One of the most important and also most difficult parts of supply chain management is the supply chain cost analysis. This is an area that is at the same time incredibly important and extremely difficult. No matter what kind of organization you have, you need to make sure you know your supply chain costs. While almost every proper company has a good handle on their normal production costs and perhaps even marketing and sales costs, few companies have even attempted to really understand the costs of their supply chain.

Why Analyze Supply Chain Costs?

Alot of companies will be thinking to themselves – well if its so hard to analyze the supply chain expenses and costs, then why do it? What if I told you that in some industries and businesses the supply chain costs of a company as part of their total costs is 25-30%. There are of course businesses that supply chain costs are the main costs of the organization – think Fedex.

However even if you are a normal organization where logistics and inventory management and sourcing and planning decisions aren’t so vital, you might be surprised at how much of your costs are actually supply chain related. It’s for this reason that doing a Supply Chain cost analysis not only will give you an idea of the costs involved, but also will give you another area to improve and cut costs. This area will most probably not be a 100% optimized area either, since you don’t even have an idea of the exact costs involved.

By doing a supply chain costs analysis you can see which areas of your company are efficient and which need to more efficient. You will also realize alot of supply chain savings from projects that you will identify after performing this cost analysis.

How to analyze supply chain costs

In order to perform a supply chain cost analysis in your company, you will need to first of all find out the accounting method that is used in your organization. If you’re using something called activity-based accounting then you are off to a good start as this will generally divide all sorts of costs into their own proper category and you can hand pick which ones are associated with the supply chain. The data gathering for activity based accounting supply chain cost analysis is very easy. On the other hand, if you’re company uses a form of absorption costing or standard costing or perhaps just a very basic accounting method, then you will have your work cut out for you in trying to collect all the necessary data.

In order to collect your supply chain cost data, you will need to contact your financial controller or someone that has access to your enterprise resource planning system. For example if your company heavily uses SAP, then you will need to access the data that is stored in SAP. At the beginning it is difficult to know exactly what kind of data to look for as the term supply chain in an organization is very broad and can mean all sorts of different things in different entities.

If this is your first time doing a cost analysis of the supply chain, then you will want to collect as detailed data as possible into all the different fields that you can imagine. If you’re doing this kind of analysis, it would probably be good idea to do it for the most recent completed year so you have access to a whole year’s worth of data. Also, you should seperate your costs depending on which factory or entity of your company that you’re dealing with. Separating the data as such will allow you to see exactly where the problem is coming from.

Types of Supply Chain Costs

Here’s a good list of supply chain cost centers and categories that you might want to find out and track individually:

-Transportation costs from your supplier to your plant
-Your warehouse costs, whether it is a internal warehouse or external warehouse you operate
-Your administrative costs to process orders and manage invoices and all the little things that might be going on in your factory to manage the supply chain
-Your taxes
-Your shipping costs both international shipping and domestic shipping
-Your Packing and Packaging Costs
-Your Working Capital Costs as a result of your inventory throughout the year can also be tracked
-Your insurance costs
-Your company’s costs for mistakes with invoicing/delivery/orders etc..

This is just the basic costs that most companies will have to deal with. Other companies will other costs to worry about. The important thing is to try to cover all the existing costs of your company that fall under the supply chain.

Analyzing Your Supply Chain Cost Data

Once you have completed a year’s worth of results and divided it into different cost types and for each company entity, it is now time to do the supply chain analysis of costs. First you will want to see what the total figure is for your company. You can compare the total supply chain costs to your overall operating expenses. Simply subtract your margin from your sales, and that will give you a good idea of your company’s costs. Of course, there are more accurate ways to collect this data, but that’s a small trick if you only have access to widely available data.

If your supply chain costs end up being a significant part of your overall costs (anything above 20%), then you can already see that doing detailed analysis of this area was a wide decision.

The way you can derive value from this analysis is that you should compare between similar structured plants in the same cost areas. What I would do is to make sure you use a good metric to compare different plants. If you’re company produces products by the ton, then make sure all your costs are divided by the amount of tons that the factory in question produced in the year that this data was collected to see how much of this specific type of supply chain cost there is for a kilo or ton of your product. If on the other hand you have different business segment producing different product types, it is again a wise idea to compare the costs of different plants only in the area that they have similar business. Otherwise your analysis won’t be very sound or fair.

Comparing these specific costs across your organization could reveal inefficiencies in some parts of your company, it could tell you the supply chain best practices in some areas, and it could provide you direct actions you could take to reduce costs in your organization to realize savings.

Comparing supply chain costs of your plants and entities from year to year is a nice way to control you supply chain costs and also a good way to spot trends and witness progress.

So to repeat the process for creating a supply chain cost analysis is: split the company’s supply chain costs into as many identifiable parts as possible, ask the data from your financial people, organize your data according to product segments or product tonnage to establish consistency amongst your plants, and then you can compare the numbers and spot irregularities and follow them later on with more laser targeted projects.

That’s it folks, that’s how you can have your very own Supply Chain cost analysis.

RFID stands for Radio-Frequency IDentification. The meaning of RFID is a small chip accompanied by a small antena that is able to communicate data through radio frequency and able to store up to around 2000 bytes of data.

RFID Uses

RFID serves the same purpose as barcodes and magnetic strips on cards such as ATM or credit cards – the label is scanned and therefore allows each product/person/animal/inventory to be tracked and identified. Many countries have started to use RFID in their passports. Other uses include tracking race times of marathon participants, tagging animals in labs and research, tracking books in libraries, used in musuems hospitals and schools, and even in some clubs for tracking and identifying VIP customers.One very common use of Radio Frequency Identification is in transportation payment.

The main advantage of using RFID over barcodes is that you are able to scan it from couple of meters away while with barcodes you must actually swipe the code almost physically. The technology has been around for nearly 50 years but only recently has the price dropped to warrant its use in everyday business.

RFID in Supply Chain Management

RFID in Asset Management

RFID is already being widely used in plants to manage a company’s assets. Not only does this kind of asset management reduce labor costs but it also reduces the number of errors due to it completely removing paperwork from the equation. This kind of asset management also enables managers to have clear statistics and information from anywhere in the world granting them a clearer, more accurate, and more cost effective picture of a company’s assets.

RFID in Product Tracking

RFID has started to replace barcodes in most products being tracked by businesses. Finished products, half products, pallets, shipments, equipment, inventory..nearly everything can be tracked very efficiently with RFID technology.

RFID in Integrated Supply Chain

Usage of RFID can create greater synergies between companies and establish an integrated supply chain. For example if several companies within the same value chain use a joint pallet with RFID technology then all members of the value chain can track and be aware of the state of this pallet. This will mean that the responsibility of this asset is share between the members of the chain and will asure a greater ownership of the assets. Greater information, usage, and win-win mentality will result in a more efficient and more successful supply chain.

The definition of warehousing is simply the storage of goods on a large scale. A warehouse is a commercial building used for storage of goods. Warehousing and warehouses are used by manufacturers, exporters, importers, wholesalers and customs, and other businesses use to store goods for cases where the goods aren’t of immediate use to them.

Warehouse Usage

Common cases were warehousing is used is when a plant has limited storage and already has more than enough inventory currently in its plant and therefore has no use for the goods. Another example is when goods must wait somewhere after being transported for customs clearance, or for the purchaser of the goods has not yet claimed and taken possesion of the goods shipped to them.

The definition of warehousing also includes the cases where a manufacturer has finished goods waiting in a warehousing waiting for its customers to make orders. It is therefore wise when talking about warehouses to determine what exact function these warehouses serve.

Types of Warehouses

Some examples of warehouses: incoming goods warehouses, outgoing goods warehouses, in-transit warehouses, raw material warehouses, spare parts warehouses etc..

Reasons for Warehousing

Warehousing is one of the methods used in supply chain management to store, secure, manage, and control the excess inventory that a business might have for one reason or another. In a perfect world, companies shouldn’t have to rely on warehouses. Warehouses can end up being a large cost in your supply chain including personnel, space,transportation fees, obscolenscence, theft, damage and a range of other hidden costs that can add up the more warehouses your company is forced to keep track of.

Warehousing Services

Warehousing service can be outsourced externally and can also be handled internally. Both internal warehousing and external warehousing has its advantages and disadvantages so it is wise to consider them before making decisions.

Let’s go over the different order fulfillment steps via Wikipedia:

Product Inquiry – Initial inquiry about offerings, visit to the web-site, catalog request

Sales Quote – Budgetary or availability quote

Order Configuration – Where ordered items need selection of options or order lines need to be compatible with each other

Order Booking – The formal order placement or closing of the deal (issuing by the customer of a Purchase Order)

Order Acknowledgment / Confirmation – Confirmation that the order is booked and/or received

Order Sourcing / Planning – Determining the source / location of item(s) to be shipped

Order Changes – Changes to orders, if needed

Order Processing – Process step where the distribution center or warehouse is responsible to fill order (receive and stock inventory, pick, pack and ship orders).

Shipment – The shipment and transportation of the goods

Delivery – The delivery of the goods to the consignee / customer

Invoicing / Billing – The presentment of the commercial invoice / bill to the customer

Settlement – The payment of the charges for goods / services / delivery

Returns – In case the goods are unacceptable / not required

There are different order fulfillment strategies at the disposal of the supply chain manager. The more efficient the order fulfillment process, the lesser steps there will be, the smoother the process, and the less the costs. However, sometimes more efficient order fulfillment process doesn’t always mean a better one. Some customers might have specific requests, and especially in market-in companies..preparation, customization and listening closely to your customer is absolutely key.

As you might imagine the production lead time and order fulfillment lead time required by the customer are the two key factors at stake here. If you are at the mercy of your customers and they have the advantage in negotiation power, then your production lead times (P) will have to be shorter than the order fulfillment required time (O).

Here are some of the better known order fulfillment strategies:

Engineer-to-Order (ETO) – (O>>P) Here, the product is designed and built to customer specifications; this approach is most common for large construction projects and one-off products, such as Formula 1 cars

Build-to-Order (BTO); syn: Make-to-Order (MTO) – (O>P) Here, the product is based on a standard design, but component production and manufacture of the final product is linked to the order placed by the final customer’s specifications; this strategy is typical for high-end motor vehicles and aircraft

Assemble-to-Order (ATO) – (O<P) Here, the product is built to customer specifications from a stock of existing components. This assumes a modular product architecture that allows for the final product to be configured in this way; a typical example for this approach is Dell’s approach to customizing its computers.

Make-to-Stock (MTS); syn: Build-to-Forecast (BTF) – (O=0) Here, the product is built against a sales forecast, and sold to the customer from finished goods stock; this approach is common in the grocery and retail sectors.

 Make-to-Stock and Make-to-Order are the two main strategies and the strategy employed will usually depend on the type of product at hand (the length of its lead time), the associated costs of inventory, as well as the size and importance of the customer.

Order fulfillment is one of the most critical areas of supply chain management because it pits production efficiency as well as inventory management against customer satisfaction and a market-in approach. Choosing the right order fulfillment policy will naturally be tricky in an organization where the barriers between the different departments and corporate strategy isn’t entirely clear.

To calculate the WIP Days, you need to take the average WIP inventory you have for a certain period of time, divide by your sales during that time period, and then multiple by the amount of days used in this calculation. Usually the formula for WIP goes like this:

WIP Days= (WIP Average/Sales for the whole year)*365

Just like inventory days, you can use WIP days to set targets for your factories.

Calculating the Work in Process itself is slightly more tricky and often times not entirely correct, here is a guide from the site eHow:

Step 1

Move raw materials from the raw material inventory account to the work in process account as they are moved into the production area.

Step 2

Record the raw materials used in the work in progress account, direct labor and manufacturing overhead rates as they apply to each step of the manufacturing process.

Step 3

Know all of the processes and where raw materials are added. For example, are all the materials added in during step one? If so, then 100 percent of material cost would be complete when calculating work in process. Are materials added in equally throughout the production process? Find the average of completion as indicated in the following steps. Is one step in the production line more labor intensive than another or are they evenly distributed? Should more overhead be applied to one step because of the heavy equipment used? Are labor and overhead applied equally throughout the manufacturing process? Knowing the answers to these questions will help you determine whether your work in process goods are 25, 50, or 75 percent complete. You need this estimated percentage to calculate work in process.

Step 4

Use the subjective assessment of the production manager for a rough estimate of completion percentage of the manufactured goods. The beginning balance of the work in process account is from the prior period’s work. You will add this period’s goods that are started but not yet finished to the work in process account. Then subtract the work that was finished this period for the work in process (WIP) account balance for this period.

Step 5

Multiply the quantity of pieces that are in the manufacturing process but not finished by the percentage that they are complete. For our example, each step of A manufacturing process adds an equal amount of labor and overhead. Approximately one-third of the goods are 25 percent complete, one-third are 50 percent complete, and one-third are 75 percent complete.

Step 6

Average the percentages of completion of work in process goods. In the example, the average percentage of completion is 50 percent for processes ((25+50+75)/3=50). Multiply the number of goods in process times and divide by the number of different completion times to get the completion percentage of 50 percent. Say, for example, that there are 1000 pieces of work in process that are an average of 50 percent complete. Then their equivalent value is the same as 500 finished goods.

Step 7

Multiply the 500 equivalent finished pieces by the individual total cost of that finished good. This number is your work in process value for the current accounting period.

Essentially, you should try to keep Work-in-process to a minimum while at the same time ensuring that there is enough to produce goods in time for customers. Naturally, the bigger your WIP, the bigger your inventory  resulting in higher working capital costs and less flexible cash flow.

It doesn’t take a genius to figure out that Supply Chain Management is the management of the supply chain. So before we can understand the Supply Chain Management definition, we must first understand the supply chain definition.

The practice of supply chain management is still relatively a new concept and some businesses are just recently setting up supply chain management teams. It is therefore natural for those involved in supply chain management to have different sets of responsibilities and varying scopes of influence. However the definition of supply chain management that we use here is a very broad one that all involved with supply chain management should adhere to follow at some point in their future.

The supply chain management definitions below are handpicked across different sources and represent well the meaning of supply chain management.

Wikipedia.com Supply Chain Management Definition:

Supply Chain Management is the management of a network of interconnected businesses involved in the ultimate provision of product and service packages required by end customers (Harland, 1996).

SearchCIO.com Supply Chain Management Definition:

Supply chain management (SCM) is the oversight of materials, information, and finances as they move in a process from supplier to manufacturer to wholesaler to retailer to consumer. Supply chain management involves coordinating and integrating these flows both within and among companies.

BusinessDictionary.com Supply Chain Management Definition:

Management of material and information flow in a supply chain to provide the highest degree of customer satisfaction at the lowest possible cost.

If you want a simple definition of what supply chain management means, then the definition used by global-supply-chain-management.com is as follows:

The planning, management, coordination and collaboration of all activities involved in sourcing, procurement, conversion, logistics and storage.

No single supply chain management definition will give you the complete picture as it is a very broad topic that warrants multiple posts in of itself. Therefore to really understand the definition of supply chain management you need to read further on in the area that interests you

Investorwords.com Supply Chain Definition:

The network of retailers, distributors, transporters, storage facilities and suppliers that participate in the sale, delivery and production of a particular product.

Businessdictionary.com Supply Chain Definition:

Entire network of entities, directly or indirectly interlinked and interdependent in serving the same consumer or customer. It comprises of vendors that supply raw material, producers who convert the material into products, warehouses that store, distribution centers that deliver to the retailers, and retailers who bring the product to the ultimate user. Supply chains underlie value-chains because, without them, no producer has the ability to give customers what they want, when and where they want, at the price they want. Producers compete with each other only through their supply chains, and no degree of improvement at the producer’s end can make up for the deficiencies in a supply chain which reduce the producer’s ability to compete.

Dictionary.com Supply Chain Definition:

Any sequence of processes involved in the production and distribution of a commodity

If you’re just looking for a simple yet comprehensive supply chain definition then you might want to use the official global-supply-chain-management.com definition of supply chain: the combination of every single process that is required to transform the necessary raw materials from their original source to final products available to end customers.    

In today’s business environment with globalization, specialization, innovation, and outsourcing it is absolutely crucial when trying to understand the supply chain to consider truly the total network of entities involved. One small problem along any part of your supply chain might cause severe problems for your business if you don’t evaluate them.

It is also wise to truly look at every single moving part, even ones that might not automatically be associated with the supply chain, because you never know what the future holds and what sort of process changes can lead to a vast change in the way your supply chain is formed. Vertical Integration, Horizontal Integration, Mergers and Acquisitions, Product Innovation, Customer Preferences, Legislative Changes, Economic Fluctuations and a host of possibilities can suddenly totally destroy your initial plans IF your company uses a narrow minded supply chain definition.

One way to describe the logistics definition is by defining it as the management of business operations. Logistics is an optimization process of the location, movement and storage of resources from the point of origin, through various economic activities, to the final consumer.

The Bnet Business Dictionary defines logistics as:

The management of the movement, storage, and processing of materials and information in the supply chain. Logistics encompasses the acquisition of raw materials and components, manufacturing or processing, and the distribution of finished products to the end user. Each organization focuses on a different aspect of logistics, depending on its area of interest. For example, one might apply logistics to find a way of linking physical distribution management with earlier events in the supply chain, another to plan its acquisition and storage, while a third might use logistics as a support operation.

Logistics is actually one small part of the supply chain, specifically the acquisition, storage, transportation and delivery of goods along the supply chain.

In simple terms the reason for logistics is for having the right item in the right quantity at the right time at the right place for the right price in the right condition to the right customer.

The logistics definition from Wikipedia is as follows:

Logistics is the management of the flow of goods, information and other resources, including energy and people, between the point of origin and the point of consumption in order to meet the requirements of consumers (frequently, and originally, military organizations). Logistics involves the integration of information, transportation, inventory, warehousing, material-handling, and packaging, and occasionally security. Logistics is a channel of the supply chain which adds the value of time and place utility.

The definition of logistics, much like that of many terms associated with the supply chain, has changed leaps and bounds in the last few decades as the field has evolved with the internationalization of companies’ operations and consequently globalization. Besides logistics definition, please check out the rest of the definitions in the supply chain to get a better understanding.

As we pointed out in the inventory definition, there are different types of inventory businesses hold on to. We can group up the different types of inventory into 4 main parts:
1st Type of Inventory- Raw materials Inventory:

Raw Materials are the most basic materials that businesses need in making their final products. Raw material inventory consists of basic materials that have not yet been committed to production in a manufacturing firm. Raw materials that are purchased from firms to be used in the firm’s production operations range from iron ore awaiting processing into steel to electronic components to be incorporated into computers. The purpose of maintaining raw material inventory is to separate the production function from the purchasing function so that any problem in shipment of raw materials do not cause production delays.

2nd Type of Inventory – Spare Parts:

Spare Parts: This category includes those products, which are complimentary to the main products produced for the purpose of sale. Examples of spare part items are bolts, nuts, clamps, screws etc. These spare parts are usually bought from outside or some times they are manufactured in the company also.

3rd Type of Inventory – Work-in-Process:

Work-in-Process Inventory: This category includes those materials that have had work done on them but have not been completed. The more complex and lengthy the production process, the larger will be the investment in work-in-process inventory. Its purpose is to uncouple the various operations in the production process so that machine failures and work stoppages in one operation will not affect the other operations.

4th Type of Inventory – Finished Good Inventory:

Finished Goods Inventory: These are completed products awaiting sale. The purpose of finished goods inventory is to uncouple the productions and sales functions so that it no longer is necessary to produce the goods before a sale can occur.
The basic flow of production reveals the necessary type of inventory that businesses must keep. Raw materials are turned into work in process which is then transformed into finished goods whilst all throughout being supported by spare parts. There are other types of inventory that some businesses can have such as rejected, damaged or obsolete goods, but the 4 mentioned above cover most industries.

For another perspective on the matter, here is an excerpt from inventory control specialists ww5s.com :

Normal Inventory

As it sounds, this type of inventory item will be used for the majority of your parts. It will correctly track the inventory received and sold on a first in first out basis, will handle cost of sales, and will warn you when you’re out of stock.
Non-Inventory Type

This is used for selling things that are not really inventory items. For example, you could be selling warranty, but because you don’t have warranty in a box to sell, and you’ll never run out of stock, you won’t need to keep inventory control on it. As well, there is no cost of sale adjustments with non-stock items. The system will not calculate how much you paid for the item, and therefore will not try to remove that value from inventory in the general ledger. If you are selling something that does cost you money, you will have to handle these details manually.
Labor Parts

You (probably) don’t have technicians hanging from hooks in your back room, so like non-inventory items, the system will not try to remove them from inventory when you sell a labor item. The two differences between Non-Inventory items an Labor items are that you can optionally have the system ask you for the technician code that did the work so that you can print reports showing who did what work. As well, the system will optionally ask for a comment to explain what was done so that the description of the service work can be printed on the invoice.

Note too that you can optionally keep track of how much time was spent and how much time was billed for on a per job basis. At the end of the month, you can then print technician productivity reports to compare total time spent compared to billable hours. In the automotive industry, some mechanics can do the work faster than is what is billed because the billing is based on industry standards.
Consignment Items

Consignments can be used to keep track of inventory that you don’t own, but at the time you sell it, you must pay for it. You’ll be able to generate several reports, including a list of inventory that is on consignment but not sold and a list of inventory sold on consignment, but not yet paid for.
Floor Plan Inventory

Floor planning is very similar to consignment, except that you take possession and own the inventory when you receive it, but you don’t have to pay for it until it’s sold, or until it’s been in the store for a negotiated period of time. However, you do own the inventory and do have to pay for it sometime.

Some floor planning companies want the ability to check the inventory serial number by serial number for the larger items, and others may just want to count the number of each model number on hand. Regardless, Windward System Five can handle it.

On the accounts payable side, you will be able to keep track of who you owe the money too (Floor Planning Company) and who you actually bought the inventory from (Supplier) and generate proper histories of each

Product Inventory

Products are items such as vehicles that you might service or repair after selling them to the customer. That is, they are an item in the database that can be sold, and when sold, are automatically added to the customer’s list of products that can be worked on.

Examples are vehicles, trucks, recreational vehicles, fridges, air conditioners, and chainsaws. The system will let you keep additional information on these products, such as make, model, year, and other comments, and will also be able to list all the work or repairs performed between two dates.

Windward System Five can also track whole goods such as recreational vehicles by keeping track of the cost of the item before the sale, add ons and pre-delivery inspection items. In addition, the system can generate a “wash out” report one level deep to show the costs and income associated with the trade in.
Serialized Inventory

Those items that need to be tracked by their serial numbers can be marked as serialized inventory. For example, fridges, stoves, computers, and chainsaws might all be serialized. Note that if you plan on servicing these items in the future and keeping track of all work you do on them, they should be entered as products instead of serial numbers.

It must be kept in mind that inventory types are very closely associated and hence inventory management decisions for one can’t be made without thinking about the other types of inventory.

Inventory Definition from InvestorWords.com:

A company’s merchandise, raw materials, and finished and unfinished products which have not yet been sold. These are considered liquid assets, since they can be converted into cash quite easily. There are various means of valuing these assets, but to be conservative the lowest value is usually used in financial statements.

Inventory Definition from BusinessDictionary.com:

Value of materials and goods held by a firm (1) to support production (raw materials, sub-assemblies, work in process), (2) for support activities (repair, maintenance, consumables), or (3) for sale or customer service (merchandise, finished goods, spare parts). It is often the largest item in the current assets category, and must be accurately counted and valued at the end of each accounting period to determine a firm’s profit or loss. Firms whose inventory items have a large unit cost generally keep a day to day record of changes in inventory (called perpetual inventory method) to ensure accurate and on-going control. Firms with inventory items of small unit cost generally update their inventory records at the end of an accounting period or when financial statements are prepared (called periodic inventory method). The value of an inventory depends on the valuation method used, such as first-in, first-out (FIFO) method or last-in, first-out (LIFO) method. GAAP require that inventory should be valued on the basis of either its cost price or its current market price whichever is lower of the two to prevent overstating of assets and earning due to sharp increase in the inventory’s value in inflationary periods. The optimum level of inventory for a firm is determined by inventory analysis. Called also stock in trade, or just stock.

Companies need inventory because it is impossible to forecast demand 100% accurately and because problems can occur along the supply chain that will necessite some form of backup in case of loss, obsolescence, damage, market fluctuation, production error etc. 

The inventory definition is only the starting point of inventory management, so please have a look at relevant posts to get better insight.