Friday, June 15, 2012

Focus and Leverage Part 123

Before we dive into the TOC Distribution and Replenishment solution for parts supply, I want to provide a visual representation of your typical push system so that you can appreciate more what TOC’s part’s replenishment method will do for your company.  I’ve presented these visual images in an earlier posting, but I think it will be helpful to see and review them again.

For many companies the supply chain/inventory system of choice is one often referred to as the minimum/maximum or MIN/MAX system. In this type system, parts are evaluated based on both need and usage and then minimum and maximum stock levels are calculated for each part or SKU (Stock Keeping Unit). There are three basic rules of the min/max system that are intended to both control and minimize the amount of inventory within the system.

1st Rule: Determine the minimum and maximum levels for each SKU.

2nd Rule: Never ever exceed the max level.

3rd Rule: Never reorder until you go below the min level (i.e. the re-order point).

The assumptions behind these rules are imbedded in the misguided cost-world thinking which believes that the pathway to profitability is through saving money rather than making money by increasing throughput.  So in order to maximize the amount of money you save on parts, traditional Cost Accountants say that you must minimize the amount of money you spend parts. And in order to reduce the amount of money you spend on parts, you must never (1) buy more than the maximum amount and (2) never spend money until it is absolutely necessary (i.e. when your supply reaches the minimum level).

The theory behind the min/max concept is that parts or SKUs should be distributed and stored at the lowest possible level of the user chain. This is the essence of a  push system, or one that pushes parts through the system to the lowest possible level.  In this type of system the parts are consumed until the stock level reaches or falls below the min level and then an order is placed for more parts or SKUs. The order goes back up the chain to either a central supply center or placed directly to the vendor.  When the order is received it is filled and pushed back down the chain to the lowest point in the supply chain, hopefully before the remaining stock runs out.

On the surface it might appear as though the min/max system could work in terms of supplying the needed parts to the end user, but experience tells us there are some significant problems with this system.  First, the system keeps the end user in a reactive mode simply because when min levels are the reorder point, the probability of an SKU stock-out approaches certainty.  The reason for this is that many times the lead time to replenish the SKU or part exceeds the minimum stock level.  Figure 1 is graphical representation of this stock-out effect with the curved red line demonstrating the SKU usage through time and how likely you are to experience a stock-out situation.  It’s not unusual when the min/max system is used to have incorrect assumptions regarding supplier lead times.

 Figure 1
Over time this same identical pattern repeats itself with stock-outs occurring on a very frequent basis just like what we see in Figure 2. 
Figure 2
So how can we prevent stock-outs from happening on such a regular basis?  In my next posting, I will demonstrate the differences between the min/max system and TOC’s Dynamic Replenishment Model.

Bob Sproull

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