Originally published - June 21, 2006
The success of consumer packaged goods (CPG) supply chains in profitably delivering the right products, to the right place, at the right time, has largely remained theoretical. The focus is still to make planned products at the right times, as opposed to just the right products. This implies a "push" culture, and constitutes excessive focus on volume and capacity use. For too long, linear supply chains have fallen short—in many ways—in terms of delivering the flexibility and customer response needed to achieve superior bottom line results.
CPG companies have also realized that branding strategy alone is not enough, as consumers are more concerned about cost and quality in many categories (particularly for commodity products) than brand. Superstore retailers have developed strong consumer relations, and with their purchasing power are compelling suppliers to deliver higher levels of service. Additionally, the proliferation of store brands is cutting into the sales of traditional brands: gone are the days of the trade-offs where CPG companies sacrificed cost for service, as the need now is to balance and hit the multiple yet important objectives of cost, service, inventories, and quality.
A key area that has the potential to boost enterprise performance, as well as dynamically support new product introduction for customer retention, is the way the company supplies its customers. Gaining visibility and agility across supply channels is vital. Other survival requirements in today's competitive market place include knocking down internal silos; transforming closed-loop supply chains into illuminated open-loop supply networks through unflinching focus on demand; and fostering collaboration with consumers as well as with value chain partners.
Business Challenges in the CPG Vertical
With pressure coming from diverse sources, the limitations in existing CPG supply chains can lead to severe challenges that highlight certain fundamental areas for improvement. But those are not the only difficulties. CPG companies also face specific challenges inherent to the industry.
Decreasing profitability and market share
The one-strategy-fits-all approach within linear supply chains has not been adaptable enough to meet rapid operations that switch between requirements for low-cost/high-volume commodity products and low-volume/high-cost premium products. Typical asset- and cost-focused arrangements have diverted attention from anticipating and responding to unique and niche market requirements, leading to reduced growth and profitability. Also contributing to lost market shares is the intense competition from private label products. Furthermore, some low-growth local brands became targets for acquisition by stronger regional (as well as national) brands, leading to extended supply chains and hence added complexities and cost.
Effective management of promotions and new product introductions
Lack of communication or wider collaboration with retailers and distributors (as well as with internal teams) are significant factors in the less-than-stellar performance of CPG companies with respect to promotions and new product introductions. A number of CPG companies do not have formalized internal stage-gate processes to justify and effectively drive new product demand. Also, companies tend to focus more on initial new product sales (for example, for the first two quarters) and ignore subsequent demand, which then provides only partial insights into product failure or success factors.
Added costs due to regulatory compliance requirements
Regulatory bodies, including the United States Department of Agriculture (USDA), tightly regulate the packaged food and beverage sectors on the following mandates:
Hazard Analysis of Critical Control Points (HAACP) regulations—quality control records and manufacturing data access
Occupational Safety and Health (OSHA) requirements—material safety data sheets (MSDS) maintenance, good manufacturing practices (GMP), and safety programs
country of origin labeling requirements
Increasing power of retailers
By leveraging geographical spread and strong consumer relations, retailers are able to demand more and more from suppliers in terms of lower costs and higher service levels. As with the CPG companies, the retailers are also chasing the twin priorities of constant shelf availability (by synchronizing stock flows to the store) and reduction of excessive in-store stocks and labor, in order to cut total retail supply costs. In spite of a strong focus on reducing out-of-stocks at the shelf, the numbers below indicate an opportunity to bring this metric up, without which both retailers and CPG companies stand to lose business. Channel- and account-specific requirements such as new labels and pallet size, diverse ways of sharing point of sale (POS) data, and (most recently) radio frequency identification (RFID) of products mean extra time, resource, and cost pressures which the CPG companies cannot resist.
Consumer fragmentation has also driven CPG manufacturers to have wide assortments within categories. With higher service level expectations, most manufacturers have a tendency to build finished goods inventory to be able to respond better. Combined with a "make to plan" business process, inventories of raw materials and work in progress are also at higher levels. While most industry segments have reduced inventory levels gradually with improved supply chain processes, the CPG industry is still saddled with higher inventory and the associated inefficiencies.
Limitations of Traditional CPG Supply Chains
As explained above, CPG companies continue to face pressure on multiple fronts, and are not able to deliver efficiently and flexibly, due to the inherent limitations of the existing supply chains.
Internal silos and closed-loop activity
Instead of taking a holistic view of the supply chain, most companies are more concerned about local metrics and local departments; they lack of broader participation and commitment during critical phases such as forecasting and sales and operations planning. The mind-set is still of firefighting and knee-jerk reactions. Typical examples include manufacturing pushing for volume to keep their metrics of cost per unit and capacity use in control; and sales going out independently and striking promotion deals with retailers and distributors, without properly understanding the supply constraints. The infamous hockey stick effect (see figure 1) is prevalent in many CPG companies, and indicates low supply orientation and disparate management within their own supply chains.
Figure 1. The hockey stick effect.
Lack of flexible processes for dealing rapidly with change
Typically, traditional supply chain management (SCM) strategies and systems work best during steady states, but respond poorly during new product ramp-ups, surge demands, or a short lead time promotion. With shrinking product lifetimes and increasing product mix and distribution channels, traditional supply chains are slow to match the requirements of dynamic product portfolios. Excessive focus on asset or labor use, along with a lack of proactive constraint management practices and dynamic information feedback, combine to slow response times to the inevitable changes in the market place as well as with internal processes.
Traditional supply chains do not consider essential demand signals
The traditional demand indicator of forecasts frozen ahead of time can be too distorted, and does not take into account recent changes in actual demand. This practice, in conjunction with inherent uncertainty in forecasts, can add costs and unwanted inventory for manufacturers.
Using Demand to Drive Supply Networks
Until recently, CPG companies have adopted ad hoc initiatives to control costs and improve service levels, and over time many of these initiatives have been exhausted. Now is the right time to look beyond traditional practices and transform existing supply chains into illuminated and informed supply networks. Companies must start focusing on all forms of demand inputs from retailers, distributors, channel partners, and even end consumers, and use these as a guiding light to steer supply in the right direction and to enlighten its entire supply network with timely information.
In any dynamic system like a supply chain, variability is inherent. Sensing the variability in time and formulating strategies, innovative processes (and the technology to respond quickly to these variations) sets progressive companies apart from the competition. Using demand to regularly modulate the supply process is the new generation of SCM that integrates demand, supply, and product processes across the network of customers and suppliers to balance revenue against cost. It is a system of tightly linked processes and technologies, which not only responds to demand, but which can also reshape demand through solid collaboration with value chain partners in the market place.
Characteristics of the Demand-focused Approach
This approach encourages holistic design of all supply processes and information flows, in order to take care of end consumer demand rather than only the upstream requirements of factories or distribution systems.
Instead of asset-focused supply chains, the demand-focused approach fosters constant communication and correction of deviations between demand, supply, and product processes.
It requires change management and significant rethinking of the way process execution happens, in order to address continuous improvement of business-critical objectives like perfect order rates, operational efficiencies, and overall cost control. Table 1 depicts the differences between the two approaches.
|Excessive focus on cost
||Balanced multiple objectives
As-needed on-time replenishment
|Big batch, high-volume manufacturing
||Flexible shorter batches in tune with demand
|Information gaps or segmented processes
||Fully integrated for complete demand visibility
Table 1. Traditional versus demand-focused approach within linear supply chains.
Example of Supply Modulation towards Demand
A high product volume/mix CPG company in the southern United States had chronic problems with perfect order rates and operating cost overruns, typically caused by constant changes to the master production schedule, which in turn trickled down to an increased number of production changeovers and labor material mismatch. After years of running segmented processes and focusing on pushing volume out the door (without being able to deliver on the above critical objectives), the company started to look beyond its walls, and formed cross-functional sales-manufacturing teams to realign the supply process.
The team focused on two fronts. The first was tracking and understanding true consumer demand patterns of core products across all channels. This was followed by restructuring batch sizes to develop additional flexibility and minimize impact due to demand variation. By partnering and proactively communicating with retailers and other distributors, the sales team started funneling demand intelligence such as in-store promotion plans and (in some cases) POS information. Additionally, order fulfillment metrics were redesigned and customized across all channels to measure exactly what was important to these customers.
On the manufacturing side, the batch sizes of random medium- to low-volume products were reasonably increased to prevent schedule changes, and the batch sizes of steady high-volume products were reduced and sequenced back-to-back in tune with actual demand, so that batches could be added or removed quickly without causing major changeovers. This raised the short-term quantitative capacity flexibility, and hence responsiveness. Initial results of this process redesign was a sustained 9 percent increase in perfect order rates and a 20 percent setup time reduction due to a lower number of changeovers. Additionally, by slowly gaining trust, the company even began to influence the replenishment plans of large retailers.
CPG companies have no choice but to consistently deliver toward the dual objectives of shareholder and customer value. To profitably meet the expectations of the demanding customer and stay ahead of the competition requires CPG companies to reduce the gap between required and available capabilities. Just being customer-centric can only go so far, and progressive CPG companies are realizing the value of understanding, using, and—most importantly—redesigning processes to be flexible and in tune with true demand. The only way for this to happen is to move out of traditional supply chain practices, and transform into an ecosystem where true demand drives the processes, synchronizes supply, and gradually drives out unwanted costs and inefficiencies.
About the Author
Subramanyam Venkataraman is a senior consultant with Infosys Technologies Ltd. He has 10 years of experience in supply chain planning and business process reengineering with consumer product companies across the United States and Canada. He holds a master's degree in industrial engineering from the University of Arkansas (Fayetteville, US). He can be reached at firstname.lastname@example.org.
[Editor's note: this information was current as of the original publication date.]