All Things Inventory

Skin in the game

  

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The first article in the first issue (of this year) of Operations Research describes a reward sharing collaboration between Deere and my company, SmartOps. Between 2005 and 2007, Deere and SmartOps worked collaboratively to simultaneously improve the logistics costs, inventory investment and lead times to dealers. This was done by tailoring the logistics strategy to the season -- in this case twice a year -- and so achieving over $10 million in savings additionally over all the other initiatives that were already in place. This was done through the creation of appropriate operations research (OR) models, gathering of sufficiently accurate data in a timely manner, deciding on what variables were going to be fixed and which were allowed to be optimized, testing the recommendations via simulation, negotiating contract terms with logistics providers, getting the IT infrastructure prepared for change and then tracking the performance of the associated implementation with great scrutiny.

Deere agreed to this reward sharing scheme to help me continue to build SmartOps by earning sizable revenue based on our expertise -- rather than by going to capital markets to raise money through equity offering or assuming debt -- and only get paid when Deere actually achieved the additional value. I thought this was not just a fair deal but a great deal for an entrepreneur like me as I could keep building SmartOps through the volatility of the economic conditions and the vagaries of the enterprise software market. By putting some skin in the game, we were able to work collaborately and effectively with aligned incentives to create immense value for both companies.

This was not the first project between Deere and SmartOps. In fact, it was the third. Our first project that began in 2001 helped save $1 Billion at Deere's C&CE Division (see Interfaces Jan-Feb 2005). A second project (in 2004) worked helped Deere manage the complexity of their broad product line and saved them tens of millions of dollars (see Operations Research, July-August 2007). This long term successful relationship was central to the reward sharing agreement, both in its genesis and in its execution. I personally cannot thank Deere enough for being such a good customer, partner and friend.

Deere is not the only long term partner of SmartOps. An earlier (and so longer) relationship is with Caterpillar that began even before I founded SmartOps (on March 8, 2000) when Caterpillar approached me at CMU. The first project with Caterpillar (in 1997-8) was the development of a rapid-response supply chain (see Operations Research, March-April 2000) that was also featured in FORTUNE (October 31, 2000). A second project focused on multi-stage inventory optimization using SmartOps EIO product (like in the case of the first Deere project) that helped stabilize product availability while reducing inventory investment by 15%, reducing average lead times by 20% (and its variance by 50%) and increasing revenues (due to reduced lost sales) by 2% (see Interfaces, July-August 2006). A third project (2006-8) between CMU, SmartOps and Caterpillar was in supporting a bundling and price sheet strategy; this is being rolled out in North America and Latin America right now. We presented the details of this project at MIT last summer at the MSOM Conference; a paper for publication is being written right now.

Long term relationships between companies, and between companies and universities have led to mutually beneficial results. I look forward to many more years of such successes, not just with Deere and Caterpillar, but also with other SmartOps customers such as ConAgra Foods and Kellogg's.