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Supply Chain

Integration

Phil Simchi-Levi
David Kaminsky
kaminsky@ieor.berkeley.edu
Philip Kaminsky
Edith Simchi-Levi
The Old Paradigm:
Push Strategies
 Production decisions based on long-term
forecasts
 Ordering decisions based on inventory &
forecasts
 What are the problems with push strategies?
– Inability to meet changing demand patterns
– Obsolescence
– The bullwhip effect:
 Excessive inventory
 Excessive production variability
 Poor service levels
© 2003 Simchi-Levi, Kaminsky, Simchi-Levi
A Newer Paradigm:
Pull Strategies
 Production is demand driven
– Production and distribution coordinated with true customer
demand
– Firms respond to specific orders
 Pull Strategies result in:
– Reduced lead times (better anticipation)
– Decreased inventory levels at retailers and manufacturers
– Decreased system variability
– Better response to changing markets
 But:
– Harder to leverage economies of scale
– Doesn’t work in all cases

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Push and Pull Systems

 What are the advantages of push


systems?
 What are the advantages of pull

systems?
 Is there a system that has the

advantages of both systems?

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


A new Supply Chain
Paradigm
 A shift from a Push System...
– Production decisions are based on forecast
 …to a Push-Pull System

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Push-Pull Supply Chains
The Supply Chain Time Line

Customers
Suppliers

PUSH STRATEGY PULL STRATEGY

Low Uncertainty High Uncertainty


Push-Pull Boundary

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


A new Supply Chain
Paradigm
 A shift from a Push System...
– Production decisions are based on forecast
 …to a Push-Pull System
– Initial portion of the supply chain is replenished
based on long-term forecasts
 For
example, parts inventory may be replenished
based on forecasts
– Final supply chain stages based on actual
customer demand.
 For example, assembly may based on actual orders.
© 2003 Simchi-Levi, Kaminsky, Simchi-Levi
Consider Two PC
Manufacturers:
 Build to Stock  Build to order
– Forecast demand – Forecast demand
– Buys components – Buys components
– Assembles computers – Observes demand
– Observes demand and – Assembles computers
meets demand if – Meets demand
possible.
 A push-pull system
 A traditional push
system

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Push-Pull Strategies
 The push-pull system takes advantage of
the rules of forecasting:
– Forecasts are always wrong
– The longer the forecast horizon the worst is the
forecast
– Aggregate forecasts are more accurate
 The Risk Pooling Concept
 Delayed differentiation is another example
– Consider Benetton sweater production
© 2003 Simchi-Levi, Kaminsky, Simchi-Levi
What is the Best
Strategy?
Demand
uncertainty
(C.V.)

Pull H

I II
Computer

IV III
Delivery cost
Unit price
Push L

L H Economies of
Scale
Pull Push
© 2003 Simchi-Levi, Kaminsky, Simchi-Levi
Selecting the Best SC
Strategy
 Higher demand uncertainty suggests push
 Higher importance of economies of scale suggests
push
 High uncertainty/ EOS not important such as the
computer industry implies pull
 Low uncertainty/ EOS important such as groceries
implies push
– Demand is stable
– Transportation cost reduction is critical
– Pull would not be appropriate here.

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Selecting the Best SC
Strategy
 Low uncertainty but low value of economies
of scale (high volume books and cd’s)
– Either push strategies or push/pull strategies
might be most appropriate
 High uncertainty and high value of
economies of scale
– For example, the furniture industry
– How can production be pull but delivery push?
– Is this a “pull-push” system?

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Characteristics and Skills

Raw
Material Customers
Push Pull

Low Uncertainty High Uncertainty

Long Lead Times Short Cycle Times

Cost Minimization Service Level

Resource Allocation Responsiveness


© 2003 Simchi-Levi, Kaminsky, Simchi-Levi
Locating the Push-Pull
Boundary
 The push section:
– Uncertainty is relatively low
– Economies of scale important
– Long lead times
– Complex supply chain structures:
 Thus
– Management based on forecasts is appropriate
– Focus is on cost minimization
– Achieved by effective resource utilization – supply chain optimization
 The pull section:
– High uncertainty
– Simple supply chain structure
– Short lead times
 Thus
– Reacting to realized demand is important
– Focus on service level
– Flexible and responsive approaches

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Locating the Push-Pull
Boundary
 The push section requires:
– Supply chain planning
– Long term strategies
 The pull section requires:
– Order fulfillment processes
– Customer relationship management
 Buffer inventory at the boundaries:
– The output of the tactical planning process
– The input to the order fulfillment process.
© 2003 Simchi-Levi, Kaminsky, Simchi-Levi
Locating the Push-Pull
Boundary

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Impact of the Internet –
Expectations Were High
 E-business strategies were supposed to:
– Reduce cost
– Increase service level
– Increase flexibility
– Increase Profit

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Reality is Different…..
 Amazon.com Example
– Founded in 1995; 1st Internet purchase for most people
– 1996: $16M Sales, $6M Loss
– 1999: $1.6B Sales, $720M Loss
– 2000: $2.7B Sales, $1.4B Loss
– Last quarter of 2001: $50M Profit
 Total debt: $2.2B

 Peapod Example
– Founded 1989
– 140,000 members, largest on-line grocer
– Revenue tripled to $73 million in 1999
– 1st Quarter of 2000: $25M Sales, Loss: $8M

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Reality is Different….

 Furniture.com – launched in 1999, with


thousands of products
 $22 Million in sales the first nine months
 Over 1,000,000 visitors per month
 Died November 6, 2000
– Logistics costs too high

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Reality is Different….

 Dell Example:
– Dell Computer has outperformed the competition in
terms of shareholder value growth over the eight years
period, 1988-1996, by over 3,000% (see Anderson and
Lee, 1999)

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


What is E-Business?
 E-business is a collection of business models and
processes motivated by Internet technology, and focusing
on improving the extended enterprise performance
 E-commerce is the ability to perform major commerce
transactions electronically
– e-commerce is part of e-Business
– Internet technology is the driver of the business change
– The focus is on the extended enterprise:
 Intra-organizational
 Business to Consumer (B2C)
 Business to Business (B2B)
 The Internet can have a huge impact on supply chain
performance.
© 2003 Simchi-Levi, Kaminsky, Simchi-Levi
The Book Selling Industry
 From Push Systems...
– Barnes and Noble
 ...To Pull Systems
– Amazon.com, 1996-1999
– No inventory, used Ingram to meet most demand
– Why?
 And, finally to Push-Pull Systems
– Amazon.com, 1999-present
 7 warehouses, 3M sq. ft.,
– Why the switch?
 Margins, service, etc.
 Volume grew

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Direct-to-Consumer:Cost
Trade-Off
Cost Trade-Off for BuyPC.com

$20
$18
$16
Cost ($ million)

$14 Total Cost


$12 Inventory
$10 Transportation
$8
Fixed Cost
$6
$4
$2
$0
0 5 10 15
Number of DC's
Industry Benchmarks:
Number of Distribution Centers

Pharmaceuticals Food Companies Chemicals

Avg.
# of
WH 3 14 25
- High margin product - Low margin product
- Service not important (or - Service very important
easy to ship express) - Outbound transportation
- Inventory expensive expensive relative to inbound
relative to transportation

Sources: CLM 1999, Herbert W. Davis & Co; LogicTools

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


The Grocery Industry
 From Push Systems...
– Supermarket supply chain
 ...To Pull Systems
– Peapod, 1989-1999
 Picks inventory from stores
 Stock outs 8% to 10%

 And, finally to Push-Pull Systems


– Peapod, 1999-present
 Dedicated warehouses allow risk pooling
 Stock outs less than 2%
© 2003 Simchi-Levi, Kaminsky, Simchi-Levi
Challenges for On-line
Grocery Stores
 Transportation cost
– Density of customers
– Very short order cycle times
 Less than 12 hours
– Difficult to compete on cost
 Must provide some added value such as convenience
 Is a push-pull strategy appropriate?
 What might be a better strategy?

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Less than 300,000
shoppers
Number of Average Delivery charges
customers order
Webvan 210 00 $71 $4.95 for < $50
free for > $50
Peapod 140000 $12 0 $7.95 per order

HomeGrocer.com 500 00 $11 0 $9.95 < $75 free


for > $75
NetGrocer.com 600 00 $70 $2.99 for < $50
$4.99 for > $50
ShopLink.com 3 300 $98 $25 monthly

Streamline.com 3 400 $10 0 $3 0

Source: D. Ratliff © 2003 Simchi-Levi, Kaminsky, Simchi-Levi


A New Type of Home
Grocer
 grocerystreet.com
– On-line window for retailers
– The on-line grocer picks products at the store
– Customer can pick products at the store or pay
for delivery

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


The Retail Industry

 Brick-and-mortar companies establish virtual retail


stores
– Wal-Mart, K-Mart, Barnes & Noble, Circuit City
 An effective approach - hybrid stocking strategy
– High volume/fast moving products for local storage
– Low volume/slow moving products for browsing and
purchase on line (risk pooling)
 Danger of channel conflict

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


E-Fulfillment

 How have strategies changed?


– From shipping cases to single items
– From shipping to a relatively small number of
stores to individual end users
 What is the difference between on-line and
catalogue selling?
 Consider for instance Land’s End which has

both channels
© 2003 Simchi-Levi, Kaminsky, Simchi-Levi
E-Fulfillment Requires a New
Logistics Infrastructure

Traditional Supply Chain e-Supply Chain

Supply Chain Strategy Push Push-Pull

Shipment Type Bulk Parcel

Inventory Flow Unidirectional Bi-directional

Reverse Logistics Simple Highly Complex

Destination Small Number of Stores Highly Dispersed Customers

Lead Times Depends Short

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


E-business Opportunities:

 Reduce Facility Costs


– Eliminate retail/distributor sites
 Reduce Inventory Costs
– Apply the risk-pooling concept
 Centralized
stocking
 Postponement of product differentiation

 Use Dynamic Pricing Strategies to Improve


Supply Chain Performance
© 2003 Simchi-Levi, Kaminsky, Simchi-Levi
E-business Opportunities:

 Supply Chain Visibility


– Reduction in the Bullwhip Effect
 Reduction in Inventory
 Improved service level
 Better utilization of Resources
– Improve supply chain performance
 Provide key performance measures
 Identify and alert when violations occur
 Allow planning based on global supply chain data

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Distribution Strategies

 Warehousing
 Direct Shipping

– No DC needed
– Lead times reduced
– “smaller trucks”
– no risk pooling effects
 Cross-Docking

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Cross Docking
 In 1979
– Kmart had 1891 stores and average revenues per store of $7.25
million
– Wal-Mart was a small niche retailer in the South with only 229
stores and average revenues under $3.5 million
 10 Years later
– Wal-Mart had
 highest sales per square foot of any discount retailer
 highest inventory turnover of any discount retailer
 Highest operating profit of any discount retailer.
 Today Wal-Mart is the largest and highest profit retailer in the world
– Kmart ????

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


What accounts for Wal-Mart’s
remarkable success
 A focus on satisfying customer needs
– providing customers access to goods when and where they want
them
– cost structures that enable competitive pricing
 This was achieved by way the company replenished
inventory the centerpiece of its strategy.
 Wal-Mart employed a logistics technique known as cross-
docking
– goods are continuously delivered to warehouses where they are
dispatched to stores without ever sitting in inventory.
 This strategy reduced Wal-Mart’s cost of sales significantly
and made it possible to offer everyday low prices to their
customers.

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Characteristics of Cross-
Docking:
 Goods spend at most 48 hours in the warehouse
 Cross Docking avoids inventory and handling
costs,
 Wal-Mart delivers about 85% of its goods through
its warehouse system, compared to about 50% for
Kmart
 Stores trigger orders for products.

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


System Characteristics:
 Very difficult to manage
 Requires advanced information technology. Why? What
kind of technology?
 All of Wal-Mart’s distribution centers, suppliers and stores
are electronically linked to guarantee that any order is
processed and executed in a matter of hours
 Wal-Mart operates a private satellite-communications
system that sends point-of-sale data to all its vendors
allowing them to have a clear vision of sales at the stores

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


System Characteristics:

 Needs a fast and responsive transportation


system. Why?
 Wal-Mart has a dedicated fleet of 2000 truck that
serve their 19 warehouses
 This allows them to
– ship goods from warehouses to stores in less
than 48 hours
– replenish stores twice a week on average.

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Distribution Strategies

Strategy Direct Cross Inventory at


Attribute Shipment Docking Warehouses
Risk Take
Pooling Advantage
Transportation Reduced Reduced
Costs Inbound Costs Inbound Costs
Holding No Warehouse No Holding
Costs Costs Costs
Demand Delayed Delayed
Variability Allocation Allocation

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi


Transshipment
 What is the value of this?
 What tools are needed?

 What if the system is

decentralized?

© 2003 Simchi-Levi, Kaminsky, Simchi-Levi

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