The inventory tightrope in the automotive industry: Build-to-stock vs. build-to-order

Build-to-stock (BTS): The traditional route

 

Car makers traditionally have been offering the "Build-to-stock" (BTS) model in the Americas, China and Asia. They predict which features and models will sell in a given market based on historical trends. Using sales data and consumer sentiment, they build a limited number of configurations they believe will appeal to customers. These vehicles are then shipped to dealerships and displayed on the lot.

 

This approach offers efficiency and predictability when production is streamlined with "just-in-time" practices. However, in a world of rapidly evolving consumer preferences, BTS creates a vulnerability: Unsold inventory. Excess stock forces dealerships to slash prices, hurting both brand value and their bottom line.

 

Enter build-to-order (BTO): customization takes the wheel

 

Some luxury carmakers like Porsche, Ferrari and Mercedes Benz have long offered a more personalized approach across the European car market: Build-to-order (BTO). This allows customers to configure their car with specific features and accessories, essentially creating a bespoke vehicle. This model ensures cars are built only when ordered, minimizing inventory costs and waste. 

 

The key benefit of BTO is reduced inventory holding costs and potentially lower environmental impact, since production happens only when there's confirmed demand. However, the wait time for a BTO car can be significantly longer. BTO is becoming increasingly popular with newer players and those transitioning to direct-to-consumer sales models, and is now even finding its way into mass-produced models.

 

The shifting landscape: Challenges to the traditional approach

 

Several factors further complicate the traditional BTS model:

 

• Evolving technology: Consumer tastes change rapidly alongside automotive advancements. Pre-built stock might not reflect these dynamics.

• Direct-to-Consumer sales: As manufacturers bypass dealerships, unsold inventory becomes their burden.

• Supply chain disruptions: Recent events like COVID-19 have highlighted vulnerabilities in global supply chains, impacting the availability of parts. This can lead to extended wait times for certain models.

• Electric vehicle (EV) market fluctuations: The fast-evolving EV market could lead to a global oversupply situation with BTS. Some regions are already experiencing this.

 

BTO's potential and challenges

 

While BTO offers a solution, traditional manufacturers face hurdles in adopting it:

 

• System revamps: Transitioning to BTO requires significant adjustments to production processes, including managing various stages of vehicle inventory (fully built, partially built  and yet to be built).

• Supply chain optimization: Predicting critical component availability becomes crucial for maintaining low delivery lead times. This is especially important for mass models where customers may not have the patience to wait.

 

Examples from the automotive industry 

 

What do the differences between BTS and BTO look like in practice? Let’s take a look at a couple of examples of manufacturers who use both of these approaches and why they work for their specific business model.

 

Toyota: The traditional planned approach 

 

The BTS philosophy aligns very well with Toyota’s Just-in-time manufacturing (JIT) practices. It helps them minimize waste in production processes and ensure predictability in production. This then makes supply chain planning easier and helps keep holding inventory costs low. However, this approach provides limited customization; and in the current market where there are rapid shifts - changing consumer preferences or unforeseen events, it could result in a disruption of demand forecasts and therefore excess or low inventory too 

 

So, here’s what Toyota seems to be doing very well:

 

• The 80/20 Rule: Toyota builds the most popular 20% of product configurations which represent around 80% of market demand — for the further 20% of demand, other configurations are possible with more customized solutions that take a little longer to deliver.

   

The bulk of vehicle stock configurations are constantly being adjusted by virtue of:  

 

• Strong dealer relationships: In other words, there is close collaboration between dealers and the original equipment manufacturer (OEM) through end-to-end systems that store, share and transmit data.

• A degree of flexibility within BTS: Specific customer requests can be accepted via the dealers with some minor modifications.

 

Tesla: A vertically integrated approach

 

Tesla's success with BTO stems from the company’s use of vertical integration. They control battery, motor and software production, acting as their own supplier. This reduces their dependence on external supply chains that can lead to excess inventory. This translates to greater agility; they can adjust production lines based on real-time customer orders for specific configurations, minimizing the risk of building unsold cars.

 

Tesla's software and IT infrastructure act as the central nervous system for their BTO system. Customers personalize their cars online, and Tesla uses its vertically integrated supply chain to build them to those exact specifications. This eliminates the need for pre-building a variety of configurations and potentially getting stuck with unsold stock.

 

However, vertical integration isn't a one-size-fits-all solution. It requires significant upfront investment and managing complex production processes. 

 

Technology at core: How Tesla manages BTO 

 

• Accurate demand forecasting: Tesla utilizes sophisticated software to analyze customer data, market trends and historical sales information for optimized BTO forecasting.

• Configuration management and order fulfillment: Tesla's online ordering platform integrates with their production software. When a customer configures a car, the system automatically generates a bill of materials and sends it to the appropriate production units. This ensures all the necessary parts are allocated and the car is built according to the exact specifications.

• Real-time production visibility: Tesla's IT infrastructure provides real-time visibility into their entire production process. They can track the availability of parts across their vertically integrated supply chain, allowing for adjustments and preventing delays caused by missing components.

• Inventory optimization: Software tools help Tesla analyze historical data and predict future demand for specific parts and components within their vertically integrated supply chain. This allows them to optimize inventory levels and minimize the risk of stockouts or overstocking.

• Logistics and delivery coordination: Tesla's IT infrastructure plays a vital role in managing logistics and the delivery of finished cars. Software can track the location of vehicles in transit and ensure a smooth handover to customers.

 

Some markets are facing a unique challenge of both softening electric vehicle (EV) demand and a reported oversupply, thus requiring creative solutions from OEMs (Original Equipment Manufacturers) to build long-term resilience. In response to revised sales forecasts, Tesla is able to strategically adapt its operations fast (may unfortunately involve workforce adjustments and cost-cutting measures). This agility allows them to optimize their supply chain in response to evolving market conditions. 

 

The path forward: A hybrid approach?

 

The key might be in finding a balance that allows each OEM the flexibility of operating in both worlds. Technology will then be the underlying differentiator that enables customizing the BTO or BTS approach per the requirements of the market. 

 

Here are some key considerations:

• Customer focus: Understanding customer preferences and catering to different buyer segments is crucial.

• Digital transformation: Optimizing digital tools and processes, besides having the right architecture, can improve demand forecasting and production flexibility.

• Software as a differentiator: Can software solutions like advanced configuration tools give OEMs an edge? This way over-the-air (OTA) update can be designed to provide more customisation or value to the customer over the lifecycle of the car

 

The future of inventory management ultimately hinges on OEMs' ability to:

 

• Embrace partnerships: Collaborate with technology providers and customer insights experts.

• Adapt to change: Become more agile and responsive to market fluctuations.

 

The impact is felt downstream in the life cycle, while calculating the residual value of the used cars for example. Customer preferences are changing downstream as well. By striking the right balance and embracing future-proof strategies, OEMs can navigate the current disruption and thrive in the years to come.