The following paragraph caught my attention when it appeared in an article on the TechTarget Web site.


A more efficient supply chain is almost, by definition, more fragile. An inefficient supply chain is characterized by extra inventory, which can be deployed to cover up errors and unexpected disruptions. As supply chains become more efficient -- that is, they have less extra inventory sitting around -- any disruption in the flow of goods can have an immediate effect on customer service and the availability of goods downstream. [Emphases added.]


Most supply chains have a bi-modal stock distribution

DDMRP Bimodal Inventory Distribution.jpg
Most supply chains live in a constant state of their stocks (inventories) being distributed bi-modally. By that we mean that they have many SKU-Locations (SKULs) with too much inventory, many SKULs with too little inventory or out-of-stock entirely, and very few SKULs with just the right quantities to sustain FLOW.


Common misconception about supply chain efficiency

The paragraph from the article (above) is indicative of common misconceptions about what constitutes supply chain "efficiency."


First, it should be noted (and, if you are a supply chain manager or executive, you are probably very aware) that the supply chain with “extra inventory sitting around” is just as likely to have shortages, out-of-stocks and disruptions in FLOW right alongside the excess inventory. We almost always see—and hear from our clients about—supply chain and inventory managers being faced with "too much of what we don't need, and too little of what we do need."


Second, the true efficiency of the supply chain as an operating system cannot be measured by raw quantities of inventory. One man’s treasure is another man’s folly.


Your supply chain’s true efficiency is indicated by two factors: Throughput delivered and operating expenses. Here we define Throughput narrowly as: revenues less (only) truly variable costs. (See more on Throughput Accounting here for details.)


When these two factors are put into the following formula, you have the supply chain efficiency ratio:


Throughput / Operating Expenses


Add up your total Throughput for a given period, divide it by your operating expenses over the same period of time, and you have your supply chain efficiency. It is a direct measure of how profitably you are operating your supply chain. When this number is increasing, you are improving. When this number is declining, you are falling backwards.


It really is as simple as that.


The supply chain that delivers the greatest amount of Throughput, while holding the line on operating expenses, is the most efficient supply chain.


This means it is the supply chain where FLOW is effectively sustained in the absence of excess overhead is efficient.




Because both inventory overstocks and inventory shortages lead to increases in overhead expenses (e.g., carrying costs, stock movements, expediting, overtime) with no corresponding increase in Throughput.


Your turn

Are you confusing “lean” or lower inventories with efficiency?


Let us know how you determine “efficiency,” and why you believe it is a valid measure by which to manage. Is the metric continuously leading you on a path of ongoing improvement (POOGI)?


Leave your comments below, or feel free to contact us directly, if you prefer.





Figure adapted from Demand Driven Performance Using Smart Metrics by Smith and Smith



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