value creation || achieving top performance in supply chain management

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22Achieving Top Performance in Supply Chain ManagementAndrea Cappello, Martin L�sch, and Christoph Schmitz

Over the last few years, chemical companies have focused more and more on sup-ply chain management (SCM). Some have already achieved significant improve-ments and are continuously striving towards excellence. However, the chemicalindustry in general has not been an early adopter of SCM techniques, whereasothers have captured huge potential. The key elements and success factors of topperformance in this area are clear today, making it the right time for a further evo-lution of SCM practices across the entire industry. An SCM improvement pro-gram is complex and protracted, as it addresses the entire company business sys-tem and integrates and trades off different and sometimes conflicting functionalgoals, trying to orient them towards the common objectives of higher service leveland lower operating costs. Therefore, in order to be successful, it needs to setambitious targets, systematically address issues and organizational units by sub-projects, and carefully manage the required cultural and skill change.Companies able to win such a challenge can release the pressure on their finan-

cials and secure sustainable success in the long term.

22.1Supply Chain Management as a Strategic Lever for the Chemical Industry

Return on invested capital (ROIC) in the chemical industry is under pressurefrom both falling prices and rising costs, and some of the trends responsible,already mentioned in previous chapters, have simultaneously made SCM vital.Chemical companies, traditionally focused on manufacturing productivity andvery busy with mergers and acquisitions (M&A), have recognized in the past fewyears that SCM can play an important role in fulfilling customer expectationscost-effectively, through complex global operations linking all parts of their busi-ness system and including suppliers and customers.SCM can be a compelling force driving all factors of the ROIC equation: cost,

revenues, and capital.

Value Creation: Strategies for theChemical Industry. 2nd Edition. F. Budde, U.-H. Felcht, H. Frankem�lle (Eds.)Copyright � 2006 WILEY-VCH Verlag GmbH & Co. KGaA, WeinheimISBN: 3-527-31266-8

Directly or indirectly, it can influence as much as approximately 20 percent oftotal costs1), and a 20 to 30 percent reduction of total supply chain costs can betremendous for companies that, in some cases, are operating on profit margins ofaround five percent.In addition, because of improved service levels, SCM can make a significant

contribution towards preventing lost sales and become a strategic factor for differ-entiation, enhanced customer value propositions, and market share gains.Finally, SCM has a direct impact on production and logistics assets utilization

and on the entire inventory level, which represents on average around ten to20 percent of sales. An improved supply chain performance, such as a potentialten to 20 percent increase in production asset utilization and/or a ten to 15 percentreduction in inventory levels, enables companies to postpone or even cancelplanned capital expenditure.

Fig. 22.1 SCM as a strategic factor for differentiation, value creation,and market share gain – the Dell case.

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1) A typical breakdown would show five toeight percent for logistics, one to two percentfor the financial cost of inventory, five toseven percent for SCM-related material and

conversion costs, and one to three percentfor customer service, planning, and relatedIT costs.

Well known examples in other, even mature, industries such as Procter & Gam-ble in packaged consumer goods, Dell in consumer electronics, Wal-Mart in retail-ing, and Toyota in the automotive sector prove that outstanding performance isachievable and can contribute to the company’s overall success through tailoredservice levels, fast and reliable deliveries, and lean and cost-effective operations,even in a complex environment. Though not directly comparable, these industrieshave developed solutions that, appropriately selected and tailored, can be of tre-mendous value and serve as a reference for all branches of the chemical industry.Dell, for example (Fig. 22.1), became one of the biggest and the most valuable PCproducers during the ’90s; while there are obvious differences between the PCand chemical businesses, approaches like product-customer segmentation or on-line inventory management can definitely be successfully borrowed.Some steps have already been taken in the chemical industry: during the deep

restructuring of the ’90s, many players changed their organization from a func-tional to a customer and market orientation and, at that time, some also aban-doned the traditional focus on simple functional excellence in manufacturing orlogistics, and developed a more customer-centered and integrated approach totheir operations. These companies have discovered the potential benefits for allcompany stakeholders inherent in SCM.In comparison with progress in other industries, this transition is not complete

yet. Companies that fully understand the key elements of SCM (see section 22.2)and successfully orchestrate the technical and cultural change required to achievetop SCM performance (see section 22.3) can further improve their ROIC andunlock further value, thus creating the platform for their long-term and sustain-able success.

22.2Key Supply Chain Management Elements and Opportunities for the Chemical Industry

In general, SCM requires two key components: first, functional excellence in thematerials and information flows along the entire value chain from the supplier tothe customer, and second, overarching capabilities in cross-functional planningand execution so that all parties involved take consistent and coordinated actions.This section describes each of the six elements illustrated in Figure 22.2 and

highlights the opportunities that have been, and in some cases still can be, suc-cessfully tapped.

28322.2 Key Supply Chain Management Elements and Opportunities for the Chemical Industry

22 Achieving Top Performance in Supply Chain Management

Fig. 22.2 Key SCM elements.

22.2.1Service Level Management

Service level management has to ensure that customer requirements are under-stood and fulfilled, if necessary, through differentiated supply chain models andservice level propositions (see also Chapter 21).It is crucial to know the requirements and service breakpoints of each customer

segment (Fig. 22.3) and the related economic opportunities. Most successfulplayers go as far as designing and tailoring differentiated supply chains and ser-vice level offers (Fig. 22.4), and tracking service levels and profitability to addressservice issues and extra costs.Some chemical companies have yet to abandon their focus on manufacturing –

understandably enough, in view of the high capital tied in. However, they shouldbe wary of a mentality that assumes the supply chain ends at the factory gate andcan lead to service levels sometimes in the range of 65 to 70 percent of order linesdelivered on-time-in-full. Best practice reaches up to 85 to 95 percent. In addition,some companies have yet to explore and understand their customers’ real require-ments – they may be pursuing higher product quality standards when what thecustomer really wants is higher delivery compliance and shorter delivery times.

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Fig. 22.3 Service level breakpoints determining supply chain design.

Fig. 22.4 Differentiated supply chains and service level offers.

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One supply chain model clearly emerging in the industry is vendor managedinventory (VMI). Although this is often used by suppliers to lock-in customersand by customers to relieve themselves of the responsibility and of the financialand management costs of their inventory, as time goes on business partners arefinding that more can be gained from seeking mutual advantages.

22.2.2Order and Demand Management

The objective of order and demand management is to forecast future sales as pre-cisely as possible, manage customer orders from entry to delivery, and consolidateforecast and orders with supply chain inventory requirements in order to generatea holistic demand plan for purchasing, production, and distribution planning.Forecasting, inventory management, and order management each have specific

key success factors.Forecasting. This should be a real priority for chemical companies, as at times

forecast accuracy is lower than 50 percent and deeply influences customer orderand inventory management. If the replenishment lead time of a product is longerthan the lead time available to fulfill customer orders, forecasting is key toplanning inventory and guaranteeing the expected service level. As a rule ofthumb, an acceptable forecast accuracy, defined as the ratio between sales andforecast measured at the stock keeping unit (SKU) and monthly levels, is higherthan 70 to 80 percent: this allows accurate inventory planning with reduced safetyand buffer stocks, a higher service level due to more stable and reliable supply,and a higher utilization of production assets because of more stable productionplans, and leads to fewer consequential issues in logistics, production, and pro-curement.Whenever customers cannot directly provide an accurate forecast, for example

using Collaborative Planning, Forecasting, and Replenishment (CPFR�), and leadtimes cannot be reduced to a level where no forecasting is needed (e.g., throughmake-to-order), forecasting is based on IT-based statistical forecasting and/ormanual market intelligence, depending on the product’s “forecastability” andimportance as defined, for example, by revenues or margins.The rigorous management of the number of SKUs reinforces this approach:

structured programs often result in a 20 to 30 percent SKU reduction potentialand improved focus, and reduce the complexity of the entire supply chain. Afurther key to success is to hold sales and marketing accountable and incentivizedfor forecast accuracy, and to keep regular track of it.Inventory management. High-performing inventory management has four fun-

damentals: trying to avoid inventory ownership through supplier VMI or just-in-time (JIT) delivery; using statistical tools to optimize safety stocks and order lotsizes; assigning clear and individual responsibilities for each item of inventoryheld, ideally for each SKU; and carefully managing slow-rotating inventory.Customer order management and fulfillment. Effective and efficient order manage-

ment relies on transparent policies and decision rules reflecting customer needs

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and supply chain constraints, for example, for prioritization in case of shortages,and on real time IT tools, including enabling on-line confirmations to customersand continuous order tracking.

22.2.3Production Management

Production management is responsible in the short term for planning productionin order to cover the overall supply chain demand, and for delivering timely, com-plete, and quality-checked production volumes accordingly. In the long term, itoptimizes the production network configuration and available capacity.In the short term, more advanced companies meet the overall supply chain

demand while simultaneously minimizing the overall costs of inventory, produc-tion, and missed sales opportunities. Further, with frozen production periods theyavoid unnecessary changeovers, smoothen the whole production, purchasing, andmaintenance process, and achieve superior adherence-to-plan and productivityperformance. Nevertheless, if required, they can react promptly to unforeseenchanges thanks to reduced changeover times, flexible suppliers, and powerful ITtools that adjust the plans quickly.Over the long term, operational excellence comes from balancing long-term ca-

pacity availability with demand by reducing or increasing production operations,and smoothening medium-term fluctuations by insourcing and outsourcing.The main opportunities for chemical players lie in the following four areas:

1. Production scheduling. By implementing frozen production periods whileachieving a good forecast accuracy, chemical companies could reach anadherence-to-plan of over 90 percent and a three to four percent increase inproductivity through a reduction of last-minute changes to the productionschedule.

2. Complexity management. A typical batch-oriented chemical plant has hun-dreds of finished products, five- to ten-level bills of materials, configurableplant layouts, multi-plant production routings, days-long setup times – pro-duction scheduling can be very complex, executed in some cases only on amonthly basis. Some companies keep buffer stocks to decouple suchinflexible and slow-reacting production from fluctuating customerdemand; naturally, reducing complexity and increasing flexibility wouldshorten reaction times and reduce inventory.

3. Total supply chain cost optimization perspective. Forever striving to fully uti-lize production capacity and minimize manufacturing cost, some chemicalcompanies tend to run very long campaigns, usually resulting in excessinventory and increased cost. The break-even of the tradeoff decision be-tween campaign length and inventory level can be determined if the cost ofexcess inventory is considered as well when minimizing total supply chaincosts.

4. Production network rationalization. The M&A deals that took place in the’90s, not always followed by full production network consolidation, the

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opportunity to move to cheaper areas (e.g., the Far East, particularlyChina), and sometimes even excess production capacity make productionnetwork rationalization an opportunity that should be periodicallyaddressed, including all aspects of available production capacity and tech-nologies, specific market requirements, and a full understanding of thepossible scenarios and related economics (e.g., reclamation and socialcosts).

22.2.4Supply Management

Supply management has to ensure a smooth and uninterrupted supply of rawmaterials by defining clear service level agreements with suppliers, planning rawmaterials, issuing procurement orders, and tracking and managing supplier per-formance.To ensure best performance, suppliers should be well integrated into opera-

tional processes in order to guarantee a smooth two-way exchange of informationand of goods, as in most advanced CPFR� or VMI programs. A further key to suc-cess is the Total Cost of Ownership (TCO) approach in purchasing: the mutualbenefits of integrating operations with suppliers are then actively sought, ratherthan focusing solely on minimum purchase cost.Many players are going through purchasing spend reduction programs and

leveraging sourcing opportunities from low-cost regions. However, with a realTCO minimization approach, they could keep in mind inventory-holding costsand the consequences of longer procurement lead times as well.

22.2.5Distribution Management

Distribution management is responsible for planning and executing distributionto local subsidiaries and customers and for regularly reviewing and optimizingthe distribution network.In order to minimize the total distribution costs represented by logistics and

inventory expenses, many companies are adapting their networks to the shifts ofthe geographical distribution of sales volumes or to changing tariffs, and optimiz-ing the use of full or less than truck (or container) loads.Moreover, warehousing and transportation operations are being outsourced

more and more, as well as an increasing number of bundled services includingadministration, quality assurance, finance, legal affairs, and IT.In the chemical industry, increasing service level expectations and Environ-

ment, Safety, Health, & Assurance regulations have helped to make logistics oneof the biggest SCM cost components. Most chemical companies have alreadyreduced distribution costs, usually by outsourcing logistics activities. Neverthe-less, room still exists for developing more value-added services with logistics ser-vice providers and distributors (see also Chapter 12).

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Furthermore, chemical companies should go on reducing their large number ofdistribution centers and warehouses, the legacy of an historically grown networkbased on M&A history or reflecting old national boundaries, like country-specificwarehouses in Europe.

22.2.6Integrated SCM Planning and Execution

As mentioned above, in addition to functional excellence, the second dimensionof SCM is integrated planning and execution. A number of overarching elementsenable the integration of our five SCM functional process elements:. SCM processes: Clear, standardized and optimized SCM processesalong the five dimensions described in the previous sections arethe first prerequisite for integrated SCM planning and execution,as they align the multiple parties involved, their data and actions,and their perspectives and objectives.

. SCM organization and performance management systems: In addi-tion, a well-designed organization for the end-to-end integrationof supply chain operations encompasses clear responsibilities,transparent performance measures, and a performance manage-ment system with non-conflicting incentives, fostering disciplineand a continuous improvement culture. It supports trade-off deci-sion making and provides mechanisms to reconcile conflicts: atthe core of SCM are a series of delicate balances that need to bemanaged, like those between inventory costs and immediateavailability, inventory and production costs, or warehousing andtransportation costs.

. Supporting IT systems: Finally, the accuracy and speed of an inte-grated process is heavily influenced by the availability of IT sys-tems, which provide a common database, automated functionslike Materials Requirements Planning (MRP), and opportunitiesfor simulation and optimization (for instance, real time finitecapacity production scheduling, or on-line customer orderconfirmation based on existing overall supply chain inventoryor capacity).

Some chemical companies may still be facing the challenge of removing thinkingin functional silos. They should establish fully cross-functional, collaborativeplanning processes, set up or strengthen central SCM coordination, and ensurethe consistency and completeness of the goals and incentives set by the perfor-mance management system.

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22.3Delivering on the Opportunities – the Key Success Factors for Achieving TopPerformance

There is clearly no standard recipe for achieving SCM excellence, but experiencehas shown that the full SCM potential can be captured only with a thorough andconsistent investigation of all improvement levers, followed by their implementa-tion. This requires a learning process which is individual to each company, andwhose key success factors will be discussed in this section.Whereas section 22.2 described “what” top-class SCM should be, this section

focuses on “how” to set up such a system, in terms of both the design principlesand the management of a possible improvement program.

22.3.1Designing Top-performing SCM

Top-performing SCM can be an all-embracing theme that effectively and effi-ciently supports a company in reaching its performance goals. This requires a fullunderstanding of and alignment with the business strategy and product-market-customer characteristics, a set of structural elements that make all functionsinvolved work together in unison – transparency of performance, clearly definedprocesses, accountabilities, and organization – and, just as importantly, the appro-priate approaches and tools.

22.3.1.1 Alignment of SCM with Business Strategy and Product/Market/CustomerCharacteristicsSCM needs to be aligned with and support the overall business strategy, andtherefore to be in line with product, market, and customer characteristics. As dif-ferent products, customers, and markets might need to be supported with differ-ent strategies, SCM needs to be tailored accordingly.Figure 22.5 shows how product, customer, and market characteristics can deter-

mine different SCM strategies and design implications. For example, the strategicchoice to serve niche customers with high price specialty chemicals is only tenableif the high-value inventory is centralized to reduce costs, and if a fast, responsivesupply chain is set up to fill customer orders within the requested lead time fromcentral inventory.

22.3.1.2 Transparency of Performance – “Inventory as the SCM Thermometer”Transparency in supply chain performance is a prerequisite for analyzing perfor-mance hitches, prioritizing any improvement efforts, monitoring the impact ofthe measures taken, and focusing the organization’s attention – which by itselfcan lead to huge improvements.

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22.3 Delivering on the Opportunities – the Key Success Factors for Achieving Top Performance 291

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Ideally, the most critical financial and operational key performance indicators(KPIs) centering around service level, quality, and cost should be monitored foreach function, but it is important for all SCM-influenced costs to be reported toavoid distortion: for example, more frequent procurement orders would reducethe cost of raw materials inventory at the expense of inbound logistics costs, andomission of the latter would give a misleading picture.A final observation here concerns inventory, usually one of the main cost drivers

of chemical supply chains. Excess inventory of raw materials, intermediates, andfinished goods is often present in plants and local warehouses and aged or deadstock can be up to five percent of total inventory. As the root causes can be widelyspread, from inaccurate forecasting to long production lead times, from lack ofintegrated SCM processes to insufficient IT coverage, from lack of clear account-ability to lack of performance management, inventory can be taken as a good ther-mometer in SCM health checks.

22.3.1.3 Clear Cross-functional Interfaces and Coordinated Decision MakingWhereas it is obvious that SCM processes must fully leverage functional core com-petences, cross-functional interfaces are less unequivocal and need to be clearlydefined, with synchronized timing, agreed rules for interaction, and standard tem-plates. In addition, seamless access to up-to-date and consistent information is re-quired to allow effective decision making. Moreover, to achieve coordinated deci-sion-making, the different functional perspectives and objectives have to be recon-ciled and rules set which will prevent optimization in individual functions, whichis counter-productive in terms of the overall supply chain optimum. Regularcross-functional sales and operations planning meetings, held to share currentend-to-end supply chain plans, can jointly address issues and decide on the trade-offs that represent the best opportunity for coordination and integrated decisiontaking.

22.3.1.4 Careful Design of the Performance Management SystemA number of prerequisites for a performance management system can make allSCM actors work together effectively and achieve excellent performance: a com-plete set of KPIs, non-conflicting and clear accountabilities, and rigorous perfor-mance management. All SCM-relevant KPIs need to be unambiguously definedand monitored to ensure a holistic picture: disregarding one component mightendanger the performance of the entire supply chain (“a supply chain is as strongas its weakest link”).Non-conflicting and unambiguous accountabilities are key to success. Supply

chain managers are often held responsible for inventory levels but are unable toinfluence production lot sizes, which are normally under the control of the pro-duction managers responsible for production costs. As lot size adversely affectsinventory levels and production costs, this is a common example of conflictingand ambiguous accountabilities, where responsibilities are not backed up by con-

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22.3 Delivering on the Opportunities – the Key Success Factors for Achieving Top Performance

trol of all the required levers. Carrying on with this example, the issue could beresolved with formal agreements between SCM and production, e.g., about themaximum number of changeovers, allowed changes to the schedule, and numberof products simultaneously produced per month. This way, the scope of action ofeach manager would be clear and accountabilities would cease to be in conflict.This specific issue could also be addressed in a more fundamental, organizationalway, by forming a joint “Supply Organization” that includes both production andsupply chain functions.Last but not least, a management system intended to steer people’s perfor-

mance needs to rigorously address achievements and failures, for example byactually linking KPI performance with incentive schemes and career opportu-nities.

22.3.1.5 Tailored SCM Organization StructureThe “organizational boxes” should only be drawn after the critical processes andaccountabilities have been defined, and during this process a very great deal ofcare should be given to getting buy-in from all affected stakeholders along theentire value chain – such as heads of functions and of major production, distribu-tion, and sales units.When integrating multiple legal entities into an SCM organization, ownership

of inventory should be strongly consolidated to simplify geographical mobilityand avoid local optimization moves. An SCM organization with full responsibilityfor operational performance should also develop, standardize, and implementcompany-wide practices that go beyond the responsibility of single functions.

22.3.1.6 Detailed Approaches and Sophisticated MathematicsSCM requires complex and highly detailed modeling as well as sophisticated opti-mization techniques. For example, planning parameters such as safety stocks andorder lot sizes need to be regularly optimized using statistical tools that requiresound analytical skills; slow-moving and dead inventory – often real “leftovers” –needs ad-hoc solutions for each material, sometimes demanding major efforts(e.g., for obsolete finished goods, suitable customers have to be identified and spe-cific deals negotiated); distribution and production network consolidation, make-or-buy decisions, and allocation of products to plants are problems that go beyondspreadsheet-based modeling and require sophisticated operational research tech-niques for which specific skills are necessary.

22.3.1.7 Priority of Process over ITIT should be adapted to process, not process to IT. In some cases, a kind of supre-macy of IT over processes and change management can be observed: vague busi-ness cases and plans, forced introduction of standardized IT tools, quick trainingprograms, poor results. A correct re-prioritization would make it possible to focus

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(and spend) on what is likely to provide real benefits: IT should only be anenabler.

22.3.2Managing an Improvement Program

An SCM improvement program should create momentum, break down the scopeinto manageable pieces, and explicitly manage the cultural and skill change neces-sary to ensure sustainability and continuous improvement. In addition, top man-agement conviction and support are unshirkable prerequisites for success.

22.3.2.1 Ambitious Targets and Systematic ApproachIn order to be successful, SCM redesign or improvement programs should beinspired by some setup principles.Ambitious and measurable targets should be defined and transparency on per-

formance should be regularly provided, to mobilize the organization and trackprogress objectively.Furthermore, sub-projects addressing individual organizational units should be

put in place, to cover the whole company in subsequent steps. Focus and continu-ous prioritization are also key in order to achieve higher impact: due to theircross-functional nature, SCM projects tend to raise countless issues, and compa-nies should avoid “biting off more than they can chew”.The resources responsible for implementing SCM techniques and processes

should be chosen carefully and developed using a train-the-trainer concept, andshould regularly be assigned to subsequent sub-projects within the program, toachieve the highest impact in the shortest possible time.

22.3.2.2 Strong Basis for Long-term Sustainability and Continuous ImprovementAn SCM redesign involves many people at multiple levels and usually requires achange in culture and mindsets. This must be addressed explicitly, with strongleadership, a compelling and fact-based vision and value proposition, and exten-sive involvement of stakeholders in designing the solutions.In addition, the necessary understanding, motivation, and capabilities have to

be created to ensure sustainability and continuous improvement by means of for-mal training as well as personnel development planning supported by regularcoaching and feedback sessions.Finally, the chemical industry, traditionally rather closed, should possibly con-

sider the introduction of SCM experts from other more advanced industries tofacilitate change and ensure long term sustainability.

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22.5 Summary

22.4Conclusion

Reaching world class SCM is no easy job: a program to achieve it could even takea couple of years, involving a lot of stakeholders from many different functionsand incorporating many simultaneous and interactive initiatives.Nevertheless, improving or even innovating SCM design and operations is a

reliable way to boost ROIC and therefore market value, as supply chains linknearly all parts of a company’s business system. When Dell developed its radicallynew supply chain model, it was really “thinking out of the box”, and probably noone would have believed it would soon become the reference in (and outside) itsindustry, and one of the biggest and most valuable players in its sector. Similarly,other industries have indicated ways that the chemical industry can take in thenear future.Chemical industry players have only recently started transforming their supply

chains, and enormous potential still remains to be captured. Being an early adopt-er, moving first, and taking a creative approach can really ensure distinctiveness,competitive advantage, and long-term, sustainable value creation.

22.5Summary

. Improving or even innovating SCM design and operations is areliable way to boost ROIC and therefore market value, as SCMlinks nearly all parts of a company’s business system and can be acompelling force driving all factors of the ROIC equation: cost,revenues, and capital.

. Examples in other, even mature, industries prove that outstand-ing performance is achievable and show the way and the potentialleft to capture for the chemical industry, where the transition toworld-class SCM is not complete yet.

. From an operational point of view, world-class SCM requires twokey components: first, functional excellence in service level man-agement, order and demand management, production manage-ment, supply management, and distribution management; andsecond, overarching capability in cross-functional planning andexecution so that all parties involved take consistent and coordi-nated actions.

. From a structural point of view, top-performing SCM requires afull understanding of and alignment with the business strategyand product-market-customer characteristics, a set of structuralelements that make all functions involved work together in uni-son – transparency of performance, clearly defined processes,

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accountabilities, and organization – and, just as importantly, theappropriate approaches and tools.

. An SCM transformation program can be complex and protracted,as it addresses the entire company business system and inte-grates and trades off different and sometimes conflicting func-tional goals, trying to orient them towards the common objectivesof higher service levels and lower operating costs.

. In order to be successful, such a program needs to set aggressiveand ambitious targets, systematically address issues and organi-zational units by sub-projects, employ rigorous project manage-ment, and carefully manage the required cultural and skillchange. In addition, top management conviction and support areunshirkable prerequisites for success.

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value creation || achieving top performance in supply chain management

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