Chapter 3: The Product

1. Classification.

2. Life Cycle.

3. 80-20 Curve.

4. Product Characteristics.

5. Packaging.

6. Pricing.

1. Classification

• Different products should be treated differently.

• Consumer Goods:– Directed to ultimate consumers. – Buyer seeks goods.– Marketing is important.

• Industrial Goods:– Used to produce other goods and services.– Raw materials, components, equipment.– Vendors seek buyers (usually).

Classification: Consumer Goods

• Convenience goods & services:– Food, convenience store products, gasoline, etc.– Dry cleaners, banking, etc.

• Shopping goods & services:– Clothes, furniture, automobiles, etc.– Healthcare (personal physician), restaurants, etc.

• Specialty goods & services:– Luxury autos, gourmet foods, custom products, etc.– Advanced medical treatments, etc.

Consumer Goods & Logistics

Convenience ShoppingSpecialty goods goods

goods

Substitutability HIGH MEDIUM LOW

Availability HIGH MEDIUM LOW

Value LOW MEDIUM HIGH

2. Life Cycle

• Logistics system changes as product “ages”.

Introduction

Sale

s

Time

Growth

Maturity

Decline

Life Cycle

• Logistics system changes as product “ages”.

Introduction: Limited

availability

Sale

s

Time

Growth: Expanding availability; High service

level

Maturity: Widest

availability

Decline: Decreasing availability;

Reduced service

3. 80-20 Curve (Pareto Principle)

• Most of the revenue (or profit) comes from a relatively small percentage of items (products).

• Focus on the small number of important items.– Identify the important items: ABC classification.– Apply highest service level to most important items.

• Examples:– 20% of the people do 80% of the work.– 10% of the people cause 90% of the problems.– 15% of the items (products) create 90% of the sales.

ABC Classification

1. Rank products (items) by sales ($/year).

2. a. Calculate cumulative % of total sales. b. Calculate cumulative % of total products (items).

3. Plot 2.a. vs. 2.b.

4. Select top items as “A”, middle as “B”, and bottom as “C”.- Breakpoints are flexible; depend on data.

- Generally more B’s than A’s, and more C’s than B’s.

ABC Classification Example: 8 Products

Sales Cumulative CumulativeProduct ($x1000) % of Sales % of Sales % of Items % of Items ClassP-74 760P-26 640P-51 240Q-47 140P-33 100Q-65 60Q-66 40P-17 20

Given

Sales Cumulative CumulativeProduct ($x1000) % of Sales % of Sales % of Items % of Items ClassP-74 760 38 38 12.5 12.5P-26 640 32 70 12.5 25P-51 240 12 82 12.5 37.5Q-47 140 7 89 12.5 50P-33 100 5 94 12.5 62.5Q-65 60 3 97 12.5 75Q-66 40 2 99 12.5 87.5P-17 20 1 100 12.5 100 Total Sales = 2000

ABC Classification Example

Calculate

Sales Cumulative CumulativeProduct ($x1000) % of Sales % of Sales % of Items % of Items ClassP-74 760 38 38 12.5 12.5P-26 640 32 70 12.5 25P-51 240 12 82 12.5 37.5Q-47 140 7 89 12.5 50P-33 100 5 94 12.5 62.5Q-65 60 3 97 12.5 75Q-66 40 2 99 12.5 87.5P-17 20 1 100 12.5 100 Total Sales = 2000

ABC Classification Example

50%

50%0%

100%

0% 100%

80-20 Curve Cum

ulat

ive

% o

f Sal

es

Cumulative % of Items

ABC Classification Example

Sales Cumulative CumulativeProduct ($x1000) % of Sales % of Sales % of Items % of Items ClassP-74 760 38 38 12.5 12.5P-26 640 32 70 12.5 25P-51 240 12 82 12.5 37.5Q-47 140 7 89 12.5 50P-33 100 5 94 12.5 62.5Q-65 60 3 97 12.5 75Q-66 40 2 99 12.5 87.5P-17 20 1 100 12.5 100 Total Sales = 2000

Determine

ABC Classification Example

Sales Cumulative CumulativeProduct ($x1000) % of Sales % of Sales % of Items % of Items ClassP-74 760 38 38 12.5 12.5 AP-26 640 32 70 12.5 25 P-51 240 12 82 12.5 37.5Q-47 140 7 89 12.5 50P-33 100 5 94 12.5 62.5Q-65 60 3 97 12.5 75Q-66 40 2 99 12.5 87.5P-17 20 1 100 12.5 100 C Total Sales = 2000

Determine

ABC Classification: Example

Sales Cumulative CumulativeProduct ($x1000) % of Sales % of Sales % of Items % of Items ClassP-74 760 38 38 12.5 12.5 AP-26 640 32 70 12.5 25 AP-51 240 12 82 12.5 37.5 BQ-47 140 7 89 12.5 50 BP-33 100 5 94 12.5 62.5 CQ-65 60 3 97 12.5 75 CQ-66 40 2 99 12.5 87.5 CP-17 20 1 100 12.5 100 C Total Sales = 2000

DetermineIn this example: A: 25% of items; 70% of salesB: 25% of items; 19% of salesC: 50% of items; 11% of sales

80-20 Curve: Mathematical Model

Y = cumulative % of salesX = cumulative % of itemsA = shape constant (0<A)

Y = (1+A)X

A+X

Given an X and Y, then A = X(1-Y)

Y-X

Given: (1) 30% of the items produce 75% of the sales(2) The first 20% are to be A items,

the next 30% are B items, and the last 50% are C items.

What % of sales do A, B and C items account for?

50%

50%0%

100%

0% 100%

Large

A

Small A

Using the Mathematical Model

Given an X (% of items) and a corresponding Y (% of sales).

Find shape constant A:

For each set of items:Use the shape constant A and the % of items (X) to calculate % of sales (Y).

Y = (1+A)X

A+X

A = X(1-Y)

Y-X

AN

SW

ER

A items: X = 0.20

A: 63.6% of salesA+B items: X = 0.50 Y = 0.875B items alone: Y = 0.875 - 0.636 = 0.2387 B: 23.9% of sales

C items: Y = 1 - 0.875 = 0.125 C: 12.5% of sales

80-20 Curve: Mathematical Model

Given: (1) 30% of the items produce 75% of the sales(2) The first 20% are to be A items,

the next 30% are B items, and the last 50% are C items.

What % of sales do A, B and C items account for?

X=0.30; Y= 0.75 A = X(1-Y)

Y-X =

0.30(1-0.75)

0.75-0.30 = 0.16666

Y = (1+0.1666)X

0.1666+X=

(1+0.1666)0.2

0.1666+0.2= 0.6363

Turnover Ratio

Example: $1,000,000 sales per year$200,000 average inventory

Annual Sales

Average InventoryTurnover Ratio =

= 5 (5:1 or 5 to 1)1,000,000

200,000Turnover Ratio =

Small inventory Large turnover ratio Small inventory cost

Annual Sales

Turnover RatioAverage Inventory =

TO SOLVE: 1. Compute shape constant A.

2. For each set of items: - Calculate % of sales (Y) using shape constant A and % of items (X).

- Calculate average inventory where Annual Sales is Y times total annual sales.

Annual Sales

Turnover RatioAverage Inventory =

Average Inventory

Given: (1) 30% of the items produce 75% of the sales(2) The first 25% have a 10:1 turnover ratio (A items),the next 30% have a 5:1 turnover ratio (B items), andthe last 45% have a 2:1 turnover ratio (C items). (3) Total annual sales are estimated to be $5,000,000.

What is the total average value of inventory (for A, B and C items together)?

A items: X = 0.25 Y = 0.70 70% of sales

0.70x5000000

10Average Inventory =

Average Inventory Example

Given: (1) 30% of the items produce 75% of the sales(2) The first 25% have a 10:1 turnover ratio (A items),the next 30% have a 5:1 turnover ratio (B items), andthe last 45% have a 2:1 turnover ratio (C items). (3) Total annual sales are estimated to be $5,000,000.

X=0.30; Y= 0.75 A = X(1-Y)

Y-X =

0.30(1-0.75)

0.75-0.30 = 0.16666

= $350,000

Determine shape constant A, then inventory for A items.

Average Inventory Example - continued

A items: X = 0.25 Y = 0.70 70% of sales0.70x5000000/10 = $350,000 inventory

A+B items: X = 0.55 Y = 0.895B items alone: Y = 0.895 - 0.7 = 0.19519.5% of sales

0.195x5000000/5 = $195,000 inventory

C items: Y = 1 - 0.895 = 0.105 10.5% of sales0.105x5000000/2 = $262,500 inventory

ANSWER = $807,500

Determine cumulative sales for A and B items, then inventory for B items (5:1 turnover ratio), then inventory for C items (2:1 turnover ratio).

Average Inventory Sample Problems

Given: (1) 30% of the items produce 75% of the sales(2) The first 25% have a 10:1 turnover ratio (A items),the next 30% have a 5:1 turnover ratio (B items), andthe last 45% have a 2:1 turnover ratio (C items). (3) Total annual sales are estimated to be $5,000,000. (4) There are 260 items.

What is the average inventory value for the top 10 items?

What is the average inventory value for the 11th item?

What is the average inventory value for items 51-80?

See Chapter 3 #11, 12

4. Product Characteristics

• Density (weight/bulk or weight/volume)

– High: Metals, printed matter, liquids, etc.– Low: Snack foods, light bulbs, etc.

– Vehicles have weight and volume limits.

– Can increase density by disassembly.

– Mix loads to adjust density.

Density Example

Need to ship:60,000 lbs of paper @ 20 lbs/ft3 = 3,000 ft3

6,000 lbs of light bulbs @ 2 lbs/ft3 = 3,000 ft3

Truck capacity: 40,000 lbs and 3,000 ft3

Plan ATruck 1: 40,000 lbs paper (2,000 ft3) Truck 2: 20,000 lbs paper + 4,000 lbs light bulbs (3,000 ft3) Truck 3: 2,000 lbs light bulbs (1,000 ft3)

Plan B Truck 1: 30,000 lbs paper + 3,000 lbs light bulbs (3,000 ft3) Truck 2: 30,000 lbs paper + 3,000 lbs light bulbs (3,000 ft3)

4. Product Characteristics - Value

• Value

– High value: • Transport quickly. • Few items and short time in inventory.• Extra security may be needed.

– Low value: • Can transport slowly.• Large inventories OK.

4. Product Characteristics - Substitutability

• Substitutability

– High substitutability: • Wide availability at many locations.• High service level; Always in stock; Quick service.

– Low substitutability:• Few locations; Customers will travel.• Customers will wait.

4. Product Characteristics - Risk

• Risk

– Theft, Perishability, Explosion, Fire, etc.

– High risk: • Few locations, small inventories.• Increased security for storage.• Increased security for transportation.

– Low risk:• Many locations.• No added security.

5. Packaging

• For easier and safer storage, handling and transportation.

• For economies of scale in movement and storage.

•For protection of product and workers.

• For promotion (marketing).

• For information.

6. Pricing

• Transportation price depends mainly on distance and weight transported.

• Zone pricing:– Constant price over geographic regions.– Price increases with distance.

• f.o.b. = free on board– Where price takes effect; Where ownership changes.– fob factory: Buyer pays for transportation from factory and

owns product at factory.– fob destination: Seller transports and owns until

destination.

• Negotiation: Key in deregulated environment.