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Llenroc Plastics Europe: EU/US International Operations Collaboration

January 1995 revised: January 1996 revised: January 1997 Peter Jackson Pierre Semal
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revised: February 2000, 2001, 2003 Ph. Huang , B Kleiner , P. Semal


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Acknowledgments
Llenroc Plastics is a case study carried out by John A. Muckstadt and Peter L. Jackson at ORIE, Cornell University, Ithaca, NY. This original case was reported in: "Llenroc Plastics: A case study in Manufacturing and Distribution Systems Integration", Technical Report N. 898, Cornell University, March 1990. Llenroc Plastic Europe is an adaptation of this case study to Europe.

Abstract
Llenroc Plastics is a case study originally carried out by John A. Muckstadt and Peter L. Jackson, ORIE, Cornell University, Ithaca, NY. The original case was reported in: "Llenroc Plastics: A case study in Manufacturing and Distribution Systems Integration", Technical Report N. 898, Cornell University, March 1990. Llenroc Plastic Europe is an adaptation of this case study to Europe. Llenroc Plastics Europe is a comprehensive case study in redesigning the manufacturing and distribution systems for a medium-sized manufacturer of high pressure decorative laminates. A series of six cases examines, in turn: (Case 1) the transportation system for a regional warehouse, (Case 2) the inventory policies of a regional warehouse, (Case 3) the design of a pan-european distribution system, (Case 4) the operational improvements of a bottleneck manufacturing operation, (Case 5) the work flow and layout improvement of a non-bottleneck operation, and (Case 6) the redesign of the manufacturing planning and control system. The cases are integrated by a common concern to reduce cost and inventory investment and to improve quality and customer service. The collaborations will focus on Case 1 and Case 3.

1Cornell 3 4

2Universit

University, Ithaca, NY, USA. Catholique de Louvain, LLN, Belgium. Virginia Tech, Virginia, USA.

Llenroc Plastics Introduction


Background
The Llenroc Plastics corporation is one of several major manufacturers of high pressure decorative laminates (HPDL). These laminates are found in counter tops in kitchens and bathrooms, are used as wall surfaces in homes, mobile homes, and offices, and are used by furniture manufacturers to fabricate tables, desks, and cabinets for both home and office use. They are very popular due to their low price, high durability and wide variety of colors and patterns. The HPDL market is not large. It is expected to be approximately 480 million ECU's this year. This market is divided into three segments: direct sales (for OEMs, 22%), residential (served by distributors, 35%), and commercial specifications (large projects, 43%). Llenroc Plastics has historically concentrated on direct (32%) and residential sales (60%) with only 8% of its business in the commercial specifications segment. Overall, Llenroc's projected current year sales are 81.6 million ECU's. Future market growth in real terms is expected to be about 4% per year, with most of it coming in the specification segment. The major competitors in this market are Wilson and Formica. As you will observe in Table 0.1, these companies dominate the industry in terms of market share, per unit production and distribution costs, and production capacity. Furthermore, they presently dictate the industry standards for product variety, quality, and customer service. Consequently, all financial and operational decisions must consider the impact they will have on the company's relative competitiveness. Table 0.2 summarizes the company's current gross margin. The rest of the introduction is devoted to a description of the manufacturing and distribution operations and an overview of the project. Table 0.1. Comparative Market Share and Cost Analysis Company Market Raw Factory Share Material cost (%) ECU/sqf ECU/sqf Wilson 39 0,180 0,107 Formica 26 0,182 0,132 Llenroc 17 0,183 0,130 Nevamar 10 0,189 0,148 Micarta 4 0,192 0,146

Freight ECU/sqf 0,016 0,017 0,022 0,020 0,023

Table 0.2. Gross Margin: Average Costs per Square Feet Raw Material ECU 0,183 Labor and Overhead ECU 0,130 Manufactured Cost ECU 0,313 Freight ECU 0,022 Delivered Cost Sales Price Gross Margin

ECU 0,335 ECU 0,530 ECU 0,195

Manufacturing Operations
Let's take a brief look at Llenroc's manufacturing operations. At the present time, Llenroc has one main manufacturing plant located in London, UK. All the products they manufacture and sell are laminates. Each piece of HPDL consists of several layers of different types of paper, which are each impregnated with resins and pressed together at high temperatures. Four types of paper are used in the process. The top layer, which is used primarily for protection, is colorless and transparent and is called the overlay paper. The second layer is a single sheet of decorative paper, which provides the color and pattern to the surface. The third layer consists of 2 - 4 sheets of Kraft paper. The decorative paper is impregnated with melanin resins while the Kraft paper is impregnated with phenolic resins in the manufacturing process. The exact number of sheets of Kraft paper and the weight of the individual sheets of the paper depend on the desired strength of the final product. Here is a description of the complete manufacturing process. The first step is the receipt and storage of rolled paper. The rolls of paper are received from the suppliers in 3, 4 or 5 feet widths (note that because the manufacturing plant is in UK, the usual length unit for the company is the foot, which is about 0.3 meter). These rolls arrive by truck or rail. Rail transport is used primarily to receive large rolls of Kraft paper. After storage, paper is withdrawn from stock in rolls. A prescribed amount of paper is removed from a roll and treated with an appropriate resin. The exact resin content varies among different types of paper. The precise resin mix is required to guarantee a high quality final product. Once it completes the treating process, the impregnated paper is cut into individual sheets, which are 8, 10 and 12 feet in length. Altogether, there are 9 standard sizes of paper that emerge from the treating operation, ranging from 3 x 8 to 5 x 12 square feet (sqf). Once the paper is cut to length it is generally stored in racks according to pattern, color, and size. Currently there are 180 different colors and patterns in the product line, each available in the 9 standard sizes. The individual sheets are then assembled into so-called "books" prior to pressing. A book contains all the paper required to make two final pieces of laminate plus some additional paper. Figure 0.1 shows the construction of a typical book. The name "book" comes from the fact that the resultant assembly is symmetric in content with the exterior pieces of paper called the cover paper. The extra sheets of paper added in the assembly process are required to protect the remaining paper during the pressing operation. In Llenroc's plant, there are six presses used, each of which has limitations on the sizes of the material that it can press. Furthermore, the number of books per press load also varies among these presses. More detailed data on the presses will be provided subsequently. While there are differences, the presses operate in essentially the same manner. Each press has a series of openings. The number of openings depends on the press. Each opening in each press has capacity for only ten laminates (5 books). The precise manner in which these loads for each opening are constructed will be discussed in one of the cases. Once an entire load is constructed and placed in a press, the press cycle begins. This batch pressing process takes about one hour to complete. Following the pressing operation, the individual laminates are stacked onto pallets and moved in multiple press loads to a finishing area, called the fabrication room. The final trim and sanding operations, as well as some inspections, are performed there. Finally, each piece is inspected, stacked, and then sent to the finished goods warehouse racks for storage or shipping. The storage area consists of a high bay storage and retrieval system and a set of storage racks for high demand rate material. Figure 0.2 gives a summary of this operation sequence.

Figure 0.1 Construction of a Press Book

Plate Release Overlay Cover (Print) 2-4 Kraft (treated) Untreated Kraft Untreated Kraft with special release on back 2-4 Kraft (treated) Cover (Print) Overlay Release Plate Figure 0.2 Manufacturing operations Receiving Storage Treating Cut Storage Assembly Pressing Finishing Inspection Storage Distribution System and Operations
The distribution system consists of one central warehouse, located in London with the manufacturing facility, and seven other regional warehouses. These warehouses are located in Copenhagen, Hamburg, Munich, Milano, Brussels, Lyon, and Madrid. The national sales regions are depicted in the map shown in Figure 0.3. Table 0.3 contains the data showing annual sales for each region. These warehouse locations were not chosen with great care. They were established primarily based on the Marketing Department's feeling that "the closer we are to our customers the better." However, cost and service issues were not adequately addressed when the location decisions were made. The market can be conveniently segregated into two groups, Original Equipment Manufacturers (OEMs) and others. The OEM business refers to the direct sales business mentioned earlier. All other segments are served by a network of distributors scattered throughout Europe. Independent of customer type, the finished goods flow to the customer occurs as follows. Once manufactured as described previously, the laminates are normally placed into the finished goods stock at the central warehouse. In some instances where backlogs exist, the finished product goes directly to the shipping department. Orders are received at the central warehouse from one of two sources, OEMs or regional warehouses. Distributors place their orders with a designated regional warehouse. All customers receive their stock from their designated regional warehouse. OEMs and other customers receive their inventory from their assigned regional warehouse. The flow of material that occurs is depicted in Figure 0.4.

The flow of information concerning inventory and shipping occurs somewhat differently. The regional warehouses provide aggregate data on a daily basis to the central warehouse. Some of the data concerns shipments to individual customers, which is used primarily for preparing invoices and tracking customer service. The second type of data is orders for replenishment stock. Whenever a regional warehouse's inventory position for an item reaches a reorder point, an order is placed automatically requesting a shipment be made to that regional warehouse. The central sales facility located in London monitors all OEM accounts directly. The OEMs place their orders with London. Inventory is held in the appropriate regional warehouse "to provide excellent service to these highly important customers." Once an OEM order is placed, an electronic message is sent from the central warehouse to the regional warehouse that contains all the pertinent information. It takes about two days from the time an order is placed until the regional warehouse receives these shipping instructions from the central location's information system. Shipments are made in full truckload quantities from the central warehouse to each regional warehouse so that transportation costs are kept as low as possible. Furthermore, each regional warehouse operates its own trucking fleet to serve its region. Shipments from the regional warehouses are made to customers on the day after the order is known to the distribution system. The truck dispatcher does his best to give his customers next day service while keeping transportation costs as low as possible.

Table 0.3 Sales regions


Sales Region 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 Finland Sweden Norway Denmark North Germany East Germany Central Germany South Germany Austria Switzerland North Italy South Italy Benelux North France SW France SE France East Spain West Spain Portugal Ireland Scotland England Break-bulk Point Helsinki Stockholm Oslo Copenhagen Hamburg Berlin Stuttgart Munich Wien Bern Milano Roma Brussels Paris Bordeaux Lyon Barcelona Madrid Lisboa Dublin Edinburgh London Responsible Warehouse Copenhagen Copenhagen Copenhagen Copenhagen Hamburg Hamburg Munich Munich Munich Munich Milano Milano Brussels Brussels Lyon Lyon Madrid Madrid Madrid London London London Weekly Volume (sqf) 45642 155781 155781 6435 17216 5397 72208 18104 110128 408528 53929 46035 594912 97624 144917 380924 31953 293713 145765 76532 174128 69425 Weekly Volume (FTL) 0,40 1,35 1,35 0,06 0,15 0,05 0,63 0,16 0,96 3,55 0,47 0,40 5,17 0,85 1,26 3,31 0,28 2,55 1,27 0,67 1,51 0,60

* * * * * * * * * * * *

Figure 0.3 Sales regions

Manufacturing Plant Central Warehouse Regional Warehouses Break Bulk Point OEMs and Distributors

Figure 0.4 Flow of material in Llenroc's Distribution System

CASE 3 The Warehouse Location Problem


1. Overview
Llenroc Plastics' distribution system consists of the central warehouse, located in London , and 7 regional warehouses (Copenhagen, Hamburg, Munich, Milano, Brussels, Lyon, and Madrid). Each warehouse operates independently. As we have discussed in the previous cases, these warehouses presently are not operating either efficiently or effectively. Due to the inventory and transportation problems, customers have been receiving poor service. You have examined some of the causes and proposed some ways to rectify these problems at a regional warehouse. In this case, we will examine a broader issue: how many warehouses should there be and where should they be located. This is an important problem for Llenroc to address properly for several reasons. First, we know that Llenroc must improve its service to its customers. Second, Llenroc must reduce cost. Inventories are too high. There is approximately 7 million Ecu's of inventory at the seven regional warehouses, measured in cost. Furthermore, there is about 2 months worth of finished goods stock at the central warehouse as well. The operating costs are also high. It costs an average of approximately 2 million Ecu's per year to operate a regional warehouse. Finally, there are also excessive transportation costs. Your task is to redesign the warehousing and distribution system. You must consider all the relevant costs: warehousing, inventory, and transportation costs. If you propose closing an existing warehouse, you should include the termination costs listed in Table 3.1. Use a five year planning horizon and a 15% cost of capital to compare alternatives. You must also improve substantially the service you provide to customers. To simplify your task, we have divided the country into 22 sales regions. These regions are illustrated in the map in Figure 0.3. Rather than considering the detailed demand by customer, we have aggregated the demand by region so as to reduce the computational burden. Table 0.3 (or 3.1) lists the regions and shows the sales volume measured in square feet on a weekly basis for each region. Llenroc's management has helped to reduce the scope of the location problem. By considering where customers are located, the availability of reliable local trucking companies, the network of motorways, and operating costs, management has narrowed the search for suitable warehouse locations to the following cities: Copenhagen, Hamburg, Berlin, Munich, Wien, Milano, Brussels, Lyon, Barcelona, Madrid, Edingurgh and London. As mentioned, there are existing Llenroc warehouses in eight of these cities. The existing and potential warehouse locations are marked with an asterisk in Table 0.3. You must select which of these cities is to house a warehouse. For each warehouse, you must select which of the 22 sales regions it must support. A sales region can only be served by one warehouse. Do you think it is appropriate ? You must estimate transportation costs. To accomplish this goal, you must develop an approximate transportation plan for the system. This plan will provide possible routes that will be followed by carriers to deliver products to customers. Although we will not stipulate what routes should be taken by carriers once the plan is put into operation, it is essential that we accurately estimate in advance what transportation costs and customer service levels will result from the plan's implementation.

To simplify your analysis, assume that each sales region has associated with it a central break-bulk point. These break-bulk locations are indicated in Table 0.3. All shipments to that region come to the break-bulk point using long haul carrier. At the break-bulk point, the shipments to individual customers are separated and a local short haul carrier is used to move the laminates to their final customer destinations. Since these break-bulk points are predetermined, the warehouse location decision has no effect on total short haul costs. Nevertheless, you should include these costs in your total cost report. The transportation plan consists of a specification of the routes that the long haul carriers will follow to move laminates from the regional warehouses to the break-bulk points in each region. The long haul cost is based on truckload-kilometers. The contractual cost to drive one truck (115000 sq. feet capacity) for one kilometer is 1.09 Ecu. This routing problem differs from that considered in Case 1 because of the use of contract long haul carriers. In this case, it is not necessary to plan round trips. The contract carrier truck is contracted for a pre-specified route and Llenroc is charged 1.09 Ecu per kilometer for the length of the route from the warehouse to the furthest point on the route. (It is not necessary to pay for the truck's return to the warehouse: that is the contract carrier's problem.) In addition to the transportation from the regional warehouses to the to the breakbulk points, the transportation from the central warehouse in London to the regional warehouse must be evaluated too. Here direct routes are assumed. Once all the routes are determined, the pipeline stock, that is the amount of products on the road, can be computed. The cycle stock and the safety stock must be estimed too. You must also extend the analysis of Case 2 to develop an overall inventory plan. That is, specify the inventory policy to be used at each regional warehouse for each category of items, A, B and C. Specify the criteria that will be used to decide whether or not a part should be stocked, what the frequency of orders will be, and what should be the appropriate cycle and safety stock levels. The relevant data for this analysis can be found in the spreadsheet Table2_2.XLS. These data reflect demand rates and standard deviation to mean ratios (coefficient of variation) for regional and national weekly demand. As you would expect, the national demand rates are higher and the coefficient of variation is lower for national versus regional demand. What does this imply about safety stock levels? When examining these data, observe that the coefficient of variation is high for most items. Hence, you may want to consider methods for reducing the relative variability. Once you have proposed a design for a warehousing system and established an inventory stocking policy, you must evaluate its impact on customer service. Recall that our fundamental goal is to improve Llenroc Plastic's service to its customers. What service will the planned system provide? How will you measure it?

Assignment Overview
Your task is to set up a warehouse system that keeps costs low while keeping customer satisfaction high. 3.1 Formulate as precisely as possible the objective(s) you will aim at during the design of the network: objective function(s), constraint(s), design variables, etc. 3.2 Perform a detailed analysis of the different contributions to your main objectives. For example, the reduction of the costs is a main objective. Therefore, you should detail what are the different components or contributors to the cost figures. This analysis should be qualitative and if possible quantitative. This approach is also necessary for the other important objectives (customer service, ) of your network design. 3.3 At this point, you should study generic scenarios. Their quantitative evaluation will guide you in the design of real solutions. Once you have a clear methodology, you can implement it by answering the following questions successively. 3.4 Choose a set of warehouses to use from 12 possible sites. These warehouses are spread across the nation. Your decision should be based on a number of factors: location of the warehouse, location of demand, and the cost of running a warehouse. In this model, the cost of running a warehouse is based on a fixed cost plus a cost that varies with volume. You must also assign regions to these warehouses. Your decisions define the warehouse, long haul transportation between the central warehouse and the regional warehouses and the corresponding pipeline inventory costs. This is the most important decisions of the assignment. 3.5 Decide which routes to use to ship the products from the regional warehouse to the break-bulk points. Geography and customer service must be taken into account. Your decisions define the second part of the long haul transportation (from the regional; warehouse to the break-bulk point) costs and the corresponding pipeline inventory costs. 3.5 bis Optional. Perform an ABC classification of the products and define for each class the safety stock and the order size (cycle lot size).If you do not do the assignment, please re-use the values preset in the software. Your decisions define inventory costs and some aspects of customer service. 3.6 Discuss the strength and the weakness of your plan both from an economic, a marketing and a social point of view.

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Appendix C
Description of WCOSTEU.XLS
WCOSTEU.XLS is an Excell spreadsheet designed to simulate the inter-relationships among transportation costs, warehouse costs, and inventory costs in the warehouse system. In this spreadsheet, you will select warehouses, decide which regions to assign to each warehouse, define routes to transport laminates to each region's break-bulk point, and complete the inventory picture by entering safety stock months of supply. When these tasks are complete, you will have a fairly complete picture of Llenroc's warehouse system. This section is arranged in the same order as the spreadsheet, with one section for each spreadsheet screen. After experimenting with the spreadsheet, the relationships between transportation, warehouses, and inventory should be clear. For an in-depth explanation of the inventory models used for safety, cycle, and pipeline stock, see Appendix F.

A.1. Warehouse Cost Model(A21)


The warehouse costs are determined by adding a fixed base cost to a volume dependent variable cost that represents labor and lease costs. The variable cost is derived from a piecewise linear function given by cut-off points:( for a graphical representation of these costs, look at WCOSTEU.XLC).

If the annual Volume V (in million) is in the range: Cut 0: 0

then the cost is:

The cost range is then: [0] [1.00 - 2.92] [2.92 - 4.52] [4.52 - 7.08] ]

0 V * 0.06+ 1.0 (V - 32) * 0.05 + 2.92 (V - 64) * 0.04 + 4.52

Cut 1: ] 0 - 32] Cut 2: ] 32 - 64] Cut 3: ] 64 - 128] Cut 4: ]128 ]

(V - 128) * 0.02 + 7.08 [7.08 -

A.2. Warehouse allocation


To enter your decisions for task 1.1 in the spreadsheet, first find the appropriate row for a particular warehouse, then enter the numbers of the regions allocated to it in that row. Use Figure 0.3, a map of the regions, as a reference. If a warehouse is not used, be sure its row contains only green zeros. You may allocate all 22 regions to one warehouse, spread the regions among all 12 warehouses, or use any combination between these two extremes. Make sure all regions have been allocated by checking the total square feet allocated. It should read 161,464,121.

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B.1. Transportation cost model (H21) Transportation Costs (in ECU/week) are made of 3 components : (a) Central Warehouse --> Regional Warehouse, model ) (b) Regional Warehouse --> Break-Bulk point, model ) (c) Break-bulk point --> retailer / customers, ( long haul cost ( long haul cost ( short haul cost model )

Long haul model : 1.09 ECU per truck per kilometer for (a) : number of trucks = weekly demand / truck capacity for (b) : number of trucks = total number of routes followed every week Short haul model : Cost(region) = weekly demand * haul rate cost (region) weekly demand in square feet
haul rate cost (region) in ECU / square feet

B.2. Long haul costs: Regional - Break-Bulk Point


On these screens, routes are chosen to transport weekly supplies of laminates from the regional warehouses (chosen on the screen above) to the break-bulk points in each region. There are a total of twenty possible routes; you may use each route more than once by entering the appropriate number in the "times used" cell. It is important to remember that since Llenroc uses a common carrier in Case 3, round trips are not necessary. Also, Llenroc is charged Ecu 1.09 per kilometer, no matter how many square feet of laminate are on the truck. Therefore, it is to your advantage for each truck to leave the warehouse as full as possible. Work with one warehouse at a time when choosing routes. Using the map of the regions, pick a likely route. Enter this route in the speadsheet by entering the region numbers, in order, in the leftmost column of the route, with the region that has the warehouse in the first green cell. Then enter the square meterage carried to the corresponding region in the middle column. If the truck is not carrying any laminates for the region that contains the warehouse, then the first cell in that column should be zero. The spreadsheet will look up the distance from the last region you were in to the one you are in now ( the first distance will always be zero). Finally, enter the number of times a truck will travel this route in the "times used" cell for each route. It is somewhat tricky to find routes that use most of the truck capacity. One way to do this is to choose the regions you would like included in a route, add up the weekly demands for these regions (the demands are listed in both Table 3.1 and in the spreadsheet) and divide by 115,000 (capacity of a truck in sq ft). This is the number of trucks needed to cover the regions on your chosen route. If the number is an integer or slightly below, then you have chosen a good route that has the truck filled nearly to capacity at the beginning of the route. The integer value is the number of times a truck will cover this route. The square footage entered in the middle column is the demand /integer value.

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Once you have entered all your routes, check the totals to the right of the twentieth route to be certain all demand has been shipped . The cost of the pipeline stock for each route is computed and listed under the transportation cost (see Appendix F).

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B.3. Short Haul Costs


Short haul costs are incurred to transport laminates from the break-bulk point to the customer. These costs are computed on a cost per square meter rate that varies from region to region. These costs are not affected by your choice of warehouse locations and routes. The costs per square meter are listed one screen to the right.

B.4 Long Haul Transportation: Central(London) - Regional


Since laminates that are distributed from regional warehouses must get there from London , additional pipeline stock and transportation costs are incurred. This screen computes how much it costs to transport laminates to all the regional warehouses.

C. Cycle, Safety, and Pipeline Stock


This screen brings together all the data pertaining to the inventory system. You must enter the Fraction of Annual Sales values, which comes from an ABC classification, and the SSMOSi values. MOS stands for month of supply. An SSMOSi value is simply the total safety stock expressed as a percentage of the monthly demand for each type of products (ABC). A procedure to determine these values was already requested in Case 2. The Appendix F describes a procedure for the calculation of these values. Given these data, the spreadsheet computes the ECU value of the various types of inventory.

D. Totals: Annual Summary


This last screen brings together all the cost information that the spreadsheet has generated. The report is on an annual basis, so transportation costs are multiplied by 52. Since 20% interest is charged on the inventory, it is a very significant cost for a high level of safety stock. This screen will help you decide the economic feasibility of your proposed warehouse system design. As you become familiar with this spreadsheet, the relationships between the components will become clear. For example, more warehouses lead to a larger safety stock inventory. What relationships can you discover or anticipate between changes in: Number and location of warehouses, Allocation of regions to warehouses, Long Haul routes, and Fill Rates, and changes in: Long Haul transportation costs, Long Haul pipeline stock, Short Haul transportation costs, Transportation Costs from London to regional warehouses, Pipeline stock from London to regional warehouses, Annual warehouse operating costs, Cycle stock, Safety stock, Customer Service, and Lead times

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If you can explain how all these factors are interrelated, you will be able to create and justify a reasonable warehousing system. Use the spreadsheet to try several different solutions for comparison. Note that the spreadsheet does not compute lead times, fill rates, or customer service. You must develop your own techniques for measuring these quantities.

Table 3.1 Termination cost for the warehouses. Warehouse Sales Region Volume per Region (sqf) Copenhague Finland 1 2373384 Sweden Norway Danemark Hamburg North Germany East Germany Central Germany South Germany Austria Swizerland Milano North Italy South Italy Brussels Benelux North France Lyon SO France SE France Madrid East Spain West Spain Portugal London Ireland 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 8100612 8100612 334620 895232 280644 3754816 941408 5726656 21243456 2804308 2393820 30935424 5076448 7535684 19808048 1661556 15273076 7579780 3979664

Volume Terminatio per n cost warehouse (ECU) 18909228 1985469

1175876

123467

Munich

31666336

2691639

5198128

389860

36011872

4501484

27343732

2050780

24514412

1838581

16644420

1248332

15

Scotland England

21 22

9054656 3610100

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Appendix D Inventory Calculations


Three major cost categories are considered in Case 3, the Warehouse Location Problem: transportation costs, warehousing costs, and inventory holding costs. The inventory category is important for two reasons: (1) inventory investment is very sensitive to the warehouse location decision, and (2) investment in inventory is one of the major asset categories of the firm. This case requires a rough estimate of the economic amount of inventory investment required to provide good customer service in Llenroc Plastic's national distribution system. This note is intended to guide you through some procedures to make that estimate. There are three components to inventory investment:

Pipeline Stock Cycle Stock Safety stock


The spreadsheet developed for this case, WCOSTEU.XLS, uses the following models to compute the three components of inventory. Pipeline Stock Pipeline stock refers to the inventory in transit from the central warehouse to the regional warehouses, from the regional warehouses to the break-bulk points, and from the break-bulk points to the customers. The spreadsheet WCOSTEU.XLS calculates pipeline stock in the following way. Based on your assignment of regions to warehouses, it computes the average weekly volume of stock, measured at cost, moving from the London central warehouse to each regional warehouse. It multiplies this volume by the estimated time required to complete the trip, measured in weeks. The total of these figures across all regional warehouses is the pipeline stock in transit from the central warehouse to the regional warehouses. Next, based on your design of routes to move stock from the regional warehouses to the break-bulk points, the spreadsheet computes the distance travelled from each warehouse to each break-bulk point. It converts each distance to a travel time measured in weeks, and multiplies this time by the volume of stock moving to the break-bulk point, measured at cost, and by the number of times per week each route is used. The total of these figures across all routes is the pipeline stock in transit from the regional warehouses to the break-bulk points. Note that the total amount of pipeline stock will depend on the location of your warehouses and your choice of routes to satisfy regional demand. The current version of the spreadsheet does not estimate the pipeline stock in transit from the break-bulk points to the customers.

Cycle Stock
Cycle stock is estimated using the following order sizes (A items = 0.5 months, B items = 1 month, and C items = 3 months), the Fraction of Annual Sales values, and total annual sales in cost. You may use any values for Fraction of Annual Sales that make sense. That is, you may change the ABC classification that you proposed in Case 2. Cycle stock is computed as follows:

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Cycle stock = i=A,B,C (1/2 Qi * Fractioni * total annual sales at cost) where i = A, B, C.
This equation multiplies the average amount of inventory on hand by the value of that inventory. Note that cycle stock will not be affected by your warehouse location decisions.

Safety Stock
Safety stock represents a major investment in the distribution system and it will be affected by your choice of warehouse locations and by your operational strategy. If you choose to have many regional warehouses and carry safety stock in all items to achieve high fill rates, and back up each of these items with safety stock at the central warehouse, then the interest carrying charges will be a significant line item in your cost report. The spreadsheet WCOSTEU.XLS uses the following simple model to compute safety stock:

Safety stock = 1/12 i=A,B,C (SSMOS(i) X Fraction of Annual Sales(i) x Annual Sales at Cost) ,
where SSMOS(i) is the average safety stock measured in months of supply for inventory class i = A,B,C. You are responsible for providing the SSMOS(i) figures to the WCOSTEU spreadsheet. Estimating such factors for a multi-location distribution system is a non-trivial task and deserves careful treatment. We propose here the following procedure. Let us assume that Table 2.2 represents a typical pattern of demand for a regional warehouse. These values are also given in TABLE2_2.XLS. Then, we perform an ABC categorization of the table and select a representant for each class. For each such a product, we determine the safety stock required to reach a predefined customer service level. Finally we express this safety stock in percent of the monthly demand of this product. We asume then that all the product of this class required the same percentage of safety stock. This computation is performed for each class representant. This allows us to determine the safety stock for a typical regional warehouse. For the central warehouse, the computation can be performed again, assuming the typical national demand distribution given in TABLE2_2.XLS too. For the required data, assume a lead time of 2 weeks from the manufacturing plant to the central warehouse. The lead time for the regional warehouse depends on the fill rate at the central warehouse and on your distributrion system. Also, assume lead time demand to be normally distributed for A and B items and doubleexponentially distributed (Laplace distribution) for C items. For the lot sizes Q, here is a reasonable choice expressed in terms of months of supply: 1/2 month for A, 1 month for B, and 3 months for C.

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