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Supply Chain Management: A Strategic Perspective

Learning Objec ves A er comple ng this chapter, you should be able to:

Define supply chain management. Explain the consequences that occur when informa on is not shared, and describe some of the informa on that can be shared in a supply chain. Discuss various op ons in supply chain structure. Compare insourcing, outsourcing, and ver cal integra on. Compare agile supply chains to lean supply chains. Discuss the impact of e-commerce on supply chain management. Explain how ERP facilitates e-commerce.

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Describe some supply chain performance measures. Discuss global issues in supply chain management.

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Apple is the focal firm in its supply chain. A focal firm is the most important organiza on in the supply chain and the firm that o en interfaces with the final consumer.

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5.1 Foundations of Supply Chains

The term supply chain is commonly used to refer to the network of organiza ons that par cipate in producing goods or providing services. A supply chain encompasses all ac vi es associated with the flow and transfer of goods and services, from raw material extrac on through use by the final consumer. The ac ons of the par cipants in the supply chain are coordinated by the focal firm, which directs the flow of informa on much like a conductor coordinates the ac vi es of an orchestra. The be er the focal firm is at moving informa on among par cipants, the be er the supply chain will perform. The focal firm is o en, but not always, the firm that interfaces with the final consumer. The focal firm designs and manages the supply chain by selec ng suppliers. For example, Apple is the focal firm in its supply chain. Apple is primarily a product design and marke ng focused firm with no manufacturing ac vi es, yet it is the focal firm because its brand dominates the market. There are also cases where the most important firm does not sell directly to the consumer. For example, the oil industry is shi ing from a model in which one firm owns the oil fields, pipelines, refineries, and retail gasoline sta ons to a model in which independent companies operate the retail opera ons. Bri sh Petroleum, commonly known as BP, has been reducing the number of retail outlets in the United States for several years. In this example, the company that owns the refinery and the oil fields is the focal firm because it controls the key resource in the supply chain.

A supply chain may be contained within a single organiza on as shown in Figure 5.1. Exxon Mobil owns oil fields, refineries, distribu on networks, and retail gasoline sta ons that deliver fuel to the consumer. Owning mul ple assets in a supply chain is called ver cal integra on. The more assets a company owns, the greater the degree of ver cal integra on.

Figure 5.1: Example of a ver cally integrated internal supply chain

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Traditional Supply Chains

In most cases, different companies own the assets in a supply chain as shown in Figure 5.2. For example, suppose a consumer purchases a DVD player from a retailer. The retailer obtained that DVD player through a distributor, which originally purchased the player from the manufacturer. All of those different companies, as well as the consumer, are part of the supply chain. However, the supply chain does not end there. The manufacturer purchased component parts from various er 1 suppliers, who have purchased materials from er 2 suppliers, such as companies that produce the chemicals for making plas c. Finally, those er 2 suppliers could have also purchased the raw materials to make those chemicals from er 3 suppliers who extract petroleum from the earth. The supply chain also includes companies that move these items, such as trucking companies, railroads, and shipping companies, as well as warehouses or distribu on centers where items may be temporarily stored during movements within the supply chain. Logis cs involves managing the movement of materials and components from point to point in the supply chain.

Figure 5.2: Example of an external supply chain

In addi on to materials, informa on flows through a supply chain. If a DVD player model is selling extremely well and the retailer wants to stock more of them, then that retailer provides informa on to Processing math: 0%

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the distributor to ship more of that model. The distributor informs the manufacturer to make more, and the manufacturer no fies its suppliers to provide more of the component parts. Ideally, the informa on would be shared with the en re supply chain simultaneously, not only those companies with which each member deals directly. Taking ac ons to have all members of the supply chain work together, coordinate their ac vi es, and share informa on is known as supply chain management.

When it is necessary to return defec ve products to the manufacturer for repair or replacement, the process is known as reverse logis cs. Reverse logis cs includes efforts to reuse and recycle materials. In Europe, the role of reverse logis cs is being expanded beyond tradi onal recycling. The no on is that manufacturers who create a good are responsible for it at the end of the product's useful life. This requires that producers of goods have a vested interest in crea ng designs, selec ng materials, and using manufacturing processes that facilitate recycling. Because firms are responsible for the end-of-life recycling cost, they will make decisions that lower the cost of recycling. There is no legal requirement for companies to do this in the United States, but the idea of designing to facilitate recycling is sound.

Walmart, Dell, Toyota, and The Home Depot have fine-tuned their supply chains to provide a strong compe ve advantage in terms of service and price. This chapter discusses how these companies and others have used supply chain management to their advantage.

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Globaliza on allows products and services to reach all corners of the world and results in increased compe on. Few companies have been as successful at globalizing their brands as Coca-Cola.

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Wal-Mart Manages Logis cs; The Age of Wal-Mart: Inside America's Most Powerful Company

5.2 Overview of Supply Chain Management

Tradi onally, each company in a supply chain acted in its own best interests, not those of the en re supply chain. Informa on was not adequately shared among members of the supply chain. Only limited informa on was shared between a company and its immediate suppliers and between that company and its customers. As a result, important decisions including how much to produce, store, and move along the supply chain were based on local condi ons rather than what was best for the supply chain. Several factors have emerged that encourage companies to adopt supply chain management as part of their compe ve strategy. Those factors are:

Increasing globaliza on More intense compe on Shorter product life cycles Developments in informa on technology and data communica on

Globaliza on has led to new markets, but also to more companies producing and selling compe ng products—Toyota sells cars in the United States, Intel sells computer chips worldwide, Goldman

Sachs provides financial services in the United Kingdom, and Caterpillar sells construc on equipment in China. These are but a few examples of the increase in global compe on and global trade since the 1960s. Established markets have become more compe ve as companies iden fy new ways of winning market share through process improvements that lower cost, improve product performance, and increase product quality. Some firms have opted to increase market share by introducing new products. As firmsProcessing math: 0%

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Wal-Mart Manages Logistics From Title: The Age of Wal-Mart: Inside America's Most Pow... (https://fod.infobase.com/PortalPlaylists.aspx?wID=100753&xtid=39101)

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introduce new products and their compe tors respond, market change accelerates and product life cycles become shorter. This means that new products must be profitable quickly and pay the needed return on investment in less me than prior products. Be er supply chain management is one way to do this. Informa on and communica on technologies have opened up new ways of buying and selling through the Internet and mobile devices. This has also allowed companies to obtain and disseminate informa on much more rapidly than before, thereby providing the consumer

with more informa on—not just price and features, but availability, delivery op ons and ming, service a er the sale, repair services, and more.

Because of these changes, companies have been forced to be more compe ve. Supply chain management can make a company more compe ve by coordina ng all supply chain ac vi es to ensure that the customer obtains the desired product at the desired me for a compe ve price. Companies should work together to minimize costs over the en re supply chain, thus benefi ng all the members. Supply chain management is the integrated coordina on of all components of the supply chain—from raw materials to the final customer—so that informa on and materials flow smoothly.

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5.3 The Role of Information Sharing

Tradi onally, limited informa on has been shared between adjacent supply chain pairs. For example, a retailer may order a certain number of units from a distributor, informing the distributor only of the number of units wanted at that me and when those units should be delivered. Very li le informa on, such as expected future changes in demand, would be shared between the retailer and the distributor. The small amount of informa on that was shared would be shared only by those two members of the supply chain. This limited approach to informa on sharing does not op mize the performance of the supply chain, and can even lead to detrimental results such as the "bullwhip effect."

The Bullwhip Effect

The bullwhip effect is an example of what can happen when informa on is not fully shared in a supply chain or when forecasts are updated, causing an unan cipated shi in expected demand. This effect is further complicated by batching orders that concentrate demand at one point in me, price fluctua ons that change demand, and a empts to ra on product or otherwise game the system. The bullwhip effect is caused when a retailer experiences a slight increase in demand and increases its order quan ty to avoid running out of a product. The distributor also no ces the increased order from its customer (the retailer) and, also to avoid running out, increases its order to the factory by a larger amount. The factory, in turn, will further increase its orders to suppliers of raw materials. The end result is that a slight increase in demand at the retail level increases nearly exponen ally, crea ng a huge demand increase at the supplier level, as shown in Figure 5.3. This increase in demand may cause the supplier to work over me, thereby increasing costs. When the retailer places the next order, which is the same size as the prior order (more or less), each par cipant in the supply chain will have too much inventory, so a cut back is required. The supplier, who overes mated the most (see Figure 5.3), will dras cally reduce produc on. As a result, the supplier may lay off staff because much of the demand can be met from inventory. In this system that uses sequen al communica on, the supplier at the end of the chain is "whipped" from one extreme to the other, from high demand requiring over me costs to low demand leading to layoffs or excess inventory. Both of these op ons increase the supplier's costs.

Figure 5.3: The bullwhip effect

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To avoid problems such as the bullwhip effect, informa on must be shared via real- me communica on methods rather than me delayed, sequen al communica on. The hub and spoke approach is one way to do this. Each spoke represents a connec on to a member of the supply chain. All members of the supply chain transmit informa on to a central hub, and each member has access to the informa on. The focal firm o en determines the informa on that must be shared in this manner. For example, if a company wants to supply components to a Chrysler assembly plant, it must provide the informa on determined by Chrysler, or the supplier will not be accepted. By sharing this informa on, all supply chain partners see changes occurring anywhere in the supply chain, and respond to those changes accordingly. The following sec ons indicate some ways for data to be shared. Electronic data interchange (EDI) is a method of exchanging relevant informa on between suppliers and customers in real me. Collabora ve planning, forecas ng, and replenishment (CPFR) goes beyond the exchange of data to include joint planning efforts.

Electronic Data Interchange

Electronic data interchange (EDI) connects the databases of different companies. In one early use, EDI allowed companies u lizing material requirements planning (MRP) to inform suppliers of upcoming orders by providing them with access to the database of planned orders. Although this approach was innova ve at the me, it s ll represented only limited sharing of informa on between adjacent links in the supply chain. In supply chain management, EDI is a way to share informa on among all members of a supply chain. Shared databases can ensure that all supply chain members have access to the same informa on, providing visibility to everyone and avoiding problems such as the bullwhip effect.

Collabora ve Planning, Forecas ng, and Replenishment (CPFR)

Theore cally, informa on is shared easily among all partners in a supply chain. In prac ce, however, the process o en does not work very smoothly. As a result, members of the supply chain may make assump ons about future ac ons of other supply chain members. For example, each supplier must forecast the demand of its customers. Collabora ve planning, forecas ng, and replenishment (CPFR) is a Processing math: 0%

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Like long-range forecasts offered in the annual Old Farmer's Almanac, companies also predict forecasts for the future. The condi ons predicted can be drama cally different from what actually happens.

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process that accomplishes more than data exchange. It seeks to minimize the lack of informa on through enabling collabora on among supply chain partners that jointly develop a plan specifying what is to be sold and how, where, and during what me period it will be marketed and promoted. Sharing of informa on is facilitated by using a common set of communica on standards. All partners are involved in the development of plans and forecasts for the en re group. Because these plans and forecasts have been jointly agreed upon, considerable uncertainty is removed from the process.

Real World Scenarios: Eroski Supermarkets

Eroski operates supermarkets and hypermarkets in Spain and France. Henkel, a German company, is one of the suppliers for Eroski stores. Although Henkel had u lized EDI with its customers to improve inventory reordering, Eroski stores con nued to run out of Henkel products on a regular basis. The two companies decided to pursue CPFR, beginning with joint demand forecas ng, which requires them to work together to es mate demand. Before implemen ng CPFR, about one-half of Henkel's forecasts of demand had been miscalculated by 50% or more. As a result, Eroski's supermarkets ran out of Henkel's products. A er implementa on of CPFR, 75% of forecasts were within 20% of actual demand, and Henkel products were in stock at Eroski stores 98% of the me.

CPFR (pronounced C-P-Far) requires that all supply chain par es be commi ed to the plans developed jointly and that they be commi ed to upda ng the plan on a regular basis. A retailer will share informa on about demand forecasts and planned product promo ons with its suppliers. Likewise, the suppliers share informa on about possible limita ons on supply or periods during which produc on facili es may be shut down. Once a plan is developed, suppliers can begin produc on knowing that their customers in the supply chain have commi ed to those orders. Plans must be revisited regularly to ensure that adjustments are made when appropriate.

Forecast Accuracy

One problem with sharing informa on is that some of that informa on may not be accurate, especially forecasts. For example, a retailer may forecast future sales of a par cular clothing line. When demandProcessing math: 0%

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actually occurs, it may differ significantly. If the forecast was too high, then the retailer may be le with excess inventory that must eventually be sold at a loss. On the other hand, a forecast that is too low can mean unmet demand and lost sales.

Simply realizing that forecasts are likely to be inaccurate can lead to improving supply chain management. For instance, quick response is one technique that the fashion industry has developed to address uncertainty in demand. In general, any me a firm can reduce the lead me between a customer order and its delivery, responsiveness is improved and forecas ng errors become less relevant.

Historical informa on about forecast accuracy can be used to develop a confidence interval for demand. The supplier may be able to predict that there is a certain probability that demand will not vary from the forecast by more than a specific amount. This informa on can help the supplier to plan for a certain range of possible demand values.

Real World Scenarios: Walmart

Walmart is one company that has used EDI to improve forecast accuracy. Vendors who provide products to Walmart can use Walmart's satellite network system to directly access real- me, point- of-sale (POS) data coming in from the cash registers at Walmart stores. Vendors can use this up-to- the-minute informa on to improve forecasts by spo ng trends the moment they occur.

Also, most forecasters know that it is easier to forecast demand as the me horizon is shorter. If the supplier has Walmart's up-to-the-minute demand for Sauder television stands, it can respond quickly to any demand change. There is no me delay in ge ng an order because Sauder has the most recent sales data. If Sauder can combine this with a shorter lead me—that is, they can be more responsive—errors in forecas ng will be less important. If Sauder takes two weeks from the me it receives an order un l it delivers the product, a forecas ng error is more likely to cause a supply disrup on than if Sauder can respond in three days. With a two-week response me, Sauder's customer may be out of stock for several days to as much as two weeks. With a three-day response

me, Walmart is far less likely to be out of stock, and if an inventory shortage occurs, it is likely to be only a day or two before more inventory arrives at the retail outlet.

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5.4 Structure of Supply Chains

As shown in Figure 5.2, the upstream supply chain includes suppliers, which may be er 1, er 2, or er 3. Each er of the upstream supply chain may include mul ple suppliers for the same good or service. The upstream side of the supply chain also includes produc on planning and purchasing as well as logis cs, which is responsible for moving materials between supply chain members. On the downstream side, supply chain partners are divided into echelons. For example, echelon 1 includes organiza ons, such as distributors, importers, or exporters that receive the product directly from the organiza on that produces it. Echelon 2 organiza ons would receive the product from those at echelon 1. Echelon 2 may include retailers, dealers, or final consumers.

It is important to realize that Figure 5.2 is a greatly simplified diagram of a supply chain. There are many more organiza ons that provide required goods and services and move materials and informa on than can be shown in Figure 5.2. How these numerous organiza ons are arranged and relate to one another is what determines supply chain structure. The next sec on will briefly discuss how supply chains can be structured.

Number of Suppliers

At each er of the upstream supply chain, companies can decide whether to use many suppliers for a par cular good or service or few suppliers. Using many suppliers o en allows a company to take advantage of compe on among those suppliers to meet the company's demands for cost, quality, and delivery. If one supplier goes out of business or is unable to provide the good or service as requested, it is a simple ma er to use another supplier.

On the other hand, there are some advantages to having only a few suppliers, or even one supplier for a good or service. Chief among these is the long-term partnership arrangements that can be developed. Such rela onships enable both par es to work together for greater integra on of the supply chain and for development of methods that can improve quality and lower costs. These close partnerships o en lead to high levels of dependency between the customer and the supplier.

Highlight: TMD and Chrysler Toledo Assembly Complex

TMD's Toledo facility is the sole source of instrument panels for the Jeep Wrangler, which is produced at Chrysler's Toledo Assembly Complex (CTAC). All of the output from TMD's Toledo opera ons is delivered to CTAC, which is located less than three miles from the assembly facility, thereby keeping shipping costs low. Because of close interac on and very short travel me, the inventory of instrument panels is enough to sa sfy demand at CTAC for only a couple of hours. These two organiza ons have developed such a close rela onship that there have been very few

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Due to low labor costs in developing na ons, global outsourcing has dras cally increased in the past decade as firms seek to find low-cost suppliers.


Striking a Regulatory Balance

supply disrup ons, administra ve and accoun ng costs are low, and quality is high. The rela onship has worked well for both. Because these companies are highly dependent, they have worked hard to develop con ngency plans to deal with unexpected problems.

Insourcing Versus Outsourcing

Organiza ons use a wide range of goods and services when making and delivering products. If those goods and services are provided by the organiza on itself, they are insourced. Goods and services obtained from outside suppliers are outsourced. One reason companies decide to outsource is that the goods or services can o en be obtained less expensively from outside suppliers. Outside suppliers may specialize in producing that good or service, enabling them to maintain high quality while keeping costs low. Suppliers may have proprietary technology

that provides them a compe ve advantage.

In the past decade or more, global outsourcing has grown drama cally as firms seek to find low-cost suppliers. This push, driven primarily by low labor costs in developing economies such as Mexico, China, India, and Vietnam, has lengthened the supply chain, which increases transporta on and inventory costs. With longer supply chains as well as poli cal uncertainty and cultural differences, there is also an increased risk of supply chain disrup on. Yet, the allure of lower costs is a powerful force. As some of the disadvantages of global sourcing are being examined, including concerns about quality and rising labor costs in some developing countries, there are signs of produc on returning to the United States. It is too early to tell if these instances are the beginning of a growing trend. It should be Processing math: 0%

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clear that global outsourcing is not just a manufacturing phenomenon. Engineering work, informa on systems development, and examina on of medical images are being outsourced to developing countries.

Vertical Integration

Supply chain management requires close coordina on with suppliers, but if those suppliers are separate organiza ons, there may be difficulty coordina ng among one another. One way to promote coordina on is for a company to own its suppliers. This is called backward ver cal integra on.

Highlight: Henry Ford and Backward Ver cal Integra on

The early Ford Motor Company provides a classic example of backward ver cal integra on. Henry Ford believed that owning his sources of supply was the best way to guarantee an uninterrupted supply of compe vely priced component parts and raw materials to build his Model T. He purchased iron mines, rubber planta ons, and shipping companies. In order for this complex system to be efficient without the informa on and communica on technology that is present today, it required centralized planning with long lead mes to move product from raw materials to create the finished automobile. As a result, Ford's massive system eventually became unwieldy and inflexible, resul ng in severe problems when compe tors began offering product variety that Ford was unable to provide. Could Ford's approach work today given that informa on and communica on technologies give real- me access to data that supports decision making? There are s ll significant issues to overcome including the level of exper se required to manage diverse holdings such as iron mines and rubber planta ons. Demand must be large enough to generate economies of scale when producing each component or raw material. It is challenging to build an efficient and responsive organiza onal structure that can manage such a large organiza on, so in some cases it is be er to let market forces drive compe on between suppliers.

At the other end of the supply chain, a company can own the distribu on systems and retail outlets that sell their products; this is forward ver cal integra on. Many large grocery chains, such as Kroger, Publix, and Safeway, own their distribu on networks as well as the retail stores. These companies may own all aspects of the distribu on system, including transporta on.

Highlight: La-Z-Boy Furniture and Forward Ver cal Integra on

La-Z-Boy Furniture has used its worldwide brand appeal to build a chain of retail outlets in approximately 50 countries including Jakarta, Indonesia and Bogotá, Colombia. Its strong brand recogni on draws customers into these retail outlets to buy La-Z-Boy products as well as products from other companies. Its high level of demand is the founda on for genera ng a high level of sales

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in each store. These two factors, high brand recogni on and sales volume, provide La-Z-Boy with the opportunity for forward ver cal integra on.

Virtual Organizations

Today, outsourcing is gaining popularity because of cost advantages and the opportuni es for greater coordina on that have been provided by the improved communica on technologies of e-commerce. The applica on of this technology has led to virtual corpora ons, that is, companies that exist only as an administra ve shell, with all other func ons outsourced. Outsourcing provides a great deal of flexibility because the company can change sources as the requirements of its products or markets change. Apple is not a virtual corpora on because it has product design capabili es, marke ng, accoun ng, and other func ons. Apple does have virtual manufacturing opera ons through suppliers from around the globe.

Real World Scenarios: Amazon.com as a Virtual Retailer

Amazon.com is a large online retailer that buys and sells books and hundreds of other items. Amazon.com acts like a virtual organiza on when it opens its website to other companies who want to list their products. Amazon.com holds the informa on about the loca on and the cost of books or other items, but it never takes possession or owns the items. When a customer locates an item on Amazon.com's website, the order is placed with Amazon.com and payment is collected by Amazon.com. The informa on about the order, including the item iden fier, the ship to address, and the payment (less Amazon.com's commission), is …