When the amount of demand and the amount of supply differ, trouble is about to come. Physical stores can’t sell what they don’t have on their shelves and warehouses overflow when we have too much supply and too little demand. In either of the two cases, we are faced with scenarios in which sales losses, extra costs and inefficiencies are going to weigh down our company’s results.
What are the culprits for this to happen? What causes this problem?
How to balance demand and supply
To understand what we can do to balance demand and supply, the first step is to look for possible sources of this imbalance.
Lead-time vs customer order cycle
The lead-time is the total amount of time that elapses from the start of the production process of an order until it is delivered to the recipient. We can divide lead-time into three main phases: supply (obtaining the materials and resources necessary for manufacturing), manufacturing (the preparation of these materials until reaching the finished product) and distribution (putting the object in the hands of the client). .
The sum of the time spent in these three phases is, as we have said, the lead-time. Where then does the mismatch between supply and demand appear? The problem arises when comparing the lead-time with the customer’s order cycle.
This order cycle is the maximum amount of time the customer is willing to wait from the time they place their purchase request until their order is fulfilled. This amount varies enormously depending on the nature of the order, the sector, whether the buyer is an individual or a business, etc. It can range from the need for the product to be instantly available -when we buy in the supermarket- to just hours or even weeks and months.
Therefore, we can have a lead-time that is greater than our client’s order cycle. In other words, if it takes us a week to complete the entire manufacturing and delivery process of the product, but our client is only willing to wait one day from when they ask us to, we will be obliged to find a way to close this difference.
“The company that achieves a perfect fit between logistics lead-time and the customer order cycle will have no need for demand forecasting or inventory,” says Martin Christopher, a logistics professor and author, in his book “Logistics.” and Supply Chain Management”.
However, this exact adaptation most of the time will not be possible. For example, in the case of supermarkets. Here we can consider two different points for the purchase cycle: the request for merchandise by the supermarket from its supplier or the purchase at the point of sale by the consumer. In the latter case, since the need to purchase is instantaneous -if not so, we would have a stock out-, it is clear that we will have to have an inventory to be able to satisfy these requests as they occur. In the first, the supermarket needs to have a demand forecast to know how often it needs to place its orders and in what quantities. And in that calculation is where the errors can come.
The company that achieves a perfect fit between the logistics lead-time and the customer order cycle will have no need for demand forecasts or inventory
How to reduce the difference with lead-time
Martin Christopher’s phrase already advances two of the most common resources to eliminate this distance between lead-time and the consumer cycle: demand forecasting and the use of inventories.
If we go back to the definition of lead-time (supply + manufacturing + distribution), we see that in both supply and distribution we can make use of inventories. We can reduce the supply phase and even eliminate it if we manage to have as many materials as possible when we receive an order to start making it. On the contrary, if we only procure ourselves from the order, we will have to add to our lead-time all the time it takes us to be able to dispose of the materials.
At the extreme end of the distribution, the inventory will give us a margin of maneuver -which will be greater the more inventory we are willing to have-. And together with the demand, it will allow us to manipulate the lead-time. If we have a finished product, we will be able to supply urgent demands, saving us the time of supply and manufacturing and limiting ourselves to distribution. In addition, the inventory will provide us with that margin of safety for unforeseen variations in demand or in our errors when calculating it.
Unfortunately, both of these solutions have their drawbacks. Inventories are a great source of costs: space, facilities, machinery, people dedicated to managing them, an economic investment in products that are not profitable until they are sold, etc. While demand forecasting is a complex task and very difficult to fine-tune where errors are frequent, so that sometimes it is invested in it but a large part of the inventories that were previously used are kept due to a lack of confidence in the prediction. In addition to cases of immediate need for the merchandise, in which it is practically mandatory to have some amount of inventory, even if it is as small as possible.
To solve these drawbacks, work is being done on the concept of demand visibility. In achieving a system that registers the demand in real time and is capable of sharing that information with all the elements involved in the supply chain. This would make it possible both to modify demand forecasts -in light of the new data- and to advance replacements when necessary, which would mean having more time to deliver the product (and, therefore, less pressure on our lead-time). ).
Today we have focused on how to reduce lead-time to try to bring it closer to the customer’s order cycle, which is one of the reasons for the tension between demand and supply. However, we are missing the reverse process: modifying the order cycle and accommodating it to supply capacity, which will be the subject of our next article. A tool that is also very useful in the tough fight to balance demand and supply.