The Profitable Supply Chain: A Practitioner’s Guide (2015)
Chapter 8. The Evolving Supply Chain
Almost every industry has experienced one or more significant changes in the last few decades, driven by changes in the areas of manufacturing, fulfillment, technology, and the customer experience. One such example is the Toyota Production System (TPS), also referred to as just-in-time production (JIT). Introduced by the automotive manufacturer Toyota, TPS was instrumental in changing the approach toward managing the flow of material in the factory, based on goals of reducing waste, such as over-production, machine or operator wait time, raw material inventory, and rework or scrap. By employing TPS, Toyota greatly reduced lead time and costs, while improving product quality. TPS is regarded as the precursor to lean manufacturing, and has had an enormous impact on the automotive industry in particular and manufacturing in general.
Dell Computer Corporation similarly transformed the computer industry with the use of a direct sales model. By connecting directly with customers, Dell was better able to understand specific needs and provide the most effective computer system to meet those needs. Also, by connecting directly to customers and suppliers, Dell obtained the benefits of a tightly coordinated supply chain normally associated with vertically integrated companies. From its inception in 1984, the company was able to grow at roughly five times the industry rate in its first 14 years, illustrating the scalability enabled by the direct model.
Dell successfully incorporated the Internet into the model by providing configurable solutions, customer-specific pages, and a wealth of information. In addition, the company used the Internet to connect to its top twenty suppliers in order to exchange information rapidly related to capacities, capabilities, inventory in the supply lines, component quality, and cost structures. This has allowed the company to reduce inventories significantly, an important achievement in an industry that experiences significant price erosion and component obsolescence.
The extraordinary success of the business model is apparent in the financial results, with 1998 revenues of $12 billion and 2008 revenues of $61 billion. However, even when a company has experienced significant success, it is necessary to constantly monitor the market environment and make adjustments to the model. Indeed, Dell alludes to such a situation in its 2008 annual report:
Consumer Segment: Revitalizing our U.S. consumer business was a key priority this year. We made a number of changes aimed at increasing growth in unit shipments, revenue and profitability. By year end, we were pleased with the overall momentum and innovation we achieved in this important segment.
Against a backdrop of intense competitive pressure, particularly in the lower-priced desktops and notebooks, we evolved our consumer business model and have entered into a number of retail partnerships worldwide to complement and extend our existing direct business. By the end of fiscal 2008, Dell was available in more than 12,000 retail outlets, giving customers more choice than ever. We also introduced a number of new products to appeal to consumers, recognizing the increasing importance of product personalization, from product appearance to the ability to see and buy products wherever customers want.
—Dell Computer Corporation, 2008 Annual Report
Dell created the original direct sales model for a particular market environment and consumer profile. The excerpt above reflects the impact of competition and product preferences on the business, compelling the direct sales model be augmented by a traditional retail outlet model.
Taiwan Semiconductor Manufacturing Corporation (TSMC) is a company that pioneered the outsourced manufacturing business model in the semiconductor industry. Up to the 1980s, the semiconductor industry was vertically integrated, with companies performing research and development, wafer fabrication, chip manufacturing, assembly, and testing. With the cost of setting up a wafer fabrication facility of the order of several billion U. S. dollars, only the largest companies could compete. This landscape changed when TSMC established a wafer fabrication facility (also referred to as a foundry). Research-oriented “fabless” companies were now free to focus on design and innovation and could utilize a portion of TSMC’s manufacturing capacity to deliver products at a competitive price. This revolutionary business model allowed TSMC to grow revenues at an extremely rapid pace, from inception in 1987 to over $300 million (U.S. dollars) in 1993, over $1 billion in 1997, and over $20 billion in 2013.
These are just a few examples of companies that have taken advantage of advances in systems, operating models, and customer interactions in order to gain an edge over the competition or even change the industry. What kind of advances in the future will provide such opportunities? The answer to that question is uncertain, but the next section offers several examples of trends that with disruptive potential.
Developments in Information Systems
Prior to the Internet, companies predominantly relied on product sales data and second-hand information regarding demand to make important business decisions. With the advent of the Internet, there has been an explosion in the amount of information that is available. As companies increasingly rely on external information for making decisions, the chance of being blindsided by unforeseen events has decreased. Demand planning will be greatly impacted by this trend, being highly dependent on external conditions. The increasing availability and timeliness of useful economic data collected by governments and agencies is already occurring. It is only a matter of time before the use of this data in the forecasting process becomes commonplace. Similarly, environmental factors, including weather and accessibility, will be useful for adjusting the timing of supplies and inventory levels. Competitive activities such as promotions and new products are a source of much surprise in the current environment. Increasingly, the speed with which the news and details of these actions become available will increase, allowing companies to respond rapidly. Another rich source of information is the consumer loyalty program, which provides data related to consumer-level information on usage, preferences, and impending needs.
Similarly, inventory management will continue to increase the amount of information analyzed in order to reduce supply disruptions, lead times, and cost variances. Methods for tracking goods in production or in-transit have already found widespread use, with information being displayed to the customer for build-to-order products. In addition, use of information that can influence delivery of supplies may become commonplace, such as weather and regulatory changes.
Radio-frequency identification (RFID) is a data retrieval method that uses RFID tags to store data and an RFID reader to retrieve data. RFID is similar in concept to barcodes but with a number of important differences. RFID readers do not require a direct line of sight, as opposed to barcode readers. The reading range is significantly more for RFID (up to 300 feet for RFID versus approximately 15 feet for barcodes). RFID is more rugged and can be protected in a plastic cover, whereas barcodes need to be exposed on the outside of the product. Finally, RFID tags have read and write capabilities, allowing readers to alter the information on the tag. Adoption of RFID will no doubt continue, with the primary focus on monitoring inventory in the supply chain. Over time, it is possible that the use of such sensing technologies, combined with advances in other areas, will have a steadily increasing impact on delivery and on the customer experience.
Along with the gathering of data, improvements in the presentation of information will help manage complexity due to large number of dimensions and data volumes. These improvements will probably come from advances in user interface technology and devices, as well as contributions from the sciences of data graphics and statistical analysis.
Systems have traditionally been developed and deployed on a personal computer for single users or on a server with client access for multiple users. With Internet and intranet applications, this has gradually been replaced by web servers and browser clients, allowing for ready access across a broader client base. The increase in the number of supply chain software as a service delivered over the Internet is termed as the software-as-a-service (SaaS) model, and promises to provide companies with easy access to new capabilities that can augment enterprise systems. In this model, the service provider bears the onus of software development and maintenance and makes the application available over the Internet for a monthly or annual fee. As a result, companies can experiment with and implement new ideas at a fraction of the cost associated with enterprise systems. In return, service providers will be provided with shorter sales cycles and more predictable revenue streams.
The specific models for delivery of software services will depend on the nature of the application. The application service provider (ASP) model delivers software hosted on the Internet to a single customer; this single instance being required to circumvent data sensitivity or scale issues. In contrast, on-demand software will tend to offer the service to many customers on a single server (a multi-tenancy model). While this model reduces the cost associated with software, there are some real challenges to be addressed. These include security, system responsiveness, monitoring and restoring the service in case of an outage, and support for fixing issues and incorporating enhancements. These significant challenges will take time to address and may retard the speed of adoption. Two successful examples of such offerings are Salesforce.com and GT Nexus. Salesforce.comprovides customer relationship management (CRM) software for a company’s sales organization to manage its leads and the ordering process. Widespread acceptance of this company’s on-demand offering has resulted in phenomenal revenue growth, from approximately $20 million in 2002 to over $3 billion in 2013. The on-demand software provided by GT Nexus is targeted toward providing transparency in the often complex multi-modal and cross-border transportation segment, and is gaining acceptance among importers, exporters, and logistics providers. Clearly, both these offerings target areas characterized by significant activity that occurs outside the company’s domain. Over time, increasing maturity of the delivery model will allow additional areas to be offered on-demand.
Developments in Production and Fulfillment
The predominant trend in manufacturing in the last decade has been outsourcing and offshoring, with the promise of lower labor costs and access to flexible capacity. However, growing wages in established manufacturing countries, along with rising fuel prices and growth of new markets in developing countries may result in the movement of manufacturing bases to new countries closer to demand (commonly referred to as near-shoring). Since this will present many operational challenges due to differing cultural policies and infrastructures across countries, the importance of contract manufacturers with a presence in several countries may become an important consideration in the selection process.
Yet another manufacturing trend that has gained traction and promises to continue to grow in popularity is postponement. Postponement refers to the method of designing and manufacturing configurable products that can be differentiated quickly and inexpensively once customer demand is known. This deferred differentiation of product allows for fill rates to be maintained or improved, while simultaneously decreasing inventory and manufacturing costs. Postponement is not a new concept, and it has already been implemented by several companies and industries. It is fairly safe to predict that the concept and benefit of postponement will become common knowledge, and an increasing number of companies will design products accordingly.
It’s safe to say that rising energy costs will have a big impact on the transportation industry. As transportation costs become a larger portion of the cost-of-goods, network optimization to modify routings based on demand and prices will gain importance. The increasing reliance on third-party warehousing and transportation providers will allow companies to modify stocking locations and routings without the inertia present in company-owned operations.
A more direct approach to combat rising fuel costs is to increase the reliance on unmanned aerial vehicles, also referred to as drones. Governmental legislation is being sought to allow distribution and transportation companies to operate a fleet of drones for delivering packages, and this will prove to be particularly effective for small package shipments and for delivery to rural areas.
Advances in fulfillment of demand and the customer experience can have an enormous impact on the supply chain. The rapid increase in embedded technology and intelligence in consumer appliances and in consumer goods, such as embedded devices or RFID, can provide an enormous amount of demand-related information to manufacturers regarding product usage and replenishment. The incorporation of drop shipments from manufacturers directly to customers or consumers also has the potential to become more commonplace and change the way orders are fulfilled.
The Impact of 3D Printing
3D printing, also referred to as additive manufacturing, holds the promise of revolutionizing manufacturing and the supply chain. 3D printing is the procedure in which the printer reads the digital blueprint and methodically adds material according to a set of instructions, creating the final product, which is built layer by layer. Contrast this with current methods, which use subtractive manufacturing, whereby material is whittled away to form the final part. The list of materials and parts that can be addressed by 3D printing continues to grow and is already used by the R&D departments in several industries, including automotive, aerospace, and toys. This technology can provide immense manufacturing flexibility, eliminate tooling costs, and simplify production runs.
The impact of 3D printing on the supply chain can be significant, and can enable a greater level of postponement than was previously possible. Companies may not have to hold inventory of finished products, but instead store them at an intermediate or raw material stage that can easily be used to generate the configuration requested by the customer. 3D printing is still in its early stages as far as mass production is concerned, but it holds the promise of playing a much bigger part by 2020.
The Integration of Pricing and SCM
The traditional view of pricing is that it should be determined by the consumer’s and market’s perception of the value delivered by the product. While this perception may be valid for certain highly-differentiated and trendy products, an increasing number of companies do not have this luxury due to intense competition and the availability of numerous similar products in the market. In such cases, the constant downward pressure on price requires integration with costs, and consideration of direct costs, inventory levels, and capacity levels while setting price. While this procedure appears intuitive, there are many practical challenges that need to be addressed. For example, the theory required to explicitly connect these variables is not readily available. Organizational dissonance due to shared responsibility of pricing is another common impediment. Sending the wrong message to the market regarding price stability is another concern. But the benefit provided is high enough that these issues will eventually be addressed and pricing may become increasingly dynamic.
The Real-Time Supply Chain
A much-anticipated development in SCM is the ability to sense and respond to events in real-time. This development is enabled by the Internet, availability of data, high bandwidth connections, mobile devices, and sophisticated systems. Such a development can give rise to highly responsive and efficient supply chains. While many activities continue to require manual intervention and discussions between concerned parties, there is no doubt that the number of activities and alerts that will be dealt with in a real-time manner will increase, especially with the use of better management methods that set bounds within which automated responses are approved.
The Green Supply Chain
The green (environmentally friendly) supply chain is gaining importance as the public becomes more aware of global warming and carbon footprint. Aside from a desire to help the environment, reasons for companies to get involved in green initiatives include customer requirements (for example, Walmart’s requirements from its suppliers), regulatory requirements, media attention, and competitive pressure. Finally, many companies see an opportunity to increase prices by advertising the environmental benefits of green products. Consider the following except from Walmart’s annual report:
Environmental responsibility. We’re focused on responsible energy consumption globally and now obtain approximately 21 percent of our electricity from renewable sources. Walmart has the most onsite solar capacity of any business in the U.S., according to the EPA. Our goal remains “zero waste” and, to reach it, we’re rethinking processes, using smarter packaging, recycling and reducing plastic bag use. In addition, we’re applying and scaling the Sustainability Index – a tool to measure and drive the sustainability qualities of products. As part of this global effort, Walmart committed to buying 70 percent of the goods sold in U.S. stores and clubs only from suppliers who use the index by the end of 2017.
—Wal-Mart Stores, Inc., 2013 Annual Report
Ways of measuring the green value of a product or supply chain include the following:
· Greenhouse gases (CO2) emitted during production. Fueled by the Carbon Disclosure Project (CDP) and other similar initiatives, there is a push toward the collection of data related to strategies deployed by large companies in relation to climate change. In response, companies such as Walmart have directed their suppliers toward the collection of such data.
· The use of renewable energy in the manufacturing process.
· Green packaging, measured by space utilization (cube utilization) as well as weight. Utilization of space can be improved by shrinking packages to the optimal size and weight for their contents. Often, minor changes in the design of the product can result in significant savings, such as the use of smaller and lighter cap for bottles. Weight can be reduced by the use of foam boxes and shrink wrap as opposed to heavier corrugated cardboard.
· The use of renewable or recycled materials for packaging. Equally important is a process for easily collecting recyclable materials.
· The distance that the product is transported, which is influenced by the effectiveness of the network.
Changes to the supply chain fall into two broad categories: The first involves low-cost changes that can significantly impact the carbon footprint, such as better packaging and minor routing changes to the transportation network are examples. These changes are attractive to a company because they can be advertised advantageously and reduce operating costs. The second category involves changes that require a moderate or high level of investment. Changes to product design and production processes often fall in this category due to the need to purchase new machinery or make expensive changes to manufacturing steps. These expenses may be justified by evaluating the impact on market perception, regulatory compliance, and product differentiation. It may be possible for the company to differentiate its products, increase price or sales volumes, and more than recover its investment.
This chapter discussed a few trends that can impact the way supply chains function. Staying on top of new developments is not an easy task, and it is necessary for practitioners to remain updated by visiting conferences and entertaining vendor discussions (suppliers as well as software providers). The proliferation of web-based presentations and virtual conferences makes the task of remaining updated a lot less expensive and time consuming.
Finally, it is important to recognize some of the most important drivers of supply chains—greater profits and a better customer experience. Since company executives and shareholders are constantly looking to improve both measures, the result is a constantly mutating supply chain. Practitioners who accept this situation and embrace change can play an important role in the viability and profitability of the business.