The central question which we try to address is

How to manage the great variety of demand in

supply chains?

Also a related question:

How to manage variability/uncertainty of demand

in supply chains ?

Risk pooling strategies:

Lead time pooling

14-3

More on Risk Pooling Applications

Pooling Game: (1) or (2) would do better?

Supplier

SupplierW/h

4 wks

2 wks

2 wks

Retailer1

Retailer 2

Retailer 3

Retailer1

Retailer 2

Retailer 3

(2) Ignore the cost of running the w/h

(1)

Leadtime =4

On-

hand

Ship.

due

Now

Order

D’d

Wk 1

(Now)

D’d

Wk 2

D’d

Wk3

D’d

Wk4

D’d

Wk5

R1 250 300

(wk 2)

400

(wk 5)

No

more

due

50

(200)

120

(380)

R2 300 200

(wk 2)

300

(wk 5)

No

more

due

120

(180)

150

(230)

R3 350 200

(wk 2)

300

(wk 5)

No

more

due

130

(220)

140

(280)

It would be beneficial if reallocation after wk 2 is possible

Ending inventory (Wk1)

Location pooling -- Full Service

Distribution Center – inventory carrying

at DC

warehouse

Retailers

(Resellers)

Location pooling Location pooling

• When inventory is at the Factory it is difficult to predict

which retailer will have the highest need for inventory.

• It is easier to predict the “correct” allocation when the

inventory arrives at the w/h

• The benefit of delaying the inventory allocation decision

from F to W is called “location pooling” - a special form

of risk pooling

• Such pooling effect partially brought about by “Leadtime

risk pooling”

F W

R

R

R

How about postponement?

Location pooling pros, cons and alternatives

Pros

Efficient inbound and outbound transportation:

Inbound aggregates orders from many retailers

Outbound contains products from multiple suppliers/SKUs

Inventory allocation is decided at the DC, i.e., leadtime risk

pooling is exploited

Supplier can ship single SKU

Cons:

Location pooling moves inventory away from customers:

“Big quantity” at each customer/store v.s. “smaller quantity” at each customer/store + a warehouse

Requires more handling of inventory and space for

storage14-8

GM 通用汽車 – Cadillac (凱迪拉克)

工廠Fty

中央倉庫 CDC

地區倉庫 Reg. DC

銷售商 Dealers

A

B

C

D

Cadillac

4- tie inventory system

銷售商類車/流行車 – popular: 0 （Leadtime)

地區倉庫類車 – 車室內選擇限制 (interior) -- 1

中央倉庫類車 –選擇限制少一些 (more options) --10

定制類車 –任何選擇 (personalized) -- 32 天 交貨期

Cadillac

效果 Results

庫存 平均 減少 (reduction in inventory) 25-50%

銷售商省$12億 (Dealers saving $1.2 bil in capital)

預測精度改善 (more acurrate forecasting)

更具響應性 (more responsive)

Consolidated distribution summary

Consolidated distribution reduces inventory in a supply chain via lead time risk pooling

Due to lead time risk pooling the supply chain only needs to decide the total quantity to ship from the supplier, not a total quantity and its allocation across locations. Hence, some uncertainty is avoided.

Most effective if demands are negatively correlated across locations.

Most effective if the supplier lead time is long and the DC to store lead time is short.

But consolidated distribution increases total distance traveled and total lead time from supplier to stores.

Other benefits of consolidated distribution:

Easier to obtain quantity discounts in purchasing.

Easier to obtain economies of scale in transportation:

the DC may be able to order a full truck load every day, whereas an individual store might requires much more time to order a full truckload)

14-12

Virtual Pooling (虛擬 。。)

Market One

Market N

Warehouse One

Warehouse N

Transshipment between warehouses

Virtual pooling:

Transship among stores

Cathay Pacific participates in Aeroxchange to share spare parts

Database of individual airlines’ stocks of parts

Cathay Pacific Spare Parts (Mgt team of 150 people):

Complex: over 1,000,000 parts on a single aeroplane, over 380,000 line

items in Cathay’s database as of Feb. 2007, over 2,300

suppliers to meet the spare parts demands of CP’s fleet of over

117 planes consisting of 11 models with an average age of 11

yrs, and more planes to be delivered

Expensive: e.g., the average cost of an engine was US$12 million

and comprised thousands components and assemblies ranging

from nuts and bolts to ten thousands.

The change works this way: Say that a shopper was looking

at a blue Marc Jacobs handbag at Nordstrom.com. She could

see where it was available at nearby stores, and reserve it for

pickup the same day.

More significant, if the Web warehouse was out of that bag,

it did not matter. Inventory from Nordstrom’s 115 regular

stores is also included. …

Results were immediate. The percentage of customers who

bought merchandise after searching for an item on the site

doubled on the first day, and has stayed there (although, Mr.

Nordstrom cautioned, that doubling was from a small base).

Virtual Inventory Pooling in NetflixChicago Tribune (“How Netflix gets your movies to your mailbox so fast“, Aug

4th, 2009)

Risk pooling strategies:

Capacity pooling

14-17

Risk Pooling App. – Part 4

Based on G. Cachon and C. Terwiesch: Matching Supply with

Demand , 2009; in turn, from “Jordon W., S. Graves:

Principles on the Benefits of Manufacturing Process

Flexibility,” MS, 41, pp.577-94, 1995.”

Capacity pooling with flexible manufacturing

Consider the following stylized situation faced by GM …

They have 10 production facilities

They have 10 vehicles to produce (GMC truck, Chevy Tahoe, Buick

Roadmaster, etc).

Each plant is capable of producing 100 units.

Demand for each product is Normally distributed with mean 100 and

standard deviation 40.

Each plant can be configured to produce up to 10 products

But flexibility is expensive, i.e., the cost to construct a plant is increasing

in the number of products it can produce.

GM must decide which plants can produce which products before

demand is realized.

After demand is realized, GM can allocate its capacity to satisfy

demand.

If demand exceeds capacity, sales are lost.

14-18

Four possible capacity configurations: no flexibility

to total flexibility

The more links in the configuration, the more flexibility constructed

In the 16 link configuration plant 4 is flexible enough to produce 4 products

but plant 5 has no flexibility (it produces a single product).

14-19

How is flexibility used

Flexibility allows production shifts to high selling products to avoid lost sales.

Consider a two plant, two product example and two configurations, no

flexibility and total flexibility:

If demand turns out to be 75 for product A, 115 for product B then..

Product Demand Plant 1 Plant 2 SalesA 75 75 0 75B 115 0 100 100

Total Sales 175 Plant Utilization 88%

Production With no flexibility

Product Demand Plant 1 Plant 2 SalesA 75 75 0 75B 115 15 100 115

Total Sales 190 Plant Utilization 95%

Production With total flexibility

14-20

The value of flexibility

Adding flexibility increases capacity utilization and expected sales:

Note: 20 links can provide nearly the same performance as total flexibility!

800

850

900

950

1000

80 85 90 95 100

Expected capacity utilization, %

Ex

pec

ted

sal

es,

un

its

No flexibility

Total flexibility

20 links

11 links

12 links

These data are

collected via simulation

14-21

Chaining: how to add flexibility

A chain is a group of plants and products connected via links.

Flexibility is most effective if it is added to create long chains.

A configuration with 20 links can produce nearly the results of total flexibility

as long as it constructs one large chain:

Hence, a little bit of flexibility is very useful as long as it is designed correctly

14-22

Other applications in service environments

How about cross training?

Imagine a trade company: Sourcing; Customs

clearance; Banks/credit; Shipping;

Administration; Legal issues

Risk pooling summary

Risk pooling strategies are most effective when total demand

uncertainty is lower than the uncertainty for individual

products/locations.

A little bit of risk pooling goes a long way:

With location pooling the biggest bang is from pooling a few

locations

With capacity pooling a little bit of well designed flexibility is very

effective.

Risk pooling strategies do not help reduce pipeline inventory.

Risk pooling allows a firm to “have its cake and eat it too”

It is possible to lower inventory and increase service

simultaneously.

14-25

A contract manufacturer

CM is a firm that manufactures components or products

for another "hiring" firm. Almost all industries utilize this

process.

In a contract manufacturing business model, the hiring

firm - typically an OEM - approaches the contract

manufacturer with a design or formula. The contract

manufacturer will quote the parts based on processes,

labor, tooling, and material costs.

Typically an OEM will request quotes from multiple CMs. After the

bidding process is complete, the hiring firm will select a source, and

then, for the agreed-upon price, the CM acts as the hiring firm's

factory, producing and shipping units of the design on behalf of the

hiring firm.

A contract manufacturer

Many well-known companies use contract manufacturing

as an alternative to operating and maintaining their own

factories. Contract manufacturing can be used for

anything from single components to a complete product.

Printers, computers, and cellular phones are all

examples of products that are made using this method.

In an international context, establishing a foreign

subsidiary as a contract manufacturer can have

favorable tax benefits for the parent company, allowing

them to reduce overall tax liabilities and increase profits,

depending upon the activities of the contract

manufacturer.

Electronic Contract Manufacturing (ECM)

is a is term used for companies that offer

contracts for electronic assembly for another

company

A contract manufacturer

Many well-known companies use contract manufacturing

as an alternative to operating and maintaining their own

factories. Contract manufacturing can be used for

anything from single components to a complete product.

Printers, computers, and cellular phones are all

examples of products that are made using this method.

In an international context, establishing a foreign

subsidiary as a contract manufacturer can have

favorable tax benefits for the parent company, allowing

them to reduce overall tax liabilities and increase profits,

depending upon the activities of the contract

manufacturer.

Electronics manufacturing services (EMS)

Electronic manufacturing services (EMS) is a term used

for companies that design, test, manufacture, distribute,

and provide return/repair services for electronic

components and assemblies for original equipment

manufacturers (OEMs).

The business model for the EMS industry is to specialize

in large economies of scale in manufacturing, raw

materials procurement and pooling together resources,

industrial design expertises as well as create added

value services such as warranty and repairs. This frees

up the customer who does not need to manufacture and

keep huge inventories of products.

One way to make money with capacity pooling:

contract manufacturing

A fast growing industry:

But one with low margins:

Total revenue of six leading contract manufacturers

by fiscal year: Solectron Corp, Flextronics

International Ltd, Sanmina-SCI, Jabil Circuit Inc,

Celestica Inc and Plexus Corp. (Note, the fiscal

years of these firms vary somewhat, so total

revenue in a calendar year will be slightly

different.)0

10000

20000

30000

40000

50000

60000

70000

1990

1992

1994

1996

1998

2000

2002

2004

Fiscal year

Rev

en

ue (

in m

illi

on

$s)

Firm (2005 fiscal year) Revenue* Cost of goods* Gross Margin

Flextronics 15288 14090 7.8%

Sanmina-SCI 11735 10924 6.9%

Solectron 10441 9676 7.3%

Celestica 8471 7869 7.1%

Jabil Circuit 7524 6716 10.7%

Plexus 1229 1099 10.5%

* in millions of $s

14-30Now, the biggest is Foxconn

Summary of So Far

7/9/2010 Intro

14/9/2010 Cancelled

21/9/2010 Forecasting

28/9/2010 MRP /DRP

5/10/2010 Inventory I

12/10/2010 Nesvendor

19/10/2010 Inventory I I

26/10/2010 Inventory + Midterm

2/11/2010 Risk Pool & App

Summary of So Far

7/9/2010 Intro

14/9/2010 Cancelled

21/9/2010 Forecasting

28/9/2010 MRP /DRP

5/10/2010 Inventory I

12/10/2010 Nesvendor

19/10/2010 Inventory I I

26/10/2010 Inventory + Midterm

2/11/2010 Risk Pool & App

Forecasting is the

basis for many

planning

activities

Using Forecasts

as key input

Push mode of

managing SC

physical goods

Characteristics

of SC physical

goods

One-shot

procurement

Multiple periods

Inventory

problems -- Push

mode

Summary of So Far

7/9/2010 Intro

14/9/2010 Cancelled

21/9/2010 Forecasting

28/9/2010 MRP /DRP

5/10/2010 Inventory I

12/10/2010 Nesvendor

19/10/2010 Inventory I I

26/10/2010 Inventory + Midterm

2/11/2010 Risk Pool & App

Practical inv. mgmt issues

• Who’s better mger? (brought out from the

newsvendor …)

• Shortage cost v.s. service level constraint:

Safety stock!

• Multiple items

Summary of So Far

7/9/2010 Intro

14/9/2010 Cancelled

21/9/2010 Forecasting

28/9/2010 MRP /DRP

5/10/2010 Inventory I

12/10/2010 Nesvendor

19/10/2010 Inventory I I

26/10/2010 Inventory + Midterm

2/11/2010 Risk Pool & App

Mgmt of d’d uncertainty

• Safety stock -> how can we reduce it?

• “Location” pooling

• “SKU” pooling -> Postponement + …

The chaining effect?

Not exactly an inv.

Issue!

Remaining Classes

Nov. 9: Risk Pool

Nov. 16: Beer game + Bullwhip Effect

Nov. 23: SC Contracts +

Nov . 30: Revenue Mgmt

Dec. 7: Revenue Mgmt + Review

Dec. Final Exam

Next Class will be in

e-Service Lab (6th floor)

No beyond