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Living in Dell Time
For most businesses, warehouses full of stuff are a kind of security blanket. But Dell has replaced inventory with information, and that has helped turn it into one of the fastest, most hyperefficient organizations on the planet. Here's how Dell uses speed as the ultimate competitive weapon, and why rivals may never be able to catch up.
From: Issue 88 November 2004, Page 86
By: Bill Breen
Photographs by: Joshua Lutz
It could have been the unforeseen catastrophe that rocked Dell's world. Instead, it proved to be the moment when Dell's foremost competitive weapon -- an unrelenting sense of urgency and speed -- ultimately proved itself.
Two years ago, a 10-day labor lockout idled 10,000 union dockworkers, shut down 29 West Coast ports extending from Los Angeles to Seattle, and blocked hundreds of cargo ships from unloading the raw materials and finished goods that fuel U.S. commerce. The port closings paralyzed global supply chains, bloodied retailers and manufacturers, and ultimately cost U.S. consumers and businesses billions.
Analysts expected that Dell, with its just-in-time manufacturing model, would be especially hard hit when parts failed to reach its two U.S.-based factories. Without warehouses filled with motherboards and hard drives, they figured, the world's largest PC maker would simply find itself with nothing to sell within a matter of days. And Dell knew all too well that its ultralean, high-speed business model left it vulnerable to just such an intolerable prospect. "When a labor problem or an earthquake or a SARS epidemic breaks out, we've got to react quicker than anyone else," says Dick Hunter, the company's supply-chain czar for the Americas. "There's no other choice. We know these things are going to happen; we must move fast to fix them. We just can't tolerate any kind of delay."
Fortunately, the same ethos of speed and flexibility that seems to put Dell at the mercy of disruptions also helps it deal with them. Dell was in constant, round-the-clock communication with its parts makers in Taiwan, China, and Malaysia, and its U.S.-based shipping partners, who alerted it to the possibility of a lockout some six months before it occurred. Hunter dispatched a "tiger team" of 10 logistics specialists to Long Beach, California, and other ports; they worked hand in hand with Dell's carrying and freight-forwarding networks to assemble a contingency plan.
When the tiger team confirmed that the closings were all but certain, Dell moved into high gear. It chartered 18 747s from UPS, Northwest Airlines, China Airlines, and other carriers. A 747 holds the equivalent of 10 tractor-trailers -- enough parts to manufacture 10,000 PCs. The bidding for the planes grew fierce, running as high as $1.1 million for a one-way flight from Asia to the West Coast. But because Dell got in early, it kept its costs to about $500,000 per plane. Moreover, Dell worked with its Asia-based suppliers to ensure that its parts were always at the Shanghai and Taipei airports in time for its returning charters to land, reload, refuel, and take off. The company was consistently able to get its planes to the United States and back within 33 hours, which kept its costs down and its supply chain moving.
Meanwhile, Dell had people on the ground in every major harbor. In Asia, these freight specialists saw to it that Dell's parts were the last to be loaded onto each cargo ship so they'd be unloaded first when the ship hit the West Coast. The biggest test came when the ports reopened and companies scrambled to sort through the mess of thousands of backed-up containers. Hunter's tiger team had anticipated this logistical nightmare. Even though Dell had PC components in hundreds of containers on 50 ships, it knew the exact moment when each would be cycled through the harbor, and it was among the first to unload its parts and speed them to its factories in Austin and Nashville. In the end, Dell did the impossible: It survived a 10-day supply-chain blackout with roughly 72 hours of inventory, and it never delayed a customer order.
The aftershocks of the port closings reverberated for weeks. Many companies began to question the wisdom of running so lean in an uncertain world, and demand for warehouse space soared as they piled up buffer inventory to insure against labor unrest, natural disasters, and terrorist attacks. But for Dell, the episode only reinforced the value of living on the knife's edge.
"It's Like Draining a Swamp"
For most of business history, inventory has been a form of security. A warehouse bulging with components, or a distribution center packed with finished products, meant that even when a customer forecast went wildly awry, there'd still be enough supply on hand to meet demand. But ever since the 1980s, when General Motors began adopting Toyota's pioneering methods in lean manufacturing, fast companies have delayered, reengineered, and scrubbed the waste from their assembly lines and supply chains by slashing lead time and stripping inventory and spare capacity from their operations.
But no one has gone as far as Dell. It's well known, of course, for nearly eliminating finished-goods inventory by cutting out resellers and connecting directly to customers. What's less known is how it has transformed the back end of its operations -- its assembly lines and supply chain -- into one of the fastest, most hyperefficient organizations on the planet. Eleven years ago, Dell carried 20 to 25 days of inventory in a sprawling network of warehouses. Today, it has no warehouses. And though it assembles nearly 80,000 computers every 24 hours, it carries no more than two hours of inventory in its factories and a maximum of just 72 hours across its entire operation. Dell's vast, global supply chain is in constant overdrive. Says Hunter: "Speed is at the core of everything we do."
That's why inventory is a four-letter word at Dell. To Kevin Rollins, who succeeded Michael Dell as CEO this past July (Dell continues as chairman), inventory is like fish. "The longer you keep it the faster it deteriorates -- you can literally see the stuff rot," he says. "Because of their short product lifecycles, computer components depreciate anywhere from a half to a full point a week. Cutting inventory is not just a nice thing to do. It's a financial imperative."
Hunter regards inventory as a kind of ignorance. In his view, companies keep inventory as a hedge against poor demand forecasts and an inability to see into their supply chains. "Most companies love a big order backlog; when the semiconductor industry has six months' worth of orders, they're happy," he says. "If I've got more than three days' backlog, Michael is calling me."
Dell has ripped away the psychological safety net that lots of inventory provides. Instead, it lives in a state of constant, self-imposed paranoia: It must meet demand, which is always in flux, with just the right amount of supply. If it fails, its manufacturing operations will crash within a matter of hours. But Hunter sees no other way to go. "It's a real misconception that more inventory means less shortages," he says. "Even if you flood your warehouses with thousands of components, it's almost a given that you won't have that one-cent screw when you need it most. Then you're in the worst of all worlds: You've got a ton of inventory, but you still can't do the build. If you don't have solid processes that monitor demand and supply on a real-time, continuing basis, then I don't care how much inventory you've got. Invariably you'll have a lot of the wrong stuff and none of the right stuff.
"But when you have basically zero inventory, it's like draining a swamp -- all of the stumps start to show," he says. "The problems reveal themselves, and you can take immediate corrective action to fix them."
A New Finance Model
The implications of working in this kind of hyperdrive -- in Dell time -- are profound. It changes the finance model, and it's an enormous competitive weapon. On average, computer makers pay their suppliers 30 days before a PC is shipped to market, bought by a customer, and paid for. But Dell's build-to-order model lets it receive payment from its customers immediately -- through credit cards, either online or over the phone. It pulls the parts directly from its suppliers and builds and ships the product within four days. Yet the company doesn't pay those suppliers until 36 days after it receives payment from the customer. So Dell has achieved a cash-conversion cycle (that's the time between an outlay of cash for parts and the collection of payment for goods made from them) of negative 36 days. That means it operates with negative working capital, eliminating the need to finance its operations. "By collecting money for products from customers before it owes money to its s! uppliers, Dell has made it so its suppliers finance the cost of Dell's operations," says Tom Mentzer, executive director of the integrated-value chain forums at the University of Tennessee at Knoxville.
Hewlett-Packard doesn't disclose its cash-conversion cycle, but with its average of six weeks of inventory, the number is sure to be positive. Meanwhile, with just a few days' worth of parts on hand, Dell turns its inventory 107 times per year -- an astounding advantage over HP and IBM, which flip their inventories 8.5 and 17.5 times per year, respectively. It's a fundamental law of manufacturing that the faster you turn inventory the lower your costs. That's why Rollins will say, with a twinkle in his eye, that Dell has a built-in structural advantage over its competitors. Roger Kay, vice president of client computing at market researcher IDC, says he's right: "Various industry assessments report that Dell's cost advantage through close-to-zero inventory is as high as eight points, which in a commodity business is huge. HP's net margin on PCs is so tiny -- barely 1% -- that Dell, by forgoing a point or two of margin, can put HP's PC division under water."
But there is a dark side to Dell time: The company is fast in part because it has shifted some of the inventory burden to its suppliers. "The yin and yang of being a major supplier to Dell is that you get a whole bunch of business," says Mentzer, "but the price of being a supplier is that you carry the inventory. If there is a supply-chain disruption, the supplier is stuck with the inventory, not Dell."
To get a slice of its lavish procurement pie, Dell's legions of suppliers must do things its way. They must be flexible enough, cost-competitive enough -- and above all, fast enough -- to compete on Dell's terms. "Those suppliers who are the most consistent over time get the lion's share of our business," says Marty Garvin, Dell's procurement chief. "The ones that aren't get less and less. And those who can't scale over the long run, well, their business goes away."
"Pleased, but Never Satisfied"
Dell is every bit as hard on itself as it is on the folks who make its disk drives and batteries. For proof, just look inside Dell's newest U.S. factory, the Morton L. Topfer Manufacturing Center (dubbed TMC) in north Austin. Along with its sister factory in Nashville, it's the only major computer-assembly plant still located in the United States. IBM, HP, Gateway, and Apple have all offshored their operations to manufacturers overseas. Taiwanese PC makers might be cheaper, but Dell is determined to control its manufacturing.
Inside the TMC, amid the whir of positive-force ventilators blowing dust and grit back out onto the Texas hills and the rush of forklifts plying the factory floor, multiple assembly lines snake and swerve through the plant like Coney Island roller coasters, cranking out more than 700 corporate and consumer desktop PCs an hour. Dell has brought a maniacal focus to shaving minutes off the time it takes to assemble and ship a computer. By studying videotapes of "the build," as they call it, factory managers have slashed in half the number of times a computer is touched by workers. They've counted the screws in a PC and redesigned it so that the major components -- hard drive, graphics card, CD player -- simply snap in place.
In a blur of synchronized movements, a veteran builder can piece together a Dell OptiPlex or Dimension PC in three minutes. The software burn and testing, which is powered by Dell servers with enough bandwidth to download the entire Encyclopedia Britannica in eight seconds, takes several hours, depending on the amount of customization that's required. The entire process, from the time the order is taken to when the finished PC exits the factory, is wrapped up in four to eight hours.
While the TMC takes up less than half the space of its predecessor, it boasts three times the output. And even that's not good enough. Dell is always on a mission to outdo itself, and the factory is expected to increase its production by some 30% by year's end. Michael Dell himself drove that point home when he recently toured the plant. A group from one of the packing lines showed him how they'd upped their processing rate from 300 to 350 boxes an hour. "Michael congratulated them, and there were high fives all around," recalls Hunter. "But then he issued a challenge: 'How can we improve to 400?' He's pleased, but never satisfied."
Dell's suppliers are tightly integrated into the rhythm of the factory. When new orders flow into the plant -- they come in from the Internet or over the phone every 20 seconds -- TMC sends a signal to its core suppliers, which stage their components in warehouses scattered around Austin. Suppliers have 90 minutes to truck their parts to the assembly line. They can't be late, but neither can they be early. Whatever inventory Dell carries is basically being processed into finished product.
For Dell, utopia is when inventory is in the ground, in the form of silica, carbon, oil, and the other substances that comprise a consumer-electronics product. In this ideal world, the supply chain amounts to a riverine network in which inventory flows serenely downstream, from the raw-materials processors to the component makers to the manufacturer and on to the consumer. No one suffers from warehouses full of stuff, gobbling up gross margins. Dell is struggling mightily to achieve this dream. It has dispatched an army of supply-quality engineers who work out of the parts makers' factories, helping them improve their velocity, quality, and predictability. Dell "pushed all of us to streamline our processes and drive for maximum efficiency," says Mike Cordano, an executive vice president at Maxtor, a leading disk-drive maker. "Dell influenced the entire industry."
Dell also works the other end of the supply chain -- the customer -- to eliminate the evil of inventory. Essentially, it's replacing inventory with information. The company keeps a massive database that tracks the purchasing patterns and budget cycles of its corporate customers, and predicts upgrade purchases by individual repeat consumers, which enables it to forecast demand with about 75% accuracy. Three times a day, Dell updates its demand forecast for key suppliers on its extranet portal. When Dell misses a forecast -- which it does from 5% to 25% of the time -- and finds itself running out of, say, 15-inch flat screens, it runs a one-week special for 17-inch screens. Its direct-to-the-customer model allows it to shift demand to match what its suppliers can deliver. Supply-chain experts call this "demand shaping," and Dell has mastered this competitive weapon, too. But while such tactics have helped Dell to almost eliminate inventory from its balance sheet, its suppli! ers cannot claim to have done the same.
The Thin White Line
Dell's clout with its suppliers is epitomized by a set of thin white lines on the floor of the TMC plant. The lines form a rectangle that fronts each of the 110 cargo bays encircling the factory. Tractor-trailers loaded with parts line up at the bays. When an assembly line runs low on disk drives, a signal goes out. A forklift wheels onto a trailer bed, snatches a pallet of disks, and pulls out onto the floor. When the forklift crosses the white line, a scanner records the shipment's bar code and the parts move from the supplier's books to Dell's. Dell doesn't pull the part until it has a customer order; it doesn't take ownership until it pulls the part.
In effect, that thin white line demarcates Dell's entire supply chain. Dell holds inventory only for the six to eight hours it travels across the assembly line and for the 18 hours it takes for the completed CPU to be trucked to a merge center in Reno, Nevada, where the unit is bundled with a monitor and shipped to the customer. Total inventory time: two to three days. Most suppliers, however, are required to stage anywhere from 8 to 10 days' worth of buffer stock in those multivendor warehouses located within 90 minutes of the TMC. Factor in the whole of Dell's supply chain -- raw materials, work-in-process, and finished goods -- and Dell's suppliers hold anywhere from 20 to 80 days' worth of total inventory. "Dell would never tolerate that for itself," says Navi Radjou, a vice president at Forrester Research. "Inventory remains a problem for suppliers; the average supplier is not better off than it used to be."
Even Maxtor, which has modeled itself on Dell's build-to-order strategy, can suffer from missed forecasts and bloated inventory. Like Dell, Maxtor owns its factories and controls its supply chain; it is built for speed and flexibility. Yet Maxtor recently saw its inventory swell to nearly six weeks because of lower-than-expected shipments. This past July, it reported a second-quarter net loss of $26 million, in part due to lower sales to Dell because of problems with 40-gigabyte drives.
A look further up the supply chain at the suppliers of Dell's suppliers reveals that there's only so much inventory they can cut. MMC Technology supplies 65% of the disks for Maxtor's hard drives -- in all, some 50 million disks a year. MMC, too, has adopted parts of the Dell model. The company's factories, which are based in the United States, run full-out every day of the year, producing the least costly product in the industry. And yet, for all of its relentless focus on making itself more efficient, MMC is stuck with three weeks' worth of inventory, and there's nothing it can do to change that. It takes a week of performance testing before MMC can release its finished disks; it takes a week to ship the disks from California to Maxtor's Singapore factory; and Maxtor requires MMC to warehouse buffer stock for up to one week (just as Dell does with Maxtor). Ultimately, Maxtor carries inventory for Dell, MMC carries inventory for Maxtor, and raw-materials suppliers carry ! inventory for MMC. Dell, of course, carries next to nothing. "Dell does business with suppliers who are willing to hold its inventory," says IDC's Roger Kay. "And if they're not willing, Dell will find suppliers who are."
Dell disputes that notion. "We're not so naive as to think that if we pushed inventory off on a supplier that somehow we're not paying for that in the long run," says Stephen Cook, director of Dell's Nashville manufacturing center. "We only get the lowest total cost for our customers by achieving minimum inventory holding costs all the way up the chain. Inventory hasn't just moved from one bucket to another. It's left the supply chain."
Still, Dell is hardly coy about pressuring its suppliers to do better. It's a metrics-obsessed organization that measures everything, not least its suppliers' performance. It rates all of its vendors on their ability to compete on cost, technology, supply predictability, and service, and posts their scores daily on a password-protected Web site. Every quarter, the suppliers' executive team meets in Round Rock, Texas, where Dell is headquartered, with Garvin and his procurement lieutenants for a formal feedback session. In these meetings, dubbed QBRs (quarterly business reviews), suppliers are ranked against their competitors. Based on that comparison, they are awarded a percentage of Dell's purchases for the upcoming quarter. There's a direct, metrics-based connection between their performance and their Dell P&L.
Dell is cold-eyed in these assessments, unflinching and unsentimental. "You want competition -- suppliers that are fighting very hard for Dell's business," Garvin says. "You set a high bar and keep raising it, so suppliers have to continually redefine themselves in terms of their efficiency and reliability. Otherwise, they won't be around for very long."
Despite such tough talk, even Dell's alumni bristle at any suggestion that their alma mater beats up its suppliers. "If you aren't performing, Dell won't hesitate to take some of your business and give it to a competitor, so boo-hoo," says Jerry Gregoire, who was Dell's CIO from 1995 to 2000. "That's bullying? It's called holding the supplier's feet to the fire. If you want my business, you're going to have to meet my expectations."
And even winners don't get to rest on their laurels. In 1998, when Dell declared that Maxtor was its top-ranked hard-drive supplier for desktops, it held a brief ceremony at Round Rock and presented Maxtor's executive team with a trophy. The congratulations lasted for all of 10 seconds. "I picked up the award, and I hadn't even gotten back to my seat before the Dell guys start pounding the table and telling us that we'd better get our act together, that we're only a fraction ahead of the competition," recalls Maxtor's Cordano. "Then they proceed to drive this new set of metrics and expectations. And I'm thinking, Jesus, we just got ranked number one and we don't even get a minute to reap the glow."
Rollins grins when he hears this story. For all of its achievements, Dell is paranoid about success. Rollins doesn't want anyone feeling fat and happy -- not Dell's suppliers and especially not Dell's executives. "When you achieve your best performance ever, usually it's downhill from there," he says. "We'd rather push on to the next hill than dip into the valley. We have not yet seen our best performance."
Dell, which hit $45 billion in annual revenue this past July and is growing at a nearly 20% yearly clip, seems well on its way toward surpassing its goal of $60 billion within the next few years. And it's not letting up. Still relentlessly striving to get better faster, Dell intends to slash $2 billion in costs. CFO Jim Schneider has indicated that much of the cuts will come from manufacturing operations and the supply chain. That will put even more pressure on Dell's component makers. Michael Dell is fond of saying that in the high-tech business, you either grow or die. It all just happens much, much faster when you're living in Dell time.
Bill Breen is Fast Company 's senior projects editor. Michael Aneiro contributed reporting for this article.