Topics

39. Which is the Most Profitable Customer?



Table 1 - Alpha Ltd Income Statement
1st quarter 2019	Johnson Ltd	Frank Group	Total

Net Sales 1	2,000,000	1,780,000	3,780,000

Var. Ind. Costs 2	740,000	800,000	1,540,000

Ind. Contr Marg 3	1,260,000	980,000	2,240,000

Industrial Overh. 4	760,000	600,000	1,360,000

CGS (2+4) 5	1,500,000	1,400,000	2,900,000

Indust Profit (1-5) 6	500,000	380,000	880,000

Adm/S&M/R&D 7			520,000

Gross Income (6-7) 8			360,000

That's one of the possible Internal Income Statements we use to make the right analysis by customer (similar for market and distribution channel) and to start reasoning on what a right a profitable action could be.

It's a simple example where the customers of Alpha Ltd are onyl two, but I prefer malking this way in order to reach the goal of this article.

You'll notice that we stop at the industrial expense level but all of us are aware that a customer absorbs a lot of resources by other dpts.

Some of these costs and related activities are considered even value-added ones, that is they are functional to some of the attributes the customers see as important reasons for "striking the bargain" (getting the purchase process done).

Without making a breakdown analysis of these activity categories according to their value creation potential, I kick off to descant on this real consumption of resources and the costs incurred.

Some of these customer resource-consuming activities are hidden into the Adm, Sales & Mkt dpt and in some cases also into the R&D when a long-term supply contract is in place at particular terms on the features of the products.

Many of these activities bring about the top side of each Income Statement (the industrial expense level), that is the manufacturing/delivery activities and linked costs arise because the "lower" side of the Income Statement (other dpt expenses) has been effective.

In making the short-term decisions we rely on the variable costs but when a wider lapse is helpful we cannot stop either at the Contribution Margin or at Throughput Margin and we make our reasoning on the full cost.

Nothing new about that.

Where does the strategic side lie?

In assessing the customer profitability as well as the channel distribution channel one (for instance) many management accountants consider only the respective Industrial Profit calculated by multiplying the Product Unit Industrial Cost by the number of products sold to each customer.

In other terms they ignore the costs to serve customers that include all the costs related to the activities that help the business "strike the bargain" (sell the products/services) and match the requests from customers.

Example of these are Advertising, Service calls, Collection, Billing, Travel and so on.

As you may understand, these activities are not the same for all the customers and you can evaluate it if you spot the right drivers that is the factors that explain the resource consumption and the related costs of a particular activity.

In other words when the drivers vary, the costs for those activities vary as well.

If you make the right driver analysis, you make the right Customer Profitability Analysis, achieving as a result further benefits such as:

- Giving the decision-making basis for marketing new services and products.

- Choosing the best product/service mix to realize.

- Discouraging the most unprofitable services and products.

- Identifying the best distribution channels.

.........

Let's make a step back.

If we make use of the traditional volume-based cost allocation techniques we cannot avoid to hide the real consumption of resources and the subject dissertation doesn't make sense.

We should resort to the activity approaches that highlight the real cost drivers that show how and why the resource consumption happens in all the activities that help the business acquire the customers, make the deal and satisfy their after-sales needs.

Here the steps of the ABC/M methods are not shown because the literature is rich in these topics, but we will limit to show the last part of the process, functional to the purpose of the dissertation.

According to the results of table 1 the most profitable customer, by limiting the analysis to the Industrial Profit, is Johnson Ltd and on this basis the business, we call Alpha Ltd, makes its decisions.

We can see at the same time there are Adm, Sales & Mkt, R&D expenses not allocated to each customer and we put at issue whether a Customer Cost Analysis can shift the decision basis.

Let's guess all of the related costs are previously allocated, on the basis of activity drivers, to the activity and now the last step to take is tracing the activity costs back to the customers.

How can we do this?

In this regard a preliminary Cost Classification is important.

Customer Unit-Level Costs: these costs increase as soon as a product/service unit is sold or delivered to the customers. A good example is the Shipping costs when their amount depends on the number of units shipped.

Customer Batch-Level Costs: the cost variation materializes when a customer transaction is done and may include more than one unit of product/service.

The invoicing costs could be a good example as well as in most cases the delivery ones.

Individual Customer Costs: the resources in these case are consummed depending on the activities made with reference to a specific customer.

This is the case of the R&D costs when a customer asks for some new product features for the future supplies or of the travel expenses incurred to "pay visit" to the customer.

When the analysis shifts its focus to the Distribution Channel or Structural Business costs, other two categories come up:

Distribution Channel Costs: they vary according to the number of these channel because the firm pays for operating, running each of them.

For instance, if the company uses great warehouses for distributing its products to smaller sales points, all the related costs come into this category.

Structural Sales Costs: these expenses are related to those activities that aren't traceable to the previous categories because concern the "basic" existence of the Sales dpt, such as the compensation of the Sales Top Management and the costs of commercial cental offices.

Having said that and turning our attention to table 1, let's guess to be able, based on the available data, to spot 8 kinds of "activities" to serve customers that are traced to 3 of the above mentioned categories, with the respective costs, their drivers for allocating them to the customers ($ 460,000 out of $ 520,000 of Adm., Sales & Mkt expenses)

$ 60,000 are not allocated to any customer for any operating and appropriate reason.

Table 2 - Costs to serve customer breakdown by Activity of Alpha Ltd (the numbers are not taken by any real business case)

Activity Amount Categ. Cost Driver (CD) CD Numb CD cost CD Numb for Johnson $ for Johnson CD Numb for Frank $ for Frank

Delivery 120,000 Batch-Level Miles 5,000 24 3,000 72,000 2,000 48,000

Cust. Visits 70,000 Indiv. Cust. Visits 30 2,333 22 51,333 8 18,667

Order Processing 25,000 Batch-Level Orders 300 83.33 180 15,000 120 10,000

Invoicing 20,000 Batch-Level Invoices 240 83,33 160 13,333 80 6,667

Sales Return 15,000 Unit-Level Units 500 30 300 9,000 200 6,000

R&D 60,000 Indiv. Cust. Techn. Requests 8 7,500 6 45,000 2 15,000

Restocking 20,000 Unit-Level Units 250 80 190 15,200 60 4,800

Shipping 130,000 Unit-Level Units 2,800 46,43 1800 83,571 1000 46,429

TOTAL 460,000 304,437 155,563

In consideration of the results of this Cost Analysis the real Customer Profitabilty table is the following:

Table 3 - Customer Profitability Breakdown

1st quarter 2019	Johnson Ltd	Frank Group	Total
Indust Profit	500,000	380,000	880,000

Adm., Sales & Mark.	304,437	155,563	460,000
Customer Profit	195,563	224,437	420,000
Adm., Sales & Mkt not allocated			60,000
Gross Income			360,000

The basis for any kind od decision concerning the customers has now changed: the most profitable Customer is Frank Group and not Johnson as resulted instead from table 1.

Of course the importance of this Activity Analysis goes at the same pace as the degree of the customer orientation of the business.

The higher the importance the firm puts on the customer satisfaction the higher the costs to serve customer and the higher the usefulness of this cost management technique

Other issue is the profitability by Customer in the "remote" future.

There another kind of analysis should be done and any request may be asked on page Contacts

38. The Game of Ending Inventory

Sometimes the Controller/CFO or the designated Manager takes advantage of the Predicted Inventory fluctuations through appropriate tools in order to show a higher or a lower level of the Income in the Balance Sheet.

People doing like that should remember the consequencies on some of the strategic decisions of the business.

In any case to better explain this issue, not easy to be understood, it's advisable making one step at a time

When can the designated managers do this?

There must be three prerequisites:

1. Use of a Standard Cost Accounting System.

2. Use of the Absorption Costing System.

3. Disposal of Variances by their writing off against the Cost of Goods Sold.

1. Use of a Standard Cost Accounting System

There is nothing new to be highlighted about this system but, with reference to the subject of this dissertation, that of the Capacity the managers choose to spread the Fixed overheads across.

If we measure the Capacity, for instance in terms of working hours, it's known how the choice is from Theoretical Capacity, Practical, Normal and Budget ones.

The first is the highest and the remaining, usually, are in order: Practical, Normal or the Budget Capacity.

Since The Normal Capacity is usually averaged for a period ranging from three to five years of the Budget Capacity for that period, it can be either higher or lower than the Budget one for the first year to come falling into the whole period and to be considered as the basis dor spreading the overheads.

The chosen Capacity is put at the denominator when you are calculating the Standard Fixed Overhead Ratio:

Standard Fixed Overhead Ratio (SFOR): Budgeted overheads/Capacity (Working Hours)

Of course, the higher the Capacity the lower the SFOR

2. Use of the Absorption Costing System

The business managers take into account all the costs concerning the manufacturing/delivering of the product/service, both the variable ones and the fixed ones, for getting the product cost and put it as a basis for all the decisions concerned (Profitabilty Analysis in the medium/long term, Pricing purposes, Performance Evaluation, Investment decisions....).

3. Disposal of the Variances by their writing off to the COGS

When you are adopting a Standard Cost Accounting system, the accounting records throughout the period considered generate some variances (financial and physical/efficiency) compared to the Standards created at the budget's time that must be disposed of at the end of each fiscal period.

One of the methods ued to do this consists of writing off the variances generated to the Cost of Goods Sold (the other methods are not the subject of this article because don't create the strategic distortions we are writing about).

Which is the operating tool that realizes, when the above prerequisites recur, the manipulation of the Income?

The Fixed Overhead Production Volume Variance (FOPVV)

Here it is.

FOPVV = SFOR (Budgeted Working Hours - Standard Allowed Hours)

Starting from an example:

Budgeted Fixed overheads = $140,000

Budgeted Working Hours = 7,000

Working Hours per Unit = 7

Units Produced = 800

We Have:

FOPVV = $140,000/7,000 (7,000 - 7 X 800)

FOPVV = $20 (1400) = $20,800

How does all this produces the "manipulation" of the Income?

Before to explain how this can happen we highlight even better three points.

a) Increase or the decrease in the Budgeted Working Hours.

If you changes the Budget Working Hours (that in our example are the chosen measure of the Capacity at the denominator of Standard Fixed Overhead Ratio (SFOR) formula), the value of this Variance changes as a result.

The higher tha Capacity measure the lower the The Fixed Overhead Production Volume Variance (FOPVV).

Please, note that when you change the Capacity Measure (Working Hours), the Product Cost also changes with reference to the Fixed Overheads share in the Absorption Costing System.

b) The writing off against the Cost of Good Sold of the Fixed Overhead Production Volume Variance (like the other variances).

For Instance, in case of an Unfavourable FOPP, the period-end record is the following:

DEBIT CREDIT $

CCOGS FOPVV 20,800

c) The fluctuations of the Inventory compared to the level of the beginning of the year

To explain this point let's guess a given level of sales.

An increase in the production determines an increase in the inventory and an increase in the Income because it takes the Fixed Overheads to the Inventory as revenues.

A decrease in the production determines a decrease in the Inventory and a decrease in the Income since the Fixed Overheads of the year and of the previous years (already capitalized) are released as expenses from the Inventory.

Here is the way to "manipulate" the Income

If the Inventory is predicted to decrease, we can choose a higher Capacity measure in order to lower the the decrease in the Income thanks to the release of the Fixed Overheads into the Cost of the Cost of Goods Sold.

In the opposite case of Inventory increase, we can choose a lower Capacity measure to improve the Income because in the Absorption Accountin System the Fixed overheads are shifted to the Inventory.

Some strategic distortions

The argument so far broken down into its operational aspect is not very easy to be understood at once and for further details you can resort to page Contacts or to caronly@libero.it, but the goal of this dissertation is showing the misleading behaviour of the managers involved that neglect the long-term benefits to the business.

I want to pinpont how we are talking about the internal purposes of the business management and not about the external requirements according to the Country the company "lives" in.

For instance, the decision to a deviating amount of capacity can lead to an inappropriate price of the product when there is in place the mark-up pricing on the full cost and all of this can lead to the death-spiral effect (when the capacity being chosen as a denominator is lower than practical one)

The consequencies are even worse when the customer segment the company operates in is sensitive to the price and a price-leadership strategy is very advisable.

Other aspect is the basis on those investment decisions that rely on the right full cost of the products involved.

Not to say of the uniformity of cost data that the managers put on the basis of their decisions without being forced to review them when they adopt a Capacity measure that changes every year.

And what about a fair performance evaluation system!!??

Please remember.

The success of a business comes from the strategic management and not from the "shortest path".

37. How the "work" of the Support dpts affects the Cost Accounting Settings

The choice of a cost accounting system is made, most times, just by turning the attention to the highest number possible of the accounts to be considered and/or by increasing the number of the costing centers and focusing on factors that in the eyes of the management accountant/controller improve the accuracy of the product costing and of the department efficiency evaluation.

As a matter of fact, there are other aspects at issue that should be considered with regard to both the decision making support function and the internal factors, such as motivation and fairness, that at the end affect the efficiency of the single business units and of the whole business.

Before to start, a step “back” is needed to make the dissertation more clear and focused.

There are three ways of tracing the indirect costs to the products/services/projects (from now on for short product/products):

- Job costing when direct costs by product and the overheads are allocated directly to the products (the latter step on the basis of some cost driver)

- Operation costing when the direct costs are imputed to the products and the overheads to intermediate objects (departments or activities )to which charging the overheads on the basis of some cost drivers and then imputing the intermediate object costs to the product, here too, on the basis of given drivers.

- Process costing when the allocation phase considers intermediate objects (departments or activities) to which charging both the traditional direct costs and the overheads on the basis of some cost drivers and then imputing the intermediate object costs to the product on the basis of given drivers.

Having said that, the implications mentioned in the lines above are good for the case of the departmental approach in particular when there are Service (Support) costing centers that deliver their work to the Production (Primary) ones and, even more, this Service centers work also between them, generating the so-called reciprocal flows.

What are the reciprocal flows like?

As we know, inside a large organization there are the primary units (departments) that manufacture or, in the service industry, work the final output that goes into the customers’ hands and the secondary units (called in some cases service ones) that support the formers by giving them their services.

In many cases the latters, for short Service dpts, work just to the primary units, for short Production dpts., and no issue arises about the accuracy of the allocation phase of their costs to the Production dpts but for the traditional matters about the right cost drivers.

In many other cases the Service dpts give their “output” not only to the Production ones but also to other Service ones of the firm, receiving also the work from the latters.

These are the reciprocal flows

Right there we could encounter some important points at issue to be discussed about the most suitable cost allocation method to be made use of.

Which points are we talking about?

1. The most accurate product costing method that affects the decision making about some issues such as profitability analyses and operating decisions concerning the product lines to prefer and the pricing in particular when the businesses adopt the mark-up technique on the full cost.

2. Efficiency evaluation of the depatments that are assessed on the basis both of the costs incurred internally and of the costs allocated to them from external sources and for the services received.

We’ll see how many cost allocation methods are concerned and how the cost amount of the single cost objects varies as a result.

Three methods three different results

Let’s make the example of a manufacturing firm using the departmental approach for the overheads whilst the direct costs by are traced to the products (that is the Operation costing).

Input Data

N. 2 Products: A, B

N. 2 Service Dpts: Alfa, Gamma

N. 2 Production Dpts: 1, 2

In this structure one of the main characteristics that makes hard the choice of the kind of the departmental cost allocation method is that the Service dps deliver their output not only to the Production Dpts but as well to each other.

Here is the flow percentage of their services as it is measured with reference to the labor hours worked

Table 1 - Percent distribution of the Service dpt Labor Hours

	Alfa	Gamma	Prod dpt 1	Prod dpt 2	Total
Serv dpt Alfa	-	30%	35%	35%	100%
Serv dpt Gamma	15%	-	35%	50%	100%

The first phase is the result from the attribution of the direct costs by dpt (for instance dedicated equipment depreciation, labor..) and of the allocation of the overheads of the whole firm to the dpts concerned.

Table 2 - Total overheads by industrial dpts after the first phase – January 2019

	Serv dpt Alfa	Serv dpt Gamma	Prod dpt 1	Prod dpt 2	Total
Total Overheads $	70,000	90,000	260,000	290,000	710,000

The following steps consist of allocating the costs of the Service dpts to the Production ones according to the percentage of the respective Labor hours in proportion to the total Labor Hours worked by the same Service dpts and then attributing the costs of each Production dpt to the Products A and B.

The latter step is made by using, as a cost driver, the Machine Hours for the Production dpt 1 and the Labor Hours for Production dpt 2.

Table 3 – Percent allocation of the Production dpt overheads to the Products A and B

	Product A	Product B
Product. Dpt 1 - Mach Hours	30%	70%
Product. Dpt 2 - Labor Hours	40%	60%

All of these phases following the first one, giving the results of table 2, can be carried out by using three methods, each of them bringing about different distributions of the overheads allocated to departments and products.

1) Direct Method

According to this method all the costs incurred and allocated to the Service dpts (see table 2) are in their turn allocated to the Production dpts just by taking into account for the calculation the respective percentage of the cost driver (in our example Labor Hours – see table 1) and ignoring the reciprocal work flows between the Service dpts.

After that the final costs, this way calculated, of the Production dpts are attributed to the Products according to the percentage of the cost driver chosen (see table 3).

The ending step is common to the other two steps remaning (Step Method and Reciprocal one)

Without showing the single calculations, in order to make the dissertation as fluid as possible and since the goal is highlighting the strategic side of the matter and not to be a manual of maths, here are the results concerning each Production dpt and the final products.

Table 4 - Direct Method - Total Overheads to the Production Dpts

Cost Source	Product. dpt 1	Product. dpt 2	Total
Serv dpt Alpha	35,000	35,000	70,000
Serv dpt Gamma	37,059	52,941	90,000
First Allocation Costs	260,000	290,000	550,000
Total	332,059	377,941	710,000

Table 5 - Direct Method - Total Overheads to the Product A and B

Product dpts	Product A	Product B	Total
Product. dpt 1	99,618	232,441	332,059
Product. dpt 2	151,176	226,765	377,941
Total	250,794	459,206	710,000

2) Step Method

The workings of this way require that the costs of a Service dpt (in our example Service dpt Alpha), resulting from the first phase, to be allocated to the other Service dpts (in our example just one - Gamma) and Production ones on the basis of the respective percentage of the cost driver (in our example Labor Hours – see table 1).

Then the costs this way calculated of the other Service dpts are attributed to the Production ones (by taking into account for the calculation the respective percentage of the cost driver – see table 1 ) that in their turn are imputed to the products according to the percentage of the cost driver chosen (see table 3).

Here are the results concerning each Production dpt and the final Products.

Table 6 – Step Method - Total Overheads to the Production Dpts

Cost Source	Product. dpt 1	Product. dpt 2	Total
Serv dpt Alpha	24,500	24,500	49,000
Serv dpt Gamma	45,706	65,294	111,000
First Allocation Costs	260,000	290,000	550,000
Total	330,206	379,794	710,000

Table 7 – Step Method - Total Overheads to the Product A and B

Product dpts	Product A	Product B	Total
Product. dpt 1	99,062	231,144	330,206
Product. dpt 2	151,918	227,876	379,794
Total	250,980	459,020	710,000

Please Notice how the results of both tables differ from those of the Direct Method.

3) Reciprocal Method

Through this method the costs of the Service dpts. resulting from the first phase are calculated again taking into account the percentages of reciprocal work flows ( 30% from Alpha to Gamma and 15% from Gamma to Alpha), by an equation system (you can use also some Excel Tools).

The costs this way achieved of the Service dpts are attributed to the Production ones on the basis of the respective percentage of the cost driver (in our example Labor Hours – see table 1) that in their turn are imputed to the products according to the percentageof the cost driver chosen (see table 3).

Here are the results concerning each Production dpt and the final Products.

Table 8 – Reciprocal Method - Total Overheads to the Production Dpts

Cost Source	Product. dpt 1	Product. dpt 2	Total
Serv dpt Alpha	30,602	30,602	61,204
Serv dpt Gamma	40,681	58,115	98,796
First Allocation Costs	260,000	290,000	550,000
Total	331,283	378,717	710,000

Table 9 – Reciprocal Method - Total Overheads to the Product A and B

Product dpts	Product A	Product B	Total
Product. dpt 1	99,385	231,898	331,283
Product. dpt 2	151,487	227,230	378,717
Total	250,872	459,128	710,000

Please Notice how the results of both tables differ from those of the Direct Method and the Step Method

For instance, let’s take into consideration the differences between the cost Allocated to the Production Dpts following the application of all of three methods.

Table 10 – Differences in the Total Production dpt Costs

Methods	Product dpt 1 - 2
Direct	- 45,882
Step	- 49,588
Reciprocal	- 47,434

The variances amongst these differences concern only one month and the amount relative small could deceive about the usefulness of the points at issue.

If you consider a larger period or if the costs allocated to the Service dps are higher than our example ones, it’s easily understandable how these questions can cause conflicts between managers when their performances are evaluated on the basis of the full costs absorbed from their production dpts.

Furthermore, when the criteria of allocation aren’t accurate because they don’t consider the real consumption of the Service dpt work and its direction, achievable only through the most accurate system (the reciprocal method), some disincentives to put under control the requests of the Service work from the managers that take advantage of this misallocation of the overheads can result.

The difference of the cost allocation concerns also the costing of the Products and as a result all the profitability analyses, above all those involving the long term, are wrong and can lead to erroneous decisions,

Not to say the consequences from an erroneous pricing of the products based on the full cost.

For more in-depth analysis about the arguments here dealt with, you can reach out to thestrategiccontroller.com on page Contacts or on carlo.attademo@libero.it

36. Only Just In Time?

In the past article, n 31, dedicated to the Capacity I always referred only to the internal capacity of a business.

As a matter of fact a firm is part of a supply chain and works with upstream and downstream partners to provide products and services to the customers, trying to meet their expectations and requirements.

That’s why many decisions should be focused also on the whole

supply chain issues and features.

Amongst those decisions, I want to write about Capacity matters and Just-in-Time systems.

Let’s start with the formers.

In case of an unexpected and great surge in the demand for a product/component/service the most natural reaction could be resorting to an external supplier.

In many cases, above all when a capacity reporting system is in place, the managers can become aware of the idle or non productive capacity within the whole supply chain and verify to be able to manufacture/achieve that missing “part” internally.

When is that possible?

It’s possible when the whole chain is flexible and the information system is well-integrated so that all the signals concerning the available capacity and where it’s available within the supply chain are highlighted in a fast way.

In this context the needed level of inventory could be lowered because of a faster response time to the customer.

The benefits of this aspect are clear and can be embedded for the manufacturing firms also into the issue above highlighted, the JUST-IN-TIME (JIT) manufacturing system, that can be adopted when the supply chain has the features just listed (flexibility and availability of a capacity reporting).

The classical benefits resulting from the reduction of the inventory add to the lowering of the risk for the damaged and obsolete goods.

In order to make the dissertation more clear and fluid, some JIT concepts are now recalled.

JIT (Just In Time)

It’s the manufacturing system that has as a main feature that no job/productive activity gets started in the manufacturing dpt if no order is received by the customers.

The latter term includes both internal and external customers.

The result of this policy is the low level of the inventory that serves as a buffet for meeting the requests from the customers as fast as possible.

The logical consequence is that the quality of the products and processes must be lifted to the maximum level in order to reduce the risk of the delay of the delivery and the return of defective products.

In other terms, the JIT adoption as well as the existence of a supply chain flexible and well-integrated are particularly fit for the businesses that adopt a differentiation strategy in comparison with its competitors.

Benefits of the JIT:

1) Direct:

- Elimination of the investments into fixed assets not required.

All of those assets should be tied up, that is they cannot be used for alternative purposes.

- Reduction in the labor costs associated to the holding and recording of the inventory as well as in the information system costs.

2) Indirect:

- All the advantages following the increase in the quality (here is the differentiation strategy) of the products/processes such as a higher profitability because of the increased sales and of the reduction in the manufacturing quality costs like those related to the waste, scrap and spoilage management and reworking of the defective products.

- As said before the response time to the customer needs to be strictly monitored producing as a result (when this element is put rigorously in place) a greater customer satisfaction and a following larger market share and sale level.

Costs of the JIT:

1) Training of the personnel involved and settings of a new information-monitoring system that includes also a range of well-suited nonfinancial indicators intended to pinpoint defects, waste, errors and delays.

2) Reconfiguration of the physical (tangible) assets (in some cases additional investments are needed) concerned that should have the right layout to allow the best workings of the new system.

In setting the JIT system of course you should take into account the main features of the industry concerned and the stage that industry is in.

For an in-depth analysis in this regard, you can contact www.thestrategiccontroller.com

Again Capacity Issue

Let’s go back to the capacity issue about the supply chain.

When we talk about the high quality of the products/processes we refer also to this issue.

In fact, if the products received from an upstream partner are not “good” enough, this creates nonproductive capacity inside the receiving organization in order to deal with the noncompliance related issues.

In other terms the real workings of the supply chain can have a negative impact on the best use of the capacity.

In the same way the lack of the flexibility of the supply chain has a negative impact also following a decision made by a downstream partner that creates an important surge in demand that the suppliers are not able to meet in due time.

What do we mean by due time?

The fact that the prior high demand got for the product involved is matched by the output received from the suppliers only when the same demand decreases so that excess stocks have been created.

These stocks should be returned to the suppliers that should level their output downwards again, creating as a result nonproductive time when forced to set up the machines and structure once more.

That’s just one more example of how the supply chain is a key factor to being considered in many decisions that impact the profitability of each of the firms concerned and of how flexible it should be especially in times and industries of great uncertainty.

Contents

39. Which is the Most Profitable Customer?

38. The Game of Ending Inventory

37. How the "work" of the Support dpts affects the Cost Accounting Settings

36. Only Just In Time?