Advanced Inventory Optimization: Tough Nut, But Worth Cracking  ARC

Complexity of solutions may push enterprises toward outsourced, software-as-service arrangements to tap substantial ROI, advisory group says

Dedham, MA January 23, 2006 Advanced inventory optimization solutions are complex and difficult to use, but companies seeking to streamline their supply networks increasingly will turn to new options for taking advantage of these applications and reap substantial returns, according to a new ARC Advisory Group study.

"Traditional software markets sell software licenses," according to Steve Banker, the service director for supply chain management at ARC Advisory Group. "However, in this market, knowledge-based outsourcing and software as a service will be key growth drivers."

Banker is the principal author of ARC's report "Advanced Inventory Optimization Worldwide Outlook: Market Analysis and Forecast through 2010." In the report, ARC predicts that the worldwide market for advanced inventory optimization (AIO) will grow at a compound annual growth rate (CAGR) of 12.6 percent over the next five years, expanding from $99.2 million in 2005 to reach $179.6 million in 2010.

A Young Market

AIO is still a young, small market that requires educating potential customers of the significant benefits that advanced inventory optimization offers over competing types of solutions and processes for setting inventory targets, according to ARC. AIO delivers targeted customer-service levels with the minimum amount of network inventory, the analyst firm said.

AIO solutions are a type of supply chain planning (SCP) solution. However, the optimization is different from that found in traditional SCP systems that contain a single stage inventory calculator designed to determine inventory targets for only a single node in the supply chain at a time.

Single echelon solutions are suboptimal because they do not take a holistic approach to network inventory optimization, ARC asserted. Rather than calculating safety stocks for a single supply chain node, AIO solutions simultaneously calculate where and how much inventory should be held across the network of locations at which inventories could be held.

New Business Models Come to Supply Chain Planning

AIO is a complex solution. The math is almost impossible to understand even for those who have a good understanding of statistics. This makes the solution difficult to sell, ARC said. Once sold, it can be difficult for users to drive value from AIO solutions on an ongoing basis. According to Banker, "This type of solution is not well served by a traditional software license and service model." Consequently, for the AIO market, ARC is projecting much faster growth from the "knowledge-based outsourcing" (KBO) and "software as a service" sales models.

Knowledge-based outsourcing involves outsourcing all or some portion of a planner's function to an outside party. As opposed to traditional business process outsourcing such as outsourcing repetitive tasks to a call center to India, for example knowledge based outsourcing involves outsourcing a function that requires knowledgeable and skilled workers. The software itself is designed to be used by planners that are analytical, have the pertinent product and company domain expertise, and "have a passion for the business." The software does not, however, require users to have a Ph.D. in operations research or statistics. Nevertheless, many companies will find that they can benefit from knowledge-based outsourcing partners to regularly search for outliers and data anomalies, keep the software properly parameterized and engage in strategic planning perhaps in conjunction with other complex tools such as network design.

In the software as a service model, the software is leased rather than purchased outright by the user. Software as a service can be a potent sales tool for applications with high return on investment (ROI) such as advanced inventory optimization. According to Banker, "When I asked one company how long their payback period was following implementation, they said they had received full payback prior to the implementation." When asked how that could be, they explained that the AIO supplier came in and entered their data into the software to do an analysis of potential savings. Once the 'bake off' was done, the supplier hosted the solution and provided inventory targets while the implementation began. Twelve weeks later the implementation was complete, but the solution was already paid for prior to the company's version of the software going live."

More information is available on this study at http://www.arcweb.com/research/ent/aio.asp. The study includes profiles of 16 of the major suppliers servicing this market.

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