Executive Briefings

Optimizing Inventory to Respond to Demand Variability

Analyst Insight: While much has been written about demand driven, daily demand variability drives operations crazy. Most current inventory planning and optimization applications are disconnected from daily reality resulting in operations relying on custom spreadsheets and tribal knowledge to reconcile the gaps between plan and actual. In addition, the inventory planning applications are often disconnected from the optimization applications (if implemented at all), further exacerbating the operations conundrum. - Rich Sherman, Supply Chain Discipline Expert at Trissential

The propagation of forecast error throughout a supply chain results in increased variability and costs, based on time delay in the communication and response of the network to the daily variance of actual to forecast. This variation is exacerbated by aggregated volume from points of consumption backward to the material sources' locations, i.e., the bullwhip effect. Rather than making major investments in futile forecast improvement efforts, an increasing number of companies are turning to inventory planning and optimization decision support applications.

That's the good news. The bad news is that the applications are often, at best, bolt-ons and usually planning and optimization are also disconnected. Simultaneously, operating personnel are not provided the tools to manage daily demand variability. The result is less than expected improvements in performance.

While we expect to see the major planning applications incorporating inventory optimization logic into their product suites, we don't expect to see them or the major ERP players providing embedded optimization algorithms and daily decision support tools in those same applications. Yet, that's where the problem lives.

Most companies' planning processes are actually more top-down-driven than demand-driven. It all begins with an S&OP or integrated business planning process that looks at monthly and weekly demand. While often calculated at the SKU-by-location level, most companies at the planning level are looking at product families or other aggregation points "¦ and, at the aggregate, it all looks pretty good. Until it meets reality, then all heck breaks out.

There are a growing number of "boutique" or specialty companies, consultants, and university professors that are providing companies with new "tools" and processes that are designed to plan and optimize inventory (in its various stages), as well as the resources necessary to convert and move it at the daily operations level replacing the custom spreadsheets and supporting the day-to-day planners and schedulers (who, by the way, are making million-dollar working capital decisions). These tools recommend actions enabling operations to profitably respond to demand by dynamically setting safety stock and inventory control bands daily to increase response time and visibility to manage variability.

Taking a bottom-up approach to optimization, these tools look first at the production resources and optimize them based on most profitable economic value add, not simply cost.  They address all the variability germane to the problem to effectively "right size" inventory for improved customer service while eliminating slow-moving, excess and obsolete inventory and reduce safety stock.

Using accurate daily inputs, the corporate planning systems are provided a "reality check" that's used to improve the overall S&OP or IBP processes.  We've never seen the ROI for implementing these tools underachieved, and they're usually implemented in half the time and with half the budget.

                                      The Outlook

In 2013, we expect to see companies placing an increased focus on support for operations excellence. As competition for capital intensifies and the economic climate remains uncertain, executives will realize the hidden treasure in operations. Daily inventory planning and optimization tools can unlock the treasure chest of working capital that can be liberated in operations. Look for the "tools" companies to emerge as the key to the opening the working capital treasure chest.


Keywords: supply chain, supply chain management, value chain IT, supply chain management IT, supply chain solutions, supply chain systems, logistics services, logistics & supply chain, demand variability

The propagation of forecast error throughout a supply chain results in increased variability and costs, based on time delay in the communication and response of the network to the daily variance of actual to forecast. This variation is exacerbated by aggregated volume from points of consumption backward to the material sources' locations, i.e., the bullwhip effect. Rather than making major investments in futile forecast improvement efforts, an increasing number of companies are turning to inventory planning and optimization decision support applications.

That's the good news. The bad news is that the applications are often, at best, bolt-ons and usually planning and optimization are also disconnected. Simultaneously, operating personnel are not provided the tools to manage daily demand variability. The result is less than expected improvements in performance.

While we expect to see the major planning applications incorporating inventory optimization logic into their product suites, we don't expect to see them or the major ERP players providing embedded optimization algorithms and daily decision support tools in those same applications. Yet, that's where the problem lives.

Most companies' planning processes are actually more top-down-driven than demand-driven. It all begins with an S&OP or integrated business planning process that looks at monthly and weekly demand. While often calculated at the SKU-by-location level, most companies at the planning level are looking at product families or other aggregation points "¦ and, at the aggregate, it all looks pretty good. Until it meets reality, then all heck breaks out.

There are a growing number of "boutique" or specialty companies, consultants, and university professors that are providing companies with new "tools" and processes that are designed to plan and optimize inventory (in its various stages), as well as the resources necessary to convert and move it at the daily operations level replacing the custom spreadsheets and supporting the day-to-day planners and schedulers (who, by the way, are making million-dollar working capital decisions). These tools recommend actions enabling operations to profitably respond to demand by dynamically setting safety stock and inventory control bands daily to increase response time and visibility to manage variability.

Taking a bottom-up approach to optimization, these tools look first at the production resources and optimize them based on most profitable economic value add, not simply cost.  They address all the variability germane to the problem to effectively "right size" inventory for improved customer service while eliminating slow-moving, excess and obsolete inventory and reduce safety stock.

Using accurate daily inputs, the corporate planning systems are provided a "reality check" that's used to improve the overall S&OP or IBP processes.  We've never seen the ROI for implementing these tools underachieved, and they're usually implemented in half the time and with half the budget.

                                      The Outlook

In 2013, we expect to see companies placing an increased focus on support for operations excellence. As competition for capital intensifies and the economic climate remains uncertain, executives will realize the hidden treasure in operations. Daily inventory planning and optimization tools can unlock the treasure chest of working capital that can be liberated in operations. Look for the "tools" companies to emerge as the key to the opening the working capital treasure chest.


Keywords: supply chain, supply chain management, value chain IT, supply chain management IT, supply chain solutions, supply chain systems, logistics services, logistics & supply chain, demand variability