Supply Network Design Lecture 5

OPERATIONS & PRODUCTION

MANAGEMENT Lecture 4

Supply network design

• Introduction

• Key questions:

➤ Why should an organization take a total supply network perspective?

➤ What is involved in configuring a supply network?

➤ Where should an operation be located?

Introduction

• No operation exists in isolation. Every operation is part of a larger and interconnected network of other operations. This supply network includes suppliers and customers. It also includes suppliers’ suppliers and customers’ customers, and so on. At a strategic level, operations managers are involved in ‘designing’ the shape and form of their network. Network design starts with setting the network’s strategic objectives. This helps the operation to decide how it wants to influence the overall shape of its network, the location of each operation, and how it should manage its overall capacity within the network.

Why should an organization take a total supply network perspective?

• The supply network perspective– Supply network– Supply side– Demand side– First-tier– Second-tier– Immediate supply network– Total supply network

The supply network perspectiveSupply network: A supply network perspective means setting an

operation in the context of all the other operations with which it interacts, some of which are its suppliers and its customers. Materials, parts, other information, ideas and sometimes people all flow through the network of customer–supplier relationships formed by all these operations.

Supply side: An operation has its suppliers of parts, or information, or services. These suppliers themselves have their own suppliers who in turn could also have suppliers, and so on.

Demand side: The operation has customers. These customers might not be the final consumers of the operation’s products or services; they might have their own set of customers.

The supply network perspectiveSupply side (First & Second Tier): Is a group of operations that

directly supply the operation; these are often called first-tier suppliers. They are supplied by second-tier suppliers. However, some second-tier suppliers may also supply an operation directly, thus missing out a link in the network.

Demand side (First & Second Tier): Of the network, ‘first-tier’ customers are the main customer group for the operation. These in turn supply ‘second-tier’ customers, although again the operation may at times supply second-tier customers directly.

Immediate supply network: The suppliers and customers who have direct contact with an operation

Total supply network: All the operations which form the network of suppliers’ suppliers and customers’ customers, etc.

Why consider the whole supply network?

• There are three important reasons for taking a supply network perspective:

• It helps an understanding of competitiveness. Immediate customers and immediate suppliers, quite understandably, are the main concern to competitively minded companies. Yet sometimes they need to look beyond these immediate contacts to understand why customers and suppliers act as they do. Any operation has only two options if it wants to understand its ultimate customers’ needs at the end of the network. It can rely on all the intermediate customers and customers’ customers, etc., which form the links in the network between the company and its end-customers. Alternatively, it can look beyond its immediate customers and suppliers. Relying on one’s immediate network is seen as putting too much faith in someone else’s judgment of things which are central to an organization’s own competitive health.

Why consider the whole supply network?It helps identify significant links in the network. The key to understanding

supply networks lies in identifying the parts of the network which contribute to those performance objectives valued by end-customers. Any analysis of networks must start, therefore, by understanding downstream end of the network. After this, the upstream parts of the network which contribute most to end-customer service will need to be identified. But they will not be equally significant. For example, the important end-customers for domestic plumbing parts and appliances are the installers and service companies that deal directly with domestic consumers. They are supplied by ‘stock holders’ which must have all parts in stock and deliver them fast. Suppliers of parts to the stock holders can best contribute to their end-customers’ competitiveness partly by offering a short delivery lead time but mainly through dependable delivery. The key players in this example are the stock holders. The best way of winning end-customer business in this case is to give the stock holder prompt delivery which helps keep costs down while providing high availability of parts.

Why consider the whole supply network?

• It helps focus on long-term issues. There are times when circumstances render parts of a supply network weaker than its adjacent links. A major machine breakdown, for example, or a labour dispute might disrupt a whole network. Should its immediate customers and suppliers exploit the weakness to enhance their own competitive position, or should they tolerate the problems, and hope the customer or supplier will eventually recover? A long-term supply-network view would be to weigh the relative advantages to be gained from assisting or replacing the weak link.

Design decisions in supply networks

• The supply-network view is useful because it prompts three particularly important design decisions. These are the most strategic of all the design decisions.– Outsourcing Vertical integration Do or buy

– Location

Outsourcing Vertical integrationDo or buy

• How should the network be configured? – This means, first, how can an operation influence

the shape which the network might take?

– Second, how much of the network should the operation own?

– This may be called the outsourcing, vertical integration or do-or-buy decision.

Location

• Where should each part of the network be located? – If the home ware company builds a new factory,

should it be close to its suppliers or close to its customers, or somewhere in between?

– This decision is called the operations location decision.

Reasons for location decisions

1. Changes in demand: A change in location may be prompted by customer demand shifting.

2. Changes in supply: The other stimulus for relocation is changes in the cost, or availability

3. Expansion purposes: Firms such as banks, fast-food chains etc. view locations as part of marketing strategy, and they look for locations that will help them to expand their markets. Basically, the location decision in these cases reflect the addition of new locations to an existing system.

4. Depletion of basic inputs: Some firms face location decisions through depletion of basic inputs. For example, fishing, logging operations are often faced to relocate due to the temporary exhaustion of fish or forests at a given location.

The objectives of the location decision

Spatially variable costs the spatially variable costs of the operation (spatially variable means that something changes with geographical location);

The service the operation is able to provide to its customers;

The revenue potential of the operation.

1. Nearness to the Raw Material: Firms locate near or at the source of raw material for three primary reasons:

Necessity Perishability Transportation costs

Mining operations, farming, forestry, and fishing fall under necessity. Firms involved in canning or freezing of fresh fruits and vegetables, processing of dairy products, baking, and so on, must consider perishability when considering location. Transportation costs are important in industries where processing eliminates much of the bulk connected with a raw material, making it less to transport the product or material after processing.

Factors that affect Location Decisions

2. Nearness to Markets: Markets may be nation-wide or local, production may be centralized in one or several plants; or production may be decentralized in many plants near the consumer. This decision depends upon the nature of the product.

Industries in which production may be centralized, even though distribution is nation-wide include, watches, clocks, jewelry, fountain pens, books , magazines etc. In such industries the product is relatively light in weight, and labor is an important percentage of the cost.

Some processing plants make a fragile or perishable product. Such industries profit by being near the consumer.

Moreover, industries which produce goods in accordance with the specifications of consumers may profit by locating near the market.


3. Labor Conditions: The number of workers and the particular crafts or skills needed should be considered in relation to the labor available in an area. A factory which uses low-paid labor should be located near the workers.

Labor cost is affected by the:

a. Efficiency of labor

b. The number of unemployed workers in an area

c. The extent of unionization

d. The level of wages

e. The cost of living

f. The housing conditions


4. Cost of Land: The cost of land is an important factor in choosing between a city location and one in a town or suburb. Suitable land is limited along some water or lake fronts and a lack of adequate space may force the company to choose a multistory building when other considerations indicate that a single-story building would be more desirable.

Many companies require space for parking facilities, adequate light and air, and protection against undesirable neighbours.


5. Future plans for expansion: Space for possible expansion should also be available. A location should not be chosen merely because land or building is for sale at what appears to be an attractive price. Location is not easily changed, and a poor location may burden a company permanently with heavy fixed charges. Moreover, while deciding about the appropriate location of land considerations should be put forth with respect to the expansion in terms of market and volume as well.

6. Power and fuel: Fuel and power are important costs to factories requiring a great deal of power. In developing countries it has been ever difficult to curtail power costs. The dependability of the power supply is exceedingly important for some industries. Both oil and gas have advantages in cleanliness and labor costs.


7. Water Supply: Many modern industries generate large amount of heat and use water for cooling as well as other purposes. Air-conditioning systems for public buildings use large amounts of water, and a large plant can use up the surplus water supply of a small community and cause a deficit.

8. Civic Values: Numerous features of community and civic life contribute to the desirability of the city or town as a place for employees to live. If the city provides many services for its residents, the workers and his family may receive benefits which are properly a part of his real wage. Moreover, a company that moves into an area with a new plant should consider not only the facilities available but also the demands that the company and its employees will make upon such community services as schools, libraries, hospitals, parking parks etc.


9. Taxes: Tax rates differ from the one locality to another, and some states depend more upon certain kinds of taxes than do others. Some tax advantage may be gained by a small town location as compared with an urban site, but in the choice of a small-town or urban location other factors might be even more important.

10. Climate: Climate is usually not a deciding factor, although workers are presumed to do better work in some climates that in others. Extremely cold, hot, rainy or dry climates are not desirable. The most important question is whether the workers would object to live in an area. For making good conditions possible air conditioning or heating system can be installed.


Location techniques

• Weighted-score method• The centre-of-gravity method

Weighted-score method• The procedure involves, first of all, identifying the

criteria which will be used to evaluate the various locations.

• Second, it involves establishing the relative importance of each criterion and giving weighting factors to them.

• Third, it means rating each location according to each criterion. The scale of the score is arbitrary. In our example we shall use 0 to 100, where 0 represents the worst possible score and 100 the best.

Worked example

• In order to choose a site it has decided to evaluate all options against a number of criteria, as follows:– the cost of the site;– the rate of local property taxation;– the availability of suitable skills in the local labour

force;– the site’s access to the motorway network;– the site’s access to the airport;– the potential of the site for future expansion.

Sr. No

Facilities Weighted Point

Lahore Faisalabad Multan

1 Raw Material 20 7 17 17

2 Market 10 8 6 5

3 Plan of Expansion 10 4 8 8

4 Labor Supply 20 8 15 10

5 Land 5 1 4 4

6 Civic Conditions 10 8 6 4

7 Safety Measures 15 8 11 12

8 Taxes Advantage 25 - 25 25

9 Climate 15 10 12 5

10 Fuel & Power 20 15 13 10

Total: 150 71 115 100

% 100 % 47.3 % 76.6 % 66.6 %

Choice of Town or City Through Weighted Index

The centre-of-gravity method

• The centre-of-gravity method is used to find a location which minimizes transportation costs.

• It is based on the idea that all possible locations have a ‘value’ which is the sum of all transportation costs to and from that location.

• The best location, the one which minimizes costs, is represented by what in a physical analogy would be the weighted centre of gravity of all points to and from which goods are transported.

Worked example

Business

Supply Network Design Lecture 5