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Chains(excerpts)
Author:DurukanKalyoncu,Guldane
AcceptanceDate:June2012
Inliterature,numerouspublicationsonmanagingsupplychainsexistmostof
which
hasfocused
onthephysical
aspects
ofthe
supply
chains.
Although
the
bottom
line
is
very
important
for
managers,
there
arealimited
numberof
publications
that
combinethefinancialmanagementofsupplychainswiththephysicalmanagement.
Thosestudiesaddressthesupplychainfinancialperformancemeasurementwith
different
approaches
andmeasures;
oneof
which
hasbeenCashConversion
Cycle(CCC).
CashConversionCycleisametricthatmeasuresthetimeelapsedfromthepayment
dimensional
concept
that
incorporates
time
and
financial
considerations
schedulingwiththefinancialscheduling.
WhenthecomponentsoftheCCCareexaminedseparately;
the
Average
Payable
and
AverageReceivableTermsarerelatedtothecompanyfinancialpolicyandcontract
terms
betweensupply
chain
partners.
Ontheother
hand,
Inventory
Conversion
Period
dependsonthefirm’
ure
1assumesthattheinventoryis
in
retailer
’s
warehouseonthesamedaywith
order
placementto
the
manufacturer.
Also
itassumesthat
there
is
nooutbound
transportation
time
soonthe
daythat
inventory
leaves
the
retailer
’s
warehouse
it
is
received
by
the
customer
and
Accounts
dependsontheoptimalorderingquantity.
Inthesensethat,CCCisembracingAccountPayable,AccountReceivableand
InventoryConversionPeriod;firsttwoarerelatedtotimingofcashinflowsand
outflowsandthethirdisrelatedtofirm
’soperationspolicy,itisabridging
measurementbetweenoperationalandfinancialplanning.
Also,
since
CCCis
the
time
passed
fromcashoutflow
tocash
inflow,
it
measures
howlong
the
firm
needsoutside
financing.
Thusmanyscholars
(Farris
andHutchison
(2002),Soenen(1993),BintiMohamadandBintiMohdSaad(2010))statedthatthe
shorter
CCCthe
better
the
company
finances
are.
However,
there
are
some
complicationsregardingtheCashConversionCyclemetricapproachinfinancial
effortstohavecontroloverthestreamofcashinflowbymanagingpaymentterms,
these
cashinflows
are
mostly
probabilistic
dueto
unpredictable
conditions
of
the
downstream
players.
Onthe
otherhandcashoutflows
totheupper
layers
of
the
chain
isdeterministic;
2depictsthe
“downstream”and
“upstream”supplychainpartners.
Upstream
Partners
DownstreamPartners
Vendor
ManufacturerDistributor
Retailer
Customer.
Supply
Chain
Levels
Asseenfromthe
GuptaandDutta’s
study
(2011),
the
early
paymentof
the
debts
result
inthe
lowest
cash
outflow
at
thecurrent
period,
yet
it
does
not
necessarily
result
in
the
lowest
present
value
of
the
cash
outflow.
Thusmanaging
cashflows
in
anefficient
wayis
notaneasytask
taking
into
account
theprobabilisticinflowsinadditiontothetradeoffsbetweenpromptpaymentof
thedebt,whichreducestheamounttobepaid,andlatepayment,whichincreases
morecomplicated
for
supply
chains
with
has
ahugestrategic
importance
for
successful
operation
of
those
chains.
Nevertheless,
managingLeadTime,whichis
mostly
deterministic,
is
not
aneasytask
either
because
,LeadTime
reductionaffectsthecashflowsbyimprovingcustomerserviceandresponsiveness
to
demandshifts.
First
of
all,
LeadTimecompression
is
acostly
process
including
,inventoryholdingcostcan
bereduced
dueto
lower
requirement
for
safety
,
reducing
LeadTimereduces
the
Cash
Conversion
Cycle.
Asthe
CashConversion
Cycle
measureshowlong
thecompany’s
cash
istiedtoaccountspayablesandinventoriestillfulfillinganorder;shortening
the
LeadTimedecreases
cost
of
borrowing,
andalsoit
enables
the
companyto
deliver
theproductsorservicessooner;thusthereceivablecollection
periodstarts
manyscholarsworkedonLeadTimecompressioninsupplychains
suchasBeesley(1996)
andTowill
(1996)theyboth
ignore
theinvestment
costsneeded
to
achieve
neither
BeesleynorTowill
touch
the
cost
of
borrowing
issue,
but
rather
they
emphasizethe
indirect
financial
effects
of
time
reduction,suchasfastresponsetomarketandenablingamoreaccuratedemand
,mostofthesupplychainfinancialmodelingarticlesare
not
taking
into
account
the
time
flexibility
factor.
Asknown,
companies
canreduce
-Dayaand
Raouf’s(1994)studyfocusesontheLeadTimeflexibilityissuebystudyingthe
costsofLeadTimereductionalongwiththeeffectsontheinventorypolicysuch
asreorderpointandoptimalorderquantitywhichaffectsorderingandinventory
holding
costs,
their
studydoesn’t
modelawholesupplychain
wherethe
transactions
withupstreamplayersaretakenintoaccount.
Tosumup,inliteraturethereislackofacomprehensiveapproachforthe
’sincreasinglydynamic
companies
cannot
bemanagedwith
static
models.
Thus,predictive
integrated
models
thattakeintoaccountinstablefinancialmarketsandalsocapableofensuring
requiredliquiditywhileprovidingtimelyandefficientresponsetoordersis
,withthepurposeofbuildingacomprehensiveapproachthatembraces
timeandmoneyconsiderations
simultaneously,
ourstudy
uses
CashConversion
Cycle
asthe
decision
variable
with
respect
to
which
weassess
theFinancial
Performance.
Byusingproject-schedulingmethodsintimingoftheoperationsandpayments,our
studyaimstofindtheoptimalCashConversionCyclethatgeneratesthehighest
accumulatedcashattheendoftheone-yearperiod.
However,
in
our
modelcashinflow
is
probabilistic
thus
wedon’t
havecontrol
over
its
effect
onthe
optimal
someofthe
values
that
are
changed
inorder
to
find
the
optimal
CCCare
order
quantity,
reorder
pointandthe
LeadTime
andPayable
term.
Soour
study
starts
with
analyzing
the
issues
affecting
financial
managementof
supply
chains
andthen
covers
the
related
previous
workthat
the
model
the
mathematical
modelis
presented
withthe
objective
of
maximizing
the
accumulated
netcashattheendofaone-
inflow
and
outflows
and
Lead
Time
crashing
costs
simultaneously.
Finally
illustrative
example
and
sensitivity
analysis
are
presented
followed
bythe
conclusionpartsummarizingfindingsofthestudy.
Bullwhip
effect:
It
is
one
of
most
significant
reasons
of
supply
chain
inefficiency.
It
is
the
amplification
of
demandvariance
asthe
demandinformation
passesfromthelowerlevels(customers)ofthesupplychaintotheupperlevels
(manufacturers
level).
It
maybeseverely
destructive
forthe
financial
management
ofthesupplychainasawhole,particularlytheupperlevelsaretheonesmost
,knowingthattheforecaststheyretrievefromthelower
partners
are
not
onehundredpercent
accurate,
builds
safety
stock.
Thusthe
orders
totheupperlevelsincreaseasmoreandmoresafetystockisbuiltinthesystem,
whichleadstheuppertierstohaveanimpressionthatthedemandismorethanits
turn
leadsbigger
amplifications
in
the
upper
levels
asknownasthe
Bullwhip
Effect.
Demandforecast:Formaketostockinventorysystemsdemandforecastisthemost
important
aspect
of
production
time
increases,
forecasts
have
tobemadeforfartherperiods,
whentheaccuracyoftheforecastdecreases,firmsareforcedtokeepmoresafety
inventory
andthusincur
higher
inventory
holding
cost.
Onthe
flip
side
of
the
coin,
evenifafirmdecidestokeeplowinventorylevels,insuchablurryenvironment
thereis
high
probability
that
itfalls
short
in
responding
to
customer
orders
which
,byshorteningthe
supplychaincycletimetheentirechainbenefitsfromaccuratedemandforecast.
Costofborrowing/investing:Costofborrowingisanotherkeyaspectofthe
time
elapsed
overtheissuedateof
the
debt,
firms
should
ensure
collection
of
money
,
collectionperiod
’sprimarydeterminantisthecycletimesincethecustomers
usually
are
not
willing
to
paybefore
they
receive
the
product
unless
someincentives
suchasdiscountsareofferedinadvance.
Inventory
holding
cost:
According
to
Ben-DayaandRaouf’s(1994)
economicorder
quantity
(EOQ)model,
asLeadTimeincreases,
optimal
order
quantity
Q*increases;
thereforetheaverageinventoryheldbythefirmovertheyear,andcorresponding
,higher
obsolescence
costrelated
tohigher
levels
ofinventory
should
betaken
into
account
,opportunity
costis
another
side
of
theinventory
holding
in
the
sense
that
the
capital
is
tied
toinventoryratherthanothermoney-:
Firmscanshortenthetimeneededtoproduceanddelivertheproducts
tocustomersbutthiscanbedoneatacostknownasreductionorcrashingcost.
(decreasingfunction).
Crashingprocess
starts
with
the
longestlead
(processing)
timefor
theactivities
whichcorrespondstotheleastcost,thenastheLeadTimeisreducedthecost
,thetotalLead
Timecanbedecomposedinto
componentsdepending
on
the
amount
invested
in
reducing/crashingtheLeadTime.
CashtoCashcycle,whichisfirstdefinedbyGitman(1974)wasfurtherexamined
byGallinger
(1997)
asthelength
of
the
period
thatthefirm'soperating
cycleneeds
tobesu
;
“Youcanthinkoftheoperating
cycleasthenumberofdayssalesareinvestedininventoriesandreceivables''
(Gallinger,1997).AsseenfromGallinger
’sdefinitionlongerCashConversion
Cycles
damagecompanyfinances
in
terms
ofcost
of
borrowing/
financing
the
necessary
funds.
Thus,
shortening
theCCCis
akeymetric
for
the
companyfinancial
management.
Inthat
sense,further
analysis
of
the
CCCmadebySoenen(1993)
decomposesit
into
threesections:
Thelengthofthecredittermthatthecompanygetsfromitssuppliers,
Thelengthoftheproductionprocess,and
days
the
final
products
remains
ininventory
before
they
are
sold.
So,inthisstudywearegoingtoexaminetheeffectsoflead-timereduction;
inotherwordsshorteningthetotalleadtimealongwiththeoptimaltimingfor
AccountsReceivablesandPayablesonfinancialmanagementofthesupplychain.
Besides
reducing
the
CCC,LeadTimecompressionbenefitsthe
organizations
in
other
(1996)statesthat,theideaofquickresponseintheretail
environmentandthatofjust-in-time(JIT)inthemanufacturingarenaaretwo
importantaspectswhere
timereductionplays
oftime
in
marketing
is
vital
saysBeesley
and
adds,as
businessesbecome
more
and
more
competitive,
the
time
factor
becomesmorecritical.
Whatis
more,
according
to
him,
since
the
endconsumers
demandhighvariety
ofchoice,
retailers
todayshould
hold
minimalsto