What Is Supply Chain Optimization?

Improved Supply Chain Ecosystem

The supply chain ecosystem includes everyone involved in designing, manufacturing, storing, and moving products and their components from inception to the end customer. The first step to improve that ecosystem is to complete a step-by-step audit of every stage and partner, including suppliers’ suppliers, to uncover places to boost process efficiency and cut costs as well as track partners’ environmental and labor practices to comply with regulations and operate in a responsible, ethical manner. After an audit, it may be necessary to eliminate some suppliers and add others. A comprehensive audit will measure the value of a specific vendor and make it clear how readily other vendors can be brought on board to fill any gaps.

Improved Quality

Supply chain efficiency has a direct impact on product quality from the beginning of the production process, when raw materials are procured, all the way to product delivery. Supply chain managers can optimize their supply chain to adhere to quality standards at every stage.

For example, quality managers can use specifications created at the beginning of product design to develop inspection plans for critical stages of the manufacturing process to identify raw material defects or damaged parts. The data gathered can be used to develop corrective action plans, which in the case of raw material defects might involve reviewing the initial specifications, determining whether the supplier can provide materials that meet those specifications, and testing a sample.

Quality management software can unify disconnected quality systems—common at large manufacturers—and give quality managers the flexibility to accommodate shortened production schedules. A good quality control system will adapt to rapid change and improve as it gathers more data.

Reduced Costs

One of the biggest cost reduction opportunities related to supply chain optimization comes from precise inventory control, which encompasses demand forecasting, inventory tracking, and product storage. The goal here is to avoid overproducing products that languish in warehouses, need to be discounted, or, worse, go to waste as well as to avoid underproducing so that customers can’t get the products they want when they want them.

Optimizing warehouse, production, and logistics processes can reduce infrastructure costs, in some cases by reducing the amount of space needed to produce the same number of products or by allowing manufacturers to increase rates of production. Automating mundane processes, such as order processing, inventory management, and load handling, can reduce labor costs and improve process efficiency. For example, software that automatically processes orders and tracks inventory can minimize human error, while self-driving carriers that move parts or finished products to their final destination within a factory can reduce labor costs and improve safety.

Increased Revenue and Profit

There are many places along the supply chain where manufacturers can increase efficiency and lower costs and thus boost their profits. Frost & Sullivan says manufacturers overproduce by an estimated 20% to account for market volatility and demand fluctuations. In response, savvy manufacturers use SCM applications and data analytics to identify ways to hone their planning processes, reduce inventory holding costs, and implement more responsive customer fulfillment processes. For example, manufacturers can tweak customer fulfillment processes by delivering scarce, high-demand products to high-value retailers that have a track record of strong sales, boosting revenues.

Improved Supplier Performance

You can’t improve what you don’t measure, a time-worn adage that applies as much to improving supplier performance as just about anything else. That measurement starts with evaluating suppliers based on set KPIs, such as average payment period for production materials, supplier on-time delivery, and material defect rates, and then working with each supplier to figure out how to up their game in those areas where they fall short. For example, the average payment period for production materials KPI measures the time between receipt of materials and the time you pay for them, so you can favor suppliers that offer better billing terms.

End-to-End Supply Chain Visibility

When financial data is separate from logistics data, which is separate from inventory data—that is, when every group of data lives in its own silo—achieving an end-to-end view of the entire supply chain is impossible. The best solution is integrated technology that provides up-to-the-minute inventory tracking, sales forecasting, cash flow management, delivery logistics, and customer behavior. This end-to-end visibility is essential for any company looking to optimize its supply chain.

Sales has numbers that marketing needs to understand which products produce the most revenue. Sales teams need to know which products are available so they don’t overpromise to distributors and customers. Production wants access to sales forecasts to better understand which products it should prioritize.

As an example, a manufacturer’s procurement managers generally search for the lowest-cost raw materials. But with access to data from sales, they may make a different decision if they see that the lower-cost materials potentially add time to the production cycle for an in-demand item due to issues with delivery or quality.

Cost Optimization

Cost optimization is all about honing forecasts to produce enough supply to meet demand—so-called just-in-time manufacturing—without missing any sales or promised orders. Cost savings also come from factory automation, reducing the amount of waste in the manufacturing process (especially relevant for perishable products), choosing lower-cost suppliers, cutting energy consumption, applying predictive maintenance (fixing machines before they break down), and optimizing transport routes.

Inventory Optimization

Inventory optimization involves manufacturing the precise amount of product needed to meet customer demand. Carrying too much inventory raises storage costs and can lead to waste. Carrying too little inventory can mean customers are left waiting for their orders, possibly causing them to buy from a different manufacturer. The best way to begin the optimization process is to determine why certain levels of inventory are held and rationalize that inventory to meet demand while keeping logistics and storage costs to a minimum.

Network Optimization

Supply chain managers need to identify the best locations for factories, warehouses, and distribution centers and the optimal flows between those locations. The goal is to control costs and increase reliability as well as provide flexibility in case of supply chain disruptions. Managers should start with an assessment of each supplier—and their suppliers’ suppliers—covering their ability to accommodate fluctuations in supply and demand.

Supplier Management

It’s a misconception that supplier management has more to do with interpersonal relationships and strong communication skills than supply chain technology. Although those relationships are important, strong supply chain relationships rest on a foundation of quality, timely data. Manufacturers need to understand which suppliers are performing well and which are unable to meet demands and for what reasons. They need a real-time view into their own customer demand so they can quickly communicate changes to suppliers. And at a time when manufacturers need a clear understanding of the environmental and social impact of their supplier and product choices, they need to prioritize companies that also have a clear view into their own suppliers’ actions. It’s also important to have multiple suppliers in different geographic locations so manufacturers can quickly switch from one supplier to another. Reliance on a single supplier for a critical component or raw material can cause production to grind to a halt.

Management of Supplier Inventory

Unreliable suppliers—those that deliver shipments late, short orders, or send the wrong materials—make it difficult for manufacturers to maintain the proper balance of inventory, neither too much nor too little. Some companies impose penalties on suppliers that fail to meet their commitments—for example, shortening grace periods for a late delivery before fees are imposed. But companies also need to reward suppliers that deliver reliably—for example, by paying bonuses. Manufacturers also need to carefully monitor suppliers to ensure they meet their standards for ethical sourcing practices.

Cost Management

Manufacturers can save money by minimizing supply chain operating costs—for example, by automating routine tasks such as ordering and invoicing to reduce headcount, optimizing delivery routes to save on trucking costs, and choosing more energy-efficient means of heating and cooling buildings. But the cost of production is often the biggest factor, which is why negotiating and renegotiating with direct suppliers is the first step to finding that balance between high quality and affordability.

Logistics Management

A manufacturer’s transportation network brings in supplies; transports goods between factories, warehouses, and other facilities; and ships finished products to distributors, retailers, and end customers. Minimizing transportation costs is crucial, especially with customer expectations for low- or no-cost shipping and speedy delivery. Failing to meet those demands can cause customers to take their business elsewhere.

Transportation and global trade management software helps manufacturers plan the movement of raw materials and finished products and recommends the most cost-effective and compliant method. Although transportation managers have been using this software for many years, advances in machine learning, IoT tracking, cloud computing, and other technologies are making real-time fleet monitoring a reality.

Resource Management

A manufacturer’s resources include the people and physical assets it needs to produce, store, sell, repair, maintain, and deliver its goods. Physical assets include factories, warehouses, machines, and vehicles (such as trucks or tractors). Before supply chain optimization can even begin, companies need to audit all these resources to ensure they have the right skills, technologies, equipment, and processes in place.

1. Forecast and plan ahead

The job of a supply chain planner is to align production, storage, and transportation with product demand to ensure the right amount of inventory is available at the right time. Too much product on hand raises storage costs; too little runs the risk of disappointing customers and distributors, who may go elsewhere to meet their needs. Supply chain planners also play a role in determining the location of factories, warehouses, and distribution centers—all aligned with data around the availability of raw materials and the location of customers. The planning capabilities in modern SCM software, often combined with third-party data such as weather reports or regulatory changes, allow planners to predict demand, predict supply constraints and disruptions, and prioritize and reschedule open orders based on real-time inventory levels.

2. Outsource if needed

Companies turn to contract manufacturers to lower costs and penetrate new geographic markets, handing off all or certain parts of their production to domestic or overseas specialists. Manufacturers often choose locations that allow quick shipment to drop centers and ultimately to customers. Contract manufacturing also helps companies adjust their capacity up and down as demand dictates, turning fixed costs into variable costs and freeing up cash flow. In addition, contract manufacturing lets companies focus on the core parts of their business, such as product design and engineering, in which they have a competitive advantage. Manufacturers also outsource nonproduction parts of their businesses, such as logistics, procurement, and customer support, for many of the same reasons.

Use of third-party logistics (3PL) providers is another common outsourcing model. 3PL providers specialize in supply chain operations, warehousing, and logistics services that can be scaled up or down based on manufacturer needs. Manufacturers use inventory management software designed to communicate with a 3PL provider’s warehouse management software to support numerous tasks, including purchase order receipts, returns to suppliers, inventory transfers, and order shipments. As customer demand for speedy product shipments increases, relationships with 3PL providers in specific regions can help manufacturers with last-mile-delivery challenges at a lower cost.

3. Build supplier-retailer relationships

Connecting supply chain partners—mainly manufacturers, suppliers, distributors, and retailers—is crucial to making informed, timely decisions amid supply chain disruptions and demand fluctuations. The only way to make those connections is for all supply chain members to use integrated systems to share real-time information—all the more important for complex supplier and retailer networks with multiple participants in different geographies.

Better collaboration among suppliers and retailers can have a tangible impact on customer satisfaction, for example, by ensuring that retailers either have the products they need at a given time or can inform customers about potential delays. Manufacturers that put in the effort to build stronger relationships can gain preferred status as a reliable partner and therefore gain better access to raw materials and retailer shelf space; retailers could gain better access to high-demand products. As manufacturers get more insights into retailers’ customers, they can refine their demand forecasts to better manage their inventory levels.

4. Invest in technology and automation

One of the best ways to improve supply chain efficiency is to automate routine tasks, which can free up employees to focus on higher-level tasks. For example, manufacturers can automate the replenishment of raw materials to automatically order more when supplies reach a certain threshold and to update customers on delivery status. Beyond automation, manufacturers are beginning to benefit from advanced tools such as scenario modeling, logistics network modeling, and robotics. Ernst & Young research says that by 2035, 45% of supply chains are expected to be largely autonomous, using technologies such as robotics, autonomous vehicles for manufacturing and delivery, and automated planning. AI will also play a greater role in every phase of the supply chain, supporting predictive decision-making. A 2022 KPMG survey noted that 6 of 10 respondents plan to invest in digital technologies to improve their supply chain processes, synthesize data, and boost their analytics capabilities.

5. Build a multichannel, responsive supply chain

Consumers expect to be able to purchase products through multiple channels—in stores, through their mobile devices or computers, in online marketplaces such as Amazon, or even through their social media accounts, such as Instagram or Facebook. Manufacturers that establish multiple sales channels achieve the benefits of a diversified customer base and heightened exposure, but the biggest benefit is increased levels of customer satisfaction. A 2019 report from BRP Consulting notes that 56% of consumers are more likely to shop at a company that offers a “start anywhere, finish anywhere” experience.

When it comes to fulfillment, manufacturers must take care to balance customer expectations with profitability by optimizing order management. Originally it was a labor-intensive task requiring workers to comb through inventory records and identify the closest fulfillment option, but manufacturers now use order management software, letting workers manage by exception by evaluating all order channels and supply sources to determine how to fill an order quickly and cost-effectively. Manufacturers should invest in tools that centralize order management, consolidate orders from multiple channels, and track product returns.

6. Renegotiate

All terms of a manufacturer-supplier relationship are negotiable—and renegotiable—including prices, timeliness of delivery, product quality (damage-free delivery), fill rate (SKUs successfully shipped on the first attempt), responsiveness to the terms of the service level agreement, and reliability (which vendors exhibit with strong communication practices and consistently meeting expectations). As a trusted partnership emerges over time, one of the key areas to be renegotiated is accounts payable terms. For example, vendors can extend payment due dates, a big benefit to manufacturers that may be waiting for inventory to sell. Early-payment discounts can also be negotiated, a win for suppliers and manufacturers alike.

7. Watch the metrics

Manufacturers are constantly adjusting their supply chains to eke out cost savings and refine their processes. The difficulty lies in identifying the tweaks that move the needle.

For that, supply chain managers rely on KPIs that measure how efficiently they can acquire raw materials, turn them into finished products, and deliver those products to customers. A financial KPI is cash-to-cash cycle time, which measures the time that elapses between paying a supplier for materials and receiving payment from a customer. Customer service KPIs include on-time delivery, damage-free delivery, and fill rate, which measures the percentage of customer orders that are filled at first shipment. It’s important for manufacturers to benchmark their KPIs against industry standard results. Industry groups and analyst firms can provide manufacturing-specific benchmarks; banks can provide financial benchmarks.