"Supply chains in many other industries suffer from an excess of some products and a shortage of others owing to an inability to predict demand. One department store chain that regularly had to resort to markdowns to clear unwanted merchandise found in exit interviews that one-quarter of its customers had left its stores empty-handed because the specific items they had wanted to buy were out of stock.
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Before devising a supply chain, consider the nature of the demand for your products.
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The first step in devising an effective supply-chain strategy is therefore to consider the nature of the demand for the products one’s company supplies.
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if one classifies products on the basis of their demand patterns, they fall into one of two categories: they are either primarily functional or primarily innovative. And each category requires a distinctly different kind of supply chain. The root cause of the problems plaguing many supply chains is a mismatch between the type of product and the type of supply chain.
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With their high profit margins and volatile demand, innovative products require a fundamentally different supply chain than stable, low-margin functional products do. To understand the difference, one should recognize that a supply chain performs two distinct types of functions: a physical function and a market mediation function. A supply chain’s physical function is readily apparent and includes converting raw materials into parts, components, and eventually finished goods, and transporting all of them from one point in the supply chain to the next. Less visible but equally important is market mediation, whose purpose is ensuring that the variety of products reaching the marketplace matches what consumers want to buy.
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The predictable demand of functional products makes market mediation easy because a nearly perfect match between supply and demand can be achieved. Companies that make such products are thus free to focus almost exclusively on minimizing physical costs—a crucial goal, given the price sensitivity of most functional products.
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That approach is exactly the wrong one for innovative products. The uncertain market reaction to innovation increases the risk of shortages or excess supplies. High profit margins and the importance of early sales in establishing market share for new products increase the cost of shortages. And short product life cycles increase the risk of obsolescence and the cost of excess supplies. Hence market mediation costs predominate for these products, and they, not physical costs, should be managers’ primary focus.
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Although the distinctions between functional and innovative products and between physical efficiency and responsiveness to the market seem obvious once stated, I have found that many companies founder on this issue. That is probably because products that are physically the same can be either functional or innovative."
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