Unit III: Supply Chain Drivers:

# Drivers of Supply Chain Performance:

There are five areas where companies can make decisions that will define their supply chain
capabilities:
Production, Inventory, Location, Transportation, and Information. Chopra and Meindl define
these areas as performance drivers that can be managed to produce the capabilities needed
for a given supply chain.

Effective supply chain management calls first for an understanding of each driver and how it
operates. Each driver has the ability to directly affect the supply chain and enable certain
capabilities. The next step is to develop an appreciation for the results that can be obtained
by mixing different combinations of these drivers. Lets start by looking at the drivers
individually.

Figure: Major drivers of supply chain

a) Production:
Production refers to the capacity of a supply chain to make and store products. The facilities of
production are factories and warehouses. The fundamental decision that managers face when
making production decisions is how to resolve the trade-off between responsiveness and
efficiency. If factories and warehouses are built with a lot of excess capacity, they can be very
flexible and respond quickly to wide swings in product demand. Facilities where all or almost
all capacity is being used are not capable of responding easily to fluctuations in demand. On
the other hand, capacity costs money and excess capacity is idle capacity not in use and not
generating revenue. So the more excess capacity that exists, the less efficient the operation
becomes.
Factories can be built to accommodate one of two approaches to manufacturing:
1. Product focusA factory that takes a product focus performs the range of different
operations required to make a given product line from fabrication of different product parts to
assembly of these parts.

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2. Functional focusA functional approach concentrates on performing just a few operations
such as only making a select group of parts or only doing assembly. These functions can be
applied to making many different kinds of products.
A product approach tends to result in developing expertise about a given set of products at
the expense of expertise about any particular function. A functional approach results in
expertise about particular functions instead of expertise in a given product. Companies need
to decide which approach or what mix of these two approaches will give them the capability
and expertise they need to best respond to customer demands.
As with factories, warehouses too can be built to accommodate different approaches. There
are three main approaches to use in warehousing:
1. Stock keeping unit (SKU) storageIn this traditional approach, all of a given type of
product is stored together. This is an efficient and easy to understand way to store products.
2. Job lot storageIn this approach, all the different products related to the needs of a
certain type of customer or related to the needs of a particular job are stored together. This
allows for an efficient picking and packing operation but usually requires more storage space
than the traditional SKU storage approach.
3. Cross dockingAn approach that was pioneered by Wal-Mart in its drive to increase
efficiencies in its supply chain. In this approach, product is not actually warehoused in the
facility. Instead the facility is used to house a process where trucks from suppliers arrive and
unload large quantities of different products. These large lots are then broken down into
smaller lots. Smaller lots of different products are recombined according to the needs of the
day and quickly loaded onto outbound trucks that deliver the products to their final
destination.

b) Inventory:
Inventory is spread throughout the supply chain and includes everything from raw material to
work in process to finished goods that are held by the manufacturers, distributors, and
retailers in a supply chain. Again, managers must decide where they want to position
themselves in the trade-off between responsiveness and efficiency. Holding large amounts of
inventory allows a company or an entire supply chain to be very responsive to fluctuations in
customer demand. However, the creation and storage of inventory is a cost and to achieve
high levels of efficiency, the cost of inventory should be kept as low as possible.
There are three basic decisions to make regarding the creation and holding of inventory:
1. Cycle Inventory This is the amount of inventory needed to satisfy demand for the
product in the period between purchases of the product. Companies tend to produce and to
purchase in large lots in order to gain the advantages that economies of scale can bring.
However, with large lots also comes increased carrying costs. Carrying costs come from the
cost to store, handle, and insure the inventory. Managers face the trade-off between the
reduced cost of ordering and better prices offered by purchasing product in large lots and the
increased carrying cost of the cycle inventory that comes with purchasing in large lots.
2. Safety InventoryInventory that is held as a buffer against uncertainty. If demand
forecasting could be done with perfect accuracy, then the only inventory that would be
needed would be cycle inventory. But since every forecast has some degree of uncertainty in
it, we cover that uncertainty to a greater or lesser degree by holding additional inventory in
case demand is suddenly greater than anticipated. The trade-off here is to weigh the costs of
carrying extra inventory against the costs of losing sales due to insufficient inventory.
3. Seasonal InventoryThis is inventory that is built up in anticipation of predictable
increases in demand that occur at certain times of the year. For example, it is predictable that
demand for anti-freeze will increase in the winter. If a company that makes anti-freeze has a
fixed production rate that is expensive to change, then it will try to manufacture product at a
steady rate all year long and build up inventory during periods of low demand to cover for
periods of high demand that will exceed its production rate. The alternative to building up
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seasonal inventory is to invest in flexible manufacturing facilities that can quickly change their
rate of production of different products to respond to increases in demand. In this case, the
trade-off is between the cost of carrying seasonal inventory and the cost of having more
flexible production capabilities.

c) Location:
Location refers to the geographical siting of supply chain facilities. It also includes the
decisions related to which activities should be performed in each facility. The responsiveness
versus efficiency trade-off here is the decision whether to centralize activities in fewer
locations to gain economies of scale and efficiency, or to decentralize activities in many
locations close to customers and suppliers in order for operations to be more responsive.
When making location decisions, managers need to consider a range of factors that relate to a
given location including the cost of facilities, the cost of labor, skills available in the workforce,
infrastructure conditions, taxes and tariffs, and proximity to suppliers and customers.
Location decisions tend to be very strategic decisions because they commit large amounts of
money to long-term plans. Location decisions have strong impacts on the cost and
performance characteristics of a supply chain. Once the size, number, and location of facilities
is determined, that also defines the number of possible paths through which products can flow
on the way to the final customer. Location decisions reflect a companys basic strategy for
building and delivering its products to market.

d) Transportation:
This refers to the movement of everything from raw material to finished goods between
different facilities in a supply chain. In transportation the trade-off between responsiveness
and efficiency is manifested in the choice of transport mode. Fast modes of transport such as
airplanes are very responsive but also more costly. Slower modes such as ship and rail are
very cost efficient but not as responsive. Since transportation costs can be as much as a third
of the operating cost of a supply chain, decisions made here are very important.
There are six basic modes of transport that a company can choose from:
1. Ship which is very cost efficient but also the slowest mode of transport. It is limited to use
between locations that are situated next to navigable waterways and facilities such as harbors
and canals.
2. Rail which is also very cost efficient but can be slow. This mode is also restricted to use
between locations that are served by rail lines.
3. Pipelines can be very efficient but are restricted to commodities that are liquids or gases
such as water, oil, and natural gas.
4. Trucks are a relatively quick and very flexible mode of transport. Trucks can go almost
anywhere. The cost of this mode is prone to fluctuations though, as the cost of fuel fluctuates
and the condition of roads varies.
5. Airplanes are a very fast mode of transport and are very responsive. This is also the most
expensive mode and it is somewhat limited by the availability of appropriate airport facilities.
6. Electronic Transport is the fastest mode of transport and it is very flexible and cost
efficient. However, it can only be used for movement of certain types of products such as
electric energy, data, and products composed of data such as music, pictures, and text.
Someday technology that allows us to convert matter to energy and back to matter again
may completely rewrite the theory and practice of supply chain management.

Given these different modes of transportation and the location of the facilities in a supply
chain, managers need to design routes and networks for moving products. A route is the path
through which products move and networks are composed of the collection of the paths and
facilities connected by those paths. As a general rule, the higher the value of a product (such
as electronic components or pharmaceuticals), the more its transport network should
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emphasize responsiveness and the lower the value of a product (such as bulk commodities
like grain or lumber), the more its network should emphasize efficiency.

e) Information:
Information is the basis upon which to make decisions regarding the other four supply chain
drivers. It is the connection between all of the activities and operations in a supply chain. To
the extent that this connection is a strong one, (i.e., the data is accurate, timely, and
complete), the companies in a supply chain will each be able to make good decisions for their
own operations. This will also tend to maximize the profitability of the supply chain as a
whole. That is the way that stock markets or other free markets work and supply chains have
many of the same dynamics as markets. Information is used for two purposes in any supply
chain:
1. Coordinating daily activities related to the functioning of the other four supply chain
drivers: production; inventory; location; and transportation. The companies in a supply chain
use available data on product supply and demand to decide on weekly production schedules,
inventory levels, transportation routes, and stocking locations.
2. Forecasting and planning to anticipate and meet future demands. Available information
is used to make tactical forecasts to guide the setting of monthly and quarterly production
schedules and timetables. Information is also used for strategic forecasts to guide decisions
about whether to build new facilities, enter a new market, or exit an existing market. Within
an individual company the trade-off between responsiveness and efficiency involves weighing
the benefits that good information can provide against the cost of acquiring that information.
Abundant, accurate information can enable very efficient operating decisions and better
forecasts but the cost of building and installing systems to deliver this information can be very
high. Within the supply chain as a whole, the responsiveness versus efficiency trade-off that
companies make is one of deciding how much information to share with the other companies
and how much information to keep private. The more information about product supply,
customer demand, market forecasts, and production schedules that companies share with
each other, the more responsive everyone can be. Balancing this openness however, are the
concerns that each company has about revealing information that could be used against it by
a competitor. The potential costs associated with increased competition can hurt the
profitability of a company.

1. Facilities and Supply Chain:

The efficiency and the effectiveness of supply chain networks primarily rely on facility location decisions.
However, these decisions are closely related to the other supply chain management decisions, i.e., inventory
management and transportation decisions.

In real-life settings, the optimization of location and allocation decisions is often preceded by an evaluation of the
existing distribution network system. Such an evaluation starts by assessing the quality of the current locations of
the service facilities and the allocation of customer demands to those facilities. Changes in products, services,
customers, markets and business practices can drive changes in your network of supply chain facilities.
Facilities locations are the sites to or from which inventory is transported.
Facilities are a key driver of supply chain performance in terms of responsiveness and efficiency.
Companies can gain economies of scale when a product is manufactured or stored in only one location;
this centralization increase efficiencies.
However, locating facilities close to customers increases the number of facilities needed and consequently
reduces efficiency.
If the customers demands and is willing to pay for the responsiveness facilities adds, however, then this
facilities decision helps to meet the companys competitive strategic goals.

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# Components of Facilities Decisions:
a. Role
b. Location
c. Capacity
d. Facility-Related Metrics

a. Role

For production facilities, firms must decide whether they will be flexible, dedicated, or a combination of the two.
Flexible capacity can be used for many types of products but is often less efficient, whereas dedicated capacity
can be used for only a limited number of products but is more efficient. Firms must also decide whether to design
a facility with a product focus or a functional focus. A product-focused facility performs many different
functions (e.g. fabrication and assembly) in producing a single type of product.

A functional focused facility performs few functions (e.g., only fabrication or only assembly) on many types of
products. A product focus tends to result in more expertise about a particular type of product at the expense of the
functional expertise that comes from a functional methodology.

b) Location:
Deciding where a company will locate its facilities constitutes a large part of the design of a supply chain. A basic
trade-off here is whether to centralize in order to gain economies of scale or to decentralize to become more
responsive by being closer to customers. Companies must consider other macro economic factors such as
availability of quality workers, cost of workers, cost of facility, infrastructure, proximity to customers, the
location of the firms other facilities, tax effects and other strategic factors.
c) Capacity:
Companies must also determine a facilitys capacity to perform its intended functions. A large amount of excess
capacity allows the facility to respond to wide swings to the demand place on it, however, it becomes costlier and
therefore can decrease efficiency. A facility with little excess capacity will likely to be more efficient per unit of
product it produces than one with a lot of unused capacity.

d. Facility-Related Metrics/ measurements:

Capacity: measure the maximum amount a facility can process

Utilization: measures the fraction of capacity that is currently being used in the facility. Utilization affects
both the unit cost of processing and the associated delays. Unit costs tend to decline and delays decrease
with increasing utilization.

Theoretical flow/cycle time of production measures the time required to process a unit if there are
absolutely no delays at any stages.

Actual average flow/cycle time measures the average actual time taken for processing a unit. It can be in
the form of specified duration such as a week or month. The actual flow/cycle time includes the
theoretical time and any delays.

Flow time efficiency is the ratio of the theoretical flow rate to the actual average flow time

Product variety measures the number of products/products families processed in a facility.

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 Processing costs and flow times are likely to increase with product variety.

Volume contribution of top 20 percent stock keeping units (SKUs) and customers measures the
fraction of total volume processed by a facility that comes from the top 20 percent SKUs or customers. An
80/20 outcome in which the top 20 percent contribute 80 percent of volume indicates likely benefits from
focusing the facility where separate processes are used to process the top 20 percent and the remaining 80
percent.

[What is SKU? A stock keeping unit or SKU is a distinct type of item for sale, such as a product or
service, and all attributes associated with the item type that distinguish it from other item types. For a product,
these attributes could include, but are not limited to, manufacturer, description, material, size, color,
packaging, and warranty terms. When a business takes an inventory, it counts the quantity it has of each SKU.

SKU can also refer to a unique identifier or code that refers to the particular stock keeping unit. These codes
are not regulated nor standardized. When a company receives items from a vendor, it has a choice of
maintaining the vendor's SKU or creating its own. Other entity tracking methods, with varying regulations,
are the Universal Product Code (UPC), International Article Number (EAN), Global Trade Item Number
(GTIN), and Australian Product Number (APN).]

Processing/setup/down/idle time measures the fraction of time that the facility was processing units
being set up to process units, unavailable because it was down, or idle because it had no units to process.

Average production batch size measures the average amount produced in each production batch. Large
batch sizes will decrease production cost but increase inventories in the supply chain. Production service
level measures the fraction of production orders completed on time and in full.

e. Overall Trade-Off: Responsiveness versus Efficiency

The fundamental trade-off that managers face when making facilities decisions is between the cost of the number,
location, and type of facilities (efficiency) and the level of responsiveness that these facilities provide the
companys customers.

Increasing the number of facilities increases facility and inventory costs but decreases transportation costs and
reduce response time. Increasing the flexibility of a facility increases facility costs but decreases inventory costs
and response time.

2. Inventory and Supply Chain:

Inventory exists in supply chain because of mismatch between supply and demand. An important role that
inventory plays in supply chain is to increase the amount of demand that can be satisfied by having the product
ready and available when customers want. Another significant role of inventory is to reduce cost by exploiting
economies of scale that may exist during production and distribution. Inventory does impact the assets held, the
cost incurred, and responsiveness provided in the supply chain. High level of inventory in an apparel supply
chain improves responsiveness but also leaves the supply chain vulnerable to meet the need for markdowns,
lowering profit margins. Similarly, low levels of inventory improve inventory turns but may result in lost sales if
customers are unable to find products they are ready to buy. Inventory also has significant impact on the material
flow time in supply chain. Material flow time is the time that elapses between the points at which material enters
in the supply chain to the point at which it exits.

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# COMPONENTSOFINVENTORYDECISION
a. Cycle inventory
Cycle inventory is the average amount of inventory used to satisfy demand between receipts of supplier
shipments.
b. Safety inventory:
Safety inventory is inventory held in case demand exceeds expectation; it is held to counter uncertainty.
If the world were perfectly predictable, only cycle inventory would be needed. Because demand is uncertainty
and may exceed expectations, companies hold safety inventory to satisfy an unexpectedly high demand.
c. Seasonal inventory:
Seasonal inventory is built up to counter predictable variability in demand.
Companies using seasonal inventory build up to inventory in periods of low demand and store it for periods of
high demand when they will not have the capacity to produce all that is demanded.
d. Level of product availability
Level of product availability is the fraction of demand that is served on time from product held in inventory. A
high level of product availability provides a high level of responsiveness but increases cost because a lot of
inventory is held but rarely used.
e. Inventory-related metrics/ measurements:
Average inventory measure the average amount of inventory carried. Average inventory should be
measured in units, days of demand, and financial value.
Product with more than a specified number of days of inventory identifies the products for which the
firm is carrying a high level of inventory. This metric can be used to identify products that are in
oversupply or identify reasons that justify the high inventory, such as price discounts, or being a very slow
mover.
Average replenishment batch size measures the average amount in each replenishment order. The batch
size should be measured by SKU in terms of both units and days of demand. It can be estimated by
averaging over time the difference between the maximum and the minimum inventory (measured in each
replenishment cycle) on hand.
Average safety inventory measures the average amount of inventory on hand when a replenishment
order arrives. Average safety inventory should be measured by SKU in both units and days of demand. It
can be estimated by averaging over time the minimum inventory on hand in each replenishment cycle.
Seasonal inventory measures the amount of both cycle and safety inventory that is purchased solely due
to seasonal changes in demand
Fill rate measures the fraction of orders/demand that were met on time from inventory. Fill rate should
not be averaged over time but over a specified number of units of demand (say, every thousand, million,
etc).
Fraction of time out-of-stock measures the fraction of time that a particular SKU had zero inventory.
This fraction can be used to estimate the demand during the stock out period.

f) Overall trade-off: Responsiveness versus Efficiency

The fundamental trade-off that managers face when making inventory decisions is between responsiveness and
efficiency. Increasing inventory generally makes the supply chain more responsive to the customer.

A higher level of inventory also facilitates a reduction in production and transportation costs because of improved
economies of scale in both functions. This choice increase inventory holding cost

3. Transportation and Supply Chain:

Transportation moves product between different stages in a supply chain and impacts both responsiveness and
efficiency. Faster transportation allows a supply chain to be more responsive but reduces its efficiency. The type

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of transportation company use also affects the inventory and facility location in supply chain. A rapid
transportation makes a company more responsive but increase transportation cost, and vice-versa.

# COMPONENTSOFRANSPORTATIONDECISIONS
a. Designing of transportation network:
The transportation network is the collection of transportation modes, locations, and routes along which product
can be shipped. A company must decide whether transportation from a supply source will be directed to the
demand point or will go through the consolidation point.
b. Choice of transportation mode:
Different transportation modes are available which are used to move product from one location in the supply
chain network to another. Companies can choose among air, road (truck), rail, sea, and pipeline as modes of
transport for products. In addition information goods can be transported via internet.
c. Transportation-related metrics:
Average inbound transportation cost typically measures the cost of bringing product into a facility as a
percentage of sales or cost of goods sold (COGS)
Average incoming shipment size measures the average number of units or amount in each incoming
shipment at a facility
Average inbound transportation cost per shipment measures the average transportation cost of each
incoming delivery. Along with the incoming shipment size, this metric identifies opportunities for greater
economies of scale in inbound transportation.
Average outbound transportation cost measures the cost of sending product out of a facility to the
customer. Ideally, this cost should be measured per unit shipped, but it is often measured as a percentage
of sales.
Average outbound shipment size measures the average number of units or dollars on each outbound
shipment at a facility.
Average outbound transportation cost per shipment measures the average transportation cost of each
outgoing delivery.
Fraction transported by mode measures the fraction of transportation (in units or amounts) using each
mode of transportation. This metric can be used to estimate if certain modes are overused or underutilized.

d) Overall trade-off: responsiveness versus efficiency:

The fundamental trade-off for transportation is between the cost of transporting a given product (efficiency) and
the speed with which that product is transported (responsiveness). Using fast modes of transport raises
responsiveness and transportation cost but lowers the inventory holding cost.

4. Information and Supply Chain:

Adequate and realistic information can help improve the utilization of supply chain assets and the coordination of
supply chain flows to increase responsiveness and reduce costs. Information is equally important for improving
products availability and decreasing inventory. The appropriate investment in information technology improves
visibility of transportation and coordination of decisions across the supply chain. The right information can help
a supply chain better meet customer needs at lower cost.

# COMPONENTSOFINFORMATIONDECISIONS
a. Push versus pull:
Pull or push process of supply chain is important to assure by the supply chain manager as different type of
supply chain require different information. Pull system require information on actual demand to be transmitted
extremely quickly throughout the entire chain so that production and distribution of products can reflect the real
demand capacity. Similarly, push system starts with forecast that are used to build the master production schedule
and roll it back, creating schedules for suppliers material type, quantities, and delivery dates.
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b. Coordination and information sharing:
Supply chain coordination occurs when all stages of a supply chain work towards the objective of maximizing
total supply chain profitability based on shared information. Lack of coordination can result into a significant loss
of supply chain surplus. Coordination among different stages in supply chain requires each stage to right share
appropriate information with other stages.
c. Sales and Operating Planning:
Sales and operating planning (S&OP) is the process of creating an overall plan (production and inventory) to
meet the anticipated demand (sales). The S&OP process starts with sales and marketing communicating their
needs to meet at desired cost. The goal of S&OP is to come up with an agreed upon sales, production, and
inventory plan that can be used to plan supply chain needs and project revenues and profits.
d. Enabling technology:
Many technologies exist to share and analyze information in the supply chain. Managers must decide which
technologies to use and how to integrate them into their supply chain.
e. Information-related metrics:
Forecast horizon identifies how far in advance of the actual event a forecast is made. The forecast
horizon must equal the lead time of the decision that is driven.
Frequency of update identifies how frequently each forecast is updated.
Forecast error measures the difference between the forecast and actual demand.
Seasonal factors measures the extent to which the average demand in a season is above or below the
average in the year.
Variance from plan identifies the difference between the planned production/inventories and the actual
values.
Ratio of demand variability to order variability measures the standard deviation of incoming demand
and supply orders placed.

f. Overall trade-off: Responsiveness versus efficiency

Good information can help a firm improve both its responsiveness and efficiency. The information driver is used
to improve the performance of other drivers, and the use of information is based on the strategic position the
other drivers support. Accurate information can help a firm improve efficiency by decreasing inventory and
transportation costs. Accurate information can improve responsiveness by helping a supply chain better match
supply and demand.

5. Sourcing and Supply Chain:

Sourcing is the set of business required to purchase goods and services. Managers must first decide whether each
task will be performed by a responsive or efficient source and when whether the source will be internal to the
company or a third party. Sourcing from low cost countries allows a company to provide the final goods a lower
price. As supply chain has globalized, many more sourcing options now offer both considerable opportunity and
also potential risk. Thus, sourcing decision has significant impact on supply chain.

# COMPONENTS OF SOURCING DECISION

a. In-House or Outsource:
The most significant sourcing decision for a firm is whether to perform a task in-house or out source it to a third
party. Within a task such as transportation, managers must decide whether to outsource all of it, outsource only
the responsive component, or outsource only the efficient components. This decision should be driven in part by

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its impact on the total supply chain surplus. It is best to out source if the growth in total supply chain surplus is
significant with little additional risk.

b. Supplier Selection:
Managers must decide on the number of suppliers they will have for a particular activity. They most then identify
the criteria along which suppliers will be evaluated and how they will be selected. For this purpose, managers
must decide whether they will use direct negotiations or resort to an auction.

c. Procurement:
Procurement is the management of a broad range of processes that are associated with an organizations desire to
obtain the necessary goods and services needed for manufacturing a product, transforming inputs to outputs, or
indirectly operating the organization. These processes include activities such as product and service sourcing,
supplier selection, pricing and terms negotiation, transaction and contract management, supplier performance
management, and supplier sustainability issues.
d. Sourcing-related metrics:
Days payable outstanding measures the number of days between when a supplier performed a supply
chain task and when it was paid
Average purchase price measures the average price at which a good or service was purchased during the
year. The average price should be weighted by the quantity purchased at each price.
Range of purchase price measures the fluctuation in purchase price during a specific period. The goal is
to identify if the quantity purchased correlated with the price.
Average purchase quantity measures the average amount purchased per order. The goal is to identify
whether a sufficient level of aggregation is occurring across locations when placing an order.
Fraction on-time deliveries measures the fraction of deliveries from the supplier that were on time.
Supply quality measures the quality of product supplied.
Supply lead time measures the average time between when an order is placed and the product arrives.

e. Overall trade-off: increases the supply chain profits:

Sourcing decisions should be made to increase the size of the total profit to be shared across the supply chain.
The total profits are affected by the impact of sourcing on sales, service, production costs, inventory costs,
transportation costs, and information cost. Outsourcing to a third party is meaningful if the third party raises the
supply chain profits more than the firm can by its own.

In contrast, a firm should keep a supply chain function in-house if third party cannot increase the supply chain
profits or if the risk associated with outsourcing is significant.

6. Pricing and Supply Chain:

Pricing is the process by which a firm decide how much to charge customers for its goods and services. Pricing
affect the customers segments that choose, as well as the customers expectations. This directly affect the supply
chain in terms of the level of responsiveness required as well as the demand profile the supply chain attempts to
serve. Pricing is also a lever that can be used to match supply and demand especially when supply chain is not
very flexible.
Pricing is a significant attribute through which a firm executes its competitive strategy. Customers expect low
prices but comfortable with lower level of product availability. The steady prices also ensure that demand stays
relatively stable. Some firms are applying fixed prices where as some manufacturing and transportation firms use
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pricing that varies with time desired by the customers. Through their pricing, these firms are targeting a broader
set of customers, some of whom need responsiveness while others need efficiency. In this case, it becomes
important for these firms to structure a supply chain that can meet the two divergent needs.

# COMPONENTS OF PRICING DECISIONS

a. Pricing and economies of scale:
Most supply chain activities display economies of scale. The size of quantity largely determines the economies of
scale. The provider of supply chain activity must decide how to price it appropriately to reflect these economies
of scale. A commonly used method is to offer quantity discounts. It must be cared that the quantity discounts
offered are consistent with the economies of scale in the underlying process.
b. Everyday low pricing versus high-low pricing:
Some firm practices everyday low pricing at their warehouse stores, keeping prices steady over time. In contrast,
other practice high-low pricing and offer steep discounts on a subset of their product every week. So, the demand
of everyday low pricing firm is comparatively steady where as high-low pricing firm generally experience high
demand in the discounts offered wee and low demand in the following week. The two pricing strategies lead to
different demand profiles that the supply chain must serve.
c. Fixed price versus menu price:
A firm must decide whether it will charge fixed price for its supply chain activities or have a menu with prices
that vary with some other attribute, such as the response time, location delivery etc. If marginal supply chain
costs or the value to the customer vary significantly along some attributes, it is effective to have a pricing menu.
d. Pricing-related metrics:

Profit margin measures profit as a percentage of revenue. A firm needs to examine a wide variety of
profit margin metrics to optimize its pricing, including dimensions such as type of margin (gross, net, etc),
scope (SKU, product line, division, firm), customer type, and others.
Days sales outstanding measures the average time between when a sale is made and when the cash is
collected.
Incremental fixed cost per order measures the incremental costs that are independent of the size of the
order. These include changeover costs at a manufacturing plant or order processing or transportation costs
that are incurred independent of shipment size at a mail-order firm.
Incremental variable cost per unit measures the incremental costs that vary with the size of the order.
These include picking costs at a mail-order firm or variable production costs at a manufacturing plant.
Average sale price measures the average price at which a supply chain activity was performed in a given
period. The average should be obtained by weighting the price with the quantity sold at that price.
Average order size measures the average quantity per order. The average sale price, order size,
incremental fixed cost per order, and incremental variable cost per unit help estimate the contribution
from performing the supply chain activity
Range of sale price measures the maximum and the minimum of sale price per unit over a specified time
horizon.
Range of periodic sales measures the maximum and minimum of the quantity sold per
period(day/week/month) during a specified time horizon. The goal is to understand and correlation
between sales and price and any potential opportunity to shift sales by changing price over time.

e. Overall trade-off: Increase firm profits

All pricing decisions should be made with the objective of increasing firm profits. This requires an understanding
of the cost structure of performing a supply chain activity and the value this activity brings to supply chain.
Strategies such as everyday low pricing may foster stable demand that allows for efficiency in the supply chain.
Other pricing strategies may lower supply chain costs, defend market share, or even steal market share.

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Differential pricing may be used to attract customers with varying needs, as long as this strategy helps either
increase revenues or shrink costs, preferably both.

# OBSTACLE TO ACHIEVING STRATEGICFIT/CHALLENGES OF SUPPLY CHAIN MANAGEMENT TO

MATCH DEMAND AND SUPPLY:
a. Increasing variety of product.
b. Decreasing product life cycle
c. Increasingly demanding customers.
d. Fragmentation of supply chain ownership
e. Globalization
f. Difficulty executing new strategies

a) Increasing variety of product

Product proliferation is rampant today. With customer demanding ever more customized products, manufacturers
have responded with mass customization and even segments-of-one (companies view each customer as an
independent market segment) views of the market. Products that were formerly quite generic are now custom-
made for a specific consumer. The increase in product variety complicates the supply chain by making
forecasting much more difficult.

Increased variety tends to raise uncertainty, and increased uncertainty hurts both efficiency and responsiveness
within the supply chain.

b) Decreasing product life cycle

In addition to the increasing variety of product types, the life cycle of products has been shrinking. Today there
are products whose life cycles can be measured in months, compared to the old standard of years. This decrease
in product life cycle makes the job of achieving strategic fit more difficult, as the supply chain must constantly
adapt to manufacture and deliver new products, in addition to coping with these products demand uncertainty.

Shorter life cycle increase uncertainty while reducing the window of opportunity within which the supply chain
can achieve fit. Increased uncertainty combined with a smaller window of opportunity has put additional pressure
on supply chains to coordinate and create a good match between supply and demand.

c) Increasingly demanding customers

Customers are constantly demanding improvements in delivery lead times, cost, and product performance. If they
do not receive these improvements, they move on to new suppliers. Many companies had periodic, standard price
increases-not due to a rise in demand or any other factor, but simply because raising prices was the way business
was done.

Now, one repeatedly sees companies that cannot force through any price increases without losing market share.
Todays customers are demanding faster fulfillment, better quality, and better-performing products for the same
price they paid years ago. This tremendous growth in customer demands means that the supply chain must
provide more just to maintain its business.

d) Fragmentation of supply chain ownership

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Over the past several decades, most firms have become less vertically integrated. As companies have shed non
core functions, they have been able to take advantage of supplier and customer competencies that they
themselves did not have. This new ownership structure, has also made managing the supply chain more difficult.
With the chain broken into many owners, each with its own policies and interest, the chain is more difficult to
coordinate.
Potentially, this problem could cause each stage of a supply chain to work only toward its own objective rather
than the whole chains, resulting in the reduction of overall supply chain profitability.

e) Globalization

Supply chains today are more likely than ever to be global. Establishing a global supply chain creates many
benefits, such as the ability to source from a global base of suppliers who may offer better or cheaper goods than
were available in a companys home nation.

Globalization adds stress to the chain, because facilities within the chain are farther apart, making coordination
much more difficult.

f) Difficulty executing new strategies

Creating a successful supply chain strategy is not easy. Once a good strategy is formulated, the execution of the
strategy can be even more difficult. For instance, Toyotas production system, which is a supply chain strategy,
has been widely known and understood. Yet this strategy has been a sustained competitive advantage for Toyota
for more than two decades.

Many highly talented employees at all levels of the organizations are necessary to make a supply chain strategy
successful. Skillful execution of a strategy can be as important as the strategy itself.

Many obstacles, such as rising product variety and shorter life cycle, have made it increasingly difficult for
supply chains to achieve strategic fit. Overcoming these obstacles offers a tremendous opportunity for firms to
use supply chain management to gain competitive advantage.

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