Introduction to Network Design

Introduction to Network Design

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

Network design decisions significantly impact supply chain performance, as they determine the supply chain configuration and drivers that will influence cost and responsiveness.

Network design decisions must be revisited on a regular basis, whenever markets or the conditions of operations change.

Supply chain network design decisions include the designation of each facility role, location, capacity, and market assignment:

 Facility role decisions play an important role in determining the supply chain flexibility
 Facility location have long-term impact due to its inertia as well as influence on costs and responsiveness (proximity to clients)
 Capacity is easier to change than location, but is also a long-term, inertial, decision. Too much capacity results in low asset utilization (high cost and responsiveness) and the opposite results in high utilization (low cost and responsiveness)
 Market assignment impacts performance as it affects total production, inventory, and transportation costs incurred by the supply chain in order to satisfy demand

[Optional] Supply Chain Network Design
Watch this 2-minute video to see some insights from the Supply Chain Network Design Roundtable held at ZLC/MIT:
There are 8 main factors that influence network design decisions:

• Strategic factors
• Technological factors
• Macroeconomic factors
• Political factors
• Infrastructure factors
• Competitive factors
• Customer response time and local presence
• Logistics and facility costs

1) Strategic Factors

• We have learned that an organization’s supply chain must be aligned with its business strategy, thus, a firm’s competitive strategy clearly has a significant influence on network design decisions.

• For example, a firm’s focus on cost leadership is more satisfied with low-cost locations for their manufacturing facilities, even if it implies being far from its markets.

• On the other hand, firms that focus on responsiveness tend to locate facilities close to their markets and may choose high-cost locations, which allows them to reaching customers quickly.

2) Technological Factors

• Characteristics of available production technologies have a significant impact on network design decisions.

• For example, if production technology allows significant economies of scale, then a few high-capacity locations are effective.

• On the other hand, if facilities have low fixed costs, then implementing several local facilities is preferred in order to lower transportation costs.

3) Macroeconomic Factors

Tariffs & Tax Incentives

• Tariffs refer to any duties that must be paid when goods cross territorial boundaries, which thus have an obvious impact on network design decisions.

• Tax incentives are a reduction in tariffs or taxes that countries, states, and cities often provide to encourage firms to locate their facilities in specific areas. In many countries, tax incentives vary from city to city (some countries even create free trade zones in order to promote the establishment of businesses in the region).

Exchange-rate and demand risk

• Organizations that serve global markets are naturally exposed to exchange rate fluctuations, which might be handled with the use of financial hedging instruments.

• However, appropriately designed supply chain networks might take advantage of these fluctuations and increase profits.

• Firms must also take into account fluctuations in demand caused by economic volatility in different regions.

Freight and fuel costs

Fluctuations in freight and fuel costs have significant impact in any supply chain and network design decisions must take into account the extent to which certain configuration is exposed to such risks.

4) Political Factors

• In order to appropriately choose a facility’s location, we need to understand the political environment of the country or region under consideration.

• Organizations usually prefer to install their facilities in politically stable countries, where the rules for commerce, contracts and private property are well defined.

• Countries with mature legal systems allow organizations to enforce contracts easily, if needed. This provides more comfort for organizations to invest.

5) Infrastructure Factors

The quality and availability of infrastructure is a prerequisite to locating logistics facilities in a certain area, as poor infrastructure adds significant operating costs.

Several elements must be considered such as:
• Availability / quality of sites
• Availability / quality of labor
• Proximity to transportation terminals
• Availability / quality and ease of access to roads and railroads
• Availability / quality and ease of access to ports and airports
• Local utilities
• Congestion

6) Competitive Factors

Positive externalities between firms

Positive externalities are instances where the collocation* of multiple firms benefits all of them and leads companies to locate themselves close to one another. Some examples:

• Gas stations and retail stores tend to be located close to each other because doing so increases the overall demand.
• Competing retail stores locate together in a mall in order to make it more convenient for customers, who need to only drive to one location to find everything they are looking for, increasing the total number of customers who visit the mall, and the demand for all stores located there.

Sometimes a positive externality leads to the development of improvement of the infrastructure. For example, when a large manufacturer (say, a car manufacturer) implements a factory in a developing region, they build a supply chain that pushes the developing of an infrastructure, which, in turn, attracts competing companies

Collocationthe action of placing things side by side or in position.
Locating to split the market

Even in the absence of positive externalities, firm can locate strategically in order to capture a larger share of the market. The model below explains this:

Imagine a hypothetical situation in which there are two competing companies, A and B, which sell exactly the same product, at the same price. Customers are lazy and prefer just to buy at the closest place. In order to maximize profits, they want to find the best location on the only street in town, that goes from number 0 to 1 (customers are uniformly distributed).

Say that firm A is located at 0 and firm B at 1. Then, each firm will split the market between [0,1] = 1/2. Suppose that A tries to move to 1/2 in order to obtain more market share. Then B will have incentives to do the same.

Both firms maximize their market share if they move closer to each other and locate at A = B = 1/2.

[Optional] Why do competitors open their stores next to one another?
Watch this 4-minute video to find out:
7) Customer response and local presence

• If an organization targets short response times, it must locate itself close to its customers. For example, customers are unlikely to travel a long way to visit a convenience store; thus, a convenience store chain is better off having many stores distributed in an area so that most people have a convenience store close to them.

• On the other hand, customers that shop in large-amount discount supermarkets might be willing to travel longer distances. Therefore, supermarket chains tend to have stores that are larger than convenience stores and not as densely distributed.

• Also, if a firm is delivering products directly to its customers and uses a rapid means of transportation, then it needs fewer facilities (but transportation costs might be high).

8) Logistics and facility costs

Total logistics costs are the sum of inventory, transportation, and facility costs and are subject to the number of facilities, their location, and respective capacities.

Thus, organizations need to take into account these factors when designing their networks.

[Optional] Global Supply Chain Management
Watch this 4-minute video on global supply chain networks by Arizona State University:
Jim Rohn Sứ mệnh khởi nghiệp