three decades of purchasing
development, an evolution pattern starts emerge. Depend how one would like to take out of it;
the pattern may be presented in different ways. Here we frame the evolution pattern into two
perspectives, each of which has four key stages. The first perspective is on the operational focuses
and the second perspective is mainly on the characteristics changes.
The operational focus perspective classifies the purchasing function into four stages:
Stage one can be called ‘Product centred purchasing’. The operation is basically
concentrated exclusively upon the purchasing of the tangible products and its outcomes
on the overall businesses. It is usually measured in the five rights (right price, right time,
right quantity, right quality and from the right sources).
Stage two can be called ‘Process centred purchasing’. It is predominantly process
focused operation. It moves beyond the direct outcomes of the purchasing activities and
into the processes through which the outcomes are delivered. This means that the
managers realised that the processes are the enablers, and often the controllers of the
purchasing outcomes.
Stage three can be called ‘Relational purchasing’. The focus of the operation is not just
on the process but also on the inter-organisational relationships. The relationship has
been taken on as the key management instrument to enhance the product quality and
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technological advances; it also had massive positive impact on the supplier integration
and development.
Stage four can be called ‘Performance centred purchasing’. It focuses on the optimum
business performances as a whole and managing the purchasing function’s contributions
to the overall business performances. In this way, the purchasing function has been
strategically connected to the business’s ultimate objectives and delivery. It is a system
approach.
The characteristics focus perspective classifies the purchasing function into four stages:
Stage one is ‘passive’ in character. In this stage the purchasing can be defined as lack of
strategic directions and is mainly reactive to operational requirements. High proportion
of purchasing manager’s time is on routine operations with low visibility to the supply
chain. The supplier selection is based on price and availability only.
Stage two is ‘independent’ in character. In this stage the purchasing may have adopted
the latest technology and process, but may have not got the strategy that aligned with
the competition. Links between purchasing and technical disciplines may have been
established; performance based on cost reduction; top management recognises the
importance of professional development and the opportunities in purchasing
contributing to profitability.
Stage three is ‘supportive’ in character. Purchasing starts to support firm’s competitive
strategy by adopting purchasing techniques and products which strengthen the firm’s
competitive position. Suppliers are considered as key competitive resource. The supply
market, products evolution and suppliers capabilities are continuously monitored and
analysed.
Stage four is ‘integrative’ in character. In this stage purchasing strategy fully integrates
with firm’s purchasing function. Multifunctional teams and cross functional training of
purchasing professional begin to take hold. Open and close communication with other
functional departments is hard wired into the processes. Purchasing is measured in terms
of its contribution to the overall success of the firm.
It is interesting to notice that the four stages in both perspectives can be broadly matched with
little obvious impediment.
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However, it will take a more rigorous approach to declare the theoretical match and to create a
new stage model for the purchasing development. The discussion presented here merely opens
the scope of discussion and hopefully stimulate further thinking and debate.
But there is no doubt that the purchasing function has now become a much more sophisticated
process and has much wider and deeper impact to the business performance. It is moving away
from the short-term towards long-term; from a function to processes; from transactional to
relational; from cost saving to performance enhancing. The picture of purchasing in the future
perhaps can be described as the knowledge-based purchasing, which is built on the knowledge
about whole business objectives and stakeholders’ interest, the knowledge about the suppliers
and their capabilities and potential, the knowledge about the people and their emotion towards
relationship and culture; and the knowledge about technology up-taking.
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Chapter 7: Supply Relationship and Integration
7.1 Supply Relationship
Supply relationship can be either on the upstream side with the suppliers or on the downstream
side with the buyers. If the relationship is solely observed between one supply and one buyer, it
is also called dyadic relationship. Supply relationship can be defined as the cross organisational
interaction and exchange between the participating members of the supply chain. This means
that the relationship is between organisations not individual people within the same supply chain
where the material flows defines the border line. However, for the inter-organisational interaction
that falls outside of the main streams of the material flows, then it may not be called collaborative
relationship or partnership relation, but may not be the supply relationship.
One of the most common organisational relationships is what’s called the partnership relation. A
partnership is defined as a specific relationship arrangement where parties agree to cooperate to
advance their mutual interests. Since humans are social beings partnerships between individuals,
businesses, organisations, and varied combinations thereof, have always been commonplace. In
the most frequent instance, a partnership is formed between two or more businesses in which
partners cooperated to achieve and share business advancement and profits or losses.
In supply chain management, relationship between the participating members is in fact more a
dimension rather than an element. This means that supply relationship cannot be understood as
something that you either have it or you don’t; instead it is a dimension from which various
different relationship postures can be identified, such as arm’s length relation; short term
contractual relationship, long-term partnership relation and so on. It is almost like a variable that
may take different values under different circumstances. Then the question is how, in practice,
one might measure the ‘value’ of relationship?
This is a difficult question. Amongst many known attempts, a relatively more convincing one is
that if a relationship is a form of interaction and exchange, then a specific relationship can be
measured by the contents of the exchange.
Since relationship is ultimately about exchange, and hence, so long as we know what has been
exchanged in between we should be able to pigeonhole it to a specific type. For example, if the
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buyer and supplier have only exchanged on the price and volume of the goods, we can very safely
assess that they are having an arm’s length relationship; on the other hand if the two companies
have been exchange their vision, mission and value, have joint design and product development
and coordinated production and so on, one can safely assess that the relationship between them
is close and highly engaging.
The traditional supplier-buyer relationship has been limited to almost single point contact of
purchasing officer on the buyer side and the sales person on the supplier side. The purchasing
decision is largely based on the unit price. Information sharing is very limited if not at all in
existence. The relationship tends to be antagonistic and adversarial.
Supply Chain Management Framework is dependent on developing close relationships with key
customers and suppliers. In other words, supply chain management is relationship management.
For this reason, there is a need for a tool that can be used to structure the key relationships that
are identified when implementing the customer relationship management and supplier
relationship management processes. This tool is the partnership model and the GSCF definition
of partnership follows. A partnership is a tailored business relationship based on mutual trust,
openness, shared risk and shared rewards that results in business performance greater than
would be achieved by the two firms working together in the absence of partnership.
Partnerships can take multiple forms and the degree of partnership achieved can reflect tight
integration across the firm boundaries, or only limited integration across the boundaries. Since
partnership implementation requires significant managerial time commitments and often other
resource commitments, the goal is to fit the type of partnership to the business situation and the
organisational environment. The types of partnership are Type I, Type II and Type III. These are
called “types,” not “levels” because there should be no implication that higher levels are better
than lower levels. The goal should be to have the correct amount of partnering in the relationship.
7.2 The Partnership Model
The model separates the drivers of partnership, the facilitators of partnership, the components of
partnership and the outcomes of partnership into four major are as for attention (see Figure 7).
Drivers are the compelling reasons to partner, and must be examined first when approaching a
potential partner. Facilitators are characteristics of the two firms that will help or hinder the
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partnership development process. Components are the managerially controllable elements that
can be implemented at various levels depending on the amount of partnership present.
Outcomes measure the extent to which each firm achieves its drivers. The partnership model
provides a structure for assessing the drivers and facilitators, and component descriptions for the
prescribed type of partnership.
Drivers. Why add managerial complexity and commit resources to a supply chain relationship if
a good, long-term contract that is well specified will do? To the degree that business as usual will
not get the supply chain efficiencies needed, partnership may be necessary. By looking for
compelling reasons to partner, the drivers of partnership, management in the two firms may find
that they both have an interest in tailoring the relationship. The model separates the drivers into
four categories: asset/cost efficiencies, customer service improvements, marketing advantage,
and profit stability and growth. All businesses are concerned with these four issues, and the four
can capture the goals of managers for their relationships.
Facilitators. The nature of the two firms involved in partnership implementation will determine
how easy or hard it will be to tailor the relationship. If the two firms mesh easily, the managerial
effort and resources devoted to putting the correct relationship in place will be lower for the
same results. The elements that make partnership implementation easy or hard are called
facilitators. They represent the environment of the partnership; those aspects of the two firms
that will help or hinder partnership activities. There are four major categories of facilitators:
corporate compatibility, management philosophy and techniques, mutuality and symmetry.
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Components. While drivers and facilitators determine the potential for partnership, the
components are the building blocks of partnership. They are universal across firms and across
business environments and unlike drivers and facilitators, are under the direct control of the
managers involved. In other words, they are the activities that managers in the two firms actually
perform to implement the partnership. There are eight components of partnership: planning,
joint operating controls, communications, risk/reward sharing, trust and commitment, contract
style, scope and investment. The components are implemented differently for Type l, Type II and
Type III partnerships. Action items are identified for the drivers and the components so that both
parties’ expectations are met.
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Outcomes. A partnership, if appropriately established and effectively managed, should improve
performance for both parties. Profit enhancement, process improvements, and increased
competitive advantage are all likely outcomes of effective partnerships. Specific outcomes will
vary depending upon the drivers which initially motivated the development of the partnership. It
should be noted, however, that a partnership is not required to achieve satisfactory outcomes
from a relationship. Typically, organisations will have multiple arm’s length relationships which
meet the needs of and provide benefits to both parties.
The Partnership Building Session
Using the partnership model to tailor a relationship requires a one and one-half day session. The
correct team from each firm must be identified and committed to a meeting time. These teams
should include top managers, middle managers, operations personnel and staff personnel. A
broad mix, both in terms of management level and functional expertise, is required in order to
ensure that all perspectives are considered.
The success of the partnership building process depends on the openness and creativity brought
to the session. The process is not about whether to have a business relationship; it is about the
style of the relationship. The partnership building session is only a first step in a challenging but
rewarding long-term effort to tailor your business relationship for enhanced results.
7.3 Strategic Alliance
Strategic alliance is defined as an informal or formal arrangement between two or more
companies with a common business objective. They are seen as a manifestation of inter-
organisational cooperative strategies that entails pooling of skills and resources by the alliance
partners in order to achieve one or more goals linked to the strategic objectives of the
cooperating firms. They usually will take one of the three structural types:
Horizontal alliance: that is between companies on the same level of different supply
chains, which is also referred to as inter-channel alliances.
Vertical alliance: that is between the firms on the different levels of the same supply chain,
which also referred to as the intra-channel alliances.
Lateral alliance: that is developed between the client company and logistics service
provider firms.
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Those logistics providers usually will serve many different supply chains and thus they are often
seen from any supply chain as the ‘lateral’ rather than internal.
Companies embarked on the business of strategic alliances do so for many reasons:
Sharing complementary resources
Sharing market risks
Achieve economy of scale and economy of scope
Joint development and collaboration
Create value through synergy as the partners achieve mutually benefit gains that neither
would be able to achieve individually
Cost saving and customer value adding
Strategic alliances between businesses usually do not start by the ‘love at the first sight’. They
must be contemplated and planned dispassionately, and they call for a continuous process of
initiation and development. Statistics show that 70% of newly created strategic alliances decease
within one year of operation. This may not be as alarming as it sounds. Alliances, perhaps, are
supposed to be so. Strategic alliance is fundamentally informal to start with and will certainly
enjoy a cosy but flexible relationship. It is perfectly alright for the parties to decease the alliance
without costing them an arm or leg if the experience is not what was expected.
Figure 7.3 Continuous processes of alliance development
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As illustrated in the diagram, the starting point is the matching of the strategic intent of both
parties, which is based on their careful analysis and decisions in respect to the strategic choice
and supply chain configuration at a high level. The strategic intention of alliance can only become
the reality when the agreed alliance is implemented and put to practice.
But the implementation is usually facilitated, affected, or constrained by many factors (the 4 Cs,
in the model) including the whether the two parties have compatible goals, cooperative culture,
complementary skills and commensurate risks.
If all goes well the alliance is expected to produce some positive result through synergy; and they
are usually evaluate don the value-adding, efficiency and effectiveness, cost, and shred risks. The
evaluated results of the alliance will then be reviewed to see if they have met both parties’
strategic intentions. That completes the cycle of alliance development model.
It is anticipated that continuing success of the alliance will rely on the continuing process of those
described steps.
7.4 The Power of Partnership
Why do some strategic alliances succeed, while others fail?
Understanding the ways in which companies in a supply chain improve performance by forging
strategic links with other firms requires a close look at the nature of the relationships and how
the partners behave.
Strategic alliances have become a common feature of supply chains, with managers of companies
along the chain integrating their processes to enhance competitiveness.
Yet research shows that alliances do not guarantee success – and little is known about why some
strengthen the market position of the partners while others do not.
Evelyne Vanpoucke and Ann Vereecke set out to understand which aspects of an alliance are
more likely to deliver success. Their paper – “The Predictive Value of Behavioural Characteristics
on the Success of Strategic Alliances” – explores how behavioural features of an alliance – such
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as trust and commitment, and how partners communicate and manage the relationship – impact
performance.
Their research provides valuable insights into ways supply chain managers can structure their
partnerships to increase margins in complex markets.
7.5 Strategic Alliances: Collaboration as a Resource
Companies in a supply chain develop long-term co-operative relationships to achieve economies
of scale and share logistical capacities and thus cut costs while maximising services.
Integrating processes that allow for better communication, co-operation and the co-ordination
of production creates value for customers. Integration of this kind also helps firms become more
flexible, strengthening their position in markets where there are frequent changes in volume,
product mix and schedules.
However, past research has shown that merely integrating certain practices does not ensure that
an alliance will succeed. While scholars have examined the individual impact of various
behavioural characteristics within alliances – such as trust, interdependence, co-ordination and
commitment – they have not considered these in combination or alongside other aspects of the
relationship.
Suspecting that more fundamental factors may be at work in successful alliances, Vanpoucke and
Vereecke explored how a range of factors affect the success of alliances that are highly integrated
and in which the partners focus their efforts on coordinating logistics, purchasing and other
operations.
While past research has understood the performance of alliances in terms of the resources
deployed by the partners, this study stressed the value of collaboration between firms as a
resource in itself and how a proactive long-term view of a relationship can lead to closer co-
operative links.
7.6 Behavioural Characteristics and Results
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Vanpoucke and Vereecke examined how three important behavioural characteristics affect an
alliance’s performance: its underlying attributes, how the partners communicate, and how they
manage the relationship:
Attributes: The researchers predicted that success is influenced by:
Interdependence: Firms seek to manage uncertainty through interdependence, and
even though a company may not be in a position of power vis-à-vis its partner, it can still
influence performance.
Trust: A company needs to be able to rely on an alliance partner, and partners
demonstrate goodwill by being genuinely interested in each other’s welfare.
Commitment: A company’s commitment to an alliance can be measured by its
willingness to commit time, money and facilities to the relationship.
Co-ordination: Each party to an alliance will expect the other to perform in certain ways
if mutual objectives are to be achieved consistently.
Communication: The success of an alliance will also depend on how the partners handle
information, and, in particular, the degree of:
Sharing: Sharing knowledge about production and planning – but also about market
changes and company goals – is crucial if companies are to gain logistical (strategic?
long-term?) advantages from an alliance.
Processing and quality: Information shared between partners needs to be clear,
accurate, up-to-date, appropriate, precise, reliable, complete and exchanged frequently.
Participation: Companies need to plan and set goals jointly and should be willing to
discuss their practices and processes openly. In joint R&D projects, for example, partners
need to understand each other’s competencies and share information on technology.
Management: The ability of managers to move supply chain alliances forward is crucial
to success, and studies have demonstrated that leadership and performance
measurement can improve results.
The research team surveyed logistics and purchasing managers from a random sample
of Belgian companies with more than 50 employees in the primary goods, chemical,
pharmaceutical, consumer goods, media and informatics industries.
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The team asked the managers: ”What are the characteristics of the least successful and the most
successful strategic alliances?”
The results indicate that:
The principal attributes of an alliance – interdependence, trust, commitment and co-
ordination – are the key to its success, because they determine how the partnership can best
generate cost and service benefits;
Good communication in an alliance will help improve services;
While managing the alliance well helps reduce costs.
Practical implications: Clues to Success
The research results offer a way of predicting whether or not an alliance will succeed.
Because interdependence, trust, commitment and co-ordination (the main attributes of an
alliance) emerge from the study as the key factors in determining success, they are better
predictors of performance than other behavioural characteristics.
This suggests that building trust and coordinating activities are the cornerstones of a successful
supply chain alliance. Managers of the companies in an alliance need to ensure that their
employees understand that the arrangement offers their company significant benefits.
Although efforts to improve communication and apply management tools are of great value to
an alliance, they are less crucial. Good communication will benefit services because information-
sharing and high-quality data help companies detect supply problems or changes in demand,
allowing them to react or adapt faster and improve customer service. Applying management
tools such as leadership and performance measurement can help alliance partners reduce costs.
By offering insights into the role behavioural characteristics play in strategic alliances, this study
has practical implications for purchasing, logistics and customer-service managers within a supply
chain. The research indicates that:
Behavioural characteristics are important, so managers should not underestimate the
time and energy required to create and sustain a strategic alliance;
Both formal mechanisms (such as leadership and performance measurement) and
informal ones (such as trust and co-ordination) are needed for success;
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Purchasers will gain the most from strategic partnerships by focusing on all three
behavioural characteristics: alliance attributes, communication between partners, and
managerial skills;
Companies with limited resources can choose their focus according to whether they want
to reduce costs or improve services.
Depending on their priorities, managers can use these results to identify which elements
of an alliance need most attention and which practices are most likely to improve
performance.
7.7 Integrating the Supply Chain
The supply chain has always been about companies working together. These relationships have
always involved some degree of collaboration to solve bottlenecks in the supply chain and
overcome bumps in demand or supply. As Chris Newton, a senior research analyst with AMR
Research, notes, “Traditionally these activities have been very silo based, and not a lot of real
collaboration was going on.” The problem was that the interaction between the individual players
in the supply chain was primarily human-to-human. The speed with which information traveled
limited the utility of that information. Take for example, the shape of the supply chain with the
advent of the American Industrial Revolution. In those days (1930's) Ford and GM had to have
the total supply chain captured internally, essentially due to lack of communication and
connectivity. If others made products or performed services they needed, they could not find out
about it, or if they did, the costs associated with having outsiders provide the product or services
was much higher than they could replicate internally. With the advent of the telephone these
companies were able to move away from this centralised or internalised concept; thereby
allowing them to create a network. So, when the cost to do something internally was more than
doing it outside the company, they could more efficiently have it done outside. This started the
expansion of the supply chain.
As communication and Information Technology (IT) solutions became more common and user-
friendly from the 1960’s to the present, the FAX machine and computer enabled companies to
extend the reach of information at faster speeds. Coupling this with more efficient means of
transportation, goods were able to move greater distances at higher rates of speed. Increased
reach and speed of information and the physical flow of goods shortened inventory cycle times,
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as well as time to market. The supply chain was becoming more fluid, but was far from being
integrated.
Today, the Internet has allowed companies to move these functions to web-based networks
where clusters of businesses that typically do business with each other come together via the
connectivity of the Internet. Companies can collaborate and communicate with each other
through a single Internet interface. When all the participants in the supply chain become
connected electronically, allowing the unfettered flow of information, the supply chain becomes
fully integrated.
Utilising web-based technologies, companies are starting to integrate their supply chains in a
system-to-system manner, minimising the need for human contact, human data entry or any sort
of human involvement. Moreover, data can move in real-time and disparities in size of companies
are becoming less critical as software providers come up with solutions that allow small
companies to connect with large customers through the Web. While the applications to connect
companies with their trading partners are far from free, the Internet is a relatively inexpensive
medium, unlike a value-added network (VAN) that charges a per-transaction fee for data
transmission. e-Commerce is driving a revolution of the supply chain, as we have known it. With
processes that once took days or week now taking minutes to perform, the potential for cost
savings through improved efficiency is greater than ever. Fortuitously, e-Commerce solution
providers have come forward with new tools that enable supply chain participants the
opportunity to connect and collaborate via web-based networks. While analysts, consultants,
solutions providers and enterprises continue to debate how companies ultimately will integrate
those new tools into their operations and the shape of the supply chain of the future, there is a
consensus forming around one vision for the next-generation supply chain. The underlying theme
is connectivity. As a result, we are moving from production based supply chain to a fulfilment-
based model. In industrial age, production was the primary business activity. In the technology
age, fulfilment becomes the primary business activity. The trading networks that are set up turns
the chain upside down and creates a demand chain where customer orders drives the business
activity. Consequently, fulfilment of customer demand is the key. It is no longer about just tossing
the customer a product; it is also about improving customer relationships through better
customer service.
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7.8 Benefits of the Integrated Supply Chain
How the benefits of an integrated supply chain are perceived or even measured will largely
depend upon whether you are a supplier, customer or third party provider like a shipper. Or, it
may depend upon how you view yourself. An obvious benefit is reduction of inventories. Moving
from the source, hold, sell and supply mode of operation to the sell, source and supply mode. Or,
put another way, from “just in case” inventory management to “just in time” inventory
management. Better inventory management allows increased turns in the inventory cycle, which
reduces holding costs while increasing cash flow. By having better information and better access
to that information, customer service can be substantially improved by being able to make more
timely and accurate sales, replenishment and shipping decisions. Emerging technologies allow
trading partners to collaboratively plan, track orders through the fulfilment process, maximise
process efficiency based upon historical performance data and provide superior service to the
point of delivery.
Finally, process automation across the extended enterprise reduces the amount of manual
process and potential error. This removes the opportunity for incorrect data entry. Incorrect data
or information causes reliance upon confusing and contradictory information, which often leads
to customer dissatisfaction and disputes between trading partners. Not only does this reduce
cycle time, if it occurs repeatedly over time it is likely to cripple the very relationship that is the
heart of the business process. The companies that adopt the collaborative tools and processes
available today, and into the future, will find that the ultimate benefit of participating in a
networked supply chain is a significant competitive advantage over their competitors that do not
participate. In that case, supply chain integration does become the end game.
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Chapter 8: Challenges of Supply Chain Management
It is vivid that the paradigm of business management will soon be joined to the paradigm of
supply chain management. To precisely predict the future of supply chains is arduous. However,
what’s useful and predictive is to identify and explore some challenges that we better prepare
ourselves for.
There are presently many issues, conditions and evolutions that have led to present challenges
in supply chain management and many could be foreseen into the future.
8.1 Creating Customer Centric Supply Chain
Traditional supply chains have been developed from factory outwards so that the company’s
business model may be continued without major change. The management emphasis was on
how to ensure the production process could be most efficiently run and products could be most
cost effectively distributed. The marketing was to find the customer that fit to the products rather
than to make the products that fit to the market.
In today’s highly competitive global market place, the market favours whichever the supply chain
that satisfies them best. Therefore, the first challenge today is that the supply chain managers are
facing is to transform the supply chains from supplier-centric to customer-centric. The strategic
aim of the supply chains must be on the higher levels of customer responsiveness. The agility
rather than the cost becomes the key diver. The supply chains must be designed to get the
customer on the driving seat.
Coordination and operational integration of the supply chain members must be significantly
strengthened to counter balance the increased instability of market behaviour.
A culture change is anticipated towards the 21st Century supply chain management. This change,
already in progress, is expected to renovate the business model from supplier centric to customer
centric. The customer centricity idea represents a renewed paradigm that will have profound
implications through every aspect of supply chain management. Research shows that close
connectivity to customer will significantly improve supply chain effectiveness and market
performance.
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Traditionally, customer connection has been left to only small part of the supply chain. In the
traditional systems, the dealers and service/repair shops have most information about the
consumer. However, in future’s supply chain, more information is shared across the network.
Online communities, embedded systems, connected online configuration and ordering is paving
the way for future supply chain to have more information about consumers. It will also have better
intelligent analytics to produce and use the information. Across industries, demand planning with
customers in the centre will become a standard process for synchronising supply and demand.
Customer centricity also will play a pivotal role in customer collaboration on product innovation.
Already more and more supply chains support customer product configuration and specification,
and collaborate extensively with customers on product design.
There were many models for transforming the organisation to customer centric approach.
However, one that has persisted is the McKinsey 7S framework. It was developed in the early
1980s by Tom Peters and Robert Waterman. They were two consultants working at the McKinsey
& Company consulting firm. The basic premise of the model is that there are seven internal
aspects of an organisation that need to be aligned if it is to be successful.
Among the seven elements of McKinsey 7S framework, three are what they call the “Hard”
elements and four are “Soft” ones. The “hard” elements are easier to define or identify. The
management can directly influence them. These are strategy statements; organisation charts and
reporting lines; and formal processes and IT systems. The “soft” elements, on the other hand, can
be more difficult to describe, and are less tangible and more influenced by culture. However,
these soft elements are as important as the hard elements if the organisation is going to be
successful.
8.2 Dynamics in SCM
A very big challenge is how to survive the dynamics of the never ending supply chain evolution.
The future of supply chain will face unprecedented dynamics in terms of structural dynamics,
technological dynamics, and relationship dynamics.
Structural dynamics
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From a system dynamics point of view, the flow structure of a supply chain is a typical dynamic
system with lows and stock; there are feedbacks and delays. From managerial experience
perspective, it is even more so; there are fluctuations of demand, overproduction, high inventory,
capacity miss-match, backlogs of unfulfilled orders, delayed delivery and soon. The trouble is that
the supply structure is growingly more complex, and market volatility is set to increase too. There
is little doubt the dynamic behaviour of a supply chain is only to be exacerbated. A number of
factors are at play, which is continuously contributing to the increased structural dynamics.
The first factor is that business around the world is becoming more specialised, and they
become so rightly for their competitive advantages, utilisation of resources and returns
on investment. This trend is leading to more inter-connections of the specialised
operation in the supply chain networks. Specialisation gives rise to the need of
coordination in between. Thus increase the complexity of the system and more triggers
for dynamic changes.
The geographical expansion of supply chains around world also exacerbates the dynamic
behaviour, as the delays in logistics and visibilities are worsened. It has also brought in
the unstable factors such as different legal and financial systems, cultural and religious
conflicts, indigenous market related ethical issues.
The rapid growing environmental concerns around world have already started to reshape
the supply chains.
Not only the resourcing strategies, but also the production and logistics processes have felt the
significant impact. Carbon footprint has become the KPI for many supply chains across industries,
which they never heard of in just few years back. Consequently, the structure of the supply chains
will have to change.
Technological dynamics
Business and consumers have no doubt got great opportunities through the Innovation and
technology advancement. However, the transformation to new technologies can be a very
arduous and challenging process as it prompts series of dynamic changes to the supply chains.
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Competition in new technology advancement, desperate need of the new technology in the
supply base, pressure to upgrade the equipments are common directions in the changing
dynamics of technology.
Relationship dynamics
Many people believe the operating core of supply chain management is that of relationships with
the suppliers and buyers including the end consumers. Hence, the external business relationship
management for a company has become the centre piece of today’s and arguably the future’s
supply chain management. However the conceptual alignment of this conception the academic
as well as the practitioners’ circles has always been a quagmire, as there are many apparently
conflicting approaches towards managing the relationships.
It is now emerging, that no single existing relationship model so far can possibly serve all business
needs because of the underlying dynamism. There are basically two key dynamisms in the
relationship management, one is the portfolio dynamism and the other is longitudinal dynamism.
The portfolio dynamism addresses a portfolio different relationship approaches that fit to a
corresponding portfolio of business models. Thus, in often times, business will need to harness
with a number of different supply chain relationships to different suppliers based on product
categories, market segmentations, development strategies, and financial circumstances and so
on. The longitudinal dynamism addresses the changing relationship posture along the time
continuum. In this way the relationship management becomes a powerful instrument to achieve
the supply chain responsiveness and supply chain agility. It is anticipated that the future supply
relationship management will hinge on a combined approach that addresses both the portfolio
and longitudinal dynamisms.
Surviving the supply chain dynamics
The Triple-A supply chain model proposed by Professor Hau Lee (2007) from Stanford University
is a useful blueprint to survive the supply chain dynamics.
Lee said that he had studied in-depth the supply chains of more than 60 companies from around
the globe.“ All those companies…at greater speed and cost-effectiveness – the popular grails of
supply chain management,” Lee wrote. “Of course, companies’ quests changed with the industrial
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cycle. When business was booming, executives concentrated on maximising speed, and when the
economy headed south, firms desperately tried to minimise supply chain costs.”
But then Dr. Lee offers this provocative statement: “Companies whose supply chains became
more efficient and cost-effective didn’t gain a substantial advantage over rivals.” In fact, Lee says
that often, the supply chain performance of those companies deteriorated.
Why? Because high-speed, low-cost supply chains are unable to respond to unexpected changes
in supply and demand.
Lee says that what matters more are three other attributes – the “triple-A’s” of agility, adaptability,
and alignment.
Agility: I don’t think hardly anyone would dispute that each year, markets, supply and demand
are becoming more dynamic and volatile.
Many companies, he says, play off speed against cost, but the winners respond both quickly and
cost efficiently.
Of course, this is especially true for the increasing number of industries bedeviled by increasingly
shortened product lifecycles, where slowness of response versus rivals can deliver an often fatal
blow to the product line or even the entire company.
Lee equates “agility” with being able to respond rapidly to changes in supply, demand, market
conditions, etc. It is, in a sense, similar to the notion of “sense and respond” that is increasingly
driving the strategies of supply chain leaders. (See Time to Integrate Supply Chain Planning and
Execution.)
So how do you get there? Lee offers six principles:
1. Improve connections with partners to share changes in supply and demand more quickly
(harking back to his seminal work previously on “the Bullwhip Effect”);
2. Improve collaboration with suppliers on product design;
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3. Increase use of postponement strategies to delay adding value or differentiation as late
as possible in the supply chain process.
4. “Bulk up” a bit more on small, inexpensive components that often cause supply chain
bottlenecks;
5. Build more flexibility into logistics systems that can react to disruptions, using third
parties as appropriate;
6. Build a small team that is skilled in enacting contingency and back-up plans.
Adaptability: Agility can be thought of as relating to fairly short-time horizons. Adaptability, on
the other hand, has a more strategic orientation.
Leading companies “keep adapting their supply chain networks so they can adjust to changing
needs [and I would add “strategies],” Lee writes. “Adaptation can be tough, but it’s critical in
developing a supply chain that delivers a sustainable advantage.”
In addition to short-term fluctuations to supply, demand and product lifecycles, markets
themselves are constantly changing, and more rapidly than before, especially with the global
economy. The supply chain strategies and networks that once served the company well can soon
become obsolete as the market shifts occur.
“The best supply chains identify structural shifts, sometimes before they occur, by capturing the
latest data, filtering out noise, and tracking key patterns,” Lee says.
Alignment: Perhaps the toughest dimension.
“Great firms take care to align the interests of all the firms in their supply chain with their own,”
Lee says. “If any company’s interests differ from those of the other organisations in the supply
chain, its actions will not maximise the chain’s performance.”
That can happen even within a company, of course. Lee says that in one point in the early 1990s,
HP’s chip division went on a very low inventory strategy, which lengthened lead times. That
impacted even its own internal customer, the printer division. As a result, the printer division kept
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high inventories as a buffer, when it would have been less expensive for HP as a whole to keep
more chip inventory than the more expensive printers.
Of course, getting this cross supply chain is not easy and, from my view, rarely done in any
meaningful way. Toyota is one example of a company that is thought to practice this approach,
but it’s hard to find many other examples. Lee says printer RR Donnelly encourages paper and
ink suppliers to innovate and shares any resulting savings with them.
Lee says that failure to reconcile these conflicting interests is a key reason the Vendor
Management Inventory (VMI) programs fail to work, when VMI could really be a key strategy to
reduce total supply chain costs.
So, how are the challenges of alignment overcome? First, you start with alignment of information,
“so that all companies in the supply chain have equal access to forecasts, sales data, and plans.”
Second, the channel master needs to more clearly define supply chain “identities” – in other
words, making very clear the roles and responsibilities of each partner in a way that minimises
conflict.
Third, set up the relationships so that when any one company tries to “maximise returns, they
also maximise the supply chain’s total performance.” Companies must try to understand and
predict how partners will react given current incentives, and make changes to get better
alignment to overall supply chain goals.
8.3 Current issues in SCM
Strategic insights
Earlier purchasing was wedded to routine in many companies. For the last two decades though,
no company can allow purchasing to lag behind other departments in adjusting to worldwide
changes (Kraljic, 1983). The recognition of the SCM as a key and vital area, both in the private
and public sectors, has focused attention on its effectiveness. In a number of organisations, cost-
effective supply chain is a matter of survival as purchased goods and services account for up to
80 per cent of sales revenue (Quayle, 2003), while in the public sector there is an ever-increasing
demand for savings in the procurement process (Groznik et al., 2008).
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However, there is (in line with the contingency theory) no single best way of organising/leading
the supply chain that is effective in all situations and there is no universal set of choices that is
optimal for all SCs (adapted from (Fiedler, 1964), (Gingsberg & Venkatraman, 1985)). In order to
optimise the SC the following five configuration components are critical: operations strategy,
outsourcing strategy, channel strategy, customer service strategy and asset network Cohen &
Roussel, 2005). The four main approaches towards production are make to stock, make to order
(see e.g. (Gunasekaran&Ngai,2005) for a comprehensive review of make to order SC challenges),
configure to order and engineer to order (Cohen & Roussel, 2005) – they considerably affect the
correct strategy.
One of the main consequences of the lack of information exchange/coordination in the chain is
the so-called bullwhip effect, which was first theoretically described in the 60s (Forrester, 1961)
and practically in the 80s with the case of Pampers diapers. The fluctuation of demand namely
increases as we move up the supply chain; small fluctuations at the end of the chain can be
propagated to considerably larger fluctuations for e.g. the original equipment manufacturer. The
main reasons for bullwhip are (Chopra & Meindl, 2007):
Rewards system local optimisation employees rewards
Information processing lack of information planning on the base of the orders not final
customer demand
Barriers lot sizing long lead-times
Pricing policy price fluctuation quantity discounts another important decision is whether
push or pull system should be used. The Figure 1 shows the percentage of companies in
various industries that use different strategies.
Figure 1: Operations strategies by industry: Source: (Cohen & Roussel, 2005)
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8.4 Business renovation in SCM
After successful strategy preparation, companies have to identify areas of possible improvement
in quality of product or service, lead times or operational costs. This step takes an integral view
of all organisations involved into the supply chain in order to renovate their operations towards
supply chain excellence. Business Renovation (BR) or business process renovation and
informatisation efforts integrate the radically strategic method of Business Process Re-
engineering (BPR) and more progressive methods of Continuous Process Improvement (CPI) with
appropriate IT infrastructure strategies. BPR is a thorough re-engineering strategy that critically
examines current business policies, practices and procedures, rethinks them and then redesigns
the mission-critical products, processes and services (Prasad, 1999). BPR seeks improvements by
elevating efficiency and effectiveness of the business process that exist within and across
organisations. On the opposite, CPI refers to minor and specific changes that one makes in an
existing business process (Harmon, 2003). CPI relies on building a fundamental understanding of
customers‟ requirements, process capability, and the root cause of any gaps between them by
developing culture of continuous improvement in the areas of reliability, process cycle times,
costs in terms of less total resource consumption, quality, and productivity. Six Sigma and Total
Quality Management (TQM) are examples of approaches to CPI. BR argues for a balanced
approach between radical changes and continuous improvements. Table 1 summarises
comparison of BPR, TQM and Six Sigma on the basis of goal, level of change, scope, focus and
other characteristics.
According to Jacobson (Jacobson, 1995), we view business renovation as an umbrella concept for
strategic IS planning, and both BPR and CPI since thorough and effective renovation should
combine both, radical shifts (BPR) with those that permanently increase business efficiency and
effectiveness (CPI).
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Since direct changes can have a detrimental result, companies develop business models (Kovacic
et al., 2001). A business model is an abstraction of a business that shows how business
components are related to each other and how they operate. Its ultimate purpose is to provide a
clear picture of the company’s current state and to determine its vision for the future. There are
several reasons producing business models (Eriksson & Penker, 2000):
A business model helps us understand the business: one of the primary goals of business
modelling is to increase understanding of the business and to facilitate communication
about the business.
A business model is a basis for creating suitable information systems: descriptions of the
business are very useful in identifying the information systems necessary to support the
business. Business models also act as a basis for engineering requirements when a
particular information system is being designed.
A business model is a basis for improving the current business structure and operation:
as it shows a clear picture of the business current state, a business model can be used
to identify the changes necessary to improve the business.
A business model provides a polygon for experiments: a business model can be used to
experiment with new business concepts and to study the implications of changes for the
business structure or operation.
A business model acts as a basis for identifying outsourcing opportunities: using a
business model the core parts of a business system can be identified. Other parts
considered less important can be delegated to external suppliers.
Table 1: Comparison of BPR, TQM and Six Sigma
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The main purpose of developing and analysing business models is to find revenue and value
generators inside a reversible value chain, or a business model's value network. An example of
AS-IS and TO-BE process models are shown in Figures 2 and 3 (developed on a case of a company
in oil industry).
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8.5 Supply chain risks
The risk of disruptions caused by both factors within SC and outside environmental forces is a
topic of increased importance. Supply chain risk management is therefore a field of escalating
importance and is aimed at developing approaches to the identification, assessment, analysis and
treatment of areas of vulnerability and risk in SCs (Neiger et al.). Various trends that enhance
exposure to risks, such as the increased use of outsourcing, globalisation, reduction of the
supplier base; reduced buffers, increased demand for on-time deliveries or shorter product life
cycles (Norrman & Jansson, 2004) are increasing the importance of SCRM. The sources of risks
can be from suppliers‟, customers‟ or internal environment shown in the figure below:
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The recently developed model (shown in Figure 5) sheds more light on the prediction of
suppliers‟ connected risks. It is based on the premise that different suppliers (and their second
and third tier suppliers) operate in different markets and environments; therefore their turbulence
and the forces influencing a supplier also differ. While a certain supplier strategy (e.g. ordering
large batches to decrease procurement costs or single-source suppliers with long contractual
commitments) may be acceptable in a non-turbulent environment, it may be detrimental in a
more turbulent one (e.g. in the presence of quick technological advances such as microprocessors
or large commodity price swings). Considering all of this, the same supplier attributes, strategy
and structure may pose considerably different risks of disruption. Therefore, a comprehensive
approach to SCRM has to include supplier-associated turbulence as well as various sources of
uncertainty due to supplier attributes such as strategy, structure and performance.
In order to distinguish between the different kinds of risks, the sources of uncertainty were
separated into two different constructs:
endogenous uncertainty: the source of uncertainty/risk is inside the SC and can lead to
changing relationships between focal firm and suppliers, the most notable kinds are
market and technology turbulence. Market turbulence is likely to arise from the
heterogeneity and rapid changes in the composition of customers in the market and their
preferences. It means continuous changes in customers‟ preferences/demands, in
price/cost structures, and in the composition of competitors. Technological turbulence
refers to the degree to which technology changes over time within an industry and the
effects of those changes on the industry. Technological turbulence arises from changes
in the underlying technologies of products or services and their rates of obsolescence.
Technical dynamics includes how fast the related technology is changing, as well as
breakthroughs in the manufacturing process, and mass production techniques (Hsu &
Chen, 2004);
exogenous uncertainty: the source of uncertainty/risk is from outside the SC. These risks
are further divided into the two most notable kinds; namely discrete events (e.g. terrorist
attacks, contagious diseases, workers‟ strikes) and continuous risks (e.g. inflation rate,
consumer price index changes).
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The current approaches only offer a limited estimation of the risk of supplier non-performance.
The proposed approach (see (Trkman&McCormack, 2009a) for more details) enables the
estimation of the risks and helps the company to make a more informed decision as to how much
risk it is willing to take and which risks will it mitigate (either with dual/multiple sourcing or with
the change of supplier).
Dual sourcing is namely an important topic – while it may increase the costs due to activities
connected with supplier search and qualification it can considerably decrease the costs of supplier
non-performance or even bankruptcy (see e.g. (Sheffi, 2001), (Wang & Zhao, 2007)).
8.6 Supply chain frameworks and standards
In order to streamline businesses and bridge the supply chain risks, different frameworks and
standards (SCOR, GS1, MMOG/LE, ISO 9001, ISO 14001, BS OHSAS 18001, BS 25999, ISO/IEC
27001, etc) have been developed. The organisations are facing the challenge which one to
implement and to what extent. The adoption of frameworks and standards causes standardisation
of business operations that is in contradiction with agile supply chain strategies and lean business
models. From the business model point of view the most relevant is the Supply-Chain Operations
Reference (SCOR) model that was developed by the Supply-Chain Council (SCC) to assist
organisations in increasing the effectiveness of their supply chains, and to provide a process-
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based approach to SCM (Stewart). The SCOR model (Figures 6 and 7) provides a common process
oriented language for communicating among supply-chain partners in the following decision
areas: PLAN, SOURCE, MAKE, DELIVER and RETURN.
SCOR is a top-down analytical method that help organisations break out of the box and see
where they fit into the SC. SCOR provides three-levels of process detail. Each level of detail assists
a company in defining scope (Level 1), configuration or type of supply chain (Level 2), process
element details, including performance attributes (Level 3). Below level 3, companies decompose
process elements and start implementing specific supply chain management practices. It is at this
stage that companies define practices to achieve a competitive advantage, and adapt to changing
business conditions (Figure 7).
As a framework it also facilitates inter and intra supply chain collaboration, horizontal process
integration, by explaining the relationships between processes (i.e., Plan-Source, Plan-Make, etc.).
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It also can be used as a data input to completing an analysis of configuration alternatives (e.g.,
Level 2) such as: Make-to-Stock or Make-To-Order. SCOR is used to describe, measure, and
evaluate supply chains in support of strategic planning and continuous improvement.
Although SCOR framework is widely used it has limitations that have to be taken into account.
Cases in literature (Wang et al., 2005) show that limitations for applying SCOR in improving
current inter firm processes regarding graphical presentation, „gaps‟ identifying, and none-
defined business activities that are summarised below:
SCOR can only present business flow in between legal or geographical entities but not
any matrix organisation structure or the concept of „virtual enterprise‟.
SCOR is limited to the presentation of one single supply chain while most of the
enterprises may be associated with multiple channels of markets and products.
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The KPI of SCOR is not always available in the target firm, particular when it involves with
cross-sites information.
Problems sometimes cannot be identified by KPI gaps such as information systems
readiness. Some essential activities are not defined in SCOR standard, for example,
Demand up-size and down-size from order changes, e.g., emergent orders or order
cancelling.
The activities of collaborative design and customer relationships management are not
defined in SCOR.
Researching the link between frameworks or standards and supply chain performance is scarce.
Lockamy & McCormack (Lockamy & McCormack, 2004) have studied the link between SCOR
planning practices and supply chain performance and shown that the supply chain planning
practices related to process integration, collaboration, teaming, process measurement, process
documentation and process ownership have been shown to be important to supply chain
performance, but lack broad implementation by supply chain partners. This suggests that
integrated supply chain management may be more difficult to operationalise in practice than the
popular supply chain press or consultants would have one to believe.
This study also suggests is that some of the best practices proposed as mechanisms for improving
overall supply chain management performance may not have the degree of impact often
presented in the literature. Some best practices help to improve supply chain performance only
in specific decision areas.
8.7 Performance measurement in SCM
A well-known-saying is that: „You Can‟t Manage What You Can‟t Measure‟. Therefore all
frameworks and research efforts emphasise the importance of performance measurement. Before
investigating different performance measures it is important to note that performance measures
have to be closely connected with strategy, business model and also the objectives of a
company/SC. This connection is also shown in Figure 8.
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The starting point for performance measurement is that the metrics should:
be directly related to the manufacturing strategy,
primarily use non-financial measures,
vary between locations,
change over time, as needs change,
be simple and easy to use,
provide fast feedback to operators and managers,
be intended to foster improvement rather than just monitor (Persson&Olhager, 2002).
Performance measurement focuses on two connected but still separable areas, namely the
measurement of performance of each supplier and the measurement of supply chain as a whole.
The classic metrics for supplier performance measurement are replenishment lead time, on-time
performance, supply flexibility, delivery frequency, quality, viability, information coordination
capability etc. (Chopra &Meindl, 2007). According to the recent survey the most important
measures are quality of delivered goods, on time delivery and flexibility of supply (Gunasekaran
et al., 2004).
Since balanced scorecard (Kaplan & Norton, 1996) is in general one of the most widely used
models for performance measurement its application to supply chain area has also been
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proposed. Such an example is presented in (Park et al., 2005) who derived the objectives for SCM
from financial, customer, business process (both internal and external) and learning and growth
perspective. As shown performance measurement is closely connected with process renovation
outlined in the previous section (see e.g. (Theeranuphattana& Tang, 2008) as an example of
performance metrics for each of the supply chain processes.
Different performance measures can also be used at various decision areas of the SCOR model;
for example supplier delivery performance and purchase order time are suitable metric for
“SOURCE” while utilisation of resources or percentage of defects are more relevant for “MAKE”
phase (see e.g. (Gunasekaran et al., 2004) for more details). The review of customer and internal
facing metrics is also shown in Figure 9.
One of the increasingly popular approaches for both measurement of effectiveness and
prediction of changes due to renovation of supply processes is the use of simulations. They
enable the preparation of the models of current and desired state (Caridi et al., 2004) and can be
used to estimate the risks of different events (Cho & Eppinger, 2005). In connection with business
process modeling they can be used to compare different configurations of business processes
(Roeder & Tibken, 2006). Figure 10 shows the analysis of different scenarios (with the increasing
use of e-procurement) and the consequent changes in lead times.
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8.8 Supply chain informatisation
Final issue in SCM is supply chain informatisation which is by far an easy task. Information
technology is an important enabler of effective supply chain management. Much of the current
interest in SCM is motivated by the possibilities that are introduced by the abundance of data
and the savings inherent in sophisticated analysis of these data (see e.g. (Davenport, 2006) for
several successful case studies). SC must move from mere cooperation and coordination to true
collaboration which requires a foundation of trust and commitment. According to Ruppel
(Ruppel, 2004) core issues of SC informatisation are:
ability to secure since trust is important from relationship point of view. From
technological point of view a company can attempt to protect itself from exploitation
while maintaining an open collaborative system by its ability to secure SCM systems.
return on investment (ROI) which is a panacea oversold by vendors (Krizner, 2002).
According to Nickles (Nickles, 1999), ROI may not be the correct indicator when
technology whose purpose is to facilitate relationships is applied. ROI could be applied
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in case of technology that reduce internal costs. The recent slowing down of the economy
has led to a renewed emphasis on the use of ROI assessment.
cost/affordability relative to budget is related to but not the same as ROI. Even if a tool
has the potential for a high rate of return, if an organisation cannot afford the costs
involved in purchasing and implementing the tool they cannot gain the potential
benefits.
fit with business user needs is key to successful technology introduction. It has often
been suggested that technology should not be implemented merely for technology’s
sake, but rather to meet specific business need. SCM informatisation should meet the
needs of business users, while still being compatible with existing systems. Matching or
aligning of users‟ business needs with technology should be a threshold criterion to
ensure appropriate technology choices.
The innovative opportunities coming to the fore with e-business have increased the interest in IT.
From technological perspective SCM spans over internal as well as external systems, which
facilitates information transfer between various organisations. In addition, SCM typically includes
many functional areas within an organisation and is affected by the way the various groups
communicate and interact.
According to Simchi-Levi (Simchi-Levi et al., 2000) ultimate goals (Figure 11) of IT are to collect,
access and analyse information. In practice that SCM systems have to:
collect information on each product from production to delivery or purchase point and
provide complete visibility for all parties involved,
access any data in the system from single-point-of-contact,
analyse, plan activities, and make trade-offs based on information from the entire supply
chain.
In order to achieve these goals, major issues (Figure 11) in informatisation are standardisation,
infrastructure e-business, supply chain components and integration. Standardisation is vital for
IT since it allows systems to work together and is a key feasibility factor of SCM implementation.
Infrastructure is a basic component of system capabilities without which some of the goals cannot
be achieved. E-business is an emerging area of business conduct that provides cost-effective way
of SCM. Supply chain components are various systems that are involved directly in supply chain
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planning. These are typically systems that combine short-term and long-term decision support
system elements.
The goal of SCM software is to increase flows through collaboration. However, increasing
collaboration is not merely a matter of making a tool available. Participants must be encouraged
to use the tool share information to make its use effective. Ruppel (Ruppel, 2004) compared
adoption of three information technologies (i.e. group decision support systems, EDI and e-
business) that can be used to improve information flows and the factors that affect their adoption
and use. Comparison indicates that the decision to adopt one of these technologies does not
guarantee its effective use. Those who wish to champion the use of tools have a complex task to
perform not just to foster adoption, but also to encourage successful implementation.
The real challenge of implementation is bridging the gap between IT, process and performance
view (Figure 12). According to Gun Kim Byoung et al., 2008) business processes are key integrator
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providing performance-process-IT relation to elicit the actual impacts. To connect the
performance with IT, business processes are acted as mediators between them. Linkage could be
explained via reliance level of a business process that corresponds to the allied IT system.
Peter Trkman and AlešGroznik (University of Ljubljana, Faculty of Economics, Slovenia), have
addressed in their paper and tackled a vital challenge to provide a comprehensive review of
several inter-connected challenges in supply chain management. Only continuous efforts in each
of the mentioned areas assure efficiency and success. Nevertheless, optimal decision making is
not possible since the choice set is too complex and generally unknown, due to the large number
of possibilities and uncertainties.
Therefore SCM optimisation involves a small number of choices at each step of exploration (Lee
& Ahn, 2008).
Global supply chain issues
Supply chains that involve suppliers and/or customers in other countries are referred to as global
supply chains. The introduction of electronic commerce made it much easier to find suppliers in
other countries (e.g., by using electronic bidding for RFQ, see Chapter 6). Plus, it is much easier
and cheaper to find customers in other countries.
Global supply chains are longer and may be very complex. Therefore, information needs to flow,
sometimes in different languages and subject to different regulations. Information technologies
are found to be extremely useful in supporting global supply chain.
Typical problems along the Supply Chain
Supply chains can be very long, involving many internal and external partners located in different
places. Both materials and information flow among several entities, and especially when manually
handled can be both slow and error prone.
Supply chain problems have been recognised both in the military and in business operations for
generations. These problems caused some armies to lose wars and companies to go out of
business. The problems are most apparent in complex or long supply chains and in cases where
many business partners are involved.
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Specific problems along the supply chain
The problems along the EC (Electronic Commerce) supply chain of the toy retailers and other
companies stem mainly from uncertainties, and from the need to coordinate several activities
and/or internal units and business partners.
The major source of the uncertainties in EC is the demand forecast, which may be influenced by
several factors such as consumer behavior, economic conditions, competition, prices, weather
condition, technological development, customers’ confidence and more. As we will show soon,
companies attempt to achieve accurate demand by using methods such as IT-supported
forecasts, which are done with business partners. Other uncertainties exist in delivery times which
depend on many factors ranging from machine failures to roads conditions. Quality problems of
materials and parts may also create production time delays, and a labor strike may interfere with
shipments.
Several other possible factors may create supply chain problems (see Ayers [2000] for details). A
major symptom of poor SCM is poor customer service - people do not get the product or service
when and where needed, or they get it in poor quality. Other symptoms are high inventory costs,
interferences with production or operation, loss of revenues, and an extra cost of special and
expedited shipments.
Pure EC (Electronic Commerce) companies are likely to have more problems because they do not
have a logistics infrastructure and are forced to use external logistic services. This can be both
expensive, plus it requires more coordination and dependence on outsiders who may not be
reliable. For this reason large virtual retailers such as Amazon.com and eToys are developing
physical warehouses and logistics systems.
Solutions to supply chain problems – an overview
Supply chain problems have existed in military organisations for thousands of years and in
industrial organisations since the beginning of the industrial revolutions. Solutions to these
problems have existed for generations. However, with the arrival of the information and Internet
revolutions, new and very effective solutions had to be developed.
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Preliminaries
The solutions to supply chain problems, regardless if they are online or offline, involve a
combination of tools and techniques, some of which are manual while others are IT supported.
The theory and practice of supply chain problem resolution is beyond the scope of this book. The
interested reader should refer to Handfield and Nichols [1999], Ross [1998], Chase et al., [1998],
and Gattorma [1998]. In this chapter we will present only a few interesting EC-related solutions.
However, before we present these solutions, it is worthwhile to list some generic activities that
must precede IT or EC solutions, or must be done concurrently with them.
Most organisations are simultaneously members of multiple supply chains. Work in any
chain may impact others. So it is necessary to look at all the major ones simultaneously.
Understanding of each major chain is a must. Using flow charts and process maps
(software is available) is recommended.
Both internal and external portions of the chains must be studied.
The performance of existing supply chains need to be measured and compared in order
to find problems (opportunities). Benchmarking is recommended.
Supply chain performance is measured in several areas including: customer service and
satisfaction, cycle times, delivery, responsiveness, cost, quality, products (services)
offered, and assets utilisation.
The supply chain may require business processes reengineering (BPR) before a software
solution is attempted. (See ch.3, in Handfield and Nichols [1999].)
It is essential to develop and maintain relationships with business partners and with key
employees in these organisations (See Chapter 4 in Handfield and Nichols [1999].)
Opportunities for SCM improvements exist in several places along the supply chain. Potential
candidates include:
Manufacturing processes
Warehousing operation
Packaging and delivery
Material inspection/receiving
Inbound and outbound transportation
Reverse logistics (returns)
In-plant material handling
Vendor management program
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Customer order processing
Invoicing, auditing and other accounting activities
Collaboration procedures with partners
Employee training and deployment
Labour scheduling
Use of teams and empowerment of employees
Automation of processes
Use of software for facilitating all the above
Inventory management and control
Let’s examine inventory management in more detail.
Using inventories to solve supply chain shortages
A most common solution in the offline world is building inventories as an ‘insurance’ against the
uncertainties. This way products and parts flow smoothly. The main problem with this approach
is that it is very difficult to correctly determine inventory levels, which must be done for each
product and part. Furthermore, if the finished products are customised, as in some EC situations
(e.g., Dell computers), one cannot have an inventory of finished goods; only components can be
stocked. If inventory levels are set too high, the cost of keeping the inventory will be very large.
If the inventory is too low, there is no sufficient protection against high demand or slow delivery
times, and consequently revenues (and customers) may be lost. In either event, the total cost,
including opportunities and reputation lost, and bad reputation, can be very high.
Proper SCM and inventory management requires coordination of all different activities and “links”
of the supply chain so that goods can move smoothly and on time from suppliers to customers.
This keeps inventories low and cost down. The coordination is needed since supply chain partners
depend on each other but don't always work together toward the same goal.
To properly control the uncertainties mentioned earlier, it is necessary to identify and understand
the causes of the uncertainties, determining how uncertainties will affect other activities up and
down the supply chain, and then to formulate ways to reduce or eliminate the uncertainties.
Combined with this is the need for effective and efficient communication among all business
partners. To do the above effectively and efficiently, we need to use information technologies as
the major enabler.