SUPPLY CHAIN MEASURES

Supply chain performance measure can be defined as an approach to judge the

performance of supply chain system. Supply chain performance measures can
broadly be classified into two categories −
• Qualitative measures − For example, customer satisfaction and product
quality.
• Quantitative measures − For example, order-to-delivery lead time,
supply chain response time, flexibility, resource utilization, delivery
performance.
Here, we will be considering the quantitative performance measures only. The
performance of a supply chain can be improvised by using a multi-dimensional
strategy, which addresses how the company needs to provide services to diverse
customer demands.

Quantitative Measures
Mostly the measures taken for measuring the performance may be somewhat similar
to each other, but the objective behind each segment is very different from the other.
Quantitative measures is the assessments used to measure the performance, and
compare or track the performance or products. We can further divide the quantitative
measures of supply chain performance into two types. They are −

• Non-financial measures
• Financial measures

Non - Financials Measures

The metrics of non-financial measures comprise cycle time, customer service level,
inventory levels, resource utilization ability to perform, flexibility, and quality. In this
section, we will discuss the first four dimensions of the metrics −

Cycle Time
Cycle time is often called the lead time. It can be simply defined as the end-to-end
delay in a business process. For supply chains, cycle time can be defined as the
business processes of interest, supply chain process and the order-to-delivery
process. In the cycle time, we should learn about two types of lead times. They are
as follows −

• Supply chain lead time

• Order-to-delivery lead time
The order-to-delivery lead time can be defined as the time of delay in the middle of
the placement of order by a customer and the delivery of products to the customer.
In case the item is in stock, it would be similar to the distribution lead time and order
management time. If the ordered item needs to be produced, it would be the
summation of supplier lead time, manufacturing lead time, distribution lead time and
order management time.
The supply chain process lead time can be defined as the time taken by the supply
chain to transform the raw materials into final products along with the time required
to reach the products to the customer’s destination address.
Hence it comprises supplier lead time, manufacturing lead time, distribution lead time
and the logistics lead time for transport of raw materials from suppliers to plants and
for shipment of semi-finished/finished products in and out of intermediate storage
points.
Lead time in supply chains is governed by the halts in the interface because of the
interfaces between suppliers and manufacturing plants, between plants and
warehouses, between distributors and retailers and many more.
Lead time compression is a crucial topic to discuss due to the time based competition
and the collaboration of lead time with inventory levels, costs, and customer service
levels.

Customer Service Level

The customer service level in a supply chain is marked as an operation of multiple
unique performance indices. Here we have three measures to gauge performance.
They are as follows −
• Order fill rate − The order fill rate is the portion of customer demands
that can be easily satisfied from the stock available. For this portion of
customer demands, there is no need to consider the supplier lead time
and the manufacturing lead time. The order fill rate could be with
respect to a central warehouse or a field warehouse or stock at any level
in the system.
• Stockout rate − It is the reverse of order fill rate and marks the portion
of orders lost because of a stockout.
• Backorder level − This is yet another measure, which is the gauge of
total number of orders waiting to be filled.
• Probability of on-time delivery − It is the portion of customer orders
that are completed on-time, i.e., within the agreed-upon due date.
In order to maximize the customer service level, it is important to maximize order fill
rate, minimize stockout rate, and minimize backorder levels.

Inventory Levels
As the inventory-carrying costs increase the total costs significantly, it is essential to
carry sufficient inventory to meet the customer demands. In a supply chain system,
inventories can be further divided into four categories.

• Raw materials
• Work-in-process, i.e., unfinished and semi-finished sections
• Finished goods inventory
• Spare parts
Every inventory is held for a different reason. It’s a must to maintain optimal levels of
each type of inventory. Hence gauging the actual inventory levels will supply a better
scenario of system efficiency.

Resource Utilization
In a supply chain network, huge variety of resources is used. These different types of
resources available for different applications are mentioned below.
• Manufacturing resources − Include the machines, material handlers,
tools, etc.
• Storage resources − Comprise warehouses, automated storage and
retrieval systems.
• Logistics resources − Engage trucks, rail transport, air-cargo carriers,
etc.
• Human resources − Consist of labor, scientific and technical personnel.
• Financial resources − Include working capital, stocks, etc.
In the resource utilization paradigm, the main motto is to utilize all the assets or
resources efficiently in order to maximize customer service levels, reduce lead times
and optimize inventory levels.

Finanacial Measures
The measures taken for gauging different fixed and operational costs related to a
supply chain are considered the financial measures. Finally, the key objective to be
achieved is to maximize the revenue by maintaining low supply chain costs.
There is a hike in prices because of the inventories, transportation, facilities,
operations, technology, materials, and labor. Generally, the financial performance of
a supply chain is assessed by considering the following items −
• Cost of raw materials.
• Revenue from goods sold.
• Activity-based costs like the material handling, manufacturing,
assembling rates etc.
• Inventory holding costs.
 • Transportation costs.
• Cost of expired perishable goods.
• Penalties for incorrectly filled or late orders delivered to customers.
• Credits for incorrectly filled or late deliveries from suppliers.
• Cost of goods returned by customers.
• Credits for goods returned to suppliers.
In short, we can say that the financial performance indices can be merged as one by
using key modules such as activity based costing, inventory costing, transportation
costing, and inter-company financial transactions.

ADDITIONAL MEASURES

Inventory Investment- Inventory investment directly affects an organization’s profit

and cash flow. Every organization needs to invest in raw material, work-in-process,
and finished goods inventory to assure required Customer service targets due to
long lead times, fluctuation in demand, inaccuracy in demand forecasting, and the
lack of manufacturing capacity. Inventory investment, for example as a percentage
of gross or net revenue, should be calculated by item and location, based on the
item’s lead time, expected demand, and Customer service targets.

Inventory Efficiency - High inventory investment by itself does not indicate an

inventory problem, as inventory investment for a specific product correlates with
the demand for that product. Therefore, it is important to determine the efficiency of
that inventory investment by measuring inventory turns or days-of-supply.

Inventory turns are calculated as the ratio of the annualized cost-of-goods-sold

(COGS) and the monthly average inventory investment. Inventory turns measure
how often the inventory “turns over” during a year.

Days-of-Supply (DOS) is defined as the number of days required for the forecasted
cost-of-goods-sold (COGS) to match the inventory investment on-hand at a given
point in time. For example, if the inventory investment at the end of the month is
equal to $10M and the current forecast predicts that it will take 15 days to
accumulate a total of $10M in cost-of-goods sold, then the organization has 15
days-of-supply by the end of the month.

Some organizations exclude excessive and obsolete inventory, for example,

inventory that does not have any demand in the next 30, 60, or 90 days or inventory
above a pre-defined optimum inventory level for that product, from their inventory
efficiency metrics.
On-Time Supplier Delivery - Supplier on-time delivery performance is calculated
based on the agreed versus actual delivery time. This metric can be stated in terms
of on-time percentage (attribute), which means the supplier delivered during the
agreed delivery window or not, or in terms of actual hours late or early (variable).
The latter method is more useful when initiating Lean Six Sigma projects to improve
on-time supplier delivery performance.

Supplier on-time delivery is important to measure, as late deliveries often

negatively impact an organization’s manufacturing and delivery schedule and
therefore operating costs and overall lead times.

Forecasting Accuracy - Forecasting accuracy is an important supply chain metric as

it estimates future demand and thus drives every aspect of an organization’s supply
chain. There are many ways to define forecasting accuracy including the three
defined below. Forecast accuracy should be calculated by product or product family
and most organizations choose a 30-, 60- or 90-day outlook, depending on their
industry and forecasting maturity, to determine the accuracy of their demand
forecasting and planning process. Some forecasting accuracy metrics are:

Average Deviation – The Average Deviation or Forecasting Error simply calculates

the monthly average deviation (difference) between the forecasted and the actual
demand. While this is a very easy way to calculate forecasting accuracy, the
disadvantage is that positive and negative forecasting errors will cancel each other
out.

Average Absolute Deviation – To overcome the above-mentioned disadvantage of

the average deviation calculation, some organizations use the average absolute
deviation to calculate their forecasting accuracy. The difference in the calculation is
that negative deviations, e.g. as for the month of April in Table 3, will be changed to
a positive deviation.

Root Mean Squared Deviation – The Root Mean Squared Deviation calculation is
very useful as it is also used to determine the safety stock for specific products or
product families. Here the monthly deviations will first be multiplied by themselves
(squared), then the average of the squared deviations will be calculated, and finally,
the square root will be calculated of the average.
Lead Time - Lead Time is defined as the time required to perform a specific task or
process. Measuring the lead time of critical supply chain and other business
processes, e.g. order-to-cash or order-to-ship, is important because lead times drive
a significant portion of the overall supply chain costs and inventory investment.
Individual lead time components include queue time (waiting), processing time,
moving and transportation, receiving, shipping and inspection.

Unplanned Orders - Unplanned orders, measured for example as a percentage of

total orders, are orders that are scheduled within the standard lead time or exceed
their original capacity allocation, for example, based on the outcome of the monthly
Sales and Operations Planning meeting. Isolated unplanned orders can normally be
integrated quite seamlessly into the existing production schedule. However, poor
management practices, inaccurate demand forecast, or internal process breakdowns
often allow unplanned orders to become a chronic issue, resulting in significant time
spend on re-scheduling, additional machine setups, possible delay of already
scheduled orders, and raw material and capacity shortages.

Schedule Changes - Schedule changes are different from unplanned orders as they
are normally caused by process changes or unexpected events. Some of the major
contributors to schedule changes include material shortages, equipment
breakdowns, and staffing and quality issues.

Overdue Backlog - While for some organizations a certain amount of backlog is

normal, every organization should periodically reevaluate its assumption about the
optimal level of its backlog. Excessive or overdue backlog, often measured as a
percentage of revenue, can be caused by poor scheduling, quality problems,
machine breakdowns, or production and material constraints.

Material Availability - All resources required to manufacture an order need to be

available at the scheduled time. Poor resource availability results in work
stoppages, downtime, and rescheduling of orders. Common reasons for material
availability issues include incorrect inventory information, lack of information, poor
supplier performance, quality or personnel issues, and machine breakdowns. As a
result of poor material availability, inventory investment, and work-in-process
increase.
Excess & Obsolete Inventory - Excess inventory, for example as a percentage of
average cost-of-goods-sold (COGS), is often calculated based on a pre-defined
optimum inventory level for that product. The optimal inventory level for a specific
product is a function of lead time, demand quantity, and expected service targets.
Excess is defined as the inventory on-hand minus the optimum inventory level.

Some organizations start with a simpler method to determine excess inventory and
define inventory that does not have any demand for example in the next 30, 60, or
90 days as excess. This can in many situations be an effective way to get started
until appropriate product-specific inventory levels are determined based on the lead
time, demand quantity, and expected service targets.

Obsolete inventory started in most cases as excess inventory, but now has no
longer demand in the sales forecast. This results in the loss of the COGS or book
value of this obsolete inventory. Obsolete inventory is often the result of a poor
New Product Introduction Process or Transition Planning Process used to manage
the transition from an existing product to a new product.

Obsolete inventory is difficult to eliminate without write-offs or price reductions

that may impact the sales of newer products.

Customer Service Targets - Customer service targets are the foundation of a Lean
Six Sigma supply chain since the end-to-end system needs to be designed and
managed to provide an organization’s products and services based on its customers’
needs, expectations, and requirements. Service targets can be measured as a
percentage of on-time delivery with respect to unit fill rate, order line fill rate, order
fill rate, or in financial terms. Many organizations differentiate between on-time
delivery based on the Customer’s request date and the organization’s promise or
commit date based on resource availability and scheduling decisions.

Perfect Order - The perfect order metric captures every step in the life of an order.
It measures the number of errors per order line and is a valuable form of metric that
points out the interrelationship between different parts of an organization’s end-to-
end supply chain.

Example:

Order Entry Accuracy: 99.5%

Warehouse Pick Accuracy: 99.4%

On-Time Delivery: 95.0%

Shipped w/o Damage: 97.5%

Invoiced Correctly: 99.8%

In this example the perfect order measure would be 91.43% (0.995 X 0.994 X
0.950 X 0.975 X 0.998 = 0.9143 or 91.43%).

Gross Profit Margin - Gross margin is obviously a key measure to determine an

organization’s operational efficiency in converting inputs into outputs, as it is
calculated as revenue minus cost-of-goods-sold (COGS).

Asset Efficiency - Measuring how effective an organization is managing its assets is

critical to developing a supply chain based on Lean Six Sigma principles, methods,
and tools. Supply chains that meet their financial and operational goals and
objectives with fewer assets than their competitors need to be “leaner” by
definition.

Asset efficiency is calculated as the ratio of an organization’s sales and the average
value of an organization’s assets. Depending on the scope or purpose of this metric,
assets include accounts receivable, long-term investments, inventory investment,
properties, plants, warehouses, and equipment.

Return on Assets (ROA) - Lean Six Sigma Supply Chains should have high ROA
levels relative to their competitors and ROA levels should continuously improve as
an organization’s Lean Six Sigma deployment impacts more and more parts of the
supply chain organization and matures.

ROA is calculated by multiplying the Net Profit Margin with asset efficiency. The
net profit margin is calculated by dividing the net income by the total revenue,
where the net income is defined as the total revenue minus all expenses including
taxes.

Gross Margin Return on Investment (GMROI) - The GMROI is an excellent

operational metric that shows how much capital an organization should invest in
inventory to increase its return on investment (ROI).
GMROI is calculated as the ratio of gross margin and an organization’s average
inventory investment cost. When used in conjunction with other financial metrics,
the GMROI can be a very good metric for Lean Six Sigma projects to effectively
utilize Inventory Investment to increase an organization's ROI.

A reference for some related numbers:

https://iimm.org/performance-measures-of-scm/