Blue Star is hot on the logistics trail

Sometime in 2001, the Rs 568-crore air-conditioner maker Blue Star Limited took a hard look at its logistics model.

There were problems in every link of the supply chain. It showed in the fact that the stock turnover of finished goods was six to eight times annually (which means the stock is replenished in the godowns every 45 to 60 days), compared to a recommended 30 days.

As a result, inventory-carrying costs were nowhere close to what the company was aiming for.

"Logistics is one of the most important aspects of the business, but in Blue Star it was a weak link in the chain," says Satish Jamdar, executive vice president, Blue Star.

At present, barely six months after the company outsourced the logistics management of finished goods (air-conditioners, coolers and refrigerators) to the Mumbai-based logistics company, AFL, in February 2003, the company claims that stock turnover at its godowns has improved 12 times (i.e., stocks are replenished every 30 days) in Maharashtra and Goa. The company aims to increase the stock turnover to 24 times in a year (or every 15 days).

It is too early for Blue Star to gauge the impact of these measures on its financial performance. But it has projected savings worth Rs 93.8 lakh for this fiscal which will go to straight to the bottomline (2002-03 profits: Rs 31.04 crore).

Much of the gain to Blue Star will accrue from the streamlining of systems; but a substantial part will also come from the fact that it has outsourced its logistics management "" AFL for finished goods and Geologistics for spare parts. The savings comes from the fact that the infrastructure is shared with several other companies.

But it is the streamlining of systems that has taken up most of Blue Star's energies. Take the case of the company's spare parts distribution which was the company's first attempt at logistics outsourcing.

The company has established a "national parts centre" in Mumbai which takes orders from regional centres and delivers on time.

How does this help? The national parts centre basically cut the layers involved in the ordering process from three to one. Previously the service engineer would make a requisition to the branch office and the branch office made the requisition to the local supplier.

At present the orders for spares are directly routed to the national parts centre. The company says that as a result time of delivery has come down from 15 days in some cases to five days.

The upshot of this is that Blue Star expects sales of spare parts to increase from Rs 5 crore last year to Rs 20 crore by the end of this fiscal.

But why is Blue Star looking at the logistics operation in so much detail? After all, storage and transportation costs are just 3 to 4 per cent of sales.

That's because, as Abhijit Chaudhuri, senior general manager, materials and logistics, points out, reality can be quite different from what is shown in the balance sheets.

For example, while it's natural to assume the cost of hiring the warehouse, transportation (direct costs) and so on and add them to product costs, other indirect costs like security for the warehouse or electricity are clubbed under different cost heads like administration overheads.

Outsourcing, Chaudhuri points out, delivers the exact cost-to-serve like activity-based costing "" the method by which direct and indirect costs are added to the product cost to determine the exact profit.

"Outsourcing collects all the costs under one head. As a result the focus on costs is much sharper," says Chaudhuri.

But the improper appropriation of costs was just a part of the problem. The way Blue Star handled its spare parts distribution shows where the other problems lay.

Until 2002, the spare parts for the company's products were not standardised; procurement and logistics were decentralised among the company's 14 branch offices, each branch procuring its requirements from the local market.

This was partly because it took a lot of time for stock to reach from the company's factories "" 15 days at times, which was not acceptable for spare parts, at least. Points out a Blue Star executive, "Spares need to be delivered as an emergency."

So as the required spares were procured from dealers on a contingency basis, the source of material was often suspect, as spurious parts were easily available in the market.

There were problems in the handling of finished goods too. In the 22 warehouses that the company hired, consuming a total space of 55,000 square feet, there was little control over inventory management.

The company had 200 to 300 stock-keeping units or SKUs but 80 per cent of products in the portfolio were less than five years old. After these new products were launched, the number of SKUs had doubled.

Inevitably, old or damaged stock was relegated to the back of the warehouse. As a result FIFO principles (stock that enters the godown first, leaves the place first) were turned on their head.

Company executives point out this was partly because the warehouses did not have enough gangway (aisle space) and hence, new products were stored in front.

Naturally, it was difficult to shift the old stock ahead at delivery time. On an average, the excess material (including outdated and damaged stock) was 3 per cent of total stock.

Chaudhuri points out to other difficulties, like a lack of consolidation in planning at the factory-end.

For instance, all the branches would send orders to the factory for shipments. And dispatches were made as orders filtered in. The hitch was that the trucks that carried the load were not optimally utilised.

For example, the load carried by the delivery trucks was only 75 to 80 per cent of their capacity. "At times two half-loaded trucks left in the same direction on the same day," says a Blue Star executive.

The company claims that after outsourcing, optimum load utilisation of trucks is 100 per cent, barring instances of institutional orders that need to be delivered on a war footing.

How did outsourcing help the company improve utilisation of its trucks and cut costs? Because an outsourcing service provider offers infrastructure which is shared by 20 others.

As a result if only half the load on the truck is Blue Star's, the company has to pay only for the 50 per cent space occupied in the truck. Earlier the company would have had to pay for the entire truck.

But as Blue Star's experience proves, outsourcing can be a tricky experience even after paying attention to the details.

"Things work successfully if the transformation is done in a synchronised and step-by-step approach. The learning curve required us to change the way of working," says Chaudhuri.

Before initiating its outsourcing process, the company held meetings with employees across the branch offices to understand problems that cropped up in managing stocks.

Apart from problems like FIFO, even things like the access to the warehouse being cut off because of, say, slush at the entrance to the warehouse (goods were once held up for two days because of this) came to light.

The upshot of these meetings was a 29-point check list that formed the basis for the key performance indicators for the third-party service provider.

The check-list takes into account each stage of material handling, from the minute material leaves the factory to the time it reaches the gate of the warehouse and finally to the dispatch point.

Despite this, there were mistakes. Blue Star's execution team (set up to oversee the transition from company-managed to third-party-managed logistics) overlooked a simple factor.

It did not train the warehouse attendants of the third-party logistics service provider about its product portfolio.

As a result there were early issues like a mix-up over models if the two had similar packaging. "It's so strange, how much we take for granted," remarks Jamdar.

Then, the godowns of the third-party service provider could stack five boxes one on top of the other because of superior material-handling equipment which enables high stacking.

But this meant that Blue Star would have to change its packaging material so that the boxes could withstand the weight of several boxes on top without damaging the goods inside.

Despite these initial glitches, the company expects early results. In transportation, for instance, which cost the company Rs 4 crore, Blue Star executives project the costs to go down to Rs 3.2 crore at the end of the fiscal.

For example, the western region (Maharashtra and Goa) now consumes about half of its earlier space.

As the outsourcing model for finished goods, which is being rolled out across the country, ends in November 2003, the company targets even problems of obsolete stock to come down to 0.5 per cent from the current 2 or 3 per cent.

Though Blue Star has reaped some early gains from its logistics exercise "" it is considered a front-runner on this score "" the task for the company is still half-done.

In spare parts for instance, the company plans to set up 20 regional parts centres that will be fed by the national parts centre in the next six months (replicating the hub-and-spoke model that logistics service providers follow).

In raw material and incoming supplies Blue Star, much like its spare parts procurement, follows a decentralised material procurement for material like pipes in air-conditioning plants.

Chaudhuri says that consolidation in procurement of raw materials will lead to 15 per cent savings. Fiscal 2003-04 will be the company's testing point.