Managing Variety Is The Next Logistical Challenge

Way back in 1984, even when supply chain management hadnt caught the fancy of managers, Graham Sharman wrote a seminal article in the September-October issue of the Harvard Business Review entitled The Rediscovery of Logistics, which built a compelling picture of what the challenges before logistics were.

Today much of what Sharman wrote about then is now ringing true for organisations struggling to come to grips with the supply chain.

As the head of the Integrated Logistics practice at McKinsey & Co, Sharman was the senior most consultant on show at a recently held CEO seminar organised by McKinsey on Operational Performance Improvement in Mumbai.

 

He spent an hour with The Strategist discussing the pulls and pressures acting on logisticians.

Excerpts from the interview:

Q. Given the scope available in improving logistics performance, are organisations moving in the right direction?

A. Organisations are reacting differently depending on their priorities. Ever since five years ago, and perhaps it was the Gulf War that brought logistics into sharp focus.

People wondered how on earth could several millions tonnes of equipment and gear into a relatively small geographical space from different points of the world. How do you organise that in such a manner so that you

can have such a stunning victory?

The whole area of logistics and supply chain became suddenly current news. I think at that time lot of managers started to pay more attention to it.

The other factor was that customers were becoming more demanding, they wont put up with late or even early deliveries, whereas in the past they used to tolerate. It just seems that with the growth of competition, customers are feeling that they should be better served.

I wrote an article for the management review magazine at MIT about five years ago. I called the article, We love your product, but where is it? It encapsulated what customers were saying. So thats the second reason why managers are paying so much attention because customers are becoming more intolerant.

And then there is all the talk about the Internet, with its ability to place orders more efficiently.

Q. Despite the product life proliferation, isnt there a counter trend where major consumer goods players like P&G have decided to prune their stock-keeping units (SKUs) and keep their product portfolio short and simple.

A. You seen that in a number of industries. For example, I recall Nissan went in for 52 steering wheels to 11. And so that has been a reaction of some companies to the realisation that supply chain costs go up with proliferation, especially the inventory that you have to carry generally goes up, with the number of items in the product offering.

I regard that as a short-term correction to a situation that got out of hand and wasnt manageable. The long-term change is that both consumers and customers want more variation, more attuned to their specific need. Thats leading to, in my view, a long-term increase in the number of items in any given product range.

I think whats happening is that leading companies are saying, Gosh! We can cut this back and save some money. And they are right.

But in the long term, the real challenge is how do you in fact cope with the variety in product line as an acceptable cost. So while you certainly get some short term results by reducing the variety, in the end the long term shift to greater variety as a result of the fact that customers want products that meet their specific needs, raises the next level of challenge for supply chain managers, is how to deal with the greater variety.

Q. Have there been players who have signalled the move to such adaptive systems?

A. There are methods of dealing with greater variety. One method, which is the most prominent of them all, is the move towards postponement. Which means postponement within the supply chain of the point at which the product becomes customer-specific, sometimes called the freeze point in the supply chain.

To postpone, you have to go back to product development. In most cases, you have to redesign the product in such a way that the final customisation can be done at the last possible moment. Then you can get the ability to get a wide variety in the product range, while at the same time, for the majority of the supply chain you have a manageable variety.

We did some work couple of years for a company that made tractors and wheel-loaders, largely earth-moving kind of equipment. We found there that if you redesign the products in such a way such that the features of the product could be bolted on at the end of the line, then you could produce the plain vanilla wheel loader essentially and keep them in stock and when the orders came in, you bolted on the specialities.

The redesign caused a 1 per cent increase in the cost of the manufacture of the product, but a significantly greater reduction in finished goods, which could be held in its plain vanilla form. That was an example of that type of postponement.

You see it in items like personal computers now. Companies like Dell, now make-to-order, which is another way of dealing with variety and Acer are managing quite a wide variety for their customers at containable cost.

Q.What is the ideal logistical organisation?

A. The real issue is whether or not to pick out the various aspects of supply chain activities out of the functions and put them together into a logistics or supply chain organisation.

It is not black or white, as always with organisations. Basically, you can think about three levels of change. From a traditional functional organisation, with the logistics or supply chain

activities fragmented in that organisation.

The first level of change is when you have increased team work, but still have a functional organisation but you make up these teams to deal with specific activities, whether those activities are demand forecasting, factory loading and planning, or materials management. Then for these major activities you form teams with people from three or four parts of the organisation. And thats the first level, if you like, across the supply chain.

The second level is what I would call a partial supply chain organisation. Then what you do is that you take out the core activities of the supply chain. So then you clearly warehousing responsibilities, transportation responsibility along with planning responsibility.

The third stage of integration is full-chain supply chain organisation and the most dramatic and drastic change in the organisation. In that case, you would have the two core activities I just mentioned in addition you would have an information systems individual working there for the manager of the supply chain. You might call him the chief logistics officer.

Under those circumstances, he should be a part of the senior management team of the organisation. He would probably have an information systems(IS) guy, who would help him define the needs of the IS systems, but wouldnt do the implementation of the system. He would have a representative of the IS department under his control to help and give advice. And then you would also put sales forecasting into that group. You might have some degree of factory planning to really take care of all of the levers needed to manage that supply chain, which would come under a chief logistics officer.

You see that sort of thing happening for example, in Sears organisation in America, where General Pagonis has been made the chief logistics officer and

sits in the management group and has a significant number of those activities under him.

Q. Are supplier partnerships necessarily the best answer for effective supply chain management?

A. There is a lot of talk about supplier partnerships and there are enormous success stories. That doesnt mean that one partners with all of ones suppliers. I think there are very specific situations where partnerships are vital and very important.

There are other situations where is it is much less important, possibly where a traditional arms length type of relationships makes more sense. I think for example, in the former situation, the need for partnership is where the component or sub-assembly that is coming into a plant is complex and where there is a clear relationship between engineering specifications with the specifications of the individual product, where the supplier can contribute to the excellence of the overall design of the product.

In those circumstances, it is obviously a very good idea to have a close partnership, reduce the number of suppliers to only one. Most generally, companies like to have a couple, so that it gives them a little bit of flexibility.

But there are other situations where the goods are more of a commodity type (and one thinks of fasteners and nuts and bolts), where these items are widely available, must be available from wholesalers and middlemen, and to be able to be delivered very rapidly. There are important, you cannot afford to have a stock-out or else you would manufacture product. But if they are widely available, in most cases, the best approach is an arms length approach. You then say these products are widely available and you can buy them at the lowest available price, and whoever will supply them within reasonable quality levels at that price, we will buy.

Then there is an intermediate situation, which is known as the preferred supplier relationship, which again says that under normal situations we get our products from perhaps (the usual number is about three) suppliers, and typically there will be a senior supplier or a preferred supplier, maybe taking 50 to 60 per cent of our business, a back-up supplier who gets maybe 30 per cent of our business, and then there is a supplier who gets 10 per cent of our business. The relationship with the 50 or 60 per cent supplier is referred to as the preferred supplier relationship, you usually share some information with them, and you have a closer relationship with them.

So you get three levels, with partnerships as the most intimate of those relationships, where you have a supply chain relationship but a design relationship as well.

Q. Do companies need to reconsider the ambit of purchasing in their organisations?

A. That goes back to the point about partnership and preferred supplier relationships. Most purchasing organisations are set up with the idea of arms length relationships of trying to keep your whole relationship clean and simple and objective -- we buy at the best possible price.

The fact is that the total cost of buying an item is many cases is far different from the price that is paid on the actual price that is paid on the day that is purchased. That takes into account all the other aspects of the item that is bought.

One of the things that we believe is that when a partnership or preferred supplier relationship is appropriate, then one has to think very carefully about how to buy the product. And you have to think about total cost, in terms of how well your product performs in your factory, for example, does it increase factory cost?

But in order to do that you need to broaden the scope of what the purchasing department normally looks after. And thats again done with the team approach. Here you are not looking at the terms and conditions of the product, and whether the delivery is okay, and that sort of thing. But you are re-examining the basis of what you are buying. So if you have a particular specification for a

component, you dont say that, How do we buy this specification at the lowest price. The team

asks the question, Why is the product specified in this way?

You go back to a wider scope, you go back to the roots. And you say that if the specifications were changed slightly, would it be the same specifications as in the item we are buying much greater quality now, and therefore we could reduce the cost. And then you ask the team what would the trade-off be in the factory. Thats what I mean by changing the scope of the purchasing.

There are a lot of other things go along to change the scope of purchasing, least of which is that the skills of the purchasing department often have to be upgraded.

There is a very good quote from Jack Welsh, which says, We promote the best people into purchasing and the best people out of purchasing. That means purchasing is a very good grooming ground, for young managers, where they can learn and have a big impact.

Q. Will the trend of outsourcing the logistics activity gather momentum?

A. Yes. I think it will continue. It is growing very rapidly in Europe.

It depends on a couple of factors. One is that the companies doing the outsourcing are prepared to say that either this is a service that is not strategic for me or that I have such a good relationship with my service provider and they have such a quality that I trust them to handle, for example, deliveries to my customers in the way that I want them to. So that is one driver that you basically have service providers of sufficient quality, who are able to take over this and reduce cost as well.

The second driver is that the company that is outsourcing feels that the real core of their activity is that marketing their product, manufacturing their product or most of all, designing their product is what the real core of what they are doing. And that service providers can handle the logistics and have certain advantages of handling the logistics, which is greater than if that do that in-house.

The record in terms of reducing costs has been pretty good, at least in my experience in Europe.

On an average, 20 per cent can be taken out of the traditional costs of warehousing and transportation through this kind of outsourcing. But it does depend on the attitude of the company doing this kind of outsourcing and on the availability of high-quality service providers.

Q. It is often said that logisticians are an embittered race, desired in times of war and ignored in times of peace. As a logistician, how do you react to that?

A. The whole study of logistics came out of the military. And Ive read many books about military operations, and Im always astounded when you read

books about campaigns and retired generals.

You can look at the index at the end of the book, you will not find the word supply and logistics. I challenge you to look at generals memoirs and at the index at the back of the book, to find the word logistics. It is just not a very fashionable area but the interesting thing about it is that the truly great generals thought about it.

Im reading Christopher Hibets biography of Wellington. And Wellington was a man of many virtues and some failings as well. One of the virtues in my mind was that he was very much into detail, how his troops were supplied and whether they were fed properly and housed

properly. I think it is a mark of a true general.

Another example is Norman Schwarzkopf, who took Gus Pagonis, who was two or three levels below him, essentially on a direct relationship and talked to him once a week , which was often as he talked to his direct reports. And he realised that effectively logistics won the Battle of the Gulf.

So yes, in the military, the people tend to be embittered because they are under appreciated by many and this was inherited by business.

I told you earlier that the logistics is fragmented and lots of functions are not recognised. But I think that is changing and Im optimistic about the future.