Operations Management Performance Modeling 1 Operations Strategy 2

Operations Management & Performance Modeling 1 Operations Strategy 2 Process Analysis 3 Lean Operations 4 Supply Chain Management – Class 5 a: Inventories & Economies of Scale – Class 5 b: Dealing with Uncertainty & role of Centralization – Class 6 a: Supply Chain Design » Multi-product Pooling: Postponement & Commonalities » Benetton » Accurate Response 5 Capacity Management in Services 6 Total Quality Management 7 Business Process Reengineering OM&PM/Class 6 a 1

Postponement & Commonality: HP Laserjet Generic Power Production Unique Power Production Transportation Europe Process I: Unique Power Supply N. America Europe Process II: Universal Power Supply Make-to-Stock OM&PM/Class 6 a N. America Push-Pull Boundary Make-to-Order 2

HP Laser. Jet: European DC Safety Stocks (2 month Lead time) OM&PM/Class 6 a 3

HP Laser. Jet: The Effect of Aggregation u Total European safety stock with 2 month lead time = 26, 409 units. u Total European safety stock with 2 month lead time on aggregation = 17, 661 units. u Reduction OM&PM/Class 6 a = 8, 749 units (33%). 4

United Colors of Benetton Production Process OM&PM/Class 6 a 6

Benetton Extra Cost of Postponement u factory shipments woolen items – $311 M x 60% = $186. 6 M u Labor and O/H costs woolen items – 6. 6% + 21. 8% (assuming half of O/H from Exh. 1) = 28. 4% – $186. 6 M x 28. 4% = $53. 0 M u If 10% of items are dyed to order at 10% extra cost – $53. 0 M x 10% = $0. 53 M OM&PM/Class 6 a 7

Benetton Inventory Benefits of its Strategy u u u Inv. Turns = Avg. Throughput (COGS)/Avg. Inventory Reduction = ($67. 9 -$38. 875)M = $29. 025 M Savings in inventory carrying costs (@25%) = $7. 256 M OM&PM/Class 6 a 8

Benetton Profitability of Agents u Commissions (FY 81) (4% on shipments) – $311 M * 4% / 70 agents = $178 K / agent u Earnings on Shop Sales (10% ownership) – Sales = $311 M * 180% (markup) * 37/44 (realized markup) = $471 M – NIBT = $471 M*19% = $89 M – 10% ownership = $8. 9 M/70 agents = $128 K / agent u Total OM&PM/Class 6 a = $306 K / agent 9

Benetton Profitability of Retailers/Franchisees (FY 81) u Store Sales = $305 K u NIBT = 19% * $305 K = $58 K u Less agent’s share ($5. 8 K) = $52 K OM&PM/Class 6 a 10

Postponement and Re-assortment: The Advantage to Forecasting Actual total sales 4000 3500 3000 2500 2000 1500 1000 500 500 0 0 500 1000 1500 2000 2500 3000 3500 4000 Initial Forecast 0 500 1000 1500 2000 2500 3000 3500 4000 0 Updated Forecast after observing 20% of sales 500 1000 1500 2000 2500 3000 3500 4000 after 80% Each data point represents the forecast and the actual season sales for a particular item (at the style-color level). OM&PM/Class 6 a 11

Take-Away’s: Benetton is an example of how to manage an entire supply chain and u make it profitable for all entities in the chain (suppliers, Benetton, agents, retailers) u by tailoring its operational response very carefully: – Step 1. Reduce S, L, variability: » the basics: implement everywhere in supply chain: highest pay-back – Step 2. Centralization » intermediate: trick is in the implementation: medium pay-back – Step 3. Partial postponement flexibility » last step: need this on only a small set of products & processes u and OM&PM/Class 6 a meshing it with financial and marketing response. 12

Accurate Response to Demand Uncertainty when you can order only once: L. L. Bean u L. L. Bean is planning the order size for winter parkas. Each parka costs the company $70 and sells for $140. Any unsold parkas at the end of the season are disposed off by a sale at $40. Using historical data and a feel for the market, L. L. Bean forecasts the winter season demand: Demand: 21 Probability: 3% 22 4% 23 5% 24 8% 25 10% 26 15% 27 12% 28 10% Demand: Probability: 29 9% 30 6% 31 5% 32 4% 33 4% 34 3% 35 2% èHow many parkas should L. L. Bean plan (make/order)? OM&PM/Class 6 a 13

Accurate Response: Find optimal order level Q with Excel OM&PM/Class 6 a 14

Accurate response: Find optimal Q from formula u Cost of overstocking by one unit = Co – the out-of-pocket cost per unit stocked but not demanded – “Say demand is one unit below my stock level. How much did the one unit overstocking cost me? ” E. g. : purchase price - salvage price. u Cost of understocking by one unit = Cu – The opportunity cost per unit demanded in excess of the stock level provided – “Say demand is one unit above my stock level. How much could I have saved (or gained) if I had stocked one unit more? ” E. g. : retail price - purchase price. Given an order quantity Q, increase it by one unit if and only if the expected benefit of being able to sell it exceeds the expected cost of having that unit left over. è At optimal Q, do not order more if Prob( Demand > Q ) < Co /(Co + Cu ). OM&PM/Class 6 a 15

Wal-Mart u – Provide customers access to quality good, when and where needed at competitive prices u Operations strategy – Short cycle times – Low inventory levels u Logistics structure Strategic goals Logistics strategy – Accurate information availability – Rapid transportation OM&PM/Class 6 a – – – Electronic data interchange Communication between retail stores Bar coding Cross docking Fast responsive transportation system Long lead time items » Stored at DC and shipped as needed – Stable demand items » Continuous replenishment programs – Short lead time items » Made to order and cross-docked at DC 16

Class 6 a: Learning Objectives u Pooling of stock reduces the amount of inventory – physical – information Single product – specialization – substitution – commonality/postponement Multi product u Benetton: Tailored response (e. g. , partial postponement) can be used to better match supply and demand u Accurate Response in one-shot inventory management under uncertainty – trade-off cost of over and understocking OM&PM/Class 6 a 17