The Chinese Central Government recently modified China's national holiday schedule. In 2008, the holiday falling the first week in May will be reduced from seven days to three. Although a shortened holiday seems minor, the change will directly impact foreign demand scheduling, inventory management, lead time estimates and downstream planning. When considering operations in China, companies should determine how previous processes will be modified, where costs may be saved and other considerations.
Effects on the Supply Chain
Some may say four added days of production will not change anything! Isn't that better? Why modify the schedule? Others, who were not cognizant of the holiday, will remain unaware. If a supply chain is controlled by one company, the effects may be minimal. Yet for the majority, this adjustment will create lower supply chain inventory, increased lead times and hence a higher risk of delay, potential difficulties in securing production capacity and greater demand variability in downstream operations. These effects are real and will impact the ability to maintain lower costs.
Think of what is at play. With the bottleneck of a holiday, companies will increase inventory to reduce the risk of stock-out during manufacturing downtime. Higher inventory levels mean lower lead times as product can move faster to the customer. In previous years, many foreign buyers would schedule their orders prior to the holiday to ensure delivery taking into account production and transportation lead time. In this case, both the manufacturer and buyer forecasted higher demand levels in the beginning of the year or most likely immediately following the February holiday.
When the bottleneck is removed, less incentive is needed to place orders during this time period. On the foreign side, we should therefore witness smoother inventory levels between February and October and decreased variability in order schedules. This is if the manufacturer and buyer work closely together and is exclusive of peak demand during the summer months. If we do not see a change on the buyer's side, than higher inventory levels may be maintained farther upstream increasing costs.
One consideration is where will inventory be maintained? Previously, inventory was maintained most regularly in-transit and in the buyers location to ensure product was close to the customer. Stock-out during a downtime in production generally brings a high cost. With the schedule change, reviewing inventory management processes becomes critical to maintain the lowest holding costs. The ratio of onsite and offsite, particularly overseas inventory, should change based on lower holding costs in China.
For manufacturers, lower inventory should also be maintained more consistently throughout the year. With lower inventory, lead times will lengthen creating a greater chance of stock-out. On the other hand, demand variability will increase, as order scheduling will be less consistent. In this case, the manufacturer may maintain higher inventory throughout the year to offset any fluctuations. Here holding costs will rise. If a manufacturer does not change their forecasts, unnecessary inventory will be kept on hand early in the year. This will reduce cash liquidity, which equals operational flexibility, and increase costs. Either way, with the movement in exchange rates, you can bet these costs will be passed onto the buyer.
Change in Forecasting Models
The largest challenges arise from demand-production synchronization. The key is in future forecasting models, which we commonly see are derived from previous year planning. If previous years accounted for the holiday, how will 2007 forecasts be used or modified?
When we look at this scenario, demand planning independent of other factors should remain relatively consistent. This data is based on marketing and sales estimates. What has changed is procurement and operations management or translating these demand figures into production. In this scenario, orders placed prior to the previous holiday should modify lead time forecasts. Importantly however, this must change based on the manufacturers inventory policies. Again, working with suppliers on their inventory management policies and downstream procedures will be critical. What we should observe is an increase in order frequency and lower batch size to optimize profit generation. How many companies are positioned to make this adjustment?
The supply chain effects are fairly clear, however what else must we consider when discussing this change? One factor is manufacturers who continue to observe the holiday. Some people do not like change. I know we all enjoy our holidays. Some manufacturers may choose to shutdown during the first week in May. Problems can be mitigated by discussing next year's planning with a supplier beforehand.
As we move later in the year, what effects can we look for in end of the year holiday demand and production planning? The lengthy duration of time between February and October will be critical to note. Inventory for raw materials is certain to produce bottlenecks as forecasting errors will occur. Lower work-in-process inventory during the summer months may create longer delays as production ramp up will be greater at the end of summer. This duration will also undoubtedly affect worker moral and potentially productivity as the year drags on.
The effects of the holiday change will impact many companies, but it is expected few will actually modify their existing schedules. Many will not observe any direct affect, yet they will feel it, either through product delays or increasing costs. The critical piece is to identify these variables and modify existing plans to understand the cost impact, and predict potential challenges. By working closely with downstream operations, a company will better position itself for 2009 where the ripple effect of not changing will be more pronounced.
Bradley A. Feuling is the CEO of Kong and Allan, LLC, based in Shanghai, China. Kong and Allan is a consulting firm specializing in supply chain operations and corporate expansion. http://www.kongandallan.com
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