1.
Proactively Managing Uncertainty in S&OP
Blake Johnson
Consulting Professor
Management Science and Engineering
Stanford University
Founder, Aztral, Inc.
© Blake Johnson

2.
Successful S&OP and supply chain planning
But: Inherently difficult in an uncertain and dynamic world
And: Sales incentive issues impact accuracy and bias
Forecasts are critical: Drive planning and investment
- Supply chain cost is key driver of margins and profits
- Supply chain flexibility is critical to mitigating risk of lost sales, excess
inventory, under-utilized capacity, expediting…
Supply chain must balance cost and flexibility
© Blake Johnson
But: Supply chain metrics impact willingness to invest in flexibility
2

3.
- Shortages
- Inventory and liability
- Poorly utilized capacity
- Expediting and overtime
Profits
Revenues
Costs
Material cost
Write-downs
/ write-offs
Inventory
holding costs
Income statement
Profits
Revenues
Costs
Material cost
Write-downs
/ write-offs
Inventory
holding costs
Income statement
Assets
Inventory
Balance sheet
Liabilities
Material liabilities
Capacity
Assets
Inventory
Balance sheet
Liabilities
Material liabilities
Capacity
Too muchCost
Too little
- Ours
- Customers
- Suppliers
- Commitments
- Coordination
Plan Reality
Operating
performance
- Re-planning
- Re-coordinating
- Constraints
- Fire-fighting
- Cost and conflict
- Damaged customer
relationships
- Income statement and
balance sheet impact
- Lack of control
- Lack of accountability
Impact of basing plans, coordination and metrics on
best- guess forecasts
© Blake Johnson
Financial performance
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4.
To date the focus has been trying to make the
problem go away
1. Proactively plan for the range (probability distribution) of future
demand and supply
Eliminate forecast error Impossible in an uncertain environment
Perfect “agility”
Flexibility and lead time reduction have costs
Real question: What is the right level?
Solution: “Range” planning
© Blake Johnson
2. Quantify and manage operational and financial performance over it
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5.
The simple logic of “range” planning
© Blake Johnson
- Too little supply: Lost sales and customer satisfaction, unnecessary cost
- Too much supply: Inventory, liability and excess capacity
- Sales and marketing
- Supply chain
3. How can we proactively plan and manage our business to deliver
the best possible operating and financial performance?
1. What is the range of our potential future demand?
2. How is our operating and financial performance exposed across
that range?
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6.
Capability#1:
How forecastable is demand over planning horizon?
Forecasts: Best available demand information over planning horizon
Forecastability varies by:
Demand
Planning horizon
90th
75th
25th
10th
Forecast error
percentiles
Forecast error by forecast horizon: Accuracy of that information by lead time
- Product - Stage of lifecycle - Level of aggregation
- Market / geography - Season
Customer order
lead time
Demand known
within customer
order lead time
Now
© Blake Johnson 6

7.
Capability #2: What is the right type and amount
of supply chain flexibility?
“Bucket” at end of
“supply chain pipe”
Inventory
“Supply chain pipe”
Materials
Production
Shipping
Finished
goods
Forecast accuracy lower further in future
Match size of “supply chain pipe” to forecast accuracy by lead time
- Unless forecast accuracy = 100%, supply flexibility is required to match supply and demand
- Lower forecast error  less flexibility required
90th
75th
25th
10th
Forecast error
percentile
Enable supply chain to proactively plan  Minimize cost and risk
© Blake Johnson 7

8.
Optimizing planning for high probability portion
of demand range
Demand
Time
High probability demand
Cost savings opportunity varies by circumstance, but 5-10% is typical
Low end of Range Forecast
as % of forecast
Savings opportunity: Examples
Cost reduction
opportunity
70%
60%
5%
10%
X =
Reduction in
overall cost (%)
3.5%
6%
Use predictability to reduce cost:
- Lowest cost, long lead time production
- Efficient capacity, materials and production planning
- Large batch sizes, full truckloads, ocean vs. air…
- Financial planning and risk management benefits
© Blake Johnson
Certain demand is cheap to serve (100% capacity utilization, no inventory buffer…)
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9.
Optimizing planning for uncertain portion of
demand range
Flex
Committed volume
Flex
Committed volume
Supply chain planning decisions by lead time
Demand
Month3 4 5 61 2
Production
start
Material
sourcing
Capacity
Capacity
lead time
Material
lead time
“Right-size” upside by lead time
- Minimize cost by pushing flex as far upstream as possible
- Manage upside constraints over full planning horizon
High quality advanced planning
information at each stage of supply chain
© Blake Johnson
Upside availability known,
and delivered at lowest cost
Intelligently position “just in case” resources, sized based on cost vs. benefit
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10.
Source: Venu Nagali, HP, presented at Real-options conference June 2007
Manage risks using structured
contracts with suppliers
Flexible quantity
contract
Demand forecast (units)
Time
Fixed quantity
contract
0
100
200
300
400
Uncommitted
Hi scenario
Base scenario
Lo Scenario
1. Quantity Terms:
• Fixed Quantity
• Flexible Quantity
• Percent of HP
Demand
2. Pricing Terms:
• Market-based with
specified discounts
• Fixed price
• Price caps and floors
Structured Contract Terms
A combination of objectives from Assurance of Supply, Cost Savings & Cost
Predictability can be enabled by mixing & matching quantity and pricing terms

11.
Capability #2: Quantify cost of supply chain flexibility
Jan Feb Mar Apr MayJan Feb Mar Apr May
Option 1: Low flexibility Option 2: High flexibility
Narrower supply chain pipe Wider supply chain pipe
 Higher capacity utilization
 More inventory turns (materials, WIP, FGI)
 Lower cost
 Lower capacity utilization
 Fewer inventory turns (materials, WIP, FGI)
 Higher cost
© Blake Johnson
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12.
Capability #3: What level of supply chain flexibility
optimizes P&L and customer delivery performance?
Jan Feb Mar Apr MayJan Feb Mar Apr May
Option 1: Low flexibility Option 2: High flexibility
P&L:
Customer service: Low
P&L
Balance cost of supply chain flexibility with benefits to P&L and customer service
 More lost revenue and margin
 More inventory and liability
 Lower supply chain cost
Customer service: High
 Less lost revenue and margin
 Less inventory and liability
 Higher supply chain cost
Lost revenue and margin
Damaged customer relationships
Inventory and liability
© Blake Johnson 12

13.
Capability #3: Optimize performance and enable “no
surprises, no excuses” alignment and accountability
1. “Dollarize” trade-offs (integrate operational and financial)
2. Create “menu” of performance alternatives for key stakeholders
3. Agree best choice and establish alignment and accountability
Demand Demand
Vs.
“Risk aware” S&OP process:
“Range” performance management
Plan
Demand
Today: Flying blind
Service level 98%
Inventory $2M
Cost $11M
Gross margin $3M
Liability $1.2M
Low Plan High
?
?
?
?
?
?
Service level 98%
Inventory $2M
Cost $11M
Gross margin $3M
Liability $1.2M
Low Plan High
?
?
?
?
?
?
Service level 100% 99% 97%
Inventory $2.2M $1.8M $0.3M
Cost $8.3M $11.3M $13.7M
Gross margin $2.5M $2.9M $4.1M
Liability $2.1M $0.8M $0.3M
Low Base High
Service level 100% 99% 97%
Inventory $2.2M $1.8M $0.3M
Cost $8.3M $11.3M $13.7M
Gross margin $2.5M $2.9M $4.1M
Liability $2.1M $0.8M $0.3M
Low Base High
Service level 100% 99% 95%
Inventory $3.1M $2.0M $0.1M
Cost $8.0M $11.0M $13.4M
Gross margin $2.6M $3.0M $3.8M
Liability $2.5M $0.8M $0.3M
Low Base High
Service level 100% 99% 95%
Inventory $3.1M $2.0M $0.1M
Cost $8.0M $11.0M $13.4M
Gross margin $2.6M $3.0M $3.8M
Liability $2.5M $0.8M $0.3M
Low Base High
Align sales, supply chain, and external partners
on right level of flexibility by lead time
© Blake Johnson 13

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Managing with a complete view of your business reality
© Blake Johnson
Maximize savings on
predictable demand
Secure upside flex at
lowest cost
Supply chain “range” plan2
Potential supply chain flexibility
Quantify impact of supply chain plan on key metrics
- Financial, operational, customer
- Across potential demand outcomes
Service level 100% 99% 97%
Inventory $2.2M $1.8M $0.3M
Cost $8.3M $11.3M $13.7M
Gross margin $2.5M $2.9M $4.1M
Liability $2.1M $0.8M $0.3M
Low Base High
Service level 100% 99% 97%
Inventory $2.2M $1.8M $0.3M
Cost $8.3M $11.3M $13.7M
Gross margin $2.5M $2.9M $4.1M
Liability $2.1M $0.8M $0.3M
Low Base High
“Range”
performance
3
Performance of
supply chain
flexibility over
range forecast
Demand range forecast
Quantify demand
uncertainty over
planning horizon
1
“Problem to solve”
Choose range plan with best overall performance
- Cross-functional input, alignment and accountability
 “No surprises, no excuses” performance, across demand outcomes
4 S&OP
Organizational
processes,
metrics and
accountability
(Including uncertainty and your options for managing it)
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15.
Q&A
© Blake Johnson 15