I interviewed Suneel Aiyar who discussed Behavioral Economics and its Relations to Supply Chain.
Nice speaking with you today, Suneel. This is going to be an interesting topic on behavioral economics and its relations to supply chain. Can you first provide us with a brief background of yourself?
Thanks, Dustin. It's indeed a very exciting subject. I can assure you that. I have worked, I am and my team have worked for decades in the supply chain space helping organizations build their supply chain and operational capabilities in emerging markets, in growth markets, where there has been a [inaudible 0:39] growth, there has been all the uncertainties of inflation, bottleneck infrastructure — all the variables which you can think of. [Inaudible 0:49] availability of skilled people to manage this. We have been extremely proud that we have been able to do a tremendous amount of work and improve the capabilities of organizations. Some of them are multinational corporations, big business houses, and family-owned companies [inaudible 1:12].
One thing which comes up [inaudible 1:18] all of this, was a fact they were addressing only the rational part of the supply chain, which means only [inaudible 1:24] in the supply chain. How do you optimize inventory? How do you optimize freight? How do you increase the service levels? This was also about intensive mathematical modeling and process improvements.
One thing which caught my attention was that they're only talking about the rational [inaudible 1:45]. How about the emotional part of people in this sector, gamut of things?[Inaudible 1:52]. Today I work with a team of my peers [inaudible 1:58] in different consulting organizations. I’m one of the cofounders of a company called worxogo, which is into the space of managing and improving performance behavior of people using artificial intelligence, AI, and it's tool, specifically focusing on behavior [inaudible 2:20].
What is behavioral economics in its relation to supply chain?
Let me give a few examples of this. Perhaps that will help you understand. Like I said earlier when we talked about supply chain and its improvement, we talked about optimization, trade-offs, process part of it.
There are certain things which [inaudible 2:51] very well across the different initiatives which happen in [inaudible 2:55].It's a very strange phenomenon that when we talk about retail stores stocking for a season, generally there is a tendency to understock the high-margin, high-contribution SKUs and overstock the low-contribution SKUs. It's a very strange phenomenon.
So when we look into it, we realize that decisions are being taken by focusing on only one variable... For instance, if it's a high-priced, high-contribution item, the [inaudible 3:33] goes to, "Hey look. I got to [inaudible 3:38]." This is a very, very high-contribution stock.
So the payoff between ordering costs and carrying costs is not taken optimally. Well, I consider the low-value items, low [inaudible 3:52] SKUs, people think, "Let's [inaudible 3:53]. Let me order this in bunch. Let me [inaudible 3:56]."
So as a tendency, there is a huge [inaudible 4:00] leakage during seasons. And surprisingly, the human behavior is very different. The [inaudible 4:07].
The second intriguing [inaudible 4:12] when we look at the projects.A large number of projects [inaudible 4:17] delayed for some reason or another. Of course, there is been [inaudible 4:20] improvement to [inaudible 4:22] these projects better. One thing which stands out is how do people estimate time taken for a project.
Project after project, there is this over-confidence bias. If I am given, how much time will it take? I've been [inaudible 4:37] the times, being very optimistic about it. And there is wishful thinking which creates it. So [inaudible 4:44].
The third aspect is a lot of these organizations that I've dealt with talk about global sourcing. But when it comes to moving beyond the current suppliers, they're suppliers. For example, all Chinese suppliers, they're going to be low-cost. But we really don't know about quality, which is really not the [inaudible 5:10] in the market. There is a certain confirmation bias [inaudible 5:13] in the mind. So there is a humongous applicability of all this is the supply chain — demand forecasting, [inaudible 5:20] marrying supply relationship [inaudible 5:22] managing new products.
How is this relevant to supplier relationships?
Let me talk about a case. Supplier relationship itself is a large areas, starting from how I identify a supplier, how do I distinguish between whether he's a performing or a potential performing supplier. But let me take a case of execution.
Invariably all organizations, [inaudible 5:55] who played a major role in expediting the outsource items. So there are tools today available, a simple ERP tool, like I said, [inaudible 6:10] which gives a [inaudible 6:11] to people.
But ask most of them what will they do, how do they follow? [Inaudible 6:17] for them to follow.Generally,it's not a plan. The trigger for them is a shortage which [inaudible 6:25] organization where they work. Why is it so? Why don't they look into the plan? Why do they focus so much on the shortages?
One of the reasons is in terms of my mental effort and physical effort as an [inaudible 6:39], the least effort job is to go check through the stores of the [inaudible 6:45], organization and find out where the shortage is. I don't have to focus on millions of thousands of parts. All I need to do is what do I need to do today. And if I succeed in getting that today, I am treated as a hero.
So this behavior, this [inaudible 7:02] along with the behavior of [inaudible 7:04], this creates it. So this is very detrimental for managing a plant relationship because it's a most inefficient way of managing things. So what do you do here?
The first thing and foremost thing is establish a formal commitment date. A simple formal commitment date between the vendor and the principal organization.But usually, it doesn't happen. Why doesn't it happen?
One of the reasons is the companies very often ignore what is their contracted lead time for supplies. There is always a shortage. There is always a [inaudible 7:50] companies [inaudible 7:51] There is always a reason for a part [inaudible 7:54] yesterday. So the commitment dates are not at all followed.
So once...Which is a very rational behavior if you look into it — why commitment dates are not followed. Why don't they don't want to follow the commitment behavior? They believe that this is the least risky option of not following commitments.
So once you shift to a commitment offer, it induces a great resistance which has to be [inaudible 8:22]. Once you move towards commitment-based behavior just of the schedule-line items, we saw tremendous improvement in supply chain organizations because a factor of trust between the suppliers and the principal increased exponentially. This is just one example of how it can be applied. I won't say that this is only one in thousand for an example, [inaudible 8:48] supplier relationship.
Can you share where you've seen some success in putting these concepts into practice?
As I spoke to you that my startup, which focuses on various performance behavior engine, we have [inaudible 9:09] around nearly a [inaudible 9:11] users across 25 organizations. We have seen a steep change in performance in the area of sales coming in, revenue growth. We have seen improvement up to 20%, reduction in supply chain lead times, throughput improvement. We have seen the lead times crashing by as high as 50%. Believe it or not, in one case, it crashed [inaudible 9:36] by 70%. The lead times.The supply lead times. Because once they [inaudible 9:41], the waste in the supply chain and the [inaudible 9:44] lead times goes away.
We have seen improvement in throughput. We have seen improvement in sales revenue, in productivity. You can name it. We have seen everywhere with confirmed numbers hitting the company's bottom line.
And thank you, Suneel, for sharing today.
My pleasure. My pleasure.
About Suneel Aiyar
Behavior / Choice architecture in Operations & Supply Chains - Predictably Irrational