Production and Operations Management
Explain one possible option that Marathon could take to reduce the time involved in the production process.
Of the many potential strategies for reducing the time-to-market between initial arrival of the various grades of oil in the Gulf of Mexico-based receiving location through the refining process and finally to delivery of gasoline to Marathon retail locations, the company has many options for streamlining their supply chain. By alleviating the major lags in their supply chain logistics their entire production process could be significantly accelerated. As the video shown by Marathon indicates, the entire production process is more push-driven than governed by forecasts.
What Marathon Oil needs is to have a much greater level of intelligence and insight into their retail chains’ demands. As the presentation from Marathon shows, the entire production system is very push-based, instead of taking into account variations in demand by retail channel and by dominant segment of the market. Adopting a Collaborative Forecasting and Planning System (CPFR) can significantly increase the level of forecasting accuracy and lead to an optimized processing and production schedule that aligns to customers’ needs (Kazaz, 2004). The reliance on production schedules and the availability of raw materials from the Gulf of Mexico-based receiving locations shows that demand is dealt with at such a high level of aggregation that the company cannot break down demand to a level where they can react to market demand fast. Given the very slow levels of oil, petroleum and gas through the pipelines, having an optimized market forecast is essential for Marathon to stay profitable. The lead times throughout their production process are so great that they must be focused on how to create an effective approach to demand forecasting and adopt a CPFR-based approach to integrating demand management into their production systems (Kazaz, 2004). With this level of integration, Marathon will also be able to optimize their inventory turns of their process-centric products for maximum of Return of Invested Capital (ROIC) in addition to better managing product quality and consistency. The video presentation from Marathon indicates the company differentiates their pipelines by the quality of the crude oil or gas being transformed. With more effective demand management and forecasting systems in place, Marathon will be able to also adopt a much more effective enterprise quality management and compliance management (ECQM) systems that will also preserve their gross margins and profitability over time (Mekaroonreung, Johnson, 2010). In conclusion, integrating a network-wide CPFR process and using a series of programs to ensure product quality including ECQM-based initiatives (Mekaroonreung, Johnson, 2010) Marathon has the potential to be more responsive to their markets while also ensuring a higher level of product quality than they have today.
2. Discuss the relationship between the retail price of gasoline and the price of crude oil.
The relationship between retail price of gasoline and the price of crude oil is predicated on the relative efficiency, logistics, and supply chain performance of an oil and petroleum goods manufacturer (Raza, Liyanage, 2009). The pricing of gasoline is actually a more effective metric to measure how efficient a distribution channel and logistics strategy is of an oil company and less predicated on the cost of oil (Varma Deshmukh, 2009). While drastic increases in the cost of crude oil can have a significant and sudden impact on the price of gasoline, mild fluctuations in the price of oil can potentially be absorbed by the supply chain, logistics systems and retail channel efficiency over time. Collaborating on forecasts and working to ensure the right process good in the production process is in the right location at the right time is achieved (Kazaz, 2004). This optimization of the production and distribution process can absorb costs and for many oil and gas refinery-based companies, they attempt to capture these savings and increase their value as an investment for the long-term instead of taking it as a profit in a given quarter. If they are successful with this strategy, their stock prices increase and the proportion of their stock held by institutions investors increases. When this happens, the value of the company over the long-term drastically increases as well. Oil and gas refinery companies who manage for the long-term are doing this and driving up the value of their stock and investments as a result. Being able to manage customer expectations for oil and gas products can also lead to greater long-term customer loyalty as well. Instead of allowing every slight variation in pricing to define a jump or reduction in gas prices, managing to equilibrium and taking the gains when they occur to further drive retained earnings and dividends has a far greater positive effect than aggressive profit-taking in a given quarter. Gas prices also serve as a lagging indicator of oil prices over the long-term, showing how the entire oil and gas refinery industry is operating in terms of efficiency over the long-term.
There is a misconception that the price of gasoline is entirely elastic based on the fluctuations on the oil price (Varma Deshmukh, 2009). In fact the price of gasoline is more inelastic than many believe as the consumption rates are so high that making a per unit change in the price doesn’t affect the consumption in the short-term. Given the significantly different demand curves for each oil and petroleum product, to make a single blanket segment that oil price increases drive up gas prices are erroneous. The effects are more dictated by the relative levels of supply chain performance, logistics constraints and timing requirements and the level of forecast accuracy across all selling and service channels. It is a statement that deserves a more qualified response than a simple statement; it varies significantly by each product and customer segment.
3. Explain what Marathon could do to keep the price at the pump the same without losing profits if the price of crude increased 10%.
The most effective strategy it can take is to first unify its demand management and forecasting strategies using a CPFR-based framework to ensure a more effective demand signal or requirements are communicated through it supply and logistics network (Kazaz, 2004). This could easily save 10% increase in the price of crude oil. Second, the company could alleviate the least profitable product lines and immediately save tens of millions of dollars on investing in borderline or unprofitable products. There is the need to rank and evaluate each of their oil and petroleum products based on profitability and discontinue those that are the least profitable. Third, Marathon could trim back the least profitable dealers and distributors in their network who are costing more than they generate in terms of margin. Given the high volatility of oil prices and the high cost of operating a distribution network, this approach to paring down to the most profitable dealer and distributor channels could give Marathon considerable financial leeway and freedom in defining pricing strategies. Fourth, the company could add greater levels of supply chain optimization throughout their network by suing analytics more effectively than they do to track performance and quality (Raza, Liyanage, 2009). Using a balance scorecard approach to defining their strategic levels of performance in conjunction with Six Sigma and lean manufacturing-based approaches, the company could significantly increase cost and time savings (Varma Deshmukh, 2009).
4. In June 2010, President Obama imposed a six-month deep water drilling moratorium. If the U.S. government prohibits deep water drilling off the U.S. coast, discuss how the U.S. oil companies can remain competitive in the U.S. market when over 35% of crude oil is currently sourced from domestic deep water drilling.
There are several strategies oil companies are take in response to the President’s ban on offshore drilling signed in June, 2010. The first is to continually invest in Research & Development (R&D) on how to be more efficient with the natural resources gained through extraction and cross-market buying today. This R&D effort needs to also concentrate on creating new products that have potentially higher gross contribution margins to gain funds for further exploration and new product development.
Second, the oil companies need to take a very hard look at the quality of their distribution channels and how effective they are operating. Using lean process manufacturing techniques including Six Sigma process improvement in conjunction with a renewed investment in analytics and business intelligence, oil companies need to discontinue all distributors and retailers who are not contributing profits and are a drain on them financially. The used of balanced scorecards to manage supply chain and logistics functions is commonplace and very useful for streamlining operations, especially in process-centric industries (Varma Deshmukh, 2009). By discontinuing unprofitable distributors and dealers, the oil companies will have more products available to sell through their more profitable and productive channels. As was mentioned earlier as a cost reduction strategy, all unprofitable products also need to be discontinued as they are draining the oil companies of natural resources and profits. By doing this, oil companies will also free up more oil and raw materials as well.
Third, as the presentation from Marathon indicates, there are additional oil reserves throughout Alaska and non-OPEC nations as well. The oil companies need to continue building out exploration efforts in these regions to further gain a hedge against the pricing OPEC typically uses as a means to control their cartel. The long-term goal needs to be independence from OPEC and self-sufficiency for the U.S. including support in the form of tax breaks for R&D and exploration investing. The geo-political implications of oil production are too great for the U.S. government to ignore, and the inclusion of tax incentives is critical for keeping the country free from complete control of OPEC. The oil companies, rather than pushing the government to open up domestic deep water drilling, need to instead concentrate on finding new reserves and technologies.
Burak Kazaz. (2004). Production Planning Under Yield and Demand Uncertainty with Yield-Dependent Cost and Price. Manufacturing & Service Operations Management, 6(3), 209-224.
Maethee Mekaroonreung, & Andrew L. Johnson. (2010). Estimating the efficiency of American petroleum refineries under varying assumptions of the disposability of bad outputs. International Journal of Energy Sector Management, 4(3), 356-398.
Jawad Raza, & Jayantha P. Liyanage. (2009). Application of intelligent technique to identify hidden abnormalities in a system: A case study from oil export pumps from an offshore oil production facility. Journal of Quality in Maintenance Engineering, 15(2), 221-235.
Varma, S., & Deshmukh, S.. (2009). Evaluating Petroleum Supply Chain Performance: Overcoming Shortcomings of Balanced Scorecard. Global Journal of Flexible Systems Management, 10(4), 11-21.
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