The Benefit for Denso of Reducing Fluctuations

I have written a lot about leveling and the value of fluctuation in previous blog posts. In this post I will show quantitatively what the benefit of reduced fluctuations is for Denso, part of the Toyota group and a supplier to many other car makers too.

DENSO

Denso Headquarter
Denso headquarters

Denso, or fully Nippon Densō Kabushiki-Gaisha, is the largest maker of automotive components in the world. (Bosch is bigger, but this also includes a lot of non-automotive business like heating, power tools,  dishwashers, and more. Overall, depending on the year, Denso, Bosch, and Continental are always key contenders for the top spot). Denso originated from the Toyota Motor Company, but became an independent company in 1949. As of 2023, it has over 160 000 employees worldwide. It is part of the Toyota group, and Toyota owns around 25% of Denso. However, Denso’s business with Toyota is less than 50% of their revenue of around 6 trillion Yen (roughly 44 billion Euro). Denso also invented the QR code, since previous bar codes were unable to contain enough information for their kanban cards.

Reducing Fluctuations at Denso

AGC Example
Automated guided cart, visualization

In my view, Denso has long since overtaken Toyota Motor in terms of lean manufacturing, especially due to them having a much better corporate culture than Toyota Motor, where lately it feels like subordinates are no longer really allowed to disagree with their superiors. Well, they are allowed to disagree, but then they can forget about their career. See also my post Internal Threat to the Toyota Production System Due to New Hiring Practices for more. I also blame mostly the last Toyota CEO Akio Toyoda for this degrading of the culture at Toyota Motor.

I have written about Denso in my previous blog posts, especially their effort to bring the lot size down to one, even for difficult processes like aluminum die casting and having AGVs transport material for one vehicle only (e.g., only one pair of bumpers for one car). They call this not an AGV (automated guided vehicle), but an AGC (automated guided cart). Overall, Denso seems to do an excellent job in reducing fluctuations. For more see my post on Toyota’s and Denso’s Relentless Quest for Lot Size One.

Outside Fluctuations

However, while Denso reduces their own fluctuations a lot, as a automotive supplier, they have little influence over their customers. If a customer orders products, they have to deliver, on time and in full. And that is where you can see the differences.

Ideal Situation Leveling

Many car makers—or generally many manufacturers—claim to be lean by having little inventory. But most of them don’t really reduce their fluctuations, and merely push the fluctuations to their suppliers. If the car maker can order whatever and whenever they want and expect it to be there the next day, then of course they can keep their inventory low. However, their supplier then has to deal with all the mess and the increased cost of the fluctuations. While the car maker pretends to be lean, the supplier has all the cost due to the fluctuations. And guess what? The supplier will somehow add these costs to the price (even if it is not listed separately), and the car maker has to pay for this anyway (and that means you, the end customer, too). If the supplier would not do that, then eventually it would go bust. Hence, the customer should have an interest in reducing fluctuations for their suppliers, but most don’t. In fact, many can’t even manage their own fluctuations, let alone their suppliers’.

And on that, I have a bit of data from Denso that I am allowed to share. I know the average inventory reach of Denso for some of their customers, namely Toyota, Honda, GM, and Volkswagen.

The primary use of inventory is to decouple fluctuations. The larger the fluctuations, the more inventory you need, and the higher the cost. If you can’t do that, then your customer has to wait. And automotive customers with their expensive assembly lines hate waiting for parts.

The inventory depends on fluctuations both upstream and downstream from the inventory. Even with Denso doing an excellent job at reducing fluctuations, there are still some fluctuations left that need to be decoupled. My assumption here is that Denso is equally good at decoupling their own fluctuations for all of their major customers. Hence, the difference in inventory reach for different customers of Denso is mostly due to the fluctuations coming down from these customers.

Denso has in average 0.8 day’s worth of finished goods inventory to decouple their own fluctuations and the fluctuations coming from Toyota. For Honda, they need twice as much inventory of 1.6 days’ worth. This indicates that the fluctuations coming from Honda are at least twice as large as the fluctuations coming down from Toyota (assuming that the 0.8 and 1.6 days also include some fluctuations coming upstream from Denso). For European and American car makers this now gets even larger. Much larger! For both General Motors (GM) and Volkswagen, Denso needs to hold three days’ worth of finished goods to deal with fluctuations. Assuming that Denso needs the same number of hours to decouple their own internal fluctuations, the fluctuations coming down from GM and Volkswagen are four times larger than the one coming down from Toyota.

Let’s look at the numbers again. Imagine you have to find space in your warehouse for 0.8 day’s worth of inventory, or 3 days’ worth. And space is only one of the costs associated with inventory. Overall, having inventory will cost you between 30% and 65% of the value of the inventory. For more, see my post on The Hidden and Not-So-Hidden Costs of Inventory. Hence, the cost of the additional inventory for GM and Volkswagen is roughly the equivalent of one day’s worth of revenue. Revenue, not profit. This does not yet even include additional inventory on the side of the customer, where Toyota with as little as two hours’ worth of goods is also spectacularly better than GM and Volkswagen, where the inventory is usually measured in days. Now imagine your company would get one additional day of revenue every year, without any costs associated with it.

The difference between the numbers is mostly due to the regularity of the orders… or the lack thereof. At Toyota, the order quantity is usually the very same number for every day. I have seen the order sheets of Toyota suppliers, and it can easily be summarized as “Give me that many every workday for this month.”

Bundles of MoneyLet’s assume these companies have a profit margin of 5%. One day’s worth of revenue is 1/365th of the annual revenue (including weekends), or roughly 0.27% of the annual revenue that GM and Volkswagen have as additional cost due to unchecked fluctuations. Hence, if they could reduce these fluctuations to the level of Toyota, their profit margin would increase from 5% to 5.27% only due to reduced inventory on their suppliers. And this does not even include additional benefits on the customer’s side. For Volkswagen with a 300 billion euro revenue in 2023, this would mean an additional 800 million in profit, or in this case 800 million of missed profit due to fluctuations. Note that this is a rough back-of-the-envelope calculation, and a proper accountant would include a lot more ifs and thens. Also, reducing fluctuations is not free, but also a lot of work, and some costs. But 800 million would cover a lot of work…

Overall, reducing fluctuations is a lot of hard work, but there is also a lot of benefit in it. Now, go out, reduce your fluctuations, reduce the fluctuations for your supplier, reduce inventory, and organize your industry!


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