Logistical Value

Proposition
 What is Logistics?

• Logistics is the design and administration of

systems to control movement and geographical
positioning of raw materials, work-in-process, and
finished inventories at the lowest total cost.

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Logistics has risen to a key position in the global
economy
• Postwar U.S. (1945-1995)
– Global leader in distribution and logistics, as a direct result of
World War II
• Rise of EEC and Asia (1980-2000)
– Both regions became major exporters and distributors
• e-Commerce (1998-Present)
– Global logistics capability almost everywhere

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 Logistics will continue its renaissance in the
future
• Information technologies will automate many of the
traditionally manual logistical functions:
– Automated port and rail operations
– RFID tagging of materials
– Advanced technologies for warehousing and inventory operations
• Removal of trade barriers will continue to expand global
trade and logistics

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 Goal of logistics management

• To satisfy customer
expectations for delivery of
products (or services) while
minimizing the total cost
• Managers must support the
requirements for procurement,
manufacturing and customer
accommodation supply chain
operations

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 Transportation has become the major
logistics cost component in the USA

1200
1100
1000
$ Billion 900
800
700 Logistics
600
500 Transportation
400
300
200
100
0

1980 2007

1980 2007
• Logistics Cost of $451 billion is 16.1% of GDP • Logistics Cost of $1398B is 10.1% of GDP
• Transportation ($214B) is 47.5% of Logistics Cost • Transportation ($857B) is 61.3% of Logistics Cost

Source: “19th” Annual “State of Logistics Report” © Council of Supply Chain Management Professionals, 2008 2-6
 Logistics costs trends from Table 2.1

• Transportation Costs relative to the Total Cost of Logistics

have gone up
– Because of fuel prices and movement of manufacturing to Asia
• Inventory Costs relative to the Total Cost of Logistics have
gone down
– Adoption of JIT and Lean practices have reduced these
• Administrative Costs relative to the Total Cost of Logistics
have stayed the same

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 Logistical value proposition

• Logistical value proposition consists of a

commitment to key customer expectations and
requirements at a minimum cost
• The two elements of this value proposition are
Service and Cost Minimization
– Firms must make appropriate tradeoffs between service
and cost for each of their key customers

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 Service benefits are created by logistical
performance in 3 areas
• Availability involves having inventory to consistently meet
customer material or product requirements
• Operational performance deals with the time required to
deliver a customer’s order
– Key metrics for this area involve delivery speed and consistency
• Service reliability involves the quality attributes of logistics
– Key to quality is accurate measurement of availability and
operational performance over time

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 Basic logistical service may not fit all customers

• Basic logistics service describes the level of service a

firm provides all established customers
– However, some customers require unique or special value-added
services
• Managers must realize that customers are different and
that services provided must be matched to accommodate
unique requirements and purchase potential

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 Cost minimization using the total cost logistics
model
Traditional Cost Logistics Model
• Focused on achieving the lowest
possible cost for each individual
function of logistics
– For example, Transport the material
the cheapest way possible
• Expected lowest cost based on
decisions that were cheapest for
individual functions
• Ignored the impact of cost decisions
across logistics functions
Total Cost Logistics Model
• Focused on achieving the lowest total
cost across each function of logistics
• A cost decision in one function should
consider impact to costs of all other
logistics functions
– For example, Transporting material
the cheapest way is slower than
other choices. This requires an
increase in storage cost to hold the
material longer
– Would it still be a lower cost to use
the cheapest mode of transport?
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 Different perspectives on cost minimization
Traditional Cost Logistics Model Total Cost Logistics Model
Minimize order processing cost Minimize (order processing + inventory +
+ transportation + warehousing,
Minimize inventory cost materials handling and packaging +
+ facility) cost
Minimize transportation cost _________________________
+ Lowest total logistics cost
Minimize warehousing, materials
handling and packaging cost
+
Minimize facility cost
__________________________
Lowest logistics cost

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 Example of evaluating alternatives to find lowest
total cost
• Compare two alternative shipping carriers to
move a shipment of electronic chips
– Value of shipment = $25,000.00
– Faster shipping is generally more expensive than
slower shipping
• Carrier 1 costs $250 to ship
• Carrier 2 costs $20 more but delivers 1 day faster
– Product in transit is a form of inventory
• Holding costs for shipment is 40% of value per year
– No other cost differences across remaining logistics
functions

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 Example of evaluating alternatives to find lowest
total cost
Traditional Cost Method
• Minimize transportation cost
– Compare 1st carrier at $250 vs. 2nd carrier at $270
• Decision is to use 1st Carrier to save $20

Total Cost Method

• Minimize total of transportation and inventory cost
Annual holding
Daily cost of holding product = cost x Product value /365

= (.40 x $25,000)/ 365 = $27.40

– Compare 1st carrier at $250 + $27.40 = $277.40 vs. 2nd carrier at $270
• Decision is to use 2nd Carrier since it is a lower total cost
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 Logistics includes these major functions of work

• Order Processing
• Inventory
• Transportation
• Warehousing,
Materials Handling,
and Packaging
• Integrated through a
network of facilities
– E.g. warehouses and
distribution centers

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 Integrated logistics framework

• Goal is to achieve customer satisfaction at the

lowest Total Cost
• Decisions in one functional area will impact cost of
all others
• We integrate the logistical functions into a coherent
framework starting with the customer (Order
processing) and ending with the customer
(Transportation and Delivery)

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The five functions of logistical work are
interrelated

Figure 2.1 Integrated Logistics 2-17

 Order processing

• Order processing is the transmission of customer

requirements to the supply chain
• Accurate information is needed to achieve superior
logistical performance
• Responsive supply chains require accurate and
timely information about customer purchase
behavior
• Fast information flow enables improved work
balancing

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 Inventory

• Inventory requirements of a firm are directly linked to the

facility network and the desired level of customer service
• Inventory strategy seeks to achieve the desired customer
service with the minimum inventory commitment
• Inventory strategy is based on a combination of
– Core customer segmentation
– Product profitability
– Transportation integration
– Time-based performance
– Competitive performance

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 Transportation

• Transportation is the operational area that

geographically moves and positions inventory
• There are three basic ways to satisfy transportation
requirements
– Operate a private fleet of equipment
– Contract with dedicated transport specialists
– Engage carriers that provide different transportation
services as needed on a per shipment basis

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 Warehousing, materials handling and packaging

• These work activities are integral parts of other logistical

functions
– Inventory typically needs to be warehoused at selected times
during the logistics process
– Transportation vehicles require materials handling for efficient
loading and unloading
– Individual products are most efficiently handled when packaged
together into shipping cartons
• Effective integration of these functions facilitates the speed
and overall ease of product flow throughout the logistical
system

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 Facilities network

• The number, size and

geographical relationship
of facilities used to perform
logistical operations
directly impacts customer
service capability and cost
• Types of facilities in the
logistics network include
– Manufacturing plants,
warehouses, cross-dock
operations and retail stores
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The scope of integrated logistical operations

Figure 2.2 Logistical Integration 2-23

 Inventory flow
• Managers must be concerned
with the movement and storage
of inventory in 3 major forms
– Materials
– Work-in-process
– Finished products
• Logistical operations should
add value by moving inventory
when and where needed
– Materials and components gain
value at each step of their
transformation into finished
inventory

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 The 3 areas of the value-added logistic process

• Customer accommodation is the movement of finished

product to customers
• Manufacturing support concentrates on managing work-
in-process inventory as it flows between stages of
manufacturing
• Procurement is concerned with purchasing and arranging
inbound movement of materials, parts, and/or finished
inventory from suppliers into manufacturing or assembly
plants, warehouses or retail stores

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 Information flow
• Information flow identifies specific
locations within a logistical system
that have requirements
– Information also integrates the three
operating areas
• Information facilitates coordination of
planning and control of day-to-day
operations
• Logistical information has two major
components
– Planning / coordination information
– Operational information needed to
complete work

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 Logistical integration requires achieving six
objectives simultaneously
Responsiveness
Variance reduction
Inventory reduction
Shipment consolidation
Quality
Life cycle support

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 Logistical operating arrangements

• All logistical arrangements share two common characteristics

– They are designed to manage inventory
– The range of logistics alternatives is limited by available technology
• Three widely utilized structures are
– Echelon (traditional) is a linear flow from origin to destination through buffers
or warehouses/distribution centers
– Direct is designed to ship products directly to customer’s destination from one
or a limited number of centrally located inventories
– Combined is a combination of Echelon and Direct, depending on the product,
market, or customer

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Figure 2.3 Echelon Structured Logistics

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Figure 2.4 Combined Echelon and Direct
Delivery

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 Flexible structures are programs to service
customers using alternatives
• Flexible operations are preplanned contingency strategies to prevent
logistical failures
– For example, a warehouse is out of an item so a contingency policy assigns
the total order to another warehouse
• The structure appears the same as a combined arrangement, but
with the ability to change the logistical structure to suit the service
need
– Different approaches for different situations
– Very common with “factory-less” companies like Nike and Best Buy

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Example situations for flexible logistics structure

• The customer-specified delivery facility might be near a

point of equal logistics cost or equal delivery time from two
different logistics facilities
• The size of a customer’s order creates improved logistical
efficiency if serviced through an alternative channel
arrangement
• Decision to use a selective inventory stocking strategy
• Agreements between firms to move selected shipments
outside the established echeloned or direct arrangements

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Figure 2.5 Flexible Echeloned and Direct
Delivery

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Supply chain synchronization
• Supply chain
synchronization is the
operational integration of
multiple firms across a supply
chain
– Seeks to coordinate the flow of
materials, products and
information between supply chain
partners to reduce duplication of
effort
– Seeks to reengineer internal
operations of individual firms to
leverage overall supply chain
capability

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 The logistics performance cycle is the basic unit
of supply chain design and operational control
• The performance cycle represents elements of work
necessary to complete the logistics related to customer
accommodation, manufacturing or procurement
• A performance cycle consists of the following elements
– Nodes
– Links
– Inventory
• Base stock
• Safety stock
– Input and output requirements

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Figure 2.6 Logistical Performance Cycles

Input and output requirements

are not illustrated

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 Performance cycle uncertainty

• Major objective of logistics in all areas is to reduce

performance cycle uncertainty
• Operational variance is randomly introduced during
the cycle through
– The structure of the performance cycle itself
– Operating conditions
– The quality of logistical operations

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Total time to complete the customer delivery
cycle is based on each task within the cycle

Figure 2.8 Performance Cycle Uncertainty 2-38

 Ways to improve performance cycle times

• EDI (Electronic Data Interchange) or Internet order

management and tracking
• RFID or Bar code material tracking
• Automated inventory management
• Automated order selection and picking
• Communication with customers to determine their needs
• Communication with suppliers to determine their
capabilities

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 Performance cycle synchronization seeks to
achieve planned time performance
• Delayed or faster performance at any point along
the supply chain results in potential disruption of
operations
• Once consistent operations are achieved,
managers can focus on reducing the time to
complete the performance cycle to a minimum

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