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Measures and Trust in SCM
Eli Schragenheim
[email protected]
The IT Vision for Supply Chains
 In
the future the main competition will be
between supply chains
 Every supply chain has to react very fast to the
changing trends in the taste of consumers
 The stumbling block to fast reaction throughout
the supply chain is lack of information
 Current IT technology is capable of very fast
B2B communication that would provide full
collaboration throughout the supply chain
A Hole in the IT Vision
 Suppose
that company S identifies a rising
demand for product P produced by Vendor V. All
the relevant information is communicated to V
in no time
– Would Vendor V immediately start to produce
according to the forecast by company S?
 Take
into account that V is paid so-and-so days after S
places an order and gets the delivery
 Does V trust S? Who would suffer if the optimistic
forecast does not materialize?
 Is
S truly interested in communicating all
relevant information to V?
An Inherent Problem in SC
 The
idea behind SCM is that by acting as one big
system better results for all the participants can be
– Can it work when some links have not implemented
the systemic rules within their own organizations?
 Every
organization that is part of a supply chain looks
for its own benefit
– Hence, every link must clearly profit from acting
within the supply chain rules
– This kind of business relationship is frequently referred
to as “collaboration”
– Can it work without a win-win culture?
– And we need to establish trust between all the links
Business Rules in SCM
 The
regular business rule: the vendor receives a
concrete order, and is paid some time after
– Being exposed to updated information won’t impact
the vendor’s decisions
– The vendor has no say regarding the size of the order
it is too small – then sales will be lost
 If it is too high, it will take very long time until the next
order is received
 It is not clear the vendor can profit from a faster response
 If
– On one hand the next link might be able to sell more
– On the other hand the next link might order less
Demand for
P10 goes up
How much to order?
Can you deliver 300 P10
in a week?
It'll take
3 weeks
All right, two
weeks, and then
make it 500 units
I need it
The best I
can do is
two weeks
How fast to respond?
Business Rules in SCM
 Vendor
Managed Inventory
– The next link draws from the vendor’s inventory when
the need arises and this triggers payment to the vendor
– All the risk is now placed on the vendor
 Now
the vendor has a lot to gain from a fast response
– Financial benefits to the vendor would occur, if and
only if, sales would go up due to the new rule
 This
is possible if it enables the seller to spot new
opportunities and then rely on a secure and fast response
– In the former scheme the seller would refrain from holding
inventory for such opportunities
 And
less sales are lost due to shortages
The TOC Visionary Business Rules
 The
– Allow the seller to grab any opportunity that is
beneficial to all the links in the chain
– Motivate all the links to respond quickly to any
market trend
– Institute a win-win culture over the entire chain
– Let those who have the best knowledge and intuition
make the decisions
– Each link gets more
The TOC Visionary Business Rules
 The
TOC business rule:
– Each producer in the link manages his finished goods
inventory at the next link
– Payment is made immediately following each daily
sale by the seller
– Every producer gets:
 The
truly variable costs (TVC) invested by the producer
 A percentage of the throughput (T)
– Throughput is the revenues minus the truly variable costs
– It is in everybody’s interest not to cannibalize
any sales and not to ignore any optional sale
Supporting the TOC Scheme
Every link within the chain should manage its
operations based on replenishment to the buffers
– The inventory at the next link is a buffer
– Every producer might maintain its own finished goods buffer
when the same product/part goes to different supply chains
Using buffer management as a sensitive tool to identify
changes in the market demand
 Information on each sale should flow immediately to
every link in the chain
 But, there is a need to validate that every link in the
chain is doing what it should do to allow more business
to come in
How to Maintain Trust between
Different Organizations?
 The
win-win agreement is not enough to ensure
high performance
 We need measurements of the performance of
each link to establish an overall control whereby
the actions truly support the global chain
– The downstream links need to ensure fast response to
any market opportunity
– The upstream links need to validate that sales are
generated from what is already in the system
 Note
that maintaining trust is needed also for the
other business rules
How should a seller measure the
performance of the vendor?
 Criteria
– Every delay in measured, not just being late but also
by how many days
– The financial value of the sale should be measured as
 Throughput-Dollar-Days
– Every day a delay is noted the full T value of the
order is added to a counter of TDD
– When the order is late by 5 days, its full T value is
added to the counter 5 times
How should a seller measure the
performance of the vendor?
 A common
problem at the seller’s site
– Orders that cannot be fulfilled may not have been
registered, even though the specific sale has been
– Hence, the full damage caused by the unavailability
of products cannot be directly measured
How should a seller measure the
performance of the vendor?
 The
TDD measurement in this case could be
directed to the emergency level of the parts
– The emergency level (zone 1 / red-line) is
defined in the buffer management methodology
– It is usually a certain percentage of the
replenishment buffer
– The emergency zone represents a very high
probability of losing sales
– Hence, when the on-hand stock is below the
emergency zone – the TDD counter ticks
Inventory ready for
immediate sale
An example: Product P10
T per unit = $60
Replenishment level = 100 un.
Fast replenishment
Emergency level = 30 un.
On 4/15/2002:
On hand stock = 17 un.
Additional TDD due to P10: (30-17)*60 = 780 dollar-days
On 4/16/2002 the on hand stock went down to 5 units
Additional TDD = (30-5)*60 = 1500 dollar days
Total TDD due to P10 = 1500 + 780 = 2280 dollar-days
The TDD as a measure of the
performance of a vendor to a seller
The vendor is responsible for full availability of his
products at the seller’s site
 The replenishment and emergency zone levels are agreed
between the seller and the vendor
 Whenever the on-hand stock is below the emergency level
the TDD counter ticks
– The full throughput value of the parts that are missing is
added to the periodical TDD measurement
– When no stock is available at the seller, the full T value of the
whole emergency level as added every day
– This measure rises VERY fast when response time drops
– The measure institutes the right priorities given both the
financial aspects and the duration of the delay
The TDD measurement for a
vendor of a producer
 The
differences between measuring the performance
of a vendor to a seller and to a producer
– The producer knows exactly when lack of materials
causes a delay in the internal operations
– The financial damage of missing a part is more
problematic to measure
 The
part might participate in a variety of end-items sold by
the supply chain
 Hence, for every part the vendor is responsible for a
“typical end-product T” should be defined
 We still assumes that delay in the producer’s operation
might cause missing a final sale, even though this is much
less straightforward
The TDD as a measure of the performance
of a vendor to another producer
 The
vendor is responsible for full availability of his
products as raw materials at the producer’s site
 The replenishment and emergency zone levels are
agreed between the producer and the vendor
 Whenever the producer needs to release materials
to the floor and a specific part is missing the TDD
counter ticks
– The exact amount of units missing multiplied by the
typical T for the end-products is added every day to
the periodical TDD
Whenever C needs materials
and they are not found in
Inventory B, the TDD
counter in increased by the T
of the end items
Link C measures B’s
performance according
to the periodic TDD
Link C
Inventory B
Link B
Inventory A
Link A
Measuring the performance of the seller
 Every
link in the chain that is not the seller likes
to judge the performance of the seller
– This is true even for the traditional business rules
– The main focus is how fast products that are stocked
at the seller’s site are being sold
 And
what products are NOT sold!
 Every
producer that is judged according to TDD
has to invest capacity and materials in an effort
to maintain the TDD and gain from the supply
chain sales
– Hence, there is a need to measure the investment
The faster the
seller succeeds
to sell the more
effective is the
Inventory ready for
immediate sale
What products
do not sell well?
The finished
goods inventory
represents an
investment on
the producer's
How much money
is stuck in slow
Inventory-Dollar-Days measuring the flow
 Every
area that contains inventory can be
measured according to:
– The value of the item – only the raw material
purchasing costs are considered
– The number of days each item remains in the area
 Every
item in the measured area carries inventory
dollar days equal to its value in dollars multiplied
by the number of days it remains in the area
 The IDD is a snapshot: how much money is stuck
in the area and for how long
Basic calculation of the IDD for an area
10 items,
each worth
$50 go in
A measured area where
inventory items spend
some time
On the first
day the IDD
for these items
is 500 DD
On day 14
the IDD for
these items is
7000 DD
The 10 items
go out after
14 days
On day 15
the IDD for
these items is
0 DD
Using the IDD measurement
 Each
producer should measure the following
– Raw materials from vendors that are not managing
their materials
– Every finished goods area that is controlled by the
 Under
the TOC supply chain vision the area that
truly measures the performance of all the
downstream link is:
– From the completion area in the shop until the supply
chain sells it
Link C
Inventory B
Link B
Inventory A
Link A
Every day link A
adds to the IDD
measure, the value of
all its inventory in
the supply chain
IDD and Inventory Turns
 Inventory
turns is the current common
measurement of the effectiveness of inventory in
the system
– It measures the average of how much inventory waits
in a certain area
– The dollar value of the inventory is specified
– Being an average, it misses pointing to the
problematical area, and it does not give a clue
regarding the variability
– The combined effect of time (delays) and money is
given only at a very global level
 The
TOC vision for supply chains provides a
new business scheme for real collaboration
between the links
 All the current business rules for supply chains
should maintain trust among all parties
 Trust needs to be supported by a measurement
system that motivates all the parties to do what is
good for the chain as a whole
 The measurements need to contain both time and
 Throughput-dollar-days
(TDD) measures the
performance of the vendors by accumulating the
full dollar value of every late order and the
length of time it was delayed
 Inventory-dollar-days (IDD) measures the flow
through the supply chain by measuring how
much inventory-money is being held at each
area, thus blocking the flow
 IDD should be used, among other uses, to check
how fast products are being sold
 Both
the TDD and IDD measurements have uses
that stretch beyond measuring the performance
of the links in the supply chain
 The TDD is an operational performance
measurement of the damage caused by failing to
meet the market requirements
 The IDD is a measure of effectiveness of the
operational policies to achieve as low TDD as