Supply Chain Management
from the Logistic and Finance Perspective
How many Financial Directors seek to lead their organisations call for "Competitive Advantage"? How many Logistics Directors lead the continuous drive to cost reduction? Do both groups perceive that they have different roles within the organisation? Logistics people are keen to apply the latest techniques in Supply Chain Management in order to establish or emphasise their company's competitive strengths. Financial colleagues are often involved in many such processes that attempt to implement wholesale changes - such as implementing a new software package. In the late 1980's their involvement, on many occasions, went little further than 'signing the cheque'! Their involvement on the project went no further than a review of the identified costs of the project, together with current capital resource plans.
Today the story is different. Several things have changed. Economically we are more nervous of embarking on large projects that are not clearly defined. The emphasis on 'team play' within organisational theory has meant that we have need of achieving corporate buy-in at the highest level - including Finance. The implications are that we can only achieve successful buy-in with a widening of the knowledge base. Supply Chain Management has also undergone a transformation over recent years. Whilst not being a new concept, we can now begin to realise the benefits we have all been seeking because the technology available today actually supports integrated Supply Chain Management.
Back in the early 1970's information was viewed as the prerogative of Data Processing - e.g. the initial round of the 'first timer' M.R.P. implementations. It was a priority to keep all valuable information within the confines of our business. Never should we share our forecasts with our suppliers! This approach lead to the establishment of barriers - barriers to information sharing and barriers to success. Later, the need for information matured (M.R.P. II and D.R.P.). I worked for one engineering company that implemented what we called "Vendor Scheduling". This implied the sharing of previously "confidential" information (forecasts etc.) and the elimination of paper purchase orders. We used electronic devices to confirm system generated orders. The result of this was a localised focusing of benefits that included lead or cycle time reduction and inventory holding reduction. This was a localised benefit because we were operating at only one level of the supply chain. Other levels linked to our supply chain were fighting their own battles.
Today, the maturity of the 1970/80’s has been complemented with a solid, robust industry in COMMS software (Customer Oriented Materials Management Software). In this sense business process re-engineering has been the vehicle to facilitate the change in working practices required to implement such systems. Today cycle time reduction benefits can be shared across the whole supply chain, so that the end customer gains the true benefit. In terms of financial impacts on the business, one only has to look at the application of ‘safety stock’, or that amount of inventory each company requires to keep in stock to protect against forecast error, to ensure a level of customer service.
Each company would, historically, forecast what their ‘customer’ would order. Each forecast implied a forecast error, and therefore a level of safety stock. This meant that inventory was stuffed into every conceivable location within the supply chain - that is a lot of money! With the recognition of what Supply Chain Management can achieve, many companies are realising massive benefits by reducing, and in some cases removing, safety stock levels. Such inventory savings, and consequent cycle time reduction, are widespread. The following diagram shows where these forecasting systems and safety stocks were maintained for a retail model:
What SCM recognises is the differentiation between Planning and Execution systems. Execution systems are those that control the physical movement and accounting of inventory. Such systems typically include [Customer] Order Processing, Inventory Control, Shop Floor Control, and Purchasing. These systems have been around in formal, computerised form for many years. Indeed, many organisations have implemented these several times over.
In the last 20 years Manufacturing Requirements Planning (M.R.P.), and later Manufacturing Resource Planning (M.R.P.II), were also formalised into computer software. There is much literature that describes its apparently few successes and numerous failures - but that is subject enough for another paper! The point is that the emphasis shifted quite dramatically in the 1970’s to the ‘planning’ process - the provision of inventory prior to the realisation of customer demand in the already present execution systems.
Today the emphasis is to focus more on the underlying components of the planning process- e.g. Forecasting, Inventory Planning and Distribution Requirements or Resource Planning. These processes operate in a totally integrated way to generate valid replenishment schedules in a distribution environment. This environment covers those organisations that operate single tier, single location plants to the more complex multi-level, multi-location, multi-country operations. The principle is that, however big your operation, DRP is the driving ‘chain’ in the Supply Chain.
Certain key elements are brought together in the planning process. These include some level of end-item forecasting; finished goods inventory planning; and, of course, D.R.P. The forecasting process is automated as much as possible, so that the user has only to get involved in the bringing together of marketing and system information. The system generates the initial plans, and the user brings ‘people’ knowledge, such as marketing plans, to further improve them. In inventory planning we are communicating to the supply chain the policies and targets that management are setting in terms of inventory holding: this includes minimums, maximums, order multiples, desired service levels, unit price, sources and associated lead times, and so on.
The output of the inventory planning process is a time-phased plan of inventory targets - of which Safety Stock is but one. In the following slide you can see a time-phased view of inventory, with the application of a safety stock policy:
The application of the forecasting process against time, coupled with a view of current on-hand inventory provides for a time-phased view of planned inventory. This netting process can be extended over any business required horizon. Indeed, it will highlight over the required horizon when an items planned inventory would, all other things being equal, fall below the safety stock. This process will generate a DRP planned order receipt. By deducting from this date the replenishment lead time, we can determine when the order needs to be shipped from the source location. The whole point of the process is to prevent an item’s inventory falling below its safety stock. This ensures that your desired customer service level is effectively planned.
Traditionally the output from a DRP process would be a suggested purchase order. This might be instead a manufacturing or transfer (inter-company) order. The use of Electronic Data Interchange has further enhanced the benefits that can be realised within an integrated supply chain. Because the whole procurement process is automated, there is physically less paper (and subsequently) more accurate data interchange. In terms of one number planning, the D.R.P. output can be aggregated in different ways, and multiplied by different units of measure, to gain an appreciation of other related issues with distribution; such as warehouse space requirements; truck scheduling; capacity constraints etc.
An integrated DRP process requires visibility of inventory. If your supply chain spans Europe, so the DRP system needs the visibility of where the inventory is, and if it is available for Supply Chain Planning. This falls in line with accounting requirements - since an accurate inventory file (on-line) can satisfy the financial requirements for auditing purposes. From the logistics perspective this means that wherever you are located, your "window on the world" will provide you (and your DRP system) with a real-time view of inventory status - such as available or on-hold.
With the advent of powerful technology, such as the 486, Pentium and RISC processors, we can now support real business requirements for Supply Chain Modelling. By modelling a section of the supply chain in a controlled environment we can evaluate different inventory policies, different source routings and varying levels of business. The ability to aggregate forecasts and DRP recommended orders based on different alternative units of measure make for truly effective Sales and Operations Planning: a tool to model the behaviour of the business at a high, aggregate product level. Indeed, this aggregation tool should be a component of the forecast generation process. By aggregating historical demand in meaningful groups, one should gain a more stable view of demand over time. By generating forecasts against this higher level we should make a gain on forecast accuracy - which we can allocate to lower level Stock Keeping Unit (SKU) forecasts.
In the above diagram you can see a view of a key Supply Chain Planning process - that lets you validate a procurement / shipping plan prior to release. The planning systems today have very little integration with the financial systems. Execution is typically all about ‘transaction processing’. However, a number of industry trends are clear to see:
In terms of a summary it would be fair to say that both Logistics and Finance have typically been on different sides of the table. We used to think that if each functional department met their own objectives, the overall objective of the company would be met. We all know by now that this is not the case. Only by reconciling each functional goal at the highest level can we achieve such a high ideal. The recognition of the invaluable part that finance can play in understanding what software the logistics group require means that the buy-in process is more complete. This means that the project has a better chance to succeed, which means the benefits should be realised and maximised. That is what we believe, and we trust our customers feel likewise.