Best Practice: Distributor Resource Alignment Analysis



By Dr. Barry Lawrence, Texas A&M University



Senthil Gunasekaran, Texas A&M University









Pradip Krishnadevarajan, Texas A&M University




Distributors choose a customer type and then array resources (inventory, facilities, transportation, people, suppliers, etc.) to meet that customer’s needs. The previous blog posts discussed inventory, customer, and supplier stratification. Stratification is the critical decision for how resources are to be deployed. Prioritizing how customers will be supported and which customers to focus on are keys to profitability. Poorly deployed resources lead to low return-on-investment (ROI). Low ROI ultimately leads to business failure.

This blog post addresses how wholesaler-distributors “invent” themselves by determining what investments will be necessary to be successful. The key resources—inventory, customers, and suppliers—come together to form the distributor’s service offering. Distributors next develop strategies for each inventory/customer/supplier combination. Most distributors do this alignment in some form or fashion, but it is carried out informally. Informal systems are rarely optimal. Best practices dictate a more structured approach.

The new NAW Institute for Distribution Excellence book, Optimizing Distributor Profitability: Best Practices to a Stronger Bottom Line (available at http://www.naw.org/optimizdistprof), details best practices, their implementation, and ROI. These practices are valid in any economy, but the significance of one best practice versus another may change under different market conditions. Each month in this blog, we are introducing a best practice and how it can improve earnings and/or ROI under current economic conditions. We encourage readers to ask questions, debate results, and offer their own experiences with such practices so that we may further the knowledge of the community and the understanding of the science of distribution.

The book breaks business processes into seven groups (SOURCE, STOCK, STORE, SELL, SHIP, SUPPLY CHAIN PLANNING and SUPPORT SERVICES) based on various distributor asset categories. This month, we focus on aligning supplier, inventory, and customers as part of SUPPLY CHAIN PLANNING as shown in exhibit 1.



Best Practice: Distributor Resource Alignment Analysis

On a field trip to a popular ice cream manufacturer, a group of graduate students asked the operations manager if the firm had ever had a stock out on their best-selling product vanilla ice cream. He said it had never happened in his time there and that he didn’t want to be there if it ever did. The students were surprised because a 100% fill rate should be impossible—especially for a perishable product, since large inventories would result in obsolescence problems.

A tour of the plant made things clearer. The operations manager pointed to the company’s five manufacturing lines. He said that two ran vanilla and the other three ran all other flavors. The three multiflavor lines could be changed over after cleaning the equipment. The students saw how the 100% fill rate was possible: if there was a chance vanilla could stock out, all five lines would be running vanilla. The solution was to align supplier resources (the manufacturing lines) with the “A” item (vanilla ice cream).

But the operations manager had not told the whole story. As far as the manufacturing operations were concerned, vanilla would not stock out. Once on the truck, however, the firm faced a new challenge. The truck would make a run and might encounter higher than expected demand at customer operations. The driver would allocate the product based on serving the most important customers first and giving smaller amounts to the smaller customers.

The process aligned supplier resources (the manufacturing lines), with the top selling product (vanilla) and core customers. Managing relationships between core customers, “A” inventory and supplier resources are a fundamental part of managing the supply chain. Since no firm can do everything, it is critical to match what matters most up and down the supply chain. The alignment model is shown in exhibit 2.



Based on previous blog posts, here are the different inventory, customer, and supplier groups:
1) Inventory – A, B, C, and D
2) Customers – Core, Opportunistic, Marginal, and Service Drain
3) Suppliers – Strategic partners, Distributor controlled, Out of control, and Vendor controlled

There are about 64 possible combinations based on the above stratification segments. Let’s discuss a few common inventory-customer-supplier combinations and discuss appropriate strategies.

A building materials distributor was running a small door manufacturing plant. The manufacturing plant would buy the “slabs” (the door) and then install windows, hardware (door knobs, hinges, screws) and “hang” the door (put it in its frame). The process was labor intensive and did not allow for high volume operations, since the doors were sold to custom builders and could not be forecasted well. Buying the slabs offered three alternatives: (1) buy the slabs twice a year at a truckload discount (less expensive), (2) buy the slabs three or four times a year at a less than truckload (LTL) rate (more expensive), or (3) buy the slabs for next-day delivery in exact amounts from another distributor (most expensive).

Upon investigation, they found that buying at a truckload rate built huge inventories not justified by the discount. Following the same logic, they found that buying at LTL also created too much inventory. They were about to settle on using the distributor when they discovered that this distributor could deliver the doors completed with hardware and hung. The other distributor was so efficient that it was more cost effective to buy the complete door and close down their door shop.

From a resource alignment perspective, the distributor had a core customer who needed the doors so they had to provide them. The individual doors, however, did not rise to “A” inventory status, since they required too much inventory for too many different configurations. The solution of postponing the final configuration (doing your own door manufacturing) was also not effective since the doors did not command sufficient margins and did not have sufficient volume to allow for efficient purchasing and manufacturing processes. The doors were important to the core customer, however. To properly align resources, the distributor eliminated value add (inventory and manufacturing) on the doors and found a strategic supplier that could support that part of the business, so they could continue to invest in their “A” inventory (molding, trim, etc.).

Resource alignment requires understanding that manufacturing resources are not flexible and require a tremendous investment. Manufacturers of commodity items (low cost, low mix, high volume) require high volume to make up for low margins. Distributors have to smooth out demand and uncover as much business as possible (find and maintain core customers). Their investment in inventory has to be low due to their own low margins, and their market coverage has to be strong. Manufacturers of specialized, high-technology equipment need distributors to be willing to “take a chance” and bring on new items without fully knowing whether they’ll succeed. They must buy in large enough amounts to get manufacturers to sufficient volumes fast.

Electronics distributors meet this challenge by buying new items and then debiting obsolescence costs back to manufacturers. Products decline in value so fast that distributors would be cautious to buy new products in large amounts. The solution is for distributors to buy enough to make manufacturers successful. Then as prices decline with manufacturing efficiency, they can document and debit back to manufacturers. The process allows for manufacturing efficiency and distributor profitability.

Such an arrangement requires alliances with suppliers (strategic partners) and well-understood customers (core customers). Only with this type of arrangement can distributors make the right decisions on the right “A” inventory to align the supply chain.



About this Blog

“Managing in an Uncertain Economy” is a blog created by the Council for Research on Distributor Best Practices (CRDBP). The mission of the CRDBP, created by the NAW Institute for Distribution Excellence and the Supply Chain Systems Laboratory at Texas A&M University, is to create competitive advantage for wholesaler-distributors through development of research, tools, and education. CRDBP encourages readers of this blog to send in comments and e-mail this blog to other interested parties.