••

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• 1
••
•• Fundamentalsof
•• Supply Chain Management
•• Module 1 - Book 1 of 2
•• 2012 APICS CSCP Exam Content Manual (ECM)

•• Course Overview
Section A: Supply Chain Management Concepts

•• Section B: Supply Chain Alignment with Business Strategy

Section C: Supply Chain Design and Improvement Considerations

•• Section D: Inventory Management

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 ••
Preparing for the Certification Exam
Studying the APICS CSCP Learning System combined with on-thc-joh knowledge. professional experience,
••
and other APICS learning tools. such as the .·lJ>ICS Dictionarv. is the most effective way to prepare for the
APICS CSCP certification examination. The APJCS CSCP Leaming System is intended to cover the body of
knowledge tested by the APICS CSCP certification examination; however, the APICS CSCP Learning
••
System docs not "teach the test." The I.earning System focuses on acquiring knowledge, whereas the exam
tests the candidate ·s abi Ii ty to apply that know ledge in accordance with accepted industry standards. ••
Content on the exam is based on real-world scenarios and requires candidates to apply the concepts in the
APICS CSCP Learning System, While both the APICS CSCP Learning System and the APICS CSCP ••
certification examination arc based on the APICS CSCP Exam Content Manual (which is availablefor
fin! download al 111t'iJ'.L~ai]J_(SCl>.s!J11J_>
developed independently
J<e,1011rce Center > Certification Exam Resources], they arc
of one another. To preserve exam integrity. specific exam questions and their
••
breadth arc not shared with the APICS CSCP Learning System developers.
••
Intellectual Property and Copyright Nutice
All printed materials in the APICS CSCP Learning System and all material and information in the ••
••
companion online component arc owned by APJCS and protected by United States copyright law as well as
international treaties and protocols. including the Berne Convention. The APICS CSCP Learning System
and the companion Access Code for the CSCP onlinc component arc for your personal educational use only
and may not he copied. reproduced. reprinted. modified. displayed. published, transmitted (electronically
otherwise). transferred. sold. distributed, leased, licensed, adapted, uploaded. downloaded, or reformatted.
or

••
In addition to being illegal. distributing CSCP materials in violation of copyright laws will limit the
program· s uselu l ness. AP lCS invests s ignilicant resources to create quality professional development
opportunities for its membership. Please do not violate APICS' intellectual property rights or copyright
••
laws.
••
APIC\' Dictionary, 13111 Edition Reference
Definitions contained within the AP JCS CSCP Learning System arc consistent with the AP/CS Dictionary. ••
13th edition. You may purchase the complete dictionary from the J\PICS bookstore.

••
/'1odule /~Book I Checklist: ••
Fundamentals of Supply Chain Management
••
••
Section Start Date Completion Date Section Quiz Score*

••
--- --~-·· ·-- ~-~-~~---+.-----------------+--------~

1-B: Supply chain alignment \\ ith husincs~

strah:gy
1-( ': Supply
ct
chain dc:-.ign and irnprnx cment
rns id era ti on-,
••
••
1-D: luvcmory rna11agc1rn:11l
L.

••
•
••
••
•• Course Overview and
Module 1: Fundamentals of
•• SupplyChain Management
•• Book 1
•• Module 1, Book 1 Contents

•• 2012 APICS CSCP EXAM CONTENT MANUAL (ECM) ECM-1

•• COURSE OVERVIEW i

•• MODULE 1: FUNDAMENTALS OF SUPPLY CHAIN MANAGEMENT

•• Introduction

Section A: SupplyChain Management Concepts

1-l

1-3

•• It's a World of Global, Complex, Interdependent Supply Chains

Basic Supply Chain
1-3
1-5

••
The SCOR® Model: Linking Processes, Metrics, Best Practices, and Technologies 1-13
Vertical versus Horizontal Integration 1-15
Supply Chain Management Objectives 1-24

•• Supply Chain Management Benefits

Accounting and Financial Statement Basics
1-46
1-52

•• Section B: SupplyChain Alignmentwith BusinessStrategy

Business Strategy and Competitive Advantages
1-68
1- 70

•• Organizational and Supply Chain Strategy, Prioritization,

Resolving Misalignment or Gaps
Capabilities, and Alignment.. I- 74
1-106

•• Section C: SupplyChain Design and Improvement Considerations

Understanding the Marketplace
1-115
1-115

•• Supply Chain Design Considerations

Continuous Improvement
1-118
1-124

•• Section D: Inventory Management

The Need for Inventory
1-148
1-148

•• Aggregate and Item Inventory Management

Flow of Material
1-151
1-153

••
Functions of Inventory 1-155
Inventory-Related Cost Categories 1-157
Effects of Inventory on the Financial Statements 1-159

•• :D 2012 APICS Version 3.0, 2012 Edition

• All rights reserved @ Primed <'II 1011',, p<>sl~c,;i1>tJ111er wuxt c rccyclcd paper
 ••
Module 1, Book 2 Contents
•
••
Section E: Logistics Fundamentals
Role of I .ogistics in Supply Chain Munagcment..
1-171
1-171
••
Lugistics
Reverse
Service Providers
Logistics
3Pf.s and 4PLs
. .
1-181
1-1 SS
••
Section F: Market Segmentation 1-J l)7 ••
Reasons to ldcntif)' and U ndcrstand
\Vays lo
Understanding
Scgrncn1 Markets
tile \V~rnls and Needs of Each Segment
Mark ct Segments 1-197
1-200
1-203
••
Section G: Demand Planning 1-209
••
Forecast i ng l k1rnmd
Dcmaud Munagcmcnt
. .
. .
1-2]()
1-2.:;<) ••
I ink<igl'" '\1nung the·
Dc1rnnd \lanagcrncnt
Ekmt·nt"·························
Functional Rcsponsihiliiics
.. ··········
and Inter laces
1-257
1-262 ••
Section H: Customer Relationship Management (CRM) Concepts
'\cl·d for CR\1
1-274
J-274
••
Sc(lpc ofCR\1
l·~lcmcnh of CR vl
1-2/(J
1-2 77 ••
fknclits of CR\l
lmplcrncntinp CR\1 .
.
.
..............................................
.
l -2X l
1-282 ••
l\ccd fur and Uses of Customer lnlornuuion

Section I: Supply Management Concepts

in CR\L . ........................... 1-285

l-1:.>9
••
Total (\isl ui" Ownership
Outsourcing and Offshnring
1-2()1)
l-2()4
••
.vlakc-vcrsus-Buy
Range (If.
Analy~i:-.
Buyer-Supplier RcLnionships
.
. .
. .. .. .. .. l -2l/<)
1-303 ••
lk\L'lllping
Sur1pl
Supply Plan\
icr l~cl:tt ion-hip \L1n:1gcn1L'11( (SI~ \l)
.
.
...................
....................................
l -11
1-.~()l)
)!)

••
••
Interrelationship h.:l11 c..:n Cl\\! and SR:\l .

Bibliogr
aphy . .. 1-323

Cumulative Course Index............ . 1-338 ••

••
••
C 2012 APICS
All rights reserved @ p,-;ntcd
Version 3.0, 2012 Edition
"" 100% post-consumer waste occyckd paper ••
••
••
•• APICS Certified Supply Chain Professional™
(CSCP) Learning System
•• This product is based on the APICS CSCP Exam Content Manual (ECM) developed by APlCS. Although

•• the text is based on the body of knowledge tested by the APICS CSCP exam, program developers do not
have access to the exam questions. Therefore, reading the text does not guarantee a passing score .

•• The references in this manual have been selected solely on the basis of their educational value to the
APICS CSCP certification program and on the content of the material. APICS does not endorse any

•• services or other materials that may be offered or recommended by the authors or publishers of books and
publications listed in this module .

•• Every effort has been made to ensure that all information is current and correct. However, laws and
regulations are constantly changing. Therefore, this product is distributed with the understanding that the

•• publisher and authors are not offering legal or professional services .

•• Acknowledgments
We would like to thank the following dedicated subject matter experts who shared their time, experience,

•• and insights during the initial development and subsequent updates of the CSCP Leaming System:

Greg P. Allgair Julie Jenson, CPIM, CSCP Maryanne Ross, CFPIM, CIRM,

•• Curtis Brewer, CFPIM, CIRM, CSCP

Jashobrata Bose, CSCP
Honey Johnson, CFPIM, CIRM,
C.P.M., CSCP
Rajcsh Kamat, CSCP
CSCP
Kimber Rucff, CPIM, CIRM,
CSCP, C.P.M.

•• Al Sukey, CFPIM, CIRM, CSCP

Luc Chalmet, Ph.D, CFPIM, CSCP
Prashant Choudhary, CSCP
Prakash Kanagalekar, CPlM, CSCP
Jack Kerr, CPIM, CSCP, C.P.M.
Ignacio Sanchez-Chiappc
Carolyn Sly, CPlM, CSCP, C.P.M.

•• David N. Dadich, CSCP, LSS

Blackbelt
Jose Lara
Mike Loughman, CSCP
Pam Somers, CPIM, CIRM, CSCP
Chad Stricklin
Shashank Tilak, CPIM, CSCP

••
Prasanta K. Dash, CSCP, PMP
Sudripto De, CSCP
Arnaud Deshais, CPIM, CIRM,
Giuseppe Lovecchio, CFPIM, CSCP
Richard Merritt, CFPIM, CSCP, Huan-Jau (Arthur) Tseng, CFPIM,
C.P.M. CSCP

•• CSCP, CPM, CPSM

Alan Downs, CPIM, CSCP
Thiagu Mathan, CSCP
Steven J. Miller, CSCP
Alan L. Milliken, CFPIM, CIRM,
Dave Turbide, CFPTM, CIRM
Sudcep Valmiki,
Rosemary Van Trceck, CPIM,
CSCP

••
Ralph G. Fariello, CFPIM, CIRM,
CSCP CSCP CIRM, CSCP
Laura E. Gram, CSCP Peter W. Murray, C!RM Wout Vcrwocrd, CFPIM, CIRM,
CSCP

•• Janice M. Gullo, CFPIM, CSCP

Amit Kumar Gupta, BE, CSCP
Joni Holeman, CFPIM, CIRM, CSCP
Mike Okrent, Ph.D., CIRM, CSCP
Kasthuri Rcngan Ponnambalam,
CSCP
Robert Vokurka, Ph.D., CFPIM,
CIRM, CSCP, C.P.M .

•• Eric P. Jack, Ph.D., CFPIM, CSCP

Rajcsh Kumar Jagadccswaran, CPJM,
Gautam Chand Pradhan, CPIM,
CSCP
David Rivers, CFPIM, ClRM, CSCP
Eddie J. Whitfield,
CSCP
Vivek Wikhe, CSCP
CPIM, CIRM,

•• CSCP
Dave Jankowski, CFPfM, CSCP
Blair Williams, Jonah, CFPIM,
CSCP

•• 0 2012 APICS
@
V crsion 3.0, 2012 Edition

• All rights reserved Printed on 100"" po<! consumer waste recycled po pa

 ••
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••
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•
••
•• The Association for
•• Operations Manaqement'E:

••
••
•• APICS CSCP
•• Exam Content Manual
•• This manual is in effect from
•• January1, 2012, throughDecember 2012 .

•• Visit apics.org/CSCP for APICS CSCP Exam Content Manual Errata .

•• The references in this manual have been selected solely on the basis of their educational value to the APICS

•• CSCP certification program and on the content of the material. APICS does not endorse any services or other
materials that may be offered or recommended by the authors or publishers of books and publications listed in
this manual.

•• © 2012 APICS The Association for Operations Management

••
8430 West Bryn Mawr Avenue
Suite 1000
Chicago, IL 60631-3439 USA

•• (773) 867-1777
(800) 444-2742
Fax: (773) 639-3001

•• No portion of this document may be reproduced under any circumstances. CSCP is a registered trademark of
APICS .

•• Stock #09031-2012

••
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••
•• Table of Contents
•• Letter to Candidates ECM-1

•• • Introduction

About the APICS CSCP Examination

ECM-2

ECM-2

•• Question Format
Taking the Test
ECM-2
ECM-3

••• Interpreting Test Scores

Suggested Study Materials

Additional Resources for APICS CSCP Candidates

ECM-3
ECM-3

ECM-4

•
••
APICS CSCP learning System
APICS CSCP Instructor-Led Review Courses
APICS Educational Programs
ECM-4
ECM-5
ECM-5

•• APICS Certified in Production and Inventory Management (CPIM} Basics of Supply Chain Management
(BSCM) Review Course and Examination ECM-5

••
APICS CSCP Certification Maintenance Continuing Professional Development ECM-5

The Importance of Certification Maintenance ECM-5

•• APICS Code of Ethics

APICS Certified Supply Chain Professional (CSCP)

ECM-6

ECM-7

•• • Scope of the Subject Matter

APICS CSCP Content
Content Outline
ECM- 7
ECM- 7
ECM-8

•• Key Terminology
Supplemental Glossary
Bibliography
ECM-14
ECM-17
ECM-18

••• Sample Questions

Answers to Sample Questions
ECM-18
ECM-20

••
••
••
••
••
•• CSCP Exam Content fJlanuzil
••
•• Letter to Candidates
The subject matter is organized into three content
areas.

•• Dear Candidate:

On behalf of all the members of APICS The

Fundamentals of SupplyChain Management
(SCM)

•• Association for Operations Management and the

Certified Supply Chain Professional (CSCP)
Examination Committee, I want to congratulate
This section provides the foundation for the exam
by addressing the concepts and strategies used
for effective supply chain management. It includes

•• you for your interest in the APICS CSCP

certification program. APICS is the global leader
and premier source of the body of knowledge in
an overview of supply chain management,
managing the supply chain, and improving the
supply chain.

•• operations management, including production,

inventory, supply chain, purchasing, and logistics .
Since 1957, individuals and companies have
Strategy, Design, and Compliance
This section addresses considerations in the

•
••
relied on APICS for its superior training,
internationally recognized certifications,
comprehensive resources, and worldwide network
of accomplished industry professionals.
design of a supply chain, the processes that
support the organization's strategy, improvement
of the sustainability of the organization and its
trading partners, and compliance with applicable
regulations and voluntary standards .

•
••
The APICS CSCP program is primarily intended
for professionals in supply chain management and
operations management and is designed to test
Implementationand Operations
This section covers managing and balancing
the candidate's knowledge and application of the supply and demand through measuring,

•• supply chain management body of knowledge .

The successful candidate will be able to recognize

and analyze specific supply chain situations and
analyzing, and improving supply chain processes.

This AP/CS CSCP Exam Content Manual is

intended to provide you with an overview of the

•• opportunities and select the appropriate

approaches, tools, techniques, and technologies .
The candidate will be able to define the actions
program, an outline of its body of knowledge, key
terminology, and references. The outline is
divided into three diagnostic areas, and the

•• necessary to implement selected solutions. This

includes an understanding of, and the ability to,
manage the
relative emphasis of each of the areas is indicated
by a percentage figure. A sample of 1 O illustrative
questions is also provided. The AP/CS CSCP

•• • alignment of supply chain processes and

capabilities with strategic business goals
Exam Content Manual should not be the only
reference you use to prepare for the CSCP exam;
however, it should be the first. We wish you

•• •

•
organizational roles and infrastructures in the
supply chain
material, information, and financial flows
success in your pursuit of the CSCP designation.

•• •
•
intra- and interorganizational relationships
selection and use of technologies to enable

••
effective process management.

The APJCS CSCP program will help you advance Roly White, CFPIM, CIRM, CSCP
your career while giving you validated CSCP Examination Committee Chair

•• foundational knowledge to assist in improving

your company's competitive position and
profitability. The program takes a broad view of

•• the field, extending beyond internal operations to

encompass all the steps throughout the supply
chain-from the supplier, through the company, to

••• the end consumer and the reverse flow of

products and materials for the purpose of
managing returns, refurbishing, or recycling. The
program provides you with the knowledge to
effectively manage the integration of these

•• activities to maximize a company's value chain .

•• CSCP Exam Content iVLmual ECM-1

 ••
Introduction About the APICS ••
This exam content manual provides guidance for
individuals preparing for the certification
examination. The objective of this manual is to
CSCP Examination
The APICS CSCP exam consists of 175 multiple-
• ••
outline the APICS CSCP tested body of choice questions. There is a four-hour time limit
knowledge.

The main section of this manual begins with a

for the exam.

For more information about testing and

statement of the scope of the subject matter,
followed by a descriptive outline of the content.
Key terminology and a bibliography of references
are provided. The section concludes with sample
questions similar to those that appear on the
examination and the correct answers for the
sample questions, with brief explanations of why
they are correct.
••
registration policies and procedures, call
APICS Customer Service at 1-800-444-2742
(United States and Canada), or +1-773-867-1777
••
••
and order a current AP/CS CSCP Certification
Bulletin or visit the APICS website at
apics.org/certification/CSCP/CSCPexam.htm.

The recommended procedure for mastering the

Candidates who plan to test in North America
should order stock #09056, and candidates
testing outside North America should order stock ••
subject matter is to
• review the content outline, which defines the
#09057. Candidates may also order the bulletins
at apics.org/cscpor via the APICS Bookstore at
apics.org/bookstore. ••
•
scope of the material.
study each topic, using the suggested
references.
Question Format
Several question formats are used in the APICS
••
At the end of each major section is a list of the
references that apply to the topics in that section.
CSCP examination although not all are included in
this manual's sample questions (pages 18-19). A
review of all the formats is recommended to
••
The first number indicates the sequence number
for the reference in the Bibliography section, and
the numbers in parentheses indicate the
ensure maximum preparedness. For each
question, only one of the four choices represents
the correct answer.
••
••
chapter(s) within that reference.
Examples 1 and 2 are samples of an incomplete
Candidates should understand the definitions of
statement or a question, followed by four
the key terms and the application of the outlined
tools and techniques.

Sufficient references are given that provide

suggested completions or answers. In Example 1,
you are to choose the one option-A, B, C, or D-
that completes the statement correctly. In ••
different approaches to the material covered in
each diagnostic area and different styles of
presenting the information. Reading available
Example 2, you are to choose the option that best
answers the question.

Example 1: The 80-20 rule is an application of:

••
periodical material, such as AP/CS magazine, will
help you maintain an awareness of changes in the
state of the art.
(A) Statistical process control
(B) Defect measurement
••
(C) Root cause analysis
(D) Pareto analysis ••
(The correct answer is D.)

Example 2: Which of the following is used as a ••

••
key performance indicator (KPI) to measure
variability of demand through the supply chain?
(A) Bullwhip effect
(B) Fill rate
(C) Inventory turns ••
(D) Internal failure
(The correct answer is A.)
••
ECM-2 ((J 2012 APICS The Association for Operations Management
••
••
•• Example 3 is different. All the choices given are
correct EXCEPT one. You are to choose the
information for each question. Choose the best
answer from the choices given.

•• option that does not correctly complete the

statement.

Example 3: All of the following are examples of

If a question includes stimulus material, such as a
table, graph, or situation, be sure to study it before
you answer the question.

•• voice of the customer EXCEPT:

(A) collecting point-of-sale (POS) data Interpreting Test Scores

•• (B) customer panel groups

(C) recording customers' problems with recent
purchases
Scoring is based on your correct responses.
There is no penalty for incorrect answers. It is to
your benefit to make a choice, even if you are not

•• (D) surveying customers online

(The correct answer is A.)
certain of the correct answer. A blank answer will
have the same result as an incorrect answer .

•• Examples 4 and 5 ask for a judgment or

evaluation of the MOST or LEAST appropriate
The APICS CSCP scaled score range is 200-350 .
The minimum passing score is 300.

••
choice. The judgment is not one person's opinion; You will receive your final exam score along with
it is the accepted choice according to the APICS diagnostic information on your performance.
body of knowledge. Example 4 asks for the MOST
appropriate choice. Example 5 calls for the

•• LEAST appropriate choice.

Example 4: The MOST significant advantage of

Suggested Study Materials
This manual contains a Bibliography section that
lists references. A candidate may discover that

•• strategic sourcing is:

(A) finding suppliers who can provide materials
the material covered in the chapters of one
reference duplicates material covered in another
reference. Both sources are included as

•• at lowest cost
(B) using technology to select low-cost, high-
quality sources of materials
references to allow candidates some discretion in
selecting test preparation materials that they find
accessible and understandable. In deciding if a

•• (C) developing long-term supplier relationships

(D) having a process for recurring transactions
with single suppliers
single reference is sufficient. candidates should
assess their own level of knowledge against both
the descriptive examination specifications and the

•• (The correct answer is C.)

Example 5: Which of the following factors has

detailed topic list contained in the content outline .
If there are any areas of weakness, the candidate
should consult another reference as part of the

•• had the LEAST impact on the growth of

customer relationship management?
test preparation process.

It is not practical to list all texts that contain

•• (A) increased customer expectations excellent material. The serious student of supply
(B) reduced commodity prices chain management who wishes to stay current
with the state of the art will take advantage of
(C) increased ease in comparison shopping publications such as those listed in the

•• (D) reduced cost of gaining new customers

(The correct answer is C.)
comprehensive AP/CS Educational Resources
Brochure (stock #01041 ), featuring AP ICS
reference materials. To receive the brochure, call

•• • Taking the Test

Before starting your exam, read all the directions
carefully. Be sure you understand them before
APICS Customer Service at 1-800-444-2742
(United States and Canada) or +1-773-867-1777,
or via the APICS Bookstore at
apics.org/bookstore.

•• you begin to read and answer any questions .

Read each question carefully and thoroughly.

The content outline provided in this document
should be considered a primary resource for exam

••
Take care to avoid assuming information not
given or "second guessing" the question. Do not
look for hidden tricks or exceptional
circumstances. Every effort has been made to
preparation. It provides an overview of the major
topics included in the exam, as well as a list of the
concepts that are relevant to that topic .

•• avoid misleading wording and to provide sufficient

•• CSCP Exam Content Manual ECM-3


The AP/CS Dictionary, 13th edition, is an
essential publication that applies to the exam
content manual and exams. Within the profession,
terminology varies among industries, companies,
and the academic community. The examination
uses standard terminology as defined in the
AP/CS Dictionary and the Supplemental Glossary
section in this manual. Recognizing the terms and
understanding their definitions are essential.
In studying for the APICS CSCP certification
exam, candidates may discover multiple terms
used to denote the same technique. An example
of this is lateral integration versus horizontal
integration. APICS has attempted to provide
consistency with preferred terminology. However,
synonyms are often used by authors in the
various references used to compile the body of
knowledge. Candidates are encouraged to be
familiar with all terms and concepts listed within
each outline and key terminology section, using
the AP/CS Dictionary as the primary guide for
definitions. The Supplemental Glossary, included
in this manual, provides needed additional
information identified by the exam committee.
ECM-4 ;_g 2012 APiCS The Association for Operations Management
••
Additional Resources ••
for APICS CSCP
Candidates •••
APICS offers a number of resources to help
individuals prepare for the APICS CSCP
examination.
••
In addition to the cited references, it may be
helpful for you to pursue chapter-sponsored
••
courses, college courses, APICS workshops, self-
study courses, or courses offered by APICS'
network of Authorized Education Providers
••
(AEPs) as a means of learning the body of
knowledge that is tested in the certification
program. A wide variety of courses and materials ••
is available. As with any other investment of time
and money, you should research various courses
before investing in one. For courses in North ••
America, visit the Chapter Locator on the APICS
website at apics.org or call APICS Customer
Service at 1-800-444-2742 (United States and ••
Canada) or +1-773-867-1777 to obtain contact
information for your local chapter. For courses
outside North America, visit
apics.org/international to locate the nearest
••
AEP.
••
APICS CSCP Learning System
The AP/CS CSCP Learning System is a
comprehensive professional development and
••
certification preparation program. This self-
directed program combines print material and
online interactive tools. This system is also offered
••
in instructor-led formats.
The AP/CS CSCP Learning System does not ••
"teach the test" and in many areas reviews
concepts but does not teach concepts. The
AP/CS CSCP Learning System provides a ••
thorough review of the subject matter, but it
should not be used without the most current
AP/CS CSCP Exam Content Manual as a means ••
••
to direct the candidate's study. There will likely be
some content in the AP/CS CSCP Learning
System not covered by the exam; conversely,
••
there will likely be some content in the exam not
covered by the learning system. Thus, the use of
the current exam content manual to assist
candidates with their studies is essential.
For more information, visit the APICS website at
apics.org or call APICS Customer Service at 1-
••
800-444-2742 (United States and Canada) or +1-
773-867-1777 and request a complimentary ••
••
••
•• AP/CS Educational Resources Brochure (stock
#01041).
•• APICS CSCP Instructor-Led
Review Courses
•• The instructor-led format combines the APICS
CSCP Learning System print and online
•• components with the leadership of a qualified
instructor; peer collaboration; company
networking: and a structured, set schedule to
••
keep participants on track. APICS provides an on-
line list of APICS Qualified Instructors for your
review at apics.org/cscpprepar e.
•• APICS Educational Programs
APICS offers a variety of educational programs
••
and the APICS International Conference & Expo.
For a list of APICS learning opportunities and
information on course availability, call APICS
•• Customer Service at 1-800-444-2742 (United
States and Canada) or +1-773-867-1777.
•• APICS Certifiedin Productionand
InventoryManagement (CPIM)
•• Basicsof SupplyChain
Management (BSCM)
•• Review Course and Examination
The APICS CPIM Basics of Supply Chain
Management module introduces terminology,
•• approaches, and techniques for managing the
internal supply chain in a manufacturing
organization. For that reason, the references and
•• the review course may be valuable resources for
APICS CSCP candidates who are not familiar with
the production and inventory management
•• environment. Additionally, individuals
inexperienced in taking certification examinations
using the multiple-choice format of items typically
•• find it beneficial to take the BSCM examination .
•• • and a variety of professional development
••
••
••
••
APICS CSCP
Certification
Maintenance
Continuing
Professional
Development
The Importance of
CertificationMaintenance
The growing number of individuals choosing to
pursue professional development through APICS'
Certified Supply Chain Professional (CSCP)
program indicates a strong awareness that
continuing education and skills development are
essential to meeting the information and
technological challenges in today's rapidly
evolving workplace and global marketplace.
Professional development opens doors to
individual career opportunities and organizational
success.
Although APICS CSCP certification and APICS
CSCP certification maintenance are voluntary
programs, they equally demonstrate one's
commitment to achieving the highest level of
professional development and standards of
excellence .
The APICS CSCP Certification Maintenance
program upholds both the objectives of the APICS
CSCP program and APICS' vision to promote
lifelong learning. This flexible program recognizes
that individuals are at various levels in their
careers, come from many industries, have
different educational needs and career goals, and
have varying degrees of access to continuing
education. Thus, requirements for maintaining
certification can be met through multiple sources
activities intended to help prepare for the
challenges ahead and maintain a professional
edge by
• preserving the currency of hard-earned
certification credentials expanding your
knowledge of the latest industry practices
• expanding your knowledge of the latest industry
practices reinforcing skills
•
•
exploring new technology solutions
reinforcing skills
CSCP Exam Content M;muzd ECM-5
 ••
•
•
improving job performance
demonstrating commitment to excellence
APICS Code of Ethics ••
• increasing competitive advantage .

To promote professional growth and lifelong

learning, APICS CSCP designees must complete
the APICS Certification Maintenance program
every five years. Complete details on how to
When you start an examination, you will be asked
to pledge to abide by the APICS Code of Ethics.
Once certified, you pledge to continue your ••
••
education to increase your contribution to the
supply chain profession. After achieving the
APICS CSCP certification, you pledge also to

maintain your APICS CSCP designation will be
mailed to candidates upon successful completion
of the certification requirements. Visit the APICS
website at apics.org or call APICS Customer
Service at 1-800-444-2742 (United States and
Canada) or +1-773-867-1777.
••
share your knowledge with others by participating
in APICS research and educational activities at
local, district, national, and international levels.
APICS Code of Ethics:
• To maintain and improve sound business
practices and foster high standards of
••
•
professional conduct.
To hold in professional confidence any
information gained of the business of a fellow
••
•
member's company and to refrain from using
such information in an unethical manner.
To seek success without taking unfair
••
advantage or using questionable acts that
would compromise one's self-respect. ••
•
•
To neither engage in nor sanction any
exploitation of one's membership, company, or

•
profession.
To encourage, and cooperate in, the
interchange of knowledge and techniques for
••
•
the mutual benefit of the profession.
To be careful with one's criticisms and liberal
with one's praise; to build and not to destroy.
••
• Whenever a doubt arises as to the right or
ethics of one's position or action, to resolve
such doubt according to generally accepted
••
•
standards of truth, fair dealing, and good taste.
To maintain high personal standards of moral ••
••
responsibility, character, and business integrity.
• To uphold the high ideals of the association as
outlined in the bylaws.

Failure to abide by APICS Code of Ethics policy

may result in sanctions up to and including
decertification.
••
••
••
••
••
••
ECM-6 <ci 2012 APICS The Association for Operations Management
••
••
•• APICS Certified
Implementation and Operations
This section covers managing and balancing

•• SupplyChain
Professional (CSCP)
supply and demand through measuring, analyzing,
and improving supply chain processes .

The successful candidate will be able to recognize

•• Effective for January 1, 2012-December 31, 2012,

and analyze specific supply chain situations and
opportunities and select the appropriate
approaches, tools, techniques, and technologies.

••
exams.
The candidate will be able to define the actions
CSCP EXAMINATION COMMITTEE necessary to implement selected solutions. This
includes an understanding of, and ability to,

•• Roly White, CFPIM, CIRM, CSCP (Chair)

Nishat Ahmed, CPIM, CIRM, CSCP, C.P.M .
M.C. Dean, Inc.
manage
• alignment of supply chain processes and

•• Joanne Gorski, CFPlM, CSCP

Fox Valley Technical College
•
capabilities with strategic business goals
organizational roles and infrastructures in the
supply chain

•• Robert Pinchot, CPIM, CSCP

DuPont
Andrea M. Prud'homme, Ph.D., CPIM, CIRM,
•
•
material, information, and financial flows
intra- and interorganizational relationships

••
• selection and use of technologies to enable
CSCP, The Ohio State University
effective process management.
Eduardo A. Shelley, CFPIM, CIRM, CSCP
Solmex Many of the items on this exam require the

•• Scope of the Subject Matter

candidate to apply one or more of the items
identified in the outline and key terminology.

•• Please read the introductory material in this

manual for essential information about the
examination.
APICS CSCP Content
Three content areas have been designed to

•• The APICS CSCP certification covers concepts,

strategies, processes, tools, and technologies
organize the APICS CSCP domain. The relative
importance of a topic is not necessarily reflected
by its appearance in the outline. The relative

••
applied to managing the end-to-end forward and
backward flow of materials, information, and value
in a supply chain.
importance of these topics will vary among
industries. The percentage figures given below
can be used as a guideline for the APICS CSCP
exam content.

•• The subject matter is organized into three content

areas. DIAGNOSTIC
MAIN TOPIC
PERCENTAGE

••
PART OF EXAM
Fundamentals of Supply Chain Management
(SCM) Fundamentals
This section provides the foundation for the exam of Supply Chain

••
I 33.33%
by addressing the concepts and strategies used Management
for effective supply chain management. It includes (SCM)
an overview of supply chain management, Supply Chain

•• managing the supply chain, and improving the

supply chain. II
Strategy,
Design, and
Compliance
33.33%

•• Strategy, Design, and Compliance

This section addresses considerations in the
design of a supply chain, the processes that
111
Implementation
and Operations
33.33%

•• support the organization's strategy, improvement

of the sustainability of the organization and its
trading partners, and compliance with applicable

•• regulations and voluntary standards .

•• CSCP Exam Content fJi;mu.::il ECM-7

•
 ••
Content Outline B. Supply Chain Alignment with Business Strategy:
The supply chain strategy should align with and
••
••
I. Fundamentals of Supply Chain Management enable the business strategy. Achieving
(SCM) appropriate alignment requires an
understanding of the forms of competitive
This section addresses the fundamental concepts
used for effective SCM and will provide the
foundation for the APICS CSCP exam. It includes
an overview of SCM concepts and the need to
advantage being pursued. It also requires an
understanding of the organizational strategy,
priorities, capabilities, and the resolution of ••
••
misalignments or gaps. Knowledge in this area
align resources with the strategy of the
encompasses:
organization. Management and improvement of
the supply chain are then addressed. Exam 1. Competitive advantages
questions covering this area will include elements
related to the following: 2. Business capabilities and strategy
a. Organizational strategy
••
A. Supply Chain Management Concepts: A
thorough understanding of the roles in a supply
chain network and the flow of value through it is
b. Prioritization options
c. Organizational capabilities ••
required. A broad understanding of the supply
chain management processes, objectives,
integration, and benefits is also required. 3.
d. Alignment of capabilities and strategy
Resolving misalignment or gaps ••
Knowledge in this area encompasses:
1. Basic supply chain
4. Collaboration among trading partners
a. Benefits of collaboration ••
••
a. Entities b. Requirements for success
b. Structures
C. Supply Chain Design and Improvement
c. Flows Considerations: The supply chain strategy
2. Supply chain management processes -
SCOR® model
should be designed with an understanding of
the marketplace. It also requires an
understanding of supply chain management
••
a. Planning demand and supply
b. Sourcing goods and services
c. Producing goods and services
design and continuous improvement
considerations. Knowledge in this area
encompasses:
••
d. Delivering goods and services
e. Planning for and processing returns
1.
2.
Understanding the marketplace
Supply chain design considerations
••
3.
4.
Vertical and horizontal integration
Supply chain management objectives
a. Network configuration
b. Inventory location and levels ••
a. Improved customer service
b. Efficient use of systemwide resources
c. Product design
d. Information technology
e. Support systems
••
c. Effective use of systemwide resources
d. Leverage of partner strengths 3. Continuous improvement
a. Product considerations
••
5. Supply chain management benefits
a. Improved market knowledge
b. Increased velocity in the flows of goods
b. Process improvement initiatives
c. Managing change ••
and services, funds, and information
c. Increased visibility of flows
D. Inventory Management: Inventories throughout
the supply chain must be planned and ••
••
d. Reduced variability of flows controlled for effective supply chain
e. Integrated operations management. Managing inventories, in turn,
requires an understanding of the costs of
f. Improved management of risk
g. Increased sustainability
••
8 @ 2012 APlCS The Association for Operations Management
••
•
••
•• maintaining and not maintaining inventory.
Knowledge in this area encompasses:
G. Demand Planning: An understanding of demand
forecasting, the components of demand
management, associated linkages, and demand

•• 1.
2.
Need for inventory
Aggregate and item inventory management
management functional responsibilities and
interfaces is required. Knowledge in this area
encompasses:

•• 3.
4.
Flow of material
Functions of inventory
1. Forecasting demand
a . Demand forecasting concepts

•• 5. Inventory-related cost categories

Effects of inventory on the financial
b. Qualitative methods
c. Quantitative methods

•
6. d . Combination methods
statements

•• E. Logistics Fundamentals: An understanding of

the logistics function is required. Understanding
e. Measures of forecast error
2 . Components of demand management

•• the role of logistics, types of logistics service a . Planning demand

providers, and reverse logistics is required. b. Communicating demand
Knowledge in this area encompasses: c. Influencing demand

•• 1. Role of logistics in supply chain

management
3.
d. Prioritizing demand
Linkages among the components

•• a . Logistics functions
b. Logistics value proposition
c. Flow of goods and information
4. Demand management functional
responsibilities and interfaces

•• 2.
d. Push, pull, and push-pull systems
Logistic service providers
a. Product development
b.
c.
Marketing
Sales

•• a. Types of logistics services

b . Advantages of using logistics service
providers
d. Operations

H . Customer Relationship Management (CRM)

•• c. Disadvantages of using logistics service

providers
Concepts: Effective customer relationship
management includes an understanding of the
CRM philosophy. It also requires the

•• 3. Reverse logistics
a . Activities supported
understanding of the need, scope, elements,
and benefits of CRM. Knowledge in this area
encompasses:

••
b. Design for reverse logistics
c . Benefits 1. Need for CRM

Market Segmentation: An understanding of 2. Scope of CRM

••
F.
market segmentation is required. Understanding
3. Elements of CRM
the reasons for identifying market segments,
ways to segment markets, and understanding

•• the wants and needs of each segment is

important. Knowledge in this area
encompasses:
4.

5.
Benefits of CRM

Implementing CRM

•• 1. Reasons to identify and understand market

segments
6. Need for, and uses of, customer information
in CRM

•• 2.
3.
Ways to segment markets
Understanding the wants and needs of each
I. Supply Management Concepts: Effective
management of all sources of supply requires
an understanding of the components of the total

••
cost of ownership and the considerations in
segment deciding whether to source an item internally or
externally. It also requires an understanding of

••
,. •• CSCP Exam Content Manual ECM-9
 ••
the types of relationships that can exist between
a firm and its suppliers, the development of
supply plans, and supplier relationship
B. Risk Management: Designing a robust supply
chain requires recognizing the sources and ••
••
forms of risks, the magnitude and potential
management. Knowledge in this area impact of each, and methods of mitigating each
encompasses: form of risk. Knowledge in this area
encompasses:
1.

2.
Total cost of ownership

Make versus buy analysis

1. Identification, mitigation, and response to
risk
••
3.
4.
Range of buyer-supplier relationships
Developing supply plans
a. Forms of risk
b. Assessing the risk in a supply chain ••
5. Supplier relationship management (SRM)
References: 1; 2 (1-6); 3 (1-2, 6-7, 9); 4 (1, 5--8);
c. Mitigating significant risks
d. Responses to risk
••
••
5 (1, 3, 5, 8-9, 12) 2. Security and regulatory concerns
a. Risk of loss, such as intellectual
II. SupplyChain Strategy, Design, and property or goods
Compliance

This section addresses considerations in the

b. Complying with import and export
requirements, such as prohibited
goods, labeling, and documentation
••
••
design of a competitive supply chain, the
processes that support the organization's strategy, c. Costs and benefits of participating in
improvement of the sustainability of the security partnerships
organization and its trading partners, and d. Costs and benefits of meeting
compliance with applicable regulations. Exam
questions covering this area will include elements
related to the following:
sustainability regulations
e. Product traceability ••
A. Sustainability: Designing and operating a supply
chain requires an understanding of the concepts
3. ISO 31000 Risk Management Principles
and Guidelines ••
of sustainable business practices and how to
adapt and apply them to a specific supply chain.
Knowledge in this area encompasses:
C. Globalization: Managing globally dispersed
sources of supply and demand requires an
understanding of the requirements for operating
••
1. Economic
a. Micro and macro considerations
in multiple countries and for moving goods and
funds among countries. Knowledge in this area
encompasses: ••
b. Leading and lagging economic
indicators
c. Balancing short-term and long-term
1. Effects of globally dispersed supply and
demand ••
2.
performance
Environmental
a. Export and import participants
b. Currency considerations
c. Harmonized Tariff Schedule (HTS)
••
a.

b.
ISO 14000 Series of Environmental
Management Systems Standard
Governmental regulatory compliance 2.
d. Total, or landed, cost of acquisition
Free trade zones
••
••
c. Industry-specific guidelines and
standards a. Definition
d. Impact of supply chain decisions b. Benefits

••
c. Requirements
3. Social
a. ISO 26000 Guidance on Social 3. Trading blocs
Responsibility

••
a. Definition
b. Corporate social responsibility b. Effects on supply chains within the bloc
considerations
c. Effects on supply chains that extend
4.
5.
United Nations 'The Global Compact"
Triple bottom line (TBL)
outside the bloc
••
10 @ 2012 APlCS The Association for Operations Manaqernerrt ••
•
••
•• 4. Operational considerations
a. Exporting issues
b. Attributes of a responsive supply chain
c. Supply chain fit with the organizations'

•• b. Importing issues
c. lncoterms F.
markets requirements

Technology: An understanding of technologies

••
that enable designing, tracking, operating, and
5. Implications of globalization communicating among trading partners within a
a. Legal and regulatory considerations supply chain is necessary. The correct
application of appropriate technology is needed

•• b. Acceptable standards of conduct

c. "Glocalization"
for efficient and effective supply chain
management. Knowledge in this area
encompasses:

•• D. Logistics: An understanding of the total effect

that globalization and supply chain
management has on inbound and outbound
1. Role of technology in supply chain
management

•• logistics is important. An understanding of

trade-offs among warehousing, transportation,
and logistics services' decision making is also
a. Information system architecture
b. Use of information technology in the
supply chain

•• required. Knowledge in this area encompasses:

1. Transportation
c. Comprehensive supply chain
management system

••
a. Transportation objectives and d. Need for timely and accurate data
considerations
b. Stakeholders in transportation decisions 2. Key application tools

•• c. Modes of transportation
d. Considerations in mode selection
a. Enterprise resources planning (ERP)

b.
systems
Advanced planning and scheduling

•• 2. Warehousing
a. Warehousing objectives and
considerations
(APS) systems
c. Supply chain event management
(SCEM)

•• b. Warehouse capabilities
c. Automated material handling
d. Warehouse management systems
(WMS)

••
e. Transportation management systems
3. Transportation and warehousing trade-offs (TMS)
a. Public/private
3. Data acquisition and communications tools

••
b. Owning/leasing assets
a. Interface devices
c. Capacity constraints
b. Data communications methods

•• E. Managing the Supply Chain: Managing the

supply chain requires an understanding of the
dynamics of supply and demand and the need
c. Databases-hierarchical/relational/
network
d. Acquisition and use of data

••
to balance efficiency and responsiveness in the
supply chain. It also requires a set of e. Automatic identification technologies
comprehensive measures that are agreed upon 4. Supply chain design and optimization tools
and used by the organizations in the supply

•• chain. Knowledge in this area encompasses:

1. Indicators of supply chain performance
a. Supply network design
b. Supply network optimization

•• a. Customer-focused metrics
b. Financial metrics
5. lnterorganization integration tools
a. Information technology in collaborations
and joint processes

•• c. Operational metrics
d. Other key performance indicators
(KPls)
b. Standardization
c. Challenges

•• 2. Responsive versus efficient supply chains

a. Attributes of an efficient supply chain
6. Electronic business
a. Enabling virtual organizations

•• ECM-11

•
 b. Internet-enabled supply chains 3. Measuring customer service
c. E-business considerations a. Response to inquiries
d. Business-to-business commerce (828)
and business-to-consumer sales (B2C)
b. Order processing
c. Level of service
d. Product or service quality
••
••
G. Influencing and Prioritizing Demand: A thorough
understanding of how the members of a supply e. Customer satisfaction
chain can influence demand and how they may
4. Challenges in implementing CRM
need to prioritize demand when necessary is
required. Knowledge in this area encompasses:
1. Designing products and services
I. Supplier Relationship Management (SRM):
Successful implementation of supplier
••
a. Standardization
b. Simplification
relationship management requires an
understanding of the underlying concepts, the
enabling technologies, and the requirements for
••
c. Customization
d. Sustainability considerations
e. Design and development collaboration
improved management of sources of supply.
Knowledge in this area encompasses: ••
2. Marketing
a. Market research
1. Supplier selection
a. Corporate social responsibility (CSR)
b. Negotiations
••
b. Demand generation
c. Influencing demand
c. Internet-enabled sourcing
d. Contract performance ••
3.
4.
Selling
Matching customer orders to supply
2.
e. Alignment with supply chain needs

Developing and implementing SRM

strategies
••
a. Need for matching
b. Approaches to matching
a. Steps in implementing SRM
b. Managing risk
••
H. Customer Relationship Management (CRM):
Effective customer relationship management
includes understanding the underlying
3. Creating alliances with suppliers
a. Characteristics of a successful ••
concepts; enabling technologies; and
requirements for improved demand
management, customer service, and alignment
relationship
b. Commitment required for a successful
alliance
••
of customer-facing processes and resources.
Knowledge in this area encompasses:
c. Steps in creating and maintaining an
alliance ••
1. Developing and implementing CRM as a
strategy
a. Components of CRM strategy
4. Using technology to implement SRM
a. Components of a SRM system
b. Portals and trading exchanges
••
b. Aligning CRM strategy and product or
service life cycle
c. Creating a customer relationship
c. Processes enabled by SRM
d. Effects of SRM on the firm and its ••
••
suppliers
strategy
d. Developing CRM strategy for various 5. Measuring SRM

types and segments of customers
2. Using technology to implement CRM
J.
a. Benefits of using a customer data
warehouse
b. Sales force automation
c. Keys to successful CRM
implementation
••
6. Challenges in implementing SRM
Inventory Planning and Control: Inventories
throughout the supply chain must be planned,
located, and controlled for effective supply chain
management. Managing inventories in turn ••
••
requires an understanding of the total costs of
maintaining and not maintaining inventory and
the techniques for planning and controlling

12 © 2012 APICS The Association for Operations Management ••

•
••
•• inventory. Knowledge in this area
encompasses:
2.

3.
Communicating

Measuring performance
requirements and priorities

•• 1. Inventory planning
a. Locations of inventory
a.
b.
Operational measures
Financial measures

•• 2.
b. Levels of inventory

Inventory control
C. Managing Supply from External Sources:
Managing supply from external sources requires
an understanding of the basic purchasing

•• a.
b.
c.
Determining order quantities
Ordering systems
Safety stock and safety lead time
processes, selecting suppliers, and evaluating
suppliers. Knowledge in this area
encompasses:

•• d.
e.
Organization of storage locations
Methods of tracking inventory
1. Communicating requirements and priorities

•• f. Methods for assessing inventory 2. Supplier performance management

accuracy a. Ethical and legal considerations
References: 1; 2 (5-10, 13-15, 17}; 3 (1, 3-5, b. Negotiations

•• 8-11, 12-13, 17); 4 (1-9); 5 (2-12, 14-15)

Ill. Implementationand Operations

c.
d.
Contract issues
Internet-enabled sourcing

•• This section addresses managing and balancing

supply and demand by measuring, analyzing, and 3.
e. Scorecards and performance metrics

Supplier certification

•• improving supply chain processes. Exam a. Customer and supplier benefits

questions will include elements related to the b. Third-party certification
following: c. Supplier certification process

•• A. Supply Chain Dynamics: Managing supply

chains requires an understanding of the
dynamics of supply and demand and the need
D. Implementation of Demand Plans: Requires an
understanding of the methods for prioritizing

•• to balance efficiency and responsiveness in the

supply chain. It also requires a set of measures
that are agreed upon and used by the
and fulfilling demand. Knowledge in this area
encompasses:

1. Demand prioritization

•• organizations in the supply chain. Knowledge in

this area encompasses:
a.
b.
Time fences
Allocation of supply

•• 1. Sources of variability in demand

2. Sources of variability in supply

c. Measures
i.
ii.
of customer service levels
Fill rates
Lead-time monitoring

•• 3.

4.
Synchronizing supply and demand

Metrics 2.
iii.

Capturing
Order status reporting

and communicating point-of-sale

•• B. Managing Supply from Internal Sources:

Managing supply from internal sources requires
an understanding of the operations planning
data
a.
b.
Capturing data at point-of-sale
Sharing demand data among trading

•• and control processes. Knowledge in this area

encompasses:
E.
partners

Continuous Improvement: Enhancing the

•• 1. Operations planning and control

a. Implementation of the sales and
operations plan (S&OP}
competitiveness of a supply chain requires an
understanding of the techniques and tools of
continuous improvement and the appropriate

•• b.
c.
Controlling priorities
Materials and inventory
application of each. Knowledge in this area
encompasses:

•• d. Capacity management 1. Continuous improvement philosophies

a. Lean
b. Six sigma

•• CSCP Exam Content f/lanual ECM-13

•
 c. Theory of constraints (TOC) c

2.
d. Total quality management

Continuous improvement tools

(TQM) capable-to-promise (CTP)
carrying cost ••
a.
b.
Basic seven tools of quality (B7)
Seven new tools (N7)
cash flow
cash-to-cash cycle time
changeover
••
References: 1; 2 (5-6, 15-16); 3 (9-11, 14-15);
5 (2, 4, 7, 12)
chase strategy
collaborative planning, forecasting, and
replenishment (CPFR)
••
Key Terminology competitive analysis
An understanding of the following list of terms is
recommended. The list is intended to be thorough
but not exhaustive. The candidate is also expected
consignment
consortia trade exchanges (CTX)
constraint
••
to be familiar with the definitions of terms identified
in the content outline. A review of the list and
study of the topics in the outline may reveal other
content management applications
continuous replenishment ••
important terms. Definitions of these terms can be
found in the AP/CS Dictionary, 13th edition, or in
the Supplemental Glossary.
cost of goods sold
cost of quality
cross-docking
••
A
ABC analysis
cross-selling
cumulative lead time
customer relationship management (CRM)
••
active tag
advanced planning and scheduling (APS)
customer service
customer service ratio ••
••
agent cycle
alliance development cycle counting
anticipation inventories cycle stock
assemble-to-order
automatic identification and data capture (AIDC)
available inventory D
cycle time
••
B
available-to-promise (ATP) database management system (DBMS)
data cleansing
data dictionary
••
backlog
backorder
balanced scorecard
data normalization
data warehouse ••
balance sheet
bar coding
decoupling
define, measure, analyze, improve, control
(DMAIC) process
••
benchmarking
bill of material (BOM)
blanket purchase order
demand
demand forecasting
demand management
••
bottleneck
buffer
demand planning
demand pull ••
business intelligence
business plan
business process management
demand shaping
dependent demand
design for the supply chain
••
business-to-business commerce (B2B)
business-to-consumer sales (B2C)
distribution inventory
distribution requirements planning (DRP)
distributor
••
••
14 © 2012 APICS The Association for Operations Management
•• •
••
•• E
electronic commerce (e-commerce)
inventory visibility
ISO 26000 Guidance on Social Responsibility

••• electronic data interchange (EDI)

electronic document
electronic product codes (EPCs) J
ISO 31000 Risk Management-Principles and
Guidelines

end-of-life management joint replenishment system

•• engineer-to-order
enterprise resources planning {ERP}
extensible markup language (XML}
joint venture
Just-in-Time (JIT)

•• extranet
extrinsic forecasting method
K
kaizen

••
kaizen event
F kanban
feedback keiretsu

•• file transfer protocol (FTP)

fill rate
fluctuation inventory
L
key performance indicator (KPI}

•• forecast error
forecasting
landed cost
lead time
lean

•• G
general and administrative expenses (G&A)
global strategy
legacy systems
level of service

••
level strategy
g localization linear programming
graphical user interface (GUI) line haul costs

•• H
gross margin load leveling
local area network (LAN)
logistics

•• harmonized system classification codes

horizontal marketplace
hypertext markup language (HTML}
M
make-to-order

•• hypertext transfer protocol (HTTP) make-to-stock

manufacturing resource planning (MRP II)
market demand

•• income statement
incoterms
independent demand
market driven
market research

•• information system architecture

information technology
market share
master planning
master production schedule (MPS)

••
Internet
interplant demand material requirements planning (MRP}
intra net materials management

•• in-transit inventory mathematical programming

intrinsic forecast method metrics
inventory management middleware

•• inventory optimization software

inventory turnover
mix forecast
modular design strategy
modular system

•• inventory turns
inventory valuation
inventory velocity
multicountry strategy
multisourcing

••
•• CSCP Exam Content Manual ECM-15
 ••
N

0
network
s
safety stock
sales and operations planning (S&OP)
••
obsolescence
optimization
ordering cost
seasonality
semipassive tag
service industry
••
order losers
order qualifiers
service-oriented architecture (SOA)
simulation
single-source supplier
••
p
order winners
outsourcing six sigma
software-as-a-service (SaaS) ••
package to order
Pareto analysis
sole-source supplier
sourcing
spend management
••
Pareto's law
partnership
passive tag
standard costs
stockkeeping unit (SKU) ••
••
stockout costs
pipeline inventory strategic alliance
planning horizon strategic planning
portal strategic sourcing
private trading exchange (PTX)

••
subcontracting
process chart supplier
process map supplier certification
procurement
product differentiation
product family
supplier-input-process-output-customer (SIPOC)
diagram
supplier relationship management (SRM)
••
product life cycle
profit
supply chain
supply chain event management (SCEM)
supply chain management (SCM)
••
••
profit margin
pull system Supply-Chain Operations Reference-model
purchasing (SCOR®)

Q
push system supply chain risk
supply chain visibility
sustainability
••
quality function deployment (QFD)
quick response program (QRP)
T
synchronized production
••
••
R tactical buying
radio frequency identification (RFID) tag tactical planning
rapid replenishment target costing
relational database
resource management
return on assets (ROA)
tariff
third-party logistics (3PL) ••
return on investment (ROI)
reverse auction
total cost of ownership (TCO)
trade bloc
trading bloc ••
reverse logistics
reverse supply chain
risk pooling
transportation management system (TMS)
trend
triple bottom line (TBL)
••
••
16 © 2012 APICS The Association for Operations Management ••
•
••
•• u
United Nations Global Compact (UNGC}
ISO 26000 Guidance on Social Responsibility:
ISO 26000 or ISO SR is an international standard

•• v
universality
adopted by the International Standards
Organization to assist organizations in contributing
to sustainable development beyond legal
compliance through a common understanding of

•• value-added
value-added network (VAN)
value chain
social responsibility. ISO 26000 is not a
management system standard and it's not
intended or appropriate for certification purposes

•• value stream
value stream mapping
or regulatory or contractual use.

ISO 31000 Risk Management: Principlesand

•• variance
vendor
vendor-managed inventory (VMI)
Guidelines: A standard adopted by the
International Standards Organization that outlines
principles and a set of guidelines to manage risk in

•• w
virtual trading exchange any endeavor. The standard outlines guidelines for
understanding risk, for developing a risk
management policy, for integrating risk

•• warehouse management system (WMS}

waste
web services
management into organizational processes
(including accountability and responsibility), and
for establishing internal and external risk

•• x
XML (extensible markup language}
communication processes. ISO 31000 is not a
management system standard and it's not
intended or appropriate for certification purposes

•• Supplemental Glossary
or regulatory or contractual use .

Trade bloc or tradingbloc: A trade bloc is an

•• The following concepts, not found in the AP/CS

Dictionary, 13th edition, will be helpful in preparing
for the CSCP examination.
agreement between countries intended to reduce
or remove barriers to trade within member
countries. Frequently, but not always, those

••
countries are geographically close. Examples of
Businessprocessmanagement (BPM): A trade blocs are the European Economic
business discipline or function that uses business Community and the North American Free Trade

••
practices, techniques, and methods to create and
improve business processes. BPM is a holistic
approach to the use of appropriate process-related
Agreement (NAFT A).
United Nations Global Compact: A voluntary
initiative whereby companies embrace, support,

••
business disciplines to gain business performance
improvements across the enterprise or supply
chain. It promotes business effectiveness and
efficiency while striving for innovation, flexibility,
and enact, within their sphere of influence, a set of
core values in the areas of human rights, labor
standards, the environment, and anticorruption.

•• and integration with technology. Most process

improvement disciplines or activities can be
considered as BPM .

•• Demand shaping:The practice of using the 4 Ps

(product, pricing, placement, promotion} and other

•• market variables to influence the demand of a

product or service so that the demand better
matches the available supply .

•• Glocalization:A combination of "globalization"

and "localization." When used in a supply chain

•• context, glocalization is a form of postponement

where a product or service is developed for
distribution globally but is modified to meet the

••
needs of a local market. The modifications are
made to conform with local laws, customs, culture,
or preferences .

•• C:3CP Exa;11 Content r·.11011uc:d EClVl-17

•
 ••
Bibliography (C) it is everyone's responsibility.
(0) quality targets change frequently.
••
All test candidates should familiarize themselves
with the following references for this examination.
The recommended references pertaining to the
3. An example of the use of a third-party logistics
(3Pl) company would be when a company
••
diagnostic area are listed at the end of each
section of the content outline. All of these
references are available from the APICS
contracts with another company to:
(A) perform its shipping and receiving functions . ••
Bookstore.

1. AP/CS Dictionary, 13th ed., 2011.

(B) produce and deliver a major subassembly.
(C) provide payroll services.
(0) act as a sales agent in another country.
••
2. Bowersox, Donald, David Closs, and M. Bixby
Cooper. Supply Chain Logistics Management.
3rd ed., McGraw-Hill, 2010.
4. Which of the following is an expected benefit of
implementing supply chain event management?
••
3. Crandall, Richard, William Crandall, and Charlie
Chen. Principles of Supply Chain Management,
CRC Press, 2010.
(A) It will reduce the need for supply chain
performance reporting. ••
4. Ross, David F. Introduction to Supply Chain
Management Technologies, 2nd ed., CRC
(B) It will improve forecasting accuracy.
(C) It notifies partners when a deviation from
plans occurs.
••
5.
Press, 2010.
Simchi-Levi, David, Philip Kaminsky, and Edith
Simchi-Levi. Designing & Managing the Supply
(0) It reduces the cost of communications
between partners. ••
Chain, 3rd ed., McGraw-Hill Irwin, 2008.

Sample Questions
5. Which of the following applications would
enable a company to detect patterns in the
preferences of a customer segment?
••
The following 10 questions are similar in format
and content to the questions on the CSCP exam.
These questions are intended for practice-that is,
(A) Business intelligence
(B) Advanced planning system
••
to enable you to become familiar with the way the
questions are asked. The degree of success that
you have in answering these questions is not
(C) Sales force automation
(D) Artificial intelligence ••
related to your potential for success on the actual
exam and should not be interpreted as such.
6. Cash-to-cash cycle time is a measure of how
efficiently a company: ••
Read each question, select an answer, and check
your responses with the explanations on pages
20-21.
(A) recovers its investment in plant and
equipment
(B) manages assets to generate cash flow
••
1. Which of the following is the primary advantage
of using web-based electronic data interchange
(C) converts inventory into sales
(D) collects on sales to customers ••
(EDI) for communication of transactions?
(A) There is more flexibility in transaction
formats.
7. Which of the following types of inventory is used
to protect against variations in supply and/or ••
••
demand?
(B) It lowers the cost per transaction.
{A) Cycle stock
(C) It eliminates translation of transactions.
(B) Transportation inventory

2.
(0) A larger number of transactions are
supported.

Quality remains an elusive concept in most

(C) Safety stock
(0) Anticipation inventory
•• •
organizations because: 8. Which of the following is typically a
(A) it depends on customer perception.
(B) there are many quality philosophies.
characteristic of strategic sourcing?
(A) It includes automation of contract ••
management processes.
(B) It reduces the price of goods and services.
••
13 (r;J 2012 APlCS The Association for Operations Management
••-
••
•• (C) A supplier receives all of the company's
orders for a product or product family.

•• 9.
(D) The focus of the relationship is on large
transactions .
Which of the following measures would be most

•• appropriate for trading partners to use to assess

the delivery performance of the manufacturer of
items built to forecast?

•• (A) Percentage of items shipped within the final

assembly lead time.

•• (B) Percentage of orders shipped complete

within 24 hours of their receipt.
(C) Number of items shipped within 24 hours of

•• their receipt.
(D) Revenue from orders shipped in a week .

•• 10. Which of the following is an expected benefit of

collaborative supply chain management?

•• (A) Maximizing the performance of the firm

(B) Reducing the number of competitors
(C) Increasing scope of operations

•• (D) Synchronizing supply and demand

•• (Answers listed on pages 20-21.)

••
••
••
••
••
••
••
••
••
•• ECM-19

•
 ••
Answers to Sample Questions
Note: References to the content outline appear in
5. A (llH2) A is the best choice because business
intelligence applications collect, organize, and
••
parentheses.

1. B (I IF1) B is the best choice because a web-

analyze information. Use of these applications
on customer data would allow the company to
detect patterns in the data. Bis not the best
••
based EDI system would eliminate the cost of
a private or value-added network. A is not the
best choice because the EDI transaction
choice because advanced planning systems
address operations rather than customers. C is
not the best choice because sales force
••
formats are independent of the network used
for transmission. C is not the best choice
because the transactions still must be
automation does not capture or organize the
data required to detect patterns in customer
preferences. Dis not the best choice because ••
translated to and from the standardized format.
D is not the best choice because the standards
are independent of the transmission method
artificial intelligence applications are intended
to learn and reason like humans to address
specific problems. ••
2.
used.

A (lllE) A is the best choice because the

customers are the ultimate judges of quality
6. B (IA5) Bis the best choice because the
definition of cash-to-cash cycle time is that it is
an indicator of how efficiently a company
••
and they may have differing requirements and
priorities. B is not the best answer because the
philosophies have similar definitions of quality
manages assets to improve cash flow. It is the
inventory days + accounts receivable days -
accounts payable days. A is not the best
••
and address how to improve it. C is not the
best choice because the fact that it is
everyone's responsibility has nothing to do with
choice because cash-to-cash cycle time does
not consider the investment in plant and
equipment. C is not the best choice because it
••
the concept of what is quality. D is not the best
choice because targets should change once
they have been achieved.
is limited to the inventory days component of
cash-to-cash cycle time. D is not the best
choice because it is limited to the accounts
••
3. A (IE2) A is the best choice because a 3PL
company is a company that manages part or
receivable component of cash-to-cash cycle
time. ••
all of a company's product delivery operations
and shipping is part of the product delivery
operations. B is not the best choice because
neither producing the subassembly nor
7. C (ID) C is the best choice because safety
stock is maintained to protect against variability
in either supply or demand. A is not the best
choice because cycle stock is related to lot •• •
delivering it is part of the company's product sizing. B is not the best choice because
delivery operations. C is not the best choice
because payroll services are not a part of the
company's product delivery operations. D is
transportation inventory is inventory that is in
transit between locations. D is not the best
choice because anticipation inventory is
••
not the best choice because selling does not
necessarily include any delivery operations.
inventory held to cover trends or planned
events, such as promotions or plant shutdown. ••
4. C (llF2) C is the best choice because supply
chain event management monitors the supply
chain and notifies designated individuals when
8. A (II) A is the best choice because strategic
sourcing focuses on the long-term relationship
and, from an information technology
••
specified events or exceptions occur or when
trends are recognized. A is not the best choice
because it enables performance reporting but
perspective, typically includes automation of
contract management. B is not the best choice
because the focus is on the total cost of ••
does not reduce the need for it. B is not the
best choice because supply chain event
management itself does not affect any specific
ownership rather than on the quoted price. C is
not the best choice because strategic sourcing
can include contracting with more than one ••
application. D is not the best choice because
supply chain event management does not
directly affect the amount or cost of
partner for a part or family of parts to reduce
the risk of disruptions. D is not the best choice
because the focus of the relationship is on a ••
••
communications among partners. long-term relationship between the partners
rather than on individual transactions.

••
20 @ 2012 flPJCS The Association for Operations Management
••
••
•• 9. B (lllB3) Bis the best choice because the items
are being produced to forecast and should be
10. D (lllA) D is the best choice according to the
AP/CS Dictionary definition of supply chain

•• shipped from stock shortly after receipt of the

order. A is not the best choice because the
final assembly lead time should not be needed
management. A is not the best choice because
SCM should improve the performance of the
entire chain, not a single member of the chain.

•• before shipment because the items are

produced to forecast. C is not the best choice
because it is a measure of the number of items
B is not the best choice even though it may be
an outcome of collaborative supply chain
management. C is not the best choice because

•• shipped and there is no indication of the actual there is no direct relationship between
number of items that were ordered. Dis not the collaborative supply chain management and
best choice because revenue is a financial the scope of operations for one of the partners.

•• measure, but does not indicate delivery

performance .

••
••
••
••
••
••
••
••
••
••
••
••
••
••
1• • CSCP Exam Content M;~nual ECM-21

l:
••
••
•• Course Overview

•• Welcome to the APICS Certified Supply Chain Professional™ (CSCP)

•• Learning System. Whether you are interested in professional development or

are pursuing the APICS CSCP credential, you will find the program to be a

•• + Getting Started
complete, easy-to-use learning and reference tool.

•• Course materials This course allows you to work at your own pace to increase your understanding

•• of supply chain and operations management and the APICS CSCP body of
knowledge. It includes three printed textbooks (called modules), which

•• correspond to the knowledge domains tested on the APlCS CSCP exam. The
course also includes onlinc practice tests and learning reinforcement activities .

•• Please check that you have received the three modules (five textbooks total) and
your online system invitation (provided to you via e-mail) for access to the

•• online course components .

•• If anything is missing or if you have not received your invitation e-mail, please
contact APICS CSCP Leaming System Customer Support at 1-888-266-9079

••
(USA/Canada) or+ 1-651-905-2664 (worldwide) .

Accessing the Before you use the online components of the course, you must create an

•• online course
components
account in the system:
l. Click on the link in your invitation e-mail. This will take you to the Web

•• site to create your account to access the online components of the course .
2. Read and accept the tenns-of-usc agreement.

••
3. Create a login name and password. Both must be at least eight characters .
4. Log in using your newly created login name and password .
5. Complete the short survey.

•• You will use your login name and password to access the Web site in the future,

•• so write this information in the space below .

•• APICS Certified Supply Chain Professional Learning System

Login name: I Password:

••
•• en 2012 APICS
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Version 3.0, 2012 Edition

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 ••
••
Course Overview

Note that access to the online components in the CSCP Learning System Web
site is valid for one year after activation of your account. ••
Accessing the
program
Once you are enrolled, you can access and leave the program as often as you
wish. To access the program:
••
1. Go to http://www.LearnCSCP.com.
2. Click Log In to go to the APICS CSCP Leaming System login page. ••
3. Enter your login name and password.
4. Click Log In to enter the course. ••
Read the online overview, and then go to the course menu, from which you
select course components.
••
Exiting the You may exit the program from most screens by clicking Log Out. This option ••
••
program allows you to leave the program and return at a later time to where you left off. All
current scores and your current place in the tests are saved. You may start any
activity over at any time. If you start over in a test, your current score is erased.
Upon completion of that test, your new score is saved and displayed on your reports.
••
Online help The Frequently Asked Questions option on the Login screen is available to answer
common questions related to enrollment and login. If you require additional assistance, ••
please contact APICS CSCP Leaming System Customer Support at 1-888-266-9079
(USA/Canada) or+ 1-651-905-2664 (worldwide), Monday through Friday, 8 a.m. to ••
5 p.m., central time.

For specific details regarding the certification exam, please visit www.APICS.org/cscp .
••
Learn more The APICS CSCP Learning System combines printed material and online ••
software plus an instructor-led option to enhance your learning effectiveness.
Go to www.APICS.org/cscp to learn more about the advantages of APICS
membership, the power of certification, and the various learning options.
••
+ Completingthe Course
••
Increase your The APICS CSCP Leaming System is based on the APICS CSCP Exam ••
knowledge base with
this enjoyable and
complete program as
Content Manual (ECM). Using a blend of printed text and on line practice
testing and learning reinforcement activities, the course provides an enjoyable ••
you preparefor the
AP/CS CSCP
examination and
and complete preparation method for the APlCS CSCP certification exam.
••
••
develop your You may complete the course in any order. The following describes the
professional recommended, step-by-step method.
expertise.

I[) 2012 AP ICS 11

@
Version 3.0, 2012 Edition ••
All rights reserved Priorcd on ml"'. po,;t-<'<>OSUOlC' W"-"C recycled paper.

•
••
••
•• Step 1: Review the "Introductionto CSCP" tutorial.

•• • The introduction
Once you have read the description of the course on the Overview screen and
become familiar with the online components, review the first item on the menu,
"Introduction to CSCP," which is a tutorial on the Certified Supply Chain
tutorial provides an

•• overview of the
CSCP program.
Professional program. This short presentation introduces the certification
program and includes a link to access the CSCP Exam Content Manual. The

••
CSCP exam and learning system were designed to follow the ECM outline .

•• Step 2: Complete the pre-test.

•• You begin to plan your own course of study by completing the online pre-test.
This 50-question test checks your basic understanding of supply chain

••
concepts .

As you answer each pre-test question, you will know immediately if your

•• The pre-test aflows

answer is correct or incorrect and you are given a reference to the module from
which the question was drawn. If you leave the test, you can reenter it and will

•• you to evaluate your

understanding of
supply chain
have the option to either continue or restart the test. You may also print any
page by using your browser's print function.

•• concepts and focus

your study. When you have completed the pre-test, you see a report that shows your
module-by-module score. You may use this report to develop a study plan to

•• help focus your efforts on the modules you need to examine most thoroughly.
Use the print function on your browser if you want to print a copy of your pre-

•• test results .

•• The entire program

includes more than
1, 000 pages of text
m Step 3: Studythe print modules.

•• reinforced by online
practice testing and
learning reinforce-
Based upon your individual study profile, study each of the three modules at
your own pace. The modules include the following topics, which correspond to

•• ment activities. those that constitute the APICS CSCP Exam Content Manual. The APICS CSCP
certification exam questions arc distributed equally among the three modules .

•• It's important to understand how these three modules are interdependent

illustrate a natural progression of critical decisions regarding the strategies,
and

•• design, compliance, implementation, and operation of every supply chain. The

exhibit below underscores this relationship and previews key topics that arc

•• pertinent to each module. Each module is linked to the next, reflecting the need

•• ~l'J 2012 APICS

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Course Overvinv
••
••
•
for a solid understanding of concepts, terms, and processes before moving onto
the next module.

Exhibit1-1: CSCP Learning System Overview

••
Module 1:
Fundamentalsof
SupplyChain Management
Module 2:
SupplyChain Strategy,
Module 3:
Implementationand
Operations
••
Design and Compliance

••
••
Supply chain management
••
••
• Sustainability • Managing and balancing
• Network roles Design considerations supply and demand
• Processes, objectives, • Risk management • Efficiency vs.
benefits • Processes supporting strategy responsiveness

•
Financial impact • Technology • Continuous improvement
• CRM and SRM
Inventory

Module l: Fundamentalsof Supply ChainManagement(33.3%)

••
•
•
Supply Chain Management Concepts
Supply Chain Alignment with Business Strategy
••
•
•
Supply Chain Design and Improvement Considerations
Inventory Management
••
•
•
Logistics Fundamentals
Market Segmentation ••
At the end of each
module section is a
progress check.
•
•
Demand Planning
Customer Relationship Management (CRM) Concepts ••
Progress check
questions provide an
opportunity for you to
• Supply M anagemcnt Concepts

Module 2: Supply Chain Strategy, Design, and Compliance (33.3%)

••
stop and think about
what you have just
studied. They include
•
•
Sustainability
Risk Management
••
••
a page reference
with the correct • Globalization
answer to guide • Logistics
further review.
•
•
•
Managing the Supply Chain
Technology
Influencing and Prioritizing Demand •• •
•
•
Customer Relationship
Supplier Relationship
Management (CRM)
Management (SRM) ••
• Inventory Planning and Control
••
o 2012 APICS
A 11 rights reserved
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••
•• Module 3: Implementationand Operations(33.3%)

•• Each module
includes a
•
•
Supply Chain Dynamics
Managing Supply from Internal Sources

•• bibliography
referencing the
books used in the
•
•
Managing Supply from External Sources
Implementation of Demand Plans

•• development of that
module .
• Continuous Improvement

•• Step 4: Complete the section-specificquizzes .

•• Section-specific tests
check your
Each module includes section-specific quizzes. You may take as many

•• understanding of
each module .
quizzes as you like, as often as you like. After you answer each
question, you will know immediately if your answer is correct or
incorrect along with the reasoning for the correct answer. If you leave a

•• quiz, you can reenter it and will have the option to either continue or
restart the quiz. You may also print any screen by using your browser's

•• print function .

•• Step 5: Complete the module-specificeFlashcards.

•• The eF/ashcards
provide an
After you have studied each module and taken the section-specific
complete the eFlashcards for that module. The eFlashcards are drawn from the
quizzes,

•• opportunity to review
terms and definitions
by module.
glossary and represent the terms identified as key or supplemental by the
APICS Exam Content Manual. The eFlashcards present a definition of a tcnn,

•• and you supply the term. Click to "flip" the card to check your answer. You
may visit the Resource Center to download a printable version of the module-

•• specific eFlashcards .

•• Step 6: Complete the module-specificlearning

activities.

•• The learning
activities are
After you have studied the print module, taken the section-specific

••
quizzes, and reviewed the module-specific ef'lashcards, complete the
exercises designed
to reinforce the main onlinc learning activities. These exercises reinforce the concepts
concepts presented presented in the text and allow you to apply that knowledge in a real-

•• in the modules.
world application .

••
•• <D 2012 APICS v
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Course Overview
••
••
Step 7: Complete the post-test. ••
When you reach this point, you've studied all the components of the program
and are ready to measure your learning gain. The 50-question post-test draws
from a different bank than you saw in the pre-test, so all the questions are new.
• ••
••
Post-test questions After you answer each question, you will know immediately whether your
will be new. If you
don't pass the post- answer is correct or incorrect and will see the reasoning for the correct answer to
test, the program

••
help clarify your understanding. If you leave the test, you can reenter it and will
helps redirect your
have the option to either continue or restart the test.
study efforts, and
then you can take the
test again. Or use the
post-test as a
refresher to help you
After you finish the post-test, you may view a report that compares your pre-test
and post-test scores and your scores on questions related to each of the three
••
stay current. modules.
••
You may take the post-test as many times as you wish until you are satisfied
with your results. Each time you retake the post-test, your new score is saved. ••
••
All attempts are recorded in the system and available to you on the reports.

Step 8: Complete the practiceexam. ••

The practice exam
allows you to get a
Prior to sitting for the CSCP exam or to just review what you have learned, you
will want to select the CSCP Practice Exam option. This exam includes 50 ••
feel for the actual
CSCP exam.
questions written by the ECM committee-the same group that writes the actual
CSCP exam. ••
The practice exam is a useful tool to help you prepare for the CSCP exam. Its
format and functionality emulate that of the software used at the Pearson Vue
••
testing center. As such, the practice exam has the same marking and review
features as offered by the software at the testing center.
••
The test is timed to enable you to determine whether you are answering ••
questions at the pace needed to complete the APICS CSCP certification
examination within the time allotted. If you are interested in timing your test, ••
••
allow yourself an uninterrupted block of time.

As with the CSCP exam, you do not receive instructive feedback after each
question. However, the online reports allow you to see which questions you
answered incorrectly and provide source bibliography references for additional ••
information.
••
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••
•• Step 9: Review your reports.

•• Review your reports

to measure your
At any time, you may view online reports of your progress by clicking the
Reports link. The reports show the dates you have completed tests as well as

•• progress through the

course at any time. your scores for each attempt of the pre-test, section-speci fie quizzes, post-test,
and practice exam. You can use the reports to determine where you may have

•• areas of strength or weakness to direct further studying of the course .

•• Step 10: Complete the Program Evaluation.

•• Help us improve our

product offerings and
Upon completion of the course, we would appreciate your feedback. Select
Certificate of Achievement from the menu and complete the online form.

••
request your Letter of
Recognition.
Upon successful completion of the course (a post-test score of at least 80

•• percent), you can print a Certificate of Achievement (recognizing completion of

the learning system) from the Program Evaluation form.

••
••
••
••
••
••
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 ••
••
Course Overview

The following is a graphic representation of the APICS CSCP Leaming System.

APICS CSCP Learning System ••

••
•
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••
••
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••
••
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••
••
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••
••
•••
••
••
••
••
•• Module 1: Fundamentals of Supply
•• Chain Management
••
••
••
••
••
••
••
••
••
••
••
••
••
••
•• Introduction

•• There have been supply chains as long as there have been suppliers and

•• customers, but the evolving discipline of managing those chains for competitive
advantage belongs to recent decades. Even the term "supply chain" came into
common usage only toward the end of the 20th century .

•• As with many other phenomena occurring in that period of time, supply chains

•• and their management reflect the revolution in electronic communication and

the shrinking of the world into one global community-what author Thomas

•• Friedman, in his book The World ls Flat, calls the "flattening of the globe."
There were supply chains when primitive hunters brought back skins for

••
transformation into garments for use or trade. Marco Polo went east in search of
trade routes to bring raw materials from "the Orient" to Europe. But the scope,
scale, and speed of supply chain processes have all gathered revolutionary

•• momentum-and businesses around the world hasten to catch up or, in the case
of leaders like Toyota, Walmart, and Zara, to stay ahead. Their opportunities

•• result from the flattening of the global playing field and advances in technology;
their discoveries contribute to globalization and revolutionary technology .

•• Supply chain management (SCM) may be a young discipline, but like those
other young disciplines, rocket science and brain surgery, it isn't a simple one .

•• It also resembles other youngsters in its rapid rate of development. Staying

abreast of the theoretical and practical aspects of supply chain managemcnt-

•• even keeping up with the vocabulary-requires constant attention .

•• This first module in the APICS CSCP Leaming System, Fundamentals of

Supply Chain Management, provides basic information that forms a foundation

•• both for the following modules in the course and for the continuous learning
you will do later to stay current with new developments .

•• • Section A introduces essential concepts and vocabulary, including

definitions and illustrations of the terms "supply chain" and "supply chain

•• management." It also presents the supply chain processes and the SCOR00
model, compares vertical and horizontal integration, and describes supply

•• chain management objectives and benefits. The section concludes with a

discussion of the basic financial terms and financial statements that are

•• important in managing the supply chain .

•• en 2012 APICS l-1

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Module 1: Fundamentals ofSupply Chain Management
••
••
••
• Section B explores the competitive advantage of various supply chain
strategies, including their alignment with organizational capabilities and
strategy and how to resolve misalignment or gaps.

• Section C explains the need to understand the marketplace before designing

••
a supply chain as well as the key considerations in its design. The section
describes how continuous improvement opportunities can be built into a ••
supply chain design in order to reap the benefits of ongoing, incremental
process improvements. It also discusses the importance of managing change ••
•
successfully throughout the supply chain.

Section D explores inventory management from a wide variety of

••
perspectives=the need for inventory, different types of inventory
management, the flow of inventory, and its functions in the supply chain. ••
The categories of inventory-related
organization's
costs and inventory's effects on an
financial statements will round out the discussion. ••
• Section E looks at the fundamentals of logistics, its related functions, the
custom-tailored value proposition, and the types of logistics service
••
providers and their inherent advantages and disadvantages. The activities
involved in reverse logistics are explained, along with how a supply chain ••
can be designed to facilitate this reverse flow of products from the end users
in a manner that benefits the manufacturer and society. ••
• Section F examines the reasons for identifying market segments, how it is done,
and how to leverage the knowledge of the wants and needs of each segment.
••
• Section G explores demand planning, including methods for forecasting ••
demand, demand management components and their linkages, and the
functional responsibilities and how those areas interface. ••
• Section H looks at the basic concepts of customer relationship
(CRM), including the need for CRM and its scope, elements, and benefits.
management
••
The section concludes with tips on implementing CRM and how customer
information can be leveraged in the supply chain. ••
• Section T describes supply management concepts such as total cost of
ownership, outsourcing and offshoring, factors to consider in a make-
••
versus-buy decision, and types of buyer-supplier
explains how to develop supply plans and foundational
relationships. It also
concepts of supplier ••
relationship management (SRM).
••
••
•..
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••
••
•• Section A: Supply Chain Management Concepts

••
•• This section is designed to
• Define and illustrate the supply chain in terms of entities, structures, and flows

•• • Identify and describe key supply chain processes

••
• Describe the SCOR~ model and its use for improving supply chains

• Differentiate between vertical and horizontal integration

•• •
•
Define supply chain management and its objectives and benefits
Describe the stages of supply chain evolution globally and within companies

•• •

•
Identify specific ways in which supply chain management creates value for all stakeholders

Define key financial terms

•• • Explain key financial statements that are commonly used in supply chain management .

••
•• It's a World of Global, Complex, Interdependent Supply Chains!
•• When the 8.9 magnitude earthquake and resulting tsunami hit Japan in March
2011, initial concerns and the world's focus were on the people of Japan. As the

•• weeks progressed, it started to become clear in just how many ways we are all
connected and that the entire world was affected by this event. These are just a

•• sampling of the headlines and paraphrased news stories in the weeks that
followed:

•• • Wall Street Journal, "Quake Disrupts Key Supply Chains." Dozens of

semiconductor factories had their operations affected by the earthquake,

•• raising fears of shortages or price increases for a number of widely used

components ... other manufacturers are likely to be affected by disruptions of

•• transportation of finished goods to airports or ports as well as the movement

of employees and supplies to production plants .

•• • Financial Times, "Multinationals Warn over Japanese Supplies."

Multinational companies in several sectors are warning of supply chain

•• disruptions after the earthquake, tsunami, and nuclear crisis in

Japan .... General Motors became the first international group to announce a

••
I.
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Module 1: Fundamentals of Supply Chain Management
••
••
direct impact on production after the disasters .... Sony Ericsson, a
smartphone joint venture between the two companies, said its supply chain
would be affected, and German carmaker Volkswagen warned of a possible
••
medium-term components shortage.
••
• JP Morgan Insights newsletter, "Asia: The Impact from the Earthquake in
Japan." It is believed that the adverse impact of the Japanese earthquake on ••
•
Asia is primarily via a supply chain disruption due to reduced exports from
Japan given the interruption in power supply, factory closures, and
logistical challenges.

• Los Angeles Times, "Disaster Puts Kink in World Supply Chain." Concerns ••
are growing that the earthquake and tsunami could lead to a long-term
disruption in the world's supply of automobiles, consumer electronics, and
machine tools.
••
As millions of people around the globe extended their condolences to the people of ••
Japan for the lives lost and suffering, companies around the globe had to quickly
assess whether their business would be impacted by this tragedy thousands of miles ••
away. In many instances, those firms were not happy to learn how their supply
chains would indeed be affected by such an unpredictable natural catastrophe. ••
Even after major disasters like Japan's recent earthquake, the World Trade Center
attacks of September 11, 2001, in New York, the U.S. recession that was felt
••
worldwide in 2009 to 2010, and the volcanic eruption in Iceland in April 2010,
when aviation authorities closed the country's airspace due to a cloud of drifting
••
ash, some companies are hesitant to realize that with the global economy, actions
in one part of the world, whether planned, unplanned, human-induced, or naturally ••
occurring, seem to affect us. We are all connected.
••
••
That level of connectedness is impacting supply chain management and causing it
to evolve into a more strategic role. Managers now recognize that the actions taken
by one organization in the supply chain can influence the success of the rest of the
network. While in the past the strategic focus for many organizations was on
improving their internal quality and reducing costs, the new focus is on ••
implementing total supply chain solutions that require collaboration from partner
organizations both upstream and downstream. ••
These new global forces are being met by corresponding technological solutions in ••
••
supply chains in most nations. Collectively they are revolutionizing supply chain
management.

e ••
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•• Section A: Supply Chain Management Concepts

••
••
We want you to be prepared and ready to handle the new powerful forces that will
impact virtually every supply chain:

•• • Global expansion. The globalization of sourcing and manufacturing is making

supply chains longer and more complex than ever before, thereby requiring

•• more formal coordination and collaboration. Also, many manufacturers and

retail chains have expanded both nationally and globally, creating the need for

•• more formal mechanisms to coordinate supply chain activities.

firms that have created their own e-commerce sites can now have, or at least
In addition, the

•• •
claim to have, global exposure .

Increasedprojectcomplexity and scope. Project size and complexity are

•• increasing. Projects involve, in some cases, large teams operating at different

remote sites. Moreover, the information involved is more important than ever,

•• in larger amounts than ever, and more difficult than ever to manage manually
with the required speed and accuracy .

•• • Greatermarketvolatility. Demand is becoming more volatile and harder to

•• predict due to the increasing power and speed of information available to both
consumers and competitors .

•• Our goal is to prepare you to grasp these concepts, be confident in your actions,
and eventually thrive in the world of supply chain management. Remember that

•• "the beginning of knowledge is the discovery of something we do not understand"

(Frank Herbert, science fiction author and writer, 1920-1986) .

•• +Topic 1: Basic SupplyChain

•• Basic supply According to the AP JCS Dictionary, 13th edition, a supply chain is a "global

•• chain network used to deliver products and services from raw materials to end
customers through an engineered flow of information, physical distribution,
cash." A supply chain, in this view, comprises a network of both entities and
and

•• processes (the engineered flow), A supply chain doesn't have to be global,

the massive chains that interest us in this course-the ones that run through
but

•• corporations such as Walmart, Mitsubishi, Dell, and the clothing chain Zara-
are decidedly global in scope .

•• Exhibit 1-2 illustrates a very basic supply chain (one that isn't necessarily
global) with three entities-a producer with one supplier and one customer.

••
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Module I: Fundamentals ofSupply Chain Management
••
Exhibit1~2: The Basic Supply Chain for a Product
••
••
~~-- Reverse product flow ~ ••
-.'. [ Producer J ~ c:sto~: f ••
.......... Primary ~
product
flow
........_ Primary /
product
flow ••
Primary cash flow
••
Three entities These "entities" that perform the processes can be business or governmental
organizations or (at least in theory) individuals. They can also be departments or ••
functional areas or individuals within a larger organization;
well as external supply chains. For the most part the model applies to
corporations.
there are internal as
• ••
Most work on supply chains, both theoretical and applied, involves a
manufacturing firm in the middle (although service firms also have supply ••
chains) with a supplier of materials or components on the upstream side and a
customer on the downstream side. Technically, a supply chain needs only those ••
three entities to exist, but that isn't realistic for the types of global supply chains
of interest in this course. ••
The simplified chain in Exhibit 1-2 might be made up of these organizations:
• A supplier, a provider of goods or services or a seller with whom the buyer ••
does business, as opposed to a vendor, which is a generic term referring to
all sellers in the marketplace. The supplier provides materials, energy, ••
services, or components for use in producing a product or service. These
could include items as diverse as sugar cane, fruit, industrial metals, roofing
nails, electric wiring, fabric, computer chips, aircraft turbines, natural gas,
••
•
electrical power, or transportation services.
A producer that receives services, materials, supplies, energy, and
••
components to use in creating finished products, such as dress shirts,
packaged dinners, airplanes, electric power, legal counsel, or guided tours. ••
(Note that supply chains for services may be more abstract than those for
manufacturing.) ••
• A customer that receives shipments of finished products to deliver to its
customers, who wear the shirts, eat the packaged dinners, fly the planes, or ••
••
tum on the lights.

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•• Section A: Supply Chain Management Concepts

•• An organization's supply chain or network can have many forms. It can be a

•• Structures
simple chain structure with a single strand, as shown in Exhibit 1-2, a complex
network, or any structure between those two extremes. No matter whether it is a

•• product or service chain, or what types of entities are involved, companies

require their supply chain to guarantee a steady flow of supply while at the same

•• time striving to reduce their supply chain costs. They can improve operating
efficiency by employing the right supply chain structure .

•• Depending upon the type of industry, supply chain costs can be as high as 50%

••
of a company's revenues. According to research done by A. T. Kearney, a
global consulting firm, inefficiencies in the supply chain can total 25% of a
firm's operating costs. When a company is faced with thin profit margins, like

•• 3% to 4%, even a small improvement in efficiency can double profitability .

Implementing the appropriate cost-centered structure and strategy is critical.

•• There are three main types of supply chain strategies: stable, reactive, and

•• efficient reactive .

••
The stable supply chain strategy is appropriate for chains:
• With a significant history of stability between demand and supply
• That are focused on execution, efficiencies, and cost performance

•• • That use simple connectivity technologies and have little need for real-time
information .

•• An example is a table salt manufacturer with commodity-oriented processes that

•• use scale production and dedicated capital assets .

•• A reactive supply chain strategy works well when:

• The chain acts to fulfill demand from trade partners' sales and marketing

••
strategies
• The chain is perceived as a cost center by all involved
• The chain needs minimal connectivity technologies and capital assets to

•• •
respond to demand
Ensuring the throughput at any cost is the chain's primary goal.

•• An example of this strategy is a manufacturer of sports team apparel for the fans

•• of competing rivals in the world championship soccer tournament. When a team

makes it to the next round, more products are needed. However, for the losing

1•
1•
learn, demand virtually disappears for their apparel.

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Module l : Fundamentals of Supply Chain Management
••
••
•
With an efficient reactive supply chain strategy, the chain:

••
• Supports competitive positioning by serving as an efficient, low-cost, and
integrated unit
• Focuses efficiency and cost management on the total delivered cost of

•
finished goods
Places greater importance on connectivity technology and new equipment to ••
automate functions to reduce labor costs and improve capacity and
throughput. ••
An example of this strategy is the supermarket chains in the Netherlands, where ••
••
the shops, distribution centers, third-party logistics providers, and manufacturers
cooperated to replace what is sold in the shops within less than 24 hours.

All of these models are rather simplified in that they perceive the supply chain as
a cross-company cost center. Their metrics focus on the return on investment ••
(ROI) of the individual trading partners but not on the potential
value and collaborative payback. As you will learn in Module 2, the more
for joint strategic
••
••
sophisticated supply chains-those having network partners with highly
integrated and synchronized connectivity-focus more on value than on cost.

Four flows Four basic flows connect the supply chain entities together:
• The flow of physical materials and services from suppliers through the ••
intermediate entities that transform them into consumable items for distribution
to the final customer ••
• The flow of cash from the customer back upstream toward the raw material
supplier
••
••
• The flow of information back and forth along the chain (also back and forth
within the entities and between the chain and external entities, such as
governments, markets, and competitors)
• The reverse flow of products returned for repairs, recycling, or disposal
(This is called the reverse supply chain, and it is handled by reverse logistics,
••
which involves different arrangements than the forward logistics
materials and products in the other direction. This topic is discussed in more
that carried
••
Supply chain
detail in Section E, "Logistics Fundamentals," in this module.)

Consider, as a very simplified instance of this stripped-down supply chain model,

••
example a young street vendor who sells just a few light snacks. This is a familiar sight on
warm summer days around the globe, whether it is fresh crepes in Paris, roasted
••
chestnuts in New York, or small servings of spicy tapas in South America. In
many ways, the food vendor on the street resembles small family businesses that ••
exist in cities all across the world.
••
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••
•• Section A: Supply Chain Management Concepts

••
••
This simple street vendor represents one end of a supply chain. The supplier is
probably a small wholesale food distributor that sells basic ingredients to many
one- or two-person food kiosks. The worker is the "producer" who turns the raw

•• ingredients into crepes, roasted nut mixes, or a variety of easy-to-eat tapas. The
stand, operated by one or two owners, is the retailer that sells the finished

•• delicacies to the customers or passersby who are cajoled into making a purchase .

•• Notice that even in this simplest of supply chains, the basic model needs
amplification. For instance, there are more suppliers than one. While flour and

•• nuts may be procured from the same supplier, water to warm the stainless steel
food containers comes from the employee's kitchen faucet, and the supplier of
that water may actually be a government entity rather than another business .

•• Electricity is supplied to light this mini "manufacturing center." Nearby is a food

preparation area with refrigeration for storing the perishables needed plus shelves

•• and drawers to hold various basic supplies, such as tongs and other utensils. There
is also wood to build the stand and a white board and markers for making signs to

•• advertise the day's offerings. Somewhere in the chain, though they remain
invisible in our model, arc suppliers' suppliers, who bring materials, components,

•• or services to the food wholesaler and the utility companies.

Manufacturing Exhibit 1-3 at least hints at the organizational complexity that appears in corporate
•• supplychain
model
supply chains by adding a second tier of suppliers and more distribution centers
and customers.

•• Exhibit1-3: ManufacturingSupplyChain Model

•• Information flow

•• '. 2 ma·t
I far.supp ..erials
I ier ·1 ·- .. ·-··-.
Tier I materials
Distributor
H~~::mer I

••
supplier
Tier 2 materials .., ; ~ Customer I
supplier

•• 1· I ier 2 service
I supplier
- .,. ·················-,;;:::----·

•• ! Tier 2 materials .. f
I

:
I_____
supplier
, Tier I service
---~····

Distributor
Customer

•• I'icr 2 service
supplier
c___s_u_pp_li:~__j
Customer

••
Primary Primary
product flow--+-...- cash flow

•• ![)2012 APICS 1-9

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Module I: Fundamentals ofSupply Chain Management
••
••
••
Notice that there are suppliers of services as well as materials. Discussions of
supply chains typically put manufacturing at the center and suppliers of
components to the immediate left. It may be that component suppliers are the
most crucial consideration when designing and managing a supply chain for
manufactured products, but utilities and other services are not inconsequential ••
contributors to the cost of operations.
••
In the case of our food vendor on the street, services most obviously include
utilities, transportation, warehousing, carpentry, and cleanup, among others. ••
••
Utilities, which are suppliers to all manufacturers, are crucial considerations
when locating plants and warehouses. If water and electricity (or natural gas, or
both) are not available at a proposed site, they cannot be readily made available.

The exhibit also shows that Tier I suppliers have their own suppliers in Tier 2.
••
The wholesale food distributor that supplies the daily ingredients
materials for the menu items has its material and service suppliers-and they
and raw
••
have their suppliers, and so forth. The flour for the crepes, for instance, is not a
raw material but a product with its own supply chain that begins in a farmer's ••
••
wheat field and is processed in a plant, shipped to a wholesaler, and distributed
to the corner store. No matter how far you travel toward the left, you will never
run out of new tiers of suppliers.

Even a raw material extractor, such as a coal mine, has its own suppliers of
••
extraction machinery and services. In fact, the coal mine may ship coal to a
generating plant that supplies power to the manufacturer that produces a ••
machine that is shipped to a distributor that sells mining equipment to the same
mine that began the process; supply chains can double back on themselves. (A ••
••
distributor is a business that does not manufacture its own products but
purchases and resells these products.)

Services also
have supply
Although the traditional supply chain model was developed in manufacturing,
the service industry, too, has supply chains. According to the AP/CS Dictionary, ••
chains 13th edition, a firm in the service industry is "in its narrowest sense, an
organization that provides an intangible product such as medical or legal ••
advice." In its broadest sense, service industries include "all organizations
except farming, mining, and manufacturing. It includes retail trade; wholesale ••
••
trade; transportation and utilities; finance, insurance, and real estate;
construction; professional, personal, and social services; and local, state, and
federal governments."

••
••
•..
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•• Section A: Supply Chain Management Concepts

••
••
Service-oriented supply chains also require sophisticated management. Exhibit
1-4 illustrates, in simple form, the supply chain of an electric utility. It receives
products, services, and supplies of its own and dispenses its services into three

•• distribution channels: home customers, commercial customers, and other

utilities .

•• Exhibit1-4: ElectricUtility SupplyChain

•• l- Fuel supplies -:_J~

-,

•• • '..Electric b~ckup power1

'

~"""
·---· ·-~··- '·~--

"'"'~"~~, I .-..,-.J:•••••..••··
-.
.....~ ,,~~--O_th_e_r_u_til_it_ie_s_---"

~ Home customers

•• ; Facility maintenance
-
J ·

'/
/'

/
!' . . .r.: . --. ·---. ------·-·--·-,
· 1 Commerc1al customers I

•• l!_:~~ram1~~ng services
/
/

••
•• The flows in our street vendor example aren't quite as simple as might be
supposed, either. The "products" that move through the chain could include

•• materials, supplies, and the components used in the production

items. Information flows may be fairly rudimentary: orders submitted by end
of the menu

•• users (eaters) of the product, by the distributor (the person on the street with the
cart) to the manufacturer (the person who assembles the ingredients), and by the
manufacturer to the supplier (the source of the food). There will be recipes and

•• shopping lists, discussions of potential demand, perhaps records of last year's

results. The flows of cash may be based upon information contained in cash

•• register or credit card receipts .

•• Cash travels in several separate flows from the manufacturer to suppliers of

products and services and, of course, to any lenders or investors for debt or

•• dividend payments. There are also logistics concerns: transportation

entity to the other-perhaps drawing upon the private fleet of a car or two--as
well as the warehousing decisions. And, finally, the reverse supply chain-
from one

•
••
you'll read more about that later in this module-exists to return any
unacceptable menu items, to recycle the vegetable waste into a composter, to
reuse utensils and other supplies after sterile cleansing, and to dispose

•• responsibly of any packaging .

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Many global businesses began in someone's home office, garage, or basement

with the glimmering of an idea for, let us say, a computer operating system or a
new idea for consumer-to-consumer e-commerce. Perhaps the food vendor
••
comes up with a new twist on the old recipe for crepes; a customer is impressed
and asks if the vendor can make 50 crepes for a lunch-time birthday celebration
••
at his nearby office; someone at the birthday lunch owns a neighborhood
restaurant ... and before long the vendor has rented space in a small commercial ••
kitchen facility to supply special made-to-order crepes for local businesses
within a few blocks. It's surprising how many challenges and opportunities can ••
be anticipated and can be seen most easily in a very simple model.
••
••
Summing up There are many variations on the basic supply chain models presented so far.
Here are some basic points to keep in mind as the discussion continues and
grows more complex.

• A supply chain involves, directly or indirectly, everyone and everything ••

required to extract materials, transform them into a product, and sell the
product to a user. ••
• Supply chains include various entities, such as raw material extractors,
service and component suppliers, a material product manufacturer or a ••
•
producer of services, distributors, and end customers.

Supply chain structures vary based on demand history, business focus, and
••
needs for connectivity, technology, and equipment.
••
••
• Supply chains can be viewed in terms of processes, such as the gathering
and processing of marketing data, distribution and payment of invoices,
processing and shipping of materials, scheduling, fulfillment of orders, and
so forth. Such functions cut across entities.
••
• Supply chains include various flows as well as various entities. Materials
and services flow from suppliers toward customers; payment flows from
customers toward suppliers; information flows both ways. Supply chains
••
also run in reverse, starting with the customer who sends back such items as
components for replacement or repair, returned goods for remanufacture,
••
and obsolete goods for recycling or disposal. The reverse chain, like the
forward chain, also comprises information flows and cash or credits. •
••
Supply chain expertise is so important in today's business world that an annual
survey is conducted to identify the 25 best supply chain leaders based on
specific criteria. It's a major accomplishment to be named to that list and an
••
••
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•• even higher compliment when a company manages to remain in that top echelon
of supply chain performers for consecutive years. Check the on line Resource
Center for a link to those survey results and to see which companies are top-

•• ranked for their supply chain management expertise .

•• -t- Topic 2: The SCOR® Model: Linking Processes, Metrics,

Best Practices, and Technologies
•• [n this discussion of supply chain processes, we' 11 describe one of the more

•• widely accepted and used process-oriented models: the Supply Chain

Operations Reference (SCOR'.i!J) model. The SCOR model is "a process
reference model developed and endorsed by a nonprofit corporation, [the]

•• Supply Chain Council (SCC), as the cross-industry standard diagnostic tool for
supply chain management" (APJCS Dictionary, 13th edition). It reflects the

•• collective wisdom of years of field-based practices and provides a unique

framework that links business processes, metrics, best practices, and technology

•• features in a unified structure .

•• The SCOR model is used by SCC members to enhance their understanding of

their supply chains and associated processes and to improve their supply chain

••
management systems and practices. SCC membership is open to all interested
corporations, nonprofit organizations, government and military agencies,
consultants, and academicians .

•• The SCC carefully defines the boundaries within which the SCOR process model

•• applies. Specifically, it does not apply to all business processes, only to those
involved in the supply chain as the chain extends two tiers in both directions from
the company at the core. This is shown in Exhibit 1-5 on the next page .

•• •
•
At the center is "Your Organization."
To the immediate right is the first tier of customers, which can be either

•• •
internal or external.
To the left is the first tier of suppliers, which, again, can be either internal or

•• •
external.
The model goes out two tiers in both directions; the second-tier suppliers

•• and customers are assumed to be external.

••
The main focus of the model is on the chain's management processes: plan,
source, make, deliver, and return. These processes-which are not traditional
functional areas or departments-exist within the member firms of the chain .

•• All the processes are carried out by the central triad of chain members .

••
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••
Exhibit 1-5: Supply Chain Operations Reference (SCOR) Model

••
••
••
••
••
••
••
Source: Adapted from Supply Chain Council, Inc.

The members at each end of the chain (a raw material supplier and a retail
outlet, for example) perform only two processes (the supplier's
only delivery and returns, while the customer's customer manages only
supplier handles ••
sourcing and returns). This model can also be applied to supply chains
containing many more linked firms.
••
SCOR Version IO.O does apply to the following activities: ••
•
•
All customer interactions from order entry through paid invoice
All product transactions (defined as physical materials and services), ••
•
including equipment, spare parts, bulk product, and software, among others
All market interactions from understanding aggregate demand through ••
order fulfillment

SCOR Version 10.0 does not apply to the following processes: ••

•
•
Sales and marketing (defined as demand generation)
Research and technology development ••
•
•
Product development
Some elements of post-delivery customer support (But it does include ••
returns as a fundamental process.)

(The SCOR model assumes that the product has already been designed and
•• •
tested for production. However, the design of a product may significantly
influence the functioning of the chain, so supply chain representatives should
play a role in the design process, as you'll see in Section C of this module.) ••
••
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•• Section A: Supply Chain Management Concepts

•• SCOR does not address the following but assumes that they exist:

•• •
•
Training
Quality

•• •
•
Information technology (IT)
Administration (other than SCM administration)

•• You will be learning more about SCOR and its metrics later in this module and

•• in Module 2 .

Next we'll look at how supply chains have evolved over the years, moving from

•• vertical chains to the lateral supply chain management that is now widely
practiced around the globe .

•• *Topic 3: Vertical versus Horizontal Integration

•• Shift from Finns have generally pursued one of two types of supply chain management, called

•• verticalto
lateral
vertical integration and lateral (or horizontal) integration.

Vertical integration, or vertical supply chain management, refers to the practice of

•• (horizontal)
supplychain
management
bringing the supply chain inside one organization. For instance, in the early days of
the American automotive industry, Henry Ford pursued a strategy of owning and

•• controlling as many links in the automobile supply chain as possible. Another

example is a paper company that was fully vertically integrated by owning its land

•• • and trees, replanting for future harvests, owning the related equipment it used, and
managing all of its product processing, palletizing, and shipping. (The company
purchased only its chemicals from an outside source.) While this vertical structure
still persists in some companies, it is very challenging to be fully integrated end to

•• end .

•• Some companies have a blend of structures, for example, outsourcing supply chain
management but keeping other core competencies vertical. It's difficult for one

•• corporation to garner the expertise needed to excel in all elements of the supply
chain, and it increases their risk, so corporations around the globe have turned
instead to outsourcing those aspects of their business in which they judge themselves

•• to be least effective. Philips, a manufacturer of light bulbs, uses third-party providers

for some of its supply chain activities. Ford divested itself of the production of many

•• components, as Chrysler Corporation shed its Mopar (motor parts) division and
General Motors turned loose its component supplier to become Delphi Corporation .

•• Now lateral supply chain management has replaced vertical integration as the
favored approach to managing the myriad activities in the supply chain. The lateral,

••
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or horizontal, approach is assumed in most supply chain illustrations, including the

ones featured so far in this text. We usually assume that the customer-producer-
supplier illustrations refer to three separate companies. This is, of course, not
••
necessarily the case; the entities could be departments within one cornpany=.a
supplier of tires in one department, an assembler of finished automobiles in another
••
(the assembly line), and a wholly owned dealership at the customer end.
••
Horizontal chains are now the way of the world and, therefore, the major focus
of supply chain theory and application. In this discussion of how supply chains
have evolved over time, we will look first at vertical integration and then
••
examine the development of lateral supply chains.
••
Vertical
integration
By bringing many supply chain activities in-house and putting them under
corporate management, vertical integration solves the problem of who will ••
design, plan, execute, monitor, and control supply chain activities.

A vertically integrated enterprise may grow from an entrepreneurial base by

••
adding departments and layers of management to accommodate expansion, or it
may be built through mergers and acquisitions. Jn an attempt to create a self-
••
sufficient enterprise, Ford owned iron ore mines, steel mills, and a fleet of ships
as well as the manufacturing plants and showrooms that built and distributed the ••
cars bearing his name (and, eventually, Lincolns and Mercurys as well).

Exhibit 1-6 illustrates the vertical integration of a supply chain.

••
Exhibit 1~6: Vertical Integration/Supply Chain Management a la Henry Ford ••
Ownership
Management
j: ••
Marketing/Sales
Finance
---·- ·-----
••
Showroom " -4 Ford customer ••
Control
---~;st,;h"'mn .... =r~ )
••
--1 Plant I(
Primary materials!
______ ~---~ ) product flow
r./
••
Component production

=-~aw mate;j~l·~----y
\
••
•••
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•• The primary benefit of vertical integration is control. A department or wholly

owned subsidiary with no independent presence in the marketplace can't deal
with competitors to sell its components or services at a higher price. Its

•• operations are completely visible to the parent company (at least in theory) and
can be synchronized with other company functions by directives from the top .

•• Its schedules, workforce policies, locations, amounts produced-s-all aspects of

its business=-are controlled by the overarching management.

•• Lateral When corporate ownership turns instead to outsourcing various activities, it

••
loses control of these aspects of the supply chain and will deal separately with
integration
members of the chain as suppliers or customers. Each of them will focus on
their core competencies such as extraction or production and deal with each

•• other through discrete transactions or by longer-term contracts .

•• Some Japanese companies favor an intermediate form of integration called

"keiretsu." The APJCS Dictionary, 13th edition, defines keiretsu as follows:

•• A form of cooperative relationship among companies in Japan where

the companies largely remain legally and economically independent,
even though they work closely in various ways such as sole sourcing

•• and financial backing. A member of a keiretsu generally owns a limited

amount of stock in other member companies. A keiretsu generally

••
forms around a bank and a trading company, but "distribution" (supply
chain) keiretsu alliances have been formed of companies ranging from
raw material suppliers to retailers .

•• Among the reasons for relying on a lateral supply chain, the following stand out:

•• • To achieve economies of scale and scope. No matter how large the

corporation, its internal supply chain functions lack economies of scale when

•• compared with the potential capacity of an independent provider of the same

product or service .

•• • To improve business focus and expertise. Vertical integration, in a globally

competitive market, multiplies the complexity of managing disparate

•• businesses spread across international borders, time zones, and oceans. The
independent company that focuses entirely on its particular business can

••
develop more expertise than an in-house department, leading to more
attractive pricing, higher quality, or both .

•• • To leverage communication and production competencies. Today many of

the barriers to doing business at a distance have been reduced or minimized .

•• Nearly instantaneous communication means that information can be shared

simultaneously by videoconference or in internal organization Web boards or

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chat rooms. There are advantages to using already established companies that
know their local markets. Many apparel companies in Europe, for example,
work through Dutch logistics centers to take advantage of Holland's central
••
location and because a number of specialized firms have sprung up there with
well-developed capabilities in handling both the distribution and the return of
••
clothing.
••
Despite the benefits of the lateral chain, however, synchronizing the activities of
a network of independent firms can be enormously challenging. What each firm
gains in scale, scope, and focus, it may lose in ability to sec and understand the
••
larger supply chain processes=-or to care about them.

Exhibit 1-7 hints at the complexity of a multitiered chain. As you can see,
•••
"horizontal" doesn't quite capture the complexity of the global supply network
with multiple connections around the world and information shared on networks ••
••
connected all along the chain.

Exhibit 1-7: Lateral (Horizontal) Supply Chain

Information flows
••
Raw
Components Plant Distribution
..
y· Retail
••
••
materials Customers
----- -----
..
.r > . .

Primary
• • Primary

••
product flows cash flows

Stages of
supply chain
The advances made over the past few decades in supply chain management are
generally reflected in each supply chain's development. Experts in the field
••
management
evolution
agree that there are typically between four or five sequential stages.
••
Supply chain evolution often includes the following:

• Stage I-Multiple dysfunction. The (potential) nucleus firm lacks clear

••
internal definitions and goals and has no external links other than
transactional ones.
•••
••
• Stage 2-Semifunctional enterprise. The nucleus firm undertakes
initiatives to improve effectiveness, efficiency, and quality within
functional areas. While some or all functions engage in initiatives designed
to increase efficiency within their departmental walls, there is little or no
overlap in decision making from one department to another. ••
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••
••
• Stage 3-lntegrated enterprise. The firm breaks down silo walls and
brings functional areas together in processes such as sales and operations
planning (S&OP) with a focus on companywide processes rather than

•• individual functions .

•• • Stage 4--Extended enterprise. The firm integrates its internal network

with the internal networks of selected supply chain partners to improve

••
efficiency, product/service quality, or both. The starting point is generally
one inside/outside partnership that points the way toward the completely
networked enterprise .

•• Whether the supply chain ownership strategy rests on vertical integration,

•• lateral integration, or a compromise (like keiretsu), the relative sophistication

with which the chain is managed develops along the continuum that we have

••
divided into these four states. Let's look at these stages in greater detail.

Stage 1: multiple It's possible for the nucleus firm in a lateral supply chain to lack any

•• dysfunction disciplined management for both its internal and external chains. Exhibit 1-8
illustrates the lack of coordinated flows of information or solid relationships

•• among potential partners .

Exhibit1-8: MultipleDysfunction

•• • Gp~~ri) Purchasing
~
Marketin~\
sales
(~_:istome~)

•
••
(~~) Production
control
(customer~)
·--~- _.-~

- ~- ~
Logistics Distributioy

• Materials/
......... _
•• products/services Payments -----

•
••
In the dysfunctional
•
organization, this is what tends to happen:
Internal activities tend to be undertaken impulsively rather than according
to plan .

•• • Management provides only the most general sense of mission,

communicated perhaps by pep talks at best or threats at worst.

•• • Forecasting tends to be mostly guesswork, often inflated by unwarranted

marketing optimism .

•• • Products are designed without advice from other areas that could provide
guidance, such as manufacturing or marketing .

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Module/: Fundamentals ofSupply Chain Management
••
••
• Warehouses are sited near each market, stocked with an overabundance of
inventory in anticipation of a big sale, and staffed with manual laborers who
have little training.
••
• Trucks or trains are unloaded when they arrive and loaded when an order
comes in, without much advance warning in either case.
••
• There may be flows of payments (but collection may be poorly executed) as
well as materials, but the exchange of information tends to be tied mostly to ••
•
giving orders internally, accepting bids, and sending invoices.
Material requirements planning (MRP) takes place at a basic level, ••
involving a bill of material (BOM), a master schedule, and current on-
hand/on-order data. ••
Stage 2:
sem ifunctional
Exhibit 1-9 provides an illustration of the semifunctional enterprise. Information
flow has been improved and functional areas have been defined-but they tend
••
enterprise
to perform their functions one after the other without collaborating on the most
effective ways of creating value. At this stage, there are no partnerships with ••
customers and suppliers.

Exhibit1-9: Semifunctional Enterprise

••
.....,_ __ Information ---t•• ••
••
Supplier (.Customer

:~ Supplier Customer

Materials/
products/services Payments ----
••
Reverse product flow ------------

••
In the second stage of supply chain evolution, an individual firm undertakes
initiatives to improve specific functional areas. Here are some examples: ••
• The largely manual operations in warehouses may be augmented by the
addition of basic materials-handling equipment. ••
• Inventory management may find ways to reduce levels of inventory
within the firm's own facilities. ••
•

•
Procurement might take advantage of new purchasing strategies to obtain
supplies and services at the lowest possible prices.
The traffic department may reduce transportation costs by strategic
••
•
selection of carriers and routes.
Some departments may institute more effective hard skills training and
••
adopt strategies for making jobs more challenging.
••
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••
Section A: Supply Chain Management Concepts

•• •
•
Marketing may develop more reliable research and forecasting techniques .
Manufacturing resource planning (MRP If) software may be in place, and
the company may have cross-functional integration of planning processes .

•• When the nucleus firm concentrates only on improvements within its separate

•• departments, it may find its efforts wasted through lack of communication. For
example, market researchers and well-trained sales representatives may uncover

•• market opportunities among current and potential customers without being

provided an opportunity to share this information in a structured collaboration

•• with product designers. And this lack of collaboration may play out repeatedly
among the departments. In this stage some functions may be automated-MRP
software, for instance, may put the bill of material in the computer to streamline

•• workflow. But new software in one department may be incompatible with

current software in other areas .

•• Stage 3: In the third stage of supply chain evolution, the individual firm begins to focus

•• integrated
enterprise
on business processes rather than compartmentalized functions. Historically,
this shift in supply chain strategy is associated with the late 1980s and early

•• 1990s-the same time that personal computers were becoming more powerful,
reliable, and affordable.

•• There are a few key milestones that mark this phase: introduction of
manufacturing and enterprise-wide software, increased cross-functional

•• communication and training, centrally located and easily accessible databases

and files, and periodic sales and operations planning meetings attended by

•• representatives for all departments involved .

•• Exhibit 1-10 provides a visual representation of a linked internal supply

chain with collaboration between functions and sharing of information
through companywide enterprise resources planning (ERP) software .

•• Exhibit1-10: Integrated Enterprise

••
••
••
•• Reverse product flow

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Module I: Fundamentals of Supply Chain Management
••
••
This stage is markedly different from the previous one because of the following:

• The focus on business processes is facilitated with the increased availability

••
of e-mail, file transfers, powerful databases, and enterprisewide software
applications. Cross-functional cooperation becomes much faster and easier
and takes place almost instantaneously across functions, time zones, and
• ••
•
international boundaries.

A variety of initiatives reduce the time it takes to get an order from a supplier,
••
create the product, and deliver it to the customer, including MRP II and ERP:
• MRP has been upgraded to MRP II, a breakthrough development that
••
allows cross-functional communication between manufacturing and
finance. ••
• Enterprise resource planning (ERP) extends that process by adding
modules for each functional area until the most advanced versions tie ••
together entire companies. Further advances have reached through the
corporate wall to tie supply chain partners together. ••
• Product design in some firms is now a team effort in which production
engineers and other stakeholders, such as marketing and purchasing,
••
collaborate with design engineers to "design for marketing," "design for
logistics," "or design for the environment." This approach results in products
••
that are on target for customer desires and are ready to be manufactured
without making costly modifications in processes, equipment, or staffing. ••
• There are improvements in customer service due to astute segmentation of ••
markets and more efficient replenishment policies suited to each segment.

••
•
• Inventory is treated more strategically as Just-in-Time procedures, more
accurate demand planning, and improved logistics work together to make
fulfillment more efficient and reliable.
••
• Warehousing and transportation decisions arc carried out in tandem to achieve
the optimal balance of cost-effectiveness and customer service. ••
• Warehouse management benefits from more advanced equipment and
automation.
•••
At this point, the nucleus firm may begin to take a step toward integration with the
external members of the chain by contracting with a logistics supplier, such as ••
UPS, to "insource" by using its expertise to help optimize logistics decisions.
••
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•• Stage 4: extended
enterprise
The hallmark of this stage is the decision to extend at least one business process
beyond the boundary of the individual corporation. When the nucleus firm decides
to collaborate on planning, design, replenishment, logistics, or another business

•• process with one of its suppliers or customers, the barrier to developing the
extended enterprise from end to end of the supply chain integration has been

•• overcome. Exhibit 1-11 shows how the supply chain has changed .

Exhibit1-11: Extended Enterprise

••
•• /-Suppliers''--<' S
l .
-. -"-~-.<> ----
.

) . llpp 1. rers
--
Internal ',<'c-
.
.

/
<; 'Customers'">,
ustorners , , )

••
'--·, s_upp 1. 1crs_,"''---. c 1 ram /'-- _,/·-~ustomcrs___,,

Materials/
products/services
-<11•1----- Payments ----+
•• Reverse product Ilow

•• What is unique to this stage is the following:

•• • There is an initial exploratory collaboration between a channel master and

one or several partners in the chain--often a manufacturer and one

•• component supplier or a retailer and one supplier of finished goods. It may

involve only one component or product: the famous collaboration between

•• Procter & Gamble and Walmart began (as we'll see later) with diapers. If
this first collaboration succeeds, it can lead to a more fully networked

•• relationship between the first two partners-more products might be

involved, there might be more complete sharing of information across

•• integrated electronic networks and more formal team building and planning
across corporate boundaries, and so on. And that relationship
the model for other partnerships and, eventually, to multifinn collaborations
can become

•• that stretch from retailer through manufacturer into one or more tiers of
suppliers .

•• • Technology enables the extended enterprise to reach farther, to add new

•• partners, to move faster in response to market changes, and to operate with

broader scope than in Stage 3. With MRP II merged with other functional

•• applications and transformed into ERP, enterprisewide planning software is

able to link the entire internal supply chain together on one platform .

•• • The networked enterprise is built on intrancts, extranets, peer-to-peer

networks, the Internet, or a combination of those platforms. Partners begin to

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••
••
synchronize their ERP systems across corporate boundaries so they can share
data as necessary for their efficient collaboration. A retailer may, for example,
send information from the point-of-sale (POS) to suppliers each time a
••
customer purchases an item to trigger production of a replacement. Dell
Computer is able to fill orders taken on the Internet without keeping its own
••
inventory of machines because customers' specifications are sent immediately
through to component suppliers so the computer can be assembled to order. ••
• Cross-functional approaches are implemented with certain processes such as ••
••
CPFR (collaborative planning, forecasting, and replenishment). In place of
traditional "silo" production planning by sales, marketing, and production,
Stage 4 companies institute periodic sales and operations planning meetings
in which representatives of sales and marketing, production (or operations),
and other functions meet to coordinate demand planning and production ••
scheduling.
••
• In Stage 4, there are advances in e-commerce such as interactive sites where
customers can order products and services, track their shipment, and
communicate with customer service immediately upon their arrival.
••
Behind the scenes of such business-to-consumer e-commerce, there is also of
••
course increasing business-to-business e-commerce taking place on wired and
wireless networks. In the global arena, competition no longer takes place only ••
among individual companies; whole supply chains are now battling one another
for customers, for workers, and for capital in multiple countries across the globe. ••
••
Cooperation among companies is integral to competition among supply chains.

-t- Topic
APICS
4: Supply Chain Management Objectives
Before we discuss the objectives, it's important to define supply chain and
••
definition of
SU pply Chain
supply chain management. The definition of supply chain seems fairly solid
when you consider the chain as linked organizations-vsupplier, producer, ••
management and customer connected by product, information, and payment flows. But the
supply chain is more accurately viewed as a set of linked processes that take ••
place in the extraction of materials for transformation into products (or
perhaps services) for distribution to customers. Those processes are carried
out by the various functional areas within the organizations that constitute •• •
the supply chain. When considered as a set of processes rather than a
succession of companies, the supply chain becomes just a little more difficult
to idcntify-s-let alone manage.
••
••
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••
Section A: Supply Chain Management Concepts

••
The AP/CS Dictionary, 13th edition, defines supply chain management as "the
design, planning, execution, control, and monitoring of supply chain activities
with the objective of creating net value, building a competitive infrastructure,

•• leveraging worldwide logistics, synchronizing supply with demand, and

measuring performance globally." (Globally, in this case, can mean either

•• worldwide or applying to the chain as a whole rather than to a particular entity

within the chain.)

•• Aside from the definition, there are some other aspects of supply chain
management that should be highlighted at this time .

•• • Supply chain managementis aboutcreatingnet value. Early efforts at

•• managing chains often focused only on cost reduction---on making the

chain leaner. Unfortunately, these efforts sometimes reduced the ability to

•• create value more than they reduced costs, for a net negative effect. As
we'll see, there's more to creating value through intelligent management

•• than simply squeezing costs out of one or another activity in the chain .

••
• There should be value-creatingactivities in the supply chain that
transcend the activities of particularentities in the chain. Supply chains
are generally organized by one strong firm called a channel master or

•• nucleus firm---often a manufacturer, sometimes a powerful retailer, which

often manages those activities. Nevertheless, the chain has to produce value

•• for more than one stakeholder in addition to generating value for the
consumers or investors .

•• • Managing supply chains requires a balancing act among competing

•• interests. Given the complicated nature of group dynamics, this can be a

challenging task, especially in "worldwide" chains. Consider the rivalries
that arise among and between the 50 American states, the 25 nations in the

•• European Union, the various sects of any world religion, and the divergent
cultures around the globe .

•• Other related Although many would assume that a supply chain is, in fact, a value chain-at

•• terms: value
chain and
least it is if well managed-others may draw a distinction between the two.

A value chain is a string of collaborating players who work together to satisfy

•• mapping
market demands for specific products or services. According to the AP/CS
Dictionary, 13th edition, the value chain is made up of "the functions within a

•• company that add value to the goods or services that the organization
customers and for which it receives payment."
sells to

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Module 1: Fundamentals of Supply Chain Management
••
••
•
Value chains integrate a variety of supply chain activities throughout the
product/service life cycle, from determination of customer needs through
product/service development, production/operations, and distribution. The
intent of a value chain is to increase the value of a product or service as it
••
passes through stages of development and distribution before reaching the
end user. ••
Not all value chain activities are technically part of the supply chain, and ••
those engaged in them may not understand their role in supporting the supply
chain. Those activities might include engineering, marketing, finance,
accounting, information technology, human resources, and legal. For
••
example, managers from outside the supply chain often don't understand the
requirements of supply chain management, can't distinguish a value chain
••
from a supply chain, and consequently don't provide the SCM support
required from their areas. ••
Two closely related terms are value stream and value stream mapping. ••
As defined in the APICS Dictionary, 13th edition, a value stream is ••
the processes of creating, producing, and delivering a good or service to
the market. For a good, the value stream encompasses the raw material ••
supplier, the manufacture and assembly of the good, and the distribution
network. For a service, the value stream consists of suppliers, support
personnel and technology, the service "producer," and the distribution ••
channel. The value stream may be controlled by a single business or a
network of several businesses.
••
A value stream encompasses all the primary actions required to bring a product
or service from concept to placing it in the hands of the end user. It also ••
includes timing. Mapping the stream aids in process improvement, which will
be discussed in depth in Module 3. ••
Value stream mapping is defined in the APICS Dictionary, 13th edition, as
"drawing the current production process/flow and then attempting to draw the
••
most effective production process/flow."
••
On the following pages, Exhibit l-12 shows a basic process flowchart for a
supply chain, and Exhibit 1-13 shows how an organization can apply value ••
stream mapping to find the most effective production flow for that supply chain
process. ••
••
© 2012 APilS
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••
•• Section A: Supply Chain Management Concepts

••
•
Now that everyone has the same understanding of supply chain management,
Key
let's look at its objectives. There are five primary objectives that supply chain

•• objectives
management can help a company or organization accomplish:
• Add value for customers and stakeholders .

•• •
•
Improve customer service .
Effectively use systemwide resources .

•• •
•
Efficiently use systemwidc resources.
Leverage partner strengths .

•• We will examine each of these goals in detail.

•• Objective #1:
Add value for
Supply chain management, like any other type of business management, aims to
create value through financial benefits, match the values of its various

•• customersand
stakeholders.
customers, and appeal to the social values of its customers, stakeholders, and
community. The APJCS Dictionary, 13th edition, defines value broadly as "the

•• worth of an item, good, or service." While this merely shifts the discussion
the meaning of value to the meaning of worth, it usefully includes both goods
from

•• and services .

A related concept, which is fundamentally important to supply chain

•• management, is value added. Adding value to a good or service is the

responsibility of each entity and process in the supply chain. The 13th edition of

•• the APJCS Dictionary defines value added as "the actual increase of utility from
the viewpoint of the customer as a part is transformed from raw material to

•• finished inventory. It is the contribution made by an operation or a plant to the

final usefulness and value of a product, as seen by the customer."

•• The goal is to add value at each step in a service-oriented

in a manufacturing-oriented
value chain as well as
supply chain. Note that utility may not be the only

•• value, or worth, of a good or service from a customer's point of view. Price,

availability, and attractiveness are also values to consider .

•• Financial benefits: profitand profitmargin

Adding value that customers desire promotes increased sales, which improves

•• the bottom line. In order to be successful and have longevity, any organization
must have a positive cash flow. Making money definitely constitutes a measure

•• of success.
expenses .
Profit is money remaining from revenues after deduction of certain

•• Another related term, triple bottom line, coined by author and sustainability

•• advocate John Elkington in 1994, refers to the concept that corporate success

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Module I: Fundamentals of Supply Chain Management
••
••
••
should be also measured in three dimensions--economic, social, and
environmental-and not only by the traditional bottom line of relative
profitability.

You will be learning more about financial statements and key terms at the end
••
of this section.
••
Measuring value one stakeholder group at a time
Supply chain activities can be beneficial to one stakeholder group while being ••
harmful to another. When planning any new supply chain activity or monitoring
continuing practices, it is important to identify all the stakeholder groups and
determine the impact the activity will have on each one.
••
The primary stakeholder in any business activity is the business itself. A
••
business must be profitable to survive and create value for any other stakeholder
group. A supply chain, however, may touch many businesses, not just one. And ••
each business will have its own view of the potential value of any particular
activity. As a simple example, a supplier may decide to increase profits by ••
raising the price of goods purchased by its downstream supply chain partners.
But the resulting negative impact on those partners and on the end customer
may make a price increase unwise.
••
Customers are also significant stakeholders in supply chains. And there are
••
many customers in a supply chain, not only the consumer of the ultimate
good or service delivered through the chain. Each business must create value ••
for its customers as well as profits for itself. Moreover, the end result of each
partner's activities must optimize value for the supply chain as a whole. ••
There are also stakeholders that are external to the supply chain's business
partners and end customers. These include public or private investors, lenders,
••
and communities and governments. To investors and lenders, supply chain
value may be defined as capital growth, dividend income, or interest payments
••
and eventual return of invested capital. Value as defined by these external
partners must be considered when making business decisions. ••
Communities and local governments may also feel the impact of supply chain
operations because they affect community members and their environment, both •• •
built and natural. The location of a retail outlet, warehouse, or other supply
chain facility will have an impact on the community where it is built and
maintained. The community, and its political leadership, may judge this impact
••
••
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•• Section A: SupplyChain Management Concepts

••
••
to be a positive value or a detriment. These reactions, as well as the overall
impact on supply chain profitability, must also be taken into account.

•• Balancing varied stakeholder values

Stakeholders may-usually do, in fact-have different views of what value a

•• supply chain should create. So managing a supply chain successfully sometimes

requires balancing increases in value for one stakeholder with decreases for

•• another. Everyone must be satisfied enough to continue participating .

Customers have to keep buying, investors have to keep investing, workers have

•• to keep showing up and giving their best, communities must be satisfied with
each supply chain partner's impact on social and environmental values, and so
on .

•• Exhibit 1-14 lists some typical supply chain stakeholders and various values

•• they may realize from supply chain management.

Exhibit 1-14: Supply Chain Stakeholder Values

•• Supply Chain Stakeholder

•• Stakeholders
Firms in the supply chain
Values
Profit margin, market share, revenues, expenses, image and
reputation

•• End customers Affordable, safe, attractive, useful products; affordable, timely,

secure, easy, pleasant services; sustainable manufacturing

•• Investors
practices
Return on investment (capital growth, dividend income),
comprehensive and comprehensible communications

•• Lenders
Communities/
Interest rate, long-term stability, return of principal
Tax base enhancement, sustainable manufacturing practices,

•• environment

Governments
environmental impact (safety, esthetics, convenience, natural
resources), growth of attractive jobs
Legality, regulation, overall impact on community members and

•• Employees
environment
Job security, wages and benefits, opportunity, good working

•• conditions, sustainable and safe manufacturing processes

•• Stakeholder value: green, sustainable supply chain management

As you can see in Exhibit 1-14, one value that is important to most of these

•• groups is sustainable manufacturing processes and practices, because it impacts

so many around the globe. Green supply chain management (GSCM) has been

••
brought to the forefront of most companies' strategic goals in response to
demands from consumers and stakeholders. This has become a global issue to

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Module 1: Fundamentals of Supply Chain Management
••
••
••
the extent that the United Nations developed a Global Compact to define
sustainability in a broad perspective:

The management of environmental, social, and economic impacts, and

the encouragement of good governance practice, throughout the
lifecycles of goods and services. The objective of supply chain
••
sustainability is to create, protect, and grow long-term environmental,
social, and economic value for all stakeholders involved in bringing
products and services to market.
••
In previous decades, the traditional supply chain focused on cost, quality, and ••
service, which included some attention on environmental impact. Today GSCM
requires supply chain managers to integrate environmental thinking into each ••
step within the supply chain. That means that they must employ innovative
environmental technologies to provide practical solutions to the environmental ••
••
problems facing the global community. This approach impacts nearly all the
activities from cradle to grave of a product.

The AP/CS Dictionary, 13th edition, defines a green supply chain as follows:
••
••
A supply chain that considers environmental impacts on its operations
and takes action along the supply chain to comply with environmental
safety regulations and communicate this to customers and partners.

Sustainability figures significantly in supply chain management decisions for

the following reasons.
••
• Government and regulatory pressures-myriad laws, regulations, and ••
treaties related to pollution prevention and control to prevent the dissipation
of harmful materials into the environment ••
• Good environmental management and sustainability concerns-
organizational efforts to conserve energy, reduce waste and carbon ••
•
footprints, and recycle

Public opinion and the power of consumer choice-heightened

••
consumer awareness about protecting the environment and preserving the
earth's finite natural resources and increasing demand for green products
••
• Potential for competitive advantage-increased resource efficiency and ••
reduced costs that can improve the financial bottom line across multiple
supply chain partners, build a reputation for eco-friendliness,
talented employees, and inspire loyalty in customers
attract
••
••
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••
••
Section A: Supply Chain Management Concepts

•• In addition to adding value, sustainable supply chain management can make

good business sense, as illustrated in the following examples .

•• • Drive growth. Worldwide, there are increasing expectations for

organizations to meet broader social obligations. Organizations must

•• answer questions about how green their manufacturing processes and

supply chain are, what their carbon footprint is, and how they recycle .

•• Annual surveys of global chief operating officers conducted by the

international consulting firm McKinsey & Company confirm that

••
companies expect the focus on environmental performance to continue
to grow. Fulfilling such public responsibilities can increase customer
loyalty, sustain market share, and strengthen brand awareness (whereas

•• ignoring them may lead to market decline) .

•• • Reduce costs. Organizations are realizing cost savings by reducing the

environmental impact of their business processes. When a supply chain

•• is reevaluated, from purchasing, planning, and managing the use of

materials to shipping and distributing final products for environmental
performance, savings are often found by implementing green policies .

•• An obvious example is reduced energy bills from energy efficiencies .

But there are more subtle, less tangible benefits, such as reduced

•• employee turnover because of staff pride and loyalty. Close working

relationships with suppliers on green initiatives can lead to increased

•• knowledge, integration, and cooperation and, in turn, greater efficiencies

and integration in the supply chain .

•• Robust analyses of businesses now often include assessments of

environmental initiatives, as presented in Exhibit 1-15 on the next page .

•• Without forward-looking environmental and social policies and supply chain

practices, an organization's reputation may suffer among investment

•• analysts. Green supply chain management is here to stay and adds important
stakeholder value. There is additional information in Module 2, Section A,

•• relating to sustainability activities that fall into the category of continuous

improvement initiatives .

•• The discussion that follows focuses on three types of value that supply chains
should create-vfinancial, customer, and social=-regardless of whether they are

•• functioning within for-profit companies; nonprofit, charitable, or governmental

organizations; or branches of the military .

••
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Module I: Fundamentals ofSupply Chain Management
••
••
Initiatives
Exhibit1-15: Initiativesand the Green Supply Chain

••
Compliance
Examples
Organizations comply with international treaties such as the
Montreal Protocol, which is designed to phase out production
••
and use of chemicals depleting the ozone layer, or the Kyoto
Protocol to the United Nations Framework Convention on
Climate Change, which has legally binding carbon reduction
••
targets and commitments to reduce greenhouse gas emissions.
(Note: The U.S. did not sign the Kyoto Protocol.) Compliance
includes observance of country regulations such as the carbon
••
Education and training
auditing system in the U.K. or the U.S. Environmental Protection
Agency's regulations.
Worldwide, there is participation in college and university
••
degrees, certificate programs, professional development
courses, and on-the-job training for sustainable energy,
environmental and carbon footprinting, and other green topics.
••
Logistics Efforts are widespread to reduce fuel consumption. There is less
use of air freight; increased use of rail transport, hybrid road ••
Green manufacturing
fleets, and sea transport; relocated warehouses; and
reconfigured distribution centers.
There are initiatives to move away from traditional and wasteful
••
practices manufacturing practices to sustainable development practices
including recycling, conservation, waste management, pollution
control, and a variety of other related issues.
••
Packaging Organizations are replacing traditional packaging materials with
more eco-friendly alternatives. ••
Sourcing Initiatives include overseas consolidation, more sourcing of
goods to local suppliers, and "near sourcing" (which
encompasses a variety of strategies that attempt to bring ••
Innovative technologies
sourcing and distribution centers closer to final markets).
New technology and product solutions abound: efforts to reduce
harbor-generated port pollution have been a magnet for creative
••
green technologies and products. Diesel-electric technology for
tugboats and trucks powered by liquefied natural gas in and
around the harbor yard are just a couple of innovations for
••
cleaner emissions around ports. Large cargo ships are now using
320 square meter kites to cut consumption of dirty bunker fuel by
up to 35% in ideal sailing conditions.
••
Information sharing Organizations collaborate to build databases of information about
environmental improvement initiatives across supply chains. ••
Renewable energy sourcing Many companies around the globe are researching and investing
in renewable energy sources such as solar, wind, hydroelectric,
nuclear power, and geothermal. In spring of 2011, Forbes ranked ••
Intel, Kohl's Department Stores, Staples, Walmart, Whole Foods
Market, Starbucks, and Cisco Systems highest in their use of
renewable energy. ••
••
c 2012 APICS l-34 Version 3.0, 2012 Edition ••
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•
••
•• Section A: Supply Chain Management Concepts

•• Financial value
One method of increasing the financial value is to reduce costs. Take these
considerations into account when looking for opportunities to lessen expenses

•• within a supply chain:

•• • Cut costs to yield net gains at the bottom line. One danger in pursuing
cost reductions is the possibility that spending less in one area of the

•• business will simply mean spending more elsewhere or even possibly

creating a net loss. Cost cutting, therefore, needs to aim for net gains at the

•• bottom line. In the functional stage of supply chain evolution, this sort of
self-defeating tradeoff happens all too often. The warehouse manager
might, for example, eliminate one or more storage facilities to save

•• warehousing costs without consulting the traffic manager about the need for
compensating changes in transportation. More highly evolved supply chain

•• management coordinates selection of warehouse numbers and location with

costs of transportation, impact on fulfillment, and other relevant

•• considerations using sophisticated optimization software-and perhaps

putting the entire process under third-party management. The same

•• consideration holds throughout the supply chain .

Changes at any one point in the system will create changes elsewhere;

•• therefore, change has to be viewed holistically. Supply chain management

necessitates cross-functional teamwork for the internal change and cross-

•• entity teamwork for the lateral chain. The guiding principle always has to
be creation of value at the customer's end of the chain. If a leaner supply

•• chain can deliver the same customer satisfaction with a greater profit, then
cost cutting is justified .

•• • It takes money to make money. Many of the improvements in supply

chain performance require investments of money up front to realize greater

•• revenues, profits, or both down the linc=-or simply to remain competitive

on a global playing field. As always, the end result has to be a net gain. If

•• an improvement in the supply chain brings in more revenue than the cost of
the investment, then it's justified. Purchasing automated machinery to

•• improve warehousing, upgrading hardware and software, training managers

in team building, and other investments may be necessary to build and

•• maintain a competitive supply chain. Again, the ultimate aim must always
be for creation of value at the customer's end of the chain-with sufficient
profits to satisfy the needs of other stakeholders .

••
•• V 2012 APICS 1-35 Version 3.0, 2012 Edition

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 ••
••
Module I: Fundamentals of Supply Chain Management

Typical measures of success in the use of invested money and assets more
generally are return on investment (ROI) and return on assets (ROA). ROI
is defined in the AP/CS Dictionary, 13th edition, as "a relative measure of
••
financial performance that provides a means for comparing various
investments by calculating the profits returned during a specified time
••
period." ROA is defined as "net income for the previous 12 months divided
by total assets." ••
• Gains should be equitablydistributed.Be careful when pursuing ••
increases in chain efficiency or effectiveness that might result in a financial
gain that isn't distributed with the needs of all stakeholders in mind.
Possibly the most common mistake in this regard is to send all cost savings
••
all the way to the consumers' end of the chain. If all efficiencies are plowed
into retail price reductions, the supply chain itself will suffer from lack of
••
financial sustenance.
••
While customer discounts bring immediate gains in volume and market
share, other stakeholders also have to be rewarded. Investors require a ••
••
competitive return on loans and equity. The maintenance and upgrades to
the chain's infrastructure requires virtually continuous investment.
Employees have to be compensated at a competitive rate, trained in new
processes and products, and, more fundamentally, recognized for their
contributions. Research and development need support in locating market ••
needs and creating products and services to satisfy them.
••
••
And perhaps most challenging of all in a lateral supply chain is the need for
productive sharing of any financial gains. For instance, a powerful nucleus
finn can rake in the benefits of an alteration in the placement of inventory
(or any other process change) at the expense of its suppliers. This has the
potential to be self-defeating if it drives away quality suppliers. Teamwork ••
among supply chain entities can create improved value for customers for a
net financial gain that is equitably shared by all stakeholders. ••
Customer value ••
••
In a competitive economy, making money depends upon "responding to
customer needs," which is the definition of the term "market driven" in the
AP/CS Dictionary, 13th edition. The ultimate goal of market-driven supply chain
management, therefore, must always be to deliver products and services that the
customer values-e-and, of course, will pay for. ••
••
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••
••
Section A: SupplyChain Management Concepts

••
Depending upon the market being served, a supply chain may be managed
so that it delivers one or more of these values to its end customers .

•• • Quality of product or service. Quality applies to all products and

services from the production of a basic commodity like a bed mattress

•• to the reliability of 4G network services for smartphone performance.

Decisions all along the chain have to be coordinated to achieve the

•• appropriate level of quality through the right design, the right

production, and the right materials .

•• • Affordability. Almost all products and services have an appropriate

price level, one to which the market will react favorably. The supply

•• chain has to invest in the processes, people, and technology conducive

to creating a product at the right price. if a company's marketing

•• strategy is to provide the best everyday low price, the affordability

demands complete efficiency in the supply chain. Supply chain

•• managers who are operating with those types of goals must develop
collaborative design processes that result in specifications for products

•• of good quality that can be efficiently manufactured from readily

available materials by well-trained workers who function efficiently

••
and effectively within a well-defined supply chain process .

• Availability. For some products or customers, availability is of

•• paramount value and the supply chain has to be designed to deliver

products and services right on time. This may affect not only the

•• placement of inventories but also the selection of transportation modes

(overnight delivery, refrigerated containers, etc.) .

•• • Service. There is an indistinct line that separates product and service .

••
For example, the process of delivering a vehicle to a customer is
intertwined with related services-financing, dealer preparation, sales,
warranty agreements, and repair and replacement services at the

•• dealership. An effective supply chain management process will ensure

that service issues arc incorporated in the product design stage .

•• Collaborative design will include input from marketing, manufacturing,

and supply to create a product that is easy to repair. At the same time

•• the team will implement an efficient reverse chain that takes a vehicle
or its parts back for repair, replacement, or recycling .

••
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Module 1: Fundamentals of Supply Chain Management
••
••
• Sustainability. Consumers and customers are a driving force behind
environmental and social supply chain innovation. For individual
consumers and advocacy groups, sustainability is typically a matter of what
••
is important to them and what they are willing to pay. Consumer opinion
for or against a firm's environmental practices may be shaped by the media,
••
community groups, environmental organizations, lobbyists, and others who
exert social pressures. It is difficult to forecast exactly how much of a ••
premium consumers will pay, for example, for ethically sourced products or
items manufactured under high environmental and socially acceptable ••
standards. Consumers may also call attention in various ways (boycotts and
letter-writing campaigns, for example) to violations of regulations bearing
upon sustainability.
••
If, for example, availability is a key value to customers, emphasis in the
••
planning stage might be placed upon outsourcing to air express delivery
companies with overnight delivery capability, even if that requires putting extra ••
resources into logistics and cutting back elsewhere to stay within budget.
Similarly, perishable quantities-which tend to be of high value-require ••
special handling by high-end carriers. On the other hand, if the customer
doesn't value immediate availability (and the product doesn't require it), then
putting money into rapid delivery is not a rational supply chain decision. There
••
is no logic in making customers pay for quality or service they don't value.
••
An international fashion clothing company such as Zara, which is now in more
than 70 countries, succeeds by focusing its attention on its customers' values- ••
creativity, quality design, and rapid turnaround-to capture and quickly deliver
the latest trends in taste for each new season. All their decisions about suppliers ••
and distribution must serve those goals.

Social values
••
Supply chains are also judged on their contribution to the public and the
governments that (sometimes) represent their wishes. Generally speaking, a
••
supply chain's contributions to society come from three factors.
••
• Creating a positive good by delivering socially desirable and useful
products or services. On the positive side, supply chains deliver products ••
and services that are embedded in a social and cultural environment.
Businesses produce what society demands. Sometimes the connection ••
••
between private business and public need is very direct. For example, heavy
manufacturers serve governments directly when they produce motor

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• ••
vehicles and planes for purchase by the military. Even those vehicles not
sold to governments, however, serve social purposes as well as providing
transportation for vehicle owners and passengers. Bullet trains in Asia and
Europe exist because those societies value speedy, public transportation .

•• Beginning in the 1950s, the U.S. interstate highway system was

•• constructed, because the nation placed a high value upon private

automobiles to transport families to and from their suburban homes. This

•• same system also facilitated commercial truck transport and military

logistics. Beyond the production of goods and services, supply chains also
affect society by the number and types of jobs they create and in the

•• generation of tax money to support social purposes .

•• • Avoiding or reducing negative environmental side effects from

extraction, processing, and construction. In the past several decades there

•• has been growing attention to the impact of business on the natural

environment. This applies to supply chain activities all the way from

•• extraction of raw materials through manufacturing processes, logistics, and

distribution. Through laws and regulatory agencies, society requires

••
businesses to contribute, through sustainable practices, to a healthy
environment. Conforming to these regulations has become an increasingly
significant part of supply chain management.

•• It has also resulted in the identification of the reverse supply chain, which

•• handles products being returned by customers and those that have reached
the end of their life cycle and are ready to be recycled or disposed of in a

•• responsible manner. All the activities in the reverse supply chain can create
environmental value by reducing, reusing, and recycling resources rather
than simply using them up and putting them into landfills .

•• • Integrating sustainability into the supply chain. Much of this progress in

•• reducing negative impact on the environment is tied to sustainable supply

chain management. The SCOR model has applicability in sustainable

•• supply chain management. As you will recall, SCOR includes the major
processes of plan, source, make, deliver, and return. Before 2000, research

•• sponsored by the U.S. Office of the Deputy Under Secretary of Defense

(Installations and Environment) extended SCOR by integrating
environmental and supply chain management. The underlying premise was

•• that there should not be barriers between environmental and traditional

supply chain management and that integrating them results in a more

•• efficient and less expensive operations environment .

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Consider the following examples of the potential environmental impact for

each of the main SCOR processes. ••
• Plan. Planning related to energy consumption and hazardous materials
usage, handling and storage of hazardous materials, the disposal of
••
ordinary and hazardous waste, and the compliance of all supply chain
activities ••
• Source. Selecting suppliers with positive environmental records and ••
materials with environmentally friendly content; specifying packaging
requirements and delivery requirements to minimize transportation and
handling
••
• Make. Scheduling production to minimize energy consumption;
••
managing waste and air and water emissions generated during the
make process; reducing scrap; addressing waste disposal and
••
management
••
• Deliver. Minimizing the use of packaging materials and scheduling
shipments to minimize fuel consumption ••
• Return. Scheduling transportation and aggregate shipments to
minimize fuel consumption and preparing returns to prevent spills of
••
hazardous materials (such as oils and fuels) from damaged products;
accommodating the return of products after consumer use for recycling,
••
reuse, orremanufacture
••
Significant advantages have resulted from steps such as ensuring the use of
recycled or recyclable materials, reusing materials when possible, ••
minimizing hazardous materials, disclosing product safety information,
promoting environmental and energy efficiencies, and using more eco-
friendly packaging and, as feasible, less overall packaging.
••
There is no one-size-fits-all approach to building and sustaining a green
••
supply chain. But environmental initiatives need not be daunting. Exhibit 1-
16 lists several ways to build a greener supply chain. Keep in mind that the ••
list is not intended to be all-inclusive or sequential. Different practices and
the sequence in which they are adopted will vary and be driven by ••
organizational and supply chain objectives.
••
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•• Section A: Supply Chain Management Concepts

••
Exhibit1-16: Buildinga Sustainable Supply Chain

Sustainable Practice Sustainable Actions

•• Carbon footprint analysis Quantifying a product's or service's carbon footprint-the total amount
of carbon dioxide and other greenhouse gases emitted over the life

•• cycle of that product or service (Carbon footprint analysis captures the

mix of energy sources used in producing and delivering a product or
service as well as non-energy-related greenhouse gas emissions

•
••
(such as methane and nitrous oxide) from production, use, and
disposal of the product. Consumers and businesses often use carbon
footprint figures in their decision-making process when they select
products and services.)

•• Optimal plant locations Potential actions such as choosing a supplier closer to the customer
and greater collaboration with suppliers; understanding how to reduce
the carbon impact of manufacturing through alternative sourcing

•• Information technology
(IT) network design
Applying the "green" approach to IT to reduce consumption and
storage costs (e.g., reducing file formats and data storage that
consume inordinate amounts of space and the associated costs that

•• go with that storage); "greening" the information supply chain by

enabling anything that used to be printed and mailed to be presented
electronically (e.g., automating invoice processing to reduce paper

•• usage and promote other increased processing efficiencies);

consolidating and/or relocating data centers to take advantage of
renewable energy sources

•• Product or process
design
"Greening" the supply chain through actions such as forward planning
or decision analysis; evaluating design alternatives based on

••
environmental criteria applicable to the supply chain; rating products,
for example, as x-list (items that must be phased out), gray list (items
that are problematic but not urgent to phase out), and p-list (positive
items that are safe for use); rating products and services based on

•• Logistics design
energy consumption, least pollution, and materials used
Looking across the supply chain structure for inbound and outbound

•• logistics efficiencies, including improvements in transportation (e.g.,

new road networks, improved rail connections, additional port calls) as
well as energy conservation and pollution reduction

•• Waste reduction methods

Sustainable building
Applying the waste reduction methods: reduce, reuse/recover, repair,
remanufacture, redistribute, recycle, and reverse logistics
Using environmentally friendly practices in the design, construction,

•• practices and remodeling of buildings; using recycled material, eliminating or

reducing the amount of waste leaving a job site, reusing existing
material, using sustainable green building material, and using low-

•• emitting materials; obtaining LEED certification (Leadership in Energy

and Environmental Design, recognized in the U.S. and in many
countries worldwide)

•• Energy efficiency and

alternative energy
Monitoring energy consumption and managing energy usage to
eliminate wastes, cut energy costs, and reduce the carbon footprint;

•• implementing renewable energy sources and basic energy-use

alternatives (e.g., natural lighting, lighting management systems, and
energy-efficient bulbs)

••
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••
Examples abound of companies changing their supply chains to become more
sustainable. Consider the following examples of changes that affect the triple
bottom line and how they can build more sustainable supply chains.
••
Example: A company produces a product that goes into a plastic bottle. By ••
••
reducing the amount of plastic used to make the bottle by 15%, the company
not only reduces its cost for raw materials, it also reduces the amount of
pollution created by the supplier of the plastic and the amount of waste going
into a landfill. Another alternative for the company would be to switch to a
more recyclable type of plastic. This could reduce further the amount of
material going to the landfill. ••
Example: A company postpones the last steps of its manufacturing process
and completes them in its distribution center after the order is received. This
makes the process more sustainable in several ways. The shipping process
••
can be more efficient because the components being shipped can be
consolidated to fit more on a truck than the corresponding finished goods,
thus reducing freight costs and transportation pollution. Also, finished goods
••
inventories can be reduced and replaced with smaller quantities of
component inventories, thereby reducing the need for space and money tied
up in inventory. ••
Example: Whether a company manufactures a product or provides a
service, it uses energy. This may be in the form of gasoline for transportation,
electricity for the facility, or natural gas for heating and processing. To
••
become more sustainable a company could use more fuel-efficient vehicles
for transportation; develop more effective shipping schedules to reduce the
amount of miles traveled by its fleet; use alternative, replenishable fuel
••
sources such as wind or solar energy; or improve the efficiencies of its
processes to use less fuel to create more product. ••
Objective #2:
Improve customer
The second overarching goal of supply chain management is to improve customer
service. In terms of supply chains, customer service, according to the APICS
••
service.
Dictionary, 13th edition, is "the ability of a company to address the needs,
inquiries, and requests from customers." Tt can also be explained as a "measure of ••
the deli very of a product to the customer at the time specified."

As part of supply chain management, a company will develop and use its
••
customer service strategy to identify and prioritize all activities required to
fulfill customers' logistical requirements at least as well, or better, than the
••
competition does. The strategy will include the fundamental
customer service: availability, operational
attributes of basic
performance, and customer ••
satisfaction. By implementing a strategy that takes these factors into account, a
company can target the measures that are weak and improve its customer ••
service.

•
Let's take a closer look at each of these attributes.

Availability is the ability to have the product when it is wanted by a

••
customer. Traditionally,
anticipation
many organizations have stocked product in
of customer orders and based on demand forecasts. But by
••
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••
••
using supply chain management, a company can achieve high levels of
availability while keeping its investment in inventory and facilities to a
minimum. It is less likely to have products out of stock over time and is

•• more able to ship complete orders. (If a customer order is only missing one
item out of several, the order is considered incomplete.)

•• In Module 2, you will learn more details about the three performance

•• measures tied to availability: stockout frequency, fill rate, and orders

shipped complete .

•• • Operational performance deals with the time needed to deliver a customer

order. When supply chain management is in place, the elapsed time from

•• when the customer places an order until the product is delivered and ready for
use is reduced. Well-designed logistical systems facilitate a speedy delivery

•• but may also result in higher costs. Ideally, operational performance also
means that the supply chain is flexible in that it can accommodate unexpected

•• or unusual customer requests and that there are contingency plans in place if
there is a service breakdown or malfunction occurs .

•• • Customer satisfaction takes into account customer perceptions, expectations,

••
and opinions based on the customer's experience and knowledge. With
supply chain management in action, customer expectations are discussed and
clarified based on real supply chain data. So once the completed products and

•• orders reach the customer, they will meet customer expectations

quality, price, and delivery. Increases in customer satisfaction are the goal, as
in terms of

•• supply chain management strives to continuously improve with time and

build successful long-term relationships .

•• Objective#3:
Effectivelyuse
For a supply chain to be effective in its use of resources, it must be using them in
a manner that helps the organization achieve its business objectives. Resources

•• systemwide
resources.
can be in the form of employees, raw materials, equipment, etc. Being effective
means that the supply chain gets the right product and the right amount to the

•• right customer at the right time. Effectiveness is being outward-focused-on

customer's needs and wants-while still meeting cost objectives .
the

•• For instance, if a supplier encounters a glitch in its normal mode of over-the-road

transporting of car headlights that it makes for an auto manufacturer, it could still

•• get the order to the customer on time if it sends the headlights via air instead. Air
is more costly, but it does contribute to the company'seffectiveness in meeting its

•• customer needs. There are often tradeoffs between effectiveness

illustrated in Exhibit 1- I 7 .
and efficiency, as

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Module I: Fundamentals o_{Supp!yChain Management
••
••
••
Exhibit 1 ·17: Balancing Effectiveness with Efficiency

Thrive
••
••
Low High ••
Efficiency
I

••
Companies use a variety of tools and metrics to measure effectiveness, such as
••
benchmarking and comparing the company's actual performance against its
organizational strategies for growth, increased sales, increased customer
••
satisfaction ratings, or improvements on SCOR metrics. Supply chain
management enables an organization to be more effective in reaching these types
••
of strategic goals.
••
Objective #4:
Efficientlyuse
systemwide
As shown in Exhibit 1-17, efficiency is typically weighed against effectiveness.
Efficiency is defined, according to the APJCS Dictionary, 13th edition, as a ••
••
measurement (usually expressed as a percentage) of the actual output compared
resources.
to the standard output expected. It measures how well something is performing
relative to existing standards. Efficiency is inward-focused, in that a company
looks internally to determine how a supply chain process can be done less
expensively, in less time, and with fewer resources. ••
Efficiency is one of the measures of capacity in a supply chain environment. ••
Capacity is all about what can be accomplished by employing all the resources in
the supply chain network. That includes work centers, storage sites, people, and
equipment. Capacity, according to the APJCS Dictionary, has a few meanings:
••
( 1) The ability of a system to perform its expected function.
••
(2) The ability of a worker, machine, work center, plant, or organization
to produce output per time period.
(3) Required mental ability to enter into a contract.
••
Supply chain management can increase the efficiency of any mix of ••
manufacturers (or service providers), suppliers, and customers in a supply chain.
When a supply chain is operating at high efficiency, it means that it's utilizing its ••
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Section A: Supply Chain Management Concepts

•• resources well to produce the level of output in a production plan within the time
allowed .

•• Objective#5:
Leverage partner
Supply chain management enables an organization to leverage the strengths of
its partners. According to the AP! CS Dictionary, 13th edition, a partnership in a

•• strengths. supply chain is "a relationship based on trust, shared risk, and rewards aimed
toward achieving a competitive advantage."

•• The selection of the "right" partners means that their corporate culture,

•• operating styles, and business practices are similar enough for the benefits of an
alliance to outweigh the negatives. Well-chosen partners will benefit from a
high level of mutual trust, respect of each other's expertise and contributions,

•• and a shared common vision .

•• In order to leverage a partner's strengths, the organization must identify the

partner's core strengths or competencies. Core strengths may be intangible

•• items such as excellent management skills or a polished brand image. A strong

and useful partnership will yield a combination of the following as it performs

•• the functions needed by your organization:

• Adding value to products, such as shorter time to market

•• •
•
•
Improving market access, such as providing new market channels
Building financial strength through increased income and shared costs
Adding technological strength if there is internal expertise in use of more

•• •
advanced software and systems
Strengthening operations by lowering system costs and cycle times

•• • Enhancing strategic growth to break through barriers to new industry and

opportunities

•• • Improving organizational skills that facilitate shared learning and insights

of both firms' management and employees

•• Supply chain management technologies and practices can help a company

••
select the appropriate sales partners and support them by:
• Providing timely and accurate information
• Helping them deal successfully with channel customers

•• • Aiding them in leveraging their strengths, such as innovation, speed, high

quality, low cost, etc .

•• With a strong partner, both members in the relationship can pool their resources

•• and work together to continually search for ways to improve sales, productivity,
and competitiveness .

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Module 1: Fundamentals of Supply Chain Management
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••
You will learn more about collaborative partnerships and their advantages in
Section B of this module.
• ••
+Topic 5: Supply Chain Management Benefits
Supply chain management encompasses a series of linked processes. It's true
••
that companies have always been involved in managing their distinct functions,
such as planning, buying, manufacturing, delivering products, and getting paid, ••
but with supply chain management, this has evolved from control of discrete
business functions to an emphasis on business process excellence and the ••
management of a network of relationships tied together by complex inforrnation
flows. Although management of any one activity or link in the chain may be
straightforward, achieving the benefits of supply chain management requires
••
mastery of the connected processes.
••
The numerous benefits of mastering supply chain management practices,
systems, and technologies include: ••
•
•
Improved market knowledge
The three Vs-c-increased velocity, increased visibility, and reduced ••
•
variability in the flows of goods and services, funds, and information
Integrated operations ••
••
• Improved management of risk
• Increased sustainability.

Improved
market
With supply chain management in place, partners in the supply chain begin to
share their knowledge about the marketplace and in particular about their
••
knowledge customers. It may take some time for the organizations to build trust before they
share their key account information, but with time, it docs often occur. ••
Although market intelligence can be purchased from outside sources, it's most ••
advantageous (and less expensive) to gather it from your partners. There are a
myriad of sources and documents containing valuable customer information
that can be shared between supply chain partners, including transaction records,
••
customer survey results, sales and service representative knowledge,
information from distribution points such as retailers, Internet sites, or kiosks.
and
••
If this kind of market information is not forthcoming when needed from a
supply chain partner, there is always the option to purchase data from survey •• •
companies and database marketing companies. Service or finance bureaus can
provide broad information about the customer pool. Such data, as opposed to ••
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•• the other sources of data listed above, do not necessarily paint a picture of a
business's own customers. Purchased data may be more useful in acquiring new
customers than in managing relationships with existing customers .

•• The three Vs Often called the three Vs of supply chain management, visibility, velocity, and

•• variability are key elements of successful supply chain strategy. No matter what
the specific competitive priority, the goal of supply chain management is to

•• increase visibility and velocity while reducing variability, as seen in Exhibit 1-18 .
The future of supply chain management lies in continued pursuit of that goal.

•• Exhibit1-18: The Three Vs

•• ~ ~

•• L
v:.
~·
~- (}_
+
L
%c;_.
:-;_

••
••
•• Increased
visibility
Visibility is "the ability to view important information throughout a facility
or supply chain no matter where in the facility or supply chain the

•• information is located," according to the APICS Dictionary, 13th edition .

Increased visibility along the supply chain is a benefit for supply chain partners

•• and the end customer. With better visibility, a supply chain manager or employee
can see the results of activities occurring in the chain and is made aware of

•• minor, incremental changes via technological processes. For example, point-of-

sale data may be "visible" to computers in warehouses, the manufacturing plant,

•• and suppliers' facilities. Data about a sale can instantaneously

actions in all those places automatically.
warehouse to replenish the retailer's
Shipments are scheduled
shelves, manufacturing
trigger appropriate
from the
produces another

•• unit, and suppliers release parts to the manufacturer.

prompted automatically and instantaneously
With all these actions
by technology, the supply chain

•• partners can realize savings in cost and time. Better visibility has resulted in
greater velocity .

•• Increased
velocity
As noted earlier in this module, there are four types of flows in a supply chain:

•• physical materials and services, cash, information, and returns (or reverse flow)
of products for repairs, recycling, or disposal. Supply chain management impacts

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Module 1: Fundamentals of Supply Chain Management

the velocity of these four flows in a positive manner. According to the APICS
Dictionary, 13th edition, velocity is ••
a term used to indicate the relative speed of all transactions, collectively,
within a supply chain community. A maximum velocity is most ••
desirable because it indicates a higher asset turnover for stockholders
and faster order-to-delivery response for customers.
••
Velocity, like visibility, is enhanced by supply chain management. Methods of
increasing the velocity of transactions along the supply chain include the ••
following:
• Relying on more rapid modes of transportation (if there is a net benefit after ••
•
the increase in transportation costs)
Reducing the time in which inventory is not moving by using Just-in-Time
delivery and lean manufacturing (The less time inventory spends at rest, the
••
less likely it is to suffer damage or spoilage. Increased velocity reduces the
expenses involved in warehousing inventory.)
••
• Eliminating activities that don't add value, thus reducing the time required to
accomplish supply chain activities ••
• Speeding up the flow of demand and cash as well as the velocity of
inventory (The more rapidly payments are received from customers, the ••
sooner the money can be put to work in the business or deposited at interest.
Information about demand changes is crucial when the competitive strategy
is responsiveness.)
••
Reduced Variability is the natural tendency of the results of all business activities to ••
variability fluctuate above and below an average value, such as fluctuations around average
time to completion, average number of defects, average daily sales, or average ••
production yields.

Unlike visibility and velocity, variability decreases with good supply chain
••
management. Supply chain management works to reduce variability in both
supply and demand as much as possible. The traditional offset against variability ••
is safety stock. If greater visibility along the chain results in greater velocity,
supply chain managers should also be able to reduce the amounts of safety stock ••
required to match supply to spikes in demand. As the "news" about increased
purchasing speeds more rapidly up the chain, distribution and production can get ••
••
off to a faster start to meet the demand.

Supply chain management serves to reduce both demand and supply variability.
Demand variability has many sources, but a primary source that can be
controlled is the bullwhip effect. The bullwhip effect is an extreme change in the ••
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•• supply position upstream that is generated by a small change in demand

downstream in the supply chain, as shown in Exhibit 1-19 .

•• Exhibit1-19: BullwhipEffect

•• Small demand uncertainty becomes more

and more distorted

••
••
•• Customer

•• Inventory can quickly move from being backordered to being in excess due to
the serial nature of communicating orders up the chain with the inherent

•• transportation delays of moving product down the chain .

•• Supply variability can also be better managed with supply chain management
practices. Supply variability typically increases in waves down the chain starting

•• with small amounts at the resource extraction sites and culminating in the largest
amounts at the retail end of the chain. For example, any variability in the supply
of a raw material, such as an agricultural product that is dependent upon

•• fluctuating growing conditions, can result in even more widely fluctuating

purchase orders for that raw material from buyers down the chain. A shortage in

•• supply during one period may result in overpurchasing in the next period, with
the excess accumulating in warehouses as safety stock. Buyers depending upon

•• the supply will increase or decrease their purchase orders to reflect the variability
of materials, parts, and products available to them, while variability increases at

••
each point in the chain. The accumulating excesses can in tum trigger
underpurchasing .

•• Two additionalVs In addition, supply chain managers should attend to two other Vs: variety and
volume. Variety refers to the mix of products and services in a portfolio that

•• must alter to meet changes in customer demand. Volume is the amount of

product being produced in a given time. A supply chain must be flexible

•• enough to expand and contract volume to meet changes in demand for mass-
customized products and services. These concepts will be discussed in more

•• detail in Module 2 .

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••
••
Integrated
operations
Earlier in this module, we discussed the stages of supply chain evolution.
third stage is the one in which the enterprise and its operations become
integrated. Why is this so important? Supply chain management fosters
The

••
integrated operations by requiring everyone in the supply chain to form
partnerships with suppliers or customers.
••
Integrated networks, like intranets, extranets, and the Internet, play an important ••
role in forming these partnerships. Supply chain management uses networks to
tie together the various software applications associated with specific activities ••
within supply chain processes. Enterprise resources planning software packages
enable companies around the globe to not only manage their operations in one
plant but to facilitate enterprisewide integration and even cross-company
••
functionality.
••
In addition to automation and networking, made possible by the computer
revolution, integrated operations use other technologies that can feed information ••
into the networks for instant access by all supply chain users. Bar codes on
products and radio frequency identification (RFID) devices can pick up sales ••
data and send them instantaneously throughout a network for use in revising
forecasts and triggering operations along the chain. Such data can also be fed
into databases for marketing analysis to gain insight into customer behavior.
••
Along with global positioning, RFID makes it possible to track serial numbers
anywhere in the world to provide customers with information about the progress
••
of shipments and to alert shippers and consignees to any difficulties
actions (perhaps using supply chain event management software). The hardware
that require
••
to run these complex applications continues to advance in power and speed, and
it has become more affordable. ••
Improved
management
All investments involve risk, including those made in any supply chain. Risk is
generally defined as a hazard, a source of danger, or a possibility of incurring loss,
••
of risk misfortune, or injury. In the supply chain context, it is the chance that something
will happen within the chain, positively or negatively, that will affect business ••
goals and objectives. Risk management is the process of identifying risk, analyzing
exposures to risk, and determining how to best handle those exposures. ••
With supply chain management, the organization develops a risk management
strategy in advance that describes how it will address the vulnerabilities it has
••
identified throughout the supply chain by avoiding, accepting, transferring, or
mitigating risk. Managing risk proactively gives an organization a competitive
••
edge over its competition.
••
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••
••
An organization's strategy to address supply chain risk includes a risk response
plan and risk response planning. A risk response plan is a written document
defining known risks, including description, cause, likelihood, costs, and proposed

• ••
responses. It also identifies the current status of each risk. (This is also known as
business continuity planning.) Risk response planning is the process of developing
a plan to avoid risks and to mitigate the effect of those that cannot be avoided .

•• With a risk strategy and plan in place, a supply chain can keep goods,
information, and payments flowing through the network and arriving everywhere
•• in the right numbers at the right time and in good shape, because of its careful
preplanning for the unexpected. Specific types of risks that can be avoided or

•• mitigated will be discussed in Module 2, Section B, "Risk Management."

•• This type of proactive risk planning benefits the organization in a number of

ways:

•• • It helps keep the supply chain flexible so that it can continue functioning
despite disruptive events, which in turn helps balance the costs of
contingency planning against the potential economic, facility, resources, and

•• •
inventory losses.
Risks are shared among supply chain partners who will be prepared to work

•• in concert and play their parts responsibly. For instance, before Hurricane
Katrina deluged New Orleans and other locations along the U.S. Gulf Coast,

•• Wal mart had a fleet of trucks in place and was ready to roll into stricken
areas with supplies. A strong supply chain is more than good business; it

•• •
yields another advantage: good citizenship .
It prepares the employee workforce and chain partners with valuable,
actionable information and confidence to handle nearly any situation with a

•• well-thought-out strategy based on substantiated risk data .

•• You will be learning more about risk management and other factors to consider
in developing a plan in the following module .

•• Increased Earlier in this module green supply chain management was explained as the

•• sustainability expansion of the traditional supply chain focus of cost, quality, and service to
include environmental performance. "Sustainability" and "green" are often used

••
as synonyms in discussions of corporate obligations that go beyond the
traditional emphasis on bottom-line profits. Both terms refer to the need for
economic activity to operate within limits imposed by natural resources .

•• Business (and consumer) practices that rely upon energy derived from fossil

•• fuels, for a much-discussed example, cannot be sustained beyond the availability

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••
of such energy resources. Supply chain management incorporates sustainability
efforts such as the replacement of resources as they are used (as in the planting ••
••
of seedlings as part of forest management) and increased usage and reliance on
wind and solar energy to generate power for manufacturing processes.

+Topic 6: Accountingand Financial Statement Basics ••

Supply chain management requires a basic understanding of accounting and the
organization's financial statements because supply chain managers must ••
understand and implement cost controls, they must understand how supply chain
decisions impact and flow down through the financial accounts and statements, ••
and they are assessed in part on how well their decisions contribute to the
organization's financial results. Supply chain managers can get guidance in this
area from the organization's financial professionals but need to have a basic
••
understanding of key terms and methods in order to communicate effectively.
The following concepts related to accounting and financial statements are
••
introduced here:
• The flow of funds
••
•
•
Spend management
Standard costing ••
• Financial statements: balance sheet, income statement, and statement of cash
flows ••
• Tax savings and the supply chain

As you recall from the supply chain model illustrating the different types of
••
The flow of
funds flows within a supply chain, the flow of money or funds goes upstream from
customer to producer and from producer to supplier as intermediate or final
••
products or services are paid for. This funds flow is not linear since some
upstream payments may occur long before the final good or service is even ••
purchased. Although there are other funds flows in a company, such as those for
equipment purchases and payroll, we will focus attention at this time on just the ••
cash flow along the supply chain.

While the flow of funds is mandatory for a supply chain to exist, it is often an
••
uncoordinated and suboptimized flow in many supply chains. Many mid-size
and even some large corporations still work with paper invoices and checks.
••
However, this practice appears to be declining given that many international
transactions require the buyer to pay up front with a credit card, wire transfer, or ••
letter of credit.
••
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•• Section A: Supply Chain Management Concepts

•• Why is it critical to improve the flow of funds within a supply chain? There are
several advantages to better flows:

•• • It reduces the cash-to-cash cycle time, an indicator of how efficiently a

company manages its assets to improve the speed or turnover of cash flows .

•• What is considered a normal duration for cash-to-cash cycle time will differ
by supply chain, industry, and organizational strategy. For example,

•• according to data from Morningstar.com at the time of this writing, the cash-
to-cash cycle time for the retailers Walmart and Target were seven and 42
days respectively. However, Walmart may own less of its inventory than

•• Target due to heavier use of strategies such as vendor-managed

consignment. Similarly, an organization that is vertically integrated will own
inventory or

•• its inventory for much longer than one in a horizontal supply chain. Therefore
it is not necessarily possible to compare cycle times without understanding

•• the relevant strategies for each business. However, an organization's

time is a benchmark for its own continuous improvement.
cycle

•• • The improved turnover of funds improves customer-supplier

through lower perceptions of risk, improved reliability, and better
relationships

•• communications, which in tum tend to further improve the flow of funds .

More prompt and consistent payments also tend to improve relationships,

•• yielding a win-win situation throughout the supply chain .

•• • Improved cash flows tend to reduce imbalances between the larger and
smaller players in the supply chain. Consistent rules for integrated cash
flows across the supply chain help avoid the situation in which sizable

•• retailers request more liberal payables terms from manufacturers

manufacturers do the same with their smaller suppliers .
and large

•• Spend The initial efforts in supply chain management focused primarily on cutting costs

•• management because the supply chain constituted one long cost center. It was all about removal
of waste, time, unnecessary motion, defects, and extra costs .

•• When you are working in a supply chain organization,

sounds like it's the opposite of cost reduction:
you may hear a tenn that
spend management. The AP/CS

•• Dictionary, 13th edition, defines spend management as "managing purchases of

goods and services in a supply chain, including outsourcing and procurement

•• acti vi ti es."

•• Spend management often deals with consolidating internal demand across business
functions, divisions, or extended partners and/or consolidating suppliers to find

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Module 1: Fundamentals of Supply Chain Management

••
areas for purchasing and transportation quantity rate discounts. Relative to financial
performance, spend management involves managing the outflow of funds in order
••
••
to buy goods and services. Spend management may also need to coordinate closely
with accounts payable because payment timing is vital to spend management
execution.

If supply chain management can reduce the amount spent on inventory or increase ••
the speed with which inventory is converted into cash without reducing customer
service or revenue, then it certainly contributes to the company's financial
••
••
performance. Saving money will always be a priority; organizations realize a more
direct gain when costs go down than when revenues go up. This is because when
revenues go up all variable expenses also go up. When sales increase, some costs,
such as material and labor costs (called variable costs), increase right along with the
sales increases. Accounts receivable also increase, and organizations have more ••
control over inventories than over receivables.
••
••
While spend management is used by supply chain managers to control external
costs, many organizations use a system such as standard costing to control internal
costs related to the goods or services being produced. Standard costing is discussed
next.
••
Standard
costing
According to the A PICS Dictionary. 13th edition, standard costs are "the target
costs of an operation, process, or product, including direct material, direct labor, ••
and overhead charges." Standard costing or a standard cost accounting system is
"a cost accounting system that uses cost units determined before production for ••
••
estimating the cost of an order or product. For management control purposes, the
standards are compared to actual costs, and variances are computed." Standards
are targets that the organization sets to show the expected or desired outcome of
an activity. These arc periodically reviewed and changed as needed.
••
To understand standard costing, some additional
Dictionary, 13th edition, should also be introduced.
terms from the APICS
••
Cost of goods sold (COGS): An accounting classification useful for
determining the amount of direct materials, direct labor, and allocated
overhead associated with the products sold during a given period of time.
••
Current price: The price currently being paid as opposed to standard
cost. (A related tennis market price, which is the going price for an item ••
on the open market.)
Usage variance: Deviation of the actual consumption of materials as
compared to the standard.
••
Cost variance: Jn cost accounting, the difference between what has
been budgeted for an activity and what it actually costs. ••
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Section A: Supply Chain Management Concepts

••
Standards are set for each of the clements of the cost of goods sold. Each cost
has two components that are set as standards: volume and rate .

•• Cost Volume x Rate

•• Direct Materials Cost = Quantity Purchased x Unit Cost

Direct Materials Used = Quantity Used x Unit Cost

•• Direct Labor Cost= Standard Hours x Hourly Rate

•• Overhead Cost = Cost Driver

Total Overhead
X-------
Total Cost Driver

•• Volume is how many units of a resource is purchased or used, and rate is the cost

•• per unit of that resource. When volume has variances from the standard, it is a
usage variance; when the rate has variances, it is a cost variance. Both variances

•• are tracked separately, and their sum should equal the total variance. Variances
can be positive or negative. Negative variances occur when costs arc greater than

•• expected; positive variances occur when costs are less than expected .

•• Note that the quantity of materials for an operation has standards both for what
should be purchased and what should be used, since these quantities may differ
due to factors such as scrap in an operation or quantities for bulk discounts .

•• Note also that overhead costs are allocated costs based on a cost driver. A cost

•• driver is simply a measurable aspect of an operation that is used to

approximate how much of the overhead should be associated with the units

•• produced. The rate is the total expected overhead for the period divided by the
total of the expected cost driver for all operations at that site for the period. A

••
frequently used cost driver is direct labor hours. For example, during a given
period:
• An operation to make 40,040 units is expected to use 1,400 direct labor

•• •
hours .
All operations in the plant are expected to use 14,000 direct labor hours .

•• •
•
Total overhead costs for the plant are expected to be US$400,400 .
The overhead rate is US$400,400/14,000 hours= US$28.60/per direct

•• •
labor hour .
The standard overhead cost for the 40,000-unit operation is 1,400 hours x

•• US$28.60/hour = US$40,040 (one-tenth of the total overhead cost) .

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Module I: Fundamentals ofSupply Chain Management
••
••
••
To continue this example, if the following actual results occurred during the
period, the variance would be calculated as follows:
• Actual overhead cost for 40,000-unit order: 1,300 hours x US$29.60/hour (a

•
rate determined only at the end of the period)= US$38,480.
Variance: US$40,040 - US$38,480 = US$1,560 positive overall variance
••
(less cost than expected), made up of a large positive variance from lower
labor hours than expected and a smaller negative variance (higher cost than ••
expected) from the higher actual overhead rate.
••
Standard costs and variances for direct materials and direct labor would be
similarly calculated and accounted for, except that the actual costs may be
known during or before production.
••
Uses of standard Standard costing is used to estimate the cost of goods sold before all costs are
••
costing known with certainty. It also provides benchmark targets for use during
production. Thus it is a method of controlling a process during production rather ••
than only being applied by accounting after production is complete. When
variances arc detected as they occur, process controls can sometimes keep
negative variances from continuing to expand or can prevent the problems from •••
••
recurring in a later operation. Management and accounting should exercise a
high level of control over variances because this is the key to avoiding period-
end surprises that impact financial results.

Many of the concepts discussed in these modules make use of standard costing.
••
Inventory can be valued using standard costing (although other methods also
exist). Inventory is discussed more in Section D: "Inventory Management." ••
Efficiency was discussed earlier. If standard costing is used at an organization, ••
••
efficiency can be calculated using a formula:

Eff . Standard Hours of Work

=
rciency
Hours Worked
x 100

••
For example, a work center that produces 110 standard hours of work while
operating for only I 00 hours has an efficiency rate of 110 percent. This is
••
where supply chain management comes into play. It is used to bring a synergy
to all the entities in the chain and enable them to operate and produce more
••
efficiently, whether this means optimizing production, storage, or movement
capacity. ••
••
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Section A: Supply Chain Management Concepts

•• Because the effectiveness and efficiency of supply chain management is partly

measured by its contribution to the bottom line, key financial statements are
discussed next.

•• Financial Financial statements help managers and investors track the financial results of an

•• statements organization's activities. The financial statements have different, but

complementary, functions. The AP/CS Dictionary, 13th edition, defines the

•• primary financial statements as follows.

•• Balance sheet: A financial statement showing the resources owned, the

debts owed, and the owners' share of a company at a given point in time .

•• Income statement: A financial statement showing the net income over a

given period of time.

•• Statement of cash flows (funds flow statement): A financial statement

showing the flow of cash and its timing into and out of an organization or
project [over a given period of time].

•• Next, we'll take a closer look at each of these statements, define some key terms,

•• and discuss some key relationships among the elements of the statements .

•• Balance sheet The balance sheet is often called a "snapshot" of the company's financial
position, because it is a static view of financial value or net worth at a point in

•• time, usually the last day of the fiscal or calendar year, though it could also be
for the end of any reporting period, such as a month or quarter. It gets its name
from the fact that it has two major sections that have to be in balance-e-assets on

•• the one hand and liabilities and owners' equity on the other. The accounting
equation defines this balance; it states that:

•• Assets= Liabilities+ Owners' Equity

•• The balance sheet sections are always in balance because owners' equity is

•• simply the difference between assets and liabilities. An organization uses

investments from owners (c.g., shareholders) and amounts owed to others (e.g.,

•• bank debt) to acquire assets that are expected to generate a return greater than the
amount invested. Owners' equity can increase or decrease if the organization

•• generates a positive return or negative return. The balance sheet shows the
increases or decreases in assets, liabilities, and owners' equity from year to year .

•• Exhibit 1-20 on the next page shows a sample balance sheet for a publicly traded
company .

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Module I: Fundamentals ofSupply Chain Management

••
Exhibit 1-20: Sample Balance Sheet Showing Two Years of Results

.-------------'"'i Statement of financial

,---- --- ----·--· '
1
~ ••
/1l
value at a point in In Thousands COOO)
-- - What the I\
organization owns
December 31,---
ASSETS
- -- - ; time (end of year) __ 2010 2011
••
- --- -- - - ------
Assets expected to ,
l /,·I'
4 CURRENT ASSETS
CASH AND CASH EQUIVALENTS $ 783 $ 908 ••
1I be converted to cash .- ·
within one year
/
INVENTORY
PREPAID EXPENSES
ACCOUNTS RECEIVABLE
400

514
437

562
••
TOTALCURRENTASSETS 1,697 1,907
••
--·· - ·-··--···

Long -term assets not

ea sily converted to _
/
·'
.r FIXED ASSETS
GROSS PROPERTY, PLANT, AND EQUIPMENT 600 700 ••
ca~
LESS ACCUMULATED DEPRECIATION
NET PROPERTY, PLANT, AND EQUIPMENT
75
525
121
579 ••
1··--A
---· · · ---1
mounts owed to · , LIABILITIES
TOTAL ASSETS [ii $ 2 222 $ 2 486 ••
__ others --r

Amounts owed this

_ __/CURRENT LIABILITIESt ,.
/ ACCOUNTS PAYABLE 604 660
••
I ___ -
I A~o~~ts owed\
year 11 SHORT-TERM NOTES PAYABLE
TOTAL CURRENT LIABILITIES
60
664
75
735 ••
••
'·..
beyond one year : '
l. . I "• - "- LONG-TERM LIABILITIES
-· -·· ··--------,

••
Funds from owners j LONG-TERM DEBT 600 600
and operations (what\ TOTAL LIABILITIES c___ 1 264 1 335
is left after liabilities Assets =

j-w
are deducted)~
·
hat owners have
- OWNERS' EQUITY
Liabilities+ Owners' Equity (

Q COMMON STOCK (PAR VALUE) 10 10 ••

L ..
[R
~ontributed f
einvested funds ·· RETAINED EARNINGS
~_ADDITIONAL PAID-IN CAPITAL 440
508
440
701 ••
••
from operations ( TOTAL OWNERS' EQUITY 958 1 151

TOTAL LIABILITIES AND

OWNERS' EQUITY ~ $ 2,222 $ 2,486

•• •
••
••
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•• Section A: Supp!» Chain Management Concepts

•• One purpose of the balance sheet is to show whether the organization has
increased or decreased its owners' equity during the year. This is done by

••
comparing the current year's amounts to the amounts in prior years. Note that
in Exhibit 1-20, the size of the owners' equity has increased in 2011 from
2010, based entirely on profits that were reinvested (retained earnings) rather

•• than from new owner investments (common stock and additional paid-in
capital are unchanged) .

•• The balance sheet can also be used as a source for a number of financial

•• measurements used in part to measure the success of supply chain activities .

For example, the balance sheet lists accounts receivable and accounts

••
payable. According to the A Pf CS Dictionary, 13th edition, accounts
receivable are "the value of goods shipped or services rendered to a customer
on which payment has not yet been received and usually includes an

•• allowance for bad debts." Accounts payable arc "the value of goods and
services acquired for which payment has not yet been made." These two

•• balance sheet amounts are used to calculate the cash-to-cash cycle time (sec
Module 2, Section E, "Managing the Supply Chain," for details), which

•• measures how many days the organization's working capital is invested in

managing the supply chain. Working capital is "the current assets of a firm

••
minus its current liabilities." Both of these amounts can be found on the
balance sheet. Working capital is important to the supply chain because these
are the funds the organization has readily available to invest in normal

•• operations .

•• Income statement In contrast to the balance sheet, the income statement is cumulative and
dynamic, meaning that the statement covers business results over a period of

•• time, such as a quarter or a year, rather than being a static snapshot. The income
statement shows managers, investors, and creditors whether the company has

••
made or lost money during the given period of time. The basic equation for the
income statement is:

•• Income= Revenues - Expenses

•• These arc the key terms to he familiar with, all of which can be impacted by
the effectiveness and efficiency of a supply chain:

•• • Profit is money remaining from revenues after deduction of certain

expenses .

•• • The profit margin that measures the degree of financial

business is "the difference between the sales and cost of goods
success for a

•• \'; 2012 APICS 1-59 Version 3 .0, 2012 Edition

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••
Module I: Fundamentals of Supply Chain Management

sold ... sometimes expressed as a percentage of sales" (AP/CS

Dictionary, 13th edition). ••
••
• The gross profit margin measures "the difference between total revenue
and the cost of goods sold" (A PICS Dictionary, 13th edition).
• Net profit is figured by deducting all expenses, not only the cost of
goods sold, from revenues.
••
Exhibit 1-21 on the next page shows a sample income statement, with some
explanations in the margin. ••
Supply chain managers can use an income statement to determine the effect ••
••
of supply chain expenses on net income. For example, for a manufacturing
organization, the direct materials expenses listed in the statement would
consist primarily of raw material expenses, so reducing this type of
inventory would reduce overall expenses, directly increase profits, and likely
increase owners' equity on the balance sheet. The discussion of the uses of
••
financial statements in regard to inventory is continued in Section D,
"Inventory Management." ••
Note that operating expenses such as sales bonuses or general and ••
••
administrative expenses (all costs that cannot be linked to specific units sold)
are called period costs because they must be expensed in the period in which
they are incurred. COGS are called product costs. Product costs are
accounted for in the period in which the units arc sold even though many of
these costs may be incurred in earlier periods.
••
A final concept of importance to the income statement is matching. Matching
refers to reporting related revenues and expenses together in the period in ., ••
which they were incurred. For example, sales expenses incurred to make a
sale should fall in the period the sale was made. When they do not,
accountants use adjustments called accruals to account for the period
••
differences.
••
Note the text 'The 'bottom line'" near the bottom in the exhibit. This refers
to the line at the bottom of the income statement that shows a net profit or ••
loss.
••
Note also that the economic perspective of the triple bottom line, introduced
earlier, is a reference to this financial bottom line.
••
••
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Section A: Supply Chain Management Concepts

••
Exhibit 1~21: Sample Income Statement Showing Two Years of Results

' Profit or loss over a

In Thousands (000)

••
period of time
For the Years Endina 1
2010 2011
I Ex~enses from j REVENUE (SALES) 2,769 3,026

•• providinq goods/ --
services that -
~ne~ate revenue1
LESS: COST OF GOODS SOLD
(COGS)
DIRECT LABOR
2010
380
2011
410

•• ! Revenue-COGS I,
DIRECT MATERIALS
FACTORY OVERHEAD
990
311
1,120
300

•• =Gross Profit \

Gcne;~~i~:.~~~~1 [ .
TOTAL COGS

GL:~~S~:~~~ING EXPENSES 2010 2011

-1,681
1,088
-1 830
1,197

•• business that
cannot be directly
linked to specific
SELLING EXPENSES
GENERAL AND ADMINISTRATIVE 166
249 272
182

•• units of good~
services s~
---- --
1 LEASE EXPENSE
TOTAL OPERATING EXPENSES
83 91
-498 -545

••
Lowers fixed asset
value for ~axes _, \
LESS: DEPRECIATION -40 -46
----
,--------- ·-·
LESS: INTEREST EXPENSE -39 -39
Paymen_~s on debt/ J.
•• Shows effect of
taxes on profits
NET INCOME (PROFIT) BEFORE TAXES
INCOME TAXES
LThe "bottom line" \
512
-169
567
-300

•• Gross Profit
- Operating Ii
,
NET INCOME
NET INCOME (PROFIT)
(AS A PERCENTAGE OF REVENUE)
343 $ 267
'-\F====$==================~
12% 9%
ExpensesV11--_:_:_::::_:_'-'--'-';:_;;;;_-'-'-==--'-'-'-"'-'--'-'--=--'--"--""-'-'-'-'--'-==---"-'----'--=--'--=---'--"--=--~___.~~~--'=-'-"-~~_____::__:_::__i

•• - Depreciation
- Interest Exp,
- Income Taxes
=Net Income

•• i~~-------

•• Statement of
cash flows
The statement of cash flows shows the sources of a company's cash flows and how
these cash flows are used. Cash flow is the net flow of money into or out of the

••
organization. It is the sum, in any time period, of all cash receipts, expenses, and
investments. There are three factors that determine cash flows: sales, after-tax
operating profit margins, and capital requirements. Some organizations consider

•• • cash flow to be a better long-term indicator of financial health than net income.

The purpose of a statement of cash flows is to show lenders, investors, and

creditors whether the organization has sufficient cash to pay debts, bills, and

•• dividends to owners because cash, not net income, is needed to make these
payments. The after-tax net income on the income statement is not the same as

•• cash flow, but it is the starting point for the statement of cash flows. The statement
adjusts this amount by increases or decreases in certain accounts to show whether

•• the cash balance has increased or decreased in the period .

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Module 1: Fundamentals of Supply Chain Management

Being able to read and understand a cash flow statement is important because it
enables you to assess if the firm is:
• Generating enough cash to fulfill its minimum obligations to lenders,
••
•
investors, and governments (taxes)
Generating extra cash that can be used to repay debt, purchase additional assets
••
for growth, or invest in new products.
••
This information is particularly helpful for financial managers, who use it along
with a cash budget when forecasting their organization's cash positions. ••
Exhibit 1-22 shows a sample statement of cash flows. ••
Exhibit 1-22: Sample Statement of Cash Flows Showing Two Years of Results
••
I
A viable firm needs
positive cash flow,
from operations in
most years 1(
IChange in cash
balance over a period In Thousands (000)
••
- -----
Depreciation i s 11
educted on the
-- .

OPERATING SECTION
Year
--tofti_~
-~
2010 2011
••
, income statement '. AFTER-TAX NET INCOME
but doesn't reduc
cash (added back)e ·DEPRECIATION ADD-BACK
$ 343
40
$ 267
46 ••
••
· 1

, (INCREASE)/DECREASE IN INVENTORY (68) (37)

Increase i n [/
inventory or I · (INCREASE)/OECREASE IN ACCOUNTS RECEIVABLE (87) (48)
accounts receivabl e I ; INCREASE/(DECREASE)

••
IN ACCOUNTS PAYABLE 102 56
reduces cash
·I CASH FLOW FROM OPERATIONS 330 285
Increase i

.- accounts payabl
increases cashe "/ /INVESTING SECTION
r' CAPEX SPEND (CAPITAL EXPENDITURES) (100) (100) ••
••
l
Increase i
n [ii CASH FLOW FROM OPERATIONS AND INVESTMENT 230 185
bu sines s i
investment s
i
i
dec~eases cash

Increase in ne ~·-v
debt or equit y /
1 FINANCING SECTION
ADDITIONAL EQUITY CAPITAL
LESS DIVIDENDS PAID
-
(50)
-
(75)
••
provides cash

Net lncom e, I
INCREASE/(DECREASE)
INCREASE/(DECREASE)
IN LONG-TERM
IN SHORT-TERM NOTES
DEBT -
{15)
-
15
••
+/- Change in (ti
Operatin 91
)

+/- "'-. lnvestin g \

+/- ti Financin g 1'\,
!; CASH FLOW FROM OPERATIONS,
AND FINANCING
INVESTMENTS,
165 125
•• •
+ Beginning Cas h \; BEGINNING CASH BALANCE 618 783
::: Ending Cash
ENDING CASH BALANCE $ 783 $ 908
••
••
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•• Section A: Supply Chain Management Concepts

•• Note the depreciation amount that is added back on the statement of cash flows .
Depreciation is a predetermined incremental reduction in the value of fixed assets,

•• such as property, plant, and equipment, on the income statement to account for
their deterioration over time. This provides organizations a tax benefit to offset the
investment in fixed assets. However, while depreciation is calculated and expensed

•• on the income statement as the cost of using an asset over its life, this cost is a
noncash charge (i.e., no one is paid). Since depreciation reduces net income on the

•• income statement but doesn't reduce actual cash levels, depreciation is added back
on the statement of cash flows to determine the actual cash flow .

•• Tax savings One relatively new aspect of supply chain management is tax planning to reduce

•• and the
supplychain
the global tax liability of the extended enterprise. Paying less in taxes around the
world translates into increased earnings per share.

• ••
By aligning tax planning with supply chain efficiency initiatives, companies can,
if they're in the right circumstances, realize a double bonus of increased
operating efficiency and significant tax savings. Some of these savings may

•• contribute to cash flow in the short term, thus providing an immediate benefit
from investments in the process. This strategy applies for the most part to large,

•• multinational organizations that are in the midst of modifying their supply

chains, giving them the opportunity to locate assets and operations in low-tax

••
countries .

Procurementand When rethinking procurement strategy, multinational corporations may decide to

•• taxes set up a central, global procurement and sourcing center. In this way the supply
chain benefits from various efficiencies created by consolidation of staff and

•• equipment. If, in addition, the company locates the global facility in a low-tax
region, the tax savings will magnify the savings from efficiencies of scale. This

•
••
works because tax authorities generally levy taxes on separate streams of
corporate income depending upon where they are earned. The global
procurement center thus becomes subject to the tax policies of its country of
residence. Central procurement facilities can also, if planned carefully, reduce

•
••
other costs in the supply chain, such as tariffs and value-added taxes levied at
considerably different rates in different ports around the globe .

•• Taxes and
logistics
networks
Organizations can also realize tax savings by combining tax planning with
logistics rccngineering projects. Some large companies review their networks

•• every five years or so to see if they can find ways to improve product flows for
efficiency's sake. While they're cutting lead times, reducing manufacturing

••
costs, and shaving transportation outlays, they can also reduce their global tax

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Module 1: Fundamentals ofSupply Chain Management

••
liability by closing facilities in high-tax jurisdictions and moving them to
countries with lower tax rates. ••
Taxes and
information
A particularly intriguing tax-saving strategy is the purchase of supply chain
software to improve planning and responsiveness. This could be an enterprise
••
technology resources planning (ERP) system or a system with more limited application. But
in any case, the company purchasing the software can have it designed so it ••
automatically determines the right tax payment for the company, thus freeing up
the people who would otherwise have done the tax work. At the same time, the ••
software is earning a tax break for itself. Such systems can also be useful in
complying with corporate governance laws, such as the Sarbanes-Oxley Act, and ••
••
can locate all justifiable tax credits and deductions.

Competing Whenever you are discussing supply chain financials, remember that each
values department in an organization has its own particular priorities based on its
activities. And those priorities may compete with each other. For instance, the ••
primary objective of marketing is to maintain and boost revenue, and it strives
toward that by providing great customer service. Although the finance function ••
is also interested in increasing revenues, its primary focus is on keeping costs
and investment expenses low. Production wants the lowest operating costs it can
achieve. Those conflicting viewpoints may spill over into how each function
••
views financial documents and metrics.
••
In summary, in many ways supply chains are like living organisms striving for
dynamic growth, trying to find a healthy balance of nutrients or inputs into its ••
increasingly complex system. These chains function according to specific
objectives and provide benefits to others when their activities and movements ••
are purposeful and planned. In the next section of this module, you will learn
how the supply chain aligns with business strategy to have an even greater and
focused impact.
••
••
••
••
••
••
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•• Section A: Supply Chain Management Concepts

••• *Progress Check

The following questions are included as study aids and may not follow the format used for questions in
the APICS CSCP examination. Read each question and respond in the space provided. Answers and page

•••
references appear on the page following the progress check questions .

1. Technically speaking, which of the following combinations of firms is sufficient to constitute a

supply chain?

•• (
(
)
)
a.
b.
Any network of suppliers
Two suppliers and a customer

•• (
(
)
)
c.
d.
A supplier, a nucleus firm, and a customer
Two manufacturers and a distributor

•• 2.
( ) e. All of the above

True or false? Supply chain management can be applied only to supply chains with a manufacturing

•• company in the middle.

( ) True

•• 3.
( False

Which of the following processes is part of the SCOR process model?

•• (
(
)
)
a.
b.
Customer relationship management
Design

•• (
(
)
)
c.
d.
Return
Marketing

•• 4. When Henry Ford organized Ford Motor Company to include raw materials extraction and
dealerships as well as his assembly lines, he created which of the following?

•• (
(
)
)
a.
b.
Vertical supply chain
Lateral supply chain

•• (
(
)
)
c.
d.
U.S. equivalent of a keiretsu
Monopoly

•• 5. Which of the following is the primary benefit of a vertical supply chain strategy?
( a. Multiorganization connectivity along the chain

•• (
)
b.
c.
Economies of scale at each supply chain node
Control

•• 6.
) d. Focus on core functions

Which of the following is an advantage of using a lateral supply chain?

•• (
( )
a.
b.
To improve business focus and expertise
To leverage communication and production competencies

•• (
(
)
)
c.
d.
To achieve economies of scale and scope
All of the above

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Module 1: Fundamentals a/Supply Chain Management

7. Which of the following is the supply chain evolution stage in which a nucleus firm begins initiatives
to improve efficiency, effectiveness, and quality within functional areas?
( ) a. Extended enterprise
••
(
(
)
)
b.
c.
Semifunctional enterprise
Multiple dysfunction
••
( ) d. Integrated enterprise
••
••
8. True or false? The following graphic illustrates the extended enterprise.
( True
( False

••
••
••
••
Reverse product flow

9. Which of the following is an objective of supply chain management?

( ) a. Add value for customers and stakeholders. ••
••
( ) b. Improve management of risk.
( ) c. Increase velocity in flows of goods, services, funds, and information.
( ) d. Increase sustainability.

10. True or false? The three Vs are velocity, visibility, and volume. ••
(
(
) True
False
••
11. True or false? One of the benefits of supply chain management is increased visibility of flows.
) True ••
) False

12. True or false? An income statement shows the net income over a given period of time.
••
(
(
)
)
True
False
••
13. Which of the following is a primary purpose of the cash flow statement? ••
••
( a. To show net profit or loss
( b. To show key stakeholders if the company has sufficient cash to pay debts, bills, and
dividends to owners
( )
)
c.
d.
To show the cash-to-cash cycle time
To show dollars tied up in inventory ••
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•• Section A: Supply Chain Management Concepts

•• Progresscheckanswers
1. c (p. 1-5)

•• 2.
3.
False (p. 1-6)
c (p. 1-13)
4 . a (p. 1-15)
•• 5.
6.
c (p. 1-17)
d(p.1-17)

•• 7.
8.
b (p, 1-18)
True (p. 1-23)

•• 9 . a (p. 1-29)
I 0. False (p. 1-4 7) It refers to visibility, velocity, and variability .

•• 11. True(p.1-47)
12. True (p. 1-57)
13. b (p. 1-61 )

••
••
••
••
••
••
••
••
••
••
••
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 ••
••
Section B: Supply Chain Alignment with
Business Strategy
••
••
This section is designed to
••
• Describe the relationship between the business strategy, the organizational strategy, and

•
the supply chain strategy
Explain the factors used to select strategic partners
••
•
•
Enumerate the building blocks of collaborative relationships
Identify the features and benefits of collaboration ••
•
•
•
Describe how to overcome obstacles to collaboration
Define four types of organizational strategies and how they are used
Explain how strategic decisions are made concerning customers and markets, technology, key
••
••
processes, and sourcing
• Discuss the trends in outsourcing and its potential consequences (positive and negative) for the
organization
•
•
Identify competitive priorities for gaining customers for a company product or service
Describe how each supply chain's capabilities are based on its design, processes, systems and
technology, human resources, and metrics
••
• Identify three factors that can cause an organization to alter its supply chain strategy.

There's a kind of magic in some words, "strategy" and "strategic" being key
•
examples. Place "strategic" in front of the name of any business process and
suddenly that process acquires an aura of great importance. Strategic objectives
cry out to be achieved in a way that simple objectives do not. Strategic planning
sounds considerably more sophisticated and powerful than plain old planning.

•
There's a reason those words have such power. Strategy, originally a military
term, is how generals marshal all available resources in pursuit of victory.
Strategy wins football games and chess matches---or loses them.

It's really the same in the business world. Each company has a business strategy
that paints a broad picture of how they will compete in the marketplace. ••
Since business strategy is like military strategy in that it requires the marshaling ••
•
and organizing of all its resources, then it becomes clear that the business's

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•• Section B: Supply Chain Alignment with Business Strategy

•• supply chain can be its most potent strategic resource. Designing and building
the right supply chain, one that promotes the business strategies, may just be the
most powerful way to gain an edge on the competition, to move faster, deliver

•• more value, and be more flexible in the face of both steady change and
surprises. The supply chain strategy is a complex and evolving means that

•• organizations use to distinguish themselves in the competitive contest to create

value for their customers and investors .

•• As illustrated in Exhibit 1-23, you can see how the direction of a firm or

•• organization is predicated on its business strategy. Of course many

organizations now also use mission and vision statements to give clarity to their
purpose .

•• Exhibit 1-23: Alignment of Strategies

••
••
•• If these strategies arc not aligned, the direction and fit will be askew. All three

•• strategies are linked and dependent. The AP JCS Dictionary, 13th edition,
differentiates between business and organizational strategy (listed as "strategy"

•• in the Dictionary) as follows:

•• • Business strategy. A plan for choosing how to compete. Three

generic business strategies are ( 1) least cost, (2) differentiation, and
(3) focus .

•• • Strategy (organizational). The strategy of an enterprise identifies

how a company will function in its environment. The strategy

•• specifies how to satisfy customers, how to grow the business, how

to compete in its environment, how to manage the organization and
develop capabilities within the business, and how to achieve

•• financial objectives .

•• Supply chain strategy is then a strategy for how the supply chain will function
in its environment to meet the goals of the organization's business and
organization strategies. Prior to discussing organizational and supply chain

•• strategy in more detail, the first topic in the section addresses business strategy
and competitive advantages. Competitive advantages are closely related to

•• business strategy because they outline the advantages the organization should
realize once it has decided how it will compete .

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Module 1: Fundamentals of Supply Chain Management

••
Other concepts covered in this section include
• Organizational and supply chain strategy
• Prioritization options
•
•
Organizational capabilities
Alignment of capabilities and strategy
••
• Resolving misalignment or gaps.
••
+Topic 1: Business Strategy and Competitive Advantages ••
Business
strategy
Typically a business strategy will outline how to grow the business, how to
distinguish the business from the competition and outperform them, how to ••
achieve superior levels of financial and market performance, and how to
create or maintain a sustainable competitive edge. ••
As per the definition provided previously, business strategies include least
cost, differentiation, and focus. Least cost relates to a lower cost than the
••
competition for an otherwise equivalent product or service. Differentiation
relates to a product or service with more features, options, or models than the ••
competition. Focus relates to whether the product or service is designed for a
broad audience or a well-defined market segment or segments. There are ••
many ways that these generic strategies can be combined or made into
hybrids. For example, common business strategies that are generic to many ••
••
industries and manufacturers include the following variations:
• Best cost--creates a hybrid, low-cost approach for providing a
differentiated product or service
• Low cost-focuses on delivering low price and no-frills basics with prices
that are hard to match ••
• Broad differentiation--creates product and service attributes that appeal
to many buyers looking for variety of goods ••
• Focused differentiation--develops unique strategies for target market
niches to meet unique buyer needs ••
• Focused low cost=-designed to meet well-defined buyer needs at a low
cost ••
Competitive
advantages
Competitive advantages mirror the strategies used to create them: A competitive
advantage exists when an organization is able to provide the same benefits from a
••
product or service at a lower cost than a competitor (low cost advantage), deliver
benefits that exceed those of a competitor's product or service (differentiation ••
advantage), or create a product or service that is better suited to a given customer
segment than what the competition can offer (focus advantage). The result of this ••
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•• Section B: Supply Chain Alignment with Business Strategy

•• competitive advantage is superior value creation for the organization and its
customers. If this advantage is successfully implemented and marketed, it should
result in improved profits and market share .

•• To explore how low-cost-, differentiation-, and focus-based competitive

•• advantages could be interpreted in an organization and its supply chain, we will

explore each of these strategies and their competitive advantages in more detail

•• Low-cost
next.

Supply chain strategies consistent with a low-cost approach to competition

•• advantage
strategies
include a variety of methods to reduce cost in all areas of the chain, including
resource extraction, transportation, warehousing, and location and design of

•• retail facilities. A powerful nucleus firm with a low-price strategy and a large
market share can exert great leverage on its suppliers. Such a finn may be able

•• to require suppliers to cut facility costs, relocate, adopt lean manufacturing,

change employment practices, and so forth .

•• A low-cost strategy should not be confused with target cost. Target costing is
defined in the APICS Dictionary, 13th edition, as

•• the process of designing a product to meet a specific cost objective .

Target costing involves setting the planned selling price, subtracting

•• the desired profit as well as marketing and distribution costs, thus

leaving the required manufacturing or target cost.

•• In many cities, this strategy had resulted in the opening of numerous "dollar
stores" where the majority of the products are only one dollar and the

•• selection is huge .

•• Note that providing a product or service at the lowest price is generally not
compatible with either differentiation or focus (niche marketing) strategies .
The lower profit margins provided by this approach are more consistent with

•• mass marketing. However, even low-cost products have to meet some quality
standards to remain competitive. Also, price competition can exist within a

•• niche or differentiated market. One luxury automobile may undercut another

in price, for example, if it maintains a level of quality and a sterling

•• Product or service
reputation .

•• differentiation
advantage
Determining how to differentiate a product or service begins with a competitive
analysis of other firms in the market to see what they have to offer. According
to the A P!CS Dictionary, 13th edition, competitive analysis is "an analysis of a

•• strategies
competitor that includes its strategies, capabilities, prices, and costs."

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Module 1: Fundamentals of Supply Chain Management

Once a firm has analyzed the offerings of competitors, it may differentiate its
products and services in a number of ways. The following are some types of
differentiation:
••
• High quality-durability,appearance, performance, type of materials, and
so on (Quality is often an order "qualifier," or an element necessary to even
••
consider the purchase of a particular product.)
• Diversity of the product line, offering customers many options (The ••
opposite of this approach was Henry Ford's alleged claim that people could
have his cars in any color they wanted as long as they wanted black.) ••
• Greater reliability (which could be considered a type of quality)
• Special features not available from competing products or services ••
Supply chain strategies appropriate to product differentiation include
• Modular design combined with postponement to allow last-minute
••
customization to meet specific consumer demands
• Minimal inventory of the base model to prevent obsolescence and expand ••
the inventory of options
• Collaboration with suppliers to develop innovative designs, numerous ••
Focus advantage
options appealing to different customer tastes, artistic design, and so on.

The following discussion is divided into two ways to create a focus advantage:
••
strategies • Niche marketing (versus mass marketing)
• Responsiveness ••
Niche marketing (versus mass marketing) ••
Firms can choose to develop products and services for a mass market or for a
relatively small slice of a larger market-a market niche. ••
Some examples of niche market approaches include
• Catering to high-net-worth customers with products such as luxury ••
automobiles, yachts, large homes, or specialized services such as estate
planning, personal training, or expensive cruises ••
• Designing for a limited age group, such as children or senior citizens with
special needs instead of serving a broader population ••
••
• Providing products or services for residents of a particular geographic area,
such as growing vegetables for a neighborhood market rather than for
packaging and shipping around the nation or world.

Niche marketing shares some characteristics with product/service ••

differentiation. In both cases, the product or service provided to customers has
special features. Differentiation by quality, for example, can be the same thing ••
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Section B: Supply Chain Alignment with Business Strategy

•• as catering to high-net-worth customers. (Low-net-worth customers, or value

shoppers, can also be niche.) Therefore, some supply chain strategies will work
for both approaches. Collaboration to achieve distinctive design is one example .

•• Depending upon the niche, sourcing may focus more on finding special
expertise or high-quality materials rather than on low-cost labor.

•• Responsiveness

•• Perhaps the most obvious example of responsiveness is the fast-food industry

that grew up in the last half of the 20th century, led by McDonald's. Diners at

•• fine restaurants will happily wait half an hour for their specially cooked steak,
but employees on short lunch breaks become impatient with even a few minutes
in line as their sandwiches are prepared. In the early days of the Toyota Prius

•• automobile=-a highly differentiated car-buyers were known to wait for

months for a new vehicle. (The same phenomenon occurred when the

•• Volkswagen "Beetle" first came to the United States, where it was both highly
differentiated and a low-cost option.) But businesspeople or diplomats on

•• assignment expect a rental car or limousine to be ready immediately when they

arrive at the airport. Manufacturers of clothing prosper or go bankrupt by their

•• ability to bring the latest seasonal designs to market rapidly. Perishable

products, such as raw food items, must be delivered rapidly, unlike preserved
foods. Services may also compete on the basis of speed by cutting time spent

•• waiting on the phone, standing in line, or processing paperwork .

•• Supply chains designed for responsiveness may rely on substantial supplies of

safety stock to avoid outages. (Overstocked seasonal items typically go on sale

•• at the end of the season.) They may also have multiple warehouses to place
products nearer to users. Third-party providers of rapid transportation, such as

•• package delivery services, were developed to suit the needs of such supply
chains .

•• Choosing
business
While some firms may focus primarily on one business strategy, others may
pursue a mix of strategies. Note, however, that making one strategy the priority

•• strategies
may make other strategies difficult to achieve. For example, providing high
quality at the lowest price is a challenge. But not all the strategies are mutually

•• exclusive. Product differentiation and niche marketing fit well together. Either
responsiveness or low cost may be a key competitive factor that differentiates a

•• firm from its market rivals .

Once an organization has decided on a business strategy, it uses these choices to

•• drive the organizational strategy and eventually the supply chain strategy.

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Module I: Fundamentals of Supply Chain Management

* Topic 2: Organizational and Supply Chain Strategy,

Prioritization, Capabilities, and Alignment ••
Organizational
strategy
Recall that the strategy of an enterprise identifies how a company will function
in its environment. The strategy specifies how to satisfy customers, how to
••
grow the business, how to compete in its environment, how to manage the
organization and develop capabilities within the business, and how to achieve
••
financial objectives.
••
Where do you start when building an organization's strategy? As author and
business consultant Stephen R. Covey says in The Seven Habits ofHighly ••
••
Effective People, "begin with the end in mind," that is, think first about the
goals of the strategy.

Goals of
organizational
Whatever strategy the corporation adopts to satisfy customers, grow, compete,
organize itself, and make money, the supply chain has to operate in a manner
••
strategy
that furthers those goals. To give a simple example, if customers are clamoring
for deeply discounted prices on durable, high-volume goods with stable ••
demand, a supply chain strategy that invests heavily in sourcing lower-cost
materials in emerging markets would be on target for accomplishing that goal. ••
Low-cost sourcing is probably the best option for this strategy because
purchasing machines involves a high capital investment and lower labor
expenses could help offset the investment costs. However, you might also look
••
into investing in equipment, as the high investment is covered by lower labor
costs and increased revenue. (It is possible for an organization to do both-
••
invest in automation and move into a geographic area where labor costs are
less. That decision would be based on volume, payback period, product life ••
cycle, etc.)
••
Horizontal supply chains will contain a number of independent organizations,
each with its own goals, processes, operations, technology, and strategy. So,
when we refer to the necessity of aligning supply chain strategy with
••
organizational strategy, we are referring to the strategies of a channel master or
nucleus firrn. Traditionally, that's the manufacturer of a product-the company
••
that sits right at the center of the chain (or network) with suppliers in tiers on
one side and customers on the other. ••
However, ifa supply chain has a dominant firm with a dominating strategy (one ••
that is dictating its requirements to others), for example, a large retailer, then
supplier and manufacturer strategies and goals must align with that retailer's
••
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Section B: Supply Chain Alignment with Business Strategy

•• organizational and supply chain strategies. The suppliers of suppliers also have
strategies to be brought into alignment. Finally, the strategies, once aligned,
have to do two things: serve the end customers' needs and be profitable for the

•• chain as a whole and each company individually .

•• The following looks at four types of organizational strategy in detail: customer

focus and alignment, forecast-driven enterprise, demand-driven enterprise, and

•• Strategy:
number of supply chains .

When it comes to supply chains, it's what's good for the customer that counts-

•• customerfocus
and alignment
not what's good for the nucleus company or even what seems to be good for the
supply chain itself. Supply chain management needs to be focused on giving the

•• final customer the right product at the right time and place for the right price. It
isn't necessarily about the most advanced product or service, nor is it always

•• about the lowest price, the fastest time, or the most convenient place. It's about
the balance of quality, price, and availability (timing and place) that's just right

•• for the supply chain's customer.

How does one determine what is the right amount of each of those factors? There

•• isn't a simple formula that will help the supply chain manager with this decision .
But there are some basic premises that will help you get started in determining the

•• appropriate balance:
• Serving the end-user customer is the primary driver of supply chain decisions.

•• • Organizations in the supply chain have to make a profit and stay in business
to serve the customer .

•• Functional teams in the organization will provide their input and research on the

••
optimal balance for the supply chain to meet customer needs. Design engineers-
or, better yet, design teams from across the network=design products that are
right for the end customer and can be sold profitably. Market research looks for

•• the true, and not always obvious, needs in potential consumers that the supply
chain can be engineered to satisfy profitably. Logistics strategy begins with data

•• about customer demands for availability-e-of materials, components, service, or

finished products, depending upon the customer-v-and then it looks for ways to

•• move products in a cost-effective way with acceptable risk .

••
Decisions are not just about product features or price or speedy delivery. They arc
about the right features at the right price on the right schedule. DOS was not a
great operating system; it was just the right operating system for the time and the

•• market.

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••
The term "customer" can be a complex concept in relation to supply chains
•
••
••
because there are multiple customers with different stakes in the process. When
we talk about customer focus, we mean the end user, the consumer of the
product. But usually only the retailer actually sees the end user and has a direct
relationship with that person or entity.
••
Everyone else in the supply chain has a more immediate customer just
downstream to our right in the supply chain diagram. rf the supply chain is ••
completely aligned in its focus on the end customer, then, at least in theory,
serving the customer just to an organization's downstream side would
automatically serve the end user and also be in the supplying organization's
••
best interest as well as the interest of investors.
••
Moreover, within each supply chain partner there are internal "customers"
whose needs also must be aligned with corporate and supply chain strategies. ••
Each manager must understand his or her role in making the supply chain
profitable, and staff, too, must be rewarded, motivated, and trained in alignment ••
with the needs of the supply chain's end customer.

Consider sustainable supply chain management. Successfully managing for

••
sustainability requires a strategic mindset, involving numerous personnel and
financial resources and a commitment from suppliers from first to lower tiers of
••
the supply chain as well as consumers further up the supply chain. Departments
must cooperate with other departments in their organization (e.g., purchasing ••
and environmental or design departments) and with their counterparts at
suppliers. This type of collaboration between supply chain partners necessitates ••
breaking down cultural barriers and building a culture of trust to ensure that the
focus is on end-to-end supply chain activities and not just discrete supply chain ••
••
processes.

Creating and managing a sustainable supply chain requires an organization to

be informed, exercise leadership, and cooperate with all supply chain partners
in achieving positive results on the triple bottom line. ••
Strategy: forecast- A second organizational strategy is the forecast-driven enterprise. Simply put,
driven enterprise this strategy is one in which the nucleus firm, usually the manufacturer, utilizes a
••
forecast, an estimate of future demand, as the basis of its organizational strategy. ••
Here is the complicating factor: It is difficult to know what customer
requirements will be from day to day, month to month, quarter to quarter, and so
••
••
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•• on. For instance, if a manufacturer was guaranteed that its wholesale or retail
customers were going to need 1,000 SKUs (stockkeeping units) every
Wednesday afternoon, then getting those products to customers at the right time

•• and place would be a matter of simple calculation based upon lead times for
production and delivery. In tum, the manufacturer would look at the bill of

•• material, determine the lead time for each, and submit schedules to its suppliers.
Unfortunately, it's difficult to predict even the most stable demand-say, for a

••' product like diapers. There is some variability in demand for diapers, even
though they aren't subject to seasonal style changes or rapid peaks and valleys in

•• response to outside influences affecting ability to pay. (That's why Procter &
Gamble cooperates with Walmart to plan for demand and replenishment of
diapers.) The chain of demand begins at the far retail end of the supply chain and

•• works its way back toward the source of raw materials used in making the
product. The traditional way of attempting to satisfy this demand is to forecast it.

•• In this retail example, forecasting along the chain works like this:

•• •
•
The retailer forecasts demand from parents who purchase diapers .
The wholesaler forecasts demand from all its retailers.

•• •
•
The manufacturer forecasts demand from the wholesale distributors.
The component suppliers forecast demand from manufacturers.

••
• The raw materials suppliers forecast demand from the component
manufacturers.

•• How effective is this strategy? Let's say you don't want to be placing large bets on
the accuracy of all those forecasts. Here's what actually happens:

•• • Parents vary their diaper-buying patterns in fairly small increments due to

factors nobody fully understands. They may go to different stores for a change,
shop on Tuesday instead of Wednesday, or buy two or three weeks' worth at
•• one time because the diapers are on sale. So, actual demand never quite meets
the forecast.

•• • Meanwhile the retailer had already ordered enough to allow a little extra
"safety stock" to put in its storeroom. (For retailers, safety stock is a quantity

•• of stock planned to be in inventory to protect against fluctuations in demand or

supply.) Or maybe the retailer runs a promotion that is not communicated to

•• the distributor, thus resulting in needing a larger order than was previously
forecasted. 'These fluctuations impact forecasting for the distributor.

•• • The wholesale distributor had forecasted demand based on past orders from its
retailers. But now those demand patterns have a wider variability than the
demand pattern at the retailer's checkout c.ounters due to that safety stock the

•• retailer held on to. Sometimes the safety stock accumulates because demand is

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Module 1: Fundamentals of Supply Chain Management
••
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less than the forecast, and this means that the retailer's next order is for less
than its forecast=-or perhaps it doesn't have to order at the usual time at all,
because it has a glut of diapers-which it probably sells off in a promotion.
••
The upshot of all this is that the small variations in end-user demand are
magnified at the distributor. ••
• Up the chain, the manufacturer of those diapers looks at the demand pattern
from the distributor and makes its own forecasts, which show an even wider ••
•
swing in variability.
And this variability goes up the chain with ever-wider swings. ••
As mentioned earlier in this module, this pattern of variability is called the
bullwhip effect, and it affects all manner of supply chains that are based on serial
••
forecasting by each independent division or firm that touches the product as it
travels from raw material to finished retail item.
••
Strategy: demand-
drivenenterprise
The next organizational strategy we' II look at is the demand-driven enterprise. ••
The bullwhip effect is driven by demand forecasts; the solution is to replace the
forecasts with actual demand information. This isn't necessarily a simple matter
either, but supply chain professionals have evolved techniques for letting actual
••
orders (not forecasts) drive production and distribution.
••
In the demand-drivenchain, supply management is focused on customer demand.
Instead of manufacturers planning their operations based on factory capacity and ••
asset utilization, the demand-driven supply model operates on a customer-centric
approach that allows demand to drive supply chain planning and execution-moving
the "push-pull frontier," as it's called, back up the chain at least to the factory.
••
Instead of producing to the forecast and sending finished products to inventory, the
production process is based on sales information. There is, in other words, no fixed
••
production schedule in a strictly demand-driven supply chain. Product is turned out
only in response to actual orders, "on demand," in other words. (Note, however, that ••
on the supplier side of the plant, forecasts still determine delivery of raw material.
The art of forecasting remains crucial, even in a demand-driven chain.) ••
This is also known as a "pull system," and it entails the following:
• In production, the production of items only as demanded for use or to replace
••
•
those taken for use.
In material control, the withdrawal of inventory as demanded by the using
••
•
operations. Material is not issued until a signal comes from the user.
In distribution, a system for replenishing field warehouse inventories where ••
replenishment decisions are made at the field warehouse itself, not at the
central warehouse or plant. ••
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•• Section B: Supply Chain Alignment with Business Strategy

•• When a supply chain works in response to forecasts, it's called a "push" chain,
and it entails the following:

••
• In production, the production of items at required times based on a given
schedule planned in advance.
• In material control, the issuing of material according to a given schedule or

•• •
issuing material to a job order at its start time .
In distribution, a system for replenishing field warehouse inventories where

•• replenishment decision making is centralized, usually at the manufacturing

site or central supply facility .

•• Everything in a push system is pushed downstream from one point to the next

•• according to schedules based on the forecasts. The supplier delivers components

in the amounts determined by the schedule to inventory, where they await use in
manufacturing. The plant turns them into finished products and pushes the

•• products to the distribution center or the retailer, where they await an order from
downstream.

•• The challenge in changing from forecast-driven (push) to demand-driven (pull)

•• systems is in reducing inventory without also lowering customer satisfaction .

When a demand-driven system is set up and managed properly, it can actually

•• enhance customer service while reducing costs. But stockouts are a risk.

As always with supply chains, the decision to switch to a demand-pull process

•• trades one type of risk for another:

•• • In the forecast-push process, the risk is related to the build-up of inventory all
along the chain. Not only does inventory cost money while it sits in a retail

•• stockroom, distribution center, or preproduction storage area; it runs the risk

of becoming obsolete or irrelevant for a number of reasons. In a world of
rapid innovation, inventory obsolescence is a very real threat. (For example,

•• Cisco Systems, for years an exemplar of successful and innovative supply

chain management, had to dispose of US$2.25 billion worth of useless

•• inventory when the dot-com bubble burst at the beginning of this millennium .
All those season close-out sales you see in clothing and department stores are

•• a way of clearing out the overstock. Bookstore remainder tables (which are
much less in evidence than they were a decade or two in the past) are a sign of

•• inventory overhang caused by failed forecasting. Magazine distributors used

to destroy huge quantities of monthly magazines 12 times a year when they
came back from retail outlets. (Since magazines are inexpensive to produce

•• and destroy compared to their retail price, the distributors would rather
destroy ten copies than miss one sale.) Those are the results of producing to

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Module 1: Fundamentals ofSupply Chain Management
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forecasts that no one trusts and purposely overstocking to be sure of meeting
unexpectedly high demand.
••
• In the demand-pull, make-to-order model, on the other hand, the risk is that
orders will begin to come in above capacity and all along the chain there will ••
be expensive activity to run the plant overtime, buy more and faster
transportation, or sweet-talk customers into waiting for their orders to be ••
filled or substituting a different product. (Running short of stock is also a risk
in the forecast-driven chain. Forecasts can be wrong in either direction. That's
why the safety stock builds up at each point where orders come in.) One
••
technique to prepare for uncertain demand is kitting, which is preparing
(making/purchasing) components in advance, grouping them together in a
••
"kit," and having them available to assemble or complete when an order is
placed. ••
In Gartner's annual supply chain report, they rank the top 25 demand-driven ••
••
supply chains, thereby underscoring the importance of this strategy. In fact, the
companies that gain a position on this list have all applied demand-driven
principles to coordinate supply, demand, and product management to better
respond to market demand. If you would like additional information about this
report, a link is provided in the online Information Center. ••
In reality, most organizations pursue a push-pull strategy and the point where push ••
••
moves to pull is the key strategic decision. Once that decision has been made,
building a demand-driven enterprise can require significant changes in all supply
chain processes. The following are some major steps:

• Provide access to real demand data along the chain for greater visibility of ••
the end customer. The first requirement is to replace the forecasts with real
data. The only supply chain partner with access to these data firsthand is the
retailer, and retailers in the past have been no more willing to share business
••
data than any other firms. The other partners lack "visibility"--one
supply chain principles promoted by APICS. They simply cannot see what's
of the main
••
going on with the end customer. But visibility is a necessity for building a pull
system, and pioneers like Walmart have led the way in that regard. With point· ••
of-sale scanning or radio frequency identification (RFID), a retailer can alert its
suppliers to customer activity instantaneously. Instead of producing to the ••
monthly forecast, manufacturers with that kind of immediate signal from the
front lines can plan one day's production runs at the end of the preceding day.
They produce just enough to replace the sold items.
••
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••• • Establish trust and promotecollaboration among supply chain partners.

Collaboration is implied in the sharing of information. But more is at stake
than simply sharing sales information. Partners may have to invest in new
technology and develop new systems to be able to use the real-time data. With

•• orders going out without a schedule, all processes will have to be altered-
warehousing (storage no longer needed), packaging, shipping, and planning

•• will all be handled differently in the new system. In return for receiving real-
time data that allow reduction of inventory, suppliers and distributors have to

•• agree to change their processes in whatever ways may be necessary to make

the new system function without disrupting customer service .

•• • Increaseagility of trade partners.Because the inventory buffers will not

exist or will be much reduced in this demand-driven supply chain, the trade

•• partners need to develop agility-the ability to respond to the variability in

the flow of orders based on sales. The plant, for example, may have to

•• undergo considerable change if it has to produce several different kinds of

products under the new circumstances. When making to forecast, a plant

••
can run a larger volume of each product to send to inventory. But when
making to order, the plant may have to produce several different types of
products in a day. There will be no room for long changeover times

•• between runs of different products; therefore, equipment, processes, work

center layouts, staffing, or siting---or all these things-may have to change

•• to create the capacity required to handle the new system .

•• Strategy:number
of supply chains
The last strategy we'll cover is based on a company having more than one supply
chain, depending upon the number and types of products that are passing along the
chain and other variables. For a product with a complex bill of material (many parts

•• that combine into many components to make the final product), a manufacturer may
be bringing in materials from many suppliers. And these materials might range from

•• low-priced commodities to fragile or sophisticated materials that require special

shipping and handling. Suppliers might range from small specialized firms to raw

•• • materials giants larger than the manufacturer. Some are key accounts; some might
be occasional buyers. The finished products may be sold through several different
channels-e-commerce, printed catalogs, commercial, and retail. These variables
may combine in different ways, each suggesting its own type of supply chain

•• strategy. Next we'll explore how product types, fi.mctional versus innovative, often
require different supply chain strategies .

•• In "What Is the Right Supply Chain for Your Product?" Marshall L. Fisher

•• distinguished two types of products, functional versus innovative, that require

different supply chain strategics .

•
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Functionalproductsthat change little from year to year have longer life cycles
(perhaps more than two years), relatively low contribution margins, and little
variety. Because demand for them is stable, they are fairly easy to forecast, with
••
a margin of error of about I 0 percent, very few stockouts, and no end-of-season
markdowns. The appropriate supply chain for these products should emphasize
••
predictability and low cost with performance indicators such as the following:
• High average utilization rate in manufacturing ••
•
•
Minimal inventory with high inventory turns
Short lead time (consistent with low cost) ••
•
•
Suppliers chosen for cost and quality
Product design that strives for maximum performance and minimal cost ••
However, make-to-order functional products, such as replacement parts for
customized equipment, usually have long lead times (six months to a year).
••
Innovativeproducts have unpredictable demand, relatively short life cycles
••
(three months for seasonal clothing), and high contribution margins of 20 to 60
percent. They may have millions of variants in each category, an average ••
stockout rate from 10 to 40 percent, and end-of-season markdowns in the range
of I 0 to 25 percent of regular price. The margin of error on forecasts for ••
innovative products is high-40 to 100 percent-but the lead time to make them
to order may be as low as one day and generally is no more than two weeks. ••
The supply chain for innovative products should emphasize market
responsiveness rather than physical efficiency, with performance indicators
••
such as the following:
• Excess buffer capacity and significant buffer (or safety) stock of parts or ••
•
finished items
Aggressive reduction of lead times ••
•
•
Suppliers chosen for speed, flexibility, and quality (rather than cost)
Modular design that postpones differentiation as long as possible ••
Innovative products, with their high margins and unpredictable demand, justify
the extra expense for holding costs. (Fisher also proposes, however, that
••
manufacturers of innovative products can look for other solutions to the
problem of unpredictable demand, such as aggressively reducing lead times and
••
producing products to order rather than for inventory.)
••
Here is a conundrum ... What happens when a product can fall into either
category? Fisher says that some products can be either innovative or functional. ••
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••
•• Automobiles fit that description, with a low-priced, no-frills car like a base
model Chevrolet Cobalt or Hyundai Excel representing the functional end of the
spectrum and a Porsche representing the other end. Similarly, coffee can be

•• functional-as anyone who has worked in an office knows, in which case it

should be available quickly at a low price with perhaps cream and sugar as

•• options. At a high-end coffee shop, on the other hand, patrons are willing to
endure longer lead times and pay more money for their coffee, but they want

•• variety in return .

••
The idea that the same type of product can be either functional or innovative
implies that one company might have more than one supply chain. And that's
the contention of Jonathan Byrnes, a professor at MIT. Writing in the Harvard

•• Business School's Working Knowledge, Byrnes asserts that one supply chain is
not enough; two, three, or more would be preferable. "One size fits all" supply

•• chains may have been sufficient in the past, he believes, when that was the
competitive norm, but new information technology makes it possible to have

•• multiple, dynamic chains that can accommodate different product and

information flows.

•• Byrnes breaks products into three categories: staples, seasonal products, and
fashion .

•• • Staples (which are much like Fisher's functional products) have steady,
year-round demand and low margins. White underwear is an example .

•• Byrnes advises stocking staples only in retail outlets in small quantities and
transporting them in truckload quantities. (A full truck, as you'll see in

•• Module 2, is more cost-effective for the shipper than a partially loaded

vehicle.)

•• • Seasonal products could include outdoor patio furniture, holiday decor,

etc., for which the demand is more predictable since it is tied to the holiday
or season .

•• • Fashion productsare like Fisher's innovative items, with unpredictable

demand. Zara, the Spanish clothing manufacturer, has two supply chains,

•• one for staples and the other for fashion clothing. To get the fastest response
time, Zara uses European suppliers for the fashion items. But for the more

•
••
predictable demand items, it uses eastern European suppliers that have poor
response time (not a concern) and lower cost.

•• Jn addition to varying the supply chain by product type, Fisher recommends

several other variables to consider-store type and time in season or product
cycle. Demand varies considerably over the life cycle of many products. The

••
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same item might have infrequent demand at first, more stable demand in its
maturity phase, and falling demand at the end of its life cycle. With more than
one supply chain, the nucleus firm can move its products from one chain to the
other in response to changing variables, such as type of channel or life-cycle
stage. •••
Business and organizational strategies are formalized and clearly specified within
an organization's business plan, so this is discussed next. ••
Business plan A business plan is a written document that describes the overall direction of the
firm and what it wants to become in the future. The APJCS Dictionary, 13th
•
••
edition, defines a business plan in part as follows:

A statement oflong-range strategy and revenue, cost, and profit

••
objectives usually accompanied by budgets, a projected balance sheet,
and a cash flow (source and application of funds) statement. A business
plan is usually stated in terms of dollars and grouped by product family.
The business plan is then translated into synchronized tactical functional
• ••
plans through the production planning process (or the sales and
operations planning process). Although frequently stated in different
terms (dollars versus units), these tactical plans should agree with each
••
other and with the business plan.

The business plan provides general direction regarding how the firm plans on
••
achieving its long-term objectives. Key functions such as finance, engineering,
marketing, and operations typically have input into the plan. As illustrated in
••
Exhibit 1-24, the overall strategic plan cascades down to those same functions.
••
••
Exhibit1-24: Impact of the Business Plan

Business ••
Plan
•• •
•
••
Finance Engineering Marketing Operations
••
••
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•• The finance function manages and tracks the sources of funds, amounts
available for use, cash flows, budgets, profits, and return on investment.
Engineering is responsible for research and development and the design and

•• redesign of products that can be made most economically. Marketing's

is on analysis of the marketplace and how the firm positions itself and its
focus

•• products. (You will learn more about the role of marketing in the next section.)
The goal of the operations function is to meet the demands of the marketplace

•• via the organization's products. Operations also manages the manufacturing

facilities, machinery, equipment, labor, and materials as efficiently as possible .

•• These functional roles collectively support the success of the supply chain .

The business plan is based on and aligned with the business strategy and with

•• market requirements. It provides a framework for the organization's

performance objectives that arc tied to strategic goals. In the ideal world,

•• formation of and changes to the business plan come from top management's
modifications to the business strategy and organizational strategy. But in

•• reality that may not always be the case .

•• Supply chain The supply chain has the overarching goal of providing customers with goods
strategy and services when they want them, at a competitive price, while being
consistent with the organization's and extended supply chain's strategies. If

•• the supply chain cannot successfully execute this strategy, the business, or
product line, may cease to exist.

•• When you think about the role the supply chain plays in the bigger context or

•• your company, remember the model shown in Exhibit 1-24, which showed
that the functional strategies underlying supply chain management must

••
articulate with the business plan, and remember also that the purpose of
supply chains is to be globally competitive. Time, distance, and collaboration
arc basic elements in modem supply chains that impact the chain's ability to

•• respond to competitive changes in the global marketplace. The relationships

of time, distance, and collaboration weave like three bright threads through

•• the fabric of any supply chain on the globe. Therefore, collaborative

relationships arc explored further as they arc a primary component of supply

•• chain strategy .

•• Collaborative As time annihilates distance, collaborations among participants in supply chains

relationships undreamed of a decade or two in the past have become essential supply chain
strategies for the present and future success of the organizations involved. These

•• partnerships are being forged both across thousands of miles and with local
suppliers, creating virtual organizations that extend beyond the physical

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boundaries of a company. In these virtual corporations and the virtual networks,
we can-and therefore we must-share ideas and data to be competitive.
••
What do these strategic partnerships look like in action? Suppliers,
manufacturers, and customers all come together on design teams to create
••
products that will not only satisfy customer demand but will be efficient to
produce, assemble, transport, and store. Planners gather from all functional areas ••
and-by way of software-from multiple supply chain partners to discuss
anticipated demand, demand planning, and appropriate forecasting methods. ••
Operations plans and manages manufacturing priorities, capacity, and inventory.
Logistics determines the most effective warehousing and the appropriate means
of transportation to optimize customer satisfaction and profits.
••
Partnership But how docs a business select its strategic partners? Jordan Lewis, author of ••
criteria Partnershipsfor Profit, has developed a comprehensive framework of
criteria for evaluating potential partners for strategic alliances. Seven factors ••
need to be carefully researched and considered when forming a supply chain
strategy.
••
• Add value. Can a company add value to your firm's existing products?
Does the potential partner create products that are complementary to those ••
••
.i•
of your firm? An example would be if your firm produces computer
hardware and the potential partner company manufactures software that is
used on your computers. This can actually add value to both companies'
products. Other examples of value-added benefits include partners that

••
shorten time to market, speed up distribution times, or enhance the product
repair process: these all contribute to a higher perceived value of the finn.

• Improve market access. Will a partnership with this company lead to

increased access to new markets? Does the partner firm have better, more ••
effective advertising? Again here a company that has products that
complement your organization's offerings might make a good partner. You ••
••
might decide to offer a package deal, combining products from both
companies, as a promotion.

• Strengthen operations. Will an alliance with this firm improve your

operations by lowering costs and cycle times'? If yes, then resources and ••
facilities can be used more efficiently and effectively.
complementary
Companies with
seasonal products, for instance, can effectively share ••
warehouses and trucks throughout the entire year.

••
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•• Section B: Supply Chain Alignment with Business Strategy

••
••
• Add technological strength.Does the company use the same technology or
is it willing to share new technology with your firm? Does the potential
partner have internal expertise to facilitate the transition between new and

•• old technologies? And is your organization prepared to handle those

challenges?

•• • Enhancestrategicgrowth. Are there significant barriers to working with

•• this firm? Will its strategy align with your organization's? ls the firm
heading in the same general direction? Pooling expertise and resources from

•• •
both firms can provide new opportunities for growth .

Share insights and learning.Is the company willing to share its insights

•• and key learning with your company? Alliances where that can occur yield
a wealth of information that can be used by both organizations. It also

•• encourages partners to learn more about themselves and increase their

desire to be more flexible in the partnership .

•• • Increasefinancial strength.Is the potential partner willing to share

•• administrative costs for shared activities? ls the firm willing to share in the
risk? Sometimes administrative costs can be reduced due to the expertise of

••
one or both partners, and strategic alliances can limit investment exposure if
the other firm will agree to share in the risk .

•• Every potential partner organization has its strengths or core competencies .

These should not be diminished by the alliance with your organization; this can

•• happen if the firm's resources are diverted from its strengths. It can also occur if
the firm's strategic or technological strengths are compromised in the process of

•• making the partnership successful. Remember that it's only a successful strategic
a11iance if the partnership results in a "win-win" for both parties .

•• Creating relationships that produce meaningful results requires commitment by

both parties and hard work. Effective partnerships are a combination of shared

•• risks, resources, rewards, vision, and values. Without each of these elements,
strategic alliances often are unbalanced and unaligned. The more unbalanced a

•• Building
partnership is, the more likely that key objectives will not be met.

So once you have analyzed potential partners according to these criteria and have

•• collaborative
relationships
chosen those that objectively match your needs in a strategic alliance, how do you go
about building a collaborative relationship? How will you generate a supply chain

•• strategy that can develop and grow trust, manage risks, overcome barriers,
communicate and collaborate effectively?

••
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Building these partnerships depends upon the following:
••
•
•
Auditable information exchange and technology for connectivity
Deterrence-based arrangements such as formal contracts that make
••
•
adherence to proper behavior a matter of self-interest
Incentive-based arrangements such as aligning sales and management
••
•
goals to collaborative objectives
Process-based arrangements such as long-term trust building based on ••
constant communications and feedback that spiral out into greater trust
over time ••
• Assignment of leaders with the appropriate level of authority to enforce
the relationship
••
••
• Focus on the entire supply chain
• Networkwide visibility and measurement of the bullwhip effect to assess
the impact of collective management of inventory
•
•
Sharing of knowledge, not just data
Clearly visible sharing of both the benefits and the burdens of the
••
•
relationship
Varied types of commitment, depending upon factors such as length of ••
relationship, feedback, and amount of added value by each potential
partner ••
In order to build the foundation of the collaborative partnership, the partners must: ••
••
• Initiate management tasks.
• Overcome barriers to collaboration.
• Build levels of communication.
•
•
Determine levels of collaborative intensity.
Examine strategic importance versus difficulty to determine product
••
categories.
••
Initiatemanagementtasks.
Once the collaboration is official, it's critical that top management demonstrate ••
••
their enthusiastic commitment to the partnership. Since actions speak much louder
than words, management should publicly model efforts of relationship building.
The managers of both firms need to work together from the start: share
information with external parties and with internal staff, modify incentives to
match collaborative goals, enforce agreements by departments and staff, stabilize
••
pricing and ordering, and improve operations. They must develop good working
relationships and strive for personal communication to develop mutual trust. They ••
need to develop supportive relationships that foster team spirit between the
partner companies. ••
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•• Division managers throughout the network must place the interests of the whole
above their local interests. These managers may be asked to make major changes
in how they operate to facilitate collaboration. Top management may need to

•• change the individual incentives of their managers and consistently encourage

them to make the needed changes. This may require internal team discussions

•• during which senior management enumerates the benefits of the collaboration and
discusses the negative impact of the di vision managers not being on board with

•• the required changes .

Management can start building the collaboration by jointly discussing and

•• designating relationship goals and planning the steps necessary to reach them .
This process begins with determining the specific contribution of each party and

•• the criteria for measuring that contribution. Obviously, total profits should be
one of the criteria, but there should be other specific measures, including

•• nonfinancial contributions. The criteria should be flexible enough to allow each

party to use innovation to meet its goals. In early stages, relationships should

•• emphasize equity in profits among all parties. Equity will help motivate all
parties to work toward the good of the whole .

•• The next task is to define roles for each party, taking care to avoid redundant efforts .
Conflicts can occur if these roles make one party more dependent upon another than

•• they wish to be. To alleviate this common problem, networks should avoid
sequential interdependence, in which the second party cannot begin work until the

•• first party is done. Instead, they should establish reciprocal interdependence, in

which the exchange of tasks and services occurs in both directions. Examples of this

••
include CPFR (collaborative planning, forecasting, and replenishment), which you
will learn more about in Module 2. Although mutual interdependence is more
complex to manage, it can also yield much greater rewards .

•• Since no contract can cover all contingencies, the next task is to create a policy for

•• resolving conflicts. If a conflict is serious enough to require amending the contract,

negotiations to do so should include all affected parties. Many firms prefer to

••
resolve differences through informal negotiation rather than by revisiting the
contract. All parties to the contract should agree upon a plan to govern such
negotiations to ensure that they aren't too informal. The plan should call for regular

•• meetings among key managers and cross-enterprise teams, and it should include
guidelines for referring problems to the highest level necessary to resolve the

•• conflict. Either the contract should specify how finance and IT establish rules for
transactions, or a policy and procedures guide should do so. Contracts, policies,

•• procedures, and informal conflict resolution must be sensitive to cultural

differences. In the United States, courts can resolve conflicts without detriment to

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long-term relationships among parties to a contract. The opposite is true in most

Asian countries.
••
Finally, managers must stay involved. Without management commitment, each
party tends to revert to its own self-interests. Weaker parties in the relationship may ••
bear the brunt of problems; without an effort to maintain equity, the relationships
may fall apart. The partnership's benefits and areas needing improvement will be ••
••
easier to identify and improve in a timely manner if the relationship is monitored
and cared for. Top management must follow through on its responsibility for
adhering to the collaborative arrangements.

Overcome barriersto collaboration. ••

Building successful collaborations requires overcoming predictable obstacles,
including the following challenges. ••
• Suboptimization. Suboptimization refers to a solution to a problem that is
best from a narrow point of view but not from a higher or overall company
••
point of view. When supply chains are not truly connected at the planning
level, each partner in the supply chain will work to maximize its own profits ••
or to increase other measures at the expense of the other supply chain
partners. When this occurs despite the recommendations of a holistic
optimization tool, it is a double loss because the investment in global •• •
planning is being put to waste. For example, when a product is available in
limited amounts, retail orders must be monitored across the chain. If each
store is allowed to determine its own order quantity, the result might be
••
overstocking of locations that order early and stockouts elsewhere.
Transportation costs are another area commonly suboptimized. ••
• Individual incentives that conflict with organizationalgoals. Incentives,
such as sales force bonuses, structured without thought for the supply chain
••
strategy, can often be counterproductive. For example, sales quotas for
distributors or manufacturers are often based on monthly or quarterly
••
targets for sales to retailers instead of on those retailer's actual sales. While
the distributor doesn't actually control retail sales, this practice can lead to ••
channel stuffing (intentionally selling too much inventory) and is
aggravated by promotions intended to increase sales at the end of a period. ••
These practices create a great deal of excess inventory as well as variability
in demand that the manufacturer must then deal with. Instead sales goals
must he aligned with actual demand. Many companies have stopped giving
••
sales incentives and instead have turned to other metrics that more
effectively align sales with company objectives.
••
••
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••
•• • Workingwith competitors.Supply chain management books tout the
success of collaborations among competitors, but many of these ventures
also fail. This is partly due to lack of trust and cultural rigidity, but it also

•• reflects the reality that one firm is trying to win market share at the expense
of the other. Such relationships should be kept at arm's length to ensure

•• fairness, and extra caution must be devoted to sharing information.

Companies may pretend to embrace collaboration when they really only

•• want access to information for their own benefit.

•• • Bottlenecks caused by weak or slow partner s. The slowest or least

integrated partner in a network will often limit the technological
collaboration level of a company as well as the level of trust that can be

•• built. If the firm is not willing to invest in a technical and social change
process, the only alternative may be to find a more willing or able

•• partner who can keep up with the network's collaboration curve .

•• • Technology barriers.When potential partners have incompatible

systems, it increases the difficulty of sharing data, especially when one

•• or more companies use very old legacy or ERP systems that do not adapt
well to the newer integration solutions such as process-oriented

••
middleware (like business process management [BPM], or Web services,
discussed in Module 2). Incompatible and/or antiquated hardware
infrastructures can also prove a barrier to collaboration .

•• • Power-based relationships. Rather than building relationships based

•• upon trust and mutual benefit, the nucleus firm may use its leverage to
dictate the terms of relationships to the other members. While the profits

•• of the nucleus firm increase, other members of the network may suffer
losses. When this occurs, the disadvantaged partners may rebel.

•• Resistance may result in redundancy, loss of overall profitability for the

chain, or an actual reversal of the power relationship. Once in power, the
mistreated party may retaliate instead of using the opportunity to develop

•• equitable relationships along the chain .

•• • Underestimated benefits. When collaboration is viewed as another type

of process reengineering, the partners generally measure the results in

•• reduced cost and cycle time rather than return on investment, which is a
better long-term indicator. Simply measuring efficiency increases will

•• fail to account for some of the true long-term benefits of collaboration .

This may lead managers to reject a colJaborative venture based on a

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••
failure to see gains such as removal ofreduplicated efforts, enhanced
innovation, and better use of total system assets and processes. ••
• Cultureconflicts. Cultures tend to be egocentric and thus tend to resist
external collaboration. They feel that their ways are the best ways of ••
doing things and will often reject a different way without even
considering it. Culture conflicts are increased when each company relies ••
on its own sources of information and is unable to see the impact of its
choices on other areas of the network. When companies don't see the
negative results of their actions, they can't learn from their mistakes.
••
Another potential culture conflict can arise when managers delay or ••
prevent collaboration. Such managers generally have safeguarded their
positions by not sharing information so that they must be sought for their ••
expertise. Others feel that collaboration is a fad or a bad idea altogether.
Still others talk about collaboration, but they are only interested in
receiving the benefits from a partner without reciprocating.
••
Build levels of communication.
••
Communication between partners can take place on different levels; not all
collaborations depend upon the same degree or intensity of communication. ••
We'll consider four levels of communication.
••
• Transactionalwith informationsharing.At this level of
communication, each partner has access to a single source of data about
matters such as workflow, forecasts, and transactions. Contracts are
••
generally medium term.
••
• Sharedprocesses and partnership.At this level, partners collaborate in
specific processes such as design. They share knowledge across the ••
network. Contracts are longer tcnn.
••
• Linked competitive vision and strategic alliance. At this level, supply
chain partners function as a virtual entity, working out even the highest
level of strategy together. The partners develop considerable trust and
••
achieve social and cultural understanding as well as information sharing.
Strategic alliances may last for decades.
••
• Backward integration(mergers and acquisitions). Outsourcing current ••
functions isn't the only way to forge links in a chain. Mergers or
acquisitions may involve two companies in the same tier rather than ••
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•• horizontal supplier-customer partners. The merger of Gillette with Procter

& Gamble is one such merger, as is the purchase of Sears by Kmart. There
has been a great deal of amalgamation among service firms, including

•• mergers of banks with other financial providers to create "one-stop

shopping" for consumers of financial products, and mergers in heavy

•• industry. Although mergers would seem to provide the deepest level of trust
and communication, the sudden clash of business, regional, and national

•• cultures involved often requires years of work to align attitudes, technology,

and business practices .

•• Determine levels of collaborativeintensity.

••
Determining the level of collaborative intensity that each relationship
requires depends on cost, quality, delivery reliability, precision, and
flexibility. Cost speaks for itself, but cost and quality often are inversely

•• proportional. Quality and delivery reliability are usually measured by

number of defects allowed or late orders and are often collectively rated by

•• members of an exchange using supplier history. Precision is measured as

degree of variance from specifications. (Small variances in components from

•• different vendors may actually prevent assembly.) Flexibility is the ability of

the supplier or manufacturer to deliver in varying quantities when given a

••
specific number of days' notice. These criteria are strongly influenced by
four factors related to the product or service: strategic importance,
complexity, number of suppliers, and uncertainty .

•• • Strategic importance. The primary sourcing consideration is the

•• strategic importance of the product or service. lf the company cannot

afford to make mistakes, it should produce the item in-house, even if

•• this is more expensive. If the company lacks internal capability, it

should form an alliance with one or more firms that can make the item

•• or perform the service. Multiple sources provide a backup. Commodity

products, by contrast, are widely available and have little strategic
importance and can be purchased at the lowest available price. This

•• includes modular products and overhead items such as electricity .

•• • Complexity. The next factor is the complexity of the item and of the
process steps required to produce it. Strategic alliances may he needed

•• for very complex items simply because of the level of collaborative

planning needed to get the item right in the necessary time frame .
Examples include military technologies such as missiles. Many

•• contractors may need to form strategic alliances to get all of the

components to work together and to provide the appropriate level of

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security. Airplanes also require alliances for many major systems,

although minor systems can be sourced through lower-level
relationships.
••
• Number of suppliers. The number of suppliers available for a product or
••
service will also determine how much the company should escalate the
relationship. When one or very few suppliers are available to produce a ••
specific component or good required, the company may need to form a
strategic relationship in order to guarantee continued availability of the ••
item. For example, Canon is one of the only producers of high-quality
engines suitable for use in laser printers, so HP has a strategic alliance
with them for this part even though the two compete on printer sales
••
directly. Focusing only on price or time to market with such a supplier
would be a mistake.
••
• Uncertainty. Finally, uncertainty is a primary concern in building ••
relationships. Uncertainty is the risk that the good or service may not be
available or may have strong fluctuations in price or quality. Even if ••
there are hundreds of suppliers of finished lumber on the market, there
may be great variability in quality and in precision of milling. If a
manufacturer that uses this lumber advertises its superior quality of
••
lumber as a selling point, then it is well advised not to simply buy from
the lowest-price supplier but to develop a partnership with one or more
••
suppliers who can meet these stringent levels of quality. They may be
able to have a middle-level relationship or even purchase on a private ••
exchange if such a service provides prequalification
service, however.
as a value-added
••
Examine strategic importance versus difficulty to determine product
categories.
••
If a partnership requires more than one of the intense collaboration levels noted
above-s-for example, when there is a limited number of suppliers and
••
uncertainty about an item's availability=-then the need for higher collaborati vc
intensity can be termed as "high strategic importance." Strategic importance can ••
be considered one half of the overall equation. Difficulty, which includes the
supply chain challenges of complexity, number of suppliers, and uncertainty, is ••
the other portion of the equation.

Exhibit 1-25 shows how this creates four basic categories of goods.
••
••
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•• Section B: SupplyChain Alignment with Business Strategy

•• Exhibit 1~25:Strategic Importance versus Supply Chain Difficulty

•• i Bottleneck Materials
1
Direct/Core Competency Materials !

•• ~
:c:
• Suppliers have strong bargaining power. •
•
There are one or a few suppliers.
There is a high impact on value to the
customer.

••
• Price is a large percentage of the total
system/product cost.

•• I
I ~OI
.;;modi;;·Mot.,fal<. ···· Leveragable Materials
Suppliers' relative bargaining power is
not strong.
1·

, • There are many suppliers .

••
• Supplier competition is ample .
• A small percentage of cost savings over
a broad base of items can have a large
impact on profitability .

•• Low High

••
Strategic Importance (Profit Impact)

Source: Adapted from Designing and Managing the Supply Chain, 3rd edition, Simchi-Levi et al.

•• This model can be used to determine which suppliers are most appropriate for

•• each of the four types of goods:

• Commodity materials are of low strategic importance and low supply

•• chain difficulty. They require suppliers whose priority is cost reduction .

These items are best purchased at arm's length. Which of your suppliers can

•• provide the best cost reduction on the commodity items you need?

•• • Bottleneck materials are also of low strategic importance but are of

high supply chain difficulty. Efforts must be made to ensure that the need
for these items is fulfilled. Therefore some level of ongoing relationship

•• with a particular supplier may be called for.

••
• Leveragable materials are of high strategic importance but low
difficulty levels. They call for collaboration to maximize both cost savings
and reliability through means such as bulk purchasing by multiple members

•• of the supply chain .

•• • Direct/core competency materials are of high strategic importance and

high difficulty and require strategic partnerships for longer periods of time

••
to ensure availability and quality .

Sometimes firms do not heed these factors and end up buying at arm's length to

•• get the lowest price for items that are critical in one or more of these ways .
Sometimes the cost of the process of checking goods for defects or repairing

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••
••
them or for resolving problems with customers after resale is quite a bit higher
than the cost savings found by switching from supplier to supplier. Some
damage to reputation may be irrevocable but hard to measure. Companies must
add these costs to the cost of the product when determining how much they are
actually spending. ••
Features and
benefitsof
Exhibit 1-26 summarizes the benefits to the supply chain of collaborative ••
••
relationships.
collaboration
Exhibit1-26: Features and Benefits of Collaboration

lc=bmtiv. Rd:.irnhi~ Features

••
• Joint development of shared processes
• Open sharing of information and Lower costs
Benefits

••
knowledge
• Jointly developed performance metrics
• Open two-way communications
• Improved quality
• Better customer service
• Reduced inventories ••
• Networkwide visibility
• Clear roles and responsibilities
• Joint problem solving
• Rapid project results
• Reduced cycle times and lead times
More effective working relationships
I:
••
• Commitment to the relationship Enhanced commitment to one another

[________ ······--· - ·- ••
••
Strategic
decisions and
After developing business, organizational, and supply chain strategies, the
firm-or the trading partners collectively-need to support the broad ••
prioritization
options
strategies by defining measurable objectives for each manager along the
chain. To borrow from the SCOR model, the process is still in the "plan" ••
phase, when objectives are defined. This phase sets the direction for all the
other processes-source, make, deliver, and return. Strategy and objectives
are developed first at top management levels and filter down through the
••
levels of management on each trading partner's organization chart.
••
It's tempting to say that all decisions affecting the supply chain should be based
on organizational and supply chain strategies. But it's more realistic to say that ••
the decisions and strategy should be consistent, because this is analogous to the
"which came first-the chicken or the egg" puzzle. Whichever way you look at ••
the matter, however, priorities must be set strategically.
that strategic decisions are made in regard to customers and markets,
technology, key processes, and sourcing.
We'll look at the way

••
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•• Customerand
market decisions
Supply chains should be configured to reflect customers' needs as well as trading
partners' capacities. There is no universally appropriate supply chain strategy. We
saw earlier that Zara, the Spanish clothier, has two distinct supply chains: one for its

•• more functional products and the other for fashion products. A firm with multiple
product lines needs to conduct a careful market assessment and match multiple

•• supply chains to the strategy that is right for each market.

•• Technology
decisions
Since technology has become the powerful force that extends supply chain
visibility across multiple tiers while providing world-shrinking velocity, it
always deserves serious consideration as an aid to achieving strategic

•• objectives. It's beneficial to weigh the advantages and disadvantages of

technology or conduct a cost-benefit analysis. Since technology is expensive to

•• install, sometimes difficult to learn ("user-friendly" is a term of art), and, for

some, downright threatening, it's important to make informed choices. When

•• analyzing and comparing different vendor software packages to determine if

they are a good fit for your particular needs, a good rule of thumb is that you

•• should look for packages that meet at least 80 percent of your needs "out of the
box" by way of standard configuration. The remaining 20 percent can be met
through customization of the product by your company. Realize that most

•• vendor packages are built based on best-known industry methods, so look hard
at your own business processes and whether they need to be changed prior to

•• customizing. Customizing is expensive and will increase the total cost of

ownership to you over the lifetime of the product, due to additional testing,

•• upgrade difficulties, etc. Many companies have faced expensive technology

issues because they customized software when they should have updated and

•• changed their business processes .

There is a lot to choose from, including technology that can increase the

•• velocity and accuracy of information flows, cash flows, checkout processes,

inventory tracking, production scheduling-virtually any process of any length

•• inside the supply chain. Whatever the process you're aiming to improve,
technology can almost certainly help. But it has to be selected by specialists

•• who know what is current and can guide process stakeholders in choosing the
right hardware and software at the right price to conform to overall strategy .
The collateral effects of new technology have to be taken into account as well .

•• The theory of constraints tells us that there is no point in buying expensive

hardware and software to speed up the flow of information, materials, or

•• payments if they will just be sent speeding into a bottleneck (or constraint) that
will stop their progress. Most importantly, each organization needs the right

•• technology applied to the right process by the right people. You will learn more
about technology available for supply chains in Section F of Module 2 .

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Module 1: Fundamentals of Supply Chain Management
••
••
Process decisions A supply chain is a set of processes, and they can be fine-tuned to suit each
customer segment. When planning improvement initiatives, select the
••
processes that are central to the supply chain strategy, measure and
benchmark them, and focus your attention on one process or a small
••
manageable number of processes.
••
Sourcing The AP/CS Dictionary, 13th edition, defines sourcing as "the process of
identifying a company that provides a needed good or service." Sourcing ••
••
involves complex, challenging decisions. Manufactured goods, components,
and services can be acquired by purchasing a firm that delivers them by an
arm's length transaction or by outsourcing.

The trend in the latter decades of the 20th century and early in this century has
••
been toward outsourcing non-core activities to supply chain partners. These
partners may be located near at hand or offshore. As supply chains grow in ••
length and global dispersion, they can locate each partner in the country or
region best suited by climate, culture, resources, tax policy, etc., to support each ••
specific activity. At this time, it remains to be seen whether rising fuel and
transportation costs will put a limit on the length of supply chains.
••
Outsourcing was initialJy a strategy in manufacturing supply chains.
However, advances in computer hardware and software and global broadband
••
networking has enabled global outsourcing of service activities, such as help
desks, accounting, and medical testing. Accounting activities, for example, ••
can be carried out across multiple time zones. Working half a world away
with immediate Internet file transfers, a day-shift accountant can perform ••
••
services during the customer's nighttime hours. Documents can be e-mailed
across oceans faster than they can be printed out and carried to an office down
the hall.

You will learn more about outsourcing later in Section I of this module.
••
Organizational Every supply chain is made up of organizations, people, processes, and ••
capabilities information. Each supply chain's capabilities
• Organizational design
are based on its
••
•
•
Processes
Systems and technology ••
••
• Human resources
• Metrics (measurement techniques).

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•• The success of any supply chain in achieving its goals of creating value for
customers as well as financial value requires thoughtful, strategic planning

•• regarding these capabilities .

•• Organizational
design
Organizational design refers to the creation of an organizational structure to
support the strategic business plans and goals of an enterprise (in both for-

•• profit and not-for-profit companies).

strategy, the organizational
Given the mission and business
structure design provides the framework within

•• which the operational and management activities will be performed .

Organizational design also encompasses how the organization communicates

•• internally and externally, the chains of authority and responsibility, financial

management, and job hierarchy and descriptions. In the previous section we

•• looked at the stages of supply chain evolution; each stage was linked to a
significant alteration of organizational design. Here we will focus on the

•• developmental stages of organizations .

In the first stage, decisions about matters related to supply and distribution

•• might be made almost on an ad hoc basis. Formal communication

limited to tactical, job-related matters. Meetings arc scattered and poorly
may be

•• organized. Training may be nonexistent. With an ad hoc design, an

organization has no possibility of forming or participating in an effective

•• supply chain. Material requirements planning (MRP) takes place at a basic

level, with a bill of material and current on-hand/on-order data .

•• In the second stage, organizational design follows functional lines, with

marketing and sales, production, warehousing, distribution, and so forth each

•• ensconced in its own silo and focused on meeting its own goals. Supply
chain decisions, such as number and location of warehouses, inventory

•• management, or modes of transportation are made entirely within their

separate silos. Communication flows upward through the chain of command

•• or, perhaps, horizontally in departmental teams. There is little or no formal

communication
related decisions.
through the silo walls to coordinate supply- and distribution-
Systems with functions may be automated with specific

•• software applications. MRP II (manufacturing

MRP, and the firm implements cross-functional
resource planning) replaces
planning. Jobs may be

•• enriched to include more variety and wider responsibility.

areas includes "soft skill" seminars in management, communications,
Training in some
and

•• needs-based sales, laying the groundwork for more strategic and innovative
approaches to marketing and operations .

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In the third stage, cross-functional teams are formed to measure and

improve businesswide processes, building on continuous improvement
initiatives undertaken within functional areas. The company adopts a cross-
••
functional team approach to product design. Marketing and sales team up
with operations in a continuous sales and operations planning process to
••
coordinate aggregate planning across the enterprise to maintain alignment
with the strategic and business plans of the organization. Formal ••
communication occurs among members of structured peer groups, and the
topics become multidisciplinary. Training follows suit by adding coaching ••
and team formation workshops. Automation crosses functional boundaries,
following the early historical breakthrough with MRP II that ties the bill of ••
••
material together with finance. ERP (enterprise resource planning) replaces
MRP 11, adding functional modules until it makes data accessible across the
entire enterprise. Supply chain decisions can now become more effectively
aligned with corporate strategy because of the focus on companywide
processes and improved communication. ••
In the fourth stage, the organization takes advantage of its integrated ••
operations to begin forming partnerships with suppliers or customers. For
example, a retailer may send point-of-sale data directly up the chain to
manufacturers through synchronized intranet and extranet or Internet
••
connections. This level of collaboration can't take place until suppliers and
customers have overcome barriers in their own organizations-such as
••
functional organization and lack of technological sophistication.
communication and point-of-sale scanners give other partners in a chain
Electronic
••
instant access to POS data-no matter where they are. The organization may
begin outsourcing its peripheral functions in order to concentrate on one or a ••
few core competencies. A logistics specialist, such as UPS, may step in to
further integrate warehouse-inventory-transportation processes. Both
components and services can be supplied from multiple trading partners
••
located anywhere in the world where local infrastructure permits and labor
with necessary skills is available at a competitive price. The internal systems
••
at this point may be thoroughly merged with external systems so that trade
partners function in seamless harmony to form a virtual company. Cross- ••
functional teams in charge of supply chain processes are centrally
coordinated.
•• •
••
To give the proper organizational visibility to supply chain activities, these
activities are directed from the executive level.

••
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•• Section B: Supply Chain Alignment with Business Strategy

•• Supplychain
processes
Supply chain management covers a series oflinked processes. It's true that
organizations have always been involved in managing such functions as
planning, buying, manufacturing and delivering products, and getting paid. But

•• supply chain management (and organizational design) has evolved from control
of discrete business functions like procurement, manufacturing planning, and

•• logistics to an emphasis on business process excellence and the management of

a network of relationships tied together by complex information flows .

•• Although management of any one activity or link in the chain may be

•• straightforward, effective supply chain management requires mastery of these

connected processes .

•• Systems and
technology
Being able to implement and manage sophisticated software that can automate
various supply chain activities is a critical capability. Organizations that have

•• developed integrated networks, like intranets and cxtranets as well as those that
can harness the power of the Internet, will be prepared to handle the complex

•• and numerous transactions involved in supply chain management. Some

sophisticated organizations may even have software that uses computer

•• networks to tie together the various software applications supporting specific

activities within supply chain processes. They may use packages that enable
them to manage operations at various levels: from one plant, to enterprisewide

•• integration, and on to cross-company functionality .

•• If an organization has a need for immediate information accessible by many

users, it may need to purchase an enterprise resource planning system, or one

•• may already exist. ERP is a framework for organizing, defining, and

standardizing the business processes used to plan and control an organization's

•• internal knowledge to gain external advantage. ERP systems enable critical

links between strategy and operations. They can be designed to support the
specific capabilities that a firm desires. At its core, however, ERP is an

•• accounting-oriented database system that can coordinate information flow

between various parts of the organization and the extended enterprise. There

•• will be more information on ERP in the next module .

•• If an organization decides it needs the capability to pick up sales data and send
it instantaneously throughout a network for use in revising forecasts and

•• triggering operations along the chain, then it may purchase the technology to
use bar codes on products and radio frequency devices. These companies might
then further employ such data to be fed into databases for marketing analysis to

•• gain insight into customer behavior .

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Module I: Fundamentals ofSupply Chain Management

••
This plethora of technological advances does not come without its challenges,
however-for any organization. There have been, and still are, technological ••
••
hurdles to surmount in this evolution, such as the incompatibility of
programming languages and different software applications and network
protocols. There are also human and organizational barriers that can prevent
taking full advantage of available technology. Despite the steady moderation of
price and user-friendly electronic linkages, some departments or users may ••
question its usefulness and related costs. New users of this technology have to
be trained, and, in some cases, they also have to be converted from a skeptical ••
to an accepting attitude toward new technologies.

The most significant challenge might be a lack of trust among companies along
••
the chain and even across functional areas or teams within organizations.
Integrating supply chain processes means sharing data, and that is generally
•• •
seen as a risk. But there's little point in network connectivity if supply chain
partners can't use those connections to process shared information.
••
Human resources An organization is significantly impacted by the manner in which it creates and
organizes its functions and how the people within the departments manage the ••
business operations and key processes. Admittedly, very few organizations
a department called "supply chain management." Horizontally organized chains
typically have no unified ownership or management structures (unlike vertically
have

••
integrated supply chains). Yet the development of supply chain strategy and the
control of supply chain processes depend entirely on having the right people in
••
place-people educated in supply chain thinking rather than functional
thinking. ••
Supply chain partner organizations need to have the capability to develop ••
expertise in hiring and training and to properly deploy highly skilled, process-
oriented, and knowledgeable supply chain specialists to design and monitor
supply chain processes. Of necessity, supply chain management sometimes
••
draws upon personnel attached to multiple functions, yet they may be available
only part-time to the supply chain team.
••
Unlike specialists in traditional functions-production, logistics, procurement, ••
etc.-an organization needs supply chain personnel with expertise that extends
beyond deep knowledge of one area (or highly developed skills in one ••
functional discipline). They need to be broadly knowledgeable about the
enterprise as a whole and trained in the art of inspiring people with different
skills and attitudes to work harmoniously in pursuit of a common goal. People
••
••
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•• Section B: Supply Chain Alignment with Business Strategy

•• on supply chain teams may represent every function, from procurement to

marketing. On occasion, the supply chain manager may need to work as a

••
diplomatic go-between when mistrust and misunderstanding prevent team
members from cooperating with one another .

•• In addition to the multidisciplinary, communication-savvy, holistically

supply chain manager, the company needs people with other special skills that
oriented

•• will contribute to the success of supply chain initiatives. For instance, a team
member with cost-management skills comes in handy when planning an

•• initiative. With so much pressure to keep costs low, an initiative to upgrade

supply chain technology or optimize the logistics network must be skillfully

••
managed to keep costs in line and avoid driving up product prices. Modeling
the process in advance with data from supply chain partners can help increase
efficiency when the real work begins. In addition, supply chain management

•• initiatives need the help of technology specialists with skill in business

software, Web development, and electronic networks .

•• Finding and developing the level of talent required to manage supply chains

•• implies skilled and knowledgeable human resources management and skilled

staff Especially in large organizations with complex bureaucratic structures,

••
human resources policies may work against, rather than in conjunction with, the
supply chain strategy. This further underscores the rationale of the supply chain
being the responsibility of an executive-level champion .

•• In sum, an organization needs to be staffed with supply chain professionals, full- or

•• part-time, who can do the following:

• See the supply chain as one continuous entity made up of linked processes .

•• • Manage relationships among team members and between teams to coordinate

different temperaments and visions .

•• •

•
Understand the corporate business model and its alignment with the supply
chain .
Manage costs skillfully for the chain as a whole (understand net value) .

•• • Identify and buy or develop technology to provide the entire chain with access
to data and the ability to transform the data into information for use in real-time

•• management of supply chain process flows (visibility and velocity) .

•• Supply chain
metrics
Finally, an organization must be capable of measuring key supply chain indicators
and must have its metrics in place. Metrics, also known as performance

•• measurement systems, are systems for collecting, measuring, and comparing a

measure to a standard for a specific criterion for an operation, item, good, service,

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Module I: Fundamentals of Supply Chain Management

business, etc. A performance measurement system consists of a criterion, a ••

••
standard, and a measure.

If asked questions such as "How well is the supply chain performing?" or "Is our
supply chain helping or hurting corporate objectives?" the answer should include
a meaningful measurement of some sort. There are a number of obvious measures
for assessing an organization's current performance: •••
•
•
Past performance (to show how much it has improved)
Future desired performance (to show how close or distant from goals) ••
•
•
A competitor's performance
Industry average performance ("We're better than average!") ••
• World-class, or best-in-class, performance from any industry for the same
activity or process you're assessing ••
Numbers generally provide the most convincing supporting evidence in the
boardroom and investment analyst's office. If you're bragging about your cash-to-
••
cash cycle, for instance, you might say "We've got it down from 50 days to 20,
and that's better than the industry average." ••
And there's also a checklist to measure performance. This is a set of things ••
(activities, positions, types of equipment, technologies, etc.) that some authority
believes should be present in an excellent operation. The conversation goes
something like, "We've got our own Web server now, a T-3 line, and a custom
••
ERP program that touches all functions." One example is the Oliver Wight supply
chain excellence checklist, compiled by the consulting firm whose name it bears.
••
Summing up Taken together, the five elements just discussed determine the capabilities of ••
organizations within a supply chain. In the ideal world, each organization in the
supply chain would have the following:
• Integrated organizational design with a process orientation
••
• Key supply chain processes already in place and functioning at
competitive velocity
••
• Systems and technology sufficiently advanced to tie all processes together
and allow the supply network to operate from the same, simultaneously ••
•
available data
Educated and skilled employees who have a process focus, can see the ••
•
end-to-end chain as a single entity, and manage accordingly
Metrics that are in place to assess performance against a relevant standard ••
••
and identify strengths to encourage and weaknesses to amend

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Section B: Supply Chain Alignment with Business Strategy

•• Let's look at an example of when this alignment is in place and working well.
One major international petroleum company, for example, instituted
information technology to convert from a forecast-driven to a demand-driven
advanced

•• enterprise. Demand data from filling stations and large industrial customers
became instantly available throughout the supply and distribution networks for

•• use in marketing, logistics, planning, and refining. These shared demand data
fed into virtually every decision made along the supply chain, from spot-market

•• purchases to scheduling of refill runs. When all supply chain processes operated
from the same base of data, the partners functioned as seamlessly as if they

•• were one company. That's what's meant by a "virtual network," but in fact it
isn't the network that's virtual. The network is very real. It's the company
(which really isn't a company but a set of cooperating entities) that is virtual.

•• Alignmentof All of these organizational capabilities should be aligned with one another and

•• capabilities
and strategy
with the supply chain strategy. Whatever type of supply chain a company
establishes internally across functions and externally with trading partners,

•• success depends first upon alignment of supply chain strategy and

organizational strategy (or organizational strategies, in the case of horizontal

•• chains) .

When it comes to aligning organizational and supply chain strategies, it's useful

•• to think about the process in terms of a flowchart.

graphic representation of the strategic decision-making
Exhibit 1-27 provides a
process that goes into

•• aligning organizational and supply chain strategies .

•• Exhibit1-27: AligningOrganizationaland SupplyChain Strategies

•• I
Market and external environment I

.
analyses ,
I

•• Organizational strategy

•• T
'

••
Future direction (global Competitive priorities
strategy, new products (cost, quality. time.
and services, etc.) price, etc.) [___ ~ '. Must develop th«
! Capahilities- supplv chain

••
>- capabilities required
... current, needed, plans
... I to plan and execute
1
.s·1rall!K)'
Functional area stratcgics-
finance, marketing. supply chain, i

•• and others

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••
••
••
This flowchart shows that
• The management of the organization must first identify its customers,
products, competition, and socioeconomic environment and then determine its
mission and overall goals that support those factors. The organization needs
to be able to identify and leverage its distinctive competencies and note the
••
areas where it lacks expertise since those capabilities can later be outsourced
if deemed appropriate. ••
• These decisions feed into the organization's market and external environment
analysis as well as its organizational strategy. ••
• They in tum drive the future direction and competitive priorities, which then
help determine the appropriate strategies of the various functional areas like ••
••
finance, marketing, other departments, and, of course, the supply chain.
• Those strategies drive the supply chain capabilities of the present, the
immediate future, and the long term.
• These supply chain capabilities feed into a continuous loop and help the
organization determine how to continuously adjust its competitive priorities
••
of cost, quality, time, and price to support its dynamic organizational strategy.
••
Once the organizational strategy is in place and there is confirmation that it is
properly aligned with supply chain strategy, the organization will likely need to ••
be flexible and change that strategy when circumstances
direction.
warrant taking a new

••
"*- Topic 3: Resolving Misalignment or Gaps ••
Changing
strategy:
What could be better than having an excellent supply chain strategy in place with
the interests of all firms in the chain aligned and focused on the customer? The
••
when and
why
ability to change strategies in response to the inevitable changes in the
competitive environment, for one thing. There are at least three important factors ••
that can cause an organization to alter its supply chain strategy:
• Change in market conditions ••
••
• Change in business direction
• Anticipated change in market

We'll look at examples of each factor and the role played by innovation.
••
Change in market
conditions
Changes in market conditions can happen with stunning rapidity. But they also
can evolve steadily and incrementally over periods of time. The key is for supply ••
chains to be prepared to spot these changes early and adapt quickly. A classic
example of failure to respond quickly to change was Cisco Systems' disastrous ••
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•• Section B: Supply Chain Alignment with Business Strategy

••
•• experience when the dot-com bubble burst. For years Cisco had been the very
model of supply chain excellence with its automated workflows and cross-
company communications networks that tied it to customers and suppliers alike.

•• But when demand for Cisco's routers plummeted rapidly in 2000 and 2001, the
company was stuck with over US$2 billion of useless inventory. Despite the

•• marvels of its interconnected network, Cisco's suppliers (it outsourced most

manufacturing) failed to get the word that demand was vanishing. So the

•• suppliers kept on sending product into inventory. Their interests had slipped out
of alignment with Cisco's, with disastrous results .

•• Another company, Alcatel-Lucent USA, formerly Lucent Technologies, a

producer of equipment for telephone companies, experienced a different kind of

•• disaster when a market for its products opened rapidly in Asia in the later 1990s .
Previously, Lucent had made what seemed to be a very good strategic decision

•• when it centralized operations in Oklahoma to make its supply chain more cost-
effective and efficient. When Asia became the hot market, however, Lucent lost

•• out to competitors who had positioned some plants in the Far East. Lucent's
Oklahoma operations were too distant from the market to make production and

•• delivery affordable. Sometimes being flexible enough to take advantage of new

opportunities requires building some redundancy into your supply chain. Much
early supply chain management focused on cost cutting, as we've noted earlier in

•• this program. As it turns out, a chain can become so lean it starves to death when
its food source moves away. Efficiency can turn rapidly from a market

•• advantage into a fatal detriment if it is pursued to the exclusion of other desirable

qualities, such as flexibility and customer service .

•• More successful examples arc provided by European apparel companies Zara

•• and Mango. In the market for fashionable apparel, change is a given rather than a
surprise. Every season can bring a shift in taste that makes all processes, designs,
and materials outmoded. So Zara, Mango, and other fashion-conscious clothing

•• companies have found ways to begin the seasonal design process early. By
paying careful attention to trends on the street they can get a head start in

•• ordering materials and developing prototypes of designs that seem likely to

appeal to their target customers in the upcoming season. But they delay final

•• design decisions and the start of manufacturing until real data come in .

•• Change in
business
direction
Another reason to modify a supply chain strategy arises when a company comes
to market in a new way. It may be entering uncharted territory with no real data
to use in making decisions and little ability to forecast demand and set

•• production schedules. A new product line may require complete recasting of the

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Module 1: Fundamentals of Supply Chain Management

supply chain-new raw material supplier, new manufacturing processes,

logistics changes to reach new markets, and new strategies for reaching the end
customer.
••
Toyota Motor Corporation faced those challenges when it brought out the Prius,
••
its first hybrid car, powered by a combination of gasoline-powered internal
combustion energy and electricity. Honda Motor Company entered the market at ••
about the same time with its hybrid Honda Insight, an equally unconventional
move for that company. There were no comparable vehicles in the market at the ••
time, so there was no demand history to use in forecasting sales in the aggregate
or for segmenting the potential market. ••
Toyota dealt with the challenge to forecasting by changing its logistics network
in the United States to reflect its uncertainty about where it would be delivering
••
the new models and what sort of buyers might be interested in them. They
suspected that new market segments might be attracted to the offbeat styling, ••
technical inventiveness, and "green" characteristics of the Prius--customers who
were not interested in their more conventional, family-oriented vehicles. Instead ••
of allocating cars to dealers based on past performance, they sent Priuses from
the production line to central distribution centers for shipping to dealers only in
response to customer orders forwarded on the Internet. With the larger pool of
••
cars in central locations, they reduced the risk of stockouts caused by
unexpectedly large consumer demand in any one region.
••
Toyota also allowed for customization of cars at the distribution centers in response ••
to requests for specific features-a postponement strategy made possible by modular
design. The system was more expensive, but it provided the required flexibility in ••
delivery. The percentage of the new model sold in northern California far exceeded
the usual percentage allocated there, while sales in the southeast were far less than
demand patterns for other Toyota models would have predicted. Without the
••
centralized logistics setup, the Prius would no doubt have gone immediately out of
stock on the west coast while sitting unsold on car lots in the southeast. So the
••
investment in a new supply chain strategy provided net value when compared with
the probable costs of redirecting cars from the southeast all the way across the ••
Anticipated
country to California, while likely losing customers due to the resulting delays.

As the case of the Prius indicates-and to a degree the strategies of Zara and
••
change in market Mango-supply chain strategies can be modified in anticipation of changes in
demand rather than waiting until they come as a surprise. This might be
••
considered an advanced form of forecasting, and since forecasts are always
wrong, a very risky strategy. A clothing design operation has no choice in the ••
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Section B: Supply Chain Alignment with Business Strategy

••
matter, since it has to anticipate trends in fashion on a continuous basis. If the
new look will depend on natural fabrics instead of synthetics (or vice versa), new
suppliers will be necessary, and they will have to be under contract before the

•• season begins. The effectiveness of the European clothiers is in creating a design

process that allows revamping supply strategies at the last possible minute when

•• real data are beginning to replace forecasts .

•• Toyota, too, was proactive in setting up a new supply chain in advance of Prius
sales. The Prius itself was part of an innovative approach to the marketplace in
anticipation of new demand patterns resulting from environmental consciousness

•• and the potential impact of rising petroleum prices .

•• In similar fashion, forward-looking energy companies and utilities have been

developing-perhaps far in advance of practical application-alternative energy

•• technologies that will no doubt require the creation of new supply chain
infrastructure. Innovation clearly plays a major role in keeping supply chains

••
flexible enough to respond to rapid changes in demand and to the more gradual
evolution of markets and technologies. Innovation is the key to strategic
flexibility-not just innovation in product design but in organizational design

•• and supply chain processes as well .

•• Sometimes it's an organization's strengths that make it most vulnerable. Trust in

other supply chain partners can cause problems when they are not upfront with

••
changes to their strategics. Also, supply chain efficiency can become a serious
liability if the chain loses its flexibility from having removed all the buffer from
inventories and having pared process times down to the Just-in-Time delivery

•• velocity. A supply chain that has become so fast and so Jean may just keep right
on running in the running direction until it starves to death for lack of a market.

•• That was almost the fate of Cisco Systems in the early 21st century .

••
If supply chains are to be able to respond in advance of market changes, they will
have to play by different rules than many have in the past. Here are some of the
lessons they've learned:

•• • Pursue cost efficiencies and increased velocity but not at the exclusion of

•• flexibility. The strategy of shipping only in full truckloads or full containers

cuts transportation costs, but it can also leave a partial load of product waiting

•• •
at the dock when it should be on the road to a stocked-out facility downstream .

Develop multiple supply chains that are appropriate to each product line .

•• Some companies, to achieve those full truckload shipments, will mix products .
While that's a good strategy for speeding up delivery of some products in the

••
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Module J.· Fundamentals of Supply Chain Management
••
mix, it may be highly inefficient for others. Take the high-dollar, lightweight
items out of the truck, train, or container and fly them to their destination. ••
Choose suppliers that give you what each product line nceds=-speed to
market, quality at a higher price, or ability to change direction rapidly. ••
• Watch trendsin demand at the consumer end of the chain, not just at
the next stop downstream. Visibility to the end of the chain can speed up ••
response to changes in the market.
••
• Watch the larger trendsin global markets--changes in demographics,
political changes, patterns in rules and regulations, access to raw materials,
and so on. Get local assistance when you enter an unfamiliar foreign market
••
for advice on supply chain strategies.
••
• Design products for maximum supply chain flexibility. Put suppliers on
the design team to offer help in creating modular designs, allowing fewer ••
components to be assembled into more products. Time the assembly to
happen as close to actual orders as possible. ••
••
••
••
••
••
••
••
••
••
••
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•
•• Section B: Supply Chain Alignment with Business Strategy

••
•• +Progress Check
The following questions are included as study aids and may not follow the format used for questions in

•• the APICS CSCP examination. Read each question and respond in the space provided. Answers and page
references appear on the page following the progress check questions .

•• 1. Which of the following strategies is the one that guides the others into alignment?
( ) a. Business strategy

•• (
(
)
)
b.
c.
Supply chain strategy
Marketing strategy

•• ( ) d. Operations strategy

•• 2. True or false? The purpose of supply chains is to be globally competitive .

( ) True

•• ( ) False

3. What factors should an organization consider when selecting its strategic partner?

•• (
(
)
)
a.
b.
Docs it improve market access?
Will it enhance strategic growth?

•• (
(
)
)
c.
d.
Does it strengthen operations?
a and b

•• ) e. a, b, and c

•• 4. True or false? Suboptimization often occurs in global planning and transportation costs .
( ) True

••
( ) False

5. True or false? Communication between supply chain partners can't take place on different levels

•• because the level of collaboration and intensity does not vary .

( ) True

•• ( ) False

•• 6. If you have a product with a complex bill of materials and components that range from low-priced
commodities to fragile or sophisticated materials that require special shipping and handling, a best

••
practice is to develop
( ) a. internal capabilities for all components.
( ) b. multiple supply chains.

•• (
(
)
)
c.
d.
a supply chain that emphasizes bulk transportation.
a supply chain that emphasizes rapid delivery .

••
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••
••
••
7. Place the name of the type of good in the appropriate quadrant below.

s:

••
0)
I

:i"
rn
ii:
::!'

~
Q.
Q.
::i
·········-·-------· -- --· ···---··· ----··--·
••
~
..,::i
;:
Cl
••
~0
--'
••
Low
Strategic Importance (Profit Impact)
High
••
8. Put these forecasting activities in the sequential order (1 to 5) in which they normally occur.
••
(
(
)
)
a. The raw materials suppliers forecast demand from the component manufacturers.
b. The manufacturer forecasts demand from the wholesale distributors. ••
(
(
)
)
c.
d.
The retailer forecasts demand from young parents who purchase diapers.
The wholesaler forecasts demand from all its retailers. ••
( ) e. The component suppliers forecast demand from manufacturers.

9. True or false? According to the demand-driven strategy, product is turned out based on actual orders.
••
(
(
)
)
True
False
••
10. All of the following apply to functional products except ••
(
(
)
)
a.
b.
they have longer life cycles.
there is high variety. ••
(
(
(
)
)
)
c.
d.
e.
there are no end-of-season markdowns
they are fairly easy to forecast, with only about a I 0 percent margin of error.
demand for them is fairly stable.
••
11. True or false? Innovative products, with their low margins and unpredictable demand,justify extra
••
expense for holding costs.
( ) True ••
( ) False
••
••
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•• Section B: Supply Chain Alignment with Business Strategy

••
••
12. True or false? Cars and coffee shops can be both functional and innovative .
( ) True
( ) False

•• 13. Organizational design does not refer to

•• (
(
)
)
a.
b.
the framework within which operational and management activities are performed.
how internal and external communication flows .

•• (
(
)
)
c.
d.
an organizational structure to support strategic business plans and goals .
how employees view the structure of a firm .

•• 14. Which of the following is not a valid reason for an organization to alter its supply chain strategy?
( ) a. Change in business direction

•• (
(
)
)
b.
c.
Anticipated change in market
Change in company management

•• ( ) d. Change in market condition

••
••
••
••
••
••
••
•• •
••
••
••
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Module I: Fundamentals o{Supply Chain Management

Progress checkanswers
1.
2.
a (p. 1-69)
True (p. 1-85)
••
3.
4.
e (p. 1-86)
True (p. 1-90)
••
5. False (p. 1-92)
6. b (p. 1-95) ••
7.
8.
Compare your answers to Exhibit 1-25 on page 1-95.
c, d, b, e, a (p. 1-77) ••
9. True (p. 1- 78)
10. b(p.1-82) ••
••
11. False (Innovative products have high margins.) (p. 1-82)
I 2. True (p. 1-82)
13. d(p. l-99)
14. c (p. 1-106)
••
••
••
••
••
••
••
••
••
••
••
••
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••
•• Section C: Supply Chain Design and
Improvement Considerations
••
••
•• This section is designed to
•
•
Describe the importance of understanding the marketplace as it relates to the supply chain
Explain the considerations in the design of a supply chain

•• •
•
Define continuous improvement and its role in total quality management
Describe the key aspects of continuous improvement

•• •
•
Explain each of the stages in the continuous improvement model
Diagram a simple process or flowchart using the correct symbols

•• •
•
Explain the rationale for adopting continuous improvement
Describe the balanced scorecard used to track improvements in business performance

•• •
•
Identify Level I SCOR metrics and performance attributes
Describe potential process improvement initiatives

•• •
•
Identify the purpose of common continuous improvement tools
Describe and distinguish between the approaches to benchmarking: competitive, best-in-class,

•• •
and process
Identify the steps for managing change and incremental improvements within the supply chain

••
and its partners .

••
•• *Topic 1: Understandingthe Marketplace
Marketing's [n order to design a supply chain that can meet its ultimate goal of delivering the

•• role right product at the right place and time and at the right price, it's important to
understand the marketplace .

•• As you recall from the previous section, the strategic business plan drives several

•• important functions like finance, engineering, marketing, and production.

functions also have input in shaping the overall business strategy. In this section,
These

•• we're going to focus on the marketing function and how it provides foundational
information about the marketplace.
competitors,
Knowing your market, customers,
and product are critical in setting a strategic business plan to

•• achieve long-term objectives .

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The marketing function develops its own strategically oriented plan based on the

••
strategic business plan. Once again, these plans must be in alignment and there
should be consistency between them. As seen in Exhibit 1-28, the marketing
strategy is based on a number of key elements.

Exhibit 1-28: Marketing Strategy and Plan ••

Business
Plan •
••
Finance Engineering Marketing Operations
••
••
•
Market Plan
Current market position (market size,
shares, characteristics)
••
•
•
•
Opportunity and issue analysis (SWOT)
Objectives, strategies, action plans
Programs and projects ••
•
•
Pro forma P &L statements
Management controls
••
••
Research Marketing begins its quest to understand the marketplace by doing marketing
research. According to the AP/CS Dictionary, 13th edition, such research
involves "the systematic gathering, recording, and analyzing of data about
••
problems relating to the marketing of goods and services." This research may be
undertaken by impartial agencies, business firms, market research agents, or an
•
internal marketing staff. There are several types of marketing research:
• Market analysis: the study of the size, location, nature, and characteristics of ••
•
markets (for example, product potential)
Sales analysis (or research): the systematic study and comparison of sales (or ••
•
consumption) data
Consumer research: the discovery and analysis of consumer attitudes,
reactions, and preferences (including motivation research)
••
••
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•• Section C: Supply Chain Design and Improvement Considerations

•• Market research can be conducted via a variety of information-gathering tools,

•• such as customer surveys, interviews, focus groups, direct mail questionnaires,

Web sites providing opportunities for visitor feedback, and market reports sold

•• by research firms. Of course the internal marketing department staff can also do
research about potential markets, products, etc. A tool commonly used for this

•• purpose is a SWOT analysis .

SWOT stands for Strengths, Weaknesses, Opportunities, and Threats. As seen in

•• SWOT analysis
Exhibit 1-29, the SWOT analysis is usually in the form of a quadrant in which
distinctions are made between internal versus external focus and positive versus

•• negative points .

•• Exhibit 1-29: SWOT Analysis

•• • Strengths ~ Weaknesses + Internal focus

•• I ! I

•
•• +
•• Threats External focus

•• Positive
···~~~·

Negative

•• How are these each of these determined?

•• • Internal strengths and weaknesses are typically derived from comprehensive

data collected about the organization. It may include information on skills sets

•• by function, professional development and training activities, facilities, the

firm's reputation or standing in the community, etc. Ideally input from external

•• customers and suppliers provides substantiated evidence as to weaknesses, in

particular, that can then be appropriately addressed .

•• • External opportunities and threats are based on market trends and risk
analyses. Environmental scanning may be required to assemble data on

•• external forces. This involves collecting and analyzing external data on

market forces, demographic changes, changing customer needs, competitor

•• pricing and offerings, current and emerging technology, new taxes, laws and
regulations, and social, political, and economic conditions .

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Module 1: Fundamentals of Supply Chain Management
••
Opportunities can be acted upon to help move an organization toward achieving ••
its goals. However, if those opportunities are ignored or improperly developed,
they can transform into threats (like IBM giving Bill Gates the green light to
market his disk operating system [DOS] because they weren't in the "software
••
business"). Other opportunities may arise from competitors' activities or
products, new markets, or from other data seen during environmental scanning.
••
Threats are defined as risks that can impact a firm negatively if they are not ••
handled appropriately. External risks include unforeseen events outside the
control of an organization that can diminish productivity, profits, or market ••
share, for example, the 2011 Japanese earthquake and tsunami, which resulted in
losses for many multinational companies around the globe. Of course there can
also be internal threats that arise due to a firm's actions such as overzealous
••
geographic expansion or excessive outsourcing.
••
This valuable market information and reconnaissance feed into a written
document called the market plan. ••
Market plan
components
The market plan (shown in Exhibit 1-28) is defined in the AP/CS Dictionary, ••
13th edition, as including "the current market position, opportunity and issue
analysis (SWOT results), marketing objectives and strategies, action plans,
programs, projects, budgets, and pro forma profit and loss statement and
••
management controls." Current market position information may include data
and findings about demand patterns, products and pricing, customer satisfaction,
••
and service level agreements with partners, distributors, and retailers.
••
From the supply chain perspective, what is key to remember about these
marketplace factors is that they may evolve over time and, if they do, that may ••
require modifications to the design of the supply chain and its organization. Let's
now take a closer look at the elements of the design, also known as the design
considerations.
••
••
*Topic 2: Supply Chain Design Considerations
It's important to initiate this discussion by defining supply chain design. The ••
AP/CS Dictionary, 13th edition, defines it as "the determination of how to
structure a supply chain. Design decisions include the selection of partners, the ••
location and capacity of warehouse and production facilities, the products, the
modes of transportation, and supporting information systems." ••
••
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•• Section C: Supply Chain Design and Improvement Considerations

•• When it comes to designing a supply chain, there are standard factors to take into

••• consideration:
• Balancing efficiency with responsiveness
• Network configuration

•• •
•
Inventory location and levels
Product design

•• •
•
Information technology
Support systems

•• Collectively, the decisions made regarding each of these factors should always
support the organizational strategy and the supply chain strategy and should

•• accurately reflect the organization's capabilities, as discussed in the previous

section. That way the supply chain should be able to function properly and in a

•• manner consistent with the overall business strategy .

•• Balancing
efficiency with
Organizations often need to balance efficiency (least-cost manufacturing
chain) with responsiveness (ability to be flexible in response to changing demand).
and supply

•• responsive-
ness
Organizations that serve markets with relatively stable demand and that can forecast
with reasonable accuracy tend to focus primarily on efficiency and may select a
make-to-stock manufacturing strategy (goods are produced and held in

•• warehouse/retail locations before customer orders are placed). Organizations

serve markets with more volatile demand and uncertain forecasting need to focus on
that

•• responsiveness so they can adapt quickly to changes. These organizations tend

toward make-to-order manufacturing strategies (goods are manufactured only after

•• customer orders are placed) if sales volume is low or assemble-to-order

manufacturing strategics (product components or modules are produced based on

•• forecasts and are assembled when customer orders are placed) if sales volume is
high .

•• • As supply chains strive to improve their performance based on the metrics that are
important to their key audiences, they should also be evaluating their ability to
strike the right balance between efficiency and responsiveness. Being solely focused

•• on one or the other has proven fatal for some companies. Instead, the supply chain
management needs to research and identify how to optimize the supply chain based

•• on the type(s) of products or product groups that are manufactured within the chain .
What exactly do the customers value in terms of each purchase they make? Is it

••
based on low price, convenience, or customizable features?

The discussion of efficient versus responsive supply chains is continued in Module

•• 2, Section E, "Managing the Supply Chain."

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Module]: Fundamentals ofSupply Chain Management

••
Network Supply chain network configuration is a complex strategic decision that concerns ••
configuration
••
the comprehensive organization of suppliers, production factories, distribution
centers, and manufacturing resources. Supply chains should be configured to
reflect customers' needs as well as trading partners' capacities. Among the many
considerations to be factored into the optimal network configuration are:
• Number, location, and capacity of warehouses
••
•
•
Location of plants and production levels for each product
Transportation between all facilities: plant to warehouse, warehouse to ••
retailer.
••
Planning a network that provides an optimal return on all investments requires
long-term, strategic thinking. Each decision must be weighed based on its impact
on the entire supply chain, not only on the single matter under consideration.
••
Adding to the number of warehouses, for example, may have the benefit of
••
putting goods closer to the customer and thus reducing delivery time. As a
possible negative consequence, however, increasing the number of ••
warehouses may add to total inventory and increase the square feet of
warehouse space necessary to store a given amount of goods. Up to a point, ••
putting goods closer to retail outlets tends to benefit the supply chain by
reducing transportation costs. However, transportation costs are a function of
several variables, including total distance between production facilities,
••
warehouses, and retail outlets; bulk discounts for transport; and types of
transportation required. To solve the optimization problem for the entire
••
network, supply chain managers must rely upon the most powerful
technology available to them. ••
As supply chains grow in length and complexity, these facilities may be ••
••
spread out among numerous regions, countries, and continents. A variety of
statistics demonstrate how global sourcing and offshore manufacturing can
reduce supply chain costs. Employing skilled labor at relatively low wage
levels, establishing worldwide or regional centers of competence near major
specialized talent pools, savings on materials, and finding new sources of
••
supply are but a few possibilities.
••
While global expansion is attractive, offshore expansion requires sufficient
due diligence to help ensure success. Specifically, from a logistics ••
••
perspective, there are many issues related to getting business done and getting
a product shipped. This means being aware of local infrastructure issues in
the country being evaluated, as summarized in Exhibit 1-30.

••
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•• Section C: Supply Chain Design and Improvement Considerations

•• Exhibit 1~30: Infrastructure Considerations in Global Expansion

•• Issue Considerations

•• Port facilities, airports Specific details on the size and quality of port facilities
and airports

•• Highway conditions

Rail lines
The size and condition of roads as well as the extent
of the highway system
The availability of routes that will minimize any delay

•• in movement of products

••
Source: AP/CS Global Sourcing Workshop Series

•• The condition and capacity of port facilities, airports, and roads can be major
factors in getting goods and supplies shipped reliably and on a timely basis .

•• Different rail track gauges and capacity issues can adversely affect lead times .
Additionally, crossing borders involves high volumes of paperwork .

•• Inventory
locationand
In addition to determining the number and location of warehouses, supply
chain managers in manufacturing enterprises must also consider the

•• levels stocking of warehouses with an optimal level of inventory as they design

the supply chain. And they must establish transportation links that ensure

•• timely arrival at and departure from warehouses .

•• In the ideal network, raw materials, components, and resources might never
be at rest in a warehouse. Instead, they would always be in motion until
arriving, just in time, at each location along the chain. One reason this ideal

•• state is difficult to achieve is the fluctuation in demand that occurs all along
the supply chain, beginning with the ultimate customer. Unpredictable

•• demand, along with other factors such as accidents and adverse weather
conditions, means that maintaining some levels of inventory at various

•• locations along the chain is generally necessary. The supply chain

manager's challenge is gauging future demand as accurately as possible and

•• keeping inventory as low as possible without disruptions in delivery to

customers .

•• In the next section of this module, you will learn more about planning and
controlling inventories, the related cost categories, and how inventory

•• impacts an organization's financial statements. Module 2 also covers

inventory control, including demand management and forecasting, as wcl1

•• as warehouse and transportation management systems .

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Module I: Fundamentals of Supply Chain Management
••
Product
••
•
Jn the ideal supply chain, product design has an impact on the supply chain
design design. Ideally it's a collaborative process involving a11 the functions and
partners that are impacted by the product's design. The design process is
enhanced by the input of other departments, functions, and supply chain partners.
••
By including perspectives such as those of marketing, production, and logistics,
designers can develop products that are better matched to customer needs, ••
cheaper to build, easier to transport and store, and easier on the environment.
••
••
However, in reality, sometimes the design of a product or service is carried out
in isolation by one or two departments and without involving supply chain
partners. This is when problems are sometimes unknowingly built into the
product design. For instance, certain product designs may increase inventory
holding or transportation costs relative to other design options, while other
••
designs may require a shorter manufacturing lead time. Since product redesign is
usually expensive and an unplanned cost, it's best to strive for the optimal ••
product design from the very start of the process.

There is also a need to plan for the product life cycle in product design.
••
Increasingly, supply chain managers incorporate environmental concerns in their
plans from the beginning (for products and for the processes used to make the
••
products). Environmental life cycle analysis looks at the environmental
a product (or service) up and down the supply chain-starting from raw material
impact of
••
extraction through manufacturing, use, and final disposal. Multiple supply chain
processes are involved, such as sourcing, material handling, manufacturing, ••
••
packaging, and transportation. Along the way, process improvements often result.
Ideally, managers across the supply chain cooperate with each other to extend the
benefits beyond "green" to include reduced costs and improved customer support.

Information Since technology has become such a powerful force that can extend supply chain ••
technology visibility across multiple tiers while providing world-shrinking velocity, it is a
critical aspect of the design. The primary concerns today in this area are ••
determining which data should be transferred, which data are significant to the
effective management of the supply chain, and which data are not of importance
and can therefore be safely ignored. Some important considerations in this area
••
are:
• Determining how frequently data should be transferred and analyzed
••
•
•
Deciding how data will be analyzed and used
Determining the impact of the Internet and e-commerce ••
• Designing and setting up infrastructure internally and between supply chain
partners ••
••
• Integrating lT and decision support systems into competitive strategy.

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•• Section C: Supply Chain Design and Improvement Considerations

•• Decision
support
systems
Investing in decision support systems (DSS) is also a consideration in supply
chain design. What systems will the supply chain design need to support
efficient and effective functioning once it's up and running? A decision support

•• system is a broad term for any software application used to help management
make better, more informed decisions, particularly about tradeoffs between two

•• or more possibly qualitative objectives. These systems can range from

spreadsheets where users perform their own analysis to expert systems that

•• utilize experts' knowledge in various fields to recommend options .

•• DSS can be used to help identify the best solutions for a breadth of supply chain
challenges: from strategic decisions such as network planning, as mentioned
previously, to tactical issues such as assigning products to manufacturing

•• facilities and warehouses, to daily operations decisions like production

scheduling and delivery mode selection. It is important to note that most

•• companies will likely have multiple DSS systems .

•• The selection of a specific DSS by an organization

such as the company's manufacturing capabilities,
is dependent upon factors
changes in demand, and

•• transportation and inventory costs. For example, if a company's predominant

cost is its transportation, the design should take into account the purchase and
implementation of a DSS for a fleet routing system or network design

•• application. If another firm identifies that it will need a support system to help
manage its high demand variability and complex manufacturing processes that

•• require setups when switching between products, it would likely choose to invest
in systems that provide decision support on demand planning and production

•• scheduling for its unique supply chain .

•• Exhibit 1-31 on the next page shows the typical components of a DSS .

You will be learning more about the details of DSS and how they are

•• implemented in the "Technology" section of Module 2 .

•• There are all-in-one packaged network design and planning software

applications available on the market now that support supply chains across

•• the globe. These packages provide numerous options, including managing

business growth, reducing overall supply chain costs, improving customer

•• service, providing recommendations

acquisitions,
for consolidations after mergers or
contingency planning, performing what-if scenarios, optimizing
production sourcing decisions, and planning for a tax-efficient supply chain .

••
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Module I: Fundamentals ofSupply Chain Management

••
Exhibit 1 ~31: Decision Support Systems (DSS)

I. Management formulates a 2. DSS software searches for the

••
business scenario and
requests the DSS system to
evaluate and analyze it.
appropriate information in the
ERP data warehouse, formats
it, and applies logic to it. ••
Management DSS ••
Software
••
3. DSS software analyzes the
selected data and provides
management with alternative
••
Jnfonnation
courses of action based on
the requested scenario.
••
+Topic 3: Continuous Improvement
••
Designing for Continuous improvement, as defined in the AP JCS Dictionary, 13th edition, is
••
incremental,
ongoing
"the act of making incremental, regular improvements and upgrades to a process
or product in the search for excellence." Continuous improvement is also ••
process
improvements
sometimes called continuous process improvement (CPI), and it is a foundational
concept in total quality management (TQM). TQM is "a management approach
to long-term success through customer satisfaction ... based on the participation
••
of all members of an organization in improving processes, goods, services, and
the culture in which they work" (APJCS Dictionary, 13th edition).
••
Since we're discussing continuous improvement in the context of supply chain ••
design, in this section we'll focus on how it can serve as a driving force in every
decision about supply chain design. Supply managers need to research and ••
identify how each process within the chain can be optimized from the very start,
with the design of the chain, and then further enhanced in the future to meet
changing needs.
••
Cl and TQM Continuous improvement and total quality management efforts go hand in
••
hand across most organizations. As a matter of fact, quality, as defined by the
APJCS Dictionary, 13th edition, has two major components: ••
•
•
Quality of conformance: defined by the absence of defects
Quality of design: measured by the degree of customer satisfaction with a ••
product's characteristics and features
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•• Section C: Supply Chain Design and Improvement Considerations

•• This two-pronged definition underscores how critical it is for product design

to be factored into supply chain design so that product traits and features will

•• meet customer expectations. Upcoming in this module, we'll be examining

product considerations and the resulting customer satisfaction levels in greater
detail.

•• Continuous process improvement and TQM can be adopted and used in

•• virtually every function within an organization and for a multitude of

purposes .

•• Continuous process improvement can be defined in several ways, but all

emphasize the same points: It's a "never-ending effort to expose and eliminate

•• root causes of problems: small-step improvement as opposed to big-step

improvement," according to the AP!CS Dictionary, 13th edition. The key

•• words in this definition are process, never-ending, root causes, and small-step
improvement:

•• • Process. The primary aim of continuous improvement is to bring more

•• value to the customer, but it doesn't always focus directly on the goods
produced for customers. Instead, it looks for ways to improve the
processes that result in customer value; and it approaches process

•• improvement from a holistic perspective .

•• That's why it fits so well with supply chain thinking, which also
emphasizes the search for ways to improve the functioning of a whole

•• system .

•• • Never-ending. The search for perfection {and that's the way TQM
defines its goal) has no endpoint, only successive approximations

••
moving toward a goal that is itself redefined over time. The idea is to
keep raising the bar, setting ever-higher standards. But that isn't the only
implication of "never-ending."

•• Because the environment in which a firm does business constantly

•• changes, the priorities for improvement must change as well. Sometimes

the goal itself becomes irrelevant. There is no stable state in business,

•• only never-ending change=-hence the need for continuous improvement.

••
• Root causes. Quality initiatives always include an analysis phase that
specifies all the steps in a process and pinpoints the underlying causes of

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Module I: Fundamentals of Supply Chain Management
••
troubled processes. It is not about blaming people involved in processes
but rather helping them identify and resolve what is really at the core of ••
••
the process glitch.

• Small-step improvement. Continuous improvement is evolutionary, not

revolutionary. It may set very high goals and may eventually create
dramatic change, but it does so incrementally, in a methodical, ••
manageable manner. Those involved in the incremental changes need to
be brought on board and understand the underlying issues so that they ••
buy in to making and supporting the ongoing changes.

Common purposes of continuous process improvement are:

••
••
Purposes
• To continuously refine the processes of manufacturing or service, not
simply to focus on the quality of the goods or services produced
• To incorporate improvement considerations into the processes
themselves, not merely to subject processes to periodic reviews and
••
•
audits
To define achievable goals and develop quantitative measures to chart ••
•
progress toward reaching those goals
To make the workplace more empowering by involving everyone in the ••
•
assessment and improvement of the processes they oversee, manage, or
carry out
To increase productivity
••
• To improve worker satisfaction by improving workplace safety,
eliminating unnecessarily strenuous or stressful work, making
••
performance assessments more rational, and enhancing the quality of
jobs and career options ••
• To train employees to identify waste (wasted resources, wasted motion,
wasted time, etc.) and participate in eliminating the waste. ••
The Cl model The concept of continuous process improvement has been increasingly applied ••
••
in service environments as well as in manufacturing, where it began. What is
universal to this concept is the approach, or model, that's used to analyze,
assess, plan and implement changes that will improve the supply chain and its
processes.
••
The continuous improvement model we're using here, shown in Exhibit 1-32,
builds upon other supply management concepts, such as benchmarking and ••
change management.
••
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•• Section C: Supply Chain Design and Improvement Considerations

•• Exhibit 1-32: Continuous Improvement Model

•• Stage 1:
Process analysis

••
•• Stage 4:
Implementation and
Stage 2:
i
1

•• change management
\.._
Process assessment
__,)
I

••
•• Stage 3:
Project planning

••
•• • Stage 1: Process analysis. The initial step in continuous improvement
requires taking a hard look at the supply chain (internal and external) to

•• identify processes needing improvement. This assumes that those initiating

the quality improvement initiative can see from end to end of supply chain
processes rather than being limited to focusing on local activities .

•• Analysis of a specific process requires breaking the process down into each

•• constituent step from beginning to end across functions and partners. A

process can be mapped with a process chart, also known as a flowchart, or a

••
supplier-input-process-output-customer (SIPOC) diagram .

The AP JCS Dictionary, 13th edition, defines a process chart as follows:

•• A pictorial representation of the sequence of work or the nature of

events in a process. It serves as a basis for examining the various steps

•• in a process, how they are related, and areas for possible improvement.
Also known as a flow chart .

•• Exhibit 1-33 illustrates a simple process chart and the appropriate use of
symbol shapes:

•• •
•
Arrow: to show dircction(s) in the flow of the process steps
Oval: used for the start and end of a process

•• •
•
Rectangle: used to indicate a process step
Diamond: used to indicate a decision point

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••
Module 1: Fundamentals of Supply Chain Management

Exhibit1-33: Sample Process Chart

Start
••
Process
••
step
••
••
Stop ••
The SIPOC diagram, as shown in Exhibit 1-34, also serves to visually
••
depict the flow of a process.
••
Suppliers
Exhibit1-34: SIPOC Diagram of Demand Management Process

Inputs Process Output

(

Customer
••
••
Last month's
performance:
••
Clean,
meaningful
data
Sales and
marketing
accuracy, bias,
and assumptions
••
••
-·-~~-~~

New product Gather multiple Accurate

Sales and
development view for demand unconstrained
operations
and management consensus demand
Economic,
cyclical trends

Customer
process plan
planning

••
Develop
u nconstrained
demand plan
••
••
Customer
' relationships
lnterplant Sales planning
demand
1·-·-·---
Distribution
I
Review with
supply and
constrain Master ••
••
requirements production
planning schedule

· •

••
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 ••
•• Section C: Supply Chain Design and Improvement Considerations

•• The SIPOC diagram is defined in the APICS Dictionary, 13th edition, as

follows:

•• A high-level process map that shows substantial subprocesses in an

organization's process together with the structure of the process
represented by the suppliers, inputs, outputs, and customers. A SIPOC

•• diagram defines the critical aspects of a process without losing the

overall perspective .

•• The SIPOC diagram is one of the tools used in six sigma (a continuous
improvement philosophy which you will learn more about in Module 3) .

•• Whatever technique is used, once the current process has been mapped, the

•• map can be used to redesign the process by removing, combining, or adding

steps. Continuous improvement is supposed to begin without bias by simply

••
documenting the process on a factual basis. TQM provides analytical tools
to aid in fact gathering, and we'll look at some of them presently .

•• • Stage 2: Process assessment. The questions to answer during assessment

are "How are we doing?" and "How much do we want to improve?"

•• Assessing the current state of a process and determining the goal of the
improvement initiative can be accomplished by using another

••
organization's performance as a benchmark. In previous sections you've
looked at various key performance indicators (KPis) such as the SCOR
metrics that provide a basis for assessing current performance and

•• determining an appropriate endpoint for the improvement process .

Benchmarks can be set with reference to the KPT "score" of a competitor or

•• a superior performer worldwide. In addition to benchmarks that set a

specific performance goal, such as reducing cycle time by a set percentage,

•• there are process benchmarks that describe the qualities that make up
process excellence .

•• • Stage 3: Project planning. If you're going to advance in small steps, you

need to identity what those steps will be so you can check them off one at a

•• time as you approach the benchmark. Putting together a plan is similar to

designing a road map or blueprint because it entails the idea of progressing

•• toward a benchmark. You need to develop realistic schedules for

development and reviews, assign responsibilities and accountability, identify

•• needed resources, create a budget and get it approved, obtain specific

commitments from all stakeholders to be certain that the project is

•• understood and supported, and, perhaps most important of all, identify a

project leader who will drive the initiative through to its conclusion .

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This step also requires flexibility such as rethinking the goal and perhaps
even moving the benchmark. Sometimes you start down one road only to
encounter a roadblock, a shortcut, or an intersecting path that leads to a
•••
better destination that wasn't marked on the original map. Even the
improvement process itself is subject to improvement.
••
• Stage 4: Implementation and change management. After the team has
identified a problem, selected a benchmark, and devised a series of steps to ••
reach it, they can involve other supply chain partners who are stakeholders
in the process. The hard work may have only begun at that point. ••
Implementing process improvement ideas can send shock waves through
the firm and rattle the supply chain if the change isn't managed carefully. It
takes strong leadership and committed participation from employees who
••
understand the potential benefits for the customer and are confident in their
ability to play their roles successfully.
••
Reasons for The reasons for taking a continuous improvement approach to supply chain ••
adopting
continuous
management can be boiled down to the following.
••
improvement • SCM is process-oriented. Supply chain management is itself process-
oriented. The basic units of the supply chain are not products or services
that emerge from the chain; they arc the processes that flow along the chain
••
among functions and partners.
••
• Supply chains are dynamic. A supply chain constantly expands, contracts,
and incorporates new stakeholders and new products. A constantly ••
changing system requires continuous reengineering and process
improvement. ••
• Supply chains evolve. Supply chains have evolved from functional
isolation, to cross-functional cooperation, to global networks linked by
••
electronic communications and enterprise software. As supply chains
evolve across new frontiers of organization, scope, and technological
••
complexity, they are in constant need of process improvement.
••
• Continuous improvement can reduce the costs of poor quality.
Although continuous improvement programs+-or total quality ••
management initiatives of any sort-require an investment of resources,
they should be presented to management as methods of reducing the costs
of poor quality, for a net gain on the investment. That is, quality may be
••
••
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•• Section C: Supply Chain Design and Improvement Considerations

•• expensive, but the costs of poor quality are often greater. The AP/CS
Dictionary, 13th edition, defines the cost of poor quality as follows:

•• Costs associated with providing poor quality products or services [in]

four categories:

••
(I) Internal failure costs ... associated with defects found before
the customer receives the product or service;
(2) External failure costs ... associated with defects found after

•• the customer receives the product or service;

(3) Appraisal costs ... incurred to determine the degree of
conformance to quality requirements; and

•• (4) Prevention costs ... incurred to keep failure and appraisal costs
to a minimum .

•• A variety of other quality and continuous improvement approaches have

evolved over the past decades, and we'll look more in depth at some of those

•• philosophies, like lean, six sigma, and the theory of constraints, as well as basic
and new quality tools, in Module 3 .

•• As you've already learned, a supply chain is a dynamic system, and it must

••
keep functioning at an acceptable level while you improve poorly functioning
process steps. Often what's more challenging to change are the actions and
habits of the people involved in a process. They need direction, explanation,

•• follow-up, and reinforcement for executing process changes and ensuring that
the processes don't revert to the previous state .

•• Now we're going to learn more about continuous improvement in terms of

•• product considerations, the balanced scorecard (a tool for tracking a company's

progress), and Level 1 SCOR metrics .

•• Product What aspect of product design needs to be considered when designing a

considerationssupply chain? The answer is every aspect-because the traits and features
•• of every product will impact the supply chain process in some manner.
What exactly does "design" imply? The product design process consists of

•• translating a set of functional requirements into an operational product,

process, or service (AP!CS Dictionary, 13th edition). You will be learning

•• more about designing products and services in Module 2, Section G,

"Influencing and Prioritizing Demand."

•• Balanced
scorecard
Metrics provide a way to keep score, so it was only natural that someone
would create a business-related scorecard. If your objective is to improve

•• order fill rate from 93 percent to 98 percent, then you've created a contest
with its own rules and an ultimate goal that signals an end to the game. Sure

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Module I: Fundamentals of Supply Chain Management
••
••
enough, in 1992 Robert S. Kaplan and David Norton introduced the
balanced scorecard (BSC). Initially designed to give managers a
comprehensive view of business performance, it has since been adapted to
••
the design and measurement of supply chain performance.
••
Why is the scorecard "balanced"? Because unlike traditional measures, which
focus only on financial results, it includes four perspectives of business ••
performance:
• Customer ••
•
•
Business process
Innovation and learning ••
• Financial

You will be learning more details about the balanced scorecard and how it's
••
used in Module 3, Section C, "Managing Supply from External Sources."
••
Level 1 SCOR
metrics
The Supply Chain Operations Reference (SCOR) model, which was introduced
earlier in this module, was developed specifically to measure cross-functional, ••
cross-company supply chain processes. It includes metrics to calculate
numerical values for performance attributes, and this allows it to be used to ••
••
compare performance against industry-best or best-in-class performance as well
as against a company's own previous performance and future goals. The model
has been developed and refined by dozens of major firms and applied in
initiatives available to Supply Chain Council members as case studies.
••
To measure performance, the SCC has developed a system of metrics. We're
limiting this discussion to Level 1 metrics, the highest level. This provides a ••
taste of the SCOR measurement system, but beyond Level I are several deeper
levels with hundreds of more-specific, related measurements. The Level 1 ••
metrics explained here are not tied to the specific SCOR processes in the plan,
source, make, deliver, and return model. Instead, they may cut across multiple
SCOR processes.
••
Exhibit 1-35 identifies the Level 1 metrics in the right-hand column. Jn the left-
••
hand and middle columns, it names and explains the supply chain performance
attribute measured by each metric. These attributes include: ••
• Supply chain reliability, which is defined as the percentage of orders that are
filled perfectly (on time, no damage, etc.). (If your customer orders 1,000 ••
SKUs and they all show up at the designated facility on time, undamaged,
and completely documented and packaged, you've delivered a perfect order.) ••
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•• Section C: Supply Chain Design and Improvement Considerations

•• • Supply chain responsiveness, which refers to the amount of time required to

complete a delivery. (Reliability and responsiveness are "customer-facing"
qualities of the chain and would be appropriate to measure and, if necessary,

•• •
improve if the overall strategy focused on customer loyalty.)
Supply chain agility, which refers to the supply chain's ability to respond to

•• unplanned orders in larger amounts (or smaller amounts) than expected or

earlier than expected. Agility metrics face both inward to the chain and out to

•• •
the customer .
Supply chain costs and supply chain asset management, which bring the

•• overall assessment down to earth with measures of financial effectiveness

and profitability. These metrics are useful if the strategy focuses on financial

•• returns .

Exhibit1-35: SCOR 10.0 Performance Attributesand Metrics

•• Performance
Attribute
Performance Attribute
Definition
Level 1 Metric

•• Supply chain
reliability
The performance of the supply chain
in delivering the correct product, to
Perfect order fulfillment

••
the correct place, at the correct time,
in the correct condition and
packaging, in the correct quantity,

••
with the correct documentation, to
the correct customer
Supply chain The speed at which a supply chain Order fulfillment cycle time

•• responsiveness
Supply chain agility
provides products to the customer
The ability of a supply chain to
respond to marketplace changes to
Upside supply chain flexibility
Upside supply chain adaptability

•• gain or maintain competitive

advantage
Downside supply chain adaptability
Overall value at risk

•• Supply chain costs

Supply chain asset

The costs associated with operating
the supply chain
The effectiveness of an organization
Supply chain management cost
Cost of goods sold
Cash-to-cash cycle time

•• management in managing assets to support

demand satisfaction; includes the
management of all assets: fixed and
Return on supply chain fixed assets
Return on working capital

•••
working capital

Once the supply chain has a percentage score for a particular metric, it can then

•• conduct research to determine its ranking among relevant organizations and

decide whether to undertake an improvement initiative .

•• The selection of metrics depends upon the supply chain strategy; there is no
requirement that all Level 1 metrics have to be applied simultaneously. In fact,

••
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the opposite is more likely to be true. Since the metrics are intended to apply
across boundaries, any initiative will require thorough explanation at the very
least to all those managers affected in the different functional areas and
••
companies. Improving supply chain responsiveness, for example, might involve
multiple suppliers, altered production processes, even product redesign to .
••
achieve the ability to put more product into customers' hands on short notice or
to get the product there faster. ••
To achieve greater overall velocity might require that one link in the chain
actually underperfonn in the interest of boosting performance elsewhere.
••
Shipping might have to rely on more expensive transportation, for example.
These tradeoffs have to be carefully negotiated with those involved, and
••
rewards may have to be shared in such a way that the interest of each
stakeholder is brought into alignment with that of the overall enterprise. Strong ••
leadership from above is paramount. A pilot project is helpful if it starts at the
most manageable level and has a good chance of quick success. Applying one ••
metric across two or three supply chain partners is not too modest a project.
Remember that underlying the Level 1 metrics are further levels of metrics to
provide guidance that is more specific and more complex. You will learn more
••
about the specific definitions of the Level 1 metrics along with their formulas in
Module 2, Section E, "Managing the Supply Chain."
••
Now that you have a solid understanding of SCOR Level 1 metrics and ••
performance attributes, let's explore some other process improvement
initiatives and other measures. ••
Process
improvement
There's a saying in the quality movement, "Facts are your friend." And indeed
they are. You need massive data to manage supply chains effectively, to select ••
initiatives processes for improvement, to map a process accurately, and to measure the
progress of your process improvement initiatives toward their goals. ••
Teams will be directed by top management toward potential initiatives that they ••
••
deem important. A continuous improvement team may want to do preliminary
research to determine which issues or areas will be on the simpler side to fix.
Team members can analyze improvement opportunities based on the
perspectives of key stakeholders such as customers, suppliers, employees, etc.
Success in small-scale improvement projects will help build momentum. For ••
instance, a team may work on improving a subprocess in a particular place in
the manufacturing flow, such as improving a component of a product. As teams ••
build their expertise and confidence in themselves, they will become more
proficient at using continuous improvement philosophies and tools and they ••
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Section C: Supply Chain Design and Improvement Considerations

•• will take on more extensive and complex supply chain processes that require
more sophisticated skills .

•• Here are some common CI initiatives for supply chains:

• Customer responsiveness

•• •
•
Perfect customer orders
Performance improvement (by supply chain, function, teams, supplier

•• •
groups, etc.)
Increased productivity

•• •
•
Strategic and financial alignment
Asset management

••
• System infrastructure
• Demand planning
• Logistics

•• • Professional development of employees

•• Regardless of the type of initiative, decisions must be made as to how progress will
be measured by selecting the appropriate metrics for an initiative. That way everyone

•• Metrics
will share the same vision of how success will be measured and documented .

So how are improvements measured? In a myriad of ways depending upon what

•• is being measured. As the saying goes, "You get what you measure." This is at
least half true. While there is no guarantee of achieving the goal a firm or team

•• decides to measure, it's a virtual certainty that it won't achieve what it fails to
measure. Once the objectives and metrics have been selected, they need to be

•• communicated throughout the extended enterprise along with the benefits of

achieving them .

•• Since it's not feasible to measure and monitor every supply chain goal or activity,
choose a reasonable number of key performance indicators that are related to the

•• strategic objectives. The discussion that follows briefly reviews the nature of
KP ls .

•• Key
performance
We've discussed a number of strategic attributes of supply chains, among them
velocity, visibility, variability, collaboration, trust, customer focus, and

•• indicators (KPls)
flexibility. We could add other attributes such as security (risk management),
compliance with all regulations, and environmental excellence due to a well-

•• developed, profitable reverse supply chain. Any of these attributes could be

woven into strategy, expanded into specific objectives, and subjected to

•• measurement. How does a team detcnnine which key performance indicators

are appropriate for a particular initiative?

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••
If an improvement initiative is supposed to increase the velocity with which
••
••
information flows from the end customer back through the chain, we could
develop technology-related objectives, assess the current state of the system,
and identify metrics to measure progress toward a velocity goal. The key
indicator might be a measure of the actual velocity of communications. Perhaps
demand data are aggregated monthly and communicated in face-to-face S&OP ••
meetings. The goal could be to substitute direct transfer of data from the point-
of-sale via scanners, bar codes, and the Internet. A great many enabling ••
objectives might be put in place (buying equipment, training staff, and so on),
but the key indicator would be a measure of velocity. This KPI would be a true
supply chain metric, because the process it measures crosses tiers. Of course,
••
we would also need to track the customer satisfaction and financial impact.
Does the faster communication and sharing of demand data pay off in terms of
••
customer service and profitability? A KPI for variability might be the extent of
the bullwhip effect.
••
In addition to the commonly used KPis of profitability and customer
satisfaction, supply chain managers have developed others that practitioners can ••
adapt to their own purposes. Here are just a few examples:
• For product introductions-internal failure rate, scrap, external failure rate,
warranties, returns, and introduction lead time
••
• For merchandizing products-market share, volume growth, and total
supply chain inventory turns (Note that inventory has to be aggregated
••
•
across the supply chain.)
For replenishment--order fill rate, on-time delivery, forecast accuracy, and
••
order fulfillment lead time
••
The key point about KPis is that they have to be applied to supply chain
processes that are derived from the organizational and supply chain strategies.
A KPI will not promote collaborative behavior if it measures only activity
·••
within a silo-inventory holding costs at one warehouse, cost containment on
one leg of a cross-country shipment, increased production at one plant.
••
Without data, you don't know what customers value, so you can't design ••
processes with any assurance that you're targeting their needs. Data are crucial
as a basis for executive decisions at the highest level and also for refining and ••
controlling operations at the most minute level. Without accurate financial data,
you can't assess the contribution of process improvements toward improving
the bottom line. If you don't have data to assess the condition of the supply
••
chain, you can only guess at what needs to be improved.
••
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•• Section C: Supply Chain Design and Improvement Considerations

•• The next sections cover supply chain visibility and the analysis phase that
initiates an improvement project. The two are closely related .

•• Optimizing
visibility
Visibility means being able, figuratively, to see what's happening in the supply
chain. In traditional, functionally oriented firms, silo walls obstruct "horizontal"

•• visibility outside one's own department. ("Vertical" visibility also tends to be

limited. Management may be able to see downward to activities at the tactical

•• level, but visibility upward may be limited to information framed as directives

and performance reviews.) The further supply chain partners can see through

•• functional walls and also upstream and downstream into the activities taking
place in other tiers of the chain, the better chance they all have of synchronizing
their operations to produce value for the customer.

•• For example, with global positioning and satellite communications, logistics

•• managers can track individual items as they are shipped across the world to
customers in foreign countries. In fact, anyone in the chain with the necessary

•• technology, including the customer, can be given access to this information.

This real-time visibility into customer shipments gives logistics managers the

•• ability to react to difficulties long before they could have just a few years ago .

One obstacle to visibility along supply chains has been the unwillingness of

•• partners to share information. Consequently, implementing process

improvement requires building trust across the functions and partners who are

•• party to the process involved. A small-scale pilot project can be helpful in

demonstrating trust and honest communication. Once partners see that data

•• sharing can work to their advantage, they are more willing to provide that all-
important visibility into their operations .

•• And, most appropriately in the present context, data used to measure supply

••
chain performance against key indicators can be made much more easily
available to continuous process improvement teams. Visibility is one key to
successful improvement initiatives .

••• Process analysis Continuous improvement is directed from the top down and implemented from
the bottom up. Selecting processes for improvement is a job for top

•• management. They are accountable for the strategic direction of the firm, and so
it is they who decide the priority order of process improvement. Projects must

•• be selected in harmony with overall business strategies and with the

collaboration of the executive team. Management must become the driving
force that gives the continuous improvement its momentum and credibility .

••
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But once that is done, a team should form that includes employees, especially
those who operate within the process itself. Implementation of quality
initiatives is a companywide process (or a supply-chain-long process) and
••
should involve employees at all levels. The members' intimate knowledge is
required to define the process, analyze weak points, suggest improvements, and
••
implement solutions. The team's first step is to describe the process in depth
and then analyze the process to find the root causes of inferior performance- ••
the fundamental reasons it isn't contributing to achieving supply chain goals.
••
Cl tools CI teams use a number of techniques and methods for continuously improving
supply chain processes: ••
••
• Process mapping--describes a process in depth and then analyzes the
process to find the root causes of inferior performance-the fundamental
reasons it isn't contributing to achieving supply chain goals
•
•
Pattern identification-pinpoints a pattern of variability within a process
Control chart analysis--compares performance data with predetermined
••
•
control limits
Defect measurement-identifies the number of defects that represent ••
•
product or service failures
Pareto diagram-identifies the small percentage of factors that account for ••
•
the largest impact
Cause-and-effect diagram-helps organize causal factors that affect a ••
••
problem or process being investigated
• Root cause analysis-identifies the root cause (versus the symptoms) of a
problem with an unacceptable rate of defects
• Benchmarking-sets goals at specific levels by reference to an outside
performance standard
••
You will be learning much more about these tools and how they are used in ••
supply chain improvement initiatives in Module 3, Section E, "Continuous
Improvement." For now, let's take a closer look at benchmarking. ••
Goals and
benchmarking
Benchmarking is a way of setting goals at specific levels by reference to an
outside performance standard, such as best practices or the performance of
••
another department or enterprise. For example, a benchmark might be best-in-
class cycle time for any enterprise in an industry or a competitor with the lowest
••
cycle time on a particular process. The Supply Chain Council conducts
benchmarking surveys that are available to its members, allowing them to judge ••
their own performance against that of other organizations using the SCOR
measures described earlier. Another method is to benchmark against a checklist ••
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Section C: Supply Chain Design and Improvement Considerations

•• of world-class processes (rather than specific performance measures). The

Oliver Wight consultants, for example, compile the Oliver Wight checklist of
supply chain best practices .

•• There are three broad approaches to benchmarking: competitive (comparison

•• with a leading competitor), best-in-class (comparison with the best in any

industry), and process (which compares the process itself to an ideal process

•• rather than measuring the outcome of the process in amount of time, number of
errors, production quantities, etc.). Each approach has its merits .

•• • Competitive benchmarking. In competitive benchmarking, an enterprise

compares its performance to that of a competitor in its own industry. For

•• example, manufacturing lead time might be a key performance indicator for

an enterprise. Benchmarking would begin with determining average lead

•• time and variability over a number of production cycles. These numbers

could be compared with the performance of a competitor, an enterprise with

•• similar challenges in the same industry. Perhaps that competitor has a 25

percent shorter lead time and less variability but is able to produce at the

•• same level of quality. The process improvement team can use this
competitor's lead time as the goal for improvement. It is quantifiable,

••
measurable, and realistic, since the competitor is already achieving it.
Therefore, it makes an acceptable benchmark.

•• There's an obvious payoff to competitive benchmarking as a method of

setting a performance goal. Reaching the benchmark, or surpassing it,

•• means the enterprise has improved its competitive position. Ford Motor
Company used competitive benchmarking to make a truly remarkable

•• breakthrough in improving their accounts payable process. Their first

restructuring of accounts payable, without a benchmarked goal, yielded a

••
20 percent reduction in personnel. For a second pass at improving the
process, Ford benchmarked its performance against Mazda and was able to
cut personnel from 500 to 75 .

•• Seeing a competitor exceeding performance in a key process lets an

•• enterprise know that change is possible. And yet, despite the dramatic
example from the automobile industry, restricting the search for

•• benchmarks to a company's direct competitors may be too limiting. Best-

in-class benchmarking provides another method of goal setting, with some

••
advantages .

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• Best-in-class benchmarking.With the best-in-class benchmarking strategy, a

firm looks to the best anywhere to develop a goal for improvement. Widening
the search for a benchmark makes it possible to find even more dramatic and
••
inspiring possibilities. Accounts payable doesn't differ radically from industry
to industry; Ford might have been able to find an even more efficient model for
••
the process than Mazda's by looking outside the car industry.
••
Even in areas where at first the dissimilarities seem an overwhelming barrier, a
best-in-class approach may still help develop the most inspiring goals. A major
health-care provider in Minnesota revamped the procedures in its endoscopy
••
clinic by borrowing from Toyota's lean production system. While receiving
some criticism for borrowing assembly-line methods to improve delivery of a ••
service, in fact the provider not only enabled doctors to reduce the backlog of
patients waiting for exams but it allowed the doctors to have at least as much ••
time with each patient. The improvements also saved substantial money. The
decision to process patients with the same efficiency Toyota achieves in its
manufacturing plants turned out to be good for the doctors, the patients, and
••
the clinic. The health-care provider benefited from getting outside its own
industry= not only for a benchmark but for innovative process improvement
••
techniques.
••
• Process benchmarking .Another approach to improving a process is to
benchmark it against a checklist of world-class process descriptions. Rather
than focusing on measurable aspects of process performance such as
••
duration of cycle time, a process checklist draws attention to the features of
the process, to its qualitative aspects. The Oliver Wight group of business
••
excellence consultants provides such a checklist for use in all industries.
The process descriptions reflect the consultants' experiences around the ••
world, and they include considerations such as:
• Use of strategy to drive supply chain planning and execution ••
•
•
Optimization of capacity, inventory, and other supply chain elements
Use of monthly reviews for monitoring capability and flexibility ••
• Presence of data-sharing processes, financial integration, and teams
including suppliers and customers. ••
In sum, benchmarking your goals against the best in your industry or the best in
class provides an effective way to choose realistic yet inspiring goals. It's only
••
natural to have more faith in your ability to reach a goal if you know someone
else has been there before. Not long after British athlete Roger Bannister reset ••
the benchmark for running a mile at slightly less than four minutes in 1954,
other runners not only broke four minutes but ran past Bannister's own mark. ••
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•• Section C: Supply Chain Design and Improvement Considerations

••
••
It's worth noting that Bannister himself did not use another runner's
performance as his benchmark. He reached beyond any other current or
historical mile runners for a pioneering goal. Sometimes, even the best-in-class

•• mark may be too limited a goal for a firm to follow. Someone--or some
enterprise-has to be first. But even a pioneer like Bannister followed a strategy

•• of continuous improvement to reach his goal. He got there through years of

training, continuously shaving small amounts of time off his previous

•• performances until he surpassed the speed that some believed was

physiologically impossible. He reached his goal, quite literally, one step at a

•• time .

Here are some guidelines for teams working with KPis and benchmarks:

•• • Establish a set of key performance indicators using a balanced scorecard

approach and determine baselines for each indicator.

•• •
•
Limit the KPJs to a workable number.
Be sure to include the four general areas of the balanced scorecard: business

•• process improvement (which you should have covered in the design of your
initiative), customer considerations, financial impact, and growth and

•• learning. Growth and learning can be crucial to the success of supply chain
process improvements .

•• •

•
Establish baseline measures for each KPI and set targets (using benchmarks
as you did for process improvement) .
Be sure the change provides a measurable, positive effect on customers and

•• your bottom line; otherwise, your process improvement won't be fully

successful.

•• • Monitor the performance of the KPls .

•• Let's take a look at the next stcp--how you and your team implement the
improvement and manage the changes brought about by these CJ initiatives .

•• Managing
change
The following are some steps to take as you put your process improvement
initiative into action and track progress made over time .

•• Develop both a master plan and a set of project plans .

••
You need two implementation plans, each identifying milestones, tasks, and
resources:
• The master plan contains all improvements in sequence and delineates the

•• end of the implementation and the beginning of the continuous

improvement for each .

•• • Project plans schedule all steps required to achieve the targets for each KPI,
set deadlines, and assign accountability for achieving results .

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••
••
••
Communicate plans and measures to all participants in the process.
You can't change one part of a system without affecting other parts. All firms
and functional areas involved in the process must know precisely what the
improvement initiative involves so they can develop their own objectives and
strategies to contribute to a synchronized effort.
••
Consider conducting a pilot. ••
A successful pilot study with a limited number of firms may inspire confidence
in other supply chain partners and make full implementation easier. In effect, ••
••
the outcome of the pilot sets a benchmark for the rest of the partners.

Proactively address change management issues.

Change can be enormously disruptive across a large organization if it isn't
handled properly. To ease a firm, let alone several supply chain partners, into a
••
TQM project, the team, along with executives, must prepare the ground
carefully before the initiative and maintain communication during, and possibly ••
long after, implementation. Some organizational and personal issues may hinder
progress toward goals if they aren't addressed in the beginning: ••
• Some firms may need to change from a functional to a process-oriented
structure-to undergo Stage 3 supply chain evolution, in other words.
••
Structural changes may be major and should be included in the master and
project plans. ••
• Highly competent management of change is important. But leadership from
the top ranks of the organization is crucial to the success of continuous
••
process improvement. If the leaders in the affected partner firms aren't
brought into the process as full partners and passionate advocates, getting the
••
employees to commit to the change will be difficult or impossible.
••
• Growth and learning will most likely have to be integral to the initiative.
People must not be introduced to new roles and new expectations
being thoroughly prepared. Training can take different forms depending on
without ••
roles and responsibilities. New skills may best be learned in a person-to-
person or classroom context with follow-up on the job. New procedures may
••
best be taught on the job with easy-to-use job aids for reinforcement.
processes are computer-based, the training should also be computer-based.)
(If the
•
••
• Incentives, too, should be adjusted to reflect a balanced scorecard. The
measures of success must reflect the four quadrants of the scorecard-not
only the success of the initiative in meeting its process improvement goals.
••
••
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Section C: Supply Chain Design and Improvement Considerations

••
• All firms involved in the revised process will have to work together in true
partnership, sharing information and adjusting their strategies with an eye to
the success of the overall chain and the positive impact on the end customer.

•• Information sharing may have to be approached diplomatically, with an

emphasis on what can be gained in terms of enhanced value for the customer

•• and smoother operation of the chain .

•• Monitorresultsand make adjustments.

Set periodic targets for KPis from the balanced scorecard, being sure to meet

••
financial goals as well as other scorecard goals .

Work underthe The most successful continuous improvement programs rely on more than one

•• improvement
umbrella
technique. And you will be learning much more about these other quality
philosophies in Module 3, Section E, "Continuous Improvement":

•• • Lean and Just-in-Time (JlT), for example, are completely compatible in

their goals of squeezing waste out of all processes in the supply chain .

•• When a lean system is running on "takt" time, in fact, JlT delivery of

supplies is virtually a necessity to honor the commitment to zero

•• •
accumulation of inventory in production queues .
At the same time, six sigma attention to the reduction of errors keeps the
focus on achieving high-quality processes, not just fast ones. Errors

•• •
inevitably introduce waste into a process .
The theory of constraints (TOC) has a different focus than the other quality

•• initiatives. Rather than reducing waste (lean), optimizing delivery timing

(JIT), or removing variability (six sigma), the theory of constraints

•• emphasizes the need to achieve organizational goals by removing limits

imposed by a constraint. Part of that effort involves maintaining buffers at

•• the constraints, which may seem to be incompatible with lean and JIT, hut
as the buffers are added only just before the current constraint, the other
parts of the system could have reduced buffers .

•• Summing up In competitive markets, success goes only to those organizations that are

•• strongly committed to continuous improvement and share the enthusiasm with

their supply chain partners. Bringing the right product to customers at the right

•• price and at the right time and place means never being satisfied with current
levels of product quality or supply chain performance. Supply chains, markets,

•• customer demand, and improvement strategies themselves are constantly

evolving, ensuring that today's best-in-class benchmarks will be entry-level
performance tomorrow+-just as the four-minute mile changed from a

•• superhuman ideal goal to back-of-the-pack performance .

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Module 1: Fundamentals of Supply Chain Management
••
••
*Progress Check
The following questions are included as study aids and may not follow the format used for questions in ••
the APICS CSCP examination. Read each question and respond in the space provided. Answers and page
references appear on the page following the progress check questions. ••
1. The systematic gathering, recording, and analyzing of data about problems relating to the marketing
of goods and services defines which of the following?
••
(
(
(
)
)
)
a.
b.
c.
Market plan
Marketing research
Market strategy
•
••
( ) d. Marketplace
••
2. What factors should be taken into consideration when designing a supply chain?
( ) a. Inventory location and levels
( ) b. Support systems and information technology
••
(
(
)
)
c.
d.
Network configuration
Product design
••
( e. All of the above
••
3. True or false? In the ideal supply chain, product design is best managed by the engineering
department without input from other functions. ••
••
( ) True
( ) False

4. True or false? Continuous improvement is one aspect of total quality management.

( ) True ••
5.
( ) False

What arc the two major components of quality?

••
(
(
)
)
a.
b.
Absence of customer returns
Absence of defects
••
(
(
)
)
c.
d.
Degree of customer satisfaction with a product's traits and features
a and b ••
6.
( ) e. band c

Number the following stages of the continuous improvement model from 1 to 4, with 1 being the first
••
(
stage.
) a. Project planning
••
(
(
)
)
b.
c.
Process assessment
Implementation and change management ••
( ) d. Process analysis
••
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Section C: Supply Chain Design and Improvement Considerations

••
7. What symbol signifies a decision point in a process map or flowchart?
( ) a. Rectangle
( ) b. Two opposite-pointing arrows

•• (
(
)
)
c.
d.
Diamond
Oval

•• 8 . What does a SIPOC diagram show?

•• (
(
)
)
a.
b.
Subprocesses within a larger supply chain process
Supply chain revenues from various product lines

•• ( ) c. Least expensive manufacturing flow

( ) d. Relationships between suppliers

•• 9. Internal failure costs are

( ) a. those used to determine the degree of conformance .

•• (
(
)
)
b.
c.
those incurred to keep appraisal costs to a minimum.
those associated with the customer's receipt of the product .

•• ( ) d. those associated with defects found before the customer receives the product.

••
I 0. True or false? The balanced scorecard is intended as a tool for tracking business performance without
reference to financial impact.
( ) True

•• ( ) False

•• 11. Agility is a SCOR model metric. What does it refer to?

( ) a. Supply chain's ability to quickly bounce back from price increases by suppliers

•• (
(
)
)
b.
c.
Supply chain's ability to respond to unplanned decreases in customer orders
Supply chain's ability to develop competitive sales strategies

•• ( ) d. Supply chain's ability to complete a customer order

12. Which of the following might be a supply chain KP! for product merchandizing?

•• (
(
)
)
a.
b.
Scrap
Holding cost

•• • ( )
)
c.
d.
Total supply chain inventory turns
Visibility

•• 13. Which of the following is true of a supply chain process key performance indicator (KPI)?
(
(
)
)
a.
b.
It should promote collaborative behavior across functions .
It should focus on one area or department.

•• (
(
)
)
c.
d.
It should be disconnected from overall strategies .
It should ignore interrelationships and interdependencies .

••
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Module I: Fundamentals of Supply Chain Management

14. True or false? Visibility should be low in a supply chain in order to help synchronize operations and
increase value.
( ) True
••
( ) False
••
15. If a financial services firm designs an initiative to improve its sales process to the point that its
closing ratio at least equals a best-in-class benchmark, it wants the average ratio to be equal to which ••
of the following?
( ) a. Ratio of the best salesperson in the firm ••
••
( ) b. Ratio of the best salesperson in the financial industry
( ) c. Ratio of the best firm in the financial industry
( ) d. Ratio of the best firm in any industry

••
••
••
••
••
••
••
••
••
••
••
••
•• •
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Section C: Supply Chain Design and improvement Considerations

•• Progress check answers

1. b (p. 1-116)

•• 2.
3.
4.
e(p. 1-119)
False (p. 1-122)
True (p. 1-124)

•• 5. e (p. 1-124)
6. d, b, a, c (p. 1-127)

•• 7. c (p. 1-127)
8. a (p. 1-129)

•• 9. d (p. 1-131)
10. False (p. 1-132)

•• 11. b (p. 1-133)

12. c (p. 1-136)
13. a (p. 1-136)

•• 14. False (p. 1-137)

15. d (p. 1-139)

••
••
••
••
••
••
••
••
••
••
••
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••
Section D: Inventory Management
••
••
This section is designed to
• Define inventory and inventory management
••
•
•
Identify key supply chain performance indicators relevant to inventory management
Describe the factors that must be weighed when setting an inventory policy ••
•
•
Identify the reasons why inventory would be managed in aggregate and at the item level
Identify the main types of inventory ••
•
•
Describe valid reasons for holding inventory
Differentiate between inventory cost categories ••
•
•
•
Describe the effects of inventory on financial statements
Understand the use of inventory turnover as an inventory control tool
Comprehend that inventory can be given different values on the balance sheet based on how
••
it is valued by accountants.
••
••
*Topic 1: The Need for Inventory ••
Inventory
basics
The AP!CS Dictionary, 13th edition, defines inventory as follows:

Those stocks or items used to support production (raw materials and

••
work-in-process items), supporting activities (maintenance, repair, and
operating supplies), and customer service (finished goods and spare parts). ••
Organizations that carry inventory do so because it is a necessary cost of doing
business. However, since it is a cost, organizations are continually working to
••
find the optimum levels of inventory that can maximize profits, production
efficiency, and customer service. Inventory can also be seen as an investment
••
that, if managed correctly, can be a strategic asset to the organization.
example, inventory can decouple demand and supply, so proper management of
For
••
inventory can provide protection against variability in either supply or demand.
••
••
Inventory comes in several different types, classified according to where along
the chain it is being held. Each type serves particular functions, all of them
adding to the chain's flexibility. A basic understanding of inventory depends
upon knowing the types of inventory and the functions performed by each type.
••
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Section D: Inventory Management

•• A major portion of a supply chain's invested capital-from 20 to 60 percent of

total assets on the balance sheet---can be tied up in inventory, all those
materials, parts, and products that are stocked somewhere or are in transit to

•• their next stop along the chain .

•• Inventory
management
The APJCS Dictionary, 13th edition, defines inventory management as "the
branch of business management concerned with planning and controlling

•• inventories." Inventory management is required at any organization that carries

inventory. This role involves planning and controlling inventory from a supply

•• chain perspective and an internal process perspective .

The supply chain perspective of inventory management is concerned with the

•• inflows and outflows at each stage, from the ordering of raw materials to
customer handoff of finished goods. Therefore this area can benefit strongly

•• from inventory visibility and supply chain collaboration. Inventory visibility is

"the extent to which inventory information is shared within a firm and with

•• supply chain partners" (APICS Dictionary, 13th edition) .

•• Inventory management is also integrally connected to production management,

so the second perspective of inventory management is an internal or
enterprisewide view of inventory processing. Inventory feeds into production

•• and/or is a result of production, so planners, master planners, and production

schedulers coordinate with each other at each level of production planning

•• refinement. (Operations planning and control is discussed in Module 3, Section

B, "Managing Supply from Internal Resources.")

•• Inventory management is a role that may be the responsibility or concern of

•• many different competing interests at an organization, as shown in Exhibit 1-36 .

Exhibit 1-36: Inventory Management Roles

•• ~--...__
Purchasing and materials management: adequate raw
_
•• materials at low inventory cost

•• Manutachuing and :finance: efficient and low-cost

production balanced against low inventory cost

•• (~- ~~~~imiii~~~iiiiiiiiiiiii

•• >~
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Module I: Fundamentals of Supply Chain Management

Inventory
management
KP ls
From the supply chain management perspective, there are two key
performance indicators for inventory:
• Reduction of inventory costs related to holding, ordering, and
••
transporting materials, supplies, and finished goods at various points
along the chain
••
• Achievement of customer service targets related to the quality,
availability, and on-time delivery of products and services (which may ••
depend upon availability of supplies)
••
••
Since inventory represents such a large investment, improving inventory
management promises a significant boost in return on investment. It also
means that poor inventory management can lead to very large problems.
Keeping too little inventory in the system can result in such dilemmas as
frustratingly long lead times or broken orders, which in tum could lead to ••
lost customers and lower market share. On the other hand, too much
inventory could have a negative financial impact and greater risk of a ••
reduction in inventory value or write-offs of obsolete inventory. In some
businesses, obsolescence sneaks up on a product so fast that an inventory
overhang can actually cause the products to become outmoded before they
••
ever get sold.
••
The tightrope you walk with inventory management is to reduce the cost of
holding and transporting goods while meeting or exceeding customer service ••
goals. Setting and regularly updating an inventory policy is one way
organizations perform this balancing act. ••
Inventory
policy
Inventory policy is a way of formalizing the results of strategic inventory
decisions so that they can be implemented consistently. Inventory policy
••
codifies both broad and specific inventory management decisions. On a broad
level, inventory policy could specify centralized or decentralized inventory ••
planning and/or warehousing, frequency of communications and coordination,
or a geographical inventory positioning strategy such as postponement. On a ••
••
more specific level, inventory policy can specify rules for order quantities,
order timing, when to act on exceptions to rules, and amounts of specific items
to purchase versus produce.

Organizations weigh a number of factors when setting an inventory policy: ••

• Customer demand. Customer demand is known in advance of production
and/or is forecasted. Inventory policy must compensate for variability in
••
demand forecasts.
••
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••
••
Section D: Inventory Management

•• • Planning horizon. The duration of the planning horizon affects necessary

inventory levels; long-term plans may provide sufficient time to change
system capacity .

•• • Replenishment lead time. The time required to replenish stock at various

•• locations in the supply chain is a key inventory policy input, especially for
long or highly variable lead times .

•• • Product variety. Similar products may compete for budget allocations or

retail shelf space and thus need interconnected inventory policies. Product

•• families are also planned together.

•• • Inventory costs. Inventory costs include order costs (production and

transportation) and inventory carrying costs. These costs are discussed later

•• •
in this section .

Customer service requirements. Inventory policy specifies a level of

•• safety stock per item and location that balances minimizing failure to fill
customer orders within an acceptable time (e.g., stockouts) against

•• increasing inventory costs .

•• Some of these factors are discussed more later in this section, while others are
discussed elsewhere in these modules .

•• *Topic 2: Aggregate and Item Inventory Management

•• Inventory is managed as an overall strategic concern (in aggregate) and at the

individual item level. Each method is necessary. Together these two methods

•• provide inventory managers with sufficient information to meet both strategic

and operational requirements .

•• Aggregate Aggregation is "the concept that pooling random variables reduces the

•• inventory
management
relative variance of the resulting aggregated variable. For example, the
relative variance in sales of all models of automobiles sold by a firm is less

••
than that for a single model" (APICS Dictionary, 13th edition). Aggregate
inventory management is primarily concerned with the financial impact of
inventories, which means getting to an optimal level of inventory that can

•• produce the greatest overall profit for the organization and the supply
chain. The objectives of aggregate inventory management are shown in

•• Exhibit 1-37 .

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 ••
••
Module l : Fundamentals ofSupply Chain Management

Exhibit1-37: Objectivesof Aggregate InventoryManagement

/\ ••
Supportorganizational strategyand operations.
'
••
Supportfinancial objectives.
••
/
Balance: ' ••
• Customerservice
• Operationsefficiency ••
• Inventoryinvestmentcost objectives .

I \,\
••
••
Aggregating, or grouping, inventory helps inventory managers determine the
costs and benefits of a particular group of inventory. Inventory can be
•••
aggregated by:
•
•
Demand pattern (e.g., women's running shoes versus men's running shoes)
Production process (e.g., men's and women's running shoes produced on
••
•
the same production line)
Stage of production flow (e.g., raw materials, finished goods)
••
• Relative value to the organization (e.g., ABC inventory analysis, which is
discussed in Module 2, Section J, "Inventory Planning and Control") ••
• Product or SKU family or type (e.g., finished goods with similar functions
but variations in models, packaging, colors or styles) (The AP JCS ••
Dictionary, 13th edition, defines stockkeeping unit as "an inventory item
[or] in a distribution system, an item at a particular geographic location.") ••
••
• Distribution pattern (e.g., products that originate at the same source and/or
are to be delivered to the same location or customer zone).

Inventory is aggregated prior to analysis not only because the large number of
individual items in some organizations would be impractical to analyze ••
individually
aggregate-level
but also because when forecasting supply and demand patterns,
forecasts are more accurate than item-level forecasts. This is ••
••
because, as noted in the definition, aggregation reduces the variability in data.
Note that aggregation is performed only to the level that the groupings provide
effective analysis.

••
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•• Section D: Inventory Management

•• Aggregate inventory management can be used to:

• Determine the types of inventory to hold

••
• Optimize the flow of inventory and provide suitable buffers between stages
• Match supply with demand
• Set inventory objectives and inventory policy

•• •
•
Calculate inventory costs by category
Perform sales and operations planning, including demand management and

•• production and resource planning .

•• Item inventory
management
Item inventory management is used in short-term operational decision making .
Management specifies rules to follow for individual inventory items using

•• inventory policy and/or information technology systems. These rules specify:

• When to order inventory

•• •
•
How to determine order size per order
Relative importance of each inventory item

••
• Inventory control procedures for individual items .

The goal of item inventory management is to enable planners to translate

•• strategic inventory goals into measurable results: proper production and

distribution of each product or SKU. While master planning plans production at

•• the family (aggregate) level, master scheduling plans inventory production at

the item level (involves generation of the item-level master production

•• schedule). Item inventory management is also necessary at retail locations,

which must anticipate demand for inventory both at the aggregate and item
level to ensure that individual items are available for purchase. Item inventory

•• management is implemented through inventory planning, inventory models, and

inventory control, which are discussed in Module 2, Section J, "Inventory

•• Planning and Control."

•• +Topic 3: Flow of Material

•• The flow of material is a representation of where the inventory is located in the

manufacturing process. It can also be seen as an assessment of the value that

•• has been added to the inventory to date as it proceeds through the

manufacturing stages .

•• Types of
inventory
Classification of inventory type depends on the point of reference, meaning that
a raw material supplier's finished good becomes a manufacturer's raw material

•• upon transfer.

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Module 1: Fundamentals of Supply Chain Management

Firms along the supply chain maintain various types of inventory:

• Raw materialsinventory. Raw materials are purchased parts, materials, or

subassemblies to a production process that have been acquired but have not •••
•
yet entered production.

Work-in-process (WIP) inventory. Work-in-process (WIP) inventory

••
includes "goods in various stages of completion throughout the plant,
including all material from raw material that has been released for initial
••
processing up to completely processed material awaiting final inspection
and acceptance as finished goods inventory" (AP/CS Dictionary, 13th ••
edition). In other words, work-in-process inventory is inventory in which
value has been added but it is not yet a finished good. ••
• Finished goods inventory. These are the finished, ready-to-use products
waiting to be purchased by the customer. ••
• MRO (maintenance/repair/operations)
inventory. MRO inventory ••
••
includes spare parts, lubricants, hand tools, and cleaning supplies that are
needed to maintain production but are not in the final product. Because of
this, MRO is expensed rather than being an asset on the balance sheet like
the other types of inventory (see Topic 6). Maintaining reliable
production requires keeping an inventory of supplies for both routine
••
maintenance and emergency repairs. Attention to production machinery
and MRO forecasting can reduce equipment costs and downtime. ••
One additional type of inventory that is often overlooked is in-transit ••
••
inventory.

• In-transit (distribution or pipeline) inventory. In-transit inventory is

"inventory in the transportation network and the distribution system,
including the flow through intermediate stocking points" (AP/CS
••
Dictionary, 13th edition). Some amount of raw materials, WIP, finished
goods, or MRO inventory is in transit at any given time due to the never- ••
ending cycle of production and replenishment;
container ships for international shipments.
an example is inventory on
Counting only the inventory ••
•
that is currently in stock could be omitting a significant percentage of total

••
inventory. In-transit inventory is measured by the average annual inventory
in transit, which is a function of transit time in days and annual demand.
Reducing this cost requires finding ways to reduce transit time because less
volume needs to be in transit at a given time.
••
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•
 ••
•• Section D: Inventory Management

•• In summary, inventory can pile up at all stages along the supply chain, from
harvested raw materials, through work in process, to finished goods waiting to

••
be purchased.

The management alternatives to inventory include the following:

•• •
•
Reduced variability in the quality, amount, and timing of supply deliveries
Shorter production cycle times

•• •
•
Careful maintenance of production equipment
Improved demand forecasting and/or use of actual demand orders

•• -t- Topic 4: Functions of Inventory

•• Why have Inventory can be seen as both an asset and a liability. The following functions,

•• inventory? or purposes, of inventory answer the question "Why have inventory in the
supply chain?"

•• • Anticipation inventory. Anticipation inventory is the inventory kept in

stock at each location to cover the demand projected in the organization's

•• demand plan. The demand plan will include anticipation of demand peaks
and valleys due to promotions or changes in seasonal demand. In a level

•• production strategy, anticipation inventory may require building additional

inventory before it is needed in order to cover the anticipated increased
demand later in the year.

•• • Safety stock (fluctuation inventory). The AP JCS Dictionary, 13th edition,

•• defines safety stock (fluctuation inventory) as follows:

1) In general, a quantity of stock planned to be in inventory to

•• protect against fluctuations in demand or supply.

2) In the context of master production scheduling, the additional

•• inventory and capacity planned as protection against forecast

errors and short-term changes in the backlog. Overplanning can
be used to create safety stock.

•• Safety stock is held as a buffer against miscalculations of timing or

•• quantity. It decouples adjacent manufacturing processes or partners along

the supply chain so the problems of the upstream process/partner won't
cause difficulties for the downstream process/partner-at least, not right

•• away. If a supplier goes bankrupt suddenly, for instance, safety stock can
be used to continue production while looking for a replacement supplier.

•• Safety stock helps meet customer service targets and reduces stockouts
costs. Use of safety stock to satisfy unplanned demand should be

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Module 1: Fundamentals of Supply Chain Management

••
considered normal to a point. Inventory policy can be used to set an
acceptable frequency for use of safety stock; increased frequency of use ••
over this target is an exception indicating there may not be enough
inventory. Decreased frequency of use under this target may indicate there
may be too much inventory. Infrequent or non-use of safety stock is a red
••
flag that there is too much inventory.
••
• Lot-size inventory or cycle stock. Lot-size inventory is the purchase or
manufacture of inventory in quantities greater than needed to receive ••
••
quantity discounts or full truck discounts or to match batch sizes for
production. A more general term that encompasses other types of
reordering systems other than in full lots is cycle stock. The AP/CS
Dictionary, 13th edition, defines cycle stock as inventory that "depletes
gradually as customer orders are received and is replenished cyclically
••
when supplier orders are received."
••
• Hedge inventory. Hedge inventory is not a commonly used term in
organizations, but many organizations do practice hedging when it comes
to inventory. Hedging involves managing risk by building, buying, or
••
contractually guaranteeing additional inventory at a set price if supply
could be threatened or prices could be rising. These decisions involve
••
speculating on events such as the weather, the economy, labor strikes, civil
strife, or political events. ••
• Buffer inventory.Buffers are materials maintained to keep production
throughput steady at work centers. It is a term related to the theory of
••
constraints discussed elsewhere in these materials.
••
• Decoupling. The APJCS Dictionary, 13th edition, defines decoupling as
follows: ••
Creating independence between supply and use of material.
Commonly denotes providing inventory between operations so that ••
••
fluctuations in the production rate of the supplying operation do
not constrain production or use rates of the next operation.

Decoupling allows supply functions and demand functions to operate at

differing, independent rates. Holding a supply ofraw materials inventory,
for example, decouples the manufacturer from its suppliers. The sawmill
••
operator wants to have a ready supply of trees to turn into dimensional
lumber. The furniture manufacturer wants enough dimensional lumber to
••
process.
••
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•• Section D: Inventory Management

•• Since many products arc produced in batches when there are competing
uses for the same work centers, decoupling also allows scheduling use of a
work center so that some production may occur earlier than needed to

•• avoid bottlenecks in overall production. While this adds to inventory build-

up because some WTP inventory will be ready for the next work center

•• before it is needed, it is an example of the need to optimize the overall flow

of materials in production. While decoupling is often necessary, supply

•• chain managers look for ways to achieve the same goals without the
holding costs by reducing variability in quality, quantity, or delivery time .

•• -t- Topic 5: Inventory-Related Cost Categories

•• Inventory
costs
A number of specific costs are associated with inventory, including acquisition
costs; landed costs; carrying costs (also called holding costs); ordering costs;

•• backorder, lost sale, and lost customer costs; and capacity variance costs .

•• Acquisitioncosts The AP/CS Dictionary, 13th edition, defines acquisition cost as "the cost
required to obtain one or more units of an item. It is order quantity times unit

•• cost." It is also referred to as product cost or purchase price .

••
Landed costs According to the APICS Dictionary, 13th edition, landed costs include "the
product cost plus the costs of logistics, such as warehousing, transportation, and
handling fees." Landed costs for purchased inventory are the sum of all direct

•• costs, including the price paid (i.e., acquisition cost), transportation to the site,
customs, and insurance. Landed costs for internally sourced inventory include

•• direct labor, direct materials, and factory overhead costs .

•• Carryingcosts
(holdingcosts)
Carrying cost is "a percentage of the dollar value of inventory per unit of time
(generally one year)" (APICS Dictionary, 13th edition). It is a variable cost that

•• increases as the level of inventory increases. Carrying costs may be as high as

40 percent of the value of the inventory and are unlikely to be less than 15
percent. They include all the expenses involved in housing the inventory, such

•• as the following:

•• • Storage costs. Storage costs include allocations for rent, operating cost,
taxes, material-handling costs, lease payments for equipment, depreciation,

•• power, and operating costs. These material, labor, and overhead costs for
storing and transporting inventory are allocated to individual SKUs based
on their volume (called cube), weight, or density. Large, dense, or difficult-

•• to-handle goods have higher storage costs .

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Module 1: Fundamentals ofSupply Chain Management

••
• Capital costs. Inventory requires financing, and capital costs refer to the
return expected by creditors and investors because the money could be
invested elsewhere (called opportunity cost). Companies get financing from
••
debt or equity sources. Debt sources include borrowing arrangements that
charge interest and require repayment; equity sources include money from
••
investors (who get an ownership stake in the organization) plus retained
earnings (past profits). The relative proportion or weight of each of these ••
sources is called the weighted average cost of capital (W ACC). W ACC can
be used as a required percentage return on inventory sales that must be ••
•
exceeded.

Risk costs. Risk is related to the sensitivity of the inventory to loss of

••
value, such as its perishability, speed of obsolescence, or likelihood of theft.
Risk costs include the cost of insurance, inventory value reductions, and ••
inventory write-offs. Subjective quantifications of risk can be added to
inventory, such as a two percent per day decline in inventory value due to ••
obsolescence. In this example, inventory remaining in stock for more than
50 days is considered valueless. ••
Ordering costs The AP/CS Dictionary, 13th edition, defines ordering costs as follows:
••
Used in calculating order quantities, the costs that increase as the number
of orders placed increases. It includes costs related to the clerical work of
preparing, releasing, monitoring, and receiving orders, the physical
••
handling of goods, inspections, and setup costs, as applicable.

Ordering costs are all those costs that do not vary due to quantities ordered but
••
only vary by the frequency of ordering.
••
Ordering costs include costs incurred when ordering inventory and setup costs
resulting from the process of preparing to go into production to fill the order. ••
For purchased materials, ordering costs include all the costs associated with the
purchasing process. Use of electronic fonns and payment transfers can reduce
ordering costs. Less frequent ordering can also reduce these costs but at the
••
price of additional inventory holding costs.
••
Setup costs, which are all those expenses incurred when preparing machines
and processes to manufacture an order, include labor for cleaning machinery ••
and making any necessary adjustments or modifications. This requires shutting
down the machines, but it is sometimes possible to reduce the shutdown time by
doing some preparation work off the work site while the machines are still
••
processing previous orders.
••
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•• Section D: Inventory Management

•• Backorder, lost
sale, and lost
customercosts
The cost of backorders, lost sales, and lost customers are costs related to
customer service. A backorder (also known as a stockout) is "an unfilled
customer order or commitment. .. an immediate (or past due) demand against an

•• item whose inventory is insufficient to satisfy the demand" (APICS Dictionary,

13th edition). The cost of backorders, lost sales, and lost customers can be

•• difficult to quantify financially but can be measured using various means such
as percentage of orders shipped on schedule (see Module 2, Section H,

•• "Customer Relationship Management"), which can help quantify the safety

stock investment needed for a particular item at a particular location to keep this

•• Capacity variance
risk at acceptable levels.

Capacity variance costs arc the costs of changing capacity beyond a "normal"

•• costs range, including the costs of overtime, additional shifts, layoffs, or plant
closings. Capacity variance costs can be minimized by production leveling

•• strategies (producing a consistent amount throughout the year), hut this strategy
increases inventory holding costs during periods of low demand .

•• Cost Inventory managers aim to determine order amounts and timing with an eye to

•• balancing reducing acquisition, carrying, and ordering costs without sacrificing customer
service. (Remember, an order schedule is necessary for managers all along the
chain=-the retailer and the distributor order more finished goods, the

•• manufacturer orders more components and supplies, the supplier orders its own
materials and supplies, and so on.)

•• +Topic 6: Effects of Inventoryon the Financial Statements

•• Balancing In addition to inventory describing the things the company owns that are

•• inventory with available for sale or used in the production of things available for sale,
cash flow inventory can also be viewed as all the money currently tied up in the supply

•• chain. What is critical to know is this: As much as 40 to 50 percent of a supply

chain's invested working capital can be tied up in inventory .

•• While inventory can be seen as the buffer that hides the flaws in the supply
chain, it can also be seen as the lubricant that keeps a supply chain flexible. A

•• flexible supply chain is able to respond quickly to internal or external (market)

changes, such as fluctuations in demand. Therefore, inventory management is

•• an integral supply chain management role because it strongly affects the

company's cash flows and financial position .

•• In order to keep the cash flow turning over, the goal is to efficiently manage the
company's inventory level and cost while maintaining and improving customer

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Module I: Fundamentals of Supply Chain Management

••
satisfaction. If a company has fast delivery and strong customer satisfaction
because it keeps a large inventory, it can also face financial failure because of
all of the capital tied up in inventory. On the other hand, if a company does a
••
great job at reducing its inventory and associated costs down to next to nothing,
it may run the risk of being unable to deliver the requested products. This may
••
cause customers to take their business elsewhere. Balancing cost, inventory
level, and customer service are vital. ••
Use of the financial statements for inventory management is an exercise in ••
inventory management at the aggregate level. As noted earlier, aggregate
inventory management views inventory in total to determine if the flow of
materials through the various inventory classifications is efficient and
••
effective enough to maximize profits. Discussions surrounding the financial
impacts of inventory are generally framed around reducing inventory,
••
reducing inventory costs, or increasing the number of times per year that
cash is invested into inventory and returned in the form of revenue, called ••
inventory turnover.
••
The financial statements introduced in Section A, "Supply Chain Management
Concepts," are revisited here with an emphasis on inventory. ••
Balance sheet Recall that the balance sheet has two major sections that have to be in balance as
per the accounting equation:
••
Assets = Liabilities + Owners' Equity ••
Exhibit 1-38 on the next page displays a sample balance sheet for a publicly ••
traded company. Inventory is a current asset that is broken down in this example
by raw materials, work-in-process inventory, and finished goods inventory. ••
Note that most externally available balance sheets will only list total inventory,
while internal reports made for management purposes often have more details
such as these.
••
Inventory as an Raw materials, WlP, and finished goods are carried as current assets on the
••
asset balance sheet. However, maintenance/repair/operations (MRO) inventory is a
period expense. As such, it is expensed on the income statement during the ••
period in which it is purchased. The balance sheet items do not impact the
income statement until the inventory is sold, reduced in fair market value, or ••
••
written off (sometimes called junked inventory).

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•• Section D: Inventory Management

•• Exhibit 1-38: Sample Balance Sheet Showing Two Years of Results

•• . Unsold
mventory on ASSETS
the books at 1.
December 31-;- ~ -~n
. Statement of financial
value at a point in
d of year)
I
In Thousands 000
2010
i----------"=-'-'"------"O:::....:.~ 2011

•• I
:
the given date ;· CURRENT ASSETS

is a curren~·- '
asset on the
CASH AND CASH EQUIVALENTS
INVENTORY 2010 2011
$ 783 $ 908

•• I balance sheet.

=·~-~~=-==
Direct materials, !
fl
l
RAW MATERIAL INVENTORY

;/ l
WORK-IN-PROCESS INVENTORY
FINISHED GOODS INVENTORY
$ 85
105
210
$
115
230
92

••
direct labor, and ·
// TOTAL INVENTORY 400 437
overhead costs of i.
these assets will>// PREPAID EXPENSES
become an i ACCOUNTS RECEIVABLE Average Inventory:: 514 562

•• expense on the /TOTAL CURRENT ASSETS

income statement ·
when sold, only I
their profit margin FIXED ASSETS
(400 + 437)/2 ::
$418.5
1,697 1,907

•• I~ will c~;tt~~~~~~o ! ~:~ss~;;uo:~:TY~~~~~::~~T~~~IPMENT

NET PROPERTY. PLANT, AND EQUIPMENT

600
75
700
121
525 579

•• TOTAL ASSETS $ 2 222 $ 2,486

••
LIABILITIES
CURRENT LIABILITIES
ACCOUNTS PAYABLE 604 660

•• SHORT-TERM NOTES PAYABLE

TOTAL CURRENT LIABILITIES
60
664
75
735

•• LONG-TERM
LONG-TERM
TOTAL LIABILITIES
LIABILITIES
DEBT 600
1 264
600
1 335

•• OWNERS' EQUITY
COMMON STOCK (PAR VALUE) 10 10

•• ADDITIONAL PAID-IN CAPITAL

RETAINED EARNINGS
TOTAL OWNERS' EQUITY
440
508
958
440
701
1 151

•• TOTAL LIABILITIES AND

OWNERS' EQUITY 2486

•• While it sounds good that inventory is an asset, what this means to finance is

•• that some amount of the organization's current assets arc less liquid than
others. (Liquidity is how quickly assets can be converted into cash.)

•• Therefore, optimum inventory holdings are those that equal projected sales
in the organization's demand plan (plus an optimal amount of safety stock),

•• because inventory that is projected to be sold soon is considered more liquid,

while inventory in excess of the demand plan is less liquid .

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Module!: Fundamentals of Supply Chain Management

••
Another reason too much inventory is not good is that the value of the
inventory on the balance sheet includes the costs involved in producing the ••
••
inventory. When the inventory is sold, the portion of inventory value that
comprises direct materials (the raw materials), direct labor, and factory
overhead will become an expense on the income statement that offsets
revenue and reduces cash (an asset). In other words, inventory is an asset on
the balance sheet until it is sold, at which point only its profit margin
••
contributes to net income.
••
Unnecessary inventory can also magnify quality issues. If a defect or other
quality issue is discovered, more inventory with the same defect will magnify ••
••
the quality issue and quality costs for scrap, repair, and/or replacement.

An additional risk of carrying too much inventory is the risk of obsolescence or

spoilage. As a general rule, the longer the inventory remains on the books, the
more likely it will not be sold and will have to be written down to fair market ••
value (what the market will currently pay) or written off completely. Inventory
that has to be written off requires physical removal of the items and financial ••
recording of the direct materials, direct labor, and factory overhead as an
expense without any offsetting revenue. Note that there are strict accounting
rules for inventory write-offs that organizations will need to follow.
••
Finding average A calculation of average inventory for a period of time is frequently used in
••
inventoryon a
balance sheet
managing inventory. With today's software systems, average inventory can
easily be determined at any time. However, to quickly estimate average ••
inventory levels one can add the inventory value at the start of a period to the
value at the end of the period and divide by two. As an example, using the data ••
in the balance sheet shown in Exhibit 1-38, we can calculate the average
inventory for 2011 as follows (amounts in thousands): ••
Average Inventory = US$400 + US$437
2
= US$418.5 ••
Average inventory (however your organization calculates it) is used in
••
performance measures and calculations for inventory space requirements.
••
Accountingvalue
of inventory
How is the value of inventory on the balance sheet calculated? Inventory
valuation is a financial accounting process that follows specific rules based on ••
the age distribution of inventory. Various accounting methods such as first-in,
first-out (FIFO) or last-in, first-out (LIFO) can cause the accounting value of ••
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•• Section D: Inventory Management

•• inventory over time to be more or less in alignment with the actual market value

•• of inventory. These methods are not defined in this text.

A commonly used method is standard costing, which was described in Section

•• A, "Supply Chain Management Concepts." Standard costing applies the

standard cost to inventory expenses. Any variances from actual costs are

•• accounted for at the period end and would be reflected in the financial
statements .

•• Other reasons that the reported level of inventory on the balance sheet could

•• differ from the actual market value of the inventory is that this reported amount
of inventory may include inventory that is reserved, obsolete, damaged, or
otherwise unsalable. Some of this obsolete or damaged inventory will be written

•• off as it becomes clear that it cannot be sold .

•• Since changes to inventory levels can affect accounting values of inventory and
financing needed to sustain the inventory, supply chain managers should consult

•• with financial managers with enough advance notice so the organization can
determine how to change inventory levels while keeping the organization

••
solvent and in good standing with creditors and investors .

Income Recall that the income statement shows the cumulative, dynamic

•• statement relationship of earnings to expenses over a given period of time. Exhibit 1-

39 on the next page provides an example .

•• Managers, investors, and creditors use the income statement to determine

•• whether the company has made or lost money during some period of time,
such as a quarter or a year. An income statement measures profitability in

•• more than one way. Gross profit is determined by subtracting cost of goods
sold (COGS) from revenues. COGS includes inventory costs of direct labor,
direct materials, and factory overhead for all goods that sold that year.

•• Reducing clements in COGS can therefore directly increase gross profit.

Reducing these costs is more effective in increasing profits than increasing

•• revenues through an increase in sales volume because variable costs

increase as revenues increase. By reducing costs, you are effectively

•• increasing the profit margin on inventory without having to raise prices .

This shows that increasing sales cannot produce higher profits as quickly as

•• lowering costs. It also shows that lowering variable costs in the supply
chain can strongly impact profits .

••
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Module I: Fundamentals of Supply Chain Management
••
Exhibit 1-39: Sample Income Statement Showing Two Years of Results

/,1Profit or loss over a

••
••
In Thousands (000)
~//-:_~- period of time
Product For the Years Endinu--- ' I
2010 2011
expenses:These i
expenses are -, REVENUE (SALES) 2,769 3,026

'
booked when the
related units of
' inventory are sold.
r
_
- - -, LESS: COST OF GOODS SOLD
(COGS)
DIRECT LABOR
2010
380
2011
410
••
DIRECT MATERIALS
FACTORY OVERHEAD
990
311
1,120
300 ••
••
TOTAL COGS -1 681 -1 830
GROSS PROFIT 1,088 1,197
Pe~~d-e~~~~;es: 1
These expenses t., -r LESS: OPERATING EXPENSES 2010 2011

••
I
are booked in the SELLING EXPENSES 249 272
period in which -
, they are incurred. I GENERAL AND ADMINISTRATIVE 166 182
LEASE EXPENSE
TOTAL OPERATING EXPENSES
83 91
-498 -545 ••
••
LESS: DEPRECIATION -40 -46
LESS: INTEREST EXPENSE -39 -39
NET INCOME (PROFIT) BEFORE TAXES 512 567
INCOME TAXES
NET INCOME (PROFIT) $
-169
343 $
-300
267
••
NET INCOME (AS A PERCENT AGE OF REVENUE) 12% 9%
••
COGS is an expense that is matched to the revenue being generated. Strategies
••
that build inventory far in advance of actual sales can defer accounting for
expenses that make up COGS until that inventory is sold. However, supply ••
chain managers should understand that operating expenses (see Exhibit 1-39)
are expensed on a periodic basis. These immediately booked expenses could ••
cause problems with maintaining financial ratios at the proper levels. However,
the actual cash outflows for both the product (depending on payment terms) and
period costs would occur as the inventory is being built up (e.g., salaries,
••
utilities, maintenance), so cash flow could be an issue without proper advance
planning for the inventory build-up on the part of finance.
••
Statement of Exhibit 1-40 on the next page shows the statement of cash flows. Insufficient ••
cash flows cash can cause an organization to fail quickly if it cannot raise funds in some
other way. Note that an increase in inventory lowers the cash position, while a ••
••
decrease in inventory increases the cash position (the parentheses show which
actions reduce cash).

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••
Section D: Inventory Management

•• Exhibit 1-40: Sample Statement of Cash Flows Showing Two Years of Results

A viable firm n~eds I

•• I --
positive cash flow \ .--------1
from operations in ~\.
most years_J \
· -~---·· --- ·. Year
Change in cash
balance over a period
. ---, of time
In Thousands 000
2010 2011

•• I
I
_ lncrea~e in I
inventory or
~accounts receivable :
OPERATING SECTION
AFTER-TAX NET INCOME $ 343 $ 267

•• reduces cash;
decreases in either
increase cash. tJ
~=--- ----·
1 1
DEPRECIATION ADD-BACK
j\. (INCREASE)/DECREASE IN INVENTORY
I (INCREASE)/DECREASE IN ACCOUNTS RECEIVABLE
40
(68)
(87)
46
(37)
(48)

•• Increase in
accounts payable
increases cash,
INCBJ:_,l\SE/(DECRE_.8SE)
IN ACCOUNTS PAYABLE
CASH FLOW FROM OPERATIONS
-----
102
330
56
285

•• while a decrease
reduces cash.
INVESTING SECTION
CAPEX SPEND CAPITAL EXPENDITURES
Investments in extra ·
· capacity reduce cash.
1
100 100

•• Extra cash from

financing means
more debt or equity
investments were
CASH FLOW FROM OPERATIONS AND INVESTMENT 230 185

•• issued; reduced
cash means debt (
was paid down or ,
FINANCING SECTION
ADDITIONAL EQUITY CAPITAL

••
dividends were paid LESS DIVIDENDS PAID (50) (75)
to owners.
INCREASE/(DECREASE) IN LONG-TERM DEBT
JNCREASE/(DECREASE) IN SHORT-TERM NOTES (15) 15

••
Net Income . 1
CASH FLOW FROM OPERATIONS, INVESTMENTS AND
+/- Change in (ll.)
Operating . FINANCING 165 125
+1- ll. Investing \

•• 1

l~~
+1-ll. ~inancing r<\
+ Beginning Cash , \
= Ending Cash
BEGINNING CASH BALANCE
ENDING CASH BALANCE $
618
783 $
783
908

••
•• Changes to
inventory affect
cash flows
Inventory can strongly affect cash flows, which in tum can affect covenants
with lenders (contractual agreements that may include lender requirements that
the borrower maintain certain financial ratios at certain levels). Even a

•• reduction in inventory can create one-time adjustments for finance that impact
reporting. However, once the adjustments are made, the long-term financial

•• impact of inventory reductions is usually positive .

•• For example, consider a situation in which a supply chain manager discovers

that some types of inventory at his organization are not selling and have been

••
held for long periods of time. He suggests that reducing these types of inventory
will allow the organization to reduce inventory by €60 million (m). However,
the organization's chief financial officer raises a major concern. The

•• organization's bank has a financial covenant on its loans that requires the
organization to maintain a ratio of 2: 1 between owners' equity and liabilities

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(twice as much in equity). If inventory is reduced by €60m, in the best case,

cash would increase by a few million euros and, in the worst case, the
organization would have to pay to scrap the inventory. Assuming the
••
transaction could be completed with no net change in income, in order to keep
the balance sheet in balance, owners' equity (retained earnings) would be
••
lowered by the same €60m. To maintain the financial covenant, the
organization would need to decrease its liabilities by half as much, or €30m. ••
These requirements could put a large burden on cash flow. Failure to maintain
the covenant would place the organization in technical default, and its debts ••
could become immediately due and payable. The result is that the organization
is unable to perform the change immediately. The supply chain manager learns
the value of consulting with finance prior to making suggestions for a major
••
change in inventory so that finance can determine ways to accommodate the
change while keeping the company solvent. The financial officer recommends
••
that to prevent such a situation from recurring that the organization should
make financial reservations for aging or obsolete stock, which would help the ••
finance department understand how to prepare for the inventory write-off.
••
The discussion now turns to two financial ratios that have relevance for
inventory management. ••
Inventory
turnoverratio
The inventory turnover ratio (also called inventory turns) measures the
efficiency of inventory in supporting sales. Inventory turnover can be calculated
••
as follows (using average inventory calculated from the balance sheet and cost
of goods sold from the income statement): ••
. COGS
Inventory Turnover Ratio= -------
_ US$1,830 __
4.4 times
••
••
Average Inventory US$418.5

The ratio implies that this average amount of inventory was bought and sold 4.4
times throughout the year to support that amount of sales. Higher inventory ••
turnover ratios are preferred and can result from increasing sales and/or
decreasing average inventory. Increasing this ratio means that there is lower ••
investment in inventory relative to sales volume, lower risk of obsolescence,
and greater liquidity. It is expressed as higher inventory velocity. The AP/CS
Dictionary, 13th edition, tells us that inventory velocity is "the speed with
••
which inventory passes through an organization or supply chain at a given point
in time as measured by inventory turnover." ••
••
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•• Section D: Inventory Management

•• Inventory turnover is important because of the profit margin built in to each

product. Sales of manufactured products convert inventory and its associated
costs into revenue. The profit margins directly add to cash (an asset) and

•• increase owners' equity on the balance sheet. Therefore, a major objective of

supply chain management is to increase the speed that inventory can be

•• converted to cash .

•• The appropriate level of this ratio depends on the organization's industry. For
example, in a French bakery, the turnover of baguettes is close to 365 times per

•• year. However, organizations in the slow-moving spare parts service industry

average turnover of less than one to four times per year. Most manufacturing
plants experience turnover of between six and 26 times per year.

•• Cash-to-cash Cash-to-cash cycle time is a metric that can be used as a continuous measure of

•• cycle time how many days the organization's working capital is invested in managing the
supply chain. The data needed to calculate cash-to-cash cycle time (average

•• inventory, accounts receivable, and accounts payable) can be found on the

balance sheet. One advantage of using this metric is that it can be easily

•• benchmarked to information found in public financial statements such as those

of a competitor. Note that while cash-to-cash cycle time can be calculated using
historical data, a preferred method for supply chain management is to base the

•• inventory portion of the calculation on more current data such as dividing the
current inventory level by average daily demand. Cash-to-cash cycle time is

•• discussed in detail in Module 2, Section E, "Managing the Supply Chain."

••
••
••
••
••
••
••
•• I[) 2012 APICS 1-167 Version 3.0, 2012 Edition

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Module I: Fundamentals of Supply Chain Management

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-t- Progress Check
The following questions are included as study aids and may not follow the format used for questions in ••
the APICS CSCP examination. Read each question and respond in the space provided. Answers and page
references appear on the page following the progress check questions. ••
1. Which of the following is a definition of inventory? ••
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( ) a. Items to support production, supporting activities, and customer service
( ) b. Speed at which items pass through an organization
( ) c. Branch of management concerned with planning and controlling items
( ) d. Cost roll-up as a part goes through a manufacturing process
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2. Which of the following is an objective ofaggregate
( ) a.
inventory management?
Perform master scheduling at optimum efficiency and effectiveness. ••
(
(
)
)
b.
c.
Translate strategic inventory goals into tactical plans for execution.
Balance customer service, operations efficiency, and inventory investment cost ••
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objectives.
( ) d. Determine the relative importance of inventory by placing it in categories.

3. True or false? Customer service requirements play very little role in setting inventory policy.
( ) True ••
( ) False
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4. True or false? Item inventory management is used in short-term operational decision making rather
than aggregate inventory management.
( ) True
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( ) False
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5. Which of the following would be classified as work-in-process
( ) a.
inventory?
A lubricant intended to keep production equipment running ••
(
(
) b.
c.
A component part that has just been received at the factory
An item that is on its way to a customer in a truck ••
( d. A completely processed item awaiting inspection
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6. Which of the following is an example of holding inventory in anticipation of future demand?
) a. A retailer who orders inventory based on what marketing thinks will be sold
) b. A manufacturer who builds up inventory to reduce the risk of supply failures
)
)
c.
d.
A retailer who purchases more now because the price is going up
A manufacturer who buys in bulk to get a discount ••
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0 2012 APlCS 1-168 Version 3.0, 2012 Edition ••
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•• Section D: Inventory Management

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•• 7. Define the inventory function called decoupling and state briefly why it's a benefit for the partner
holding the inventory as well as for the supply chain .

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•• 8. Which of the following inventory costs is a variable cost that increases as the level of inventory

•• increases?
( ) a. Ordering costs

•• ( ) b. Backorder costs
( ) c. Capacity variance costs
( ) d. Carrying costs

•• 9. Which of the following costs will increase if a retailer requests the same amount of inventory to be

•• delivered in twice as many shipments?

( ) a. Ordering costs

•• (
(
)
)
b.
c.
Item costs
Backorder costs

•• ( ) d. Carrying costs

10. Which of the following measures the efficiency of an organization's inventory?

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(
)
)
a.
b.
Gross profit
Inventory turnover

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(
)
)
c.
d.
Cost of goods sold
Standard costing

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•• V crsion 3 .0, 2012 Edition
Z<J 2012 APICS 1-169

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Module 1: Fundamentals of Supply Chain Management

Progress checkanswers
1. a (p. 1-148) ••
2.
3.
c (p. 1-151)
False (p. 1-151) ••
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4. True (p. 1-153)
5. d (p. 1-154)
6. a (p. 1-155)
7. Decoupling is the inventory function that allows two supply chain partners or functions in the same
company to operate at two different rates. For example, a manufacturer can produce product at level ••
rates while distributors are purchasing in choppy periodic batches. (p. 1-156)
8. d (p. 1-157) ••
9. a (p. 1-158)
10. b (p. 1-166) ••
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© 2012 APICS 1-170 Version 3.0, 2012 Edition
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