Procter & Gamble's Streamlined Logistics Initiatives
By Ralph W. Drayer -- Supply Chain Management Review, 6/1/1999
Excellence in supply chain management is an important component of corporate strategy at Procter & Gamble. The company has been in the forefront of implementing superior supply chain practices in concert with its suppliers and customers—practices that have led to savings across the entire supply chain spectrum for the benefit of the end consumer. The leadership position in the Food & Consumer Package Goods (F&CPG) industry is widely recognized, as the latest industry survey by the research firm of Cannondale Associates attests. (See Exhibit 1 on page 34.)
This article will show how Procter & Gamble has used best practices in supply chain management to complement and strengthen its brand management. Particular emphasis is placed on a series of logistics initiatives launched in support of its Efficient Consumer Response (ECR) strategy. To date, the worldwide initiatives described here have generated more than $325 million in supply chain savings and more than $400 million in improved cash flow.
Confusion in a Changing Industry LandscapeHistorically, product movement and sales in the F&CPG supply chain have been driven by promotional pricing and forward selling.
Promotional pricing would provide an economic incentive for the retailer or wholesaler to purchase a product line from a particular manufacturer. In turn, retailers often would discount the prices to consumers. In fact, the entire channel—starting at the consumer and extending back to the manufacturer—was conditioned to expect a discounted product price.
For some products the discounted price was the standard rather than the exception. Brand image and loyalty were eroded as consumers became conditioned to expect a discounted price even for premium brand products. Promotional pricing also took the focus off of the consumer. P&G salespeople and trade buyers would devote endless hours to negotiating and battling over fractions of percentage points in acquisition price, rather than focusing on how to meet consumer needs better.
Forward selling is another traditional way of moving product through the channel. Through this common industry practice, a manufacturer offers a substantial discount to encourage wholesalers or retailers to buy a large quantity of goods. Manufacturers justified this practice under the assumptions that (1) large block sales enabled the manufacturers to achieve economies of scale and (2) large block purchases by the distributors and retailers effectively would prevent them from purchasing competitive goods from another manufacturer.
Special promotions led wholesalers and retailers to forward-order as much as three months' supply of some products to take advantage of favorable terms. P&G estimated that one-third of existing inventory was held in the pipeline between its plants and the consumer. Forward selling was responsible for retailers' and wholesalers' purchasing huge quantities of goods on promotion, only to sell them to consumers over an extended period of time. The products purchased on promotion that did not sell were diverted to other markets. This further extended their age, while adding costs. And consumers notice the aged products. Every second or third trip to the store, four out of 10 shoppers find an item they consider too dated to buy, according to industry surveys.
In the late 1980s and early 1990s, P&G determined that swings in its product pricing were in large part responsible for enormous inefficiencies in its own distribution system—and throughout the entire grocery supply chain. These pricing swings were the result of product "special promotion" push offers intended to gain temporary market share quickly.
Compounding the problem, the industry in recent years has experienced extraordinary product proliferation. This has created product confusion for consumers and substantial product-management challenges for retailers. The average U.S. grocery store today carries about 31,000 SKUs—an increase of 20 to 50 percent since 1993. This proliferation took place during a period when the average shopping trip's duration declined by 25 percent. In short, shoppers with less time than ever had more products than ever from which to choose.
Ironically, although the majority of consumers never buy many of the products on the shelves (22 percent of the products in the industry move at a rate of less than one item per month per store), manufacturers pump about 1,200 new items into the system each year. Most are not even entirely new products. In more than three out of four cases, they are line extensions to existing brands. Only about one-third of these new items sustain sales rates beyond the traditional introductory 26-week period.
The 19,000-plus UPC (Universal Product Code) changes made each year as a result of conversions, changes to existing brands, and seasonal or test market items bring additional product-management challenges.
The industry has great reason for concern as many consumers cannot consistently select the items that best meet their needs. This product confusion decreases consumer satisfaction and erodes loyalty to stores and to manufacturers' brands.
The following illustration underscores the point. Procter & Gamble conducted a test among a study group of Always consumers. They were given the actual product (a feminine hygiene pad) and asked to find a corresponding Always package on a grocery store shelf. Approximately two-thirds of the consumers selected the wrong package from the shelf.
Equally disturbing were the results from the second phase of this consumer study. P&G product research managers identified which particular variation of Always was most appropriate for the individuals in the study group. They then looked to see whether those consumers actually self-selected the particular Always item that was best for them. In the vast majority of the cases, the product variation determined most appropriate by P&G was different from the Always item selected by the consumer. This situation, of course, has implications for brand loyalty. If consumers are not using the product variation that is right for them, they could lose faith in the brand altogether.
The company realized that the proliferation of product, pricing, labeling, and packaging variations necessitated by extensive promotions translated to an explosion of SKUs and UPC changes. This further burdened the order, shipping, and billing activities throughout the supply chain—without producing value for retail customers or consumers. In addition, the bloating of the supply chain with product, together with the proliferation of product variations related to promotions, increased manufacturing costs by generating erratic demand patterns.
Exacerbating the problem was a common outlook among many manufacturers in the Food & Consumer Package Goods industry, including Procter & Gamble. That is, they rarely viewed their customers as business partners. Furthermore, the corporate leaders in this industry did not consider logistics and supply chain management to be strategic.
The prevailing attitude often was reflected in P&G's view of its trade partners as hurdles that had to be cleared to reach the end consumer. These retailers and wholesalers traditionally were approached with a single-point-of-contact mentality. Typically, the retail or wholesale customer would have a simple interface with a different P&G salesperson from each of the company's five main business sectors. The salespeople, for their part, had limited interaction with anyone at the customer organization other than the buyer, or perhaps the buyer's boss. Even more problematical, this individual sales representative had even less contact with his or her colleagues representing other P&G business sectors at the same customer.
The P&G representatives and the retail or wholesale customer spent countless hours in unproductive debates about allowances, rebates, stocking fees, and retail assistance. Rarely did the consumer enter into those discussions. For instance, when new items were introduced, the first question was not whether the consumers wanted them, but rather whether stocking or shelving fees would be paid. Promotion discussions did not begin with the key question: "What can we do together with this promotion to delight our most loyal shoppers?" Instead, the talk usually turned to the availability of additional merchandising funds. The conversations about out-of-stocks did not center on improving inventory management or reducing cycle time to give shoppers better value and fresher products. More often than not, they were arguments over how many manufacturer-supplied sales representatives would be available for filling the out-of-stocks or resetting the shelves.
Little in these interactions could be considered strategic in nature. The recurring scenario was "win-lose" negotiating back and forth, rather than committing to work together to satisfy consumers better.
To sum up, during the late 1980s and early 1990s, Procter & Gamble recognized that its Food & Consumer Package Goods supply chain faced several major challenges:
- Product proliferation that confused the consumer and challenged the trading partners.
- Unproductive forward-selling practices.
- Confusing and complex price and promotion programs.
- Inefficient logistics management practices.
- Failure of senior management in the industry to recognize supply chain management's strategic importance.
- Little consideration for the consumer.
- Customer interface along a single dimension—that is, a sales representative.
In response to these challenges, P&G launched a number of supply chain initiatives—some of which included dramatic policy changes. As early as 1985, the company had initiated tests using retail customers' own daily data on their warehouse shipments and retail sales to determine P&G product shipments. These tests led to the institution of a program known as Continuous Replenishment (CRP). Using electronic data interchange (EDI) for automatic and reliable capture of customers' daily sales, P&G was able to approximate a "just in time" supply of products through the pipeline.
The P&G leadership recognized, however, that the EDI and CRP program—though steps in the right direction—by themselves would not result in the desired supply chain efficiencies. That realization led to the Value Pricing and Streamlined Logistics initiatives, created to support the company's Efficient Consumer Response strategy.
Supporting ECR Through Value Pricing and Streamlined LogisticsIn 1992, the Uniform Code Council, Grocery Manufacturers of America, Food Marketing Institute, National Food Brokers Association, and the American Meat Institute joined forces to develop a comprehensive program called Efficient Consumer Response. The goal of ECR was to drive costs that did not add value for consumers out of the supply chain.
Efficient Consumer Response emphasized jointly improving the efficiency of the total grocery supply system, instead of focusing only on individual components. ECR incorporated four key strategies to reduce total system costs and improve the value to the consumer. These strategies were efficient replenishment, efficient assortment, efficient product introduction, and efficient promotion.
- Efficient replenishment, at its simplest, is just-in-time inventory management. Because the replenishment process is driven by consumer demand, this strategy reduces retail out-of-stocks while increasing inventory turns.
- Efficient assortment focuses on reducing duplication of SKUs while maintaining the optimal product assortment to meet customers' needs.
- Efficient product introduction is an extension of efficient assortment to include new-product development. Through this strategy, consumer needs become the criteria for introducing new product to the supply chain.
- Efficient promotion enables the success of the other three ECR strategies by improving efficiency along the supply chain and building consumer loyalty.
Value Pricing Initiative
In a major ECR-related policy shift instituted between 1992 and 1994, P&G moved away from promotional push tactics and adopted a new strategy for maximizing pull from the consumer end. This was called the Value Pricing Initiative. Under value pricing, a significant portion of trade promotion funds were reallocated into attractive lower everyday list prices.
The move to value pricing brought with it multiple benefits. For one thing, it ended the need for the forward ordering that had stuffed the pipeline full of inventory. Value pricing also eliminated the need for a complex array of SKUs linked to promotional variations in product, packaging, labeling, and price. It ended any confusion among brand-loyal consumers as to the value of a P&G brand. And importantly, although value pricing did reduce sales revenues initially, it directly increased profitability. With the old promotions approach, by contrast, the incremental revenue generated did not cover the costs of those promotions, Procter & Gamble now believes.
Streamlined Logistics I
In addition to the Value Pricing Initiative, P&G was the first manufacturer to introduce activity-based pricing initiatives to support the ECR strategies. These were known as the Streamlined Logistics programs—SL I and SL II.
The objective of SL I, launched in 1994, was to enable Procter & Gamble to operate as a single, integrated company with one set of trade terms across all five of its business sectors (laundry and cleaning, paper goods, beauty care, food and beverages, and health care). Because P&G had acquired businesses and established different ordering requirements and terms over the years, the ordering and billing requirements became unnecessarily complex. Prior to 1994, each of the five retail operating divisions maintained separate pricing and promotion policies. Streamlined Logistics I began to simplify pricing and trade terms across all categories.
Prior to this initiative, the company did not allow customers to purchase all P&G brands together for delivery on the same truck. Some customers might go several days without receiving an order, only to have several trucks with P&G orders arrive at the receiving dock at the same time on the same morning. Different product categories were shipped on different trucks with different invoices. The trade promotion program was so complex that more than 27,000 orders a month required manual corrections. This represented fully 25 percent of all monthly invoices. (Today, that figure is below 6 percent.) Processing a single invoice cost P&G customers anywhere from $35 to $75.
The separate pricing and promotion policies, coupled with the noncoordinated management of logistics activities across the five business sectors, resulted in as many as nine prices per item and order quantities of less-than-full truckload. Customers must have felt overwhelmed by the price variations. Retailers and wholesalers were receiving an average of 55 price and promotion changes per day. This confusion in pricing proved expensive for P&G; the company's Credit Department was receiving more than $400 million of unauthorized deductions per year.
SL I was designed to simplify pricing, standardize ordering, and reduce invoices and system errors for P&G and its customers. The company worked with its channel partners to develop a new pricing structure that had fewer price brackets and standardized payment terms across all brands in each of the business sectors. The simplified pricing created two basic tiers for all categories, replacing the four or five different pricing formulas for each category. Under the Streamlined Logistics I simplified structure, P&G customers paid based on total product line quantities ordered.
As part of the initiative, a new distribution system was implemented that allowed customers to buy and receive all P&G products together on the same truck—regardless of which business sector manufactured the brand. The results were dramatic. Pricing discrepancies have dropped over 60 percent to date and reworked orders (orders that were inaccurate and had to be resubmitted) have declined by 80 percent. The reduction in reworked orders is attributable to the simplified pricing structure and more efficient order sizing. This, in turn, has resulted in full-truckload quantities being shipped 98 percent of the time.
Customers now can manage inventories more effectively because they receive the quantity of products they need when they need them. They experience fewer stock-outs, too. And those that ship in full truckloads have improved their acquisition costs and reduced the number of invoices handled anywhere from 25 to 75 percent.
The savings from Streamlined Logistics I have been enormous. To date, P&G has saved more than $100 million as a result of this initiative, which has benefited the entire channel. Most of the savings have been passed along to the consumers in the form of lower prices. Trade customers have realized substantial savings from reduced inventory investments, lower acquisition costs, and the reduced administrative expenses associated with simplified pricing structures and order processing. The consistent, lower prices have built P&G brand loyalty among consumers as well as among the retailers, which now can provide their customers with stable, lower prices.
Streamlined Logistics II
The Streamlined Logistics II initiative was introduced in 1995 to reward customer implementation of ECR best practices with Procter & Gamble. SL II gave customers an incentive to take non—value-added costs out of the supply chain by creating a new "Streamlined Logistics Price." This was approximately a half a margin point below the previous best price. Whereas Streamlined Logistics I focused mainly on changing practices internally, SL II was aimed at encouraging trading partners to adopt best practices. While the first initiative sought to eliminate inefficient ordering and logistics processes, SL II concentrated on changing value-destroying pricing policies and purchasing activities.
The input from trade partners pointed to a significant opportunity for improving the delivery system. In fact, the transportation industry at the time viewed the grocery delivery system as among the least efficient in the United States. Delivery and unloading of freight often was delayed by several hours and carrier drivers had to unload their own trucks. The time spent unloading a truck at a customer warehouse averaged over four hours—more than twice the average in other industries.
With streamlined pricing, SL II rewarded customers who adopted highly efficient logistics practices such as two-hour carrier turnaround, on-time customer pickup, electronic purchase orders and invoicing, use of the CHEP pallet pool, and ordering in unit-load quantities.
A majority of customers have implemented the SL II program practices. Today, more than 80 percent of P&G's volume has shifted to the Streamlined Logistics Price. In excess of 95 percent of all product volume now moves on CHEP pallets and more than 80 percent of the volume is handled via EDI purchase orders and invoices. The EDI ordering and invoicing allows P&G and its customers to automate those processes, thereby improving the delivery system's speed and accuracy. Tightly scheduling pickups, unloading trailers faster, and using the CHEP pallets further improved the delivery process.
As with Streamlined Logistics I, SL II produced significant economic benefits. In addition to improving order quality and expanding electronic payment, the initiative cut unloading times by an average of 2.25 hours. In total, customers save more than $44 million per year through the improved efficiency practices of SL II. The improvements enabled by the Streamlined Logistics II initiative are summarized below:
Streamlined '97
In 1997 P&G began its third Streamlined Logistics initiative. "Streamlined '97" was directed at reducing the costs associated with damaged merchandise in the supply chain. A task force sponsored by the Food Marketing Institute and Grocery Manufacturers of America determined that damaged merchandise costs would approach $4 billion in the United States by the year 2000. P&G alone in 1996 inspected more than 18 million damaged items. This is a huge number—even though P&G's damage rate is less than half the industry average. Each of those 18 million items had to be counted at least twice in the supply chain—once at the store and once at the reclamation center.
Streamlined '97 addressed the root causes of inefficiencies associated with unsaleable-product management, small slippage and damage claims, refusal of shipped-as-ordered product, and transition activities connected with phasing out or introducing product. As part of the initiative, a Logistics Development Incentive was established to cover product damage for which P&G was responsible. LDI replaced the old item-by-item damage inspection programs with flat-rate compensation to retailer customers. The LDI audit process eliminated the need for 100 percent inspection at reclamation centers. Instead, the compensation rate is based on statistical audits of the shipping and delivery processes from P&G plants through the customers' distribution centers and on to the retail shelf. Thus, customers no longer need to count or move damaged product to be compensated.
The program has been widely embraced. In the first three months after its introduction, customers representing more than 90 percent of the U.S. volume had signed up to participate. The Logistics Development Initiative inspired P&G's business units and their trading partners to work aggressively to implement their own damage-reduction plans.
The results of Streamlined '97 have been immediate and substantial. To cite two examples, in just one year the respiratory product line category experienced a damage rate reduction of 40 percent, while damage rates in the dish-care category dropped 24 percent. Overall, P&G's damage levels (expressed as damaged products and discounted returns) have decreased by almost 25 percent. This represents an annual savings to the company of more than $15 million.
Customers are using the savings from Streamlined '97 to increase consumer value and drive incremental volume. For instance, Costco, one of the largest U.S. customers, used a portion of its Streamlined '97 savings to increase merchandising on Crest toothpaste, thereby doubling Crest's monthly volume.
The Customer Business Development TeamsCustomer Business Development Teams have played a central role in the success of the Streamlined Logistics initiatives. With the emergence of these teams in recent years, there is one unified, highly capable team of P&G people from sales, product supply, marketing, finance, and systems for each major customer. P&G today goes to market as a single company—not five different business sectors acting independently, with a single salesperson serving as the exclusive interface with the customer. The Customer Business Development Teams have simplified the interface. They are creating consumer value through a comprehensive approach to making, delivering, and selling the product.
The cross-functional teams of customer-focused professionals are led by a manager with true general management capabilities. Within those teams, P&G's financial resources work with the customer's finance managers. The P&G information systems managers interact with their customer counterparts to improve the systems that will support the agreed-upon business plans. Similarly, the team's logistics managers work with their peers in the trade to identify opportunities for improved replenishment processes. To date, the team approach has generated more than $200 million in logistics savings for customers in North America.
The Customer Business Development Teams have taken a strategic orientation. Specifically, they are helping customers drive profitable volume growth in P&G's product categories by better satisfying consumer needs. The team approach enables the company to work with trade customers in identifying mutually beneficial opportunities and ways to add consumer value. For instance, one team's effort with a major mass merchandiser led to a reduction in P&G inventories and a more consumer-responsive product assortment. The revised product mix resulted in an 8-percent increase in the mass merchandiser's profit margin on the P&G line. Some of this gain was net to the retailer's own category profits; some was passed on to the consumers in the form of lower prices.
The marketplace recognizes the value of the Customer Business Development Teams, as reflected in the survey by Cannondale Associates. (See Exhibit 2.) Procter and Gamble is committed to ensuring that the teams constantly strive to create additional value for customers and consumers.
Tallying the Results
The notable successes in this arena have encouraged much of the industry to adopt systems and procedures that complement P&G's supply chain initiatives. To cite one example, the company has sold its Continuous Replenishment system to IBM, which has made it available broadly to the industry. The belief is that by making CRP an open standard, the entire industry will benefit.
Viewed in total, the positive changes brought on by ECR implementation have resulted in remarkable progress industrywide. Overall average operating income for the trade in 1997 was up from 2.5 to 2.8 percent. Return on assets increased from 3.5 to just under 4.0 percent, and return on equity advanced from 13.2 to 16.3 percent. Inventory turns increased from an average of 10.7 to 12.5. And average net profit margins for the supermarket industry reached a 25-year high of 1.22 percent of sales last year, according to the Food Marketing Institute.
Through the supply chain initiatives, P&G reduced its own product costs by more than $2 per case between 1990 and 1997. This represents savings of $2.5 billion. Thanks to value pricing, volumes are growing two to three times faster than before the initiatives were introduced. Total finished-product logistics costs have dropped by 5 percent in the past four years. Total finished-product inventory has been reduced by 10 percent in the past three years. Order-management administrative costs at P&G are down by $20 million. Supply chain efficiencies have enabled the company to reduce plant and related employment costs. Customer service has increased, as perfect orders have risen from 75 percent to 90 percent over the past five years. And consumer loyalty to P&G brands has increased measurably.
Total market share for P&G went from a low of 24.5 percent in 1992 (when the company's supply chain reengineering initiatives began) to nearly 28 percent in 1997. Shareholder value has been enhanced significantly, too. The company's return on equity from 1995 to 1997 averaged 38 percent. This compares to an average of 21 percent over the 10-year period prior to 1997. Finally, the net profit margin increased from 6.4 percent in 1992 to 9.5 percent in 1997.
The results are indeed impressive. But beyond the numbers there's an even more compelling story. The supply chain initiatives launched by Procter & Gamble have had a powerful impact well beyond the company's own organization. The trading partners are seeing major improvements in their operations, service levels, and profitability. And consumers—the ones who drive the whole supply chain in the first place—are receiving greater value on each and every shopping trip.
Author's note: This article is dedicated to the many men and women of P&G's Product Supply organization and the Customer Business Development Teams who helped develop, implement, and manage the strategies described here. The author also would like to acknowledge the assistance provided by Jonathan D. Whitaker of Andersen Consulting.
| Base: | Goal | Actual | Actual | % Change | |
| January 1996 | 1995/1996 | June 1996 | June 1997 | Base to June 1997 | |
| Unload times | 100 | 57 | 48 | 41 | - 59% |
| CHEP pallets utilization among customers | 100 | 110 | 116 | 119 | + 19% |
| Customers using EDI - purchase orders | 100 | 130 | 135 | 150 | + 50% |
| Customers using EDI - invoices | 100 | 140 | 150 | 170 | +70% |
| Author Information |
| Ralph W. Drayer is vice president of Efficient Consumer Response for Procter & Gamble Worldwide. He is a member of the Supply Chain Management Review Editorial Advisory Board. |
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