Lecture Notes in Economics

and Mathematical Systems 594

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Reinhard Hbner

Strategic Supply
Chain Management
in Process Industries
An Application
to Specialty Chemicals
Production Network Design

With 57 Figures and 22 Tables

123
Reinhard Hbner
McKinsey & Company, Inc.
Kurfrstendamm 185
10707 Berlin
Germany
Reinhard Huebner@mckinsey.com

This book is the published version of the doctoral dissertation Production network design
in specialty chemicalsapproved by the Faculty VIII - Economics and Management of the
Technical University Berlin (D 83).

Library of Congress Control Number: 2007926109

ISSN 0075-8442

ISBN 978-3-540-72180-2 Springer Berlin Heidelberg New York

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Preface

Working on operational performance improvement projects in chemical

industry gave me the opportunity to experience first hand the challenges
this industry is faced with due to changes of the competitive landscape and
the shift of demand growth to the developing regions of the world. Ad-
dressing these challenges requires not only an operational but also a strate-
gic response. The production (network) strategy is at the heart of the prob-
lem for many companies. Decision makers in industry are aware of the
need to adapt their production networks but lack adequate methodological
support to holistically re-design them. The core objectives of my endeavor
into academic research were to develop a comprehensive approach towards
specialty chemicals production network design and to demonstrate the in-
sights the use of OR methods can provide in strategic planning problems.
Achieving these objectives would not have been possible without the
support of a large number of people. First and foremost, I would like to
thank my academic mentor, Professor Dr. Hans-Otto Gnther, Technical
University of Berlin. He evoked my interest in production and operations
management when I was a student at his department and wholeheartedly
supported my dissertation project. My work benefited significantly both
from his personal feedback and the frequent discussions within the de-
partment. Throughout the completion of the dissertation, Professor Dr.
Martin Grunow, now at the Technical University of Denmark in Copenha-
gen, has always been an excellent sparring partner. Markus Meiler and
Jenny Golz gave me very valuable tips for programming the optimization
model and Boris Otte implemented the scenario and sensitivity analysis
features as part of a student project.
The close cooperation with a global specialty chemicals company that
whishes to remain anonymous made it possible to link academic research
with application-oriented considerations. I would like to express my grati-
tude towards all employees of that company who enthusiastically sup-
ported my work.
Last but not least, I would like to thank my fianc Karin Hellner for
bearing with me throughout all phases of this journey and my brother Ru-
dolf for proofreading the manuscript.
Reinhard Hbner, Berlin, March 2007
Contents

List of Abbreviations ...............................................................................XI

1 Introduction ...................................................................................... 1
1.1 Motivation and Objectives........................................................... 1
1.2 Approach and Dissertation Outline.............................................. 4

2 Production Network Design and Specialty Chemicals .................. 7

2.1 Supply Chain Management and Production Network Design ..... 7
2.1.1 Supply Chains and Production Networks ............................ 7
2.1.2 Production Network Design................................................. 9
2.1.3 Production Network Design and Advanced Planning
Systems .............................................................................. 12
2.1.4 Generic Production Network Design Strategies ................ 14
2.2 Production Network Design and Industrial Location Science ... 19
2.2.1 Introduction to Industrial Location Science....................... 19
2.2.2 Major Findings from Industrial Location Science ............. 21
2.3 Specialty Chemicals Production ................................................ 24
2.3.1 Process Industries, Chemical Industry and Specialty
Chemicals........................................................................... 24
2.3.2 Chemical Production Sites................................................. 27
2.3.3 Production Technologies in Chemical Industry................. 29
2.3.4 Specialty Chemicals Production Networks........................ 31
2.4 Production Network Planning and Controlling.......................... 35
2.4.1 Production Network Planning Process............................... 35
2.4.2 Problem Definition Phase .................................................. 39
2.4.3 Production Network Optimization Phase........................... 43
2.4.4 Site Selection Phase ........................................................... 45
2.4.5 Integration of Production Network Design into
Strategic Planning .............................................................. 47
VIII Contents

3 Global Production Network Optimization ................................... 51

3.1 Location Analysis and Production Network Optimization ....... 51
3.2 Review of Supply Network Optimization Literature................. 53
3.2.1 Classification of Supply Network Optimization Models... 54
3.2.2 Review of Individual Publications..................................... 58
3.3 Modeling Specialty Chemicals Production Networks ............... 64
3.3.1 General Model Characteristics........................................... 64
3.3.2 Objective Function............................................................. 67
3.3.3 Capacity Selection, Expansion and Reduction .................. 72
3.3.4 Plant Loading and Economies of Scale and Scope ............ 76
3.3.5 Specific Factors of Global Production Networks .............. 79
3.3.6 Single Sourcing.................................................................. 88
3.3.7 Product Transfers............................................................... 89
3.3.8 Other Model Features ........................................................ 89
3.4 Mathematical Optimization Model ............................................ 89
3.4.1 Model Notation .................................................................. 90
3.4.2 Model Formulation ............................................................ 95
3.4.3 Model Extensions ............................................................ 106
3.4.4 Accounting for Uncertainty: Robust Production
Network Design ............................................................... 115
3.5 Numerical Performance ........................................................... 123

4 Evaluation of Individual Production Sites ................................. 127

4.1 Introduction to Multiple Criteria Decision Analysis................ 128
4.1.1 Classification of MCDA Methods ................................... 128
4.1.2 Common Steps of MADA Methods ................................ 130
4.2 Traditional MADA Methods ................................................... 135
4.2.1 Simple Additive Weighting and Simple Scoring............. 135
4.2.2 Analytic Hierarchy Process ............................................. 137
4.3 Outranking Approaches ........................................................... 141
4.3.1 ELECTRE........................................................................ 141
4.3.2 PROMETHEE ................................................................. 143
4.4 Data Envelopment Analysis..................................................... 147
4.5 A Specialty Chemicals Site Assessment Model ...................... 151
4.5.1 Choice of Method ............................................................ 152
4.5.2 The AHP Site Assessment Model.................................... 153
4.5.3 Lessons Learned from Application Case Studies ............ 160

5 Case Study Production Network Optimization ......................... 163

5.1 Developing a Decision Support Tool for Strategic
Network Design ....................................................................... 164
5.1.1 Industry Requirements ..................................................... 164
 Contents IX

5.1.2 Structure of the Decision Support Tool ........................... 164

5.2 Creating the Value Chain Model ............................................. 166
5.2.1 Mapping the Current Value Chain Configuration............ 166
5.2.2 Aggregating Demand and Product Data .......................... 169
5.2.3 Identifying Cost Drivers for Operating Expenditures...... 170
5.2.4 Identifying Alternative Value Chain Configuration
Options............................................................................. 176
5.3 Establishing and Forecasting External Parameters .................. 179
5.3.1 General Considerations.................................................... 179
5.3.2 Investment Expenditures.................................................. 179
5.3.3 Transportation Costs ........................................................ 180
5.3.4 Personnel Costs................................................................ 181
5.3.5 Exchange Rates................................................................ 183
5.4 Performing Analyses and Evaluating Results Obtained .......... 183
5.4.1 Assessing Alternative Scenarios ...................................... 184
5.4.2 Analyzing Network Configuration Alternatives .............. 186
5.4.3 Integrating Parameter Scenarios and Configuration
Alternatives...................................................................... 188
5.4.4 Standardized Evaluation Reports..................................... 189
5.5 Selected Findings from the Pilot Application .......................... 193
5.5.1 Reproducing the Status Quo to Obtain a Baseline........... 193
5.5.2 Assessing Alternative Environmental Scenarios ............. 193
5.5.3 Assessing Configuration Alternatives.............................. 195

6 Conclusion ..................................................................................... 197

Appendix................................................................................................. 201
Appendix 1: Derivation of Discount Rate .......................................... 201
Appendix 2: Tariff Regulations .......................................................... 203
Appendix 3: Political Risk.................................................................. 205

References............................................................................................... 209
List of Abbreviations

ABC Activity Based Costing

AHP Analytic Hierarchy Process
ANP Analytic Network Process
APS Advanced Planning Systems
ATP Available To Promise
BOM Bill Of Materials
CAPM Capital Asset Pricing Model
CTP Capable To Promise
DEA Data Envelopment Analysis
DMU Decision Making Unit
EDR Expected Downside Risk
ERP Enterprise Resource Planning
FTE Full-Time Equivalent
GATT General Agreement on Tariffs and Trade
GDP Gross Domestic Product
KPI Key Performance Indicator
MADA Multiple Attribute Decision Analysis
MAUT Multiple Attribute Utility Theory
MAVT Multiple Attribute Value Theory
MCDA Multiple Criteria Decision Analysis
MFN Most Favored Nation
MILP Mixed-Integer Linear Programming
MINLP Mixed-Integer Non-Linear Programming
MIP Mixed-Integer Programming
MODA Multiple Objective Decision Analysis
XII List of Abbreviations

NAFTA North American Free Trade Area

NPV Net Present Value
OECD Organization for Economic and Commercial Development
OR Operations Research
SMART Simple Multiple Attribute Rating Technique
STN State-Task-Network
U.S. United States
UFLP Uncapacitated Facility Location Problem
UPM Upper Partial Mean
VCI Verband der Chemischen Industrie e.V.
WACC Weighted Average Cost of Capital
WTO World Trade Organization