NETWORK ANALYSIS AND DESIGN

LEARNING OBJECTIVES

• Understand the need to evaluate the structure and functioning of logistics/supply chain
networks, and for making changes and improvements as appropriate.

• Identify factors that may suggest a need to redesign a logistics/supply chain network.

• Structure an effective process for logistics/supply chain network design.

• Be aware of key locational determinants, both national/regional and site specific, and
the impacts they may have on prospective locational alternatives.

• Describe the different types of modeling approaches that may be used to gain insight
into logistics/supply chain network design and facility location decision making.

• Apply the simple “grid” or center-of-gravity approach to facility location.

• Discuss certain ways in which transportation alternatives and transportation costs may
affect the location decision.

OVERVIEW

Introduction

As firms continue their searches for new ways to lower costs and improve service to their
customers, the issue of where to locate logistics and manufacturing facilities has never
been more complex or critical. In addition to enhancing the efficiency and effectiveness
of a logistics/supply chain operation, the redesign of a firm’s overall network can help to
differentiate a firm in the marketplace. Considering the increasingly dynamic aspects of
today’s business world, companies are continually seeking new and improved approaches
to network design and operation.

The process of logistics/supply chain network redesign is examined in detail. This

content provides a useful framework for understanding the key steps that must be
included in a comprehensive approach to network design and facility location. Following
these discussions, attention shifts to several major locational determinants. These factors
may be either regionally focused or site-specific. Also included is a summary of current
trends governing site selection.

Several examples of transportation-specific factors are also considered.

The Need for Long-Range Planning

In the short run, a firm’s logistics/supply chain network and the locations of its key
facilities are givens, and the logistics manager must operate within the constraints
imposed by the facility locations. Site availability, leases, contracts, and investments
make changing facility locations impractical in the short run. In the long run, however,
the design of the overall network must be thought of as variable.

The Strategic Importance of Logistics/Supply Chain Network Design

This section discusses several types of change that may suggest a need to reevaluate and/or
redesign a firm’s logistics network. Such changes are as follows: Changing Customer
Service Requirements, Shifting Locations of Customer and/or Supply Markets, Change in
Corporate Ownership, Cost Pressures, Competitive Capabilities, and Corporate
Organizational Change.

Customer service requirements are varied and ever-changing, becoming more and more
demanding.

Considering the manufacturing and logistics facilities are positioned between customer and
supply markets, any changes in either of these necessitates a need to reevaluate the network
design and potentially facilities locations.

A relatively common occurrence today is the firm experiencing a change in corporate

ownership.

A major propriety today is for firms today is to figure out new and innovative ways to take
cost out of their processes, including logistics.

Another factor relates to competitive pressures that may force a firm to examine its
logistics service levels and the costs generated by the network of logistics facilities.

Lastly, corporate organizational change leads to discussions of reorganizing key firm

capabilities, to include logistics capabilities.

Changing Customer Service Requirements

While some customers have intensified their demands for more efficient and more
effective logistics services, others are seeking relationships with suppliers who can take
logistical capabilities and performance to new, unprecedented levels. While customer
service requirements may experience change, the types of customers served may also
evolve over time.

Shifting Locations of Customer and/or Supply Markets

Considering that manufacturing and logistics facilities are positioned in the supply chain
between customer and supply markets, any changes in these markets should cause a firm
to reevaluate its logistics network

On the supply side, the service and cost requirements of the automobile industry’s
movement to JIT-based manufacturing have forced companies to examine the locations
of logistics facilities.

Also on the global scene, changes such as the unification initiatives of the European
Union, the continued searches for lower-cost manufacturing, and the growing economic
importance of China and the Asia-Pacific area in general have forced many companies to
examine facility locations in terms of their suitability for competition in these rapidly
developing markets.

Change in Corporate Ownership

A relatively common occurrence today is for a firm to experience an ownership-related

change associated with a merger, an acquisition, or a divestiture. In such instances, many
companies choose to be proactive and to conduct a formal evaluation of new versus
previous logistics/supply chain networks in advance of such a change.

Cost Pressures

A major priority for many firms today is to figure out new and innovative ways to take
cost out of their key business processes, including those relating to logistics.

On a global basis, labor wage rates have a significant impact on the location of
manufacturing and logistics operations Companies considering plant modernization needs
also sometimes benefit from a comprehensive cost analysis, which might accompany a
reevaluation of the logistics network.

Competitive Capabilities

Another factor relates to competitive pressures that may force a company to examine its
logistics service levels and the costs generated by its network of logistics facilities.

Corporate Organizational Change

It is not unusual for logistics/supply chain network design to become a topic of discussion
at the same time that a firm considers any major corporate organizational change, such as
downsizing. In such instances, the strategic functioning of the firm’s logistics network is
viewed as something that must be protected and even enhanced through the process of
organizational change. Considering the current popularity of corporate reengineering
efforts, the logistics process is frequently a prime candidate for attention.

Logistics/Supply Chain Network Design

Figure 12-1 and 12-2 (located on page 516 and 517 in the text) identifies the six major
steps that are recommended for a comprehensive logistics network process. They are:

Step 1: Define the Logistics/Supply Chain Network Design Process

First, a logistics network reengineering team is formed who is responsible for all
elements of the logistics network design process. Parameters and objectives of the
logistics network design or redesign process itself are established. The use of third-party
suppliers of logistics services is a topic also addressed early.

Step 2: Perform a Logistics/Supply Chain Audit

A logistics audit provides members of the reengineering team with a comprehensive

perspective on the firm’s logistics process and the ability to gather essential types of
information that will be useful in the redesign process.

Step 3: Examine the Logistics/Supply Chain Network Alternatives

Examining logistics network alternatives involves applying suitable quantitative models

to the current logistics system as well as to the alternative systems and approaches under
consideration. The use of these models provides insight into the functioning and
cost/service effectiveness of various possible networks.

Step 4: Conduct a Facility Location Analysis

Once a desired logistics network has been recommended, the next task is to carefully
analyze, both qualitatively and quantitatively, the attributes of specific regions and cities
that are candidates for sites of logistics facilities. Next, a location selection team is
formed, in order to collect information on specific attributes, as well as to examine
potential sites in terms of topography, geology, and facility design.

Step 5: Make Decisions Regarding Network and Facility Location

The network and specific sites recommended in steps 3 and 4 should be then compared
with the design criteria that were identified in step 1. This step should confirm the types
of change that are needed to the firm’s logistics network also keeping within the context
of overall supply chain positioning.

Step 6: Develop an Implementation Plan

Once an overall direction has been established, an implementation plan is developed,

serving as a useful road map for changing the logistics network.
Major Locational Determinants

The importance of major locational determinants varies among industries and individual
companies. Labor-intensive industries such as textiles, furniture, and household appliances
place more emphasis on favorable labor climate and labor rates than do high-tech industries
such as engineering and scientific instrument manufacturers. Logistics variables are
important in industries such as drugs, beverages, and printing and publishing. The major
general locational determinants identified are: labor climate, availability of transportation,
proximity to markets and customers, quality of life, taxes and industrial development
incentives, supplier networks, land costs and utilities, and company preference.

Key Factors for Consideration

 Labor climate. Factors to consider in determining an area’s labor climate are: the work
force’s degree of unionization, skill level, work ethic, and productivity, and public
officials’ attitudes.

 Transportation services and infrastructure. With many firms requiring high-quality,

capable transportation services, considerations such as a suitable location, cost, and
modal choice are made.

 Proximity to markets and customers. Considered are both logistics and competitive
variables. Logistics variables include: transportation availability, freight cost, and market
size within one day’s travel time. The more firms in the market area, the greater the
competitive advantage the proposed location offers.

 Quality of life. This involves the employees’ wellbeing. This factor is more important
to companies that must attract and maintain a professional and technical mobile
workforce. The qualify of life variables in metropolitan areas include: climate,
housing costs, health care and environment, crime, passenger transportation,
education, recreation, the arts, and economic opportunities.

 Taxes and industrial development incentives. Other determinants that influence

facility location include environmental considerations, and both business and personal
taxes. Environmental permits are important to companies producing certain chemicals
or drugs. Business taxes affect operating costs in an area, and personal taxes affect the
area’s cost of living and the wages that have to be paid. Another location influence
factor is industrial development incentives extended by communities to attract
companies to locate in their area. These may include tax incentives, financing
arrangements, reduced water and sewage rates, and rent-free buildings. The
importance of various determinants depends on the specific needs of the company.

 Supplier networks. This considers the availability and cost of raw materials and their
transportation cost, as well as the cost of transporting of raw materials and component
parts, as well as the cost of transporting materials to the proposed site.
 Land costs and utilities. Issues relating to the costs of land and the availability of
needed utilities are considered. Also, the availability and expense of utilities such as
electrical power, sewage, and industrial waste disposal will need to be factored into
the decision making process.

 Company preference. In some cases, location selection may be based upon company
or CEO preference to an area. Locating near the competition and/or common access
with other firms to benefits such as a skilled labor supply, excellent marketing
resources, or proximity to key supplier industries is also a determinant.

Current Trends Governing Site Selection

A number of trends in today’s logistics environment may have a significant effect on

decisions involving logistics facility location. Included among these are the following:

• Strategic positioning of inventories, such that fast-moving, profitable items may be

located at “market-facing” logistics facilities.
• Aside from a general trend toward “disintermediation” of many wholesaler/distributor
operations, companies are moving to greater use of “customer direct” delivery from
manufacturing and other upstream supply chain locations.

• There is a growing use of and need for strategically located “cross-docking” facilities
that serve as transfer points for consolidated shipments that need to be disaggregated or
mixed into typically smaller shipments for delivery to individual customers.
• Due diligence for location and site selection decisions is placing great emphasis on
access to major airports and/or ocean ports for import and export shipments.
• Greater use of providers of third-party-logistics services, who may assume part or all of
the responsibility for moving a firm’s products to its customers, and/or moving its
inbound parts and materials to its manufacturing process. In the global setting, many of
these companies are developing specialized abilities to facilitate the movements of import
and export shipments.

Modeling Approaches

The modeling approaches are classified as: optimizing, heuristic, or simulation.

Optimization Models

Optimizing models seek the “best” answer given the way in which the problem is
formulated. Linear programming and mathematical programming provides the optimum
distribution of products among plants, warehouses, and markets. They are optimizing
approaches. Advantages of optimizing models are as follows:
 The user is guaranteed to have the best solution possible for a given set of assumptions
and data.
 Many complex model structures can be handled correctly.
 The analysis and evaluation of all alternatives that are generated result in a more efficient
analysis.
 Reliable run-to-run comparisons can be made, since the “best” solution is guaranteed for
each run.
 Cost or profit savings between the optimum and heuristic solution can be significant.

However, an optimization technique, linear programming, is limited due to the need for
the problem formulation to be deterministic and capable of linear approximation. Also,
linear programming does not allow for consideration of fixed as well as variable costs of
operating logistics facilities.

On a more advanced scale, the use of mixed-integer linear programming allows

consideration of issues such as fixed and variable costs, capacity constraints, economies
of scale, cross-product limitations, and unique sourcing requirements. One of the leading
models of this type is Strategic Analysis of Integrated Logistics Systems (SAILS™).

Simulation Models

Simulation models develops a computer representation of a logistics system, manipulates

key variables and provides logistics managers with a helpful test medium for evaluating
alternative logistics strategies. Although simulation models are not designed to produce
optimum solutions, they are very capable in terms of their ability to incorporate relatively
comprehensive and detailed problem descriptions. However, extensive data collection
and mathematical relationships are required.

Heuristic Models

Heuristic models do not generate a “best” solution, but produce a good first
approximation. These models are used for warehouse location, truck routing, and
warehouse product layout. They help to reduce a problem to a manageable size and
search automatically through various alternatives in an attempt to find a better solution.

Potential Supply Chain Modeling Pitfalls to Avoid

Short term horizon

 Too little or too much detail

 Thinking in two dimensions
 Using published costs
 Inaccurate or incomplete costs
 Use of erroneous analytical techniques
 Lack of appropriate robustness analysis
 Too little or too much detail

Example of a Heuristic Modeling Approach: The Grid Technique.

The grid technique is used to determine a least-cost facility location for company
situations having multiple markets and raw materials sources. It attempts to determine a
fixed facility location that is the least-cost center for moving materials and goods within a
geographic grid; a low cost “center of gravity”. After assuming the materials sources and
goods’ markets are fixed, and the number consumed or sold is known, a grid is
superimposed over the geographic area containing the sources and markets. With the use
of the grid, each source and market can be determined by its grid coordinates.

The ton-mile center, or center of mass can be calculated mathematically (the equation is
on page 533 of the text). The equation can be solved for the least-cost location, provided
the transportation rates for materials and goods are the same. But this is seldom the case,
so the ton-mile center equation does not show the cost differences for moving
commodities. Higher finished goods rates draws the least-cost location to their markets;
reducing the distance to transport the goods. This increases the distance to transport raw
materials. Another equation takes into account different transportation rates (the equation is
on page 534 of the text).

The advantage of the grid technique is its simplicity and ability to provide a starting point
for location analysis. There are a number of limitations to the technique. First, it is static,
and the solution is only optimum for one point in time. Second, linear transportation rates
are assumed. Actual rates are tapered. Third, topographic conditions at the optimum
location are not considered. Fourth, the proper direction of movement is not considered.

Sensitivity analysis can be used to ask “what if” questions and measure the impact on the
least-cost situation. A variety of scenarios could be examined: a five-year sales projection,
adding or eliminating new markets and/or sources, and switching transportation modes or
carriers.

This is a static approach, and the solution is optimum for only one point in time. The
technique assumes linear transportation rates, whereas actual transportation rates increase
with distance but less than proportionally. The technique does not consider the
topographic conditions existing at the optimum location. It does not consider the proper
direction of movement; most moves occur along a straight line between two points, not
“vertically” and then “horizontally.”

Sensitivity Analysis: As mentioned in the preceding paragraph, the grid technique is a

static approach; the computed location is valid only for the situation analyzed. If the
transportation rates, market and source locations, and volumes change, then the least cost
location changes.

Sensitivity analysis enables the decision maker to ask what-if questions and measure the
resulting impact on the least-cost location.

Application to Warehouse Location in a City: A special case exists for applying the grid
technique to the location of a warehouse in a city. The situation’s uniqueness comes from
the blanket rate structure, which applies the same rate from an origin to any point within
the city or commercial zone.

Transportation Pragmatics

The grid technique shows the importance of transportation rates in facility location.
Tapering rates, blanket rates, commercial zones, and in-transit privileges are special rate
structures that affect facility location. A tapering rate is one that increases with distance but
not in direct proportion to distance. Most transportation rates are tapered. The tapering
results from the carrier’s ability to spread its fixed costs–loading, billing, and handling—
over a greater number of miles. The blanket rate does not increase with distance, but
remains the same for all points in the blanket area. It is an exception to tapering rates.
These rates are established to ensure a competitive price for a product in a given area. The
rate eliminates any transportation cost advantage or disadvantage associated with a given
location. A commercial zone is a specific blanket area. It is the transportation definition of
a particular city or town plus various surrounding areas. If a site is to be located beyond the
municipality’s commercial zone, rates that apply to the city, will not apply to the site.

Foreign Trade Zones (FTZ) is a geographic area into which importers can enter a product
and hold it without paying duties—and only paying duties or customs when is it shipped
into U.S. customs territory. Advantages of FTZs include the following: Deferred customs
duties and federal excise taxes on imports, No duties or quota payments on re-exported
materials, choice of duty rates paid—based either on the rate for component parts or for the
finished product Exemption from state and local inventory taxes or foreign and domestic
goods that are to be exported

The transit privilege permits the shipper to stop a shipment in transit to perform some
function that physically changes the product’s characteristics. The lower through rate for
origin to final destination applies, rather than the higher combination rate. The transit
privilege makes intermediate locations, not just origins or destinations optimum, and
eliminates any geographic disadvantage associate with a producer’s location.

SUMMARY

• The logistics/supply chain network design decision is of great strategic importance to

logistics, the firm as a whole, and the supply chain. This decision is becoming
increasingly important due to trends related to globalization of manufacturing, marketing,
sourcing, and procurement.
• A number of factors may suggest the need to redesign the logistics/supply chain
network.

• A formal, structured process for network design is preferable; the potential impacts on
cost and service justify a significant effort toward following a sound process.

• Numerous factors may affect the design of a logistics network and the location of
specific facilities within the context of the network.

• Principal modeling approaches to gain insight into the topic of logistics/supply chain
network design include optimization, simulation, and heuristic models.

• The “grid” method represents a useful way to obtain a good, but not necessarily optimal
solution to a logistics facility location problem.

• The availability and cost of transportation affect the location decision in a number of
significant and unique ways.