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Supply Chain vs. Demand Chain

“The most recently introduced approach of demand chain management (DCM) seems to capture the proposed synergies between SCM and marketing by starting with the specific customer needs and designing the chain to satisfy these needs, instead of starting with the supplier/manufacturer and working forwards

—Heikkilä”.

 

 

What Should the Firm Ideally Do to Create Value?

 

The value chain is the blueprint of how an enterprise can deliver value to the customer. It is the sequence of activities, which, if done properly, can make the entire delivery process cost-effective and productive. The supply chain of an enterprise is a ‘value chain’ in practice. Hence, effectiveness in supply chain is considered critical for companies to serve their customers better. The suppliers focus on re-engineering their supply chains for better operational efficiencies to add value. However, more value can be added if they also focus on the demand chain that transfers the demand from the market to the suppliers.

INTRODUCTION

The pursuit of growth and the need to access new markets have been propelling business firms across the world to search for sustainable competitive advantage. This has led companies to greater customer consciousness and need for cost-effectiveness. The global nature of business has forced business organizations to recognize the critical role of back end operations, in today's dynamic business environment. As the business firms are focusing on production, marketing and finance, a greater attention is required in achieving customer satisfaction through effective and efficient operations of various processes in the business. At the firm level, profitability, cost, productivity and market share are all indicators of competitiveness. Profitability is a major indicator of current competitiveness, although profitability is best measured over an extended period. The other parameter is customer satisfaction. But it is one of the cost drivers. To address the issue of competitiveness, the firm has to look into its value creation process (value chain) and see ways to translate it into effective and productive supply chain.

This is not enough. The firm has to look into the demand chain too, that is, the process that transfers the demand from market and customer to the suppler. The firm has to look into fine-tuning of supply chain to the requirement of demand chain to achieve a process fit (of supply chain) to achieve a sustainable competitive advantage.

VALUE CHAIN

Michael Porter first developed the concept of value chains in his work on competitive advantage. Value chain analysis, along with supply and demand chain analysis, is a gift for modern business management worldwide. Porter has proposed the value chain as a tool for identifying ways to create (Figure 3.1) more customer value. According to this model, every process is a synthesis of acquiring, adding and delivering value to its products. In other words, the value chain consists of vertically aligned activities that add value to the goods or services in moving from basic supplies to the finished product. In typical marketing value chain (Figure 3.4), the value is acquired through procurement activity, the value is added through manufacturing or processing, and value to the customer is delivered through logistics and sales distribution. The value to the customer is created through processes, activities, organizations and structures, all of which have to be aligned to get the changing perception of the value to the customer in the dynamic markets.

 

Figure 3.1 M. Porter’s Model of Value Creation

Porter suggested that the firms should continuously evaluate their business strategy to remain competitive. He further said that the firms should focus on their core competencies and should outsource the non-core activities to the experts. The experts can do the same job at lower cost and with speed. Here, Dell is the classic example. Dell asks their customers to configure the computing machine as per their requirements. The product is assembled at the nearest location of the demand and delivered within the stipulated or agreed time period. The parts are obtained from the suppliers. As the customer places the order for the machine, the suppliers get the bill of material simultaneously. With this outsourcing model, Dell has eliminated many business processes and reduced the costs and, as a result, offers its products at a competitive price.

As per Porter's value chain model there are two types of enterprise activities: primary activities and support activities (Figure 3.2). With the help of primary activities there is direct creation of product or service and the delivery of the same thereafter. The primary activities include inbound logistics, operations, outbound logistics, marketing and sales, and service. The primary activities need supports for their effectiveness and inefficiency. The support activities are called secondary activities and these are procurement, technology development (including R & D), human resource management, and infrastructure (systems for planning), finance, quality and information management.

 

Figure 3.2 M. Porter’s Value Chain Model¹

The primary and secondary activities together create value. The margin means the some total of all the value delivered by the business firm to the customers. The ‘margin’ indicates the degree of differentiation in the way a business is conducted and value is delivered.

The product differentiation and value creation strategies depend on the policy decisions of an enterprise. For example, the pizza companies offer ‘30 minutes pizza’ strategy for competitiveness. Thus specialization depends on the ways the same activities are performed differently. The firms can create competitive advantage through its own internal activities. As per Porter, these activities are categorized into primary and secondary activities. However, the importance and criticality of the activities depends on the industry in which the firm is operating.

All the activities indicated in the value chain helps to create customer value. However, the value is assessed by the customer and his willingness to pay the price is the measure of value. A business firm can earn the profits only when its selling price exceeds the cost of doing all the activities to produce a product. For a firm there are two options for being competitive. The first one is to provide comparable (with competition) buyer value at lower cost but perform activities more efficiently than its competitors. The second one is to do the activities in a unique way that generates greater buyer value and customer is willing to pay a higher price than a competitor.

The competitive advantage can be gained by way of doing things differently than the competitors. The firms may use new technology, new processes or new procedures which will ultimately reduce the cost and time. The firm may reorganize its value chain and its linkages to incorporate the effectiveness and efficiency to deliver the differentiated value to the customer. It may have to optimize the activities and processes and create trade-offs in performing different activities to create value. For example, product design with expensive components and quality inspection may reduce after-sale service costs as the breakdowns and repairs are rare. The trade-off decisions are dependent on the strategy to achieve competitive advantage. In fact, strategy is a guide map for a firm to perform individual activities and organizes its entire value chain.

To reduce the cost in chain the activities need to be coordinated. The transaction cost gets substantially reduced if the activities are coordinated. The coordination of activities allows better flow of information for control purposes. The management of activities and their linkages are in fact at the base of competitive advantages. Thus, for creating competitive advantage the management of the entire value chain as a system rather than management of its parts is a must. To bring about the major improvements in the value chain what is required is relocating, reordering, regrouping or even eliminating activities.

The value chain is the tool for the company to know the sources of reducing the cost and enhancing the value simultaneously. It gives a fair idea of various value chain linkages wherein the optimization is possible. The value chain also reveals sources of differentiation.

In essence, ‘customer value’ is the satisfaction of customer requirements at the lowest total cost of acquisition, ownership and use. It is achieved when requirements are met fully, reliably and cost effectively. The primary focus in value chain is on benefits that accrue to customers. These are interdependent processes, which generate value and finally generate demand. Effective value chain generates profits.

Value chain analysis² is a useful tool for working out how organizations can create the greatest possible value for the customers. Value chain analysis helps the businesses identify the ways in which they can create value for their customers, and then helps them think through how they can maximize the value. The available alternatives are superb products, great services or jobs well done. Value chain analysis is a three-step process:

• Activity analysis: To identify the activities which should be undertaken to deliver product or service.
• Value analysis: For each activity, to think through what the business would do to add the greatest value for its customer.
• Evaluation and planning: To evaluate whether it is worth making changes, and then plan for action.

By using value chain analysis and by following it through the action, organizations can achieve excellence in the things which are demanded by the customers.

DEMAND CHAIN

It relates to the activities that transfer demand from the market to the suppliers. The demand generation and the subsequent fulfilment resulting into placement of an order on supplier in the customer activity chain is called a demand chain (Figure 3.3). Ideally the suppliers should keep close partnership with customers to create and deliver value. But this does not happen with everyone. The reason is the absence of integration between suppliers and customers. The integration process involves investments in information technology.

 

Figure 3.3 Customer Demand Chain

However, the emergence of internet technology and the adoption of the ERP system helped firms exchange data with speed and ease.

Demand chain management is the management of upstream and downstream relationship between supplier and customers to deliver the best value to the customer at the least possible cost to the demand chain as a whole. Demand chain is referred to as customer pull. Demand chain management as a concept aims to integrate supply and demand processes in order to ensure customer value creation and delivery. DCM helps to improve an organization's processes by advancing the coordination between the supply chain and demand-driven activities. The role of marketing within demand chain management is to facilitate process integration by providing customer and market information.

For example, to order a customized car, customers would be enabled to configure their own vehicles, add options, select colours and accessories, and understand how these decisions have an impact on product price.

SUPPLY CHAIN

Supply chain is basically a value delivery chain. It is a process with sequential activities to deliver value to the customer. In supply chain, value is acquired from vendors, then value is added through firms processing/manufacturing and value is delivered through firm's distribution system (Figure 3.4). Supply chain management is an approach for controlling the physical flow of products from source to point of use by aligning the capabilities of suppliers, manufacturers, channel partners and customers. Supply chain management is also a tool to achieve sustainable competitive advantage. It supports both differentiation-based and cost-based strategies. The supply chain management approach contributes to world-class performance by progressing beyond functional excellence and cross functional integration. It focuses on the practices used by the different businesses that together produce the product and service for the customer. It integrates the activities of all members of the value-added chain to produce higher levels of performance than can be achieved individually. Supply chain management practices create supply chain integration that yields superior business performance.

 

Figure 3.4 Supply Chain—Value Addition

Supply chain integration utilizes a variety of business practices such as just-in-time manufacturing, quick response and continuous replenishment. With the supply chain initiatives and implementation of strategies, the firms increase productivity and value at all stages of the chain, from source to delivery. The integration of the supply chain helps in cost reduction, speed to market and, ultimately, customer satisfaction. The integration process helps in reducing wastages and delays and enhances the value to customers by coordinating activities to reduce costs for all participants in the supply chain. The supply chain approach adds value through innovations. It creates new markets and builds trusted long-term relationships with customers.

Supply chain management focuses on operational efficiencies, and tends to be cost-orientated while marketing is more concerned with revenue by focusing on the demand side of the company. Both marketing and supply chain management together determine the company's profitability. From a marketing perspective, effective marketing strategy implementation demands efficient supply chain management, because it includes the distribution component of a marketing strategy. In addition, in the customer-centric marketing approach there is a need for marketing to become responsible for supply management. In markets with increasing diversity in customer needs, companies will have to rapidly adjust their supply chains to meet demand leading to a more sustainable competitive advantage. This may not be possible by just offering superior customer value propositions, but the firms will have to adopt a unique business system to support it.

SUPPLIER-CUSTOMER CONNECT

Ideally, the suppliers should look into the performance enhancement of their client's operation. But how many suppliers are doing that? The answer is only a few. All efforts with regards to re-engineering of the supply chain are done by suppliers by reducing obsolete inventory or inventory in general, cutting through non-value added activities and times associated with them. A supplier can adjust its supply chains in ways that improve the services to be delivered to its customers and thus enhance the customer's performance. This is a difficult re-engineering task.

The changes normally suppliers implement at his end do not add much value from the customers point of view. A supplier may reduce its inventory level by pruning the product mix or product portfolio or evolving some new inventory strategy. This may not help the customer. Even changing strategy from ‘make to stock’ to ‘assembling to order’ increases delivery times. The beneficiary here is the supplier and not the customer.

The supply chain of a packaged consumer goods manufacturer, for instance, comprises manufacturing, packaging, distribution, warehousing and retailing. The concept of the customer's demand chain, which transfers demand from markets to suppliers, is significantly less familiar. To give one example, a retailer's demand chain would consist of assortment planning (deciding what to sell), inventory management (deciding the quantity of supplies needed), and the actual purchase. Together, these two chains (Figure 3.5) form the supply–demand chain. They are connected at two places: one the ‘order placement point’ and two the ‘value-offering point’.

 

Figure 3.5 Retailer Demand Chain

The order placement point (OPP) is the place in the supply chain where the supplier allocates the goods ordered by the customer. The manufacturer may manufacture the goods after the order is received in case of a ‘make-to-order’ policy. The manufacturer may allocate the inventory from a warehouse once the orders have been received if the inventory policy of the company is ‘deliver-to-order. Each order placement point has different costs and benefits for the supplier and its customer. When the supplier allocates orders from its distribution centre, it can deliver them quickly if they are in stock. Rapid delivery (a benefit for the customer) therefore depends on holding a large inventory (a cost for the supplier). Of course, the wider the product range, the bigger the inventory; so the supplier either incurs large inventory costs to minimize delivery times or cuts inventory and risks delays in fulfiling orders.

To add value to customers operation, it is possible to move the order placement point back to packaging or assembly, wherein the goods are turned into finished products.

With ‘pack-to-order’ policy the supplier will have a benefit of lower inventory expenses. However, the customer will have to wait for the goods to be packaged. The time lost in waiting is cost to customer. To reduce that delay and extending benefit to the customer, the supplier must absorb the cost of additional packaging capacity. The further advancement in demand chain is to produce (for the supplier) to meet the specifications of individual customers. It is beneficial to the customer but the delivery time goes up. It may be a costly proposition to the customer due to increased delivery time. The supplier's process efficiency declines each time a customized design replaces a standard one and that results into a cost for the supplier. In this case, both supplier and buyer will have similar cost implications.

For the supplier it becomes difficult to keep up the delivery time if the order placement point is moved backward in the supply chain. It may save the cost and lower the inventory level but the result may be reduction in sales volumes, longer delivery time and higher total costs for customers. Customers and suppliers never benefit equally.

The supplier can add value to customer operations from various points in their supply chain, where the supplier fulfils demand in the customer's demand chain. In general, seller can add value at purchasing department to offer inventory. He can further move in buyer's demand chain and can offer to manage buyer's inventory, that is, the vendor management inventory (VMI). In this case, buyer will have an advantage of having no inventory burden. It may be vendor managed inventory with JIT supplies. The seller can further move and plan the inventory requirements of the buyer. Suppliers are expected to use this kind of collaboration to improve their delivery performance. The result is a more profitable use of warehousing space (converted to productive use) by the buyer. But in such a case, the supplier may ask for quick payment for the inventory consumes or used in production.

Exhibit 3.1 Supplier Inventory Strategies³

The last one, ‘offer to end user’, is like the Dell strategy, wherein the seller eliminates all transaction-related costs and channel costs. Dell went all the way back in the demand chain to the end consumer by fulfiling orders with direct-sales model for clients.

The suppliers can manipulate the supply–demand chain to improve customers’ performance and benefit them. The suppliers can also use this approach to discover completely new value propositions for customers. Suppliers can thus extract new value from current accounts by escaping the commodity trap and also can find new customers.

To benefit both the seller and buyer the value offering points should be moved back in demand chain of the customer and order placement points should be moved forward in supply chain. Moving order placement points will result in benefits to one party only. However, by movements in both the demand and the supply chains, suppliers can improve their customers’ performance and bring efficiency in their own operations.

In vendor managed inventory situation, the supplier is moving value offering point to reduce inventory burden on the buyer. Here the order placement point is the manufacturing operation of the customer. The seller gets a place in the customer's plant to stock the inventory in small quantities. He may incur more expenses in transportation in small consignment and integration, but he gets his payment at the end of the day—a win—win situation. In fact, managing the customer's inventory gives the manufacturer much earlier access to information about that customer's demand. Such access permits the manufacturer to cut its own inventory costs by packaging products on order rather than stocking all its products at a distribution centre; none of this comes at the expense of the customer's delivery times.

By pushing value offering point to customer, Dell profitably offers excellent service to end users and simultaneously it has pushed the order placement point back in the supply chain by assembling PCs to order. In this process, Dell gets prior information about customer demand. This gives the company time to assemble PCs out of the front end of the process. In this strategy, Dell has eliminated inventory costs and can buy components later than its conventional competitors by taking advantage of falling prices.

Thus by manipulating supply-demand points in the chain, suppliers can offer their customers completely new value propositions and improve their supply chains performance. This can improve the customer service and also its own operating cost. The re-positioning of the value offering point at the customer's end of the supply chain and the exploitation of better information about customer demand extend benefits to both buyer and seller.

REVIEW QUESTIONS

1. Discuss the concept of ‘value chain’ and how it helps enterprises to gain competitiveness?
2. Supply chain is ‘value chain’ in practice. Explain
3. Dell reversed the ‘value chain’, that is, Dell started with customers rather than their suppliers. Study the implication of this value chain model on the supply chain of Dell.
4. Explain the concept of order placement point and value offering point and how these are manipulated to offer superior customer service leading to competitive advantage.

INTERNET EXERCISES

1. To study the Porters value chain concept and also value creation index of a business enterprise, visit http://www.valuebasedmanagement.net/methods_porter_value_chain.html
2. Visit http://www.marketingexperiments.com/improving-website-conversion/value-proposition.html and search for value proposition

VIDEO LINKS

1. Demand Chain, http://www.youtube.com/watch?v=WJFTfOPLf-8&feature=related
2. Supply and Demand Chain Management, http://www8.hp.com/us/en/solutions/solutions-detail.html?compURI=tcm:245-341953

PROJECT ASSIGNMENTS

1. Arvind Mills had offered the scheme of ‘Stitch-a-Trouser’ within an hours time. Study the supply–demand chain and prepare the report on how the order placement points and value offering points are adding value to customer offerings.
2. Study the automobile industry supply-demand chain and prepare a plan to enhance customer value offerings by selecting proper order placement and value offering points in the chain.