Supply Chain Management

Assess your business model strategy to sustain

Muhittin Hakan Demir and Aysu Göçer

G lobal operations bring companies opportunities for competitive advantage, thus

sustainability. In return, they also require efficient management of the supply chains

on long distanced operations to cope with higher costs incurred through worldwide

businesses. This motivates the interest and efforts on supply chain network design through

coordination, which needs to be performed according to the best appropriate operational

setting for all the partners. The overall aim of this redesign is to ensure a more efficient and

effective management of the supply chain and to reduce costs. Though competition, mainly

triggered by globalization, necessitates a re-evaluation on supply chain network designs for

many companies operating worldwide to check whether any cost efficient opportunities can

be taken (Thomas and Griffin, 1996), in the recent years, traditional supply chain structure

with several organizations operating independently, having conflicting objectives is being

replaced by interdependent organizations operating optimally with integrated objectives

through re-designing their supply chain networks, which enables an effective and efficient

management of the supply chain (Altıparmak et al., 2009). Network design and supply chain

network design are mostly considered in the literature as concepts very much similar to

strategic supply chain planning (Vidal and Goetschalckx, 1997; Simchi-Levi et al., 1999;

Meixell and Gargeya, 2005; Altıparmak et al., 2006; Chopra and Meindl, 2007). Supply chain

network design allows coordination initiatives for optimizing the whole system. It involves a

number of activities to decide; whether to open a facility or not, where to locate, which

capacity and technology to choose, how to distribute products to facilities with minimum

cost network design; while better satisfying customer demand. Supply chain network design

concept is also closely interrelated with supply chain coordination. Coordination

necessitates an integration process through the supply chain with an aim to increase the

value added acts through the supply chain by redefining and connecting business

processes and forming a new structure accordingly (Awad and Nassar, 2010). In the ideal

case, the conditions for a ‘‘win-win’’ situation in a coordination mechanism are sought.

Considering the significance of the challenges induced by the global necessities of today’s

business environment, many multinationals started questioning the process, potential

impacts and benefits of traditional business models with respect to the alternative

coordinative supply chain design models through the use of supply hubs. Through such

assessments, the effects of these approaches on the supply chain performance are also

questioned and quantified. Within the scope, current supply chain design is assessed and

alternative re-design alternatives with the use of supply hubs are analyzed. Typically,

production, transportation and inventory management processes are considered as part of

such an assessment. This assessment includes making decisions on several logistics

activities like production, transportation and order batch sizes as well as their frequencies

and scheduling arrangements. A more specific emphasis is put on physical distribution of

products throughout the supply chain channels (Cooper et al., 1997; Lambert and Cooper,

2000; Daugherty, 2011) and different insights to develop strategies for improving the

channel distribution and service levels at downstream activities are provided.

DOI 10.1108/20450621111131363 VOL. 1 NO. 1 2011, pp. 1-9, Q Emerald Group Publishing Limited, ISSN 2045-0621 j EMERALD EMERGING MARKETS CASE STUDIES j PAGE 1

Muhittin Hakan Demir is a

Professor and Aysu Göçer

is an Instructor, both in the

Department of Logistics

Management at Izmir

University of Economics,

Izmir, Turkey.

Disclaimer. This case is written solely for educational purposes and is not intended to represent successful or unsuccessful managerial decision making. The author/s may have disguised names; financial and other recognizable information to protect confidentiality.

An international company operating at several regions and serving to a wide range of

markets worldwide is among those that face such an assessment need for one of its regions.

It is one of the largest global companies of its sector in the world and among the market

leaders. The business organization of this multinational company is structured with respect

to regions: a set of manufacturing facilities in a group based on their geographical

proximities are perceived as the members of the same region. This facilitates the

management of globally dispersed facilities and the serviceability of the regional markets.

For each region, one facility is appointed as the leader. The lead factories are selected

among the highest volume and best expertise ones for each region. Lead factories support

other regional facilities by providing strategic and technical support when necessary.

Despite its regional dispersion, at the highest level, a centralized structure dominates the

whole system. Therefore, although facilities manage their operations individually, joint

decisions are taken centrally for some strategic issues to achieve benefits on economies of

scale, such as on purchasing or transportation. To this end, agreements with the suppliers

and transportation companies are negotiated globally for each product. From a supply chain

perspective, each region consists of multiple manufacturing facilities providing multiple

products from multiple suppliers. The company has six main regions worldwide. Each

manufacturing facility is assigned to one of the six main regions.

The lead factory of Middle East and Africa (MEA) region raises an assessment need of the

current business model due to long lead time suppliers of high-cost materials. The main

bottlenecks of this system are that the manufacturers in the region tie up huge amount cash

very early in advance to inventories and keep high levels of inventory from such materials.

However, in recent years, competitiveness concerns increased the importance of better

cash flow management and flexibility improvement efforts which poses a significant

bottleneck especially for such international companies having global suppliers, hence with

long lead times. This becomes an even crucial task when such expensive products

transported from long distance suppliers are considered. High inventories from such

materials are kept or stock outs arousing from the supply of long distances occur. This also

leads to early decisions given along the chain as well as long response times against

uncertainties. For example, in case, some problem requiring a rush order occurs, supplier is

around eight weeks away. To cope with this, parties keep higher inventories and thus tie

huge amount of cash tied to inventory, which ends up with poor cash flow management and

less free cash amounts along the chain. Accordingly, a need for development in the

business model of this region is triggered by expensive products purchased from suppliers

with long-lead times. The management team of the lead factory in Turkey inevitably starts to

question whether it is feasible to switch to a new business model that is proposed by one of

the directors, which involves a redesign of the supply chain for this specific region, MEA.

There are six manufacturers in the MEA region, each serving to the related market for

achieving local market advantage. The locations of the facilities are determined based on

market segmentation. These manufacturing facilities are located in Egypt, South Africa, Iran,

Tanzania, Jordan and Turkey. Turkey facility is appointed as the leading manufacturer in its

region. The manufacturing processes are carried out in-house, are not outsourced from

other facilities and the operations are managed individually. However, lead factory, Turkey,

provides strategic and technical support to other manufacturers when necessary. The

regional manufacturers purchase a number of materials from suppliers. These materials can

be cast into two main categories. The first group faces frequent changes due to changing

market conditions or rules and regulations. For example, for a specific material group,

around ten material changes, which affect production are realized within a year. On the other

hand, second group of materials are the more commonly used ones at manufacturers. This

group of materials faces rare changes; therefore, the volume of material acquired from

suppliers over a year is almost constant. Managers realize that materials in the second

group are characterized by constant demand, are high volume – high unit priced products

which are purchased from long distance suppliers and these drive main part of the costs as

well as main volume of operations. Therefore, the decisions are usually taken by focusing on

this second group. Commonality of the product groups makes it possible to view almost

constant deterministic demand from the suppliers’ side and this eliminates obsolescence

PAGE 2jEMERALD EMERGING MARKETS CASE STUDIESj VOL. 1 NO. 1 2011

risk. Material exchanges among these product groups are mostly unusual. There are ten

suppliers serving to the manufacturers in the region for those material groups. Suppliers are

located in a wide geography, namely, China, the UK, the USA, Turkey, Germany, Italy,

Malaysia, Spain, Austria and France. The company used to supply occasional products from

alternate suppliers. However, this caused problems with division of orders among suppliers.

Therefore, the management has recently decided to use single sourcing for all products.

In early September, in one of the regular management meetings, Mr Ozpeynirci proposed

that the company should consider augmenting the supply chain of the region by adding a

supply hub. He discussed that the hub can be used to consolidate and disseminate the

commonly used expensive materials purchased from long distance suppliers with an aim for

potential savings and a more efficient supply chain management. He argued further that this

will provide operational ease to all supply chain partners as there will be a single hub that

each supplier will face likewise, a limited number of hubs each one a regional manufacturer

will face. However, Production Director, Mr Hakan argued that this alternative model will

bring additional costs to the whole chain as it adds intermediate storage locations to the

supply chain. His point was that, the logistics costs will increase with increased number of

shipments from suppliers to manufacturers over supply hubs. He estimated that

transportation costs, customs and agencies costs as well as handling costs will almost be

doubled. This argument was favored by other team members whereas a different insight is

raised by Mrs Arman who is the Marketing Director. She said that this would be possible by

the postponement of allocations of inventory to manufacturers’ demands from the supplier to

the aggregate inventory in the supply hub. Aggregate inventory kept at the supply hubs can

provide risk pooling for all facilities of the region. She emphasized that this will better cover

uncertainty situations and reduce the response time to demand changes as well. Her point

was that, this alternative model will not only enhance operations or market response, it will

also support risk management. She supported her idea by giving an example of a frequently

faced situation:

For a rush order, using an inventory which is allocated to a manufacturer will bring additional

arrangements, approvals or paperwork. However, this process is easier to manage in with pool

inventory.

Mr Ozpeynirci took out form Mrs Arman’s point and added that the consolidated shipments

from suppliers to supply hubs will improve the negotiation power of the suppliers towards

third party logistics providers in terms of transportation rates. But, these arguments were not

sufficient to convince Mr Hakan. He pointed out that an additional cost for operating and

renting supply hubs will be added over and this cannot be neglected. This part of the

discussion took the attention of the Chief Finance Officer, Mrs Yurt. She commented that, on

the other hand, the invoicing of the materials will be postponed to point of departure from

supply hub from the point of departure from supplier, which will potentially improve the cash

flow management of the region in general. This brainstorming atmosphere among the

directors was shattered by a comment of the Purchasing Manager, Mrs Korkut; ‘‘Whatever

the case!!! You cannot convince any supplier for such a model’’. Chief Executive Officer,

Mr Tok interrupted this discussion and stated that this alternative is worthwhile considering.

The management team agreed to meet by the next Friday, 18 September to quantify pros

and cons of both models in detail and review structural differences as a first attempt.

The main question in Mr Tok’s mind was that; ‘‘Will the benefits of alternative model cover the

associated pitfalls or is it better to continue with the current traditional model?’’ He further

needs to assess whether to switch to a business model with the use of supply hubs will work

for the supply chain of the whole region or not.

The next Friday, the management team meeting started with the presentation of Mr Hakan,

briefly reviewing the foundations of the current business model. He presented that, in the

traditional business model, on the manufactures’ side, the manufacturers decide on the

quantity of their orders and on the time interval between issuances of two consecutive

orders. Note that it is the manufacturers, who decide on the quantity and time interval of the

shipments from the suppliers to the manufacturers. The contracts between the suppliers

and manufacturers are based upon the ex-works sales of the products. Besides, invoices for

VOL. 1 NO. 1 2011 jEMERALD EMERGING MARKETS CASE STUDIESj PAGE 3

orders are issued by the supplier to the manufacturer as soon as the orders are shipped from

the supplier’s facilities. This then implies that the associated costs during the lead time are

incurred by the manufacturer. This is a cycle at the manufacturer’s side and this generates a

transportation cost, inventory carrying cost, receiving cost, customs and agencies cost and

ordering cost, each per unit time. On the other hand, each supplier decides on its production

lot size and on the frequency of production runs. Production technology owned by the

supplier is characterized by the production speed, which combined with the decision on

production lot size, determines the production period. Similar cycles at the supplier’s side

generate a production cost and inventory holding cost per unit time’’.

The presentation of Mr Hakan was followed by the presentation of Mr Ozpeynirci’s proposal

as an alternative. The alternative model is a modified version of the traditional model with the

inclusion of supply hubs. He explained that, in the alternative model, perfect inventory

information on the supply hubs is assumed to be available for each supplier. This entails the

decision-making authority within that part of the supply chain, to be carried out by the

suppliers. The total cost of a manufacturer is composed of inventory cost that occurs due to

the inventory kept at the manufacturers’ location, transportation cost that occurs due to the

shipments to the manufacturers from the supply hub, receiving cost of shipments received

from the supply hub, customs and agencies cost for payments to related parties for the

shipments received and ordering cost which occurs due to an order issued to the supply

hub. Transportation cost from the supply hub to the manufacturers is included because of

the assumed ex-works sale that implies a delivery at the supply hub premises.

Transportation of materials from suppliers to supply hub is managed exclusively by

suppliers. The associated costs are then re-invoiced to manufacturers. The total cost

incurred by a supplier is composed of inventory carrying cost that occurs due to the

inventory kept at the supplier’s location, the opportunity cost that occurs due to money tied

up to the inventory kept at the supplier’s and at supply hub’s location, the production cost

related with production realized at the supplier’s entity, the transportation cost of shipments

realized from the supplier to the supply hub and finally, the supply hub cost for hiring and

operating a hub as a warehouse for inventory keeping and distribution purposes. The

alternative model involves an additional transportation cost generated at the supplier’s site

for the shipments from the supplier to the supply hub. In the alternative model, suppliers are

the owners of the products until the products are shipped from the supply hub to the

manufacturers. These will then be re-invoiced to the manufacturers or reflected to the sales

price as markups. The supplier decides the frequency of shipments from its facility to the

supply hub as well as on quantity of these shipments. Like in the traditional case, production

lot size and frequency of production runs are also decided by the supplier. In the alternative

model, the opportunity cost of the supplier induces the opportunity cost of inventory held at a

hub. Suppliers incur an opportunity cost for holding inventory at their own side as well as at

the hub side. This is mainly related with the fact that it is the suppliers who own the inventory

at supply hub.

Mr Tok concluded that, although this picture shows the main differences between the

structures and cost components of the both models, it was not sufficient for the management

team to make a decision. They all agreed that, in order to make a clear quantitative

assessment to outline if such a re-design will improve the effectiveness as well as efficiency

of the whole system, relevant costs and cash flow figures of each model need to be analyzed

in details first. A comprehensive picture can only be outlined after a comparison analysis is

carried out between the costs of each model. Therefore, the team decided to meet on 15

October to review the case with additional information on critical decision variables and total

costs of each party for both models.

With joint work by related teams on this issue, on 15 October, the company identified cost

figures of each model as well as optimal location of a single supply hub for MEA region.

Although the optimal number of supply hubs turned out to be two, the managers later agreed

that it is better for such a long-term decision to start with assessing to work with a single hub

at first. Therefore, related figures were calculated accordingly.