This is the case of SMART Co., a small supplier of well-engineered components. SMART produces a range of products grouped into families. Production of one of the higher volume product families has been organised into a flow process made up of four steps, which follow one after the other in sequence. Changeover from one product to another is relatively simple, but takes around 10 minutes per machine. To minimise delays caused by changeovers, products tend to be made in batches. These batches move from one step to the next, where they queue on a first in, first out basis to be worked on, after which they move to the next step.

Key measures of the performance of this process are the utilisation of people and of machines. The objective is to keep utilisation of both as high as possible. In this situation, if people or machines are idle - and material is available - they are used to make something. Naturally it would not make sense to make just anything. Instead, the production manager has a feel for what is needed, and uses a forecast from the sales department to make an early start on products that it is considered will be required in the near future.

Fred Hollis, the Smart production manager, felt pleased with performance as he looked out across the factory. He was pleased because his machines and people were busy, there were plenty of finished goods on hand, which the sales team could use to supply customers, and there was stock to call upon if product demand increased. Everything seemed to be under control.

Changes to customer requirements

The motivation to change from the current system has been low in the past, as the process at SMART Co. is a reliable one, which has worked well for the company. The 'big three' customers, who take three-quarters of sales, tend to order the same things in similar quantities one week in advance of delivery. With a production lead time of three weeks, SMART Co. uses a forecast to schedule production and make sure that finished goods stocks will be available to meet predicted demand. Consistent demand means that forecasts are often close to real demand, so stockouts are rare. In fact, the only time this occurred was an incident a couple of years ago, when a key machine went down and a spare part took a long time to source. Current inventory levels now include safety stock to provide cover against a similar problem in the future.

When the company found that certain finished goods were selling slowly, the sales team was particularly good at finding a way to move them. Sometimes prices were cut; at other times sales used special promotions. If production was too high, or the forecast was a bit optimistic, then there were ways of selling surplus stock, and the sales team seemed to enjoy the challenge.

Recently, however, this well-understood position began to change. The main customers started to use a number of new strategies to compete with each other. First one and then a second of them announced that it will be reducing the call-off time for its products from one week to two working days. At the same time, they are all looking for a 5 per cent cost reduction, and are demanding quality improvements.

A 'traditional' reaction to customer demands for better service

The combination of demands for better services caused SMART management some concern. The obvious response to the changes in ordering patterns was to increase stock levels to cater for unexpected variations in demand. This approach had worked before when it was used to justify the safety stocks that covered production problems. It seemed worth trying again, so stocks were increased.

Things went well over the first few months, during which time delivery performance remained good, while the customers went ahead with their plan to reduce the order lead time. Keeping up with these orders provided the production manager with a few headaches. Preventing stockouts led to an increase in the number of batches being expedited through the factory. This disrupted the production plan, increased the number of machine changeovers, and lowered productivity. As a result, overtime increased in order to maintain output.

The higher level of inventory meant that quality problems were harder to detect. In one case a new operator missed a drilling operation. By the time the first customer discovered the error, nearly two weeks' worth of production had to be recalled and reworked.

The higher inventory levels were also taking up more space. Fred Hollis had submitted a requisition to the finance director to pay for more storage racking. The extra racks were necessary because existing ones were full, and parts stored on the floor were suffering occasional damage in an increasingly cramped factory. Some parts were recently returned by a customer, who felt that damaged packaging indicated damaged products. Naturally, Fred was concerned when his request for more storage space was turned down owing to spending reductions imposed in response to price cuts demanded by customers.

Reflecting on what had happened at SMART, the increase in stock levels had badly affected competitiveness. SMART Co. was experiencing the consequences of trying to forecast demand and using the forecast to determine what to make. Their 'make to stock' approach was responsible for:

• removing the company's ability to be responsive to changes in either quantities or product mix;
• increasing costs and making quality problems worse;
• burying underlying production problems under inventory, and thereby preventing efforts to uncover and resolve them.

In conclusion, while the company had been motivated by its customers to change, the direction it took seemed to have caused many problems.

Q1. Discuss the characteristics of the SMART production systems.

Q2. List the actions that SMART Co. took to respond to the new demands being placed on it by customers. Group your responses under the headings of stock levels, level of expediting, and storage space. Briefly describe the effects that these actions had on production performance.

Q3. Discuss the causes and impacts of higher inventory level for SMART co. What are your recommendations to overcome this (high stock level) situation?.