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MIDWEST ELECTRONICS

OEM SUPPLY CHAIN ANALYSIS

Each month, Rick Milano and other department heads listened to the BACKGROUND
director of OEM (original equipment manufacturer) operation at The OEM group was the business unit responsible for sales of
Midwest Electronics summarize monthly financial performance amplifiers and loudspeakers to automobile manufactures. Over the
statistics. Among a number of product lines, Midwest supplied past five years, the division had transformed from a small, but highly
amplifiers and speakers to major automobile companies and today, creative group to one of the most strategic and growing segments of
the message was clear—although sale volume continued to grow, the company’s business. The management team was comprised of a
profit margin needed to improve. With chart after chart illuminating staff that included business planning and administration, finance,
the dimly lit conference room, thoughts wandered into Rick’s mind engineering, and quality. Managers understood their respective areas
as he listened. “Of course the margin is under pressure, this is the well and took pride in their ability to work as a team.
automobile business—price reduction and quality improvements are Rick, who managed the logistics and transportation
expected. On top of that, all the recent schedule increases have organization, reported into the manufacturing division. The
required the use of airfreight to ship raw material to the plants. Even manufacturing division produced the array of products that each
more important, better than twenty percent of the finished goods over division sold and so the OEM group was an internal customer.
the past four months had been shipped to key customers in Japan by Today, Rick paid closer attention to the group of slides that
air too”. forecasted the next year of demand by customer. He knew that this
Rick knew that ocean freight was more economical, but the would put more pressure on his staff because adding headcount (i.e.
lead-times were just long enough that one hundred percent on-time more people) to support incremental business would not be easily
delivery performances necessitated air cargo. justified. The last segment of the meeting was always most
interesting as new automotive sound systems or automobile models
were displayed. This month, examples of good work were
highlighted. Rick couldn’t help but feel a sense of pride as he was either channel might have an effect on the other. A highly automated
called up to receive special recognition for ensuring one hundred plant in Kansas City, Missouri churned thousands of circuit boards
percent on-time delivery for the previous year’s shipments to Japan. and other electronic each day. Expensive capital equipment needed to
As he sat back down in his seat, he wandered back to his earlier run at high levels of output to justify both the initial fixed cost as
thoughts about the costs of ocean freight versus airfreight. well as expensive technicians that kept the machinery running.
Midwest Electronics produced loudspeakers, amplifiers, and The same was true for speaker lines. In fact, capacity
music systems for the past forty years, Although the manufacturing management for this type of production equipment was even more
of consumer electronics in North America had all but disappeared, critical because the custom-built units provided competitive
Midwest Electronics had actually maintained long-term growth and advantages when the throughput and quality metrics was favorable.
produced products in the US, later adding plants in Mexico. Strong Adding new lines generally involved millions of dollars in research
brand recognition helped each division sell products and a major and production costs and often took two years to put into service.
factor in their success was the reputation for advanced technology, Midwest Electronics closely guarded its machinery and went to great
quality, and innovation. This ensured that each product line offered lengths to ensure that no one employee understood how the whole
high consumer value. production line operated. This practice ensured that competition
The array of home products was robust and ranged from small would not be able to hire away talent and copy core technologies.
stereo speakers that sold at modest prices to high performance Midwest Electronics strategically located a facility near
systems that included complicated electronic and amplification in Detroit, Michigan to demonstrate its commitment to domestic OEM
addition to the speakers. Dealers that ranged from small stereo shops customers. These firms respected Midwest Electronics for their
to large retail chains marketed these home type products. In fact, the proximity to the heart of their automobile manufacturing operations.
largest dealers used electronic data interchange (EDI) to exchange This location enabled the firm to deliver goods on time and respond
product demand and orders. One dilemma was the fact that key sub- to swings in customer demand. Over the years, proven excellence in
assemblies for OEM and consumer products were run on the some supporting US manufacturers led to inquiries from Asian and
production lines. Further, recent successes in increasing business European automobile manufacturers. By the late eighties, Japanese
with large retailers caused resource allocation issues, so increases in manufacturers were featuring Midwest Electronics products in key

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models. Rick personally believed that a West Coast operation would
reduce delivery times to Japan by a week, but the business volumes THE BUSINESS
did not warrant the construction of a new manufacturing facility. The Demand for automotive systems destined for Japan was
core team focused instead on how to reduce the factors of time and approximately 172,800 systems annually. Systems consist of one
space through the logistics pipeline. amplifier and four speakers-each packed in quantities of 144 units per
With international sales a significant and important portion of pallet (Table 1). If one hundred percent ocean freight were used, the
the business, prowess in this area had become a core competency quantity would equate to approximately three 40’ containers per
early in the company’s history. In fact, the cyclical nature of world week. Containers of this size carried 40 pallets. When 20’ containers
economies helped to smooth the ups and downs. This was not were used, a maximum of 18 pallets could be loaded. The plant in
without shortcomings; with most of manufacturing operations in Kansas City ran five days a week and normally operated with two
North America, deliveries to customers were an increasing challenge. shifts per day. Shipping operations operated seven days a week—a
Rick believed the proper resources were in place in terms of his staff- factor that was helpful when expediting cargo by air. During peak
especially since they showed commitment and creative spirit. Even demand periods, a third shift could be added; however, this option
with electronic receipt of shipment status messages that identified the worked best when utilized for extended periods since recruiting and
location of all in-transit shipments, managing the pipeline was time operator training impacted costs- in addition to stability within the
consuming. Critical were the handoffs between modes. Any one workforce.
delay caused by a transportation provider has a subsequent effect on Generally, production for all customers (including the Japan
the next portion of carriage. Rick’s team often worked after hours to business) ran any of the five days weekly. To produce the quantities
ensure that each milestone was met, and in cases where a connection required for the Japan market, four shifts of production per week
was missed or weather delay encountered, the staff would arrange were scheduled out of the possible ten shifts. Process quality was
“plan B”—using air cargo or team operated trucks to ensure on-time stable, so production managers were comfortable in running the
delivery. From a management perspective, the group was reacting to production on either first or second shift. Lastly, with quick line
a short-term need. However, everyone recognized that long-term changes, there was a lot of flexibility shifting production from one
operation with long hours could cause employee turnover. product to another.

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Customers supplied demand data in three time horizons. In this model, there were several challenges. First, a target
Annual demand information provided insight so that manufacturing inventory of seven weeks (of which five weeks was in-transit) was
capacity could be allocated across all programs. In addition, this established. With an average transit time of 34 days and firm orders
information helped in predicting revenue and profit. Rolling three- of 30 days from the customer, any ocean freight shipments were done
month demand supplied the necessary information to order raw based on forecast and “gut feel”. In other words, should an ocean
materials and to pre-allocate production schedules. One-month firm shipment be made upon receipt of the firm order, the delivery of that
orders represented the final commitments from the customer. This set material would occur after the close of the month. Therefore, lots of
of demand was received during the third calendar week each month airfreight was used to cover increases.
and specified the daily numbers of systems required for the Also, end-of-product life activities required close
subsequent month. management of finished goods inventory since model changes
In Japan, daily shipments were made from Midwest’s finished rendered inventory obsolete. Since each system was configured to a
goods warehouse in Yokohama, which was located within hours of specific model and could not be fit into generic applications, excess
each automobile plant that it services. With an average of 34 days of inventory could not be sold in other channels. This phenomenon
in-transit material in the pipeline, the monthly firm orders were used required not only the close monitoring of finished goods, but also any
to prepare air shipments when final demand exceeded the previous unique raw material or components used in the system.
forecast or to reduce current production should customer demand run Further, though the assembly plant was flexible, swings in
at lower levels than forecasted in the rolling three month forecast. production requirements during the current month were somewhat
restricted by other customer requirements (i.e. production schedules)
and raw material inventories. When required, raw materials that were
supplied from domestic, Asian, and European sources could be
expedited; however, a few critical materials were on allocation by
vendors. With tight margins on the OEM business, premium freight
expenses on raw materials rolled into increased cost-of-goods-sold,
a detracting effect on the balance sheet.

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TRANSPORTATION PIPELINE Second, Rick thought about the amount of money tied up in
The use of intermodal transportation blended repeatable the logistics pipeline. Lastly, with a five to ten percent growth in the
performance with reasonable cost. Shipments were loaded in full number of systems forecasted, he was concerned that the short-term
containers, trucked to the rail ramp- a location where the container work in expediting shipments through the pipeline would result in
was taken off a road-going chassis and loaded onto a flatcar. Double staffing problems—either more people would be required, or
stack unit trains were assembled from the many flat cars and operated turnover may occur. Both prospects were troubling to him. Further,
with high reliability and speed to the West Coast where they would the current mode of operation placed a great deal of stress on the
be unloaded at the port and queued for loading a minimum of two factory. Last minute production changes resulted in expedited
days before sailing to allow ample loading time. The vessels sailed shipments of raw material followed by urgent shipments to the
weekly to the port of Yokohama where the cargo would be unloaded customer.
and held at a container yard while the customs clearance and trucking Rick wondered if he was worrying needlessly. Maybe he
to the finished goods warehouse were arranged. Although the process should leave things the way they were.
resulted in a mean performance of 34 days, a couple of shipments --------------------------------------------------------------------------
caught the right connections and were delivered in 21 days and two Questions for class discussion:
shipments took 41 days (Table 2). As a result, a 35-day transit 1) What obstacles impede one hundred percent on-time
standard was adopted for use in the production planning process. delivery of ocean shipments to these Japanese
THE SOLUTION customers?
Rick left the OEM operations review meeting with three key points. 2) Describe your approach in analyzing the data
First, even though he received accolades for excellent support, he felt provided in this case. In your answer, identify and
that more could be done- especially in the area of improving the list the specific questions you would ask his logistics
profit margin. Freight costs were a relatively small relative to the organization if you were Rick Milano.
invoice value of the product, but over $875,000 was spent on
airfreight over the past year compared to $492,000 on ocean freight
(Table 3).

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Packing Information – Table 1
Length (in.) 40.00 Units per Carton 8.00
Width (in.) 48.00 Cartons per Pallet 18.00
Height (in.) 44.00 Units per Pallet 144.00
Ft.3 per Pallet 48.89

Weight per Carton (lbs.) 30 Value per Unit $ 70.00


Weight per Pallet (lbs.) 570.00 Value per Pallet $10,080.00
Volume Weight per Pallet (lbs.) 508.92 Inventory Cost per Pallet per Day $5.52

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Ocean Transit Performance Table 2

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Average Transit = 34 Days

40

35

30
Number of Days

25

20

15

10

0
15

19

23

25

37

39

43

47
1

13

17

21

27

29

31

33

35

41

45

49
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Plant Delivery to Rail Time on Rail Time to Load at Port

Ocean Transport Time at Destination Port Time to Deliver NOTE: Containers sail from the West Coast each Thursday

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Shipping Information – Table 3
Value per Pallet # of Inventory Inventory Cost
Pallets Value per Day
Individual Pallet $ 10,080.00 1 $10,080.00 $5.52
20’ Container $ 10,080.00 18 $181,440.00 $99.42
40’ Container $ 10,080.00 40 $403200.00 $220.93

Mode Freight Transit Inventory Total Pallets Total Freight Annualized


Cost per Time Cost Freight & per Cost Total Freight
Pallet Inventory Year & Inventory
Cost Cost
Air $570.00 4 $22.09 $592.09 360 $205,200.00 $213,153.53
(Consolidated)
Air (Direct) $800.00 2 $11.05 $811.05 840 $672,000.00 $681,27912
Ocean (20’) $170.00 34 $187.79 $357.79 480 $81,600.00 $171,740.05
Ocean (40’) $95.00 34 $187.79 $282.79 4,320 $410,400.00 $1,221,660.49
Totals 6,000 $1,369,200.0 $2,287,833.21
0

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Supplemental Information
1. Inventory in the Japanese warehouse is planned at two weeks of coverage. In other words, the
facility holds sufficient quantities of inventory (i.e. protection stock) to cover two weeks of daily
shipments to the various automobile plants. This target quantity has been set by policy, therefore
increases or decreases of transit time do not affect the policy to maintain the inventory.

2. Time at the destination port in Japan is comprised of vessel unloading and customs clearance time.
The process is capable of a two-day, repeatable standard for these activities.

3. Sales terms to automotive companies are CIF (Cost, Insurance and Freight). Under this term, the
sale price to the customer includes the price of the product, insurance, freight cost as well as import
fees. Further, title and ownership is transferred from Midwest Electronics to the automobile
manufacturer upon delivery to the car plant. This means that the inventory holding cost (from
production in the US through delivery to the car plant) remains with Midwest Electronics. Also,
liability for airfreight expense remains at with Midwest. Due to the fact that the CIF price is static,
any variation in delivery cost occurs at the seller’s expense/benefit.

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