Design & Optimize:: The Key To Supply Chain Success

DESIGN &
OPTIMIZE:
The key to supply chain success
New business models,

like next day and same
day delivery and omni-
channel distribution, are
forcing manufacturers and
distributors to get closer
to their customer than
ever before. Given the high
cost of a lost order due
to being out of stock or a
late delivery is resulting
in a new emphasis on
network design and
optimization. Not only is
the footprint of your supply
chain and location of your
facilities important; how
you allocate your SKUs
and where you store your
inventory is also key.
DESIGN & welcome
OPTIMIZE: Design & Optimize:
The key to supply chain success
The key
contents to supply
The power of modern supply chain modeling 4 chain
Violetka Dirlea, a partner with A.T. Kearney, explains why modeling is an invaluable tool
for analyzing, evaluating, optimizing and simulating every aspect of the supply chain.
success
New business models, like next and
A blueprint for supply chain optimization 8 same day delivery and omni-channel
As customer service requirements become more complex, supply chain optimization distribution, are forcing manufacturers
studies are the foundation for some of the most successful companies logistics and and distributors to get closer to their
fulfillment operations. Tompkins Internationals Dale Pickett looks at the best practices
behind supply chain optimization. customer than ever before. Given the
high cost of a lost order due to being
The many flavors of network optimization 16 out of stock or a late delivery, its no
When it comes to network optimization, no one thing drives the decision to locate surprise that network design and optimi-
facilities in one part of the country over another. Instead, writes Mike Jones, key decision
drivers often vary by industry.
zation as well as inventory optimization
are more important than ever. Not only
Design: Aligned and optimized 24 is the footprint of your supply chain and
The secret to an efficient supply chain is one that is designed from the ground up to be in location of your facilities important; how
alignment with the strategy of the business, and then optimized to execute. Authors Tan you allocate your SKUs, where you store
Miller and Matthew J. Liberatore offer tried and true frameworks to get alignment.
your inventory and in what quantities are
Optimized Fulfillment: Southern Glazers Wine & Spirits also key. And, dont forget the importance
of making the most of your network to
supply chain transformation 32
After years of mergers and acquisitions, the nations largest distributor of wine and spirits minimize your carbon footprint.
redesigned its distribution network along with the operations insides its DCs. In this special publication, we pres-
ent some of the best articles and col-
Optimize: The myths and truths about inventory optimization 38 umns on the topic. Together, they pro-
Using case study examples, enVistas Jim Barnes tells readers how to change the flow of vide a blueprint to designing a network
inventory by reducing cycle times, more effective inventory positioning, and synchronizing
supply chains based on the variability of demand. that will allow you to align your supply
chain with your business goals, meet
Optimize: Demystifying inventory optimization 46 customer service level expectations and
Inventory optimization is often intimidating and frustrating, contends Sean P. Willems. optimize inventory.
Once the most common barriers are removed, however, optimized inventory across the
supply chain is easier to achieve than it looks.
Optimize: The perfect formula 52

For years, supply chain executives have asked how can they reduce inventory without
Bob Trebilcock, Executive Editor
affecting customer service levels or shifting cost to other supply chain partners? The
answer, according to a team of researchers from North Texas University, could be a new Comments? e-mail me at
inventory management strategy. btrebilcock@peerlessmedia.com
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Executive Editor
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Contributing Editor, Framingham, MA 01701-2000
Executive Managing Editor
Warehousing & DC Phone: 1-800-375-8015
2 DESIGN & OPTIMIZE scmr.com

100 EXECUTIVES SURVEYED
36% have too much cash tied up in inventory
29% have too much excess or obsolete inventory
33% have none-to-average visibility into inventory levels
SEE MORE RESULTS FROM THE SURVEY >

The OPERaTIONS ADvANTAGE
The power of modern

supply chain modeling
The larger and more complex a supply chain becomes,
the greater its potential to under-perform.
BY VIOLETKA DIRLEA, HARRIS NG, MARCO GUTIRREZ AND BRENDAN SEE
S
upply chains typically grow in increments to meet the needs of a growing
businesswhether it is delivering the next product line, expanding into a
new territory or entering a new market segment. As a result, a companys
global footprint is in large part shaped by many small decisions rather than the
Violetka Dirlea is a partner with pursuit of one overarching ideal.
A.T. Kearney in the Industrial
In addition, the demands on supply chains are dynamic and uncertain.
Goods & Services Practice and
leads the firms innovation services Relentless changes in customer requirements and supplier capabilities,
in the Americas. She is based in
Detroit and can be reached at
violetka.dirlea@atkearney.com.
unanticipated competitive pressures, ever- ply chains. In addition, modeling can provide
shifting business and seasonal cycles and glob- an extraordinary level of detailfor example, to
Harris Ng is a partner with A.T. al marketplace fluctuations such as currency the level of individual customers, network nodes,
Kearney in the Automotive and
Industrials Practice. He is based exchange rates can rapidly erode supply chain product configurations and even piece parts.
in Detroit and can be reached at performance if companies cannot anticipate Sophisticated modeling integrates diverse
harris.ng@atkearney.com. and adapt. inventory and network analyses that were tra-
Marco Gutirrez is a director with Adaptation becomes even more challeng- ditionally conducted separately into a single
A.T. Kearneys Procurement & ing when the supply chain grows to the point enterprise-wide view of the supply chaincut-
Analytic Solutions. He is based in that no one has a clear end-to-end view of ting horizontally across business units and func-
Chicago and can be reached at
marco.gutierrez@atkearney.com. operations. It may even become impossible to tions and vertically from the deepest details to
identify many of the most significant sources the highest level. Executives and managers who
Brendan See is a consultant with
of under-performance, let alone address them. previously made crucial decisions based on frag-
A.T. Kearneys Procurement &
Analytic Solutions. He is based in The result? Large supply chains often bleed mented data can now have a complete view of
New York and can be reached at millions of dollars of operating profit and tie up the supply chain as well as detailed views into
brendan.see@atkearney.com.
millions more in assets. However, supply chain the myriad forms of cause and effect.
modeling can help stanch this flow of losses. Perhaps most important, supply chain model-
ing is now highly robust and dynamic, allowing
Modern supply chain modeling companies to anticipate and rapidly adapt to a
The past decade has brought great leaps forward range of internal and external variablessuch as
in data analytics, visualization and computing changing customer requirements, business and
power, making modern supply chain modeling seasonal cycles and marketplace shiftsand to
more powerful than many companies realize. test the agility and responsiveness of network
In fact, it is possible to gain an end-to-end view designs before building or expanding their sup-
of even the largest, most complex global supply chains. Modeling is now a powerful tool for

FIGURE 1
Supply chain modeling application

Time Domain Key business questions Modeling usage
How do we best serve our customers? Quantify business

1-10 impact of decisions
Strategy What promises are we making to
Years our customers and shareholders? Long-term asset
structure
Where and how do we configure Optimal source

our resources to deliver on our of supply
3-24 customer promises?
Design Capacity trade-offs
Months
What trade-offs are we making in
Asset locations
service, cost, or inventory?
How do we best supply for our Prebuilds or

1-13 forecasted demand? staging of buffers
Planning
Months
What if our demand forecast is different? Resource planning
Do we have sufficient inventory and Visibility

0-2 supply to meet demand?
Execution Performance
Weeks
How are we performing to our plan? measurement
Source: A.T. Kearney
analyzing, evaluating, optimizing and simulating networks over near-, mid- and long-term horizons.
every aspect of the supply chain from honing In the near term, modeling can hone opera-
daily operations through defining an ideal long- tions planning and execution in several ways. For
term footprint. example, it can:
pinpoint waste and drive out supply chain costs;
Applications and time horizons speed up supply chain operations;
Two of the main areas of supply chain mod- ensure that capacity levels are optimal for
eling are network optimization and inventory demand; and
optimization. Network optimization encom- manage the global manufacturing and supply
passes the manufacturing and distribution base dynamically to anticipate and adapt to con-
footprint, product flows and supplier selection. tinually shifting demands and conditions.
It can also identify improvements to enhance Modeling is also a powerful tool for supply chain
operating profits, cash flow, reliability and strategy and design, allowing companies to accurate-
customer satisfaction. State-of-the-art mul- ly forecast their requirements under various scenar-
tilevel inventory optimization determines the ios, build in flexibility to deal with the unexpected
optimal positioning of inventory within the and accurately pre-test the performance of different
supply chain network to meet customer deliv- footprints under various circumstances over longer
ery requirements reliably and efficiently while periods of time (see Figure 1).
operating in an uncertain environment. Common supply chain strategy and design out-
Advanced supply chain modeling is an effec- puts will:
tive way to simultaneously optimize inventory and quantify and prioritize improvement opportunities;
scmr.com DESIGN & OPTIMIZE 5

The Operations Advantage
test the capability of demand ramp-up or ramp- Two tasks are important in the early stages of building a
down; supply chain model:
evaluate scenarios to guide market growth oppor- Define the business need and model architec-
tunities; ture. Define the business questions and structure needed
test how inventory will match demand; to support modeling and ensure that the level aligns with
forecast product and transportation costs; the current view of customer segmentation while also
determine the best locales to make and inventory being logical for the business. Consider top-level products,
products; options, customer markets and regions and network nodes,
identify the suppliers that can add the most value; such as facilities and suppliers. This architecture definition
determine the ideal supply chain flow; and is essential for data collection.
quantify the impact of delayed differentiation and Collect and validate information for mod-
product rationalization. eling. Gather and validate modeling data such as
order-to-delivery requirements by customer segment,
Gauging the business impact historical and forecast demand statistics, quality met-
An adaptive, optimized supply chain has substantial rics, target and demonstrated service levels and lead
benefits: nimble and rapid response that delights cus- times and variability.
As soon as the model is designed, built,
The insights provided by a powerful supply chain model informed with data and run, it delivers valuable
can lead to unprecedented opportunities to rapidly detailed pictures of the supply chains actual
and efficiently optimize performanceif the model is performance, current optimized performance
married to its execution. (the highest level the supply chain can deliver
as it is now configured) and future optimized
tomers, clear performance advantages over the compe- performance (what it could deliver with specific, identi-
tition, minimal waste or excess infrastructure and very fied improvements). Combined with modern visualization
competitive costs. tools, these outcomes can provide powerful insights. All of
Because the supply chain is a significant factor for these models are dynamic, accounting for an array of exter-
outcomes that are relevant to executives, performance nal and internal variables that impact performance.
should be quantified and monitored using tools such as
balanced scorecards and analytics dashboards. Used cor- Supercharging the supply chain
rectly, these tools can aggregate real-time data on key per- The insights provided by a powerful supply chain model
formance indicators and make complex data more useful. can lead to unprecedented opportunities to rapidly and
efficiently optimize performanceif the model is mar-
Crafting the model ried to its execution. A winning strategy encompasses
Creating a model that delivers the rich variety of value an array of elements, including securing inputs and
described above is not easy. It demands sophisticated requirements, structuring and leading action teams and
analytics and the technical expertise to design models assigning clear responsibilities. It is also vital to ensure
that combine diverse data and algorithms, foundation- that the right tools are available and to make trade-offs
al expertise in optimizing supply chain performance, about improvement priorities. Measurement, visualiza-
executive-level business acumen and the ability to col- tion and reporting are essential, as is documenting value
laborate with leaders and contributors across the supply for senior leadership.
chain. Sophisticated modeling is more than worth the Guided by sophisticated modeling and flawless exe-
effort as it reveals not only how much more a supply cution, supply chain improvement can supercharge ser-
chain might deliver, but also exactly what must be done vice, costs and asset performance. Better performance
to realize that potential. in these areas is critical for all companies.

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Strategy
A Blueprint for
Supply Chain
I
n todays demand driven, omni-channel world, it is It Starts With a Network
easy to underestimate the complexity of global supply A world class, transformational supply chain begins with a
chains. Yet the growth of global markets, increasing network that employs an all encompassing view of the various
customer expectations, rising costs, and more intense and business areas that manage delivery of products to customers.
diverse competitive pressures are driving the develop- The result is significant capital, operational, and tax savings
ment of new supply chain strategies and intricate network while achieving optimal customer satisfaction.
designs. That increasing complexity is exactly why supply There are three critical elements to a world class supply
chain networks need to be frequently re-evaluated. chain network.
In fact, a world class supply chain network is essential for 1. Strategy Before Network. With
product to consistently flow from the point of manufacture complex and competing business goals
to the end user, regardless of the industry served. A well- such as minimizing capital, improving
designed supply chain network can significantly improve operating margins, lowering the carbon
margins, support expansion into new markets, enhance footprint, and enhancing the customer
the customer experience, and reduce operating costs. That experiencea clear and concise sup-
applies to companies in all stages of maturity: Growth- ply chain strategy must be fully aligned
oriented companies, companies in transition, and companies with your business strategy. Surpris-
with stable business operations can all benefit from distribu- ingly, many companies begin reducing
tion networks that are optimized to meet ever present chal- network costs before they define how
lenges and opportunities. the network can be fully leveraged
While there are more tools available than in the past to to support the business strategy.
perform a network analysis, there remain a number of impor- Uncertainty in product mix and
tant steps that must be taken. In this article, we present a volumes, expanding markets,
blueprint for successful supply chain optimization. margin goals, dynamic customer
BY DALE PICKETT
Dale Pickett is director, supply chain consulting, for Tompkins
International. He can be reached at DPickett@tompkinsinc.com.

As customer service requirements become more complex,
supply chain optimization studies are the foundation
for some of the most successful companies logistics
and fulfillment operations. We look at the best practices
behind supply chain optimization.
Optimization
service strategies, value-added opportunities, and product projects, which define the objective as reducing costs and
returns and obsolescence are just some of the consider- maintaining customer service levels. Currently, a combina-
ations that are often given minimal consideration or over- tion of operating scenarios are required that drive alternative
looked entirely. network models. Then sensitivity analysis is performed to
2. Focus on Total Profit Optimization. An increas- evaluate impacts on how a company is working to improve
ing number of companies are asking the question: How the parameters it uses to drive shareholder value. Some
can my supply chain be used to maximize profits? This is examples include: EBIDTA, capital employed, working capi-
a different objective than traditional network optimization tal, operating expenses, tax effectiveness, margins, and cash-

Strategy
to-cash conversion. Strategic planning is also a proactive tool designed

3. Project Versus Ongoing Process. World class to guard against predictable changes in requirements in
supply chain networks evolve as sourcing adapts to market which timing can be anticipated. This type of planning
changes, product line performance varies, and companies is directed at forecasting needs far enough in advance to
integrate. A world class network incorporates an ongoing efficiently allocate resources across the supply chain.
process that focuses on the flexibility of the supply chain Granted, forecasting with a long planning horizon is a
and ensures that objectives are met consistently and over a risky business, and distribution plans based on such fore-
range of market conditions while enhancing the key drivers casts often prove unworkable. Nevertheless, the forecast
of shareholder value. is a supply chains best available information concerning
the future.
Frequency and Types of Analyses
When an organization decides to evaluate its network, Tactical Planning
the internal leadership team must first address the type of The tactical planning timeframe is one year to two years. Its
effort that should be performed. Strategic reviews of a dis- primary purpose is to plan policies and programs, as well as
tribution network design often follow: to set targets to accomplish the companys long-term strate-
a major business expansion, such as an acquisition; gic objectives. Tactical planning must anticipate the distri-
a change in business strategy, such as targeting new bution center workload to prevent overloading the primary
market opportunities; or resourcethe workforceduring peak demand.
the passage of timea full review is typically needed In addition, the tactical plan defines how to develop the
every four to six years. resources needed to achieve the goals in the strategic plan.
There are various methods of planning when it comes to For example, if a firm decides in its strategic plan that it
guiding and positioning an organization. Planning needs to requires a new warehouse location to enhance customer
cover predictable and unpredictable circumstances. Without satisfaction, then the tactical plan allocates resources for
sound plans, a firm risks insufficiently anticipating problems the facility.
and failing to implement solutions within the required lead Tactical planning first attempts to provide timing for each
time. With plans, a company becomes active and not pas- step. Second, it considers major issues, such as identifying
sive. A good framework for planning is illustrated below. specific skills required to accomplish the plan and the time
needed for each step. Third, specific capital requirements
are identified for each step.
TABLE 1 A fourth component is often
Bases for Model Alternatives the need for outside resources. In
warehousing, this could mean any-
Type of Planning Reason Focus
thing from engaging a consultant
Strategic Determine overall objectives and resource requirements Policy making to hiring a construction company.
Other types of tactical planning
Tactical Translate the strategic objective of the distribution system 6 mo.-18 mo.
into an action plan
include inventory policies, freight
rate negotiation, cost reduction,
Operational Ensure that specific tasks are implemented into the 5 yrs.
day-to-day operations productivity improvements, and
Contingency Respond to emergencies Backup
information system enhancements
and additions.
Strategic Planning Operational Planning

Strategic planning is the process of deciding on the firms Operational planning implements tactical policies, plans,
objectives. The goal of strategic planning is to define the and programs within the framework of the distribution
overall approach to stocking points, transportation, inventory system to devise the daily routine. An operational plan is
management, customer service, and information where the rubber meets the road. Ironically, it is where the
systems as well as the way they relate to provide the maxi- planning process is most likely to fail because the majority
mum return on investment. It addresses such issues as of the daily activities are routine. It becomes easy to lose
organizational structures, realignment of capacities, net- sight of the planned goals.
work planning, and impact on the environment. The time horizon for operational planning can vary from

A well-designed supply chain network can
significantly improve margins, support expansion into new
markets, enhance the customer experience, and reduce operating costs.
daily to weekly to monthly. The major Prior to the project, the leadership team agrees to an
components of operational planning are overall business direction for the following categories.
managing resourcessuch as labor and 1. Sales What direction is the company taking to
capital assetsand measuring perfor- increase sales? (Global expansion, acquisition, e-commerce,
mance to aid operating efficiency and same store sales, etc.) Is marketing willing to reduce inven-
anticipate future operating issues. It can tory to see the impact to customer service levels?
involve tasks such as: distribution center 2. Timeline What is the desired recommendation
workload scheduling; vehicle scheduling; date? This is tricky since it can result in a push to meet a
freight consolidation planning; imple- date versus providing the best overall recommendations.
menting productivity improvements and 3. Marketing Are there changes in the business that
cost reductions; and operations expense will create a metamorphosis of product distribution, such
budgeting. as Internet daily promotions vs. bi-weekly store level pro-
motions? Is marketing willing to reduce inventory if there
Contingency Planning is an impact to customer service levels?
One of the most overlooked yet mean- 4. Production Does production understand the
ingful tools for sound distribution man- impact of optimal manufacturing batches to inventory to
agement is contingency planning. This locations?
is a defensive tool used to guard against failure resulting 5. Finance How critical is cash flow and the impacts
from unpredictable changes in distribution operations. to major investment?
Typically, contingency planning asks what if questions. 6. IT Are there systems in place to give the necessary
For example: What if a major supplier is on strike or what information for the analysis to be conducted properly? If
if we had a recall or what if my primary supplier location is not, agree to understanding the recommended approach
destroyed due to a major weather event? The prepared man- from the support teams.
ager will look to contingency planning to counter the poten- 7. Sacred Cows Identify facilities, batch size, quality
tially devastating impacts of the many emergency situations hold, product shortages, or other constraints that will not
that may directly involve distribution. change in the foreseeable future.
Contingency planning is the opposite of crisis manage- 8. Sensitivity Metrics This is a great time for the
ment (putting out fires), which entails developing a plan leadership team to identify metrics that should be consid-
after something has occurred. The idea behind contingency ered for sensitivity analysis. This can include but not be
planning is to significantly reduce the lead time required to limited to fuel costs, service time, planning horizon, and
implement a plan of action. You do not wait for a fire to start capital investment.
before installing sprinklers in the warehouse. 9. Internal vs. External Who should perform this
Events that can adversely affect a distribution system analysis? Senior leadership must decide if it makes sense to
include: perform the project in-house or to use an outside resource.
energy shortages, The distribution network planner must balance these
strikes, conflicting needs to find the lowest cost distribution net-
natural disasters, work and inventory management technique that satisfies
product recalls, and both the customer and company objectives.
acts of violence. Exhibit 1 depicts the complexity that an end-to-end sup-
ply chain analysis should incorporate. Network planning
Defining the Project Scope and optimization that is founded on fact-based, quantita-
Most business units within an organization are impacted by tive analysis should be coupled with a review of processes,
a network optimization. Therefore, senior leadership must technology, and people that:
understand and support which direction the project will 1. Ensures alignment with the overall business environ-
take in order for it to be successful. This is where a clear ment and growth strategy to minimize costs and achieve
definition of project scope becomes critical. desired service levels.

Strategy
EXHIBIT 1
Framework of From-To Physical Network Customer service is responsi-

ble for handling the key inter-
Sweet Spot
Optimal Margin and Service Mix actions between the company
and its customers in order to
Total Logistics Cost
assure customer satisfaction.
Sweet Spot It involves handling customer
Maximum Profit
Optimal Logistics Cost and Service Mix
Total Delivered Costs
DC Operating Cost inquiries and order changes

Gross Margin and managing other situations
that occur in the customer/
Inventory Cost
supplier relationship. Cus-
tomer service may also include
the ordering process. In addi-
Transportation Cost tion, it is responsible for moni-
toring the goals management
Number of Facilities establishes for each product or
market segment, (e.g., order
fill rate, delivery time).
2. Utilizes the best analytical tool for the individual proj- Management information systems (MIS) or Enterprise
ect objectives. Resource Planning systems (ERP) are communication and/
3. Analyzes alternative processes to maximize return-on or control systems that support distribution. Their tasks
investment while delivering improved operational metrics range from taking incoming orders to managing fleet opera-
for customer service, inventory control, and transportation tions. In short, MIS/ERP systems process data to support
performance. the functions of the business. The types of systems most
4. Models the design with the intent to be refreshed as distribution operations make use of are:
inventory policies change; transportation routes, cost, and forecasting,
service levels change; new products are launched; or sup- budgeting,
pliers change. inventory management,
order processing and invoicing,
Key Network Components customer relationship,
All distribution networks have these key components: omni-channel communications,
stocking points, transportation, inventory management, warehouse management, and
customer service, and ERP/MIS systems. Where and how transportation management.
these are located and managed will be determined from a
network optimization. Launching a Strategic Network Analysis
Stocking points can be distribution centers, consolida- Once the leadership team understands the components of
tion points, terminals, ports, return centers, or other points its network, has defined the scope of a project, and elects to
that receive goods from production plants or suppliers or do a network evaluation, the team responsible for the execu-
are ship-to-demand points. Their job is to receive, store, tion of the plan should begin the primary data collection for
pick, and ship product. Any point through which produced the modeling effort. It is not necessary to have everything
material flows to reach the customer is a stocking point. prior to solicitations, but generally most reputable consul-
Transportation includes movement from plant to warehouse, tants will need the following information.
warehouse to warehouse, and warehouse to customer. a. Growth by organizational tierformularized
Inventory management is the purchasing and control of b. Sourcing locations and flow by SKU
products based on a market forecast. Inventories are typi- c. Outbound Flow by SKU to customer
cally a buffer between vendors, production, and the cus- d. Trans-shipment movements between facilities
tomer to permit the system to accommodate unexpected e. DC cost metrics
variations in demand or production. Inventory management f. Outbound distribution\fulfillment costs (fixed vs. vari-
generally consists of forecasting requirements, able)
procuring orders, and managing what is on hand. g. Facility characteristics (size, staff, lease/own, draw-

ings, equipment within, capacities replenishment weight/cube.
h. Fleet characteristics(Internal vs. external) At the end of the data collection, a project team meet-
i. Published costs metrics (case/cube/lb) ing is held to summarize the data collected and assess each
j. General Ledger accounts for the businesses units site. This assessment will give the team insight into the
involved operation and costs of the existing network. In addition, it
k. SKU listing will reveal information unknown to management that will
l. Inventory by SKU location be useful in developing alternatives.
m. Expected start date and requested completion no later Ideally, this meeting provides a sanity check to ensure
than date (three or four required alternatives) that the information captured is representative of what will
Many times, this becomes a very challenging step. An be modeled. Then the project team can provide a recom-
organization must understand that evaluations require sig- mended aggregated plan to be reviewed by the entire team.
nificant resources that recognize a sense of urgency but also This process of identifying assumptions will aid in informa-
a need to ensure that the information collected is accurate. tion gathering and uncover any holes. Once everything is
There are costs and impacts to the accuracy of the network presented, the team can move forward with the analysis.
analysis if the beginning information is in poor condition. From the executive strategy session, an understanding of
marketing strategies and sales forecasts should be applied to
Establishing and Communicating project the future state of the business. After all parties have
What We Do conducted a view, this establishes the two baseline states for
When kicking off a network analysis, team members often modeling purposes: current and projected.
forget that one of the most important tasks is communica-
tion. Without communication, a plunge into the retrieval of Modeling the Status Quo
information and direction to perform a network analysis will The steps just taken provide the information the team
surely experience gaps and intensive rework. requires to determine the network operating requirements,
The second task is to re-establish the scope of the proj- the status quo. This involves examining the baseline cost and
ect, taking into account any changes that have occurred to the service and performance characteristics of the current
that scope. A third is to establish an executive strategies network. Key elements to be identified include:
workshop. This should be a formal meeting in which the current facility locations, capacity, throughput, cost,
business leaders agree to the primary drivers and direction performance, flexibility, effectiveness, and efficiency;
of the company. inbound transportation costs from plants and suppliers;
Next, the team must document the existing network. It outbound transportation costs to customers and intra-
is critical to collect information from all sites being consid- company facilities;
ered because the study could result in recommendations current inventory levels, in-stock percentages, and
for closing, moving, or expanding them. Visiting those sites inventory carrying costs;
can be insightful. The following information needs to be delivery time to customers;
collected for each site: current supply points for vendors and production
space utilization, facilities; and
layout and equipment, distribution of customer demand.
warehouse operating procedures, This information is developed into a model baseline
staffing levels, from which alternative scenarios can be compared. With-
receiving and shipping volumes, out the baseline, it is difficult to evaluate the costs and
building characteristics, benefits of each alternative versus the status quo.
access to location, It is important to analyze and validate baseline information
annual operating cost, against information available from alternate and independent
inventory, and sources within the company. It is not uncommon for data-
performance reporting. bases or database inquiries to yield incomplete results that
In addition to facility information, the following informa- would potentially skew the analysis.
tion should be collected for the transportation system: Cost information should be compared against source
freight classes and discounts, documents, as well as the general ledger or profit-and-loss
transportation operating procedures, statements. Volume information from production or distri-
delivery requirements, and bution should be compared with volume information from

Strategy
purchasing or sales. Graphical EXHIBIT 2

representations of network flows
are useful to identify erroneous Bases for Model Alternatives
information that could be in the Factor Explanation
data. Stakeholders who would Supplier and Market How quickly suppliers reach your sites (delivery days); volume, certainty and
be affected by any changes in variability of supply lead times; international border issues.
the distribution network will Market How quickly your sites can reach markets (delivery days or hours);
volume, certainty, and variability of supply.
also want to review the baseline
information to make sure that Transportation Highway access, parcel hub locations, water and rail access, weather,restrictions,
congestion, and road limitations; transportation penalties, premiums, or benefits.
it represents the world as they
Government and Utilities Taxes, incentive programs, planning and zoning, energy cost.
know it.
Labor Unions, right-to-work laws, wages, skills available, holiday observances.
Developing Alternatives Real Estate Availability, cost per square foot; site restrictions; proximity to markets.
Once the data has been col- Inventory Effect of inventory placement (minimum levels, optimal (incorporation of
lected and validated, the next carrying costs and handling, regional consolidation centers).
step is to develop alterna- Final Mile White glove, multi-stop.

tives and operating methods.
The inputs used to determine
alternatives are site visits, future requirements, database marize costs by alternative. The table should list individual
analyses, and customer service surveys. The methods used distribution center costs.
for creation of the alternatives will vary. The main factors Summarize all annual costs and service factors.
influencing site location are listed in Exhibit 2. Create a table that shows, by alternative, all cost and ser-
vice factors.
Modeling the Annual Operating Cost Perform a sensitivity analysis. This is based on the
The real value in network planning is the knowledge gained idea of setting up runs that fluctuate some components
from understanding the workings of a companys distribu- of the data. One might be a cost that is uncertain or has
tion system and applying imagination to the model in ways potential to change. By modifying this one parameter, the
that will really benefit the distribution network. Facility effect on the run can be determined.
alternatives can be close in cost, but range widely in other Determine all investment costs associated with
factors, such as service level capabilities. That makes it each alternative. Look, for instance, at the costs of new
critical to have other criteria by which to judge the mod- warehouse equipment required to save space, expansion,
eled costs, such as: and construction costs, or at any building modifications
1. Central administrative costs and order-processing such as adding dock doors.
costs.
2. Cycle and safety stock carrying costs. Determining Cost: The Economic Analysis
3. Customer order-size effects. An economic analysis compares the benefits of a recom-
4. Inter-warehouse transfer cost. mended network plan with the implementation cost. To
5. Negotiated reduction in warehousing and delivery perform this analysis, determine all the investments and
costs. savings associated with each alternative.
There are several different approaches to network mod- Cost considerations include:
eling (see sidebar on page 39). Regardless of which model- a) Personnel relocation
ing method is used, the overall approach should closely b) Stock relocation (movement cost, model should have
resemble the following steps: shown quantity)
Validate the existing network. Run a computer c) Computer relocation
model to simulate the existing cost. Compare this cost with d) Taxes
actual cost. e) Equipment relocation
Run alternative networks. Once the model is vali- f) Building components
dated, run alternative networks for present volumes and g) Inventory considerations
forecasted volumes. h) Operating costs
Summarize runs and rank. Create a table to sum- i) Severance

j) Existing contracts should be defined, analyzed, evaluated, and validated.
k) Sale of existing facilities They should result in the development of a specific set of
l) MHE or automation considerations strategic requirements. Normally, the planning horizon for
m) Change in management such a plan is stated in years, with a five year plan being
The result of this evaluation should be the ROI of the most typical.
each alternative compared to the initial baseline of An effective network plan is also action-oriented and
the status quo. Once you have the economic analysis, time-phased. Where possible, the plan should set forth
perform a sensitivity analysis that fluctuates various very specific actions needed to meet requirements, rather
costs and savings to see which alternatives are the most than simply state the alternative actions available. Future
stable. sales volumes, inventory levels, transportation costs, and
It is also a best practice to perform a qualitative analysis warehousing costs all come into play.
that looks at risk of factors such as customer service, ease To get company leaderships support for the plan, a
of implementation, cultural considerations, profitability, detailed written document and maps should accompany
and cash impact. These should be rated and presented as a the recommended action to describe and illustrate how
topic for discussion. the network will be implemented and how it will oper-
Finally, once a conclusion has been reached, draw up a ate. The result should illustrate which strategy is best
time-phased implementation schedule that lists the major for the company because it maximizes profits to stake-
steps involved in transferring the distribution network from holders.
the existing system to the future system. If the plan answers the questions senior leadership
team requested at the outset, and your company is pre-
Success is Not Simple: It is a Process pared for this to become a process and not a project, you
The output of a supply chain optimization project is a new plan may be on your way to optimization success. And, the
for the network. A good supply chain network plan relies on a next time you admire a companys seamless, cost-effective
defined set of requirements. It should not be composed simply and customer responsive supply chain, think of the
of ideas, thoughts, or possibilities. Possible requirements detailed network analysis behind it. jjj
Network Modeling
There are three categories of based upon the data, assumptions, lation model will start with a single
network models. and parameters provided. Changes answera network alternative or sce-
A Centroid analysis calculates the to any of the assumptions, param- narioand examine the impact on the
weighted center of customer demand eters, or data will cause the model to scenario of a variety of kinds of data
by using map coordinates and cus- yield a different result. Therefore, they sets, over time. Simulation models are
tomer volume. It was one of the first are very dependent on the quality of very useful for determining the impact
methods used to determine new site the data and parameters and the ex- of supply or demand variability, net-
locations, but it is inadequate when perience of the individual performing work constraints, and bottlenecks on
compared with todays modeling tech- the modeling analysis. An optimiza- the efficient operation of the network.
niques. Centroid analysis can be done tion-modeling program is more so- Like optimization models, they are
on paper and assumes things like phisticated than a Centroid analysis, very dependent on the quality of the
transportation costs are proportional but it is limited to evaluating a static inputs and the skills of the modeler.
to distance. It ignores capacity con- range of variables. If a network can However, they are able to better rep-
straints, service requirements, and dif- be described by summarized data, or resent the volatility a company faces in
ferences in transportation and facility by looking individually at one or more the real world.
processing costs. slices in time, then an optimization To determine the model that is right
Optimization models come in a wide model is very effective. for your optimization project, a plan-
variety of complexity and sophistica- Simulation models, like optimization ner needs to determine how impor-
tion, with prices to match. They are models, come in a variety of sizes tant it is to include complex variables,
typically linear or mixed-integer pro- and shapes. Unlike the optimization or if assumptions and averages can
grams that are capable of determin- model, which starts with a set of data provide sufficient grounds for deci-
ing an optimal distribution network and gives a single answer, a simu- sion making.

Network Design
Mike Jones is president of St. Onge Company, a supply chain consultancy. He can be
reached at mjones@stonge.com. For more information, visit www.stonge.com.

The
Many
Flavors
of
Network
Optimization
When it comes to network optimization, no one thing drives
the decision to locate facilities in one part of the country over
another. Instead, key decision drivers often vary by industry.
BY MIKE JONES
Y
ou see a new distribution center rising from the incentives, or the cost and availability of labor. But what
ground, you read the discouraging news that a local happened prior to this? Which factors caused the company
plant is closing, or you learn that a new company to get interested in that location, or to get out of Dodge,
is breaking ground in an industrial park outside of town in the first place? Why did an organization focus on that
and think that there must be some inherently good or bad part of the country, at this point in time and with those
things about those locations. After all, arent the three most site, building, and workforce requirements? How did that
important things in real estate: location, location, location? location fit into an overall network or supply chain network
Maybe its the quality of the site, access to the highway, tax strategy, or, alternatively, what changed to make it a less

Network Design
optimal location?
You might think that there is one set of rules to help
companies optimize their networks and enable their supply
chain strategies, but in reality, the answers to those ques-
tions vary by industry and how a company goes to market Most major
to service its customers. Often, the reasons are different manufacturing
than you might think. Lets look at some of the key deci- and distribution
sion drivers in network optimization and how they often infrastructure
vary by industry. decisions areor at least
should bemade in the context
Its Not the Building
of the broader supply chain
Lets start by looking at something that doesnt matter all
strategy.
that much: the building you saw rising from the ground
and the piece of ground from which it is rising. To anyone
who has lived through the experience of building their
dream house on the perfect piece of land, that sounds
counterintuitive because people invest so much time,
energy, and money in getting everything just right. But the
truth is that in a supply chain network: Real estate is a
rounding error. Seven Decision Drivers
That phrase sounded harsh the first time I heard it, Most major manufacturing and distribution infrastructure
mainly because it was being said to a room full of indus- decisions areor at least should bemade in the context
trial real estate brokers. Fortunately, the person saying it of the broader supply chain strategy. Namely, how many
was a senior industrial real estate broker. His point wasnt manufacturing plants, production lines, warehouses, dis-
that buildings dont matter. Obviously, the right building tribution centers, and cross docks should a company have,
can make the difference between a successful operation where should they be located, which products should they
and a disastrous one, especially in a skilled manufacturing manufacture or distribute, and which customers should
setting. What he was really saying is that locating the best they service? Helping companies answer those questions is
site, finding the perfect building, and negotiating the best pretty much how Ive made my living the past 23 years.
real estate deal have very little to do with determining the Its a fascinating and educational process. And, its a pro-
best location. cess that is almost always supported with detailed analyti-
You can usually work with a less than ideal facility or a cal models that were developed using network optimization
less than perfect site. And while an extra dollar or two per software. These software tools simultaneously consider all
square foot is anything but trivial, its not game changing of the relevant demand, costs, and constraints that go into
money either. On the other hand, setting up shop in the evaluating millions of alternatives to arrive at a single theo-
wrong location, not to mention setting up shop in too many retical optimal solution. Along with the data, we feed the
or too few locations, now thats pricey. In my experience, tools with various business cases and operating scenarios
when supply chain executives are making long range infra- worthy of consideration.
structure decisions, nine out of ten times their real estate While todays software tools do more than ever, they
group isnt even in the room. Thats not because they dont are really the starting line in network optimization and not
think real estate is important, but because it doesnt drive the finish line. Thats because its rare that the analytically
strategy. So what does? Thats what well look at next. optimal solution is the best solution. Instead, the results

EXHIBIT 1
of all those what if scenarios need to be interpreted and
tempered with sensitivity analysis, common sense, and Not All Distribution Centers are Created Equal
consensus to arrive at pragmatic go forward recommenda- 5,300 Ft2
CPG
tions. During this critical stage in network optimization, 3,400 Ft2
there are typically seven major decision drivers: trans- Non-CPG
3,700 Ft2
2,000 Ft2
portation, labor, facility, and inventory costs, constraints,
Facility Type
1,500 Ft2
service, and intangibles. The weight they carry can vary Retail
750 Ft2
significantly by industry, company, and situation. Lets look Average Ft2 per FTE
C-Store 1,200 Ft2
at them one at a time. Wholesale 1,000 Ft2 Peak Ft2 per FTE
2
eCom 1,000 Ft
Transportation 350 Ft2
There are exceptions to every rule (youre going to hear that Source: Bryan Jensen, St. Onge Company
a lot from me), but when it comes to a network of distri-
bution facilities, transportation is king because it speaks the quality of a workforce can make or break an operation.
directly to cost. Transportation is almost always the largest However, in most situations it can be safely assumed that
component of supply chain spend, particularly when you a suitable labor pool can be found within some reason-
look at the aggregate of inbound, transfer, and outbound able radius of most cities and thus is more of a site selec-
shipments. Transportation also speaks directly to service. tion issue than a strategic location issue. A geographic
Generally speaking, reduced outbound transportation exception would be locating a facility in lesser-populated,
spend and increased service (i.e. shorter delivery times) go relatively remote cities. Also, a notable industry exception
hand in glove. Transportation speaks directly to sustain- these days is the demand for seasonal labor associated
ability. Generally speaking, reduced transportation spend with e-commerce fulfillment, especially at the holidays.
translates into a reduced carbon footprint. And transporta- In some extreme instances, we have seen entire facilities
tion speaks to long-term strategy. justified solely on the basis of seasonal labor requirements.
There is little reason to suspect that transportation wont It is not unheard of for some online retailers to add a few
continue to grow disproportionately to other supply chain hundred temporary employees each week for the six to
costs. Just look at what is happening to the transportation eight weeks leading up to Christmas. Even some sizable
costs of brick and mortar retailers and pure e-tailers as they
compete on free shipping. Fuel costs, even in an era of
cheap oil, the specter of increased fuel taxes, driver short-
ages, higher tolls, increased regulation, and reduced hours
of operation all speak to disproportionately higher transpor-
tation costs going forward. Transportation is going to carry
the day in many industries and instances. Simply put, the
Simply put, the
larger the product, the lower the value of that product, and
larger the product,
the more of it you sell, the more important transportation the lower the value
becomes. of that product,
and the more of it you sell, the
Labor more important transportation
I want to emphasize that the cost and availability of labor, becomes.
especially labor availability, are key decision drivers today,
and will continue to grow in the future. As stated earlier,

Network Design
labor markets may not be able to single-handedly support

such a surge.
The chart above, developed by one of my partners
at St. Onge, illustrates that not all distribution centers Generally speaking,
are created equal when it comes to labor requirements. brick-and-mortar
Note the dramatic difference, especially at peak, between retailers that typically ship full
e-commerce and CPG. Needless to say, workforce con- truck loads of product to their
siderations could easily trump transportation costs in an stores will find that they need
environment where youre predominantly shipping parcel to be operating near capacity
size shipments, likely subsidized by the consumer, and
to justify the investment in
youre picking and packing darn near every piece that goes
incremental facilities.
out the door as single line orders.
Facility Costs
We had a little fun picking on real estate earlier, but let
me clarify that a bit. It is true that a specific site or build-
ing is rarely a strategic decision driver or cost consider-
ation. However, the cost of buildings can certainly be a
driver. The more capital intensive and highly automated mortar retailers that typically ship full truck loads of prod-
your facilities are, the more important facility cost and uct to their stores will find that they need to be operating
investment becomes, and the more likely you are to have near capacity to justify the investment in incremental facil-
fewer rather than more buildings. ities, as there is simply not enough freight savings on the
Two big examples come to mind that illustrate this table to justify such substantial infrastructure investments.
point. The first, of course, is manufacturing. There are
always exceptions, but in general manufacturing plants are Inventory
much larger anchors than warehouses and distribution cen- Inventory is evil. Do you remember that old catch phrase?
ters. They usually cost more to build, cost more to move, Certainly inventory is a big deal, particularly as it relates to
cost more to operate, and are of more strategic importance service. But thanks to long standing lower interest rates, its
than are distribution centric assets. Therefore, while not not as evil as it was in the past. Accordingly, while it is an
unheard of, especially in less capital intensive/more freight important decision driver, in and of itself the cost of carrying
and service intensive industries such plastic and paper inventory on the books doesnt make the top three of most
packaging, you will typically find that a new manufacturing pros and cons lists. But, if you havent caught on yet, there
facility is difficult, if not impossible, to justify solely on the are exceptions to every rule. The big exception to this one
basis of transportation savings or service improvements. is environments with high SKU counts, and inventory that
While these may be considerations, they will typically need is slow to turn or has high churn rights. These are typically
to be accompanied by improved production efficiency, found in service parts and fashion centric e-commerce envi-
plant consolidation, and/or incremental capacity require- ronments.
ments in order to green light a project. Service partsthink automotive, aviation, medical
The second common example is complex retail fulfill- devices, and office products to name a fewrequire high
ment centers, which are often highly automated with SKU counts and a high dollar investment in inventory that
expensive picking, conveyance, sortation, and shipping is often slow to turn. Transportation is not that big of a deal
equipment and systems. Generally speaking, brick-and- because those items ship out in small quantities. Labor is

not that important because you dont need all that much of
it in a (relatively speaking) low volume environment. And
while space may or may not be substantial, it is not all that
expensive as it is unlikely to be highly automated. However,
the cost associated with duplicating that inventory in mul- Delivery time and fill
tiple locations can be enormous because of carrying costs.
rate do not go hand
Thus, in most service parts environments you will often
see one DC, and rarely more than two or three, to service
in glove. Unless you can
North America. justify servicing the entire country
Fashion centric e-commerce is a similar but different via air freight, shorter delivery
animal. I define fashion in the broadest sense, meaning times will require more facilities.
there is a high SKU count with a relatively high value,
along with seasonal items that come and go in a matter of
months. Labor and facility costs can also be high. Here, its
not the inventory carrying cost that gets you as much as the
requirement to split shipments and customer experience.
As the season comes to an end, orders must be shipped out
of zone and/or cannot be shipped complete when product
is spread across multiple warehouses and the primary ware- Heres the challenge: Delivery time and fill rate do not
house is out of stock on some, or all, of the product. This go hand in glove. Unless you can justify servicing the entire
results in extra handling and shipping costs, slower and/or country via air freight, shorter delivery times will require
split deliveries, and unhappy customers. Thus, you will see more facilities. For example, two-day truck delivery to 85%
that many traditional catalog and e-commerce businesses of the country is going to require roughly five distribution
realize that the lesser of two evils is to keep everything centers. That final 10% to 15% to reach 100% two-day
under one roof so long as the business and operational coverage is going to cost you another three or four DCs.
risks (remember those seasonal workforce requirements?) Conversely, if you want to maximize your fill rates, con-
of doing so are manageable. solidating to fewer facilities is the best strategy. The other
alternative is to carry more inventory. The fewer the num-
Service ber of items, the higher the cube of the product, the lower
There are two basic components to service from a finished the dollar value, and the less practical expedited shipping,
goods distribution perspective: lead time and fill rate. In the more facilities youre likely to have (think shampoo,
its simplest form, lead time is the time it takes to get the laundry detergent, and packaged food). The larger the
product to your customers or stores. Its comprised of the number of items, the denser the product, and the higher
sum of the order processing and delivery times, but for the dollar value, the fewer the facilities (think small elec-
the purpose of this discussion well focus on delivery time. tronics, hardware components, or jewelry).
Expectations vary by industry, but its fair to say that most
companies can live with two to three day reliable delivery Constraints
times for their major markets. Fill rate can be measured We could write an entirely separate piece on constraints,
a few different ways, but basically it is the percentage of but we would be remiss not to mention them because they
product that is available when the customer demands it. are a driver that often trumps operating costs and service. I
Fill rates vary significantly by industry but would typically suppose you could argue that many of them are technically
range from 85% to 99%. one-time cost considerations because, theoretically, they

Network Design
can be overcome with enough money. But, we dont live in a

theoretical world. In the real world, they are typically identi-
fied early in a study as constraints.
These can apply to almost any industry and typically Sometimes
vary more so on a case by case basis, as they are dictated companies cant
by a companys existing network, its access to capital, its wait for the optimal time
appetite for risk, and its culture. Specific constraints that
to make a change. A good
we typically confront include things such as production
enough market with available
eligibility (a widget factory cannot make gadgets), produc-
tion capacity, distribution eligibility (an ambient warehouse
buildings may win out over a
cannot store frozen product), distribution capacity (a given better market with no vacancy.
building may be landlocked), service constraints (certain
customers may mandate next-day delivery), select facilities
forced open (long-term leases, family owned real estate,
etc.), and forced minimum or maximum number of facili-
ties to mitigate risk and/or upfront capital investment.
Intangibles mal time to make a change. A good enough market with

Weve just identified six of the seven key decision drivers. available buildings may win out over a better market with
They are all legitimate considerations. Now, Im going to no vacancy. That goes double in markets with more third-
ask you to take all the rules of thumb, all the best analytics, party logistics choices.
and all the common sense you can muster, and throw it out Quality of Life. I once saw a company pick a location for
the window. Because here is a rapid fire list of four other a new DC because the owner liked to vacation in the area. I
factors that we call intangibles. They can trump everything know of another example where a sub-optimal location won
else, including the network modeling and outputs of all out because the decision maker wanted a city with a Major
those what if scenarios we ran with our software tools at League Baseball team. The first is the owners prerogative.
the starting line. The latter is unacceptable, but it happens.
Tradition. The company wont leave the town where it There is a final factor that comes into play more often
was founded. This can have a domino effect through the than you think, and that is compromise. I love the phrase
rest of the network making some otherwise good locations dont let better be the victim of best. Many times its not
sub-optimal. only easier, but also the right answer, to get betterhope-
Loyalty. Lots of people want to demonize business. But fully a lot betterwithout taking on the risk and business
those are mainly people who know nothing about business. disruption and internal cultural hit that comes with best.
In reality, most businesses Ive worked with care deeply What that means is that of course you want to get every-
about their people and simply will not displace workers thing you can out of the optimized model created by the
unless there is an extremely compelling reason to do so. software. But sometimes, the best answer is to do some of
Private companies, in particular, will look for reasons to the recommendation to gain 80% of the benefit with only
protect them. I admire that. Public companies have an 20% of the risk rather than to swing for the fences and do
added obligation to shareholders, which must also be con- everything suggested by the model. We must remember:
sidered. The best isnt always bestand that there are exceptions to
Timeline. Sometimes companies cant wait for the opti- every rule.

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Kicker Chain Alignment
Supply
Aligned and
Optimized
All too often considerable managerial resources are directed toward
planning activities and processes with little in the way of tangible
results. Thats because their supply chain strategy is not aligned
with the business strategy. Here are proven, practical techniques
used by the authors to align and optimize supply chain
operations management and planning in private industry.
Call it: The Power of Frameworks.
BY TAN MILLER AND MATTHEW J. LIBERATORE
Tan Miller is the director of the global supply

chain management program in the College of
Business Administration at Rider University.
He can be reached at tmiller@rider.edu. For
more information, visit rider.edu/academics/
experts/tan-miller. Matthew J. Liberatore is
the John F. Connelly Chair in Management
and director of the Center for Business
Analytics at the Villanova School of Business,
Villanova University. He can be reached at
matthew.liberatore@villanova.edu. For more
information, visit http://tinyurl.com/zbp8zjk.

I
n todays competitive global economy, a firms market position and financial
performance is closely linked to its supply chain performance. All too often, consid-
erable managerial resources are directed toward planning activities and processes
that deliver little in the way of tangible results and beneficial outcomes. What sup-
ply chain executives want is the know-how to efficiently and effectively direct their
planning activities so that the results lead to better business decisions from the long-term
down to day-to-day operations. What they often end up with is a set of unaligned deci-
sion-making processes that result in uncoordinated, inefficient planning and operations.
There is a better way: using Supply Chain Frameworks to oversee and
guide planning and operations. Supply Chain Frameworks organize and
manage all supply chain activities and decisions as a set of linked steps
and processes that are part of one unified system, enabling managers to
achieve high levels of operating effectiveness and efficiency.
In this article, we present proven, practical management frameworks
and techniques that we used to support supply chain operations man-
agement and planning in the private sector. These frameworks provide
methodologies for organizing and managing critical activities such as
supply chain strategic planning and project selection, integrated man-
ufacturing and distribution planning, performance measurement
and warehouse planning and operations, to name a few.1
1 For highly detailed descriptions of implementations of all these

and many other frameworks, and other related planning aspects
such as feedback loops, see Liberatore, M. and Miller, T., Supply
Chain Planning: Practical Frameworks for Superior Performance,
Business Expert Press, New York, 2012, ISBN-13: 978-1-60649-
316-8 (paperback), ISBN-13: 978-1-60649-317-5 (e-book). In
this article, we will present an overview of the generic framework
methodology and summaries of two specific examples.

Supply Chain Alignment
We also illustrate how managers FIGURE 1 facilitates improved decision mak-

can and should employ planning Integrated business ing, higher customer service levels
frameworks to organize and manage and supply chain strategic and improved operating efficiencies
all major supply chain functions and planning framework for firms.
activities. While a firm clearly must To set the stage for the remainder
Business strategic planning
have a framework to guide its overall Objectives of this article, we now introduce two
supply chain strategic planning pro- Product/market mix linked frameworks:
cess, so too should the firm have a 1 a business and supply chain plan-
well-established planning framework Supply chain strategic planning ning framework; and
To support firm/business unit:
for its individual supply chain func- 2 a supply chain function planning
Mission
tions such as transportation, manu- Goals and objectives framework.
facturing and logistics. Further, and Strategies
most critically, all these supply chain A business and supply chain
planning frameworks must support Supply chain function strategic planning
planning framework
and align with the firms overall busi- Manufacturing Figure 1 presents a simple frame-
Logistics
ness goals and objectives. work depicting an integrated process
Customer service
Inventory where a firms overall business goals
Why are supply chain Transportation
and objectives define its supply
Procurement
frameworks critical to a firms chain organizations goals and objec-
success? Source: Authors tives. Specifically, in its business
A supply chain framework is a formal strategic planning process, a com-
planning system that organizes and links all supply chain pany must address such key issues as overall corporate
activities. The first step in developing a supply chain frame- objectives, market share and profitability goals, and busi-
work is to diagram or map all the major activities and ness and product mix targets. Strategic planning decisions
components of a firms supply chain planning and execution relating to overall corporate objectives then drive strategic
systems. This allows managers to better understand how all supply chain plans and decisions. For example, market
the components of the system affect each other. share and product mix objectives will strongly influence a
Firms that actively employ supply chain planning firms supply chain capacity and service strategies. A desire
frameworks as a standard business practice give them- to increase market share may translate into a requirement
selves a true competitive advantage. By embracing the that a firm expand its manufacturing capacity.
methodologies and discipline fostered by a framework- Other high-level supply chain strategies are also devel-
based approach, firms make themselves agile, and are oped at this stage to support business goals and objec-
therefore capable of effectively and rapidly responding to tives. Examples of such strategies would include setting
ever-changing business conditions. targets for overall customer service levels and maximum
Leading edge characteristics of these firms include the inventory investment levels, and creating key customer
ability to link and coordinate their planning activities and strategic initiatives.
actions from the long-run, strategic horizon to the medium- Once a firms supply chain planning team has established
term tactical and short-run operational horizons. The link- its high-level strategies, the functions within this organiza-
ages between planning levels is hierarchical, meaning that tion must then develop and implement their individual
plans developed at the strategic level guide and direct the strategies. As Figure 1 depicts, functions such as manu-
tactical level, and plans developed at the tactical level guide facturing, logistics and transportation each must plan their
and direct the operational, or execution, level, so that all own strategies to support overall supply chain goals and
plans and actions are in alignment with the firms high level objectives, and ultimately those of the business. For exam-
strategy. This overarching hierarchical perspective provided ple, the manufacturing organizations plans must address
by well-implemented supply chain planning frameworks such issues as planned production capacity levels for the

next three years and beyond, the location and number of becomes much more detailed. To accommodate the granu-
facilities its plans to operate, and so on. Other functions larity required at this level, each supply chain function must
such as logistics, transportation and procurement will face utilize a hierarchical planning framework that can address
different but similarly critical issues and decisions. Shortly, all issues ranging from the long-run strategic to the short-
we will review in greater detail what we describe as an inte- run operational.
grated business and supply chain planning framework. For
now, however, as illustrated in Figure 1, this integrated stra- A hierarchical supply chain planning framework
tegic planning process consists of three components: The planning activities and decisions that management
1 business strategic planning, which drives and guides; must make for a supply chain function range from those
2 supply chain strategic planning, which drives and guides; requiring vast resources and managerial time (as measured
and by cost, required planning inputs, level of risk and other
3 strategic planning by individual supply chain functions. attributes) to those requiring relatively minimal time and
The distinction between steps 2 and 3 is as follows: In resources. For example, consider the vast differences in the
step 2, the senior leaders of the supply chain organization required inputs for, and implications of, a plant location and
(i.e., the leaders of all the individual supply chain func- sizing decision versus a one-week production line schedul-
tions) collectively establish the high-level strategy for their ing decision. To effectively address this broad spectrum of
organization, while in step 3, each individual supply chain management and operational control activities and deci-
function (e.g., manufacturing) develops a strategic plan for sions required in any major supply chain function (e.g.,
its own organization that supports the overall supply chain manufacturing), it is necessary to separate the future plan-
plan generated in step 2. ning horizon into three buckets:
To illustrate this integrated process, consider the fol- strategic planning;
lowing brief example. Lets assume that the business unit tactical planning; and
strategic planning process results in a decision that produc- operational planning.
tion capacity should be increased by 40% over the next five These three planning horizons must be closely and hier-
years to support planned sales growth (step 1). The supply archically linked to ensure aligned decision making.
chain strategic planning team receives this input, and its
planning process (step 2) then determines that the firm A generic framework for supply chain planning
will generate this capacity increase through internal expan- and management
sion rather than using third party contract manufacturing. Now we link the strategic business and supply chain plan-
Plans developed at the overall supply chain level may be ning framework and the hierarchical supply chain planning
more specificsuch as a general decision that capacity framework to form the unified business and supply chain
should be added specifically in Southeast Asia. The level of planning framework displayed in Figure 2.
detail specified in step 2 will vary by firm. Next, in step 3, We describe this framework as generic because it illus-
the manufacturing group engages in its individual strategic trates how the planning activities of any individual supply
planning process. At this level, manufacturing generates chain function can (and should) be linked into the overall
a detailed strategy addressing such issues as the specific business and supply chain strategic planning process of an
location where it will build additional capacity, the technol- organization. The definition of what constitutes a major
ogy planned for the facility, and the targeted labor versus individual supply chain function will vary by firm. For
automation mix. Similarly, each other major supply chain example, some firms may consider transportation and/or
function such as transportation will also conduct its strate- customer service as components of their logistics organiza-
gic planning process in support of the overall supply chain tion, while other firms may not. Regardless of how many
strategic plan. This completes the three-step integrated functions within a supply chain organization a firm chooses
business and supply chain strategic planning framework. to define as major individual units, the framework in Figure
We next introduce a framework for individual sup- 2 provides a well-defined, holistic organizational approach.
ply chain function planning where the planning process As described previously, this framework begins with the

FIGURE 2
A unified business and supply chain planning framework will have more than four major
supply chain functions. Finally, in
Objectives Figure 2 also note the following:
Product/market mix 1 There are bidirectional verti-
cal lines between the strategic,
tactical and operational plan-
To support firm/business unit: ning levels of each supply chain
Strategic
Mission
Goals and objectives
2 years + function (e.g., manufacturing).
Strategies A line emanating from a lower
Constraints
level to a higher level is known
as a feedback loop in a hierar-
Manufacturing Logistics Procurement Transportation chical planning system.
planning planning planning planning
2 There are horizontal lines
Constraints between the individual func-
Tactical
ac
Manufacturing Logistics Procurement Transportation 122 to 24
tions. These lines illustrate that
scheduling scheduling scheduling scheduling months
o in practice, interactions
Constraints in many forms should (and do)
Operational
e occur between individual
Manufacturing Logistics Procurement Transportation 1 to
t 18
execution execution execution execution months
o supply chain functions. These
interactions can be both formal
Source: Authors
(e.g., joint planning sessions)
business strategic planning and then the supply chain stra- and informal (e.g., day-to-day communications).
tegic planning processes. The outputs of these processes In summary, the generic supply chain planning frame-
generate high-level requirements and define capabilities work depicted in Figure 2 facilitates a firm-wide planning
that the individual functions within supply chain must process whereby strategic plans initially formulated at the
then deliver. Further, the outputs of this process may also business unit level receive aligned planning, scheduling and
identify projects that can best help to achieve the plans execution support all the way down to the operational level
developed at this overall supply chain level. At this point, of each individual supply chain function.
individual functions such as manufacturing must initiate
their own planning processes to map out the respective Decision support systems and performance metrics
contributions that they will make in support of the overall Now that we have introduced a unified, integrated process
supply chain plan. for business and supply chain planning, we need to discuss
At the individual function or department level, it is bene- some key planning and control tools to facilitate this pro-
ficial to delineate the future planning horizon into strategic, cess. In this section, we briefly introduce two essential tools
tactical and operational planning buckets. Thus, each sup- of a firms planning and control processes:
ply chain function has its own three level planning process. 1 decision support systems, and
To illustrate the different types of decisions and manage- 2 performance measurement systems.
ment controls exercised at each planning level, note in Figure Decision support systems (DSS) for supply chain planning
2 that at the tactical level we use scheduling as a function span a broad array of methodologies and techniques ranging
descriptor, while at the operational level execution is the from data base analyses and data mining to simple spread-
function descriptor. In practice, at the tactical level one sheet based analyses, to sophisticated mathematical optimi-
observes both planning and scheduling activities, while at the zation and simulation models, and statistical analyses. It is
operational level, planning, scheduling and execution activi- important to recognize that a firm must develop and maintain
ties all occur. Note also that while Figure 2 shows only four DSS tools to support activities at each level of its planning
supply chain functions for illustrative purposes, some firms horizon (i.e., the strategic, tactical and operational levels).

FIGURE 3
Performance measurement DSS and PMS integration into

systems provide managers with business and SC planning framework
indicators of how efficiently and
effectively their supply chain is Objectives
operating. Additionally, good per- Product/market mix
formance measurement systems

(PMS) also offer advance warn- Supply chain strategic planning
To support firm/business unit:
ings or indications of potential Strategic
r
Mission
future problems on a supply Goals and objectives 2 years
y +
Strategies
chain. A good PMS is also an
Performance measurement systems

absolute necessity to support the
Decision support systems
Constraints
planning frameworks of a supply
Manufacturing Logistics Procurement Transportation
chain organization. planning planning planning planning
Figure 3 depicts the integral
Constraints
role that decision support and per-
Tactical
a
formance measurement systems Manufacturing Logistics Procurement Transportation 122 to 24
scheduling scheduling scheduling scheduling m
months
play in the business and supply
chain planning framework. Constraints
Operational
e
As illustrated, each individual Manufacturing Logistics Procurement Transportation 1 to 18
supply chain function must have execution execution execution execution m
months
appropriate DSS tools at each

Source: Authors
level of its planning process. Sim-
ilarly, each function must also have pertinent performance A first step in the planning process consists of determin-
metrics to monitor its activities. And collectively, the sup- ing the mission of the overall warehouse network and the
ply chain organization must have the DSS and PMS tools individual locations that will make up the network. As is
required to manage the entire process. well known, not all warehouses on a network will necessar-
A firm with good supply chain frameworks, but which ily have the same mission or play the same role. The num-
lacks the proper DSS and PMS tools cannot succeed. ber of warehouse echelons to establish represents another
Similarly, a firm with strong DSS and PMS capabilities, common strategic network design question that heavily
but which lacks the appropriate supply chain frameworks influences the mission of individual warehouses.
to organize and utilize these tools cannot succeed. Only For example, a firm must decide whether it will oper-
the combination of good supply chain frameworks, com- ate a single echelon network in which every warehouse
plemented by strong decision support and performance will receive shipments of all products directly from all
measurement systems, will facilitate effective supply plants, or alternatively does the firm want to operate a
chain planning and successful operations. To conclude multi-echelon warehouse network where one or more first
this article, we next present two examples of functional echelon, central warehouses receive products from plants
hierarchical supply chain planning (HSCP) frameworks and then redistribute some or all products to second
and systems. echelon regional warehouses. Another important strategic
decision concerns the question of whether a firm chooses
A warehouse planning and operations example to operate its own facilities or to outsource some or all of
The warehouse planning process begins at the network- its warehouse operations to third party providers. Finally,
wide strategic planning level where a firm must determine as Figure 4 illustrates, total network warehouse capacity
how warehouse operations fit into its overall strategic plan. requirements and the economies of scale trade-offs are
Figure 4 provides a high-level overview of this hierarchical two additional key determinants of the interrelated deci-
planning process that begins at the strategic level. sions on network design, facility design and warehouse

technology selection. FIGURE 4 of labor and short-term assignments

At the tactical level, a firm must Hierarchical of items to storage locations repre-
concern itself with such planning warehouse planning sent two of the major operational
activities as balancing the demand planning activities. Typically, it is
Network design
for warehousing capacity across its and warehouse location the non-routine components of
network, and planning the most Overall network capacity these activities (e.g., addressing
Number of echelons
efficient and effective utilization of temporary storage requirements that
Strategic
a
its capacity at each individual DC. significantly exceed capacity) that
Capacity planning at the individual Facility design require the most critical attention.
and technology selection
DC level can involve determin- Scale trade-offs It is also typically the exceptions
ing the overall labor level and mix or non-routine requirements of
Constraints
required to meet the projected operational planning and scheduling
Aggregate planning
demands over the planning horizon, that planners must report, or feed
Capacity balancing across network Tactical
ac
the proper mix and use of available Capacity planning within DC back, to the tactical planning level.
storage locations (e.g., type of rack- SKU/item location and allocation For example, when warehouse
ing where adjustable), and so on. Constraints planners consistently find them-
In general, tactical warehouse Operating procedures
selves having to schedule unplanned
planning focuses on the determi- and policies outside storage because of insuf-
nation of how to best employ the Operational
at ficient facility storage capacity, they
existing network infrastructure should send this information to the
Daily and short
(i.e., the existing warehouses and run scheduling tactical level for resolution. Perhaps
materials handling equipment). the overall warehouse network is
Source: Authors
Additionally, decisions to pur- out of balance and requires re-
chase relatively minor FIGURE 5 alignment because excess
additional warehousing Illustrative operational warehousing decisions storage capacity exists at
assets (e.g., incremental certain warehouses, while
What assignment of customer orders to the different
material handling equip- types of pick operations in a warehouse will maximize other warehouses face
ment, racking, etc.) will operating efficiency? the opposite situation.
How much space should be allocated for different
occur in the tactical product types and different activities?
Alternatively, perhaps
Operational
planning process. Major planning this storage capacity issue
horizon
infrastructure issues that What items should be diverted to temporary outside at one warehouse is not
storage when storage space requirements exceed
a firm cannot resolve at short term capacity? an imbalance issue, but
the tactical planning level How should individual jobs be scheduled in rather is occurring regu-
the warehouse?
(e.g., inadequate network larly across the network
capacity to meet forecast Source: Authors and requires a total net-
long term warehouse work solution. This rep-
throughput or storage requirements) must typically be fed resents just one simple example of the feedback loops that
back up to the strategic planning level for resolution. Thus, must exist between the operational and tactical warehouse
the efficacy of hierarchical warehouse planning and sched- planning levels.
uling relies upon feedback loops, as do most supply chain
functions. A manufacturing planning and operations example
At the operational level, a broad assortment of ware- In our illustrative hierarchical manufacturing and distri-
house planning and scheduling activities takes place on a bution planning framework, business unit strategic plans
regular basis. Figure 5 illustrates a sample of key decisions have been developed and approved, as have the high
that operational schedulers must address. The scheduling level strategic plans of the overall supply chain. Now

the manufacturing and distribution FIGURE 6 on evaluating capacity levels and
functions commence their own stra- Integrated manufacturing imposing and/or communicating
tegic planning processes to support and distribution planning capacity constraints from higher lev-
the overall supply chain and busi- framework els down to lower levels, it is impera-
ness unit strategies. Corporate tive that strong feedback loops exist.
At the strategic manufacturing As is well known, production and
Product/market mix
planning level, the company must distribution plans that appear fea-
address such issues as planned pro- sible at an aggregate level can often
duction capacity levels for the next Strategic
t contain hidden infeasibilities that
Manufacturing and
2 years
a +
three years and beyond, the number distribution planning only manifest themselves at lower,
Capacities
of facilities it plans to operate, their Number of facilities more disaggregated levels. Without
locations, the resources the com- Geographic locations the proper feedback loops embed-
Resources
pany will assign to its manufactur- ded into a hierarchical planning
ing operations and numerous other Constraints system, the danger that a company
important long-term decisions. Aggregate production/ will attempt to move forward with
Distribution planning
Decisions made at the strategic Tactical
t infeasible plans always exists. These
Allocates capacity and 12 to
o 24
level place constraints on the tacti- resources to product lines months
n infeasibilities often do not surface
Assigns sales regions to
cal planning level. Typical plan- DCs and plants
until a company is in the midst of
ning activities at the tactical level executing its operational plans and
Constraints
include the allocation of capacity schedules.
and resources to product lines for Operations scheduling
Distribution resource
the next 12 to 18 months, aggregate planning (DRP) Competitive and agile
planning of workforce levels, the Master production scheduling In this article, we have described
Short run DC workload scheduling Operational
a
development or fine-tuning of dis- Transport scheduling 1 to
o 18 a planning methodology for supply
months
n
tribution plans and numerous other chain managers that utilizes hierar-
Constraints
activities. Within the constraints of chical frameworks to organize and
Short-term
the companys manufacturing and scheduling
align both individual supply chain
distribution infrastructure (an infra- (shop floor) functions, as well as an entire firms
structure determined by previous planning and operations from the
Source: Authors
strategic decisions), managers make strategic level to the daily opera-
tactical planning decisions designed to optimize the use of tional level. The planning systems and components of
the existing infrastructure. these frameworks will vary based on the requirements of
Planning decisions carried out at the tactical level individual firms and their major functional activities. How-
impose constraints on operational planning and schedul- ever, all hierarchical framework based systems share the
ing decisions. At this level, activities such as distribution common characteristic that they organize and synchronize
resource planning, rough cut capacity planning, master planning activities and operations from the long run to the
production scheduling, shop floor control scheduling and short run.
many other decisions occur. This comprehensive perspective and alignment facili-
As previously noted, the feedback loops from the opera- tates efficient and effective planning and decision-making
tional level to the tactical level and from the tactical level within a firm. All the methodologies and frameworks we
to the strategic level represent one of the most important present and reference can readily be implemented. Our
characteristics of the HSCP system illustrated in Figure 6. experience has taught us that firms that place strong
A true HSCP system is a closed-loop system that employs emphasis on these approaches make themselves signifi-
a top-down planning approach complemented by bottom- cantly more competitive and agile relative to firms that
up feedback loops. Given the emphasis of HSCP systems under-invest in these areas. j jj

Southern Glazers
HOW THEY DID IT:
Southern Glazers
Supply Chain Transformation
BY BOBBY BURG AND ARUN KOCHAR
Southern Glazers supply On January 11, 2016, Southern Wine and Spirits
chain transformation did agreed to merge with Glazers Wine and Spirits and cre-
not happen overnight. ate the largest distributor of wine and spirits in North
Instead, its been a series of America. The new company, Southern Glazers Wine
steps over the past decade and Spirits, LLC, or Southern Glazers, represents more
involving everything from than 2,400 suppliers of wine, spirits, beer and bever-
automation to S&OP. This is ages, including more than 5,000 individual brands.
how they did it. The company makes weekly deliveries to approximately
200,000 customers in 44 states, and distributes more
than 150 million cases a year to a customer base that
Bobby Burg is the senior vice ranges from big box retailers and national grocery
president and chief supply chain chains to hotels, retail outlets, and neighborhood res-
officer of Southern Glazers Wine taurants, bars and clubs.
and Spirits, LLC. He can be That same month, Bacardi, the worlds largest pri-
reached at bburg@southernwine. vately held spirits company, announced that it had
com. For more information, visit selected the newly-formed company to lead the distri-
southernglazers.com. Arun Kochar bution of its wine and spirits portfolio in more than 40
is a principal with A.T. Kearney. markets across the United States and Canada.
He can be reached at arun. It could be argued that the latter could not have
kochar@atkearney.com. For more happened without the former: Prior to the merger, its
information, visit atkearney.com. doubtful that Southernor any other single player in the
North American wine and spirits industrywould have
had the scale and logistics capabilities to create the kind
of distribution network Bacardi was looking for.

Indeed, both deals could be viewed as the culmina- today there are close to 400 and the top five dominate
tion of Southerns nearly two decade-long journey to 50% of their markets.
extend its reach and achieve supply chain excellence. These new distributors are in the process of remak-
Traditionally, the wine and spirits industry has been ing their networks and their distribution capabilities.
viewed as a supply chain laggard as compared Small, conventional facilities that serviced local
to industries like CPG, retail and food areas are being replaced by larger build-
and beverage. But as a distributor for ings that can serve a region with next-day
whom best-in-class transportation and deliveries. Inside, those facilities are
distribution processes and customer moving from conventional paper-based
service are a competitive differentia- operations to highly-automated processes
tor, Southern has remade its model utilizing voice- and light-directed picking,
around five basic objectives: high speed conveyor and sortation systems
lead a bold transformation that delivers and automated storage technologies. More
breakthrough service performance; importantly, these distributors are adopting
redefine the model for managing the flow of broader supply chain strategies (such as S&OP and
inbound product from suppliers; integrated business planning) to launch new products,
embed leading distribution practices from other optimize deliveries and get the right products to their
industries where applicable; customers shelves.
enable the flexible management of sales and inven- Southern Wine & Spirits was a leader on both
tory growth; and fronts for years before its merger with Glazers. Since
deliver a differentiated supplier value proposition that its founding in Miami in 1968, Southern grew through
delivers a competitive advantage. acquisitions and green-field expansions into the coun-
It did so by focusing on five key strategies: The first trys largest wine and spirits distributor. In 1969, just
was a series of mergers and acquisitions to grow its one year after its founding, Southern expanded into
footprint; the second was the hiring of talent and sup- California and by 1972 it had statewide distribution
ply chain professionals from outside the industry; the in Florida. The next 30 years saw further expansion
third was to optimize its growing distribution network in California while gaining footholds in Arizona,
and adopt automated materials handling technologies South Carolina, Pennsylvania, Hawaii, Kentucky,
inside its remaining DCs; the fourth was a new distri- New Mexico and Colorado. By 1992, Southern
bution model for slow moving products and products had ascended to become the largest wine and
that are produced and ordered in small quantities; and spirits wholesaler in the United States. By 2010,
finally through the implementation of supply chain pro- following a five-year period of exceptionally fast
cesses such as sales and operations planning (S&OP) growth, Southern had grown its footprint to
and collaboration. This is how they did it. more than 30 states.
Just as Southern was transforming its busi-
Drivers of the supply chain transformation ness, mergers and acquisitions were also underway
Over the last 10 years, the wine and spirits industry among its competitors and suppliers, as companies
has been in the midst of a transformation. As the like Bacardi and Diageo consolidated wine, spirits and
regulatory environment has evolved, small, local and beer producers from around the globe. The customer
regional distributors like Southern and Glazers have base has also changed. At the retail level, for instance,
merged into new entities with scale. Twenty years ago, local grocery chains have expanded into regional and
there were close to 1,000 wholesalers/distributors; national players that look for suppliers who can serve

Southern Glazers
them wherever they do business. At the same time, a approach to running its operations. If the company
distributor must also be able to meet the needs of small was going to stay on a growth path, it needed to stan-
customers, like the neighborhood bar or the restaurant dardize processes and procedures and operate as one
that specializes in boutique wines and craft spirits. company across functional silosincluding training
In the midst of this growth, Southerns CEO Wayne and supply chain.
Chaplin outlined a vision for the company to become a The first step was to hire a senior vice president of
national player. His strategy sounds simple: align with human resources who was charged with centralizing and
a strategic set of suppliers and offer them incentives to standardizing human resource policies and practices
across the company. That was followed by a new corporate
level position of vice president of organizational develop-
Southern Glazers at a glance ment whose job was to develop standardized training
22,000 employees programs, performance appraisals and succession plan-
Operations in 44 states plus the District of Columbia, ning across the company. In both instances, the new posi-
the Caribbean and Canada tions were developed to instill employee engagement that
would deliver a competitive edge in a changing industry.
47 distribution centers
Perhaps most important, the establishment of standard-
6.4 million customer deliveries annually ized practices and processes across the company laid the
12.5 million square feet of warehouse space groundwork for Bobby Burg, Southerns chief supply chain
officer, to develop standard supply chain processes that
Delivers to more than 250,000 customers annually
could be rolled out across an integrated national distribu-
Represents 1,500 wine, spirits, beer and beverage tion network rather than a series of independent, regional
suppliers supply chains.
Distributes over 5,000 brands To that end, Southern began to look outside the
wine and spirits industry for talent that might bring in
best practices from other disciplines. One example was
work with Southern. The challenge from a supply chain the recruitment in 2013 of an executive from the U.S.
perspective was to create a distribution network and Treasury to fill the role of director of business continu-
processes that could execute on that vision. ity. This new hire reports to Burg and is responsible
for providing leadership for the key program areas of
Making it happen: The people factor businesscontinuity, disaster recovery, risk management,
Human resources is not traditionally thought of as a cyber security and customer service. Another new hire
supply chain function. Yet, as the current focus on the was the vice president of supply chain transformation
supply chain talent gap has made clear, an organiza- who joined Southern after five years at GE, including a
tion cant manage a best-in-class supply chain without stint as the sourcing manager for GE Digital Energy for
the best people. Despite the current focus, the search North America and Europe.
for top notch supply chain talent is not a new phe-
nomenon. In the early 2000s, Southern recognized the The ABCs of DCs
need to dedicate resources to employee engagement, Just as the establishment of a central human resources
retention and targeted recruitment. One of the drivers function brought 10 independent operating companies
for this focus was Southerns aggressive merger and under one umbrella, the supply chain team launched
acquisition strategy. As an entrepreneurial company an initiative in 2002 to redesign and optimize the dis-
built by acquiring competitors in regions where it tribution network, a project that continues today. The
didnt have a presence, Southern essentially operated effort began in Illinois, following the acquisition of two
like 10 different companies, each with its own legacy wholesalers. As part of that deal, Southern inherited

nine small distribution centers. To consolidate the net- early evening. Full and mixed cases accumulate on the
work, Southern built a new highly-automated 600,000 conveyor system until its time to load the trucks. The
square foot facility that included 425,000 square feet software system then releases them into route trucks
of warehousing and distribution space and a high-speed on a first in/last out basis in the order they will be deliv-
conveyor and sortation system capable of shipping 10 ered to customers. Route delivery trucks begin leaving
million cases a year. the facility early in the morning. Meanwhile, full truck
A similar effort was launched in Florida a few years loads carrying pallets travel to a cross-dock depot in
later. At the time, Southern served the state with five the northwestern part of the
Southern continues
distribution centers. In their place, it opened one state. There cases are loaded
state-of-the-art distribution center in Lakeland, Fla., onto a conveyor system that
to expand the auto-
that made innovative use of automation technology to builds route stop deliveries for mation and tech-
serve the whole state. The central DC was augmented that part of the state, or sends nology tools in its
by eight, small cross-dock depots that received full truck- pallets into another truck for kit, implementing
loads and sent out route trucks for final delivery. With deliveries to Washington State. a new automated
those two projects under its belt, Southern consolidated Cross-dock facilities like this case handling tech-
and redesigned distribution centers in the other regions one also serve as sales offices nology in one of
where it does business. In recent years, the company and stores where retailers can
its New York facili-
has invested over $200 million to consolidate, retire or pick up their own orders.
ties and piloting
renovate 2.5 million square feet of warehouse space, By consolidating inventories
with plans to address another 1 million square feet of in large regional DCs like the
new pick and load
space over the next 24 months. The strategy, according one in Union City, Southern process with the
to Burg, is to replace small-cube buildings with high- has developed the flexibility potential to reap
volume, high-capacity and high-cube warehouses that to respond to customer and major savings at
make smart uses of automation and technology. These consumer demand, rebalance other locations.
large DCs serve route delivery trucks that make next day inventory levels through the
deliveries of cases to customers as well as full truckloads supply chain, ensure improved in-stock positions and
that, as in the Florida model, deliver pallets to a network consolidate and leverage inbound and outbound ship-
of cross-docks depots in strategic locations, extending ments. Southern continues to expand the automation
the reach of the regional DCs. and technology tools in its kit, implementing a new
One example of Southerns distribution strategy is the automated case handling technology in one of its New
334,000 square foot distribution center in Union City, York facilities and piloting new pick and load process
Calif. Reaching 55 feet high, the facility features a high- with the potential to reap major savings at other loca-
speed conveyor and sortation system and an automated tions. Beyond that, automation technologies enable
storage and retrieval system that manages the 4,500 Southern to keep pace with the anticipated growth in
fastest moving SKUs that represent 82% of the volume its business: Even before the merger with Glazers, the
in the facility. The AS/RS is used not only for storage, distributor predicted that without changes to its model
but also automatically replenishes some 1,500 case pick slow moving SKUs would represent some 62% of total
locations. Meanwhile, voice-directed picking is utilized inventory by 2021 and that without new technologies,
in a bottle pick area where mixed cases are built. Opera- all but two DCs would exceed full capacity.
tions across the facility are tied together by a sophisti-
cated warehouse execution software system. All told, the Consolidating slow movers
facility can process as many as 50,000 cases a day. With a highly-automated distribution network in place,
The facility takes orders from customers for next day Southern introduced a new concept to the wine and
delivery throughout the day. Order picking begins in the spirits industry as a way to address the increase in new

Southern Glazers
products bottled in small lots and slow moving prod- chain team can buy a whole container for the SSC, tak-
ucts while engaging its supplier partners in an innova- ing advantage of the container price while leveraging
tive, synergistic, cost-savings solution: The Southern sea lanes. It then creates a mixed pallet of product that
Supply Center (SSC). includes a case of Italian wine that is shipped to that
Opened in Tracy, Calif. in July 2013, and managed Kentucky DC.
by a 3PL, the 167,000 square foot facility consolidates Suppliers that buy into the new model also ben-
wine and spirits from global partners that are produced efit by partnering with Southern on sales forecasts
or ordered in small quantities, and from the companys market intelligence. Whats
After several
warehouses them until there is more, suppliers now have easy access to the entire
months of plan- demand and then redistributes Southern Glazers supply chain network. The new
ning, the team was them to Southern DCs across product flow delivers at least three benefits to South-
ready to roll out the country. The Tracy location ern and its suppliers:
S&OP. The success is in the heart of Californias aggregated forecasting process reduces safety stock
of the initiative wine country, which puts it requirements;
would depend on in easy shipping distance for suppliers bottling operations are streamlined through
the Southern team producers of high-end wines. fewer, larger quantity, predictable orders; and
Southern benefits from a high number of high-density
adopting a unified Southerns Burg describes it as
the first dramatic change on transportation lanes.
way of working,
the operational supply side of Customers also benefit. Southern is able to offer a
enabled by strategic the industry since Prohibition. more distinctive product mix and improved service to
communications Prior to the SSC, suppliers of small local wine shops and top flight restaurants. And
and careful modifi- these products shipped directly with the California SSC operational, Southern has
cation of business to a Southern DC, often ship- plans for additional SSCs in the Midwest and on the
processes and sup- ping out a large number of small East Coast.
porting systems. orders, or low-density transpor-
tation lanes. As an example, a Enterprise S&OP
tequila maker used to bring its product from Mexico On August 26, 2014, the leaders of Southerns finance,
to a warehouse it operated in Nevada, where it then IT and strategy functions gathered their reports in
shipped product to Southerns regional DCs across the one large meeting room to introduce a new idea: sales
United States. and operations planning, or S&OP. This change was a
The SSC turns that model on its head. Rather than fundamentalbut criticalshift in the way formerly
ship out a number of small orders, producers can ship siloed departments would operate. Inventory, after all,
one large order to the SSC. That tequila maker, for is the lifeblood of a distributor like Southern; with an
instance, now ships tequila directly from Mexico to the average of $3 billion sitting on the shelves of ware-
SSC. Southern, meanwhile, streamlines distribution by houses and outside storage, it is also the biggest item
aggregating demand from across the network into the on the companys balance sheet, outstripping every
SSC, which enables better purchasing decisions and other expense. A successful S&OP program could not
drives transportation efficiencies. For instance, a DC in only improve fill rates and minimize out of stock posi-
Kentucky couldnt afford to purchase and warehouse a tions, but any reduction in inventory levels and outside
whole container of top shelf wines from Italy that might storage costs would free up valuable working capital
not sell through for a year or more. Now, the supply that could be reinvested in other processes.

After several months of planning, the team was savings in the first year, focused on freight co-sourcing;
ready to roll out S&OP. The success of the initiative collaborative sales planning aimed at generating a single
would depend on the Southern team adopting a unified demand signal; utilization of the SCC to optimize
way of working, enabled by strategic communications the flow of the slow-moving products that represented
and careful modification of business processes and about 10% of that suppliers business; and simplification
supporting systems. The process became the founda- of business processes, including the automation of the
tion of One Southern, an internal change manage- procure-to-pay process.
ment strategy that underscores the importance of one The two organizations also instituted monthly
single set of best practices. meetings to develop one unified purchasing forecast,
In the industry, suppliers are often persuaded to which has resulted in a 10-day reduction in finished
align with a given distributor when convinced that goods inventory, a drop in overtime for warehouse
their brands will gain more visibility or other benefits. employees and 50% reduction in the volume of expe-
But even the most friendly honeymoon can end quickly dited freight. In the next phase, the two will develop
if the distributor is not carrying the right quantities processes for the joint procurement of non-freight
and out-of-stocks are frequent. At Southern, S&OP categories such as bottling, warehousing and delivery
is regarded as the nexus of the commercial and the and marketing.
supply chain sides of the business. It is also vital for A second example launched with a spirits producer
Southern to realize CEO Wayne Chaplins vision for was designed to jointly capture as much as $5 million
supplier alignment. in benefits through operational efficiencies, a new pro-
S&OP pushed Southern team curement strategy and integrated
members to work in a more planning. The two organizations meet
cross-functional manner than twice a month for integrated planning
they had in the past. Its success meetings focused on internal align-
could engender other significant ment and joint shipment planning.
enterprise initiatives. Since its They are also sharing forecasts, per-
adoption, the S&OP process has formance measurements and supply
helped Southern drive better and production planning. And, they
supplier collaboration, increased are also utilizing the SSC to drive
fill rates and improved material efficiencies.
availability. Now, with the merger with Glaz-
ers and the distribution agreement
Next steps with Bacardi, Southern Glazers will
With a redesigned and optimized continue to improve its network,
network and new processes such the processes inside the four walls
as S&OP in place, Southern has of its distribution centers and the
focused on collaborating more way it collaborates with suppliers
closely with its largest suppliers, a and customers. After all, in an ever-
process it refers to as value chain changing business, transformations
integration. are never complete and the best
An initiative with one large sup- companies will always find ways to
plier, which yielded $9 million in improve. j jj

Optimized Flow
The Myths and Truths

About Inventory
Optimization Retailers and distributors alike have
attempted to solve their inventory
challenges by using forecasting tools to
determine what to buy and when to buy
it. A better approach is to change the
flow of inventory by reducing cycle times,
more effective inventory positioning, and
synchronizing supply chains based on
the variability of demand.

and why the right processes
make all of the difference
BY JIM BARNES
W
e all dream of a perfect world. For supply chain have the right SKU at the right place, in the right quantity,
managers charged with optimizing inventory, espe- and at the right time to meet the demands of their customers.
cially in the retail industry, Supply Chain Utopia To that end, many supply chain managers rely on expen-
might be a make-to-order environment where a customer sive forecasting tools to optimize inventory across their net-
walks into a store or visits a Web site to purchase a new shirt works. We believe there is another approach: By changing
to go with a stylish summer outfit. In a matter of minutes, a the flow of inventory from source to consumption through
seamstress turns out a beautiful blue cotton shirt in just the reduced cycle times, inventory positioning, and synchroniz-
right size. A few minutes later, the shirt is boxed in tissue ing supply chains based upon demand variability, manag-
paper and handed to the happy customer or dropped off at a ers can reduce their inventory levels without expensive
parcel carrier for the last mile delivery. In Supply Chain Uto- forecasting tools, especially as the target fill rate increases.
pia, retailers would always have ample capacity, raw materials, At the least, optimizing inventory flow and positioning in
and labor to meet periods of average and peak demand. Inven- combination with forecasting can deliver better results than
tory optimization would be taught in The History Of Supply relying on forecasting alone. In this article, we will highlight
Chain 101; inventory managers would bore their grandchil- three retailers with varying levels of inventory challenges and
dren with stories about distribution centers, stocking points, the steps they took toward inventory optimization. In the
and back of the store storage rooms from the good old days. process, we will call out many of the common myths and
Unfortunately, Supply Chain Utopia is a myth. The truth related truths on the subject of inventory optimization.
of todays competitive markets is that customers want instant
purchase gratification while lead times for incoming mer- Forecasting and Inventory Positioning
chandise can be 20 days to 180 days. That especially holds Myth: Forecasting alone can solve the challenges that re-
true for retailers at all stages of the transformation from tailers face to service their customers.
single channels of business, such as a brick and mortar or Truth: Prior to implementing any forecasting solution, re-
catalog retailer, to multi- and omni-channel retailing from duce the total cycle times and minimize variability between
stores, catalogs, the Web, and other mediums. But, it also supply and demand points. Retailers and distributors alike
holds true for industrial distributors and manufacturers com-
peting on a greater depth of product, drop shipments, and Jim Barnes is the President and CEO of enVista, a supply
higher levels of customer service. chain consulting and IT services firm. He has spent 22 years
This does not mean we should stop developing demand deploying supply chain solutions and synchronizing material
driven retail or distribution supply chain strategies with the and information flow for Fortune 500 companies. He can be
concept of buy one and stock (replenish) one. In the mean- reached at jbarnes@envistacorp.com. For more information,
time, however, most retailers and distributors will struggle to visit www.envistacorp.com.

Optimized Flow
require an optimal supply chain network, in combination 300 stores and 9,000 SKUs. Its stores are served from two
with positioning inventory in the correct location. DCs. A Pennsylvania DC serves the East Coast while a sec-
Inventory is by far one of the largest components of work- ond facility in Utah serves the western half of the country. It
ing capital for most retailers and distributors. To meet mount- rarely runs promotions and those are primarily aimed at its
ing consumer expectations, both have attempted to solve e-commerce customers. The heaviest traffic occurs on the
inventory challenges by utilizing forecasting software to help weekends, with Friday, Saturday, and Sunday accounting for
determine what to buy and when to buy it. Retailers do need 57 percent of the retailers sales. Ninety percent of its supply
some level of forecasting due to the number of factors that base is located in the U.S., with a small percentage located
affect their ability to time demand with supply and to allocate in Europe and Asia. A third of its revenue comes from private
the right inventorythe right SKUto the correct store labeled merchandise. (See Table 1.)
location. We call that SKU LOC. As retailers expand, adding Retailer A was challenged by a number of supply and
more store locations while increasing the number of SKUs demand variables. Each store carries the full 9,000 SKUs;
they offer customers, the number of SKU LOC permutations however, stocking volume levels vary according to the size of
increases. the store, its geographic location, and its revenue. In all, there
To make the right allocations, forecasting solutions evaluate are 2.7 million possible SKU LOC combinations for allocating
a number of variables, including supply lead time and vari- inventory. Demand for any one SKU is relatively light com-
ability, purchase order review periods, demand variability, lead pared to fast-moving CPG products: A high volume SKU sells
times from the DC to the store, safety stock percentage, in just one unit every three weeks, and a typical product lifecycle
stock percentage, minimum presentation quantity, and shelf lasts over a year. Once a new SKU is introduced to the market
holding power. Each of these variables affects the amount of and allocated to the stores, 100 percent of the new SKU is
inventory in the supply chain. But which variable or combina- placed on replenishment.
tions of variables has the greatest impact on inventory? How Prior to an optimization initiative, the inventory flow
does dependent or independent demand variability affect through the network resembled a pure distributor, not a
inventory in combination with inventory positioning? And, how retailer. The retailer did not pre-allocate inventory prior to
does a retailer avoid over allocating or allocating to the wrong receipt. Instead, new receipts were allocated evenly between
stores in order to minimize markdowns, lost gross margin, and stores, which were treated equally, no matter where they
transfers between stores? were located or regardless of demand for a SKU in that store.
Myth: Positioning inventory as far forward in a retailers When a SKU was received in a distribution center, it was put
supply chain (stores) is the optimal solution. away into storage before it was allocated, picked, packed, and
Truth: Over allocating inventory to stores increases mark- shipped to a store. Each store received only one shipment per
downs, lost gross margin, and transfers between stores. week with the exception of stores in New York City, Los Ange-
While some level of forecasting is required, forecasting les, and San Francisco. Purchase orders were reviewed once a
alone wont deliver all of the answers. Instead, retailers and month for 250 vendors.
distributors can enhance their ability to improve inventory The retailers biggest challenge was lost sales due to out of
turns, and reduce working capital while improving service,
stocks. Its in-stock position was less than 91 percent at the
through careful inventory positioning, changing flow paths,
and allocation strategies designed to improve the velocity store and less than 70 percent at the DC. An item that was
of capital. Inventory positioning is not a new concept; how- out of stock at the store was even more likely to be out of
ever, few retailers and distributors utilize inventory position- stock at the DC, meaning little chance of replenishment.
ing, multiple flow paths, and network design as a means to
optimize inventory and improve service to their customers. Synchronizing Supply With Demand
Lets look at how three growing retailers, representing a Retailer A had one goal: Improve in-stock percentage to the
variety of go-to-market strategies, optimized their inventory store. Retailer As number one goal was to synchronize supply
by reducing cycle times, inventory positioning, and synchro- with demand to decrease its out of stock position at the shelf.
nizing their supply chains based upon demand variability. Doing so would improve sales, reduce the amount of safety
Retailer A is national lifestyle and specialty retailer with stock maintained in the back room, and reduce the labor

TABLE 1
Retailer A:
Improving In-Stock Percentages at the Store its shipment to shelf percentage from 55 percent to 94 percent.
Retailer A
That eliminated the need to maintain safety stock in the back
Attributes National Lifestyle Specialty Retailer stock rooms and the need to allocate labor to cycle count extra
Locations 300 stores inventory that was not required.
SKUs 9,000
SKU/Location Combos 2.7M
Promotions Only and rarely for e-commerce Truth: Retailers must align and design inventory flow
Supply Chain Network 2 DCs (East and West Coasts) paths to match seasonal and promotional demands
% Revenue from Private Labels 30%
by doing so, they reduce cycle time and improve
Supply Base 90% in U.S.,
remainder from Europe and Asia speed to market.
3) Prior to this project, Retailer A had a 100 percent post
Source: enVista
allocation inventory strategy: All new receipts were received
associated with cycle counting and replenishing the shelves. It and putaway into storage before they were allocated, picked,
achieved this through three steps. packed, and shipped via LTL carriers. However, as a result of
analyzing inventory flow, Retailer A realized that the demand
Truth: Increasing purchase order frequency will for some SKUs was predictable. That led to a new model,
improve the flow of inventory from supplier to DC, where 15 percent of SKUs were pre-allocatedor put-to-
resulting in improved fill percentage and downstream stores. Newly received inventory was processed at receiving
distribution center in-stock percentage. The conse- and flowed through the facility to a parcel carrier. On average,
quence is increased inbound transportation. Retailer A reduced four days of cycle time for new SKUs uti-
1) At the start of this project, the average suppliers lizing a put-to-store distribution flow and a change in carrier
fill rate was 84 percent. This was partially due to the fact modes. In addition, Retailer A reduced DC labor by utilizing
that suppliers received purchase orders in the third week the pre-allocation put-to-store process. The change in alloca-
of the month and were expected to ship an order during tion strategy and carrier mode allowed Retailer A to be the
the first week of the next month. Many suppliers were first to market with its fashion-oriented merchandise, driving
not in a position to fulfill 100 percent of the order in improved sales.
weeks three and four. To address this imbalance, Retailer When the initiative was complete, Retailer A optimized
A increased its purchase order frequency from once a inventory by increasing the velocity of inventory through the
month to weekly for high volume suppliers, and to twice supply chain. It is important to note that the retailer made
a month for the remaining vendors. By moving to weekly no changes to its physical distribution locations. Rather, it
and bi-weekly re-ordering, the fill rate increased from focused on synchronizing inventory flow based upon demand
84 percent to 93 percent. Increased purchase order fre- patterns. This was accomplished by reducing cycle time from
quency directly increased the distribution center in-stock suppliers, increasing purchase order frequency, and reducing
percentage from 70 percent to 88 percent. cycle time in its DCs and the cycle time from DC to Store.
Truth: Increasing order delivery frequency reduces In-stock percentages and comparable sales increased while
cycle time from DC to store, improving the flow of safety stock inventory levels decreased.
inventory and in-stock percentage. The consequence Retailer B is a national tire and automotive parts chain.
is increased outbound transportation. It stocks 800 SKUs in each of its 750 stores. That creates
2) Retailer A also increased its order frequency by volume 600,000 possible STORE LOC permutations when it comes
group to reduce the average replenishment cycle time from to allocating inventory. Like many tire and parts retailers, it
nine days to five and a half days. That allowed 65 percent of the uses radio, e-mail, and newspaper circular ads to promote
stores to sell a unit over the weekend and have a replacement sales. Twenty percent of its revenue comes from private label
on the shelf by the next Friday, in time for busy weekend traf- products. Prior to an inventory optimization project, it oper-
fic. Retailer As in-stock percentage improved from 91 percent ated a network of four distribution centers; 60 percent of
to 96.3 percent, improving comparable sales by 2 percent. The its supply base is domestic with the remainder coming from
retailer reduced operational payroll by $2.9 million by improving Europe and Asia. (See Table 2.)

Optimized Flow
A number of factors impeded Retailer Bs ability to opti- TABLE 2
mize inventory. Beyond market constraints related to the Retailer B:

industry, it was hampered with a demand pattern called inter- Reducing Inventory Working
mittent demand, or sporadic demand. (See Exhibit 1.) Capital While Improving Service
Intermittent demands patterns occur with slow- Retailer B
Attributes National Tire and Automotive Parts
moving items that are purchased infrequently and in vari-
Locations 750 stores
able quantities. An item purchased this month may not be SKUs 800 SKUs/store
purchased again for another three months. Plotted on a chart, SKU/Location Combos 600,000
intermittent demand will have a number of zero demand peri- Promotions Heavy use of promos
(circular ads, radio, e-mail)
ods. Yet, to meet customer demand, the retailer must always Supply Chain Network 4 DCs
keep some level of inventory in stock. % Revenue from Private Labels 20%
Determining the right stocking level for SKUs with inter- remainder from Europe and Asia
mittent demand is difficult with traditional forecasting tech-
Source: enVista
niques because conventional technologies look for predictable
demand patterns with trends or seasonality. Intermittent the supply chain was compounded by the fact that the retailer
demand, however, is characterized by the number of zero was making forward buying decisions to protect it from pric-
demand periods that are not easy to predict. When a tradi- ing volatility by its supply base:
tional forecasting tool sees those periods of zero demand, it Retailer B had one goal: Reduce inventory working capital
assumes there must be an error. That results in inaccurate in its supply chain, while improving service.
forecasts and either stock outs or too much inventory. To reduce its investment in inventory at both the stores
and the DCs while dealing with intermittent demand,
Myth: Extra inventory equals better service. In many Retailer B took several steps, including a redesign of its sup-
cases, it can negatively affect sales by over-allocating in- ply chain network.
ventory to the wrong store. 1) Retailer Bs first step was to evaluate its supply chain
With 800 tire SKUs and 750 locations, equating to network while simultaneously evaluating demand patterns.
600,000 SKU and location combinations, the ability to Retailer B moved from a four DC, single-tiered network
accurately forecast at the store level became very difficult. In strategy to a multi-echelon tiered network that included two
order to meet forecasted consumer demand, the retailer over cross-dock facilities and 31 spoke locations. (See Exhibit 2.)
stocked inventory at all stores (cycle and safety stock). This The change to the physical distribution network allowed the
was compounded by the fact that the retailer replenished the retailer to improve forecasting accuracy by aggregating store
stores just once a week, regardless of store volume. The exist- level demand from 750 locations to 31 distribution locations
ing inventory management
approach created less than EXHIBIT 1
desirable store inventory turns Intermittent Demand

and increased working capital 18
to manage the retailers inter- 16
mittent demand patterns. 14
SKU A
Excess inventory was also 12
SKU B
10
Units
an issue at the four DCs. In SKU C

8
addition to stocking excess 6
inventory at the stores to cover 4
demand variability, the retailer 2
was stocking at the DCs to 0
1 5 10 15 20 25 30 35 40 45 50 52
compensate for supply vari- Week
ability. Excess inventory across Source: enVista

(spokes). That allowed the retailer to reduce safety stock in service levels.
the stores by 20 percent. 3) Retailer B utilized economic order quantities for each
Like Retailer A, Retailer B increased its order delivery fre- item at all of the stores. With the introduction of hubs and
quency from one time to five times per week for many store spokes in the network, inventory that was less frequently
locations. The ability to sell a SKU and have it available on demanded could now be held at the DC, shipped to the
the shelf within 24 hours (leveraging a pull system) allowed spokes, and then pulled from the spokes to the stores when
the retailer to reduce inventory in the stores. a purchase was made, versus pushing and cross docking tires
with a low CV (Exhibit 4). The economic order quantities
Truth: An optimal supply chain network design, in combi- were adjusted by product-location combination, because
nation with inventory flow path analysis, will reduce inven- every item demand varied from store to store. This solution
tory working capital. It is very important when evaluating in- increased inventory turns at the stores by 60 percent and con-
termittent demand patterns to look at demand patterns by tributed to a one-time working capital reduction of $24.6 mil-
store and not the aggregate demand patterns for all stores. lion, as well as reducing annual carrying cost by $35.9 million
2) The retailer determined the coefficient of variance over a period of five years.
(CV) for each SKU and store location combination (Exhibit
3). The CV analysis determined the unique physical distri- Truth: First optimize inventory flows paths based upon
bution flows for each item, and defined which SKU LOCs supply and demand variability, and then develop your
required inventory forward in the supply chain (store or physical distribution and transportation network.
spoke) and which SKUs could be moved back in the sup- Retailer C operates 350 general merchandise and
ply chain (spoke and DC). By positioning inventory closer pharmacy locations, stocking as many as 25,000 SKUs per
to where it was in demand, while increasing store shipment store. That equates to 8.75 million possible SKU LOCs
frequency, the retailer witnessed a 4.15 percent to 9.72 per- across the chain. In addition to relying heavily on news-
cent increase in comparative sales, compared to the non-test paper circular ads and radio and television promotions,
stores in the same geography. the retailer recently developed an e-commerce strategy to
promote sales. Less than 10 percent of its revenue is derived
Truth: CV analysis is used to help determine inventory from sales of private label merchandise. (See Table 3.)
flow paths (push vs. pull) and inventory positioning. Each It operated an extensive network of regional DCs, manag-
SKU, or category of SKUs, requires unique physical dis- ing inventory from a supply base that is primarily located in
tribution flows in order to optimize inventory and improve the U.S., with 20 percent of its suppliers located in Asia.
Retailer C was challenged
EXHIBIT 2
EXHIBIT 2
by multiple store formats,
Multi-Echelon
Multi-Echelon Tiered Network
Tiered Network
a very large SKU assort-
ment, slow inventory turns,
and physical distribution
constraints that forced it to
push inventory out to the
stores100 percent of its
inventory was pre-
allocated before it was
received at a DC.
As a result, a lot of empha-
sis was placed on improving
forecast accuracy and allocat-
ing the correct inventory to
Source: enVista the correct store. The retailer

Optimized Flow
sourced the majority of its general merchandise from domes- EXHIBIT 3
tic suppliers with a 25 day average lead time from the time CV Analysis for SKU and Store Location
of purchase to the time the product was delivered to a flow- 40
through DC. The retailer utilized a rolling six week forecast 35
Total Demand
and evaluated buys by category on a bi-weekly and monthly 30
Total Demand
basis. Large volume stores were replenished twice a week 25
while smaller stores received a weekly replenishment. Com- 20
pany-wide, inventory turns were less than three times a year. 15

10
By pushing inventory out to the stores, Retailer C generally
5
sported an in-stock percentage of nearly 98 percent. The chal-
0
lenge with a 100 percent pre-allocation, or push, inventory 0 5 10 15 20.5
flow model was that if the forecast was incorrect at the time Coefficient of Variance
inventory was pushed to the store, there was no room on the Source: enVista
shelves. While the in-stock percentage looked good on the

shelf, inventory piled up in a back stock room, which required manage and optimize transportation costs. However,
additional store operational labor to receive, put away, replen- the DCs were designed as 100 percent flow-through
ish, and cycle count. distribution centersthey had no reserve storage areas
Retailer C had one goal: Develop a demand-driven supply to hold buffer inventory. Like Retailer B, Retailer C
chain. With inventory turns at less than three times per year completed a CV analysis to understand the demand
and back stock rooms overflowing with inventory, Retailer C variability by SKU and product category. The CVs for
took steps to synchronize its supply with demand and develop over 30,000 SKUs were greater than a 2.0 value. That
a demand-driven supply chain. meant the SKUs had a tremendous amount of variability
1) Retailer Cs physical distribution network con- within a season and post season. Inventory management
sisted of four regional DCs, geographically located to was also challenged because Retailer C is highly pro-
EXHIBIT 4
Hubs and Spokes in the Network
SKU-Level
SKU/Case-Level ASN Receipt,
ASN Receipt, Y/N on SKUs are Sorted
Y/N on Immediate Need by Route (X-Dock
Immediate Need Distro with Distro are
Distro Merged with
SKU/Case Level ASN
Safety Stock
Hub Spoke
Weekly Bi-Weekly/Weekly Daily/Weekly
Common Carrier
(Tender and 214)
Weekly Orders Shipment Visibility
or Ship Release (X-Dock vs. High Volume
Dates with Ship Safety Stock)
Pre-Staged and Low Volume
Windows
Trailers Units with Low CV,
<= 3 Days
Destined for Increased Turn
Consolidation) X-Dock Low CV X-Dock Low CV
Spokes (FTL) Target
SKUs and Holds SKUs and Holds
Safety Stock Safety Stock
for High CV for High CV
High Volume Low Volume
Source: enVista

TABLE 3 detailed Value Stream Maps, the merchants, buyers, alloca-
Retailer C: tors, distribution, transportation, and finance functional
Developing a Demand-Driven Supply Chain teams understood how lead time, supply time, and supply
Retailer C and demand variability affected overall inventory perfor-
Attributes General Merchandise and Pharmacy
mance. By mapping decision points, systems configuration,
Locations 350 stores
and system policies, Retailer C determined that processes
SKUs 25,000 SKUs/store
SKU/Location Combos 8.75M and their supporting systems were not aligned. For example,
Promotions Recently developed e-commerce all stores lead times from DC to the stores were set to the
strategy. Heavy promos (circular
ads, local TV/radio) longest lead timeseven dayswhile many stores lead
Supply Chain Network Regional DCs times were less than three days. This equated to four to five
% Revenue from Private Labels <10%
extra days of safety stock. In fact, Retailer Cs replenishment
remainder from Asia system actually supported lead time from DC to store, but
Source: enVista had not been configured to reflect the actual lead time.
motional, but most inventory has a six week lead time. Truth: Functions within organizations become silos, how-
That required moving the retailers inventory closer to ever, items and inventory cut across organizations horizon-
its demand points. This necessitated a change from a tally. It is important that all functional teams understand the
100 percent flow-through model to 20 percent flow- flow of inventory and how the decisions they make affect
through and 80 percent pull. The physical layouts of the inventory performance.
retailers facilities had to be changed to support a pull
inventory flow (Exhibit 5). No Silver Bullet
Looking over these three examples, it is clear there is no silver
Truth: Inventory positioning has the largest impact on op- bullet that will optimize a retailers or distributors inventory
timizing inventory for retailers and distributors. no one truthincluding costly forecasting systems. However,
2) Retailer Cs leadership realized that if they wanted there are methods and processes that retailers and distribu-
to reduce company-wide inventory, they needed to tors can use to develop and ensure a demand-driven supply
evaluate their store planogram and visual merchandis- chain. Inventory optimization is a derivative of a sound supply
ing strategy. Retailer C looked at SKUs that were double chain process design, controls, and measurements. Inventory
and triple-faced and determined the correlation between is decreased by reducing lead times, inventory positioning, and
excess inventory and their planogram strategy. By reduc- synchronizing supply and demand order and delivery frequen-
ing SKU faces, Retailer C could reduce excess inventory cies to meet the needs of customers.
(safety stock), which allowed the retailer to increase its The starting point is often with simple inventory flows and
assortment without increasing its inventory investment. value stream maps across the supply chain. j j j
The retailer could now add 10,000 additional SKUs

(increasing the size of the assortment). The exercise EXHIBIT 5
revealed that the retailers visual merchandise strategy

Pull Inventory Flow
(depth of shelves), store planograms, and minimum pre-
Impact to Inventory
sentation quantities had a negative impact on inventory Driver Safety Stock Driver Suggest by
working capital. Reduce Forecast Error <1% Management
Longer Lead Times to Customer <1% Management
Inventory Positioning 20%-30% Global Optimization
Truth: Space optimization, SKU assortments, and Synchronization 0-19% Global Optimization
inventory flows must be aligned in order to reduce total in- Change Shipment Frequency 5%-10% Global Optimization
ventory in the supply chain. Changing Transit Times 5%-10% Global Optimization
3) By involving cross functional groups and completing Source: enVista

Inventory optimization
Demystifying
INVENTORY
BY SEAN P. WILLEMS
T
Inventory optimization he pressure to optimize inventory is only increasing. In indus-
is often intimidating and trial business-to-business supply chains, customer service
frustrating. Once the level agreements are growing more stringent, with significant
most common barriers financial penalties for noncompliance. Meanwhile, brick-and-mortar
are removed, however, retailers must successfully manage inventories across their network of
optimized inventory across distribution centers and stores to compete against Internet retailers.
I often find that inventory optimization intimidates and frus-
the supply chain is easier
trates people working in supply chain. They are intimidated
to achieve than it looks.
because they believe the problem is too difficult to solve. They are
frustrated because solving it poorly has a material impact on their
lives and operationsnot to mention their careers. This is both
unfortunate and unnecessary.
This article seeks to demystify inventory optimization so that
Sean P. Willems, Ph.D., is Associate you can optimize your companys inventory immediately. It begins
Professor of Operations and Technology by representing the inventory optimization journey for any com-
Management at the Boston University pany as a progression through three efficient frontiers; companies
School of Management. He can be reached begin at an ad hoc frontier and then move to a single stage frontier
at willems@bu.edu. For more information, before finishing at a supply chain frontier. As Ill demonstrate,
visit http://management.bu.edu. the expected results of simply moving from the ad hoc frontier to
the single stage frontier are substantial. And, Ill explain the five
impediments to overcome when moving from the ad hoc frontier
to the single stage frontier.
The Efficient Frontier for Customer Service Level

and Inventory
Let me begin by telling a story about the efficient frontier. The efficient
frontier captures the tradeoff between customer service level and inven-
tory. Achieving a higher service level incurs a higher inventory cost.
This cost is nonlinear to reflect the reality that each incremental point

OPTIMIZATION
of service requires more inventory in the network. In most exercise, a company can simply improve its customer
classic textbooks, the snapshot of the companys exist- service level without changing its inventory level or
ing inventory-service performance represents a single it can maintain its current customer service level and
point on the graph measuring inventory and service. The lower its inventory level.
optimal efficient frontier is shown as a curved line that As a thought exercise, the picture and story associ-
does not touch the current inventory-service ated with Exhibit 1 sounds good. Reality, however, is far
performance point. more nuanced. If moving to the efficient frontier was so
Exhibit 1, on the foll- simple, everyone would just do it. In the real world, we
wing page, illustrates how cant just move from the current point to the efficient
we traditionally, and in my frontier because they represent different operating poli-
view incorrectly, teach the cies. Upon deeper reflection, the key take away is that
efficient frontier in the the current achieved point has its own efficient frontier
context of supply chain and there are two other frontiers worth defining and
management. The implica- moving towards.
tion of this drawing is that
without any changes to Three Efficient Frontiers
operating policies, a com- It is more appropriate to think that
pany could move to some every company faces three efficient
point on the optimal frontiers: the ad hoc frontier, the
frontier. In this mental single stage frontier, and the supply

chain frontier. Exhibit 2 shows the three frontiers,

EXHIBIT 1
and serves as my motivation for writing this article
The Efficient Frontier to demystify inventory optimization.
70,000 In Exhibit 2, the existing performance still
exists as a point on the graph since the com-
60,000 Current Performance
I1 pany operates today at a specific service level
50,000 given its inventory investment. That point itself
lies on an efficient frontier I call the ad hoc
Inventory Level
40,000
I2 frontier to reflect the reality that the rules to
30,000 set inventory in the supply chain are likely not
Efficient Frontier rigorously determined. That is, current prac-
20,000
tices use inventory to meet service level objec-
10,000 tives, but these practices are likely informal
and not grounded in analytics.
0 However, without any changes to its operat-
50% 60% 70% 80% 90% 100%
Service Level ing policies, the same company could move
Source: Sean Willems to another point along the ad hoc frontier. For
example, using existing policies but lowering
Conventional wisdom incorrectly shows current performance
inventory levels by 10 percent across the board
(with inventory level I1 achieving an 80% service level) deviating
from the efficient frontier, thereby implying one can easily would result in a lower achieved customer ser-
reduce inventory to I2 while maintaining the same service vice level.
level, or leave inventory unchanged and achieve 98% service.
An entirely new frontier is reached if the
In reality, moving from existing performance to the efficient
frontier is difficult, if not impossible. company employs single stage inventory calcu-
lations for every SKU at every location. Each
SKU can be managed as it was under the exist-
EXHIBIT 2
ing operating policy, but the safety stock target
The Three Frontiers will be scientifically calculated. I call this new
100,000 frontier the single stage frontier. From an oper-
90,000 ations perspective, making the change from the
Ad Hoc Frontier
ad hoc frontier to the single stage frontier is
80,000 Single Stage Frontier
Supply Chain Frontier
quite straightforward. All it requires is a will-
Inventory Level
70,000 ingness to adopt a scientifically derived target.

60,000 It is worth noting that there is still room for
Existing Performance
improvement beyond the single stage frontier.
50,000
Thats because in moving to the single stage
40,000 frontier, all we have done is replace the existing
30,000
safety stock target with a smarter calculation.
The third efficient frontier is the supply
20,000
50% 60% 70% 80% 90% 100% chain frontier. In this setting, we now optimize
Service Level safety stock targets across the supply chain.
Source: Sean Willems This requires a new level of communication
and management, coupled with a multi-echelon
Every supply chain has three efficient frontiers. Existing
performance lies on its own ad hoc efficient frontier. inventory optimization engine, to facilitate
By replacing ad hoc inventory targets with single stage the determination and use of the new targets.
scientific calculations the single stage frontier can be Whether you move from the ad hoc frontier
achieved. Optimizing across the supply chain achieves the
supply chain frontier. to the single stage or supply chain efficient

frontier is really a cost/benefit decision that is company ward weeks of supply rule of thumb to a scientific single
specific. The focus of this article is to explain why com- stage inventory calculation.
panies have not already moved from the first frontier The results in Exhibit 3 mirror the results of doz-
to the second, and how we can convince them to make ens of projects I have worked on. There are two bar
that change. graphs for every SKU, and the SKUs are rank ordered
by volume with the highest volume SKU to the left and
Progressing to Scientifically-based Inventory the lowest volume SKU to the right. The blue bar is
Calculations the SKUs weeks of supply target. The vast majority of
The three efficient frontiers each represent a step in the SKUs have a four-week weeks of supply target. Three
journey to optimize inventory. The first step is admittedly SKUs have six weeks of supply and two SKUs have nine
the most primitive, but, in reality, it is still the most perva- weeks of supply. Because the SKUs are rank ordered
sive. More than half of the companies I encounter for the by volume, the SKUs to the left have much higher vol-
first time in consultations employ rules of thumb to set tar- umes but because the safety stock targets are translated
gets in an ad hoc fashion. The companys SKUs are parti- into time by dividing by average weekly demand all the
tioned into categories and each category maintains a weeks targets are normalized to the rules of thumb coverage
of supply target. In most cases, the weeks of supply target amounts.
is a forward weeks of supply target, which means the target The red bar is the scientifically calculated safety
safety stock level for every SKU is equal to the sum of the stock target; the calculated value (in units) is divided by
forecasted demands for a future number of weeks. the average weekly demand to translate it into a forward
Academic literature and leading inventory textbooks, weeks of supply that can be plotted against the rule of
such as Inventory Management and Production Planning thumb. The scientifically calculated target is driven by
and Scheduling, agree that an ad hoc weeks of supply variability (and not just the average), so its value is spe-
target based on future average demand is a suboptimal cific to every SKU.
way to set safety stock targets. Furthermore, basic single There are several results in Exhibit 3 that hold in
stage inventory equations exist that apply to most every general. First, for the majority of SKUs, the scientifi-
SKU at a location. cally-derived safety stock target is below the forward
Dont worry: There wont be a math quiz at the end coverage rule of thumb. This means the existing policy
of this article. However, for the case of normally distrib- holds too much inventory of these SKUs. This makes
uted demand and normally distributed replenishment intuitive sense; if this were not the case the companys
times, the basic single stage inventory equation to deter- hot list would be far too large to handle. In effect, if a
mine the safety stock for a SKU at a location is well company maintains a forward coverage rule we can be
understood to be: certain that in aggregate it is holding too much inven-
tory; it is setting the targets with a very coarse filter so
Safety Stock Required = it has to set the targets high to not incur problems on a
large scale. Second, the SKUs that had their weeks of
In this example, z is a constant determined by the supply target adjusted higher in the past no longer need
desired service level for the SKU, L is the average such high targets; whatever event happened in the past
replenishment leadtime, L is the standard deviation of is no longer valid and variability has settled back down
the replenishment leadtime, D is the average demand to a point where the high targets simply create a signifi-
and D is the standard deviation of demand. Again, this cant excess in supply for that SKU. This excess inven-
is not the only single stage safety stock equation, and any tory situation still exists because companies have asym-
good inventory textbook has many variants. However, it is metric penalties for having too little and too much stock.
the most commonly encountered in practice and it exists Having too little stock causes a planner to get fired or
in many commercial inventory planning systems. reassigned. Having too much stock earns a reprimand to
Exhibit 3 demonstrates what happens when a com- go back and lower the stock often without SKU-specific
pany changes setting it safety stock targets from a for- guidance on how to accomplish that goal. Third, there

are three SKUs (SKU9, SKU18, SKU26) where the sci- live, this whole exercise is a poignant way to bring the
entifically calculated target exceeds the rule of thumb. power of inventory optimization to life. In truth, there
These are the SKUs that are currently on the companys is no magic in what I am doing. In this example, I know
hot list. the problematic SKUs are SKU9, SKU18, and SKU26
When I perform this analysis at a company, I like to because those are the SKUs with the highest variability
combine these second and third results to have some and that variability exceeds the simplistic weeks of supply
theatrical fun with the team. I walk in and tell them I target that is not equipped to deal with changes in vari-
can guess the SKUs on the companys current hot list. I ability. I also know the past problematic SKUs are SKU3,
begin by talking about the SKUs in the second category. SKU7, SKU11, SKU16, and SKU21 because those are
I say: SKU7 must be causing you problems and they the SKUs that had their weeks of supply targets elevated
will respond: Yes, last year that SKU had a supplier beyond the norm of four weeks of supply.
problem and we ran short on it for two months. They As a fourth, and final point, the majority of savings
will tell a similar story about something that happened from right sizing safety stock targets (i.e., going from the
to SKU16 in the distant past. Then I will turn the ad hoc to the single stage solution) accrues from right
screws a bit and say and SKU9 and SKU18 are on your sizing the higher and medium volume SKUs. Usually
hot list. If the report is based on the most recent data, the highest volume SKUs are pretty dialed in; there is
this will cause the inventory analyst to blanche while an inventory analyst monitoring those SKUs all the time.
everyone else will just be blank faced. And the lowest volume SKUs often experience signifi-
The inventory analyst blanches because she knows cant reductions on a percentage basis but the volumes
those are two of the three SKUs on this weeks hot list. are too low to matter on a volume basis. It is the higher
The rest of the team is blank faced because they have to medium volume SKUs that move the needle of corpo-
not yet seen the report that tells them this. When done rate performance.
EXHIBIT 3
Removing the Five Barriers to Using
Scientific Inventory Calculations
Safety Stock Changes The above explanation may seem technical and
10
Isolated Past Events complex. However, moving from ad hoc rules of
thumb to scientific single stage inventory calcula-
8 tions is far easier than you may think. Before that
can happen, however, there are five impediments
Weeks of Supply
6 that have to be removed to achieve the results in

Exhibit 3 at your company. Each impediment is doc-
4 umented and followed by its successful resolution.
First, the intuition for how to correctly solve the
2
problem is completely wrong. Second, corporate
Current Hot
Where the Big Savings Accrue
List metrics reinforce the wrong behavior. Third, people
from High Volume SKUs lack faith in the results from a simple scientific
0
1 5 10 15 20 25 30 inventory formula. Fourth, they dont realize how
SKU much money they are leaving on the table by staying
with rules of thumb targets. Fifth, they dont realize
Weeks of Supply Scientifically Calculated
Rule of Thumb Inventory Target the ease with which they can change to scientifically
calculated targets. Lets take them one at a time.
Source: Sean Willems
1. The intuition for how to correctly deter-
Typical results achieved when changing from a weeks of mine inventory targets is wrong. If you ask
supply target (depicted in blue) to a scientifically-based single someone to intuitively describe what a proper
stage safety stock calculation (depicted in red).
inventory target should be for a particular item,

they inevitably talk about the future, such as what assumptions in a simple model. Second, even if the reality
demand will be like in the future. But that is completely matches the model assumptions the data inputs can be poor.
wrong. As is well documented in the inventory litera- With forethought, these concerns can be dealt with. If real-
ture, inventory on hand is a result of supply decisions ity differs from the model, find another model; literally every
potential setting involving a single SKU
Having too little stock at a single location has been reduced
causes a planner to get fired or to a scientific inventory equation. If the
reassigned. Having too much stock data is not perfect, take the time to run
earns a reprimand to a pilot with a subset of the data you can
go back and lower the stock confidently estimate. This will show
the benefit and the fact that the result
often without SKU-specific
is robust to small changes in data.
guidance on how to
4. They dont realize how much
accomplish that goal. money they are leaving on the
table by not changing. Moving from
ad hoc forward weeks of supply targets
and materialized demand from the past, not the future. to a scientific inventory equation can reduce total safety
2. Corporate metrics reinforce the wrong behav- stock cost by 10 percent to 30 percent (depending on how
ior. Standard corporate metrics, like weeks of supply, bad the original targets were). That is significant reduction
are forward looking. That is, the weeks of supply is cal- that can easily comprise 10 percent of the companys total
culated by determining how many weeks into the future inventory investment.
existing inventory on hand can satisfy. This corporate 5.They dont realize the ease with which they can
metric, which has some value, reinforces the incorrect change to scientifically calculated targets. The process
intuition to focus on forward-looking parameters when to replace rules of thumb with a scientific inventory calcula-
setting inventory targets. So while we have definitively tion is quite straightforward. The new target simply replaces
shown that forward weeks of coverage is a bad metric to the ad hoc target so, from a business-process perspective, no
use for inventory planning purposes, its value as a cor- changes are required. Because the changes are happening at
porate metric reinforces its incorrect usages for safety the location level, the data requirements are also not oner-
stock target setting. ous. This is not an information technology project. A team
3. People lack faith in the results from a sim- that wants to rapidly improve inventory levels can do this on
ple scientific inventory formula. In supply chain their own.
classes we teach students that simple models apply.
There are many reasons to like simple models. First, A Journey in Three Steps
they are understandable. Second, they can be popu- Every company undergoes a three-step journey to
lated with data. Third, the results clearly follow from optimize inventory levels across the end-to-end supply
the inputs. But people can lack faith in simple inven- chain. In my experience, the hardest step is moving
tory models. Perhaps they were burned in the past by a from ad hoc unscientific weeks of supply targets to
different scientific formula (that was likely much more more formal scientifically derived inventory targets.
complicated and not generally understood and accepted The step from scientific calculation to true supply
as correct). Perhaps they dont believe the operating chain optimized inventory targets is a much easier
decision for their business can be easily reduced to a threshold to cross.
formula. Whatever the reason, there is often resistance This article has outline the benefits that can be achieved
to using formulas in practice. from a typical implementation, and the challenges to over-
While the above reasons are not valid, there are two con- come. This is not a hard journey and it can pay significant
cerns with simple models that are reasonable to have but dividends. If you have not already progressed to the single
thankfully can be overcome. First, reality can differ from the stage frontier, it is time to get there. jjj

the
perfect BY WESLEY S. RANDALL, DAVID R.
formula
NOWICKI AND SHAILESH KULKARNI
For years, supply

chain executives
have asked how can
they reduce inventory
without affecting
customer service
levels or shifting
H AVING THE RIGHT AMOUNT OF INVENTORY
when and where its needed is a key element of corporate
success. After all, losing control of inventory eats away at corporate
cost to other supply profit margins and costs a firm its customers. As a result, todays
chain partners? CEOs are well versed in inventory strategies such as Just-in-time
The answer could (JIT), collaborative planning, forecasting and replenishment, and
be a new inventory shared point of sale data. Yet, the wrong application of the right
management strategy. strategy can be just as costly as no inventory control at all. Reducing
the wrong inventory, for instance, often leads to a reduction in cus-
tomer service levels (CSL) with little impact on cost. That affects
customer satisfaction. Strategies such as JIT, on the other hand,
Wesley S. Randall, Ph.D. is an often simply shift the cost of carrying inventory back to the vendor
associate professor of logistics in the with little impact on the total end-to-end total supply chain cost.
College of Business at the University Eventually, those costs affect all of the players in the supply chain.
of North Texas. He can be reached
The result is that supply chain executives are often left scratching
at Wesley.randall@unt.edu. David
R. Nowicki, Ph.D. is an associate their heads and wondering: How can I manage inventory in a way
professor of logistics in the College of that doesnt impact my customers or leave real money on the table?
Business at the University of North Our work answers these questions using a new inventory strategy
Texas. He can be reached at David. that we call the science of theoretical minimums, or STM. STM
nowicki@unt.edu. Shailesh Kulkarni,
provides a simple and elegant framework to reduce cost and increase
Ph.D. is an associate professor in the
College of Business at the University
customer service levels by monetizing time delays across the extended
of North Texas. He can be reached supply chain. Unlike other strategies, managing to theoretical mini-
by at kulkarni@unt.edu. For more mums reduces the total supply chain cost instead of simply pushing
information, visit unt.edu. costs onto weaker suppliers. This means that STM reveals how much
profit is being left on the table in the end-to-end supply chain. This
monetization of delay cost provides supply chain executives with a
clear picture on where to focus their efforts.
More importantly, we contend that STM is an idea whose time
has come. In the last decade, the task of managing inventory flows
in ways that drive out informational delay has been a sort of alchemy

that has alluded the major supply chain technol- insightful way to look at their businesses. A firm, he
ogy companies. Our work with a major technol- wrote, competes in two ways: It either provides what
ogy provider demonstrates that the dead weight other firms do for a lower cost or it provides addi-
of slow moving inventory can be turned into tional features for the same price. In hindsight, the
gold. Moreover, we can share real world exam- concept of cost- and differentiation-based competi-
ples where supply chain executives from very tion seems intuitive, but when it was first published,
diverse industries are leveraging Cloud-based it was an ah-ha moment that had executives asking:
systems, common interfaces, and smart software Why didnt I think of that? The elegance in STM
systems to monetize the informational delays in the ah-ha momentcomes from a similar, simplis-
their supply chains. tic two element view of the way inventory affects a
firms competitive position.
Simple and insightful The concept is not new. In the hard sciences,
In Competitive Strategy, Michael Porter pro- theoretical minimums have been used as a bench
vided business executives with a simple and mark for years. Information technology strategists,

for instance, often discuss the theoretically achievable as we will show with results from real world projects we
bandwidth of a particular configuration. That is used to have worked on, the potential to convert that to profit is
understand bottle necks and the opportunities to invest to much greater than one might first believe. But before we
reduce those bottle necks. delve into those, lets take a few minutes to understand
Theoretical minimums have a similar value in the sup- the science behind the STM against the backdrop of
ply chain. Here, they provide an idea of what is possible by modern supply chain management.
increasing visibility, attacking latent activities, and synchro-
nizing supply chain processes. Attacking these latencies Supply chain management and the alchemy
mitigates the negative costs associated with lead times and of inventory
variability. STM accomplishes this by providing the basic For supply chain managers understanding the alchemy of
turning inventory lead into supply chain gold is not nearly as
STM gives insight, and thus control, into interesting as the alchemy of achieving high inventory ser-
the end-to-end supply chain inventory vice levels at the least total cost. When supply chain man-
investment and optimization. agement and logistics began to move to the forefront some
years ago, strategies for achieving high inventory fill rates at
logic for accounting for inventory and inventory costs in lower and lower cost were focused at the firm level. Retail-
terms of physical and informational delay. This simplicity ers, for example, harnessed the math behind risk pooling by
removes the ambiguity that often clouds inventory related shifting inventory to their distribution centers while making
decision-making. smaller and more frequent deliveries to their stores.
The key to managing by theoretical minimums is to Over time, efforts aimed at increasing inventory effi-
understand how to decompose lead-time into two buck- ciency were applied to the extended supply chain with the
ets. The first bucket is based on physical constraints goal of understanding the trade-offs, hidden costs, and
such as the batching of transportation, work in process, sources of inefficiency that could be converted into a com-
or safety stock to support demand variationwe call petitive advantage. These efforts resulted in an astounding
this physical lead time. The second bucket is based on number of strategic breakthroughs. Ideas such as just-in-
informational delay this bucket includes everything time, consolidation of inbound and outbound transporta-
that is not a true physical delay. We call this information, vendor managed inventory, and the rise of third-party
tional lead-time. logistics providers are just a few examples.
We all recognize an informational delay when we see Yet the ability to unlock the full profit potential associ-
onelack of a precise delivery window, a purchasing ated with end-to-end supply chain optimization remains
order process that is given four weeks but only involves elusive. Managers, and scholars, have been stymied by that
four hours of true work, or a lack of insight into inventory key supply chain problem: How do we take that last bit
positions at particular moment. And, yet, we often sim- of cost out of the system when we dont even know where
ply accept informational delay as an unavoidable cost of that cost is hidden? What aggregate level strategy will
doing business. give us the visibility needed to convert that cost into share-
As it turns out, there is actually a great deal we can do holder value?
about informational delay once it is monetized. Consider STM gives insight, and thus control, into the end-to-
how work has been done to reduce physical delays, such end supply chain inventory investment and optimiza-
as pipeline projects, JIT, direct ship, mass customiza- tion. In its simplest form, STM provides a methodical
tion, and delayed differentiation. The goal of managing to approach, and accompanying governance structure,
theoretical minimums is to focus not only on the added which allows managers to uncover fundamental latency
cost of unnecessary physical delays but also to monetize and the resulting cost, which remains in even the most
the cost of informational delays. This monetization, and aggressively managed supply chains. The key to the
the associated mathematical logic, puts into profit-based STM strategy is the development of a method to define
terms just how much money supply chain executives are supply chain-specific minimum resource requirements
leaving on the table due to informational delays. And, (time, inventory, transportation) and correlate those

requirements (using an advanced algorithm based tool) The a-ha in STM comes from the models ability to visu-
to monetize potential cost avoidance. This monetization alize for each trading partner the cost impact of reducing
spurs strategic investment and attention. This approach their respective lead times to a theoretical minimum of
provides managers with a mechanism to determine where zero. While this is an abstract goal, we show that STM
potential wealth remains, a decision toolset to unlock that helps align the actions of supply chain members to identify
wealth, and a way to evaluate the return on investment mechanisms that bring the network closer to theoretical
associated with STM driven decisions.
More specifically, STM provides the follow- The goal of managing to theoretical minimums
ing end-to-end supply network management is to focus not only on the added cost of
capabilities:
unnecessary physical delays but also to
correlate lead times and inventory levels;
distinguish between informational and physical
monetize the cost of informational delays.
lead times in their value networks;
identify theoretical minimum lead times and calculate minimums. Further we back up this abstract strategy by
the return on investment available by moving network sharing very real results.
toward theoretical minimum lead times; and Quantifying ILT is accomplished by monetizing (cost,
demonstrate how the use of real-time consumer inventory, capacity) the delay that is induced while waiting
demand to drive time-phased shipments and produc- on information and decisions that precede the movement
tion through the supply network while quantifying and between supply network participants. Involved in this
mitigating the effects of demand, supply and lead-time quantification are the direct cost of delay and some ele-
variability, can create increased profitability for all ment of indirect cost associated with delay driven degrada-
trading partners. tion of information relevance and accuracy. STM provides
an ability to calculate how ILT variability drives increased
What is the science of theoretical minimums? inventory without increased CSL. This latency is defined
Okay, if you have stuck with us thus far, you might be as non-value added time waiting for the information that is
asking: Just what is the Science of Theoretical Mini- required to perform collaborative supply network planning
mums? STM is a methodology that can provide guidance and execution.
to supply network trading partners to move lead times Managing STM involves three key steps:
toward a minimum that approaches zero. STM provides define a supply chain with zero informational lead time;
a simplified, yet accurate, conceptualization of time in define the physical lead time and its corresponding vari-
the supply chain. This simplification provides managers ability; and
with the ability to more clearly link actions to results. define the cost difference between ILT and PLT.
At the aggregate, physical lead times (PLTs) is a catch- Armed with the information created by these steps,
all term that we use to define all other delays besides managers can make informed decisions on the cost and
informational lead-time. PLT is a surrogate metric to benefit associated with removing delays.
include such factors as procurement and transportation To understand how well STM works, lets first take a
lead-times. Introducing the concept of informational look at an example from a Major Spare Parts Manufac-
lead times (ILTs) when decomposing lead times into its turer. This industry faces a number of initiatives that have
fundamental building blocks provides critical insight into bloated inventories as firms have attempted to dominate in
the cost of latency that is typically encountered in the this often overlooked, yet profitable, sector. Table 1 shows
extended supply chain. how this firm managed to leverage STM to grow profitabil-
We define ILT as the time it takes for information to ity and shareholder value.
move between supply chain participants. We monetize ILT By managing to theoretical minimums, firms can move
by using a novel analytical model that allows for the cor- away from an assumption of fixed or uncontrollable lead
relation between informational and physical lead times, times. Further, STM highlights the very real cost of lead
along with the demand arising at each supply chain stage. time variability by establishing real and achievable baselines,

TABLE 1 inventory level, an increase of in-store service levels to

Major government program 99%, and a 20% increase in forecast accuracy. In Table
Key metrics impacting profitability Before After 2, we show how a supply chain technology firm, work-
1. Domestic freight spend $400 Million $320 Million ing alongside a government customer, drove dramatic
2. Dealer part availability 67% 96%
results for taxpayers and end users.
3. Inventory reduction 25%
As a part of STM, we also study the interrelationships
Source: Wesley S. Randall, David R. Nowicki, and Shailesh Kulkarni between customer service levels (CSLs), inventory costs,
TABLE 2
and inventory. Effective management of ILT results in
Major government program improved profit margins for the supply chain with no nega-
Before After tive impact on CSLs. This insight creates guidance for the
1. Loss/damage free shipments 96% 99.98% governance mechanism (strategy) that identifies how deci-
2. System uptime 97% 99.9%
sions can reduce unnecessary lead times by identifying the
3. Reduction in transportation costs 23%
costs of latency and the potential profit associated reduc-
Source: Wesley S. Randall, David R. Nowicki, and Shailesh Kulkarni ing these delays.
increasing visibility, attacking latent activities, and synchro- This highlights the second key aspect of manage-
nizing supply chain processes. Attacking these latencies ment based on STM: The clear monetization of the cost
mitigates the negative, and often exponential, costs associ- of uncertainty. Uncertainty generally manifests itself
ated with lead time, supply, and demand variability. as demand variability and lead-time variability, both of
Some retailers and manufacturers have already which result in increased inventory expenditures. As
embraced STM type strategies with excellent results. For demand and lead-time variability increase there is a need
example Walmarts new Supplier Portal Allowing Retail to increase the amount of safety stock in order to achieve
Coverage (SPARC) relies on real-time supply chain infor- the desired CSLs. The safety stock acts as a necessary,
mation to stay in stock with the lowest total inventory lev- but expensive, buffer to multiple sources of nervousness
els. The result has been improved gross margin return on associated with uncertainty in a supply network. Taken
inventory investment (GMROII). Del Monte Foods, mean- together, STM monetizes the cost associated with vari-
while, decided to see what an STM strategy could do for ability in demand, lead-time, transportation, order pro-
them. The results were an eye opening 27% reduction in cessing, and purchasing.
FIGURE 1
Representative three stage, CPG supply chain network

A strong foundation for STM
Retailer Manufacturer Ideas at the core of STM can be
seen in Toyotas efforts to reduce
its lead-time problems with sup-
Store Retailer DC Forward DC pliers in the 1980s. By reducing
Supplier
60% Demand = 30 (3 on-shelf) 80% 60% the number of processing points
Accuracy Standard deviation = 9.38 Accuracy Accuracy
and batch sizes, Toyota reduced its
lead times from 15 days to one day,
Information lead-time (days)
essentially moving toward a theo-
2 3 3 3 7 retical minimum. When the num-
Standard ber of processing points increases,
deviation 2 4 14 1
1.09 processing times increase, as does
Standard deviation
Physical lead-time (days) 5.0 the variability of lead times, while
the information delays that result
1 2 2 2
from batch processing result in
Standard deviation Standard deviation
0.48 1.25 increased lead times.
Source: Wesley S. Randall, David R. Nowicki and Shailesh Kulkarni
Walmart has built a rich

FIGURE 2
competitive strategy by removing the batch processing
of information that causes delayed ordering decisions. TMM illustration of the retailer stock
It does so by assuring that orders are communicated to Cycle stock 3.
8
upstream suppliers as soon as retailers receive orders Total stock 8.5
from customers. The result increases the probability of 7
Total stock % reduction 46.82
w/th. minm. info lead time
on-time deliveries.
Total stock (days of supply)

Inventory cost % reduction 35.4
6
Hewlett Packard reduced lead times and improved on w/th. minm. info lead time
time deliveries by decreasing trading partner communication 5

delays. By doing so, HP more than doubled its on-time deliv-
ery rate and reduced its inventory expenses by $9 million. 4
HP accomplished this by identifying informational lead time 3

delays and implementing a three stage process that included
the communication to suppliers of suppliers delivery dates, 2
suppliers production time, and product delivery times.

Various academics efforts have provided insight into 0.6 0.7 0.8 0.9 1.0
inventory problems that demonstrate the ideas at the core Customer service level (CSL)
of STM. For example, researchers have shown that link- 4.0

ing lead times between various production systems can
Safety stock 5.50
lead to reduced variability in the total lead time of the 3.5
Safety stock w/theo. 4.52
system. Others have shown how a reduction in lead times minm. info lead time
in certain conditions reduces reorder levels. At Stanford, 3.0
Percentage reduction 17.82
in safety stock
Safety stock (SS)
renowned supply chain scholar Hau Lee and his colleagues

identified four major causes that influence bull whip
2.5
effects: demand signal processing, rationing game, order
batching, and price variations. All of these elements are
2.0
addressed within STM.
The science of theoretical minimums is distinct from
1.5
these earlier efforts in a number of ways. First, STM
assumes that informational and physical lead times are
correlated. This assumption is true in most practical
0.6 0.7 0.8 0.9 1.0
instances. For example, when information is not communi- Customer service level (CSL)
cated quickly across supply networks, production and ship-
ment functions are delayed which results in longer lead
times and loss of sales. This may also lead to unneeded
inventories when there is no demand for products. Second, How to make STM work: A tool for achieving
it assumes that demand and overall lead times are corre- theoretical minimums
lated. The wealth of supply chain research, coupled with The idea of theoretical minimums is only as good as the
the ideas embedded in STM, allows us to derive formulae practical tools available to managers to affect decision-
for reorder levels, safety stocks, and total costs when infor- making based upon those ideas. We have operationalized
mational lead times are greater than zero, and total costs STM by developing an analytical tool, called Theoreti-
when informational lead time is zero. Thus, the theoretical Minimum Modeling (TMM), to demonstrate how
cal goal of supply chain management is quantified as the end-to-end supply network performance is influenced by
theoretical minimum, which is defined as that point where key supply chain levers. TMM is structured to capture
informational lead time is zero. STM provides a theoreti- the dynamic interactions among these key supply chain
cally grounded foundation for this goal, and does so in a levers. These levers include demand, demand variabil-
way that is actionable for supply executives. ity, informational lead times, informational lead time

FIGURE 3 purchase order response time of four weeks. This kind

TMM illustration of the manufacturer stock of policy is often taken for granted. STM highlights
the amount of time such a purchase order really takes
Cycle stock 5.
Total stock 6.86 to process and then assigns all of the other time to ILT.
Total stock % reduction 44.02 ILT is then monetized to show the true cost of delay,
and as we will show in our next example, that delay can
Inventory cost % reduction 46.35
Total stock (days of supply)
6 be significant.
Thus STM redefines models, policies, and process
by quantifying the potential profit left on the table
5
(PLT minus ILT). This calculation also accounts for the
impact on variability informational lead-times, leading to
shorter physical lead-times. The net-net of STM based
4
management is that supply chain inventory levels are
reduced, customer service is increased, and shareholder
value is improved. Considerable opportunity exists to
improve profitability by leveraging STM to harvest unre-
0.6 0.7 0.8 0.9 1.0
alized profit.
Customer service level (CSL)
To illustrate this, Figure 1 (pg. 16) shows a realistic
Safety stock 1.9 but hypothetical Consumer Package Goods (CPG) sup-
Safety stock w/theo. 0.84 ply chain network with typical informational and physi-
1.5 minm. info lead time
Percentage reduction 54.63
cal lead times. The average daily demand at the retailer
in safety stock is 30 units. The retailer experiences 60% forecast
Safety stock (SS)
accuracy. This accuracy translates to a standard devia-

1.0 tion of daily demand equal to 9.38 units. That means
that the total lead-time in this CPG supply chain is 46
from order execution at the retail store to order fulfill-
0.5 ment through the retailer distribution centers (DC),
manufacturer forward DC, the factory, and the suppliers
providing raw materials to the factory for its manufac-
turing operations. A savvy supply chain executive, given
0.6 0.7 0.8 0.9 1.0 the right tools, can recognize that in reality there is only
Customer service level (CSL)
7 days of physical lead time. The remaining 39 days of
latency arise from informational delays that pose a very
real cost.
variability, physical lead times, and physical lead time We can then decompose that 39 days of informational
variability. The tool also captures dependencies among lead time to show that there are 7 days of delay residing
demand, informational lead times, and physical lead with the retailer, and that delay has a standard deviation
times. It allows users to study the impact of decomposing of 1.09 days. Remember that variance, in this case stan-
total supply network times into information and physi- dard deviation, translates to very real cost. We also see 32
cal lead times. Upon changing lead times and associated days of informational delay with the manufacturer with a
variability for a given consumer demand, users can see standard deviation of 5 days. The average retailers physical
the impacts on cycle stocks, total stocks and associated lead time is 3 days with a standard deviation of 0.48 days
inventory carrying costs. and the average manufacturers lead time is 4 days with a
To understand this example, think about the typical standard deviation of 1.25 days.
supply chain models, policies, and processes that define In the Figures 2 and 3 (pg. 17 and pg. 18) we will
decisions. It is not unusual for a supplier to have a standard show how the Theoretical Minimum Model (TMM)

TABLE 3 a 53% and 83% reduction in inventory costs for the
Major consumer product goods manufacturer retailer and manufacturer respectively. The TMM also
Before After monetizes how the positive consequence of achieving
1. Weeks of inventory supply across the supply chain 8 4 the theoretical minimum lead time has on variability
2. Case fill rates 95% 99%
reduction. This is reflected in the two safety stock vs.
3. Days of inventory on average in the distribution center 13 6
4. Average sales forecast accuracy 60% 81%
CSL graphs shown on the bottom of Figure 3.
5. In store in stock 96% 99% In the example, we show that if it is possible for
6. Distribution center inventory reduction 27% the manufacturer to reduce its information lead time
Source: Wesley S. Randall, David R. Nowicki, and Shailesh Kulkarni by a week from 32 to 25 days, and the standard devia-
tion of information drops from 5 days to 4 days, the
captures the three-stage CPG supply chain network cycle stock at the manufacturer drops from 36 days to 29
described in Figure 1. In Figure 2, we see the retailers days, and safety stock for the manufacturer drops from
stock to include cycle stock and safety stock. The top 15.06 days to 12.4 days.
graph shows the potential cycle stock that could be While we are the first to conduct an academic study
removed from the retailer if managed to theoretical mini- aimed at defining STM in terms of the monetization of
mums. The bottom graph shows the percentage reduction informational and physical lead times, we are certainly not
in cycle stock if managed to theoretical minimums. At the first to benefit. In Table 3 we show the results of how
the same time we show how these calculations impact a major consumer products goods manufacturer used STM
customer service levels. These numbers can easily be to understand where the profit was left on the table.
converted into dollars within the TMM. Thus a supply
chain executive could use this to calculate how much A leap forward
inventory investment would be freed up if we reduced By now, we hope we have demonstrated how supply chain
informational delay by 30%the monetization of infor- technology thought leaders working alongside academics
mational delay. and innovative customers have managed to harness the sci-
In Figure 3, we see the manufacturers stock. And here we ence of theoretical minimums to shatter the glass ceiling
can draw the same conclusions as we did with the retailer. of inventory reduction. The results are realleading firms
The graphs display the results based upon firm specific are turning inventory lead into supply chain gold, with very
context with regard to the key variables. These graphs little profit left on the table.
dynamically update as one or more of the sliding bars are Our results convince us that STM is a leap forward in
adjusted to reflect new values. As a consequence, insights the way extended supply chain partners visualize the cost
through what-if and sensitivity analyses are rapidly of information delay and represents a new and efficient
obtained. frontier for extended supply chain inventory management.
The grey shaded area represents the opportunity avail- Our initial research using STM also indicates there are still
able to the supply network if it focuses on achieving significant savings to be gained.
Theoretical Minimums. The two green graphs on the left These strategies are already providing a competitive
pertain to the retailer and the two pink graphs on the right edge to firms like Walmart and Del Monte. The fact is that
relate to the manufacturer. Figures 2 and 3 show the rela- if you do not understand the concepts involved in STM,
tionships between total stocks, measured in days of supply, one of your competitors will. Then it will be their actions
and customer service levels. that define your competitive position, not a comfortable
In this example, achieving a theoretical minimum (infor- conversation to have with your shareholders. jjj
mational lead time is non-existent) results in a total stock
reduction of 85% for both the retailer and the manufac- ******
turer. The underlying algorithms derive the specific cost Readers interested in the underlying mathematical model
savings associated with a reduction in lead time and the used to compute cycle stocks, safety stocks and their associ-
corresponding reduction in cycle stock and its associated ated inventory carrying costs can e-mail Wesley.randall@unt.
inventory carrying cost. Financially this translates into edu for the authors working paper on this topic.

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DESIGN &

New business models,

Optimize: The perfect formula 52

2 DESIGN & OPTIMIZE scmr.com

36% have too much cash tied up in inventory

29% have too much excess or obsolete inventory

33% have none-to-average visibility into inventory levels

SEE MORE RESULTS FROM THE SURVEY >

The power of modern

BY VIOLETKA DIRLEA, HARRIS NG, MARCO GUTIRREZ AND BRENDAN SEE

4 DESIGN & OPTIMIZE scmr.com

Supply chain modeling application

How do we best serve our customers? Quantify business

Where and how do we configure Optimal source

How do we best supply for our Prebuilds or

Do we have sufficient inventory and Visibility

Source: A.T. Kearney

scmr.com DESIGN & OPTIMIZE 5

6 DESIGN & OPTIMIZE scmr.com

Global trade can open up a whole new world.

8 DESIGN & OPTIMIZE scmr.com

scmr.com DESIGN & OPTIMIZE 9

to-cash conversion. Strategic planning is also a proactive tool designed

Strategic Planning Operational Planning

10 DESIGN & OPTIMIZE scmr.com

scmr.com DESIGN & OPTIMIZE 11

Framework of From-To Physical Network Customer service is responsi-

DC Operating Cost inquiries and order changes

12 DESIGN & OPTIMIZE scmr.com

scmr.com DESIGN & OPTIMIZE 13

purchasing or sales. Graphical EXHIBIT 2

step is to develop alterna- Final Mile White glove, multi-stop.

14 DESIGN & OPTIMIZE scmr.com

scmr.com DESIGN & OPTIMIZE 15

16 DESIGN & OPTIMIZE scmr.com

scmr.com DESIGN & OPTIMIZE 17

18 DESIGN & OPTIMIZE scmr.com

scmr.com DESIGN & OPTIMIZE 19

labor markets may not be able to single-handedly support

20 DESIGN & OPTIMIZE scmr.com

scmr.com DESIGN & OPTIMIZE 21

can be overcome with enough money. But, we dont live in a

Intangibles mal time to make a change. A good enough market with

22 DESIGN & OPTIMIZE scmr.com

See why over 100,000 unique

BY TAN MILLER AND MATTHEW J. LIBERATORE

Tan Miller is the director of the global supply

24 DESIGN & OPTIMIZE scmr.com

1 For highly detailed descriptions of implementations of all these

scmr.com DESIGN & OPTIMIZE 25

We also illustrate how managers FIGURE 1 facilitates improved decision mak-

26 DESIGN & OPTIMIZE scmr.com

scmr.com DESIGN & OPTIMIZE 27

28 DESIGN & OPTIMIZE scmr.com

Performance measurement DSS and PMS integration into

formance measurement systems

Performance measurement systems

appropriate DSS tools at each

scmr.com DESIGN & OPTIMIZE 29

technology selection. FIGURE 4 of labor and short-term assignments

30 DESIGN & OPTIMIZE scmr.com

scmr.com DESIGN & OPTIMIZE 31

HOW THEY DID IT: