presentation supply cahin

8/3/2019 Presentation Supply Cahin

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Source: Profs. Ananth Raman &

VG Narayanan/ Harvard


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In 2001 its much vauntedsupply chain snapped

CISCO shocked shareholdersby disclosing $2.5 bn w/off-

50% of quarterly sales

Contractors had everythingto gain and nothing to lose bycontinuing to build inventory

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Misaligned Supply Chain


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Insight

A supply Chain works

well only when itsplayers equally sharerisks, costs and rewardsof doing businesstogether.

How to make it work?

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Aligned Supply Chains give big payoffs

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1. Acknowledge incentiveproblems

2. Identify root causes ofmisalignment

1. Hidden action

2. Hidden information

3. Badly designed

incentive schemes3. Align or redesign

incentives

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Contract Based

Information Based

Trust Based

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Implementing change in supply chains is oftendifficult due to behavioral or organizationalissues

At times, hard to change peoples behaviourbecause of habit or lack of knowledge.Education helpful: P&G; Toyota

Often problem can be traced to incentives.

Need to focus on not only how much, but also, how,various people and firms are compensated.

Misaligned incentives at core of trust problem.Sustainable trust requires incentive alignment.

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Supply chain management involves managingprocesses across organization and firm boundaries. Important to consider incentives for different decision-

makers and firms.

Good supply chain management involves thinkinglike an engineer(people are dumb but honest)and like an economist ( people are dishonest but

smart). Designing suitable control structures vital for e-

commerce intermediaries (e.g. e-bay type or B2Bexchanges)

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PrincipalAgent

Designs IncentivesAllocates Information &

DecisionsChooses

Actions

Find problems & solutions through rigorous role play in the supply chain.

Finding problems & solutions requires creativity. Framework alone does not lead

to formulas that can be applied directly.


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HIDDEN ACTION (MORALHAZARD)

HIDDEN INFORMATION(ADVERSE SELECTION)

Salesperson effort

Substitute products(Private Label)

Moral Hazard on SafetyStock.

Pre-Contract

Heart-attackinsurance

SoundScan: trend-setting retailers mightnot join

Owens & Minor

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Costly forAgent NotContractibleImpactsPrincipalandand

Observable EnforceableVerifiable andand

Contractible


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Soundscan electronically tallies every single recordsold by 85% of music retailers in USA. Summaryreports sold to supply chain.

Newbury, which frequently carries products that

feature, and works to promote new artists is a leadingindicator of consumer demand.

Newbury shared sales data with Soundscan for 6 years

Soundscan said data would be shared only inaggregate form

In addition, Newbury believed that Soundscanwould not use its expertise to advise other retailerson merchandising and inventory planning

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At a trade show, Handleman Co., a rack-jobber toWalMart, bragged about how they were able to discernregional patterns from Soundscan data and use them tostock merchandise appropriately at Wal Mart

Follow-up phone calls revealed that Soundscan itselfhad engaged in consulting arrangements with someretailers

Newbury decided to withdraw from Soundscan

Adverse Selection: Retailers that are leading indicatorsof demand would choose to stay out of Soundscan

Taking logic to extreme, no retailer will join Soundscan

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O&M, a $ 3 billion distributor of medical & surgical supplies, wasreeling under substantial losses in 1995, primarily due to themisaligned incentives in its supply chain

Cost-plus contracts in supply chain (e.g. 7% above cost)

Hospitals wanted to buy in smaller quantities

w/out paying us more , hospitals wanted us to carry more of theinventory, and make more deliveries in lower units of measure

O&M wanted to ship larger quantities

Cherry Picking Large box of adult diapers that cost $ 30 yielded O&M a gross margin

$2.10, while a small box of cardiovascular sutures that cost $800 yielded a

gross margin of $56 With cost plus contracts O&M was also unable to identify & pursue

more profitable customers- costplus contracts made it hard for O&Mto evaluate the profitability of diff. customer accounts at the time ofsigning a contract.

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Barilla : Salespeople paid on commission basedon sales in a period even tho logistics hadshipping decisions

Bread Co.: Drivers rewarded for sales, notpenalized for stales.

Better incentives can be designed in thesesituations

Often, even bright people fail to anticipate selfserving behaviour from other firms anddecision makers

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Contract based Information based Trust & Relationship

based

----------------- Identifying which one is

appropriate under diff.circumstances requiresmanagerial judgment

and knowledge ofbusiness. Hence criticalrole for generalmanager

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Moral Hazard

Contractible outcomes:

e.g. sales commission

Bread company (stale penalty) Bryn-Mawr Stereo store manager incentives

Adverse Selection

Warranty

Return-rights Fees=% savings

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Moral Hazard

Measure more variables (e.g. Campbell Soup, trackwhat distributor sold (versus what they bought)

IT, mystery shoppers Adverse Selection

Credit rating, Bill Feth at AESCO

Activity-Based Costing at Owens & Minor helped in

identifying hospital type. Activity based pricingovercame moral hazard.

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Key idea in trust-based solutions is toconvert episodic relationships to repeatinteractions.

Intermediaries Li & Fung reduces moral hazard by ensuring both

supplier & importer stick to contract.

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ExportersMoral Hazard-Child labor, bribing-Reneging on promisesAdverse SelectionDo not know importers

Track record

ImportersMoral Hazard-reject good products thatDo not sell wellAdverse SelectionDo not know exporters track

record

Li & F


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Recognizing Potential Incongruence Often obvious

Expect during reengineering, auctions

Pinpointing Goal Incongruence

Role Play: How would your decisions have been different? Look for hidden action and information

Can those differences be due to incentives? Be open minded

Use solutions presented to overcome problems Contracting or information then Trust/ structure

At times, measurement w/out incentives enough (e.g. forecasterrors, lost sales)

Solution for one firm, might cause problems for others

Firm & decision-maker incentives

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Impact of Store Manager Incentives in

Consumer Electronics Retailing

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BRYN MAWR TWEETER

Bonus based on % ofsales Min 0.2%

Max 5%

Deduction in pay basedon shrink

Deduct $1 in pay for everydollar of shrink

Bonus based on % ofstore operating income Min $300

Max 20%

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0 50 100 150 200 250

A

B

C

D

E

F

G

H

I

Avg Aftr

Avg B'fore

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-1200 -1000 -800 -600 -400 -200 0 200

A

B

C

D

E

F

G

H

I

Avg Aftr

Avg B'fore

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BRYN MAWR: DEFENSIVE TWEETER:AGGRESSIVE

Sales preventionenvironment

Key Holders

Focus

Disintcentivizing badbehaviour

Sales people 2nd classcitizens

Sales Driven environment

Sales Leaders

Focus.. Incentivizing good

behaviour

Entrepreneurs

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IncentivesMonetory

AndNon-

monetory

StoreManage

rBehavio

r

Sales

Shrink

StoreProfit


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IncentivesMonetory

&NonMonetory

Store

ManagerBehavior

Sales

Shrink

Store

Profit

Inventory Turnover

Growth in Industry

Advertising

APP

Assortment

Processes/ Training


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9.94% in SALES

An average store

generates185,946

additional sales dollars

per year

SHRINK also changed

An average store loses

8,834additional dollars

per year

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$ 2,231,348 additional SALES

vs

$ 106,006 additional SHRINK

per yearINCREASE IN NET PROFIT AMOUNTS TO

2.5% OF SALES

(Retailers typically earn 2% of sales)

Tweeter has applied similar approach at otheracquisitions.

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