CFOs believe supply chain management is central to their organization’s strategic goals. Many of them see major problems with their current supply chain management. Achieving supply chain objectives will require major changes to the supply chain, but few believe major change is possible. Top supply chain objectives include reducing operating costs and improving customer service.

Multiple Order Opportunities
The ordering policy is influenced by the reasons for a distributor to hold inventory, which are:
Satisfying demand during lead time.
Protect against uncertainty in demand.
To balance annual inventory holding costs and annual fixed order costs
There are two ways in which companies review the inventory: Continuous Review Policy (Inventory is reviewed continuously and an order is placed when the inventory reaches the reorder point) and Periodic Review Policy (Investment is reviewed at regular intervals and an appropriate quantity is ordered after each review).
Continuous review policy characteristics are the following:
Daily demand is random and follows normal distribution;
Every time a retailer places an order, he pays
a fixed cost, K, plus and amount proportional to the quantity ordered;
Inventory cost is charged per item per unit time;
If there is a stock-out when a customer wants to purchase a product, the unit unsold is the unit of lost sales;
The distributor specifies a required service level, which is the probability of not stocking out. When determining the appropriate service level, the following needs to be taken into account: the higher the service level, the higher the inventory level; for the same inventory level, the longer the lead time to the facility, the lower the service level provided by the facility; the lower the inventory level, the higher the impact of one unit of inventory on service level and hence on expected profit. To describe the continuous review policy, we use the sS model. The difference between S and s is due to fixed cost. When inventory drops below s, the distributor should order up to S. the stock-out level, z, equals to 1- the service level. Note that the delivery lead time is not necessarily fixed.
For the continuous review model the (Q,R) model is employed, which means that whenever inventory levels fall under the reorder level R, an order is placed for a predefined Q units. The reorder level consists of the average inventory during lead time and the safety stock (=amount of inventory needed to protect against deviations from average demand during lead time)
Periodic review policy- here the inventory is reviewed on a fixed-time interval basis, so at the end of every week/month/x months. The sS model is employed; meaning that during each inventory review, if the inventory position falls below s, an order is placed to raise the inventory position to S. The order cost is a sunk cost here and can thus be ignored. This inventory policy is characterized by the base-stock level, which is the inventory ceiling or target inventory level. At the end of every review period, an order is placed which is the difference in base-stock level and the current inventory level. The base-stock level consists of the average demand during the review (r) and lead time- period, in addition to the safety stock.
Risk pooling
Risk pooling is an important concept in SCM. It suggests that aggregating demand across locations can reduce demand variability, because shortage in demand of one location/ customer is offset by an increase in demand of another.
Three critical points of risk pooling are the following:
Centralizing inventory reduces safety stock and average inventory in the system, due to the possibility of reallocation;
The higher the coefficient of variation, the greater the benefit from risk pooling;
The benefits of risk pooling depend on the behavior of demand in one market relative to another. Thus, if there is an increased demand in one market and increased demand in another (i.e. positive correlation), the benefits of risk pooling are likely to be smaller.
Simply said, if a firm has many warehouses, it needs more inventory to satisfy the stock. If there is only one warehouse, the risk of inventory gets balanced out.
Decision Making: Centralized vs. Decentralized systems?
Take the following into consideration when making decisions:
Safety stock- generally reduced in decentralized system, but it depends on the coefficient of variation and correlation between the demand from different markets;
Service level- higher service level when centralized because inventory is more available. The magnitude of the increase of the service levels, again, depends on coefficient of variation and correlation between demands from different markets;
Overhead costs- overhead costs are reduced in centralized systems because of economies of scale;
Customer lead time- response time is shorter in decentralized systems;
Transportation costs- it is difficult to say under which system transportation costs are lower. This is because we have to account for both inbound and outbound logistics costs. Decentralized firms have lower outbound transportation costs, but higher inbound logistics costs. With centralized system, it’s the opposite.
Managing Inventory
Inventory decisions are made by a single decision maker who has inventory info at each of the retailers and the warehouse, and whose objective is to minimize system wide costs. Under this assumption, an inventory policy is based on echelon inventory. Under this inventory system, every echelon (warehouse/ retailer) holds an inventory that is equal to the inventory at that particular stage/level in the supply chain + downstream inventory. The echelon inventory position is equal to the echelon inventory at that particular stage/level, plus the items ordered from the upstream echelon, that have not arrived, yet minus all backordered items,
Forecasting rules of inventory management are as follows:
Forecasts are always wrong.
Matching supply and demand in the supply chain is a critical challenge. To reduce cost and provide the required service level, it is important to take into account inventory holding and setup costs, lead time, and forecast demand. Unfortunately, the so-called first rule of inventory management states that forecast demand is always wrong. Thus, a single number, forecast demand, is not enough when determining an effective inventory policy.
2. The longer the forecast period, the less accurate the forecasts.
This implies that the accuracy of weekly forecast decreases as the forecast horizon increases.
3. Aggregate forecasts are always more accurate than disaggregate data.
That is, aggregate demand data have much smaller variability. This is exactly the basis for the risk pooling concept that enables lower inventory level without affecting service level.
However, firms still use forecasts because they need to manage inventory. There are four forecasting categories:
Judgment methods (assembles expert opinions);
Market research analysis (qualitative studies of consumer behavior); examples are market testing and market surveys
Time-series methods (future performance is forecasted by the past performance, by evaluating results, patterns and trends of the past);
Causal methods (forecasts are based on the data that is not being predicted, but other data that does influence the predicted data).
Which forecasting technique to use depends on its purpose, the dynamics of the system for which the forecast is made, the importance of the past in estimating the future and product life cycle stage.
Note that the extents to which firms can rely on their forecasts depends on the nature of the product itself and the type of demand for that product. For instance, pasta has independent demand, but tiles for building roofs have a dependant demand (you need to build the house first!). If the demand is dependant, firms can get a more accurate forecast of how much of the product will be needed. The lifecycle of a product influences product forecasts- think of old black & white TVs- they had a lot longer life cycles and was a lot easier to predict their demand than it is right now. Product life cycles are getting shorter because technology advancing and products are replaced by their newer versions. Cost of obsolescence depends on the price of producing a good, not only how fast it loses value.
 

Transportation costs are another important point of building the network design. These costs are almost linear with distance, however, not with respect to volume. Here we have to distinguish the difference between internal and external (outsourcing) transport fleet. Internal transport costs can easily be determined per mile per SKU (stock keeping unit), but external transport costs are more complex. First, recognize the difference between TL (truck load) and LTL (less than truck load). TL carriers divide a country per zones and provide customers with zone-to-zone table costs. LTL carriers have three basic freight rates:
Class (group goods according to density, ease/difficulty of handling and liability of damage)
Exception (for less expensive goods)
Commodity (for commodity goods)
Mileage estimation is necessary as the cost of transporting products from a specific source to a specific destination is a function of the distance. Mileage estimation can be done by either straight-line measure or street network measure.
Warehouse costs - these consist of handling costs (including labor and utility costs that are proportional to annual flow through the warehouse), fixed (including all costs that are not proportional to the amount of material that flows through the warehouse) and storage costs (inventory holding costs, which are proportional to average positive inventory levels). To measure the fixed costs we need to account for the peak inventory, not the annual flow or average inventory. Thus, we need to calculate the inventory turnover ratio. Inventory turnover ratio can be calculated by dividing annual sales with the average inventory level. Afterwards, we can calculate the average inventory by dividing total annual flow with inventory turnover ratio.
Warehouse capacities are another important input to the network design model- to calculate fixed costs, we need to estimate warehouse capacity. The required storage space is twice the average inventory level, assuming regular shipment and delivery schedule. There is a number a number of things that require additional space so we usually multiply the required storage space by a factor greater than one, which depends on the specific application.
Warehouse location - warehouse location depends on geographic and infrastructure conditions, natural resources and labor availability, local industry and tax regulations, and public interest.
Service level requirements - they could also influence network configuration, as there are customers who need to be close to the warehouse.
Future demand - it is essential to include future demand when planning network configurations, as such strategic planning will have a long-lasting (future) effect on the firm. We use scenario-based approach for this.
Once you build a network configuration, it is time to use model and data validation to make sure that your model (configuration) makes sense, that your data is consistent, that you can perform a sensitivity analysis and fully explain your results.
Model and Data validation is required to determine whether the data and model accurately reflect the network design problem. This is typically done by reconstructing the existing network configuration using the model and collected data, and comparing the output of the model to existing data.
Solution techniques for optimizing the network configuration:
Mathematical optimization - using either exact algorithms that guarantee to find optimal, least cost solutions, or heuristic algorithms that find good, but not necessarily optimal solutions. These techniques have some important limitations, as they deal with static models and do not take into account changes over time.
Simulation models - simulation provides a mechanism to evaluate specified design alternatives. Simulation models allow the user to perform a micro level analysis. The simulation model may include: individual ordering pattern, specific inventory policies, and inventory movements inside the warehouse. These tools take into account system dynamics and are capable of characterizing system performance for given designs. However, simulation is not an optimization tool, whereas it is useful in charactering the performance of a particular configuration. In addition, simulation requires enormous computational time to achieve a desired level of accuracy in system performance.
When detailed system dynamics is an important issue, it makes sense to utilize the following two-stage approach, which takes advantage of both the simulation and optimization based approaches:
Use of an optimization model to generate a number of least-cost solutions at the macro level, taking into account the most important cost components.
Use a simulation model to evaluate the solutions generated in the first phase.
In contrast, if system dynamics are not a key issue, a static model is appropriate and mathematical optimization techniques can be applied.
One of the key requirements of any decision-support system for network design is flexibility. In this context, we define flexibility as the ability of the system to incorporate a large set of preexisting network characteristics. Indeed, depending on the particular application, a whole spectrum of design options may be appropriate. At one end of this spectrum is the complete re-optimization of the existing network. This means that each warehouse can be either opened or closed and all transportation flows can be redirected. At the other end of the spectrum, it may be necessary to incorporate the following features in the optimization model:
Customer-specific service level requirements.
Existing warehouses. In most cases, warehouses already exist and their leases have not yet expired. Therefore, the model should not permit the closing of the warehouse.
Expansion of existing warehouses. Existing warehouses may be expandable.
Specific flow patterns. In a variety of situations, specific flow patterns (e.g., from a particular warehouse to a set of customers) should not be changed, or perhaps more likely, a certain manufacturing location does not or cannot produce certain SKUs.
Warehouse-to-warehouse flow. In some cases, material may flow from one warehouse to another warehouse.
Production and Bill of materials. In some cases, final assembly is done at the warehouse and this needs to be captured by the model. For this purpose, the user needs to provide information on the components used to assemble finished goods.
It is not enough for the decision-support system to incorporate all of the features described above. It also must have the capability to deal with all these issues with little or no reduction in its effectiveness. The latter requirement is directly related to the so-called robustness of the system. This stipulates that the relative quality of the solution generated by the system (i.e., cost and service level) should be independent of the specific environment, the variability of the data, or the particular setting. If a particular decision-support system is not robust, it is difficult to determine how effective it will be for a particular problem. It is also essential that the system running time be reasonable.
Step 2 of Network Planning: Inventory Positioning
The objective of a firm with a multi-facility supply chain is to manage inventory to reduce systemwide costs, therefore it is necessary to consider interaction of various facilities and the impact this interaction has on the inventory policy that should be employed by each facility.
One way to manage inventory is to have make-to-order facilities, in contrast to make-to-stock facilities. Which facilities should product to stock and which should produce to order, depends on the desires service level, supply network, lead times, and operational issues and constraints. The supply chain strategy for high-variability-low-volume products is to position inventory at the primary warehouses to take advantage of risk pooling, as demand uncertainty plays a critical factor for such products. Thus, a pull strategy is appropriate. Likewise, the supply chain strategy for low-variability-high-volume products is to position products as close to the customers as possible, as the focus is on economies of scale in transportation costs. Thus, a push-based strategy is appropriate.

Step 3 of Network Planning: Resource Allocation
Supply chain master planning is defined as the process of coordinating and allocating production and distribution strategies and resources to maximize profit or minimize systemwide cost. In this process, the firm considers forecast demand for the entire planning horizon. In some applications, the supply chain master plan serves as an input for a detailed production scheduling system. In this case, the production scheduling system employs information about production quantities and due dates received from the supply chain master plan. In addition, supply chain master planning tools can identify potential supply chain bottlenecks early in the panning process, and to analyze demand plans and resource utilization to maximize profit. In summary, supply chain master planning helps address fundamental trade-offs in the supply chain.

Barilla SpA(A) case
Although the underlying end-consumer pattern for pasta in Italy in principle is almost completely flat, orders placed by distributors have a large variability, causing the pattern in Figure 4-6 to be spiky/ fluctuating for the manufacturer Barilla. End-consumer demand is fairly uniform year-round, though there is limited seasonality year-round (for instance, there are pasta salads in the summer and lasagna and egg pasta during Easter).
This increase in variability causes significant operational inefficiencies (e.g., it forces every facility in the supply chain to increase inventory significantly). Indeed, it is estimated that in certain industries, such as the pharmaceutical industry, this distorted information can cause the total inventory in the supply chain to exceed 100 days of supply. “Since variability in orders placed by the retailer is significantly higher than variability in customer demand… the wholesaler is forced to carry more stock than the retailer or else to maintain higher capacity than the retailer in order to meet the same service level as the retailer. This analysis can be carried over to the distributor as well as the factory, resulting in even higher inventory levels and therefore higher costs at these facilities.” (p.102). The main factors contributing to the bullwhip effect are as follows:
Demand forecasting. One cause of the bullwhip effect is the standard forecast smoothing techniques used by the managers. As more data is observed, the more the estimates of the average customer demand and of the variations therein are modified. The user is forced to alter order quantities due to the fact that safety stock and the order-up-to level strongly depend on these estimates. This causes variability in orders to increase.
Logically, the managers altering these estimates can be blamed for this. A solution would be to use centralized demand information and cooperative forecasting systems. This can help to reduce the bull-whip effect and thereby decrease the fluctuations in orders. Here we use the sS model, where s is minimum or reorder point, and S is maximum or order-up-to level point. The re-order point is set to equal average demand during lead time plus the multiple of standard deviation of demand during lead time. Note that the more we observe information, the more we modify our estimates of the mean and standards deviation (variability) of customer demand.
Lead time. It is easy to see that the increase in variability is magnified with increasing lead time. This is due to the fact that too calculate safety stock levels and reorder points, we multiply estimates of the average and standard deviation of the daily customer demands by the lead time. Thus, with longer lead times, a small change in the estimate of demand variability implies a significant change in safety stock and reorder level, the multiplication of these new levels with the length of the lead time thus leads to a significant change in order quantities This of course leads to an increase in variability. Longer lead times cause more variability.
Batch ordering. If the retailer uses batch ordering, as happens when using a min-max inventory policy, then the wholesaler will observe a large order, followed by several periods of no orders, followed by another large order, and so on. Thus, the wholesaler sees a distorted and highly variable pattern of orders. It is useful to remind the reader that firms use batch ordering for a number of reasons. First, a firm that is faced with fixed ordering costs needs to apply the min-max inventory policy, which leads to batch ordering. Second, transportation discounts encourage retailers to order less frequently but full truck loads. This may lead to some weeks with large orders, and some with no orders at all. Finally, the quarterly or yearly sales quotas or incentives observed in many businesses can also result in unusually large orders observed on a periodic basis.
Price fluctuation. Price fluctuation can also lead to the bullwhip effect. If prices fluctuate, retailers often attempt to stock up when prices are lower. This is accentuated by the prevailing practice in many industries of offering promotions and discounts at certain times or for certain quantities. These promotions and discounts lead to “forward buying”, which means that retailers purchase large quantities during distributor’s and manufacturer’s discount period and subsequently order relatively smaller quantities at order time periods. The blame for the trade promotions that inflate the fluctuations can obviously be placed on the manufacturer who initiate the promotions and indirectly on the distributors who pass the promotions along to the customer. This variability problem can be (partially) averted by adopting an “every-day low pricing” strategy, which would allow for much more stable customer demand patterns. Another driver of fluctuations would be volume discounts.
Inflated orders. Inflated orders placed by retailers during shortage periods tend to magnify the bullwhip effect. Such orders are common when retailers and distributors suspect that a product will be in short supply, and therefore anticipate receiving supply proportional to the amount ordered. So during a period of shortage, retailers order more. When the period of shortage is over, they go to back to normal quantity orders, leading to all kinds of distortions and variations in demand estimates.
One final driver for the alterations in demand patterns is the introduction of new products. Manufacturers are constantly releasing new products, which they want retailers to display. This results in retail inventory pressure to increase inventory of already stocked items and to simultaneously add new items, while the shelf space is difficult to increase. Additionally, manufacturers and distributors have more information about the products than retailers since the retailers’ consideration set is larger. For instance, if a retailer were to be aware of the fact that sales may be tied closely to some event, the retailer could cash in on this fact by raising prices or increasing inventories, which in turn impact the demand patterns.
Strategies to efficiently cope with the Bullwhip Effect
Strategies for to reduce the Bullwhip Effect or to eliminate its effect are the following:
Reducing uncertainty. One of the most frequent suggestions for decreasing or elim­inating the bullwhip effect is to reduce uncertainty throughout the supply chain by centralizing demand information, that is, by providing each stage of the supply chain with complete information on actual customer demand. The results presented in the previous subsection demonstrate that centralizing demand information can reduce the bullwhip effect. Even if each stage uses the same demand data, each may still employ different forecasting methods and different buying practices, both of which may contribute to the bullwhip effect. In addition, the results presented in the previous subsection indicate that even when each stage uses the same demand data, the same forecasting method, and the same ordering policy, the bullwhip effect will continue to exist.
Reducing variability. The bullwhip effect can be diminished by reducing the vari­ability inherent in the customer demand process. For example, if we can reduce the variability of the customer demand seen by the retailer, then even if the bullwhip effect occurs, the variability of the demand seen by the wholesaler will also be reduced. This can be achieved through an “everyday low pricing strategy”, which eliminates price promotions, in order to eliminate many of the dramatic shift in demand that occur along with these promotions.
Reducing lead-time. Lead times serve to magnify the increase in variability due to demand forecasting. We have demonstrated the dramatic effect that increasing lead times can have on the variability at each stage of the supply chain. Therefore, lead-time reduction can significantly reduce the bullwhip effect throughout a supply chain. Observe that lead times typically include two components: order lead times (i.e., the time it takes to produce and ship the item) and information lead times (i.e., the time it takes to process an order). This distinction is important since order lead times can be reduced through the use of cross-docking while information lead time can be reduced through the use of electronic data interchange (EDI). Effective information systems (e.g., EDI) cut lead times by reducing that portion of the lead time linked to order processing, paperwork, stock picking, transportation delays, and so on.
Often these can be a substantial portion of the lead time, especially if there are many different stages in the supply chain and this information is transmitted one stage at a time. Clearly, if a retailer order rapidly propagates up the supply chain through the tiers of suppliers as far back as is necessary to meet the order, lead time can be greatly reduced. Similarly, transferring point-of-sale (POS) data from the retailer to its supplier can help reduce lead times significantly because the supplier can anticipate an incoming order by studying POS data. The importance of lead-time reduction cannot be overstated. It typically leads to:
The ability to quickly fill customer orders that can't be filled from stock.
Reduction in the bullwhip effect.
More accurate forecasts due to a decreased forecast horizon.
Reduction in finished goods inventory levels. This is true because one can stock raw materials and packaging material (or subassembly) inventories to reduce finished goods cycle time.
For all of these reasons, many firms are actively searching for suppliers with shorter lead times, and many potential customers consider lead time a very important criterion for vendor selection.
Strategic partnerships. The bullwhip effect can be eliminated by engaging in any of a number of strategic partnerships. These strategic partnerships change the way information is shared and inventory is managed within a supply chain, possibly eliminating the impact of the bullwhip effect. For example, in vendor managed inventory (VMI), the manufacturer manages the inventory of its product at the retailer outlet, and therefore determines for itself how much inventory to keep on hand and how much to ship to the retailer in every period. Therefore, in VMI the manufacturer does not rely on the orders placed by a retailer, thus avoiding the bullwhip effect entirely.  Other types of partnerships are also applied to reduce the bullwhip effect. The previous analysis indicates, for example, that centralizing demand information can dramatically reduce the variability seen by the upstream stages in a supply chain. Therefore, it is clear that these upstream stages would benefit from a strategic part­nership that provides an incentive for the retailer to make customer demand data available to the rest of the supply chain.
By sharing demand information with each stage of the supply chain, we can significantly reduce the bullwhip effect. Indeed, when demand information is centralized, each stage of the supply chain can use the actual customer demand data to estimate the average demand. On the other hand, when demand infor­mation is not shared, each stage must use the orders placed by the previous stage to estimate the average demand. As we have already seen, these orders are more variable than the actual customer demand data, and thus the forecasts created using these orders are more variable, leading to more variable orders.
Finally, it is important to point out that the bullwhip effect exists even when demand information is completely centralized and all stages of the supply chain use the same forecasting technique and inventory policy. In other words, if every stage of the supply chain follows a simple order-up-to policy and if each stage uses the same customer demand data and forecasting technique to predict the expected demand, then we will still see the bullwhip effect. One of the most frequent suggestions for reducing the bullwhip effect Is to provide each stage with complete estimation on the actual customer demand, with centralized demand information, each stage of the supply chain can use the actual customer demand data to create more accurate forecasts. Instead of relying on the orders received from the precious stage, which can vary significantly more than the actual customer demands. To conclude, centralizing demand information can significantly reduce, but will not eliminate the bullwhip effect. However, the analysis indicates that if information is not centralized-that is, if each stage of the supply chain is not provided with customer demand information-then the increase in variability can be significantly larger.

Centralizing demand information also makes global optimization easier. Global optimization aims to maximize supply chain performance and replaces sequential planning and local optimization (conflicting objectives in supply chain). There are a number of systems in a supply chain: manufacturing, storage, transportation and retail systems. There is a number of trade-offs between these systems. Thus, finding an optimal solution within each one of the systems is not effective as it might adversely affect another system or the whole supply chain. Thus, it is important to focus on global optimization where systems will share information available between each other. Specifically, the knowledge of production status and cost, transport, availability and quantity discounts, inventory costs, inventory levels and customer demand are necessary to coordinate cost-effective systems.
Locating Desired Products
There are several different ways to meet customer demand. For example, suppose you go to a retailer to buy a large appliance and it is not available. Perhaps you will go to the retailer's competitor down the street. But what if the retailer searches a database and promises to have the item delivered to your house within 24 hours? You will probably feel like you've received great customer service and will be willing to wait, even though the retailer is out of stock of the item you wanted. Thus, being able to locate and deliver goods is sometimes as effective as having them in stock. But if the goods are located at the retailer's competitor, it is not clear whether this competitor would be willing to transfer the item.
Lead-Time Reduction
Lead time reduction leads to reduced bullwhip effect, ability to quickly respond to customer needs, that can not be filled from stock, more accurate forecast due to reduced forecasting horizon, reduction in finished goods inventory (one can stock raw materials or subassemblies inventories to reduce finished goods cycle time). Electronic systems such as EDI can help reduce lead time by reducing other processing, paperwork, stock-picking, transportation delays etc. Similarly, retailer can transfer point-of-sale data to the supplier, which enables better forecasting by the supplier.
Supply Chain Trade Offs and the need for information
Typically, oper­ating a supply chain is viewed as a series of trade-offs both within and between the different stages. The following tradeoffs in a modern supply chain are as follows:
The lot size-inventory trade-off; manufacturers would like to have large lot sizes, as per
Unit setup costs are reduced, manufacturing expertise for a particular product increases, and processes are easier to control. Unfortunately, typical demand does not come in large lot sized, therefore large lot sized lead to high inventory.
The inventory-transportation cost trade-off. If a truck is full when it makes a delivery, the
Cost of operating that truck is spread out over the largest possible number of items. However, in reality demand is in units far less than a whole truck, therefore the remaining items need to be stocked, which leads to higher inventory costs.
The lead time-transportation cost trade-off. To be more specific, there is a trade-off
Between holding items until enough accumulate to reduce transportation costs and shipping them immediately to reduce lead time.
The product variety-inventory trade-off. Increased product variety leads to increased
Transportation and warehousing costs. In addition, it is difficult to accurately forecast demand for each product, as they (=products) are all competing for the same customers, thus higher inventory levels must be maintained to ensure the same service level. On way to support the required product variety efficiently is trying delayed differentiation, which means that the generic products are shipped as far as possible down the supply chain before variety is added. In so doing, customer demand is aggregated across all products, which leads to reduced safety stock through more accurate demand forecasts.
The cost-customer service trade-off.
Information is the key enabler of integrating the dif­ferent supply chain stages and can be used to reduce the necessity of many of these trade-offs. Information replaces inventory in modern supply chains. However, at some point, customers need products, not just information! Nevertheless, information changes the way supply chains can and should not be effectively managed, and these changes may lead to, among other things, lower inventories. Information leads to more effective forecasts. The more factors that predictions of future demand can take into account, the more accurate these predictions can be. For example, consider retailer forecasts. These are typically based on an analysis of previous sales at the retailer. However, future customer demand is clearly influenced by such issues as pricing, promotions, and the release of new products. Some of these issues are controlled by the retailer, but some are controlled by the distributor, wholesaler, manufacturer, or competitors. If this information is available to the retailer's forecasters, the forecasts obviously will be more accurate. Similarly, distributor and manufacturer forecasts are influenced by factors under retailer control. For example, the retailer may design promotions or set pricing. Also, the retailer may introduce new products into the stores, altering demand patterns.
For all of these reasons, many supply chains are moving toward cooperative fore­casting systems. In these supply chains, sophisticated information systems enable an iterative forecasting process, in which all of the participants in the supply chain collabo­rate to arrive at an agreed-upon forecast. This implies that all components of the supply chain share and use the same forecasting tool, leading to a decrease in the bullwhip effect. It should also be pointed out that the marginal value of sharing information’s is decreasing with the number of times information is shared and with the level of detail of the exchanged information.

In order to learn which strategy is appropriate for which industry refer to figure 6.9 on page 191.
Push strategy and part of the supply chain are characterized by low demand uncertainty, economies of scale and long lead times, while the focus is on cost minimization. On the other hand, the pull-portion of the supply chain is characterized by high demand uncertainty, simple supply chain structure and short cycle time. The focus here in on the service level, (that is, on responsive and flexible supply chain, rather than a focus on economies of scale) adaptable to changing customer demand. Intuitively, the longer the lead time, the more important it is to implement a push-based strategy, as it is difficult to implement a pull-strategy when lead times are so long that it is hard to react to demand information. You can find a summary of the characteristics of the push and pull portions of the supply chain in the table below:

Buffer inventory is the end inventory of the push part and the input inventory of the pull part. There is no need to separately manage these two inventory strategies. The interface between these two strategies is demand forecast obtained by the pull-part which is used to drive the supply chain planning process and determine the buffer inventory.
Demand-Driven Strategies
The Supply Chain requires the integration of demand information which can be done by applying two different processes:
Demand Forecast -> Historical demand data is used to determine estimates of expected demand.
Demand Shaping -> To determine the impact of
several marketing plans, such as promotions, pricing discounts, rebates, new product introduction and withdrawal on demand forecasts.   
In either case, the forecast is not completely accurate. Thus, we have to measure the accuracy or forecasting error (standard deviation). Companies can avoid making a great forecasting error by:
Aggregating demand across products/geography/time;
Use market analysis and demographic and economic trends to better improve forecast accuracy;
Determine the optional number of SKUs so that it offers diversity but be able to predict demand across all SKUs rather than individual SKUs;
Incorporate planning with its customers to achieve better understanding of market demand.
The next step is to analyze the supply chain and see if it can support these forecasts, this process is called “balancing supply and demand”, it includes matching supply and demand by identifying a strategy that minimizes costs or a strategy that maximizes profits.
Supply Chain Management and the Internet
In particular, the Internet has created the opportunity to revolutionize supply chain strategies. Indeed, the success of giants such as Dell Computers and Cisco and the significant market capitalization of newly established companies such as Amazon.com can be attributed to sophisticated Internet-based supply chain strategies.

At the same time, the collapse of many Internet companies sends an alarming mes­sage that e-business presents not only opportunities but also great challenges. Key to these challenges is the ability to identify the appropriate supply chain strategy for a particular company and individual products. Indeed, the premise on which many of the Internet companies were built, that in the new economy there is no need for either physical infrastructure or inventory, has in many cases been disastrous. The new supply chain paradigm (push-pull strategy) advocates holding inventory, although it pushes the inventory upstream in the supply chain. As a result of going online (brick-and-mortar to click-and-mortar), firms have changed their approach to stocking inventory. High volumes, fast-moving products whose demand can be accurately matched with supply, based on long term forecasts, are stocked in stores. Low volumes, with highly uncertain demand levels require high levels of safety stock. Centralized stocking reduces uncertainty by aggregating demand across geographical locations- thus sold online. The Internet and the associated new supply chain paradigms introduce a shift in fulfillment strategies: from cases and bulk shipments to single items and smaller-size shipments, and from shipping to a small number of stores to serving highly geographically dispersed customers. This shift also increased the importance and complexity of reverse logistics. Look at the table here below:

Distribution strategies
Of course, even traditional firms need to have an effective distribution strategy. Depending on the details of the situation, traditional warehouse, cross-docking, direct shipment, and transshipment can all be effective tools for managing inventory and distribution costs.
1. Direct shipment - directly from supplies to retail stores (no distribution centers). Advantages include reduced costs and lead times; disadvantages: no benefits from risk-pooling because there is no central warehouse. Also, transport costs increase as the manufacturer has to distribute goods to a number of locations. Take for example grocery stores- they need fresh products, perishable goods.
2. Cross-docking - cross-docking is a strategy where warehouses function as inventory coordination point rather than as inventory storage points. Here, goods arrive at warehouses from the manufacturer, are transferred to vehicles serving the retailers, and are delivered to retailers as rapidly as possible.
Transshipment - this is the shipment of items between different facilities at the same level in the supply chain to meet some immediate need. Transshipment is most commonly considered on the retail level. Transshipment capability allows the retailer to meet customer demand from the inventory of other retailers.

Chapter 7: Distribution Strategies

SCM revolves around efficient integration of the various entities of the supply chain in order to improve performance, in this chapter the focus is on distribution strategies that support such efficient integration. There are three possible distribution strategies worth considering; items can be directly shipped from the supplier or manufacturer to the retail stores or end customer, one or more intermediate inventory storage points (typically warehouses and/or distribution centers) can be used, and finally we will take a look at transshipment.
Direct shipment - directly from suppliers to retail stores (no distribution centers). Advantages include reduced costs (of operating a distribution center) and lead times; disadvantages: no benefits from risk pooling because there is no central warehouse. Also, transport costs increase as the manufacturer has to distribute goods to a number of locations. This strategy is common when the retail store requires fully loaded trucks, which implies that the warehouse does not help in reducing transportation costs. Direct shipment is most often mandated by powerful retailers or used in situations where lead-time is critical. Take for example grocery stores- they need fresh products, but perishable goods.
Intermediate inventory point strategies. The most fundamental characteristic that distinguishes between different intermediate inventory storage point strategies involves the length of time that inventory is stored at warehouses and distribution centers (traditional warehousing strategy vs. cross-docking). In a traditional warehousing strategy, the distribution centers and warehouses hold stock inventory and provide their downstream customers with inventory as needed. Two matters to consider are whether to execute a centralized or decentralized management system and whether to have central versus local facilities.  In a centralized system, decisions are made at a central location for the entire supply network (global optimization). Typically the objective is to minimize total costs of the system, subject to a predefined service-level requirement. In a decentralized system, each facility identifies its most effective strategy without considering the impact on the other facilities in the supply chain. When considering whether to have central versus local facilities, it is possible that some products will be stored in a central facility while others will be kept in various local warehouses. More specifically, expensive products with low customer demand and high demand uncertainty may be stocked at a central warehouse (and hence take advantage of risk pooling) while low-cost products facing high customer demand and low demand uncertainty may be stocked at many local warehouses (this will reduce transportation costs). Cross-docking is a strategy where warehouses function as inventory coordination point rather than as inventory storage points. Here, goods arrive at warehouses from the manufacturer, are transferred to vehicles serving the retailers, and are delivered to retailers as rapidly as possible. Cross-docking systems require significant start-up costs and are difficult to manage, distribution centers, retailers, and suppliers must be liked with advanced information systems, fast and responsive transportation system is necessary, information sharing is required as forecasts are critical. Cross-docking strategies are effective only for large distribution systems in which a large number of vehicles are delivering and picking up goods at the cross-dock facilities at any one time.
Transshipment - this is the shipment of items between different facilities at the same level in the supply chain to meet some immediate need. Transshipment is most commonly considered on the retail level. Transshipment capability allows the retailer to meet customer demand from the inventory of other retailers. To do this, the retailer must know what other retailers have in inventory and must have a rapid way to ship the items either to the store where the customer originally tried to make the purchase or to the customer’s home. The transshipment strategy is appropriate if the proper information systems exist, shipment costs are reasonable, and all of the retailers have the same owner. In this situation, the system is effectively taking advantage of the risk-pooling concept, even if no central warehouse exists, because one can view inventory in different retail outlets as part of a large, single pool.
Which distribution strategy to select depends on customer demand and location, service level, and costs (including transportation and inventory costs) all play a role. Both transportation and inventory costs depend on shipment size, but in opposite ways; increasing lot sizes reduces the delivery frequency and enables the shipper to take advantage of price breaks in shipping volume, therefore reducing transportation costs. However, large lot sizes increase inventor cost per item because items remain in inventory for a longer period of time until they are consumed. In addition, demand variability plays an impact on the distribution strategy; the larger the variability, the more safety stock needed.

Chapter 8: Strategic Alliances

There are various ways in which a firm can complete a logistics-oriented business structure: perform activities internally (specially if the activity concerns the core strengths of the firm), acquire another company if it doesn’t have necessary resources itself (note that there might be a culture clash between the two companies and that the effectiveness of the acquired company could be lost in the assimilation process), perform arm’s-length transactions (simple, short-term business transactions that do not lead to long-term strategic advantages), or strategic alliances (long-term, goal-oriented partnerships in which both risks and rewards are shared, it will lead to long-term strategic benefits). Strategic alliances can avoid the problems of outright acquisition, simultaneously mutual goals can lead to the commitment of many more resources than in the case of arm’s-length transactions. In this chapter the focus is on strategic alliances.
There are a few ways in which alliances can help an organization, namely:
-  They can add value to products by for example improving time to market, distribution times or help get a better perception of a firm;
-  They improve market access- there could be a better advertising or increased access to market channels (e.g. complementary goods)
-  Alliances can strengthen operations by lowering system costs or cycle times; facilities and resources can be used more efficiently and effectively
-  They can also add technical strength- improve technology base for both firms, also the difficult transition between old and new technologies can be facilitated by the expertise of one of these partners
-  Alliances can enhance strategic growth (overcome high entry barriers) and pool expertise and resources to overcome these barriers and explore new opportunities (organizational learning)
- Strategic alliances can enhance organizational skills; it is an opportunity for organizational learning from one another and about oneself to become more flexible in order to make the alliance work
-  They build financial strength; income can be increased and administrative costs can be shared between partners or even reduced owing to the expertise of one or both of the partners, in addition investment exposure is limited due to risk sharing
We distinguish three types of strategic alliances: third party logistics (3PL), retailer-supplier partnerships (RSP) and distributor integration (DI). We will now examine each one more closely.
1. Third Party Logistics (3PL)
Third Party Logistics is the use of an outside company to perform all or part of the firm’s materials management and product distribution functions. Increasingly, 3PL providers are taking over some or all of a company’s logistics responsibilities. They are real strategic partnerships involving long-term commitment and multiple functions management. A non-asset-owning third-party logistics firm, is called a fourth-party logistics provider (they provide coordination services without having assets of their own).
Advantages of 3PL: These partnerships allow both parties to focus on their core strengths, 3PL providers offer technological flexibility and flexibility in geographic locations, rapid offerings and other service offerings.
Disadvantages of 3PL: The company loses control inherent in outsourcing a function. 3PL is an especially bad idea if logistics is one of the firm’s competitive advantages.
Issues that should be taken into consideration when decisions are made on 3PLs:
-    Know your own costs in comparison to that of an outsourcing company
-    Make sure the 3PL provider can assure the flexibility and is in line with customers’ needs
-    Consider the specialization of 3PL provider- is it a LTL carrier or is it specialized in a timely handling of goods?
-    Is 3PL provider an asset-owning or non-asset-owning 3PL? If it is an asset-owning 3PL, it is bigger, has access to human resources and a large customer base, economies of scale and scope, but is very bureaucratic and has long decision-making cycles. Non-asset-owning 3PL providers are more flexible and able to tailor services.
When starting up a relationship with a 3PL-probider, a company should take enough time to identify what both parties expect from each other and in what way the service has to be performed. An effective communication is essential for a 3PL-relationship. Other issues to discuss with potential 3PL providers include: respecting confidentiality of data, specific performance measures, specific criteria regarding subcontractors, arbitration issues, escape clauses, and methods of ensuring that performance goals are being met.
2. Retailer-Supplier partnerships (RSP)
Retailer-supplier partnerships consist of information sharing on the one end, which helps vendors plan efficiently, and the other of a consignment scheme where vendor completely manages and owns retailer’s inventory until sold. The supplier manages a portion of a retailer’s business (typically retail inventories). There are four types of RSP: quick response, continuous replenishment, advanced continuous replenishment and vendor-managed inventory (VMI). This spectrum ranges from agreements that cover only information sharing to agreements in which the supplier has complete control over the retailer’s inventory policy. We now look into each one of the types of RSP:
Quick response RSP: the supplier receives point-of-sale (POS) data and synchronizes production and inventory activities with actual sales at the retailer. POS data is used by the supplier to improve forecasting and scheduling and to reduce lead times.
Continuous replenishment RSP: vendors receive POS and replenish goods on fixed intervals to maintain a certain level of inventory.
Advanced continuous replenishment: allows some freedom to suppliers to supply variable quantities at variable times, as long as the service level is maintained and there are no stock-outs.
Vendor-managed inventory (VMI): the supplier (the vendor) decides on the appropriate level of each good’s inventory (within agreed boundaries, of course), and the inventory policies to maintain these levels. Eventually the goal of many VMI programs is to eliminate retailer oversight on specific orders. An example of VMI is Kimberly-Clark. The company is responsible for in-store stock. This is very convenient to supermarkets as they have less responsibility and storage costs to worry about.

To compare the four different types of RSP, refer to the table here below:

Advantages of RSP: RSP decreases the required inventory levels as well as the work duplication, while it improves service levels and forecast.
Disadvantages of RSP: expensive advanced technology is required, supplier/retailer trust must be developed, supplier responsibility increases, and supplier expenses often increase.
The most important requirements for RSP are advanced information systems on both supplier’s and retailer’s side, such as the use of EDI (electronic data interchange) in order to be able to rely on POS data. Top management commitment is required, because information that has been kept confidential up to this point will now have to be shared with suppliers and customers, and cost allocation issues will have to be considered at a very high level, such a partnership may also shift power within the organization from one group to another. RSP requires the partners to develop a certain level of trust. With VMI suppliers need to be able to manage the whole supply chain and the top management of the suppliers must understand that decreased inventory is a one-time loss in sales revenue.
Inventory ownership in RSP: So far, ownership of goods used to be transferred to the retailer once the goods are received. However, in some VMI partnerships the goods are owned by the supplier until they are sold. The advantage to this is lower inventory costs and greater supplier concern with managing inventory (since the supplier now is the owner of the inventory). In VMI, one tries to optimize the entire system by coordinating production and distribution. The supplier can decrease total cost by coordinating production and distribution for several retailers (which is precisely the reason why global optimization allows for significant reductions in total system costs). Depending on the relative power of the supplier and retailer, the supply contract must be negotiated so that the supplier and the retailers share overall system savings.
Performance measure criteria in RSP should include point-of-sale (POS) accuracy, inventory accuracy, shipment and delivery accuracy, lead times and customer fill rates. Other crucial criteria are confidentiality of POS data, effective communication and cooperation.
Steps in VMI implementation: First of all, contractual terms need to be agreed on (ownership decisions, when transferred, credit terms, performance measures etc.); then integrated information systems must be developed for both supplier and retailer (which must provide easy access to both parties), subsequently effective forecasting techniques must be developed by the vendor and the retailer; finally, a decision support tool (a system) and transportation policies should be developed to assist in coordinating inventory management.
Advantages of VMI: Forecasts are more accurate as the supplier has a more thorough understanding and knowledge of the products. Thus the supplier has the ability to control the bullwhip effect and reduce lead times. Reduced forecast-uncertainty allows reduced safety stock, thus reduced storage and delivery costs and increased service levels. In addition, strategic partnerships provide a good opportunity for the reengineering of the retailer-supplier relationship (for example, redundant order entries can be eliminated).
Disadvantages of VMI: advanced technology necessary to implement RSP is very expensive, it is essential to develop trust, the supplier has more responsibility than formerly and thus the supplier might need to add personnel to meet this need. Adding personnel is one of the few additional costs that suppliers might have. Thus, supplier and retailer should decide on how they share these costs. Finally, retailers that have become accustomed to waiting 30 to 90 days to pay for goods may now have to pay upon delivery. Even if they pay only when their goods are sold, this could be much sooner than their usual period of float.
3. Distribution integration (DI)
Distributor integration is about enhancing distributor relationship with the end customers. Nowadays, distributors are integrated so that expertise and inventory located at one distributor is available to others. DI creates a large pool of inventory across the entire distributor network where goods can be transferred from one distribution center to another, depending on the needs of customers in each distribution area. This system reduces inventory costs, improves communication among distribution centers and assures higher service levels. DI can be used to meet a customer’s specialized technical service requests by steering their requests to the distributors best suited to address them. In a DI arrangement, each distributor can check the inventories of other distributors to locate a needed product or part. So in DI, manufacturers coordinate the efforts of their (potentially competing) distributors to create risk-pooling opportunities across the various distributors and to enable different distributors to develop different areas of expertise.
Disadvantages of DI: distributors may be skeptical of the rewards of participating in such a system; some might feel as if they are providing some of their expertise in inventory control to less skilled partners, in addition is it necessary to trust other (unknown) distributors in order to provide good customer service. In addition, such a relationship tends to take certain responsibilities and areas of expertise away from certain distributors and concentrate them on a few distributors, which might make distributors nervous about losing these skills and abilities.

Chapter 9: Procurement and Outsourcing Strategies

Outsourcing
A lot of companies are able to reduce their costs through outsourcing. However, it is difficult to manage the outsourced activities because of inefficiencies created by the spread of the supply chain over various locations.
Advantages of outsourcing
Economies of scale, since the outsourcing company aggregates many orders from various companies;
Risk pooling- allows buyers to transfer demand uncertainty to contract equipment manufacturers (CEMs). CEMs reduce demand uncertainty by aggregating orders from many buyers
Reduce capital investment- CEM can make the investment which is, again, shared across the CEM’s customers;
Focus on core competency- by carefully choosing what to outsource, the buyer can focus on its core strengths, i.e. specific talents/ skills/ knowledge;
Increased flexibility for the following reasons:
-    The ability to react quicker to changes in customer demand
-    The ability to use supplier’s technological knowledge to reduce the development cycle
-    The ability to gain access to innovation and technologies
Disadvantages and risks of outsourcing
Loss of competitive advantage- outsourcing crucial components to suppliers may open up opportunity for competitors. Also, once outsourcing activity has been assigned, it is difficult for a company to change the design of the outsourcing company- the design is now based on the supplier’s agenda;
There may be conflicting objectives between suppliers and buyers- buyers expect flexibility from the supplier; suppliers want long-term, stable commitment from the buyer and is focused on cost reduction rather then flexibility.
A framework for buy/make decisions
Framework developed by Fine& Whitney classifies the reasons for outsourcing into two categories, namely:
Dependency of capacity: refers to a company who has the necessary knowledge but out sources for other reasons.
Dependency of knowledge: refers to the company, which doesn’t have the knowledge/ skills/ people necessary to produce a component.
Note, the products are also categorized in modular and integral. Modular products combine a number of different components (cars). A modular product exists of components that are independent of each other, interchangeable components, standard interfaces, components that can be designed or upgraded with little or no regard to other components. Whereas integral products are made up of components whose functionalities are tightly related (engine). Integral products are not made from off-the-shelf components; they are designed as a system by taking a top-down design approach. In addition, integral products are evaluated based on system performance, not based on component performance and components in integral products perform multiple functions. Decisions should depend on whether a particular component is modular or integral, and whether or not a firm has the expertise and capacity to manufacture a particular component or product.
Professor Fisher distinguishes between two extreme product types, innovative products and functional products. Functional products are characterized by slow technology clockspeed (chapter 11, p. 339), low product variety, and typically low profit margins. Innovative products are characterized by fast technology clockspeed and short product life cycle, high product variety, and relatively high margins.
The appropriate supply chain strategy that needs to be executed depends on the type of product. For functional products the appropriate strategy is a push strategy, where the focus is on efficiency, cost reduction, and supply chain planning. The focus should be on minimizing total landed cost (= total cost of purchasing and delivering the product to its final destination). Thus, in the case of functional products, sourcing from low-cost countries is appropriate. On the other hand, the appropriate strategy for innovative products is a pull strategy, due to the high profit margins, fast clockspeed, and unpredictable demand. Here, the focus is on responsiveness, maximizing service level, and order fulfillment. Subsequently, when procuring innovative products the focus should be on reducing lead times and on supply flexibility.
E-procurement
Starting in mid- 90s, Internet has had a profound impact on supply-chain performance and has created a need for a new business model. This is the point where manufacturers have started looking into outsourcing their procurement functions that are highly costly and complex. This has lead to a huge growth of business-to-business (B2B) sector.  
Why are e-markets so important? Because of the following reasons:
A)    They allow suppliers to access spot markets where buyers are looking for low prices rather than relationships with suppliers;
B)    Allow suppliers to decrease Marketing & Sales costs,
C)    Allow supplier to better utilize the available space& inventories.
In return, e-markets charge a transition fee paid by either the suppliers or the buyer, or both. However, transaction fees pose a series of challenges to the market maker because: sellers resist paying a fee to the company whose main objective is to reduce the purchase price, the revenue model needs to be flexible enough so that transaction fees are charged to the party that is more motivated to secure the engagement, and finally buyers resist paying a fee in addition to the purchase price.
A variety of e-markets have appeared, and each of these types addresses a different business need. Depending on the type of component being procured, a different type of e-market is appropriate. Recent years the following types were introduced:
Value-Added Independent E-Market: Provides besides the procurement services also additional services to its clients.
Private E-Markets
Consortia-based E-Markets: Established by a number of companies within the same industry. Aims at providing suppliers a standard system in order to reduce costs.
Content-based E-Markets: Focuses on content, by integrating catalogs from different suppliers
Framework for E-Procurement
Often it is unclear for a firm whether it should decide to start a Private E-Market, an Independent Market or join a Consortia-based Market. The appropriate strategy depends on the type of product and the level of risk a firm is willing to have.
In general, there are three different types of products a company can purchase:
Strategic Components
Commodity Products
Indirect Materials
The level of risk is associated with the following elements:
Uncertain Demand (inventory risk)
Volatile Market Price (price risk)
Component Availability (shortage risk)
The table below illustrates the Risk-Tradeoff Portfolio Contracts:
 

Chapter 10: Global Logistics and Risk Management

International supply chains can vary from a primarily domestic business with some international suppliers to a truly integrated global supply chain. Various types of international supply chains include:
International distribution systems: manufacturing still occurs domestically, but distribution and typically some marketing take place overseas.
International suppliers: raw materials and components are fur­nished by foreign suppliers, but final assembly is performed domestically. In some cases, the final product is then shipped to foreign markets.
Offshore manufacturing: the product is typically sourced and manufactured in a single foreign location, and then shipped back to domestic warehouses for sale and distribution.
Fully integrated global supply chain: products are

supplied, manufactured, and distributed from various facilities located throughout the world. In a truly global supply chain it may appear that the supply chain was designed without regard to national boundaries. On the contrary, the true value of a global supply chain is realized by taking advantage of these national boundaries!
The following forces that collectively drive the trend toward globalization:
Global market forces.
Technological forces.
Global cost forces.
Political and economic forces.
Global market forces involve the pressures created by foreign competitors, as well as the opportunities created by foreign customers. Even if companies don’t do business overseas, the presence of foreign competitors in home markets can affect their business significantly. One cause of the increasing demand for products through the world is the global proliferation of information. Products are universally desired, and many companies are willing to sell them globally. This is a self-amplifying trend for an industry, because as companies become global, their competitors also must become global in order to compete.
Technical forces are related to the products themselves. Various subcomponents and technologies are available in different regions and locations around the world, and many successful firms need to have the ability to use these resources quickly and effectively, which might require firms to locate research, design, and production facilities close to these regions. To gain access to markets or technology, companies in different regions frequently collaborate, resulting in the location of joint facilities close to one of the partners. In addition, global location of research-and-development facilities is becoming more common, because product cycles become shorter and time more important, which make it useful to locate research facilities close to manufacturing facilities, as this helps transfer technology from research facilities to manufacturing facilities, and speeds up the resolution of problems that inevitably arise during this transfer. Finally, global location of research is becoming more common, because specific technical expertise may be available in certain areas or regions.
Global cost forces often dictate global location decisions (for example, the low cost of unskilled labor was a decisive factor in determining factory location).
Political and economic forces may also greatly affect the drive toward globalization. For instance, regional trade agreements may drive companies to expand into one of the countries in the regional group. Similarly, various trade protection mechanisms (tariffs and quotas) can affect international supply chain decisions.
As the number of potential markets increase, costs can be lowered with a larger number of options for sourcing raw material, labor, and outsourcing opportunities and a greater number of potential manufacturing sites. The increase in potential markets at the same time allow for an increase in sales and profits. However, all these advantages and opportunities associated with global supply chains come with significant increase in the level of risks faced by today’s global companies, due to the fact that outsourcing and offshoring imply that the supply chain is geographically more diverse and hence more exposed to various risks.
The book discusses two types of risks, which are the unknown-unknown and the known-unknown risks.  Unknown-unknown risks refer to natural disasters, geopolitical risks, epidemics, or terrorist attacks. While the known-unknown risks refer to risks such as supplier performance, forecast accuracy, and operational problems. The latter are risks that can be quantified. Strategies to manage the unknown-unknown risks are:
- Building redundancy, this can be done through careful analysis of supply chain cost trade-offs so that the appropriate level of redundancy is built into the supply chain. (This should be done at the design stage.)
- Increase velocity in sensing and responding, this requires accurate information in a timely fashion.
- Adaptability requires all supply chain elements to share the same culture, work towards the same objectives and benefit from financial gains.
There are three ways a global supply chain can be employed to address global risks, including the known-unknown risks:
Speculative Strategies: a company bets on a single scenario, often with spectacular results if the scenario is realized, and dismal ones if it is not. For example, in the late 1970s and early 1980s, Japanese automakers bet that if they did all of their manufacturing in Japan, rising labor costs would be more than offset by exchange rate benefits, rising productivity, and increased levels of investment and productivity. For a while these bets paid off, but then rising labor costs and unfavorable exchange rates began to hurt manufacturers, and it became necessary to build plants overseas. Of course, if it had remained favorable to do all the manufacturing in Japan, the Japanese manufacturers would have 'won the bet' because building new facilities is time-consuming and expensive.
Hedge Strategies: a company designs the supply chain in such a way that any losses in part of the supply chain will be offset by gains in another part. Depending on macroeconomic conditions, certain plants may be more profitable at various times than others. Hedge strategies, by design, are simultaneously successful in some locations and unsuccessful in others.
Flexible Strategies: when properly employed, they enable a company to take advantage of different scenarios. Typically, flexible supply chains are designed with multiple suppliers and excess manufacturing capacity in different countries. In addition, factories are designed to be flexible, so that products can be moved at minimal cost from region to region as economic conditions demand. When considering the implementation of a flexible strategy, managers have to answer several questions:
Is there enough variability in the system to justify the use of flexible strategies?
Clearly, the more variability in international conditions, the more a company can benefit from utilizing flexible strategies.
Do the benefits of spreading production over various facilities justify the costs, which may include loss of economies of scale in terms of manufacturing and supply?
Does the company have the appropriate coordination and management mechanisms in place to take rapid advantage of flexible strategies?
Several approaches can be utilized to implement flexible strategies effectively if the supply chain is appropriately designed:
Production shifting. Flexible factories and excess capacity and suppliers can be used to shift production from region to region to take advantage of current circum­stances. As exchange rates, labor cost, and so on change, manufacturing can be relocated.
Information sharing. Having an increased presence in many regions and markets often will increase the availability of information, which can be used to anticipate market changes and find new opportunities.
Global coordination. Having multiple facilities worldwide provides a firm with a certain amount of market leverage that it might otherwise lack. If a foreign com­petitor attacks one of your main markets, you can attack back. Of course, various international laws and political pressures place limits on this type of retaliation.
Political leverage. The opportunity to move operations rapidly gives firms a mea­sure of political leverage in overseas operations. For example, if governments are lax in enforcing contracts or international law, or present expensive tax alternatives, firms can move their operations. In many cases, the implicit threat of movement is sufficient to prevent local politicians from taking unfavorable actions.
The five basic functions of firms are: product development (design products that can be modified easily for major markets and which can be manufactured in various facilities), purchasing (from many vendors around the world to ensure that the pricing, quality and delivery options from various suppliers are compatible), production (excess capacity and plants in several regions are essential if firms are to take full advantage of the global supply chain by shifting production as conditions warrant), demand management, and order fulfillment (a centralized system must be in place so that regional customers can receive deliveries from the global supply chain with the same efficiency as they do from local or regionally based supply chains).
Besides the obvious cost advantages, there are the advantages of having a truly flexible global supply chain to address the inherent risks in operating a global company. However, even with a flexible supply chain, the strategies and approaches used to address these risks will work only if the appropriate infrastructure is in place. Centralized control can be important in taking advantage of some of the strategies we have discussed, but in many cases it makes sense to allow local autonomy in the supply chain. Sometimes, after independent regional operations have proven to be successful, headquarters can't resist the temptation to tamper with the system, and performance suffers. In addition, it is important to temper expectations for regional business depending on the characteristics of the region involved.
 
Both advantages and risks are inherent in global supply chains. There are many potential dangers that firms must face as they expand their supply chains globally. Exchange rate fluctuations, discussed earlier as an opportunity, can just as easily be a risk if not properly managed. It may be harder to administer offshore facilities, especially in less-developed countries. Similarly, the promise of cheap labor may mask the threat of reduced productivity. Expensive training may be required, but even then productivity may not reach domestic levels. Often local collaboration occurs in the global supply chain. In this case, collaborators can ultimately become competitors. Although world markets are becoming more open all the time, the world is far from becoming a giant free trade zone. At any time the threat of protectionism might appear, and if the global supply chain is not set up with some kind of counter to this threat, companies will not be able to do much about it. Sometimes the threat comes not from the foreign government, but from the domestic government, dealing with the concerns of smaller local firms.
Region-specific products have to be designed and manufactured specifically for certain regions (effective SCM can still take advantage of common components or subassemblies within the different designs). True global products are truly global, in the sense that no modi­fication is necessary for global sales. The difference between region-specific products and global products does not imply that one is inherently better than the other.
Cultural differences can critically affect the way international subsidiaries interpret the goals and pronouncements of management. Beliefs, values, customs, and language all play a big role in global business and can strongly affect negotiation and communication.

To illustrate the major differences between different nations, refer to the table below:
 

Chapter 11: Coordinated Product and Supply Chain Design

In many organizations we find two interacting chains, which are:
- Supply chain, which focuses on the flow of physical products from suppliers through manufacturing and distribution all the way to retail outlets and customers. This chain is characterized by demand uncertainty and variability, economies of scale in production & transportation, and lead-time.
- Development chain, which focuses on new product introduction and involves product architecture, make/buy decisions, earlier supplier involvement, strategic partnering, supplier footprint, and supply contracts. This chain is characterized by technology clockspeed (speed of technology changes), and product structure (level of modularity or integrality that a product must have).
Design for Logistics addresses the issue of transportation and inventory costs as critical supply chain cost drivers, particularly when inventory levels must be kept fairly high to ensure high service levels. Three components of DFL are used to address this issue:
- Economic packaging and transportation; Products that can be packed more compactly are cheaper to transport, more specifically, if the space taken up by a product, and not its weight, constrains how much can fit in a delivery vehicle, products that can be stored more compactly can be transported less expensively. Also retailers favor products that take up less storage space and stock easily, as efficient storage reduces certain components of inventory cost because handlings costs and space per product decrease and revenue per square foot can increase.

- Concurrent and parallel processing involves modifying the manufacturing process so that steps that were previously performed in a sequence can be completed at the same time, which helps reduce manufacturing lead time, lower inventory costs through improved forecasting, and reduce safety stock requirements. Key to such processing is the concept of decoupling. If many of the components of the product can be decoupled, or physically separated during manufacturing, it is possible that these components can be manufactured in parallel.
- Standardization of components is a possibility to make effective use of the information in aggregate forecasts. Product modularity (a product that is assembled from a variety of modules such that, for each module, there are a number of options) and process modularity (a manufacturing process consisting of discrete operations, so that inventory can be stored in partially manufactured form between operations) are the key drivers that enable a standardization strategy that lowers inventory costs and increases forecast accuracy.
There are four different strategies to achieve standardization:
- Part standardization is the use of common parts across many products, which reduces required part inventories due to risk pooling and reduce part costs due to economies of scale.
- Process standardization involves standardizing as much of the process as possible for different products, and then customizing the products as late as possible. By delaying differentiation, production starts can be based on aggregate forecasts, which can be effectively used to address the uncertainty in final demand even if forecasts cannot be improved. Finally, the term resequencing refers to modifying the order of product manufacturing steps so that those operations that result in the differentiation of specific items or products are postponed as much as possible.
- Product standardization happens when a large variety of products may be offered, but only a few kept in inventory. If a product that is not kept in stock is ordered, the order may be filled by a product that offers a superset of the features required by a customer (=downward substitution).
- Procurement standardization involves standardizing processing equipment and approaches, even when the product itself is not standardized. This approach is particularly valuable when the processing equipment is very expensive.
 

The above mentioned standardization strategies can be viewed as a method to combine push and pull systems within a single supply chain into what we call a push-pull system. In other words, the undifferentiated product is built and transported based on long-term forecasts. In contrast, differentiation occurs as a response to market demand.
Firms often realize tremendous benefits from involving suppliers in the design process. These benefits include: a decline in purchased material costs, an increase in purchased material quality, a decline in development time and cost and in manufacturing cost, and an increase in final product technology levels. The continuous focus on core competencies and on reducing lead-time are specifically encouraging managers to find opportunities to work with suppliers during the product design process.
Since there is no such thing as an “appropriate level of supplier integration”, the notion of a spectrum of supplier integration was developed, which identifies a series of steps from least to most supplier responsibility as follows:
- None; the supplier is not involved in design
- White box; informal level of integration, the buyer consults with the supplier informally when designing products and specifications (without a formal collaboration).
- Grey box; represents formal supplier integration. Collaborative teams are formed between the buyer’s and supplier’s engineers, and joint development occurs.
- Black box; the buyer gives the supplier a set of interface requirements and the supplier independently designs and develops the required component.
Once suppliers are identified, it is critical to work on building relationships with them.
Mass customization involves the delivery of a wide variety of customized goods or services quickly and efficiently at low cost. The key to making mass customization work is highly skilled and autonomous workers, processes, and modular units, so that managers can coordinate and reconfigure the modules to meet specific customer requests and demands. Obviously, this approach helps to provide firms with important competitive advantages and, just as obviously, effective supply chain management is critical if mass customization is to be successful.
To implement mass customization successfully, the systems within a company that link different modules, must be:
- Instantaneousness; modules and processes must be linked together very quickly, this allows rapid response to various customer demands.
- Costless; the linkages must add little if any cost to the processes, this attribute allows mass customization to be a low-cost alternative.
- Seamless; the linkages and individual modules should be invisible to the customer, so customer service does not suffer.
- Frictionless; networks or collections of modules must be formed with little overhead. Communication must work instantly, without taking time for the team building.
 

Chapter 12: Customer Value

The way companies measure the quality of their product and services has evolved from internal quality assurance to external customer satisfaction and from there to customer value. Internal quality measures, such as the number of defects, dominated company goals in the era of supply-driven manufacturing. Customer satisfaction con­centrated on the company's current customers and their use of a company's product and impression of its service. This provided valuable information about current customers and generated ideas for areas of improvement and ways to compensate for performance in the company. The current emphasis on Customer Value goes a step further and tries to establish the reasons of a customer choosing one company's product over another's, and looks at the entire range of product, services, and intangibles that constitute the company's product and image. Customer value drives changes and improvements in the supply chain, some forced by customer and competitor activities and others undertaken to achieve competitive advantage. Furthermore, large manufacturers, distributors, or retailers place certain requirements on their suppliers that force them to adopt supply chains that will make these requests feasible.
Logistics, previously considered a back-office function, has evolved into the highly visible discipline of supply chain management partly because of this change in perspective. Supply chain management is naturally an important component in fulfilling customer needs and providing value. Equally important, supply chain management determines the availability of products, how fast they will arrive in the market, and at what cost. Our definition of supply chain management implies that the ability to respond to customer requirements is the most basic function of this discipline. This function includes not only the physical attributes of product distribution, but also the related status information and access to this information.
Companies need to select their customer value goals since the supply chain, market segmentation, and skill sets required to succeed, depend on this choice. In order to succeed, a company needs to be dominating in one attribute, differentiate itself on another, and be adequate in all the rest, but not below that.
Customer value drives changes and improvements in the supply chain; some forced by customer and competitor activities and others undertaken to achieve competitive advantage.
Customer value is also important for determining the type of supply chain required to serve the customer and what services are required to retain customers. Creating customer value is the driving force behind a company's goals, and supply chain management is one of the means of achieving customer value.
The customer perception can be broken into several dimensions:
Conformance to requirements.
Product selection.
Price and brand.
Value-added services.
Relationships and experiences.
The list of dimensions starts with the essentials -the first three items above- and goes on to more sophisticated types of features that may not always be critical.
Conformance to Requirements
The ability to offer what the customer wants and needs is a basic requirement to which supply chain management contributes by creating availability and selection. It can be called the market mediation function of the supply chain. This function is distinct from the supply chain physical function of converting raw materials into goods and shipping them through the chain to the customer. The costs associated with the market mediation function occur when there are differences between supply and demand. If the supply exceeds demand, there are inventory costs throughout the supply chain; if demand exceeds supply, there are lost sales and possibly market share.
If product demand is predictable, as in functional items such as diapers, soup, or milk, market mediation is not a major issue, but when dealing with fashion items or other high-variability items, the nature of demand can create large costs due to lost sales or excess inventory.
Clearly, efficient supply chains for functional items can reduce costs by focusing on reducing inventory, transportation, and other costs. This is the strategy that Campbell Soup and Procter & Gamble employ for their supply chains.
On the other hand, high-variability products require responsive supply chains, which stress short lead times, flexibility, and speed over cost efficiencies. When the supply chain strategy does not match the product characteristics, there are major implications in the ability to conform to the market. Conformance to requirements is also related to customer access, which is the ability to easily find and purchase a product.
Product Selection
The contribution of product proliferation to customer value is difficult to analyze and understand. Three successful business trends exist:
Specializing in offering one type of product. Examples include companies such as Starbucks and Subway.
Mega stores that allow one-stop shopping for a large variety of products. Examples include Wal-Mart and Target.
Mega stores that specialize in one product area. Examples here include Home Depot, Office Max, and Sport mart.
These trends have also emerged on the Internet where some sites have been success­ful in offering a large variety of different products while others specialize in a single offering. Ways to control the inventory problem of a large variety of configurations or products are:
Use a build-to-order model where the config­uration is determined only when the order comes in. This is an effective way to implement the push-pull strategy discussed in Part E by employing the con­cept of postponement.
Keep larger inventories at major distribution centers. This is suitable for products with long manufacturing lead times, such as vehicles. These distribution centers allow the manufacturer to reduce inventory levels by taking advantage of risk pooling and delivering the vehicles quickly to customers. General Motors has initiated this approach with its Cadillac unit in Florida. Dealers can order cars that they do not have on their lot from a regional warehouse that can ship the car out in a day. Of course, two major issues need to be raised when considering this strategy:
Inventory costs of cars at the regional warehouse.
Equalizing small and large dealers.
Offer a fixed set of options that cover most customer requirements. For example, Honda offers a limited number of options on its cars. Dell offers few options for modems or software that can be installed on its machines, although the overall number of possible configurations remains quite high. Indeed, large product variety is not required in all cases. For example, a dysfunctional level of variety exists in many grocery products-28 varieties of toothpaste, to give one example. It is not clear whether this variety actually adds any customer value.
Price and Brand
Price of products and the level of service are essential parts of customer value. Although the price may not be the only factor a customer considers, there may be a narrow price range that is acceptable for certain products. For instance, for commodity products (and even sophisticated items such as personal computers are commodities), there is very little flexibility in price. Therefore, companies achieve cost advantages through innovations in their supply chains. As we have seen in Dell's direct business model, allowing clients to configure their own systems and building a supporting supply chain not only improve customer value but also reduce costs.
Wal-Mart has been a supply chain innovator, which has enabled it to provide low-cost merchandise and undercut its competition. In addition, we have seen that the 'everyday low pricing' policy applied by retailers such as Wal-Mart and manufacturers such as Procter & Gamble is an important tool in reducing the bullwhip effect. This policy appeals to customers who do not have to worry about buying at the wrong time, and to the retailer and manufacturer who do not need to plan for demand variations as a result of promotions.
An important factor affecting the product price is its brand. In today's market, there are fewer salespeople and more customers looking for supermarket-style shopping. This is true across a wide variety of retail environments, from auto superstores to e-tailers. Apparently, the Internet and its impact on consumer behavior have increased the importance of brand names, because a brand name is a guarantee of quality in the buyer's mind. Brand names such as Mercedes cars, Rolex watches, and Coach purses can be promoted for high quality and prestige and command much higher prices than products that lack this aura. Furthermore, the higher price in itself may be a large part of the prestige and perceived quality. The product's high margins will require a focus on service level, and hence the supply chain needs to be more responsive; the increase in supply chain cost will be offset by the higher margin.
In many industries 'product' typically means both the 'physical product' and asso­ciated 'services.' Typically, pricing the physical product is not as difficult as pricing services.
Value-Added Services
Many companies cannot compete on product price alone in an economy that has an over­abundance of supply. Therefore, they need to consider other sources of income. This drives companies toward value-added offerings that differentiate them from competitors and provide them with more profitable pricing structures.
Value-added services, such as support and maintenance, can be a major factor in the purchase of same products, especially technical products. Indeed, many companies are now adding more services around their products.
This is due in part to:
1. The commoditization of products.
2. The need to get closer to the customer.
3. The increase in information technology capabilities that make this offering possible.
An important value added service is information access. The ability of customers to access information is becoming an essential requirement in SCM, as visibility of information is what an increasing number of customers expect.
Relationships and Experiences
Relationships make it more difficult for customers to switch to another provider, while a relationship asks a serious investment by both the customer and the supplier. An example is the Learning Relationship, where companies build specific user profiles and utilize this information to enhance sales as well as retain customers.
Some companies try to sell their customers a unique experience in order to increase customer value. Pine and Gilmore define experience as follows: “An experience occurs when a company intentionally uses services as the stage, and goods as props, to engage individual customers in a way that creates memorable events.”
There are eight steps to delivering a great total customer experience:
Create a compelling brand personality-a distinct offering that customers can identify with.
Deliver a seamless experience across channels and touch points. In other words, make sure that customers' experience and information are the same no matter what access method they choose to use at a certain point.
Care about customers and their outcomes.
Measure what matters to customers: the quality of the customer's experience as opposed to internal company measures.
Hone operational excellence.
Value customers' time.
Place customer's information requirements and needs at the core. This requires the ability to be proactive; for instance, reminding customers of maintenance requirements and training opportunities.
Design to morph-the ability to change practices based on customer requirements.
Customer value measures are based on customer perceptions; this requires measures to start with the customer. Two customer value measures are:
1. Service level is the typical measure used to quantify a company’s market conformance. The service level is usually related to the ability to satisfy a customer’s delivery date. There is a direct relationship between the ability to achieve a certain level of service and supply chain cost and performance. Hence, when setting the level of service for a particular offering, it is important to understand customer value.
2. Customer satisfaction surveys are used to measure sales department and personnel performance as well as to provide feedback for necessary improvements in products and services. However, such surveys can be easy to manipulate and are typically measured at the selling point while nothing is said about retaining the customer. Therefore customer loyalty is a more important measure than what customers say about their satisfaction, this can be accomplished by analyzing repurchase patterns based on internal databases.
Supply chain performance measures are also important, since supply chain performance is an important contributor to customer value. Supply chain performance can be measured by looking at:
- Total supply chain management costs, this includes the total cost to manage order processing, acquire materials, manage inventory, and manage supply chain finance and information systems.
- Cash-to-cash cycle time, the number of days between paying for raw materials and getting paid for product, as calculated by inventory days of supply plus days of sales outstanding minus average payment period for material.
- Upside production flexibility is the number of days required to achieve an unplanned sustainable, 20 percent increase in production. The main constraint is material availability and not internal manufacturing or labor constraints.
- Delivery performance to request is the percentage of orders that are fulfilled on or before the customer’s requested date.
Finally, information technology has produced many valuable benefits for customers and businesses, the book mentions the following three:
1. Customer benefits
Customer Benefits: Exchange of information between customers and businesses. The opening of the information boundaries between customer and company is part of the new customer value equation, where the information is part of the product. The Internet has expanded these capabilities and allows users to access their accounts and perform transactions from any location at any time. In addition the Internet had some less obvious effects, such as the increased importance of intangibles (for example brand names and community experiences with the products, because even high-priced products are ordered over the Internet nowadays), the increased ability to connect and disconnect (in other words, the increasing availability of information, reduces the need to develop long-term trust relationships), increased customer expectations, and the ability to provide each customer with a tailored experience/product.
2. Business benefits; Use of information by companies to learn more about customers so that they can tailor their services.
3. Business-to-business benefits Sharing information, data and standards between companies in order to smoothen operations

Chapter 13: Smart Pricing

Strategic Pricing
Pricing is an important tool to impact demand level to some extent. By increasing the number of different prices charged to the customers (=price differentiation), a company can increase the revenue through the use of Revenue Management. Revenue management, which integrates pricing and inventory strategies to influence market demand, provide controls for companies to improve the bottom line. Revenue Management is frequently described as “selling the right inventory unit to the right type of customer, at the right time, and for the right price”. A number of characteristics are common to Revenue Management applications, these are the existence of perishable products, fluctuating demand, fixed capacity of the system, segmentation of the market bases on sensitivity to price or service time, and products sold in advance. A challenge of this is to make people or companies (in a particular class), that can afford a higher price, spend a higher price for the same product. This can be done by building fences between the various classes of customers. An example are airline customers. Airline customers can be classified into two segments:
Business travelers: highly sensitive to the duration of the trip but not that sensitive to price, need high flexibility.
Leisure travelers: highly sensitive to price but not that sensitive to the duration of the trip, don’t need high flexibility.
This can be seen in the graph below (table 10-1 book):
 

Airlines build fences to prevent business travelers from moving from the top-left box to the bottom-right box. This is done by requiring weekend stays and early booking. Of course, the more fare classes, the more fences need to be built between the different market segments.
Two different but complementing pricing approaches are used:
Differential Pricing: the objective is to distinguish between customers according to their price sensitivity. Dell does that by distinguishing between private consumers, small or large businesses, government agencies, and health care providers. This can also be done via:
Mail-in rebates: helps to differentiate between customers based on their sensitivity to price. This is done by adding a significant hurdle to the buying process; to receive the rebate, you have to complete and mail the coupon to the manufacturer. The assumption is that those customers willing to pay the higher price will not necessarily send the coupon. Of course, the problem with that assumption is that unlike traditional revenue management techniques, mail-in rebates do not incorporate fences that will prevent customers willing and able to pay the higher price from sending their coupon back and claiming the discount, the manufacturer influences customer demand and provides an upside incentive to the retailer to increase its order quantity. Indeed, by intro­ducing the rebate, the effective price paid by (some of) the customers to the retailers is reduced and hence the retailer faces a higher demand level. Thus, the retailer's profit increases. Of course, the increase in demand forces the retailer to order more from the manufacturer. By selecting the rebate appropriately, this increase in order quantity more than compensates for the rebate and, hence, it implies an increase in the manufacturers expected profit.
Group pricing: the practice of giving discounts to specific groups of customers (for example seniors and students), these types of discounts will work only for groups in which there is a correlation between group members and price sensitivity.
Channel pricing: is the practice of charging different prices for the same product sold through different channels, this will work only if customers who use different channels have different price sensitivities.
Regional pricing: is the practice of exploiting different price sensitiveness at different locations. Beer, for instance, is much more expensive in a typical stadium than in a bar.
Time-based differentiation: refers to the practice of charging different price rates for different delivery times, this is a technique to segment price-sensitive customers and customers who are more delivery-time sensitive.
Product versioning: the practice of offering slightly different products in order to differentiate between customers with different price sensitivities, this may take the form of branding or the adding of additional features. These minor differences may sell at a significantly higher price, although they cost very little more to manufacture.
Dynamic Pricing: changing prices over time without neces­sarily distinguishing between different types of customers. This has been employed for ages, but has traditionally been used only for sales or promotions. For example, fashion clothing retailers may offer discounts later in the season to reduce inventory and this discount is the same for all customers at a given time. The current wave of smart pricing applies this strategy to the manufacturing environment by using price as a tool to better match demand and supply. Firms might also offer periodic sales (even if they are not getting rid of excess inventory) to distinguish between high- and low-reservation-price customers. The focus here is on adjusting the aggregate demand from period to period as the situation in the supply chain changes; in periods where systemwide capacity is high, or a large amount of transportation capacity is available, for example, it may be profitable to increase the demand level. This requires execu­tives in the front-end of the supply chain to have complete visibility into the back-end of the supply chain-to suppliers' inventory-as well as into their own production schedule.
The key challenge when considering dynamic pricing strategies is to identify conditions under which this strategy provides significant profit benefit over (the best) fixed-price strategy:
Available capacity: Assuming everything else is equal, the smaller the produc­tion capacity relative to average demand, the larger the benefit from dynamic pricing.
Demand variability: The benefit of dynamic pricing increases as the degree of demand uncertainty, measured by the coefficient of variation, increases.
Seasonality in demand pattern: The benefit of dynamic pricing increases as the level of demand seasonality increases.
Length of the planning horizon: The longer the planning horizon, the smaller the benefit from dynamic pricing.
Research has shown that dynamic pricing can increase profit by 2 to 6%. This increase in profit due to dynamic pricing is very significant for industries with low profit margins, for example, retail and computer industries. The Internet made the following developments possible in dynamic pricing:
A)    Menu cost; the cost that retailers incur when changing the posted price is much lower on the Internet than in the offline world.
B)    Lower buyer search price, which is the cost that buyers incur when looking for a product. The lower buyer search forces competition between sellers, and hence leads to a focus on smart pricing strategies.
C)    Visibility to the back-end of the supply chain, makes it possible to coordinate pricing, inventory, and production decisions.
D)    Customer segmentation. -> Using buyers’ historical data is possible on the Internet and very difficult in conventional stores.
E)    Testing capability. -> Testing pricing strategies is possible, due to low menu costs an online seller may test a higher price on a small group of the site visitors and use those data to determine a pricing strategy.
 

Chapter 14: Information Technology and Business Processes

There are four categories of business processes:
Level 1. Disconnected processes are characterized by the proliferation of many independent processes. Companies are organized functionally with no or a low degree of integration. Supply chain planning is typically done for each site independently of other sites.
Level 2. Internal integration occurs if companies are organized functionally, with a high degree of integration. Decisions are made through the integration of key functional areas. Common forecasts are applied through the organization.
Level 3. Intracompany integration and limited external integration. At this level, companies are cross-functionally organized. Organizations at this stage involve key suppliers and customers in decision-making processes.
Level 4. Multi-enterprise integration. Organizations at this level apply multi-enterprise processes, use common business objectives and have an extensive knowledge of the suppliers’ and customers’ environments. Collaboration links trading partners and enables them to operate as one virtual corporation.
These four different categories need to be supported by a corresponding information technology infrastructure; these are the four different categories of IT systems applied in the study:
Level 1. Batch processes, independent systems, and redundant data across the organization.
Level 2. Shared data across the supply chain. Decisions are made using planning tools that apply data across the supply chain.
Level 3. Complete visibility of internal data. Key suppliers and customers have access to some of these data.
Level 4. Data and processes are shared internally and externally.
Information Technology (IT) is an important enabler of effective supply chain manage­ment. Supply chain management spans the entire enterprise and beyond, encompassing suppliers on one end and customers on the other. Additionally, supply chain management typically spans many functional areas within a company and is affected by the way the various groups communicate and interact. Thus, in this part we will also discuss topics that relate to company IT infrastructure, supply chain applications, and inter-company communications. For many firms, IT provides a competitive advantage. Though this has been true for some time in service industries such as banks, it is also becoming more relevant for firms such as large retailers, airlines, and manufacturers. Indeed, as when applying supply chain strategies that reduce cost and lead times and increase service level, the timeliness and availability of relevant information are critical. In addition, an increasing number of companies are providing value-added IT-based services to their customers as a way of differentiating themselves in the marketplace and developing strong long-term relation­ships with their customers. Of course, once these kinds of services are offered by even one company within an industry, they can very quickly become a basic requirement for all others.
Supply chain management system goals for IT are as follows:
Collect information on each product from production to delivery or purchase point, and provide complete visibility for all parties involved. The availability of information regarding the status of products and material is the basis on which intelligent supply chain decisions can be made. Furthermore, it is not sufficient to simply track products across the supply chain; there is also a need to alert diverse systems to the implications of this movement. This goal requires standardization of product identification across companies and industries.
Access any data in the system from a single point of contact. Ideally, everyone who needs to use certain data should have access to the same real-time data through any interface device.
Analysis based on supply chain data especially in a way that takes into account the global supply chain picture. In addition, the information system must be utilized to find the most efficient ways to produce assemble, warehouse, and distribute products – in other words, the best way to operate the supply chain. To facilitate this, systems need to be flexible enough to accommodate changes in supply chain strategies.
Collaborate with supply chain partners. Collab­oration allows companies to manage uncertainty, for example, through risk sharing or information sharing, and achieve global optimization.
The four goals of SCM do not all have to be achieved at the same time, and are not necessarily dependent on each other. They can be targeted in parallel, with the order of importance depending on the industry, company size, internal priority, and return on investment considerations. How are the four major goals achieved? More importantly, what is the impact of achieving these goals on the logistics manager?
1.    Standardization.
2.    IT infrastructure.
3.    Electronic commerce.
4.    Supply chain system components.
5.    Integration-related issues.
Decision-support systems range from spreadsheets, in which users perform their own analysis, to expert systems, which attempt to incorporate the knowledge of experts in various fields and suggest possible alternatives. The appropriate DSS for a particular situation depends on the nature of the problem, the planning horizon, and the type of decisions that need to be made. Different systems typically support the strategic, tactical, and operational levels. Some of the supply chain components predominantly support one level, while others may support more than one, depending on how they are defined and utilized.
To successfully use a DSS, appropriate performance measures need to be selected; DSS interfaces usually allow the user to select the relative importance of different objectives. Once data have been collected, they must be analyzed and presented. There are two main ways to analyze the data. The first is using business analytic tools that are general-purpose methods on data that are extracted from ERP and other systems. These systems often use the following techniques: queries, statistical analysis, data mining, and online analytical processing (OLAP) tools. The second way to analyze the data is to use DSS that provide specialized interfaces that display and report based on the specific problem being solved. These systems typically use the following type of analytics: calculators, simulation, artificial intelligence (AI), and mathematical models and algorithms.
The main IT capabilities required for supply chain excellence as well as the relationships between them, are grouped into four layers:
1. Strategic network design allows planners to pick the optimal number, location, and size of warehouses and/or plants, to determine optimal sourcing strategy and the best distribution channels.
2. Tactical planning determines resource allocation over shorter planning periods such as weeks or months. These systems include supply chain master planning and inventory planning.
Strategic network design and tactical planning collectively represent the network planning process.
3. Operational planning systems enable efficiencies in procurement, production, distribution, inventory, and transportation for short-term planning. The planning horizon is typically daily to weekly and the focus is on one function. Therefore, these systems focus on generating feasible strategies, not optimized solutions, because of the lack of integration with other functions, the detailed level of the analysis, and the short planning horizon. This system includes four components: demand planning, production scheduling, inventory management, and transportation planning.
4. Operational execution systems provide the data, transaction processing, user access, and infrastructure for running a company.  These systems tend to be real-time and include the following five components: ERP, customer relationship management, supplier relationship management, supply chain management systems, and transportation systems.
The differences between the above-mentioned four layers of capabilities are in the planning horizon, the return on investment, the implementation complexity.
Sales and operation planning (S&OP) is a business process that continuously balances supply and demand. It is cross-functional integrating sales, marketing, new product launch, manufacturing, and distribution into a single plan and typically involves analysis of aggregated volume such as product families. The key is the integration of the different activities into the S&OP process. The first element is the traditional demand planning for product profiling and forecasting. The second is the supply planning for internal and external capacity checking. The third element is inventory planning to determine overall inventory targets and perform safety stock optimization and service level optimization. S&OP is focused on alignment of supply and demand as well as direction setting.
Supply chain IT solutions consist of many pieces that need to be assembled in order to achieve a competitive edge (they include infrastructure (ERP) and various systems to support decision making (DSS)). Two extreme approaches can be taken: the first is to purchase the ERP and supply chain DSS as a total solution from one vendor; the second is to build a “best of breed” solution, which purchases the best-fit solution in each category from a different vendor, thus producing a system that better fits each function in the company. While the best-of-breed solution is more complex and takes longer to implement, it may be an investment that provides greater long-term flexibility and better solutions to the company’s problems. Of course, the long period of implementations also can cause the solution to be less useful at the end and cause difficulty maintaining IT staff and enthusiasm for the project. Many companies choose an interim approach that includes a dominant ERP provider; the functionality that cannot be provided by the vendor, or does not suit the company, is provided through best-of-breed or in-house systems. Finally, there are companies that still prefer in-house, proprietary software development. This probably makes sense for extremely large companies with expert IT departments and systems that already serve the company well.
Finally, not the following; an ERP implementation is typically much longer than a DSS implementation. The value of an ERP system to the enterprise involves the first two goals -visibility and single point of contact- and, while these can imply improved operations, DSSs impact the ability to perform strategic and tactical planning as well. This means that DSS projects have a much better ROL Finally, DSS installations are typically cheaper and easier to implement and they affect a smaller number of highly trained users compared with those of an ERP system, which has a large number of users who require less extensive training.

Chapter 15: Technology Standards

Standardization of processes, communications, data, and interfaces bring about cheaper and easier methods to implement the basic infrastructure. IT standards are what allow systems to work together. They drive the cost and sometimes the feasibility of implementation. IT infrastructure will become more accessible for companies of any size and in the future will work across companies in an almost seamless way.
This will allow access to IT and integration of the systems at every level of the supply chain- therefore; there will be more information and tracking of products at each level. New technologies such as Auto-ID will allow products to be tagged and tracked through the supply chain and will be as easy to locate as a Federal Express package. The IT field is evolving to a high level of standardization for the following reasons:
Market forces: Corporate users need standards in order to reduce the cost of system development and maintenance.
Inter-connectivity: The need to connect different systems and work across networks has pushed the development of standards.
New software models: The internet has produced the need for network software that has new purchase, development, and deployment characteristics.
Economies of scale: Standards reduce the price of system components, development, integration, and maintenance.
The standardization of IT has gone through four major phases:
1. Proprietary. Until the early 80’s it involved mostly mainframe computers that were accessed through keypunches and later terminals with no processing capabilities. There was little communication between systems with few options such as private networks or physical media.

2. Stand alone. As an outgrowth of the popularity of PCs, the client/server was developed, integrating PC capabilities and standards with business systems, by applying the PC computing power to create a more sophisticated client-controlled interface.
3. Connected. The Internet provided the missing link in communications and display standards beyond the local network. The Internet also created a standard and accessible interface and spread to universities, individuals, and later industry. Another benefit of the Internet was that it enabled forms of communication that hitherto existed internally in many companies to work across companies and to become as ubiquitous as phone calls. Simultaneously many companies replaced their legacy systems with client/server-based ERP systems (out of the year 2000 fears), which have become the standard backbone of company IT.
4. Collaboration. This phase is still in development, it will entail a more sophisticated form of communication between companies, and the technology to support this phase is built around SOA and BPM.
There are, however, also a few drawbacks and challenges regarding standardization:
Availability: Problems surround the cost of creating a standard and the power of those who hold standards, especially if these standards are proprietary. Proprietary standards are problematic because they may not necessarily be the 'best' standards, just those belonging to the most powerful company.
Security: The easy access to the Internet exposes systems that are connected to attacks by hackers and conceivably industrial spies. In addition, there are inherent security issues that arise when everyone is running the same software: if someone finds a problem or takes advantage of a security flaw, he or she can access or bring down every system of the same type.
Scalability: Standards that work in a certain context or size of problem may not be adequate for a different set of industries or for a large number of users.
IT infrastructure
The IT infrastructure is a critical factor in the success or failure of any system implementation. The infrastructure forms the base for data collection, transactions, system access, and communications. The IT infrastructure, whether internal or external to a company, is a basic component of system capabilities. Without the communications and database capabilities, some of the goals outlined cannot be achieved. Data display and access in various forms are becoming more integrated in systems that do not require any specialized knowledge. This makes system interfaces more intuitive and relevant to the task at hand.
IT infrastructure typically consists of the following components:
Interface/presentation devices
Some of the interface devices most commonly utilized are personal computers, voice mail, terminals, Internet devices, bar-code scanners, and personal digital assistants (PDAs). A key trend in IT is toward uniform access capability anytime and anywhere, and interface devices clearly play a major role in this area. Interface devices are connected to either an internal system (e.g., LAN, mainframe, intranet) or an external network -either a private company network or the Internet. The Internet browser is fast becoming the interface of choice for information access, although it is still not as sophisticated as Windows in displaying forms and graphical data. In addition, other devices such as PDAs and phones are also competing as access devices to user systems.
Supply chain management requires a standard way to track products in order to provide participants with the information they need to perform efficiently. For instance, it is important to record point-of-sale information, especially if these data are accessible by the supplier, as in vendor-managed inventory systems.
The Uniform Code Council created the bar code system, Universal Product Code (UPC) and it has been used extensively for scanning and recording informa­tion about products. Communications
Advanced communications capabilities enable many applications, including:
Electronic mail (e-mail)
Data exchange
Groupware
Transportation product tracking
Supply Chain Event Management (SCEM) systems
Exchange platforms
Databases
Some types of databases include:
Legacy databases.
Relational databases.
Object databases.
Data warehouses.
Data marts.
Groupware databases.
System architecture
System architecture encompasses the way the components -databases, interface devices, and communications- are configured. Legacy systems evolved as departmental solutions using mainframe or minicom­puters that were accessed through 'dumb' terminals Client/server computing is a form of distributed processing whereby some processes are performed centrally for many users while others are performed locally on a user's PC. The power of the client/server concept is in distributing functions among specialist servers that perform them efficiently; it is also easier to add new modules and functions. The disadvantage is the added complexity of navigating between servers and making sure that data are processed correctly and updated across the network. The applications that reside between the server and the client are collectively called middleware, literally the slash (/) in the term client/server. These are tools that facilitate communication between different system architectures, communication protocols, hardware architectures, and so forth.

Electronic commerce
Electronic commerce (E-commerce) refers to the replacement of physical processes with electronic ones and the creation of new models for collaboration with customers and suppliers. Electronic commerce has been the most important emerging IT field in the last few years. It has enabled not only internal efficiencies but also the ability to collaborate with partners in the supply chain. Electronic commerce is changing the way we work, interact, and do business (both between and within companies). E-commerce provides an interface to businesses and government that allows meaningful data comparison, and transactions that follow through with error checking and correc­tion capability.
It enables access to data that exist in government, educational, and private databases and the ability to modify or correct these data. Private (and public) e-marketplaces now allow buyers to integrate their suppliers into their information sys­tems. In the future, businesses will be able to expand their inter-company transactions into more sophisticated applications that can perform some basic processes and pass the information on to other applications. In a process as complicated as supply chain management, systems that not only perform their own function but also alert others in the system will be especially beneficial to fulfill the four goals we have outlined.
There are various levels of e-commerce depending on the sophistication of the trans­action and the level of data interchange:
Level 1-One-way communication.
Level 2-Database access.
Level 3-Data exchange.
Level 4-Sharing processes.
Service-Oriented architecture (SOA)
SOA is defined as “a standards-based approach to managing services, made available by different software packages for business process orchestrations that delivers flexible reuse and reconfiguration.” The importance of SOA is that it is the architecture adopted by all the majors business software vendors as the base of their development tools and platforms and is also used widely by systems integrators to develop custom applications. SOA has three valuable contributions:
1. SOA-based integration uses standards and the business process execution language that makes maintenance much simpler and easier to learn.
2. Composite application development. The use of business process management (BPM) to develop a top-down approach to application development and the composition of ready-made components that are reusable and have built-in integration (services) make them easy to use and maintain.
3. Modernizing legacy applications. Using SOA, companies can define the business processes and start separating the business logic from the application.
To conclude, the main elements of SOA are:
1. It is an application architecture with standard ways to integrate services.
2. Services are defined using a standard description language and have evocable interfaces.
3. The services can be part of business processes and there are applications that help users describe these.
4. Processes, transactions, and special functional components all have to be exposed as services, allowing composite, diverse applications to be exposed as well.
5. Each interaction should be independent of each and every other interaction and the interconnect protocols of the communicating devices. This allows for diverse platforms that can be integrated.
SOA will allow business users to combine information from various applications and use it for analysis or collaboration. This is particularly important in SCM, where the information required typically spans several applications and companies.

Radio Frequency Identification (RFID)
RFID is a technology that deploys tags emitting radio signals and devices, called readers, that pick up the signal. The tags can be active or passive, that is, they either broadcast information or respond when queried by a reader. They can be read-only or read/write and one-time or reusable. They can be used to read an electronic product code (EPC), a unique number that identifies a specific item in the supply chain, as well as to record information in order to direct workflow along an assembly line or to monitor and record environmental changes. RFID is supposed to increase supply chain efficiency through better visibility and the acceleration of processes in the supply chain.
Two important drivers motivate companies to start experimenting with RFID applications. One is the mandate by some major channel masters and procurement agencies and the second is the immediate benefits that can be gained form implementing the technology. An important decision that suppliers and manufacturers need to make when considering RFID is the level of implementation (pallet/case or individual item).
The true advantage of RID information over POS data (taken from cash registers, measure what is actually sold, the historical data used by many demand planning tools to forecast demand. Unfortunately POS data do not measure real demand because of lost sales due to out-of-stock items) is that lost sales can be quantified. Since the retailer knows what is sold, what is in inventory, and when the shelves are not stocked, it will be possible to determine realized demand based on actual sales plus lost sales.
RFID implementation will improve both the accuracy and speed of data collection. The accuracy is achieved through reduction of errors in scanning as well as better prevention of theft, diversion, and ability to efficiently track expiration dates for spoilage. The speed is related to less handling required, ease of performing an inventory count in a facility through multi-object scanning, and so on. This combined with new processes will lead to an acceleration of the supply chain that will result in new supply chain efficiencies. Retailers are expected to be the main beneficiaries of RFID implementation, and are expected to benefit in three areas: (1) Reduced inventory, (2) Store and warehouse labor reduction, (3) Reduction in out of stock. In the long term, both manufacturers and retailers will benefit from significant reduction in the bullwhip effect, this will not only allow reduction in inventory levels but also lead to better utilization of resources. At the same time, reduction in the bullwhip effect also benefits retailers as service levels are improved. Indirectly, manufacturers will benefit from reduction of out of stock by retailers.
Information received from RFID systems throughout the supply chain can provide almost instant real-time visibility of inventory and in-transit product status. This can help improve the performance of inventory, transportation, and replenishment systems that rely on this information. However, it is not always wise to respond in real time to every event, because of the possibility to replenish demand from a nearby facility or through an emergency shipment. More importantly, supply chains possess setup time and cost, long lead times, and significant economies of scale in manufacturing and transportation that make reaction to individual demand triggers impractical.