supply chain responsiveness and the inventory illusion · 2017-11-07 · responsiveness may be...

Over the last decade or so, thedesign and management of thesupply chain to achieve high levelsof responsiveness has emerged asone of the most critical issues inthe strategic positioning of acompany through use of its supplychain. It is increasingly beingrecognized that the competitiveperformance of companies such asDell, Amazon.com, Walmart andMcDonald’s, to name only a few,derives substantially from theparticular supply chain design thatthey have engineered andeffectively deploy on a day-to-daybasis. That responsiveness is amajor driver of competitiveperformance is now wellestablished. However, on thewhole, inventory is accepted to bea contributor to supply chainresponsiveness. In what follows, wecritically evaluate the role ofinventory in the achievement ofresponsiveness and our evaluationsuggests that, contrary to accepted

thinking, inventory may be asubstancial net destroyer of supplychain responsiveness.

Nature of Supply ChainResponsiveness and the Impact of Inventory

Chopra and Meindl (2004) definesupply chain responsiveness in thefollowing terms; “Supply chainresponsiveness includes a supplychain’s ability to do the following;Respond to wide ranges ofquantities demanded; Meet shortlead times; Handle a large variety ofproducts; Build highly innovativeproducts; Meet a very high servicelevel; Handle supply uncertainty”. Asimilar framework based on leanand agile concepts avers that theappropriate design and operationof the supply chain is driven by twocritical factors, the degree ofproduct variety that the firm’s iscalled on to produce and thevariability or uncertainty of market

This paper identifies the critical dimensions of supply chain responsivenessand analyzes and evaluates the role of inventory as a driver ofresponsiveness. Our analysis leads us to conclude that, far from being anunequivocal driver inventory is, in many cases, a net destroyer of supplychain responsiveness. The analysis leads us to conclude that more oftenthan not, inventory represents dead-weight that slows down a company’sresponse to market demand and supply conditions, and this, for a broadrange of the thirteen responsiveness dimensions. Even when inventorycontributes to quick market demand and supply responsiveness, it does soin the short term, and these short-term advantage become a significantdisadvantage in the long term. The paper establishes a direct linkbetween inventory and quality responsiveness. The long termresponsiveness disadvantage of inventory is particularly acute in the caseof a company’s quality responsiveness. Because of the critical importanceof quality to competitive performance in modern markets, this paperidentifies the quality impact of supply chain decisions as a promisingavenue for future research.

Supply ChainResponsiveness and the Inventory Illusion

48Supply Chain Forum An International Journal Vol. 6 - N°1 - 2005 www.supplychain-forum.com

Eisenhower C. Etienne PhD.,Associate Professor,

School of Business and Industry, Florida A&M University,

[email protected]

demand. According to thatframework, agile supply chaindesigns are best adapted to lesspredictable environments wheredemand is volatile, and thusuncertain, and the requirement forvariety is high. Lean supply chainsare suited to high volume, lowvariety and predictableenvironments (Christopher, 1998;Christopher and Towill, 2000;Towill and Christopher 2003).Therefore, the agile supply chain is also the responsive one.These frameworks underscore theidea that responsiveness ismultidimensional, which leads usto anticipate that the sources ofresponsiveness may be varied as well. Given this multidi-mensional nature of supply chainresponsiveness, we conjecture thatinventory may enhance some typesof responsiveness while destroyingothers and may, on balance, createa net responsiveness disadvantage.For present purposes, responsivenesscan be defined as the characteristicof the supply chain system thatendows it with the capability toeffectively and efficiently perform a broad range of changingrequirements of the end-productmarket.

The nature of the ambiguity as tothe role of inventory in supplychain responsiveness and theopposing conclusions that it leadsto are clearly revealed from thefollowing position taken by Chopraand Meindl (2004); “Inventory is amajor source of cost in a supplychain and it has a huge impact on responsiveness. If we think of the responsiveness spectrumdiscussed in Chapter 2, the locationand quantity of inventory can movethe supply chain from one end ofthe spectrum to the other. Forexample, an apparel supply chainwith high inventory levels at theretail stage has a high level ofresponsiveness because aconsumer can walk into a store andwalk out with the shirt they werelooking for. In contrast, an apparelsupply chain with little inventorywould be very unresponsive. Acustomer wanting a shirt wouldhave to order it and wait severalweeks or even months for it to bemanufactured”. On the other hand,

they argue that; “Inventory also hasa significant impact on the materialflow time in a supply chain.Material flow time is the time thatelapses between the time materialsenter the supply chain to the pointat which it is used...The logicalconclusion here is that inventoryand flow time are synonymous in asupply chain. Managers should useactions that lower the amount of inventory needed withoutincreasing cost or reducingresponsiveness, because reducedflow time can be a significantadvantage in a supply chain.”Inventory increases flow timewhich is, unequivocally, a measureof decreased responsiveness. So,according to the accepted positionarticulated in the supply chainmanagement literature, (Blackburn,1991; Bozarth and Handfield, 2006;Chopra and Meindl, 2004),inventory is presented as bothincreasing and decreasingresponsiveness. The position wetake here is that supplying an orderwhen the customer wants it isresponsiveness, but having to holdhigh levels of inventory to do so isnot and destroys the veryresponsiveness that inventorypurportedly provides.

Dimensions of Supply ChainResponsiveness and the Impactof Inventory

The Overall View of Inventoryand Supply ChainResponsiveness:

Table 1 outlines thirteen dimensionsof supply chain responsiveness andconfirms the conjecture deducedfrom the literature to the effect that supply chain responsiveness is a variegated concept that

incorporates many dimensions(Austin et al, 1985 ; Blackburn,1991; Bozarth and Handfield 2006;Christopher, 1998; Christopher andTowill, 2000; Fuller et al, 1993; Haas,1994; Handfield and Pannesi 1992;Handfield and Nichols, 2002;Kivenko,1994; Monczka et al, 2005:Nickols et al, 1995; Nickols, 1996;Tryendal, et al, 1998). Theframework also leads to theconclusion that supply chainresponsiveness incorporates manymore dimensions than what iscurrently recognized. What is mostinstructive, however, is the fact thatthe impact of inventory on supplychain responsiveness variessignificantly depending on thedimension of responsiveness under consideration. Critical forpresent purposes is the notion thatwhen it comes to supply chainresponsiveness, even when it is examined at the micro-level, the role of inventory is neitherneutral nor insignificant (Lee andBillington, 1992). Inventory doesappear to have an impact on supplychain responsiveness but, contraryto the expectations based oncurrent literature, the overallimpact is likely to be very negativeinstead of positive. Moreover, theframework also instructs us that,for some variables that generateuncertainty, the impact on supplychain responsiveness for anincrease in the variable may not bethe same as for a decrease, and therole of inventory varies ratherdramatically. For example, it iscommon to view demandvariability, whether an increase or adecrease, as the relevant focus ofanalysis when it comes to supplychain responsiveness. But theframework of Table 1 tells us that these are two separateresponsiveness phenomena thathave radically opposite inventoryimpacts. Inventory has a positiveimpact on upward demand shiftresponsiveness but a largely negativeimpact on unpredictable downwarddemand shift responsiveness.

Based on an analysis of theframework of Table 1, it appearsthat inventory is a substantial net destroyer of supply chainresponsiveness rather than being anet enhancer of it. Inventory is


Inventory is a

substantial

net destroyer of

supply chain

responsiveness.


Table 1Dimensions of Supply Chain Responsiveness and Relationship to Inventory

ordinarily referred to as a driver of supply chain responsiveness,where by driver is meant thatinventory has a positive impact onresponsiveness. However, analysisbased on the framework of Table 1would suggest that this widely heldview of the role of inventory mayneed to be revised, and thisfundamental insight is partlysupported by the responsivenessperformance of JIT/Pull and leaninventory systems. Inventory has apositive impact on unpredictableupward demand shift responsiveness,predictable increase in demandresponsiveness and supply uncertaintyresponsiveness. For two dimensionsof responsiveness, intra-product-line demand shift and decrease in customer lead timeresponsiveness, the impact ofinventory is partly positive andpartly negative. For the remainingdimensions of supply chainresponsiveness, the impact ofinventory is substantially negative.

Inventory and UnpredictableUpward Shift in DemandResponsiveness:

There are two ways that companiescreate the requisite supply chainresponsiveness to deal withupward, unpredictable shift in end-product-market demand. In thetraditional approach, and the onehas received by far and away themost attention in supply chainmanagement domain and which isstill favored by most companies, afinished goods safety stock is used to cushion the impact ofunpredictable changes in demand,the level of safety stock beingdetermined by a service leveldesigned to optimize the tradeoffbetween inventory holding costduring the critical demand period,which is usually the lead time, andthe stock-out or shortage cost. Andsince inventory in the form ofsafety stocks does assuage thevisible, negative sales impact ofupward demand shift uncertainty,this has given rise to the erroneousnotion that inventory is a source of supply chain responsiveness.However, it is increasingly beingrecognized that dependence onsafety stock to deal withunpredictable, upward shift in

demand is a costly and ineffectivestrategy. It is costly becauseinventory holding costs are muchhigher than what is recognized intraditional supply chain systems,particularly when one considersthe inventory write-offs caused bytechnological obsolescence ordesign/fashion changes. Safetystock is also ineffective as aresponsiveness strategy becausewhile end-item safety stockincreases immediate supply chainresponsiveness in terms of highorder/demand fill rates, it sacrificesother types of responsiveness,since it increases flow time.

The second approach to building ahighly responsive supply chain todeal with unpredictable upwardshifts in demand recognizes thatsafety stocks create inventorywhich sacrifice too much of the other dimensions ofresponsiveness and, therefore, thatthe overall impact of a strategy thatuses safety stocks is negative. Acompany uses safety stocks when itdoes not possess the requisite levelof responsiveness, in the first place.So, companies that are designingand deploying highly responsivesupply chain strategies attempt tobuild in the value creating, supplychain processes themselves-Inbound logistics, Operations,Outbound Logistics, Sales andAfter-sales- a level of supply chainflexibility that will give them thewherewithal to respond tounpredictable, upward shifts indemand with minimal safety stocks.As a company increases its innatelevel of responsiveness, safetystocks can be systematicallycompressed out of the system. Thepremise that safety stocks aredeployed to mitigate the impact ofan unresponsive supply chainprocess is clearly seen in the verymodel that designs a kanban/pullprocess, which aims to build andexploit the ultimate in terms ofsupply system responsiveness. Theequation for the number of kanbansfor coordinating supply anddemand between two supply chainprocesses is given by Y, where,

Y=D(Tp+Tw)(1+α)/k..……………(1)D=Demand per hourTp=Production time in hours per

batch (kanban container)Tw=Wait time in hours per batch

(kanban container)α=Safety factork=kanban container capacity

The safety stock is built into thekanban process, and it is given bySS, where,

SS=D(Tp+Tw)α.……………………(2)

Given that for any state of thesystem α is constant, equations 1and 2 mean that the safety stock isentirely driven by Tp+Tw. This isthe time for the system to respondto pull signals from thedownstream operation forproducts or parts to replenish thequantity that the downstreamoperation has just started to use.Since α is the safety factor thatassures continuity of supply in theevent of supply disruption at thepreceding operation, as Tp+Tw isreduced, the system becomes moreresponsive, and this automaticallycompresses the safety stock even ifthe safety factor remains constant.For example, when demand, D,equals 100 per hour, α equals 0.10and Tp+Tw=4, the safety stockequals 40 units. But for the samehourly demand and safety factor,the safety stock equals 10 unitswhen Tp+Tw=1.

All pull, kanbanized supply chainprocesses are structured tocapitalize on that fundamentalpremise that safety stocks onlyexist because the current supplychain system is slow to respond tochanges in market demand. Safetystocks minimize the disruption insupply flow, given the existing levelof innate supply chain systemresponsiveness. This is a rathercrucial idea that the people atToyota and other advancedJapanese JIT companies discoveredsome time ago; Work-in-processinventory is more appropriatelyseen, not as a driver ofresponsiveness, but as a stopgapmeasure to assuage the negativeconsequences of an unresponsivesystem. Remove the source ofinflexibility and the need for safetystocks and work-in-processinventory will be greatly reduced. If inventory is a driver of


responsiveness, there is no waythat a JIT/pull production systemcan be more responsive than itstraditional counterpart.

Predictable Increase inDemand Responsiveness

Unpredictable increases in demandstretch a company’s demandresponsiveness capability to thevery limit because they requireboth high planning and highexecution competency. Predictableshifts in demand can still posemajor responsiveness challenges,even if they usually require onlyplanning system flexibility tochange plans in anticipation offorecasted changes in demand. Ifthese predictable shifts are for thelong term, the major drivers relateto the factors that give a companythe capability to structure newcapacity and bring it on-streamquickly. Where the upward,predictable shift in demand is of anintermediate-term nature, theresponsiveness challenge reducesto the usual aggregate productionand inventory problem and thedrivers are the hire/fire/transfercosts associated with increasingthe intermediate-term productionrate and level of inventory. High levels of aggregate inventoryare usually viewed as a driver of intermediate-term predictabledemand shift responsivenessbecause less addition to inventoryis required to build up to the new,higher demand level.

Supply UncertaintyResponsiveness

It goes without saying that supplysystem uncertainty is a majorobstacle to the achievement of ahigh level of responsiveness of theoverall supply chain. Moreover,because the supply system is notunder the direct, administrativecontrol of the company, supplyuncertainty presents uniquechallenges to the management ofsupply chain responsiveness. Theproblems caused by supplyuncertainty are particularly acutefor Just-in-Time/Pull/Lean supplychains, because a company cannotbe highly responsive and delivergoods to market just-in-time, if the

supply systems do not deliver theparts and other inputs that arerequired to make the product, evenif not just-in-time. Just-in-time/Pull/Lean supply chains aredesigned to operate on the premiseand operationalize the Kaizenprinciple that inventory is wasteand should be systematicallycompressed from supply chainprocesses. These systems pursuehigh demand and order fill rates,not by creating high levels ofinventory, but by first-of-allreducing demand variabilitythrough the Andon principles ofload leveling. When reasonableload-leveling has been achieved,Just-in-Time/Pull/Lean supply chainsystems seek high levels ofresponsiveness by building innateflexibility into supply chainplanning, scheduling and executionprocesses. Just-in-Time/Pull/Leansupply chain systems areprototypical responsive supplychain systems, which casts doubton the notion that inventory is a source of supply chainresponsiveness. Just-in-Time systemsview the so-called responsivenessgiven by inventory as being bothillusory and costly.

Supply uncertainty comes from twosources and can affect eitherquantity or time. The first sourcederives from the fact that thecustomer company has changedthe fundamental parameters of the supply situation by either increasing the quantitiesdemanded from a supply system ordecreasing the supply responsetime required of suppliers. Thistype of supply situation simplyplaces greater demands, time orquantity, on suppliers. The secondsource of supply uncertaintyderives from the fact that neitherquantities nor the usual supplierlead time has changed, but there isa breakdown in the supplyprocesses that link a company toits suppliers. In the case of supplyuncertainty due to quantities, the customer increases therequirements from a base level andthe supplier must adjust deliveries.In that case, a responsive supplieris one who can deliver theincreased quantities within thenormal lead time window. That is

to say, a responsive supplier is ableto deliver increased demand fromits customers without sacrificingnormal delivery performance. Inthe second type of supplyuncertainty, the customer companydoes not change its supplyquantities but requires that thesebe delivered according to acompressed delivery schedule,either because the customercompany’s own customers aredemanding shorter lead times orbecause the customer companyhas recognized the strategic andmarketing advantages of responsetime compression, and is in theprocess of driving supplierperformance in that direction.Increasing quantities anddecreasing time is a matter of thesupplier having the capability tocreate and manage continuousimprovement in supply processesthrough the timely and rapidaddition of capacity and thecapability to compress time,particularly queue time, in themanufacturing process.

There are a number of strategies fordealing with supply uncertaintyand for assuring high end-productmarket responsiveness when thereis a breakdown in supplycontinuity. These include safetytime in time-phased requirementsplanning systems such as MRP,MRP-II and DRP, source redundancyor the use of multiple sources,source flexibility through theselection and certification ofsources that have built innatelyflexible, responsive supply chainsystems, the adoption of capacitystrategies at the level of suppliersthat load factories at less-than-fullcapacity, that is, the maintenanceof some capacity cushion in excessof what is required to produce peakdemand, the cultivation of highlevels of source reliability, holdingan appropriate level of safety stockof parts and subassemblies,requiring that suppliers holdappropriate levels of inventory tocope with breakdowns in their ownsupply processes, rerouting ofsupply to reallocate requirementsand supply a region fromwarehouses or factories that arefurther afield even if this violatesthe optimal allocation ofwarehouses to supply chain stages


further downstream, shipping lessthan full, economic size loads tospeed up delivery after abreakdown and producing less thanoptimal lot sizes to compressmanufacturing lead time and,ultimately, the total delivery time,and temporary compression ofsupply/transportation times in theevent of breakdown in the supply system. The latter can beaccomplished through the use ofalternative, but usually more costly,transportation modes to acceleratedelivery after a breakdown insupply, and after the supply systemhas recovered from thatbreakdown.

Maintaining supply chainresponsiveness in the event of abreakdown in supply comes at aprice, so all these strategiesenumerated above create single-event supply chain costs that areborne within that immediateresponse time frame, and the costis incurred every time action istaken to maintain responsivenessin the face of a breakdown.However, in a tightly coordinatedsupply chain that uses highlycapable, responsive suppliers,breakdowns in supply would be theexception rather than the rule, andthese suppliers would be mostadept at implementing andexecuting the most effectivestrategies for maintaining highlevels of supply chainresponsiveness in the event of anunexpected breakdown in supply.Because supply system breakdownin that context is the exception,these short-term, emergencyresponsiveness strategies are lesscostly than those that rely oninventory. Short-term, emergencyresponsiveness strategies incurhigher costs only during the fewperiods where supply disruptionsoccur, whereas strategies based oninventory keep materials andfinished goods permanently in thesystem and, therefore, createpermanent costs to maintainresponsiveness in the face ofclearly exceptional events.Although inventory has a positiveimpact on supply uncertaintyresponsiveness, other responsivenessstrategies as enumerated abovecould provide the requisite level ofresponsiveness more efficiently.

Intra-product Line DemandShift Responsiveness: The Two-Edged Impact of Inventory

When the overall demand for aproduct line remains basicallyconstant, but demand shiftsbetween products in the line, whatwe refer to as intra-product linedemand volatility, this creates adouble responsiveness problem fora company. To the extent thatcustomers perceive no reduction inservice when they switch betweenthe different product options in theline, the impact of intra-productline demand volatility is assuagedsignificantly. However, that usuallyis not the case in a competitivemarket, because it is logical toassume that product optionsoffered in the line are based on realand significant variations incustomer requirements. Wheredemand of one product option isdecreasing while that for anotheroption in the same line isincreasing, it invariably means thatthe former product is becomingless competitively attractive thanthe latter and that customers donot see the products in the line asbeing readily substitutable. In thatcase, the responsiveness problemfor the product whose demand hasincreased is analogous to upwarddemand shift responsiveness for anindividual product, as discussedbelow, and inventory contributespositively to responsiveness. Forthe product whose demand hasdecreased, the responsivenessproblem is similar to downwarddemand shift responsiveness, andinventory is a destroyer ofresponsiveness. A company faced with intra-product linedemand shift must deal with tworesponsiveness problemssimultaneously, one requiring aramp-up of production to meet anunpredictable upward shift indemand, as discussed above, andone requiring a deceleration of theproduction rate and a compressionof inventory levels to adjust to alower demand rate for the productwhose demand is decreasing, asdiscussed below. Where thefacilities that manufacture theproducts and move them throughthe supply chain are not dedicated,

the responsiveness problempresents few challenges. Almostalways, however, there will be somefacility dedication, and such ademand shift would tax theresponsiveness capability of acompany. In the case of intra-product demand shift, inventory isa true double-edged sword.

Individual Product DownwardDemand Shift Responsiveness

We define downward demand shiftresponsiveness as the capability ofthe supply chain system to adjustproduction levels, supply orinventory downward to bring themin line with a lower demand rate.Current supply chain managementliterature does not recognize aresponsiveness problem forunpredictable downward shifts indemand, but the problem existsand is as prevalent, and possible ascostly, as that created byunpredictable, upward shifts indemand. The reasons for thisobservation are not hard touncover. In all competitive markets,systematic, prolonged increases indemand will always be followed bydecreases. Moreover, the costsimposed on a firm by downwardshifts in demand are potentiallyvery high. A decreasing demandplaces a squeeze on profits fromthree different directions. First,demand contraction usuallyderives from increased competitionwhich puts a squeeze on prices andprofit margins. Second, decreaseddemand means that the companyhas less volume over which todilute fixed costs, which furtherdecreases profits. Third, in theabsence of high responsiveness todrive inventory out of the supplychain faster than demand iscontracting, decreased demandincreases inventory levels at thevery time that the product is lessappealing to customers, and thisexacerbates obsolescence costs,inventory financing costs, the netconversion cycle, and a wide arrayof other costs. In other words,downward shift in demand meansthat per units costs are increasingat the same time that the companyis recouping less margins to absorbthese costs.


Inventory has very negativeconsequences for the downwarddemand shift responsiveness of asupply chain because itsignificantly delays the process ofadjusting supply to demand. Acompany that already holds a highlevel of inventory and comes undersevere downward demand pressureis faced with the dilemma of eithermaking dramatic cutbacks insupply/production to quicklyadjust supply to demand, orimplementing a more normal,slower response while holding ahigher level of inventory for alonger period of time. The firstresponse amplifies the fluctuationsin the labor force and in rawmaterials and parts delivery from suppliers, which generateinefficiencies in labor andprocurement costs.

The second response exposes the company to very highobsolescence costs, particularlybecause the products that are leftin inventory would most likely bethe slower moving, lesstechnologically attractive ones that are likely to be driven to obsolescence during theadjustment period. This is exactlywhat happened to Lucent whendemand for its product plummetedat the beginning of the lasteconomic downturn that startedaround 2000. The company alreadyhad very high levels of inventory oftelecommunications gear that werealready technological surpassed bysuperior competitive products.When the downturn came, Lucent’shigh level of inventory drasticallyslowed down its adjustmentprocess and, by the time theeconomy had turned around, thecompany’s product line hadbecome largely obsolete.

The point is that although it has notbeen fully recognized by supplychain management theory andpractice, downward demand shift responsiveness may be as crucial to a company’s competitiveadvantage as upward demand shiftresponsiveness, and inventory, far from being a contributor to downward demand shiftresponsiveness, destroys it.

Lead Time Responsiveness

Supply chain lead time comes intoplay in the management ofresponsiveness at three differentlevels, and the impact of inventoryon that dimension of performancevaries from one level of the supplychain to the next. First, there is thecustomer or end-item demand levelwhere lead time responsivenessrefers to the speed with whichproducts can be delivered tocustomers and whether thecompany can maintain deliveryperformance when customer leadtime is shorter than usual or, moreimportantly, is being compresseddue to competitive marketpressures. Obviously, customerlead-time responsiveness has themost direct and significant impacton a company’s marketperformance. Second, there is themanufacturing or in-process levelwhere lead time refers to the speedwith which products can flowthrough the production process.While short term, low lead timeperformance can be cushioned byend-item inventory that is placedbetween the production processand the customer delivery point,persistent, low long termmanufacturing lead timeperformance will requireincreasingly higher levels of bufferinventories. This makes it a costlystrategy to rely on bufferinventories to provide high levelsof market end-item demandresponsiveness with anunresponsive manufacturingprocess. Third, there is supplier-level where lead timeresponsiveness refers to the speedwith which suppliers can delivermaterials and parts or the extent towhich they can maintain deliveryperformance in the face of acompressed lead time requirement.

Customer lead timeresponsiveness

Customers put a high value on leadtime compression because ashorter lead time means both quickresponse to market andsubstantially compressed safetystocks. The latter impact is theresult of at least four factors thatoperate in concert. Customer lead

time compression reduces theforecast horizon which lowersoverall forecast error, results in ashorter lead time and demandduring lead time, a key factordriving safety stocks, decreasesdemand variability during leadtime, which comes from both thereduced overall demand volatilityand the shorter lead time, and alower normal distribution z-factor.The reduced value of z comes fromthe fact that the supply chain canoperate with a lower target servicelevel during lead time becauserapid replenishment means that theperiods of shortages are lessprotracted which drives shortagecosts down. We recall that theoptimal service level as defined bythe critical fractile method is givenby P, where,

P=G/(G + L) ………………………(3)G= Shortage cost per unitL= Inventory holding cost during

lead time

Because G is usually much largerthan L, sometimes by up to twoorders of magnitude, which has theeffect of pushing the optimalservice level close to 100 percent ina competitive market, G is theprincipal driver of the targetoptimal service level. Therefore, adecrease in the shortage cost willlikely drive the target service leveldown, leading to a decrease in zand the safety stock. A compressedlead time means that the customercan satisfy its own market demand with less inventory, andcan capitalize on unpredictableincreases in end-product demandthrough increased responsiveness,providing that the end-productproduction system can compressits own manufacturing lead time.Otherwise, compressed customerlead times simply mean thatinventory has been backed up thesupply chain, and that thecustomer has unloaded part of itsflow time, pipeline inventory andforecast horizon onto the supplier,with no change in overall supply chain responsiveness.Consequently, true improvement inend-item lead time responsivenessdepends critically on manufacturinglead time responsiveness.


Inventory has a positive impact oncompressed customer lead timeresponsiveness. Inventory willcushion the impact of acompressed lead time, since thecompany can deplete its inventoryon hand in order to satisfy ashorter lead time. On the otherhand, inventory has a negativeimpact on lead time responsivenesswhen the requirement is for alonger lead time, because inventoryslows down the process ofadjusting inventory and productionlevels to a longer lead time.However, as we noted previously,customers place high value leadtime compression so that incompetitive markets the case of lead time extension is likely to be so seldom, as to make itcompetitively insignificant.

Manufacturing lead timeresponsiveness

For most companies, themanufacturing system is a majordestroyer of overall supply chainresponsiveness. Although there ismuch focus on the transportationsystem as a key constraint to overall supply chainresponsiveness, the fact is thatmore time is consumed pushing theflow of goods through themanufacturing system than tomove them from where they aremanufactured to where they areconsumed. It is an anomaly ofmodern industrial and commercialprocesses that many goods can betransported from locations on theplanet that are farthest apart in lesstime than it takes to push the flowof goods from the raw materials orparts warehouse of a companythrough its own factories. And thebiggest culprit is not the actualproduction time, but delays andslowdowns in the transformationprocess that are caused bybottlenecks and long setup and changeover times. Theseencourage large production lotsizes, ostensibly to dilute fixedsetup costs, but which have theopposite effect on total productioncosts and a sizeable detrimentalimpact on manufacturing andcompanywide responsiveness.Large lot sizes cause highinventories and associated holding

and total inventory costs, and lowresponsiveness, the latter being amajor driver of lost sales, lowermargins and lost customers.Moreover, ineffective coordinationof the internal transformationprocesses of the manufacturingsystem, and between the latter and supplier and end-customerprocesses, result in high levels ofin-process buffer inventories andwasted production time becausemanufacturing is busy making thewrong products which remain ininventory for a much longer timethan is necessary. Because of theseinefficiencies, the supply chainsystems of many companies areusually placed in the unusualparadox of having too muchinventory of some products whilesimultaneously being out-of-stockof others. Some companies seemconsistently unable to have theright products, at the right place, atthe right time.

Analysis of the fundamentalmanufacturing lead time equationreveals the crux of the productionresponsiveness problem faced bymost companies. Total cumulativemanufacturing lead time totransform parts and raw materialsinto finished products is given byLTCUMM, where,

LTCUMM=MT + PT +QT…..………..(4)MT= Move time between processes

in the production systemPT= Production time per batch or lotQT=Queue time, or time spent by

lots waiting to be processed

The evidence is that queue timeaccounts for the lion’s share of

total manufacturing lead time,accounting for as much as 90percent, while move time andproduction time account forroughly 2 percent and 8 percent,respectively. That is to say, for amanufacturing lead time of 20 days,queue time accounts for 18 days,while move time and productiontime account for 0.4 days (3.2hours), and 1.6 days, respectively.The irony is that, in the heart of theproduction system where goodsare produced, products spendmuch more time waiting to betransformed than they spendactually being transformed.

JIT/Pull systems represent thepinnacle of supply chain system responsiveness, and thefundamental JIT/Pull equationunderscores the role thatmanufacturing lead time and theproduction system play in drivingsupply chain responsiveness.According to the fundamentalJIT/Pull equation, a company canimplement JIT/Pull manufacturingwhere production actions aresynchronously triggered by marketdemand only if the followinginequality is satisfied;

LTCUMM LTCUST………………….(5)where,LTCUST = lead time required by

customers

If this fundamental inequality issatisfied, the company canundertake JIT/Pull production andlaunch production in response tocustomer orders. For example, ifLTCUMM equals 10 days whilecustomers require 15 days, thecompany can accept a customer’sorder, keep it as information in theorder entry system for 5 days,launch production on the sixth day,move the order through themanufacturing cycle in 10 days anddeliver it JIT to the customer. IfLTCUMM > LTCUST, , the company canonly satisfy demand from finishedgoods inventory using a pushsystem, or by decreasing the totalcumulative manufacturing leadtime by keeping inventories ofwork-in-process from whichproduction of customer orders willbe launched. If LTCUMM is 15 daysand LTCUST is 10 days, then thecompany must either satisfydemand from finished goodsinventory or stock the equivalent ofat least 5 days of manufacturinglead time in work-in-process,usually in the form ofsubassemblies and modules. Thislatter approach is exactly the one used by Dell. WhereLTCUMM>LTCUST, the speed withwhich the supply chain canrespond to customer demand isslower than what customersrequire, making it necessary to use inventory. The greater the difference between innatesupply chain responsiveness andcustomer-mandated responsiveness


as expressed in LTCUST, the greaterthe level of inventory that must bekept by the system.

In the above example where LTCUMM

is 15 days and customer lead timeis 10 days, based on theexperience of most companies,queue time typically would be 90percent or 13.5 days. By achieving aforty percent compression in queuetime, one could re-engineer the manufacturing system andtransform it from an inventory-based push system to a zero-inventory, JIT/Pull system. Queuetime compression is of paramountimportance in creating a high-responsiveness, JIT/Pull system,making it necessary to understandthe forces that are driving queuetime in a manufacturing system.

Queue time is driven by twofundamental factors in theproduction stage of a supply chain.The first factor, input/outputcontrol, measures the extent towhich the input loading of machinecenters, transformation processesand the overall production system are matched with theiroutput capability or capacity. Thisis, fundamentally, an internalmanufacturing system coordinationproblem. Where there is not acoordinated release of work tomachine centers, these will beoverloaded, causing work-in-process inventory to accumulatejust ahead of the overloadedprocesses which creates queues,the very source of queue time. Suchlack of coordination that results inmachine center overloading couldnot occur in a manufacturingsystem that is scheduled usingJIT/Pull mechanisms. In particular,Kanban has a built-in Jidoka/Andonprocess that stops the processwhen there is a problem or thatsynchronizes upstream workcenter loading with the volumepulled by downstream workcenters. Because lack ofcoordination is one of thedistinctive features of anunresponsive supply chain, thebuild up of work-in-processinventory that results from it, farfrom being a contributor toresponsiveness is, in point of fact, asymptom of an unresponsive

manufacturing component of thesupply chain.

The second factor driving queuetime is the batch size used tolaunch production of parts,subassemblies and finished goods.The batch size has a direct impacton two parameters of theproduction system, the inventorylevel and the flow time, both ofwhich have ramifications for theresponsiveness of the manufacturinglevel component of the supplychain. The batch size directlydetermines the average level ofcycle inventory because, accordingto the basic production lot sizingmodel, the optimal production lotor batch size is given by EPQ,where,

EPQ=√{2DS/[h(1-d/p)]}……….…(6)D=annual demandS=setup costd=demand ratep=production rate of item

The average inventory is given byEPQ/2. It can be shown that theEPQ has a built-in safety stockeffect, which increases with thebatch size (Etienne 1985 and 1987).Demand variability whichdetermines the size of stockoutsduring the period prior to the orderpoint is independent of the batchsize and average inventory. Withlarger lot sizes there is a higheraverage inventory and a largercushion for absorbing demandvariability. However, the increased

service level protection given bylarger lot sizes is wasted orredundant and cannot be aminimum cost service level, since itis in addition to the optimal servicelevel that the safety stock isdesigned to provide. So, while theadditional inventory that comeswith larger batch size increasesresponsiveness in terms of demandor order fill rates, it may do so attoo high a cost, and imposes all thenegative responsiveness impacts ofinventory outlined previously.

The major impact of the batch size on manufacturing systemresponsiveness has to do with itseffect on queue time (Goldratt andCox, 1984; Goldratt and Fox, 1986).It is easy to demonstrate, as is donein Figure 1, that even where there isnear perfect coordination of inputand output as exists in a JIT/Pullkanbanized system, queue time willbe significant if batch sizes arelarge. This is the crucial reason whyJIT/pull systems absolutely requiresmall lot production and theory ofconstraints advocates making thetransfer batch significantly smallerthan the production batch. Onesimply cannot have highresponsiveness at the manufacturingsystem level without small lot sizesand the commensurate decrease inqueue time.

Figure 1 shows demonstrates therelationship between batch sizeand queue time in a simple, single-facility manufacturing system in


Figure 1Relationship Between Batch Size and Queue Time

which we assume, for simplicity,that the transfer batch is equal tothe production batch and,therefore, the queue time for thewhole batch is the same as that forthe last unit. The complexity of themanufacturing system does not change the fundamentalrelationships revealed in theschematic. The batch size istantamount to units queuing up forprocessing in front of theproduction facility, where any unitaccumulates queue time as afunction of the number of unitsahead of it and the processing timeper unit plus the setup time. This isanalogous to the situation thatobtains in a service facility whereevery unit has to wait through theservice processing times of all unitsahead of it. The larger the batchsize, the longer units further up thequeue have to wait for processing.Again assuming perfect input/output control and coordination, allunits except the very first oneprocessed accumulates queuetime, and the larger the batch size,the more processing timesaccumulated by later units in thequeue, which increases the averagequeue time for the batch as awhole. Figure 1 shows that whenone increases the batch size from 5to 15, average queue time increasesfrom 1.4 to 2.4 hours.

The above analysis shows thatinstead of increasing manufacturingsystem lead time responsiveness,inventory decreases it since thelevel of work-in-process inventoryand queue time are both driven by the same fundamental factor, the batch size. Real lead timeresponsiveness comes from batchsize compression which driveswork-in-process inventory out ofthe manufacturing system anddramatically reduces queue time,the largest component ofmanufacturing lead time. Unresponsivemanufacturing systems have longsetup times and scheduleproduction of large batch sizes in a vain attempt to assuage the inefficiencies of an inflexiblesystem. The work-in-processinventory lodged in amanufacturing system, far fromimproving responsiveness, destroysit. A responsive system replacesinventory with quick changeovers,timely and accurate informationand strong coordination tosynchronize demand requirementswith manufacturing supply actions.

Market Niche Responsiveness

It is the capability to economicallyand efficiently produce, transport,buy and make the product availableat the point of sale in very small

lots that drives market nicheresponsiveness. Toyota’s mixedmodel processing productionsystem is the archetypical case of aniche-responsive manufacturingcompany. Toyota has the capabilityto continuously produce on itsassembly lines the daily sales mixfor all of the options of a family ofcars which means that thecompany can theoretically achievefinished goods stock turns ofupwards of five hundred.Economical, small lot productionand delivery of parts andsubassemblies and small lotproduction allow the company toproduce smaller batches to meetthe lower demand levels of morenarrowly defined, smaller volumesegments of the market. The logicof the Toyota Production Systemsays that if a company produces aproduct X for a broadly-definedmarket segment and the company,through improvements in thesupply and production processes,reduces the economical lot size ofthe product by a factor of four, thenthat company can define fournarrower segments based on moreunique customer requirements andproduce unique product optionsfor each segment, withoutsacrificing cost or increasinginventory. In transportation –rapidcourier delivery- UPS appears to


Table 2Inventory Turns and the Economical Broadening of Product variety

be the most niche-responsivecompany, while Walmart is, by farand away, the prototypical niche-responsive company in retailing. Asshown in Table 2, by increasingoverall inventory turns, a companycan increase the range of productofferings at the point of sale,without increasing inventory,space, overhead and infrastructuralcosts. By quadrupling inventoryturns, for example, a retailcompany like Walmart can increasethe number of product optionsoffered at the point of sale withoutincreasing space costs, since thespace liberated by higher stockturns can be used to offer fourdifferent options of the sameproduct.

There are two strategies for theeconomical broadening of varietyand increasing market nicheresponsiveness that results frominventory compression. The firstinvolves using the supply chainresources liberated by inventorycompression to offer products thatcater to completely new marketsegments. Increasing productvariety in this way generates themaximum level of sales because itenables the company both to enternew but related product offeringsegments and exploits synergybetween items in the product line to the fullest. Synergy exists because of two differentphenomena. The first is thesubstitution effect, whereby acustomer who comes to a store tobuy a particular product is morelikely to find a good substitute if theexact product that he or shewanted to buy is momentarily out-of-stock. In that case, variety meansthat the company makes a sale that it would otherwise have lost. The second factorcontributing to variety synergy isthe complementarity effect, whichcaptures the frequently observedphenomenon where a customerbuys many more items than he/shehad the intention of buying whenthey entered the store. Thecomplementarity effect means thatthe company sells two itemsinstead of one, and the greater thevariety of products in the productoffering, the more likely that is to

occur. The complementarity effectmeans that the company canincrease responsiveness by reducinginventory and simultaneouslyreducing cost. Wal-Mart has usedthat approach to systematicallybroaden its product offering overthe years and add food retailing,pharmaceuticals, toys andautomobiles to its core productofferings. We use space cost as aproxy for the overall supply chainresources and capacity liberated byinventory compression. The datapresented in Table 2 show that acompany that has driven stockturns up by a factor of four can usethe liberated resources to increasesegment scope by a factor of four,without increasing overall cost.

The second strategy for leveraginginventory compression toeconomically broaden the productoffering involves targeting the samegeneral market segment, butbroadening the variety of productoptions that are offered. Althoughthis strategy will have a lesserpositive impact on sales growth,since it simply slices up a morebroadly defined segment into alarger number of narrower ones,the company should experiencesome increase in sales, because theincreased product variety thatresults has favorable internalmarketing effects. Greater varietycommunicates an aura of broadchoice and availability to thecustomer, and that, coupled withthe positive symbiotic relationshipamong a large variety of differentoptions of the same product, willlikely cause overall sales for theentire family to increase, and thiswill reduce costs per sales dollareven further. Thus, high inventory,because it reduces the efficiency ofdeployment of supply chaincapacity resources, decreasesmarket-niche responsiveness andprevents a company from reapingthe marketing and strategicadvantages of high variety at lowcost. In addition, it is evident that a company cannot achievehigh levels of market nicheresponsiveness at low cost unless it systematically compressesinventory out of its supply chain.Inventory rather than increasing

responsiveness, reduces it becauseof the negative impact that highlevels of inventory have on market-niche responsiveness.

Technological ChangeResponsiveness

Accelerating technological changeand the rapid obsolescence thatresults from it is a major concernfor an increasing number ofcompanies. Companies are facedwith increasingly shorter productlife cycles and the capability to respond to advances intechnological is an integral part of the company’s competitiveadvantage. Companies either haveto drive their own products toobsolescence or their competitorswill do it for them. Inventory bothreduces a company’s ability torespond quickly to technologicalchange and makes it costly for it todo so. In industries that are highly fashion sensitive wherecompetitive pressures mandatethat companies change productdesigns frequently, high inventorylevels reduce the freshness of thecollection, and can be disastrousfor a company’s marketresponsiveness. When inventorylevels of items that are going out-of-fashion are high, management hasthe tendency of delaying somewhatthe introduction of new models ordesigns to give the supply chainsystem, particularly the point-of-sale component, time to clean upthe old stock. This is so becausehigh levels of inventory that occurtowards the end of the season forcemanagement to dramatically writedown the old stock in an effort toentice value-conscious customersto buy what is obviously an out-of-style item. Write-downs of the orderof fifty to eighty percent are notunusual in these industries. Thereis a natural tendency on the part ofmanagers to delay introduction ofthe new, upcoming designs in aneffort to mitigate the exorbitantcost of write-downs.

Time-to-MarketResponsiveness

Related to technological changeresponsiveness is time-to-market,


or the period that elapses betweenthe launching of a productinnovation initiative in the form of aproduct idea, and the delivery ofthe first units of the product to customers. Time-to-marketmeasures innovation speed, andthe ability to improve it faster thancompetitors confers unsurpassedcompetitive advantage on aninnovator. Companies that arrive tomarket ahead of their rivals reapfirst-mover advantages that includethe ability to build market share,achieve economies of scale early,recoup R&D costs that can bedeployed in other innovationprojects in the pipeline, the abilityto drive costs down throughlearning and experience curveeffects, and the building of brandrecognition and consumerfamiliarity with the company’sversion of the new product ortechnology ahead of competitors.Sometimes, as is the case withMicrosoft’s Windows and Intel’sPentium, first-mover advantagesare so overpowering that laterentrants into the market can takeyears, even decades, to assuage orreverse the competitive advantagesof the innovator.

While some may argue thatinventory of parts andsubassemblies may help acompany compress time-to-market,the reverse is actually the case. If aproduct is highly innovative, itmost likely will make very little useof older technology, and inventoryof existing parts and subassemblieswill not allow a company to achieveany meaningful reduction in time-to-market. Second, the highlyinnovative technologies that reallymake the product new and give itits competitive advantage willrequire the procurement ordevelopment and production ofnew parts and subassemblies thatembody the new technology. Thelead time for these parts andsubassemblies will determine thelead time to manufacture anddeliver the new product and eventhough inventory of the older partsand subassemblies will decreasethe lead time to acquire them andbuild them into the new product,these latter parts do not representthe key technological or time

constraint for the new product, andmatter little from the perspective oftime-to-market. What is critical fortime-to-market is the level ofcoordination of suppliers and the companies own productionfacilities to ensure that the newparts and subassemblies that areabsolutely essential for deliveringthe new product to market areavailable on time. On the otherhand, knowledge that new partsand subassemblies are available ininventory can have the unintendedconsequence of causing supplychain managers to pay lessattention to the coordination ofsupply and lead to unexpectedshortages.

Quality Responsiveness

Companies that compress time tomarket reap first mover advantagesin terms of larger market share,higher margins, earlier and moredeeply entrenched brand positionsand recognition, advanced progresson the learning and experiencecurves, all of which drive costsdown and margins up. What is mostsignificant and often overlooked,however, are the positive andoverwhelming quality and relatedcompetitive impacts associatedwith first-to-market and quick-time-to-market responsiveness. Becauseno matter what a company doesand how much it is vigorous andcalculating in anticipating customerrequirements, a few products willnot be taken to market completelyfault-free. The true test of qualitycomes with experience that thecustomer/consumer gains fromusing the product, what is referredto as experience as opposed tosearch and credence quality (Darbyand Karni, 1973; Heskett et al, 1990;Nelson, 1970).

The links between supply chainmanagement and quality are manyand diverse, and it is beyond thescope of this paper to elucidate allof them. Here, we focus oninventory policy and managementas an enabler or hindrance toquality responsiveness. Morespecifically, we argue that insteadof being an enabler of qualityresponsiveness and, by implication,overall responsiveness, inventory

destroys the firm’s qualityresponsiveness and, necessarily,overall supply chain and firmresponsiveness. Supply chainquality responsiveness refers to thespeed with which improvedproducts/services and/or parts canbe brought to market so that thecompany can begin to evaluate theextent to which the product or partis having the desired strategicimpact and to measure theaccuracy with which customerrequirements were specified anddeployed in the product. That typeof responsiveness providescompetitive signaling to thecompany or its suppliers as towhether the product is performingas expected and having theanticipated market impact, from aquality perspective, and how theproduct or part should be changedto meet or surpass customerrequirements. Supply chain qualityresponsiveness is of two broadtypes; Quality feed-forward tomarket, which refers to the speedwith which improved products orparts are delivered to realcustomers so that experiencequality can start to be evaluatedand quality feedback from marketwhich measures how fastexperience quality data flow backto the company or its suppliers.Additionally, to be strategicallymeaningful, supply chainresponsiveness must includequality responsiveness as a criticaldimension of supply chainperformance, both at the level ofsupply/sourcing and at the level ofmarket/demand. The conceptualframe of Figure 2 structures andlinks these quality responsivenessconcepts.

Feed-forward toMarket/Source QualityResponsiveness

Companies can employ a variety oftools, techniques and approachesto ensure that products are taken tomarket fast and as defect free aspossible. These tools includeConcurrent Engineering, QualityFunction Deployment ‘QFD’,Taguchi Methods, Poka Yokemethods, Failure Mode Effect and Criticality Analysis ‘FMECA’,and competitive benchmarking.


Although these are robust toolsand the overwhelming evidence isthat they greatly accelerate thespeed of product development,introduction, and delivery throughthe supply chain, the experience ofeven the best of companies is thatfew products will not arrive in themarket completely error or defectfree. A quality giant like Toyotawhich has pioneered and/ormastered nearly all the cutting-edge tools for removing defectsprior to and during productmanufacture, sometimes discoversdefects after products hit themarket and the company has hadto go through the occasional recall.Experience quality is a criticaldimension of the quality of mostproducts and services, whichmeans that it is difficult tocompletely anticipate and expungeall quality problems before theproduct is used by a broad range of customers. Feed-forwardquality responsiveness has twodimensions. The first has to do withthe speed with which a companycan take new products or servicesto market, and thereby signal tocustomers and consumers thatquality has improved. If theimprovement pushes the company’squality performance beyond thestrategic breakpoint (Haas, 1987),then the result will be a dramaticshift of customers towards thecompany’s product and away fromthose of competitors. The secondaspect of feed-forward qualityresponsiveness is the speed withwhich suppliers can signal to acompany that they have improvedquality, so that the company canmove to integrate the improvedcomponents and parts into its own products and services andthereby capitalize on a supplier,source of competitive advantage.Whether it be customer/consumeror supplier type feed-forward qualityresponsiveness, is critically importantto a company’s ability to leverageinnovation for competitive advantage.

Inventory destroys both types offeed-forward quality responsiveness.Inventory adds to flow time andslows down the process of takingnew products or improved suppliercomponents to market and reducesthe degree of competitive

advantage that can be derived frominnovation. Inventory decreasesproduct freshness, a crucialdimension of quality for perishableproducts and those with limitedshelf lives, and causes high levels ofproduct obsolescence and therelated costs, particularly whereproducts are fashion-driven, as isthe case for a companies like Doré-Doré (Wong and Hammond, 1991) ,Benetton (Signorelli and eskett,1984) and Nike (Austin et al, 1985),or where product life cycles areshort, as in the case of chipmanufacturing and high technologyconsumer electronics. In the case of Doré-Doré (Audris, 1991),Benetton (Signorelli, 1984) and Nike(Austin, 1985), markdowns of 25-50percent are not unusual wheninventory remains at the point ofsale after the close of a particularseason. Considering that forBenetton, like most companies, thenet profit margin is about 4 percentof sales while the gross profitmargin is 40 percent of sales, thewhole net profit of the companycomes from the last 10 percent ofsales, the 10 percent beyond thebreakeven point, and it only takesthe average markdown of 37.5percent on a mere 10.6 percent ofsales to wipe out the entire netprofit of the company.

So, a company can spendenormous resources and effort topush sales beyond the breakevenpoint only to see the benefitsdestroyed by the high markdownsassociated with high inventorylevels and low inventory turns.Benetton, like many other

companies, simply cannot afford tohave low inventory turns and thecorresponding high levels ofmarkdowns. For pharmaceuticalcompounds, storage time decreasesproduct potency and efficacy, andregulatory authorities mandatethat expiration dates be clearlyindicated on these products andthat they be destroyed uponreaching these expiration dates.Moreover, high levels of inventoryand the associated low inventoryturns expose a product to defectsintroduced by the warehousing andinventorying processes themselves,because these processes are notquality-neutral, contrary to whatmany companies believe. Not onlydo products deteriorate in storage-and the higher the level ofinventory, the greater the storagetime and associated deterioration-,but supply chain managers oftenoverlook the fact that storage isactually a quality impactingprocess whose operations causedefects. The greater the storagetime, the more the supply chainsystem exposes inventory todefects that are caused by thestorage process itself.

A company that is turning its ownfinished goods inventory fifty-twotimes a year can take improvedproducts to market in one week,while a company that is turninginventory four times a year mustwait three months to draw downexisting inventory of the productbefore it can take qualityimprovements to market. Tenweeks can be like an eternity in theworld of innovation driven, global


Figure 2Anatomy of Quality Responsiveness

competition. Similarly, inventorydestroys the ability of a company totake new supplier quality tomarket, because the company mustdraw down the supply of supplierparts inventory before it canreplace the old parts with the new,quality improved ones. The fartherdownstream the company is fromthe supplier that made theinnovation, the more inventoryslows down feed-forward supplierquality responsiveness, and themore such inventory is damagingto the company’s ability to leveragethe competitive advantage fromsupplier innovation. Analogously,the farther upstream the companyis from the final customer/consumer, the greater is thedamage inflicted by inventory on acompany’s customer feedforwardresponsiveness. Figure 3 providessome computations that supportthese fundamental insights. As abase case scenario, we assumeinventory turns of twelve andthree-hundred-and-sixty-five peryear for work-in-process inventoryand for the product at the end-consumer/customer level,respectively, and of six per year forall other levels of the supply chain.

The corresponding flow times dueto inventory are shown in thefigure. For a second case scenario,we double the inventory turns at alllevels except at the customer level.The calculations show that for theinventory turns of the base casescenario, which are well withincurrently achieved levels for mostindustrial and commercial supplychain operations, inventory slowsdown supplier quality feedforwardresponsiveness by thirteen monthsand feedforward customer/consumerquality responsiveness by ninemonths. In either case, inventoryslows down feedforward qualityresponsiveness enough to destroya company’s innovative efforts andis sufficient to completely eliminatea company’s first mover advantagesin most modern-day, competitivemarkets. A delay of between nineand thirteen months to takeinnovations to market givescompetitors enough time todevelop and implement competitiveresponses, except where theinnovator has substantial innovationadvantage that is protected in asolid patent that cannot becircumvented in the short tointermediate run. Similarly, a

doubling of inventory turns fromthe base scenario predictablecompresses quality feedforward/feedback time by half.

Feedback from MarketResponsivewers

For the vast majority of products,experience quality is the key tobuilding and exploiting first-moveradvantages from innovation. Whena company takes new products tomarket, it needs to quicklydemonstrate that the new productis, in fact, an improvement andworthy of the user’s switchingefforts and costs. No matter what acompany promises prior to andduring new product launching andramp-up to market demand, thereis no innovation until thecustomer/consumer experiencesthe quality and that informationdiffuses rapidly through themarket. In some cases, and evenwhere the company has a vigorousQFD program, the new product willhave bugs that were not identifiedduring product testing and thesedefects are discovered whencustomers start to use the product(HBS, 1989). In the final analysis,the only true, final and conclusiveproduct test occurs when realcustomers use the product in realconsumption situations. Consequently,rapid quality feedback from themarket is the key to isolating designdefects and flaws, new processweaknesses and production qualitycontrol system inadequacies thatcause defective new products to betaken to market. Anything thatslows down quality feedback fromthe market also destroys acompany’s quality responsivenessadvantage and seriously blunts itsinnovative efforts.

The arguments that support thecase that inventory destroysquality feedback responsivenessare similar to those that make thecase for the rather dramaticnegative impact that inventory has on feedforward qualityresponsiveness. The calculations ofFigure 3 make the case. In fact, theinventory induced delay of elevenmonths in the case of supplierfeedback quality responsiveness isthe same as the inventory induced


Figure 3The Impact of Inventory on Feedforward Quality Responsiveness

Legend; IT, Inventory turns; FT, Flow time due to inventory; RM, Raw materials; FG, Finished goodsFeedback-From-Market Quality Responsiveness:

delay for the supplier feedforwardquality responsiveness; and theinventory-induced delay of sevenmonths in the case of themanufacturer’s feedback qualityresponsiveness is the same as theinventory induced delay of sevenmonths for the manufacturer’sfeedforward quality responsiveness.This is so because neither thesupplier nor the end-productcompany can get feedback from themarket until the product actuallyreaches the end customer/consumer. Before such feedbackcan take place, the supply chainsystem must deplete the inventoryof the old product and, accordingto the calculations illustrated inFigure 3, that depletion process willtake eleven months in the case ofsupplier-produced innovation andnine months in the case of themanufacturing company innovation.Therefore, inventory destroys asupplier’s and manufacturer’sability to take products to marketfast and thereby to feed forwardevidence of product qualityimprovements to market. Similarly,inventory destroys a company’sability to receive rapid, evidence-based quality feedback from themarket. Inventory may create theimpression that the company, byhaving the product readilyavailable, is more responsive to themarket. However, all inventorydoes is give the company the abilityto make an immediate sale for anold product. It does so at thegreater competitive cost of slowquality responsiveness for new,improved products, which is farmore destructive of a company’slong term competitive positionthan the fact of losing an immediatesale on an old product.

Model/Design ChangeResponsiveness

In an increasingly large number ofindustries, model change is thenorm. Television sets, householdappliances, automobiles, motorcycles,computers, home furnishings,fashionable and trendy clothing,sports equipment and travelaccessories are examples ofindustries where sales are drivenby the rapid introduction of newmodels. Contrary to widely

accepted notions, inventory offersno help to a company competing onmodel/design change responsivenessand is a destroyer of a company’scapability to deliver new designs tomarket fast and efficiently. Theprocesses that first spot theemergence of new model/designrequirements and the markettrends that give rise to them aredriven by the company’s marketintelligence and capacity to stayclose to and listen to customers,and have nothing to do with theexistence or non-existence ofinventory. Once the need for new models/designs has beenestablished, the processes thatproduce design/model conceptsquickly and manufacture workingmodels and test their feasibilitywithin a compressed time framehave to do with the collectivecompetence lodged in thecompany’s design team, the smallscale manufacturing capability toproduce working models that canbe refined by subsequent designefforts. These competencies havenothing to do with inventory. Oncea design/model has been finalizedand accepted for taking to market,how fast it actually reaches themarket has very little to do with thelevel of inventory held by acompany. Instead, the keycapabilities for doing so include theexistence of reliable, responsivesuppliers that are committed to supporting the company’sinnovation efforts, the rapidestablishment of Bills of Materialand routings for building theproduct, vigorous planning of thetooling/retooling effort, a state-of-the-art production and materialsplanning system that accuratelyestimates material requirements, aprocurement system that assurestight coordination of the suppliernetwork to assure timely deliver ofrequisite materials, a robustproduction planning and schedulingsystem that puts the resources inplace to execute the sales plan, awell-honed execution system thatexecutes plans and schedulesreliably and efficiently, and a freeflow of information betweenmarketing, procurement, productionand logistics that assures seamlesscoordination of the supply chainprocesses that deliver the product

to market. These are not inventoryissues, but planning andcoordinating issues. Taking newmodels/designs to market quicklyand efficiently requires tightcoupling of the supply chainprocesses. The level of inventory ina supply chain seeks to decoupleits successive parts so that eachoperation can be performedindependent of the others. Becauseinventory consumes both time andmoney, a decoupled supply chain isalso a slow, unresponsive and highcost one. A quick response supplychain is designed and operated touse vigorous planning and tightcoordination to deliver customerrequirements in timely fashion atminimum cost. Managing thesupply and demand activities of acompany as a supply chain insteadof a set supply/inventory bin meansundertaking supply actions intimely fashion so that the deliveryof supply operates in near-perfectsynchronicity with the realizationof demand.

The largest part of the inventoryheld by companies derives from thefailure to manage responsiveness inthe supply chain so as to achievethat high level of supply anddemand seamless synchronizationthat is demanded by today’scustomers and competitiveconditions. That synchronizationinvariably means driving inventoryout of the supply chain processesand replacing it with information. Itis much more costly to hold andmanage inventory than it is togenerate and manage information,so reliance on inventory asopposed to information-drivencoordination and coupling toachieve high levels of productavailability is a very costly strategythat destroys much of theresponsiveness that it purportedlycreates. In any area of supply chainperformance, quick responsemeans coordination and coupling.Inventory is decoupling, failure tocoordinate slow, costly response. Itis not a surprise that companiesthat are on the verge of bankruptcyare always awash in inventory. Thereason is simple enough; thedemand for their productsplummeted and they failed throughcoordinated supply chain actions


to drive production and/or buyingdown to stay abreast of theirlower demand levels. Lack ofresponsiveness always shows up asexcess inventory.

Net Conversion Cycle (NCC)Responsiveness

In a real sense, the overallresponsiveness of a companymeasures how fast it can convertmarket opportunities into profitsand cash that can be partlyreturned to shareholders by way ofa dividend payout and partlyredeployed in the business inpursuit of more growthopportunities. Once a product/service has been successfully takento market, a large part of thatoverall responsiveness is the speedwith which the business cangenerate cash from normal, on-going operations, what is referredto as the Net Conversion Cycle.Mathematically, the net conversioncycle in given by NCC, where,

NCC=DI +DR-DP …………………..(7)and,DI =Days inventoryDR=Days receivablesDP=Days payables

There is good evidence that theNCC is a major barometer of theoverall market responsiveness of acompany and its ability to generatecash to sustain its strategicdevelopment. Examples of benchmarksupply chain managementcompanies that also have veryfavorable NCCs include Amazon.com,Walmart and Dell. The evidence isalso very convincing that inventoryis the single largest contributor topoor NCC responsiveness. IBM’sNCC is far inferior to Dell’s, and theinventory turns of the former isalso much lower than that of thelatter. Walmart’s NCC is far superiorto Kmart’s and the latter’sinventory turns are also muchlower.

Figure 4 further reinforces the ideathat inventory turns are the keyfactor that drives the difference inthe relative NCC responsiveness ofcompanies. Days payables areusually driven by competitiveforces in the supplier market, in

particular, the bargaining power ofsuppliers relative to theircustomers. Thus Walmart, becauseof its huge size, has a veryfavorable bargaining powerposition and is quite successful atleveraging it to obtain veryfavorable financing terms from itssuppliers. The receivables turnoveris usually driven by the nature ofthe business and the competitiveforces in the company’s market. Inmost retailing, business isconducted on the basis of cash orcredit card financing, which meansthat days-receivables are financedfor at most one day. Inventoryturnover, on the other hand, is theonly one of the NCC drivers thatdepends almost entirely onmanagement actions and is directlyunder the control of managementof the supply chain. While acompany usually has limitedinfluence on the level of dayspayables and receivables and isseverely constrained by what the competitive forces dictate,inventory turnover and thecommensurate days inventoryconstitute the one driver that canbe used to mitigate the unfavorableeffects of supplier and end marketforces on days payables and daysreceivables. A company that wantsto create a favorable NCCresponsiveness position relative toits competitors is pretty muchconstrained to do so by building a superior inventory turnsadvantage, until ideally, the NCCbecomes negative. In consequence,companies that do a superior job ofdesigning a supply chain processand planning, coordinating,executing and controlling supplychain activities in such a way as toachieve inventory turns that aresuperior to those of their

competitors will almost alwaysachieve NCC responsivenesssuperiority. Clearly then, far fromhaving a positive impact on netconversion cycle responsiveness,inventory is its Achilles’ heel, theone factor that, if not mitigated, will destroy a company’s NCCresponsiveness, a key barometer of competitive and financialsuperiority.

Conclusion and Implicationsfor Supply Chain ManagementResearch

The fact that the impact ofinventory on supply chainresponsiveness is largely negativeis both a rather critical andsurprising result. Contrary to theview widely held in theory andpractice, the analysis undertakenhere reveals that inventory is animportant net destroyer of supplychain responsiveness, negativelyaffecting all of the dimensions ofsupply chain responsivenessexcept predictable upward shift indemand, unpredictable upwardshift in demand and customer lead time compression. However,using inventory to provide highresponsiveness when customerscompress their lead time may notbe the best strategy since thelargest part of lead time comesfrom queue time that comes fromlarge lot production. In that case, inventory masks the trueunresponsiveness of an inefficientmanufacturing planning, controland execution system.

In most cases, instead of increasingspeed of supply chain response,inventory represents dead weightthat slows down the responseprocess. In consequence, a firm


Figure 4The Key Drivers of NCC Responsiveness

can only validly rely on inventoryas a driver of supply chainresponsiveness if that firmcompetes in market segments thatare experiencing large predictableand unpredictable upward shifts indemand and customer lead timecompression that is temporary.These upward demand shifts canonly exist on a sustained basis atthe beginning of the growth cyclefor unusually cyclical industries, orfor industries that are starting thegrowth phase of the product lifecycle. In both these cases, thereliance on inventory as a driver ofsupply chain responsiveness istemporary and will, in fact, exposea company to severe cost andobsolescence penalties once thefactors that are powering highincreases in demand will havedissipated. A company that is usinginventory as a means of increasingsupply chain responsiveness mustbe very careful to monitor thepattern of demand growth to spotwhen the trend is changing andthereby deploy massive effort toreduce inventories quickly.Otherwise, inventory becomes atrue double-edged sword thatdestroys responsiveness andreduces rather than enhancescompetitive advantage.

The issue of quality feedback andfeedforward responsiveness hasreceived very little attention in theliterature, but it may prove to becritical in the future as companiesare increasingly required tocompete on quality. The insightsdeveloped here may open up a newavenue of research in supply chainmanagement relative to the quality responsiveness impact oftraditional supply chain decisions.Our results support the notion that supply chain decisions havereal, direct and lasting qualityimpact and must be factored into a company’s overall quality strategy and competitive strategy,particularly the differentiationsubset of generic strategy and time-based strategies (Porter, 1980;Porter, 1985; Porter, 1986;Schmenner, 1988; Merrills, 1989; 34,1990; Austin et al, 1991; Magretta,1998). Our analysis leads to theanticipation that the effectivenessof differentiation strategies that are

anchored on quality, variety,compressed time-to-market, quickmodel changeovers and rapiddelivery of economical, small lotsare compromised or at leastsignificantly blunted by high levelsof inventory. Although some of theconclusions that we have drawn onthe impact of inventory on supplychain responsiveness challengemany of the notions andrelationships currently accepted inthe supply chain managementliterature, the extensive anecdotaland analytical evidence we havepresented, buttressed by someinsight gleaned from existingframeworks, lead us to concludethat there is much need for furtherresearch on the subject. We admit,however, that the results presentedhere are preliminary in nature andmore definitive and strongerconclusions will depend on futureempirical research. Future researchmay very well conclude that as competition intensifies andcompanies recognize the enormousnegative impact of inventory onquality, response time andobsolescence cost, management ispushed to develop innovative ways to structure, configure andmore tightly coordinate theirsupply chain systems whilesimultaneously expanding anddeepening the deployment ofexisting, well-proven approacheslike JIT/Pull systems, ChannelCoordination, Vendor-ManagedInventory and PostponementStrategies. We conjecture thatthese innovations are changing the nature and fundamentalunderstanding of the role ofinventory in supply chainresponsiveness.

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About the author

Eisenhower C. Etienne has over twentyyears teaching experience in bothCanadian and US universities. In 1993,he was visiting Professor ofManagement at Tianjin University,People's Republic of China. He has doneextensive executive training andmanagement consulting work in MRP-II,JIT, Total Quality Management andManufacturing Strategy for a number oflarge and small companies in Canada.His current areas of research are in six-sigma quality and strategic supply chainmanagement.'


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