Distribution Network Optimization: Modeling Tools Won’t Give You the Answer

Distribution network optimization has become a white-hot topic these days as “the Amazon effect” leads businesses to evaluate how quickly they can get products to customers. 

Warehouse optimization modeling exercises examine the upside of being closer to customers versus the downside of carrying more inventory in more locations.  The biggest mistake companies make in this area is relying too much on the modeling software itself to provide an answer to the question: “How many warehouses should I have and where should they be?”

In fact, there are many other practical questions to consider that are beyond the constraints of the tool.

DC Network Optimization: Historical View

Let’s first look at the issue of distribution network optimization from an historical perspective. 

Traditionally, when companies considered network expansion or changing warehouse locations, they looked at how much the move would increase inventory carrying costs versus how much it would reduce transportation costs.  It was very much a logistics-driven decision, and the emphasis tended to favor staying lean and reducing inventory in the network. 

Today, as eCommerce sales make up a higher and higher percentage of total sales, Marketing has a seat at the decision-making table. Because of that, distribution strategies place much more weight on customer service and the impact of delivery speed on keeping and increasing revenue.  The pendulum is definitely swinging more toward getting closer to customers and reducing order-to-delivery time. 

Practical Advice on Optimizing Your Warehouse Network

Network optimization studies make a lot of sense if you have not examined your distribution strategy in a while.  But they involve considerable data gathering work.  Thankfully, the serious number-crunching can be done by one of the many excellent tools available on the market for just this purpose. 

Unless you are a very large organization, you don’t have access to such modeling tools and will likely be leaning on an outside consultant or your 3PL to assist with this analysis. 

One word of caution: the tool will provide only part of the answer. Its value is in swiftly sifting through and analyzing the millions of data points you feed into it.  If you ignore the many other practical considerations of warehouse network expansion, you may end up with another dust collector for your office shelf or, worse, a failed strategy. 

Here are just some of the practical issues that should be examined as part of any distribution network optimization study:

• Labor Availability. In a low-unemployment economy, you need to make sure that your “optimal” distribution market has quality workers to man your new DC.  Take Reno, Nevada.  For years, companies saw a Reno warehouse as a safe haven from California’s inventory taxes – until they realized that Reno has a very transient workforce. To make matters worse, winter snowstorms there prevent containers from traveling from West Coast ports over the mountains to Nevada. 
• Freight Capacity. Rural locations may offer lower land and storage costs, but if your new DC is far from major transportation lanes, your cost analysis should consider the premium you may pay for trucks to service the location. 
• Parcel Shipping Costs. If your shipping mix skews toward parcel freight, you will want to give greater weight to mile reduction in your analysis. Parcel costs represent the dominant share of overall fulfillment costs.  If expanding your warehouse network helps reduce or eliminate high-zone parcel moves, you can save millions in transportation costs. 
• Future Flexibility. If you rely on 3PLs for your distribution, consider working with a partner that has a national warehouse network and can grow with you within its own network. This can ease the administrative, management and systems burden of working with a number of different 3PLs in different markets. 
• Detailed Financial Analysis. The modeling tool will take care of some of this work, but you’ll want to dig into the details here to develop a document that C-suite executives, particularly your CFO, understands and trusts.  That means an analysis that considers the working capital invested (inventory and buildings) and any obligations that may exist (current leases, 3PL contracts). 

Distribution network optimization studies have the potential to dramatically improve your competitive position – especially if your customer base and ship-to points have changed significantly since your existing warehouse network was designed.  But a large percentage of such studies end up as shelfware because they’re run as theoretical, rather than practical, exercises.  Sure, they may be read, but they’re not acted upon.  

If you’re looking for an actionable study, 3PLs can help.  They live and breathe many of the practical points raised above and can help plan an approach that makes sense not just on paper, but in the real world.