2010

Supply Chain
Management

Karan Krishan Bhalla

101 Apurva
H. Dagli 103
Aman M. Tekriwal
121

[VENDOR MANAGED
INVENTORY]
The following document contains information about Vendor
Managed Inventory (VMI). The contents of the document involve the
introduction of VMI, the pragmatic steps for the set up, the
potential advantages and the perceived challenges to the successful
implementation of VMI. Industrial Illustrations are provided to
support theoretical conclusions and assumptions.
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Table of Contents
Table of Contents....................................................................................................... 3

VMI Rationale....................................................................................................... 4

VMI Model................................................................................................................ 5

Setup of VMI............................................................................................................ 7

Step 1 - Senior Sponsorship: ...............................................................................7

Step 2 - Employee Acceptance:............................................................................7

Step 3 - Synchronize Files: ..................................................................................7

Step 4 - EDI Testing: ............................................................................................7

Step 5 - Acceptance & Measurements: ...............................................................7

Step 6 - POS History: ...........................................................................................8

Step 7:..................................................................................................................8

Step 8:..................................................................................................................8

Step 9:..................................................................................................................8

Step 10:................................................................................................................8

Step 11:................................................................................................................9

Step 12:................................................................................................................9

Benefits of the VMI process.....................................................................................9

Challenges to the VMI program.............................................................................10

How to Make VMI work – The Success Factors.......................................................10

Examples on implementation of VMI.....................................................................11

Conclusion............................................................................................................. 12

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Vendor Managed Inventory
VMI is essentially an integrated approach whereby the inventory at the
distributor/retailer (downstream) is monitored and managed by the
manufacturer/vendor (upstream). VMI is a backward replenishment model where
the supplier does the demand creation and demand fulfillment.

It is a supply chain practice where the supplier is responsible for maintaining the
clients inventory levels. The supplier generates orders for the customer based on
demand information sent by the customer or acquired by the supplier. He has
access to client’s stock levels and then generates the stock replenishment orders
based on agreed inventory levels, fill rates and transaction costs.

Vendor Managed Inventory started in the retail business and grew out of
Efficient Consumer Response (ECR), where consumer satisfaction or rather
consumer expectation of stock availability is an important way to have a
competitive edge over others. Wal-Mart is one of the successful pioneers of this
supply chain strategy.VMI was pioneered by leading retailers in an effort to
streamline inventory levels and engineer more cost out of their logistics
processes. But in recent years, it has caught on with numerous companies in
various industries as more supply chains have gone global. VMI stands on the
pillars of Performance, price and promptness of the product/service availability.
In the ruthless competitive market of the 21st century, these factors deliver a
cutting edge to boost the top and the bottom line.

VMI Rationale
By pushing the decision making responsibility further up the supply chain, the
manufacturer/vendor will be in a better position to support the objectives of the
entire integrated supply chain resulting in sustainable competitive advantage. As a
symbiotic relationship, VMI makes it less likely that a business will unintentionally
become out of stock of a good and reduces inventory in the supply chain.

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The supplier party is updated with the various data related to the Demand
forecasting, consumption levels, current Inventory Levels. The VMI software which
has been customized with parameters to make decisions regarding the order point
and the order quantity makes the various decisions and then in response to the
data received, it supplies the products to the client warehouse. In this way, the
client is saved with the pressures of making forecast decisions and the supplier is
better aware of the movement of his products.

VMI program has been successful in the Retail Sector where the manufacturers
have real time data about the movement of their SKU’s and thus take decisions
efficiently. E.g. Wal-Mart, P&G partnership has helped P&G boost its sales as it can
plan the stocks by looking at the movement of their products from the counter

VMI Model

Wal-Mart has mastered VMI and is a benchmark company for many organizations.

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EDI
EDI is the enabling technology behind the successful VMI implementation.

Electronic data interchange (EDI) is the structured transmission of data

between organizations by electronic means. It is used to transfer electronic
documents or business data from one computer system to another computer
system, i.e. from one trading partner to another trading partner without human
intervention.

EDI Documents used in VMI

EDI is an integral part of VMI process. Some of the EDI transactions used in VMI are
listed below:
#850 Purchase Orders
#852 Product Activity
#855 Purchase Order Acknowledgement
#856 Advance Ship Notice
#810 Invoice

There are two EDI transactions at the core of the VMI process.

The first is the Product Activity Record, also referred to as 852. It contains sales and
inventory information. Inventory information is further classified into groups like in
hand, in transit / already ordered, committed, etc. This transaction is generated
sent by the customer on a prearranged schedule depending on the pre established
terms and conditions of their relationship. The decision to order is made on the
basis of an 852. The supplier reviews the 852 to determine whether there is a need
to replenish inventory at the customer. The review is also done on the basis of pre
established parameters by both the parties on issues related to inventory holding,
seasonality, etc. The decision is made by the VMI software and is largely
automated. The software calculates a reorder point and also ascertains the quantity
to be ordered for each item based on the movement data and holdings at each
location of the customer and overrides information like promotions, projects,
seasonality, new items and so forth.
This completes the order build process.

The second VMI transaction informs the customer what products to expect from the
supplier. The most frequently used is the purchase order acknowledgment, referred
to as the 855. This document contains the product numbers and quantities ordered
by the supplier on the customer’s behalf. Also there is another document, advance
ship notice (856) sent after the shipment has been made instead of at the time of
the order.

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Setup of VMI

Step 1 - Senior Sponsorship:

Since the business paradigm is changing, senior management must make a firm commitment to
this new process. VMI must have senior management sponsorship. It should be identified as a
strategic objective and then communicated throughout the organization. Senior management
must commit to the costs involved, and the manpower needed for setup/maintenance. For the
distributor, they must also become comfortable with the concept of having someone else manage
their inventory.

Step 2 - Employee Acceptance:

Get all employees to buy into the concept, especially the person currently responsible for
maintaining the inventory levels. Without their acceptance, the program will never work. They
must understand that VMI will not push them out of a job. It will free up some of their time to
allow them to be more productive in other areas. Employees should be given a complete
overview of what VMI will mean to the company and the reasons why it’s being done.

Step 3 - Synchronize Files:

Synchronize the Distributors Product Files with the Manufacturers. This step alone is one of the
greatest benefits received from VMI. Synchronizing means that one must match the
manufacturer’s product data with the distributor’s product data.

1. Are there old, obsolete items on the file?

2. Are the correct product numbers being used?
3. Have new product numbers been properly communicated to the distributor?

Any time there is a change to the product catalog, the manufacturer must share the data with their
VMI partners. The initial data synchronization is extremely important as well as the ongoing
synchronization that will be needed.
Step 4 - EDI Testing:

Extensive testing of all EDI sets to be used. The manufacturer and distributor must work very
closely together to validate that the data is being properly sent/received. For example: Does the
Quantity on Hand that is being received by the manufacturer match the Quantity on Hand in the
Distributor’s stock? Is Quantity Sold being properly sent? One should check a variety of items in
different categories (A, B, C). EDI testing many take many tries and adjustments before it is
finally correct.

Step 5 - Acceptance & Measurements:

The Distributor must understand and agree with the stocking plan the Manufacturer is creating.
Even though the exact method may be a proprietary method, the distributor should still have an

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understanding of how the plan is calculated. This will help avoid the future question: "Why did
they send us this product if we don't need it?"

Additionally, predetermined Inventory Turns, Fill Rates and Service Levels should be targeted.
The Distributor should monitor their current performance for comparison to later results. Both
parties must agree upon the frequency of replenishment (daily? once/twice per week?). Ideally,
the Distributor should have at least one year’s worth of measurements prior to VMI for
comparison to later results.

Step 6 - POS History:

The Distributor sends the Manufacturer his POS (Point of Sale) History file, usually 1-2 years
(Disk or Email). This will allow the manufacturer to base the inventory plan on direct sale data
rather than data from the distributors past ordering history. The format of the file must be
compatible to the needs of the manufacturer. Then the Distributor sends an EDI #852 All Item
Refresh. This tells the status and stock level of every item they have. Make sure verification of
both sets of data is done. This is the last and most important validation point.

Going Live
Step 7:

The Distributor makes a sale and enters that transaction into their computer.

Step 8:

On a daily/weekly basis the Distributor sends an #852 Product Activity. This reports a change in
position on any item since the last #852.

Step 9:

The Manufacturer receives the #852 and updates the Distributors Stock Plan. Once an Item or
Items have hit their Reorder Point (ROP), the Manufacturer creates an Order.

Step 10:

The Manufacturer sends out an #855 Purchase Order Acknowledgment to the Distributor. This
lets the distributor update their system with the newly created PO. During the beginning stages of
your VMI partnership, it is important to have the Distributor review the #855 and point out any
problems.

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Step 11:

The Manufacturer picks and ships the order and transmits a #857 Advance Ship Notice. This tells
the distributor exactly what is being sent and when its shipping.

Step 12:

When the shipment is received, the Distributor transmits a #861 Receipt Advice. This tells the
manufacturer exactly what was received. The manufacturer can then match this to his Purchase
Order to determine any potential problems (mis-shipped, etc.)

Benefits of the VMI process

Customer Benefits

• Reduced inventory: The supplier is able to control the lead-time component

of order point better than a customer with thousands of suppliers they have
to deal with. The supplier takes on a greater responsibility to have the
product available when needed, thereby lowering the need for safety stock.
Also, the supplier reviews the information on a more frequent basis, lowering
the safety stock component. These factors contribute to significantly lower
inventories.
• Reduced stock-outs: The supplier keeps track of inventory movement and
takes over the responsibility of product availability resulting in a reduction of
stock outs, increasing end-customer satisfaction.
• Reduced forecasting and purchasing activities: Because the supplier
does the forecasting and creating orders based on the demand information
sent by the customer, the customer can focus on reducing the costs on
forecasting and purchasing activities.
• Increase in sales: Due to less stock out situations, customers will find the
right product at right time leading to customer retention and his referrals
thus leading to increased sales.
• Efficient Plan: Moreover, the supplier can better plan and schedule his own
production / distribution as he can see and predict when its customer will be
exhausting its inventory. At the Customers side, there will be reduction /
elimination of stock outs as they will not have to reorder goods at the last
minute without any knowledge that the supplier has the ability to restock it
immediately without disrupting the customer’s operations. VMI on its part
reduces uncertainty that arises when the supplier is blind to the customer’s
inventory status.

Supplier Benefits

Planning: A VMI arrangement will allow the supplier to schedule its operations
more efficiently and productively as he is now monitoring its customer’s inventory
on a regular basis. Moreover with time, reductions in inventory will be achieved as
the supplier will develop an understanding of the trends and charts of how the
customer uses its goods over the course of a year. The supplier will then in a better

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position of maintaining its own inventory and avoid his stockout and support the
VMI customer on the long run producing a constant flow of income for the supplier
and reduce the risk that his customers will switch.

Lower Administrative Costs: This is accrued to both parties. The benefit to the
customer is easy to see. The customer spends less time ordering. In addition to this,
both parties spend less time following up on bad order information correcting orders
for non-shippable parts or quantities, and reconciling differences between orders
and shipments.

Challenges to the VMI program

1. Resistance from staff:

2. Lack of suitable computer systems
3. Loss of control of own inventories
4. Unclear division of responsibilities between supplier and customer.
5. Forecasting is difficult and ideally needs a stable demand and long product
lifecycles.
6. Gaining each other’s trust
7. Data and forecasts need to be accurate for VMI to bring benefits.

How to Make VMI work – The Success Factors

1. Clarify expectations: The parties need to discuss thoroughly how the

system will benefit both organizations in the long term. The objective is to
aim towards clear and constant communication between the supplier and
customer. When the two parties work in conjunction they can be assured that
the planning function, for both sides, will begin to smooth over time.

2. Means of sharing information / Good System to System Integration/

Effective computer systems: The supplier and the customer need to agree
on the means of sharing information vital to restocking in a timely manner.
This then shall result in a synchronized system. Measures would have to
taken to ensure that proprietary information would not get shared between
the supplier and customer, but enough information to maintain a steady flow
of goods is necessary. The customer should be willing to share production
schedules and/or forecasts to provide some visibility for the supplier.

3. Keeping communication channels open: When the two parties set out to
implement a VMI program, they need to meet and discuss their goals and
how they need to proceed in order to realize those goals. Once a VMI
program has been activated, each side needs to understand that there are
going to be some miscues. These miscues need to be studied as

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 opportunities for learning and then used to avoid repetitive problems in the
future.

4. Management and staff buy-in: The Management and staff of both the
parties have to be on the same page with regard to their roles and
responsibilities and expectations from the other party. Conflicts internal /
external and confusion may lead in a situation where stakeholders
become reluctant in accepting the VMI. This may result in a chaos and
prove detrimental to the organization

5. Long term relationships and Intercompany trust: VMI cannot be

looked upon as a short term contract. It is a long term relationship in
which trust levels are always maintained high at optimum levels. The VMI
program should have credibility and should be built upon a foundation of
trust

6. Open dialogue on changes in market conditions and forecast

accuracy and improvement: Both parties need to keep in mind that
change is inevitable in the current globalised world and hence both
parties should have an exception handling strategy. Communication and
information sharing should be open which would also help both parties
understand the market and then make accurate forecasts.

Examples on implementation of VMI

1. Wal-Mart and P&G have had a VMI program together for over ten years to
manage the inventory and production of disposable diapers, with great
success: turns doubled, Wal-Marts' operating costs fell, and P&G's market
share grew as WalMart gave it preferred shelf space to P&G

2. Oshawa Foods, a $6 billion Canadian food distributor and retailer, had

tremendous success with Pillsbury, Quaker and H.J. Heinz with turns
improving from 3 to 9 times, while achieving customer service levels of 99%.
This, however, came after some initial adjustments in the program because
of the hasty nature of initial implementation.

3. Panduit, one of the largest manufacturer of components for the electrical

industry with 60K SKU’s was able to leverage its market position to develop a
new computer system to reduce replenishment costs which were squeezing
profitability out of the entire supply chain. Because its distribution network
didn't see cost savings in the incorporation of VMI, Panduit developed a new

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 turnkey VMI/EDI system called Qualified Supplier Program (QSP) created by
an external vendor Advantis specifically in support of a tailored approach for
its industry. As a result, Panduit claims that their distributors are providing
better service to their customers, out of stock conditions have been reduced
to a minimum, and its customers are tightly linked as long-term stakeholders
in its business ensuring long-term supply chain stability.

4. At K-mart, customer service measures have gone from the high 80s to the
high 90s. Inventory turns on seasonal items have gone from 3 to 10, and for
the non-seasonal items from 12-15 to 17-20.

5. The VF Corporation, which has many well known brand names (including
Wrangler, Lee, Girbaud, and many others), began its VMI program in 1989.
Currently, about 40 percent of its production is handled using some type of
automatic replenishment scheme. This is particularly notable because the
program encompasses 350 different retailers, 40,000 store locations, and
more than 15 million replenishment levels. VF’s program is considered one of
the most successful in the apparel industry.

6. Spartan Stores is based in Grand Rapids, Michigan and owns 96 supermarkets

and drugstores in Michigan and Ohio. Spartan stores had to shut down its VMI
effort about one year after its inception. It found that its inventory levels were
not going down as they had predicted by the use of VMI. Further their current
inventory levels could have been accomplished far more comprehensively
had they just eliminated forward buy.

7. Oil companies such as Petrolsoft Corporation often use technology to manage

the gasoline inventories at the service stations that they supply.

8. Home Depot uses the technique with larger suppliers of manufactured goods
(i.e. Moen, Delta, RIDGID, and Paulin).

Also the buyers were not spending any less time on reorders than they did
before. they didn’t trust the suppliers enough to be able to stop carefully
monitoring the inventories and deliveries of the VMI items, and intervening at
the slightest hint of trouble. Suppliers also didn’t do much to allay these
fears. They were just not able to deal with issues in times of promotions,
which are a key part of the grocery business thus delivery levels were often
unacceptably low during these periods of peak demand.

Conclusion
Under VMI, suppliers and customers can both recognize and focus on the same
issue: how to sell more products to the end user more efficiently. This changes the
suppliers focus from how to get the customer to buy more to how to help the
customer sell more. This change in relationship is the most exciting feature of VMI.

In conclusion, the benefits of VMI are due to the increased information flow between
the customer and supplier. This information needs to be part of the day to day
process for all parties in order to assure the quality and freshness of the data.

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Initially in the retail sector, under the VMI, ownership transferred to retailer upon
receipt of goods. Now, VMI is based on consignment relationship in which
manufacturer owns goods until sold. This is now providing more benefits in terms of
costs to the retailer, manufacturer and the supply chain system wide costs. Wal-
Mart do not own most of the merchandise in their retail stores. They own them
briefly as they move through the check-out counter.

VMI programs should be entered into with strategic partners who supply high and
predictable volumes and with whom there is an already an established long-term
relationship and a high level of trust factor.

VMI has the potential to lower the total inventory levels in the supply chain and
decrease the lead times, but this is highly dependent on the forecast accuracy and
supply chain monitoring and responsiveness. Care has to be taken while the
strategic planning to ensure that communication and dedication to the VMI program
is given the utmost importance between the parties.

VMI continues to evolve and improve continuously. Industry standards make VMI
implementation easier and more affordable

References

www.vendormanagedinventory.com

www.wallstreetjournal.com

www.wal-mart.com

www.p&g.com

www.petrolsoft.com

www.wikipedia.com

Work Distribution

101. Karan K. Bhalla- VMI Rationale, VMI Model, Benefits and Conclusion

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103. Apurva H. Dagli- Setup (The steps), Challenges and Conclusion

121. Aman M Tekriwal- Success Factors, Examples of implementation and

Conclusion

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