Tuesday, April 8, 2014

Focus and Leverage Part 335

In Part 3 of this series on Parts Replenishment Systems, we’ll take a look at the system’s aspect of the most popular replenishment system in use today, the Minimum/Maximum Supply System.  Once again, I want to thank Bruce Nelson for writing this series of postings.

The System Analysis

If the system, as a whole, isn’t producing the desired results, then what segment of the system needs to be changed to produce the de­sired results? Perhaps the minimum and maximum levels are the wrong rules to engage, and saving money is the wrong financial meas­ure to consider. In order to solve today’s problems, we must think at an order of magnitude higher than we were thinking when we developed yesterday’s solutions. In other words, yesterday’s solutions are causing most of today’s problems. One of the most important aspects of any manufacturing, production or assembly operation system is to have and maintain the ability to supply raw materials or parts at a very predictable level. If the parts availability goes to zero, then production activities stop. The continual availability of parts, accurately monitored, implies a supply-chain system that contains all of the necessary and robust features to support the customer-demand requirements.

The Most Common Supply-Chain System

The minimum/maximum supply-chain system was developed years ago, and at the time it brought forward some favorable improvements. Then and now, the functional theory behind the supply-chain minimum/maximum concept is that supplies and materials should be distributed and stored at the lowest possible level of the user chain. In essence this is a push system—one that pushes parts through the system to the lowest possible level. It seems to make some sense. Parts must be available at the lowest level in order to be used. In this type of system the parts are consumed until the minimum quantity is exceeded, and then an order is placed for more parts. The parts order goes up the chain from the point-of-use (POU) location back to some kind of central supply center, or orders are placed directly back to the vendor depending on the situation. When the orders are received at the central supply center, they are pushed back down the chain to the lowest POU locations. Figure 1 defines a simplified version of this parts-flow activity. This flow might not be applicable to all situations, but to most it will make sense. Some companies and smaller businesses will have fewer steps, in that they order directly from a vendor and receive parts back into their business without the need for large, more complex, distribution systems. However, the thinking behind the minimum/maximum system will still apply, even to those smaller businesses. Larger companies or those with numerous geographical locations will most likely have developed some type of a central supply and/or distribution locations that feed the next level of the supply distribution system. Regional warehouse versus local distribution points. The distribution points in turn feed the companies or business segments that use the raw material and parts at the final POU to build products. Some distribution systems may even be more complex than what is displayed here. But even with increased complexity, the results they are trying to achieve remain the same— get the parts to where they need to be when they need to be there.

Figure 1: Parts and Inventory Flow from Central Distribution Location to POU Locations.

The model of a central supply system versus a decentralized system has volleyed back and forth for many years. Some say the supply system should be centralized at the user location to make supply activities easier and more responsive. Others argue that the supply activities should be decentralized to save money and reduce operating expense. Even with these continuing arguments, it seems that the current vogue is for the decentralized model of supply systems. For all of its intent to save money and reduce operating expenses, the decentralized system can and does cause enormous hardships on the very systems it is designed to support. With all of the intended good this type of system is supposed to provide, there are some top level rules that drive the system into chaos. Let’s look at some of these rules and understand the negative aspects that derive from them. Table 1 provides a summary listing of the top-level rules for the maxi-mum/minimum supply system.
  •   The system re-order amount is the maximum amount no matter how many parts are currently in the bin box.
  •   Most supply systems only allow for one order at a time to be present.
  • Orders for parts are triggered ONLY after the minimum amount has been exceeded,
  •   Total part inventory is held at the lowest possible level of the distribution chain - the point-of-use (POU)
  •   Parts are inventoried once of twice a month and orders place as required.
Even though the minimum/maximum system appears to control the supply needs and cover the inventory demands, there are some significant negatives effects caused by using this system. First and foremost, there is the problem of being reactive to an inven-tory or parts situation, rather than being proactive. When minimum stock levels are used as the trigger to reorder parts, some supply-chain systems—as they are currently organized and used—will have a difficult time keeping up with the demands being placed upon them. And there is an increased probability that stock-outs will occur, maybe for long periods of time. Stock-outs occur most often when the lead time to replenish the part exceeds the minimum stock available. In others words, availability of the part between the minimum amount and zero is totally depleted before the part can be replenished from the vendor. Figure 3 displays a graphical representation of this stock-out effect. The curved line shows the item usage through time and the possibility of a stock-out situation.

Variation also exists with this scenario, and stock-outs can either happen in a shorter or longer time frame—depending on the actual part usage. These stock-out situations are a recurring problem in systems that use minimum stock levels as the trigger to reorder parts.


Figure 2: Minimum/Maximum Parts Model
Note:  This is not the exact Figure that is in Appendix 5 in Epiphanized.

Of course, when parts are reordered, they are ordered at a level equal to the maximum amount, and the problem appears to quickly correct itself. However, there can be a significantly large segment of time between stock-out and correction, and if the part is urgently needed, its non-availability can cause havoc in the assembly sequence. Some might argue that the solution to the problem is to simply increase the minimum amount to trigger a reorder sooner in the process and avoid the stock-out situation. It is possible this solution could provide some short-term relief, but in the long run it causes inventory levels to go up and stay up. It is also possible that if you raise the minimum level, then the maximum level must be raised also. Many companies use a ratio variable to calculate the spread between mini­mum and maximum. If that’s the case, then total inventory levels will go up, which costs more money to maintain. This is totally counter to the cost accounting rules.

The minimum/maximum supply chain is based totally on being in a reactive mode—waiting for the part to reach minimum stock level before a reorder request is activated. In many companies the most used parts are managed using the minimum/maximum concepts and can frequently be out of stock. This MIN/MAX supply system also creates the disadvantage of having maybe several thousand dollars or hundreds of thousands of dollars tied up in inventory that may or may not get used before it becomes obsolete, modified or dated because of expiration. If additional money is spent buying parts that might not be needed, at least in the quantity defined by the maximum limit, then you have effectively diverted money that could have been used to buy needed parts.

In my next posting in this 6 part series on Parts Replenishment Systems, we’ll take a look at exactly why using the Minimum/Maximum Parts Replenishment System, we typically see part’s stock-outs with higher than required levels of inventory.

Bob Sproull

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