GST Impact on Supply Chain

Management Consultants

Presented By: Sachin Jagtap

9 September 2009

Technopak Workshop Series

Evolution of GST

GST

2

CST Reduction

VAT

CENVAT

MODVAT

Key Characteristics of GST that Will Affect The Supply

Chain

All the characteristics are widely expected and speculated guesses the exact

shape of GST will only be clear when the final draft and mechanism is releases

3

Impacts of Extended Central GST Chain

At present logistics services consumed post factory are not off-settable against CENVAT

Extended Central GST chain will allow the offset in post distribution networks

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offset in post distribution networks

This will lower the cost of logistics outsourcing as the 10.3% service tax charged by logistics companies can be largely offset against the Central GST liability

This will boost outsourcing in supply chains and provide greater impetus to 3PL’s

Impacts of Subsuming Octroi & Entry Tax

Octroi and entry tax are not in line with the spirit of GST although in some cases entry taxes are VATable

Local taxes such as octroi are a major source of revenue for the corporations and state taxes such as entry tax are mired in legal cases. Thus it is not known whether

they will go and not return in some other form, if they go.

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They impact the warehouse location decisions besides also the decisions on inventory and

replenishments

This will lower the cost of logistics outsourcing as the 10.3% service tax charged by logistics companies can be largely offset against the Central GST liability

This will boost outsourcing in supply chains and provide greater impetus to 3PL’s

Scenario 2: Stock-transfers are disallowed/taxed and inter-state sales

Removed Tax Barriers on Cross-border Sales and

Supplies

There are two possible scenarios through which tax barriers would be removed

Scenario 1: CST rates would reduce to zero with no carry-over of input credit

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disallowed/taxed and inter-state sales are taxed with carry-over allowed

In both cases it would be no more required to have a warehouse in every state just to facilitate stock transfers and avoid CST

Organisations can and should design their networks purely on supply chain considerations and not tax considerations

zero with no carry-over of input credit across states

VAT & CST Revisited

When it comes to VAT we are a nation of 35 smaller nations (states & union

territories) as the prohibitive CST tax discourages cross-border sales.

State A State B

Case 1, Cross –border sale ���� 2% CST (against form C) payable to State A (off-settable against input VAT credit in State A)

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• Most companies have a warehouse and C&FA in every state to avoid paying CST.

They employ Case 2 above to do a stock transfer before invoicing in a different

state.

• CST has come down from 4% a couple of years ago to 2% at present.

• With GST, either CST would come down to zero or inter-state sale would be taxed

without breakage of the VAT chain. Thus eliminating the need for a warehouse

only for avoiding CST and doing stock transfers.

Case 2, Stock Transfer����No CST incidence but with breakage of VAT chain

Commercial Impact - Zero CSTStock Transfer Sale

Landed Cost Margin Input VAT Credit Price Before Tax VAT CST Tax Net Tax Final Price

Source 100.0 14.1 - 114.1 0% 0% - - 114.1

Depot 114.1 - - 114.1 12% 0% 13.7 13.7 127.7

Distributor 127.7 6.4 13.7 120.4 12% 0% 14.5 0.8 134.9

Retail 134.9 13.5 14.5 133.9 12% 0% 16.1 1.6 150.0

16.1

2% CST Sale

Landed Cost Margin Input VAT Credit Price Before Tax VAT CST Tax Net Tax Final Price

Source 100.0 11.8 - 111.8 0% 2% 2.2 2.2 114.1

8

Source 100.0 11.8 - 111.8 0% 2% 2.2 2.2 114.1

Depot

Distributor 114.1 6.4 - 120.4 12% 0% 14.5 14.5 134.9

Retail 134.9 13.5 14.5 133.9 12% 0% 16.1 1.6 150.0

18.3

Zero CST Sale

Landed Cost Margin Input VAT Credit Price Before Tax VAT CST Tax Net Tax Final Price

Source 100.0 14.1 - 114.1 0% 0% - - 114.1

Depot

Distributor 114.1 6.4 - 120.4 12% 0% 14.5 14.5 134.9

Retail 134.9 13.5 14.5 133.9 12% 0% 16.1 1.6 150.0

16.1 All figures in Rs/Unit except VAT & CST which are in %

�

Current - Stock Transfer Sale

Landed Cost Margin Input VAT Credit Price Before Tax VAT CST Tax Net Tax Final Price

Source 100.0 14.1 - 114.1 0% - - 114.1

Depot 114.1 - - 114.1 12% 13.7 13.7 127.7

Distributor 127.7 6.4 13.7 120.4 12% 14.5 0.8 134.9

Retail 134.9 13.5 14.5 133.9 12% 16.1 1.6 150.0

16.1

GST - Stock Transfer Taxed with Offset Allowed

Landed Cost Margin Input VAT Credit Price Before Tax VAT CST Tax Net Tax Final Price

Commercial Impact - Inter-state Tax with Offset

Allowed

9

Landed Cost Margin Input VAT Credit Price Before Tax VAT CST Tax Net Tax Final Price

Source 100.0 14.1 - 114.1 12% 13.7 13.7 127.7

Depot 127.7 - 13.7 114.1 12% 13.7 - 127.7

Distributor 127.7 6.4 13.7 120.4 12% 14.5 0.8 134.9

Retail 134.9 13.5 14.5 133.9 12% 16.1 1.6 150.0

16.1

GST - Inter-State Taxed with Offset Allowed

Landed Cost Margin Input VAT Credit Price Before Tax VAT CST Tax Net Tax Final Price

Source 100.0 14.1 - 114.1 12% 13.7 13.7 127.7

Depot

Distributor 127.7 6.4 13.7 120.4 12% 14.5 0.8 134.9

Retail 134.9 13.5 14.5 133.9 12% 16.1 1.6 150.0

16.1 All figures in Rs/Unit except VAT & CST which are in %

�

Detailed Impacts of GST on NetworksWith GST your organisation can have fewer but larger distribution warehouses and hubs

with significant savings in logistics costs and inventory holding costs

ConsCons ProsPros

� Technopak estimates between 5-10%net savings in logistics + inventorycarrying costs of an organisation.

� A redesigning of the distributionnetwork would be required to deliveroptimal logistics and inventory carryingcosts without compromising on service

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costs without compromising on servicelevels to customers.

� New or enlarged warehouses will have tobe designed/re-designed. Modernisationof key warehouses is stronglyrecommended because of

� Large sizes and more complexoperations.

� Increasing level and variety ofservice required by customersespecially organised retailers.

� Increasing scarcity of skilled labourand real estate requiring verticaland mechanised warehouses.

Impact Illustrative1 - Re-Organizing Warehouses

Shift Warehouse from Dharwad (Catering to North-West Karnataka) to Belgaum (Catering to North-West Karnataka and Southern Maharashtra) with overall savings in freight costs

Before After

MaharashtraMaharashtra

11

Maharashtra

Goa

Karnataka

Belgaum

Dharwad

Maharashtra

Goa

Karnataka

Dharwad

Belgaum

Pune Pune

Impact Illustrative2 - Rationalizing Warehouses

Remove Warehouse from Ghaziabad (Catering to West - UP) and serve from Delhi Warehouse (Catering to Delhi and West-UP) resulting in savings on warehousing &

inventory holding costs

Before After

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Delhi

Haryana

Uttar Pradesh

GhaziabadDelhi

Haryana

Uttar Pradesh

Hubs 6 Hubs 4-6

Warehouses 34 Warehouses 22-28

Current Probable

Illustrative Impact on an Organisation’s Network

• The illustrative firm has around 34 warehouses. The number of

The illustrative firm is a mid-sized FMCG firm with annual sales of around

1800 Cr.

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• The illustrative firm has around 34 warehouses. The number of

warehouses could get reduced to a range between 22-28 and yet allow

the firm to serve majority of it’s customers within 24-48 hours.

• Hubs are not affected directly by GST considerations but their size and

perhaps their numbers may get reduced as larger warehouses require

less aggregation and routing of supplies through hubs.

Illustrative Impact on Organisation’s Costs &

Investments

0 Cr

1 Cr

2 Cr

3 Cr

LOGISTICS COST INVENTORY

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• Assuming that inventory at hubs and warehouses is 15 days and that 25% of it is

safety stock and in a scenario of around 25 warehouses, rough calculations using

the inverse square root law predict inventory reduction of around Rs. 2.6 Cr.

• Logistics cost of the firm’s FMCG businesses is guesstimated to be at around Rs.

72 Cr assuming 4% logistics cost on Rs. 1800 Cr of sales. At 5% cost reduction

(due to improvements in legacy network and opportunities from GST), the

logistics cost savings come to around Rs. 3.6 Cr annually.

4 Cr

5 Cr

Impact on Service

Contrary to popular belief fewer warehouses can actually improve service if

design and implementation of the new network is done carefully

Fewer warehouses

would mean longer

New Network

Characteristics

Impact on

Service

Implication/Sol

ution

Longer lead times,

higher lead time

Network modelling to Network modelling to

incorporate maximum

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would mean longer

distances between

warehouses and

customers

higher lead time

variability and

reduced order

flexibility

distance constraint

between warehouse

and customer

linkages

Aggregation of stock

in fewer warehouses

results in greater

assortment and

quantity availability

Higher fill rates to

customers

Increased primary

sales & customer

satisfaction

Impact on Freight CostThe increase in freight costs is expected to be small and there could even be

a small reduction if all the freight cost reduction opportunities are exploited

• Overall secondary freight cost could increase due to fewer warehouses

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• Overall primary freight cost could reduce due to fewer warehouse

• Rs/tonne-km primary freight cost could go down due to larger scale and better rate destinations

• Rs/tonne-km secondary freight cost could go down due to larger scale

• Savings due to reduced back-tracking

Illustrative Impact on Freight Cost – Backtracking

Reduction

Plant Customer 1

Old

Warehouse

State Border

Customer 2

Case 1: CST at 2%

1000 kms

100 kms

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Plant Customer 1

Old

Warehouse

New Warehouse

State Border

Customer 2

Case 2: GST

1000 kms

200 kms500 kms

Illustrative freight distance (and hence cost) savings of 400 kms for Customer 1

Key Challenges & Risks

Risk/Challenge Mitigation

GST Implementation delay Rigorous & event/trigger based transition planning

Resistance to change from staff, CFA’s & vendors

Change management planning well in advance before execution to enable change within contract stipulations and allow execution in a streamlined manner

Paucity of time and internal resources Assistance from outside experts/consultants

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Paucity of time and internal resources Assistance from outside experts/consultants

Integration with other supply chain initiatives

First step of the project should incorporate study of all current and planned initiatives & interviews with all stakeholders

Why Prepare for GST Now

NOW!!!

It’s not too late to make use of the GST opportunity as long as you ACT

NOW!!!

2% CST, 2009

GST, 2010

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• 5-10% savings in logistics + inventory holding costs possible by re-engineering the

supply chain to make use of GST. Key fallout would be a simplified distribution

network.

• Many companies such as HUL, Nestle, Marico, Cadbury’s etc have already taken

concrete steps to make full use of GST benefits.

• If you start now then you will be in time to be GST ready in optimum state.

• Not acting now will lead to losing out on the cost saving opportunities and allow

your competition to gain supply chain cost advantages.

Network Design & Implementation Methodology

Impact Analysis

• Audit of current setup

• Future scenario impact

Warehouse Engineering

• Design & Layout

• Modernisation

Implementation

• Warehouse commissioning

• Change management

4 Weeks 2 Weeks

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Distribution Setup Design

• Network modelling based on Mixed Integer Linear Programming

• Minimise cost subject to service level & other constraints

Change Management Planning

• GST transition planning

• Vendors

• Employees

• Systems & processes

2 Weeks 6 Weeks 6 Months -1Year

Distribution Network Design

Inputs

• Logistics Costs (transportation, handling, warehousing)

• Constraints (service levels, VAT, full truck load requirements)

• Forecasted demand locations & demand patterns

• Sourcing alternatives

Use of cutting edge network design tools for best-fit results

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Planning & Design

• Mixed Integer Linear Programming construct

• Scenario building & sensitivity analysis

Output

• No., location and size of stocking points

• Transportation modes

• Optimal source – destination paths

Network Transitioning

Warehouses

WH1

WH 2

WH 3

WH 4

WH 5

WH 6

WH 7

WH 8

WH 9

WH 10

WH 11

WH 12

WH 13

WH 14

WH 15

WH 16

WH 17

WH 18

WH 19

WH 20

WH 21

WH 22

WH 23

WH 24

WH 25

WH 26

WH 27

WH 28

WH 29

WH 30

CST 2% (26

Transitioning will take place keeping the final GST scenario in mind. Preference will be given where transition benefits are present in 1% CST as well

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(26 WH’s)

CST 1% (23 WH’s)

GST (20 WH’s)

No change Change on high Priority

Implementation Support

Change Management New Network Rollout

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Closure and re-location

of warehouses

(stock, assets &

equipment)

C&FA and

logistics vendor

re-alignment

Internal change

management of people,

processes & systems

Warehouse and hub re-design wherever applicable

New warehouse and hub design and

commissioning

wherever applicable

Site-selection & negotiation

Project manageme

nt of warehouse commissioning/re-

engineering

Robust design to support

growth over next 3-5 years

Optimal realisation of Back

haulage and direct

despatch opportunities

Besides the benefits from re-organization of the network around GST, there are a lot of other benefits that are expected to stack up as a result of the exercise

Benefits Beyond GST

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Savings from optimisation

of legacy network

Evaluation and factoring of

opportunities arising from

GST and entry tax

rationalisations

Transport mode

optimisation in the re-

designed networks

Improved service levels to

all or key customers

Defining of optimal network

flow paths for goods, hub-

spoke connections and

feeder depot concepts

Case Exercise: Introduction

• There is a product which is manufactured in 2 locations: Baddi & Mumbai

• The company has 2 hubs, one located in Ghaziabad (served by cluster of factories in Baddi) and the other one in Mumbai (served by a cluster of factories around Mumbai)

• Additionally, there are Warehouses in Delhi, UP, MP & Maharashtra serving to different regions in each state

9 September

2009

Technopak Workshop Series

25

different regions in each state

• This is the legacy network: because of the CST, the company has Warehouses in each of the 4 states, plus the distribution structure is highly aligned with the sales function, i.e. East UP sales areas has its WH, West UP sales areas has its own, and so on

• However, with the CST going away, there is a huge opportunity to scientifically optimize the network according to the supply chain point of view rather than tax or sales organisation point of view

Case Exercise: Existing Network

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Baddi

Delhi Gzbd

Lko

VarGwalior

From To

Factory to Hub Baddi Ghaziabad

Factory to Hub Mumbai Mumbai

From To

Hub to

Warehouse

Ghaziabad Delhi, Ghaziabad,

Lucknow, Varanasi,

Gwalior

Hub to Mumbai Indore, Jabalpur,

JabalpurIndore

Nagpur

Mumbai

Factory

Hub

Warehouse

Hub to

Warehouse

Mumbai Indore, Jabalpur,

Nagpur

From To

WH to Demand location Delhi Delhi

WH to Demand location Ghaziabad West UP

WH to Demand location Lucknow Central UP

WH to Demand location Varanasi East UP

WH to Demand location Gwalior North MP

WH to Demand location Indore West MP

WH to Demand location Jabalpur East MP

WH to Demand location Nagpur North MH

Case Exercise: The Task

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By intuition, what should the new supply chain network look like, if tax barriers on cross border sales were to go?

Case Example: Optimized Network

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Baddi

Gzbd

Albd

From To

Factory to Hub Baddi Ghaziabad

Factory to Hub Mumbai Mumbai

From To

Hub to

Warehouse

Ghaziabad Ghaziabad,

Allahabad

Hub to

Warehouse

Mumbai Indore, Nagpur

Indore

Nagpur

Mumbai

Factory

Hub

Warehouse

From To

WH to

Demand

location

Ghaziaba

d

Delhi, West UP,

North MP

WH to

Demand

location

Allahabad East & Central UP,

North-East MP

WH to

Demand

location

Indore West MP & South

West MP

WH to

Demand

location

Nagpur South East MP,

East MH

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