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Spackling: Smoothing Make-to-Order Production of Custom Products with Make-to-Stock Production of Standard Items Kyle Cattani The Kenan-Flagler Business School UNC Chapel Hill Chapel Hill, NC 27599-3490 (919) 962-3273 [email protected] Ely Dahan Anderson School at UCLA 110 Westwood Plaza, B-514 Los Angeles, CA 90095-1481 (310) 206-4170 [email protected] Glen Schmidt The McDonough School of Business Georgetown University Washington, DC 20057 (202) 687-4486 [email protected] July, 20031Abstract Consider a firm that makes custom products requiring flexible production resources and also produces standard items that are manufacturable in either an efficient or a flexible facility. We evaluate two options: produce the standard items in an efficient plant and make the custom variants in a flexible plant, or make everything in one flexible facility using a strategy we call spackling. With spackling, the firm first manufactures custom products as demanded each period, and then fills in, or spackles, the production schedule with make-to-stock output of standard products to restock inventory. Management can readily see the unit cost savings offered by the focus strategy, but may less readily note the lower amortized fixed cost that spackling yields by making better use of capacity. We evaluate this trade-off from a joint marketing / operations perspective. Near-optimality is achieved when operations sets capacity and marketing independently but cooperatively sets prices. In this case, under our logit-based assumptions, all products get the same absolute dollar markup. We illustrate our framework with data from a messenger bag manufacturer.2Spackling: Smoothing Make-to-Order Production of Custom Products with Make-to-Stock Output of Standard Items 1. Introduction Timbuk2, a San Francisco manufacturer of messenger bags, recently introduced an Internet site where customers configure and order a customized laptop bag direct from the manufacturer. This direct channel takes advantage of Timbuk2’s flexible manufacturing capabilities and complements the firm’s traditional retail channel where pre-configured (standard) bags are sold. In particular, Timbuk2’s flexible San Francisco factory can produce rapidly a bag of any configuration and deliver it within days. Timbuk2 considered producing the standard make-to-stock (MTS) bags offshore, in order to reduce production costs. While the off-shore capacity is less expensive, it is unable to fill demand for the customized make-to-order (MTO) bags in a timely manner. (We use the term MTS to refer to production in anticipation of demand, with output being added to inventory, and MTO to indicate that production fills specific end-customer orders after they are received.) Senior management wondered what overall effect a shift to off-shore production of standard bags would have on manufacturing cost and demand for both the standard bags and the custom units produced domestically. Ultimately, of course, Timbuk2 was concerned with profitability. This paper developed as we sought to analyze Timbuk2’s situation. Should it utilize efficient (off-shore) capacity? Or, should it continue to produce standard off-the-shelf MTS bags using the flexible San Francisco plant, thereby establishing a mix of MTO and MTS in the same factory1? Under the latter option it could implement a strategy we call spackling2, where it first makes custom MTO bags as demanded each period, and then fills in, or spackles, the production schedule with standard MTS products, to restock inventory. What are the optimal prices in the two channels? How many customers are expected to buy standard products through the traditional retail channel, and how many are expected to buy customized bags via the Internet? 1 At Timbuk2, standard and custom products are associated with retail stores and internet sales, respectively. In reality, the distribution channel and product type need not be linked – it could also sell standard bags directly to customers and customized bags through retailers. The analysis would be similar. 2 The American Heritage® Dictionary of the English Language: Fourth Edition 2000 defines spackle as “A trademark used for a … paste designed to fill cracks and holes in plaster before painting or papering. This trademark often occurs in lowercase and as a verb…”3These questions are not unique to Timbuk2 and are strategic in nature. For example, senior managers at automobile manufacturers have been talking for a decade or more about the five-day car, where a large portion of cars would be produced only after orders are received, shipping within five days of the order. How might automobile manufacturers deal with day-to-day demand uncertainty if they implemented the five-day concept? Would they continue to produce cars for stocking at dealers in the same plant where they make the five-day cars? Or would they use separate facilities dedicated to the different production types? How much capacity would they need? How would they price the five-day car versus cars to be sold off-the-lot? As another example, consider questions of keen interest to senior management at Dell Computer. Dell focuses on a single direct channel and must determine the optimal pricing and production strategies for segments such as mass customized desktop personal computers. Should Dell use off-shore production for long-lead time customers along with local capacity for short lead-time customers, or should it use local capacity for both? How should Dell price in the different segments, how much demand should it expect, and how variable will demand be? To address these questions, we consider an operations decision that involves two types of resources: efficient capacity and flexible capacity. We define a focused strategy as one that uses both types of capacity: in the efficient plant it focuses on making standard items via MTS, while in the flexible facility it focuses on producing custom items as MTO. In contrast, a spackling strategy involves only flexible capacity (efficient capacity is set at zero). With spackling, the firm’s first priority in any given period is to produce custom products via MTO. However, order patterns for custom products are bumpy (uncertain), yielding an undesirable production profile compared to smooth schedules that would allow for higher capacity utilization. Thus the firm uses the same (flexible)


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