Dual Sourcing Strategies and Network Design

Recently, I wrote about dual sourcing strategies in my SupplyChainDigest column.  The idea is that when firms try to decide if they should make a product in China or the U.S, they should also consider a dual sourcing strategy.

Professors Allon and Van Mieghem from Northwestern’s Kellogg School of Management have formalized this strategy in several papers and projects.

With this strategy, you can get the low cost benefit of China and the safety stock benefit of reacting to variability in the U.S.

But, there can be more to this strategy.  This discussion assumes that demand for this product is mostly in the U.S.  If demand for the product is world-wide, you need to use network design software to help determine where to make product for each market.  That is, do you make a product in each region of the world to avoid transportation costs or do you centralize production to take advantage of economies of scale.

The lessons we learned from dual sourcing still apply.  If it is better to make a product centrally because of economies of scale, then you may want to consider some local capability to handle the variability and reduce safety stock requirements.

This analysis is certainly more complex, but the extra effort can reduces costs and risks.

Lead Time and Inventory Buffers

A recent article on Fab.com (a fast rising $140 million design retailer) reminds us that there are multiple lead times in a supply chain and that inventory plays a key role.  Here is  key question (from the WSJ) and the answer (from the CEO):

WSJ: Earlier this year, your average shipping time was 15 days. How have you improved fulfillment?


Mr. Goldberg: We’re living in an Amazon world—shipping should be fast and free. We’ve invested tens of millions of dollars this year on two efforts. One is to build warehouses so that we get things in and out very quickly. The other is purchasing inventory. Last year during the holidays about 10% of our product was in inventory. Seventy percent of the products that are currently on Fab right now are in inventory, which means they’ll ship within one day of purchase, which means they’ll get anywhere in the U.S. in one to four days.

This is very interesting on a few levels.

First, Amazon (and other retailers) started out just like this– with no inventory.  In fact, back in the late 90’s, there were articles saying that on-line retailers had a huge advantage because they didn’t need to hold any inventory.  They would take the order and then have the vendor ship to the customer.  It would have been a great business model if had worked.  But, like Fab.com is finding out, customers don’t want to wait 15 days.  Like Amazon before them, Fab.com is finding out that they need to hold inventory to reduce lead times to the customers and control their business better.

Second, this shows that there are multiple lead times in a supply chain.  Presumably, Fab.com’s lead time is still 15 days.  However, because they have an inventory buffer at their warehouse, their customers now only see a 1 day lead time.  So, the inventory buffer changed the lead time buffer that the customer sees.  Inventory buffers are also very useful for buffering variability that the customer sees.

In general, a company should measure the overall lead time, but also the lead time seen by different parts of the supply chain (what does the customer see?  what does the warehouse see?  what do the plants see?).

Now, Fab.com can work on reducing the 15-day lead time from vendors knowing that the customers see the 1-day lead time.  As they reduce the 15-day lead time, the benefit will be a smaller pile of inventory at the warehouse.


Doubling the Capacity the Panama Canal

The expanded Panama Canal, which will allow much larger ships to pass through and will double the capacity, is expected to be completed in 2014.

The first impact is that port cities east of the canal are preparing the handle the larger ships.

The second impact is that firms will have to re-evaluate their supply chain infrastructure.

Many firms currently bring product into the US through the West Coast ports of Los Angeles and Long Beach.  Many of the containers that arrive on the West Coast are shipped via rail or truck to destinations east of the Mississippi River.

So, now that larger ships and more volume can pass through the Panama Canal, does it make sense to shift volume to east coast ports?

The answer will vary for every firm, but the drivers will be:

  • Cost to ship product through the Panama Canal versus the cost to ship through a west coast port
  • Time to ship through the canal versus through a west coast port
  • Location of customer demand
  • Location of existing production and distribution facilities

I suspect that these new options will increase the need for network design analysis.  Not only will the panama canal create a new option, but the west coast ports, inland ports, and railroads will likely work to become more competitive as well.