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In discussing the formulation of a logistical strategy, authors of your Supply Chain Logistics Management text speak of a four-step process:

1. Determining a least-total-cost-network.
2. Measuring service availability and capability associated with the least-total-cost-system design.
3. Conducting sensitivity analysis related to incremental service and cost directly with revenue generation.
4. Finalizing the plan. (Bowersox, Closs, & Cooper, 2013, p. 302)

Apply this process to the development of a supply chain for a consumer product.

Formulating Logistical Strategy

To finalize the logistical strategy, it is necessary to evaluate the relationships between alternative customer service levels and associated cost. While substantial difficulties exist in the measurement of revenue, the comparative evaluation of marginal service performance and related cost offers a way to approximate an ideal logistical system design. The general approach consists of (1) determining a least-total-cost network, (2) measuring service availability and capability associated with the least-total-cost-system design, (3) conducting sensitivity analysis related to incremental service and cost directly with revenue generation, and (4) finalizing the plan.

Cost Minimization

Just as a physical replication of a geographical area illustrates elevations, depressions, and contours of the land surface, an economic map can highlight logistical cost differentials. Generally, peak costs for labor and essential services occur in large metropolitan areas. However, because of demand concentration, total logistics cost resulting from transportation and inventory consolidation benefits is often minimized in metropolitan areas.

A strategy of least total cost seeks a logistical system network with the lowest fixed and variable costs. System design to achieve the least total cost is driven purely by cost-to-cost trade-offs. In terms of basic relationships, a total-least-cost design was illustrated in Figure 12.6. The level of customer service that is associated with a least-cost logistical design results from safety stock policy and the locational proximity of warehouses to customers. The overall level of customer service associated with the least-total-cost-system design is referred to as the threshold service level.

Threshold Service

To establish a threshold service level it is necessary to initiate network reengineering with policies regarding desired inventory availability and capability. It is common practice to initiate the analysis assuming customer service capability based on the existing order entry and processing system, warehouse operations based on standard order fulfillment time at existing facilities, and transportation delivery time based on capabilities of existing transportation methods. Given these assumptions, current performance provides the starting point for evaluating potential service improvement.

The typical starting point for customer service availability analysis is to assume performance at a generally acceptable fill rate. Often the prevailing industry standard is used as a first approximation. For example, if safety stock availability were established at 97.75 percent for the combined probability of demand and lead time uncertainty, it would be anticipated that approximately 98 out of 100 items ordered would be delivered as specified.

Given the initial assumptions, each customer is assigned a shipment location on the basis of the least total cost. In multi-product situations, selection of service territories for each facility will depend on the products stocked at each warehouse and the degree of consolidation required by customers. Since costs have significant geographical differentials, the service area for any given facility will vary in size and configuration. Figure 12.7 provides an illustration of the assignment of warehouse service areas based upon equalized total delivered cost. The irregularity of service territories results from outbound transportation cost differentials from the three warehouses.

In Figure 12.7 the warehouses are identified by the letters X, Y, and Z. The hypothetical cost associated with each facility represents all logistical cost for an average order except transportation. The differential of average order cost between facilities reflects local differentials.

Around each facility, total cost lines are displayed at intervals of $1.50, $2.50, and $3.50. The cost represented by the line is the total cost of logistics, including transportation to points connected along the line. Customers located within a given area can be serviced at a cost less than that displayed on the line. The overall service area of each warehouse is determined by lowest total cost assignment. The territory boundary line represents the point of equal total cost between two warehouses. Along this line, the total cost to service a customer is equal. However, a substantial difference could exist in delivery time.