In the last few years there’s been a lot of discussion about ‘category management.’ So, what is category management and do we need to worry about it?
Category Management Defined
Category Management is the deliberate grouping of products, that have similar physical attributes and/or manufacturing processes, into a single category.
This is done so the company can better analyze and understand the supply and demand of these products. Ultimately, this action leads to consolidation and leveraging of the supply. And this usually translates into significant cost reductions.
As an example, a company may have different Planner-Buyers purchasing many different machined parts from different suppliers. Furthermore, this could be the case across more than one division of the same corporation. The company would find it very beneficial to create a Category titled Machined Parts and work to organize and manage these parts both at the division and corporate levels.
Due to limited resources, the importance of a category to the company must be defined. This allows the supply chain group to focus on the most important Categories. Ranking of the Categories can be determined by dollar value and/or how critical the product(s) or service(s) are to generating revenue for the business.
A good example of a critical product is powdered Tungsten, an ingredient used when manufacturing a shape charge (shape charges are used in the perforation of an oil or gas well). There aren’t any substitutions for this ingredient so without Tungsten production stops and the company experiences ‘lost time.’ This could also mean ‘missed’ customer shipments.
An appraisal is a ‘status report,’ i.e., how well is a Category performing when supporting the objectives of the company. The report should include usage, projected demand, production issues, cost savings, non-conforming products, etc.
The Category Scorecard is composed of important elements from the Category Appraisal, and weighted to provide an overall score. Using the example above, the company should have a way to track and score deliveries, cost, usage, non-conformances, etc.
Category Strategies are developed to ensure that the category is properly organized and supporting the objectives of the company.
Let’s use the shape charge example above. Suppose the manufacturer has a customer service level goal of 98%. In this case one of the strategies should be to eliminate (as much as possible) production downtime.
Tactics, for a category, refer to specific actions the company will take to support its strategy for that category.
In the example above, an action to be taken to eliminate stockouts of powdered Tungsten is for the customer and supplier to exchange all necessary information ensuring the continuity of supply. This would include forecasts, current production schedules, inventory levels, consumption figures, etc.
Another tactic could be the creation of safety stocks, both for the supply of raw material and the demand of finished goods. This would attempt to account for any forecasting error(s), backlog changes, etc.
Review, Evaluation and Control
The final step is to review and evaluate the Category Management process to determine if the company is reaching its objectives. If the company is meeting its goals, further action may not be needed.
However, if the objectives are not being met, corrective action should be taken at the corresponding level in the category management process where issues have developed.
The Bottom Line.
The category management process is the careful and deliberate consolidation of products or services to allow for better control and management. This process, depending on the spend, can provide significant cost reductions. The Category Management Process has specific steps to ensure its success. When the Category Management Process is managed properly, it supports the company in reaching its objectives.
The Cash Conversion Cycle (CCC) is one of the tools that can help manage the company’s assets and liabilities. Is your company’s CCC number good, bad, or really ugly?
The Meaning of a CCC Number.
The CCC is reported in days. The formula for the Cash Conversion Cycle is,
CCC = DIO + DSO – DPO
DIO = Days Inventory Outstanding (selling or turning over the entire inventory),
DSO = Days Sales Outstanding (number of days needed to collect the Account Receivables), and
DPO = Days Payable Outstanding (number of days, as agreed with suppliers, to pay the company’s bills)
The CCC metric measures the efficiency (performance) of the company when managing short-term assets and liabilities. The lower the CCC value is, the faster the company is converting cash to goods and back to cash again.
The CCC also is a measurement for liquidity, and how much risk exists should the company choose to invest in additional resources over the ‘short-term.’
Calculating the CCC Number.
Company ABC has an Inventory Turnover of 6.8 times per year. Currently ABC has 53 days of production inventory. ABC has ‘aged’ receivables of 40 days. The company has negotiated Accounts Payable terms of N55. Using the formula,
CCC = DIO + DSO – DPO
= 53 + 40 – 55
This measurement indicates overall performance, but it must be taken in context. The result should be compared to other companies and their CCC numbers in the same industry.
Interpreting the CCC Number.
Let’s say that the business in the above example is using raw materials in production that are commodities. This means their purchasing lead times should be short (let’s say five days). Let’s also state that the company’s manufacturing lead time is ten days.
With these two premises in mind, the company should have a very low CCC number (if they have also managed their DSO and DPO numbers).
Conversely, if the same company above has two months of production inventory on-hand, then the company will probably have a higher CCC number meaning that its Cash Conversion Cycle is too long.
It is important to realize that there can be other reasons for a higher DIO or CCC numbers, e.g., the company may not be meeting customer order ship dates due to planning and/or execution issues.
The Bottom Line. The Cash Conversion Cycle number is just one of the tools available to review company management of assets and liabilities. The number is used to measure how fast the company converts cash to goods and back to cash again. A lower CCC number, if found to be comparatively equal to other businesses in the same industry, can indicate effective management of the company’s Cash Conversion Cycle.
For many companies, and their supply chain, the ‘Cost of Goods Sold’ averages between 40 – 65% of sales revenue.
Each year companies face and accept price increases for their materials based on their supplier’s notifications of increased labor and material costs. In turn, these companies simply pass these additional costs on to their end customers.
But, is this good business to regularly pass along these kinds of price increases? Probably not …
First, it’s not always clear what drives these increases. Secondly, by allowing regular increases, it can appear to end customers that your company lacks control over its supply chain.
By developing the ‘right’ supply chain, the company will find many opportunities to optimize performance leading to a reduction in total costs, so it may not be necessary to increase prices.
To serve customers at the right time, with the right product, for the right price, companies must build advanced supply chains. This means evaluating and selecting suppliers based upon,
1. A shared vision
2. ‘Trust’ (once developed)
3. Specific criteria (ranging from technical capabilities to issues like ‘supply chain maturity’
4. Collaboration, i.e., the ability to operate together as one organization, and;
5. Long-term contracts (with critical suppliers)
The Bottom Line. Companies spend over half of their sales revenue for the cost of goods sold. Each year there are pressures to increase costs. Businesses do not always have to increase prices. Companies can, through their evaluation and selection process, build the ‘right’ supply chains that optimize performance, reduce total costs and increase gross profits.
The manufacturing evolution began from entirely manual operations and spanned to the incredible sophistication of today. This evolution was accelerated in the past several decades as US manufactured goods increased in demand across the globe.
Successful companies conduct categorical review of their manufacturing processes to remain competitive. They modernize and refine their manufacturing methods to fully exploit efficiencies, without losing the quality their customers expect.
Process automation has grown to be one of the most prevalent considerations to achieve this goal. Automating processes within fabrication, assembly, and packaging will translate to a reduction in overall cost of the final product; in effect, widening the profit margin.
The Bottom Line. For successful manufacturers, automation is a viable solution to significantly reduce costs in this highly competitive environment. Implementation can be a costly investment, so it’s imperative that a comprehensive analysis is conducted on current processes to determine maximum impact.
Arguably, one of the most unknown and under-appreciated programs that helps organize a company’s sales, production and customer deliveries is the Manufacturing Planning and Control (MPC) system.
This topic is so important that APICS devotes many chapters in its publications and certification classes covering how Manufacturing Planning and Control (MPC) works.
In a testament to MPC, many software companies including Oracle and SAP use ‘very similar’ algorithms to the MPC program when designing their manufacturing programs.
Why is this important?
The heartbeat of MPC is a process called Priority Planning. Priority Planning is much like the operating system for a personal computer in that it integrates the company’s sales and manufacturing plans by organizing and controlling Sales & Operations Planning (S&OP), Master Scheduling (MS) and Material Requirements Planning (MRP).
MPC enables companies to manage orders, prioritize and re-prioritize manufacturing, and balance the demand side of the business with the supply side of the operation. This enables greater focus on the customer ensuring on-time deliveries and high levels of customer satisfaction.
The Bottom Line. Manufacturing Planning and Control (MPC) is well known for its process of integrating critical segments of a business. MPC is so important that many of the world’s software companies use the process when developing manufacturing programs. MPC’s benefits include integrating the S&OP, MS and MRP processes that enable on-time customer deliveries and higher levels of customer satisfaction.
Over the years, many studies have been commissioned by ISM, Industry Week and private companies to determine the ‘cost’ to process purchase orders.
The same argument includes Account Payables and Receivables. It costs money to manually process these transactions.
The numbers range from $25 an order, to hundreds of dollars per order (depending on type of purchase and size of the company).
Isn’t it about time to ask a tougher question, i.e., “Isn’t there a better way to handle these kinds of transactions?”
Fortunately, even for the smallest of companies, the answer is “yes.’
From simple Microsoft Office programs to personal computers, with the latest in Enterprise Resource Planning (ERP) programs, there are better and faster ways to process these transactions (many automatically).
And that is what it is all about, right? Spending time on the ‘value add’ activities while eliminating those elements that cost you money.
The Bottom Line. It costs the company money to process purchase orders, accounts payable and accounts receivable. Today’s computer and software technology allow companies to streamline these processes saving time and money.
Whenever executives talk about businesses, it is usually about the gross profit numbers. And let’s face it, increasing revenue figures or gross profits is sexy.
But what about the numbers showing the company’s working capital? Start talking about the Inventory Turnover ratio, Accounts Receivable or Accounts Payable, and you see people lose interest immediately (honestly, they go to sleep on you…).
But these figures tell investors or stakeholders how well the business is being managed.
Let’s look at what the Inventory Turnover ratio means for a hypothetical retailer. In the first part of the example, let’s speculate that the retailer has forecasting, stocking and lead time challenges that has caused the company to experience the following business conditions.
COGS = $300 Million Ending Inventory = $105 Million Inventory Turnover ratio = 2.85
Days Sales of Inventory (DSI) = 128 days
The company turns over its entire inventory once every 128 days.
However, let’s say that the same retailer now decides to manage its sales numbers and shelf inventory, reducing stock of slow-moving items and carrying more items customers want. Now, the retailer experiences an entirely different Inventory Turnover ratio.
COGS = $300 Million Ending Inventory = $35 million The Inventory Turnover ratio = 8.57
Days Sales of Inventory (DSI) = 43 days
The company is now turning over its complete inventory in 43 days.
The Bottom Line. Inventory Turnover ratios reveal how well retailers or manufacturers are managing working capital. Having current assets tied up in something that cannot be converted quickly into revenue is much like having money in a savings account at 0% interest, i.e., it does not provide any return or value to the investor.
When manufacturing companies grow, so do their revenues and costs of production.
When the COGS are scaled in direct portion to production levels, the company maintains its gross profit. But when COGS grow faster than necessary, gross profit decreases.
Many entrepreneurs are inventors first, and business men second. Creatively, they make something work and meet a need, but this is where their interests end.
Businesses are built to produce and make money (read profit here).
That is why, today, supply chain has become one of the fastest growing disciplines. This group’s activities can also help the company set realistic selling prices. And that helps sales.
The Bottom Line. By following fundamentals and employing advanced tools and techniques, supply chain management can lower costs and increase profitability.
A step below the Strategic Business Plan is Sales and Operations Planning (S&OP) – a technique used to revise the business plan and communicate the revision with the other departments in the company.
The process begins with Sales and Marketing, looking at historical sales, analyzing current market trends, and then compiling what they believe to be the forecasted demand.
The emphasis at this level is on monitoring the dynamic changes in the markets and industry, and then taking actions when necessary to revise the company’s business plan.
Likewise, senior management reviews the Sales and Marketing plan and, based on feasibility and any adjustments, approves the forecast. This approved plan now is communicated to Operations, i.e., Manufacturing, Engineering and Finance. It is now up to these departments to determine what resources are needed to meet the revised business plan.
The Bottom Line. The Sales and Operations Planning process allows for the revision of strategic plans regularly. A key element here is the proactive nature of this process. By creating a ‘realistic’ plan, ahead of time, it forces the departments to communicate and allows the company the opportunity to adjust resources accordingly to meet the revised market demand.
A common philosophy, in most companies, is that Operations’ sole focus is to support the sales of the company’s products or services and that other issues are a ‘distant’ second.
But this ideology ignores the ‘upside’ that the Supply Chain group can provide to a business and its revenue stream, and that is the formulation and implementation of a Strategic Cost Reduction program.
If a company experiences cyclical business activity, including a ‘flat line’ or a decline in sales, it must survive. Sometimes companies make temporary reductions in staff and labor. But this can be very disruptive or detrimental to a business.
As an illustration, think of a legacy company that has grown in sales revenue from $10MM to $25MM. Accompanying this growth has been increases in direct material, direct labor and overhead. This in turn, without reducing costs, usually means raising selling prices.
Now, imagine that this market growth has attracted competitors that are smaller in size and lower in cost position, yet all are competing for the same customers (possibly with lower selling prices). If this happens the legacy company will either lose sales and market share or sell with less profit.
The Bottom Line. It is important that the focus in Operations is on supporting sales of the company’s products or services. However, a properly formulated and executed cost reduction program can confront competition and help maintain gross profits.