Configuration Components

Page 9

Page 10

PRINTED BY: [email protected]. Printing is for personal, private use only. No part of this book may

be reproduced or transmitted without publisher's prior permission. Violators will be prosecuted.

KEY ELEMENTS OF SUPPLY CHAIN STRATEGY

A supply chain strategy involves many interlocking activities and decisions, large and small. According

to Michael Porter, strategy guru and author of Competitive Advantage, successful business strategy relies

on the concept of “fit”—that is, a group of activities that support a chosen competitive strategy.

Although any single activity can be copied, the activities taken together form a system that is virtually

impossible to duplicate.9

Porter’s concept of fitness holds equally true for supply chain strategy. Five elements of your

business—and the choices you make regarding these elements—are fundamental:

Customer service. What are your objectives in terms of delivery speed, accuracy, and

flexibility?

Sales channels. How will your customers order and receive your goods and services?

Value system. Which supply chain activities will be performed by your organization and which

by your partners?

Operating model. How will you organize the planning, ordering, production, and delivery

processes to provide customer service while still meeting your working capital and cost

objectives?

Asset footprint. Where will you locate your supply chain resources, and what is their scope of

action?

Companies often make decisions about each of these elements in isolation, without considering the

others. It’s possible, for example, to develop a manufacturing footprint that reduces costs, only to fall

short of required customer-service levels. To get the full strategic benefit a supply chain can offer,

however, it’s critical to treat each element as part of an integrated whole (Figure 1.2).

Figure 1.2 Elements of Supply Chain Strategy

https://jigsaw.vitalsource.com/api/v0/books/0071846646/print?from=9&...

1 of 2 5/24/2016 8:49 PM

Page 11

CUSTOMER SERVICE The first step in developing a supply chain strategy is to define customer service objectives. Offering

various levels of delivery speed, accuracy, and flexibility for different types of customers can help

distinguish the overall customer experience. Should, for example, deliveries reach all customers in the

same amount of time, or should customers who are more valuable receive deliveries faster? Should the

ordering process be the same for all customers? Answers to questions like these will be dictated by your

company’s business strategy and target audience—that is, whether you are addressing B2C or B2B

segments.

Business to Consumer

In the B2C world, off-the-shelf product availability is often the key service criterion. Customers are

willing to wait for hot products from a leading brand—but only up to a point. Retailer Nordstrom

introduced an innovation in online retailing when it made the inventory of its 115 brick-and-mortar

stores visible to consumers shopping on its online store. Previously, customers saw only what was

available in the web warehouse and sometimes found that the product they wanted was not available.

The retailer’s change in practice led to higher product availability, increased sales, and lower

inventories.10 Approaches such as this one help Nordstrom maintain its reputation for outstanding

customer service and overall customer experience.

https://jigsaw.vitalsource.com/api/v0/books/0071846646/print?from=9&...

2 of 2 5/24/2016 8:49 PM

Page 11

Page 12

PRINTED BY: [email protected]. Printing is for personal, private use only. No part of this book may

be reproduced or transmitted without publisher's prior permission. Violators will be prosecuted.

Business to Business

In the B2B world, customer service is often synonymous with meeting committed delivery dates,

because the customer uses the product or service in revenue-generating activities. But lead-time

performance can also be critical.

Consider, for example, a supplier of mining equipment that sells machinery to two very different

customer types: companies that own their mines, and contractors that conduct mine development and

other activities for those mining companies. Because mining companies have capital investment plans

and a fleet to maintain, they typically order equipment far in advance of when they need it, on a

predictable timeline. So mining-equipment suppliers typically have six months or more to deliver

equipment to mining companies. Contractors, by contrast, typically operate on a very compressed

calendar: they wait until they have a contract in hand from a mining company before placing equipment

orders, and they need the machines delivered in three months or less.

SALES CHANNELS

Companies have multiple options for getting products and services to buyers. They can use indirect

channels—distributors or retailers—or they can sell directly to customers via the Internet or a sales

force. The market segments and geographies being targeted will drive these decisions. Since profit

margins vary depending on which channels are used, you have to decide on the optimal channel mix,

and who gets the goods in times of product shortages or high demand.

Consider the multibillion-dollar bottled-water industry. The industry uses three different

distribution channels to serve its three major consumer segments. Traditional retail distributors serve

retail customers, vending machines serve the individual consumer market, and service agents provide

on-site water units for home and office users. Each segment requires different supply chain processes,

assets, suppliers, and performance metrics.

If you are a new player in the bottled-water industry, should you sell your product through

distributors that already have relationships with key retailers or distribute directly to those retailers? If

you choose the distributor channel, should you integrate your order-management and inventory-

management systems with the distributors’ systems? If so, to what extent, and who should pay for it?

Should you maintain dedicated inventory for all distributors or only those distributors that you consider

to be strategic partners? These decisions will drive your company’s asset and cost performance and so

must be a part of your overall channel strategy—along with decisions on pricing, vendor-financing

policies, promotions, and so on.

VALUE SYSTEM

An effective supply chain strategy requires a solid understanding of the company’s value system, which

according to Porter, encompasses the value-adding activities of the enterprise as well as those of

suppliers, customers, suppliers’ suppliers, and customers’ customers.11 This understanding will help

determine which supply chain activities will be performed by the company in question and which by its

partners.

In this context, companies must consider two types of activities: those related to decision making

and those related to execution. Often companies choose to outsource execution-related activities while

https://jigsaw.vitalsource.com/api/v0/books/0071846646/print?from=11...

1 of 2 5/24/2016 8:50 PM

Page 13

retaining control over decision making. For example, many consumer packaged goods (CPG) companies

that produce a high volume of goods in their own plants outsource the last stage of production to

contract manufacturers (CMs). The CPG companies maintain responsibility for purchasing raw

materials, while the CMs have full responsibility for quality and lead time. That way, the CPG

companies use their economies of scale to get lower materials prices while also benefiting from the

CMs’ lower manufacturing costs.

https://jigsaw.vitalsource.com/api/v0/books/0071846646/print?from=11...

2 of 2 5/24/2016 8:50 PM

Page 13

Page 14

PRINTED BY: [email protected]. Printing is for personal, private use only. No part of this book may

be reproduced or transmitted without publisher's prior permission. Violators will be prosecuted.

Benefits and Risks of Outsourcing

Generally speaking, companies outsource supply chain activities to gain access to other companies’

scale, scope, technology expertise, or resources:

Scale. Third-party providers can often offer services such as manufacturing or logistics with

less expense because they have a large customer base, which keeps utilization rates high and

unit costs low. External partners can also help companies scale up quickly without having to

invest in new capacity.

Scope. In cases where a company wants to expand into new markets or geographical areas,

partners can provide access to operations in new locations that would not be economical for the

company to replicate internally at current business volumes.

Technology expertise. Partners may have expertise in a product or process technology that

would require a sizable capital investment to develop internally.

Resources. External partners in the value chain can offer rapid access to materials, talent, or

financing.

Outsourcing also poses significant risks. A supply chain that’s been lengthened by the addition of

numerous external partners can result in longer lead times and higher working capital. Risk is also an

issue if production depends on a single supplier for a critical component and that supplier suddenly halts

production for financial or other reasons. Therefore, value systems need processes and information

systems that create transparency and enable proactive decision making, so that companies can adapt

quickly to unanticipated changes in demand or supply.12

Making the Decision to Outsource

Executives often treat outsourcing as a decision of “core versus noncore,” arguing that core

competencies, as things a company is good at, should be kept in-house, whereas noncore competencies

should be outsourced. That reasoning, however, is overly simplistic. An activity or process that a

company excels at isn’t necessarily a core competency and, conversely, areas of less-than-optimal

performance may in fact be core to the company’s success. Most important is maintaining control of

activities that are critical to competitive differentiation, business growth, customer experience, or

superior offerings.

Vertical integration can be a core means to achieving that control. Consider Manufacture des

Montres Rolex SA, known around the world for its Rolex brand. The company produces not only the

components for its watches but also the machines, tools, and supplies needed to manufacture those

components.13 Maintaining control of production is integral to ensuring the quality that sets Rolex apart

as a premium watchmaker.

OPERATING MODELS Taken together, the decisions about how a company produces goods and services constitute its operating

model. These decisions affect more than manufacturing. They shape how planning, order management,

procurement, and physical delivery are handled as well.

https://jigsaw.vitalsource.com/api/v0/books/0071846646/print?from=13...

1 of 2 5/24/2016 8:50 PM

Page 15

There are four types of operating models (Table 1.2):

Make to stock. This is the most broadly used approach for standardized products that sell in

high volume. A plant produces goods in advance of receiving customer orders; finished

products are stored to await a customer order. The larger production batches keep production

costs down, and the readily available inventory means customer demand can be met quickly.

Make to order. This is the preferred model for customized products or products that are in

infrequent demand. Companies produce the service or product only when they have a customer

order in hand. This approach keeps inventory levels low while allowing for a wide range of

product options.

Configure to order. This is a hybrid model in which a product is partially completed, to a

generic level, and then finished when an order is received. This is the preferred model when

there are many variations of the end product and it’s important to have a shorter customer lead

time than is possible with the make-to-order model. A variant of the configure-to-order model

is assemble to order; companies using an assemble-to-order model produce component parts in

response to sales forecasts and then finalize assembly upon receipt of a customer order.

Engineer to order. This model shares many of the characteristics of the make-to-order model. It

is used in industries that create complex products and services with specifications that are

unique to a particular customer. In the final step of the customer’s ordering process, the

manufacturer’s engineering function defines the specifications and develops a list of needed

materials unique to that customer’s order.

https://jigsaw.vitalsource.com/api/v0/books/0071846646/print?from=13...

2 of 2 5/24/2016 8:50 PM

Page 15

Page 16

PRINTED BY: [email protected]. Printing is for personal, private use only. No part of this book may

be reproduced or transmitted without publisher's prior permission. Violators will be prosecuted.

Table 1.2 Types of Operating Models

Operating model When to choose this model Benefits

Make to stock • Standardized offerings selling in high volume • Low production costs

• Meeting customer demands quickly

Make to order • Customized offerings

• Offerings with infrequent demand

• Low inventory levels

• Wide range of product options

• Simplified planning

Configure to order • Offerings requiring many variations • Customization

• Reduced inventory

• Shorter delivery times

Engineer to order • Complex offerings that meet unique customer

needs

• Responding to specific customer

requirements

The operating model can provide a key source of performance advantage. Consider a consumer

software company that made to stock, shipping products directly to inventory sites in various countries.

Because of the small size of the packaged product and the need for many language variants, items were

customized for a particular market very early in the production process. This approach, however, created

unnecessary inventory and obsolescence as product definitions evolved.

To improve service levels while reducing inventory, the company shifted from a make-to-stock

model to a configure-to-order model. Under the new model, generic products were shipped from the

plant floor to a central distribution center. As orders came in from each market, products were

customized and shipped accordingly. A configure-to-order model posed some important advantages.

Under the old operating model, multiple stock locations required separate forecasting and inventory-

management functions for each site, raising the likelihood that supply and demand would be out of sync.

In a centralized distribution center, by contrast, it became much easier to ensure that the right amount of

inventory was on hand to meet demand. At the same time, the new approach simplified supply chain

planning, allowing focus on a relatively small number of different generic products instead of hundreds

of language-based variants. Not surprisingly, product availability shot up and inventory declined.

It may be advantageous to deploy different operating models for different products or market

segments. The automotive industry offers a good example. While most automakers have long preferred

the make-to-stock model, manufacturers of high-end vehicles have pursued make-to-order and

configure-to-order strategies.

But make-to-order is challenging: given the millions of potential end configurations, it’s difficult to

offer passenger cars on a make-to-order basis while maintaining a competitive lead time. Unless

suppliers can be fully integrated into the make-to-order supply chain, automakers run unnecessarily high

inventory risks, meaning they could be stuck with obsolete or unsellable inventory. In addition, changing

the production process to allow each car to match a unique set of characteristics is a very costly

undertaking.

https://jigsaw.vitalsource.com/api/v0/books/0071846646/print?from=15...

1 of 2 5/24/2016 8:51 PM

Page 17

Page 18

PRINTED BY: [email protected]. Printing is for personal, private use only. No part of this book may

be reproduced or transmitted without publisher's prior permission. Violators will be prosecuted.

Not surprisingly, only 2 percent of Lexus passenger cars sold in 2011 in the United States were

made to order. The rest were made to stock and sold from dealer lots. The percentage of made-to-order

vehicles in Europe was greater. In the German domestic market, for instance, about 60 percent of the

high-end cars made by BMW, Audi, Porsche, and Mercedes were made to order. In Japan,

approximately 50 percent of Nissan sales were configured to order.14

These numbers tell only part of the story. A significant part of customization now takes place at

retail car dealerships. This customization is basically a make-to-order or configure-to-order activity

based on the vehicle provided by the manufacturer. In North America, dealers offer two types of

customization activities. One type involves making major changes to the vehicle, such as modifying the

engine, raising the suspension, or repainting. The other type of customization doesn’t touch the vehicle

itself; it ranges from nonstandard tires and rims to frills like mud flaps.

As is the case with the other elements that make up a company’s supply chain strategy, the

operating model needs to be responsive to changes in demand throughout the product life cycle, from

launch to exit. During this progression, a company may start with a make-to-stock model to ensure

maximum product availability; it may then move to make-to-order to reduce inventory risk while still

ensuring availability at a competitive price (Figure 1.3).

Figure 1.3 Change in Operating Models over Product Life Cycle

New technologies are altering production processes, and operating models along with them. The

most familiar examples are digital print-to-order and digital distribution, which have revolutionized

publishing. And in industries ranging from healthcare to industrial products, new 3D printing

technology—also known as “additive manufacturing”—allows single-unit production of very complex

designs, such as artificial limbs. This technology, in which the printer creates an object by layering

different materials such as plastics or metals on top of each other, is ideally suited for make-to-order

production strategies. Eventually, it may be used for many product categories that are currently made to

stock.15

ASSET FOOTPRINT The final element to be considered in defining a supply chain strategy is the asset footprint. This

includes not only hard assets (like plants, warehouses, equipment, order desks, and service centers) but

https://jigsaw.vitalsource.com/api/v0/books/0071846646/print?from=17...

1 of 2 5/24/2016 8:52 PM

Page 19

also soft assets (like the people, processes, information systems, and access to capital). The location,

size, and purpose of these assets have a major impact on supply chain performance. The asset footprint

may differ for production, sourcing, planning, order management, and warehousing and distribution.

Production Assets

For production assets, most companies choose one of three network models, taking into account factors

like business size, customer service requirements, tax advantages, existence of a supplier base, local

content rules, and labor costs. The network models are:

Global model. In this model, production of a given product line takes place in one location for

the entire global market. This model is suited for companies that wish to control unit production

costs for very capital intensive products or that need access to highly specialized production

skills.

https://jigsaw.vitalsource.com/api/v0/books/0071846646/print?from=17...

2 of 2 5/24/2016 8:52 PM

Page 19

Page 20

PRINTED BY: [email protected]. Printing is for personal, private use only. No part of this book may

be reproduced or transmitted without publisher's prior permission. Violators will be prosecuted.

Regional model. Production takes place primarily in the region where the products are sold. In

some cases, however, the production center in the given region is dedicated to one type of

product, and plants from other regions produce other types of products. Companies often opt for

the regional model when products need to meet specific regional requirements, when delivery

times can’t be achieved by the global model, or when total costs (duties, transportation, and so

on) make it preferable to produce goods close to the customer.

Country model. Production takes place primarily in the country where the market is located.

This is the model of choice for goods that are prohibitively expensive to transport, such as

newsprint. Other factors include duties and tariffs, and market access that is conditional on

in-country production.

Many production-asset-footprint decisions are driven by the product life cycle. In rapidly evolving

industries such as consumer electronics, companies may start with a global model while ramping up

production of a new product to test the manufacturing process, and then transition to a regional model to

improve customer service. At the end of the product life cycle, the global model may once again be a

better choice as a way to fulfill demand with the lowest product cost and inventory investment.

Planning and Sourcing Assets

It’s important to organize planning and sourcing assets in a way that is consistent with the decisions

made on production assets. Just because you’re using regional and country production-asset models

doesn’t mean it’s necessary to use regional and country planning and sourcing. The key is locating these

assets in places that will ensure effective operational performance.

Tax optimization is an additional consideration for some companies when it comes to locating

sourcing and planning assets. Locating resources that make decisions on supply levels and purchasing

volumes in a lower-tax jurisdiction can have a significant impact on the effective tax rate. The more that

decision making and decision control are centralized, the greater the potential tax savings. For

companies that have used a decentralized decision-making model for sourcing or planning, centralizing

such decision making in a tax-efficient location can be a major undertaking. It’s important that nontax

benefits such as customer service and working-capital performance are sufficient to justify the move.

MULTIPLE SUPPLY CHAIN CONFIGURATIONS For some companies, one supply chain with a single set of physical assets, processes, and information

systems may be insufficient if a company has customers with widely varying needs. In such situations,

multiple supply chains are advantageous because they make it easier to meet the specific needs of each

customer without compromising the needs of the rest.

One example is Michelin. The company’s passenger-car tire business serves two market categories:

automakers and aftermarket customers such as distributors and retailers that sell tires to individual

consumers. The same Michelin factories produce tires for both automakers and the aftermarket, an

approach that allows the company to use a single production-planning process and maximize capacity

utilization.

The paths that automaker and aftermarket tires take after production, however, are quite different

(Figure 1.4). For automakers, which depend on precisely timed deliveries to keep production on

https://jigsaw.vitalsource.com/api/v0/books/0071846646/print?from=19...

1 of 2 5/24/2016 8:52 PM