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TOC solutions -Distribution Chain in FMCG Sector

A perspective and informative case study on TOC providing solutions for the Distribution Chain in FMCG Sector focusing on the “constraint” which, when improved, will benefit to enhance customer service and sales force performance of an organisation.

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TOC solutions -Distribution Chain in FMCG Sector

  1. 1. ResearchPapersConsumerGoodsTOC solutions inDistribution Chain inFMCG SectorA case studyby Kuldeep Singh Malik
  2. 2. TOC solutions inDistribution Chain inFMCG SectorThe paper presents Theory of constraints’ solutions in retail operations and distribution to ensure better performance ina supply chain. A case study of TOC implementation in retail operations and distribution areas of a 200 Mn USD FMCGbusinesses has been presented. TOC results in reduction in inventory levels increase in ROI of distributors and retailers,improving customer service and sales force performance. A care is required in generalizing the results to the widerframework of industries as the methodology is based on the case study approach. This study guides the managers ofan FMCG firms on how to utilize TOC solutions at retail to manage inventories, to ensure that the right stock isavailable at the right time in the right quantity leading in improvements in retail services and customer satisfaction.There is a scarcity of papers covering TOC. This paper presents several new insights in TOC implementation process atretail and distributor level.In today’s highly competitive environment it’s just not good enough to rely on experience and intuition toknow what’s right. Such a body of knowledge is found in the advanced management doctrine known as the„Theory of Constraints‟. The TOC is a system’s management philosophy developed by an Israeli physicistEliyahu M. Goldratt. Goldratt states that a firm’s goal is to make money now and in the future. A companywill not exist if it is not making money. Any activity that does not help make money is a waste of time andresources (Goldratt, Eliyahu M. (2004). TOC has been adopted globally by firms like General Motors, theUnited States Air Force, Navy and Marines, Lucent Technology, Godrej Sara Lee, and Nike. The TOCapplications range from Project Management, Distribution, Production, Supply Chain, FinancialManagement, Marketing, HRM, Sales & Buy-In, Managing People, and Strategy & Tactics, Healthcare andEducation sector.1. Literature reviewMajority of books and items on TOC claims increased throughputs, reduced inventories and lead-times(Mabin, V.J; Balderstone S.J (2003), (Pophaley, Mahesh; Vyas, R K (2010) discussed the combination of TOCand TPM. (Kohli, Amarpeet S; Gupta, Mahesh (2010) implemented TOC in Restaurants using a case study ofa small family-owned Pizza restaurant. (Roy Stratton, Alex Knight(2010) reported improved patient flow in UK hospitals using Jonahsoftware and reported reduction in length of stay over 20%,improvement in emergency and accident handling. ( Gupta,Mahesh; Chahal, Hardeep Kaur; Gurjeet Sharma, (2010) suggesteda 3 M frameworks for small firm owners with a new mindset of"Increasing Throughput rather than "Reducing Expenses". TOC andA3 reports were implemented by (Chakravorty, Satya S (2009) in anAircraft repair project. The role of TOC in innovation has beendescribed by ( Dalton, Michael A (2009). TOC applications in retailand supply chain were studied by (Andotra, Neetu; Pooja (2009) bycomparing a firm practices and its customers perceptions onsupply chain links. ( Inman, Anthony R (2009) examinedrelationships among TOC, expected results of TOC, andorganizational performance. (Larsson, Mats; Arif, Mohammed;Aburas, Hani M (2008) discussed limitations of continuousimprovement philosophies and proposed nine ways of increasingthe system boundary. (Noriaki Aoki, Sachiko Ohta, NobutakaKikuchi, Mariko Oishi (2008) presented TOC applications inmedicine, diagnosis and treatment field.TOC Literature wasreviewed by (Mahmoud, M Yasin; Czuchry, Andrew J; Kady, Rani A(2008) and a field research revealed operational and customerrelated benefits as a result of TOC implementation and emphasizedthe need of systematic implementation, change managementtechniques, the total system and Benchmarking. TOC for GreenVector Consulting Group www.vectorconsulting.in
  3. 3. TOC solutions inDistribution Chain inFMCG SectorEnvironment was discussed by ( Lockhart, Julie; Audrey Taylor (2007) the role of TOC has been highlighted inthe production of clean products with maximum benefits through a better mix of Earth-friendly products.Supply chain management through replenishment has been discussed by (Mabin, V.J; Balderstone S.J (2003)using a case survey to ascertain the real impact of TOC for improving lead time, cycle-time, and revenue.Goldratt considered that points of sale generally operate with shortage levels of at least 20%.The TOCdistribution methodology decreases system stock (typically 50%),an increase in sales (typically at least20%),an increases stock turnover (typically over 100%),decreases internal transferences between regionalwarehouses, a decrease in obsolescence (typically to less than 50%),Operational Expense(OE) kept approxthe same and improvement in relationship between clients and suppliers. TOC applications in FMCG sectorhas been described by (Malik, Kuldeep Singh; PK, Hemalatha (2011) to improve ROI of distributors andretailers and described how TOC helped an FMCG firm to reduce stock pressures at retailers anddistributors.2. Measuring performance of FMCG Sytem using TOCMeasurement of performance of FMCG system is carried out through the following performance indicators:è Throughput (T)—the rate at which money is generated through sales or interest. It is computed as revenue minus totally variable costs (TVC).è Inventory (I)—all money invested in things intended for sale. It includes totally variable costs such as material, plus resources used in production such as land, machines, trucks, and computers. The more conventional term, Investment, is sometimes used instead of Inventory.è Operating Expense (OE)—All money spent turning Investment into Throughput. It includes direct labour, rent, plus selling, general, and administrative costs.3. The five step thinking process of TOCThe TOC is based on the Thinking Process, a mechanism to analyze systems and to identify and remove any constraints which act as obstacles by preventing thecompany from achieving its goals. Constraints are the weakest links withina system, in critical situations, are first to become sources of problems. If they are not properly removed, they adversely affect thedevelopment of the enterprise or supply chain.Application of the Thinking Process functions as aconnector in the supply chain makes it possible toestablish robust standards to achieve economic efficiency.The process is in the following order:Step1: Determine the systems constraintStep2: Determine how to exploit the systems constraintStep3: Sub-ordinate everything else to the aboveStep4: Elevate the systems constraintStep5: Go back to step 1, as by definition another link turned into the weakest link4. Theory of constraints applications at retailTo protect sales becomes necessary to avoid unavailability and the company needs to have high stocks,while, on the other hand, to control costs the company needs lower stocks. But both control costs andprotect sales are critical needs to have a profitable growth. If the next stocking is replenished by only whatis being sold by then, the stocking point can have near 100% availability. But, if the initial inventory of SKUsVector Consulting Group www.vectorconsulting.in
  4. 4. TOC solutions inDistribution Chain inFMCG Sectorat the stocking points is inadequate, then this replenishment cannot guarantee 100% availability at thisstocking point. As forecasts are never accurate and demands fluctuate, if there exists a reliable mechanismto change stocks levels according to the trends in demands or changes in the supply conditions, then a goodenough starting stock is sufficient. This good enough stock levels is determined by- Good enough startingstock level at a stocking point= average dispatch (or sales) per day x Total Replenishment Time (TRT) x afactor of safety. TRT is the time taken from the dispatch of the SKU till it is received from the delivery point.Due to the monthly planning horizon and that the plants produce in large batches to achieve highestefficiency and utilization. The items are generally produced 2-3 times a month. So a regional CFA couldreceive material 2-3 times a month. So from the time the monthly order is placed till the material isreceived the time elapsed is over 30 days. Adding some factor to account for variability in demand andsupply reliability, the safe inventory will be over 45 days. Using TRT of 45 days does not reduce inventory. Asaverage demand is an external factor, the only parameter to be reduced to have lower inventories is TRT.[Figure 1] illustrates the inventory level of regional warehouse ordering once a month from the plant. Supply Inventory Order L.T. Figure 1 Production L.T. Transportation L.T. TimeIf the regional CFA orders every day, the OLT will be reduced to 1 day and the data can be easily transferredto the earlier delivery point. If the supplies to the regional warehouse take place from a plant warehousewhich has 100% availability, the production lead time can be eliminated from the TRT. The plant warehousereceives daily sales data from the regional warehouse and has near 100% availability of all SKUs, and then itcan fill up trucks with full load with an assortment of SKUs, rather than, as in the existing system with noplant warehouse, wait for the large batch to be produced. The TRT reduction the OLT reduced to 1 day fromabout 30 days, PLT reduced to zero from the normal 15-30 days, and TLT reduced to less than half. Theeffect of these reductions on the inventory levels and availability is illustrated below in blue. Supply Inventory Order L.T. Figure 2 Production L.T. Transportation L.T. TimeThe inventory to be maintained at the central warehouse / plant warehouse = average demand per day on itx production lead time x factor for unreliability of the plant. The initial stock level is designated into threecolors- red, yellow and green for each 33% band. Stock at a level lower than 66% of the designated stocklevel will be in red. 100% Green Level 66% Figure 3 Consumption Receipt 33% 0 Units Replenishment TimeVector Consulting Group www.vectorconsulting.in
  5. 5. TOC solutions inDistribution Chain inFMCG SectorWith increasing demand trend, the stock level will continuously be in red as the supply is insufficient tocater to the rising demand. If the stock remains in red for a period of time equal to the replenishment timeto that stocking point, the stock level is changed by 33% i.e. one color band. Any further change in stocklevel is carried out only after observing the stock levels after the addition (33%) material has already arrivedat the stocking point. Similarly for decreasing demand trend, the stock level is reduced by 33% if the stock isalways in green.5. The case studyThe data collection and fieldwork was carried out at the distributor points and retail stores and alsoincludes participant’s opinion survey along with the collection of documents used, Monthly Sales Summery(MSS), Sales force’s Daily Sales Reports (DSRs) and performance data.5.1 The characteristics of the case organizationThe case study is about 200 Mn USD Indian FMCG sector firm with market leader position in the relevantcategory. It has about 1,000 direct distributors across the country of which Class-A distributors (business of40 to`10 lakh and more) comprise about 30 percent of the total strength, Class B (`10 to 5 lakh) and Class C(less than `5 lakh) distributors comprise the rest. The total numbers of SKUs handled are approximately100in number. The case study firm is the only FMCG firm in India to implement a replenishment model basedon Theory of Constraints (TOC) in the SCM area. The firm has consistently worked on the consolidation of itsconsumer portfolio by combining the operational synergies and scale of its consumer brands to stay at thetop.5.2 The environment of the case organizationThe case study firm’s factories supply to the firm’s plant warehouse. Goods move from the plant warehouseto regional warehouses, thereon to the CFAs, distributors, and to retailers. For the small towns, the firm hasan alternate model. The CFAs supply to superstockists, who in turn, supply to sub-stockiest which aresituated in small towns to service the local retailers. This model distribution aims at increasing depth ofdistribution. The firm has more than four thousand sub-stockiest to cover all the towns and the nearbyvillages in India. The remote villages are covered by vans that make a trip once in 15 days and supply to thelocal retailers. More than forty two percent of our sales come from the rural areas. The firms Supply chaindepartment uses the hub-and-spoke model to service each node on a daily basis by consolidation of theproducts at the hub. In a case if a particular CFA functions properly the associated hub can be bypassed bysending the material directly. The company chose MFG/PRO for its ERP to decentralized structure to beatInternet connectivity issues so that each factory, each branch and each CFA could operate the ERP on itsown .The firm went live on all the applications simultaneously and connected downstream supply chainmembers in phased manner using a middleware on a real-time basis to reduce lead times, increase orderaccuracy, better quality of service and overall, and profit margins. For Upstream supplychain management, the firm linked all its major distributors in a phased manner together through amiddleware. For the Downstream supply chain management, the firm customized and installeddownstream supply chain management tool developed by a south Indian IT firm - the market leader in theIndian Downstream SCM market. The objective was to gain access to the periodic sales and stock data. Thefirm uses information gathered on the middleware to decide the quantity to be produced at itsmanufacturing plants. Similarly, the Downstream SCM tool helps the firm to gather data from its retailers.The traditional system of pushing products was responsible for out of stock or excess stock situation. Thebottleneck was policy constraints in the form of fifteen days stock norms at distributor point and generally,small quantities of orders could not be served. There was no policy on stock norms at retail points. Thesales volume of slow moving items was very low and the market was dictating the pace of production forthese items. The firm carried high dependency and stock pressure on a particular category and the stockVector Consulting Group www.vectorconsulting.in
  6. 6. TOC solutions inDistribution Chain inFMCG Sectorpressure needed to be reduced for this identified category. The high stock pressures on distributors due tomanagerial policy resulted in lowering down the ROI of the distributors that needed to be changed to abetter replenishment system. The practice of focusing on only primary sales needed to be changed to thesecondary sales & off- Take oriented replenishment practices. Stock outs at retail points needed to becontrolled by monitoring stock at retail point periodically. A fast moving SKU stock shortage in the peakseason was a constraint that was to be changed to more reliable and responsive system of replenishment.Low productivity, range selling and bills productivity of the salesmen needed to be improved by fulfilling allthe orders booked by them in retail outlets by addressing the stock shortages.5.3 Why TOC - the other approaches would give different resultsWhereas Lean sees the case study firm as a sum of parts which can be improved individually, TOC focuseson that one area (the “constraint”) which, when improved, will have the greatest holistic benefit.Improvements elsewhere are then made, but the priority at all times remains the constraint resource. Leancould have reduced lead time and inventory and thus costs by eliminating waste; TOC has reduced lead timeand inventory in order to gain capacity, increase Throughput and provide a competitive edge – thus enabledthe business to grow. Lean could have promoted maximum resource efficiency, whilst TOC promotesmaximum resource flexibility. Lean could have eliminated excess inventory, idle capacity and variability; TOChas recognized that in practice, variability can never be completely eliminated - but its effects can beprotected against by the use of time buffers, whilst protective capacity and inventory can safeguardThroughput against variability of supply.Vector Consulting Group www.vectorconsulting.in
  7. 7. TOC solutions inDistribution Chain inFMCG SectorThough, the implementation of Lean could also prove to be a success, yet Lean has serious limitations interms of long time taken, high cost involved, slow execution and fewer improvements in the bottom line.Lean doesn’t guide from which weak area to start in terms of reaching goal of perfection thereby, creatingpriority conflicts among different department. On contrast, The Theory of Constraints provides a clear cutmethodology for identifying the priority area and focusing improvements locations having the maximumimpact on the entire organization in totalitySupplyChain5.4 The implementation of TOC in the case organizationThere were seven steps taken for TOC implementation. Firstly, Strategic plan was formulated wherein TOCwas incorporated in the mission statement, "The Viable Vision" was included and organization wasrestructured from TOC perspective. Tactical and Operational planning were formulated in the second andthird stages respectively. In the next stage, under “Train the trainers” programs, training was imparted to allthe 31CFAs of the firm and later on, all the 980 distributors, 470 Sales officers, and 1698 salesmen were alsotrained. In the fifth stage, a survey of the concerns/opinions of the related entities on TOC was carried out.In the sixth stage, TOC rollout took place in the target beats as per the operational plan. Finally, Continuousfeedback and control ensured continuous improvements. The TOC Five Step Thinking Process was used inthe firm to identify certain bottlenecks which were constraints on the performance of the entire system.Several bottlenecks had appeared while applying the first step of the TOC based Thinking Process, such asMaterial constraints (Source: High stock pressures on one category), Management constraint (Source: Policyof 15 days stock at distributors), Measure constraint-sales (Source: The excess focus on primary sales),Measure constraint-sales force performance (Source: Sale force evaluation based on sales volume only),However, the actual constraints was Market constraints. The firm switched to a complete replenishmentmodel with a new mindset to give away forecasting and work with replenishment. A completereplenishment model depends on the information flow on a daily basis in the supply chain dynamic. Everyday, till midnight, the firm collects sales and stock data from its distributors through the IT network. Thisinformation flow continues till midnight. Then from midnight to early in the morning, the firm runs thereplenishment engine that shows t how much stock needs to be supplied between particular nodes in thechain along with the required quantity of stock to be manufactured. The daily processing ofinformation keep inventory costs low and save on storage, loading and unloading costs for these products.As per the TOC guidelines, replenishment model had negligible requirement of forecasting demand.However, the firm did not do away with the forecasting of demand and forecasting is done for the SKUsexhibiting high seasonality in demand .The purpose of demand forecasting in such a case was to analyze themarket trends. The TOC based replenishment engine does not need dependency on forecasting. On a daytoday basis, TOC based replenishment system points out the behavior of the sales in a market with respectto each SKU in respective territories of the distributors. The TOC based replenishment approach helped ininventory cost-control. The firm could clearly see the benefits in the coming months wherein, there was animprovement in the availability of all the SKUs and the inventory levels actually came down. The result ofthe lower inventory was reduction in cost. The firms distributors had a concern that TOC implementationwas a risk for their business as it involved of the unknowingness of future results and a strong element ofVector Consulting Group www.vectorconsulting.in
  8. 8. TOC solutions inDistribution Chain inFMCG Sectorcomplexity. Majority of the respondents felt that TOC might lead to loss of control over system because itbeing a new process. However, the sales department was found to be more concerned about the potentialloss of Primary and Secondary sales in short runs. 5.5 Results of TOC implementation As described by ([12] Malik, Kuldeep Singh; PK, Hemalatha (2011); the average inventory per distributor reduced from 15 days to 2 days, ROI of distributor increased from 13 to 38 percent, salesman bill productivity increased from 41% to 88%; ,Average TLSD per sales man, per day, per beat increased from 44 to 72,the focus shifted from the push system to the pull system, An increase in TLSD indicates a new focus on range selling, the improvement in ROI of the distributors led to increments in salaries of salesmen,retailer’s performance indicators also exhibited remarkable improvements due to availability of right stock,in the right quantity and at the right time . TOC resulted in increase in sales of retailers and distributors,strengthening the relationship between various links in the company’s sales of retailers and distributorssystem.5.6 The managerial implications of TOC implementation resultsThere could be several challenges in front of managers of the TOC implementation firm. As per the casesstudy in this paper, some challenges were namely; initial loss of sales volume due to transition from atraditional system to the TOC system. There could be loss of man days as the sales team must attend theTOC Workshops. There could be a resistance to change from several entities within the organization or thedistribution channel members. To provide TOC training for all the distributors and sales force could becomean extremely challenging task for the management. Retailers’ excess stock in the inventory pipelines needsto be managed and this excess has to be bought back by the firm to set stock norms for retailers on TOCguidelines. The TOC implementation firm’s sales force has to do regular monitoring of physical stock at retailwith the increasing database; accuracy becomes a challenging task for the sales force. The distributors mustsupply all the order generated at retail and if the purchase order size is small then it becomes very difficultto recover their costs. Retailers must be briefed on TOC inside their stores and in this in formal training isvery tough to be conducted. The top management must support the initial loss of sales to clean excess stock piled up in the Supply chain. The loss of man days of sales force in TOC training should not be factored as a loss. All the concerns and doubts in the minds of distributors, retailers, managers and employees must be resolved prior to TOC implantation in order to get buy-ins. Sales force should be trained on TOC appropriate training methods. Retailers should be motivated by offering additional margins on the basis of adherence to the TOC norms set for them by their respective Sales Officers. The adherence to the TOC norms at retail leads to improved product visibility at the POS. A retail audit should be made by the managers to correct the non-cooperating TOC outlets. TOC outlets can serve as the Key outlets for launch of new products.6. ConclusionsTheory of constraints’ solutions in retail operations and distribution ensure better availability at retailerswith reduced inventory in supply chain for FMCG firms. The reduction of inventory of retailers and ensuresstock availability with an increase in TOC. The result of this study can be tested quantitatively to generalizeVector Consulting Group www.vectorconsulting.in
  9. 9. TOC solutions inDistribution Chain inFMCG Sectorfor different industries .This study is unique for the reason that there is a scarcity of papers covering TOCapplications through case studied. This paper is unique to cover new insights into TOC implementation atretail level to guide the managers of FMCG firms on how to utilize TOC solutions at retail to manageinventories, to ensure that the right stock is available at the right time in the right quantity leadingrealization of the "The Viable Vision" conceptualized by Dr.Goldratt.ReferenceAndotra, Neetu; Pooja., 2009. TOC Supply Chain Management Solution for Food Processing Industries. Journal of Small Business andEntrepreneurship, 22(2), 239-14Chakravorty, Satya S., 2009. Process Improvement: Using Toyotas A3 Reports. The Quality Management Journal, 16(4) 7- 20.Dalton, Michael A., 2009. Whats Constraining Your Innovation? Research Technology Management, 52(5)52-13.Goldratt, Eliyahu M., 2004. The Goal: A Process of Ongoing Improvement. North River pressGupta, Mahesh; Chahal, Hardeep Kaur; Gurjeet Sharma, Ramji., 2010. Improving the weakest link: A TOC-based framework forsmall businesses. Total Quality Management & Business Excellence; 21( 8), 863-883,Inman, Anthony, R ., 2009. Analysis of the relationships among TOC use, TOC outcomes, and organizational performance.International Journal of Operations & Production Management, 29(4), 341.Kohli, Amarpeet S; Gupta, Mahesh., 2010. Improving Operations Strategy: Application of TOC Principles in a Small Business. Journalof Business & Economics Research, 8(4); 37-9.Larsson, Mats; Arif, Mohammed; Aburas, Hani M., 2008. Incremental changes and efficiency leaps in the improvement of internaleffectiveness. Management Research News. Patrington, 31( 8), 583Lockhart, Julie; Audrey, Taylor., 2007. Environmental Considerations in Product Mix Decisions Using ABC and TOC ManagementAccounting Quarterly. 9(1), 13-6.Mabin, V.J; Balderstone S.J., 2003., The performance of the theory of constraints methodology: Analysis and discussion of successfulTOC applications. International Journal of Operations & Production Management, 23( 6).Mahmoud, M Yasin; Czuchry, Andrew J; Kady, Rani A., 2008. Re-engineering operational practices and processes to improve thecustomer focus of a marketing organization . Advances in Competitiveness Research, 16(½), 47-62Malik, Kuldeep Singh; PK, Hemalatha., 2011. Theory of Constraints applications in FMCG Distribution channel: A case Study"proceedings of the Biennial Supply Chain Management Conference. organized by Indian Institute of Management Bangalore,dated Jan 7– 8, 2011.Mehra, Satish; Inman, Anthony R; Tuite, Gregory, 2005. A simulation-based comparison of TOC and traditional accountingperformance measures in a process industry, Journal of Manufacturing Technology Management, 16 (3),328-343Noriaki, Aoki, Sachiko Ohta, Nobutaka Kikuchi, Mariko, Oishi., 2008. An Introduction to the Theory of Constraint and How it Can BeApplied to Medical Management. Physician Executive, Tampa, 34(2), 52-57Roy Stratton, Alex Knight., 2010. Managing patient flow using time buffers. Journal of Manufacturing Technology Management,21(4), 484Roztocki, Narcyz.,2002. Successfully Managing an E-Business by Applying the Theory of Constraints. IIE Annual ConferenceProceedings, 2002Pophaley, Mahesh; Vyas, R K., 2010. Optimizing Maintenance Management Efforts by the Application of TOC: A Case Study. UPJournal of Operations Management. 9(3), 48-62Stratton, Roy; Knight, Alex, Knight., 2010., Managing patient flow using time buffers. Journal of Manufacturing TechnologyManagement, 21(4), 484 Kuldeep Singh Malik is Head of Research at Vector Consulting Group. Vector Consulting Group (www.vectorconsulting.in) is the leader of ‘Theory of Constraints’ consulting in India. Vector has been working closely with some of the well known retail chains, FMCG, fashion products, custom manufacturing industry and auto after market companies to improve their overall profitability through supply chain effectiveness. Kuldeep Singh Malik can be reached at kuldeep@vectorconsulting.inVector Consulting Group www.vectorconsulting.in