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ISTANBUL TECHNICAL UNIVERSITY – TURKISH AIRLINESISTANBUL TECHNICAL UNIVERSITY – TURKISH AIRLINES
Operations & Logistics Management in Air TransportationOperations & Logistics Management in Air Transportation
Dr. David Gillen (University of British Columbia)Dr. David Gillen (University of British Columbia)
&&
Dr. Benny Mantin (University of Waterloo)Dr. Benny Mantin (University of Waterloo)
June 9-14, 2014June 9-14, 20141
Logistics
Learning Objectives– Key components of logistics
• Order Processing, Inventory, Transportation, Sourcing, Warehousing, Materials Handling, and Packaging, integrated through a network of facilities (warehouses and distribution centers)
– Logistics is integral to a firm’s strategy
– Keys to managing logistics costs• Inventory management
• Transportation management
– Supply Chain Flexibility and Synchronization
2
What is logistics?
• Logistics is the design and administration of systems to control movement and spatial positioning of factor inputs (raw materials, labor, capital, energy) work-in-process, and finished inventories at the lowest total cost.
• Our focus will be on inventory management and transportation management
The five functions of logistical work are interrelated
What do we know about Turkey
• 81 provinces
• Bordering countries: Armenia, Azerbaijan, Bulgaria, Georgia, Greece, Iran, Iraq, Syria
• Population (January 2013) 74.6 million (18th largest in the world)
• Urbanization: about 72 %
• Age structure: 0–14 years (26.0%); 15–64 years: (67.9%); 65 and above (6.1%)
• Nominal GDP (2012) US$790.5b
• GDP per capita (US$ current prices) (2012) - US$10,595.2
• GDP Composition: Agriculture (9.1%); Industry (27.9%); Services (63.0%)
• Public debt: 40.4 % of GDP
• Labor force (2012): 26.5 million
5
6
Geographic Strength
International Freight-Modal Split
7
Growth in Logistics Activities
8
Care in Comparing Logistics Costs
9
10
Year Nominal GDP ($T)
Inventory Cost
Transportation Cost
Administrative Cost
Total Logistics
Cost
Logistics % of GDP
1980 2.80 220 214 17 451 16.1
1985 4.22 227 274 20 521 12.3
1990 5.80 283 351 25 659 11.4
1995 7.40 302 441 30 773 10.4
2000 9.82 374 594 39 1007 10.3
2005 12.43 395 739 46 1180 9.5
2010 14.60 396 769 47 1212 8.3
U.S. logistics cost, 1980-2010 in five year intervals ($B)
The cost of logistics
Logistics Costs Canada-U.S. Comparison
13
Logistics will continue its renaissance in the future
• Information technologies will automate many of the traditionally manual logistical functions:
– Automated port and rail operations
– RFID tagging of materials
– Advanced technologies for warehousing and inventory operations
• Removal of trade barriers will continue to expand global trade and logistics
• Outsourcing versus near-shoring– Implications for airlines?
• Logistical value proposition consists of a commitment to key customer expectations and requirements at a minimum cost
• The two elements of this value proposition are Service and Cost Minimization– Firms must make appropriate tradeoffs between service and cost
for each of their key customers
Logistical value proposition-Manufacturing & Service Industries
• Availability involves having inventory to consistently meet customer material or product requirements
• Operational performance deals with the time required to deliver a customer’s order– Key metrics for this area involve delivery speed and consistency
• Service reliability involves the quality attributes of logistics– Key to quality is accurate measurement of availability and operational
performance over time
Service benefits are created by logistical performance in 3 areas
Cost minimization using the total cost logistics model
• Focused on achieving the lowest possible cost for each individual function of logistics– For example, Transport the
material the cheapest way possible
• Expected lowest cost based on decisions that were cheapest for individual functions
• Ignored the impact of cost decisions across logistics functions
• Focused on achieving the lowest total cost across each function of logistics
• A cost decision in one function should consider impact to costs of all other logistics functions
– For example, Transporting material the cheapest way is slower than other choices. This requires an increase in storage cost to hold the material longer
– Would it still be a lower cost to use the cheapest mode of transport?
Traditional Cost Logistics Model Total Cost Logistics Model
Different perspectives on cost minimization
Minimize order processing cost+
Minimize inventory cost+
Minimize transportation cost+
Minimize warehousing, materials handling and packaging cost+
Minimize facility cost__________________________Lowest logistics cost
Minimize (order processing + inventory + transportation + warehousing, materials handling and packaging + facility) cost
_________________________ Lowest total logistics cost
Traditional Cost Logistics Model Total Cost Logistics Model
Framework: Total Logistics Cost Function
19
Components of TLC
20
TLC (Q, r: T, ST) = RDi + (UCTDi/365) + (SDi/Q) + (QCI/2) + rIC + K(Di/Q) N(Z)S1
where:TLC = total logistics costR = Transportation Rate per Unit between Origin and DestinationD = Annual Demand for some good ‘i’U = Carrying Cost of In-transit InventoryC = Value per UnitT = Transit Time of Transportation AlternativeS = Fixed Ordering Cost per OrderQ = Order QuantityI = Carrying Cost of Warehoused Inventoryr = Safety StockK = Stockout Cost per UnitN(Z) = Unit Loss IntegralS1 = Standard Deviation of Demand During Transit TimeST = Standard Deviation of Demand During Lead Time
How these Costs are Distributed
21
Cost Conflicts: Speed versus Service Reliability
22
Cost oftransportationservice
Inventory cost(includesstorage andintransit
Total cost
Rail Truck Air
Co
st,
in d
olla
rs
Transportation service(greater speed and dependability)
Other Cost Conflicts/Tradeoffs
23
Improved customer service0 100%
(a) Setting the customer service level
Co
st
Lost sales cost
Transportation,order processing,and inventorycosts
Total costs
Increasing number of stocking points0
(b) Determining the number of warehouses in a logisticssystem
Co
st
Transportation costs
Total costs
Inventorycosts
0
Revenue
Re
ven
ue
0
Average inventory level0
(c) Setting safety stock levels
Lost sales cost
Total costs
Inventorycarryingcosts
Co
st
0Product run length and product sequencing
altenatives
(d) Setting the sequence of production runs formultiple products
Production costs
Total costsC
ost
0
Inventorycarryng cost
• Transportation is the operational area that geographically moves and positions inventory
• There are three basic ways to satisfy transportation requirements– Operate a private fleet of equipment
– Contract with dedicated transport specialists
– Engage carriers that provide different transportation services as needed on a per shipment basis
Transportation
Measuring CostsCost Structure
• Costs vary with factor prices, productivity & output
• Scale economies
• Scope economies
• Utilization economies
• Density economies
• Agglomeration economies
• Value of time/reliability
Accounting Costs
• Variable costs– Material
– Manufacturing/production
– shipping
• Fixed costs– Contracts
– Capital
– Manufacturing/production
• Ownership– Purchase
– Acquisition
– Usage
– salvage
• Opportunity cost-forgone sales25
Pricing
• Concept to ‘Willingness to Pay’
• Unit cost or average cost pricing
• Cost plus pricing
• Incremental cost pricing
• Differential Pricing (special case of Ramsey pricing)
• Non-linear pricing and two-part tariffs
• Bundling and unbundling
26
The scope of integrated logistical operations
Responsiveness Variance reduction Inventory reduction Shipment consolidation Quality Life cycle support
Logistical integration requires achieving six objectives simultaneously
• The customer-specified delivery facility might be near a point of equal logistics cost or equal delivery time from two different logistics facilities
• The size of a customer’s order creates improved logistical efficiency if serviced through an alternative channel arrangement
• Decision to use a selective inventory stocking strategy
• Agreements between firms to move selected shipments outside the established echeloned or direct arrangements
• Co-opatition (Cooperation & Competition)
Example situations for flexible logistics structure
Supply chain synchronization• Supply chain
synchronization is the operational integration of multiple firms across a supply chain– Seeks to coordinate the flow
of materials, products and information between supply chain partners to reduce duplication of effort
– Seeks to reengineer internal operations of individual firms to leverage overall supply chain capability
• The performance cycle represents elements of work necessary to complete the logistics related to customer accommodation, manufacturing or procurement
• A performance cycle consists of the following elements– Nodes
– Links
– Inventory
• Base stock
• Safety stock
– Input and output requirements
The logistics performance cycle is the basic unit of supply chain design and operational control
• Major objective of logistics in all areas is to reduce performance cycle uncertainty
• Operational variance is randomly introduced during the cycle through– The structure of the performance cycle itself
– Operating conditions
– The quality of logistical operations
Performance cycle uncertainty
Total time to complete the customer delivery cycle is based on each task within the cycle
Figure 2.8 Performance Cycle Uncertainty
Inventory managementthe Economic Order quantity model
34
Knowing what you've got,
Knowing what you need,
Knowing what you can live without –
That’s inventory control.
35
Frank Wheeler, Revolutionary
Inventory• Definition: The stock of any item or resource used in an
organization
36
Work-In-Process
Raw Materials & Component Parts
Finished Products
Replacement parts, tools & supplies
Goods in transit to warehouses or
customers
Importance of Inventory:2005 Fiscal Year
37
Wall Mart(Billion $)
Boeing(Billion $)
General Motors
(Billion $)
Dell(Billion $)
Cash & Short-Term Investments
6.4 5.9 50.4 9.0
Account Receivable
2.6 5.2 180.7 5.4
Inventories 32.2 73.5% 7.7 35% 30.1 9.6% 0.57 3.3%
Other Current Assets
2.5 2.8 51.7 2.6
Total Current Assets
43.8 100% 22 100% 312.9 100% 17.7 100%
Other Assets 94.3 38.1 163.1 5.4
Total Assets 138.2 60 476.1 34.1
Importance of Inventory Management
• ... by 1990 Wal-Mart was already winning an important technological war that other discounters did not seem to know was on. “Wal-Mart has the most advanced inventory technology in the business and they have invested billions in it”. (New York Times, Nov. 95)
• Kmart increased its inventories to $8.3 billions in the third quarter of 2001 with an expectation of more shoppers. “But higher sales never materialized, leading to a disastrous holiday selling season.” Kmart filed for bankruptcy on Jan. 22. (Business Week, Mar. 02)
38
Importance of Inventory ManagementMore Recent News
• SanDisk suspends production as inventories pile up for makers of computers, cell phones, and TVs … (Business Week, Dec. 08)
• Natural-gas futures soared 15% Thursday after U.S. inventory data slightly eased concerns about the possibility of a storage glut (Wall Street Journal, Sept. 11, 09)
• Fruit growers were blessed with excellent weather this year. But that hasn’t translated into a great year for the province’s cherry and blueberry growers, as a bumper crop has flooded the market and pushed down prices. (The Vancouver Sun, Aug. 09)
• The Ford assembly plant in Oakville and 3,000 workers will remain idle this week because of a parts shortage from a supplier in India. (Toronto Star, Oct. 27, 09)
39
Why do you have these inventories?
Why do you have these inventories?
What are some of the inventories that you have?
What are some of the inventories that you have?
Why should you hold inventory?
40
Predictable VariabilityPredictable Variability Seasonal Inventories
Unpredictable VariabilityUnpredictable Variability Safety Stock
Economies of ScaleEconomies of Scale Cycle Stock
Transportation times / Flow times
Transportation times / Flow times
Pipeline Inventories
Other: Strategic / Speculative / etc.Other: Strategic / Speculative / etc.
Why should you not hold inventory?
• Inventory increases certain costs such as– Carrying cost
– Cost of customer responsiveness
– Cost of diluted return on investment
– Large-lot quality cost
– Cost of production problems, etc.
• The Sea of InventoryInventory hides problems …
41
42
Reducing waste: The Sea of Inventory
How much inventory should you hold?• Trade-off #1
43
• Trade-off #2
Inventory Costs
44
Inventory Classification
45(The above percentages are approximate)
A classification to help manage inventories better
Motivation: ATM
• How much cash do you take out from ATM?
• Why not more or less?
46
Economic Order Quantity (EOQ)• The Economic Order Quantity (EOQ) balances
47
• Assumptions– Known annual demand, constant demand rate– No uncertainty
Notation
48
D Annual Demand Rate
Q Lot or batch size
S Set-up cost per lot/batch, or average cost of processing/placing an order
C Unit cost
H Annual holding and storage cost per unit of average inventory
i Percent carrying cost (e.g., “interest” rate)
Usually, H = iC.
Cycle Stocks: Tradeoff between fixed costs and holding costs
Profile of Inventory Level over Time
49
Quantityon hand
Q
Receive order
Receive order
Receive order
Demand rate
Time
Example: “The South Face”• Some facts about The South Face retail shop
50
• What order size (Q) would you recommend for The South Face?
D Annual Demand Rate 1200 jackets/year
S Set-up cost per lot/batch, or average cost of processing/placing an order
$2,000
C Unit cost $200 per jacket
i Percent carrying cost (e.g., interest rate)
25%
Thus, H = iC = (0.25)*($200) = $50 per unit-year
The South Face
51
Q
Time t
Inventory Profile:# of jackets in inventory over time.
D = Demand rate
Inventory
D Annual Demand
Q Lot or batch size (Number of jackets per replenishment order)
Number of orders per year D/Q
Average inventory Q/2
Annual Setup Cost (D/Q) * S
Annual Holding Cost (Q/2) * H
Annual Total Cost Annual Setup Cost + Holding Cost
S Order or setup cost
H Annual Holding cost
???
???
Q/2Q/2
The South Face: Cost
52
Per Order/BatchQ
Batches per YearD/Q
AnnualSetup Cost
Annual Holding Cost
AnnualTotal Cost
50 24.0 48000 1250 49250
100 12.0 24000 2500 26500
150 8.0 16000 3750 19750
200 6.0 12000 5000 17000
250 4.8 9600 6250 15850
260 4.6 9231 6500 15731
270 4.4 8889 6750 15639
280 4.3 8571 7000 15571
290 4.1 8276 7250 15526
300 4.0 8000 7500 15500
310 3.9 7742 7750 15492
320 3.8 7500 8000 15500
330 3.6 7273 8250 15523
340 3.5 7059 8500 15559
350 3.4 6857 8750 15607
400 3.0 6000 10000 16000
500 2.4 4800 12500 17300
600 2.0 4000 15000 19000
700 1.7 3429 17500 20929
Cost Minimization Goal
53
SQ
DH
QTC
2
Ordering Costs SQ
D
Inventory holding cost
HQ
2
Order Quantity (Q)
Annual Cost
QO (optimal order quantity)
Lowest Annual
Cost
Total Cost
Economic Order Quantity
54
SQ
DH
QQTC
2)(TotalCost
D Annual Demand Rate
S Order or Setup Cost
H Annual Holding Cost
H
SDQOPT
2
Economic Order Quantity:The South Face
55
D 1200 jackets/year
S $2,000
H $50 per unit-yearH
SDQOPT
2
• What is the optimal order quantity?
• How many times would you place orders per year, i.e., frequency of ordering?
• What is the time duration between successive orders (this is also called the cycle time or reorder interval)?
8.30950
)1200)(2000(22
H
SDQOPT
8.38.309
1200
OPTQ
D
258.01200
8.309
D
QOPT
EOQ and Sensitivity Analysis
• What happens to the cost and optimal quantity as the parameters change?
56
H
SDQOPT
2
As …. “Cost” EOQ Frequency
S ↑ ↑ ↑ ↓
H↑ ↑ ↓ ↑
D↑ ↑ ↑ ↑
Managerial Implications of EOQ
57
• Cost curve is almost “flat” near the optimal point– Use the EOQ formula, but do not worry about making minor
adjustment to get a number that is “more realistic” for your organization
• The flatness of the cost curve implies that the EOQ figure is “robust”– Estimating holding cost is usually difficult
– The EOQ formula guarantees that the “optimal” order quantity is not very sensitive to errors in estimation
Managerial ChallengesHow to estimate costs?
58
Managerial ChallengesHow to reduce the EOQ inventory?
• Reduce the set-up cost
• Re-evaluate sources of fixed costs, and find ways to reduce, spread-out, or eliminate these costs
59
H
SDQOPT
2
Appendix material
60
ContentsI. INTEGRATED LOGISTICS MANAGEMENT
Ia. The Growth of Logistics and Its Role in the EconomyA. What is Logistics?B. History of LogisticsC. Role of Logistics in the EconomyD. Why Logistics is gaining in importance
Ib. The Integrated Logistics Management ConceptA. DefinitionB. Logistics is concerned with questions about inventoriesD. Strategic profit analysis
Ic. Logistics As An Element of Corporate StrategyA. A Few Logistics FactsB. Corporate Leverage From LogisiticsC. Product Strategy: Innovation PhaseD. Product Strategy: Cost Leadership PhaseE. Product Line (Customer Service) Strategies
ContentsId. Distribution Channels
A. Channels: Definition, Types, FunctionsB. Integrated Channel ConceptC. Some Logistical Implications
Ie. Customer ServiceA. Defining Customer ServiceB. Measuring Customer ServiceC. Relationship of Customer Service to MarketingD. Optimizing Customer ServiceE. StockoutsF. Stockout CostsG. ABC Analysis
If. International LogisticsA. Importance of International LogisticsB. International StrategiesC. Some Additional Considerations
ContentsII. LOGISTICS SYSTEM ELEMENTS
IIa. Inventory Management ‑ IntroductionA. Financial ImpactB. Reasons for Holding InventoryC. Types of InventoryD. Example of Financial ImpactIIb. Inventory ‑ Carrying CostsA. GeneralB. Capital CostsC. Other CostsD. Annual Inventory CostsE. Valuing Inventory (i.e. Value on Balance Sheet)F. Why Inventory Costs are Often MisstatedIIc. Inventory ‑ Management Under Certainty (EOQ)A. Basic Inventory CycleB. Ordering CostsC. Effect of Decrease in Cycle TimeD. Total CostsE. Optimum Quantity to OrderF. Quantity DiscountsG. Other Cases
ContentsIId. Inventory ‑ Uncertainty
A. Calculating Safety StocksB. Example of Safety Stock CalculationsC. The Flip Side: Reducing Cycle Variability for Your CustomersD. Appendix Derivation of Formula for σc
IIe. Inventory ‑ ControlA. Stock Control MethodsB. Inventory System DesignC. Fixed Order PointD. Fixed Order IntervalE. Transport Choice CaseF.Items covered in readings, not in lecturesG.Postscript: Inventory, Production, Marketing, Finance
IIf. International ShippingA. ImportanceB.TechnologyC.Demand - Shippers (Two main market segments)D.Supply - Shipping Carriers/OwnersE.Freight Rates
ContentsIIg. Transport ‑ Modes and Service Characteristics
A. Mode CharacteristicsB. CostsC. Rate-Service Tradeoff
IIh. Transportation: ConsolidationA. Types of ConsolidatorsB. Reasons for ConsolidationC. Types of ConsolidationD. Typical LTL RoutingE. Containers
IIi. Transportation: Traffic ManagementA. Traffic Management FunctionsB. DeregulationC. NegotiationsD. Private Versus Public Carriage
ContentsIIj. Warehousing
A. Functions of WarehousingB. Types of WarehousesC. Optimal Number of WarehousesD. Optimal Size of WarehouseE. Stock Location MethodsF. Order Picking DesignG. Public versus Private Warehouse ChoiceH. A Note on Warehouse Costs
IIk. Facility LocationA. Two Types of Locational DecisionsB. Transport Cost ModelsC. Other Locational DecisionsD. Tactical Location Considerations
ContentsIIl. Packaging
A. The Two Functions of PackagingB. UnitizationC. Packaging MaterialsD. Some Packaging Problems/SolutionsE. Where/When Should Packaging Be Added?
IIm. PurchasingA. IntroductionB. Forward BuyingC. Other Aspects of Purchasing
IIn. Materials ManagementA. IntroductionB. Materials Requirement Planning (MRP)C. Manufacturing Resource Planning (MRP II)
ContentsIIo. Total Quality Management
A. IntroductionB. TQM versus Traditional ApproachC. Employee motivationD. Examples
IIp. Just-in-Time SystemsA. Just-In-Time-SystemB. Manufacturing Resource Productivity (MRP III)
IIq. Production SystemsIIr. Distribution Requirements Planning
A. Distribution Requirements Planning (DRP)IIs. Order Processing
A. The Order CycleB. The Order Processing SystemC. Impact on LogisticsD. Implications of Advanced Order Processing Systems
Inventory Turns 2007 Canada
69