Success with Hub and Spoke Distribution

Federal Express, UPS, Norfolk Southern and Yellow Freight have all successfully implemented hub and spoke distribution to achieve a competitive logistics advantage (1). They have found that this method of distribution reduces transportation costs, improves cycle times, and reduces inventory. These firms and many other companies are now realizing that significant cost savings can result from improving their distribution processes.

A hub and spoke network is a centralized, integrated logistics system designed to keep costs down. Hub and spoke distribution centers receive products from many different origins, consolidate the products, and send them directly to destinations.

Studies have shown that logistics costs are between 10 percent and 35 percent of companies’ gross revenues. Sixty percent of these logistics costs are for transporting goods (1). A study by consulting firm PRTM found that companies considered to be best practice organizations in moving product to market enjoyed a 45 percent supply chain cost advantage over their median competitors (1).

Wal-mart is an industry leader in supply chain functions. The company’s distribution center network and logistics expertise is the cornerstone of its competitive advantage (2). A new player in realizing this competitive advantage is Lowe’s Home Improvement Warehouse (http://www.lowes.com/). Lowe’s has embraced the concept of the hub and spoke distribution model, allowing the company to gain a large share of the home improvement market. Analysts comment that the Lowe’s distribution center strategy has enabled the company to obtain a competitive advantage (3).

The Lowe’s Distribution Center Strategy
Lowe’s decided to implement the hub and spoke distribution model to encourage growth to gain market share and to achieve wider profit margins (3). Lowe’s set up a network of nine distribution centers for its current 850 stores. Each distribution center is designed to serve approximately 100 to 125 stores. Lowe’s plans to open more than 100 stores each year for the next several years, therefore, a new distribution center also will open every year.

A Lowe’s distribution center contains more than 1 million square feet (space for almost 30 football fields), has more than eight miles of conveyer belts, and has storage shelving more than 30 feet high (3). These distribution centers receive large truckloads of products from suppliers. The products are scanned by barcode and then placed in a specific location in the warehouse. When the products are ready to ship, the conveyor belt and barcode system automatically directs them to the trucks. There are more than 100 outgoing truck docks per distribution center. Each store the distribution center serves receives from two to eight truckloads of product per week.

The construction cost of each distribution center for Lowe’s is $45 million to $75 million. Lowe’s explains that these high upfront costs lead to lower costs charged by vendors and result in tighter inventory controls (3). Lowe’s says it receives a 5 percent to 10 percent savings on the cost of each product. As a result of the hub and spoke model, distribution is now only 3 percent of the company’s cost of inventory, down from 5 percent to 6 percent in 1994. This beats the industry average of between 3 percent and 8 percent, resulting in significant cost savings for a company with $22 billion in annual sales (4). Colin McGranahan, an analyst with Sanford Bernstein, puts the Lowe’s distribution system “in the top quartile of retailers in terms of their distribution capability (3).”

Currently, more than 50 percent of the company’s inventory moves through its distribution centers. Lowe’s executives aim to add more inventories to their distribution center network, sending more trucks more often to each store (4).

The Lowe’s decision in the early 1990s to use the hub and spoke distribution model has enabled it to gain a competitive advantage. (3). With the world market continuously changing, companies must have various sourcing locations, multiple transportation modes, and a flexible and cost-effective distribution network (2). The hub and spoke network enables companies to centralize their distribution network and to be more efficient in controlling the flow of products across their businesses, while realizing significant cost savings.

References:

(1) Abdinnour-Helm, Sue. Network Design in Supply Chain Management. International Journal of Agile Management Systems. 1999.

(2) Troy, Mike. Logistics Still Cornerstone of Competitive Advantage. DSN Retailing Today. June 2003.

(3) Dyer, Leigh. Lowe’s Slick System for Stocking Stores Saves Money, Time. The Charlotte Observer. February 23, 2003.

(4) Anonymous. Lowe’s Looks to Logistics For Growth. Home Textiles Today. August 2002.