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Cost-to-serve: Moving up the supply chain agenda, by Fraser Ironside, Head of Strategic Modelling, Barloworld Supply Chain Software

Fraser Ironside, Head of Strategic Modelling, Barloworld Supply Chain Software, makes the case that, in a market under pressure from intense competition and other pressures, regular cost-to-serve (CTS) analysis can improve decision making and shine a light on hidden costs.

As the supply chain grows ever more complex, organisations simply cannot afford to get their numbers wrong – which is precisely why CTS analysis is becoming increasingly essential in providing the intelligence needed to improve pricing, channel and logistics strategies.

Increased competition in the market is putting pressure on firms to innovate with new product offerings. For the supply chain, the resulting proliferation of product lines brings with it supply chain complexity and magnifies inventory problems.

A further challenge stems from the changes in consumer buying habits which are
challenging traditional supply chain strategies. If a retailer pursues a new or more aggressive home delivery strategy, for example, it is essential that they understand how the cost of servicing those deliveries will differ from the cost of servicing conventional retail stores, something that, increasingly, many large chains are now beginning to realise.

In some organisations – especially high volume FMCGs where margins are already tight – sales teams frequently commit to new deals and make pricing decisions without fully understanding the associated costs and margin implications for the business. This adds to the growing need for visibility over the cost of serving particular customer chains or delivering specific types of products so that pricing can be adapted accordingly.

Likewise, it is important to continually re-evaluate the impact of a customer or customer group’s changing service expectations. This might include a situation where, over time, a supermarket has requested price drops and more frequent deliveries from a manufacturer. In this scenario, the onus is on the manufacturer to deliver on both accounts as well as establish the implications for the overall profit viability of a particular SKU. In some cases, this may mean divesting a product line altogether.

Lack of clarity over the true cost per channel, which is often hidden among supply chain costs, remains hugely problematic. This means each time a sales executive lands what they think is a fantastic deal, in reality, it could fail to deliver on margins.

All of which makes it essential for modern businesses to use CTS to calculate the total of end-to-end product supply costs by market and channel. This analysis provides the facts and visibility needed to make decisions geared to reducing costs and can positively impact profitability while targeting specific areas of supply chain or greater efficiency. Likewise, CTS also has an important role to play when changing the service strategy for an existing product, customer or channel, or when bringing new products to market.

In some organisations, this much-needed CTS analysis is neglected. In others it is simply unknown. This is why this important cross-functional discipline should focus on the potential for cost improvement, with responsibility for it coming from finance.

Currently, many firms are unable to run CTS analysis due to operational silos. However, using network design software to build an integrated, end-to-end supply chain cost model, organisations can overcome these restrictions and test different routes to market, along with alternative service strategies for specific customers and products. This opens the door to improved outcomes, through testing decisions and understanding the impact on their eventual CTS and profitability.

A good example is the use of CTS analysis by a large dairy firm that was under pressure from tight margins. The organisation worked out the cost and profitability of each of its store deliveries on a multi-drop route, then fed this information to the commercial team. Based on this analysis, the team is now in a strong position to re-evaluate and re-negotiate the service. These adjustments may be achieved in different ways, such as changing the delivery frequency, increasing the minimum order, or raising the price.

In the healthcare sphere in the US, CTS forums identified over-ordering and hoarding by clinicians as causes of inefficiency, cost and waste. Success in reducing this came after supply chain staff educated clinicians about their purchasing patterns.

In the same sector, forums have brought together suppliers, providers and sometimes distributors, to work on reducing volume and frequency of orders. Trading partners were also asked to divide medical-surgical products into categories in order to work out which products were more effectively delivered by either distribution or direct shipment.

In one example, it was discovered by a not-for-profit healthcare provider with 650 physicians, that a distributor’s truck which arrived every day was only partially full. As a result, changes were instituted so that orders were no longer placed daily.

CTS’ ability to increase visibility over profitability and identify solutions often sees it being prioritised by businesses that are facing challenges. Yet, rather than simply being brought in as a solution for a declining company, in mature organisations, CTS analysis should always be carried out once a month as a minimum.

In today’s changing and complex market, CTS need to be viewed as a tactical tool for any modern manufacturer or retailer facing the changing demands of buyers. By sharing and using the subsequent reporting across the business, the visibility it brings will doubtless shine a light on margin erosion and, in turn, feed into improved decision making.

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