Integral Logistics Management — Operations Management and Supply Chain Management Within and Across Companies

3.1.1 Design Options for Global Production Networks

Intended learning outcomes: Differentiate between centralized production and decentralized production. Present features such as demand volatility, supply chain vulnerability, economies of scale, demand for consistent process quality, customer proximity, market specificity of products, value density. Explain design options for global production networks. Describe some company cases.



In a first approach it is possible to distinguish two fundamental types of production networks.

In centralized production, a product is manufactured at only one location or through a chain of single stations, one station per operation at one location. In decentralized production, a product or certain operations of a product are manufactured at several locations.

Figure 3.1.1.1 shows a simple example.

Fig. 3.1.1.1        Centralized versus decentralized production: an example.

Taking a product with four operations (or four production levels) and sub­sequent distribution, Figure 3.1.1.1 shows centralized production (obvious­ly for the global market) and decentralized production (more for the local or regional market). For the decision as to centralized / decentralized, there are fea­tu­res for designing production networks, including:

  • Demand volatility: Items have continuous demand if demand is approxi­mately the same in every observation period. Items have disconti­nuous, or highly volatile demand if many periods with no or very little demand are inter­rupted by few periods with large demand; for example, ten times higher, without recognizable regularity.
  • Supply chain vulnerability: Unplanned events can disrupt a supply chain. These disruptions can arise from either the supply chain community or the macro-economic environment.
  • Economies of scale, that is, an effect whereby larger pro­duc­tion volumes reduce unit cost by distributing fixed costs over a larger quantity; and economies of scope, that is, when different products can be produced in a changeable factory at lower costs than when each product is produced in its own factory.
  • Demand for consistent process quality: Can customer needs be satisfied despite differing process quality?

An interesting observation is that these four features are highly correlated: Centralized production is an advantage for high economies of scale or scope and for a high demand for consistent pro­cess quality. Decentralized production is an advantage in the case of high demand volatility and in the case of high supply chain vulnerability.

Further important features for designing production networks are:

  • Customer proximity: To sell a product it can be necessary to locate the value-adding processes close to the customers.
  • Market specificity of products: Adapting products to the market is needful for functi­onal requirements, such as voltage, electrical connections, packaging, and docu­mentation. But it also applies for the appearance of products in the broadest sense.
  • Customer tolerance time, as defined in Section 1.1.2.
  • Value density, that is, product value — or item costs — per cubic meter or kilogram: Transport costs are of greater conse­quence if value density is low than if value density is high.

The above four features are also highly correlated: If customer tolerance time is high enough, there will be a tendency to centralize production, as there is also when value density is high. If high customer proximity is necessary, there will be an advantage in decentra­lizing production, as is also the case if high market specificity is necessary.

However, the two groups of features unfortunately often stand in opposition to one another. There are examples of this:

  • Appliances (specialized machining equipment, but adaptation due to voltage, connections, packaging, documentation): high necessity of economies of scale (in favor of centralized production), however also high market specificity of product (in favor of decentralized production)
  • Bakery products with a brand promise regarding quality: high de­mand for consistent process quality (in favor of centralized pro­duction), low value density (in favor of decentralized production)
  • High value components with variants (e.g., electronic chips, engines, pumps, inject­ions): high value density (in favor of centralized production), but also high demand volatility and high supply chain vulnerability (in favor of decentralized production)
  • Important raw material (such as steel), perishable foodstuffs: low market specificity of product (in favor of centralized production), also, however, high demand volatility and high supply chain vulnerability (in favor of decentralized production)

Here, a company must make a strategic decision, which some­times differs for each product family. The portfolio in Figure 3.1.1.2 is based on an idea in [AbNu08]. It shows, in addition to the two classical designs (the two sectors in the one-dimensional space in Figure 3.1.1.1, namely centralized or decentralized production), two possible mixed designs. The four possible designs lie in four sectors in a two-dimensional space, spanned by the dimensions that correspond to the two (conflicting) groups of features.

The sector P1 describes the centralized production for the global market. This option is advantageous where economies of scale or economies of scope are strong and, in addition, when there are advantages to having well-established part­ner­ships for the added value of the various production levels. In this way, there is a greater possibility to main­tain consistent pro­cess quality, which is important mainly for vali­dation of produc­tion processes (keyword: GMP, Good Manu­facturing Practices). Here it is not essential whether added value occurs within a company or across companies. Distribu­tion takes place from the location that manufactures the last pro­duction level, or last operation. Required for this is, in any case, high value density as well as high customer tolerance time and low vulnerability of the (only) supply chain. The products tend to be standard products. Some examples here are electronic components, liquid crystal displays (LCD), consumer electronics, chemicals and pharma­ceuti­cals, fine chemicals, giant aircraft, standard machines, and standard facilities.

Fig. 3.1.1.2        Features of and design options for production networks.

The intermediate sector P2 describes the in-part centralized production for the local market. If semifinished items are produced centrally, and if the last value added steps are performed at decentralized locations, important econo­mies of scale or scope can be exploited while at once having proximity to market. Examples here are strategies for local end production for all consumer goods, such as “late customization” or “postponement” (see Section 1.3.3).

The intermediate sector P2 describes the in-part centralized production for the local market. If semifinished items are produced centrally, and if the last value added steps are performed at decentralized locations, important econo­mies of scale or scope can be exploited while at the same time having proximity to market. Examples here are strategies for local end production for all consumer goods, such as, for example, “late customization” or “postponement” (here see Section 1.3.3).

The intermediate sector P3 describes the in-part decentralized production for the global market. If the same components and/or end products are manufactured at different locations, and if at various production levels they can be moved to different locations and distributed globally, this brings advantages in the case of volatile demand as well as for a supply chain that is vulnerable to disruptions, in that the capacities in the network are utilized more evenly or can even substitute for one another. This makes sense, however, only for standard products with high value density and sufficient customer tolerance with regard to delivery times, such as, for example, for components or end products in the automotive industry, perishable foodstuffs, or important raw materials (such as steel).

There are, of course, mixed forms of production networks that lie between these four main designs. This is particularly the case when the characteristics are not significantly pronounced on the abscissa or ordinate of Figure 3.1.1.2.

Company Cases: When features for designing production networks change, it is appropriate to consider changing the production networks. However, the financial investments required often quickly set limits to changeability.

For example, the production costs of cement are on the rise today, due to rising costs of both energy and CO2 emissions (see the discussion of the triple bottom line in Section 3.3). As a consequence, value density increases, so that centralized production becomes more and more an option (i.e., option P3 instead of the traditional option P4). But that requires new cement works and additional logistics infrastructure for supply of raw materials and distri­bution of the cement. As an example, Holcim, a Swiss-based cement manu­facturer opened its new production plant in Ste. Genevieve, Missouri, in 2009, with its own port and loading facilities on the Mississippi. Production cost and thus value density increased, as the new plant is aimed to reduce CO2 emissions significantly. At the same time, the waterway network allows transportation to ten of the twenty largest cities in the USA at lower cost than before. Thus, a more centralized pro­duction concept became possible.

Increased demand volatility makes it necessary to produce two engine variants at each of two locations (option P3) instead of producing only one of the variants at each (option P1). Although this entails considerable investments for equipment, the result is much better use of the capacities. As an example, Daimler, a Germany based car manufacturer, produces its four and six cylinder engines in the USA as well as in Germany. The benefit of the flexibility to cope with volatile demand is greater than the cost for double toolsets and facilities as well as for transportation of some of the finished engines between the USA and Germany.

Increased necessity for economies of scale, due to massive competition, forced Hilti, a Liechtenstein-based manufacturer, to centralize the produc­tion of drilling machines, despite its “the construction site is the point-of-sales”-driven sales strategy. Today, each drilling machine type is produced at exactly one site (option P1). Here, each site holds specific technology competences. Different fastening consumables, however, continue to be produced in different factories, close to the local markets (option P4). Still, semi-finished items that need expensive or important technologies are produced centrally (option P2).




Course section 3.1: Subsections and their intended learning outcomes

  • 3.1 Design Options for Integrated Production, Distribution, Service, and Transportation Networks

    Intended learning outcomes: Explain design options for global production networks, distribution networks, service networks, and transportation networks. Describe the network structure for decentralized distribution, and design options for retail networks. Disclose the integration of the portfolios.

  • 3.1.1 Design Options for Global Production Networks

    Intended learning outcomes: Differentiate between centralized production and decentralized production. Present features such as demand volatility, supply chain vulnerability, economies of scale, demand for consistent process quality, customer proximity, market specificity of products, value density. Explain design options for global production networks. Describe some company cases.

  • 3.1.2 Design Options for Global Distribution Networks

    Intended learning outcomes: Differentiate between centralized distribution and decentralized distribution. Present features such as demand variety, need for efficient returns, degree of customer involvement in picking up. Explain design options for global distribution networks. Describe some company cases.

  • 3.1.3 Network Structure for Decentralized Distribution, and Design Options for Retail Networks

    Intended learning outcomes: Disclose the distribution network structure and describe decision variables in its design. Present features such as available time for shopping, and simultaneously, capacity of an available means of transport of the customer, as well as the required geographical catchment area. For decentralized distribution, explain: portfolio for designing retail networks retail networks.

  • 3.1.4 Design Options for Global Service Networks

    Intended learning outcomes: Differentiate between centralized service and decentralized service. Present features such as the mobility cost ratio of the service, the degree of customer involvement in bringing and picking up the service object, as well as the need for repeated transfer of the service object. Explain design options for global service networks for services in direct contact with the object. Describe some company cases.

  • 3.1.5 Design Options for Global Transportation Networks

    Intended learning outcomes: Differentiate between direct transport and indirect transport. Present features such as size or weight of the delivery, possibility of using an existing transport network, and need for merged transport. Explain design options for global transportation networks. Describe some company cases.

  • 3.1.6 Interrelation Between and Integration of the Portfolios of Design Options

    Intended learning outcomes: Describe the interrelation between and integration of the production, transport, distribution and retail network.