Xenakis on Technology

How to Slash Inventory Costs

Written by John J. Xenakis for CFO.com, Dec 13, 2000.

A new class of software monitors products and parts for manufacturers.

The CFO of any manufacturing firm is always going to be in conflict with the product managers: The managers want the warehouses to be chock full of products, ready to ship when customers need them something, while the CFO will want nearly empty warehouses to keep inventory costs down. A similar conflict exists on the input side: Production managers want plenty of raw materials in the warehouses, so that the production line will never have to wait for materials while the CFO, once again, wants the materials warehouse to be near empty.

There's no doubt that inventory costs can be great. DaimlerChrysler's Mopar Parts Group discovered $3.5 million in excess inventory costs in just one week of running a sequence of software applications from SeeCommerce (http://www.seecommerce.com). The packages analyze a manufacturer's so-called supply chain.

By the end of 12 months, the company expects to save $12 million in inventory costs.

How is that even possible? The answer to that question shows how much computers are changing all our lives by tracking and zeroing in on huge numbers of even tiny activities that businesses perform.

"We have 280,000 part numbers and over two million SKUs that we forecast," says Jerry Quell, senior manager of materials operations planning. The parts include everything from pistons to car seats, and the SKUs include variations such as color and style. The parts come from over 3,000 suppliers, who send them to three central warehouses located in the Midwest, which then ship them to 11 regional warehouses in North America and on to hundreds of DaimlerChrysler parts dealers.

"We have this monster forecasting system that cranks out weekly forecasts based on demand, and you just have to assume that it's working correctly, because you never really know," he adds.

If the forecasting system is wrong, it can be expensive. If a dealer needs a part, he has to get it from a regional warehouse. Failing that, he has to search the central and regional warehouses.

If that fails, the part has to be drop shipped from a supplier. Going through that labor- intensive process every now and then wouldn't be so bad, but Mopar fills more than 1 million line items for parts each week. If only 5% of the parts aren't in stock, then the company has to do 50,000 part searches, something which can cost $1 million.

Didn't Mopar already have computer software to manage all of this? Sure. In addition to the forecasting software the firm has home-grown logistics software, the kind that's available from supply-chain management (SCM) software companies like i2 Technologies Inc. (http://www.i2.com) and Manugistics Inc. (http://www.manugistics.com).

The applications keep track of such things as what's in inventory and handle various "what- if" scenarios, but they were missing a performance measurement function.

"Supply chain management products in the past have supplied two components, planning and executing," says Tom Harwick, an analyst at the Giga Information Group. "The SeeCommerce products close the loop in supply chain management by supplying the measurement component."

There had been some measurement in place, of course. Quell had a paper-based system that kept track of 100 of the highest-cost and best-selling parts, measuring such things as how often the items were out of stock or overstocked, but those are only a very tiny fraction of the 280,000 total parts.

For most of those other parts, inventory processing costs were too high: Either inventory levels were too low, resulting in expensive out-of-stock handling charges or inventory levels were too high, valuable space was being occupied by parts that stayed on the shelf way too long.

The truth is that for most parts, no one was sure what was going on. "I was unable to reconcile the fact that we had full warehouses in some regions, but still had low parts inventories," says Quell.

That's the problem the SeeCommerce software solved. The applications are built on a huge data warehouse which tracks all parts, suppliers, central warehouses, regional warehouses, dealerships, and forecast levels. The data warehouse is fed input from the forecasting and logistics systems, as well as order entry data from the accounting systems.

Implementation of the SeeCommerce software began in April 2000, and the system was in production 12 weeks later on July 5. The implementation cost of $1.5 million has been dwarfed by the savings, says Quell.

The $3 million in "safety stock" savings were discovered in just the first week of production, and that's just the beginning. "This is a pure cost reduction," says Quell. "By knowing exactly where we're not forecasting well, and by adjusting dials in our forecasting software, we're expecting to save $9.5 million in inventory safety stock per year."

Quell also predicts that supplier performance will improve substantially. "We see the potential for a 1 percent order line improvement through better supplier performance," he says. "This means that of the 220,000 order lines we process every day, approximately 2,200 line orders will not have to be backordered or rushed through the supply chain. That could translate into additional savings of over $10 million per year."

SeeCommerce is a relatively new company developing a relatively new category of software, supply chain performance measurement. The firm sells six applications, focusing on inventory, production, materials, demand, suppliers, and fulfillment. Typical licensing fees are $1 million, with additional fees computed on a per-user basis.

In theory, any company can develop its own supply chain measurement software by building a data warehouse and implementing its own metrics. But one big advantage of using a packaged application like SeeCommerce's is that the metrics come built in.

"These guys specialize in measurement, and have numerous built-in key performance indicators" says Larry Lapide, analyst with AMR Research. "Another important feature is the alerting and notification. When one of the measurements is a little off, the package tracks down the responsible individuals [via alerts such as e-mail] and lets them know. That's something you might not always build into your own measurement system."

A competitive vendor is SageTree Inc. (http://www.sagetree.com), a subsidiary of hard drive manufacturer Western Digital Corp. Its product, SageQuest, was originally developed as an in house application to solve the problems faced by hard drive manufacturers.

"In 1997, we were building 100,000 drives a day, each with 250 individual piece parts, assembled in a clean room under tight conditions, and tested for 18 hours before it's shipped," says Jerry Hill, who is now SageTree's chief technical officer.

When a hard drive problem is discovered in the field, it usually turns out that it was caused by a part defect. This means that other drives with the same defective parts have to be recalled.

"Usually what we know are the serial numbers of the bad products," says Hill. "The numbers are in the shop floor system, but then you have to go to the ERP system to find out where those drives are shipped.

But you can't tell what the serial numbers from the ERP system. Solving this problem meant stopping the shipping of product worldwide and hiring temp people to go to the warehouses to open boxes and look at the serial numbers of the drives, and compare them to the serial numbers on the lists."

So SageTree's software has a different focus than SeeCommerce. Here the focus is on keeping track of the serial number of every hard drive the company makes, the lot and serial numbers of the parts, the boxes they were shipped in, the carriers who shipped them, and other details to the number of the test station that tested the individual drive.

Western Digital's supply chain data warehouse contains a full terabyte of raw data, according to Hill. "The database remains roughly at that size, since data is retained for the three year warranty period of each drive, after which it is rolled off onto tape."

If a problem arises with a drive under warranty, Western Digital can search its database for other drives with the same component. The software provides analysis information which developers can use to design out product and manufacturing weaknesses.

Although saving money is as much an objective of SageTree's software as it is of SeeCommerce's software, SageTree has a different primary objective, engineering control and quality control of the finished product.

This need to track the serial number of manufactured items, or every detail of every component, and track those serial numbers and lot numbers throughout the manufacturing and shipping process, is felt by manufacturers of highly complex products with many components.

One market being targeted is process manufacturing, which refers to the manufacturing of liquid products, such as catsup or gasoline, as opposed to discrete manufacturing, which is the assembly of parts into hard objects, like cars or computers.

The SageQuest software can be used to track every ingredient and step in the manufacturing process.

SageTree was spun off as a subsidiary in September, 1999. Western Digital is currently the only production customer, but according to the vendor, it is close to closing sales to two other companies. The software costs from $500,000 to several million, depending on the components implemented.

An important aspect of the new supply chain measurement software applications is their collaborative aspect, according to Karen Peterson, an analyst with the Gartner Group. "We're seeing a trend toward being able to develop metrics that you can share with your trading partners," she says, adding that it's important that everyone involved see the same data.

"Each participating person must see the same measurements, so that they can all know how well or how poorly they're doing," Peterson says.

(This is a modified version of an article that originally appeared on Dec 13, 2000 on CFO.com at this location. )