When Gartner published their Supply Chain Top 25, they pointed out that successful companies were focusing on “a more rigorous and data-driven approach to supply chain and operations strategy,” particularly highlighted in “A New Frontier of Performance.” One effective way to create a new frontier is by using analytics to enhance the supply chain and shift the trade-off curve. Operations impact three performance measures: cost, time, and service levels, all of which often conflict. The figure below, from Operations Rules illustrates the trade-off between efficiency and responsiveness. This curve is known as the efficient frontier, showing a variety of strategies, each with its own cost and response time. The current strategy operates along the high curve, leading to greater responsiveness but also higher costs. However, with supply chain optimization, the entire curve can shift downward, resulting in improved overall performance.
We notice this trend among our clients who are expanding their supply chain operations and finding new opportunities. Many are incorporating sourcing analysis into their processes, and some are even adding it to their product planning. Inventory Optimization is a method to achieve the efficient frontier. By creating a model that allows the company to analyze and optimize inventory across various levels, we can identify the right inventory amounts (cycle stock, safety stock, in-transit stock) at different sites. The main factors influencing inventory are
- Demand: Average and Variability
- Lead Time: Average and Variability
- Fill Rates Objectives
- Order frequency, Order size, Minimum order quantity
- Supplier performance
The idea of building a model that globally optimizes is illustrated in the figure below. The Y axis is inventory cost and the X axis is committed lead-time to customer. The blue line is the traditional trade off between inventory levels and committed lead time. As you increase lead time, you can reduce inventory as you respond faster, you need more inventory. These tactical changes mean moving along the blue tradeoff line with no structural change in strategy. However, when you focus on global optimization, the end-to-end model that represents your entire business and we are able to move from the blue line to the pink one. This implies that for the same lead time you can significantly reduce inventory or for the same inventory level you can reduce response time to the customer. There are many strategies where you can cut inventory and reduce time to market and still improve supply chain performance.
To understand the true inventory drivers, inventory is not the problem it’s a symptom. The ability to change your strategy and move from local optimization to global optimization (from the blue line to the pink one) associated with global optimization allows companies to improve on multiple KPIs. It allows you to reduce inventory significantly and at the same time increase service level and fill rate significantly. To quote Gartner again: “Many companies are working on building out the foundational components of an end-to-end supply chain across disparate businesses, focusing on improving core supply chain functions, and creating more common processes and systems across them. More-advanced companies describe a wide range of initiatives that build on the foundation, including end-to-end supply chain segmentation, simplification, cost-to-serve analytics, multi-tier visibility and supply network optimization.”
Written by Edith Simchi-Levi, VP of Operations at OPS Rules Management Consultants