Assignment 4 3 Sport Obermeyer Epilogue 20 Points

Assignment 4. 3 Sport Obermeyer Epilogue 20 Points 1

Read “Making Supply Meet Demand in an Uncertain World” by Janice H. Hammond, Walter R. Obermeyer, and Ananth Raman; available in week 4 document sharing folder In a 1 page paper, list actions Sport Obermeyer took to improve their forecasting and their supply chain and complete exhibit 10 exercise at end of this slide deck One of the actions (detailed in the insert “Coping with Demand Uncertainty at Sport Obermeyer”) was using model that calculated a production quantity that maximized expected profitability by balancing the risks of overproduction (markdowns) with the risk of underproduction (the margin on lost sales). It found the point where the risk from markdowns (over stock) was equal to the risk of lost margin (under stock)

Inventory Which service level is the best? Notes 84% 90% Service Level 95% 97% 99% 3

Notes for Previous Slide Most marketer’s want high service levels. 100% so they do not miss any sales. But as we saw last week the inventory required to achieve this skyrockets. Look at the difference in inventory from a 97. 5% service level and 95%. Many times this is set through market research. A project I once performed by interviewing Distributors in the Automotive Parts Distribution industry said if you are at 95% you are among our best suppliers. 90 -95 is typical; below 90% is a problem; at 80% we change suppliers. One distributor asked my why we can’t do 100%. The company I was doing the research for set the target at 97. 5% to be safe. While this is a good target based upon customer requirements. Is it the best economically?

Inventory Too Much Inventory leads unsold inventory (Overstocked) Cost of Overstock includes: 1. Higher ICC 2. Disposal of unsold inventory Notes 84% 90% Service Level 95% 97% 99% 5

Notes for Previous Slide ICC = Inventory Carrying Costs. Typical is 20 -25% of the inventory value. Such things as cost of capital, insurance, taxes, warehousing, handling, inventory control, obsolescence, shrinkage. Disposal impacts seasonal or short life cycle products that spoil or go out of style. This is represented by markdowns. Apparel this can 30 -35% of sales. In perishable products it is spoilage. For Sport Obermeyer it was a markdown. Units left unsold at the end of the season were sold at a loss that averaged 8% of their wholesale (i. e selling) price. For example, on a parka style such as the Rococo had a wholesale selling price of $112. 50. Obermeyer’s loss is 8% x $112. 50 = $9

Too Little Inventory (under stocked) leads stock outs and lost sales Inventory Cost of Under stock includes: 1. Lost margin 2. Cost to fulfill and deliver a back order Notes 84% 90% Service Level 95% 97% 99% 7

Notes for Previous Slide When out of stock one of two things happens. One is the customer leaves. You lose the sale and it’s margin. Or the customer can say ship it to me when you have stock; or I come back and get it when you have stock. Like our patient consumers in the Beer Game. For Obermeyer it is a lost sale; more specifically theh lost margin of the lost sale. For Sport Obermeyer it was the lost margin. Obermeyer margins averaged 24% of their wholesale selling price. Using the same Rococo parka. The Rococo’s wholesale selling price was $112. 50. The margin was $27 ($112. 50 x 24% = $27)

Optimal Service Level is a function of the ratio of: 1. The Cost of Over Stocking 2. The Cost of Under Stocking Costs Cost of Over Stock Cost of under-stock Notes 84% 90% Service Level 95% 97% 99% 9

Notes for Previous Slide Cost of overstock dramatically increases at higher service levels. Cost of understock steadily climbs as we drop to lower service levels. So our lowest cost is where they are equal. Where the two curves cross For Sport Obermeyer’s Rococo the cost of over-stock is $9. The cost of under-stock in $27. We can intuitively conclude we should produce more because the Cost of under-stocking is significantly greater than the $9 over-stocking penalty. The goal is to find the production quantity where the two penalties are equal. The model to calculate this is next.

Seasonal with one order per season Optimal Service Level (CSL*) = Cost of under-stocking + Cost of over-stocking Where: Cost of under-stocking = lost margin Cost of over-stocking = markdowns Notes Optimal Order Size in Excel= NORMINV(CSL*, mean, standard Deviation)

Notes for Previous Slide Here we calculate the Optimal Cycle Service Level. A Cycle Service Level (CSL) of 84% means you would have adequate inventory (no lost sales) during 84% of your seasons. Let’s look at the next slide to see what this 84% represents. Once having calculated the Optimal Service Level, you can then calculate the Optimal Order Size in Excel using the command shown.

% of orders that will not suffer a stock out 68% 95% 99% -3 -2 -1 AVG +1 +2 +3 50% Service Level 84% 97. 7% 99. 9% Notes

Notes for Previous Slide A service level of 84% means that you will not incur a stockout in 84% of your orders. in Obermeyer’s case that is seasons because the place one order per season. As you can see here 84% is equal to the mean (or average) plus 1 standard deviation. Let’s go back to Sport Obermeyer. Using the data from exhibit 10 on the next slide, let’s calculate how much Wally should order.

Using the sample data given in Exhibit 10 as shown here. Calculate the production quantity for each sku using the Optimal Service level approach of applying the norminv function on the next slide.

Click here for a copy of this spreadsheet to calculate your production order