ISTANBUL TECHNICAL UNIVERSITY – TURKISH AIRLINES

1. ISTANBUL TECHNICAL UNIVERSITY – TURKISH AIRLINES Operations & Logistics Management in Air Transportation Dr. David Gillen (University of British Columbia) & Dr. Benny Mantin (University of Waterloo) June 9-14, 2014

2. Logistics Learning Objectives • Key components of logistics • Order Processing, Inventory, Transportation, Sourcing, Warehousing, Materials Handling, and Packaging, integrated through a network of facilities (warehouses and distribution centers) • Logistics is integral to a firm’s strategy • Keys to managing logistics costs • Inventory management • Transportation management • Supply Chain Flexibility and Synchronization

3. What is logistics? Logistics is the design and administration of systems to control movement and spatial positioning of factor inputs (raw materials, labor, capital, energy) work-in-process, and finished inventories at the lowest total cost. Our focus will be on inventory management and transportation management

4. The five functions of logistical work are interrelated

5. What do we know about Turkey 81 provinces Bordering countries: Armenia, Azerbaijan, Bulgaria, Georgia, Greece, Iran, Iraq, Syria Population (January 2013) 74.6 million (18th largest in the world) Urbanization: about 72 % Age structure: 0–14 years (26.0%); 15–64 years: (67.9%); 65 and above (6.1%) Nominal GDP (2012) US$790.5b GDP per capita (US$ current prices) (2012) - US$10,595.2 GDP Composition: Agriculture (9.1%); Industry (27.9%); Services (63.0%) Public debt: 40.4 % of GDP Labor force (2012): 26.5 million

6. Geographic Strength

7. International Freight-Modal Split

8. Growth in Logistics Activities

9. Care in Comparing Logistics Costs

11. U.S. logistics cost, 1980-2010 in five year intervals ($B)

12. The cost of logistics

13. Logistics Costs Canada-U.S. Comparison

14. Logistics will continue its renaissance in the future • Information technologies will automate many of the traditionally manual logistical functions: • Automated port and rail operations • RFID tagging of materials • Advanced technologies for warehousing and inventory operations • Removal of trade barriers will continue to expand global trade and logistics • Outsourcing versus near-shoring • Implications for airlines?

15. Logistical value proposition-Manufacturing & Service Industries • Logistical value proposition consists of a commitment to key customer expectations and requirements at a minimum cost • The two elements of this value proposition are Service and Cost Minimization • Firms must make appropriate tradeoffs between service and cost for each of their key customers

16. Service benefits are created by logistical performance in 3 areas • Availability involves having inventory to consistently meet customer material or product requirements • Operational performance deals with the time required to deliver a customer’s order • Key metrics for this area involve delivery speed and consistency • Service reliability involves the quality attributes of logistics • Key to quality is accurate measurement of availability and operational performance over time

17. Cost minimization using the total cost logistics model Traditional Cost Logistics Model Total Cost Logistics Model • Focused on achieving the lowest possible cost for each individual function of logistics • For example, Transport the material the cheapest way possible • Expected lowest cost based on decisions that were cheapest for individual functions • Ignored the impact of cost decisions across logistics functions • Focused on achieving the lowest total cost across each function of logistics • A cost decision in one function should consider impact to costs of all other logistics functions • For example, Transporting material the cheapest way is slower than other choices. This requires an increase in storage cost to hold the material longer • Would it still be a lower cost to use the cheapest mode of transport?

18. Different perspectives on cost minimization Traditional Cost Logistics Model Total Cost Logistics Model Minimize order processing cost+ Minimize inventory cost+ Minimize transportation cost+ Minimize warehousing, materials handling and packaging cost+ Minimize facility cost __________________________ Lowest logistics cost Minimize (order processing + inventory + transportation + warehousing, materials handling and packaging + facility) cost _________________________ Lowest total logistics cost

19. Framework: Total Logistics Cost Function

20. Components of TLC TLC (Q, r: T, ST) = RDi + (UCTDi/365) + (SDi/Q) + (QCI/2) + rIC + K(Di/Q) N(Z)S1 where: TLC = total logistics cost R = Transportation Rate per Unit between Origin and Destination D = Annual Demand for some good ‘i’ U = Carrying Cost of In-transit Inventory C = Value per Unit T = Transit Time of Transportation Alternative S = Fixed Ordering Cost per Order Q = Order Quantity I = Carrying Cost of Warehoused Inventory r = Safety Stock K = Stockout Cost per Unit N(Z) = Unit Loss Integral S1= Standard Deviation of Demand During Transit Time ST = Standard Deviation of Demand During Lead Time

21. How these Costs are Distributed

22. Cost Conflicts: Speed versus Service Reliability

23. Other Cost Conflicts/Tradeoffs

24. Transportation • Transportation is the operational area that geographically moves and positions inventory • There are three basic ways to satisfy transportation requirements • Operate a private fleet of equipment • Contract with dedicated transport specialists • Engage carriers that provide different transportation services as needed on a per shipment basis

25. Measuring Costs Cost Structure Accounting Costs Variable costs Material Manufacturing/production shipping Fixed costs Contracts Capital Manufacturing/production Ownership Purchase Acquisition Usage salvage Opportunity cost-forgone sales • Costs vary with factor prices, productivity & output • Scale economies • Scope economies • Utilization economies • Density economies • Agglomeration economies • Value of time/reliability

26. Pricing Concept to ‘Willingness to Pay’ Unit cost or average cost pricing Cost plus pricing Incremental cost pricing Differential Pricing (special case of Ramsey pricing) Non-linear pricing and two-part tariffs Bundling and unbundling

27. The scope of integrated logistical operations

28. Logistical integration requires achieving six objectives simultaneously • Responsiveness • Variance reduction • Inventory reduction • Shipment consolidation • Quality • Life cycle support

29. Example situations for flexible logistics structure The customer-specified delivery facility might be near a point of equal logistics cost or equal delivery time from two different logistics facilities The size of a customer’s order creates improved logistical efficiency if serviced through an alternative channel arrangement Decision to use a selective inventory stocking strategy Agreements between firms to move selected shipments outside the established echeloned or direct arrangements Co-opatition (Cooperation & Competition)

30. Supply chain synchronization • Supply chain synchronization is the operational integration of multiple firms across a supply chain • Seeks to coordinate the flow of materials, products and information between supply chain partners to reduce duplication of effort • Seeks to reengineer internal operations of individual firms to leverage overall supply chain capability

31. The logistics performance cycle is the basic unit of supply chain design and operational control • The performance cycle represents elements of work necessary to complete the logistics related to customer accommodation, manufacturing or procurement • A performance cycle consists of the following elements • Nodes • Links • Inventory • Base stock • Safety stock • Input and output requirements

32. Performance cycle uncertainty • Major objective of logistics in all areas is to reduce performance cycle uncertainty • Operational variance is randomly introduced during the cycle through • The structure of the performance cycle itself • Operating conditions • The quality of logistical operations

33. Total time to complete the customer delivery cycle is based on each task within the cycle Figure 2.8 Performance Cycle Uncertainty

34. Inventory managementthe Economic Order quantity model 34

35. Frank Wheeler, Revolutionary Knowing what you've got, Knowing what you need, Knowing what you can live without – That’s inventory control.

36. Inventory Raw Materials & Component Parts Replacement parts, tools & supplies Work-In-Process Goods in transit to warehouses or customers Finished Products Definition: The stock of any item or resource used in an organization

37. Importance of Inventory:2005 Fiscal Year

38. Importance of Inventory Management • ... by 1990 Wal-Mart was already winning an important technological war that other discounters did not seem to know was on. “Wal-Mart has the most advanced inventory technology in the business and they have invested billions in it”. (New York Times, Nov. 95) • Kmart increased its inventories to $8.3 billions in the third quarter of 2001 with an expectation of more shoppers. “But higher sales never materialized, leading to a disastrous holiday selling season.” Kmart filed for bankruptcy on Jan. 22. (Business Week, Mar. 02)

39. Importance of Inventory ManagementMore Recent News • SanDisk suspends production as inventories pile up for makers of computers, cell phones, and TVs … (Business Week, Dec. 08) • Natural-gas futures soared 15% Thursday after U.S. inventory data slightly eased concerns about the possibility of a storage glut (Wall Street Journal, Sept. 11, 09) • Fruit growers were blessed with excellent weather this year. But that hasn’t translated into a great year for the province’s cherry and blueberry growers, as a bumper crop has flooded the market and pushed down prices. (The Vancouver Sun, Aug. 09) • The Ford assembly plant in Oakville and 3,000 workers will remain idle this week because of a parts shortage from a supplier in India. (Toronto Star, Oct. 27, 09)

40. Why should you hold inventory? Predictable Variability Seasonal Inventories What are some of the inventories that you have? Unpredictable Variability Safety Stock Economies of Scale Cycle Stock Why do you have these inventories? Transportation times / Flow times Pipeline Inventories Other: Strategic / Speculative / etc.

41. Why should you nothold inventory? • Inventory increases certain costs such as • Carrying cost • Cost of customer responsiveness • Cost of diluted return on investment • Large-lot quality cost • Cost of production problems, etc. • The Sea of Inventory Inventory hides problems …

42. Reducing waste: The Sea of Inventory

43. How much inventory should you hold? • Trade-off #2 Trade-off #1

44. Inventory Costs

45. Inventory Classification A classification to help manage inventories better (The above percentages are approximate)

46. Motivation: ATM How much cash do you take out from ATM? Why not more or less?

47. Economic Order Quantity (EOQ) • Assumptions • Known annual demand, constant demand rate • No uncertainty The Economic Order Quantity (EOQ) balances

48. Notation Usually, H = iC.

49. Cycle Stocks: Tradeoff between fixed costs and holding costs Q Demand rate Quantity on hand Time Receive order Receive order Receive order Profile of Inventory Level over Time

50. Example: “The South Face” Thus, H = iC = (0.25)*($200) = $50 per unit-year • What order size (Q) would you recommend for The South Face? Some facts about The South Face retail shop