Increased supply chain confidence through simplicity

Traditional approaches to inventory management and replenishment divide inventory stocks into two portions:

1. Working stock – the inventories designed to cover daily demand
   
2. Safety stock – the inventory quantities designed to cover variation in supply or demand or both
   

Years of statistical analytics and software development have been focused on improving the ways in which lead-time, demand and safety stock values are calculated. So much, in fact, that most of the people who use supply chain management, inventory management, or replenishment software frequently do not even understand what the software is doing, how it is doing it, or why it works or does not work.

Some years ago I was consulting a firm and, in the course of the business, reviewing how they went about their inventory management and replenishment. They had software that did inventory management and that included replenishment calculations.

So, we were sitting together and he was describing to me what he was doing on his computer. He said, “Here’s the ordering screen. It shows historical demand here [pointing], and the recommended order quantity here [again, pointing]. And, I don’t know exactly what this number is for [pointing], but if I think the system is suggesting that I buy too much or two little, I can adjust this number until the suggested order quantity lines up with what I think it ought to be.”

Well, of course, what the system was doing was exponential-smoothing of demand and the value he was adjusting was the value of alpha in the formula.

What I refrained from asking him (only by biting my tongue) was, “If you are going to simply adjust the system’s findings to your intuition, why use the system at all?”

The moral is: Systems that are not understood—and most complex systems are not understood—are also not trusted. Especially if they frequently—or even, regularly—produce what are perceived to be unreliable results.

The artificial divide

The artificial subdividing of stock quantities into “working stock” versus “safety stock,” and adding complexities around the factors used to calculate the one value versus the other provides no added value. In fact, the complexity actually leads to less reliability because the users frequently do not know how to set the input parameters effectively. Not to mention the fact that the parameters that are effective today may not—in fact, likely will not—be effective tomorrow or next week.

The fact of the matter is, in most cases, the only awareness of the division between “working stock” and “safety stock” quantities is found in the software itself and those that may be intimately acquainted with the software and its configuration. The people on the warehouse floor typically do not know when they have made an incursion into “safety stock.” They don’t know that the first 41 units they picked for order number 8789089 were from “working stock,” and the last nine units were taken from “safety stock.” And, they should not care.

Even the managers frequently have no visual signal that an incursion has been made into “safety stock.”

Inherent simplicity

Employing Theory of Constraints (ToC) Dynamic Buffer Management (DBM) makes life easier to understand for those responsible for inventory management and replenishment (read: supply chain managers). The buffer size (for any given item in any given stocking location) is a single number. (Let’s say, 1,000 units.)

The formula for setting the initial buffer size is simple and easily understood. Typically that formula is something like this:

Initial Buffer Qty = [Average Daily Demand] * [ToC Replenishment Days] * [2] * [Paranoia Factor]

The only factor that really needs any kind of explanation is the “Paranoia Factor.” This is merely a multiplier selected by intuition and based on senses of the criticality of an item. An item might be critical because it is used in the production of 800 other items; or because the majority of your customers all buy this item; or because one hugely important customer relies upon you for this item; or dozens of other reasons.

Once the initial buffer size has been calculated and set, the buffer is divided (mathematically) into three “zones.” The top third is called the green zone, the middle third is called the yellow zone, and the bottom third is called the red zone.

Going forward, the DBM system simply monitors for conditions at each replenishment cycle and adjusts the buffer size according to rules. The rules are typically:

1. Too Much Green – The item has been found in the green zone on three consecutive replenishment cycles; therefore, reduce the buffer size by one-third.
   
2. Too Much Red – The item has been found in the red zone on two consecutive replenishment cycles; therefore, increase the buffer size by one-third.

It’s that simple. No complex formulas for calculating and managing variability in demand or supply.

On top of that, supply chain managers can have simple visual signals as to the status of their buffers. A simple view of the inventory data (by location) can readily provide red light, yellow light, and green light indicators for the buffer status in any stocking location for any item. No math and easy to equate to action:

• Green light – no action required
• Yellow light – take note, perhaps investigate critical factors like larger-than-normal orders or orders pending for critical customers
• Red light – consider expediting measures, if necessary

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NOTE: There are more options available with DBM, such as identifying and managing SDCs (sudden demand change items—like seasonality), managing Virtual Buffers (between stocking locations, such as warehouse-to-warehouse replenishment, or broader supply chain visibility and collaboration). It is not the intent of this article to exhaust the applicability of DBM.

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RKL eSolutions, LLC is in the process building a cloud-based solution to help you manage your inventory in just such a way—using Dynamic Buffer Management and the Theory of Constraints. Contact me or fill out the contact form here if you would like more information.

Finding Common Ground Between CFO and COO–Part 10

[Continuation…]

 

Some key factors in creating Irrefusable Offers

What are some of the key elements that should be considered by the CFO and COO when creating “Mafia Offers”?

Well, if the CFO and COO have come to properly understand their market and market segmentation through analytics (simple is better), the next step is to unlock “tribal knowledge” within the organization so the customer’s experience and customer’s desired results are clearly understood for each market segment. If necessary, that may mean identifying a market segment constituted of only one customer.

Make the offer learning, anticipating or filtering

The irrefusable offer must be one that lightens the burden felt by the customer, improves the customer’s experience, and produces better results for the customer. Offers that are learning, anticipating and filtering are such offers.

Take a look at the offer give in Example 1 in Part 8 of this series. This offer lightened the burden on the customer by reducing the customer’s need to store and handle large quantities of inventory month after month. The billing method, in turn, improved the cash flow for the customer, as well.

The offer was, in fact, anticipating the customer’s needs and filtering the volume down to the quantities actually required while still providing the prices to which the customer was accustomed under the previous ordering practices.

This offer, however, could have been made even more learning, anticipating and filtering. Suppose they had offered to simply replace the quantity actually consumed each month, rather than a flat 50,000 units per month. This may have been even more appealing to the customer.

Make the offer customizable

Buyers ranging from individuals buying one-offs via the Internet to professionals buying for big-box merchants today are influenced by customizable offers. Sometimes it is the actual product that is customized (e.g., made to specification, personalized, color or style options). However, even typical commodity offers can be customized.

When the product itself cannot or is not offered as customized, that does prevent the offer itself from being customized. Offers may be customized around several parameters:

• Delivery method – online, next-day, same-day, free-freight, in-person, vendor-managed and so forth
• Delivery quantities – incremental deliveries, truck-load, on-demand quantities
• Payment terms – credit card, 90-days same as cash, consumption-based invoicing

The goal, of course, in any customization in the offer is to improve the customer’s experience and results.

Make the offer upgradable

Without renegotiating the whole deal, an upgradable offer allows the customer to add-on, extend, or improve upon an existing trading agreement. This is especially valuable where the market may be subject to significant changes—as are most markets today. I think most CFOs and COOs would agree that they would much rather keep a customer through an upgradable offer than to risk losing the customer because the customer feels that they must renegotiate “the whole deal” anyway.

Again, looking back to the offer give in Example 1 in Part 8 of this series, you can easily see that this offer was, indeed, upgradable. The offer could be extended to buy more of the same product, or additional products could be purchased under the same plan.

Make the offer online, interactive or one that provides near real-time feedback

Offers that lead to or involve sharing information in real-time or near real-time are also generally more able to be learning, anticipating and filtering. The close contact created by interaction between seller and buyer may also lead to valuable insights that could lead to more customized or upgradable offers.

Some time ago I had opportunity to discuss a new software purchase with the CFO a rapidly growing $350 million enterprise. I asked him what he thought about the software, but when he replied, he did not really talk about “the software,” at all. He said:

“The company has this great approach to support. They offer an online knowledgebase that is searchable and provides a wealth of helpful information. But what’s even better is that they monitor activity on the support site 24-hours a day. If it seems you are not finding the answer to your question after a couple of attempts, a dialog box pops-up and a live support person proactively offers to help you resolve your issue right then and there.”

Clearly, this buyer of “software” was far more impressed with online, interactive, real-time feedback from support than the software itself. This CFO has purchased “software,” but what he got was a better experience and improved results from his purchase.

Accompany the offer with anytime access and response

In a world where the typical customer is empowered by Internet access to so many options, providing an offer that includes anytime access or response is likely to improve the customer’s experience and results. This is proven by the previous example where the CFO mentioned the fact that the support site was proactively monitored “24-hours a day.”

In fact, I personally find that my clients feel much more “connected” with me when I give them my cellular phone number and assure that they are free to call me (literally) 24-hours a day if they need my assistance.

[To be continued…]

Finding Common Ground Between CFO and COO–Part 9

[Continuation]

So, what are the keys to constructing irrefusable offers (Mafia offers)?

Market segmentation

The CFO and COO must come to understand the key components that go into their trading partners’ experience and what their trading partners view as improved results. More importantly, they must begin to see that different trading partners or different market segments have different experiences and seek different improved results.

In order to get a better understanding of how to segment your market, the CFO and COO should employ a combination of market analytics (business intelligence) and tools to unlock “tribal knowledge” from within the organization itself.

As the figure above suggests, different target markets will find value in differing aspects of “the offer.” Some will find the value in a product’s ability to be customized or adapted to their specific application. Others will find greater value in how the product is delivered (speed or online). Still others will find greater value in intangibles such as VMI (vendor-managed inventory) or the ability to receive small, more frequent shipments,while achieving the same price-breaks as larger orders. It is impossible to know until the CFO and COO take time to analyze and understand how and why they sell—or fail to sell—into various markets.

Capabilities

Another factor concerning which the CFO and COO must come to agreement regards the firm’s capabilities. What can be done within the firm’s capabilities to supply an improved customer experience for various segments of the market? In addition, what can be done—still within the firm’s capabilities—to help assure that the customers in various market segments are getting better results than the competition is delivering?

Understand that, until the firm’s various market segments are understood clearly, it is impossible to even formulate the right questions around “capabilities” and how to apply them toward the creation of irrefusable offers.

Creating an operating partnership with your customers

The really great and long-lasting irrefusable offers stand above the rest because they create a durable competitive advantage for both the vendor and the customer. The offer brings your firm and your customer’s firm into an operating “partnership” that produces better—and improving—results for your customers while increasing your own firm’s Throughput and profits. This combination makes three very happy parties—the CFO, the COO and the customer(s) involved.

This may mean the such irrefusable offers may sometimes need to be tendered to the customer at a higher level than the typical “buyer.” Creating and presenting the offer may involve the CFO and COO in joint discussions with their counterparts in the customer’s organization, where the value of the irrefusable offer may be more fully understood and appreciated.

Establishing these offers and resulting agreements at higher levels knits the customer’s management team with you—the vendor’s management team—in a way that makes it increasingly difficult to dislodge the vendor from the customer’s new way of doing business. Customer loyalty becomes a strong factor at this point, and the number of “touches” between the customer and the vendor tend to increase over time.

[To be continued…]

Finding Common Ground Between the CFO and COO – Part 4

[Continued from Part 3]

The Banking Trade

Our next example of how businesses might leverage business intelligence (BI) to segment their markets and thus allow them to increase throughput in significant ways comes from the banking industry. In this case, a bank creates a data bridge between a legacy database and databases maintained by its departments. The new application gives branch managers and other users access to business intelligence to determine who their most profitable customers were and which customers might be above-average targets for cross-selling new products.

Implementing these new tools liberated the IT staff from the task of generating special analytical reports for the departments and gave department personnel relatively autonomous access to a far richer source of customer-related data.

However, the bank need not stop with “cross-selling.” Consider that if the bank has information on “the most profitable customers,” they could dig deeper to determine the geographic and demographic corollaries among their “most profitable customers.” Uncovering and analyzing these corollaries employed in conjunction with a simultaneous thrust to unlock what the bank’s employees know—that is, tribal knowledge—might help the bank develop carefully targeted irrefusable offers. Such offers would undoubtedly allow the bank to

• Sell more existing products and services to new customers
• Create new offers that will attract new customers from the “most profitable” demographic and geographic market segments
• Create new offers that may interest existing customers and make offers that may be even more profitable for the bank

 

Your Business

Regardless of your industry, it is highly likely that a joint effort made by the CFO and the COO to unlock and join two valuable sources of data will lead to many valuable ideas for increasing throughput. Those two sources of data are

• What is available through (formal or informal) business intelligence about your customers
  
  with
• What is available—but probably undocumented and poorly understood—in the minds of your managers and employees in the form of tribal knowledge.

For this reason, I strongly suggest that for most SMEs (small-to-mid-sized business enterprises) the very first place to look at rapid ROI from business intelligence is to be found in market segmentation.

Understanding Your Customers’ World

One of the errors made by CFOs and COOs in most organizations use a definition of “quality” that is totally objective. After all, how else could or should the firm measure it? Most use a definition along the lines of “without defect” or “within tolerances” or “meeting or exceeding specifications.”

Toyota, however—the firm that came from behind to become a dominating automobile and light-truck manufacturer throughout the world—has learned and predicates it operations on an entirely different definition of quality. Toyota’s measure of quality is:

Does the product make the customer’s experience and results better or not?

Toyota’s concept of quality originated from concepts introduced to Japan in the 1950s by W. Edwards Deming. It was Deming who said:

“Constantly improve the design of product and service. This obligation never ceases. The consumer is the most important part of the production line.”

As a result, Toyota’s measure of quality takes into account, not just what the customer buys, but also:

• Who buys the product: Because the who will lead to different expectations and different feelings about the experience and the results expectations.
• When the product is purchased: Because the circumstances leading to the purchase of the vehicle will also contribute significantly to defining the experience and the results expectations of the buyer.
• Why the product is selected: Because the why is another significant contributing factor to the buyer’s experience and to defining the buyer’s expected results.
• Where the product is purchased: Sometimes product purchases are driven by regional factors (e.g., climate, urban versus rural or back-woods). These factors will affect the buyer’s experience and results expectations.
• How the transaction is structured: The economic construct of the transaction may include multiple factors such as the duration of the warranty, the payment terms, the time of delivery or lead-time, and more. These factors also influence the buyer’s experience and the sense of results.

Segmenting the market requires the whole supply chain to understand the customer because, fact of the matter is, No one in the supply chain has made a sale until the end-user has made a purchase. This is why both the CFO and COO should seek first to understand their customers. Next they should seek to segment their market—because different customers buy under differing circumstances and for different reasons.

These actions should lead to a plan for the creation of irrefusable offers which should, in turn, lead to rapid ROI.

[To be continued…]

Finding Common Ground Between the CFO and COO–Part 3

[Continued from Part 2]

The concept of market segmentation—segmented down to a single customer, if necessary—has been driven to a large extent by consumers empowered by the Internet. (Here I use the term “consumer” in the broadest sense. In a supply chain, the “consumer” may be a company or even a buyer within a company in the supply chain.)

Consumers no longer need to be satisfied with what is available to them locally, regionally or even nationally. Instead, a buyer has virtually direct access to a whole world of manufacturers, wholesalers, distributors, brokers and retailers offering a huge array of products, services, delivery methods and terms of service.

Many product offerings are configurable via the seller’s Web site to meet specific requirements or tastes. Too, frequently, the various sellers are willing to offer the products via custom-tailored terms, conditions, and delivery methods. We refer to this combination of product plus related delivery terms and options as the “augmented product” of the “offer.”

Employing Business Intelligence (BI) to Segment Your Market

Business intelligence—regardless of whether it is done with specific BI tools, or just by leveraging the native capabilities of Microsoft® Excel™—can help an business better understand who buys what from the firm, and why. Here are some examples:

Hospitality Industry

A hotel franchise uses BI analytical applications to compile statistics on average occupancy and average room rates to determine revenue generated per room. It also gathers statistics on market share and data from customer surveys from each hotel to determine its competitive position in various markets. Such trends can be analyzed year-by-year, month-by-month or day-by-day, thus giving the corporation a clearer picture of how each individual property is faring.

If these data were extended to include related matters such as

• Business versus pleasure occupancies
• Local event calendars by postal codes
• Other potentially influencing factors

Then the hotel chain could begin to discover who uses their services under what circumstances and, perhaps, why their customers chose their hotels over the chain’s competitors. With this information in hand, the chain would be in an increasingly better position to construct “offers”—preferably irrefusable offers—to their clientele (or prospects) based on dates, reasons for travel, and more.

Take for example a hotel where the occupancy rate is typically below 50 percent on Sundays through Wednesdays. How much time would it take to discover businesses in the region that bring in folks regularly for training, small group conferences or other business purposes during the week.

Having identified these business organizations, making them customized offerings would make sense. For some businesses and business purposes, a discount of 35 percent off the nightly rate might be sufficient to garner the business. For others, a steeper discount might be necessary because the folks to attend their events are typically paying out of their own pockets. So, offer them a flat rate of $69 per night and throw in a free shuttle to and from the airport and to and from the conference sessions.

Since the hotels truly variable cost (TVC) for filling an additional room or ten rooms is very small, almost every additional dollar of revenue gained through such offers will fall directly to the bottom line of the business.

Let us assume that (to make the math easy) a hotel typically rents its rooms for $200 per night (annual average). This hotel’s business intelligence analysis shows that Sundays through Wednesdays during the months of January through April, they are going to have an average of 50 empty (in-service) rooms per night. If this hotel can construct a compelling offer that will fill just half of those rooms (25 rooms) at $70 per night, that would be about 1,733 nights at $70, or $121,310 in additional revenues annually.

If we assume that the truly variable cost (TVC) per additional room per night is $10, then we must subtract $17,330 from this figure to get our throughput of $103,980. That is more than $100,000 in increased annual revenues even though the rooms are being let at far below the “going rate” via the irrefusable offer.

[To be continued…]

Implementing CPM in small business on a limited budget

Eric Lundberg’s presentation at CFO Magazine’s 2011 Corporate Performance Management Conference today was refreshing. Lundberg brought things back down from the stratosphere for the large number of small-to-mid-sized business finance people in attendance.

My sense is that many of the presentations thus far have set forward concepts of such a broad scope and relative complexity that they are far, far beyond the pale of immediate consideration by many of the firms represented at the conference. Many of the attendees with whom I have spoken are mere “beginners” in corporate performance management (CPM).

Now, do not get me wrong: I have done no scientific—or even non-scientific—polling on this subject. I say what I say based solely on conversations I have had with a relatively small handful of conference attendees.

Nevertheless, I believe that many of the folks in attendance came here really trying to find out answers to pretty basic questions about CPM. And, given the fact that Julia Homer presented—that 63 percent of CFOs surveyed are more pessimistic about the coming year than they were about last year—I would further surmise that most of them are looking for ways to implement some kind of business analytics and CPM with the smallest possible drain on their corporate cash-flow.

That is precisely why I found Eric Lundberg’s presentation so very refreshing. Lundberg introduced his remarks by saying that he wanted to present “practical applications of tools” that he and his team put in place at ALM. He went on to tell the crowd that, as CFO in a firm held by private equity, he is not in a position to "go out and spend $100,000" or more on sophisticated analytics tools. Therefore, he and his team have implemented substantial business analytics built mostly around “home-grown” applications—not the kind purchased from analytics application vendors.

Lundberg went on to describe—in considerable detail—a number of the analytics in use at ALM. Using these effective but relatively low-cost tools, Lundberg and his team have gained considerable insight into what makes—and keeps—their company profitable. They have already implemented rolling forecasts and have the facility to re-forecast every month. They also do a complete bottom-up forecast fresh every quarter.

I really believe that Lundberg’s presentation put a light at the end of the tunnel for many CFOs struggling with the question: “How can we begin gaining the advantages of business intelligence and analytics without ‘big bucks’ to invest in making it a reality?”

This is real innovation, and it is clear that the analytics Lundberg and his team have put in place at ALM are already making the firm more successful, even in the midst of the present economic doldrums. Sixty-three percent of CFOs today may be more pessimistic about the coming year than the year just past, but Lundberg has leveraged limited resources in a way that will make his firm far more likely to survive and even thrive.

Congratulations, Eric Lundberg! And thanks for giving more small businesses hope for embracing new management metrics and analytics despite severely constricted funds.