Who Does DDSN Best?

Tuesday, March 28, 2006
Lora Cecere, Colin Masson

As companies attempt to develop and implement demand-driven supply network (DDSN) strategies, we are frequently asked who does it best and where they can go to learn from DDSN leaders. No one organization has all the answers. Instead, we find that all companies, even DDSN leaders, excel only in pockets of buy, make, move, or source processes.

Based on two years of attending conferences, completing reference calls, fielding inquiries, and going through intense client engagements, I now share information on where I have found leadership in the key processes of sales and operations planning (S&OP), demand management, inventory management, lean manufacturing, contract manufacturing, supply management, and aftermarket service.

Three groups are asking who does DDSN best:

DDSN leaders pushing for further excellence
Mature supply chain organizations making the shift to DDSN after many years of pushing for supply chain excellence
Organizations just beginning to understand the concepts that more mature supply chain organizations have mastered
Since 48% of companies have supply chain organizations with less than two years of experience and value chain excellence is rising in importance, this is a frequent question.

For perspective, let’s start with a definition of DDSN leadership. DDSN leaders are striving to become demand driven and build agile and responsive supply networks. Demand-driven strategies include investing in downstream data systems to better understand market insights, and to better sense and shape demand through a redefinition of demand management. It’s also maturing and changing the focus of S&OP and building a demand visibility signal (see the AMR Research Report “What Is Demand Visibility?” March 2006).

Other DDSN leaders are building agile and reliable supply networks. This is done through a series of supply-side initiatives aimed at rethinking global strategies, inventory policies and design for supply strategies, redefining manufacturing for improved responsiveness, and building supply networks to improve costs, performance, and time to market.

While the two go hand in hand, industries like automotive, chemicals, industrial equipment, and aerospace start with a supply-side focus, while retail, consumer products, and high-tech usually start with the a demand-side focus.

Sales and operations planning (S&OP)

For leadership in S&OP, turn to the chemical industry with close competition in the high-tech industries. While most will not let us share their names, chemical companies are pioneers in seizing market opportunity through the development of market SWAP plans, the use of product profitability analysis, and price management technologies.

We finished a year of comprehensive research on S&OP with the AMR Research Report “Handbook of Sales and Operations Planning Technologies,” March 2006. As we finish the first quarter of 2006, interest in this area remains high.

Use of downstream data

Companies that are the most advanced in the use of downstream data are direct store delivery (DSD) consumer goods companies, including Anheuser-Busch, Coke, and PepsiCo. Other notable leaders are Procter & Gamble and Seagate. (For more on the latter, see “Seagate: A Leader in the Use of Downstream Data.”)

While many companies are collecting downstream data, confusion reigns on how to use it. We often find that while downstream data can be used by five applications—marketing effectiveness, sales account management, category management, vendor-managed inventory (VMI), or corporate forecasting—most companies lack a comprehensive strategy. As a result, we are seeing increasing interest in building an infrastructure to collect, harmonize, and use downstream data in a more holistic strategy. Look for a series of articles on this in late spring.

Demand planning

For demand planning leadership, look to the media and home entertainment industries, including Disney Buena Vista: see the AMR Research Alert article “Disney’s Buena Vista Combines Advanced Retail Planning and VMI for Superior Results.” Other examples can be found in DSD consumer goods companies and in the apparel and footwear industry (see “Case Study on Forecasting New Product Introductions: Three Techniques To Consider”).

For these leaders, the frequency of demand forecasting is increasing, the modeling is becoming more complex, and the focus is shifting from unit forecasting for factory production to channel attribute forecasting to better sense and shape demand and forge market opportunity.

Inventory management

Hewlett-Packard and John Deere are good case studies here. In the most advanced organizations, shared-service organizational models are evolving in which specialized teams provide a service to line-of-business owners. These teams retain ownership of the models and closely tie the assumptions to the business strategies. We also see that the best results happen when they are connected to a part of a systemic process like S&OP or new product development and introduction (NPDI). We will be writing more in this area throughout 2006.

Lean manufacturing

We continue to be impressed with the work by Johnson Controls, Samsung, and Toyota. Leaning out supply chain processes—manufacturing, supply, and logistics—continues to be the focus of many DDSN leaders.

Management of contract manufacturing

In the discrete industries, Boeing and Herman Miller were voted the best by providers of contract manufacturing service in our March 2005 study of contract manufacturing. For process industries, look to leading pharmaceutical companies for best practices. These companies were early leaders in the building of successful contract manufacturing supply networks.

Supply management

Leadership here seems to be more a function of executive leadership than industry segmentation. For an understanding of the potential of sourcing and procurement technologies, study the progress of companies like Disney, IBM, Heinz, and GlaxoSmithKline. (For more on GSK, see the AMR Research Alert article “GlaxoSmithKline: Using Sourcing to Add Billions to the Bottom Line.”)

The greatest hurdle here is change management. As a result, we continue to see leaders invest in the training of their procurement organizations, rethinking organizational design based on commodity strategies, and building global strategies.

Service excellence

Many companies are just waking up to the opportunity in service supply chains. The first step is the realization that service supply chains are fundamentally different than the product supply chain. This change from a break/fix mentality to one of performance and availability is reshaping many of these initiatives. For service excellence, study the practices of service leaders like Boeing, Caterpillar, and Cisco.

Let me give you a personal invitation to our Supply Chain Executive Conference, May 31 to June 2 in Scottsdale, Arizona. The keynote speaker: former president Bill Clinton. Companies seeking improvements should actively network with leaders in the areas above, and our conference is a great place to start.

© Copyright 2006 by AMR Research, Inc.

Part 2: Supply Chain Thought Leaders: ELI GOLDRATT UNPLUGGED

This is part 2 of SCDigest editor Dan Gilmore’s interview with Dr. Eli Goldratt, father of the Theory of Constraints, and author of “The Goal” and several other influential books on business and supply chain topics. “The Goal,” first published in 1984, is a novel that tells the tale of plant manager Alex Rogo, whose factory is a disaster and on the verge of being shut. With the help of a Goldratt-like consultant named Jonah, he turns things around by focusing on eliminating a series of bottlenecks (constraints) that are barriers to efficiency and service.

Gilmore: You’ve said “inertia” is a big problem in many companies. What do you mean?

Goldratt: Inertia is related to the patterns of how a company does business or executes a function like supply chain. But when there is a paradigm shift, or the need for significant change, these patterns are what kill you.

So you have to go back and re-examine the basic assumptions. The tough question is: How do you know what assumptions you have to re-examine when you are facing an intolerable compromise?

But most companies just accept the compromise, rather than realizing they just got the gift that can point to us the wrong assumptions and the wrong patterns. Instead of working to find the correct pattern that will remove the conflict, and by that generating a win-win solution, we still compromise. That’s a huge mistake.

So, we have things that are good in the normal course of things, patterns and inertia, in the case of paradigm shift, is killing us.

Gilmore: It seems to me that the Theory of Constraints has some strong parallels to concepts like Lean and Six Sigma. Right or wrong?

Goldratt: Let’s put it this way. In almost every implementation of the Theory of Constraints, we also force in the concepts of Lean and Six Sigma. The techniques themselves are beautiful. What is lacking is the mechanism to use them. In other words, Lean and Six Sigma will never force you to examine the policies of top management.

And that’s why they have a limited effect. Once you have used Theory of Constraints at a higher level to really understand what you need to do, at a lower level these techniques are fantastic. But you need to know where to use them and where not.

For example, the U.S. Navy has an RFP last year for all its logistics operations, a huge undertaking. In the RFP, they said the umbrella for the operator must be Theory of Constraints, and underneath that Lean. That’s exactly what I am saying.

Gilmore: When you are working with companies, what is typically the “Aha” moment, when the light bulb finally goes off?

Goldratt: If you really want an answer to that, I am going to have to market myself. Let’s look at “The Goal.’ In that book, the consultant, Jonah, leads Alex Rogo step by step down the path, almost by the nose. I am actually sick of that approach.

That book focused at the plant level. My assumption was that if I showed top management the whole thing up front, they’d say “It’s unrealistic,” We’re different,” all the usual things, and they will not move.

Even at a more local level, it can be hard. If Jonah would have told Alex in “The Goal” what the performance of the factory really should be a year or so down the road, Alex would have fainted.

And this is the problem. You go into a company, you use Theory of Constraints to make progress, move someone one step then another, they get fat and happy again, and then they just want to stop. But you’ve just started!

So – this is the marketing part – I’ve started with a new thing called “Viable Vision,” where I am showing company execs the whole thing for the first four years. And again, I tell most of them that in four years they can have net profit equal to their current total sales.

Of course, the first reaction is “This is totally unrealistic,” but then we say back, “Give us the data, and we’ll show you how to do it.” We show them how to do it, and then we take on the implementation plan.

Gilmore: Net profit in four years equal to current sales?

Goldratt: That’s right. Not every company. Right now, I know how to do it with about 80% of them.

Gilmore: What’s the barrier at the other 20%?

Goldratt: I’m stupid – I don’t know enough yet. I am restricting myself now, for example, to physical products. Not hospitals, banks, etc., even though we know in general Theory of Constraints works beautifully there, but we have less data and don’t want to take on too big a risk because all of our contracts are based almost totally on realizing the results.

Gilmore: When you look at the issues and plans across companies after you do this analysis, what are common themes or opportunities?

Goldratt: Let me give you the truth. In order to minimize risk and best enable my people to execute this, I have eight generic solutions. If it fits one of these eight, we take the project. If it doesn’t, we don’t.

Those eight templates cover 80% of the physical products companies, including manufacturers, retailers, wholesalers, etc.

Gilmore: Can you describe a common template?

Goldratt: Well, to do this in half a page or whatever this will be will probably be mumbo-jumbo, but fine.

Suppose that we are producing manufactured products that are sold through distribution, wholesale and retail, ok?

Then the question the question I am really interested in is “How frequently those channels are ordering from you the same SKU?” It doesn’t matter to me that in general they order from you once a week. What I want to know is for each specific product how frequently they order. And if the answer is they order once in two weeks or more than two weeks, that’s it - I have the solution.

Because what happens is that if say they are ordering the same product once a month, that means the total order lead time – from when the sell a unit to when they order a unit – is one month. This is enough to kill them.

It will typically create big problems with excess inventory, along with frequent problems with unavailability. So now, the standard solution shows them how to do this with less than half the inventory, with almost no unavailability.

Do you understand once you are doing that you are taking the market?

A retailer or wholesaler’s key metric is inventory turns, and its main concern unavailability. If you solve both these problems, that’s it, the customer is yours.

Gilmore: Ok, I think the basic issue is well understood. We’ve been trying to solve that with many things, from collaborative planning to RFID and lots of other technologies and strategies.

Goldratt: These are all hard. This solution is so damn simple.

Do you know that I have put in the public domain computer courses? Because I found that in a manager wants to get buy-in from his people, a computer course is far more effective than a book. Exactly what I have told you about how to do that solution is in one of the computer courses.

Gilmore: Procter & Gamble is among the companies trying to solve this, and is doing so in part by trying to make their factories more flexible to shorten the length of production runs and enable more SKUs to be made each day….

Goldratt: First, so you know, the Procter & Gamble soap and detergents division implemented my distribution solution in 1989! But just that division, as far as I know.

Gilmore: Procter & Gamble is of course better than most, but they are committed to this further improvement, though whether the manufacturing economics will allow them to make tubes of Crest or whatever in much shorter runs, as even they have said, remains to be seen.

Goldratt: But at the same time I think you’d find the P&G or at least most consumer goods manufacturers give big discounts to retailers and wholesalers for ordering in large quantities. That’s part of what kills them all. If they would refrain from that, then they probably wouldn’t need to make their plants more flexible.

Let’s consider an example. You are a shop. And let’s say I say to you, you have to buy minimum of 100. And you are selling two per day, on average. So immediately I have elongated your cycle by 50 days. Because now you will wait to order until you have run down the first 100 and then order another 100. I have put into the replenishment time 50 days.

Gilmore: The response, I would think, is that there are trade-offs between inventory and transportation, and my costs of shipping the two I sold that day are way too high.

Goldratt: Since when are we allowed to put only one type of product in a truck? So, where is this argument coming from?

Gilmore: Let’s take it back further then. It costs a lot more per unit to pick and ship say two items than a pallet of them.

Goldratt: Your right – so save two cents there so you can pay 20 cents over here. Very smart. Let small warehouse concerns override smart business decisions. Think about what you’ve just said. Rather than pick a carton or two instead of a full pallet and have a few more pennies of warehouse cost, I need to invest in flexible plants?

Gilmore: Well, part of the issue of course is that most companies in the end are still siloed, and the distribution director is in fact primarily concerned with DC operational efficiency, and transportation managers their metrics, etc.

Goldratt: No you understand why in the Theory of Constraints that the number one thing we attack all the time is called “Local Optima.” Someone tries to optimize a piece of the system, and you kill the system. That’s why again we now focus up front on viewing the whole picture.

Gilmore: People and companies have taken the Theory of Constraints and taken it in all kinds of different directions. Are they doing this well, or is it being misapplied?

Goldratt: I would say most of them are valid.

Gilmore: Some software vendors have adopted at least in part a Theory of Constraints orientation, especially in “optimization” products. What is the role of software in TOC?

Goldratt: It depends. There are in fact cases where I don’t know how to solve a company’s issues without the software. For example, if you are dealing with large distribution networks of course you have to have the software. You’ll get killed trying to do it on spreadsheets. You also need software for big project management activities.

Gilmore: Let’s talk about manufacturing in Europe and North America. There is a lot of general concern and political heat around “saving” manufacturing in the west, amidst low costs and pressure from China and other low cost countries. Can adoption of Theory of Constraints principles help revitalize those manufacturing companies?

Goldratt: I think that question doesn’t consider what is really going on. What is this “save western manufacturing?” Let me talk about China and India – these are the two you are afraid or, right?

I work a lot in China. You know the biggest problem in China is right now? Getting people – for the 2nd shift. Can you imagine not enough people in China? Salaries are now skyrocketing. Statistics say that in 2004 salaries rose by 24%. When they are finalized in 2005, it will be much higher.

Have you been in Shanghai, for example? You may have had images like I had of rickshaws and bicycles – No! This is a western town. With the best cars everywhere, and fewer bicycles than in Holland. I sent an assistant to go and look in some shops for bargains. She said, “Sorry Eli, the prices are the same as in Amsterdam.”

So, China is not only becoming a big producer, but a huge consumer. If what we see now continues another 5-6 years, China will be by then the largest consumer market in the world.

What’s happening in India is even more fascinating. I can say without blinking an eye that in India they have the best management of companies in the world. Better on average than I have seen in Europe of the United States. There problem was that they had put chains on themselves, in terms of regulations, tariffs, etc. This is gone.

Because of it, the biggest boom is happening. India is also growing at 8-10 percent per year, and salaries are also rising rapidly. So again, in just a few years you will see a huge consumption market.

Do you understand what together this means? In a few years, we will triple the world consumption in 5 to 6 years. You will see supply chain bottlenecks everywhere in the world. The best thing that ever happened to us is what is happening now in China and India. It is time to stop complaining about Chinese producers and focus on how to enter the Chinese market or export to China and India. What huge, beautiful markets.

Gilmore: Yes, if they continue to open their markets….

Goldratt: They are open right now. Fine, it still takes 3-4 months of bureaucracy – what’s the big deal? As if there is no bureaucracy to overcome in Europe or the U.S.

China and India shouldn’t be looked on as a threat but as a fantastic opportunity.

Gilmore: Our audience is a supply chain audience. How do they best understand and get started with these concepts? And from what you’ve said earlier, is this something that really only makes sense to start at the CXO level with?

Goldratt: When I start with a company, yes I start from the CEO down, because from a business perspective, “grass roots” is just usually too hard.

It’s also because if you start in one function, you improve that, but then immediately the constraint just moves to another function.

Gilmore: But in “The Goal,” Alex was a plant manager. There was something in the TOC constraints for him.

Goldratt: He was quite lucky. If you remember, if he hadn’t have had the VP of Marketing on his side because of the problems he was also facing, Alex would have crashed into the wall.

Gilmore: So does TOC work for the VP of Supply Chain or not?

Goldratt: Absolutely yes, because you have to assume his or her boss is not an idiot. They should drag the CEO to one of our seminars and say “Let’s do this right.”

Think about it. Does the VP of Supply Chain have influence on marketing strategies and policies? If that answer is No, then immediately you are working with one of your hands tied behind your back.

For example, in the consumer goods example we had, if I was the VO of Supply Chain and I was making these improvements, but the policy was to still give big reductions for ordering in large quantities, rather than selling in big quantities, then I will fail in achieving results.

Do you understand what that last sentence means? It’s fine to say that as long as you sell 500 a month, you get the reduction in price, but it does not mean you have to order 500 at a time. Because if I still have to order 500, I can kiss away much chance of improving my supply chain.

Gilmore: Can the principles not be applied within a function?

Goldratt: Let’s take R&D or new product development. Let’s say you have used TOC to radically reduce development time. But if the other strategies of the company have not changed, you will not know how to effectively use this stream of new products you can develop, and because of that the end result will be you have too many engineers and you will have to lay some of them off. How would you like to be in the situation where you get buy-in from the engineers to do this in a much better way, and then come back and say as a reward for this effort, we have to lay a bunch of you off? That’s the problem, and why you eventually need a more comprehensive view.

Gilmore: You are talking about radical, almost unbelievable performance improvements. Most companies are happy with and struggle just to achieve continuous, incremental improvement.

Goldratt: Incremental improvement is nothing. This is exactly what I am crying about. Incremental improvement generally does not lead to more and more but to a crash, because one of your competitors is not taking an incremental approach but a breakthrough one, and eventually they crush you.

Gilmore: There really are companies achieving these kinds of results.

Goldratt: Yes!

Gilmore: When you present this, do CXOs want detailed, specific examples?

Goldratt: Sometimes, but not usually. It’s like reading “The Goal.” Does not that make simple, logical sense that you are convinced contains truth? It’s the same way when we explain the principles to a CEO, with their data. Usually the first reaction is “Let’s do it!” Sometimes at an enterprise level, it’s even simpler than it was for Alex Rogo.

Part 1: Supply Chain Thought Leaders: ELI GOLDRATT UNPLUGGED

This is part one of SCDigest editor Dan Gilmore’s interview with Dr. Eli Goldratt, father of the Theory of Constraints, and author of “The Goal” and several other influential books on business and supply chain topics. “The Goal,” first published in 1984, is a novel that tells the tale of plant manager Alex Rogo, whose factory is a disaster and on the verge of being shut. With the help of a Goldratt-like consultant named Jonah, he turns things around by focusing on eliminating a series of bottlenecks (constraints) that are barriers to efficiency and service.

Gilmore: What are the key concepts behind the Theory of Constraints?

Goldratt: There are two pillars to the Theory of Constraints. One is the starting assumption of all the hard sciences, which is that in all real-life systems there is inherent simplicity. If you can just find that inherent simplicity, you can manage, control and improve the system.

The other pillar is “that people are not stupid.”


Dr. Eli Goldratt

Gilmore: (after a pause): I was waiting for some further explanation of that second point (laughter).

Goldratt: Have you ever heard the concept “people resist change?” And that the bigger the change, the more the resistance? Doesn’t this in essence say that people are stupid?

Let’s do a “for instance.” If someone comes up and suggests a change that is good for you, do you automatically resist it?

So, if I say you will resist the change just because it is change, I am actually saying you are not very bright. People certainly do, however, resist change that they have a reason to believe will hurt them.

Gilmore: Yes, or they lack enough information to know.

Goldratt: No – they believe the change is likely to hurt them.

Sometimes they are wrong because of a lack of information, but usually they are right!

Most changes might be right for the company, but are not right for the majority of people from whom they are asking for collaboration. So no wonder there is a lot of resistance.

Gilmore: There is a certain logic there, no question.

Goldratt: Because of that, it means the emphasis of change must be on win-win-win for all of the parties which you need to collaborate.

Gilmore: Well, that sounds great in theory, but for example if you have to do a restructuring…

Goldratt: What you are saying is that you don’t think it’s feasible, and what I have tried to demonstrate in my books and hundreds of projects is that it is always possible – always!

Let’s take your restructuring example, where a lot of people will get hurt. This means the solution is wrong! There must be a better way that will get you what you want, but will be a win-win.

Gilmore: That would be great, if it is true.

Goldratt: Have you read any of my books?

Gilmore: Just “The Goal”

Goldratt: Did what was said in that book seem true, even simple? Common sense?

Gilmore: Yes…

Goldratt: Do you want a bigger proof that it is possible? Let’s say there is a manufacturing plant, where everything is against it. It’s on the verge of collapse, it looks impossible to do anything in the time of three months, which is all the time there is to fix it.

Nevertheless, it is so possible, providing you find the simplicity, and be careful to look for win-win solutions.

The problem is that the win-win solution is usually blocked by erroneous assumptions, and that’s why it’s hard to find it. But when you find it, it’s obvious, because your own reaction and that of everyone else is “Isn’t that obvious. Why didn’t we see it before?”

Gilmore: I’d still like a more concrete example…

Goldratt: “The Goal” is an example, my other books are examples, because each one of them are based on things that really happened.

The real-life validation we have had from the books and our own consulting is huge. One time a top executive from a U.S. company wrote me and said, “Dr. Goldratt, your book is no longer a novel any more, it is a documentary! Because I’ve done what you propose in the books, and I’ve achieved all the results. The only difference between what’s in “The Goal” and our story is that my wife didn’t come back yet!” [The main character in the novel, Alex Rogo, also has some marital issues.]

Everyone who attempts it achieves the results. Every one. It’s amazing.

Gilmore: “The Goal” is really plant/manufacturing focused, and many people associate the Theory of Constraints as dealing largely with production issues. How do we tie this all together, both the factory and the larger company issues and opportunities?

Goldratt: Bottlenecks are just a prime example of inherent simplicity. If you are looking at a system, what makes it complex is that if you are touching one place, it has a ramification in other places.

In other words, it is the cause and effect relationships that make it seem so complicated. This means that if you realize that the fewer the number of points you have to touch to impact the whole system, it actually has fewer degrees of freedom.

The more complex the system is, the less the degrees of freedom, which means that if you can find the few elements that if you touch them then they impact the whole system, you’ve found the key elements of the system.

Since they control the entire system, they are the constraints of the system, and therefore also the levers. If you can figure out what they key constraints of the system are, and what are the cause and effect relationships between these constraints and the rest of the system, now you have the key!

However, what you have to be able to do in order to successfully change the system is to look to the other pillar and recognize that only a win-win solution can be implemented. And in terms of all the options that exist, there is always at least one win-win solution. The key is described in my second book, which in most places is called “The Goal II.” Now, Alex isn’t a plant manager but a vice president, involved not just in production but supply chain, marketing, sales, etc. Still, the same concepts are demonstrated. How do you find the controlling factors, and create win-win? How do you unearth the false assumptions that lead you to believe that the only way out is a compromise, which means someone will lose?

Then, usually there is so much resistance that even if you can implement what you intended, it will be so diluted that most of the results will be lost.

Gilmore: The results of many company initiatives and strategies illustrate that point.

Goldratt: Illustrate it beautifully.

Gilmore: It seems to me that originally the Theory of Constraints had a theme that for any system at a given point in time, there was a single constraint. Is that notion evolving?

Goldratt: It depends on how you define a system. For me, in most companies a system is a one-directional flow, and therefore in most companies you have only one constraint. In conglomerates, there can be more than one constraint but this is because there is more than one system.

But the fact that in a system there is one constraint that makes it simple.

Gilmore: I talk with lots of supply chain executives, and right now for many of them there is a strong focus in simplifying their supply chains…

Goldratt: Good grief! OK, there are two different definitions of complexity. The mere fact that both exist serve to confuse everything.

One definition is that the more data elements needed to define the system, the more complex it is. So, if you can describe the system in five pages, that’s a simple system. If you have to take a hundred pages, that’s complex. In this regard every company and process is amazingly complex. Even in a small company, how many pages would it take to describe how to make very part, how to work with suppliers, manage channels, etc.

So, if it is enormously complex and we try to simplify it, there’s not much point. It would be a million complexities minus two or three. We haven’t done a thing.

But there is another definition of complexity, which is the degrees of freedom of the system. If the system has even five degrees of freedom, that is very complex to manage. If we have only one degree of freedom, that is so easy.

The problem is that people look at simplifying the system not reducing its degrees of freedom, but by the first definition, which is a total waste of time.

Gilmore: Let’s get back to a supply chain example.

Goldratt: In the past decade, all we hear about is supply chain, supply chain, supply chain. Before that, there wasn’t a peep about it. So let’s analyze this for a second. Consider that product lifecycles are shrinking rapidly in almost every area, but especially electronics. As product lifecycles shrink, we hit the first huge barrier, because the lifecycle of products in the market is shorter than the time to develop the product.

Gilmore: This is true often in the apparel industry as well, and I suspect an increasing number of others.

Goldratt: Correct! Suppose I have an excellent company and a winning product. If your development time is longer than the lifetime of the product, it means there will always be a window of time when the competition has a better product than you. So, you will lose.

As a result companies spend an awful lot of effort to reduce the development time. But it hasn’t worked very well. So they think there is only one way out - if we can’t shrink the development time, than you have to have more than one wave of development on-going. But that’s very difficult to do. First, it’s very expensive. Then companies have to learn how to build cement walls between the teams, because if they talk with each other, nothing will ever be finished. But there are a few companies that have managed it.

Many haven’t. The best example is probably Digital Computer. It was ultimately killed by this problem. But still today, most companies in this situation have more than one team developing the same types of products, because that is the only way to effectively shrink the lead time of new product introduction.

Gilmore: There are supply chain factors as well.

Goldratt: Yes, in the electronics and other markets, as the product lifecycles keep shrinking, they are often now also equal or shorter than the supply chain lead time.

If you make electronics and need a custom chip built, it will take 6, 7 or 8 months from the time you order to the time the first unit goes out the door with that chip in it. Longer than the product lifecycle. Now I order this component, and before I can even ship the product, there is a newer, better version of the component. So what do I have to do? I have to reduce the price or I can’t sell it at all.

So now if I am in the channel I will eventually demand higher margins, or maybe even consignment inventory to protect against this. As a result, you see top companies with great technology losing their pants! All because the supply chain time exceeds the market cycle time.

So everyone is also trying to shrink the time of the supply chain. But the joke is they are always trying to do it in production, when they don’t realize that 80% of supply chain time for many is in the wholesalers and the retailers. And they aren’t doing a thing about that. In PCs of course, Dell is an exception.

So, we aren’t looking at what the constraint of the system really is, which in this case may be how inventory flows thru the channel. We have to look at how we exploit and subordinate that. Instead, we get all this mumbo jumbo about “simplicity” here, “simplicity” there.

Gilmore: OK, we started out with one of the two pillars being “people are not stupid.” But this makes it sounds like maybe we don’t have especially bright people out there, when we know there are.

Goldratt: We all act according to patterns and inertia. And it’s very hard to get out from under that, because it seems we have to recalculate everything. When you show them how it can be done, the reaction is usually “That’s not realistic,” or “But we’re different.”

But I’ll tell you, most companies if they follow these principles in four years can have net profits equal to their current sales.

Extended Lean Can Make Your Supply Chain Hum

By John Rumasuglia

OEMs are ready to embrace Lean Manufacturing after the 2001 recession, but traditional approaches were designed for vertically integrated enterprises. The answer to their problem? Extended Lean and Statistical Kanban.

The electronics manufacturing industry has changed dramatically during the past 20 years. Two decades ago, most computer and telecommunications original equipment manufacturers (OEMs) were vertically integrated companies with design, manufacturing, assembly, sales, marketing, service and repair under the same roof. A small community of outsourcers found work making and assembling printed circuit boards and other commodities for these industrial giants, often in small lots for prototype production runs.

Gradually, these tiny contract manufacturers (CMs) expanded their offerings to include more sophisticated multi-layer boards, flexible circuits, surface-mount packaging, and tape-automated bonding, while the OEMs concentrated on building complete systems.

By 1995, contract manufacturers like Solectron, Flextronics, Celestica (then an IBM subsidiary), Sanmina-SCI, and Jabil Circuits — whose combined annual revenues were less than $2 billion — began spreading their wings, taking on ever more sophisticated systems-level manufacturing, assembly and component sourcing. Meanwhile, the OEMs increasingly focused on their core competencies — design, sales and marketing.

By 2000, CMs had given themselves a new name to reflect their elevated status — Electronic Manufacturing Services — and the transformation of the global electronics manufacturing industry was complete. In fewer than five years, the industry had evolved from an environment dominated by vertically integrated enterprises to an ecosystem of outsourced supply chains — with EMS, OEM and tier-one component suppliers making up the three most important links.

Today, the Big Five EMS firms alone employ 270,000 people and have combined annual revenue exceeding $65 billion. And global revenue from all forms of electronics outsourcing will approach $500 billion this year, according to the Outsourcing Institute. But while the EMS and OEM industries have grown to enormous size (Cisco, Dell, Intel, HP and IBM had combined product revenue of about $200 billion last year), most observers forget that supply chain manufacturing is immature and largely untested.

Indeed, since outsourcing became the dominant manufacturing model in the late 1990s it has faced only one economic downturn, and it failed that test miserably. In 2001, electronics manufacturers ran into a perfect storm: a national recession, the dot-com implosion and the 9/11 terrorist attacks. In two years, the semiconductor, computer and telecom OEMs wrote down nearly $13 billion in excess inventory. Since nobody has repeated the business cycle, one wonders how the industry will fare the next time the economy goes boom, then bust.

Anatomy of a Supply Chain Disaster

What caused the industry's $12 billion inventory overhang? Bad forecasting played a part. As did a build-to-forecast manufacturing model based on materials requirements planning (MRP II) principles. While MRP may have worked for vertically integrated manufacturers in slow-moving industries where demand was relatively constant, it never stood a chance in today's fast-paced, outsourced economy where demand fluctuates rapidly and product life-cycles are measured in months instead of years.

“The trouble with building to forecast is that the forecast is never accurate for long,” states Gary Cortes, co-founder of FlowVision, a Lean Manufacturing consultancy based in Dillon, Colo. “The $13 billion write-off happened because there was a complete disconnect between the OEMs, their contract manufacturers (CMs) and the component suppliers,” he says. “The OEMs gave overly optimistic forecasts to their CMs who then placed orders for components. The distortion rippled through the supply chain, growing larger as each tier added capacity and ordered more and more material. When the downturn came, there was a huge inventory pileup in place.”

Larry Leveille witnessed the effects of bad forecasting first-hand. As a business unit director at Jabil Circuits, a $6 billion global EMS firm, Leveille recalls the go-go years prior to the 2001 crash as a euphoric period in which OEMs ignored the dangerous inventory build-up because demand seemed limitless. “During the dot-com craze they didn't want to leave any sales on the table,” recalls Leveille. “OEMs cared only about sales; if you didn't deliver according to their schedule, price and quality, they would go elsewhere. They dropped their forecasts to the CM in [electronic data interchange (EDI)], and you filled the order, end of story.”

As long as companies continue to build to forecast using MRP II push-production methods, another inventory disaster is just a matter of time, says Cortes. “Most companies are doing a better job keeping inventory in check right now because they were burned last time and senior management is paranoid. But it's not systematic. At some point another bubble will emerge, experienced senior managers will forget or be replaced, and disaster will strike again. It's only a matter of time.”

The First Steps...But Are They Working?

Of course, some OEMs learned from the last debacle that build-to-forecast production is dangerous, particularly in an extended supply chain involving hundreds or even thousands of suppliers. After all, the OEMs that insisted that contract manufacturers and suppliers build to their forecast ended up owning the unsold inventory. Now some of these companies are applying Lean Manufacturing practices to internal and external business processes.

While many CMs have Lean initiatives underway, nearly all of them are focused on internal production issues such as line-design, set-up and staffing.

“It is almost impossible to do Lean throughout the supply chain without the OEM leading the initiative,” comments Leveille. The reason? OEMs have built large planning, forecasting and contract management organizations with which to control the outsourced supply chain. “In the 1980s, OEMs would tell their CMs to build a certain number of printed circuit boards. The CM would get quotes from component suppliers and give a bill-of-materials (BOMs) cost to the OEM who would approve it or not,” he says.

But that changed once the OEMs began outsourcing the manufacture of complete systems. In order to mitigate risks and keep costs low, OEMs sourced finished products from multiple contract manufacturers. In addition, they insisted on controlling supplier selection as well as negotiating key terms and conditions of the contract with suppliers that govern pricing, volume, liability and so on.

With so little flexibility, the CMs and their suppliers had no choice but to respond to OEM forecasts as if they were gospel. OEMs may have outsourced manufacturing, but they were managing the supply chain with old-fashioned MRP tools designed for vertically integrated enterprises and command-and-control economies.

Of course, OEMs pay a heavy price for insisting on complete control. When the economy goes bust and their forecasts prove wildly inaccurate, they own the results, including all of the material flowing into the supply chain, the work in process, the finished goods inventory, the whole nut. That is why they ended up taking the lion's share of the $13 billion write-down. And it's also why some OEMs are beginning to change their tune and turn to Lean.

Certainly, they will find many willing partners among the forward-looking contract manufacturers and component makers in their supply chains who realize that in the long term Lean is important to their very survival. During the past decade, even well-managed firms that understood and tried to run Lean inside the four walls of their factories had trouble because the most influential members of their supply chains insisted on meeting pre-determined production schedules tied to unrealistic forecasts, irrespective of true demand.

How do you tell suppliers to only ship product based on actual demand (a key element of Lean known as “kanban”) when the OEM, and other key supply chain partners are responding to an inaccurate forecast? Furthermore, in many cases, sourcing contracts that are set up between the OEM and suppliers permit the supplier to ship components to the contract manufacturer even when they are not needed.

A New Way of Thinking

In today's globally outsourced economy, competition is no longer company against company, but supply chain vs. supply chain. Companies that want to run Lean must learn to do it collaboratively, in groups. In a Lean supply chain, traditional forecasting and MRP production scheduling techniques are used only for planning — to run what-if scenarios and communicate trend analysis back to suppliers. But they are not used to order material or produce products. Only kanban signaling is allowed for that.

Kanban is a Japanese word that means “signal” or “billboard.” It is the most fundamental concept in Lean manufacturing used to describe a material replenishment process in which every stage of production signals the one preceding it when more material is required or an act of production has been executed and a new one is ready to begin. Unlike MRP systems, which push material through production according to a pre-determined schedule that is based on a potentially inaccurate forecast, kanban is a pull-production process that is based on true customer demand. Kanban eliminates all but a small reserve of inventory or safety stock that functions as a re-order point while enabling the manufacturer to respond to unexpected surges in demand or interruptions in supply. When material drops below this re-order point, a kanban signal is sent to replenish it.

OEM executives love Extended Lean in a downturn because the only inventory in the pipeline (besides a small safety stock) represents actual customer demand. But how does a Lean supply chain respond during an upturn? Can Lean contract manufacturers and Lean component suppliers respond quickly to an unexpected upsurge in demand? Or will Lean OEMs find themselves stuck in first gear while competitors race ahead? In other words, how responsive is Extended Lean since, by definition, it must orchestrate complex activities across multiple tiers in a supply chain in which the OEM has relinquished centralized control?

It is a fair question, and until recently it was the Achilles Heel of Lean as it applied to outsourcing and supply chains. That is why most proponents of Traditional Lean sequester themselves within the four walls of the factory. Traditional Lean makes sense in a vertically-integrated enterprise, or within the confined space of a factory where managers can remove wasteful steps and redesign the lines. But Traditional Lean does not work in a modern supply chain.

Extended Lean makes the supply chain responsive by using a new technique known as Statistical Kanban, which was developed by Gary Cortes and his colleagues at FlowVision. How does it work?

The Lowdown on Statistical Kanban

“Statistical Kanban enables manufacturers to anticipate fluctuations in demand and meet virtually any guaranteed service level that a customer requires,” says Cortes. “Let's say we have to carry some level of finished goods inventory to guarantee a specific level of service required by an OEM customer. This is inventory that the OEM has ordered and agreed to purchase. We can statistically determine the ideal level of inventory that is needed at each stage of the supply chain based on historical usage patterns and trends,” says Cortes.

Statistical Kanban is used to guarantee a service level for which a customer is willing to pay. For example, FlowVision is working with a company in San Jose, Calif., that makes complex electronics-based systems with a long supply lead time and for which there is high demand. The company wants to guarantee that it can meet 99.7 percent of orders within a short delivery schedule. Using Statistical Kanban, FlowVision calculates the amount of finished goods inventory required to meet 99.7 percent of orders within that company's guaranteed time-frame. Using Statistical Kanban, the company guarantees that at most it will miss only 3/10ths of one percent of orders. Its customers are delighted with that level of service.

“In order to achieve that level of service, we need to have a certain amount of material in the pipeline,” explains Cortes. “At a minimum, all of our components must achieve a 99.7 percent service level. When we statistically size the inventory, whether for finished goods or components, we mathematically calculate the variation in historical usage of those components and that finished product. We also look forward to account for any future anticipated changes in demand. Then we size the inventory to achieve a specific confidence level for which the OEM customer is willing to pay. Obviously, the higher the confidence level, the more inventory we will require, and the higher the cost to the customer. But the customer knows that up-front and can choose according to different scenarios. What is the financial impact of moving from a 99.5 percent service level to a 99.7 percent service level? With Statistical Kanban you can tell exactly what those additional two-tenths percent of certainty are going to cost.”

Properly applied, Statistical Kanban is the key to implementing Extended Lean throughout a supply chain. Once the OEM, contract manufacturer and supplier agree on a guaranteed service level, they can mathematically determine the level of finished goods inventory. At that point, the only time they produce more of that particular product is when there is a signal from the distribution center or wherever the finished goods reside that the OEM has reached a re-order point. Then and only then does the supply chain produce more.

Says Cortes, “We still use forecasts to tell us where we think we're going, and we use MRP to establish our lead-time offset, so we know how long it will take to order, receive, build and ship a product, but we are not going to order or build anything unless the customer actually buys a product. It is a completely different mindset from how most manufacturers operate today, particularly in a complex supply chain where the OEMs talk to their sales guys, estimate demand, add a little extra, then buy material and fill up their finished goods inventory. And if the forecast is wrong? Hey, it's just another multibillion dollar write-off.”

Improving visibility

Apple Computer Inc.'s story is the stuff corporate executives and MBA students pore over again and again in search of breakthrough business formulas.

Like all legends, though, Apple's comeback story--especially the part about the runaway success of its iPod--has a less-fascinating element that few have bothered to explore.

A lean and flexible supply chain structure saved the company from the embarrassment of a wildly inaccurate forecast and the potential for huge sales and profit losses--a problem that the electronics industry is still prone to, even after years of intense focus on accurate demand and supply planning.

While forecasts are still necessary for capacity planning, nowadays more intelligent, collaborative methods are being employed to increase visibility down the supply chain. Where electronics companies once relied largely on sales goals or hindsight to generate forecasts, they are now moving toward a demand-driven model that uses more-immediate data from sales channels to provide a clearer picture of what customers actually want, and an agile supply chain to execute rapidly when inevitable, sometimes daily, changes in demand occur.

"We're seeing better emphasis to take what is a well-understood process in high tech-demand planning and forecasting and extend it deeper into understanding the customer, feeding that [information] back into the enterprise strategy around managing that particular demand, and preparing to counter the variability that exists in the forecast," said Raja Chandrashekar, vice president of the high-tech industry group at i2 Inc. (Dallas).

An example would be using point-of-sale information from retail stores to find out that a model mix between two products was actually 60/40, whereas the forecast had assumed 50/50. The brand owner could tell its downstream supply chain to start adjusting how many of each of the models to make.

More than a near-miss

It's nothing less than a huge understatement to say that Apple missed its iPod sales forecast. When Apple released the iPod in 2002, it expected to sell only 1 million units. That forecast was off by a wide margin.

"From the introduction of the iPod in 2002 through 2005, the company has sold approximately 28 million iPods," Apple (Cupertino, Calif.) stated in its latest annual filling with the Securities and Exchange Commission.

Sales of the music player topped $4.5 billion in Apple's fiscal year ended Sept. 24, 2005, up 248 percent from $1.2 billion in the prior year. During the same period, unit sales of the iPod climbed to 22.5 million, from 4.42 million in fiscal 2004 and only 939,000 units in fiscal 2003.

Had Apple depended solely on forecasts, it would have lost sales and profits--and potentially would have done irreparable harm to its brand reputation. Instead, it relied on a supply chain constructed to turn on a dime when demand fluctuates up or down.

That, industry executives say, is the new reality in supply chain management.

Anyone who was a part of the industry as recently as the late 1990s learned this lesson all too well when overoptimism led many companies to ignore alarm bells when the demand signal shut off, leaving billions of dollars in excess inventory in the pipeline.

Forecasts often miss actual demand--indeed, they are rarely better than 70 percent accurate, executives say--resulting in disastrous inventory pileups, missed financial targets and supply chain management conflicts among OEMs, EMS companies and their networks of suppliers.

But supply chain management is more than just materials planning. It must also take into account what is happening with demand. That process involves collaborative forecasting, downstream data and pull-based replenishment. And those areas, supply chain software vendors say, are where the dollars are being spent.

"This area is front and center with pretty much everybody, especially in the high-tech industry, where you have quick product model revisions," said Greg Clark, chief executive officer of E2Open Inc. (Redwood City, Calif.). "Being able to ramp them very quickly into high volume and being able to step on the brake very quickly require demand and supply forecasting processes as well as replenishment processes to be best-in-class."

New models

Indeed, best-in-class companies these days are designing their supply chains by looking at the risk elements and figuring out the decision points where they can accomplish particular things, noted Bill Swanton, vice president of research at AMR Research Inc. (Boston).

"In general, we see people looking at supply networks, looking at the alternatives ... and making decisions on what they're going to contract for out into the future, and, as much as possible, trying to do some risk management there," Swanton said.

"Apple might know it can sell between this range and that range of iPods, but isn't exactly sure which options and how many they would be likely to sell--how many are going to be the 2-Gbyte model vs. the 4-Gbyte model," added Swanton. "That makes a big difference in terms of how far the parts will go; but they can start acquiring the other things, including the manufacturing capacity to make so many units, and later in the cycle decide how many are going to be of what model."

Enabling that kind of supply chain management requires accurate information and better visibility into real demand events--for instance, knowing that someone consumed a pallet of disk drives, as opposed to starting 1,000 more disk drives per the forecast, even though there are 10,000 piled up in a hub and no one's using them.

Forecasting has come a long way since the mid-1990s, and software vendors are making their tools more sophisticated and easier to use within a complex supply chain, said Noha Tohamy, senior analyst at Forrester Research Inc. (Boston).

As visibility became the catchphrase in supply chain management, forecasting based on historical data has been pushed aside in favor of methods that provide more immediate information. The trend has spurred a new generation of forecasting engines that Tohamy refers to as "real-time demand forecasting."

"There's a lot of real-time or as-it-happens data that we can get and incorporate into supply chain management," Tohamy said. "As a consumer electronics manufacturer, for instance, if I can get information about what products are selling at Circuit City or Best Buy and take that into account when doing the demand forecast, then that will create much more accurate, much more up-to-date forecasts than just relying primarily on historical information."

Real-time planning

This real-time or "downstream" data is critical for being able to sense demand and drive inventory replenishment systems based on pull signals, a key element of lean-supply- chain theory.

"Everybody that we know has an initiative right now to move to more of a lean supply chain," said E2Open's Clark. "People need tools for that. And the intersection of the forecast and the commit process with demand-driven execution is really the secret sauce.

"If you can get your internal plants and your supply chain working on a demand-driven model, you [gain efficiencies], and you waste less."

Leaning out the supply chain will require gaining a better understanding of demand and of the market, by using good statistical techniques and by leveraging demand history down to specific customer segment levels and specific product and subassembly levels, said i2's Chandrashekar.

"The level of detail at which you have to do forecasting to be lean is going to increase," he said. "You have to pay attention to that at a much more granular level."

Chandrashekar noted that when a company understands its demand structure and its customers extremely well, it's in a better position to steer customers to products that are already available--the flip side of forecasting--as computer maker Dell Inc. has done with its Dell.com mass-customization model.

Many large OEMs are using demand-driven supply chain management techniques to move in the direction of mass customization. Midsize companies, however, are a long way from emulating the Dell model, said Anandan Jayaraman, solution marketing manager for industry verticals at SSA Global (Chicago).

While the middle tier has made investments in enterprise resource planning (ERP) and core applications, as well as in the materials-management and procurement aspects of the supply chain, "they have not made as much investment on the demand chain side," Jayaraman said. "Clearly, they have not been able to match demand with supply."

Response management

By and large, though, OEMs are putting greater emphasis on the ability to respond to things that weren't in the forecast, said Randy Littleson, vice president of marketing at Kinaxis Inc. (Ottawa).

"Sure, they're looking to improve [forecasting] and are moving away from absolute numbers to relative ranges," Littleson said. "But they also recognize very strongly that ... we need to make equal or more investment in dealing with the realities that exist in our world."

A demand-driven supply chain involves more than just advanced forecasting and response capabilities. At its core is a word that, though overused, is the linchpin in any successful supply chain: collaboration.

"It's all about building the collaborative discussion with the supply chain," said Dave Cooper, vice president of supply chain solutions at EMS provider Solectron Corp. (Milpitas, Calif.).

If a company has outsourced all of its manufacturing, the EMS provider becomes a key player in the supply chain. That contractor should be involved in forecast planning to contribute information concerning the implications of driving the supply chain to meet that forecast, Cooper said.

"When we did this for one of our customers, we increased their on-time performance by 40 percent and doubled their turns, just by changing the way forecasting is done and by changing the speed at which that forecast gets to the supply chain," he said.

Putting the tools in place to enable collaborative supply chain management has never been easier. According to sources, leading vendors of ERP systems are making it easier to integrate third-party tools into their core solutions. The road maps of ERP vendors like Oracle and SAP indicate they are opening up to a service-oriented architecture approach, which enables more integration points for third-party applications.

That's good news for midsize and smaller companies, which are adopting ERP software to form the backbone of their supply chain management systems, rather than use a series of disparate, disconnected systems that don't share data.

"In the mid-'90s, there was so much investment in supply chain endpoints, and the solutions were so disconnected from the core ERP stuff, that people have had a lot of challenges on the integration side," said SSA Global's Jayaraman. "I think people realize that having it all together definitely decreases the complexity of integration and makes it easier to manage in the long term."

the lean, mean supply chain machine

WE'VE ALL HEARD THE TERM "LEAN AND mean." Indeed, many of us consider our own organizations to be just that. Unfortunately, what that usually means is that our "downsized" staffs are scrambling to do more with less and that no one's paying much attention to improving processes (they're too busy fighting fires).

Until recently, "lean" principles have mostly been applied to manufacturing processes. Only a handful of companies, most notably Toyota, have applied the concept to their supply chains. According to the SCM Research Center, 50 percent of all U.S. manufacturers report that they're using some lean manufacturing techniques, while only 10 percent have expanded the concept beyond the production line.

But it can be done—though perhaps not easily. For openers, "lean" is difficult to define. Ask five people for a definition, and you'll receive five different answers. One of the better definitions I've seen comes from Jamie Flinchbaugh of the Lean Learning Center, who has written that "[L]ean systems give people at all levels of the organization the skills and a shared way of thinking to systematically drive out waste through designing and improving ... activities, connections, and flows." What I like about this definition is that it acknowledges that going lean involves more than tools, that creating a lean supply chain requires a new mindset throughout the company.

In fact, the decision to go lean requires mindset adjustments for parties well beyond the company's walls. Toyota, for example, has raised "lean" to an art form not only for itself, but also for most of its suppliers. Volumes have been written about Toyota's lean philosophy, but essentially, it's a quest to determine what customers really want and then work with customers, suppliers and associates to eliminate waste and non-value-added activities.

With the right leadership, those principles can unquestionably be applied to the supply chain. For example, the first step would be to abandon your "push" inventory replenishment strategy and convert to the "pull" method. Under the "pull" system, product shipments are triggered—or "pulled"—by customer demand, not "pushed" on a DC at the manufacturing plant's convenience. Obviously, you'll have to involve your own suppliers because they will need to receive that demand signal. A great deal of collaboration and cooperation will be required. Fuji Cho, CEO of Toyota, said, "We are only as strong as our weakest supplier."

The second step, although admittedly tedious, is to map your entire supply chain process and eliminate any activities that don't add value. This so-called "value-stream mapping" is not something we've done a lot of in logistics, but a skilled mapper can find a surprising amount of waste in almost any system. The next step, of course, will be to eliminate as much of that waste as possible.

The potential payoffs are tantalizing. By eliminating waste, a company can boost value for the customer, cut costs, reduce errors, increase productivity, reduce space requirements, and more. But that's no reason to stop! There's always room for improvement.

The journey to lean supply chain management is an endless one. This must be an ongoing process, which implies rigorous adherence to a continuous improvement program. Encourage your employees to constantly work toward rooting out waste.

The overall goal of your supply chain should be to achieve perfection. In the words of one of my personal heroes, Vince Lombardi, "Perfection is not attainable. But if we chase perfection, we can catch excellence."

the skinny on lean

The prophets of lean turned the manufacturing world on its ear. Now they want to do the same for distribution—with just a roll of masking tape and a stopwatch.

WALK INTO MENLO WORLDWIDE'S BROWNSTOWN TOWNSHIP, MICH., DISTRIBUTION CENTER, and your first impression might be that it's a warehouse that hasn't quite caught up to the times. There are no signs of automation, inventory sits on racks, and the facility is eerily quiet. Watch the workers for a moment, and you realize they're getting picking instructions from paper pick lists, not headsets or digital scanners. Frenetic it is not.

But look a little closer, and you'll realize that the layout is meticulously organized, with the location of every cart and barrel plotted down to the last centimeter. And talk to the men and women who run the facility, which Menlo Worldwide operates for Bobcat, Detroit Diesel and General Motors, and you'll discover that the site is a virtual distribution machine—swiftly and efficiently supplying service parts to GM dealers; packaging and delivering parts on a just-in-time basis to GM distribution centers; and kitting, sequencing and delivering parts (also on a JIT basis) to a Detroit Diesel assembly plant.

What you are seeing is Menlo Worldwide's version of a lean warehouse, based on a template for warehouse design developed by Toyota, the company that originated what's now known as lean manufacturing.

The story of what Toyota did to revolutionize automotive manufacturing was first told in the 1990 book The Machine That Changed the World by James P. Womack, Daniel T. Jones and Daniel Roos. The title referred not to Toyota's automobiles, but the Toyota Production System, a system designed to "provide best quality [and] lowest cost, and [to] shorten lead time through the elimination of waste," according to a lexicon developed by the Lean Enterprise Institute.

In the years since, the gospel of lean has spread beyond the production line to broader applications in the retail and service industries: auto repair, airlines and computer support, to name a few. And it's not just about manufacturing anymore. In their latest book, Lean Solutions, published last year, Womack and Jones outline how lean principles apply to logistics and distribution as well.

The meaning of lean
Just what does "lean" mean when it comes to logistics and distribution? Different companies have different answers, and that's OK—part of the lean credo is that lean practices must fit the particular company. Menlo Worldwide's version will be different from, say, IBM's.

To understand more about lean and how it applies to distribution, I asked Womack for a brief education on the topic. On the surface, the concept is simple. "All lean is about is creating more value with less of everything," Womack says. "You try to get more with less."

The concept may be simple, but what about the implementation? Womack is reassuring on that count. It's not rocket science, he says. "It's not even model airplane science."

Womack may be understating the case just a bit. Going lean may not require abstract thinking, but it does take perseverance and attention to detail.

That becomes evident when Womack describes his experience watching Toyota introduce lean principles to a warehouse in the Boston area in the mid '90s. Like any traditional warehouse, the facility was struggling to maintain tight control, he explains. "Toyota looked at [the facility] and said it [was] grossly under-managed," he recalls. "The [site] had a kind of Wild West spirit. Toyota wanted to stamp all that out.

Toyota, in fact, had very different ideas about how the operation should be run. In its plants and warehouses, Toyota wants operations to be completely methodical, Womack explains. "Everything needs to be visible and run on tightly organized loops of work so that every few minutes, say a 10- to 12-minute picking cycle, every worker gets the same amount of work," he says. "People are working at a steady pace."

Details, details
It's important to note that applying lean principles is not a matter of pushing people harder or automating the operation. It's about designing good processes. Many of the steps would strike a DC manager as plain common sense—for instance, keeping fast-moving items close to the end of pick aisles to limit travel time. What distinguishes Toyota's lean model from other waste-reduction programs is the level of detail and its fixation with accurate location information. "Toyota obsesses with it to get darn near 100-percent storage accuracy," Womack says. "The worst kind of waste is 'treasure hunting.'" Another key characteristic of the Toyota system is frequent reordering. That may seem antithetical to managers who've spent their careers trying to reduce transportation costs, but Womack insists it has paid major benefits for Toyota and others.

Toyota arranges pickups from suppliers as often as four times a day. Suppliers have detailed instructions on how to ship the goods. Toyota DCs ship to dealers every day, based on orders the dealers placed the previous night (except in the case of special orders). Toyota then places orders with its suppliers based on what ships out of the DC.

"The idea is rapid, frequent replenishment," Womack says. True, the system cannot work for every part—some come from Japan. But it works for enough parts to make it pay off handsomely, if it's done correctly. Any flaws in processes show up quickly when inventory levels are based on short cycle times.

Lean principles can be applied to any industry. For example, in Lean Solutions, Womack and Jones profile the successful lean distribution program run by Tesco, the giant United Kingdom-based grocer. Under the direction of its supply chain director, Graham Booth, Tesco and its soft drink supplier, Britvic, designed a process whereby Britvic bypasses its own DC and delivers beverages directly to Tesco's facility, which is now set up as a cross-dock operation. From there, trucks fan out to deliver the soft drinks (on store-ready dollies) to Tesco's stores several times a day. The same trucks that deliver the dollies pick up empties, return them to suppliers, and pick up full dollies to bring to the Tesco DC to start the cycle again.

Results have been impressive. Britvic uses Tesco's point- of-sale data to determine exactly what is needed for replenishment, which means orders are based on actual sales, not hazy forecasts. Tesco has realized substantial inventory savings as a result. Then there's the 75-percent reduction in cycle times. Moving a product from the Britvic filling line to the end customer takes just five days, down from 20. Encouraged by its success, Tesco has now applied the techniques to more than half its fast-moving products, Jones and Womack report.


Everything in its place
The pursuit of perfection and obsessive attention to detail that characterize Toyota's lean model are reflected in Menlo Worldwide's 278,000-square-foot Brownstown facility, known as the Great Lakes Lean Logistics Center (GLLLC). Look around, and you'll notice process maps on the wall of a room off the main warehouse. You'll see taped outlines on the floor and walls to indicate the precise location of every cart, every tool, every barrel—often with photos showing what goes where. While leading a tour of the facility, Meaghan Diem, a Menlo Worldwide logistics manager, nudges a barrel back between its taped lines. "Some people think this is organization overkill," she says, "but it makes it almost impossible not to make it right."

Menlo Worldwide's experience with its automotive warehouses bears out Womack's contention that implementing lean processes need not be expensive. "We're seeing zero- cost startups," says Jeffrey Rivera, director of automotive warehousing for the company. Rivera, who is based in the company's Auburn Hills, Mich., office, is largely responsible for implementing lean processes in Menlo Worldwide's facilities. (The Brownstown Township warehouse, which opened in 2003, was the first to go lean.) Those startups, he notes, tend to take only a few days.

Womack says that in the ideal lean system, suppliers would be close by, but he acknowledges that's not always possible today. The Menlo facility is a case in point: Many incoming parts arrive via ocean liner at U.S. West Coast ports, where they're loaded onto stack trains for the cross- country trek. Others are sourced in North America. As for outbound freight, the GM parts distribution operation sends shipments out to more than 4,500 dealers.

Out on the floor, hourly workers are packing shipments for delivery to GM dealers or DCs. Small teams are packing and palletizing parts that will head out the door later in the evening, following a process the workers themselves designed (oftentimes using a table they also designed). The teams plan their work based on paper work orders, pulled down from Menlo's homegrown Supplier Inventory Management System.

Most picking activity at the Brownstown facility is based on a 20-minute work cycle. Managers assign each worker a task that should take 20 minutes (they base their task time estimates on experience and testing). That might mean one or two large parts for one worker, and 15 small parts for another. Diem, who works on lean implementation at Menlo facilities around the world, says the idea is to create a stable, predictable workflow. "We don't have control over what's coming in or going out, but we can level the processes," she says, adding that workers appreciate knowing the plan for the workday at its outset.

One of the steps Menlo Worldwide has taken to prevent disruptions to its workflow is to cross train workers. In time, they become familiar with nearly every process on the warehouse floor. For example, Marcus Price, a team leader currently assigned to the warehouse's Detroit Diesel operations, says he has worked in receiving, inventory and shipping on the GM side of the warehouse as well as in the Detroit Diesel part of the operation.

All on board
Menlo Worldwide realized from the outset that the lean program's success depended on engaging the hourly employees. Without their cooperation, the effort would be doomed, says Rivera, who worked as a consultant before joining Menlo Worldwide. "I worked with a lot of companies who were trying to implement the latest thing," he says. "You knew they were going to fail. They didn't have the cultural buy-in. We learned the importance of building from the ground up. Now, we have an army of eyes for waste."

The eyes he refers to belong to the floor workers, who are encouraged to speak up when they see ways to improve processes (much like the Toyota system, where any worker can shut down a production line if something is amiss). Price says that 75 percent of the ideas for process improvement come from employees on the warehouse floor. Their ideas have proved essential to Menlo Worldwide's efforts to fulfill its commitment to deliver ongoing cost savings to General Motors.

Though it encourages employees to offer ideas on an impromptu basis, Menlo Worldwide also solicits suggestions through a more formal process: its continuous improvement program. On a regular basis, the company assembles kaizen teams—teams formed to root out waste and inefficiency. Rivera reports that employees at every level participate in these teams, which may also include an engineer and a customer. The teams spend three to five days collecting data, identifying targets—called SMART targets—and preparing an implementation plan. Consistent with the Toyota protocol, their plan must fit on a single sheet of A3 paper. (That's an international standard for paper about 11.7 by 16.5 inches, or more precisely, 297 by 420 millimeters.)

As with any productivity program, there's always the danger that enthusiasm will wane and performance will slacken. To keep performance from backsliding, Menlo Worldwide relies on incentives. All staff members participate in the incentive program, says Robert Blevins, operations manager at the GLLLC. The plan is set up so that their compensation is partially determined by performance against specific KPIs (key performance indicators).

The efforts to keep employees engaged and to reward them for their efforts have brought an unexpected benefit for Menlo Worldwide. Blevins reports that the turnover rate at the facility is less than 2 percent. "People like to work here," he says.

Do it yourself
The lean program's results speak for themselves. Menlo Worldwide reports that warehouse productivity improved 32 percent between January and November last year, measured by gains in lines per hour. Defects, measured as the error rate, dropped by a whopping 44 percent. The on-time percentage for shipments was north of 99 percent in every one of those months, hitting 100 percent in eight of 11 months. And those involved think they can do more. "We're a long way from getting there," says Rivera.

The GLLLC has been a proving ground for lean practices at Menlo Worldwide, and the company intends to spread the word—and the lessons it has learned from its automotive business—across its operations. The third-party service provider, a $1.3 billion operating company of CNF Inc., also serves clients in the high-tech, retail, chemical/industrial and consumer packaged goods industries.

Though Menlo had the benefit of inhouse expertise, Womack insists that going lean doesn't require a swarm of consultants; a single champion will do. "You only need one guy," he says. "Compared to fixing complicated factories, rethinking logistics and distribution is something you can do quickly and spend little. Toyota did it for almost no cost. It is not some deal where you need to hire an expensive consultant. You could almost do it all yourself."

five easy steps

In Lean Thinking, James Womack and Daniel Jones suggest
the following five-step process as a guide to implementing lean principles:

• Identify what your customers expect and determine what value
  you add to the process. For distribution and logistics, that usually means
  greater velocity. What it doesn't mean is a lot of handling. Distribution people
  assume all the handling they do adds value, but customers don't see it that way.
  "No customer asks if a product has been touched a lot," Womack says. "Most
  people just want their product. All those touches from a customer standpoint are
  irrelevant. From an end customer standpoint, less logistics is better."
  
• Plot the value stream. Identify all the steps involved in
  moving goods through the system. Womack and Jones encourage the use of
  value-stream mapping—literally diagramming all the steps in the distribution
  process, from order to delivery. That diagram may help you spot activities that
  add no value so that you can eliminate them.
  
• Make the process flow. Dismantle any roadblocks that prevent
  the free flow of materials through the facility.
  
• Pull from the customer. The lean system is a pull system,
  drawing materials and merchandise into the distribution network based on what
  customers want (not on hazy forecasts).
  
• Pursue perfection. Root out any remaining waste. Then do it
  again, and again, and again.

the business of lean

As interest in all things lean spreads, so does the demand for resources. In less than two decades, the movement has spawned Web sites, training courses, audio cassettes, consulting services, videos, workshops, Webcasts, and an institute and academy, not to mention white papers, articles and books.

Though the lean movement has led to lucrative second careers in consulting for many retired Toyota executives, the messiahs of lean are James P. Womack and Daniel Jones. Womack and Jones, along with Daniel Roos, wrote The Machine That Changed the World, the 1990 book that brought the concept to the nation's attention. They have continued to explore the subject in subsequent books, publishing Lean Thinking in 1996, Seeing the Whole: Mapping the Extended Value Stream in 2002, and Lean Solutions last year.

Today, Womack serves as president of the non-profit Lean Enterprise Institute (www.lean.org), which he founded in 1997. Based in suburban Boston, the institute is a training, research and publishing organization dedicated to spreading the message of lean. (Womack emphasizes that the institute is an educational organization, not a consultancy. He asks readers interested in finding a consultant to look elsewhere.) Jones is founder and chairman of the Lean Enterprise Academy (www.leanuk.org), a parallel organization based in the United Kingdom.