Since the pandemic started in early 2020, the need to balance demand and supply in a highly volatile environment has led to an increased importance of the S&OP process in making trade-off decisions between inventory levels, service levels and cost.
For more mature organizations, the S&OP process has played an instrumental role in chasing revenue while focusing on protecting business profitability. However, in the past months, many supply chains have struggled to keep their materials and logistics costs under control while also struggling to ensure they have adequate access to capacity of suppliers and providers.
During this year’s Supply Chain Top 25 research and through conversations with clients, we found that some leading companies in a few industries have or are launching cost-to-serve (CTS) initiatives to support their S&OP processes.
A cost-to-serve analysis creates a solid understanding on where and how costs are incurred through the organization. It is about modeling costs that are different for each customer and product, and ensuring they are allocated fairly. Companies that have the tools to identify the true costs of their operations are better equipped to make informed decisions when it comes to finding a balance between cost and service to enhance their profitability.
One advantage with CTS is that its findings can be used by a variety of stakeholders in the organization. When synthesizing what we heard through the research, we identified three primary categories of use cases. As seen in Figure 1, they can be categorized based on their focus area:
At different stages of the S&OP cycle, this information can be used to identify opportunities to enhance the profitability of the organization and enable an informed decision-making process to close gaps with year-end objectives.
- Product. CTS allows the understanding of product profitability beyond direct COGS, unveiling the true net profitability of each product or product category. Products’ cost transparency and the clear view of their relative contribution, serve as the foundation of a more informed discussion on portfolio management with partners in sales, marketing and engineering groups. Organizations can use CTS as part of the S&OP product portfolio review. The product portfolio planning (PPP) meeting is the forum in which information related to products and portfolios is made visible to stakeholders in all functional areas, including representatives from supply chain, commercial, product development and financial. Decisions about changes to portfolios, such as when to launch new products and when and how to discontinue existing products, are made during this meeting. CTS findings can be used to manage the products’ lifecycles and decide when it’s time to retire a product that’s no longer profitable.
- Customer. Serving customers with different service-level expectations brings different levels of complexity and costs to supply chain organizations. Examples of customer requirement complexity include the cadence and use of minimum order quantities, special warehouse service requirements, and the frequency and type of transportation services required. Many companies have found that tailoring the output of their supply chain to meet different customer requirements can lead to improvements in both revenue and profitability. Traditionally, the objective of the S&OP demand review is to reach a consensus unconstrained forecast of any known planning volumes and compare current demand plan to volume goals to identify plan vs. budget gaps. In more mature organizations, the assessment of the gaps between demand plan and budgets extends to financials (revenue and profits). CTS inputs play a crucial role in managing demand opportunities and risks. Impact on profitability of both risks and opportunities must be understood, and actions to either capitalize on opportunities or mitigate risks need to be prioritized based on their ultimate impact.
- Logistics. A clear understanding of supply chain costs can enable improved process and resource efficiency within functional organizations such as manufacturing, warehousing or transportation. This costing information can be used as part of the S&OP supply review to identify opportunities to optimize costs and positively impact corporate profitability. Also, CTS insights can be used to inform decisions around CapEx investments and about whether to perform an activity such as manufacturing, in-house or outsource to a partner.
Supply chain leaders interested in leveraging CTS insights to enable better decisions during the S&OP process must consider investing in dedicated CTS solutions. As opposed to traditional Microsoft Excel-based one-off models, these solutions deliver readily available cost-to-serve insights which are more suitable for frequent updates.
Senior Director Analyst
Gartner Supply Chain