Happy New Year! 2013 looks to bring a whole host of new challenges and opportunities for businesses to differentiate themselves and to thrive in an increasingly more competitive marketplace – just like last year. Brings to mind the old quote from Jean-Baptiste Alphonse Karr (although probably more familiar to people who are fans of Kenny Chesney or Jon Bon Jovi) – the more things change, the more they stay the same.
Using that quote as an incredibly clever transition device, whatever the challenges and opportunities before us, there are a few key basic truths and one of the them is that as business people we have a fiduciary responsibility to maximize the value of our businesses over time and that is often measured through increasing cash flow and pre-tax profitability (net profitability has become a much more complex conversation).
Therefore, to start the year, I thought we would revisit and refine the value proposition of dramatically reducing your forecasting error. All of the research supports that in today’s operating environment, improved forecasting is the number one option available, from an operational S&OP point of view, to most effectively, measurably and quickly improve your value chain performance and therefore improve cash flow, return on capital and pre-tax profitability.
How specifically can improved forecasting improve value chain performance? Not necessarily in order of importance or impact, improved forecasting should allow you to
- Increase revenues because:
- Sales focus on their most profitable customers and products
- Marketing more effectively supports sales and brand strategies
- Customer service increases because there are less out-of-stocks
- Improve utilization of working capital because:
- Inventories are reduced closer to what is needed
- Raw materials, components and finished goods are purchased more in line with optimized production or deployment plans
- Order to cash cycle times are greatly reduced
- Improve Return on Capital Employed because greater accuracy allows for more effective:
- Master Scheduling of plant and materials (and personnel but often this is not included in capital calculation)
- Constrained Planning
- New asset / capital investment
These represent what can be improved – no doubt you are asking to what degree can I improve my returns on investment and capital employed and cash flow and pre-tax profitability.
Results are obviously dependent on the exact situation within each company however as a general rule of thumb, our experience shows that a 25% reduction in forecast error translates into a minimum 5% improvement in pre-tax profitability.
However, perhaps more compelling, independent research shows equal or greater impacts.
Dr. Hau Lee is the Thoma Professor of Operations, Information, and Technology at Stanford University; Co-director of The Stanford Global Supply Chain Management Forum; Director of Managing Your Supply Chain for Global Competitiveness Executive Program.
Given Dr. Lee’s long term research and cooperation with client companies, the impact of improving forecasting and focusing on demand drivers is significant.
“Distorted information from one end of a supply chain to the other can lead to tremendous inefficiencies: excessive inventory investment, poor customer service, lost revenues, misguided capacity plans, inactive transportation, and missed production schedules.”
“I have already seen some companies using new software tools to manage their businesses based on demand, with results ranging between 50% and 100% in net profit increases, which in turn can easily be translated into enormous increases in shareholder and market values.”
Dr. John T. (Tom) Mentzer was the Harry J. and Vivienne R. Bruce Chair of Excellence in Business in the Department of Marketing, Logistics and Transportation at the University of Tennessee. He was a prolific researcher and author with 5 books on value chain excellence and competitive differentiation not to mention hundreds of articles to his name.
Dr. Mentzer extended his research, through the help of many colleagues and collaborators, to the measurable on a company’s performance. The single most clarifying result of improved forecasting highlight by Dr. Mentzer:
An increase of shareholder value of 15% or more!
Lastly, we refer to the Gartner Group which includes the recently merged business/supply chain analysts from AMR Research. There are a host of strong practitioners such as Noha Tohamy, Tim Payne, Mike Griswold, Dennis Gaughin, and Steve Steuterman just to name a few. Since January 2011 they have published a large number of research papers and articles that highlight the impact of improved demand forecasting. Their cumulative research has pointed to some significant findings.
Gartner’s measurable impacts of improved forecasting and demand planning:
- 1% to 3% revenue increases
- 15% to 30% inventory reductions
- 20% to 30% order fill rate increases (Demand Foresight note – important to do 2 and 3 simultaneously)
- 10% to 15% decreases in obsolete inventory
- 3% to 5% increases in gross margin
Do you have an aggressive revenue, margin, cash flow and profitability plan for 2013 and/or for a number of years ahead? Are you mixing it up with aggressive and creative competition? Trying to differentiate your company and yourself?
I hope that as we kick off 2013 and all the possibilities and potentials still lie in front of us, you will take to heart that one of the most powerful investments you can make (and should make given fiduciary responsibility) that will have an immediate and long term positive impact on your performance (intentionally left blank – your company? Yours?) is the investment in dramatically improving forecasting accuracy.
Looking forward to the conversations that are coming up.