PARTING THE WAYS for supply chain excellence

Segmenting the flow of goods often improves service and reduces costs

Segmenting supply chains is not a new idea, but operations strategies surrounding this tactic have changed with the evolution of e-commerce and the ability to deliver through multiple channels.

Similar in concept to segmenting markets, customers or products, segmen- tation is an operations strategy that differentiates the flow of goods - from supplier's supplier to customer's customer - to reduce the costs of supply chains and improve services to customers.

This article explores the strategy and operations of supply chain segmentation. What is it? Why do it? How do we achieve it? Not only is this a timely topic, but it is a leading strategy in the new world of multichannel operations. The expansion of online ordering, the need for different and multiple ways to deliver orders, and the growth of product categories with global sourcing have combined to make segmen- tation an important operations strategy to consider.

Many companies struggle not only with the concept of segmentation, but also the business case and its implementation. Challenging the status quo and chang- ing traditional ways of doing business are complex undertakings for any enterprise. What formerly was referred to as "trans- formation" has become too complicated, maybe even disruptive, for those who need to get the products out daily. Big changes are viewed as major initiatives, often being placed in the "do later" category. This does not need to be the case if segmentation is addressed properly.

Understanding the concept

Today's leading companies understand that supply chains are end-to-end from the suppliers' suppliers all the way to customers' customers. They consist of six megaprocesses: plan, buy, make, move, distribute and sell, as shown in Figure 1. While each of these megaprocesses is neces- sary, not all need to be conducted in-house. Contract logistics, contract manufacturing, freight managers and other service provid- ers are components of trading partners that make the supply chain work.

Leading companies understand there are four flows that the supply chain manages and operates: product, information, cash and work. These flows, also shown in Figure 1, together with the mega processes, are managed and operated by business processes such as practices, people and technologies. These are all designed to be integrated and aligned with the business strategy - i.e., the markets to be served and the products provided and sold by the enterprise.

There are two major categories of supply chains: inbound and outbound. While these categories depend on how each enterprise in the chain views them, gener- ally inbound refers to flows coming in, and outbound refers to flows going out. A retailer, for example, views its store supply chains as inbound from its suppliers or its distribution facilities. The retailer also views its online or mobile orders shipped from its stores, distribution centers (DC) or fulfillment centers (FC) as outbound to its customers or consumers. A manu- facturer or consumer packaged goods company would view its supply chains as inbound from its suppliers and outbound to its customers.

Segmentation can occur in many forms, for certain product categories (but not all) or for selected customers. Supply chain segmentation refers to the separa- tion and then clustering of services or capabilities that are done to meet certain business requirements, whether they are customer- or internally driven. It involves the disaggregation of flows into unique sets of needs or capabilities, then manag- ing and executing the sets in different measures. Segmentation is different from the traditional method of flowing items from source to destination all together, which has become popular with container and trailer loads.

Compelling economies of scale have been achieved by consolidating shipments into containers, then shipping volumes to a deconsolidating point (even direct to stores) and not breaking down the containers until the last possible step. The enormous growth of sourcing from China and Asia has pushed companies into the operations strategy of volume flows of container loads from end-to-end.

While this volume-based method is popular, it is not always the best. Differ- ent customer requirements for speed and perfect orders, analyses of product and customer profitabilities, and differ- ent inventory classes and turns may point to better ways to handle certain products and certain channels. Thus, supply chain segmentation is about defining product and channel requirements and analyzing alternatives to meet them.

If the analysis indicates that alternative flows are better, then organizations should evaluate and plan an operations strategy of segmentation.

Learning from the real world

Some examples of segmentation will help explain the strategy. The following three examples are well-known and provide valuable takeaways of their own, and the information is available in public sources.

Dell Computers. While Dell was not the first company to segment, it was the original model for this operational strat- egy. Michael Dell's concept of shipping personal computers direct-to-customer was revolutionary in the early 1990s. All other companies were doing buy-make- distribute through traditional supply chain methods, with order-to-delivery measured in weeks, not days. Dell realized speed would have value and carrying finished goods inventories was costly for produc- ers and retailers. The company decided to bypass the retailer, having the customer ordering and receiving directly from the manufacturer.

In effect, Dell segmented the supply chains for business, consumers and stock- ing vs. assemble-to-order. After Dell raised the bar on PCs, companies in other indus- tries were pushed to think about how they could segment their supply chains. Even the automotive industry was compelled to take on the "order-to-delivery" model that Dell made famous.

Samsung. The push to segmentation was driven further by global multinationals serving multiple retailers internationally. Samsung, for example, recognized that its service to different retailers was inad- equate, hampering its shelf space in stores. Samsung produced most of its consumer electronics products in Korea for shipment worldwide, already placing the company at a disadvantage in terms of lead-times and finished goods inventories. (This was prior to the big wave of other multinational companies going to China.) The company was at another disadvantage because it was planning and executing volume- based supply chains - that is, moving large container loads to markets without regard to specific retail channels and differences.

Samsung discovered it had more than 30 supply chains, not just one for each market. Only with segmentation could those be planned and executed effectively. The corporation went through a major supply chain transformation, and today it segments its supply chains in various ways by product-channel mix and different processes.

The Home Depot. One of the recent best and most public examples of segmen- tation has been divulged by The Home Depot. The world's largest home improve- ment specialty retailer has more than 2,250 retail stores in the U.S., Canada and Mexico, about $20 billion in revenues, and is among Fortune's most admired corpora- tions. Its passion for customer service is well-known and respected. Recently, it has committed to the goal of "product author- ity" to assure that the products customers want are available at the right time and in the right quantities.

The Home Depot also has adopted the new strategy of "interconnected retail," which is its version of omnichannel opera- tions excellence. Recognizing that its customers want a seamless experience, whether in stores or online, it has devel- oped rapid deployment centers, new DCs and improved order fulfillment processes. More than 600,000 stock-keeping units (SKUs) are available in any order-to- fulfillment method that customers want. They are available to both consumers and professional customers, whether in special programs or enhanced shopping experi- ences.

Along with this new business strategy comes a supply chain segmentation opera- tions strategy. About five years ago, new senior business and supply chain execu- tives initiated a segmentation analysis that would transform the supply chain. Processes, people and technologies were assessed and improved. New capabili- ties were identified and initiatives were launched to change the operations.

The assessment of goods flow and its business objective was the driver for segmentation. The network of facilities, contract logistics service providers, freight forwarders and transportation was exam- ined from source to destination. Like many enterprises that sourced more from Asia, The Home Depot adopted the volume- based flows that moved containers and trailers from source to destination, whether to DCs or, in this case, mostly direct to stores. It was deemed less expensive to move mostly full loads of product through the network direct to stores than to differ- entiate by any product category, store format or customer class.

The segmentation strategy adopted has been impressive. Inventory distributed centrally versus direct-to-store is now 70 percent compared to 20 percent three years ago. The 19 rapid deployment centers are being highly automated for most products, and some are designed for different prod- ucts such as lumber. The Home Depot is using "flow through distribution" more than "stock and pick."

Furthermore, The Home Depot is working toward the flexible portfolio of customer fulfillment options, with ship- ments from direct FCs, The Home Depot stores and vendor directors. Each of these shipments will be separate supply chains, segmented by option, products, timing and ordering patterns. The stocking strat- egies will vary from high volume and private brands to extended assortments and seasonal products. The interconnected retail strategy is being put into place.

The reported benefits are impressive. Inventory reductions, better in-stocks, distribution efficiencies, improved demand planning, lower markdowns and labor savings in the supply chain and in stores are all improved in measurable and tangible benefits.

Just as with other leading compa- nies, The Home Depot has assessed and analyzed its complete supply chain, identified new capabilities and launched initiatives to upgrade its several supply chains to higher levels of performance. The key is first to recognize that most compa- nies have multiple supply chains, not just one. The Home Depot's product catego- ries are each different in volumes, sizes, demands, logistics costs, ordering patterns, customer uses, handling needs and include the four flows (products, information, cash and work). Why not assess each and decide if segmenting supply chains would work better than the traditional volume-based methods?

Guidelines for strategy, structure and implementation

While the detailed methods and how-to examples for segmentation are beyond the scope of this article, consider some princi- ples for developing the operations strategy, structure and implementation of a supply chain segmentation strategy and operation.

Operations strategy. Every company has a business strategy that is paramount. What products the company sells and its unique value proposition (why customers will buy from them), coupled with its target markets (geographies, customer types, demographics, etc.) form the business strategy's important components.

To realize this business strategy, the organization needs to create an opera- tions strategy. Any good business can fail if it cannot execute effectively and effi- ciently. However, some hold the view that the opposite is also true - that perfect execution can make a weak strategy work. Tompkins International has published a paper on this topic, "From Business Strate- gies to Execution: How to Align Execution with Strategic Plans."

When supply chain segmentation is considered an operations strategy, the analysis must begin with assessing the full supply chain and its four flows, as discussed earlier. The criteria for the anal- ysis must be broad enough (service to customers) as well as detailed enough (cost to serve) to make the segmentation viable. All the factors that go into the analysis must be considered so the current state can be compared to any revised scenario.

The critical success factor for the strat- egy is the definition and consensus of capabilities. What capabilities do we need for enabling the business strategy two to three years from now? For example, those companies that identified the rapid growth of online ordering more than two to three years ago are way ahead of those that woke up later. The amazing growth of Amazon (after its early failed attempts), for instance, was observed by the nonskeptics, and one can identify those companies that have growing online business volumes by those who started early, identifying and adapting their capabilities as the market evolved.

Segmentation as an operations strat- egy will not be the big answer for every company. Those with simple product categories might only need to provide for omnichannel excellence, which requires some segmentation due to differences in orders and deliveries. However, it is diffi- cult to imagine the company that wouldn't benefit from some type of segmentation. For many organizations, segmentation will be more necessary. Multiple product categories, multiple channels and multiple types of customers all lend themselves to the evaluation of segmentation. Again, this will depend on the operations strategies and capabilities identified. As shown in Figure 2, designing a network for delivering an organization's products involves numer- ous factors.

Structure. The physical supply chain and logistics network is the next step for segmentation analysis. The flow of goods is germane to segmentation. As mentioned earlier, most companies that moved to sourcing large amounts from China adopted the volume-based method of full container and trailer loads from source to destination for the lowest overall shipping expense. But is this the best method going forward in today's markets?

The employment of computer-based network design models is helping trans- form networks. Today's new models help evaluate different scenarios for the flows of goods and associated cash. By analyzing costs and time, we can evaluate scenarios for these models, and by adding some measures of customer service, we can include scenarios for revenue growth. Inventories can be analyzed for turns, in-stock and even markdowns in retail and returns for suppliers.

The segmentation of facilities, like The Home Depot did, also is part of the evalu- ation. The missions of logistics facilities dictate their locations, sizes, layouts and degree of mechanization. For instance, traditional DCs that are "pallet-in, pallet- out" must be retrofitted for fulfillment operations in frequent orders of parcel size that are primarily "stock, pick, pack and ship." Otherwise, new FCs must be located and designed, or flow-through or cross-dock facilities must be located and designed. There are several options, and only experienced personnel should analyze and evaluate the design of feasible operat- ing scenarios. Once the needed capabilities are known and the preferred network is designed, the implementation plan is ready for the action steps.

Implementation. The implementation of a segmentation operating model can be achieved in the near term or longer term, depending on the volumes, complexities and degree of change or transformation the operations strategy requires. The Home Depot has taken three to four years for its full transformation due to its size, scale and complete supply chain changes. Others have planned and initiated a segmented operations method in a matter of months.

Effective implementations need to be well-planned and adapted along the way. Pilot tests of the changed methods are important for not only proof of the model, but also to help people understand and embrace the changes in processes, practices and tools. Moreover, risk management needs to be included because changing the flows means a possible disruption of goods. Change management is also a critical success factor. Segmentation will involve all four flows of the supply chain, as well as performance measurements and report- ing. A comprehensive change management plan is essential.

Segmentation effects

Let's explore how supply chain segmen- tation affects certain industries. Third-party logistics providers (3PLs), for example, often play an important role in segmentation strategies. As companies adopt supply chain segmentation strate- gies, 3PLs must expand their capabilities in response.

Consider a traditional consumer pack- aged goods DC operated by a 3PL. Most often this would be a pallet in and pallet or case outbound to a retail store or a retail DC, with outbound shipping from full trucks or scheduled routes. But as customers decide to examine supply chain segmentation as an operations strategy, service providers are designing new solutions.

For the consumer packaged goods company, segmentation could mean trans- forming products into client-specific or channel-specific kits, creating an entirely new SKU. New packaging might be needed, and store replenishment would require rapid and frequent deliveries of smaller-sized shipments. In some cases, work previously done at the factory can be postponed and customized to the unique requirements of individual customers through the implementation of planned segmentation strategies.

The end result is improved product flow, reduced inventory, greater value creation through value-added services and product transformation resulting in higher margins for the same products. In some cases, 3PLs act similar to contract manufacturers, and these added services bring with them a whole new set of capabilities along with the processes, people and technologies to support them.

Some cases show that innovative 3PLs are setting up segmentation capabilities in advance of customer needs. Today's traditional DC operations are being trans- formed into combination DC and FC operations so the same facility supports store replenishment and Internet ordering operations. 3PLs are responding to rapidly changing retail trends by implementing more robust warehouse and operations management systems to handle a much wider range of customer requirements and order types.

In recognition that some of their customers' goods should flow differently than others, 3PLs establish cross-docking operations, and/or direct lanes to end customers, which provides service differen- tiations to certain customers with certain products. These and similar solutions are finding their way into shipper solutions.

The business case process

Defining the value proposition for supply chain segmentation, just as with any other initiative, should be comprehensive and compelling. Some of the values have been mentioned earlier in the three case exam- ples. The following is a partial list of the factors that will comprise the value propo- sition:

* Financial

* Total supply chain costs

* Costs of freight, procurement, distribution, inventory carrying and facility operations

* Costs to serve

* Inventory working capital

* Inventory levels and turns

* Inventory productivity

* Cash flows

* Revenue growth

* Operations

* Perfect order

* In-stocks

* Customer service differences (e.g., time, responsiveness)

* Labor and facility productivity

* Organizational

* People knowledge and sharing

* New tools

* Benchmarking competencies

* Agility and responsiveness

This list is not comprehensive, and each company will be different on how it measures and evaluates business cases, investment proposals, cost of capital, return on investment, etc. The principle emphasized is for each company to define its key performance indicators (KPIs), add the unique paybacks from the right segmentation strategy, and then evaluate them against continuing current opera- tions.

We have explored the strategy of supply chain segmentation, summarized examples of three companies that have transformed to it with solid results, and provided guidelines for when and how others should examine it. There is a science and an art to supply chain design, and each has a key role to play in any redesign of the four flows of supply chains.

While segmentation is not a new idea, the significant changes in today's marketplace should lead all companies to reconsider it for their supply chains. Evaluating segmen- tation the right way can lead to substantial supply chain and business benefits. If the evaluation proves compelling, implement- ing it the right way can lead to superior performance for the entire business. d

funding a better supply chain

More than one-fourth of multinationals polled have a program in place to fnance supply chain improvements internally, reported FX-MM magazine.

An additional 25 percent are investigating, planning or implementing such a supply chain fnance program, according to a poll from the research frm EuroFinance. Typically, such programs use the credit of the largest company to get better terms for the smaller suppliers or for using a range of technologies to improve payment terms.

"Some corporates are taking on more of the risk embedded in their supply chains to extend fnancing or to improve terms, liquidity and their working capital positions," Katharine Morton, editorial director of EuroFinance, told the magazine, which covers international fnance markets. "It can be complex to convince suppliers to get on board, and it isn't for all, but it's very much a case of 'watch this space.'"

James A. Tompkins is CEO of Tompkins Interna- tional. He has written or contributed to more than 30 books, hosts the Global Supply Chain Podcast series and writes the Creating Supply Chain Excellence blog and the quarterly supply chain column for Industrial Engineer. Tompkins has served as president of the Institute of Industrial Engineers, the Materials Management Society and the College-Industry Council on Material Handling Education. He earned his bachelor's, master's and doctoral degrees in industrial engi- neering from Purdue University.

Gene Tyndall is executive vice president, marketing and global solutions, for Tompkins International. He was formerly president of Ryder Global Supply Chain Solutions and senior partner/leader of the Ernst & Young global supply chain manage- ment consulting practice. Tyndall has co-authored several books, including Supercharging Supply Chains: Increasing Shareholder Value, and numerous articles on supply chain management. He is a graduate of the Institute for Advanced International Management and holds advanced degrees from The George Washington University and the University of Maryland.

Valerie Bonebrake is senior vice president for Tompkins International. Previously, she was exec- utive vice president and co-founder of Meridian IQ (aka MIQ Logistics) and spent 19 years at Ryder, where she had progressively increasing responsibil- ities in sales and operations in truck rental, truck leasing, transportation management, distribution and global supply chain operations. Bonebrake received her master's degree in international logis- tics from Georgia Institute of Technology.