How to deal with products

having highly uncertain

demand pattern and short
product life cycle?

1
Functional vs Innovative
Products ?

2
Products differ

Cost of lost sale Low High

Risk of obsolescence Low High

Forecast accuracy High Low

Low High
Product variety

Long Short
Product life cycle

Functional Innovative
3
 And supply strategies differ
High utilization Maintain buffer
Factory focus
capacity

High turns Significant buffer stocks of

Inventory Strategy
components and FGs

Low cost preferred Aggressively

Lead-time focus shorten lead-time
over short lead-time

Low cost Speed & flexibility

Supplier selection
Integral for max Modular to enable
Product-design strategy performance at min cost postponed differentiation

Physically Market
efficient responsive

4
 Need to match supply strategy with
product type
Life cycle > 2 years Life cycle < 1 year
Gross Margin < 35% Gross Margin > 35%
Low Product Variety High Product Variety

Functional Products Innovative Products

Supply Chain
Efficient

Supply predictable
demand efficiently match mismatch
at lowest cost

Respond quickly
Supply Chain
Responsive

to unpredictable
demand to
mismatch match
minimize
stockouts,
markdowns, and
obsolete inventory
5
 So as to minimize total of two types of costs

• Physical Production/Distribution Costs

– Production Costs
– Transportation Costs
– Facility Utilization rates
– Inventory carrying cost on pipeline and cycle stocks
• Supply/Demand Mismatch Costs
– Lost revenue and profit margin when supply is less than
demand
– Product and parts scrapped or sold at a loss when supply
exceeds demand
– Inventory carrying cost on safety stocks
6
 Sport Obermeyer
A classis example of innovative product with highly
uncertain demand and short product life cycle. Also
highlights the importance of:
• Shorter lead times
• Smaller minimum order requirements
• Increased reactive capacity
• Improved market information
• Reducing the expected costs of stock outs and
markdowns 7
A page from
Sport
Obermeyer’s
product
catalog

8
 Next
year’s
catalog

9
Obermeyer’s styles are fashion-forward
and change every year

10
 The Obermeyer supply chain
stretches from Asia to Aspen

Factories in DC in Denver 800 Ski

China and Retailers
Hong Kong

11
 Obermeyer’s planning calendar (For
targeted season of Sept, 09-Jan, 10)

• Designing starts in February, 08 and Finalizes in September,

08
• Production starts in November 07, about six months ahead of
Las Vegas Show
• Las Vegas Fashion Show: March every year (March, 09)
• Bulk receiving of orders from retailers after Las Vegas in
March-April, 09
• Shipping of finished products from China / Hong Kong:
August-September, 09
• Normal Sales Season: Sept-Oct-Nov 09
• Peak Sales Season: December, -09 and January, 10
• Replenishment: In February, 10 by Obermeyer at discounted
rates and simultaneously markdowns by the retailers 12
 Problems at Obermeyer
• Long Product Development Cycle
• Inaccurate Forecasts
• High Stock outs as well as high mark downs
• Hong Kong vs. China

13
 Cost of Under and Over Production
Rococo Parka

Wholesale Price: $112.50

Profit Margin: (24% of wholesale price)= $27

Expected loss on each unsold parka: (8% of wholesale price)= $9

14
Which parka family sold best?

Black Voodoo sold 4000 Sold 4

15
Initial forecasts are highly inaccurate …

but improve
dramatically with just
a little sales data

16
Sample buying committee projections:
Which product is more predictable?

Std. Dev.
Laura Carolyn Greg Wendy Tom Wally Average

Gail 900 1000 900 1300 800 1200 1017 194

Isis 800 700 1000 1600 950 1200 1042 323

17
How to think about supply chain improvement
Product How does product availability
Availability drive revenue?

Inventory
Optimize cost of
lost margin,
carrying and
Accurate Responsive obsolescence
Forecasts Supply Chain
Track & improve the accuracy of Create a framework for inventory
forecasts that drive decisions e.g. efficiency e.g. common parts, short
parts lead time demand lead times, efficient small lot
production 18
 ???
• How should Wally think about how much of each
style he should order in November
– Production Planning
– How do we do production planning? (OM)

• What can be done to mitigate the risk?

• What are the issues of global supply chains?

– Choosing between Hong Kong & China

19
What is the solution?

20
 Risk-based production sequencing
• It refers to using speculative production capacity to
make low-risk products
• Postpone the production of higher-risk products until
additional market information reduces their demand
uncertainty
• Define the risk of producing a unit to be the expected
cost of mismatched supply and demand for that unit
• As additional market information is available, the
uncertainty about the sale of a product is reduced
• Generate probabilistic forecasts based on the
subjective forecasts of a set of individuals
21
 Early write
• Bring 25 (out of 800) largest retailers to
Aspen in February. Accounts for 20% of
sales.
• Put them up at the Ritz Carlton
• They interact with Klaus Obermeyer, an
industry icon and founder of the company
• They get an advance preview of the line
• They order early
22
 Lead time reduction
Asia

Fabric Fabric Cut/Sew Denver Retailer

Producer Dyer Factory Warehouse

undyed goods Consumer

Sport Obermeyer
• Fabric dyer lead time of several months was a problem for Obermeyer
• Dyer has long lead time on greige goods and needed to keep their
capacity utilized year round but can change colors overnight
• Obermeyer can predict total annual sales and sales of basic colors, but
can’t predict fashion colors

Solution
• Offer dyer one year commitment on greige goods and capacity
• Dye basic colors early in year and fashion colors late in
23
season on few days notice
Revised planning calendar

24
 Desk top tool run by user

Factories in DC in Denver 800 Ski

China Retailers
Order 50% in Order 50% in Retailers
November (For April (For Sept,
order in Feb
Dec, Jan) Oct, Nov)
& April

Forecasts

Product Forecast
Sketches Committee
25
 Elements of the Obermeyer process
• Early orders are highly predictive

• Early write: bring 25 largest retailers to Aspen to order early

• Cut lead times on expensive, long lead time component –

dyed fabric

• Use committee forecast process to forecast forecasting

errors
• Risk based production sequencing
– Replace point forecast by probability distribution
– Make predictable volume early.
– Set production volumes based on likely forecast
accuracy and cost of over and under production.
26
 Observations from past years’
Demand and Forecast
• Distribution show bell shaped normal
distribution curve
• Standard Deviation of the demand for a style is
approximately twice the SD of the buying
committee’s forecast for that style

27
 FACTORS AFFECTING UNPREDICTABILITY
• Short Life Time of Products (shrinking PLC)
• SKU proliferation

RESULT : Markdowns as high as 30% and also some lost sale

(How much?)

28
 Risk based production
• What is risk?
– How to quantify risk?

• How to predict what people will

buy?

29
 How to quantify risk?
• Standard Deviation and Co-efficient of
Variation
• Expected profit value
– 0.24 P *pi +0.08 P* (1-pi)

30
Similarity with “Newspaper boy
problem”?

31
 Production Planning for Short Life Cycle
Products
It’s undesirable to make things that do not sell &
also not to make things that sell….
– Find Probability of Sale
• How to find µ and σ?

• How much to produce & When

– Cannot postpone till demand is known
– What should be the strategy?

• Production Capacity
– Speculative & Reactive
µ
– How to use Speculative?

32
 How to solve?
• Can the entire production happen
after Las Vegas??

• Speculative and reactive production

capacity
– How much?

• How to allocate?

33
 How to solve?

• How to allocate?
– Product price
– Demand uncertainty
– Expected Demand

• How to rank the parkas based on risk

– Risk based production sequencing
• Make low risk products and postpone the
production of high risk products until additional
market information is available
• Grade parkas based on risk

• Do it for each variant

34
 Buying Committee Forecasts
Style Price Avg. Forecast 2 × SD (σ) CV
(µ) or SD of actual
demand
Gail 110 1017 388 0.3815
Isis 99 1042 646 0.6200
Entice 80 1358 496 0.3650
Assault 90 2525 680 0.2693
Teri 123 1100 762 0.6927
Electra 173 2150 807 0.3753
Stephanie 133 1113 1048 0.9416
Seduced 73 4017 1113 0.2770
Anita 93 3296 2094 0.6353
Daphne 148 2383 1394 0.5850
 20000

35
How to find production numbers
for 10,000 units?

Can it be Σ (µ -σ)

or

Σi µi -k σi = Speculative Capacity?

How to find the value of k?

k = 1.0607 (to make the speculative capacity equal to 10,000)

36
Equally risky recommended quantities
Style Equally Risky Avg. Forecast 2 × SD (σ) CV
quantity (µi – (µ)
kσi) =
Speculative
Capacity

Gail 606 1017 388 0.3815

Isis 357 1042 646 0.6200
Entice 832 1358 496 0.3650
Assault 1804 2525 680 0.2693
Teri 292 1100 762 0.6927
Electra 1295 2150 807 0.3753
Stephanie 02 1113 1048 0.9416
Seduced 2837 4017 1113 0.2770
Anita 1075 3296 2094 0.6353
Daphne 905 2383 1394 0.5850
 10,005 20000

37
 But there are minimum order
quantity also?
• Find a safety factor for each style
• Higher the safety factor safer to make it
early

38
 Creating a safety factor (Ref. Articles by Fisher et al., 1994)

Safety Factor = Max (µ-2m, m-µ, 0)/ σ

Categorize styles into three types

1. Expected Demand is more than twice the minimum
order quantity (m), SAFEST
2. Expected Demand is less than the minimum order
quantity, MODERATE RISK
3. Expected Demand is less than twice m but more than
m. RISKIEST

39
 Safety Factors for m=600

Style µ σ Equal Safety

Risk Q Factors
Seduced 4017 1113 2837 2.530997
Assault 2525 680 1804 1.948529
Electra 2150 807 1295 1.1772
Anita 3296 2094 1075 1.000955
Daphne 2383 1394 905 0.848637
Entice 1358 496 832 0.318548
Gail 1017 388 606 0
Isis 1042 646 357 0
Teri 1100 762 292 0
Stephanie 1113 1048 2 0
40
 Calculation of production qty.
• Starting with the safest style, compute the
order quantity using the following formula:
Order Qty. = Max [(600, µ-600-(Min SF × σ)]
• For example, if we produce only Seduce then
Min. SF would be 2.531
• If we produce Seduce, Assault and Electra
then Min. SF would be 1.177
• Total the aggregate quantity, if it has not
reached 10,000 then add one more style
• Repeat this till we get an aggregate total of
10,000 parkas
41
 Iteration I
Style µ σ SF Min. SF Q Total
Quantity
Seduced 4,017 1,113 2.53 2.53 601 601

42
 Iteration II
Style µ σ SF Min. SF Q Total
Quantity
Seduced 4,017 1,113 2.53 1,247
Assault 2,525 680 1.95 1.95 600 1,847

43
 Iteration III
Style µ σ SF Min. SF Q Total
Quantity
Seduced 4,017 1,113 2.53 2104
Assault 2,525 680 1.95 1123
Electra 2150 807 1.18 1.18 600 3827

44
 Iteration IV
Style µ σ SF Min. SF Q Total
Quantity
Seduced 4,017 1,113 2.53 2304
Assault 2,525 680 1.95 1245
Electra 2,150 807 1.18 743
Anita 3,296 2,094 1.00 1.00 602 4894

45
 Iteration V
Style µ σ SF Min. SF Q Total
Quantity
Seduced 4,017 1,113 2.53 2472
Assault 2,525 680 1.95 1348
Electra 2,150 807 1.18 865
Anita 3,296 2,094 1.00 919
Daphne 2383 1394 0.8487 0.8487 600 6204

46
 Iteration VI
Style µ σ SF Min. SF Q Total
Quantity
Seduced 4,017 1,113 2.53 3063
Assault 2,525 680 1.95 1709
Electra 2,150 807 1.18 1293
Anita 3,296 2,094 1.00 2030
Daphne 2383 1394 0.8487 1340
Entice 1358 496 0.318 0.318 600 10,035

47
 Minimum Production Lot size
Constraint
• How will the markdowns & stock out vary
with production lot
Stock out as a percentage of sales

Minimum order Quantity

But How to REDUCE?

48
Reducing Minimum Lot size by

– Postponement
– Flexible manufacturing systems
• GT, CELL DESIGNS etc.

– Investment in Technology (sewing technology)

– Examine why HK min order qty is less than
China?

49
 Augmenting Reactive Production Capacity
• How will the markdowns & stock out vary
with reactive capacity?

Markdown/ Stock out as a percentage of sales

Reactive Capacity (as a percentage of sales)

But How to AUGMENT?

50
 Augmenting Reactive Capacity
• Increasing reactive capacity only
– Flexible work force, overtime, layoffs
– Risky in Hong Kong (why?)
– Subcontractors : Good option?

• Total Capacity Augmentation

– Increase year round capacity
– What is the problem?
– Complimentary products
51
 Augmenting Reactive Capacity
• Decrease Raw Material and Manufacturing
Lead Times
– Risk Pooling : Greige Fabric
– Store fabric that is used by many products
– Store accessories like zippers
– Redesign the Product (to minimise varieties)

52
 SCM Co-ordination
• How should Obermeyer management think –short
term & long term- about sourcing from Hong Kong vs
China?

• What is the role of Sports Obermeyer & OberSports

– Manufacturer?
– Marketer?
– Designer
– Co-ordinator?

• Supply chains work well with lesser intermediaries. So

is it necessary to have Obersports?
53
Obersport :The Value proposition
• How should we decide on disinter mediation
& re-intermediation in a supply chain

• What is the value of an intermediary

– Aggregation
– Economies
– Place, Time utility
– Transaction Cost Analysis

•
54
 Role of Obersport
• Is there any value addition by Obersport?

• How should Obermeyer change its

strategies if it is planning to source more
from China?

55
 Hongkong Vs China
• Wage rate
– Productivity & Line fill rate
• Worker ability
• Rejects & quality
• Minimum order size
• Throughput Time

• Surge Capacity

• WHAT IS THE IDEAL STRATEGY?

56