OPTIMIZING SUPPLY CHAIN CATALYSING TRANSFORMATION

www.hcltech.com OPTIMIZING SUPPLY CHAIN CATALYSING TRANSFORMATION S&OP and the Integrated Business Planning WHITEPAPER September 2015

TABLE OF CONTENTS BACKGROUND 3 S&OP MODEL 4 ROBUST INTEGRATED BUSINESS PLANNING 5 THE CHALLENGE 5 FUTURE STATE MODELS 7 BENEFITS 8 REFERENCES 8 AUTHORS 9 2015, HCL TECHNOLOGIES. REPRODUCTION PROHIBITED. THIS DOCUMENT IS PROTECTED UNDER COPYRIGHT BY THE AUTHOR, ALL RIGHTS RESERVED. 2

BACKGROUND With businesses growing global and supply chains getting longer, managing operations around the world has become a great challenge. In addition to this, growing complexities and changes are placing immense pressure on companies to ensure sizable gains in customer service levels, maintain optimum inventory, increase production rate stability, introduce new products very rapidly and be competitive with year over year growth in gross margins. Sales and operations planning is a set of decision making processes with the three main objectives that enable organizations to balance demand and supply, align volume and mix, and integrate operational plans with financial plans which are collectively called as Integrated Business Planning (IBP). We know demand is the driver; it s what the customers want. Whereas, supply refers to the resources available to meet the demand. If demand or supply exceeds one over the other, we have an imbalance and businesses encounter bad days. However, this can be avoided if the organization can diligently add more capacity sooner than the actual demand. This is possible only when decision makers have access and visibility to vital information on supply and demand. So the real challenge is not about the demand and supply imbalance. It s all about seeing the imbalances soon enough to take corrective actions that are needed for resolving modern day supply chain problems. Another challenge is the alignment of the volume to the mix. Volume is the aggregate and is expressed in product families and groups. Mix is the detail and is expressed at the individual products and customer order levels. Usually, companies plan for volumes and derive the mix. Every day, operations drives to achieve the right mix and align it with the volume plan that was fixed during the budget period. The disconnect we see here is the operations driving their day-to-day operations based on the mix, which changes almost every day. So, just as demand drives supply, volume drives mix. Sales and operations planning (S&OP) began as a process to reconcile demand and supply. Inventory was considered an output of this process and did not share equal significance in the S&OP process. However, advances in inventory optimization provide performance levers that help free up working capital while improving service levels, making inventory a critical component of the S&OP process so as to be called as SI&OP. Today, leading companies employ inventory optimization at two levels at a tactical level where one can scientifically calculate inventory targets across the entire supply chain and at a strategic level, where one can determine the most profitable balance between working capital and service level to meet the projected demand. When the operational plans deviate from the financial plans, it is most likely that the company s performance results will not match the overall financial plan. As businesses are measured by finances and financial plan is the top management s commitment to the corporation and to the financial community, there is an absolute necessity to tie in the operational plans with the financial plans i.e. the Integrated Business Planning (IBP). The real challenge is not about demand and supply imbalance. It s about seeing the imbalances soon enough to avoid supply chain disruptions. 2015, HCL TECHNOLOGIES. REPRODUCTION PROHIBITED. THIS DOCUMENT IS PROTECTED UNDER COPYRIGHT BY THE AUTHOR, ALL RIGHTS RESERVED. 3

S&OP MODEL S&OP is one that deals with volumes, utilizing tools for aggregate forecasting and aggregate supply planning and is the point of contact and control for the executive management. Many a time, the leader of a company feels that the decisions made at the highest level does not get transpired down effectively to all the departments and the message gets fragmented along the way thereby disconnecting the strategy and the execution. To solve this disconnect, firstly, very important elements of the information and how they are consumed need to be addressed i.e. the manner in which the information is collected, integrated, intelligence applied and most importantly the way it is displayed. Next, a defined process for decision making needs to be established to plan for course corrections well in advance. Finally, the organization i.e. the people must be trained on these decision-making rules and enabled to make disruptive decisions. This is required for providing the forward visibility to make right and timely decisions. It is no longer acceptable if the demand manager reviews the forecast frequently, the operations manager reviews the production plan without considering the impacts of the demand changes which result in either excess inventory buildup or stock outs and the finance manager watches the impact on cash flow. All the three functions need to work cohesively to review the impact of changes. This critical collaboration requires all the necessary information (forecast and actual sales performance for sales and marketing, production plan and performance for operations, inventory status and outlook for finance) in a single view to be effective and lead to tangible results. Data Prep Exec Decisionmaking Demand Review Demand Supply Revenue Balance Supply Review This enables not only each function to view their own numbers and impact but also gives visibility in to other areas that allow managers to view the business as an organic whole instead of silos. This also gives managers insights into the root cause to help then take predictive actions before the problem even manifests. 2015, HCL TECHNOLOGIES. REPRODUCTION PROHIBITED. THIS DOCUMENT IS PROTECTED UNDER COPYRIGHT BY THE AUTHOR, ALL RIGHTS RESERVED. 4

ROBUST INTEGRATED BUSINESS PLANNING Operational and financial decision making is the essence of an effective IBP. The decisions are made on recent history, recommendations from middle management and operations managers, and the executive team s business acumen. The decisions can range from change in sales or operations plan or change in inventory projections to no decisions as well. IBP is not a one-time event and the activities start at the beginning of every month, when the demand, supply and finance management work out the monthly plan and come up with their recommendations for executive decision making. The initial set of activities include, y Updating the demand plan y Reviewing the impact of changes on the operations plan to determine if there is available capacity or materials y Developing alternate plans based on constraints y Developing strategies on inventory buffer, product quality, upside flexibility targets and sourcing y Identifying variances to the annual business plan and potential solution options y Agreeing upon plan and disconnects for management decisions y Preparing recommendations for executive management y Publishing the information well in advance to the executive management review prior to the executive S&OP meeting This happens in a pre-defined cycle (monthly) with a pre-defined set of tasks like a process cadence as outlined in Fig-2. THE CHALLENGE As supply chains grow globally, IBP plays a very important role to harmonize the entire supply chain and the financials as it prevails in the center of the coordination process of a supply chain. The other two key areas that IBP supports are the response to un-planned events and incorporating risk scenarios into the IBP process. All organizations react in some manner to unplanned events resulting from natural disasters, bad decisions or sudden market changes. However, being able to respond in a timely manner with an understanding of the ramifications to the plan at all levels in the supply chain is very critical. Similarly incorporating risk scenarios into the IBP process has to be a normal behavior since the purpose is to eliminate risk and disruptions as early as possible. Risk planning involves evaluating multiple scenarios prior to their occurrence. 2015, HCL TECHNOLOGIES. REPRODUCTION PROHIBITED. THIS DOCUMENT IS PROTECTED UNDER COPYRIGHT BY THE AUTHOR, ALL RIGHTS RESERVED. 5

Risk planning involves evaluation of multiple scenarios prior to their occurrence, as what is called the what if challenge which is fundamental to the IBP process. As the market volatility has a significant impact on the ability to run the supply chain in terms of planning and execution, most organizations are likely to implement riskadjusted strategies and monitoring measures. This is performed by assessing the key risk indicators (KRIs) along with potential impact on the organization s ability to perform as represented by the KPIs that are measured in the typical IBP process and the respective process participants as shown in fig-2. For example, if a competitor is going to introduce a new product line, how much can that new product cut into the sales? How can a natural disaster invite the competition to utilize the opportunity with timely product availability and increased customer service levels, leveraging multiple manufacturing locations. How can an increase in head count of 5% employees influence the profit margin or what could happen if the organization lost one of its top sales people to a competitor. In IBP, these possible scenarios need to be modelled into the plans and then risk and change analyses need to be performed using infinite number of variables to assess the impact on performance. Using risk data to devise these scenarios can lead to more informed and agile decision making when adverse events happen. Data Preparation (Week-1) Demand Review (Week-1) Supply Review (Week-2) Demand-Supply- Revenue Balance (Week-3) The Executive Decision Making (Week-4) Actions: Historical data and statistical projections, trends, performances, actuals, demand, supply changes, market conditions, management guidelines. Participants: Usually prepared by the IT organization or Central planning Actions: Review and compare N, N-1, N-2, N- 3, forecasts based on cycle time, approval of a forward looking (24 month) unit forecast, review product family trends, new product introduction issues, special product and customer demands. Review focus around demand deviations from the original plan, documentation and publish ing of assumptions, reasons for demand changes to the internal and external upstream supply chain partners. Participants: Product Managers, Demand Manager/Analyst, Sales, S&OP champion, Customer Service Manager, Distribution Planners, Finance Controller, Logistics Manager Actions: Review of capacity based on new forecast, review of material availability and lead time problems, manpower planning issues, cost absorption issues arising from production rate changes, problems with new product introductions and obsolescence, review KPIs. Any critical resource manpower, equipment, supplier whose required capacity varies from demonstrated capacity by more than +/- 5 percent is reviewed for action in the demandsupply-revenue balance meeting. Participants: Master Scheduler, Capacity Planner, Demand Manager, Plant/Factory Managers, Finance Controller, Purchasing Manager and S&OP champion Actions: Review development of plans to ensure a balance of demand, supply and revenue, formulation of decisions, recommendations, assumptions and agenda for the exec. meeting, review of long-term capacity constraints, and obsolescence issues. Considerations include, customer service levels, market strategies, inventory goals, current forecasts and backlogs, new product strategies, financial plans, current status, capacities, plan, risk simulations and whatif scenarios, risk and mitigation assessment. Participants: Demand Manager/Analyst, Sales Admin. Manager, Product Dev. Manager, Customer Service Manager, Master Schedulers, Plant/Factory Manager, Finance Controller, Logistics Manager and S&OP champion Actions: Review resolution of open issues from the demand-supplyrevenue balance meeting, authorization or modification of the plans, changes to the business plan, new product issues, risk anticipated review, simulation and adjustment of plans and KPI reviews. Appropriate mid-cycle adjustments to the demand and supply plans as required through exception process following the above steps on a compressed schedule. Participants: President/CEO, VP Marketing, VP Product Development, VP Finance/CFO VP Operations, VP Sales, S&OP Process Champion KPIs Reviewed in each Process Best-fit Statistical Forecasts Data Quality Actuals & Inventory Reconciled IT Service Availability Forecast Accuracy Customer Service Rate Actual Sales Vs. Target Order Accuracy Market Share On-time Delivery Performance Inventory Turn Over/ Days of Supply Perfect Order Fulfillment Order Fulfillment Lead time Inventory Accuracy Revenue Loss due to Stock Outs Inventory Carrying Cost Asset Utilization Rate COGS and Operational Cost Demand / Supply / Revenue deviation from Plan % Delivery Performance to Request Date and Order Commit Date Material Acquisition Cost Total Supply Chain Mgmt. Cost (TSCMC) COGS as a % of Revenue Days Sales Outstanding Inventory turns Gross Margin % Inventory Turn Over/ Days of Supply Employee Productivity per Payroll $ NPI Targets Forecast Accuracy % Profit (EBIT) as a % of Revenue Net Asset Turns As complexity and change increase across the value chain, the data and information become unmanageable, spread sheets explode and this is where the need for powerful and enabling software emerges with the ability to simulate problems and capabilities in advance for the managers and executives to make decisions and change decisions in order to steer the course and stay on track. Imagine an executive S&OP meeting 2015, HCL TECHNOLOGIES. REPRODUCTION PROHIBITED. THIS DOCUMENT IS PROTECTED UNDER COPYRIGHT BY THE AUTHOR, ALL RIGHTS RESERVED. 6

in which the sales management asks the feasibility of advancing a product launch by a quarter to position the company ahead of the competitor s new product. The supply chain executive opens up the IBP worksheet using the modern IBP software and runs a simulation for this scenario and in a few minutes produces answers pertaining to impact on both internal and extended supply chains: y Plan A: Feasible with no cost impact but will create material shortages of similar product line using same components y Plan B: Feasible but creates serious stock outs in current quarter y Plan C: Feasible with less cost impact but will only create shipment delays of the impacted products 8 months out With real-time, fact-based analysis, the executive management is recommended to choose Plan C. While they finalize on this option, they also wanted to check with finance manager how the earnings will be impacted for the current and next quarter. The finance manager is able to perform a real time delta analysis of revenue and gross margin using the IBP solution and informs the executive management to consider the available facts while they prepare for their earnings call. What is highlighted here is the need for the capability to calculate at a high speed to make decision making fast and based on facts. The IBP solution not only integrates various data sets, information, assumptions, but also has the ability to predict and enable decision making more realistic in circumstances where a major change is occurring or seems imminent. This is a powerful tool that depends on a good architectural plan and skills of a human to be put to effectively use. There are already wide varieties of tools available to bring predictability into processes, whether it is financial modelling, profitability and cost management, or capacity management. Leaders who are in the earlier adoption curve, are more likely to add in statistical and predictive probabilities into their plans and controls to ensure that risk is embedded into their processes, adding another level of ability to integrate data into decision making. FUTURE STATE MODELS According to Aberdeen Group s industry analysis, best-in class supply chain perspective from Table-1, IBP is about the four key performance indicators service level, inventory/ asset management, costs and forecast accuracy. The best-in-class represent the top 20% of organizations and all others represent the remaining 80%. The best-in-class have a 10% - 15% advantage over the others in customer service rate. Higher service levels are a pre-requisite but when service levels drop, it invites competitors to exploit the weakness. Even underutilized capacities invite company acquisitions and mergers as they dictate better market leadership than individual organic growth. Cash-to-cash conversion cycle is a 30 to 40 day advantage, which is an indication of how well the companies are managing their assets, of which, 2015, HCL TECHNOLOGIES. REPRODUCTION PROHIBITED. THIS DOCUMENT IS PROTECTED UNDER COPYRIGHT BY THE AUTHOR, ALL RIGHTS RESERVED. 7

inventory is a significant contributor. This advantage directly reflects a higher turnover of inventory and increased speed in cycle time. Likewise, gross margin offers a good view of managing the costs which reduces the focus on sub optimization and looks at cost from a holistic perspective for a business. The forecast accuracy at product group level is 20% to 30% points higher, which translate into much better supply/demand match in the execution plan. To compensate for the level of error indicated by others class, the need will be for a significant inventory buffer strategy to maintain equivalent services. These measures are an indication of the integrated business planning which provides an end-to-end view of supply chains. Metric Best-in-Class Others Average Customer Service Rate Greater than 95% 80 to 85% Average Cash Conversion Cycle Around 30 days Around 60 to 70 days Gross Profit Margin 45 to 55% Around 30% Forecast Accuracy (Product Group Level) 80 to 85% 55 to 65% Convergence of Planning and Execution Capabilities BENEFITS The benefits of IBP supported with the right technology provide increased visibility and global transparency across the supply chain as it enables access to demand, supply, inventory to all partners manufacturers, suppliers, customers, transporters, etc. It improves communication, interactions and teamwork across regions and functions as both the plans and the KPIs are global. Finally, IBP positions the organization for sustained growth, by equipping leaders and employees to manage complexities, optimize the total landed cost, and deliver world class customer service. According to Gartner, in the future, the deployment of a supply chain visibility solution will have to be increasingly in the context of multi-enterprise supply chains, along with the convergence of planning and execution capabilities, to facilitate more demand-driven, responsive and agile planning especially in the short-term horizon. REFERENCES - Bryan Ball, Aberdeen Group s S&OP a critical process for Superior Performance publication, September 2012 - T. Payne, Gartner Magic Quadrant for Supply Chain Planning System of Record, March 6, 2014 2015, HCL TECHNOLOGIES. REPRODUCTION PROHIBITED. THIS DOCUMENT IS PROTECTED UNDER COPYRIGHT BY THE AUTHOR, ALL RIGHTS RESERVED. 8

AUTHORS Bharani Ranganathan is a subject matter expert in Manufacturing and Supply Chain Management with expertise in Process and Technology Solutions encompassing Demand and Supply Planning, Production Planning, Inventory Management, Procurement, Executive S&OP, Manufacturing Execution and Supply Chain Analytics. He is a Green belt in Lean Six Sigma and Kaizen practitioner for Business Process Re-engineering (BPR) and Continuous Improvements. He is also a seasoned Program and Project Management Professional and holds certifications such as CS&OP, CSCP, and CPF. He is a post graduate in Business Management from Indian Institute of Management (IIMK), with a Masters in Science and Bachelors in Production Engineering. Comment on this article or contact the author at bharani.ranganathan@hcl.com 2015, HCL TECHNOLOGIES. REPRODUCTION PROHIBITED. THIS DOCUMENT IS PROTECTED UNDER COPYRIGHT BY THE AUTHOR, ALL RIGHTS RESERVED. 9

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