Supply Chain Management

Chapter Outline
Introduction
Trade related barriers
Outsourcing
Contract manufacturing issues
Technology transfer issues
Purchase & Procurement
Inventory control

1.1. Introduction
Supply Chain/Logistic Network
Correlation between suppliers, manufacturers, warehouses, distribution
centers and retail outlets facilities and the raw materials, Work-In-Process
(WIP) inventory, finished products that flow between the facilities.
What Is Supply Chain Management (SCM)?
A set of approaches used to efficiently integrate
Suppliers
Manufacturers
Warehouses
Distribution centers
So that the product is produced and distributed
In the right quantities
To the right locations
And at the right time
System-wide costs are minimized and
Service level requirements are satisfied
Why Supply chain Management is a Mammoth Task?
Uncertainty is inherent to every supply chain as it involves
Travel times and related incidents during transportation
Varieties of raw materials and allied sources
Availability, prices and minimum order quantity of raw materials
Strength of local currency against foreign currency
Production line & quality control issues
Changing demands of finished goods
Weather, natural catastrophe, war, Local politics, labor
conditions, border issues, Trade barriers, regulatory affairs &
Govt. policy

The Importance of Supply Chain Management

Inventory levels fluctuate considerably across the supply chain even when
customer demand doesnt vary!!!! Forecasting doesnt help!
(Evidences)
Dealing with uncertain environments matching supply and demand
Boeing announced a $2.6 billion write-off in 1997 due to raw
materials shortages, internal and supplier parts shortages and
productivity inefficiencies
AIRBUS Tangled Wire (Times Magazine 22 Mar 2007) due to
lengthy outsourcing
U.S Surgical Corporation announced a $22 million loss in 1993
due to larger than anticipated inventories on the shelves of
hospitals
IBM sold out its supply of its new Aptiva PC in 1994 costing it
millions in potential revenue
Hewlett-Packard and Dell found it difficult to obtain important
components for its PCs from Taiwanese suppliers in 1999 due to
a massive earthquake
U.S. firms spent $898 billion (10% of GDP) on supply-chain
related activities in 1998
How to face the complexity?
The complexity of the problem to globally optimize a supply chain is
significant
Minimize internal costs
Minimize uncertainty
Deal with remaining uncertainty
Todays marketplace requires shared visibility for trading partners having
Personalized content and services for their customers
Collaborative planning with design partners, distributors, and suppliers
Real-time commitments for design, production, inventory, and
transportation capacity
Flexible logistics options to ensure timely fulfillment
Order tracking & reporting across multiple vendors and carriers
1.2. Trade related barriers
Tariff barriers affect price, non-tariff barriers affect both price and availability
of imported raw materials.
A. Tarif
Export/Import tariff (Collected by both exporting and importing country),
Transit tariff (Collected by countries through goods have passed)
B. Non-Tarif barriers
Direct price influenced by subsidies, custom valuation etc.

Import quantity influenced by quotas, Buy Local legislations, specified

standards etc
Others mostly cause uncertainty of shipment eg. Administrative delays,
special permission

1.3. Outsourcing
The strategic use of outside resources to perform activities traditionally
handled by internal staff and resources Dave Griffiths
Reasons for Outsourcing
Traditional role - reaction to problem
Reduction and control of costs
Avoid large capital investment costs
Insufficient resources available
Modern role business strategy
Allows company to focus on their core competencies
Keeping up with cutting-edge technology
Creating value for the organization and its customers
Building partnerships among stakeholders
Problems of outsourcing
Nike, Cisco, Apple outsource most of their manufacturing
Each could focus on research, marketing
Each has gotten into trouble
2001 Nike reported unexpected profit shortfalls due to inventory
problems
2000 Cisco had to write down billions in obsolete inventory
1999 Apple was unable to meet customer demand for new
products
Some real life problems include:
Longer for vendor to setup than expected
Outsourcing vendor unable to hire and train staff fast enough
Outsourcing vendor can't handle volume of activities
Unable to obtain and maintain telecommunications/networking
equipment
Different work ethics between organization and outsourcing vendor
Outsourcing vendor unable to perform on a timely basis
Outsourcing vendor unable to produce contractual results
Failure to consider time necessary to major outsourcing vendor
Legal Issues of Outsourcing
Outsourcing through Ownership Model
Owning the Intellectual Property
Enforcing the Contract
Protecting Trade Secrets and IP

 Liability
Tax Considerations
Employment Issues
1.4. Technology Transfer
The fundamental goal of technology transfer is to implement a process in a
different place, whether from preclinical to cGMP manufacturing, between
two sites, or from one company to another. The reasons to transfer a process
include considerations of capacity, scale, facility availability and compliance,
and production economics. Technology transfer is always challenging, even
in organizations with years of experience in cGMP manufacturing, and if care
is not taken to ensure meticulous planning and execution, it can be wrought
with unpleasant and costly surprises. Five general stages involved during
technology transfer:
Feasibility
Research
Development
Verification
Validation
Contract Manufacturing
It is a manufacturing contract with a firm for components or products. It is a
form of outsourcing. In a contract manufacturing business model, the hiring
firm approaches the contract manufacturer with a design or formula. The
contract manufacturer will quote the parts based on processes, labor,
tooling, and material costs. Many industries utilize this process, especially
the aerospace, defense, computer, semiconductor, energy, medical, food
manufacturing, personal care, and automotive fields. The pharmaceutical
industry utilizes this process with CMs called Contract manufacturing
organizations.
Benefits of Contract manufacturing

Cost Savings Companies save on their cost of capital because they do

not have to pay for a facility and the equipment needed for production.
They can also save on labor costs such as wages, training and benefits.
Some companies may look to contract manufacture in low-cost countries,
such as China, to benefit from the low cost of labor.

Mutual Benefit to Contract Site A contract between the manufacturer

and the company its producing for may last several years. The
manufacturer will know that it will have a steady flow of business until
then.

Advanced Skills Companies can take advantage of skills that they may
not possess, but the contract manufacturer does. The contract
manufacturer is likely to have relationships formed with raw material
suppliers or methods of efficiency within their production.

Quality Contract Manufacturers are likely to have their own methods of

quality control in place that helps them to detect counterfeit or damaged
materials early on.

Focus Companies can focus on their core competencies better if they can
hand off base production to an outside company.

Economies of Scale Contract Manufacturers have multiple customers

that they produce for. The more units there are in one shipment, the less
expensive the price per unit will be.

Risks involved in contract manufacturing

Lack of control

Usual outsourcing risks

Relationship

Capacity constraints

Quality concerns

Loss of Flexibility and

Responsiveness

Intellectual property loss

1.5. Purchase & Procurement
Procurement is concerned with the overall gathering of resources, while
purchasing is the specific act of acquiring something by paying money for it.
Purchasing is one form of procurement. Simple procurement may involve
nothing more than repeat purchasing. Procurement could involve finding long
term partners and suppliers that might fundamentally commit one
organization to another.
General rule of purchasing
Problem recognition
General need description
Product specification
Supplier search
Proposal differentiation
Supplier selection
Order specification
Overall review

Objective
Buying right item
Obtaining desired quality
Paying the right price (cost
control)
Getting inventory at right time
Locate,
develop,
evaluate
interested group (eg. Suppliers)
Seeking new, cheaper and

better sources
Selecting supply source: Top priority to purchase
It could be a direct purchase from manufacture or indirect purchase from
wholesaler/ vendor purchase depend on product type.
A. Factors to be considered
Product and process technology
Willingness of the manufacture to share technology
Product quality, reliability and capacity of the manufacturer
Location of manufacturing or the wholesale market i.e. proximity of
sources
After sale service (as in case of machinery and software installation)
Ability of negotiation (win/win, win/loss, loss/win), access to the source
Order system and delivery schedule
B. Reasons behind choosing supplier
Single supplier
Multiple supplier
To establish better repo
Quantity of need
Less
variable
quality/Less
Spreading risk
Create a competition among
quantity
Reasonable costing if supplier
vendors
A room for negotiation
is another concern of same
Information
group of companies
Transportation economics
Patented product process
C. Comparison of purchase source
Subject
Purchase from
Manufacturer
Inventory size
Favorable for large quantity
purchase
Availability of
Mostly available
goods
Product
Detail and less biased
information
Available credit Solely depend on relationship
limit
Product cost
Obviously lower
Delivery
Turnover rate

Slower, less frequent

Minimum order quantity

Purchasing from
wholesaler
Feasible for relatively
smaller volume purchase
More often need to wait
Biasness and rumor

Negotiable but mostly

higher
Faster delivery if available
Minimum order quantity

strictly maintained

may be smaller

D. After sale services

i.
Delivery: Whether payment is FOB or not, delivery should be ensured
by the supplier and product should be taken into inventory after detail
check, whether right quality or quantity is given.
ii.
Assembling: Technical points of machineries are best known by the
suppliers and its better to take opportunity of installation by the
technical team of supplier. Condition of buying should be such that
seller should arrange technical services whenever a repair/renovation
is necessary.
iii.
Special services: In case of pharmaceutical products its more often
related to product itself. Eg. Rx drug info services, Store design layout
and modernization, Location and traffic flow analysis.
E. Terms of purchase (Major factor of cost calculations are discounts and
date of payment)
Discount
s

Date of
payment

Credit
policy
Return
on good
policy

Trade discount: Mostly given by wholesaler to the retailers.

Direct purchase from manufacturer ensures a cost curtail mostly
charged by these two.
Quantity discount: Discount on quantity purchase, mostly
enjoyed by the wholesaler/retailer, rarely by the end user.
Usually given for fast moving products but sometime policy
designed to refresh inventory.
Cash discount: Mostly given by the manufacturer to both
wholesaler and retailer, if payment is accomplished within a
mentioned time period.
Serial discounts: Mostly designed for repeat purchase.
Date of payment is always a big consideration, mostly
considered cost of capital and opportunity cost by both buyer
and supplier. The increased cost indirectly affects the profit
margin.
Also indirectly affects profit margin, the value of credit to
retailers simply means an opportunity is given for working
capital expansion.
Money refund to the wholesaler or retailer if product is not sold
within a mentioned period of time. Both manufacturer company
and wholesaler actively participate in a predesigned
promotional campaign, failure to sale within this period leads to
return back and sales policy change.

1.6. Inventory control

Inventory control is creating balance between material demand for

production input, cost of capital and material storage cost. It sometimes
becomes the most critical issue in retailing, merchandising and even in
production management.
Inventory cost = Cost of material ordered + Holding cost (Insurance, storage
conditions, place rent) + Cost of capital + Opportunity cost
Important definitions
Optimum Inventory: Having the necessary products available in the right quantity at the
right time, while minimizing the cost of ordering and carrying the goods.
Overage Inventory: Inventory that exceeds optimum level, which involves in cost,
chances of spoilage, lost and pilferage.
Ship-In-Process (SIP): Amount of finished goods in the way of customer.
Protective Stock: Larger inventory for some big shipment or upcoming opportunity
keeping previous experience in mind. Eg. Omeprazol for Ramadan, Paracetamol for AprilMay dry season, Antibiotic and cough syrup storage for cold season, taking advantage of a
promotional offer or rumor.
End of Life (EOL) Inventory: The storage goods need to be terminated eg. Expired or
spoiled on long storages.

Types of inventory
a.
b.
c.
d.

Raw material for end product

Work in progress i.e. at different stages of partially finished products
Finished goods to be stored according to market demand
In-transit (Pipeline) inventories i.e. products are in transportation or in
hands of distributors to be reached for retailers, wholesalers or end
users

Methods of Inventory Control

a. Intuitive Method: Aided by traditional want-book, where items are
recorded. When the numbers of units are reached below 5%, re-order
should be placed. Most common method but least effective for growing
business.
b. Systematic want-book Method: In this method each page is
devoted to specific product and sale product in month and purchase of
items is recorded. Some minimum and maximum quantity is specified.
Also selling price, cost and product code is also included. Reviewing

the data in the want-book periodically ensures refinement of the MinMax quantity to be reordered.
c. Perpetual Inventory Method: The perpetual inventory system
provides a continuous record of Inventory and Cost of Goods Sold
(COG). Features are
Purchases of merchandise are debited to Inventory.
Freight-in, purchase returns and allowances, and purchase discounts
are recorded in Inventory.
Cost of goods sold is debited and Inventory is credited for each sale.
Physical count done to verify Inventory balance.
d. Open-to-buy budget system: OTB is essentially the difference
between how much inventory is needed and how much is actually
available. This includes inventory on hand, in transit and any
outstanding orders.
Planned Sales + Planned Markdowns + Planned End of Month
Inventory - Planned Beginning of Month Inventory = Open-To-Buy
(retail)
There are four basic steps to creating a simple, effective open to buy
system. Step 1. Plan your annual sales and markdowns
Step 2. Plan your average stock, turn, and Beginning of Month stocks
Step 3. Calculate an OTB plan for every month
Step 4. Adjust monthly using OTB projections
For example, if your sales slow down your stock levels are likely to
increase. In order to stay on plan, youll have to buy less the next
month, or take additional markdowns, or cancel orders, or a
combination of these. If sales are increasing, youll need to buy more in
order to stay on stock plan.
e. Stock record card system: Ideally a stock record card should have at
least 12 columns to record data for each month. The headings normally
shows manufacturers name and address, the discount and other sales
terms, such as date of the company closes book. Then comes the
name, size, cost per unit and the maximum and minimum quantity of
product to be stocked are recorded as indicated by the column
headings.
Economic Order Quantity (EOQ) Model
Economic order quantity is the level of inventory that minimizes total
inventory holding costs and ordering costs. It is one of the oldest classical
production scheduling models.

EOQ

2 D S
H

ABC (Always
This is based on
exercise selective
with large number
number of orders,
the inventory. It
About 10 % of
resources
About 20 % of
resources
About 70 % of
resources

D = Annual
demand
(units)
Better Control) Analysis
S = Cost
cost criteria. It helps to
control when confronted
items it rationalizes the
per order ($) ofnumber
of items & reduce
assumes
C = Cost
materials consume 70 % of
per unit ($) materials consume 20 % of
I = Holding materials consume 10 % of
cost (%)
H = Holding
cost ($) = I x
C