If Your Partner's A Gorilla . . .

During the last 15 years, if you lived in any relatively populated part of the U.S., you watched "big box" retailers spring up like mushrooms. As consumers, we liked, or at least took advantage of, the low prices and selection offered by Wal-Mart, Kmart, Home Depot, Office Depot, Lowe's, CompUSA, Barnes & Noble, PetSmart, and stores of their ilk. Being suppliers to these retail giants, however, was another matter. Manufacturers that stock the acres of store shelves saw the complexity of their customer-service requirements -- and hence their costs -- increase faster than their profit margins. The high sales volume was undeniably seductive, yet for some suppliers the costs involved made selling to mass retailers little more than a break-even proposition. "If you're a manufacturer, you can't come to the table and throw your weight around like you did for the last 100 years," notes Larry Schulsinger, vice president of Management Ventures Inc. (MVI), Cambridge, Mass. "You're now suffering great angst because your retailer customers are . . . racking up sales that dwarf those of even the biggest of old-line manufacturers -- sales of $10 [billion], $50 [billion], and soon even $200 billion a year." The difficulty in serving the mass merchant channel stems from the fact that these 20 top retailers have 20 different platforms or ways of doing business, Schulsinger points out. "This creates tremendous complexity for the manufacturers," he observes. "They cannot afford to come up with 20 different operating systems. They must build in some operational consistency, yet be flexible enough to give each retailer exactly what it needs and wants. If they don't, they'll lose the business to their competitors." Some manufacturers respond by complaining a lot and adding layers of costly customer services that erode their profits. Others consolidate their power into product niches -- "If you want diapers, you have to do business with us, because we own that category." Still others walk away from the business in disgust, unwilling or unable to change. But there is a fourth group -- the innovators. These companies attack the challenges of the mass-market channel with both fervor and creativity. In particular, they have discovered that managing their supply chain more effectively can unlock millions in savings and profits. For a large manufacturer, these savings are on the order of $300 million the first year and $50 million every year thereafter, contends Jeff Holmes, vice president of industry marketing for Manugistics Group Inc., a supply-chain-software developer based in Rockville, Md. Becoming collaborators Historically, relationships between manufacturers and retailers were adversarial. "In the early to mid-1990s, people started talking about partnerships, but these were strictly one-sided, to the retailer's benefit," notes Cleveland-based Les Artman, a principal with Mercer Management Consulting. "The retailer was trying to drive out costs. But what really happened was the retailer simply pushed costs back onto the manufacturer without much concern for the supplier's well-being. These were not partnerships, and everyone knew it." Today retailers and their suppliers have come to acknowledge, grudgingly in some cases, that they need each other. "Wal-Mart knows it needs Procter & Gamble and knows that P&G will be around 50 years from now," Schulsinger notes. "So they have built a strategy around P&G and 200 other key manufacturers. These manufacturers are core to Wal-Mart's market strategy. A symbiotic relationship has developed." But while these companies admit they need each other, these are not warm relationships. "We're talking about strong companies, with powerful trademarks and egos," the MVI analyst says. "Their success in the future, however, is about getting over their egos and issues and seeing what they can do together to reduce the tremendous inefficiencies that still exist in the supply chain. If they work together, they can eliminate these inefficiencies, and both will be stronger for it." Collaboration is the hallmark of the new-style relationship between retailer and manufacturer. "We're starting to hear this term," notes Artman, "and we're starting to see evidence of real collaboration. Retailers and manufacturers are sharing forecast information, promotional plans, and the like. Companies are starting to talk about driving cost out of the supply chain, rather than just shifting the cost burden from one party to another." One key to these relationships -- collaborative planning, forecasting, and replenishment (CPFR) systems -- is still in the early stages of adoption. "What's happened," Artman explains, "is that it has taken management a while to realize that their expensive ERP systems are not very good at forecasting, production planning, transportation planning, and other supply-chain execution activities." That's where CPFR or Advanced Planning & Scheduling (APS) systems come in. CPFR pilot programs are underway between several retailers and manufacturers, but they are limited in scope and effectiveness at this time, Artman reports. Wal-Mart's Retail Link, for example, allows manufacturers to electronically monitor their products' store-by-store sales. However, the information is of limited use to manufacturers because it is not in aggregate form. "Point-of-sale information has to be aggregated so a manufacturer can use it to decide how many widgets to make at its Richmond factory," the Mercer Management consultant comments. "You almost have to have some industry standards that describe how that information is passed back and forth, much like EDI transaction sets for purchase orders." The high-tech sector is working on exactly that. Some 40 manufacturers, resellers, distributors, and others formed a coalition called RosettaNet to adopt, promote, and facilitate the deployment of common global business process/transaction standards. RosettaNet's mission is to provide common business interfaces for supply-chain trading partners and their customers to exchange information and transactions. The lack of such common standards creates all sorts of expensive disconnects in the high-tech supply chain, says Fadi Chehad, CEO of Santa Ana, Calif.-based RosettaNet. Members of the IT supply chain, for example, have not yet agreed on such basic issues as how a part number is defined or how real-time inventory queries can be made through a stand-ard system interface. "Accurate inventory information therefore reaches manufacturers slowly and is often outdated by the time it is received," Chehad notes. "Manufacturers can do little more than guess at inventory levels across the supply chain at any given moment, greatly diminishing their ability to allocate resources efficiently, manage production cycles, and meet consumer demands in a timely manner." Being proactive While such attempts at CPFR evolve, what can manufacturers do to profitably meet the retailers' complex and demanding service needs? David Bovet and Sridhar Thiagarajan of Mercer Management Consulting, Lexington, Mass., recommend a four-step framework: Step 1. Understand the retailer's service needs. Identify the most obvious and easily explained requirements, clarify unexpressed or emerging requirements, and highlight mismatched goals. Pin down the elasticity of customer demand for specific logistics-related services. Mercer recommends using a methodology called Strategic Choice Analysis to systematically uncover the dollars-and-cents value that customers place on different service options. Step 2. Understand customers' lifetime value. "All too often, the logistics system is divorced from an understanding of customer profitability," Bovet and Thiagarajan say. "But this understanding is critical. Very few companies have the luxury of cherry-picking the best customers. And most large companies have to defend their top customers from nimble new entrants." Simple valuation techniques using existing cost-to-serve and revenue data can help approximate current profitability. Some companies go further and assess the expected lifetime value of each customer by identifying potential future profitability streams. "Most companies find it very hard to get accurate numbers as to what their supply-chain costs really are," notes Richard Sherman, senior vice president of market development, Syncra Software Inc., Cambridge, Mass. Syncra designs vendor-neutral "middleware" software that provides the linkages necessary for CPFR. "In the hundreds of companies I've talked to, I'd say less than 5% have an accurate picture of their cost to serve." Step 3. Segment customers and assign service bundles. Based on these needs and lifetime profitability assessments, manufacturers can determine the optimal level and bundle of services that they should offer each customer. Bovet and Thiagarajan recommend segmenting customers into four broad groups, corresponding to expected lifetime value and the overall distinctiveness of their logistics service needs and then further segmenting customers in each quadrant for their more specific needs. This kind of customer/service segmenting could evolve into what Syncra's Sherman calls menu-based pricing. This means a manufacturer would offer its products plus a menu of accompanying supply-chain services. The retailer could pick and choose among those services, with the price determined by the set of services selected. "Of course, this assumes I have a great system and can perform all these services profitably," Sherman explains. "The retailer is happy because he gets a merchandise solution that solves his problem better than the solution offered by my competitors." Step 4. Align the entire supply chain. Having defined customer service requirements, the company must then develop an aligned supply chain that can deliver on its promises. This is no small task and usually demands significant internal changes in everything from organization structure to corporate culture. "To do this," say Bovet and Thiagarajan, "it is necessary to coordinate the performance of every step of the supply chain, from design, sourcing, and manufacturing to sales and distribution, so the right service bundles are implemented. A manufacturer that offers a customized, bundled service approach has an edge over competitors that offer 'one-size-fits-all' services. This approach engenders flexibility for fast adaptation to changing customer needs. And it yields the optimum flow paths to satisfy service at minimum cost." Underlying this four-step program is the assumption that the manufacturer "has its own house in order," Artman notes. Translation: No functional silos. These have no place in a finely tuned collaborative supply chain. "Despite all that's been written and said on the subject, most manufacturers today are still organized into very functional silos. They have the age-old problem of each department trying to minimize their own costs, with no view to the whole." Small changes add up Although no manufacturer has succeeded in creating the ideal mass merchant service channel, many companies have made significant progress in isolated areas. 3M Co., St. Paul, has attacked customer profitability from several angles, one of them being delivery cycle time. The shorter the delivery cycle, the less inventory. Together with motor carrier Viking Freight Inc., San Jose, 3M has trimmed one to three days from its delivery cycle, while at the same time improving receiving reliability for customers. The foundation of 3M's cycle-shrink program is information derived from Viking's and other carriers' electronic routing guides (known as ANSI 217 transmission sets). These guides, which are constantly updated, lay out the carriers' service standards and transit times over given traffic lanes. "With electronic transmission of 217s, we have the service times the carriers say they can predictably deliver," explains Daniel Philippi, domestic air/LTL specialist at 3M. "We download the 217s into our rate/route system that we use to manage our transportation." 3M then combines the carrier transit times with other internal data such as order-entry and warehouse order-fill times to calculate order-ship and/or delivery dates. 3M's system chooses the best mode and carrier for the load based on the customer's requirements and schedules the order. If the customer requests a specific delivery date, 3M's system counts backward from that date and assigns a "ship-on" date, Philippi says. If the customer does not specify a date, the system counts forward and supplies a delivery date so the customer knows when to expect delivery. Rather than ship orders via a less-than-truckload (LTL) carrier the whole way from the 3M manufacturing/distribution facility, the manufacturer uses a combination truckload/LTL distribution system that delivers the freight on time for less. Viking Freight, for instance, moves 3M product in truckloads from 3M's facilities to a large regional distribution terminal close to the end market. At that point, Viking separates the freight into individual shipments to the final destinations. 3M notifies the appropriate Viking terminal that freight is on its way. Viking, in turn, contacts the retailers and begins scheduling delivery appointments. In the past, these appointments, which can take up to five days to obtain, could not be made until the freight was actually at the local distribution point. Either transit times were too variable, or no one knew the freight was coming. As a result, 3M product sat -- either in a trailer or a distribution center -- awaiting delivery. "What we have done," says Michael Marcum, vice president of corporate accounts for Viking, "is establish predictability. We deliver 99% on time. We know we need a couple of days' transit time for line-haul and add one to two days for distribution." In addition to preappointing and transporting the freight, Viking has assigned a full-time, on-site transportation planner to 3M to help manage freight flows efficiently and "address problems before they go out the door," Philippi reports. "They are familiar with our customers' receiving requirements and setup. They help us configure and identify our freight so it will move through Viking's terminal quickly and will facilitate our customers' receiving process. Many of our key accounts have unique delivery requirements such as special markings, a special way the SKUs have to be stacked or sorted on a pallet, the way they want some of our labels to be shown. We have to understand these delivery requirements in order to satisfy their receiving needs." Outsourcing the unprofitable Like 3M, Compaq Computer Corp., Houston, is always looking for ways to cut cycle times and save money. Two years ago, the PC maker made the strategic decision to outsource part of its assembly process -- the aftermarket option kitting -- to a third party. Compaq chose Logistix, a supply-chain-services company based in Fremont, Calif., that specializes in the high-tech sector. "We wanted to make sure we were only focusing on the things we had critical competency in, which is CPUs and laptop computers," recalls Phil Croy, senior commodity manager for Compaq's corporate procurement operation. "Things like aftermarket option kits were taking up valuable real estate at our Houston plant. We wanted to get them off that floor and put higher-revenue processes in their place." But what started as solving a simple capacity problem soon evolved into a much broader project. "As we got into it, and started shopping 3PLs [third-party-logistics providers], we found we could take the model farther than just factory outsourcing," Croy explains. "So we expanded the scope beyond manufacturing to include procurement of all the material needed to assemble the aftermarket kits and fulfillment of these Compaq-branded options to our resellers." Today Logistix buys the necessary materials from Compaq's supplier base, assembles them, and then picks and packs orders for final delivery. "Logistix handles the actual order fulfillment to our North American business-user customer base via e-commerce," Croy says. Based on shared Compaq forecasts, Logistix manages the supply chain for these accessories, positioning material in anticipation of actual orders. When a customer reseller places an order, Compaq forwards that information to Logistix, which ships the order out within two business days. Logistix feeds shipping information back to Compaq electronically, thereby allowing Compaq to close out the order management/payables cycle. "From customer service all the way through cost savings, it's been a slam dunk," Croy says. "It's the right thing to do, and we need to do more of it." Although doing business with mass merchants may never be easy, new technology tools and processes and more creative management of the supply chain can make it more profitable. With hundreds of millions of dollars in savings still on the table, implementing some of these changes is, as the Compaq manager says, the right thing to do.