Centralization of inventories

2 Centralization of inventories

In the same way that the advent of globalization has encouraged compa- nies to rationalize production into fewer locations, so too has it led to a trend towards the centralization of inventories. Making use of the well- known statistical fact that consolidating inventory into fewer locations can substantially reduce total inventory requirement, organizations have been steadily closing national warehouses and amalgamating them into regional distribution centres (RDCs) serving a much wider geographical area.

For example, Philips has reduced its consumer electronics products warehouses in western Europe from 22 to just four. Likewise Apple Computers replaced their 13 national warehouses with two European RDCs. Similar examples can be found in just about every industry.

7MANAGING THE GLOBAL PIPELINE

Whilst the logic of centralization is sound, it is becoming increas- ingly recognized that there may be even greater gains to be had by not physically centralizing the inventory but rather by locating it strategi- cally near the customer or the point of production but managing and controlling it centrally. This is the idea of ‘virtual’ or ‘electronic’ inven- tory. The idea is that by the use of information the organization can achieve the same stock reduction that it would achieve through central- ization whilst retaining a greater flexibility by localizing inventory. At the same time the penalties of centralizing physical stock holding are reduced, i.e. double handling, higher transport charges and possibly longer total pipelines.

One of the arguments for centralized inventory is that advantage can

be taken of the ‘square root rule’. 4 Whilst an approximation, this rule of thumb provides an indication of the opportunity for inventory reduction that is possible through holding inventory in fewer locations. The rule states that the reduction in total systems inventory that can be expected is proportional to the square root of the number of stock locations before and after rationalization. Thus if previously there were 25 stock locations and now there are only four then the overall reduction in inventory would be in the ratio of

25 to 4 or 5:2, i.e. a 60 per cent reduction. Many organizations are now recognizing the advantage of managing worldwide inventories on a centralized basis. To do so successfully, however, requires an information system that can provide complete vis- ibility of demand from one end of the pipeline to another in as close to real time as possible. Equally such centralized systems will typically lead to higher transport costs in that products inevitably have to move greater distances and often high-cost air express will be necessary to ensure short lead times for delivery to the customer.

Xerox, in its management of its European spares business, has demonstrated how great benefits can be derived by centralizing the control of inventory and by using information systems and, in so doing, enabling a much higher service to its engineers to be provided but with only half the total inventory. SKF is another company that for

20 years or more has been driving down its European inventory of bearings whilst still improving service to its customers. Again, the means to this remarkable achievement has been through a centralized information system.

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