Supply Chain Integration ©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi

Outline of the Presentation uThe Bullwhip Effect uDistribution Strategies and Information Systems uSupply Chain Management: Pitfalls and Opportunities

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi The Bullwhip Effect and its Impact on the Supply Chain Consider the order pattern of a single color television model sold by a large electronics manufacturer to one of its accounts, a national retailer. Figure 1. Order Stream Huang at el. (1996), Working paper, Philips Lab

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Figure 2. Point-of-sales Data-Original Figure 3. POS Data After Removing Promotions The Bullwhip Effect and its Impact on the Supply Chain

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Figure 4. POS Data After Removing Promotion & Trend The Bullwhip Effect and its Impact on the Supply Chain

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Higher Variability in Orders Placed by Computer Retailer to Manufacturer Than Actual Sales Lee, H, P. Padmanabhan and S. Wang (1997), Sloan Management Review

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Increasing Variability of Orders Up the Supply Chain Lee, H, P. Padmanabhan and S. Wang (1997), Sloan Management Review

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi We Conclude …. Order Variability is amplified up the supply chain; upstream echelons face higher variability. What you see is not what they face.

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi What are the Causes…. Promotional sales Inflated orders - IBM Aptiva orders increased by 2-3 times when retailers though that IBM would be out of stock over Christmas - Same with Motorola’s Cellular phones Demand Forecast Long cycle times Order Batching

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Single retailer, single manufacturer. –Retailer observes customer demand, D t. –Retailer orders q t from manufacturer. –Lead time + 1 = L. What are the Causes…. RetailerManufacturer DtDt qtqt L

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi The Bullwhip Effect

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Var(q)/Var(D): For Various Lead Times L=5 L=3 L= L=5 L=3 L=1

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Consequences…. Increased safety stock Reduced service level Inefficient allocation of resources Increased transportation costs

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Multi-Stage Supply Chains Consider a multi-stage supply chain: –Stage i places order q i to stage i+1. –L i is lead time between stage i and i+1. Retailer Stage 1 Manufacturer Stage 2 Supplier Stage 3 q o =D q1q1 q2q2 L1L1 L2L2

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Formula

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Multi-Stage Systems:Var(q k )/Var(D) Dec, k=5 Cen, k=5 Dec, k=3 Cen, k=3 k=1

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi The Bullwhip Effect: Managerial Insights Exists, in part, due to the retailer’s need to estimate the mean and variance of demand. The increase in variability is an increasing function of the lead time. The more complicated the demand models and the forecasting techniques, the greater the increase. Centralized demand information can reduce the bullwhip effect, but will not eliminate it.

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Coping with the Bullwhip Effect Reduce Variability and Uncertainty - POS - Sharing Information - Year-round low pricing Reduce Lead Times - EDI - Cross Docking Alliance Arrangements –Vendor managed inventory –On-site vendor representatives

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Example: Quick Response at Benetton Benetton, the Italian sportswear manufacturer, was founded in In 1975 Benetton had 200 stores across Italy. Ten years later, the company expanded to the U.S., Japan and Eastern Europe. Sales in 1991 reached 2 trillion. Many attribute Benetton’s success to successful use of communication and information technologies.

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Example: Quick Response at Benetton Benetton uses an effective strategy, referred to as Quick Response, in which manufacturing, warehousing, sales and retailers are linked together. In this strategy a Benetton retailer reorders a product through a direct link with Benetton’s mainframe computer in Italy. Using this strategy, Benetton is capable of shipping a new order in only four weeks, several week earlier than most of its competitors.

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi How Does Benetton Cope with the Bullwhip Effect? 1. Integrated Information Systems Global EDI network that links agents with production and inventory information EDI order transmission to HQ EDI linkage with air carriers Data linked to manufacturing 2. Coordinated Planning Frequent review allows fast reaction Integrated distribution strategy

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Distribution Strategies and Information Systems Pull Vs. Push Strategies Push Strategies Production decisions based on forecasts Manual purchase orders and invoices are employed Ordering decisions based on inventory & forecasts.

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Push Strategies Single retailer, single manufacturer. –Retailer observes customer demand, D t. –Retailer orders q t from manufacturer. RetailerManufacturer DtDt qtqt L

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Problems with Push Strategies: Excess finished goods inventory Inefficient production Inefficient operations, high costs, low service levels - Excess capacity - Low utilization of resources - High transportation cost Distribution Strategies and Information Systems

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Pull Strategies Single retailer, single manufacturer. –Retailer observes customer demand, D t. –Retailer orders q t from manufacturer. POS Data RetailerManufacturer DtDt qtqt L

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Pull Strategies Production is demand driven Faster information flow mechanisms are used Inventory levels are reduced Distribution facilities are transformed from storage points to coordinators of flow. But: –Harder to leverage economies of scale –Doesn’t work in all cases Distribution Strategies and Information Systems

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Push and Pull Systems To take advantage of both How can this be accomplished?

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Distribution Strategies Warehousing Direct Shipping –No DC needed –Lead times reduced –“smaller trucks” –no risk pooling effects

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Cross Docking In 1979, Kmart was the king of the retail industry with 1891 stores and average revenues per store of $7.25 million At that time Wal-Mart was a small niche retailer in the South with only 229 stores and average revenues about half of those Kmart stores. Ten years later, Wal-Mart transformed itself; it has the highest sales per square foot, inventory turnover and operating profit of any discount retailer. Today Wal-Mart is the largest and highest profit retailer in the world.

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi What accounts for Wal-Mart’s remarkable success The starting point was a relentless focus on satisfying customer needs; Wal-Mart goal was simply to provide customers access to goods when and where they want them and to develop cost structures that enable competitive pricing The key to achieving this goal was to make the way the company replenished inventory the centerpiece of its strategy.

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi What accounts for Wal-Mart’s remarkable success? This was obtained by using a logistics technique known as cross-docking. Here goods are continuously delivered to Wal-Mart’s warehouses where they are dispatched to stores without ever sitting in inventory. This strategy reduced Wal-Mart’s cost of sales significantly and made it possible to offer everyday low prices to their customers.

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Characteristics of Cross-Docking: Goods spend at most 48 hours in the warehouse, Avoids inventory and handling costs, Wal-Mart delivers about 85% of its goods through its warehouse system, compared to about 50% for Kmart, Stores trigger orders for products.

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi System Characteristics: Very difficult to manage, Requires linking Wal-Mart’s distribution centers, suppliers and stores to guarantee that any order is processed and executed in a matter of hours, Wal-Mart operates a private satellite- communications system that sends point-of- sale data to all its vendors allowing them to have a clear vision of sales at the stores

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi System Characteristics: Need a fast and responsive transportation system: Wal-Mart has a dedicated fleet of 2000 truck that serve their 19 warehouses This allows them to –ship goods from warehouses to stores in less than 48 hours –replenish stores twice a week on average.

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Distribution Strategies

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Transshipment What is the value of this? What tools are needed? What if the system is decentralized?

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Supply Chain Integration - Dealing with Conflicting Goals Lot Size vs. Inventory Inventory vs. Transportation Lead Time vs. Transportation Product Variety vs. Inventory Cost vs. Customer Service

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Supply Chain Management: Pitfalls and Opportunities Conflicting Objectives in the Supply Chain 1. Purchasing Stable volume requirements Flexible delivery time little variation in mix large quantities 2. Manufacturing Long run production High quality High productivity Low production cost

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Supply Chain Management: Pitfalls and Opportunities 3. Warehousing Low inventory Reduced transportation costs Quick replenishment capability 4. Customers Short order lead time High in stock Enormous variety of products Low prices

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Symptoms of Supply Chain Problems Stock-outs and High Inventory Long Cycle Times High Returns High Costs Poor Service Level

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Common Pitfalls 1. Information and Management No Supply Chain Metrics Inadequate Definition of Customer Service Inaccurate Delivery Status Data Inefficient Information Systems 2. Operational Control Ignoring the Impact of Uncertainties Simplistic Inventory Stocking Policies Discrimination against Internal Customers Poor Coordination

©Copyright 1999 D. Simchi-Levi, P. Kaminsky & E. Simchi-Levi Common Pitfalls 3. Design and Strategy Incomplete Shipment Methods Analysis Incorrect Assessment of Inventory Costs Product and Process Design without SC Consideration Focus on Incomplete Supply Chain