1.0 INTRODUCTION
The purpose of supply –chain management is to synchronise a firm’s
function with those of its suppliers in
order to match the flow of materials, services, and information with customer demand.
Its
strategic implications lie on the fact that
the supply system can be used to achieve important competitive
priorities. In addition, it involves the
coordination of key functions in the firm such as marketing, finance, engineering, information
systems, operations, and logistics.
2.0 OBJECTIVES
At the end of this note, you should be able to:
(i) Define the nature of supply-chain management for both
manufacturers and service
providers.
(ii) Describe the strategic importance of supply-chain
management
(iii) Explain the important roles of purchasing and distribution
in the design and execution of effective
supply chains.
3.0 MAIN CONTENT
3.1 An Overview of Supply – Chain Management
One major consequence of supply-chain management is to control
inventory by managing the flow of
materials. As discussed, an inventory is a stock of materials used to satisfy customer demand or
support the production of goods or
services. Figure 1 uses the analogy of a water tank to illustrate how inventories are created. The flow of water
into the tank raises the water level.
This inward flow of water represents input materials or a finished
product. 
Figure 8.1: Creation of Inventory
The water level represents
the amount of inventory held at a plant, service facility, warehouse, or retail outlet. The
flow of water from the tank lowers the
water levels and this depicts the demand for materials inventory.
Examples of such include customer orders
for a finished product or requirements for
component parts or supplies to support the production of a good or
service.
In addition to these, we also have scrap as
another possible outward flow from
materials inventory. It should be
clear to you, that both the input and output flows determine the level of inventory. For instance, inventories
will normally rise when more materials
flow into the tank that flows outside. Conversely, they fall when more flows out than flows in.
There are three categories of inventory: raw materials (RM)
work-in-process (WIP) and finished goods
(FG). Raw materials are inventories needed for the production of goods or services; they are
generally seen as inputs necessary in
the transformation processes of the firm. Work-in-process consists of
items such as components or assemblies
needed for a final product in manufacturing
as well as in some service operations (such as service shop, mass
service providers, and service
factories).
Finished goods in manufacturing plants, warehouses, and retail outlets are the items
that are sold to the firm’s customers.
Please note that the finished goods of one firm may be the actual raw materials sought by another firm for its
transformation processes.
Organisation (such as governments, churches, manufacturers,
wholesalers, retails and universities)
in almost all segments of an economy are becoming more conscious of the need to manage the flow
of materials. Manufacturers make
products from materials and services they purchased from outside suppliers. Service provides too, use
materials in the form of physically items
purchased from suppliers. The values of these materials that are
purchased from outside sources often
represent substantial portions of the total income eared by business organisations. Hence, firms
can reap large profits with a small
percentage reduction in the cost of materials. This is perhaps one of the reasons why supply-chain management is
becoming a key competitive weapon.
3.1.1 Materials Management
Materials management is concerned with decisions about purchasing
materials and services, inventories,
production levels, staffing, patterns, schedules and distribution. Such decision often affects the
entire organisation, either directly, or
indirectly.
Operations and logistics therefore play a major role in
supplychain management. The belief in
some quarters is that ideally, one person
within the firm should make all such decisions concerned with
materials management, more so that they
are so inter-related. However, the sheer
magnitude of this task in most firms (for example; with thousand of
employees, tens of thousands of
inventory items, husbands of work centres, several plants and thousands of supplies) often makes the
suggestion impossible.
The relevant question then is: what organisational structure is
best suited to handle the materials
management function? Traditionally, organisations have divided the responsibility for materials
management among three departments:
purchasing, production control and distribution. This form of
organisation is called a segmented
structure.
Here the manager of each of these departments reports to a different person. The approach
obviously requires a great amount of
coordination in order for its to achieve a competitive supply system. Consequently, many firms have restructured
to centralize most materials management
task in one department, and the manager of that department elevated to a higher position in the
organisation. This form of organisation is
called an integrated structure, while the unified department is referred
to as materials management or logistics
management. The advantage in this
integrated structure is that it elevates the materials management function.
In addition, it also recognizes that the various materials management task are all part of the same
supply chain management activity. In
other words, it brings together all the tasks related to the flows of
materials, from the purchase of raw
materials to the distribution of the finished product or service. However, most firms have been found
to adopt the hybrid structures, whereby
two of the three departments (i.e. purchasing and production control) typically report to the same executive. The
distribution department then continues
to report to the marketing manager.
Granted that the organisational structure and management hierarchy
can help integrate decisions and
activities in materials management, a lot of cross – functional coordination is still required.
Let us use an example to buttress this
important point: the marketing department typically makes forecasts
and processes incoming customer orders.
The production control department uses
this information to organise work-force schedule and set work
priorities.
Simultaneously the marketing department needs to know the current
schedule and production capability when
processing incoming orders for the purposes of
making realistic delivery promises. Immediately purchased materials have
been received or furnished goods
shipped, the accounting department must
necessarily follow through with payments or billing. In order to achieve
better cross functional coordination,
organisations may have to push responsibilities
lower in the organisation; group traditional functions around each
major product or service; or create
inter-functional coordination notes.
It has also been suggested
that information systems and the reward system maybe used to facilitates coordination across the
functional boundaries. Figure 8.2
illustrates the scope of materials management and the typical domains of responsibility for purchasing,
production control, and distribution for
a baker. As can been seen from the figure, the flow of materials begins
with the purchase of raw materials (e.g.
flour, eggs, sugar baking powder) and
services (e.g. maintenance – technicians to service equipment) from
outside suppliers. The incoming raw
materials are stored and then converted into bread by one or more processes, which involves some
short-term storage of work-inprocess
inventory.
The loaves of bread are stored for a brief period as finished goods and later shipped by means of transportation
services suppliers to various outlets
with their distribution centres. Cycle is repeated as necessary, as the firm responds to customer demand. 
Figure 8.2: Materials management for a
Bakery and the Domains of Responsibility
for its Three Primary areas of operation
The purchasing
department is often responsible for working with supplies to ensure the desired inward flow of materials
and services. This department may also
be responsible for inventories of raw materials. The determination of production qualities and scheduling of
machines and employees directly
responsible for the production of goods and services are all within the
domain of the production central
department.
Figure 8.2: Materials management for a
Bakery and the Domains of Responsibility
for its Three Primary areas of operation
The purchasing
department is often responsible for working with supplies to ensure the desired inward flow of materials
and services. This department may also
be responsible for inventories of raw materials. The determination of production qualities and scheduling of
machines and employees directly
responsible for the production of goods and services are all within the
domain of the production central
department.
The department handling distribution is usually responsible for the outward flow of
materials from the firm to its
customers. It may also be responsible for finished goods inventories
and selection of transportation
suppliers. It can be clearly seen that materials management is responsible for coordinating
the efforts of purchasing and
distribution. Hence, as we have already mentioned, materials
management decisions have a major
cumulative effect on the profitability of a firm and thus attract considerable managerial
attention.
3.1.2 Supply Chains A supply chain is the
inter-connected set of linkages between suppliers of raw materials and services that spans the
transformation of raw materials into
products and services, and delivers them to a firm’s customers. The
provision of information needed for
planning and managing the supply chain is an
important part of the process just described.
The supply chain for a firm can be very complicated. Figure 8.3 is
a simplified version. Here the firm owns
its own distribution and transportation services. Note that firms that manufactured products to
customer specifications don’t usually
have distribution centres of their own. They often ship the products directly to their customers. It is customary
to identify suppliers by their position
in the supply chain. For example, tier 1 suppliers provide materials or services that are used directly by the firm;
tier 2 suppliers usually supply tier 1
suppliers etc.
Having observed that supply chains can often be complicated, what
then, is the best way to control
suppliers in a complex supply chain? One sure way to gain control is to buy a controlling interest in
the firm’s major suppliers. This is
known as backward vertical integration. This way, the firm can ensure
its priority with the supplier and even
more forcefully lead efforts to improve
efficiency and productivity. It should however be noted that buying into
other companies involves a lot of
capital, which may reduce a firm’s flexibility.
Figure 8.3: Supply Chain for a manufacturing firm.
Most importantly, if
demand drops, the firm can’t simply reduce the amount of materials purchased from the supplier to
reduce costs since the supplier’s fixed
costs remain unchanged. Another approach of controlling suppliers is to
enter into some agreements with the
first-tier suppliers, such that these suppliers can be held accountable for the performance of
their own suppliers.
3.1.3 Developing integrated Supply chain
From our discussion so far, it is clear that a successful supply
chain management requires a high degree
of functional and organizational
integration. Such integration usually comes through some form of
evolution. Usually, firms willing to
undergo the rigours of developing integrated supply chains move through a series of phases as
displayed by figure 4. The starting
point for most firms is phase 1, where external suppliers and customers
are considered to be independent of the
firm. This situation makes relations with
these entities to be formal, have there is little sharing of operating
information and costs.
Similarly, the firm’s
purchasing, production control and distribution
departments act independently. Each of these internal departments
attempts to optimize its own activities
without considering other entities. Each external and internal entity in the supply chain will
then try to control its own inventories,
and also utilizes control systems and procedures that are incompatible
with those of other entities. The
existence of organizational and functional
boundaries often leads to large amounts of inventories in the supply
chain. Consequently, the overall flow of
materials and services is ineffective.
Figure 8.4: Phases in the Development of an Integrated Supply
Chain
In the second phase, the firm attempts to
initiate internal integration by
combining purchasing, production control and distribution into a
materials management department. The
major interest here is on the integration of such aspects of the supply chain directly under
the firm’s control in order to create an
internal supply chain.
It is usually for firms already in this phase to utilize a seamless information and materials control
system right from distribution to
purchasing, integrating marketing, finance, accounting and operations.
While efficiency and close linkages to
customers are emphasized, the firm still
considers its suppliers and customers to be independent entities, thus
focusing on tactical rather than
strategic issues.
It is necessary for internal integration (Phase 2) to precede
phase 3 (external integration). What
happens in the third phase is that the internal supply chain is extended to embrace suppliers and customers.
By so doing, the internal supply chain
is linked to the external supply chain (which initially, is not under the direct control of the firm).
At this phase, the firm needs to change its orientation from a product or service outlook
to a customer orientation. This in
essence means that the firm must identify the appropriate competitive
priorities for each of its market
segments. In order to serve its industrial customers better, the firm should develop a good understanding
of their products, culture, markets and
organisation.
Furthermore, the first should not just react to customer demand; rather it should strive to
work with its customers so that the two
of them benefit from improved flows of materials and service. In the same vein, the firm needs to develop better
understanding of its supplier’s
organisations, capacities, and strength and weakness. It is also
necessary for the firm to include its
suppliers earlier in the design process for new products or services. It is this phase 3 that embodies
supply – chain management, which seeks
to integrate the internal and external supply chains.
3.2 Purchasing
Purchasing is the management of the acquisition process, and it
involves deciding, decoding which
suppliers to use, negotiating contracts, as well as deciding whether to buy locally. It is
basically the duty of purchasing to satisfy
the firm’s long-term supply needs. Furthermore, it should support the
firm’s capabilities to produce goods and
services. We need to understand that the
performance of both the internal and external supply chains depends on
how well this critical task is
performed.
3.2.1 The Acquisition Process.
There are five basic steps in the acquisition process. These
are:
(i) Recognise a need: The first step starts with the receipt of a
request to buy outside materials
or services by the purchasing department. This
request is generally known as a purchase requisition and it usually includes the item’s description, quantity and
quality desired as well as the delivery
date. The purchasing department is well positioned to appraise supplier capabilities and
performance. In a manufacturing firm,
the purchasing department normally receives such authority to buy
from the production control department.
Production control department, in turn,
is guided by the outsourcing and make or buy decision that have already been made. At a retailing firm the decision of what
merchandise to buy is usually the same
as that of what to sell, hence marketing and purchasing decisions are intermingled. In the case of service
provides, purchase decisions are generally
based on the need to replenish items and services consumed in the delivery of services by the firm.
(ii) Select Suppliers: in this second step, there is the
identification of suppliers that are
capable of providing the items, grouping items that can be provided by the same supplier, requesting
bids on the needed items, evaluating the
bids in terms of multiple criteria and finally selecting a supplier.
(iii) Place the Order: This step involves the actual placement of
orders. The ordering procedure
can be very complex, especially when it involves expensive one-time purchases. However, it is
usually very simple in the case of
standard items that are routinely ordered from the same supplier. It is usual for suppliers to make shipments
daily or even shift by shift without
being prompted by purchase orders. This is often the case in some high-usage situations.
(iv) Track the order: This includes routine follow-up of orders to
avoid the late deliveries or
deviations from requested order quantities. The usual practice is for the suppliers to be contacted
by letter, fax, telephone or email. This
step is particularly important for large purchases, especially when a delay could disrupt production
schedules or mean the loss of customer
goodwill as well as future sales.
(v) Receive the order: This is the last step. Here, the in-coming
shipments are normally checked
for quantity and quality, with notices going to
purchasing department, the note placing the purchase requisition, inventory control and accounting. In a
situation where the shipment is not
satisfactory, the purchasing department should decide whether to return it to the supplier. It is also very
important to keep a track of
punctuality, quality and quantity deviations and price. Furthermore,
the purchasing department should
coordinate closely with account
department to ensure that supplies are paid accurately and punctually too.
3.2.2 Criteria for the selection and certification of
suppliers From our discussion
so far, it should be clear that the purchasing department is the eyes and eyes of the organisation in the
suppliers’ market place. It therefore
continuously seeks better buys and new materials from suppliers For
this reason, the purchasing department
is in a good position to select suppliers for
the supply chain and to conduct certification programmes.
With respect to supplier selection decision and the review of the
performance of current suppliers, it is
necessary for the organisation to review the market segments it wants to serve and relate their
needs to the supply chain. Usually, the
starting point in developing a list of performance criteria to be used is competitive priorities being adopted by the
organisation.
For example, foodservice
firms use on-time delivery and quality as the top two criteria for selecting suppliers. The three most commonly considered by firms
selecting new suppliers are price,
quality and delivery. It has been shown earlier that firms spend a large proportion of their total income on purchase
items. Hence, their key objective is
finding suppliers that charge low pries.
However, low prices should not be
made to overshadow quality, since this should equally be given an
important consideration. For instance,
the hidden costs of poor quality can be very high, most especially if defects are not detected
until after substantial value has been
added by subsequent operations. In the case of a retailer, poor
merchandize quality can lead to loss of
customer goodwill and future sales. Finally, shorter lead times and on-time delivery can assist
the buying firm maintaining acceptable
customer service with fewer inventories.
Let us now consider issues involved in supplier certification: The
essence of supplier certification
programmes is to verify that potential suppliers have the capacity to provide the materials or services
the buying firm requires. Usually,
certification involves actual site visits by a cross-functional team
(made up of operations, purchasing,
engineering, information systems and accounting) from the buying firm. This team performs an
in-depth evaluation of the supplier’s
capability to meet cost, quality, delivery and flexibility targets from
process and information system
perspectives.
All the aspects of producing the materials or sources are examined through real
observation of the processes in action and
review of documentation for completion and accuracy. If the team is
satisfied, the supplier is certified,
hence can be subsequently used by the purchasing department. Thereafter, the performance of
the supplier is monitored and the
records of such are appropriately kept. After a particular period of
time, or if performance declines, the
supplier may need to be re-certified.
3.2.3 Types and Effects of Supplier Relations
The nature and type of relations maintained with suppliers can
affect the quality, delivery and price
of a firm’s products and services. There are two major types of relationships a firm may
develop with its suppliers: competitive
and cooperative.
3.2.3.1 Competitive Relationship
In this type of relationship, the negotiation between the buyer
and supplier is viewed as a zero-sum
game, that is, whatever one side loses, the other side gains. Consequently, short-term advantages
are preferred to long-term commitments.
On one hand the buyer may want to beat the supplier’s price down to he lowest level. The buyer may also
push demand to high levels during boom
times, thereby ordering almost nothing during recessions.
On the other hand, the
supplier presses for higher prices for specific levels of quality, customer services, and volume
flexibility. Whichever party wins
depends on who has the most clarify. Usually,
purchasing power determines that that a firm has. A firm is said to
have purchasing power when its
purchasing volume represents a significant share of the supplier’s sales or the purchased item or
service is standardized and many
substitutes are available.
3.2.3.2 Cooperative Relationship
In this type of relationship, the buyer and supplier see
themselves as partners. Thus, each tries
to help the other as much as possible. This in essence means long-term commitment, joint work on quality
and support by the buyer of the
supplier’s managerial, technological and capacity development.
Generally, a cooperative relationship
favours few suppliers of a particular item or service, the ideal number being just tone or two suppliers.
With some increase in order
volume, the supplier gains repeatedly, and this helps the line flow
strategy of high volume at a low cost.
In addition, when contract are large and a long-term relationship is assured, the supplier might
even decide to build a new facility and,
then hire a new work force. The supplier might even re-locate close to the buyer’s plant. Another interesting feature of the
cooperative relationship is that he buyer
shares more information with the supplier on its future buying
intention. This then allows suppliers to
make better, more reliable forecasts of future demand.
The buyer at times, visits supplier’s plants for familiarization
purposes, and may actually suggest ways
to improve the supplier’s operations. This
relationship may grow so well that the buyer wouldn’t see the need to
inspect incoming materials. Moreover,
the supplier may be given more freedom in
specifications involving the supplier more in designing parts,
implementing cost-reduction ideas, and
sharing in savings. One major advantage of the
cooperative relationship is the potential to reduce the number of
suppliers in the supply chain, thereby
reducing the complexity of managing them.
3.3 Distribution
Distribution is the management of the flow of materials from
manufacturers to customers and from
warehouses to retailers, involving the storage and transportation of products. Generally,
distribution broadens the marketplace for
a firm, adding time and place value to its products. In the sections
that follow, we will look at three
types of decisions facing distribution managers.
These are:
(i) Where to stock finished goods;
(ii) What transportation mode to use; and
(iii) How to schedule, route, and select carriers
3.3.1 Placement of Finished Goods inventory
This is often a fundamental decision in any business organisation
. One solution is to consider forward
placement, which means locating closer to
customers at a warehouse or distribution centre (DC) or with a wholesaler
or retailer. The advantages here are
two-fold:, there is fast delivery times,
accompanied by reduced transportation costs. Ordinarily, these opportunities usually stimulate sales. Firms using a
make-to-stock strategy often use forward
placement.
However, if competitive
priorities call for customized products, storing an inventory of finished goods, risks creating
unwanted products. The solution then
lies on backward placement, which is the holding of inventory at the manufacturing plant or maintaining no
inventory of finished goods. At times
backward placement (also referred to as inventory pooling), is
advantageous when the demand in various
regions maybe unpredictably high in one month,
and low in the next.
What backward placement does in this instance is to pool demand so that the highs in some regions
cancel the lows in others. This is based
on the fact that demand on a centralised inventory is less erratic and more predictable than demand on regional
inventories. Inventories for the whole
system can be lower, and costly re-shipments from one distribution centre to another can be minimized.
3.3.2 Selection of Transportation Mode
There are basically five modes of transportation: high way, rail,
water, pipeline and air. Providers of
these transportation services normally become part of a firm’s supply chain. Since each of these
modes has its own advantages and
disadvantages, the selection of a particular one to adopt should be made
with the competitive providers for each
of the firm’s products or services in mind.
For instance, if flexibility is a key competitive priority, highway
transportation can be used to ship goods
to almost any location within a geographical region.
One of the advantages inherent in the highway mode is that, no
re-handling is needed as so is often the
case with other modes that rely on trucks for initial pick up and final delivery. In addition,
transit times are good, and rates are
usually less than rail rates for small quantities and short hauls.
If cost is the competitive priority, rail or water transportation
may be appropriate. Rail transportation,
in particular can ship large quantities of goods very cheaply. However, its transit times are
long and variable. This mode is usually
recommended for shipping raw materials, rather than finished goods. Rail shipments often require pickup and
delivery rehandling.
Water transportation
provides high capacity at low note cost, but its transit times are low. It also has limited geographical
flexibility. In the case of certain
products in high volumes at low cost, pipelines may be the choice. Pipeline transportation is highly
specialised, but with limited
geographical flexibility. It is naturally limited to liquids, gases, or
solids in slurry form. No packaging is
needed and costs per kilometer are low.
Finally, if fast delivery times are the competitive priority, air
transportation is the fastest but most
expensive mode. This mode is limited by the availability of airport facilities and also requires pickup
and delivery re-handling. Apart from
these primary modes, special service modes and hybrids are available. These include parcel post, air
express, bus service, and freight
forwarder.
3.3.3 Scheduling, Routing and Carrier Selection
The decisions on how to schedule, route and select carriers are
usually very complex. For instance,
several activities essential to the performance of the supply chain are involved in the day-to-day
control of freight movement. In
addition, the shipping schedule must fit into purchasing and production
control schedules. It also reflects the
trade-off between transportation costs and
customer response times.
For instance, by delaying a shipment for another day or two so as to combine it with others will
make it possible to have a full carload
rate for a rail shipment or a full truckload for truck shipment. With respect to routing choices, a manufacturer
can gain a lower freight rate by
selecting a routing that combines shipments to multiple customers. In
fact, the firm may even negotiate lower
overall rates, if it develops routings by which
large volumes can be shipped regularly.
3.4 Measures of Supply-Chain Performance
It is now clear to you, that supply chain management involves
managing the flow of materials that
create inventories in the supply chain. Hence, managers need to closely monitor inventories in order
to keep them at acceptable levels. For
instance, the flow of materials affects various financial measures of concern to the firm. It is therefore
necessary to examine the typical inventory
measures that are usually used to monitor supply-chain performance.
3.3.3 Inventory Measures
Measures of inventories are usually reported in three basic ways:
average aggregate inventory value, weeks
of supply, and inventory turnover.
The average aggregate inventory value is the total value of all
items held in inventory for a firm. All
the monetary values in this inventory measure are expressed at cost since we can then sum the
values of individual items in raw
materials, work-in-process, and finished goods. Final sales monetary
values have meaning only for final
products or services, and can not be used for all inventory items. It is an average because it
usually represents the inventory
investment over some period of time.
On the other hand, one unit of item B maybe valued in the hundreds
of naira because of the labour,
technology, and other value-added
operations performed in manufacturing the product. For an inventory consisting of only item A and B, this measure is given
as: By summing up over all items in an
inventory, the total tells managers how
much of a firm’s assets are tied in inventory.
Typically, manufacturing firms
have about 25 percent of their total assets in inventory, whereas
wholesalers and retailers average about
75 percent. To some extent, it is
possible for managers to decide whether the aggregate inventory value is too low or too high by a
recourse to historical or industry
comparison, or by managerial judgement. It is however very important to
take demand into consideration. Another inventory measure is weeks of supply,
and this is obtained as follows:
Weeks of supply = Average aggregate inventory value
Weekly sales (at
cost)
You will observe that the numerator includes the values of all
items (e.g. raw materials,
work-in-process, and finished goods), while the denominator represents only the finished goods sold – at
cost, rather than the sale price after
mark ups or discounts. This cost is often referred to as the cost of
goods sold. The third measure of
inventory is inventory turn over (or turns), which is obtained by dividing annual sales at cost by
the average aggregate inventory value
maintained during the year. T he formular is:
Inventory turnover = Annual
sales (at cost)
Average aggregate inventory
value
Example
A company averaged N2million in inventory last year, and the cost
of goods sold was N10million. If the
company has 52 business weeks per year, how
many weeks of supply were held in inventory? What was the inventory turnover?
Solution (a) Weeks of Supply = N2m (N10m) / (52
weeks) = 10.4 weeks
(b) Inventory turns = N10m /
N2m = 5turns year
4.0 CONCLUSION
In this note, you have learned that a careful management of the
materials and services from the
suppliers to production to the customer allows organisations to operate more efficiently than competitors.
You were also thought that supply-chain
management involves the coordination of key functions in the firm such as marketing, finance, engineering,
information systems, operations and
logistics.
5.0 SUMMARY
A basic purpose of supply-chain management is to control inventory
by managing the flows of materials that
create it. Three aggregate categories of
inventories are raw materials, work-in-process and finished goods.
An important aspect of supply-chain
management is materials management, which
coordinates the firm’s purchasing, production control, and distribution functions.
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