Simchi Levi3E SM

DESIGNING AND MANAGING THE SUPPLY CHAIN
David Simchi-Levi Philip Kaminsky
Edith Simchi-Levi
Solutions for Discussion Questions1

Kaushik Sengupta, Hoftstra University
Kerem Blbl
We would like to thank Shiming Deng for his valuable contribution to the preparation of this manual.
CHAPTER 1
INTRODUCTION TO SUPPLY CHAIN MANAGEMENT
Chapter Overview
This chapter introduces supply chain management (SCM) and describes how supply
chain management is critical in todays global business. Supply chain management
is described as a set of approaches utilized to efficiently integrate suppliers,
manufacturers, warehouses, and stores, so that merchandise is produced and
distributed at the right quantities, to the right locations, and at the right time, in order
to minimize system wide costs while satisfying service level requirements.
It is important to understand the basic issues underlying SCM and the challenges facing
companies to achieve effective management of their supply chains. Various issues and
factors are described in this chapter. Specifically, the concept of managing risk and
uncertainty, global optimization, relationship of the supply chain to the development
chain are discussed. The chapter also discussed how the area evolved through the years.
The primary purpose of this chapter is to establish a context for SCM in the realm of
globalization and to instill this sense of importance in the students. If youve
accomplished that by the end of the chapter, youve established a solid foundation for the
remainder of the course.
Discussion Questions
Question 1
Pick any car model manufactured by a domestic auto maker. For example, consider the 2002 Ford
Thunderbird.
a. The supply chain for a car typically includes the following components::
1. Suppliers for raw materials
2. Suppliers for parts and subsystems
3. Automobile manufacturer (Ford, in the example). Within a company, there are also different
departments, which constitute the internal supply chain:
i. Purchasing and material handling

ii. Manufacturing
iii. Marketing, etc.
4. Transportation providers
5. Automobile dealers
b. Many firms are involved in the supply chain.
1. Raw material suppliers. For instance, suppliers for steel, rubber, plastics, etc.
2. Parts suppliers. For instance, suppliers for engines, steering wheels, seats, and electronic
components, etc.
3. Automobile manufacturer. For instance, Ford.
4. Transportation providers. For instance, shippers, trucking companies, railroads, etc.
5. Automobile dealers. For instance, Hayward Ford.

c. All companies involved in the supply chain want to maximize their respective profits by increasing
revenue and decreasing cost. However, companies may employ different strategies in order to
achieve this goal. Some of them focus on customer satisfaction and quick delivery, while others
may be more concerned about minimizing inventory holding costs.
d. In general, different parts of the supply chain have objectives that are not aligned with each
other.
1. Purchasing: Stable order quantities, flexible delivery lead times and little variation in mix.
2. Manufacturing: Long production runs, high quality, high productivity and low production
costs.
3. Warehousing: Low inventory, reduced transportation costs and quick replenishment
capability.
4. Customers: Short order lead times, a large variety of products and low prices.
Typically, the automobile dealer would like to offer a variety of car colors and configurations to
accommodate different customer preferences, and meanwhile have a short delivery lead time from
the manufacturer. However, in order to maximize the length of production runs, and utilize
resources more efficiently, the manufacturer would like to aggregate orders from different dealers
and offer less variety in car configurations. This is a clear example of conflicting marketing and
manufacturing goals.
Question 2
a. The supply chain for a consumer mortgage offered by a bank may involve various components.
1.
2.
3.
4.
Marketing companies that handle solicitation to potential customers.

Credit reporting agencies that evaluate potential customers.
The bank that extends the mortgage loans.
Mortgage brokers through which the loans are distributed.
b. The marketing companies strive to increase the response rate from homebuyers in order to
maximize their returns. Banks aim at a customer portfolio with a relatively low risk, healthy flow
of payments and low average loan maturity date. The brokers would like to maximize their sales
commissions.
c. Similar to product supply chains, the objective of a service supply chain is to provide what is
needed (in this case, a particular type of service, rather than a physical product) at the right location,
at the right time, and in a form that conforms to customer requirements while minimizing
systemwide costs. However, there are a number of differences between the two types of supply
chains. For instance:
1. In a product supply chain, there is both a flow of information and physical products. In a
service supply chain, it is primarily information.
2. Contrary to a service supply chain, transportation and inventory are major cost components in a
product supply chain.
3. Services typically cannot be held in inventory, so matching capacity with demand is frequently
more important in a service supply chain.
4. In a service supply chain, the (explicit) cost of information is higher than in a product supply
chain. Note that in the mortgage example above, the bank has to compensate the credit
reporting agency for each credit report it obtains.
Question 3
Many supply chains evolve over time. For example, consider a memory chip supply chain. Production
strategies may change during different stages of the product life cycle. When a new memory chip is
introduced, price is high, yield is low, and production capacity is tight, and the availability of the
product is important. Consequently, production is usually done at plants close to markets, and the
management focuses on increasing yield, reducing the number of production disruptions, and fully
utilizing capacity. When the product matures, however, its price drops and demand is stabilized for a
period of time, so minimizing production cost moves to center stage. To reduce costs, production may
be outsourced to overseas foundries, where labor and materials are much cheaper.
Question 4
A vertically integrated company aims at tighter interaction among various business components, and
frequently manages them centrally. Such a structure helps to achieve systemwide goals more easily by
removing conflicts among different parts of the supply chain through central decision making. In a
horizontally integrated company, there is frequently no benefit in coordinating the supply chains of each
business within the company. Indeed, if every business specializes in its core function, and operates
optimally, an overall global optimum may be approached.
Question 5
Effective supply chain management is also important for vertically integrated companies. In such an
organizational structure, various business functions are handled by different departments of the
company that usually have different internal objectives, and these objectives are not necessarily aligned
with each other. This may be due to lack of communication among departments or the incentives
provided by the upper management. For instance, if the sales department is evaluated based on revenue
only, and the manufacturing department is evaluated based on revenue only, and the manufacturing
department is evaluated based on cost only, the companys profit may not be maximized globally.
Effective supply chain management is still necessary to achieve globally optimal operations.
Question 6
The sources of uncertainty in this example include:
1. Factors such as weather conditions, diseases, natural disasters cause uncertainty in availability of
raw materials, i.e., peach crop.
2. Uncertain lead times during transportation of crop from the field to the processing facility may
affect the quality of peaches, e.g., they may get spoiled.
3. Processing times in the plant, as well as the subsequent warehousing and transportation times are
subject to uncertainty.
4. Demand is not known in advance.
Question 7
A small number of centrally located warehouses allows a firm to take advantage of risk pooling in order
to increase service levels and decrease inventory levels and costs. However, outbound transportation
cost is typically higher, and delivery lead times are longer. On the other hand, by building a larger
number of warehouses closer to the end customers, a firm can decrease outbound transportation costs
and delivery lead times. However, this type of system will have increased total inventory levels and
costs, decreased economies of scale, increases warehousing expenses, and potentially increased inbound
transportation expenses.
Question 8
The choice of the particular transportation service depends largely on the types and sizes of products the
company wants to transport, the inventory and delivery strategies and the need for flexibility:
1.
A truckload carrier is better if delivering bulky items or small items in large and stable
quantities from warehouses to demand points (stores). A good example is the delivery of groceries
from warehouses to supermarkets. Note that in this case we would like the demand to be in
increments of full truck loads.
2.
A package delivery firm is more appropriate if relatively small items are delivered from the
manufacturer/warehouse directly to the customers. Additionally, a package carrier company offers
more flexibility by different modes of transportation depending on the needs of the individual
customers.
Question 9
1.
High inventory levels

i.
ii.
2.
Advantages: High fill rate (service level) and quick order fulfillment.
Disadvantages: High opportunity cost of capital tied in inventory, danger of
price declines over time and obsolescence, need for more warehouse space.
Low inventory levels
i.
ii.
Advantages: Low inventory holding and warehousing costs.

Disadvantages: Higher risk of shortages and lower service levels.
Question 10
Buildingredundancyintothesupplychainmeansthatifoneportionfails,thesupplychaincan
stillsatisfydemand.Thisisthebiggestadvantageofbuildingredundancyinthesupplychain.
Alternatesourcesofsupply,provisionforalternatetransportationanddistributionmodes,
alternatewarehousesaresomeofthewaysbywhichredundancycanbebuilt.Adisadvantage
ofthispolicyisthatexcesscapacityisbuiltintothesysteminordertohedgeagainst
emergenciesthatmaydisruptthesupplyifthesecapacitiesarenotusedovertimeandiftoo
muchcapacityisbuiltasredundantcapacity,thecoststothesupplychainincreases.
Other ways by which redundancy can be built is by using information to better sense and
respond to disruptive events, incorporating flexibility into supply contracts to better match
supply and demand and improving supply chain processes by including risk assessment
measures
Question 11
Inefficiencies in distributing products from the factories to the customers is primary reason why both
costs have increased. The two are related as the longer the time it takes to move products from one
point to the next in the supply chain, the higher will be the transportation costs in addition, the
inventory costs will be higher as more products would be stocked in the pipeline between the suppliers
and the customers.
CASE: Meditech Surgical

Question 1
Meditech experiences poor service levels for new products, and inventory levels higher than necessary
for all products.
Question 2
There are many causes for these problems:
1.
Demand is not studied in detail.
2.
Information systems that record and monitor demand and inventory are poorly designed.
3.
Forecasting errors are not tracked.
4.
There is a tendency to shift the blame to the customers, e.g., panic ordering.
5.
There are built-in delays and monthly buckets in the planning system.
6.
The planning system amplifies small variations in demand.
7.
Poor communication with customers; Meditech doesnt typically see end-customer demand.
Question 3
The customer service manager is directly exposed to the complaints from the customers. Hence, he is
in a good position to gauge the scope of the problems. Other managers do not face the customers, and
they do not necessarily focus on their satisfaction.
Question 4
1.
Recognize that demand is predictable, and establish better forecasting systems and
accountability for forecasts.
2.
Institute better planning systems to eliminate planning delays; reduce the size of system
time buckets.
3.
Alternatively, put assembly within the pull system and eliminate bulk inventory completely.
4.
Develop and implement better information systems.
5.
Improve communications with customers.
CHAPTER 2
INVENTORY MANAGEMENT AND RISK POOLING
Chapter Overview
In this chapter, issues related to managing inventory in various stages of the supply chain are
discussed. Specifically the following points are reviewed in the chapter. Strategies related to how
firms cope with huge variability in customer demand are discussed. The relationship between
service levels and how much inventory to carry is important. In addition, the effect of lead time
and the variability in lead time has an effect on the inventory levels. Finally, different inventory
policies are discussed the policies differ with respect to the different scenarios that may be
present for a particular item or a specific partnership between two firms.
CASE: Steel Works, Inc.

Please see the chapter's PowerPoint presentation for case discussion.
Question 1
Refer to PowerPoint slides on Steel Works case
Question 2
Companies can cope with uncertainty by
1.
keeping safety stock,
2.
shortening production and order lead times,
3.
using risk pooling strategies,
4.
delaying product differentiation in the supply chain as much as possible, i.e.,

aggregating demand for parties upstream of the supply chain, and
5.
by installing systems to achieve information sharing between suppliers and

buyers, thus enabling collaborative demand forecasting.
Question 3
In general, higher inventory levels make it easier to maintain higher service levels. However,
modern inventory management techniques may make it possible to increase service levels
without increasing inventory levels as much as in the past.
Question 4
The variability in demand increases as the average and the variance of lead time increase.
Therefore, for a given service level, inventory levels increase with longer lead times and higher
lead time variance.
Question 5
The target service level depends on the mission-criticality of the product. For instance,
consider a service parts vendor for equipment for which every hour of down time is very
expensive. In this case, we would expect the management of the vendor company to specify a
service level close to 100%.
Market conditions also play an important role in determining target service levels. For
commodities, we would expect relatively high service levels since customers can switch
products easily if they do not find the particular product they look for. However, a lower
service level may be acceptable if the product has a clear value differentiation compared to its
competitors. For instance, customers of a high-end server that is clearly deemed superior to the
rest of the market may be willing to wait for 1-2 weeks if the manufacturer is out-of-stock.
Question 6
The reorder level s = L * AVG + z * STD * L has two components. The first component L *
AVG covers the expected demand during lead time, and the second component z * STD * L is
safety stock that protects against deviations from the expected demand during lead time.
Therefore, immediately before the order arrives, we expect that the first component is depleted
completely and the inventory level is z * STD * L . Then, when an order of Q units arrives,
the expected level of inventory is Q + z * STD * L .
Question 7
In the base-stock policy, at the time the warehouse places an order, this order raises the
inventory position to the base-stock level (r + L) * AVG + z * STD * r L . Similar to the
reorder level s in the continuous review policy discussed in Question 5, this base-stock
includes two components: the average demand (r + L) * AVG until the order arrives after r + L
periods, and the safety stock z * STD * r L that protects against demand uncertainty during
lead time. Thus, just before an order arrives, the expected inventory on have is equal to the
safety stock z * STD * r L .
In order to determine the expected inventory level right after an order arrives at time t + L,
note that when inventory is reviewed at time t, the inventory position is raised to the basestock level, and an order that was placed at time t - r arrives at time t + L. (See Figure 3-12.)
Therefore, when an order arrives, the expected inventory level is L * AVG units less than the
base-stock level, i.e., is equal to r * AVG + z * STD * r L .
Question 8
Possible items for discussion are as follows:
1. Magazines order quantity has to be the average demand for a magazine that the store
expects to sell. The service level is low and the store would not order a large quantity as
unsold magazines would be worthless
2. BestSellers order quantity would be slightly higher than average demand as the store
can expect higher than average demand for such books
3. CDs order quantity would be higher than average demand for the titles where the
store expects a higher demand. Otherwise the service level will be low for infrequently
sold CDs.
4. Potato Chips order quantity typically would cover expected demand over a number of
days. Store needs a high service level for such items and the longer shelf life of the
products allows a larger order quantity.
5. Milk service level is high and hence order quantity would have to meet a high
percentage of expected demand; although milk is perishable, this is managed through
frequent deliveries, which allows the store to only match demand with available
inventory over a few days.
Question 9
Observe that the longer L1, the more time the system has before allocation of inventory to the
retailers need to be made by the cross-dock facility. Thus, the longer L1 the more the system
can take advantage of the risk pooling concept. Hence, the total amount of inventory is smaller
when the cross dock facility is closer to the retail outlet.
Question 10
The answer is not immediately clear because the required safety stock depends both on the
average and on the variance of the lead-time. The retailer would have to make a decision
depending on the relative effects of these two factors. In addition, your decision would
ultimately depend on the requirements of the retailers customers.
Question 11
For a mature product, it is reasonable to expect that the price and demand are stable in the short
term. However, as the time horizon gets longer, and new products are introduced into the
market, the demand and price for this particular product decrease and excessive inventories
may have to be written off. Thus, inventory holding costs related to obsolescence may be
regarded as fixed in the short term, but not in the long term.
Some storage costs are another example of inventory related costs fixed in the short term,
but variable in the long term. For instance, due to large inventories as company may have to
rent multiple warehouses for a fixed lease term. However, if inventory policies are improved
and turnover rates are increased in this period of time, then it may be possible to rent fewer
warehouses when renewing the lease contracts. Clearly, similar arguments can be made for
material handling equipment, storage racks, insurance, personnel, etc.
Question 12
Such deterministic models can be used as proxies for the more realistic stochastic models if the
planning horizon is short, and the parameters of the problem are expected to be relatively
stable over this time frame. However, most importantly, simple models can illustrate the basic
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trade-offs in a given type of problem which also translate into more realistic and complex
situations. For instance, the optimal policy for the economic lot sizing model balances
ordering and inventory holding costs which is a general insight for more sophisticated systems
as well.
Question 13
There are implicit and explicit penalties associated with a highly variable demand. For
instance:
1. As discussed, the level of safety stock is proportional to the variability in demand, i.e., the
higher the variability in demand the higher the inventory holding costs.
2. From a manufacturers perspective, highly variable demand means that utilization of
equipment will greatly fluctuate, and equipment will sit idle when demand is low.
3. From a managerial perspective, high variability makes planning a very complex task that
requires additional resources, sophisticated models and tools.
On the other hand, if a company is successful at implementing strategies to cope with high
variability in demand, it may be possible to leverage on these to increase market share and/or
revenue if the competitors are not as successful.
Question 14
a.
Risk pooling across locations: combining several warehouses

into a single central warehouse.
b.
Risk pooling across time: using quarterly demand forecasts

instead of monthly forecasts to do capacity planning.
c.
Risk pooling across products: designing products with

maximum commonality and delaying product differentiation in the supply chain as much as
possible.
Question 15
If pricing strategies, service levels and quality of service in two stores are similar, then we
would expect the demand in these two stores to be positively correlated. However, assume that
while the overall market demand is relatively stable, one of the stores is running a promotion.
In this case, we would expect that the promotional campaign would steal sales from the other
store, so that the demand in the two stores would be negatively correlated.
Question 16
In the absence of historical data, judgment and market research methods would be most useful
at the beginning of the life cycle of the first Sony Walkman . As more data becomes available
TM
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during the product adoption phase, time-series methods could be employed successfully. Then,
as the product matures and the manufacturer has a better understanding of the factors that
affect demand, both time-series and causal methods could prove effective.
When introducing a more recent Walkman model, we would expect Sony to rely much less
on judgment and market research methods compared to the very first model. Years of
experience, knowledge and data can be used to develop accurate quantitative time-series and
causal models.
Question 17
a.
The benefits of risk pooling increase as the correlation between demands

decrease. Therefore, similarity of demand across the five regions makes the proposed
system less appealing.
b.
The total cost of the decentralized system is $9,272 per week. In the
centralized system, LA is the best location with the total cost of $6,545 per week. Please
refer to the attached spreadsheet Chapter_2_Question_17.xls for details.
c.
In this case, the minimum total cost is $8,808 per week, and the central
warehouse is located in LA. In other words, the decrease in the inventory holding costs
due to the decreased lead time between the manufacturing facility and the warehouse is
more than offset by the increase in the transportation costs. Please refer to the attached
spreadsheet Chapter_2_Question_17.xls for details.
Case: Sport Obermeyer

Please refer to Harvard Case Notes: Sport Obermeyer Ltd., Teaching Note (5-696-012) 31p,
Janice H. Hammond, Ananth Raman for solutions of the case discussion questions.
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CHAPTER 3
NETWORK PLANNING
Chapter Overview
Havingthemosteffectivenetworkoffacilitiesisakeydimensiontoreducingcosts
throughthesupplychain.Inthischapter,techniquesandstrategiesforhowacompany
candevelopamodelrepresentingitslogisticsnetworkisdiscussed.Associatedfactors
includetheaspectsofaggregatingcustomersandproductsinordertohaveamanageable
problemregardingthenetwork;strategiesonhowacompanydecidesonwhereto
positioninventory,theimpactofdemanduncertaintyandvariabilityoninventory
positioning.Sincethenetworkdecisionisaninfrastructurerelateddecisionwithlong
termeffects,itismorecriticaltohavetherightdecisionswhenacompanysourcesits
productsfromdifferentplants;anassociatedissuediscussedisregardingthecapacity
builtinthenetworkhowacompanyknowswhether,when,andwheretoexpandits
productioncapacity.
CASE: The Bis Corporation
Please see the chapter's PowerPoint presentation for case discussion. This case is intended to
illustrate the concepts discussed in Chapter 3. Sophisticated software is needed to come up
with quantitative solutions to the kinds of questions posed.
Question 1
The factors that affect the performance of the logistics network are not static, i.e., they change over
time. These factors include demand, product design, various costs in the logistics network, regulations,
contracts, etc. The effects of these dynamics need to be evaluated periodically in order to determine
whether the existing configuration is still satisfactory given the new operating environment.
For instance, service level requirements may change due to increased competition which typically
means that the lead time to fulfill customer orders needs to be shortened. This may require the firm to
redesign its logistic network and build new warehouses that are closer to the end customers.
Question 2
The design of the logistics network is a strategic decision that has long lasting effects and impacts all
functions within the company. For the success of such a project, many levels of the organization must
be involved:
1. Upper Management: The new design must be aligned with the vision and strategic goals of the
company. Additionally, such a project may be costly, so management buy-in is essential to ensure
that sufficient resources are devoted to the project.
2. Sales and Marketing: Demand forecasts and anticipated changes in product design and offerings
affect the network and need the involvement of sales and marketing teams.
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3. Manufacturing and Operations: The logistics network design has obvious impact on day-to-day
operation of the firm. In order for the implementation to succeed, it is essential that the people
involved with operating the system on a daily basis are involved in its design.
Question 3
The decision that a single warehouse will be built has been made up-front. Therefore, we only need to
focus on the location and capacity of the warehouse, and determine how much space should be
allocated to each product in the warehouse. The main steps of the analysis are outlined below.
1. Data collection
i.
ii.
iii.
iv.
v.
vi.
vii.
viii.
Location of retail stores, existing warehouses (5 warehouses located in Atlanta,

Boston, Chicago, Dallas and Los Angeles), manufacturing facilities (a single manufacturing
facility in San Jose), and suppliers.
Candidate locations for the new warehouse.
Information about products, i.e., their sizes, shapes and volumes.
Annual demand (past actuals and future estimates) and service level
requirements of the retail stores.
Transportation rates by available modes.
Transportation distances from candidate warehouse locations to retail stores.
Handling, storage and fixed costs associated with warehousing. Fixed costs
should be expressed as a function of warehouse capacity.
Fixed ordering costs, order frequencies and sizes by product or product family.
2. Data aggregation. Demand needs to be aggregated based on distribution patterns and/or product
types. Replace aggregated demand data points by a single customer.
3. Mathematical model building.
4. Model validation based on existing network structure.
5. Selection of a few low cost alternatives based on the mathematical model.
i.
For the final decision, incorporate qualitative factors that were disregarded in
the mathematical model, e.g., specific regulations, environmental factors, etc.
ii.
Optionally, build a detailed simulation model to evaluate these low cost
candidate solutions.
6. Decide where to locate the centralized warehouse..
With the centralized warehouse, service level will increase (less stock-outs) and inventory holding
costs will decrease due to risk pooling. Also, fixed costs associated with warehousing will typically
decrease, and inbound transportation costs from the manufacturing facility to the warehouse should be
less than the sum of the previous inbound transportation costs. However, we will incur increased
outbound transportation costs from the central warehouse to the retailers. In summary, the essential
design trade-off is between transportation costs on one hand, and inventory holding costs and service
level requirements on the other.
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Question 4
a.
In automobile manufacturing, cars are usually delivered over land, and demand is concentrated
around major cities. Therefore, we would expect warehouses in this industry to be located near
large cities with easy access to freeways and railroads. This would help to reduce the delivery lead
time to dealerships in the cities.
b.
In the pharmaceutical industry, overnight delivery is common. Therefore, proximity to a major

airport is a factor that should be considered when choosing a warehouse location. Additionally, for
raw material warehouses it is important that these are close to natural resources.
c.
In the book industry, supplier warehouse locations would be affected by the availability of
nearby natural resources.
d.
In the aircraft manufacturing industry, sub-assemblies and parts are delivered by thousands of
suppliers scattered all over the globe to the manufacturing facilities. Therefore, for these supplier
warehouses, by far the most significant consideration is the ability to ship parts easily and on-time,
i.e., the proximity to railroads, freeways, harbors, etc. In such a capital intensive industry, we
would also expect that regulations such as tax breaks have an impact on potential warehouse
locations.
e.
With a large customer base shopping for books on-line, short delivery lead times are crucial.
Therefore, in book distribution, we would expect to find large centralized warehouses on
reasonably priced land and where quick transportation modes are available.
f.
Furniture manufacturing and distribution depends heavily on manual labor. Therefore,

warehouses in this industry should be located close to cities with sufficient labor supply.
g.
In PC manufacturing, outsourcing from all around the world is common where labor is cheaper
and regulations favor the huge investments associated with high-tech manufacturing. These
considerations should be factored in when choosing candidate warehouse locations.
Question 5
In the pharmaceutical industry, we would expect more warehouses closer to the end customers for short
delivery lead times. On the other hand, in the chemical industry there would be fewer centralized
warehouses in order to consolidate orders and decrease outbound transportation costs.
Question 6
If we expect that the truck would travel empty on its return route, then TL rate would be higher.
Considering the example discussed in the chapter, the probability that the truck comes back empty from
Illinois (industrial heartland) to New York is lower than the corresponding probability from New York
to Illinois which explains the asymmetric cost structure between these two cities.
Question 7
1. Handling Costs
i. Labor cost of workers in material handling.
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ii. Cost of conveyors, fork lifts, automated guided vehicles (AGVs), etc., used to carry the
goods in the warehouses. Note that these costs have two components: variable costs
that are linearly proportional to the distances the goods are transported over; and
purchasing costs of equipment that are proportional to the daily output required from
the material handling system, but in a non-linear way because equipment is purchased
in discrete quantities.
2. Fixed Costs
i.
Purchasing or rental cost of land.
ii. Cost of maintaining and operating the warehouse building which includes annual
depreciation and utility costs.
iii.
Cost of racks that depend on the capacity of the warehouse.
iv. The cost of insurance for the facility.
3. Storage Costs
i. Opportunity cost of capital tied up in inventory.
ii. Cost of price declines while inventory is sitting in the warehouse. Note that this
includes the risk of obsolete inventory that needs to be salvaged.
Question 8
An exact optimization technique is guaranteed to provide an optimal solution (if one exists)
even if it takes a long time. On the other hand, a heuristic algorithm is a method that will find
good solutions to the problem in a reasonable amount of time where the terms good and
reasonable depend on the heuristic and the particular problem instance. The choice between
an exact optimization technique and a heuristic algorithm for a given problem frequently
depends on the trade-off between solution quality and solution time. Note that even if a
heuristic algorithm (by chance) finds the optimal solution to a problem, it cannot confirm the
optimality of the solution. On the other hand, for many problems there are no known optimal
algorithms, so heuristics must be used.
Question 9
Simulation is a popular performance evaluation and modeling tool for complex stochastic
systems that cannot be evaluated analytically. A simulation model can closely reflect a real
system and mimic its behavior, but it has some drawbacks: simulation is a descriptive tool,
i.e., it cannot provide optimal values for system inputs. It generates, for a given set of inputs,
sample outputs from the system that are used to compute statistical estimates of the
performance measures. Also, accurate simulation models of large systems require extensive
development effort, and typically take a long time to run. Thus, we advocate a two-phase
approach to solve difficult logistics problems:
1.
Use a mathematical optimization model to generate a number of good candidate

solutions, taking into account the most important cost components.
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2.
Use a detailed simulation model to evaluate the candidate solutions generated in the
first phase.
CASE: H.C. Starck, Inc.

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CHAPTER 4
SUPPLY CONTRACTS
Chapter Overview
In this chapter, details regarding several types of supply contracts are discussed. Specifically, the
incentives for a retailer to buy more items from a supplier generally increases when there is a
contract with certain specifics regarding what would happen if not all items bought by the retailer
are sold. Contracts specific to strategic and non-strategic components are discussed. In addition,
contracts specific to make-to-stock and custom order environments are also discussed.
Question 1
All these contracts are appropriate to increase the likelihood that the retailer purchases a higher
number of items from the supplier and hence ultimaterly sells more to the customer. Without the
contract, the risk to the retailer is high if bought items remain unsold with the contract this risk
is shared with the suppliers. On the other hand, because of the uncertainty in the demand, the
probability of selling more also increases.
Question 2
The attached spreadsheet shows that the companies would be better off using the fixed price
contract rather than the reservation contract on the average expected profit from the scenario.
Question 3
The studios benefited because they got a percentage of the revenue from renting additional
DVDs. The cost structure for the studios is such that typically the cost for manufacturing an
incremental unit is low therefore, the studios benefited by actually increasing their margins
on these additional DVDs which would have been non-existent if the contract was not in place.
Question 4
Generally speaking, there is a lag between development of algorithms in the operations
management literature and their adoption in business. There are several reasons for this:
1. Practitioners are not familiar with the literature.
2. It is hard to convince the industry that analytical models are useful. There is resistance
to change.
3. Possible gaps between theory and practice.
18
4. There are practical problems in implementation. For instance, without the development
of information technology, it would have been hard for the movie studios to track endcustomer demand and the revenue received by Blockbuster.
Also, in this particular case, the increasingly lucrative movie rental business due to
advances in home theater systems, and increased competition from media distribution over
the Internet may have forced Blockbuster and the movie studios to re-consider and improve
their business models.
Question 5
The factors that affect the choice of the supply contract type include the following:
1. Business convention: Companies tend to choose the contract form that is most
common in their type of business.
2. Information availability: The type of information available may dictate what type of
contract can be implemented in practice. Depending on the contract type, suppliers and
buyers require access to different types of information, and some information may be
difficult for the supplier to acquire but easier for the retailer, or vice versa.
3. Decision making and incentives: To achieve the optimal profit for the whole system
and to allocate it properly, both suppliers and retailers must understand that decisions
must be made collaboratively. All parties must be aware that they have to give up part
of the control in their individual systems, and the choice of the supply contract type
depends on the level of control that parties are willing to share with each other.
Buy-back contracts:
i.
Advantages:
a. Commonly used in many businesses.
b.
The coordinating prices are not very sensitive to the demand
distribution.
ii. Disadvantages:
a.
The supplier may have to buy back a large quantity of the product
when demand is low.
b.
Extra transportation and re-stocking costs for returned items.
Revenue-sharing contracts:
i.
Advantages:
19
a. Easy to understand.
c.
The optimal values of the decision variables are not very sensitive to
the demand distribution.
ii. Disadvantages:
a.
Need to monitor the total revenue.
Quantity-flexible contracts:
i.
Advantages:
a. Commonly used in many businesses.
ii.
Disadvantages:
c.
The optimal values of the decision variables are sensitive to the

demand distribution.
d.
Extra transportation and re-stocking costs for returned items..
Sale-rebate contracts:
iii. Advantages:
a. It is a direct incentive to the retailer to increase sales.
iv. Disadvantages:
a. Difficult to track and implement.
Question 6
Changing the values in the Inventory.xls spreadsheet based on the input data for the question,
the answers are as follows:
a.
For the buy-back contract, the order quantity is 16000 units. At
this point, retailer profit is $420,500 and manufacturer profit is $241,500 for a total
supply chain profit of $662,000.
b.
With a revenue sharing contract, the optimal order quantity is
also 16000 units. In this case the retailer profit is only $118,500 while the manufacturer
has a much larger profit at $543,500.
Question 7
The other situation where supply contracts would be useful would be the case for the nonstrategic components (please refer to discussion in Section 4.5)
Question 8
20
The suppliers would assume all the risk at the danger of losing the business completely to a
competitor in many cases, this would happen when there is a high level of competition in the
market due to the availability of multiple suppliers. In such cases, the supplier would assume
the risk even if the buyer may end up buying only a small portion of the committed quantity.
Question 9
a) Critical fraction = (50-20)/(50-10) = 75%
System optimal production quantity = 2500
b)
i. Critical fraction = (50-40)/(50-10) = 25%
Distributor order = 2200
Distributors expected profit = $21,440
Manufacturers expected profit = $22,000
ii. Reservation price = $5
Execution price = $30
Distributor order = 2500
c)
i. Critical fraction = (40-20)/(40-10) = 2/3
Manufacturer production = 2400
ii. Cost sharing = $3.3875
Wholesale price = $36.45
Critical fraction = (36.45-(20-3.3875))/(36.45-10)=3/4
Manufacturer production level = 2500
Question 10
a) Answer same as 1(b)(ii), because the distributor still sees the true demand
forecast.
b) Critical fraction = 3/4
Production level = 2700
Manufacturers expected profit = $44,330.2
Distributors expected profit = $22,709.8
c) When manufacturer is make-to-order, it does not matter. When manufacturer is
make-to-stock, the distributor will reveal the true demand because it will
otherwise lose profit due to cost sharing.
21
CHAPTER 5
THE VALUE OF INFORMATION
Chapter Overview
This chapter reviews the importance of sharing information among supply chain partners.
Key concepts such as the bullwhip effect, methods for coping with the bullwhip,
strategies for locating products and the key supply chain trade-offs are discussed.
Question 1
a.
Barilla experiences wild fluctuations in pasta demand while variability in endcustomer demand is quite small. This amplification in demand variability in the supply
chain is known as the bullwhip effect, and it strains Barilla manufacturing and logistics
operations. Several factors contribute to this effect:
1. Transportation discounts, which induce distributors to order larger quantities less
frequently.
2. Trade promotions and volume discounts that create demand fluctuations.
3. Delivery lead times of an average of 10 days from Barilla to the distributors.
4. Product proliferation, which makes forecasting more difficult.
5. Poor communication between parties in the supply chain.
6. Sequential decision making process in the supply chain, i.e., no collaboration.
The JITD program transfers decision-making authority for determining Barilla-distributor
shipments from the distributor to Barilla. Rather than simply filling orders specified by the
distributor, Barilla would monitor the flow of its product through the distributors
warehouse, and then decide what to ship to the distributor and when to ship it. This system
alleviates many of the problems listed above, and enables Barilla to make manufacturing
and logistics decisions that benefit the entire system.
b.
The most significant internal barrier to JITD is raised by the sales reps, who feel
that JITD would diminish their role in managing inventory and setting up promotions,
potentially threatening their job security. Giorgio Maggiali needs to explain and
demonstrate to the sales force that the proposed program would in fact increase customer
service level by reducing stock-outs, and potentially lead to cost savings. Ultimately, JITD
would help the sales reps to manage the orders more efficiently by increasing visibility of
the demand process. JITD is not a substitute for the sales force; it it a tool that is made
22
available to them for better customer service. Also, Maggiali needs to explain that JITD is
a company-wide effort, essential for Barillas long term success.
c.
As a customer, JITD would at first be disconcerting because I would be losing

control of my inventory. In order for me to agree to JITD, Barilla needs to convincingly
demonstrate the specific benefits that JITD will have for me.
d.
The proposed system will be effective if it can be implemented correctly, and

indeed, subsequent results showed that JITD was very effective. In order to show value, it
would be useful to demonstrate that JITD benefits the distributors (lowering inventory,
improving their service levels, and increasing their returns on assets) by running
experiment at one or more of Barillas 18 depots. If customers will not agree to JITD, they
may at least agree to collaborative forecasting or increased supply chain visibility.
Question 2
a.
E-commerce and the Internet allow upstream parties, e.g., suppliers, to have access
to more accurate demand information. It mitigates the bullwhip effect by preventing
distortion and miscommunication of demand information, and reducing the lead time in
order processing.
b.
Express delivery reduces lead times, and the associated demand variance. Note that
in the formulas in Sections 4.2.1 and 4.2.2, the variability of demand is proportional to the
lead times in the system.
c.
Collaborative forecasts help all stakeholders in the supply chain to arrive at a

common, agreed-upon forecast of end-customer demand and reduce the bullwhip effect.
d.
Periodic promotions create artificial demand peaks and bottoms and increase the
variance in customer demand which amplifies the bullwhip effect. By everyday low
pricing, these demand fluctuations can be prevented, alleviating the bullwhip effect partly.
e.
Vendor-managed inventory allows the supplier to monitor downstream demand and

to make a well-informed decision about how much to keep on-hand and how much to ship
to its customers. Thus, the supplier does not have to rely on order data to forecast demand
and thus reduce the bullwhip effect.
f.
Supply contracts align incentives in the supply chain, and reduce the uncertainty in
demand by determining agreed-upon supply limits, thereby reducing the bullwhip effect.
Question 3
Sharing inventory is a form of risk pooling because it reduces the amount of safety stock
needed at each of the retail stores without decreasing the service level. Thus, sharing inventory
reduces inventory holding costs or increases service level. Additionally, transportation costs
may be reduced because goods are delivered from closer sources in case of stock-outs.
23
Proper incentives must be in place to encourage retailers to share inventory. For instance,
consider a case in which retailer one holds relatively less safety stock than retailer two.
Retailer one will experience stock-outs more frequently, and will order those items from
retailer two. However, retailer two may not be willing to share its inventory unless it is
compensated by retailer one for the additional holding costs it incurs, because retailer twos
additional inventory is a (typically expensive) competitive advantage. For example, think
about a small Chevy dealer and a large Chevy dealer in the same town. The larger number of
cars on the large dealers lot is an advantageif he constantly supplies cars to the smaller
dealer, he hoses that advantage.
Question 4
Several strategies can be employed to reduce the lead times in the supply chain:
1.
Use EDI (Electronic Data Interchange) that reduces the information lead time in the
order process.
2.
Use cross-docking to reduce/eliminate the time items spend in inventory.
3.
Share inventory with nearby retail stores to reduce the lead time during stock-outs.
4.
Share demand information throughout the supply chain to be able to respond to

demand fluctuations rapidly.
5.
Use delayed differentiation, which pushes generic products down the supply chain
as much as possible, and allows the supply chain to more easily accommodate demand for
a variety of related products.
6.
Implement VMI (Vendor Managed Inventory) strategies so that suppliers can be

more responsive to changes in inventory levels.
7.
8.
Use an express delivery service such as UPS to reduce the transportation lead time.
Adopt new technologies such as machine automation to reduce the manufacturing
lead time.
Question 5
1.
The farmers prefer large and stable demand over time so that they can dedicate
large portions of land to a particular product, e.g., wheat, corn, etc.
2.
The manufacturing division like long production runs with minimal number of
setups and a low mix of cereal products which keep the production costs low.
3.
The logistics division wants to ship full truck loads to reduce transportation costs.
24
4.
The marketing division prefers a high product mix with short lead times. For
marketing purposes, the ability to offer different types of cereal is crucial.
5.
The distribution arm of the grocery chain wants to replenish stocks as quickly as
possible while keeping inventory and transportation costs low.
6.
The grocery store manager wants on-time delivery of a high variety of products
with short notice in order to be able to quickly respond to a highly diversified end-customer
demand.
Note that the upstream parties in the supply chain typically prefer stable demand with a low
mix while the more downstream parties prefer shorter lead times and a higher mix.
Question 6
This is thorny issue between the two companies, because as long as Soundscan realizes the
value of the data it is getting from companies like Newberry, it will try to use the information
to its advantage. Having said that, contractual terms could be worked out between the
companies and managers/representative from both companies need to sort out the issues. For
one, the guarantee of using aggregated data has to be adhered to by Soundscan failing this,
the trust between the two parties is lost and nothing else can be worked out. Second, there may
be an agreement that Newberry must first sanctify what Soundscan uses for other purposes. In
the absence of these checks and procedures, situations like the one described in the example
are bound to come up in other scenarios too.
CASE: Reebok NFL Replica Jerseys
25
CHAPTER 6
SUPPLY CHAIN INTEGRATION
Chapter Overview
In this chapter, various aspects related to supply chain integration are discussed. Two
broad strategies are the Push strategy and the Pull strategy. Companies also adopt
combination of these two to form a hybrid strategy of PushPull. This chapter discusses
when to use what strategy and the key drivers when selecting the appropriate strategy. In
addition, a framework for matching products and industries with supply chain strategies
is presented. Finally, the effect of the internet on supply chain integration is also
discussed.
CASE: Dell Inc.: Improving the Flexibility of the Desktop PC Supply
Chain
Please see the chapter's PowerPoint presentation for additional case discussion.
Question 1
When demand uncertainty is low, a push-based supply chain allows the firm to reduce costs by
making use of economies of scale in production and distribution without increasing inventory
holding costs.
A pull-based supply chain reacts to real customer orders rather than to forecasts. Thus,
lead times and variability in the system are reduced by matching supply and demand. This
leads to improved customer service and decreased inventory holding costs.
Question 2
As discussed, the automobile industry has traditionally employed a push-based supply chain
strategy by building inventory for the dealer warehouses.
On the other hand, in industries in which demand is relatively low, and the finished
products are extremely expensive, e.g., semiconductor equipment and aircraft manufacturing,
the supply chains would be almost purely pull-based.
Question 3
By moving the push-pull boundary earlier, lead times and variability in the system are
decreased and service levels are improved due to increased ability to match supply and
demand. Also, inventory levels are decreased because there is little or no inventory in the pull
portion of the supply chain.
By moving the push-pull boundary later, costs can be reduced by taking advantage of
economies of scale. Furthermore, inventory levels may decrease due to risk pooling effects and
26
reduced safety stocks, if, for example, the push-pull boundary is moved later by delaying
product differentiation.
Question 4
Amazon.com switched from a pure pull to a push-pull supply chain strategy after its sales
reached a significant volume. It established regional warehouses in order to aggregate demand
across large geographical areas, and increase service levels. These regional warehouses form
the boundary between the push and pull portions of the supply chain.
Similar to Amazon.com, Peapod moved from a pure pull to a push-pull strategy by
establishing warehouses in order to aggregate demand over geographical areas, and increase
service levels.
Computer components are standardized, and the demand for these components is
determined by the finished goods that consume them. Thus, Dell achieves significant
economies of scale and risk pooling by using a push-strategy in its supply chain up until the
assembly operation.
Furniture is a highly customized product, but its handling and distribution are complex due
to its bulkiness. Therefore, the production phase is a pull system based on realized demand
while transportation of furniture is implemented based on fixed delivery schedules in order to
achieve economies of scale and risk pooling.
Question 5
Slow moving items would be stocked in a central warehouse to reduce overall inventory level
while fast moving items would be stocked in regional warehouses to reduce lead times and
shipping costs to the customers.
Question 6
1.
Box I. In the rapid prototyping industry, demand is uncertain and economies of

scale are not important because all products are custom-made.
2.
Box II. In chip manufacturing, economies of scale are important because

semiconductor manufacturing requires large capital investment, but demand is uncertain.
3.
Box III. In the chemical industry, demand has low variability and economies of
scale are important.
4.
Box IV. In the pharmaceutical industry, economies of scale are less important and
demand uncertainty is relatively low.
Question 7
27
In order to assess the effect of product life cycles on the appropriate supply chain strategy, we
need to understand how the demand for a product and the importance of economies of scale
change over the life cycle of the product. A typical product life cycle has several stages:
1.
Consider a new car design. Initially, the car is introduced with a single choice for
engine size, and in a limited number of colors because the car manufacturer is not certain
whether the car will be accepted in the market. In other words, in this early stage of the
product life cycle, demand is relatively low and highly variable, and economies of scale are
not important which imply that a pull strategy is appropriate.
2.
If the car is accepted by the market, then demand starts increasing at an increasing
rate. In this case, economies of scale dictate a shift toward a push-based supply chain
strategy. Meanwhile, the proliferation in engine sizes and colors of the car due to its
popularity increase the importance of the pull-based supply chain. Eventually, we would
expect that a push-pull strategy would be adopted by the time the car reaches the mature
phase of its life cycle.
Question 8
In both catalog and on-line selling, the customer picks a product from a catalog, and the sale
happens directly from the merchant to the customer. In this sense, e-fulfillment is not a new
concept. However, there are some important differences between these two fulfillment
strategies.
1.
In a catalog, search capabilities are limited, and searching is time consuming. In

on-line selling, it is much easier to direct the customer to the relevant page of the web site
according to the customers needs.
2.
The amount of information that can be included in a paper catalog is limited. In online selling, more information about a product can be provided easily upon demand.
3.
Catalog selling is not interactive. Therefore, it is harder to match supply and

demand. In other words, in on-line selling it is easier for a customer to determine whether
a certain product fits the requirements. For instance, the My Virtual Model feature on
landsend.com allows a customer to create a 3-D model of his/her body, and then to try on
items on the web site. Similarly, My Personal Shopper on landsend.com can suggest
selected items to a customer after a few questions about his/her performances.
TM
Question 9
Demand for television is usually shaped by discounts, big holiday-weekend sales, rebates, and
low-priced guarantees. In some instances, smaller discounts are combined with discounts for
complementary products such as VCRs and DVD players.
For products like canned soup, discounts are common as well. However, soup demand can
only be shaped to a certain extent, as food purchases obviously cannot always be delayed the
28
way a television purchase can be. Furthermore, in the grocery business, buy-one-get-onefree promotions are very popular, and these are clearly not reasonable for televisions.
Question 10
Webvan, which was a high-profile on-line grocery store, expanded its operations too quickly
to a large number of cities before it had the customer base to support the costly infrastructure
investments. Eventually, the company went out of business.
On the other hand, Adaptec decreased design-to-delivery cycle times, and reduced its
inventory holding costs by $10 million by using Internet-based collaborative design processes
with its major suppliers. Another successful example for Internet-based supply chain strategies
is set by Sun Microsystems. The company achieved a significant reduction in lead times and
increased forecast availability by sharing product data with its customers on orders, shipments
and promotions.
Question 11
CASE: Dell Desktop PC Supply Chain Case Study
Suggested Solutions
Please see the chapter's PowerPoint presentation for additional case discussion.
1.
a. Generally, students should consider compare the scenarios of supplier
performing the motherboard-chassis assembly versus Dell performing this
activity, thus illustrating the higher direct cost of L5 versus the extra inventory
and complexity of the supplier performing L6.
b. L5 Manufacturing has a higher overall manufacturing and logistics cost than
L6 for two primary reasons:
i. Motherboard-airfreight cost: If motherboards cannot be manufactured
in time to be integrated with the chassis before the chassis are
transported by ship/ocean from China to the U.S., when the
motherboards later become available, Dell incurs a cost to air-freight
the motherboards in order for these boards to catch up with the
empty chassis. Otherwise, if the empty chassis arrive in the U.S.
without motherboards ready to be installed, the empty chassis would
sit idle in Dells Supplier Logistics Center (SLC, where Dell requires
suppliers to store the inventory of half-assembled desktop PCs until
Dell pulls the inventory into its factory for further assembly) and incur
further cost by holding unnecessary inventory.
ii. 3rd-party integration cost: For the motherboard-chassis integration
work that takes place in the U.S., Dell currently outsources this task to
a 3rd-party integrator. These integrators are located close to the Dell
SLCs and factories, so the cost of transporting between the SLC, 3PI,
and Dell factories can be minimized. However, since the U.S. labor
rate is higher than the Chinese labor rate, the cost of integration is
higher at a 3PI than at a Chinese contract manufacturer.
29
c. L6 Manufacturing does incur a higher inventory-holding cost for the overall

supply chain. However, Dell only accounts for the inventory when its pulled
from the SLC into its factory, so for Dell L6 incurs lower manufacturing costs.
2.
a. Option 1 (CM-managed 3PI, original baseline case) has the highest assembly
cost but only a medium complexity score.
b. Option 2 Original (Integration at DAO work cells) and Option 5 (Integrated
chassis from CM factories in Mexico) share the lowest cost. The low cost of
Option 5 is driven by the low labor cost in Mexico; the low cost of Option 2 is
driven by the fact that Dell utilizes its own laborers to assemble the PC.
However, Option 5 has the highest complexity score because it would require
Dells bi-regional procurement organization (in Austin, TX and Shanghai,
China) to coordinate together and entirely revamp its business processes of
managing the L6 chassis from Mexico. Also, the lack of a robust
transportation and custom infrastructure in Mexico also contributed to the
high complexity score.
c. Option 3A (Integration at SLC) has the lowest complexity score and is
relatively low-cost. This is the first option the Dell BPI team considered.
d. The Dell BPI team ended up selecting Option 4 (Dell-managed 3PI)for its
relatively lost cost, and the fact that the 3PIs are already equipped to perform
the L5L10 assembly work.
3.
a. Option 1 (CM-managed 3PI, original baseline scenario):
i. Con: Not easily sustainable due to the high assembly cost
b. Option 2 (Integration at DAO work cells):
i. Pro: Lower assembly cost than current option (1)
ii. Con: Could be difficult to set up inside Dells factory work cells since
it would introduce tremendous change to the layout of the Dell factory;
Dell factory workers would also need to be multi-task; throughput
would slow down because of the added L5L6 step. Could also be
difficult to sustain because each laborer would need to know a
spectrum of PC assembly skills if the inputs they receive contain a
mixture of L5 and L6 PCs
c. Option 3A (Integration at SLC):
i. Pro: looks attractive because it has the lowest process complexity and
wont interfere w/ the current manufacturing process inside Dells
factory. Its assembly cost is also relative low.
ii. Con: The ramp-up time could be significant because the
manufacturing floor layout of the SLC would need to be planned from
scratch, brand new equipment would need to be purchased and
installed, and new laborers would need to be recruited and trained.
d. Option 3B (Integration at Dell-leased building):
30
i. Pro: Same as Option 3A, it looks attractive because it wont interfere

w/ the current manufacturing process inside Dells factory. Its
assembly cost is also relative low.
ii. Con: Would cost slight more than Option 3A because Dell would need
to go out to lease a new building it currently doesnt own. Similar to
Option 3A, the ramp-up time could be significant because the
manufacturing floor layout of the SLC would need to be planned from
scratch, brand new equipment would need to be purchased and
installed, and new laborers would need to be recruited and trained.
e. Option 4 (Dell-managed 3PI):
i. Pro: Dell has direct control over the 3PI and is not managing thru the
CMs, avoid the premium Dell is currently paying the CMs
ii. Con: If the chipset supply shortage situation deteriorates and L5
increases, the 3PIs may not be able to sustain the increased L5
assembly demand.
f. Option 5 (Integrated chassis from CM factories in Mexico):
i. Pro: No impact on the current manufacturing process inside Dells
factory; all PCs coming to the Dell factory still come as L6
ii. Con: Mexico lacks a robust transportation and custom infrastructure,
which contributed to the high complexity score. The delay through the
custom could potentially lead to a gap in the Continuity of Supply
(CoS).
4.
a. Scoring is subjective: A 5 in one department could be more complex (or less
complex) than a 5 in another department
b. No weight distribution given to the different departments involved: If
quality is worth more than procurement complexity, a heavier weight
should be placed on quality.
c. The survey didnt generate a wins-all conclusion and can be subject to
debate among the different departments involved.
5.
a. Explore other sources of chipset supply. (In May 2006, Dell started to use
AMDs Opteron chips in its four-way multi-process servers.) Also, almost a
quarter of chipset expedite occurrences are caused by quality/engineering
issues (Exhibit 7). Dells multi-sourcing strategy could increase the
competitiveness among the chipset suppliers and improve the quality of the
chipsets it receives.
b. Buy chips from Dells own competitors. (All PC makers have a tendency to
order more chipsets than they need. Dell could potentially source chipsets
from competitors who dont need them.)
c. Dell can also consider giving Intel a part of the money it currently spends on
managing chipset expedite and L5 assembly in the U.S. to increase Intels
production capacity.
31
CASE: The Great Inventory Correction

Question 1
Altera is moving from a push-based supply chain strategy to push-pull or pull strategies
in order to reduce inventories, and to be better able to match demand and supply, and
thus, avoid the risk of obsolete inventories.
Question 2
In general, the benefits of the new supply chain strategies offset the disadvantages for
Altera, and they seem likely to be successful. In particular, by building die banks to stock,
but finished products to customer orders, Altera makes use of risk pooling by delaying
product differentiation for its mainstream products. Thus, the company is able to reduce
safety stock levels and inventory holding costs. On the other hand, for its mature and new
products, Altera plans to build-to-order, and avoid inventories altogether. In general, these
push-pull and pull strategies will reduce the variability in the system, and mitigate the
bullwhip effect. One disadvantage here is that these strategies will negate the benefits of
economies of scale to some extent.
Question 3
In general, Altera's customers should react positively to these strategies. For most
products, Altera's lead times will decrease, and service levels will increase, and thus,
inventory levels at the customers will drop due to the reduced variability in the system.
On the down side, Altera's customers may experience longer lead times for products that
were usually in stock before.
Question 4
Flextronics sees the aggregate demand over a large customer base, while its customers
can only observe small segments of the overall market. Thus, Flextronics is in a position
to assess the trends and risks in the market much better than its customers. The company
can use this information to make better plans and forecasts, and ultimately to move
towards a vendor-managed-inventory system at its customers.
Question 4
IBM has a (relatively) small number of suppliers to facilitate collaboration, and buys
parts electronically to decrease delivery lead times. In addition, IBM gives its suppliers
visibility into its inventory so that they can do better production and inventory planning.
CASE: Amazon.com's European Distribution Strategy.
Harvard Case Notes on this case were not available at publication time. The authors will
supply notes as they teach from the material, and this manual will be updated.
32
CHAPTER 7
DISTRIBUTION STRATEGIES
Chapter Overview
This chapter discussed the best practices in distribution strategies. Specifically, questions
related to how a firm configures its distribution network and the impact of concepts such
as inventory pooling and transshipment strategies are discussed.
Question 1
A cross-docking strategy is appropriate for suppliers of fast moving nonperishable products,
such as beer, rice, and shampoo, with high overall sales volumes, but relatively low demands at
individual stores. In this case, cross-docking helps to coordinate shipments of fully loaded
trucks.
On the other hand, perishable products for which lead times are critical, e.g., dairy products
like milk and yogurt, are best suited to a direct shipment strategy. Also, if individual stores
require full truckloads of certain products, then using a warehouse does not reduce
transportation costs, so the supplier can ship directly to the stores.
For slow moving products, such as household appliances, the discount store can benefit
from warehousing in order to reduce the total safety stock in the system, and to decrease
transportation costs.
Question 2
a. Milk and dairy products since the products are staple products, there is
not much variation in demand. Hence products can be either kept in
centralized or local facilities depending on which mode minimizes the
delivery time to the retail outlets.
b. Newspapers this product acts more on a decentralized mode because
demands are variable across locations and delivery time is the key to make
sure that the product gets to the customer in the required time. In addition,
local customization may also be possible to incorporate local news etc,
depending on customer differences.
33
c. MP3 Players products are stocked centrally and then distributed across
the retail/wholesale outlets based on forecasted demand. Regional
inventory is also maintained to respond to short-time changes in demand.
d. Cars dealer inventory is mostly decentralized. However, some
manufacturers like GM has experimented with a model where the car
inventory is centralized at a state level and then distributed to dealers
based on customer orders: this is beneficial to smaller dealers while the
incentive for larger dealers is not obvious.
e. Jeans these have to decentralized to ensure availability of products at the
outlets where the customer makes the purchases.
Question 3
Amazon uses inventory pooling for slow moving items. Car companies such as GM use
pooling to consolidate inventories in one location.
Question 4
Companies like Netflix uses transshipment strategies when a DVD demanded by a customer
serviced by a regional warehouse is not available at that facility but is available at a facility in
the same state or region. Companies selling seasonal products also use transshipment
strategies.
Question 5, 6 & 7
Please refer to discussions in Section 7.3.3.
Question 8
Harvard Case Notes on this case were not available at publication time. The authors will
supply notes as they teach from the material, and this manual will be updated.
CASE: The Smith Group
The authors will supply notes as they teach from the material, and this manual will be
updated.
34
CHAPTER 8
STRATEGIC ALLIANCES
Chapter Overview
This chapter discusses the aspect of corporate alliances between retailers and suppliers.
There has been a major shift regarding retailers moving toward relationships in which the
supplier manages inventory levels at the retailer. This chapter discusses the reasons
behind such a move. Associated aspects include decisions on when a company should
handle its logistics needs in-house or when to use external sources. Also discussed are
other types of business partnerships that can be used to improve supply chain
performance.
Question 1
a.
Consider a company for whom logistics is a core competency, and that has
sufficient resources to implement the strategy.
b.
Consider a company whose products are perishable, and for which

environmental conditions must be tightly controlled during warehousing and transportation.
(For instance, a biotechnology or a pharmaceutical company.) In this case, the company
may not want to give up control of products during logistics operations in order to ensure
their quality, and it may choose to acquire a logistics company with appropriate expertise.
c.
Consider a company that has internal logistics expertise, and that is trying to
expand its operations into new markets. If the company is already resource-constrained, it
may make sense to develop the strategy in-house, but delegate specific operations to thirdparty logistics providers.
d.
Consider a new company that established its manufacturing operations

recently, and is struggling to ramp-up it output. In this case, it may make sense for this
company to focus on design, manufacturing and sales operations of its products and
outsource all activities related to transportation and warehousing of raw materials, and
distribution of finished goods.
Question 2
Logistics is a complex set of tasks that requires vast resources, analytical expertise, related
software and a significant amount of investment in information technology which goes out of
date very rapidly. Thus, unless logistics is a core competency of the company and it has
resources to dedicate to it, it is difficult to design and implement effective logistics operations.
Therefore, companies are increasingly willing to outsource logistics operations to third parties
who have the analytical expertise, necessary software and sufficient resources to keep their
35
information systems up-to-date. In addition, since these third party logistics providers have
several (or many) customers, they have sufficient economies of scale to make the necessary
capital investments to operate an advanced logistics system.
Question 3
1.
Quick response: In a quick response system, the retailer determines the order
quantities and replenishment times, while suppliers analyze POS data to improve their
forecasting and production scheduling. This system could be preferred when the retailersupplier relationship is new, and trust between the two parties has not been fully developed
yet. In this strategy, the retailer has complete control on its inventory, but helps suppliers
improve operations by providing POS data. Additionally, this type of partnership could be
preferred if financial and personnel resources to develop a more integrated relationship are
not available.
2.
Continuous replenishment: In a continuous replenishment system, vendors receive

POS data and use these data to prepare shipments at previously agreed-upon intervals to
maintain specific levels of inventory. This type of partnership is a system between quick
response and VMI, because suppliers and buyers together agree on target inventory and
service levels. It involves less risk for retailers than VMI, and typically leads to a more
stable and long-term relationship between suppliers and retailers than quick response does.
3.
In a vendor-managed inventory system, suppliers decide on the appropriate

inventory level for each product and the appropriate inventory policies to maintain these
levels. The retailers give the vendors full authority to manage inventory replenishment.
This system is more integrated than the previous two systems, and requires a high level of
trust between the supplier and the buyer. If implemented properly, VMI can lead to more
overall system savings than the other two types of partnerships. However, VMI requires
more commitment, and initially, significant investment in information infrastructure, time
and personnel.
Question 4
Information sharing in this case is most beneficial if the production capacity of the supplier is
tight. The supplier can use the weekly POS data to forecast the order size that will arrive at the
beginning of next month, to adjust its production schedule accordingly given the tight capacity,
and to reduce the risk of not being able to meet the demand.
Question 5
Initial VMI schemes in which ownership of goods transferred to the retailer when goods were
delivered benefited suppliers by giving them complete control of their system. Additionally, it
also provided an incentive to the suppliers to ship as much inventory to the retailer as permitted
under the contract. This was an important disadvantage of these contracts because the overall
system profit was not necessarily maximized.
36
The more recently developed consignment schemes have clear inventory and managerial
cost reductions for the retailer since the supplier owns the goods until they are sold. However,
this strategy still allows the supplier to manage its operations more efficiently because it makes
all the production and distribution decisions. Note that inventory holding and personnel costs
at the supplier increase, and these issues must be addressed in the supply contract by sharing
cost savings of the retailer with the supplier.
In general, both of these types of inventory ownership policies require significant
information sharing and large technology investments. Also, note that in these policies the
retailer does not have any control on its inventory any more, and trust issues must be resolved
completely for this type of partnership to work out.
Question 6
Some of the following steps could have been taken to prevent the failure of the program:
1.
In a VMI system, trust issues should be resolved at the very beginning during
contract negotiations. Additionally, communication channels must be open at all times to
discuss any additional concerns that may arise. Clearly, these issues were not addressed in
sufficient detail at Spartan.
2.
Spartan could have specified a test period for its suppliers, and after the test period
the program could have been discontinued with unsuccessful suppliers.
3.
Spartan could have collaborated with its suppliers to determine agreed-upon

forecasts and help them resolve forecasting issues due to promotions.
4.
The retailer-supplier partnership could have started with a continuous replenishment

system which is less likely than a vendor-managed inventory system. Then, the VMI
system could have been established based on this experience.
CASE: Audio Duplication Services, Inc. (ADS)

Question 1
ADS's customers' customers, i.e., the national retailers, want to reduce inventory holding
costs and expenses related to managing inventory by moving towards VMI agreements.
Question 2
The most significant impact on ADS's business will be on its distribution functions
because it will have to ship directly to the individual stores instead of distribution centers.
Transportation costs will increase due to the increase in the number of destinations. Also,
depending on its agreement with the record companies, ADS may incur additional
37
inventory holding costs because compact disks and cassettes will spend more time in its
system.
ADS should take this situation as an opportunity to re-design and streamline its
operations and prepare itself for the general trend towards VMI in the industry. This may
help ADS to gain a competitive advantage, and potentially increase its market share.
Question 3
Logistics is not a core competency of ADS. Additionally, the management team of ADS
must address more crucial issues such as the emerging media distribution business over
the Internet. Therefore, ADS should outsource its distribution functions to a third-party
logistics provider in order to focus on issues threatening its core business.
Question 4
Under the proposed consignment scheme, inventory belongs to the suppliers until the
products are sold. Under this scheme, it would be inefficient and unreasonable if products
were first delivered to distribution centers that belong to the retailers. This would add an
unnecessary complexity to the system as to how goods in the distribution centers would
be handled and ultimately delivered to the individual stores. Additionally, by encouraging
direct shipments, retailers can reduce the warehouse space they rent or own, and reduce
costs further.
38
CHAPTER 9
PROCUREMENT AND OUTSOURCING STRATEGIES
Chapter Overview
Outsourcing has become a key issue in supply chains of today. This chapter discusses the
roles that outsourcing and procurement play in the supply chain. There are both risks and
benefits associated with outsourcing a firms activities. These key issues are discussed. A
specific decision is deciding what to make internally and what to buy from outside
suppliers. A related issue is when a firm outsources a particular process, how can it
ensure timely supply of components? Finally, the chapter discusses the impact of the
Internet on the procurement process
Question 1
Refer to the HBS Teaching Note on Zara: Fast Fashion (703496) for discussion on the
questions.
Question 2
In order to assess the effect of product life cycles on the make/buy framework, we need to
understand how product knowledge and capacity requirements evolve over the life cycle of a
product. A typical product life cycle has several stages:
1.
The product is newly introduced, and bought initially by a relatively small number
of customers (early adopters). At this stage of the product life cycle, production level is
low and capacity is usually not an issue. Also, quite possibly, there are problems in the
design and manufacturing of the product such that yield is low, and changes in the
production processes are frequent. Under these conditions, the buy/make framework
implies that a new product should not be immediately outsourced.
2.
In the rapid adoption phase, demand for the product increases at an increasing rate.
If this leads to tight production capacity, and the production processes are already stable,
then outsourcing should be considered. It may even be the only choice to keep up with the
increasing demand.
3.
When the product reaches the maturity phase, i.e., when demand stabilizes over
time, then the outsourcing decision should be re-considered. For instance, if earlier an
integral product was outsourced due to capacity constraints, then the firm should consider
installing additional capacity to meet the stabilized demand, and manufacturing the product
in-house.
4.
When the product is approaching its end-of-life, outsourcing is a good option for
both integral and modular products because the company should focus on new products.
39
Question 3
The hierarchical model discussed in Section 9.3 fits into IBMs strategy during the early 1980s.
The PC is a modular product. When IBM started the PC business in the early 1980s, it did not
have the infrastructure regarding both knowledge and capacity to build the product or its
components in-house. Therefore, IBM decided to outsource the design and manufacturing of
key components such as the microprocessor to Intel or the operating system to Microsoft.
However, according to the framework, this is a risky strategy as the dependency on both
knowledge and capacity meant that suppliers like Intel and Microsoft actually became more
powerful this subsequently resulted in a transfer of this knowledge base to IBMs competitors
like Compaq and other PC manufacturers. Therefore, given the product being modular, the
knowledge gained by the suppliers actually hurt IBM in the end.
Question 4
P&Gs products like the shampoos are an integral product. In this case, it is vitally important
that the company has knowledge over the product (which it does). Regarding capacity, it is best
for P&G to keep the production internal if it can. If this is not possible, then outsourcing is an
option for the company. Accordingly, the company should have capacity to produce the product
internally with the option of outsourcing production if required during times of need such as
periods of high demand. P&G is quite consistent with this strategy sometimes the production
is outsourced to take advantage of available capacity at the suppliers but most of the time,
production is internal.
Question 5
When the customer importance is low, the component has fast clockspeed and there is no
competitive advantage, the firm can decide to outsource the production of the component.
Question 6
Ciscos case with its components in the early 2000s reflected a scenario where the components
had a high supply risk while not contributing much to the profit margin. According to the
Kraljics supply matrix, this implies the top left quadrant. Accordingly, Cisco adopted a policy
where most of these outsourced components were contracted to suppliers based on long-term
contracts. This also resulted in the problems later when demand for telecommunications
equipment fell Cisco could not reduce their inventories in time quickly because the long-term
contracts with the suppliers implied that a large number of the unwanted items had to be
subsequently written off as there was no demand for these items.
Question 7
Leverage items: Computer microprocessors
Non-critical items: Office supplies
Bottleneck items: Components for internet routers and switches
Question 8
Components go through the lifecycle stages should have different procurement strategies byu
the stage of the lifecycle that the component is in.
40
Growth stage (introduction) here the supply risk is high because it is a new product while the
profit impact is low as the product is sold at low volumes. Hence, a bottleneck item strategy
(Upper Left Quadrant of the Kraljics matrix) is appropriate.
Maturity (steady state) as the product moves to this stage, the profit impact increases. If the
supply risk is high, long-term partnerships is the appropriate strategy, otherwise the purchasing
power of the buying company should be exploited to force competition among suppliers since
even a small reduction in cost will lead to large savings.
End-of-life as the product moves towards the end of its lifecycle, the profit impact reduces
and so does the supply risk. The product becomes a non-critical item and hence the
procurement can be automated and decentralized.
Question 9
The private and consortia-based e-marketplaces play different roles in IBMs supply chain.
IBM benefits from both marketplaces in different ways.
1.
In the private exchange, the focus is on better supply chain collaboration. Sensitive
information such as product design, customer orders, cost, production plans, etc., are
shared between IBM and its suppliers to improve operations, decrease costs and increase
revenues.
2.
The objective in the consortia-based e-marketplace is to increase purchasing power

by aggregating buyers, to find new and high quality suppliers, and to allow these suppliers
achieve cost efficiencies by dealing with standardized systems.
CASE: Solectron
Please refer to Teaching Note for HBS case Solectron: From Contract Manufacturer to
Global Supply Chain Integrator (Product No.: GS24TN)
41
CHAPTER 10
GLOBAL LOGISTICS AND RISK MANAGEMENT
Chapter Overview
As globalization increases, companies are facing an increasing need of following other
companies to expand outside of their countries boundaries. In this chapter, various issues
associated with global supply chains and associated risks are discussed. Other than a need
to expand, there are other reasons for opening operations globally. In such cases, the
questions become as to how the companys network should be positioned. Should there
be different suppliers in different countries? What should be the type of control over the
global operations? What are the sources of risks faced by the global supply chain and
how can the firm mitigate the various risks? All these issues are discussed in this chapter.
Question 1
a.
Domestic production with international distribution is typical for small businesses

that attempt to expand to serve global markets. For instance, Mavi Jeans manufactures its
products in two facilities in Istanbul, Turkey, but sells them in more than 3,000 locations
worldwide.
b.
The product(s) may be so complex that the necessary expertise and resources to
manufacture different components are spread across the world. For instance, Boeing has
more than15,000 suppliers in 81 countries. (
c.
Typically, high labor cost in labor-intensive industries causes manufacturing

operations to shift offshore. For instance, consider Nike, which subcontracts its
manufacturing to approximately 350 factories in the Asia-Pacific region employing nearly
400,000 workers
d.
A fully integrated supply chain is crucial for companies that implement flexible
global supply chain strategies in a highly variable environment, e.g., for companies that
intend to shift production from country to country in order to reduce costs or risk. The PC
manufacturing industry is a good example of this.
Question 2
The recent problems with pet foods and other products from Chinese manufacturers is an
example of an unknown-unknown risk that has affected the supply of such products from that
region. This is was not anticipated before and therefore is very hard to predict. Obviously,
strategies such as building redundancy would have mitigated the problem. In addition, a higher
velocity in terms of sensing and responding would have increased the awareness levels of
consumers and companies. Such adaptive supply chain strategies are sometimes the only
means of hedging against the unknown-unknown risk brought about by the Chinese suppliers.
42
Question 3
Although the specific answer depends on the management style, resources and long-term
strategies of the firm, a hedge strategy seems more appropriate for a small firm. Following a
speculative strategy my be disastrous if the company does not have the size and financial
strength to absorb potential losses associated with a speculative strategy. On the other hand,
following a flexible strategy may require a significant amount of additional investment in
infrastructure to ensure the necessary coordination, and for the re-design of products and
processes. The resources necessary to implement a flexible strategy successfully may not be
available to a small firm. Clearly, for a large firm, the financial and resource constraints may
be much less relevant than for a small firm, and the global strategy to be employed may be any
of the three strategies mentioned above depending on the specifics of the situation.
Question 4
Some of the factors that affect whether a product can be sold globally without modification are
discussed below:
1.
Brand recognition. Some brands have developed a global image of quality and
desirability that they do not have to be customized to regional and national tastes. This is
especially true for luxury brands, such as Ferrari that sells the same cars globally.
2.
Cultural differences. Some products reflect long-term traditions and/or a certain

regional taste developed over time, and fit into the regional category. A lot of food
products fall here, and it is much harder for these products to get accepted globally. For
instance, it is hard to think of kabobs that are very popular in the Middle East to be sold in
global chain restraints. An exception in this category is pizza, for instance.
3.
Standardization. In consumer electronics and computer manufacturing there are

plenty of examples of global products. The complexity of such products requires
standardization throughout the world, and makes them global products. However, note that
exceptions exist. For instance, TV systems in the US and Europe are different, and the
same TV set cannot be solid in both markets. Medical products also fit into this category as
long as they satisfy differences in health regulations in different countries.
Question 5
In Belgium and Canada, the most important issue would be keeping the costs down. Bakery production
is labor-intensive and requires relatively unskilled labor. However, unskilled labor costs in the First
World countries are typically very high compared to the rest of the world.
In the emerging nations, such as Russia, Singapore and Argentina, logistics issues would be most
important since the necessary infrastructure may not be in place. On-time delivery of bakery products
is crucial because they are perishable items, and there is a time window they need to reach the bakeries
in order to be sold. For instance, if the fresh products arrive at noon, instead of early in the morning,
most of these items may be left on the shelves at the end of the day.
43
In a Third World country, such as Nigeria, in addition to the logistics problems mentioned about for
the emerging nations, environmental conditions may not be sufficient to ensure a healthy production of
bakery products. For instance, water may not be clean, etc.
Question 6
a.
Possible reasons for Wal-Mart to start international operations include:

1.
Domestic revenues do not increase at a pace Wal-Mart wants them to.

Therefore, Wal-Mart intends to achieve a high growth rate in foreign countries to hedge against
the slow business in the domestic markets.
2.
A rival European chain, Carrefour SA, has already a strong presence in
the South American market. Wal-Mart could lose the market totally if it did not respond
quickly.
3.
Foreign operations would also help Wal-Mart identity potential new
low-cost suppliers for domestic operations.
b.
Having many suppliers in different countries would enhance Wal-Marts everyday low
pricing formula by allowing it to hedge against cost increases due to economic and/or political
conditions in a given country.
c.
Strong centralized control is helpful for aligning local operations with the overall corporate
objectives. Additionally, Wal-Marts years of domestic expertise in retail operations, e.g.,
distribution systems, can best be leveraged to improve distribution in South America if strong
centralized control is implemented. On the other hand, it may be impossible to analyze customer
preferences and understand cultural differences unless local managers control certain aspects of the
business.
d.
In general, political instability is a major concern in South American countries. For

instance, due to the recent downfall of the Argentine economy, Wal-Mart may experience
difficulties if the Argentine government starts to employ policies that favor domestic producers
rather than foreign companies. Also, if the dollar continues to gain in value against major South
American currencies such as the Argentine Peso and Brazilian Real, American exports into these
countries will be expensive compared to their local competitors, which will negatively impact WalMarts margins.
44
CHAPTER 11
COORDINATED PRODUCT AND SUPPLY CHAIN DESIGN
Chapter Overview
The importance of coordinating product design with the supply chain design is discussed.
Concepts relate to delayed differentiation, product architecture, design for logistics,
standardization and the push-pull boundary. In addition, related concepts include mass
customization and supplier integration strategies.
Question 1
Low clockspeed products: Soups, Diapers, Airplanes
Medium Clockspeed: Cars, Exercise Equipments
High ClockSpeed: Computers, Cellphones, Printers
Question 2
Refer to discussion in Section 11.1 low clockspeed products tend to move towards a product
design that is integrated while high clockspeed implies more modular product design.
Question 3
Examples of products in each of the four boxes are indicated in Figure 11-3
Question 4
Several examples of products designed for easier handling and cheaper shipping and storage are
mentioned: IKEA furniture packed in kits that customers assemble at home, and garbage cans/food
containers that are stacked on top of each other to save shelf space.
Other examples include garden chairs that can be folded, and FedEx packages that are available in a
limited number of sizes. Note that FedEx does not accept shipments that are not in one of their standard
boxes or envelopes.
Question 5
There are several disadvantages associated with the proliferation of products, models and options.
Some of these are listed below:
1.
Complex production scheduling caused by nonstandard processes.
2.
Decreased economies of scale, both in production and distribution.
3.
High variability in demand at a product level which may cause a variety of problems:
i.
ii.
Difficulty in demand forecasting at a product level.

Higher levels of safety stock and increased inventory holding costs.
Question 6
45
Downward substitution is a way of standardization in order to pool risk by aggregating demand across
products. Thus, it helps to reduce demand variability and stock-outs. Also, it ensures customer
satisfaction because demand is occasionally satisfied by products of higher quality than required by the
customers. However, clearly, downward substitution reduces potential revenues since high quality
products are offered to the customers at prices of lower quality products. In other words, the company
makes a trade-off between lost sales and lost revenue.
Question 7
Part standardization can prove very useful to eliminate the cost and inconvenience caused by possible
incompatibilities between product offerings (of different vendors). However, excessive standardization
may inhibit product innovation and competition by limiting the design options, and damage the
industry. For instance, the large market share of Intel based personal computers running Microsoft
Windows operating systems makes this so-called Wintel platform and associated technologies a
standard for many software vendors. However, in some instances, this slows down the progress of the
software industry due to some intrinsic design problems of the Wintel technology. For example, the
640 KB based memory restriction of DOS systems was not removed from later Windows operating
systems for a long time for reasons of backwards compatibility despite the known limitations.
Question 8
A car is a modular product because there are a number of options for each of the components of a car,
e.g., body type, engine, headlights, etc. however, the car engine itself is not a modular product, and has
to be manufactured as a single part.
Typically, an assembly process of mechanical parts is a modular process because sub-assemblies
can be stocked between successive operations. Examples include computer and car assembly lines. On
the other hand, processes for pharmaceutical products may not be modular due to environmental
conditions, such as temperature and humidity, that would need to be tightly controlled for intermediate
products. This environmental control can be very costly or technically not feasible, and so a
nonmodular process is required.
Question 9
By standardization, demand is aggregated across products and/or processes, and aggregate demand has
a lower standard deviation than disaggregate demand. Thus, forecast accuracy is improved by lowering
the variability of demand to be estimated.
Question 10
Advantages of integrating suppliers into the product design process include a decline in purchased
material costs, an increase in purchased material quality, a decline in development time and cost and the
final manufacturing cost, and an increase in the final product technology levels.
On the other hand, supplier integration requires additional commitment of resources and time from
all parties. Tight integration is only feasible with a handful of suppliers that need to be chosen very
carefully. Therefore, integration limits flexibility, and carries a high risk in case of a failed relationship.
In addition, collaboration in development of new products requires shared knowledge about new
technologies, and this may be very undesirable for high-tech manufacturing firms that develop cutting
edge technology.
46
Question 11
Mass customization is most appropriate for modular products that have modular processes such that
product differentiation can be postponed as much as possible to take advantage of risk pooling and
economies of scale despite highly customized products. Therefore, first, products need to be assessed
along the dimensions of part and process standardization in order to determine their appropriateness for
mass customization. In addition, the capabilities of the supply chain need to be evaluated. For
instance, for certain products, the distribution centers or retailers may be able to customize the products,
which makes these products more suited to mass customization.
CASE: Hewlett-Packard Company: Network Printer Design for

Universality
Question 1
It allows HP to defer the allocation of laser printers to specific regions for about two months. Thus, in
these two months the decisions can be made based on the aggregate demand forecast in all regions.
Question 2
1.
Disadvantages of the universal power supply include:

i.
ii.
2.
Increase material cost.

Possible power play among warehouses when transshipment is facilitated by
the use of the universal power supply.
Advantages of the universal power supply include:
i.
ii.
iii.
iv.
Improved forecast accuracy

Less frequent stock-outs due to improved forecasting and risk pooling.
Lower safety stocks and inventory holding costs for a given service level.
Lower transshipment costs because expensive reworks can be avoided, and
safety regulations can be easily satisfied.
Question 3
When the product is first introduced into the market, demand is highly volatile. Therefore, the
benefits of risk pooling through the use of the universal power supply are relatively high at the
start of the life cycle when more safety stock needs to be held, and inventory holding costs are
high. In addition, the cost of stock-outs is higher during the ramp-up stage of the product life
cycle because HP is able to charge a premium due to lack of competition initially, and the adverse
publicity of stock-outs at the beginning can impact the ultimate success of the product.
Toward the end of the lift cycle, inventories are reduced, and transshipment becomes an
option to alleviate demand imbalances between different regions. Therefore, the benefits from a
cost reduction in transshipment become more important at the end of the product life cycle.
Question 4
47
The lead time that results from outsourcing the printer engine to a Japanese supplier that holds
monopoly power is very long compared to the life cycle of the product. Also, under the
buy/make framework, outsourcing a key component of a modular product may be a risky decision
for the company. Therefore, in order to reduce this risk and the lead times, HP Boise should
consider manufacturing the printer engine in-house if there is enough production capacity. In
addition, this would provide savings in transportation costs because printed circuit boards would
not have to be shipped from Boise to Japan.
Question 5
Given the short life cycles of laser printers along with high demand uncertainty, and the past
experiences (the VIPER example), we would recommend adopting the universal power supply
strategy. However, clearly, to made the final decision, a thorough analysis needs to be carried out
in order to determine the trade-off between the increase in manufacturing costs and the decrease
in stock-out and inventory holding costs due to risk pooling.
48
CHAPTER 12
CUSTOMER VALUE
Chapter Overview
Concepts related to customer value are discussed in this chapter. Specifically, metrics for
customer value and aligning supply chain strategy to customer value are discussed. In
addition, the critical role that information technology plays in enhancing customer value
is highlighted.
Question 1
In traditional retailing, quality is frequently the primary determinant of price: the higher the
quality of the physical product, the higher is the price. However, in on-line retailing, firms are
able to leverage on value propositions other than product quality, and thus gain more flexibility in
pricing. For instance, the ability to browse and search an on-line catalog or the availability of an
order tracking system may lure the customer to a site which has higher prices for the same
product or to a site that offers lower quality products for the same price. In other words, in online retailing the price versus quality trade-off curve is affected by other factors.
Question 2
a.
As the available capacity decreases with respect to the average demand, it may be
impossible to satisfy the realized demand. Therefore, by changing prices to affect the
demand distribution, the firm would be able to increase revenues. For instance, increasing
price may decrease the overall demand, but if the realized demand for the company is still
more than the available capacity, the firm is better off by increasing price.
b.
As the standard deviation of demand increases with respect to its mean, it becomes
more likely that the realized demand over time is not close to the demand estimate associated
with a fixed-price policy. Therefore, adjusting prices over time increases profits when
demand variability is high.
c.
Demand is not only a function of price. Seasonality and macroeconomic conditions,

e.g., changes in the size of the whole market, affect the demand distribution that an individual
firm faces. Clearly, as the demand distribution changes over time, the optimal price changes
as well.
Question 3
a.
This dimension of customer value refers to the ability to match supply and demand. If
the supply chain is not designed by taking into account the specific characteristics of the
market, then the consequences can be severe. For instance, if the demand is highly variable,
then the focus of the supply chain should be on flexibility and reducing lead times such that
the product can be delivered to the market before the conditions change. Otherwise,
49
customer requirements cannot be satisfied, sales are lost, and obsolete inventories
accumulate.
b.
The decision where to draw the push-pull boundary in the supply chain has a strong
impact on what product portfolio can be offered. For instance, if finished products are madeto-stock and kept in a central inventory until a customer order arrives, then it may not be
possible to meet the demand for all types of product configurations. On the other hand, if the
push-pull boundary is at the assembly operation, as it is in the Dell case, it is possible to offer
a greater variety of products.
c.
An important component of price is cost. Supply chain decisions determine

production, inventory and transportation cost, and affect the ability of a company to offer low
prices. Furthermore, supply chain decisions impact the brand recognition of a product. Note
that it would be very hard to build a prestigious brand name if the supply chain produces
defective products, does not meet delivery due dates, and does not provide support for its
products after the sale.
d.
Consider, for example, service and maintenance support. Clearly, in order to perform
these activities, the supply chain must satisfy certain requirements. For instance, if on-site
support is provided, then it may be necessary to keep component inventories close to the
major customer locations in addition to the necessary personnel to perform these activities.
Also, if a piece of hardware needs to be sent back to the factory to be fixed, then reverse
logistics operations must be planned, e.g., pick-up from the customer site, transportation back
to the factory, etc.
e.
In order to ensure that the learning process enhances customer value, it is critical to
install the necessary information loops in the supply chain. For instance, if databases are
used to track customer preferences, then this data must be fed back to the product design
process, and eventually a superior product must reach the customer. Clearly, this may require
additional investment in information technology infrastructure.
Also, consider the Dell example, in which Dell manages the entire purchasing process of
large customers including special custom features. In this case, the supply chain must have
enough flexibility in production and distribution to accommodate customer-specific demands.
Question 4
a.
Starbucks emphasizes customer access along with experience by creating a pleasant

ambiance in its store.
b.
The Gap creates customer value by offering affordable products along with a brand image
build around stylish designs.
c.
Expedia.com brings customer value by offering a large selection of products, i.e.,

consolidating information about different travel rates from many companies for easier
shopping, and enabling one-stop shopping for flights, hotels and cars.
Question 5
Examples of experiences enabled by the Internet include:
50
1.
Newsletters sent regularly by e-mail.
2.
On-line customer service.
3.
On-line birthday cards sent based on birthday data collected from customers.
4.
User groups created by companies that bring together people that share the same enthusiasm
and interest about the companys products.
Question 6
1. Possible performance measures for Amazon.com include:
i.
The average interval between re-visits (of the same customer) to

the site.
ii.
iii.
iv.
v.
Average order size in dollars, average number of items in an order.

Growth rate of hits on the site.
Links to the site from other web sites.
Classical performance measures, such as sales, total revenue, costs
and profits, earnings per share, etc.
2. Possible performance measures for the supply chain include:

i.
ii.
iii.
iv.
On-time delivery, lead time, fill rate.

Return rate.
Value added per employee.
Inventory turnover.
51
CHAPTER 13
SMART PRICING
Chapter Overview
In this chapter, various pricing strategies that influence demand are discussed. Given that
demand decreases with increasing prices, there are different pricing strategies which
companies can adopt to increase revenue. Specific aspects related to markdown pricing
and dynamic pricing are also discussed. In addition, concepts related to airlines revenue
management are highlighted.
Question 1
When D=2000-0.6p, the following is the revenue table:
p
D
250
500
750
1000
1250
1500
1750
2000
2250
2500
2750
3000
3250
1850
1700
1550
1400
1250
1100
950
800
650
500
350
200
50
Revenue
462500
850000
1162500
1400000
1562500
1650000
1662500
1600000
1462500
1250000
962500
600000
162500
Therefore, at a price of $1750 when demand is 950 units, the revenue is maximized.
If the firm can change two prices, then the revenue will be higher. For example, at 950 units
demand, the price is $1750. However, at the next higher price of $2000, there is a demand of 800
units. This implies, 800 customers are willing to pay the higher price. If the company charges two
prices, one for $2000 and the other for $1750, the total revenue becomes $1862500 (a
combination of 800 units@$2000/unit and the balance 150 units@$1750/unit). Other
combinations can be determined to figure out the maximum revenue the company can achieve.
Question 2
Examples are provided for each type of pricing in the discussion in section 13.6.1
Question 3
Airlines are in financial trouble not because of revenue management but because of a
combination of other factors such as reduced total volume of passengers, inefficiencies in
operations and rising fuel costs.
52
Question 4
Dynamic pricing allows demand to shifted from one period to another due to changes in prices.
As available capacity decreases, it makes sense to move demand to other periods by changing
the price. Firms may want to increase prices during periods of high demand uncertainty ad they
may not want to produce in excess of demand. The demand variability aspect also comes in
with regards to seasonality in demand patterns as seasonality increases, so does the demand
variability and hence variable pricing would be better under such scenarios.
Question 5
With a company like Zara that moves products within two weeks, selling at full prices make
sense as customers would buy at that price there is no scope for waiting for markdowns.
When a car company has a hot selling model and there is not enough supply to meet demand,
the company can afford to sell the product at regular prices. Typical cases of retailers selling
staple goods and consumables sell many products on an EDLP strategy.
Question 6
With markdowns, companies are usually looking to attract customers whose reservation price
is lower than the original sales price. Therefore, while such customers help to get rid of excess
inventory, it may not be due to the mistakes of the company but the fact that certain customers
have a reservation price that is lower than the original selling price.
Question 7
A bicycle retailer can raise prices when the retailer gets a hot-selling model that attracts the
first-mover customers who are willing to pay the higher price for the product. This is similar to
the customers who paid $499 for the new iPhone. The retailer would reduce prices when a
model is being phased out by the manufacturer because it will be replaced by a new model;
when there is excess inventory at the retailer and towards the end of the summer season after
which normal demand for bikes is expected to reduce.
Question 8
The Coke strategy was advantageous for the company as it allowed them to increase revenue
on days with higher temperatures. It was detrimental to the consumers because it was probably
looked at as being unfair the days when the customers need more of Coke because of the hot
weather, they have to pay more of it. Customers could have easily seen this as an example of
price gouging.
CASE: The Great Rebate Runaround
The authors will supply notes as they teach from the material, and this manual will be
updated.
53
CHAPTER 14
INFORMATION TECHNOLOGY AND BUSINESS
PROCESSES
Chapter Overview
The challenges for supply chains from a technology and data standpoint are discussed in
this chapter. Emerging technologies such as SOA, integrated systems and E-commerce
would largely help towards meeting some of these challenges. Simultaneously, the
importance of reconfiguring business processes to help the integration and enable
transmission of information across corporations is also highlighted.
Question 1
The four major challenges faced by supply chains that can be aided by IT are as follows:
Information availability on each product from production to delivery point.
Single point of contact.
Decision making based on total supply chain information.
Collaboration with supply chain partners.
For the first item, standardization of processes, communications, data, and interfaces
bring about cheaper and easier methods to implement the basic infrastructure. 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 chaintherefore, there will be
more information and tracking of products at each level. New technologies such as RFID
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 second challenge will be addressed since data display and access in various forms
would become more integrated in systems that do not require any specialized knowledge.
This makes system interfaces more intuitive and relevant to the task at hand. Portal
interfaces described in this chapter is one such example.
Third, various systems will interact in a way that will blur the current boundaries; SOA
will allow easier integration and as a result, systems purchased as best of breed by
different people at various levels in the organization will become better integrated and
use common interfaces. Similarly, there will be a proliferation of applications that can
plug into a companys enterprise system to provide specialized functionality. The third
goal will be achieved through development of decision-support systems and intelligent
agents that are more sophisticated, rely on real-time data, and are interoperable.
The final item regarding collaboration with supply chain partners would be enabled by
electronic commerce. E-commerce provides an interface to businesses and government that
54
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) emarketplaces now allow buyers to integrate their suppliers into their information systems
Question 2
In addition to enabling access to data that currently reside in closed systems, integrated business
processes would ultimately remove the barriers to adopting a best-of-breed approach to supply chain
management by alleviating the challenging application integration and version upgrade issues. For
instance, a 3PL provider that handles inbound logistics of a company may install a tracking system for
its trucks that can be integrated to its customers systems. This would provide better information to the
vendor when to anticipate deliveries in order to improve production schedules.
Question 3
The purpose of the second generation of ERP systems (ERP II) is to achieve integration across the
supply chain, and the Internet technology is a major tool for the ERP vendors to achieve this objective.
Three of the four goals of the supply chain information technology, i.e., collection and access of
information and collaboration, can be facilitated greatly through standardization by the use of Internet.
Along these lines, we are beginning to see the architecture of ERP systems evolve toward a modular
and Web-based environment.
Question 4
a.
Network design has the longest planning horizon (up to a few years) with a strategic focus on
how to optimize the overall supply chain. Supply chain master planning is a tactical decision with
the objective of coordinating different functions in the supply chain, and the planning horizon
ranges typically from a week to a few weeks. Operational planning systems have short planning
horizons and the focus is on a single system, e.g., production planning. The objective is to generate
feasible strategies under the constraints imposed by the decisions made previously in strategic
network design and supply chain master planning. In operational execution systems, the focus is on
real-time execution.
b.
The execution systems use very detailed data about the state of the supply chain, and the level
of data aggregation increases as you move from execution to strategic network design. For
instance, strategic network design problems aggregate demand typically on an annual basis.
c.
Complexity and duration of implementation increases as you move from strategic decisionmaking toward execution due to increasing level of detail.
d.
Only a few people need to be involved in a strategic network design project, but the number of
users increases dramatically toward execution.
55
CHAPTER 15
TECHNOLOGY STANDARDS
Chapter Overview
In this chapter, important issues related to technology standards are discussed as it affects
or will affect the supply chains in the future. Many of the improvements in supply chains
will be driven by development and evolution of technology. Hence, it is important to
highlight the important standards and technology trends. A related aspect is the influence
on business processes and how business processes need to change in order to take
advantage of the emerging technologies. Finally, the recent development of RFID is
discussed in addition to how it will impact supply chain performance.
Question 1
SOA being the architecture being adopted by all major business software vendors, it will
have immense effect on supply chains as companies move towards integrated systems
from such vendors. In addition any custom applications would also be built on this
architecture. Therefore how SCM shapes up in the future will be dependent on
developments in the SOA based tools and software. A transportation company with an
integrated system built on the same SOA principles
Question 2
Given the variability in systems across companies, it is important to have specific
standards regarding how information should be transmitted across corporations. This is
even more vital for global supply chains when companies in different parts of the world
would need to coordinate information with one another under such scenarios, it would
help if common standards are adopted by participating companies to make information
sharing easier for all parties.
Question 3
Demand shifts during promotions are common. With RFID, it would be possible to track
changes in demand in a more effective manner. Since RFID would generally reduce the
lead time for transportation of items through the supply chain, it would also be easier to
move items from one location to another based on where promotions may cause a large
spike in demand.
Question 4
When all items are tagged, it would be possible to increase the velocity of items through
the supply chain, Losses due to theft, spillage, obsolescence would also reduce. In
addition, and most important, companies would be able to match supply with
demand more effectively as each company would have exact information regarding a
products demand.
56

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DESIGNING AND MANAGING THE SUPPLY CHAIN

David Simchi-Levi Philip Kaminsky

Solutions for Discussion Questions1

i. Purchasing and material handling

5. Automobile dealers. For instance, Hayward Ford.

Marketing companies that handle solicitation to potential customers.

High inventory levels

Advantages: Low inventory holding and warehousing costs.

CASE: Meditech Surgical

Demand is not studied in detail.

Forecasting errors are not tracked.

The planning system amplifies small variations in demand.

Develop and implement better information systems.

Improve communications with customers.

CASE: Steel Works, Inc.

keeping safety stock,

shortening production and order lead times,

using risk pooling strategies,

delaying product differentiation in the supply chain as much as possible, i.e.,

by installing systems to achieve information sharing between suppliers and

Risk pooling across locations: combining several warehouses

Risk pooling across time: using quarterly demand forecasts

Risk pooling across products: designing products with

The benefits of risk pooling increase as the correlation between demands

Case: Sport Obermeyer

Location of retail stores, existing warehouses (5 warehouses located in Atlanta,

In the pharmaceutical industry, overnight delivery is common. Therefore, proximity to a major

Furniture manufacturing and distribution depends heavily on manual labor. Therefore,

Use a mathematical optimization model to generate a number of good candidate

CASE: H.C. Starck, Inc.

Need to monitor the total revenue.

The optimal values of the decision variables are sensitive to the

As a customer, JITD would at first be disconcerting because I would be losing

The proposed system will be effective if it can be implemented correctly, and

Collaborative forecasts help all stakeholders in the supply chain to arrive at a

Vendor-managed inventory allows the supplier to monitor downstream demand and

Use cross-docking to reduce/eliminate the time items spend in inventory.

Share demand information throughout the supply chain to be able to respond to

Implement VMI (Vendor Managed Inventory) strategies so that suppliers can be

Box I. In the rapid prototyping industry, demand is uncertain and economies of

Box II. In chip manufacturing, economies of scale are important because

In a catalog, search capabilities are limited, and searching is time consuming. In

Catalog selling is not interactive. Therefore, it is harder to match supply and

c. L6 Manufacturing does incur a higher inventory-holding cost for the overall

i. Pro: Same as Option 3A, it looks attractive because it wont interfere

CASE: The Great Inventory Correction

Consider a company whose products are perishable, and for which

Consider a new company that established its manufacturing operations

Continuous replenishment: In a continuous replenishment system, vendors receive

In a vendor-managed inventory system, suppliers decide on the appropriate

Spartan could have collaborated with its suppliers to determine agreed-upon

The retailer-supplier partnership could have started with a continuous replenishment

CASE: Audio Duplication Services, Inc. (ADS)

The objective in the consortia-based e-marketplace is to increase purchasing power

Domestic production with international distribution is typical for small businesses

Typically, high labor cost in labor-intensive industries causes manufacturing

Cultural differences. Some products reflect long-term traditions and/or a certain

Standardization. In consumer electronics and computer manufacturing there are

Possible reasons for Wal-Mart to start international operations include:

Domestic revenues do not increase at a pace Wal-Mart wants them to.

In general, political instability is a major concern in South American countries. For

Complex production scheduling caused by nonstandard processes.

Decreased economies of scale, both in production and distribution.