The Role of Transportation in Supply Chains and Business

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Transcript of Course Taught by Edward H. Frazelle, Ph.D. President and CEO RightChain Incorporated

(0:00 - 13:47) Anytime I study something, the first thing I always ask myself is, why am I even studying this? I'm a purpose-driven person and so why should we spend four days studying transportation and distribution? And that's where we're going to start. And it goes like this. We call this the plight of the transportation manager. The first part of the course was uplifting. It's going to be depressing here for the next 10 or 12 minutes, so just hang in there with me. Number one on the list. More, smaller, faster, more time-definite shipments. Why is that, by the way? To try to lower inventories. For many years, what we've tried to do is to substitute transportation for inventory. Part of the way you did that was just-in-time, lean. Okay, you're trying to take inventory out. We had a period of time where the price of fuel got cranked up so high that all of a sudden we were substituting inventory for transportation. Now prices are back down and so we're back into this phenomenon, but in general this is here to stay. That when you can use transportation to take inventory out of a supply chain, people want to do that because for the most part, inventory is riskier than transportation. Transportation is more of a variable cost than is inventory. So there's going to be smaller shipments. By the way, what happens to pricing as the shipment size declines? In general, the less cube and the less weight there is in a shipment, the more expensive it is per pound and per cube. Why is more time definite important? Why are people asking for more time definite? A lot of it is around taking variability out of the supply chain. Every time there's a point of variability, there's going to be a type of inventory in the supply chain that has a name. What is inventory related to variability called? Safety stock, exactly right. So that's another reason people are asking for more time definition and so all of those things in general work together to drive the cost of transportation up and I can't see that going away anytime soon. The other phenomenon we have been faced with is a shortage of drivers. The large majority of money spent on transportation in the United States is on trucking. It's not even close. I'll show you some of these numbers here in just a little bit, but why would there be such a shortage in that particular industry? The lifestyle, exactly right. That's a hard lifestyle. A friend of mine is the manager of a private fleet with BP. Every three to five years I get a phone call from Carlos and it goes like this. They call me Dr. Ed at BP. That's how I'm known. Dr. Ed, can you dust off that study again? I can probably dust it off. What he means by that is they have a large private fleet. Every time there's a new president of the business unit who comes in they want to know why do we have a private fleet? Why aren't we outsourcing this? So we run and we do the outsourcing study on that and in the things that we look at for outsourcing one would be cost.

They have a lower cost per unit than any common carrier, any dedicated contract provider, any of their competition's fleet. They have the best safety record. They have the lowest damage ratio. They have the highest productivity. They have the best customer service and their industry is such that if they outsource it probably the customers would think that they were abandoning them. So they should keep that fleet. It's not even close. So I asked Carlos one day, I said how do you do this? He said I do it by taking care of the drivers. The average tenure of a driver in their fleet is 13 years and it's a promotion to go from the warehouse to be a truck driver. If you have a meeting at BP the first issue that comes up is safety. They have a safety briefing. I used to think it was a silly thing, but no they take it very seriously. So if you're a truck driver and you work for them and the first thing that's addressed in every meeting is safety, what message does that send to you? They care and they do care. It's not a hokey bunch of nonsense. They really care. The thing that really got me though is he said the way they structure their routes and schedules is such that the drivers can be home with their families every weekend. So then they get the cream of the crop and they feel like they're taken care of. That's how you run a fleet. That's how you take care of a driver shortage issue. It's a lifestyle issue. There's another interesting phenomenon though. If a truck driver is not driving a truck, what is the next most likely job they would have? Anybody want to guess at that? Construction. And so if there's a housing boom going on at the same time there's a transportation boom, now you got a problem. But the best way I have seen a company deal with the driver shortage and turnover issue is to offer a very good place to work because you're competing with all types of other options. At one point it got so bad that in Nashville for every six loads that needed to go out of Nashville there was only one driver and truck available to take it. All right are you depressed yet? Number three is a pressure on profits for truckers. Where does that come from? Anybody remember the old transportation exchanges? You could go on the internet and compete for prices and bid out lanes and all that good stuff. What does information about pricing do to pricing? The more information you have about prices the lower the prices get. And so over time you combine that with the big upshot in the price of fuel and you just put a lot of these companies in serious jeopardy. And so some companies are still in the business of beating these carriers up and it's not a good business to be in because they may be your livelihood. What goes around comes around maybe you've heard that expression. So you got to be careful when we do carrier bids for our clients we try to be very careful with that to make sure that there's a fair profit that's on the table. Because if the carriers can't stay in business

and they're the very best you got you just shot yourself in the foot if you wind up putting somebody out of business. Because to a large extent in many cases they're your livelihood. Number four on the list is security. We didn't used to have to worry so much about this. Now all of a sudden everybody's concerned about security and they need to be. To a large degree if you try to secure a supply chain the weakest link is going to be in transportation because that's where most of the handoffs are. And there are a lot of places where there are blind spots in the supply chain a lot around transportation where you don't really know what's going on. So that's also part of choosing carriers just making sure you're making good security decisions. Number five on the list is congestion. All you have to do is look out that window. There's a ranking done every year of the interchanges that are the most congested in the United States. This is number five in the whole United States right outside that window. Every five years University of Texas Civil Engineering Department updates data about congestion in the United States. Basically they're showing average commute times. In Atlanta we have the second largest average commute time in the United States. Los Angeles is the only one I would say ahead of us but really we should say behind us. A friend of mine used to say that it takes him 20 minutes just to get out of his garage in Los Angeles. It's not getting any better. There's another phenomenon called a megapolis. It's a mega metropolis. There are eight megapolises in the United States between Seattle and Portland, South Florida, Southern California, Northern California, the I-85 corridor, the Northeast corridor. About 80% of the U.S. population now lives in one of those eight megapolises. It takes maybe twice as long to go the average mile in one of those areas that it does in some other location. So then what do you do from a transportation standpoint? We coined a term called an urban strike point where what you do is you set up outside one of those in a place that has good interstate access that's not in the middle of one of those. We did one recently in Redlands, California. Hayward is a little bit like that in Northern California. Scranton, Pennsylvania is an example of a place like that. And so if you watch this from a real estate standpoint what you'll find out is that the distribution real estate in those areas is growing rapidly because of this phenomenon called a megapolis. We're almost done with the depressing stuff. The American Society of Civil Engineers does a report card on the transportation infrastructure in the United States. This is the most recent report card. We got a D-plus on aviation infrastructure, a C on bridges, a D-minus on waterways, a C minus on railways, a D on roads. It's not very good. In general, the infrastructure in the United States relative to the activity level that we have, it means a lot of work.

Like 1.6 trillion of which probably we have about 10% of that really budgeted to go toward this activity. This is a fascinating one. Natural disasters. If you look at the rate of increase in things like tornadoes, earthquakes, hurricanes, tsunamis. Is it me or is that or we read about that more than we know we really do. If you plot it over time these things are increasing. So from a supply chain standpoint you got to deal with that and transportation is one of the key links to getting a supply chain back up and going. So you just got to know that these are the kind of things you have to be prepared to deal with and then on the price of fuel, that's the other one I wanted to mention before we get encouraged here. I did an interview two weeks ago with a trade journal and they were asking me, Dr. Frizzell how should a company manage through a situation where one day the price of fuel is four dollars a gallon and the next week it's two dollars a gallon. Anybody got some suggestions? Maybe you can go back and do that interview for me. How do you deal with volatility? Hedging, but even hedging at this point if you've got gas at four dollars a gallon and the rest of the world is paying two, just in general how do you deal with volatility? The way you set up a supply chain network for gasoline that's four dollars a gallon versus two dollars a gallon, it's completely different. The way you set up a supply chain for inventory if the interest rates are zero and ten percent are very different. One of the themes that will come out is flexibility. How do you create a flexible supply chain? The other thing you have to do is in very short notice be able to study and understand the impact of this volatility. You've got to have models and people who understand them, running them continuously to know how to deal with these factors because everybody has to deal with this. People complain about volatility in oil prices. It's no different for FedEx than it is for UPS than it is for somebody else. Everybody lives in that same boat so to speak. The game is can you deal with it better than your competition and that is having the modeling capability, people who understand the models and having flexibility built into the supply chain. So if you wanted to know why am I so stressed, these are the reasons. There's one other one that relates to security. (13:48 - 20:39) If you look at where the oil passes in the world, a majority of it at this point passes through these narrow little straits. It's hard to get through and the governments on the sides of those straits are some of the most volatile in the whole world. So I can't imagine a day where we're going to see 50 cent a gallon gasoline again. Not that long ago $2 a gallon gasoline would have seemed really high. Remember that? So is it stressful being a transportation manager? Absolutely. And it used to be if you got a job in transportation they might as well have handed you either a pink slip or a Polex watch because you were kind of headed out the door.

But it's not that way anymore. All of a sudden transportation is mission-critical. So I'll ask you just in general how do you deal with these factors? Just in general. About the only thing you know for certain is that it's not going to be certain. So you need people and models to be able to deal with the uncertainty. That's a very complicated set of circumstances and there are a lot of things that work to make supply chains complex. So we're going to do a little complexity exercise here for just a second. And this is related to a phenomenon in thermodynamics. I bet you never thought we get into thermodynamics in a transportation class. But there is a phenomenon in thermodynamics called entropy. Anybody know what entropy is? Somebody said disorder. It's related to disorder. The basic idea is any system left unto its own without intervention will run into chaos. So how in the world does that relate to a supply chain? If you graph the complexity of a system versus the performance of that system, what do you think the graph looks like? Now before we get into this let me apologize right out of the gate. My handwriting is atrocious. This goes all the way back to the sixth grade. Back then for your report card you didn't get A, B, C, D, F. I think they were afraid to give anybody an F. C was commendable, S was satisfactory, and N was needs improvement. And I would get all commendables except for two areas. One was handwriting and the second was talking too much. It's the same today. My handwriting is still bad and I have never finished teaching a seminar. The other thing I discovered with handwriting is if you write poorly enough and you don't spell very well, people will imagine that it's spelled correctly. I don't know what it is. So that says logistics complexity and performance on one axis and complexity on the other. What does that graph look like? If you put complexity on one axis and performance on the other, and by performance we might as well get that on the table. In this class is going to be a function of three things. Productivity, accuracy, and response time. There's a real simple way to remember that. It's called PAR. For me is a miracle and for Tiger Woods is a disappointment. Productivity, accuracy, and response time. So what does that graph look like? Performance versus complexity. The more complex the system, the worse the performance. That phenomenon as we have done studies in logistics over the years, it plays out in a warehouse, it plays out in an inventory system, it plays out in a transportation system, it doesn't matter what type of system it is. So what I want to ask you for just a second is, what factors contribute to complexity in logistics? What makes one logistics system more complex than another? Very good, time windows. What we have found recently with our consumer products clients is like with the Walmart time windows, they're very strict and difficult and so the cost to serve Walmart from a transportation standpoint is sometimes 15 or 20 percent higher than serving anybody else because of those time windows.

So that's one. What's another one? Number of countries could be an issue. The geography of those countries could be an issue. Somebody else. What makes one logistics system more complex than another? Number of SKUs, number of DCs, product dimensions, product and packaging dimensions, the number of value-added services that you offer, inventory errors, blind spots in the supply chain, number of suppliers that you have to deal with. How about the number of carriers that you have to deal with? We do a lot of supply chain assessments. It will assess a company's warehouse or we'll assess their inventory manager or we'll assess their transportation, we'll assess their whole supply chain activity. So we were doing an assessment for this company out in the Silicon Valley and I went out and gave them their grades. Their grade overall was a C-. So the chief operating officer said I don't like our grade. He said you don't understand how complex our situation is. I said okay I've been around this block a few times but let me go back and redo the assessment for you. Came back to Atlanta, redid the assessment, grade was a C-. Okay, fly back out to Silicon Valley, here's your results. He said what's our grade? I said your grades a C-. He said I don't like our grade, you don't understand how complex this is. I said look I've been around this block a couple of times, this is the second time we've done this study. I dotted the I's, I crossed the T's based on all the principles and practices we have in here. (20:39 - 21:24) Your grade is a C-. He said I don't like our grade and you don't understand how complex this is. I said okay I'll do this one more time. I flew back to Atlanta, I redid the whole thing, the grade was a C- and I'm on the airplane flying back out to San Jose, California to give them their grades. And I'm thinking what in the world am I going to explain to them? And finally it dawned on me what the issue was. They had created almost all of their own complexity. That was the issue. For example, all right let's just go through the list. How do you deal with the number of carriers? Suppose somebody complains to you and says we have too many carriers, it makes our supply chain too complex. (21:24 - 25:56) What do you do? You do a project. It's called a core carrier program to reduce the number of carriers. Why is it better to do business with fewer carriers than more? Relationships. In your personal life, how many good relationships can you manage? Sometimes none. Sometimes I can't even relate with myself, okay? Okay, if you're doing really good, they say that over the course of a lifetime you have five really good friends over the course of your whole life. If I can get me, my wife, and children, that's a great day. If I get beyond that to a few good friends, I've done really well. So even in a business it's the same. You can only manage with so many relationships and then you go beyond that.

Also the more volume you bring to the table, guess what happens to the price? You should get a lower price, right? And accuracy and visibility should improve. That's called a core carrier program. How do you deal with time windows? You say, you know these customers, they have all these time windows I have to deal with. And a time window, if you're not familiar with it, it's a time when you have to show up after this time and you have to leave before this time. And the difference those two is called the time window. How do you deal with that? Okay, you can ask them to stay up. Okay, hold on. Okay, Laura, hold on with that one. That's right. You ask them to stay open later. Excellent. You show the cost and maybe you do a game sharing agreement with the customers. That phenomenon is called a customer service policy. You have a customer service policy. But if you don't understand yourself what it costs you to serve a certain time window, there's no way to deal with it. How about the number of countries that you deal with? You don't have to go into every country in the world. You can call that network rationalization. We have a client we're working with right now. It's a health and beauty aides company. They ship stuff all over the world and they are finally to the point where they can calculate the logistics cost of dealing in a certain country and based on that they'll know whether it's profitable to do business in that country. Because you get situations where the marketing and salespeople they want to go to every country. And on paper I guess you can say there's 28 people here who want to buy our product. Surely that's a good business. But if you calculate the cost of going into a country where the roads are difficult to navigate, where the lights in the airport don't stay on after 8 in the evening, where the telecommunications infrastructure is poor, etc. etc. and now the logistics cost as a percent of sales is 50%. Instead of 10 and you take that into account maybe you shouldn't be doing business in that country. That's called a network rationalization and we're starting to get that across with them. How about SKUs? Number of stock keeping units. This is an interesting one. Everybody gets this from an inventory standpoint. That more SKUs causes more inventory. What would more SKUs do to transportation? Does that have any impact on transportation? Yeah. As you spread more demand over more SKUs probably you're going to pay more per SKU from a transportation standpoint. It makes the packing more difficult. It makes the loading and unloading more difficult. So do you have to have all those SKUs? If you reduce SKUs what's that called? SKU rationalization. What we typically find when we go in with a client is about a third of the

SKUs are profitable, about a third of the SKUs are breaking even, and about a third of the SKUs are losing money. Do you have to have all those distribution centers? No. (25:56 - 27:36) What's that project called? Consolidation, network rationalization, supply chain optimization. We can do the whole class right off of this sheet of paper right here. How about the education of the workforce? This is a penny-wise dollar foolish deal. I would rather have half the workforce and pay them twice as much for the education because there's this idea out there that somehow we can pay people at the very bottom of the wage scale and get the best workers out there. It doesn't work that way. Even if you pay them one dollar more per hour and they create half the errors. Think of the complexity that just came out of your supply chain. I think you get the idea. The point of all this is the more complex the system is the worse the performance is going to be. Most of the complexity you created yourself. Is there a way to deal with it? Yes. That's this set of projects and pretty much that's the outline of what we're going to be doing in here these four days. It's taking complexity out of the supply chain. If you don't intervene though, if you don't have people dedicated to taking the complexity out, guess what's going to happen? It's just going to grow. Usually we'll recommend that a client have somebody who is just dedicated to strategic planning for the supply chain and it could be a whole group of people. (27:39 - 29:13) And we set them aside and say that's your job. That's all you're going to do. Why would you need to set somebody aside to do that? It's related to a game played in the arcade with gophers. Whack-a-mole. Anybody play Whack-a-mole? That thing in the arcade and those things jump up when you beat them back down and the winner is who can beat down the most moles that jump out of that hole. Who are the real winners of that game? The ones who never play. There's some cultures that reward firefighting. There's some cultures that reward firefighting. Why is there a fire to put out? Probably because somebody wasn't doing their job. So we'll set aside a group and say your job is to make sure there aren't any fires that come up in here. Otherwise you're just going to wind up back in the same scenario. That's entropy related to logistics and transportation. It's the idea that if you never did spring cleaning what would your house look like? I remember one time this lady raised her hand and she said it would look like my house. I never knew if she meant literally my house like lady or if she meant her house. Never really did understand what she was saying with that but you get the idea. You got to intervene. You got to have people intervening along these lines. That's how you stay out of as much of this trouble as you can stay out of.

(29:13 - 31:14) That's a lot of what we're going to be doing in here. And so these things are going to have names like network rationalization and skew rationalization and consolidation and building a customer service policy. Things of that nature. The next factor I want to get into here is that transportation is not out there in isolation. I was teaching in Japan last year and we had a lot of the heads of supply chains for major corporations in Japan and maybe this was totally rude in their culture. I don't know. There was a sofa in the lecture hall there. I stood up on the sofa. I did take my shoes off and I said transportation does not exist just to reduce cost. And I said it like three times. Transportation does not exist just to reduce cost. Transportation can be too efficient. We did a project with one of the big automotive companies a few years ago. One of the recommendations we made to them is that they hire a third-party logistics company to help them reduce transportation costs because that 3PL was already running in a lot of those lanes. They had negotiated good volume in those lanes and at least on paper it looked like it was about a 15 million dollar a year savings. That sounds good. So said yeah like that recommendation. We started down the road. Things were working pretty good and two years later I actually heard about it. I said that our client had fired the 3PL. So I got on the phone. I called the head of the business unit. I said I heard you fired those guys. So what's up with that? He said they were saving us too much money. (31:16 - 37:55) I was like whoa. Can you say that one more time? He said yep they were saving us too much money. I said wait and I've known him for a long time. I said wait a second. Okay what's the real story here? He said here's what was going on. He said they thought our whole gig in here was just saving money. So what they were doing is they were missing pickups and deliveries in an effort to keep saving money and we told them from the very beginning and we wrote this into the contract that the most important thing in here is making the schedule. Make all the pickups and make all the deliveries because the 15 million as compared to the 200 million was penny wise dollar foolish. I'll tell you one more example with this and then we'll get into the slides here. We're working with another client, a retailer. They have the lowest distribution cost per unit of any retailer in the country. I knew this because we've done the benchmarking around it and they call us about doing a project with them and here was the nature of the project. Let's suppose you're the vice president of distribution. You get a raise, a bonus, send your kids to Harvard or whatever. If you can keep lowering that distribution cost per unit.

How do you do that tactically? What types of decisions do you make? How do you get a really low distribution cost per unit? Reduce handling steps. That ought to be in our complexity graph right in here is handling steps. Reduce touch points. Anybody remember the old wishbone offense? Oklahoma used to run, you have a fullback and two halfbacks. So the quarterback can come down here they can either hand it to the fullback or give it to this halfback or pitch it to the other one or run it themselves. And Oklahoma used to gain like 650 yards a game and they never won the national championship. Why? Because you run that thing enough times handling the ball that many different ways you're going to fumble it and that's what happened to them. So you want to take handling steps out as you're going along. But now back to this little situation I've been talking about. If you're head of distribution how do you get a low transportation cost per unit? What do you do? Cube everything up. Make sure the truck is full and they did that. A truck could never leave the warehouse until it was 100% cubed out. From a warehousing standpoint they were doing the same thing by collecting these big batches of orders to make sure big batches were released to the floor of the warehouse so the pickers always had something to do. Now here's the wrinkle. Suppose you're the vice president of retail and your bonus is based on sales per square foot in the store. What's the worst thing that could happen to you? You have nothing to sell and it was happening to the tune of 250 million dollars a year. The transportation was too efficient. They were saving 3 million in transportation and losing 250 million dollars in lost sales because they were starving the stores. That's one thing we want to make sure we avoid going through these four days together is we don't get so caught up in one lane, one route, one cubing algorithm that we lose sight of the supply chain as a whole. So I'm going to spend just a few minutes talking about how transportation fits into the supply chain as a whole. If you look at transportation cost as compared to the other logistics cost which would be warehousing, carrying inventory, a little bit around order administration, what you'll find is it's about half for most companies and for the economy as a whole. It's not the whole thing. What you're trying to do when you set up a supply chain is to figure out the right amount to spend on warehousing, transportation, and carrying inventory. Let me say that one more time. What you're trying to figure out is the right amount to spend, not the least amount to spend, because what's going on in this little pie right here has a lot to do with the sales of the company, the capital that's invested, and the expenses of the company. Every decision you're going to make in supply chain is going to have an impact on revenue, expense, and capital and what you're trying to do with that decision is make the best decision for all three of those working at the same time and that's a theme that'll run through this class. You're not trying to figure out the least amount of spend, you're trying to figure out the right amount of spend and there's this mentality out there.

I think it comes from the penny wise dollar foolish camp or this hardcore procurement mentality that says let's just beat up the suppliers that stops us from making wiser decisions in the supply chain. There's a model that we have developed and we've been teaching in this program for years and years that helps tie transportation to the rest of the supply chain. So anyway, I hope by now you have a good feel for why we're going to study transportation and this is going to be a little bit about how transportation fits into the supply chain as a whole. Anybody want to guess what percent of the people who work in logistics have formal training in logistics? Oris, what do you think? 15 is a good guess. It's about 10%. Anybody want to guess that what portion of logistics projects are successful? 5%? It's a pessimistic group. (37:55 - 40:32) It's about 30%. If the project involves software it goes to about 15%. Those two things are related. If you're handing people projects, major projects and they have no formal training in that area, the odds of success are going to be very low. I like to use the Golden Gate Bridge as an example. Suppose you've never been to San Francisco, you've never seen the Golden Gate Bridge and you're on your bicycle. There's nobody around, no cars, no RVs, nothing. You and the bridge. You're trying to decide whether to ride your bicycle across the bridge and you look across and boy that view of the city must be spectacular. If I could just get on the other side of that bridge, it must be spectacular. Riding across that bridge must be a euphoria. But you look down and it's a long way down. There could be sharks, alligators, big waves. It's a long way down. I don't know about this. So you're trying to gather information about whether to ride your bike over that bridge or not. And you look down and there's a little plaque that talks about the person who designed the bridge and managed the whole project. You're reading along and it says they barely graduated from high school and they almost got a degree in art history. What did that just do to your confidence level in riding your bike across the bridge? Nothing against art history by the way and nothing against graduating from high school. It's just for that particular role, what did that just do to your confidence in riding over the bridge? It reduced it significantly. For me, I'm hightailing it the other way. I think maybe this is a figment of my imagination that this bridge is actually there. What would you have liked to have read on that plaque? Graduated from Georgia Tech with a dual degree in mechanical engineering and architecture. Maybe even a triple degree with some civil engineering thrown in there. Maybe even a quad degree with some hydrodynamics stuff. That's the kind of thing you'd like to read. What does that have to do with what we're talking about? Logistics is like a bridge.

It could be a bridge between your business and your customers, with your suppliers, with your carriers. It could be a software bridge, a network bridge, a transportation bridge. It can be a lot of different ways of connecting with those groups. (40:35 - 47:55) Unfortunately, very few of those bridges have been built by, planned by folks who have formal training in this area. That's why in 1991 we started this whole entity, to be honest with you. So what we try to do in here is let's get a formal definition of what we mean by logistics and talk about how transportation fits into that. And there's one other story I like to tell with this to get this point home. Actually, there's two. So just hang with me here just a minute. We were working with a large food company. We made a recommendation to them that they create a supply chain organization, which they accepted. And then they asked me to facilitate the first meeting. I'm from the South. You can't say you should have this organization and not be willing to meet with them. So I said, of course, I'd be happy to facilitate the first meeting. We had the meeting. It started about 8 in the morning and it went really well for six or seven minutes. And then it just broke down. It was, he said, she said, it sounded like our minivan used to sound about five hours into a long trip. I'm going, what's wrong with these people that they can't even get along for this period of time? This is six-figure executives. And they're out there sound like our minivan with the teenagers. And I thought, I'm gonna have to give my money back, my consulting fees, because I'm doing such a bad job facilitating this meeting. And to be honest with you, I would have been thrilled to death to give them the money and say, I'm out of here, man. By the grace of God, at nine o'clock there was a break. And I thought, Lord, what is wrong with me that I can't get these people to work together? And it dawned on me what the problem was. We had eight people in the room. We had the head of transportation, the head of warehousing, the head of materials management, i.e. inventory, the head of manufacturing, we had somebody from finance, somebody from marketing, somebody from IT, and the nephew of the chairman of the board. That was the group. None of which had ever worked for another company. None of which had ever worked outside the activity they were currently in. So if some gray-headed dude from Georgia Tech shows up and starts talking about logistics, and you've only worked in that warehouse your entire career, what do you think they're talking about? Probably what's going on in that warehouse, or the only perspective you have ever had to see the world through is that warehouse window. That's the only way you can see things. Same thing in transportation, same thing in the factory.

So I remember I went back in the room, I called timeout, said we're not gonna meet anymore, and they're going, oh my goodness, we're sorry, we didn't do it. So we're gonna have a lecture now for an hour on what logistics is, and from that point on, every time we start a project, we start with this is what logistics is, because you're going across political boundaries, corporate functions, it's difficult. So you've got to get an understanding, a basic understanding of how these activities relate to one another. That's the purpose of logistics. One more quick story to really get the point home. This is a much older story. This goes all the way back to Adam and Eve. Any of you remember Adam and Eve? They had a lot of advantages, one of which was they could speak the same language. So their children could speak that language, and their children's children, and that went on for several generations. What happens to the spread of information when people can speak the same language? Ideas develop faster. Work is done more accurately. There's no confusion. So societies can advance very quickly when that happens. We think we're fancy with wireless this, iPhone that. They weren't doing bad either. They had urban planning, they had musical instruments, they had architecture, they had aqueducts, and they were doing pretty good. One day they were doing so well, in fact, they decided to celebrate all of their technical and artistic success. Anybody remember what they decided to do to celebrate all of that? Build a tower. In fact, they were going to build it all the way up into heaven. I was reading this story one day, and you know how you're reading something and sometimes a paragraph or a sentence just jumps off the page at you? I'm reading this, and God is watching all of this, and says if they can speak the same language, there's not anything they can't accomplish. And I thought, wait a second, let me read that again. If they can speak the same language, there's not anything they can't accomplish. I thought that'll work in a business, that'll work in a family, that'll work on a sports team, that'll work just about anywhere. I got so fired up about that, it motivated me to write the most boring book ever written called The Language of Logistics. To drive the point home one more time, there was one problem. The people kind of forgot who gave them the ability to do all these great things. So God, to help them remember, did what? What did he do? Anybody remember? Excuse me? He confounded the languages. So now the person with the drill press, drill, couldn't talk to the person with the screwdriver, couldn't talk to the person with the hammer, it says they got halfway up and the whole thing scattered. And that's what happens to a lot of these logistics projects. People get part the way done, they reach some place where they can't get over the political boundaries of the company, and the whole thing just gets dismantled. If you can get that language though, it's very powerful. And in organizations from Disney to Honda to BP to Hallmark Cards to the Schwann's Food Company, and I could keep going

where we've been able to get that language across, it's powerful what you can do with it. When you can start to use logistics to maximize the financial and the service performance of a business is powerful. So for just a couple of minutes I want to talk about that and the role transportation plays in it. So first of all, there's a fundamental definition we work from. It goes like this. First of all, logistics is flow. Flow is a good thing. What happens to water when it stops flowing? It stagnates. When it stagnates, what happens? Things grow. Then insects come. It's not good. What happens to blood when it stops flowing? It coagulates. Now that is a fancy term for somebody's gonna die. In logistics is three things we're concerned with. Material, information, and money. Ideally they move simultaneously in real time without paper. Let me say that again. (47:55 - 50:15) Ideally, in fact you can evaluate a supply chain based on this, those three things need to move simultaneously in real time and without paper between consumers and suppliers and that takes care of that reverse logistics thing. I never got the reverse logistics thing. I never got that. There's this whole almost industry around reverse logistics, but that's just forward logistics from somebody else's standpoint. So I never really quite got that, but anyway between consumers and suppliers. That's where this starts and then you build around that. Now you don't have to take that definition of logistics. You can take some other one. The most important thing is to have one. That way you avoid a phenomenon called scope creep. What's scope creep? In a project, the tendency is to keep adding things on until the project can no longer support what people are adding to it and it's a interesting phenomenon because if you get a successful project going, people want to add things to it that the project was never intended to do. So you got to have almost a bad guy to say we're not doing that. We're not going to do that function. This software will not do that. This third-party logistics provider never contracted to do that, etc. etc. So you got to have a definition to start with. We did a project with another large retailer. We were asked to go over the contract they had developed for their new 3PL provider. They were outsourcing all the distribution centers. This is major leagues. This is 2 million square foot of distribution space. Some of the most highly automated in the United States. Brand new warehouse management system.

The whole kit and caboodle. They were going to outsource that to a 3PL provider. They had already written the contract and they're asking us to review the contract. So I'm going through this thing. I have never put so much red ink on something in all my life. I felt like I was grading papers again. (50:17 - 57:32) So I went back to meet with them and was Dr. Vazell, what are your comments about our contract? They were concerned. They saw all the red ink. I said I just got one question. I said what is your motivation for doing this? I said because whatever that is has to be reflected in the contract. Otherwise it's really hard to know whether it's a good contract or a bad contract. And it got really quiet. The silence was for so long it got just pure awkward. And then finally the head of the supply chain started laughing. I'm looking going this doesn't seem very funny to me. Then they all started laughing. I said why are you laughing? Even I started laughing. He says because we have no idea why we're doing this. This was a 30 million dollar contract. I said how can that be? I said it's because our former CEO said we're bad at logistics and anybody could do it better than we can. And I knew they were good at it because I'd seen all the benchmark. I said that's not true. What do we do? I said don't do this. There's time for outsourcing. There's a time not to. This is not the time to. In fact you're about to you're about ready to give away your key competitive advantage. You're about ready to get you're out ready to pay somebody to take your competitive advantage and give it to you all your competitors. Does that sound like a good idea? No. The point of it is they had no core definition to go back to. You got to have a core. Once you get that you can start building around it. Why do you call this supply chain logistics? There's logistics for lots of things. There's bank logistics, there's hospital logistics, healthcare logistics, there's logistics for the hospitality industry, there's chemical logistics. So what we try to do here is to put this boundary on here say we do supply chain logistics. That's our gig. Now that shows up in a lot of different industries but that's different than in the world of Wells Fargo they have cash logistics. We do supply chain logistics. If you'll accept this there are five activities that come with this definition and they go like this. The first is customer service. Number one right out of the gate. Why would that be the first activity you would plan or design when you were planning or designing a supply chain? Very good or that's right it's the requirements. So working with our clients one of the first things we do is say let's get a customer service policy here. You saw I asked do you have a customer service policy? Oh yeah we have a

customer. I said what's your customer service policy? Usually it's we want to have a hundred percent availability of a hundred percent of the products a hundred percent of the time. Sound familiar? Sounds expensive. Yeah there's a hundred percent chance you'd go out of business if you really did that. So you got to back off from that. Alright so what I'm talking about here is something we put numbers to. It's segmented by A, B, and C customers. It addresses things like time windows and response time and delivery frequency and fill rate and things like that. So let me just ask you this. If the customer service policy is like a contract between your supply chain organization and your customers, what issues have to be addressed in that contract? Response time is one. The definition of on time delivery frequency, time windows. That's when are you going to show up? What else needs to be addressed in a customer service policy? Returns. How are you going to deal with returns? Can you return anything? If you do, where do you send it? Fill rate. Are you going to satisfy a hundred percent of the customer's demand? Ninety percent? Ninety-eight percent? Is it going to be different for A, B, and C items? Anything else you want to add? Value-added services. How much packaging, labeling are you willing to do? Kidding. For the sake of time we'll stop right there. Now once you get the numbers around this, planning logistics gets a whole lot easier because then it just becomes a game of how do I minimize the cost to provide that level of service. Suppose I've not defined the level of service that needs to be provided. How do you plan logistics? It's the same answer as what's the best way to go from Atlanta to Orlando? What's the best way to go from Atlanta to Orlando? Fly? Anybody want to suggest something else? Suppose you really like to ride your bicycle. What's the best way to go to Orlando? Ride your bicycle. I really like to go on the train. A friend of mine, he really likes trains. One day we found him lost like over in Macon, Georgia because he took the wrong train or something. Suppose you have to be there within two hours. What's the best way? Get on an airplane. Suppose you only have $50. What's the best way? Maybe. Bicycle, walking, hitchhiking. So if all I say is what's the best way to go from Atlanta to Orlando and there's no constraints, there's no way to make a decision. Every answer is right, and every answer is wrong. And if you try to design a transportation strategy and you don't have a customer service policy, guess what? Every answer is right, and every answer is wrong and you wonder why is there so much friction around these issues? That's the reason. You don't have a customer service policy. The customer service policy plays a very important role in transportation and logistics planning. They form the constraints in something called optimization. What is optimization? We're going to talk a lot about that.

(57:32 - 58:34) You're at the hub of logistics optimization in the whole world right here. Georgia Tech, we have the largest logistics faculty of any university in the whole world. The research, the teaching, all of it. So this concept, if you can get hold of it, is very helpful for solving logistics problems and it goes like this. The basic idea is that there's an objective function that you're trying to minimize or maximize and there's some constraints that make that difficult to do. The optimal solution satisfies all the requirements of the constraints and minimizes or maximizes that objective function. So in logistics, what does that look like? Typically the objective function would say let's minimize the total logistics cost. This is where you got to be careful because you got to include the right stuff in the logistics cost. We usually include four things. (58:35 - 1:05:21) Warehousing, transportation, inventory carrying, and lost sales. And when we say cost, we have the expenses and the capital charges included in there. If you add transportation and warehousing costs together, those are called distribution. Total distribution cost. If you add inventory carrying and lost sales costs, we call that the inventory policy cost. Why do I need those four? Why those four? Here's the reason. They're interrelated. They're interdependent. Remember the example I shared with you with a retailer where they had this really low distribution cost per unit and they thought they were doing a great job? They were saving let's say eight million dollars a year in transportation and warehousing and they were costing the company 250 million dollars a year in lost sales. That's why you have all four because they're interrelated. Now suppose I only have the objective function and that's the whole game. We're looking at it right there. You see I think I can win that game. I win that by taking the cost to zero. Can I have zero cost? You say look transportation, I'm not going to move anything anywhere. That goes to zero. You want your stuff, you come pick it up. Warehousing, I read warehousing is a really bad idea. That just costs money. We're going to shut down our warehouses too. Inventory, you got to be joking. Lean, we're all over lean. We're into that man. Inventory, that's bad for business. We're not going to carry inventory. Take that to zero. Now since we have no inventory, there's no customers, so lost sales cost, it goes to zero too. Whole thing just zeros right out. I win the game. We're not in business anymore. Right. What should stop me from going down that path? Constraints, which in our world have a name and they're called the customer service policy, which says I got to have fill rate

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