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Posted: April 08, 2014

Supply chain: Push or pull?

A key driver for success

Russell White

Optimizing your supply chain has become a key driver to success for manufacturing and distribution companies. 

Being able to deliver the right product at the right time to the customer has become a baseline expectation. Companies have made significant investments in Enterprise Resource Planning (ERP) systems to help them manage their supply chains. 

But ultimately, most companies maintain large amounts of inventory to help buffer customer demand and ensure that customer expectations are met. This “inventory buffer” can be an effective way to meet customer demand, but requires a significant investment of cash made by the company.

Inventory Management

While improvements have been made in forecasting, the use of Sales, Financial and Operating Planning (SFOP), and the establishment of various performance metrics, it is still very difficult to reduce the investment maintained in inventory. 

As soon as the first order is missed due to such a reduction, the emotional response outweighs the potential cash flow that might be freed up from reducing inventory levels. As a result, investment in inventory continues to grow. 


THE PUSH SYSTEM

The system depicted above is referred to as a “push” system. It requires accurate forecasting information to predict what location will need stock and when it will be needed—a very daunting task and one that few (if any) companies do well. 

It still does not account for the one constant in the supply chain, which is variability of demand, as well as how to react quickly to that variability. 

A lean approach seeks to create flexibility in the distribution of products that can respond to this variability. This all sounds too good to be true and while it is not easy, the benefits in terms of increased customer satisfaction and cash flow can make it worth the effort.

One of the primary lean principles is continuous flow. Those who have spent time on the plant floor may be very familiar with this concept – but it is not as well known on the distribution side of the business. 

Lean seeks to create constant flow of product. So in distribution, the questions we must ask ourselves are:
• How best to replenish and deploy inventory as close to the customer’s buy signal as possible; and
• Recognizing that we will have forecast error, what can we do to immediately offset that error? 

Answering these questions will allow us to create a “pull replenishment” system – where the purchase of our product from a location “pulls” an inventory replenishment right behind it. Now, our replenishment is based on actual customer demand, rather than just relying on a forecast.

Too Good To Be True? 
An ideal state – where one sale triggers one replenishment - probably is. In reality, we rarely know exactly when a customer will want to purchase an item and exactly when to order it from our vendor so that it arrives on time. To move closer to a “pull system,” we have to think differently. 

First, we must look at replenishment lead time, which is the total time it takes to replenish inventory from the source. Lean asks us to find ways to trim the various elements of this lead time. 

Reduction of replenishment lead time will allow us to react more quickly to the variability of customer demand and become less reliant on forecasting and our MRP system. 

Second, think about reducing order quantities. Order quantities have a direct impact on costs and our flexibility.  Larger order quantities require increased storage costs and often result in obsolete inventory.  Smaller order quantities result in more frequent replenishment, lower overall inventory and increased cash flow. 

Finally, determine what your target inventory level should be for each SKU. Set up inventory buffer’s to account for customer variability and monitor the target inventory levels at each location to determine if the right amount of stock is on hand. 

Spend more time managing replenishment lead time and target inventory levels and less time on day-to-day purchasing and transferring goods between locations.

While we may not be able to eliminate inventory from the equation, we can certainly seek to reduce the sizable investment of cash it requires while still meeting our customer demand. 

Changing the mindset from push to pull thinking can have a significant impact on your business.
 

Russell White, CPA, is a partner at RubinBrown, a Denver area accounting firm. He can be reached at 303.952.1247 or russell.white@rubinbrown.com.

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