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CASE STUDY

THE GREAT INVENTORY CORRECTION

Submitted to: Mr. Arup Roy Assistant Professor Department of Business Administration Tezpur University

Submitted by: Firubi Saikia (BAM10003) Ipsheeta Das (BAM10007) Rupanjoli Sharma (BAM10012) Iftekar Alom (BAM10017) Dhrubajyoti Chudur (BAM10022) Mayuri Baruah (BAM10027) Pallavee Borbaruah (BAM10033)

Case background: The prime component used to manufacture Electronic goods such as computers, laptops, cell phones etc. is microchips. In turn for the production of microchips the main raw material used is semiconductors. The entire chain thus involved can be depicted as follows:

Cyclical Semiconductor Industry (CSI)

Supplies to

Electronics Contract Manufacturers (ECM)

Supplies to

PC makers

In the given case, the problems faced by the ECM or the chip makers have been discussed. In the year 2000, the chip industry faced many problems mainly related to inventory and the supply chain management. The companies were left with huge inventories and capacity due to swift changes in technology demands. Many semiconductor makers like Agere Systems, Micron technology, Vitesse Semiconductor etc. were forced to write down large amount of inventories. Similarly the sales of chips also decreased for the Electronic Contract manufacturers. Altera corp. which is a San Jose, California-based chip maker was no exception. The company designs Programmable Logic Devices (PLDs), which is an electronic component used to build reconfigurable digital circuits and outsources its manufacturing to a foundry named Taiwan Semiconductor Manufacturing Corp. The supply chain of Altera can be seen as follows:
Taiwan Semiconductor Manufacturing Corp.

Suppliers

ALTERA

Distributers

PC Makers

Earlier it used to build new products based on speculation and stored them anticipating customer demands. The main reason for holding stocks of inventory by the company was to enhance the cost advantage of PLDs for the customers. But by the end of the year 2000, the demand in the market declined by 25%. This decline continued the next year too and it cost Altera a $115 million worth of inventory. This whopping amount of loss forced them to change their inventory management system. Another major problem faced exclusively by the semiconductor industry is duration of the Cycle Time. A long cycle time would mean it would be more risky to predict the demand accurately. The fluctuation in growth is very high. Every now and then there is advancement in technology which rocks the supply chain really hard. Double ordering of

components takes place in such situations on the part of suppliers and the distributors. This also leads to the glut formation to a major extent. Steps taken by the company to revise its inventory model are: The company changed its manufacturing strategy to build-to-order. As such, products are no longer built on speculation but only when a customer confirms his order. This reduced the inventory pile up to a great extent. After introducing this strategy, the lead time was reduced from months to weeks. Altera introduced the concept of Die banks, where the main stream products are stored before packaging and testing. Here the inventory is in its most flexible form with the minimum of value added so that the product can be modified according to the needs of the customer. The concept of Die helped to reduce the time required for converting the raw materials into finished products thereby minimizing the Manufacturing Lead Time. In order to increase its visibility, Altera went for joint ventures with Nortel and Motorola to collaborate on product development. This helped the company to anticipate the technological changes and thus develop their product accordingly. In order to fight with the growing inventory problems, the companies started to use many SCM software such as Manugistics, SAP, Rapt Inc.etc. Adoption of a similar SCM software, i2 technologies system which is linked to its fabrication unit, supplies and distributers has helped them cut down the weekly planning cycle time from 10 days to 1 day and also the long term planning cycle from 4 weeks to one week. This has thus resulted in a more transparent supply chain. About 85 percent of production is automatically scheduled by the system.

Another company which gained due to the use of SCM software was Sun Microsystems, a server making company. It used a combination of i2 and Rapt Inc. software, which enabled them to have short, predictable lead times with the lowest possible cost. In spite of having this major advantage, SCM software was not able to prevent the inventory pile up due to the following reasons. Only about 20% of companies, with more than $500 million of annual revenue have installed this SCM software. The software cannot eliminate problems such as Garbage In, Garbage Out. SCM tools heavily rely on historical data, production numbers and guess work. So at last the prediction power of the human being plays a vital role in the planning of supply chain and production. But it is really difficult to forecast in case of high tech industries, where the demand is highly volatile.

Flexotronics International Corp.: Flexotronics, one of the words largest EMS companies from Singapore, with a revenue turnover of around $12 billion had an unusual situation relating to the inventory glut. The companys inventory had seen a rise from $470 million to $1.7 billion by the end of the year. The company manufactures printed circuit boards. The major customers of this company are Cisco, Lucent,

Nortel and Ericsson. Flexotronics created a supplier managed inventory environment so as to understand the customers demand and product life cycle. The company also took up steps to establish material hubs, where suppliers facilities are close to their factories. With the growing demand of the customer, the companies tried to maximize their output and minimize their inventory so as to gain profits. IBM and Dell: Dell computer with its superior supply chain management was able to sustain the inventory glut and had not more than a few days inventory in hand. This was mainly due to the build-to-order business model that the company had adopted. IBM despite its strategy of diversifying risk could not sustain the down turn. The sales were relatively flat in the 2nd quarter of 2000 and moreover IBM had predicted that the sale of its chip would fall in the 2nd half of the year. On a similar note their inventory had also remained flat due to its strong supply chain management and adaptation of old fashioned vertical integration. Even with a drop of 1.5% every month IBM has been able to built some items to order but these were mostly done on Pull or Just in Time basis. IBM has been able to minimize their inventory by emphasizing on commonality on their various platforms and products. For example they use the same flat screen for their think pads as well as their flat panel PC monitors. They have a faster collaboration with the suppliers as they buy all the production parts through the internet and EDI (Electronic Data Interchange). This also helps them to have aster transactions. IBM manages its suppliers in order to make its pull strategy more effective by producing forecast that goes out 90 days out. This forecast is updated on weekly basis and made available to all its suppliers which allow them to make appropriate adjustments to meet the demands. Although IBM cannot forecast the technology that they will be using in their future products but still they can predict the quantity almost accurately for almost two years or so. Questions: 1. How Altera modified its strategy? Why? Ans: Earlier Altera used to build its PLD and store them in the anticipation of customer demand. They build new products based on their forecasts and this took a very long lead time. But owing to the drastic changes in the technological environment, Altera changed its earlier strategy to build-to-order. This was done to decrease the loss of the company against unexpected technological changes and market condition. Altera now builds their mainstream products and stock them in die banks. As the inventory is in its most flexible form, it can be immediately packaged, tested and shipped according to the requirements of the customers as soon as orders are confirmed. Due to the implementation of this strategy, the lead time of Altera has been reduced. Due to the swift change in technology, the tech companies were facing various problems like piled up inventory, rapidly depreciating goods etc., Altera too was no exception. The company had a 25% fall in the market demand in the fourth quarter of 2000 and this fall continued into the

next year too, which eventually led to a 25% decline in the revenue of the company and this strategy of the company of building products and storing them in anticipation of demand cost them $115 millions. So, in order to prevent any such mistakes in the future Altera changed its strategy to build-to-order and built products only when customers place them. 2. Do you think Alteras new strategy will be successful? What are some advantages and disadvantages of the new strategy? Ans: The new strategy of Altera will be successful because this will reduce the risk of the company to a sudden change in the technological market. Dell for example, has taken direct model approach along with make to order concept that highlights its success. Perhaps Dell did not have the most sophisticated process in place. However, over time it made changes and created the most efficient inventory and supply chain management. From this perspective, Alteras new approach in handling its manufacturing and inventory process might be an excellent decision. The strategy will also allow the company to decrease the amount of written down costs. The other advantages of the strategy are that the wastage due to low demand would be reduced. Moreover it is less risky and more profitable. The disadvantage is that Alteras customer will have to take on long lead time. In addition, customer will have to fully commit in order to purchase. 3. How do you anticipate Alteras customers will react to this new strategy? What are advantages and disadvantages for Alteras customers? Ans: Alteras customer will have fit at the beginning due to long lead time. However, eventually they will adapt. The advantage of this strategy will bring both customers and Altera together. The new strategy will allow both to collaborate at high level, creating efficient process and in return both the customer and Altera will be better off. So, when Altera first introduced this new strategy that is build to order Alteras customer will have fit at the beginning due to long lead time. However, eventually they will adapt. The advantages for Alteras customers The customers will get customized products. They will get exactly what they require. As the supply chain have become more transparent the customers will be able to know exactly what is the status of the inventory of the company and accordingly they can place their order depending upon when they need the product.

Disadvantage for Alteras customer By introducing the new technology, unless and until a customer order is not confirmed new products will not be built on speculation. The lead time for the customers will be tremendously high if compared to the earlier scenario.

4. What information does Flextronics have that its clients do not? Why? How can Flextronics leverage this information?

Ans: Flextronics makes everything from printed circuit boards to cell phones for a variety of high-tech clients. Since Flextronics manufactures equipments for many clients, it has the opportunity to see the aggregated demand and supply that they are producing. This information in regards to demand and supply can benefit both its suppliers for maintaining the required inventory and clients for its requirements. This information has helped the company to become more supply oriented and the suppliers are able to provide timely delivery of products to the company. 5. How does IBM manage its suppliers in order to make its pull strategy more effective? Ans: IBM lets its supplier have visibility to how much inventory they have. IBM keeps its number of suppliers small. IBM manages its suppliers in order to make its pull strategy more effective by producing forecast that goes out for the next 90 days. This forecast is updated on weekly basis and made available to all its suppliers which allow them to make appropriate adjustment to meet the demand. One of the goals of IBM is to predict accurate forecast. They get the required information for forecasting from IBM salesperson who keeps direct contact with the customers by regular feedbacks. A lot of time, effort and money are spent trying to predict most accurate forecast as it has huge impact on bottom line. The purchasing is structured by commodities with a market expert assign to each commodity. Hence, the market expert can manage the requirements from the suppliers efficiently. Lastly IBM buys all of its product parts electronically via the internet & EDI (Electronic Data Interchange) that makes the transactions much faster and provides much faster collaboration with the suppliers. Suggestions for Altera 1. First and the foremost step to work on are to decrease the lead time for its customer. This will give a positive note to the availability of the product. 2. Instead of keeping all its mainstream products in die banks, it can keep a percentage of its products in finished product form to meet sudden demands from its customers. 3. On the basis of the market scenario and information from the customers, Altera can maintain a detailed forecast for the next three to four months and accordingly prepare themselves to meet the demands of the customers.

Conclusion All the players in the technological market have to be aware of the changes going on in the industry and change their inventory and supply chain management as per the market situation. Otherwise it might lead to a situation of huge inventory pile ups and shortage of supply in times of high demand as seen in the case. The entire industry, therefore rests on the pillars of accurate forecasting, timely supply, less inventory and an efficient supply chain management.