Introduction to Distribution

Introduction to Distribution

In this lesson, you’re expected to learn about:
– the role of distribution in the supply chain
– the basics of distribution networks
– the main factors that influence distribution network design

What is Distribution?

Distribution is related to moving and storing a product from a supplier to a customer and occurs in every pair of stages in the supply chain.

Distribution directly affects a company’s profitability, as it is simultaneously a key driver of customer value and operational cost:

– In the apparel retail industry, distribution impacts roughly 35% of revenue due to its influence on markdowns and lost sales. That happens because if is distribution poor, either there will be too much leftover inventory (which will be probably marked-down at the end of the season) or stock-outs (lost sales).

– In the chemical industry, the distribution costs represent about 10% of the total sales.

Distribution Network

The distribution network can be used to achieve different types of strategic goals in a supply chain, such as the efficient and responsive strategies that we saw previously.

Thus, companies often design different distribution networks, even if they are competing in the same industry.

[Optional] Distribution Centers & Supply Chain Management Explained
Take a look at this 6-minute video about the role of distribution centers:
Factors Influencing Distribution Network Design
A firm must trade-off customer needs and cost when designing a distribution network

Since distribution is a driver of both revenue and costs, when designing a distribution network, we should have two high-level questions in mind:

– How can the distribution network be helpful when meeting my customers’ needs? 
– How can I achieve my distribution goals at the minimum cost?

From the customer side, a distribution network can impact the following customer value factors:

– Response Time: the amount or time it takes to receive an order.
– Product Variety: the different products/configurations offered by the distribution network.
– Product Availability: the probability of having the product in stock when demanded.
– Customer Experience: the ease with which customers can place and receive orders.
– Time to Market: time it takes to bring a new product to the market.
– Order Visibility: the ability to track and trace orders from placement to delivery.
– Returnability: the ease with which customers can return unwanted items.

On the other hand, the distribution network affects supply costsdue to impacts on:

– Inventories
– Transportation
– Facilities and handling

The Number of Distribution Facilities

As an exercise, let’s simplify our distribution network design decisions to only one: the number of distribution facilities (e.g. stores, distribution centers, warehouses etc.).

The impact of such a decision is multifold. For example:
– More facilities are associated with reduced response times.
– Less facilities are, usually, associated with lower total cost.

In order to build our intuition around the theme, we can analyze the impact of the number of facilities on different revenue and cost components:
– Response time
– Distribution costs (Inventory, Transportation, and Facility costs)

1) Response Time

The number of distributions facilities is associated with how readily available the product is to its customer.

• Firms that target customers who can tolerate a long response time require only a few locations that may be far from the customer. These companies can, thus, focus on increasing the capacity of each location, gaining economies of scale.

• On the other hand, firms that target customers who value short lead times need to locate facilities close to them, in order to be able to have the products right on hand. Therefore, these companies must have many facilities, each with relatively lower capacity (less economies of scale).

Source: adapted from Chopra & Meindl (2013)
Response Time vs. Number of Facilities
2) Inventory Costs

A greater number of distribution facilities is associated with greater inventory-related costs.

• As the number of facilities increase, the inventory level and the resulting inventory costs also increase (we are going to learn why in the upcoming lessons).

• In order to decrease inventory, other things remaining constant, firms need to consolidate inventories (e.g. using distribution centers) and reduce the number of facilities (inventory locations).

Inventory Costs vs. Number of Facilities
3) Transportation Costs

Being closer to the customer is associated with shorter (and cheaper) transportation; however, inbound transportation must be considered as well.

Supply chain locations incur two types of transportation costs:

– Inbound transportation costs: related to bringing material into a facility.
– Outbound transportation costs: related to sending material out (e.g. to the customer).

• Outbound transportation cost is usually larger, because lot sizes are typically lower (fewer units to share the costs).

• Increasing the number of locations decrease the average outbound distance and makes outbound transportation cheaper.

• On the other hand, more locations make inbound transportation more complex, which might increase the total transportation costs after a certain point.

Transportation Costs vs. Number of Facilities
4) Facility Costs

A higher facility cost is associated with a larger number of facilities.

• Facility costs decrease as the number of facilities is reduced.

• This is because a consolidation of facilities allows a firm to exploit economies of scale.

Facility Costs vs. Number of Facilities
Total Logistics Cost

A firm should have at least the number of facilities that minimizes the total logistics cost – and go beyond that only if it makes sense.

Total Logistics Cost = Inventory Cost + Transportation Cost + Facility Cost

• A firm should add facilities beyond the cost minimizing point only if the financial gains from the additional responsiveness are superior to the increase in total logistics cost due to the greater number of facilities.

Total Cost & Response Time vs. Number of Facilities
As the number of facilities increase, the total logistics cost first decreases, then starts increasing after a certain point (due to the dynamics that we have just seen).
[Optional] Key Factors When Designing a Distribution Network
Watch this 3-minute video to learn more:
Jim Rohn Sứ mệnh khởi nghiệp