om Un n Management, peSupply Chain Management: Strategy, Planning, and Operation Sunil Chopra Kellogg Graduate School of Management Northwestern University Peter Meindl i2 TechnologiesChopra, Sunil Supply chain management: strategy, planning, and operation / Sunil Chopra, Peter Meindl Inddudes bibliographical references and index ISBN 0-13-026465-2 1, Marketing channels—Management. 2. Delivery of goods—Management, 3. Physical distribution of goods—Management. 4. Customer services—Management. 5. Industrial procurement, 6. Materials management. I. Meindl, Peter. II. Title HPS415.13,C533 2001 658.7—de2 00-062419 Vice President/Editorial Director: James Boyd Executive Editor: Tom R. Tucker Assistant Editor: Jennifer Surich Media Project Manager: Cindy Harford Senior Marketing Manager: Debbie Clare Production/Manufacturing Manager: Gail Steier de Acevedo Production Coordinator: Maureen Wilson Senior Prepress/Manufacturing Manager: Vincent Scelta Manufacturing Buyer: Natacha St. Hill Moore Cover Design: Kiwi Design Cover Art/Photo: PhotoDise Composition: U $ Information Services, Ine. Copyright © 2001 by Prentice-Hall, Inc., Upper Saddle River, New Jersey 07458. All rights re- served. Printed in the United States of America. This publication is protected by Copyright and permission should be obtained from the publisher prior to any prohibited reproduction. storage in a retrieval system, or transmission in any form or by any means, electronic, mechanical, pho- tocopying, recording, or likewise, For information regarding permission(s), write to: Rights and. Permissions Department. = wsenovaI would like to thank my colleagues at Kellogg for all that J have learned from them about logistics and supply chain management. 1 am grateful for the love and en- couragement my parents, Krishan and Pushpa, and sisters, Sudha and Swati, have always provided during every endeavor in my life. I thank my children Ravi and Rajiv for the joy they have brought me, Finally, none of this would have been possi- ‘ie without the constant love, caring, and support of my wife Maria Cristina Sunil Chopra Twould like to thank three mentors: Sunil Chopra my co-author, Hau Lee my advi- sor at Stanford University and beyond, and Gerry Lieberman, also of Stanford University, all of whom have taught me a great deal and inspired me even more I would like t0 thank my parents, Freddy and Jim, and sister, Candace, for their con- stant love and support. And, most importantly, I would like to thank my wife, Sarah, who makes my life wonderful and whom I love with all of my heart. Pete MeindlContents in Brief PART ONE: BUILDING A STRATEGIC FRAMEWORK TO ANALYZE SUPPLY CHAINS, 1 Chapter 1 Understanding the Supply Chain 3 Chapter 2 Supply Chain Performance: Achieving Strategic Fit and Scope 25 Chapter3 Supply Chain Drivers and Obstacles 49 PART TWO: PLANNING DEMAND AND SUPPLY INA SUPPLY CHAIN 65 Chapter 4 Demand Forecasting ina Supply Chain. 67 Chapter 5 Aggregate Planning in a Supply Chain 101 Chapter6 Planning Supply and Demand in a Supply Chain: Managing Predictable Variability 121 PART THREE: PLANNING AND MANAGING INVENTORIES. INASUPPLY CHAIN 135 Chapter 7 Managing Economies of Scale in a Supply Chain: Cycle Inventory 137 Chapter 8 Managing Uncertainty in a Supply Chain: Safety Inventory 179 Chapter 9 Determining Optimal Level of Product Availability 221 PART FOUR: =TRANSPORTATION, NETWORK DESIGN, AND INFORMATION TECHNOLOGY IN A SUPPLY CHAIN 259 Chapter 10 Transportation in a Supply Chain 261 Chapter 11 Facility Decisions: Network Design in a Supply Chain 303 Chapter 12 Information Technology in a Supply Chain 335, PART FIVE: COORDINATING A SUPPLY CHAIN AND THE ROLE OF E-BUSINESS 357, Chapter 13 Coordination in a Supply Chain 359 Chapter 14 E-Business and the Supply Chain 391Contents in Brief PART SIX: FINANCIAL FACTORS INFLUENCING SUPPLY CHAIN DECISIONS 419 Chapter 15 Financial Evaluation of Supply Chain Decisions 421 NAME INDEX 449 SUBJECT INDEX 451Contents Preface xv PART ONE: BUILDING A STRATEGIC FRAMEWORK TO ANALYZE SUPPLY CHAINS 1 CHAPTER 1 Understanding the Supply Chain 1.1 WhatJsa Supply Chain? 3 1.2. Decision Phases in a Supply Chain 6 1.3 Process View of a Supply Chain 7 1.4 The Importance of Supply Chain Flows 16 15 Examples of Supply Chains 18 1.6 Summary of Learning Objectives 22 Discussion Questions 23 Bibliography 23 3 CHAPTER 2. Supply Chain Performance: Achieving Strategic Fit and Scope 25 2.1 Competitive and Supply Chain Strategies 25 22 Achieving Strategic Fit 27 23 Expanding Strategic Scope 40 24 Summary of Learning Objectives 46 Discussion Questions 46 Bibliography 47 CHAPTER 3 Supply Chain Drivers and Obstacles 3.) Drivers of Supply Chain Performance 49 3.2. A Framework for Structuring Drivers 51 33 Inventory 52 34 Transportation 54 35. Facilities 56 3.6 information 58 3.7 Obstacles to Achieving Fit 60 3.8 Summary of Learning Objectives 63 Discussion Questions 63 Bibliography 63 49X Contents PART TWO: PLANNING DEMAND AND SUPPLY IN A SUPPLY CHAIN 65 CHAPTER 4 Demand Forecasting in a Supply Chain 67 4d 42 43 44 45 46 47 48 The Role of Forecasting ina Supply Chain 68 Characteristics of Forecasts 69 ‘Components of a Forecast and Forecasting Methods 69 Basic Approach to Demand Forecasting 72 Time Series Forecasting Methods 75 Measures of Forecast Error 86 Forecasting Demand at NaturalGas.com 88 Summary of Learning Objectives 95 Discussion Questions 96 Exercises 96 Bibliography 97 Case Study: Specialty Packaging Corporation, Part A 98 CHAPTERS Aggregate Planning ina Supply Chain 101 Sa 52 53 54 55 56 57 ‘The Role of Aggregate Planning in a Supply Chain 101 ‘The Aggregate Planning Problem 103 Aggregate Planning Strategies 104 Aggregate Planning Using Linear Programming 105 Aggregate Planning in Excel 113 Implementing Aggregate Planning in Practice 115 Summary of Learning Objectives 116 Discussion Questions 117 Case Study: Specialty Packaging Corporation, Part B_ 118. CHAPTER 6 Plam 61 62 63 64 65 Predictable Variability 121 Responding to Predictable Variability ina Supply Chain 121 Managing Supply 123 Managing Demand 125 Implementing Solutions to Predictable Variability in Practice 132 Summary of Learning Objectives 133 Discussion Questions 133 Case Study: Mintendo Game Girl 134 PART THREE: PLANNING AND MANAGING INVENTORIES IN A SUPPLY CHAIN 135, CHAPTER 7 Managing Economies of Scale in a Supply Chain: 7 72 Cycle Inventory 137 ‘The Role of Cycle Inventory in a Supply chain 138, Economies of Scale to Exploit Fixed Costs 141 g Supply and Demand in a Supply Chain: ManagingContents xi 7.3. Economies of Scale to Exploit Quantity Discounts 152 7.4 Short-Term Discounting: Trade Promotions 164 7.5 Estimating Cycle Inventory-Related Costs in Practice 169 7.6 Summary of Learning Objectives 172 Discussion Questions 172 Exercises. 173 Bibliography 174 Case Study: Delivery Strategy at MoonChem 175 Appendix 7A: Economic Order Quantity 177 CHAPTER 8 Managing Uncertainty in a Supply Chain: Safety Inventory 179 8.1 The Role of Safety Inventory in a Supply Chain 180 82. Determining Appropriate Level of Safety Inventory 181 83 Impact of Supply Uncertainty on Safety Inventory 193 8.4 Impact of Aggregation on Safety Inventory 195 85 Impact of Replenishment Policies on Safety Inventory 207 86 Estimating and Managing Safety Inventory in Practice 210 87 Summary of Learning Objectives 211 Discussion Questions 212 Exercises 212 Bibliography 214 Case Study : Managing Inventories at ALKO Inc. 215 Appendix 8A: The Normal Distribution 218 Appendix 8B: The Normal Distribution in Excel 219 Appendix 8C: Expected Shortage Cost per Cycle 220 CHAPTER 9 Determining Optimal Level of Product Availability 221 9.1. The Importance of the Level of Product Availability 222 9.2. Factors Affecting Optimal Leve! of Product Availability 222 9.3. Managerial Levers to Improve Supply Chain Profitability 231 9.4 Supply Chain Contracts and Their Impact on Profitability 242 9.5. Setting Optimal Levels of Product Availability in Practice 247 9.6 Summary of Learning Objectives 248 Discussion Questions 249 Exercises 249 Bibiiography 251 Appendix 9A: Optimal Level of Product Availability 252 Appendix 9B: An Intermediate Evaluation 252 Appendix 9C: Expected Profit from an Order 253 Appendix 9D: Expected Overstock from an Order 254xii Contents Appendix 9E: Expected Understock from an Order 254 Appendix 9F: Simulation Using Spreadsheets 255 PART FOUR: TRANSPORTATION, NETWORK DESIGN, AND INFORMATION TECHNOLOGY IN A SUPPLY CHAIN, 259 CHAPTER 10 Transportation in a Supply Chain 261 10.1. The Role of Transportation in a Supply Chain 262 10.2 Factors Affecting Transportation Decisions 263, 10.3 Modes of Transportation and Their Performance Characteristics 265 10.4 Design Options for a Transportation Network 270 10.5. Trade-offs in Transportation Design 274 10.6 Tailored Transportation 282 10.7 Routing and Scheduling in Transportation 284 10.8 Making Transportation Decisions in Practice 297 10.9 Summary of Learning Objectives 299 Discussion Questions 300 Exercises 300 Bibliography 302 CHAPTER 11 Facility Decisions: Network Design ina Supply Chain 303 11.1 The Role of Facility Decisions in a Supply Chain 303 11.2 Factors Influencing Network Design Decisions 305 11.3 A Framework for Network Design Decisions 314 11.4 Models for Facility Location and Capacity Allocation 316 115 Making Network Design Decisions in Practice 327 11.6 Summary of Learning Objectives 329 Discussion Questions 329 Exercises 330 Bibliography 332 Case Study: Managing Growth at SportStuffcom 333 CHAPTER 12 Information Technology in a Supply Chain 335 12.1. The Role of Information Technology in a Supply Chain 335 12.2. The Importance of Information in a Supply Chain 336 12.3 Use of Information in a Supply Chain 338 12.4 Information Technology: The Information Enabler 339 125 Supply Chain Information Technology in Practice 353 12.6 Summary of Learning Objectives 354 Discussion Questions 355 Bibliography 355 For More Information 355Contents PART FIVE: COORDINATING A SUPPLY CHAIN AND THE ROLE OF E-BUSINESS 357 CHAPTER 13 Coordination in a Supply Chain 359 13.1 Lack of Supply Chain Coordination and the Bullwhip Effect 359 13.2. Effect of Lack of Coordination on Performance 361 13.3 Obstacles to Coordination in a Supply Chain 363 13.4 Managerial Levers to Achieve Coordination 368 13.5. Building Strategic Partnerships and Trust within a Supply Chain 374 13.6 Achieving Coordination in Practice 381 13.7 Summary of Learning Objectives 383 Discussion Questions 384 Bibliography 384 Appendix 13A: The Beer Game 386 CHAPTER 14 E-Business and the Supply Chain 391 14,1 The Role of E-Business in a Supply Chain 391 14.2. The Impact of E-Business on Supply Chain Performance 393 143. Value of E-Business in Different Industries 399 14.4 Setting up E-Business in Practice 415 14.5 Summary of Learning Objectives 417 Discussion Questions 418 Bibliography 418 PART SIX: FINANCIAL FACTORS INFLUENCING SUPPLY CHAIN DECISIONS 419 NAME INDEX SUBJECT INDEX CHAPTER 15 Financial Evaluation of Supply Chain Decisions 421 15.1. The Impact of Financial Factors on Supply Chain Decisions 421 15.2. Discounted Cash Flow Analysis 422 15.3 Representations of Uncertainty 424 15.4 Evaluating Supply Chain Decisions Using Decision Trees 426 155 AM Tires: Financial Evaluation of Supply Chain Design Decisions 433 15.6 Financial Analysis of Supply Chain Decisions in Practice 444 15.7. Summary of Learning Objectives 445 Discussion Questions 445 Exercises 446 Bibliography 448 449 451Preface This book has grown from a course on supply chain management taught to second- year MBA students at the Kellogg Graduate School of Management. The goal of this lass is to cover not only high-level supply chain strategy and concepts, but also to give students a solid understanding of the analytical tools necessary to solve supply chain problems. With this class goal in mind, our objective was to create a book that would develop an understanding of the following three key areas and their interrela- tionships: © The strategic role of the supply chain + Key drivers of supply chain performance * Analytical tools and techniques for supply chain analysis Our first objective in this book is for the reader to learn the strategic importance ‘of good supply chain design, planning, and operation for every firm. The reader will be able to understand and visualize how good supply chain management can be a competitive advantage for a firm. Similarly, a reader should understand how weak- nesses in supply chain design, planning, and operation can hurt the performance of a firm, We use several examples to illustrate this idea and develop a strategic frame- work for supply chain management. Within the strategic framework we identify inventory, transportation, informa- tion, and facilities as the key drivers of supply chain performance. Our second goal in the book is to convey how these drivers may be used on a conceptual level during sup- ply chain design, planning, and operation to improve performance. For each driver of supply chain performance, our goal is to provide readers with practical managerial levers and concepts that may be used to improve supply chain performance. Utilizing these managerial levers optimally during the design, planning, and oper- ational phases requires knowledge of logistics and supply chain methodologies. Our third goal isto give the reader knowledge of these methodologies. Every methodolog- ical discussion is illustrated with its application in Excel. When discussing methodolo- gies and techniques, we stress the managerial context in which they are used and the managerial levers for improvement that they support. The strategic framework and concepts discussed in the book are tied together through a variety of examples that show how a combination of concepts is needed to achieve significant incseases in performance. There is a particular focus on the analy- sis of e-business and how it can help firms in different industries improve their supply chain performance. ‘The book is targeted toward an academic as well as a practitioner audience. On the academic side, it should be appropriate for MBA, engineering management, of se- nior undergraduate courses in logistics and supply chain management. It should alsoxvi Preface serve as a suitable reference for both concepts as well as methodology for practition- ers in consulting as well as industry. There are many people we would like to thank who helped us throughout this process. We thank the reviewers whose suggestions significantly improved the book: James Noble, University of Missouri-Columbia; Sime Curkovic, Western Michigan University; Effie Stavrulaki, Penn State University; and James K. Higginson, Univer- sity of Waterloo (Ontario). We are grateful to the students at the Kellogg Graduate School of Management who suffered through typo-ridden drafts of earlier versions of the book. Specially, we thank Christoph Roettelle and Vikas Vats for carefully re- viewing several chapters and solving problems at the end of chapters. Our develop- mental editor, Libby Rubenstein, who read all our writing with a critical eye and raised all the right issues, was instrumental in improving the book. The book is much better because of her involvement. We would also like to thank our editor Tom ‘Tucker and the staff at Prentice-Hall for their effort with the book. Finally, we'd like to thank you, our readers, for reading and using this book. We hope it contributes to all your efforts to improve the performance of companies and supply chains through- out the world Sunil Chopra Kellogg Graduate School of Management Northwestern University Peter Meindl i2 TechnologiesPART ONE Building a Strategic Framework to Analyze Supply Chains CHAPTER | Understanding the Supply Chain CHAPTER 2 Supply Chain Performance: Achieving Strategic Fit and Scope CHAPTER 3 Supply Chain Drivers and Obstacles framework to analyze design, planning, and operational decisions within supply chains. Such a framework helps clarify supply chain goals and identify managerial actions that improve supply chain performance in terms of the desired goals. Chapter 1 defines a supply chain and establishes the impact that supply chain decisions have on a firm’s performance. A variety of examples are used to illustrate supply chain decisions, their influence on performance, and their role in a firm’s competitive strategy. Chapter 2 describes supply chain strategy in the context of a firm’s value chain. The relationship between supply chain strategy and the competitive strategy of a firm is established and used to em- phasize the importance of ensuring that strategic fit exists between the two strategies. The rest of the chapter discusses how expanding the scope of strategic fit across all functions and stages within the supply chain improves performance. Chapter 3 describes the four supply chain performance drivers: inventory, transportation, facilities, and information. Key decisions related to cach driver are identified and linked to a company’s ability to support its competitive strategy. T: goal of the three chapters in this module is to provide a strategicCHAPTER I Understanding the Supply Chain 1.1 What Isa Supply Chain? 1.2 Decision Phases in a Supply Chain 1.3 Process View of a Supply Chain 1.4 The Importance of Supply Chain Flows 1.5 Examples of Supply Chains 1.6 Summary of Learning Objectives Discussion Questions Bibliography Learning Objectives Alter reading this chapter, you will be able to 1, describe the cycle and push/pull views of a supply chain; 2. identify the three key supply chain decision phases and explain the significance of each one; and 3. discuss the goal of a supply chain and explain the impact of supply chain decisions on the success of a firm. and explore the various issues that need to be considered when designing, plan- ning, or operating a supply chain. We discuss the significance of supply chain is- sues to the success of a firm. We also provide several supply chain examples from dif- ferent industries to emphasize the variety of supply chain issues that companies need to consider at the strategic, planning, and operational levels. [I this chapter, we provide a conceptual understanding of what a supply chain is 1.1 WHAT IS A SUPPLY CHAIN? A supply chain consists of all stages involved, directly or indirectly, in fulfilling a cus- tomer request. The supply chain not only includes the manufacturer and suppliers, but also transporters, warchouses, retailers, and customers themselves. Within each orga- nization, such as a manufacturer, the supply chain includes all functions involved in filling a customer request. These functions include, but are not limited to, new product, development, marketing, operations, distribution, finance, and customer service.4 PART | Building a Strategic Framework to Analyze Supply Chains Consider a customer walking into a Wal-Mart store to purchase detergent. The supply chain begins with the customer and his or her need for detergent. The next stage of this supply chain is the Wal-Mart retail store that the customer visits. Wal- Mart stocks its shelves using inventory that may have been supplied from a finished- goods warehouse that Wal-Mart manages or from a distributor using trucks supplied by a third party. The distributor in turn is stocked by the manufacturer (say, Procter & Gamble [P&G] in this case). The P&G manufacturing plant receives raw material from a variety of suppliers, who may themselves have been supplied by lower-tier sup- pliers. For example, packaging material may come from Tenneco, and Tenneco might receive raw material to manufacture the packaging from other suppliers. This supply chain is illustrated in Figure 1.1. ‘A supply chain is dynamic and involves the constant flow of information, product, and funds between different stages. Each stage of the supply chain performs different processes and interacts with other stages of the supply chain. Wal-Mart provides the product, as well as pricing and availability information, to the customer. The customer transfers funds to Wal-Mart, Wal-Mart conveys point-of-sale data as well as replenish- ment orders to the distribution center (DC), which transfers the replenishment order via trucks back to the store. Wal-Mart transfers funds to the distributor after the re- plenishment, The distributor also provides pricing information and sends delivery schedules to Wal-Mart. Similar information, material, and fund flows take place across the entire supply chain. In another example, when a customer purchases on-line from Dell Computer, the supply chain includes, among others, the customer, the Web page that takes the cus- tomer’s order, the Dell assembly plant, and all of Dell’s suppliers and their suppliers. ‘The Web page provides the customer with information regarding pricing, product va- riety, and product availability. Having made a product choice, the customer enters the order information and pays for the product. The customer may later return to the ‘Web page to check the status of the order. Stages further up the supply chain use cus- tomer order information to fill the order. That process involves an additional flow of information, product, and funds between various stages of the supply chain. ‘These examples illustrate that the customer is an integral part of the supply chain. The primary purpose for the existence of any supply chain is to satisfy customer needs, in the process generating profits for itself. Supply chain activities begin with a ‘Wal-Mart or ‘Customer Wants ‘Mansfocurer [>] Tk =>) Gere" [>] Detezent and Gocs Party DC to Wal Mart a Chemical Bis meso Manufacturer roducer rackaging (e.g., oil company) ‘Chemical Paper “Timber Manufacturer Manufacturer [S—] Industry (e.g. oil company) -CHAPTER | Understanding the Supply Chain 5 customer order and end when a satisfied customer has paid for his or her purchase. The term supply chain conjures up images of product, or supply, moving from suppli- ers to manufacturers to distributors to retailers to customers along a chain. It is impor- tant to visualize information, funds, and product flows along both directions of this chain, The term may also imply that only one player is involved at each stage. In real- ity, a manufacturer may receive material from several suppliers and then supply sev- eral distributors. Therefore, most supply chains are actually networks. ft may be more accurate to use the terms supply network or supply web to describe the structure of most supply chains. ‘A typical supply chain may involve a variety of stages. These supply chain stages are shown in Figure 1.2 and include the following: * Customers * Retailers * Wholesalers/distributors © Manufacturers © Component/raw material suppliers Each stage in Figure 1.2 need not be present in a supply chain. The appropriate design of the supply chain will depend on both the customer's needs and the roles of the stages involved in filling those needs. In some cases, such as Dell, a manufacturer may fill customer orders directly. Dell builds to order, that is, a customer order initiates ‘manufacturing at Dell. Dell does not have a retailer, wholesaler, oF distributor in its supply chain. In other cases, such as the mail order company L.L. Bean, manufactur ers do not respond to customer orders directly. L.L. Bean maintains an inventory of products from which it fills customer orders. Compared with the Dell supply chain, the LLL. Bean supply chain contains an extra stage (the retailer, L.L. Bean itself) between the customer and the manufacturer. In the case of a small retail store, the supply chain may also contain a wholesaler or distributor between the store and the manufacturer. The Objective of a Supply Chain The objective of every supply chain is to maximize the overall value generated. The value a supply chain generates is the difference between what the final product is worth to the customer and the effort the supply chain expends in filling the customer's request. For most commercial supply chains, value will be strongly correlated with supply chain profitability, the difference between the revenue generated from the cus- tomer and the overall cost across the supply chain. For example, a customer purchas- ing a computer from Deit pays $2,000, which represents the revenue the supply chain receives. Dell and other stages of the supply chain incur costs to convey information, produce components, store them, transport them, transfer funds, and so on. The dif- Supplier [Manufacturer] 4 Distributor Retailer Customer Supplier Manufacturer k—>{ Distributor Retailer Customer Supplier Manufacturer] “Distributor Retailer Customer6 PARTI Building a Strategic Framework to Analyze Supply Chains ference between the $2,000 that the customer paid and the sum of all costs incurred by the supply chain to produce and distribute the computer represents the supply chain profitability. Supply chain profitability is the total profit to be shared across all supply chain stages. The higher the supply chain profitability, the more successful the supply chain. Supply chain success should be measured in terms of supply chain profitability and not in terms of the profits at an individual stage. (We demonstrate in subsequent chapters that a focus on profitability at individual stages may lead to a reduction in overall supply chain profits.) We define the success of a supply chain in terms of supply chain profitability. The next logical step is to look for sources of revenue and cost. For any supply chain, there is only one source of revenue: the customer. The customer is the only real point of positive cash flow in a supply chain. In the Wal-Mart example, the customer purchas- ing detergent is the only one providing positive cash flow for the supply chain. All other cash flows are simply fund exchanges that occur within the supply chain, given that different stages have different owners. When Wal-Mart pays its supplier, itis tak- ing a portion of the funds the customer provides and passing that money on to the supplier. This cash transfer adds to the supply chain’s costs. All flows of information, product, or funds generate costs within the supply chain. Therefore, the appropriate management of these flows is a key to supply chain success. Supply chain management involves the management of flows between and among stages in a supply chain to ‘maximize total profitability In the next section, we categorize supply chain decision phases based on their duration. 2_ DECISION PHASES IN A SUPPLY CHAIN Successful supply chain management requires several decisions relating to the flow of information, product, and funds. These decisions fall into three categories or phases, depending on the frequency of each decision and the time frame over which a deci- sion phase has an impact 1. Supply chain strategy or design. During this phase, a company decides how to structure the supply chain. It decides what the chain's configuration will be and what processes each stage will perform, Decisions made during this phase are also referred to as strategic supply chain decisions. Strategic decisions made by companies include the location and capacities of production and warchousing facilities, products to be manufactured or stored at various locations, modes of transportation to be made available along different shipping legs, and type of information system to be utilized, ‘A firm must ensure that the supply chain configuration supports its strategic objec- tives during this phase. Dell’s decisions regarding the location and capacity of its man- ufacturing facilities, warehouses, and supply sources are all supply chain design or strategic decisions. Supply chain design decisions are typically made for the long term (a matter of years) and are very expensive to alter on short notice. Consequently, ‘when companies make these decisions, they must take into account uncertainty in an- ticipated market conditions over the next few years. 2. Supply chain planning, As a result of the planning phase, companies define a set of operating policies that govern shoxt-term operations. For decisions made during this phase, the supply chain’s configuration determined in the strategic phase is fixed. This configuration establishes constraints within which planning must be done. Companies start the planning phase with a forecast for the coming year (or a comparable time frame) of demand in different markets. Planning includes decisions regarding whichCHAPTER | Understanding the Supply Chain 7 markets will be supplied from which locations, the planned buildup of inventories, the subcontracting of manufacturing, the replenishment and inventory policies to be fol- lowed, the policies that will be enacted regarding backup locations in case of a stock- out, and the timing and size of marketing promotions. Dell’s decisions regarding the markets a given production facility will supply and target production quantities at dif ferent locations are classified as planning decisions. Planning establishes parameters within which a supply chain will function over a specified period of time. In the plan- ning phase, companies must include uncertainty in demand, exchange rates, and com- petition over this time horizon in their decisions. Given a shorter time horizon and better forecasts than the design phase, companies in the planning phase try to incor- porate whatever flexibility may have been built into the supply chain in the design phase and exploit it to optimize performance in the shorter term. 3. Supply chain operation. The time horizon here is weekly or daily, and during this, phase companies make decisions regarding individual customer orders. At the opera- tional level, supply chain configuration is considered fixed and planning policies al- ready defined, The goal of supply chain operations is to implement the operating poli- cies in the best possible manner. During this phase, firms allocate individual orders to inventory or production, set a date that an order is to be filled, generate pick lists at a warehouse, allocate an order to a particular shipping mode and shipment, set delivery schedules of trucks, and place replenishment orders. Because operational decisions are being made in the short term (minutes, hours, or days), there is often less uncer~ tainty about demand information. The goal during the operation phase is to exploit the reduction of ancertainty and optimize performance within the constraints estab- lished by the configuration and planning policies. The design, planning, and operation of a supply chain have a strong impact on overall profitability and success. Consider Dell Computer. In 1993, Dell performed poorly, and its stock price dropped sharply. This led Dell management to focus on im- proving the design, planning, and operation of the supply chain, resulting in signifi- cantly improved performance. Both profitability and the stock price subsequently have soared due to this increase in performance, In later chapters, we develop concepts and present methodologies that can be used at each of the three decision phases described previously. Most of our discussion addresses the supply chain design and planning phases. Key Point Supply chain decision phases may be categorized as design, plan- ning, or operational, depending on the time frame over which the decisions made apply. 1.3 PROCESS VIEW OF A SUPPLY CHAIN ‘A supply chain is a sequence of processes and flows that take place within and be- tween different supply chain stages and combine to fill a customer need for a product. There are two different ways to view the processes performed in a supply chain: 1, Cycle view. The processes in a supply chain are divided into a series of cy- cles, each performed at the interface between two successive stages of a sup- ply chain,8B PARTI Building a Strategic Framework to Analyze Supply Chains 2. Pushipull view. The processes in a supply chain are divided into two cate- gories depending on whether they ate executed in response to a customer order or in anticipation of customer orders. Pall processes are initiated by a customer order, and push processes are initiated and performed in anticipa- tion of customer orders. Cycle View of Supply Chain Processes Given the five stages of a supply chain shown in Figure 1.2. all supply chain processes can be broken down inte the following four process cycles, as shown in Figure 1.3: + Customer order eycle + Replenishment cycle * Manufacturing cycle * Procurement cycle Each cycle occurs at the interface between two successive stages of the supply chain, The five supply chain stages thus result in four supply chain process cycles. Not every supply chain will have all four cycles clearly separated. For example, a grocery supply chain in which a retailer stocks finished-goods inventories and places replen- ishment orders either with the manuifactures or the distributor is likely to have all four cycles separated. Dell, in contrast, sells directly to customers, thus bypassing the re- tailer and distributor. A cycle view of the supply chain is very useful when considering operational deci- sions, because it clearly specifies the roles and responsibilities of each member of the supply chain. The cycle view provides clarity, for example, when setting up informa- tion systems to support supply chain operations, as process ownership and objectives are clearly defined. In the following sections, we describe the various supply chain cy- cles in greater detail Cycles Stages ‘Customer Custorner Order Cycle Retailer Replenishment Cycle Distributor Manufacturing Cycle Manufacturer soni MBSE Procurement CycleCHAPTER | Understanding the Supply Chain 9 Customer Order Cycle § ‘The customer order cycle occurs at the customer/retailer interface and includes all processes directly involved in receiving and filling the customer’s order. Typically, the customer initiates this cycle at a retailer site, and the cycle primarily involves filling customer demand. The retailer's interaction with the customer starts when the cus- tomer arrives or contact is initiated and ends when the customer receives the order. The processes involved in the customer order cycle are shown in Figure 1.4 and in- clude the following: + Customer arrival + Customer order entry * Customer order fulfillment + Customer order receiving Customer Arrival The term customer arrival refers to the customer's arrival at the location where he or she has access (0 his or her choices and makes a decision regard- ing a purchase. The starting point for any supply chain is the arrival of a customer. Customer arrival can occur when © the customer walks into a supermarket to make a purchase, * the customer calls a mail order telemarketing center, or * the customer uses the Web or an electronic link to a mail order firm. From the supply chain perspective, a key goal is to facilitate the contact between the customer and the appropriate product so that the customer's arsivat turns into a cus tomer order. At a supermarket, facilitating a customer order may involve managing customer flows and product displays, At a telemarketing center, it may mean ensuring that customers do not have to wait on hold for too long. It may also mean having sys- tems in place so that sales representatives can answer customer queries in a way that turiis calls into orders. At a Web site, a key system may be search capabilities with tools such as personalization that allow customers to quickly locate and view products that may interest them. The objective of the customer arrival process is to maximize the conversion of customer arrivais to customer orders, Customer Order Entry The term customer order entry refers to customers ceiling the retailer what products they want to purchase and the retailer alfocating products to customers. At a supermarket, order entry may take the form of customers loading all items that they intend to purchase onto their carts. At a mail order firm’s telemar- keting center or Web site, order entry will involve customers informing the retailer of a ™~ I customer | Customer arial Onder Receiving Customer Customer Order Entry P| Order Fulfillment eee10 PARTI Building a Strategic Framework to Analyze Supply Chains the items and quantities they selected. The setailer then allocates the product to the customer order and may also provide a delivery date to the customer. The objective of the customer order entry process is to ensure that the order entry is quick and accu- rate and is communicated to all other supply chain processes that are affected by it. Customer Order Fulfilment During the customer order fulfillment process, the customer's order is filled and sent to the customer. At a supermarket, the customer performs this process. At a mail order firm this process generally includes picking the order from inventory, packaging it, and shipping it to the customer. All inventories will need to be updated, which may result in the initiation of the replenishment cycle. In general, customer order fulfillment takes place from retailer inventory. in a build- to-order scenario, in contrast, order fulfillment takes place directly from the manufac- turer's production line. The objective of the customer order fulfillment process is to get the correct and complete orders to customers by the promised due dates and at the lowest possible cost. Customer Order Receiving During the customer order receiving process, the cus- tomer receives the order and takes ownership. Records of this receipt may be updated and cash payment initiated. At a supermarket, receiving occurs at the checkout counter. For a mail order firm, receiving occurs when the product is delivered to the customer. Replenishment Cycle © The replenishment cycle occurs at the retailer/distribuior interface and includes all processes involved in replenishing retailer inventory. It is initiated when a retailer places an order to replenish inventories to meet future demand. A replenishment cycle may be triggered at a supermarket that is running out of stock of detergent or at a mail order firm that is low on stock of a particular shirt. In some cases replenishment takes place from a distributor that is holding finished-goods inventory. In other cases replenishment may occur directly from a manufactarer’s production line. The replenishment cycle is similar to the customer order cycle except that the re- tailer is now the customer. The objective of the replenishment cycle is to replenish in- ventories at the retailer at minimum cost while providing the necessary product avail- ability {0 the customer. The processes involved in the replenishment cycle are shown in Figure 1.5 and include the following Retail order trigger Retail order entry Retail order fulfillment Retail order receiving — ™“ Retail Order Retail Order Trigger Receiving Retail Order Retail OrderCHAPTER I Understanding the Supply Chain 11 Retail Order Trigger As the retailer fills customer demand, inventory is depleted and must be replenished to meet future demand. A key activity the retailer performs during the replenishment cycle is to devise a replenishment or ordering policy that triggers an order from the previous stage (possibly the distributor or the manufac- turer). The objective when setting replenishment order triggers is to maximize prof- itability by balancing product availability and cost. The outcome of the retail order trigger process is that a replenishment order is generated. Retail Order Entry The retail order entry process is similar to customer order entry at the retailer. The only difference is that the retailer is now the customer plac ing the order with the distributor or manufacturer. The objective of the retail order entry process is that an order be entered accurately and conveyed quickly to all supply chain processes affected by the order. Retail Order Fulfillment The retail order fulfillment process is very similar to cus- tomer order fulfillment except that it takes place either at the distributor or manufac turer. A key difference is the size of cach order. Customer orders tend to be much smaller than replenishment orders. The objective of the retail order fulfillment is to get the replenishment order to the retailer on time while minimizing costs. Retail Order Receiving Once the replenishment order arrives at a retailer, the re- tailer must receive it physically, update all inventory records, and settle all payable ac~ counts, This process involves product flow from the distributor to the retailer as welll as information and financial flows. The objective of the retail order receiving process is to update inventories and displays quickly and accurately at the lowest possible cost. Manufacturing Cycle = The manufacturing eyele typically occurs at the distributor/manufacturer (or re- tailer/manufacturer) interface and includes all processes involved in replenishing dis- tributor (or retailer) inventory. The manufacturing cycle is triggered by customer or- ders (as is the case with Dell), replenishment orders from a retailer or distributor (e.g., Wal-Mart ordering from P&G), or by the forecast of customer demand and cur- rent product availability in the manufacturer's finished-product warchouse. In general, a manufacturer produces several products and fills demand from sev- eral sources. One extreme in a manufacturing cycle is an integrated steel mill that col- lects orders that are similar enough to enable the manufacturer to produce in large quantities. In this case, the manufacturing cycle is reacting to customer demand (re- ferred to as a pull process earlier in the chapter). Another extreme involves certain types of consumer products firms that must produce in anticipation of demand. In this case, the manufacturing cycle is anticipating customer demand (referred to as a push process earlier in the chapter). The processes involved in the manufacturing cycle are shown in Figure 1.6 and include the following: Order arrival from the distributor, retailer, or customer Production scheduling Manufacturing and shipping Receiving at the distributor, retailer, or customer Order Arrival During the order arrival process, a distributor sets a replenishment order trigger based on the forecast of futuse demand and current product inventories. ‘The resuiting order is then conveyed to the manufacturer. In some cases, the customer or retailer may be ordering directly from the manufacturer. In other cases, a manufac~ turer may be producing to stock a finished-products warehouse. In the latter situation,12 PART! Building a Strategic Framework to Analyze Supply Chains ae Order Arrival Receiving | Production Manufacturing and the order is triggered based on product availability and a forecast of future demand, This process is similar to the retail order trigger process in the replenishment cycle Production Scheduling The production scheduling process is similar to the order entry process in the replenishment cycle where inventory is allocated to an order. During the production scheduling process, orders are allocated to a production plan or schedule. Given the desired production quantities, the manufacturer must decide ‘on the precise production sequence. If there are multiple lines, the manufacturer must also decide which products to allocate to each line. The objective of the production scheduling process is to maximize the proportion of orders filled on time while keep- ing costs down, Manufacturing and Shipping ‘The manufacturing and shipping process is equiva- lent to the order fulfillment process described in the replenishment cycle. During the manufacturing phase of the process, the manufacturer produces to the production schedule while meeting quality requirements. During the shipping phase of this process, the product is shipped 10 the customer, retailer, distributor, or finished- product warehouse. The objective of the manufacturing and shipping process is to ship the product by the promised due date while meeting quality requirements and keeping costs down, Receiving In the receiving process, the product is received at the distributor, finished-goods warehouse, retailer, or customer, and inventory recatds are updated Other processes related to storage and fund transfers also take place. Procurement Cycle 3 ‘The procurement cycle occurs at the manufacturer/supplier interface and includes all processes necessary to ensure that materials are available for manufacturing to occur according t0 schedule. During the procurement cycle, the manufacturer orders components from suppliers thst replenish the component inventories. The relation- ship is quite similar to that between a distributor end manufacturer, with one signifi- cant difference: Whereas retailer/distributor orders are triggered by uncertain cus- tomer demand, component orders can be determined precisely once the manufacturer has decided what the production schedule will be. Component orders are dependent on the production schedule. Tras, itis important that suppliers be linked to the manu- facturer’s production schedule. Of course, if a supplier's lead times are long, the sup- plier has to produce to forecast because the manufacturers production schedule may not be fixed that far in advance.CHAPTER | Understanding the Supply Chain 13 In practice, there may be several tiers of supplicrs, each producing a component for the next tier. A similar cycle would then flow back from one stage to the next. The processes in the procurement cycle are shown in Figure 1,7. We do not detail each process here because this cycle has processes similar to those discussed in the context of other cycles. Key Point A cycle view of the supply chain clearly defines the processes in- volved and the owners of each process. This view is very useful when consider- ing operational decisions, because it specifies the roles and responsibilities of each member of the supply chain and the desired outcome for each process, Push/Pull View of Supply Chain Processes All processes in a supply chain fall into one of two categories, depending on the tim- ing of their execution relative to customer demand. In pull processes, execution is ini- tiated in response (0 a customer order. Push processes are those that are executed in anticipation of customer orders. At the time of execution of a pull process, demand is known with certainty. At the time of execution of a push process, demand is not known and must be forecast. Pull processes may also be referred to as reactive processes because they react to customer demand. Push processes may also be re- ferred to as speculative processes because they respond to speculated (or forecast) rather than actual demand. The push/pull boundary in a supply chain separates push processes from pull processes. At Dell, for example, the beginning of personal com- puters (PC) assembly represents the push/pull boundary. All processes before PC as- sembly are push processes, and all processes after and including assembly are initiated in response to a customer order and are thus pull processes. ‘A push/pull view of the supply chain is very useful when considering strategic de- cisions relating ¢o supply chain design. This view forces a more global consideration of supply chain processes as they relate to a customer order. Such a view may, for in- stance, result in responsibility for certain processes being passed on to a different stage of the supply chain if making this transfer allows a push process to become a pull process, Order Based on Manufacturer's Production Schedule or Receiving at Manufacturer Supplier's Stocking Needs to Supplier Production Component Scheduling Manufacturing and Shipping14 PART | Building a Strategic Framework to Analyze Supply Chains Customer Customer PULL Order Cycle PROCESSES Customer Order Cycle Customer --}-Order Bean Arrives Replenishment and Manufacturing Cycle Replenishment, PUSH Manufacturing, PROCESSES Manufacturer Procurement Cycles Procurement Cycle Supplier Let us consider two distinct supply chains that we have discussed and relate them to the push/pull and the cycle views. One supply chain is a mail order company like LLL. Bean that receives customer orders through its telemarketing center or Web site. The other is a build-to-order computer manufacturer like Dell LL. Bean executes all processes in the customer order cycle after the customer arrives. All processes that are part of the customer order cycle are thus pull processes. Order fulfillment takes place from product inventory that is built up in anticipation of customer orders. The goal of the replenishment cycie is to ensure product availability when a customer order arrives. All processes in the replenishment cycle are per- formed in anticipation of demand and are thus push processes. The same holds true for processes in the manufacturing and procurement cycle. In fact, raw material like fabric is often purchased six to nine months before customer demand is expected. Manufacturing itself begins three to six months before the point of sale. All processes in the manufactsting and procurement cycle are thus push processes. The processes in the L.L. Bean supply chain break up into pull and push processes, a6 shown in Figure 18 ‘The situation is different for a build-to-order computer manufacturer like Dell, Dell does not sell through a reseller or distributor but rather directly to the consumer. Demand is not filled from finished-product inventory but from production. The arrival of a customer order triggers production in final assembly. The manufacturing cycle is thus part of the customer order fulfillment process in the customer order cycle. There are effectively only two cycles in the Dell supply chain: (1) a customer order and man- ufacturing eycle and (2) a procurement cycle, as shown in Figure 1.9. All processes in the customer order and manufacturing cycle at Delt are thus clas- sified as pull processes because they are initiated by customer arrival. Dell, however, does not place component orders in response to a customer order. Inventory is re- pienished in anticipation of customer demand. All processes in the procurement cycleCHAPTER | Understanding the Supply Chain 15 Customer Customer Order and Manufacturing Cycle ‘Manofacturer (Dell) Procurement Cycle Supplier for Dell are thus classified as push processes because they are a response to a forecast. The processes in the Dell supply chain break up into pull and push processes, as shown in Figure 1.10, One clear distinction between the two supply chains discussed previously is that the Dell supply chain has fewer stages and more pull processes than the L.L. Bean supply chain. As we indicate in the following chapters, this fact has @ significant im- pact on supply chain performance. Key Point A push/pull view of the supply chain categorizes processes based on whether they are initiated in response to a customer order (pull) or in anticipa- tion of a customer order (push). This view is very useful when considering strategic decisions relating to supply chain design. Customer PULL Order and PROCESSES ‘Manufacturing Customer Cycle = ‘Customer Order and Manufacturing Cycle Customer wo]> Order ‘Manufacturer (Dell) Arrives Procurement PUSH Procurement Cycle PROCESSES: Cycle Supplier16 PARTI Building a Strategic Framework to Analyze Supply Chains 1.4 THE IMPORTANCE OF SUPPLY CHAIN FLOWS There is a close connection between the design and management of supply chain flows (product, information, and cash) and the success of a supply chain. Dell Computer is an example of a firm that has successfully used good supply chain practices to support its competitive strategy. In contrast, Quaker Oats is an example in which the inability to design and manage flows appropriately in the supply chain ted to the failure of its acquisition of Snapple. Delt was established in 1984, By 1998, it had grown into a $12 billion company. Since 1993, Dell has experienced earnings growth of more than 65 percent per year. Its earnings growth is anticipated to be more than 30 percent per year over the next five years. Dell’s stock price has also grown significantly since 1993. Dell has attrib- uted a significant part of its success to the way it manages flows—product, informa- tion, and cash—within its supply chain, Dett’s basic supply chain model is direct sales to customers. As distributors and retailers are bypassed, the Dell suppiy chain has only three stages—customers, manu- facturer, and suppliers, as shown in Figure 1.11 Because Dell is in direct contact with its customers, it has been able to finely seg- ment them and analyze the needs and profitability of each segment, Close contact with its customers and an understanding of customers’ needs also allows Dell to de- velop better forecasts. To further improve the match between supply and demand, Dell makes an active effort to steer customers in reat time. on the phone or via the In- ternet, toward PC configurations that can be built given the components available. ‘Qn the operational side, inventory turns is a key performance measure that Delt watches very Closely. Each computer chip carries a date code to indicate how old a part is. Dell carries only about 10 days’ worth of inventory; in contrast, the competi- tion, selling through retailers, has been carrying in the vicinity of 80 to 100 days, If Intel introduces a new chip, the low level of inventory allows Dell to go to market ‘with a PC containing the chip faster than the competition. If prices suddenly drop, as. they did in the early part of 1998, Dell has less inventory that loses value relative to its competitors. For some products, such as monitors manufactured by Sony, Dell main- tains no inventory. The transportation company simply picks up the appropriate num- ber of computers from Dell’s Austin plant and monitors from Sony's factory in Mex- ico, matches them by customer order, and delivers them to the customers. This procedure allows Dell to save time and money associated with the extra handling of monitors ‘The success of the Dell supply chain is facifitated by sophisticated information ex- change. Dell provides real-time data to suppliers on the current state of demand. Sup- pliers are able to access their components’ inventory levels at the factories along with ‘Supplier Customer Supplier Manufactures supplier Customer CustomerCHAPTER | Understanding the Supply Chain 7 daily production requirements. Dell has created customized Web pages so that its major suppliers can view demand forecasts and other customer-sensitive information, thas helping suppliers to get a better idea of customer demand and better match their production schedules to that of Dell. The company has production concentrated in five manufacturing centers: Austin, Texas; Brazil; China; Ireland; and Malaysia. Be- cause demand at each location is relatively large and stable, suppliers are able to re- plenish component inventories regularly, allowing Dell to maintain low levels of com- ponent inventories, In some cases, Dell carries only hours of component inventory at its factory, Dell’s low levels of inventory also help ensure that defects are not introduced into a large quantity of product. When a new product is launched, supplier engineers are stationed right in the plant. If a customer calls in with a problem, production is stopped and design flaws are fixed in real time. As there is no finished product in in- ventory, the amount of defective merchandise produced is minimized. Dell also outsources service and support to third-party providers. To ensure a high quality of service, Dell coordinates the delivery of the parts the customer re- Quires with the arrival of the service person, Once again, a coordinated flow of infor- mation aad material minimizes the cost necessary to provide a high level of service, Dell also manages its cash flows very effectively. By tracking and managing re- ceivables and payables very closely, it is able to collect cash from its customers, on av- erage, five days before it has to pay its suppliers. Clearly, Dell’s supply chain design and appropriate management of product, in- formation, and cash flows play a key role in the company’s success. This approach has positioned Dell very well within the PC industry. Given that good product perfor- mance is common in the PC industry, the competitive battlefield is now focused on service delivery and supply chain efficiency. Quaker Oats, with its acquisition of Snapple, provides an example in which fail- ure to design and manage supply chain flows led to financial failure. Quaker owns Gatorade, the top-selling brand in the sports drink segment. In December 1994, Quaker purchased Snapple at a cost of $1.7 billion, Snapple sold all-natural drinks. At that time, Gatorade was very strong in the south and the southwest of the United States, while Snapple was strong in the northeast and on the west coast. Quaker 2nnounced that it hoped to exploit synergies between the two distribution systems to gain efficiencies, but the company was unable to remedy several problems that prevented it from achieving these synergies. Gatorade was manufactured in plants owned by Quaker, while Snapple was produced under contract by outside plants. Gatorade sold significant amounts through supermarkets and grocery stores, while Snapple sold primarily through restaurants and independent retailers. Over the two years following its acquisition of Snapple, Quaker was unable to gain much syn- ergy between the two distribution systems. In trying to merge two disparate distribu- tion systems, Quaker helped neither and may have hurt both. Just 28 months later, Quaker sold Snapple to Triarc Companies for about $300 million, about 20 percent of the purchase price. The inability to achieve synergies between the two supply chains was a significant reason for the failure of Snapple at Quaker. Key Point Supply chain decisions play a significant role in the success or fail- tare of a firm,18 PART 1 Building a Strategic Framework to Analyze Supply Chains 1.5 EXAMPLES OF SUPPLY CHAINS In this section, we consider several supply chains and raise questions that would have to be answered during the design, planning, and operations phases of these supply chains. In later chapters, we discuss concepts and present methodologies that can be used to answer these questions. Example I. Micron Electronics Inc.: A Direct Sales Manufacturer Micron Electronics Inc. is a manufacturer of PCs that sells directly to customers who place orders either through the telephone or the Internet. Micron has one as- sembly facility, located in Idaho. {t also has a subcontractor that is able to assemble the most popular models. A typical customer order comes in via the Internet or a toll-free number. Depending on the type of order (individual or corporates high- volume or low-volume item), it is allocated either to the Idaho facility or the swh- contractor. Large corporate orders, for example, are handled out of Idaho. Micron carries almost no finished-goods inventory and assembles PCs in response to cu tomer orders. ‘A typical order may include a monitor and a printer in addition to the PC. Micron does not manufacture peripherals such as monitors and printers. They are stored in ‘Memphis at a depot that Federal Express (FedEx) operates for Micron with some pe- ripherals also held at the idaho facility. Thus, the order taker must allocate product to the peripheral order from items in the depot. For an individual order, FedEx trans- ports the assembled PC (either from Idaho or the subcontractor) to Memphis, where it is merged with the peripherals from the depot. Another possibility is for FedEx to do the merge at a station close to the customer site. For example, an order from Chicago can be merged in Chicago itself. The merged order is then delivered to the customer. To facilitate this in-transit merge, Micron shares detailed electronic infor- mation with the FedEx warehouse as PCs ship out of }daho. Customers can track the status of their orders after they have placed them. For large corporate orders within the United States, Micron does not use FedEx. It uses less-than-truckload (LTL) companies to move the product. Currently, these orders are filled using peripherals that are stocked in Idaho. Micron outsources both PC components and peripherals throughout the world. ‘The company uses airfreight as well as ocean transport to move product to the United States, and then a combination of truck and rail to move it into warehouses. The following supply chain design, planning, and operational decisions have a bearing on the performance of the Micron supply chain: 1. Why has assembly of certain PCs been outsourced? What characterizes PCs or orders that have been outsourced? 2, Why does Micron have only one manufacturing site? 3. Why are individual orders shipped using FedEx and large corporate orders shipped using LTL? 4. Why are individual orders merged in transit rather than at the assembly site itself? 5. How much inventory of components and finished products is maintained? What inventory policies are used to manage replenishment? 6. Why are some components brought by airfreight and others by ocean? On what basis is the transportation mode selected for « shipment? Answers to these questions determine the appropriateness of the design, plan- ning, and operation of the supply chain. Manufacturers that sell both direct andCHAPTER | Understanding the Supply Chain 19 through resellers, like Hewlett Packard and Compaq, will need a different supply chain design to best support their strategy. How should they design and manage their supply chains? Example 1.2 7-Eleven: A Convenience Store With more than 17,000 stores in more than 20 countries, 7-Eleven is one of the largest, convenience store chains in the world. It has more than 7,000 stores in Japan and al- ‘most 5,000 in the United States. Its growth in Japan has been phenomenal. given that the first 7-Eleven store opened in Japan in 1974. 7-Eleven Japan is one of the most profitable companies listed on the Tokyo stock exchange. It has seen tremendous growth in sales and profitability while simultaneously decreasing its inventory relative to sales. 7-Eleven Japan's success is attributed primarily to its supply chain design and management ability. ‘A key reason for its success is 7-Eleven’s efforts to obtain a strategic fit between its competitive strategy and its location, transportation, inventory, and information strategy in the supply chain, 7-Eleven aims to provide customers with what they want, when they want it From a strategic perspective, one of the company’s key objectives is to micro-match supply and demand by location, season, and time of day. 7-Eleven designs and man- ages location, inventory, transportation, and information to support this objective, 7-Eleven follows a dominant location strategy and opens new stores in target areas to establish or enhance a strong presence. In Japan, for example, 7-Eleven stores are present in less than half of the prefectures (roughly equivalent to a county in the United States). However, 7-Eleven has a strong presence, with several stores, in each prefecture where they are located. In the United States, 7-Eleven stores were not, as concentrated prior to 1994. Between 1994 and 1997, 7-Eleven closed several of its stores in isolated locations. Today, the company targets new stores in areas that al- ready have a strong 7-Eleven presence. This strategy is consistent with the location strategy in Japan. This dominaat location strategy allows the company the benefits of consolidation in both warehousing and transportation, In Japan, fresh food constitutes a significant percentage of 7-Eleven’s sales. Most of the fresh food is cooked off site and delivered to the stores. In Japan, a store plac- ing an order by 10 A.M. has it delivered by dinnertime the same day. There are at least three fresh food deliveries a day per store so that the stock can change for break- fast, lunch, and dinner. All stores are electronically connected to the head office, dis- tribution centers (DCs), and suppliers. All store orders are passed on to the suppliers who package store-specific orders and deliver them to the DC. At the DC, all orders of like prodacts (categorized by temperature at which they are maintained) from dif- ferent suppliers are combined and delivered to the stores. Each delivery truck delivers to more than one store and tries to visit stores during the off-peak hours. 7-Eleven Japan has made an effort to have no direct store delivery from vendors to the stores. Rather, all deliveries pass through and are aggregated at a 7-Eleven DC from which they are shipped to the stores. Note that the location strategy helps facilitate this sup- ply strategy. In the United States, 7-Eleven is taking a similar approach to the one used in Japan. Fresh foods are being introduced into the stores. 7-Eleven has once again de- cided to avoid on-site cooking by having suppliers that cook the fresh foods for them, ‘These foods are then delivered to the stores on a daily basis. In the United States, 7- Eleven has tried to replicate the Japanese model with combined DCs where product received from suppliers and then shipped to the stores. The success of this strategy is reflected by the improved performance of 7-Eleven in the United States.20 PART: Building a Strategic Framework to Analyze Supply Chains In both Japan and the United States, 7-Eleven has invested a lot of money and ef fort on a retail information system. Scan data are collected and analyzed. The result ing information is then made available to the stores for use in ordering, product as sortment, and merchandising. 7-Eleven uses this information system to identif slow-moving items and to analyze the performance of new produicts. Information sys tems play a key role in 7-Eleven’s ability to micro-match supply and demand. 7-Eleven has made cleat choices in the design of its supply chain. Other conve rience store chains have not always made the same choices. We can ask a variety 0 questions, listed next, regarding 7-Eleven’s supply chain choices and its key succes factors. L. What factors influence the decision regarding the opening and closing of stores? Why does 7-Bleven choose to have a preponderance of its stores in a particular location? 2, Why has 7-Eleven chosen off-site preparation of fresh foods and subsequent delivery to stores? Why does 7-Eleven discourage direct store delivery from vendors and make an effort to move all products through combined distribution centers? 4. Where are distribution centers located and how many stores does each cen- ter serve? How are stores assigned to distribution centers? Why does 7-Eleven combine fresh food shipments by temperature? What point-of-sale data does 7-Eleven gather and what information is made available to store managers to assist them in their ordering and merchandis- ing decisions? How should the information system be structured? Example 1.3 W.W. Grainger and McMaster-Carr: Maintenance, Repair, and Operations Suppliers W.W. Grainger and MeMaster-Carr sell maintenance, repair, and operations (MRO products. Both companies have catalogs. as well as Web pages through which order can be placed. Grainger also has several hundred stores throughout the United States Customers can walk into a store, call in an order, or place it via the Web. Grainger or ders are either shipped to the customer or picked up by the customer at one of th stores. MeMaster-Catr, in contrast, ships all orders. Grainger has several DCs tha both replenish stores and fill customer orders. McMaster has DCs from which all or ders are filled. Neither McMaster nor Grainger manufacture any product. They serv the role of a distributor or retailer. Their success is thus largely linked to their suppl chain management ability. Both firms offer several hundred thousand products to their customers. Each firn stocks about 200,000 products; the rest are obtained from the supplier as needed Both firms face the following strategic and operational issues: 1. How many DCs should there be, and where should they be located? 2. How should product stocking be managed at the DXCs? Should all DCs carry all products? 3. What products should be carried in inventory and what products should be eft with the supplier? 4, What products should Grainger carry at a store? 5. How should markets be allocated to DCs in terms of order fulfillment? What should be done if an order cannot be completely filled from a DC? Should there be specified backup locations? How should they be selected? How should replenishment of inventory be managed at the various stocking locations?