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1.1 Introduction
Operations Management deals with designing and managing products, processing, and
servicing. Manufacturing, service, and agriculture are the major economic activities in
any country. In India, manufacturing and servicing together constitute nearly 75% of the
Gross Domestic Product (GDP). In recent years, growth in GDP has been primarily due
to the growth in these sectors of the economy. Therefore, managing manufacturing and
service operations are important economic activities. Utilising appropriate Operations
Management Unit 1 .: 2
methods for planning and control of operations in manufacturing and service
organisations can result in significant productivity improvements and cost savings. It can
also positively influence the overall health of the economy. „Operations Management‟ is
a discipline that focuses on this aspect.
Operations Management (OM) is important for both society as well as organisation
because the consumption of goods & services is an integral part of our society.
Operations Management is responsible for creating goods and services. Hence,
operations are the core function of an organisation.
Learning Objectives:
After studying this unit you will be able to:
Define “Operations Management” and its meanings, aspects and scope.
Distinguish between functions and activities of operations managers/ personnel.
Distinguish between servicing operations and manufacturing operations.
Explain the manufacturing trends in India and compare with World class
manufacturing trends.
Explain the emerging business trends in Operations Management.
Discuss the role of services as a part of Operations Management.
Identify the challenges in Operations Managements.
2. Through careful plan and control of the __________, the organisation can keep
______ to the minimum and definitely below „revenues‟ obtained from the market.
1.3 Evolution of Operations Management
During the Industrial Revolution in the 1770s, it was common for one person to be
responsible for making a product, such as horse-drawn cart or a piece of furniture, from
start to finish. Modern machines were not available.
Innovations in the 18th century replaced human power with machine power. Craft
production was slow and costly in the early days. Many companies emerged, each with
its own set of standards. Factories began to spring up and grow rapidly, providing jobs
for countless people. In spite of changes, management theory and practice did not
progress well. Enlightenment and more systematic approach to management were
essential.
Functions
The examples given above illustrate the variety of systems that may be considered as
operating systems. A simple categorisation these systems would distinguish between
goods-producing and service-producing systems. The function of an operating system is
a reflection of the purpose it serves for its customer, i.e. the utility of its output to the
customer. Four principal types of systems that can be identified, they are:
Manufacture: The principal common characteristic is that something is physically
created, i.e. the output consists of goods which differ physically – in form or content –
from the input materials to the system.
Transport: The principal common characteristic is that a customer or something
belonging to the customer is moved from place to place.
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Supply: Unlike in manufacture, goods output from the system are physically the
same as the inputs to the system. There is no physical transformation and the system
function is primarily one of change in possession utility of a resource.
Service: There is a change in state of utility of a resource, that is, the state or
conditions of physical outputs differ from inputs.
Many organisations comprise several systems with different functions. For example, an
airline depends on operating systems that serve the purposes of transport, supply and
service where as a typical manufacturing organisation will have internal transport and
service systems.
1.4.2 Role of Operations in an Organisation
Operations functions help to appreciate the role of operations in an organisation and its
relationship with other functional areas of business. Every organisation has a few
important activities to be performed. This includes:
Operations
Marketing
Finance
Human Resource Management
These two issues help you in assessing Operations Management functions better.
Design issues relate to configuration of the operations system and provide an overall
frame work under which the operations system functions. Design issues in Operations
Management lay down the overall constraints under which the operations system
functions. For example, once the capacity of the resources to be used in the system is
decided, it sets limits for the actual use of the system in operation.
Once the design choices are exercised, Operations Management amounts to putting the
available resources to best use and handling various issues. The available capacity, for
example, can be better utilised by planning production and carefully scheduling
operations so that idle time is minimised. Further, required capacity and material could
be estimated and made available through purchasing and scheduling procedures. All
these constitute operational control decisions in Operations Management.
Every issue addressed in design is inevitably addressed once again in operational
control. The context, however, differs between the two. Design issues often turn out to
be strategic in nature. Strategic decisions frequently involve large capital outlay and are
taken with critical inputs from an operations strategy process. The top management take
such decisions to Operations Management Unit 1 .: 9
improve the competitiveness of the organisation. On the other hand, operational control
issues are tactical, repetitive and routine in nature. Lower level operations managers and
production supervisors often make such decisions.
Operational decision can be long term, short term or medium term. Table 1.1 gives a
comparison of operational decisions.
Table 1.1: Comparison Short term Medium term
of Operational
Decisions Long term
Operations decision Operations decisions are Operations decision
taken once in five to ten taken for the short run of taken in fixed cycles of
years. a week or less. one year.
Decisions of multiple Decisions include Business plan with
levels and huge capital detailed scheduling of specific targets of sales,
outlay are taken. operations, quality The annual business
management and control production planning,
and reacting to master production
disruptions and changes scheduling and material
in plans. and capacity
requirements planning
are done.
2.1 Introduction
By now you must be familiar with the basic concepts of operations management. This unit
explains the partnership between operations and marketing, which is crucial to the success of any
organisation.
Several organisations are involved in three basic activities:
. Identifying potential customers, seeking to understand their needs, and encouraging them to use
the product or service
. Providing the product or service efficiently and effectively
. Managing the organisation.s finances to ensure continuing success
You can refer to these three activities as marketing, operations, and finance. Even though the first
and last activities are usually named in even a small organisation, it is comparatively rare, outside
manufacturing companies, for the operations function to be identified. Various organisations
resolve issues
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related to operations in an informal way. This may be sufficient. However, an organisation of any
size needs to take these three activities very seriously irrespective of what they are called.
Typically, in a manufacturing organisation, these three activities are in a state of tension. Thus
marketing seeks to advance service and to offer a greater variety of product choice to the
customer. Operations or production seeks to improve competence by reducing inventories and by
longer runs of fewer products. This conflicts with marketing objectives. Finance seeks to reduce
cost, by restricting inventories and by reducing expenses on machines and staff. This conflicts
with both marketing and operations objectives.
The typical contradictions between these activities are no longer as strict as was once thought.
With the use of Just-In-Time (JIT) inventory systems and such other flexible manufacturing
systems, it is now often possible to have,
. Low inventories
. High quality products
. Good customer service
. High productivity
. Relatively low investment in machines
Marketing and operations are, or should be, equal partners in the success of the organisation. In
this view, although from different perspectives, they share numerous common reference
frameworks. We consider each in the following sections.
Learning Objectives:
This unit of operations management familiarises you with partnership between operations and
marketing and different frameworks available for the operations management. After reading this
unit, you will be able to:
. Discover the relation between operations and marketing
. Explain system view of operations
. Explain dimensions of competitiveness
. Analyse the six P.s of operations mix
. Explain Porter.s value chain
. Explain order winner, order qualifier and Kano model
. Describe product life cycle stages
. Differentiate between volume variety and product process matrix
. Differentiate Quality and Productivity
. List out the universal principles
A system can be defined as a group of entities together with the association among them. This
simple definition contradicts its importance for the Operations manager or for management in
general. It is essential for an Operations manager to have a systems view because he or she
must be able to see the entire process, from concept to completion. The entire process chain may
include outside suppliers, service delivery and back-up, and the information flows that are
required for the same.
Systems can be described as having either open or closed features. These describe the extent to
which communications and interactions take place freely across the system boundaries.
Boundaries are not just material, like the walls of a particular functional area. They can also be
invisible, and represent, for example, the authority exercised by a manager. In today.s business
world, there is often a global dimension with international companies. Nowadays, the diversity of
boundary crossing communications is increasing continually.
An open system has some boundary regulations. System thinkers argue that every system needs
inputs of resources to produce outputs of goods or services. Without these resources, the system
falls down. What is in debate is the level of control or limitation of freedom placed on a system
boundary. A totally closed system exists only as an abstract model.
Systems and sub-systems can be grouped along the open-closed band, and recognised as a
.relatively-open. or a .relatively-closed. system. There are expenses and threats involved with all
points on the band. When there are more controls on a boundary, the costs are greater. Similarly,
when a boundary is more open, potential loss through theft or mistreatment is greater.
Figure 2.1 gives a pictorial representation of systems showing closed and open features.
Controlled interaction
with the environment
Free interaction with
environment
Closed system
Relatively closed or
Relatively open
system
Open system
No inputs
Known and
defined inputs
Known,
unknown and
unpredicted
inputs
No outputs
Known
and
defined
outputs
varied
outputs
Activity 1:
Think of a hospital. On what basis you call it a closed
system? On what basis you call it an open system? Why
does it need to be open in some respects and closed in
others? Indicate operations management issues which arise
when we look at these features.
2.2.2 Operations as Transformation Systems
Any operations system can be looked in as a composition of three major
components with significant communication relation. Each component and
its pathway itself are of interest to the Operations manager.
If we need to create a new operational system or resolve a problem in an
active system, the construction of a simple systems diagram showing these
components significantly assists our understanding.
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Figure 2.2 illustrates a basic input-transformation-output model.
Input(s) Transformation Output(s)
Figure 2.2: The Basic Input-Transformation-Output Model
In operations management terms, inputs are resources which are introduced
into the system in an organised and controlled way. These inputs include:
materials, capital, equipment, personnel, energy, skills and time.
The transformation procedure consists of the use of manufacturing or
service operations which change or employ the input resources to add
value.
The outputs of the system include products and services with the right
quality, in the right quantity and at the right time.
2.3 Dimensions of Competitiveness
Operations management plays a key tactical role inside an organisation. In
his book1 argues that there are five performance objectives which allow an
operations-based advantage to be gained:
. Doing things correct results in a quality benefit
. Doing things quick results in a speed benefit
. Doing things on time results in a reliability benefit
. Changing what you do results in a flexibility benefit
. Doing things inexpensively results in a cost benefit
To have an edge over competition, it would benefit organisations if they
consider the following six dimensions of competitiveness:
. Price: For any market there can be only one least price contestant. If
some contestant reduces the price less than the existing least price
contestant then he will become the least price contestant. The difference
between cost and price (i.e., margin) is as significant as the least price.
Efficient operations can make a huge difference to the margin.
1 The Manufacturing Advantage . Achieving Competitive Manufacturing Operations by Nigel
Slack (1991)
Quality: Quality is one of the most important factors of competitiveness. Quality and price are
related two ways. Higher quality typically means that a higher price can be asked. Oddly perhaps,
a higher-quality product can often mean lower cost though less waste, rework, and returns.
. Delivery: Delivery time and delivery consistency are operations-driven dimensions with major
impact for marketing. Frequently being able to deliver ahead of the competition and with greater
reliability can command a price payment.
. Speed: Closely related to delivery is speed. What is meant by speed in this circumstance is
reduced time to bring new products to market, or to devise and make products faster than a
competitor is able to do so.
. Design: Design is what includes .that little something special. to a product or service. Design
may be observed as an aspect of quality, but it is so significant to marketing and operations that
we look at it individually. Good design is not just the work of a motivated artist. It requires co-
operation from both marketing and operations.
. Flexibility: Flexibility is a calculated approach aimed at gaining an advantage in an increasingly
competitive world. In fact, flexibility is regarded as one of the few remaining .order winners..
There are different types of flexibility:
a. To modify easily from making one product to another within a standard range.
b. To change volumes easily.
c. To bring in new products easily.
Self Assessment Questions
1. The three basic activities of organizations are ______, ______ and ____.
2. ________ seeks to reduce cost.
3. ____ and ____ should be, equal partners in the success of the organisation.
4. There are _________ dimensions of competitiveness.
5. _________ closely related to delivery.
6. ______ and ____ are operations-driven dimensions with major impact for marketing.
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2.4 Operations Mix: The Six P¡¯s of Operations
Operations mix are the elements of the operations involved in service and manufacturing
organisations which convert raw materials into finished products. Similar to the marketing mix, the
operations mix offers an easy-to-remember frame of reference. It also offers an integrated
package of the factors that should be measured together when designing a new or revised
operation. The source of the operations mix is not clear, but an early version was developed by
Professor Keith Lockyer of Bradford Management Centre (1988).
The six elements of operations mix are:
. Product: For convenience we refer to .product. but .service. could be evenly applicable. In
operations, it is the design and quality of the product or service that is vital. Product design is the
essential interface between marketing and operations.
. Process: Suppliers, either internal or external, provide the inputs and customers, either internal
or external, receive the outputs. Feedback must function in between customers and the process.
It should also function between process and suppliers. Recently, in operations management,
attention has been given to .process. from the perspectives of quality and time.
. Place: In operations, .place. means location and layout. Discovering the location is a classic
problem of operations management. Having decided on the location, attention turns to layout of
the factory or office.
. Programmes: .Programmes. in operations means the schedules and plans under which
operations are performed. In manufacturing operations, such programmes are comparatively
standardised. They range from the manufacture plan to material requirements plan, capacity
plans, and detailed shop floor schedules.
. Procedures: Procedures cover .how should it be done.. This is a conventional field of study for
operations managers, with its recent origins in the work of Frederick Taylor and the founders of
motion study, such as Frank and Lillian Gilbreth. Whatever the task, there is a best and safest
way of performing it; the issue is therefore how this best and safest way is to be determined.
. People: Last but not the least, comes people. People drive all the other five Ps, indeed their
contribution is growing rather than declining.
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Activity 2:
Most operations-based organisations are part of a .supply chain.. The six elements of operations
mix transform raw materials into finished products when performed in a chain fashion. Select an
everyday product such as news paper and draw out the chain which results in the final product
reaching the customer. Then consider:
. What each stage requires from the previous stage
. What performance measures are critical at each stage
. What communication channels are used between each stage
. What distribution channels are used
. What quality requirements are needed at each stage
2.5 Porter¡¯s Value Chain
The proposal of the value chain is based on the process view of organisations. The idea of seeing
a manufacturing (or service) organisation as a system, made up of subsystems each with inputs,
transformation processes and outputs. Inputs, transformation processes, and outputs involve the
acquisition and utilization of resources such as capital, labour, resources, equipment, buildings,
land, administration and supervision. How value chain activities are carried out determines costs
and affects profits.
According to Porter (1985), the primary activities are:
. Inbound Logistics . includes associations with suppliers and contain all the activities required to
receive, store, and distribute inputs.
. Operations . includes all the activities essential to convert inputs into outputs (products and
services).
. Outbound Logistics . includes all the activities necessary to collect, store, and distribute the
output.
. Marketing and Sales . includes activities notify buyers about products and services, encourage
buyers to purchase them, and assist their purchase.
. Service . includes all the activities required to keep the product or service working efficiently for
the buyer after it is sold and delivered.
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Secondary activities are:
. Procurement . It is the purchase of inputs, or resources, for the firm.
. Human Resource Management . It consists of all activities involved in recruiting, hiring, training,
developing, compensating and (if necessary) dismissing or laying off personnel.
. Technological Development . It pertains to the equipment, hardware, software, measures and
technical knowledge brought to bear in the firm's transformation of inputs into outputs.
. Infrastructure . It serves the company's needs and ties its various parts together. It consists of
functions or departments such as accounting, legal, finance, planning, public affairs, government
relations, quality assurance and general management.
Figure 2.3 gives us a clear idea of the primary and secondary activities of Porter.s Value Chain.
For a specific product, some of the dimensions of competitiveness are more important than
others in a specific market during a specific time. Hence, it is useful to differentiate between so-
called order winners and order qualifiers.
Figure 2.4 depicts the Kano model which shows the degree of achievement
of customer satisfaction.
Delighters
More is better
Must Be
Neutral
Delight
Absent Fullfilled
Degree of
Achievement
Dissatisfaction
Customer Satisfaction
Figure 2.4: The Kano Model
The Kano model:
. Helps to explain requirements. If requirements are satisfied, they
contribute to customer classification, neutrality, or satisfaction.
. Identifies the ¡°Must Be¡± needs, which the client expects. If they are
unfulfilled, the customer is dissatisfied. However, even if they are entirely
satisfied, the customer is not particularly satisfied. An example of a Must
Be need is airline safety.
3 Joiner, 1994.
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. Identifies the ¡°More Is Better¡± needs, which have a linear effect on customer satisfaction: The
more these needs are met, the more satisfied customers are. An example is low-priced airline
tickets.
. Identifies ¡°Delighter¡± needs, which are those that do not cause dissatisfaction when not
present but satisfy the customer when they are. An example is serving hot chocolate chip cookies
during an airline flight.
. Helps in the prioritization of needs . for example, Must Be needs are usually taken for granted
unless they are absent. These needs are to be taken care first.
2.7 Product Life Cycle
The Product Life Cycle (PLC) is a widespread phenomenon. Marketers regularly identify four or
five stages through which a product passes. The relating of marketing strategy with life cycle
stages is well established. But operations also can be connected to the life cycle stages. Figure
2.5 shows the combination of both marketing and operations implication of the various stages in a
life cycle.
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X-Axis
Y-Axis
Development Growth Maturity Decline
Operations
implications
Product
design
Limited
focused
variety
Varieties
develop
Product
improvement
and cost
cutting
Reduction in
variety
Product
quality
Process
Place
People
Price
Delivery
Quality through design
Quality through conformance
Job shop? Batch? Line?
Line but with
no further
Investments (?)
Location is the
priority
Layout of
process
is the priority
Workplace
layout is the
priority
Innovation Flexibility Consistency Flexibility
High
Reduction to
retain or to
gain market
share
Competing
through price
Making money as
long as possible
through pricing for
maximum profit
without further
investment
Not critical
Becoming
critical
Critical Less critical
Figure 2.5: The Product Life Cycle: Operations Implications
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The product goes through development, growth, maturity, and decline phases. Several products
may travel through PLC in a few weeks, others may take decades. If you demonstrate a graph of
volume versus time, the characteristic shape of a PLC is a stretched out S. In its development
stage, small quantities are produced and the importance is given to design and innovation. As it
reaches this growth step, large quantities are produced at a smaller unit price. This levels out in
the maturity step. You can see the implications for operations management at all stages of the life
cycle as mainly process, procedures and delivery mechanisms should change.
Corresponding with each stage of the PLC, we comment on some features of competitiveness. In
addition, to make the connection with the next section, we comment on process. Process in this
circumstance means the way in which operations are actually arranged and the suitable selection
of technology. We are not suggesting all products evolve through having to adopt particular
technologies or layouts at various stages of their PLC. However, one particular choice of layout or
technology will probably be compatible with marketing strategy at various stages of the PLC. An
Operations manager should appreciate that he or she needs to settle in right through the PLC.
You should refer to section 2.4 and 2.8 to get a better understanding of the operations
implications.
3.1 Introduction
By now you must be familiar with the frameworks of Operations Management. This unit
familiarises you with competitiveness and strategies of organisations with respect to operations
management.
Each competing organisation in the industry has a competitive strategy1. Some of the basic
questions businesses need to consider are:
„h What factors drive competition in the industry we are concerned with?
„h What are our competitors doing to gain an advantage and how can we best respond?
1 Reference: www.12manage.com/methods_porter_competitive_advantage.html
Operations Management Unit 3
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„h How do we, as an organisation, position ourselves to compete in the long run?
There is an increasing awareness that operation strategies should lead to global competitiveness
and not merely limit to the firm.s products and services. This can be done by contributing
distinctive capability (or competence) to the business and continually improving the products and
processes of the business.
Operations are either a competitive weapon or a corporate milestone. Operations should be fully
connected with business strategy. Operations strategies and decisions should fulfil the needs of
the business and should add competitive advantage to the firm.
We have seen that wealth can only be created by operations that are productive in relation to a
known market, with the required financing and human resources. This means that all of the
functions of the firm must be well coordinated to earn revenue and have a competitive advantage.
The cross functional coordination of decision making is facilitated by an operations strategy that is
developed by a team of managers from across the entire business.
Learning Objectives:
After studying this unit you will be able to:
„h Define productivity and its importance.
„h Explain about the global environment of business and competition.
„h Analyse why some companies are more successful at competing than others.
„h Discuss how effective strategies can lead to competitive organisations.
„h Explain how organisations can improve productivity.
3.2 Productivity
.Productivity., in business, is a measure of performance of a company, in terms of how effectively
and efficiently it is using its resources. Productivity is related to Operations Management as it
focuses on maximising its resources. utilisation. In the larger context of the organisation, strategy
can either be to differentiate its products without specific focus on the cost, or to focus on being a
low-cost producer without a particular emphasis on differentiated product. In either case, the cost
of operations are key to
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.winning. in the market, because even for a highly differentiated product, the demand will be
under threat if the costs of operations are so high as to push the product prices beyond the
customers. value perception.
Productivity directly influences the cost of operations. Productivity can be simply defined as the
ratio of outputs to Inputs. In general, the output is referred to in terms of the value of the products
or services produced by the company, while the input can be a number of factors invested in: raw
materials, capital, labour, energy, etc, or a combination of them. Thus,
Labour Productivity = Output of Products / Labour Input
On the other hand, 2
Overall Productivity = Output of products / All Resources used
Hence, a company in order to optimise its cost levels, and effectively create a competitive
advantage should improve its productivity levels.
3.2.1 Different Types of Productivity
Productivity can be divided into three types. They are:
1. Technological Productivity
2. Employee Productivity
3. Managerial Productivity
Technological Productivity is the level of output received after using any technology or device
within a certain period of time. Adopting new technological advancements, for example, CAD
(Computer-aided Design) and CAM (Computer-aided Manufacturing), can enhance the
Technological Productivity.
Employee Productivity is the level of output received from the employees within a certain period
of time. Good training to the employees, encouraging multi-skilled labours, introducing new tools,
encouraging participation in Managerial decisions in the company can achieve good Employee
Productivity.
2 For more information on different kinds of Productivity please visit www.alison.com
Operations Management Unit 3
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Managerial Productivity is the level of output received from Managers within a certain period of
time. Managerial productivity can be achieved if the Managers crave for quality rather than
quantity. They should also encourage employees to participate in the decision-making issues
related to the company. Managers should also cultivate the habit to reward the employees for
their performance and should adopt some managerial techniques to improve the Productivity.
Thus the Productivity of any company or organisation depends on both people and operations
variable which in turn improves business competitiveness.
Self Assessment Questions
1. Operations strategies and decisions should fulfil the needs of the business and should add
______________ to the firm.
2. Productivity is related to Operations Management as it focuses on ___________ its resources..
3. Productivity can be simply defined as the ratio of ________________.
Activity 1:
Visit the branch of Britannia foods in your area and create a report on how productivity influences
the cost of operations.
3.3 Competitiveness
Competitiveness of a firm is simply its propensity and ability to compete with other firms in the
industry. An average company tries to survive in the market whereas a highly competitive
company fights the competition and tries even to change the .rules of the game.. Competition has
become the major challenge as more and more companies are entering in contest, and trying to
corner larger market shares for themselves in their product markets. The size of the .market.
remains more or less the same, but the number of firms competing for their individual shares are
increasing rapidly. In countries like India and China, where the markets for many products /
services are still growing, the markets offer hope and scope for the firms to succeed and operate
profitably, provided they plan properly and execute them effectively.
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Today, the importance of competitive advantage for a firm could be greater. All well-run firms are
constantly striving for and working towards attaining competitive advantage and sustaining it in
the long run. This is important in order to run their organisation profitably in a highly competitive
and fast-changing market. These are done through formulation of well thought-out competitive
strategies and implementing them effectively.
3.3.1 Competitive Dimensions of Operations
Some of the factors that influence the competitive position of a firm can be listed under the
following categories:
„h Cost / Price: Large segments of most markets, especially in less developed countries like India
¡V buy solely on the basis of price. Hence, manufacturers or service providers need to focus on
being low-cost producers. Typically, such products are like commodities.
„h Quality: Many people prefer products that are superior in quality, in terms of reliability or
performance or durability. For manufacturers, quality can be introduced either through product
design or through superior process. However, too much emphasis on quality or attributes of a
product would render the product over-priced.
„h Delivery speed: Ability of a company to deliver a product quickly could give the company an
edge in the market.
„h Reliable delivery: This refers to the ability of a company to deliver its product or offering as per
commitment made to the customer. Often, this aspect becomes more important than the .speed
of delivery..
„h Flexibility in supply: The ability of a company to adjust or respond to sudden changes in
demand would give it considerable advantage in the market, since market demands are
unpredictable and companies experience sudden surges or fall in demand. Hence, a company
with the flexibility in operations can either leverage the situation of excess demand or effectively
cope with the sudden fall in demand such that it maintains its inventory or capacity costs at low
levels.
„h Flexibility in new product introduction: Another important aspect of .flexibility. that company
should have is to introduce new products or in offering a variety of products. A company which is
able to switch to new products, or from one existing product to another, enjoys market advantage.
Operations Management Unit 3
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Activity 2:
Visit any supermarket and note the competitive strategy they use to compete with the other
supermarkets in the area.
Self Assessment Questions
4. Competitiveness of a firm is simply its propensity and ability to __________ with other firms in
the industry.
5. _________,______,_____,______,____,___ are the factors that influence the competitive
position of a firm.
3.4 Strategy
Essentially, developing a competitive strategy means - developing a broad formula for how a
business is going to compete, what its goals should be, and what policies are needed to carry out
these goals.
Competitive Strategy can be defined as a combination of the goals which the organisation works
towards achieving and the policies it needs to implement to attain these goals. Different
terminologies may be used by different firms, such as: ¡§mission¡¨ or ¡§objectives¡¨ or ¡§goals¡¨;
¡§tactics¡¨ or ¡§operating policies¡¨ or ¡§functional policies¡¨. The figure shown below (Figure 3.1),
which can be called the Wheel of Competitive Strategy3, is a method that can be clearly used to
articulate the key aspects of a firm.s competitive strategy.
3 Reference: www.scribd.com/doc/6283720/Competitive-Strategy
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Goals
Definition of how
the business is
going
Objectives for
profitability,
growth, market
Product Line
Finance
R&D
Purchasing
Labour
Manufacturing
Distribution
Sales
Marketing
Target Markets
Figure 3.1: The Wheel of Competitive Strategy
The inner circle of the wheel, also called the .hub., broadly identifies the
organisation.s goals, i.e., it defines how the organisation intends to compete
in the marketplace, and also outlines its specific economic and noneconomic
objectives. The spokes of the wheel indicate the key operating
policies, with which the firm desires to achieve these objectives. Depending
on the nature of the business, management specifies or articulates these
objectives. Once they are defined clearly, the concept of strategy can be
used to guide the overall behaviour of the firm. At the broadest level,
formulating a competitive strategy involves considering four key factors that
define what a company can successfully accomplish. This is depicted in
Figure 3.2.
The firm.s strengths and weaknesses are its profile of assets and skills
relative to competitors, including aspects such as financial resources,
Operations Management Unit 3
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technological posture and brand identification. The personal values of an organisation are the
motivations and needs of the key executives and other personnel who must implement the
chosen strategy. The strengths and weaknesses of the organisation, together with its values,
determine the internal limits of the industry.s opportunities.
Figure 3.2: Key Factors of Competitive Strategy
The threats to the organisation, together with its inherent risks and potential rewards, determine
the competitive environment the organisation forms a part of. Societal expectations reflect the
impact on the company of such things as government policy, social concerns, evolving mores,
and many others.
How effective an organisation.s competitive strategy is, can be identified by checking its proposed
goals and policies for consistency with the below mentioned points:
„h Organisation.s goals are achievable.
„h Key operating policies address these goals.
„h Key operating policies complement one another.
„h Goals and policies are in sync with industry opportunities.
„h Goals and policies can be accomplished with available resources.
„h Goals and policies relate to societal concerns.
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„h Goals and policies match the availability of resources to the company with respect to its
competitors.
„h Timing of the goals and policies reflect the organisation.s ability to be flexible.
„h Goals are well defined by the key implementers.
„h There is a link between the goals, policies, and values of the key implementers to ensure
commitment.
„h There is sufficient managerial capability to allow for effective implementation.
Self Assessment Questions
6. Competitive Strategy is a combination of the ________for which the firm is striving, and the
_________through which it is seeking to get there.
7. Industry opportunities and threats with its attendant risks and potential rewards define
the________________________.
3.5 Corporate/Business and Operations Strategy
The Corporate strategy defines the long term vision of a company. The business strategy of an
individual business of a corporate entity follows from the corporate strategy. Most large
corporations pursue several businesses representing different industries and operating in
different markets. Each business has to find its own way of competing in its markets. Three
different types of .Generic. strategies can be pursued by businesses. They are:
„h Low Cost strategy.
„h Differentiation Strategy.
„h Niche strategy which can be either low cost or differentiation in approach.
Operations strategy specifies how the firm employs its production capabilities to support its
corporate strategy.
3.5.1 Operations Strategy Model
.Mission., .Distinctive Competencies., .Objectives. and .Policies. form the heart of operations
strategy. Figure 3.3 depicts:
„h The Inputs and Outputs of the operations strategy.
„h The hierarchy of strategies in a typical multi-business firm.
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Corporate & Business
Strategy
Operations Strategy
Mission
Distinctive
Competence
Objectives
(cost, quality, flexibility &
delivery)
Policies
(process, quality
systems, capacity, &
inventory
Results
Internal
Analysis
External
Analysis
Consistent pattern
of decisions
Functional strategies in
marketing, finance,
engineering, human
resources, and
information systems
Figure 3.3: Operation Strategy Model
Decisions in the four parts of operations ¡V process, quality, capacity and
inventory ¡V are outcomes of the strategy formulation, and are connected
with other functions in the business ¡V such as marketing and finance.
The role of Operations Strategy in relation to other functional strategies in
any of the businesses of the firm is given below:
Operations mission
Every business operations should have an articulated .Mission. along with
other functional strategies that is connected to the business strategy as well.
For example, if the business strategy is product leadership, the operations
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mission should focus on new product introduction and develop the needed flexibility to adapt
product to the changing needs of the market. If the company chooses to follow other strategies ¡V
such as market or price leadership ¡V the corresponding operations missions would be different.
Thus, the operations mission is derived from the business strategy adopted.
Distinctive competence
Distinctive competence refers to the company.s ability to carry out a (business) process better
than the competitors. The competence could be derived either from .unique. resources (capital or
human) or from .unique. capabilities (sometimes leading to a patent).
The distinctive competence of the company should be commensurate with the .mission. of
operations. Developing the distinctive competence refers to developing a business process in an
area (for example, in quality assurance) which is different from the mission of the operations (say,
excelling in new-product innovation). Similarly, the distinctive competence must be valued by
other functional areas such as marketing, finance, etc., so that it gets all-round support from the
entire cross-section of the business, as a basis for obtaining competitive advantage.
Sometimes, a business strategy may be derived from a company.s distinctive competence
(existing or planned) and the company may work towards matching the market to it. A company,
in order to compete effectively ¡V would need not only a suitable market segment but also a
unique capability to service the market segment. Thus, it is seen that .distinctive competence. is
an essential pre-requisite for working on a successful business strategy.
Operations objectives
The third element of Operations Strategy is operations objectives. There are four common
objectives, they are:
„h Cost
„h Quality
„h Delivery
„h Flexibility
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The company.s .Mission. is logically converted into objectives in the above mentioned areas. To
be strategic in nature, these objectives should be long-term (5 to 10 years).
Operations policies
This relates is the fourth element of the Operations Strategy. Policies are normally broad
guidelines that the company develops in keeping with their strategies and value systems. These
policies assist decision-makers (including the senior most management levels) in arriving at
decisions. Operations policies should generally be developed for each decision categories
(process, quality systems, capacity, and inventory), and should be integrated with other functional
decisions and policies.
Linking strategies
Operations Strategy should also be linked with other parts of the whole business, such as
marketing and financial strategies. Table 3.1 shows how two diametrically opposite business
strategies give rise to different functional strategies4:
Table 3.1: Comparison of Business Strategies
Strategy A
Strategy B
Business Strategy
Product Imitator
Product Innovator
Market Conditions
Price sensitive
Mature Market
High Volume
Standardised product
Product-features sensitive
Emerging Market
Low Volume
Customised Product
Operations Mission
Emphasise low-cost for mature products
Emphasise flexibility to introduce new products
Distinctive Competence Operations
Low cost through superior process technology and vertical integration
Fast and reliable new-product introduction through product teams and flexible automation
4 Refer book on ¡§Contemporary Concepts and Cases: OPERATIONS MANAGEMENT¡¨ ¡V
International Edition - by author Roger G. Shroeder ¡V page 28
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Operations Policies
Superior process
Dedicated automation
Slow reaction to changes
Economy of scale
Workforce involvement
Superior products
Flexible automation
Fast reaction to changes
Economies of scope
Use product development teams
Marketing Strategies
Mass distribution
Repeat sales
Maximising of sales opportunities
National sales force
Selective distribution
New-market development
Product design
Sales made through agents
Finance Strategies
Low risk
Low profit margins
Higher risks
Higher profit margins
Thus, it is seen that not only the Operations Strategy gets dictated by the overall business
strategy of a company, but also that the other functional strategies need to be in line with the
Operations Strategy.
Focused operations
Whichever type of strategy the company follows, it has to ensure that the operations function is
carried out in a .focused. manner through a coordinated set of policies.
Self Assessment Questions
8. The Corporate Strategy defines the _________vision of a company.
9. _______________________.form the heart of operations strategy.
10. ____, ____, _____, and _____ are the .four common objectives of Operations..
Activity 3:
Visit two supermarkets and compare their business strategies.
3.6 Global Environment of Competition
A company should be very effective in its operational performance and should have good
strategy, to perform well. It is very difficult for a company to outperform others merely on the
strength of its operational effectiveness.
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For example, Japanese companies had developed substantial competitive advantage mainly due
to their far superior manufacturing techniques and practices. In course of time, American
companies caught up with the Japanese in respect of manufacturing expertise, and overhauled
them in performance with the help of superior strategies.
Business Strategy is a company.s plan as to how it will compete in the market place. However,
the competitive environment is constantly changing. This could be largely attributed to the
emergence of new technologies in almost all industries. Therefore, a company needs to be alert
and have the ability to adjust to the changing environment in order to remain competitive.
Future business conditions across the world can be estimated by understanding the present
conditions. Some of the business conditions that affect the current business scenario are as
follows:
„h Global competition as prevailing today.
„h Customers. increasing demand for quality, customer service and low price.
„h Rapid onset of new and advanced technologies.
„h Rapidly growing service sector.
„h Depleting resources.
„h Increasing concern for social issues.
3.6.1 Global Competition
Due to rapid globalisation, industries in most countries are facing intense competition. Developed
countries look for new markets for their products in new countries as their own home markets are
maturing, while the emerging economies churn out superior products offered at lower prices since
the industries in their countries look for larger markets.
Tremendous growth in transportation and communication has made accessing the modern and
distant market easier. The entire world can be perceived today as a .Global Village.5, wherein
economic events in one country promptly affect other countries.
5 www.allaboutbranding.com/index.lasso?article=397
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China and India, with their very large populations, have emerged as the biggest markets for the
future. On the other hand, the same high population, coupled with improved education levels and
experience in many industries, are also posing fresh competition to west-based industries.The
above dynamics are giving birth to new international companies whose domain of operations
spans several countries. Consequently, operations managers have to coordinate with
geographically dispersed operations. On the other hand, several countries have broken trade
barriers and are actively cooperating with other countries. For example, the European Union is
one such example; even though the countries are separated geographically by thousands of
miles they have set up bi-lateral agreements. These have given rise to more .strategic alliances.
amongst individual companies.
Fluctuating international stock markets, currency volatility, fluctuating interest rates, inflation and
very high levels of trade imbalances have created turbulence in financial markets, thus affecting
international business.
3.6.2 Quality, Customer Service and Cost Challenges
Spiralling competition and great strides in innovation have literally made (prospective) customers
to behave like .kings.. Due to the awareness of the choices available for them, customers
demand for quality of products. Consequently, many companies today are no more satisfied with
delivering ¡¥acceptable quality. but strive for ¡¥perfect product and service quality¡¦.
Companies are now striving to meet the customers. needs and meet the ideal of perfect quality
that is the concept of .Total Quality Management. (TQM). TQM also focuses on .continuous
improvement of quality. which, in turn, calls for empowering all those who are involved in making
and delivering the products.
Another area of pressure on companies is that of costs and prices. Industry has found ways to
reduce cost and to increase scope of fixing prices in the market. Automakers concentrate
productivity and retailers try to leverage such aspects as economies of scale, huge discounts on
large scale purchases and other Supply Chain practices to reduce costs dramatically and thus,
effectively compete in the market place. Other measures such as restructuring, downsizing,
outsourcing, have become popular among
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companies in their attempts to keep costs low. Labour-intensive industries have resorted to off-
shoring their activities.
3.6.3 Advanced Technologies
Both Manufacturing, as well as service industries has experienced far-reaching impact on their
operations because of .automation.. The initial disadvantages of high investments in automation
are outweighed by not only lower manpower costs, but also by improved productivity, improved
quality, reduced wastage and scrap, quicker response to customers and more frequent
introduction of new products and services.
One of the examples of automation is Computer and Software Technology. Computer
applications and software have helped companies replace labour-intensive processes such as
payroll, billing, sales order processing, inventory control, etc. with computerised software.
Integrated ERP software systems facilitate real-time data and information to support decision
making.
However, competitive advantage resulting out of a company.s automation does not last long
since competitors invariably duplicate such innovations. At the same time, companies cannot
avoid innovating since doing so renders them at a competitive disadvantage.
Continuous growth of service sector
In more recent times, there has been a sudden growth in service industries. It has far outstripped
the growth of the manufacturing sector. This fact is no indication of any appreciable decline in the
manufacturing sector. Rather, the steep growth in number of service industries reflects the fact
that more and more service products are in demand, and much of this increased demand is
generated by the manufacturing sector. Hence, a strong and steady manufacturing sector is
necessary for the growth of service sector.
Self Assessment Questions
11. Due to rapid globalisation, industries in most countries are facing _______.
12. Consequently, many companies today are no more satisfied with delivering .acceptable
quality. but strive for ____ & _____.
13. Both Manufacturing, as well as, service industries has experienced far-reaching impact on
their operations because of___________.
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14. _________, _______, _____________ have become popular among companies in their
attempts to keep costs low.
15. A strong and steady ______________ is necessary for the growth of service sector.
Activity 4:
Compare any big mall and a small retail shop and list down the points how the latter is facing
tough competition from the former due to rapid growth in globalisation.
3.7 Summary
Firms competing in their industries need to have a .competitive strategy., since it has been
practically established that there are significant benefits through an explicit process of formulating
strategies, and implementing them effectively.
Firms are also increasingly aware that they cannot be satisfied by just being a place to make their
products and services, but their operations should contribute to the company.s competitive
posture. Therefore, every company also needs an Operations Strategy. Operations Strategy
should be fully connected to the company.s business strategy, and should contribute to the
company establishing a .competitive advantage. over its competitors.
Competitiveness of a firm is its willingness to compete effectively with other firms in their industry.
Competitive advantage is the ability of the company to generate superior profits as compared to
the average profitability of other firms in the industry.
Strategy development generally means developing a road map or a broad formula as to how the
business is going to compete in the market place. Competitive Strategy is, therefore, both the
formulation of long-term Plans, as well as, their effective implementation. Formulating strategy
involves consideration of four factors which define the boundary of what the company will be able
to accomplish, and these factors are:
„h Company.s strengths & weaknesses
„h Industry opportunities & threats
„h Personal values of key implementers of the strategies
„h Broader societal expectations
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Strategy formulation in the area of operations generally involve major decisions in the areas of
process, quality, capacity and inventory, which emphatically determine the two major elements of
delivering value to the customer ¡V benefits through product and service, and the cost that the
customer has to incur to experience the benefits.
A company has to develop Distinctive Competencies in the relevant areas to achieve either of the
two attributes mentioned above.
The key operations objectives fall in the areas of cost, quality, delivery and flexibility. Companies
always need to formulate policies which provide guidelines to the operating managers to take
effective and timely decisions to accomplish objectives & goals.
Lastly, it is important to note that while Operations Strategy should be linked to and drawn from
the company.s business strategy, it should be in line with other functional strategies ¡V Marketing,
HR, Finance, etc. ¡V of the company.
3.8 Terminal Questions
1. What is meant by .competitiveness. of a firm? What are the factors affecting the competitive
position of a firm?
2. Describe the link of Operations Strategy with other strategies of the company.
3. Explain the terms: Operations Mission, Distinctive Competence, Operation Objectives and
Operation Policies.
4. What are the effects of Global Competition on the industries in India?
3.9 Answers
Answers to Self Assessment Questions
1. Competitive advantage
2. Maximising
3. Outputs to Inputs
4. Compete
5. Cost \price, quality, delivery speed, reliable delivery, flexibility in supply, flexibility in new
product introduction
6. Goals, Policies
7. Competitive environment
8. The long-term vision
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9. Mission, Distinctive Competencies, Objectives and Policies
10. Cost, Quality, Delivery and Flexibility
11. Intense competition
12. Perfect product; Service quality
13. Automation
14. Restructuring, Downsizing, Outsourcing
15. Manufacturing sector
Answers to Terminal Questions
1. Refer section 3.3
2. Refer section 3.5
3. Refer section 3.5
4. Refer section 3.6
3.10 Case Study
SP Banking Corporation was found in 1960. It is a well established bank with 35 locations
throughout India with Delhi as its main operating branch. The bank has different kinds of service
for different kinds of customers. The Bank started facing problems with the amount of ATM
centres. Customers were getting frustrated due to long hours of waiting. Not only that but also the
centres were not sufficient for the customers during peak time. Other Banks were offering lower
interest rates on loans with higher interests on savings accounts and fixed deposits. These
problems posed a great threat to the reputation of the Bank and soon it began losing its old
customers.
A board was appointed to develop the strategy of the Bank. This board decided to start 24 hours
customer service centre so that the Bank would concentrate more on customer service to
withstand the competition. The Board also solved problem related to customer-service such as
staffing and facilities. It also introduced on-line banking..
Questions
1. Create a list of changes that the Bank should have considered for the operations function
before appointing a board.
2. According to you in which other way can SP Bank solve its problems?
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3.11 Glossary
Term
Description
Congruence
Agreement, harmony, or correspondence, the quality of agreeing, being suitable and appropriate.
Depleting
To decrease, use up or empty out, a state that continues for a limited time.
Explicit
Fully and clearly defined or formulated, a concise explanation of the meaning of a word or phrase
or symbol.
Implicit
An underlying meaning, understood though not directly expressed.
Propensity
A natural tendency or disposition, a tending towards or natural liking.
Spiralling
To rise or fall with steady acceleration, a continuously accelerating increase or decrease:
Strides
To achieve a steady, effective pace, to attain a maximum level of competence. It signifies
progress or development.
References
1. www.12manage.com/methods_porter_competitive_advantage.html
2. www.alison.com
3. .Operations Management : Theory and Practice. by B. Mahadevan
4.1 Introduction
By now you must be familiar with the concept of Operations Management and the competitive
strategies of any organisation. This unit covers pay-back period analysis, stakeholder
requirements, opportunity and ownership costs, discounted cash flow analysis, cost ¡V benefit
ratios, sensitivity analysis, and break ¡V even analysis.
Businesses are economic entities. One of their main objectives is to make sustained profits.
Basically, a business involves investing in:
„h Assets ¡V capital
„h Material
„h Human resource
Businesses use these assets to effectively undertake the .conversion processes of raw materials
and components into finished products that are marketable at profit, thus yielding a desirable
.return. on the investments made.
Investment on plant and equipment is one of the most significant decisions taken by the promoter
/ top-level-management. These decisions have a very high and long-standing impact on the
profitability of a business. To preserve and maintain the wealth-producing assets of the business,
the .returns. on equity must not only be competitive with other investment options available to
stockholders and investors, but also be adequate to upgrade and update the assets to meet the
emerging requirements of the market. The expected rate of return is also based on the investor.s
perceived risk associated with the investment opportunity.
Accepting a strategy of any company.s management depends on the estimated rate of return on
equity obtainable, from among different options of strategies. It also depends on the perceived
risk and the acceptability of the option by the stakeholders.
For a decision on investment in plant and equipment, any criteria that are adopted must provide a
means of distinguishing between acceptable and unacceptable options; a rating of the options in
order of their desirability; and solve the problem of choosing techniques. The criteria must,
however, respect two fundamental principles:
„h ¡§The bigger the better¡¨ principle: Investments and equipments being equal, bigger benefits
are preferable to smaller benefits.
„h ¡§The bird in hand¡¨ principle: Investments and equipments being equal, early benefits are
preferable to later benefits.
Finally, the criteria must have the capability to be applied to any conceivable investment.
Besides the parameter of Return on Investment (ROI)1, which is the most popular criterion for an
investment decision, there are other metrics which are important. The key stakeholders of the
company are focused on different parameters such as:
„h Return on assets
„h Cash flow
„h Economic value added
1 For more information on ROI please visit
http://www.investopedia.com/terms/r/returnoninvestment.asp
Another very popular parameter used while making investment decisions is the .Pay-back
Period., which is derived from ROI. The discounted cash flow. is another very important concept
while evaluating various investment options.
In addition to the above parameters, even short-range decisions are made on similar basis. Aptly
termed as the Cost-Benefit Ratio, any option should weigh the ratio of the expected benefit
arising out of a decision to the cost incurred due to the decision.
An important technique used in selecting an investment option is the .Sensitivity Analysis., which
assesses the dependency of success of a decision on the key assumptions made while taking the
decision.
Learning Objectives:
After studying this unit, you will be able to:
„h Define profitability and its importance.
„h Explain the various types of costs.
„h Analyse accountability of the management of the company towards the company.s
stakeholders.
„h Explain the concepts of Cash Flows.
„h Define the basic concept of financial decision making ¡V Cost-benefit ratios.
4.2 Pay-back Period Analysis
Pay-back period analysis tells us how long it will take to earn back the money we spent on the
asset. Pay-back period analysis has been used when new assets have been purchased with a
large capital amount. Pay-back Period Analysis is a simple way to decide whether one should
analyse the acquisition as a viable investment decision. The formula to calculate the pay-back
period is:
Cost of Asset / Annual Cash Inflow = Payback Period
Thus, if an asset costs Rs. 150 million and is expected to generate a return of Rs. 30 million
annually, the pay-back period would be 150 / 30 = 5 years. However, it is possible that the annual
return varies from year to year. In such a case, the annual returns need to be added up till a point
that it reaches the cost of the asset ¡V this would indicate the pay-back period.
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An asset with a shorter back period would rank higher than one with longer paybacks. The theory
is that assets with shorter paybacks are more liquid, and thus less risky ¡V they allow us to
recoup our investments sooner, so that the money can be re-invested elsewhere. Moreover, with
any asset, the risk increases as we look further ahead. With shorter payback period, there is less
of a chance that market conditions, obsolescence, interest rates, the economy, or other factors
affecting the asset will drastically change.
Obviously, the period for both capital recovery and return has to be lower than the economic life
of the asset. After the payback period, the asset contributes to profits because the invested
amount has been recovered.
Is pay-back period analysis a measure of the investment.s profitability? The answer, in general, is
.NO. since it ignores benefits that occur after the payback period. The major criticism with this
analysis is that it ignores the time value of money.
Importance of Pay-back Analysis
It is the most popular method used in industry for making decisions on investments. It is a means
of establishing an upper bound on the acceptable degree of risk where one can appraise the near
future with some confidence. Payback period is an appealing unit of measurement because it is
easily understood when interpreted. The Pay-back Period analysis is very important for new
companies with poor economic resources. This method can also be used in firms where the
products are not used for a longer period of time, for example, consumer electronics.
Activity 1:
Calculate the Payback Period of a company when the assets cost
Rs. 350 million and is expected to generate a return of Rs. 30 million
annually.
4.3 Stakeholder Requirements
Who are an organisation.s stakeholders? ¡V All individuals, groups, other
organisations and entities that either influence the working of the
organisation or are directly influenced by it. Some of the main stakeholders
of any particular company are:
„h Shareholders
„h Employees
„h Management
„h Customers
„h Suppliers
„h Regulatory agencies
„h Government
„h The community.
It is the job of operations managers to convince the stakeholders that the
investment in plant and equipment is going to enhance the value of the
investments already held by them in the organisation. Some of the concepts
that can be considered in analysing the investment are discussed in the
following sub sections.
Return on Investment (ROI)
The ROI is a fundamental measure of efficiency with which a firm manages
its assets. It answers the question: ¡§How much profit is the firm generating
from the use of its assets?¡¨ Return on investment is a very popular unit of
measurement because it is simple and versatile. Another advantage of ROI
is that it can be modified to suit the situation according to what you have
included as costs and returns. The return on investment formula:
ROI =
Cost of Investment
(Gain fromInvestment ƒ{Cost of Investment )
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Earnings Before Interest and Tax (E.B.I.T)2
The EBIT is the revenue earned by the company without regard to how it is
financed. If it is the rate of corporate tax, then EBIT (1 ¡V t) gives the Income
after Tax deduction.
ROI is defined as the ratio of Income after tax to the value of assets,
indicated as a percentage. That is.
ROI = EBIT (1-t) / Assets X 100
Where, t = Tax rate on ordinary income
Return on Assets (ROA)3
The RAO indicates profitability of a company relative to its own total assets.
It tells how efficiently a management is using its assets to generate
earnings. It is the ration of any company's annual incomes by its total
assets, ROA can be displayed as a percentage. Sometimes this is also
called as "return on investment". The formula for return on assets is:
ROA =
Total Assets
Net Income
Cash Flow
The Operating Cash Flow (cash flow provided by the operations) is a central
and crucial concept for financial management. It measures the ability of the
company to generate a flow of cash, through its day-to-day operations and
thus evaluates its capacity for survival and for long-term growth.
The Operating Cash Flow (OCF) is the basic and fundamental source of
cash for the investment and financing policies of the company. It is better if it
is higher as it gives more flexibility to a company to build a long-term
strategy without constraint and interference from economy.
OCF = Profit after Taxes, Interest, Dividend payments + Depreciation
Economic Value Added (EVA)
According to the concept of EVA, a company or division creates value for
owners only when its operating income exceeds the cost of capital
employed. EVA is generally calculated as the net operating after taxes profit
2
For more information on EBIT please go to http://www.wisegeek.com/what-is-ebit.htm
3
For more information on ROA please go to
http://www.investopedia.com/terms/r/returnonassets.asp
minus ¡V a charge for the opportunity cost of the capital invested. EVA can be calculated as:
EVA = NOAT ¡V COCC
Where,
NOAT = The net operating after taxes profit
COCC = A charge for the opportunity cost of the capital invested.
It is an estimate of the amount through which earnings exceed or fall short of the required
minimum rate of return for shareholders or lenders at comparable risk.
EVA measures the difference between the pre-investment and post-investment value for the
business.
Self Assessment Questions
4. An organisation.s stakeholders include all individuals, groups, and other entities that either
________ the working of the organisation or are directly _________ by it.
5. Return on Investment (ROI) is a fundamental measure of the _______ with which a firm
manages its _______.
6. Operating Cash Flow measures the ability of the company to generate, through its ________, a
flow of _________.
7. EVA measures the difference between the ___________ and ____________ value for the
business.
For example, ¡§Would a thousand rupees earned today be the same as a thousand rupees
earned 5 years later? ¡§NO¡¨, because, even if the thousand rupees earned today is deposited in
a bank, it would earn a compound interest over the next 5 years and become, say, more than Rs.
1800/- in that time. Money loses value due to time. It also loses value due to risk and many other
factors. To get around the problem of value of time, Pay-back analysis should be used in
conjunction with Discounted Cash Flow analysis.
Discounted Cash Flow makes use of the Present Value concept, that is, an amount available
today is worth more than the same amount available later. Besides, money which is not available
today but available only later cannot be used now. Therefore, the future value of money is
discounted in financial evaluation, to reflect its lesser value. The worth of future money today is
called the Present Value.
The total of the stream of Present Value calculations is called the Net Present Value. The present
value of an anticipated future earning is decided by two things:
„h The amount of time between now and the future payment.
„h The interest rate.
The Rate of Return is that rate, for which the present value of net monetary operating advantage
equals the cost of the initial investment. Discounted Cash Flow analysis is particularly useful for
comparing the financial merits of assets which have very different patterns of expenditure and
return.
4.9 Summary
Being economic entities, one of the main objectives of businesses is to make sustained profits.
The expectation of profits would depend on the investments made for starting and running the
business. This relates to the concept of Return on Investment (ROI). Logically, the ROI on any
investment should be estimated to be better than the corresponding ROI on any other alternate
investment opportunity. This will be the basis for any entrepreneur to select an appropriate
investment option.
The ROI of any business would be directly proportional to the .profit. generated by operating the
business. And profits gained are equal to .revenues from the business. less the .costs incurred. in
not only running the business, but also in setting up the business. Included in the costs of setting
up a business are the Opportunity Costs and Ownership Costs.
Major investments take place for plant and machinery, and operations managers have to
convince the stakeholders that the investments in plant and machinery shall yield adequate
returns. Apart from ROI, other measures such as EBIT, ROA, Cash Flow, EVA, etc are also used
to analyse and judge the appropriateness of investments.
One of the most common analysis used is the Pay-Back analysis, which determines the time
period within the entire investment can be recovered through profits. It is natural that most
investors look for the lowest pay-back period. Cash flow analysis is another way to determine
whether the business can be operated smoothly, since profits most get accrued and are not
realised immediately. However, in order to keep the business in operation, cash is required. The
Discounted Cash Flow analysis further gives weight age to the fact that money earned today is
worth more than the same money earned in the future.
Decisions, whether of long-term nature such as a large investment, or shorter-term decisions,
always involve money outflow. In order to assist decision making, cost-benefit analysis and cost-
benefit ratios are used.
Parallel to the investment decisions the company also studies the consequences if the actual
happenings are different than the assumptions made while making the investments.
Another way to analyse while making major decisions regarding operations is the Break-even
Analysis, which basically determines the level of production/sales at which the entire costs are
recovered, that is, the business starts making profits.
4.10 Terminal Questions
1. What are Opportunity Costs and Ownership Costs, and how are they relevant to investment
decisions?
2. What do the stakeholders of an organisation seek in terms of results of a business? What are
the parameters used by managements to satisfy the stake holders?
3. Describe the concept of Pay-back period analysis.
4. What is Cash Flow analysis, and how is Discounted Cash Flow analysis different?
5. What are Cost-Benefit Ratios, and how are they used in analysing investments?
6. Describe Sensitivity analysis.
7. How is Break-even Analysis significant to investment, as well as, operational decisions?
4.11 Answers
Answers to Self Assessment Questions
1. Earn, assets
2. Return on investment
3. Owning, maintaining
4. Influence, influenced
5. Efficiency, assets
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6. Operations, cash
7. Pre-investment, post-investment
8. Acquiring, assets
9. Owning and Maintaining
10. Present
11. Future, today
12. Discounted, cash, flow
13. Anticipated Benefits
14. Discounted, undiscounted
15. Key, assumptions
16. What, if
17. Cost, volume, profit
18. Total, costs, total , revenues
19. Volume, production
20. Low
Answers to Terminal Questions
1. Refer to section 4.4
2. Refer to section 4.3
3. Refer to section 4.2
4. Refer to section 4.4
5. Refer to section 4.5
6. Refer to section 4.6
7. Refer to section 4.7
4.12 Case study
SP is one of the largest travelling agency in India, with headquarters at Delhi. With it.s 100 years
of history it has 150 branches throughout the world. It stands as synonym for excellent service
and commitment. High cost base of a new ownership challenged the commitment of the
company. The team at Delhi started working on reducing costs and optimising revenues. SP
decided to collaborate with SK Software solutions to restructure its business process and IT. SP
wanted a partner who can share the profit and loss evenly which ever was re-invested. SK
accepted the offer to partner with SP. SK did not follow the traditional way of working but came up
with innovative thoughts. It suggested
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partnership in delivering services and common service centres to reduce the back-office functions
costs. This method worked well and more benefits with less risk were delivered. This enabled SP
to have rapid profitability and made to re-invest the profits for new business. SK appointed a team
to take care of the shared service centres, financial matters, human resource, project delivery
administration and IT. The result was a common language base and three units of business:
Service distribution, SP Airlines and Tour Operations.
In one year SP became a strategic sourcing model. The new business reduced the risk of
creating structure and funding additional business.
In one year, SP changed its business model altogether and moved to a strategic sourcing model.
The company improved operations, reduced its cost base by 75 million pounds, and increased
profitability. The new business model delivered the benefits and value of the Shared Services
Centre program faster and at significantly reduced risk while creating the structure and the
funding to drive additional business transformation. SK not only helped SP but also became a
partner in its outcomes. During the 15 years of partnership SP was very comfortable in handling
with the common service centres and controlled all critical operational activities.
Co- sourcing has transformed SP entirely into a very successful company
Questions:
1. Do you advise SP for out-sourcing rather than co-sourcing? Explain.
2. What made the two organisations to build a good working relation or environment?
4.13 Glossary
Terms
Description
Appraisal
A valuation by an authorised person, document criteria used to allocate organisational rewards.
Depreciation
A decrease in price or value, the loss, over time, in the value of an asset such as plant,
equipment, and vehicles.
Incurred
To acquire or come into, cause to experience or suffer or make liable or vulnerable to.
Monetary
Relating to or involving money, a unit of money unit, unit of measurement ¡V any division of
quantity accepted as a standard of measurement or exchange.
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Obsolescence
Being in the process of passing out of use or usefulness; i.e. process or condition of going out of
date or being no longer in use.
Persisted
To hold firmly and steadfastly to a purpose, continue to exist in the process of manufacturing
References
1. Production and Operations Management, by R. Panneerselvam.
2. Discounted Cash Flow ¡V A theory of the Valuation of Firms, by Lutz Kruschwitz, Andreas
Loffler
3. http://www.investopedia.com/university/dcf/
4. http: //www.wisegeek.com/what-is-ebit.htm
5. http://www.investopedia.com/terms/r/returnonassets.asp
6. http://www.investopedia.com/terms/r/returnoninvestment.asp
Structure:
5.1 Introduction
Objectives
5.2 Operation Costs
Influencing Factors
5.3 Economics of Operations – Economies of Scale
Break-Even Point Analysis
5.4 Economics of Operations – Economies of Scope
Methods of Achieving Economies of Scope
5.5 Summary
5.6 Terminal Questions
5.7 Answers
5.8 Case Study
5.9 Glossary
5.1 Introduction
By now you must be familiar with some of the tools and techniques used for making investment
decisions, related mainly to plant and equipment. Such decisions are more strategic in nature
since they have long-term impact on the profitability of the firm.
The next level of consideration after plant and equipment, and implementing those creating
capacities of manufacturing, is that of actual operations.
In the current prevailing scenario of intense competition, in almost every industry and for any type
of product or service – the market mechanism is the predominant driver of individual operations.
Most of the firms today are compelled to be „market driven., since obtaining sustained business
for company.s products has become one of the most challenging tasks of an organisation. This
effectively means that there is restricted choice for companies to set the price for their products or
services. This does not convey that all firms in the same industry need to offer the same price or
very similar prices. Nevertheless, different firms offering similar products or similar „value. levels
to the customer have to restrict their price within a very narrow band, common for all such
companies.
The transformation process within any business adds both „value. and „cost. to the goods or
services output from the system. In a manufacturing system, the cost of physical conversion,
example materials processing and assembly, often represents a major part of the total cost of the
products produced. In transport, the cost of moving the customer, comprising the cost of
equipment used (vehicles and service equipment) and the cost of labour employed, as well as
any overheads, is often be a major ingredient determining the total cost of the transport to the
customer. Similarly, in supply and service systems, the operations function adds significant cost
to total cost of the items or service provided for the eventual customer. Thus, the most important
aspect of Operations Management turns out to be Cost Management, and the operations
manager must be familiar with the factors contributing to the cost of operations, the factors
influencing these costs, and means available for the measurement and control of the cost of
operations.
Learning Objectives:
After studying this unit, you will be able to:
. Define Operations Costs.
. Define the factors that influence Operations Costs.
. Define economics of scale and economics of scope.
. Explain the concept of a „Break-Even. point.
. Analyse Cost Control.
„h The other is the consideration given for the type of loads the body can take at various
positions. When lifting jobs, clamping them, moving them, and holding them, energy is expended
by different organs. Racks, tables, and pallets, are positioned and designed to suit workers¡¦
physical features.
8.5.3 Work Environment
The work environments in which tasks are performed will definitely affect the
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productivity greatly. The combination of temperature, humidity, and air movements produce a
level of comfort or discomfort considering whether they are within a range. All these factors
depend on the conditions to which employees are accustomed. A temperature range of 24 to 32
degrees Celsius would be suitable. Good illumination at the workplace helps productivity. Using
pleasing colours for the walls and surroundings may also help productivity. Noise levels, when
they are continuous and high, affects the concentration of the employees and affects their work.
They even become irritable and their interaction with other people produces confusion and
conflict. If noise of the machines is inevitable, ear plugs must be supplied to the workmen.
8.6 Workforce Productivity
Workforce Productivity is the ratio of the number of pieces produced to the number of hours spent
on them. This figure takes into consideration a number of things like machine capability, worker¡¦s
skill, his motivation, and the environment. There are various methods by which productivity is
sought to be improved. Some of them are:
„h Measure all aspects across all functions of the organisation, so that all personnel are spared
and nobody is favoured. To ensure performance, uniformity, and fairness are guaranteed.
„h Establish reasonable goals of production. They must be either too low for letting satisfaction or
too high to be attempted.
„h Complaints about the working conditions are treated as opportunities to make corrections and
seek higher productivity.
8.6.1 Learning Curve
The principle is that people take less time to do the same job subsequently, as the effort and skill
expended in earlier activities has resulted in learning. Learning improves performance. But the
rate of improvement declines as the repetitive acts increase.
For example, if a job takes 15 minutes for the first piece, it takes 13 for the second, 12 for the
third and so on. But this improvement is not continuous. If the 100th piece takes 6 minutes, the
101st piece will not take any less time. Training helps to achieve that 6-minute performance. It is
also necessary to improve productivity.
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8.6.2 Incentive Schemes
These are monetary and non-monetary benefits that the management gives in recognition of
superior performance. They can be calculated on individual, team, group, department or the plant
basis. Most of the times, these are negotiated with labour unions. There are many ways the
incentives are calculated wherein; the basis will be a standard level of production. A proportion of
the additional production is distributed as incentives. This is a motivational factor for increasing
productivity.
Self Assessment Questions
13. ______________ is about assigning the right jobs to the right employees with the right skills
at the right time.
14. Performance of workforce can be achieved by establishing __________ __________ of
production.
15. The range of temperature which is considered to make it comfortable for workmen is between
________ and ______ degrees Celsius.
16. ___________ are determined by motion and time study conducted over years and found to
be efficient and practiced.
17. ____________ can be defined as a systematic application of various techniques that are
designed to establish the content of work involved in performing a specific task
18. _______, _____________, ______________ are studied to find the purpose of each activity,
(an element of the task), the sequence in which they are done and the effect of these on the
work.
19. ____________ method studies the amount of time an operator spends on the machine before
it is activated and the time he has nothing to do.
20. _____________ is the study of physical human factors for his functioning. We study the
__________________; _________ that is available for certain activities and the coordination
among them.
21. The combination __________________ produce a level of comfort or discomfort considering
whether they are within a range.
Activity 3
Make a list of measurements that an organisation can do to promote productivity and encourage
active participation of an employee. Suggest some measures for improving good relations
between the management and employees.
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8.7 Difference between Performance Management and Performance Appraisal
Performance management incorporates performance appraisal, promotions, and career paths
and so on. Performance management is when we look at every possible aspect of managing an
employee's performance in the organisation.
However, performance appraisal is one of the ways, or better to say "tools" through which
performance management is done. The differences between the both are explained in a table
below.
Table 8.1 Differences between Performance management & Performance appraisal
Characteristics
Performance management
Performance Appraisal
Types of objectives
Emphasise on integrating organisational, team, and individual objectives.
Emphasise on individual objectives.
Types of performance measures
Emphasise on competency requirements measures as well as quantified measures
Emphasise on qualitative and quantitative measures
Frequency
Continuous review with one or more formal reviews in a year.
Performs annual appraisal.
Rating system
Follows joint or participative process, rating less common.
Follows top-down systems with ratings.
Rewarding linkage
Do not have direct link to rewards.
Often linked to pay.
Ownership
Owned by line management.
Owned by human resource department.
Corporate alignment
Integrated business driven system aimed at organisational and people development.
Isolated system not linked to organisational goals.
Focus of Performance Reviews
Focuses on future performance.
Focus on past performance
Questions Asked
What can be done to help employees perform as effectively as possible?
How well was the work done?
Emphasis
On ratings and evaluations.
On performance planning, analysis, review, developments and improvements.
Monitoring and Designing
By the organisational department.
Designed by the HR department but could be monitored by the respective departments
themselves.
Identification of Developing Needs
At the end of the year.
At the beginning of the year.
8.8 Summary
The Models depict a physical system in a mathematical form so that by changing the variables,
depending on the factors under consideration, we can predict the effect on the outcomes. These
are used to take decisions for deployment of resources so that optimisation is achieved. We have
seen a few popular and useful models that help us to understand the business process. We have
also discussed the concept of Learning Curve and the utility of the same in understanding
workforce productivity.
We have also seen the different types of operations management like, organisational and
employee management. The unit also discussed Letts, Ryan and Grossman¡¦s (1998) four key
capacities for organisational effectiveness. Adaptive capacity, Leadership capacity, Management
capacity, Technical capacity and Generative capacity were also explained in brief.
You have learnt how workforce management influences productivity. Productivity is achieved by
creating an environment, which is helpful for efficient working. You also learnt the difference
between performance management & performance appraisal.
8.9 Terminal Questions
1. Can you list out the differences between performance Management and performance
appraisal?
2. What do you understand by Ergonomics? How does it help the production manager?
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3. How is the study of Learning Curve helpful in Work Study methods?
4. Can you explain the nine fundamental propositions about Organisational effectiveness?
5. Briefly discuss the Suggested Capacities for Organisational Effectiveness.
6. What is Workforce Management?
8.10 Answers
Answers to Self Assessment Questions
1. Effective, efficient
2. Performance Management
3. Organisation, employees
4. performance of employees
5. Two
6. ¢wOrganisational effectiveness,¡ü
7. Herman and Renz
8. four key capacities
9. Adaptive capacity, customers
10. Leadership capacity
11. Generative capacity
12. Management capacity
13. Workforce management
14. Reasonable goals
15. 24 and 32
16. Work practices
17. Work measurement
18. Operation Flow Charts, Motion Charts, Flow Process Charts
19. Machine Worker Interaction
20. Ergonomics, movements, the amount of energy
21. Temperature, humidity and air movements
Answers to Terminal Questions
1. Refer to section 8.7
2. Refer to section 8.5
3. Refer to section 8.6
4. Refer to section 8.3
5. Refer to section 8.3
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8.11 Case study
XYZ is one of the leading electric utilities company. It has 16,000 employees. It has transmission
and generation business units and nuclear and fossil generation plants. XYZ wanted to manage
IT workforce capabilities in a way that required competencies were available and inventory of
capabilities could be aligned with business needs. XYZ named its objective ¡X creating an Agile
IT Organization. The challenge for XYZ was that it had recently centralised its organisation.
Earlier its structure was decentralised. Due to this centralisation all roles and functions of the
organisation as well as the employee¡¦s were in a state of confusion. XYZ then approached SP
solutions for a remedy. SP recommended the use of role based organisation to meet the
requirements of clients. This paved way for a workforce capabilities program for achieving the
goal of an Agile IT Organization. To look at different dimensions like people processes, metrics,
systems, career framework and competency alignment a multi-year program was formulated. SP
defined Career framework for all roles in infrastructure and in application services. Each role¡¦s
competencies were planned and depicted in alignment with enterprise-wide HR directives. To
track the effectiveness of the program metrics was defined.
In result of this solution XYZ was able to plan and see the future business requirements clearly.
Competencies are mapped to roles and this enabled XYZ in identifying any shortfall in workforce
capabilities.
Questions
1. Can you give an alternate solution for XYZ?
2. Instead of going to SP Solutions, what steps XYZ should have taken to mould its relations with
the employees?
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8.12 Glossary
Term
Meaning
Alignment
The grouping or positioning of teams
Clamping
Any of various tools with opposing, often adjustable sides or parts for bracing objects or holding
them together.
Instil
to introduce gradually; implant or infuse to some thing
Pallets
A wooden, shovel like potter's tool used for mixing and shaping clay.
A metal tool used for printing on book bindings.
Vogue
A period of general or popular usage or favour
References:
1. http://www.scribd.com/doc/31073500/Performance-Management
2. www.idea.gov.uk
3. Performance Management ¡V A Briefcase Book by Robert Bacal
4. http://ezinearticles.com/?History-of-Corporate-Performance-Management&id=352957
Example: Time on
Job
M/c 1
M/c 2
A
B
C
D
E
F
2.5
3.5
1
2.25
3.75
1.25
1.5
2.0
3.25
2.75
1.75
4.0
Time 1 Hr. is on M/c1 load it first. Cancel the row which contains 1 and 3.25. The job is C.
Next, time 1.25 is on M/c1. Load job F next.
The next is 1.5 which is on M/c. 2. Load it last. The job is E, continue¡¦
The loading sequence is given in the box below
C
F
B
D
E
A
In case the period on two machines for any of the jobs is the same, you may choose either of
them for applying the above rule.
9.4.1 Equipments
First you will learn about the types of equipments that help us in bringing efficiency to the
process.
a) Horizontal Travel . These can be in the aisle, picker to divide systems. The worker rides a
vehicle and picks the item or product and puts them into the cart. He may also pick and place the
item on a conveyor. The storage system can also be pallet racks, shelves, storage drawers or
gravity flow racks. The pallet racks can have only one or two levels.
b) Person Aboard . In this system, the picker is on a platform of the vehicle; he can move up and
also horizontally along the aisle.
c) Part to Picker . These are mechanised systems. Here a storage device carries the trays or bins
to the person picking. These complete the tasks other instructions received through a remote
control device with the picker. Many pickers generally can also access the system.
d) Special equipment . to increase throughput and space efficiency, special equipments are
manufactured, which is in the form of mobile shuttles, rotary racks, and moveable shelves that
travel in lanes or even an automatic item picker which can eject items on a conveyor belt.
e) Workplace Equipment . Items can be kept on a work bench and be picked up. The carts also
are used to keep items for being picked up.
It should be noted that any of the systems described above are to suit the purpose and
economies that can be derived. Before implementing any of these a detailed study of alternatives,
a plan for expansion or reduction in the requirement of a particular product or a probable shifting
of the location etc. will have to be undertaken. Some of these factors are listed below:
. Material Properties
o size, weight and nest ability
o carton counts, pallet counts
o fragility,
o value
o fragility
o environment . temperature, humidity
. System Requirements for the Product
o Volume per product
o Number of order to be shipped
o Response time
o Supporting processes . labelling, pricing,
o Growth factors
. Economic Factors
o Investment Required
o Project life
o Rate of return
9.4.2 Design Considerations
Some of the factors mentioned above also are relevant for the purpose of design. Design
considerations arise, mainly out of the following:
. Total number of products that are to be stored.
. Number of products received per shift.
. Total numbers retrieved per shift.
. Variability in the above . These determine the dimensions of the building required for the
purpose. Sizes of bins, racks, pallets are also fixed on the basis of above. Choice between carts,
carousals, vehicles, conveyors, automatic item pickers can be made as also the space for
locating and moving them.
. Labour force
. Management Information System.
9.4.3 Considerations while planning and implementing Integrated Material Handling Systems
Material handling systems need to be made efficient so that resources used help in maintaining
the flow of material with minimum bottlenecks and maximum throughput. Integration is between
various equipments, processes, information and a system of control. Inevitably, we use computer
systems and some amount of automation to bring in efficiencies, which otherwise would be lost.
Activity 1
Visit any manufacturing company and list the different types, size, weight, fragility and efficiency
in productivity of the machines they use.
9.5 Ergonomics and Material Handling: A task Determined Assessment of Needs and Solutions
In Ergonomics, the body is studied as if it were a machine . the way the limbs move, the knees
bend, the hands reach or grip, and weights are be lifted at different positions of the back. The
dynamic motions that the body and the organs are subjected to are studied with a view to design
the systems. Dr. Bill Marris developed, what is popularly known as, LMM . Lumbar Motion Monitor
in a study of low back injury. It allows measurement of the forces at work in bending and twisting.
This helps us to make improved decisions regarding job improvements. This is especially helpful
in material handling stations, where workmen have to lift weights, raise them to awkward
positions to find a place, move them, hold them, and push them. When the same movements are
to be repeated a number of times, knowing the problems the movements can cause, we can
design equipments to reduce difficulties faced by the workers. You will remember that the same
considerations were discussed, while working on machines. It is worth mentioned a word of
caution. Machine shop operations or material handling, we have to assess the need for
implementing any methodology. This is because these would have been worked out by the
operators and supervisors over years in different job situations as it affects them on a personal
basis, best practices would have set in. Material handling systems are mostly outsourced and the
expertise of the contractor will be of great help. However, the particular needs for the products
which are handled by us, the shapes, volumes and the type of handling like lifting, storage,
retrieval and loading can be formulated and projected data will be useful. Solutions that are
required should be considered, for a long term usage and as also possible changes that can be
anticipated.
Self Assessment Question:
5. Efficient ___________ is a must for surviving in the competitive.
6. Before implementing any of these detailed studies of alternatives, a plan for
__________________ is the requirement of a particular product or a probable shifting of the
location etc. will have to be undertaken.
7. ______________________ determine the dimensions of the building required for the purpose.
8. In the supply chain, storage, retrieval and delivery do not add value to the product, but are
necessary. (True / False)
9. In ___________________, the body is studied as if it were a machine . the way the limbs
move, the knees bend, the hands reach or grip, weights are be lifted at different positions of the
back
9.6 Approaches for Shop Floor Arrangement of Material Handling Jobs
Arranging takes decisions on the order in which jobs are loaded on different machines. The main
criteria is to take the job through the technological steps in which, the processing requires to be
done for the change that is to be effected on the processed material. The major concerns are
regarding the quantities that need to be processed and the time that the different operations
require. In case the product has to enter assembly, along with other parts that are being
manufactured then, all the required parts arrive at that point at the same time. Some components
may be outsourced. To handle different varieties of parts, we possess material handling
equipments such as cranes, lifting forks, trucks etc. The problem for the managers is the limited
supply of these equipments and the need to optimise utilisation of the equipment to see that the
manufacturing line has smooth flow. Our major concern should be to minimum movement, reduce
inventory, and timely availability. This requires an integration of information regarding all the
factors and take decisions that can accommodate and optimise utilisation of resources.
Activity 2
List out the factors that you consider when you design equipments to reduce difficulties faced by
the workers.
9.7 Capacity planning
Capacity planning3 is the analysis of what can be produced and what the expected demand will
be. Capacity planning4 must take place at many levels. To increase capacity, you must purchase
new equipments. This can be a lengthy process. In result, capacity planning requires long term
analysis. During business planning sessions, Capacity must be analysed first. The company must
know well about their current capacity and the right percentage at what they are operating. This
number can be confusing, if you are operating close to full-capacity. It is acceptable if most of the
product goes to inventory. The capacity must be measured against the actual demand but not
against actual production.
Many factors can affect capacity such as the number of workers, their ability to work, number of
machines, wastage, scrap, defects, mistakes, productivity, suppliers, government regulations,
and preventive maintenance. Capacity planning can be related to both the long term and the
short term. There are different issues at stake for each.
Long-Term Capacity Planning
In the Long-Term, Capacity Planning focus is on the strategic issues related to the organisation.s
main production facilities. The technology and the transferability of the process to different
products are also interlaced with this capacity planning (long term capacity planning). When
short-term changes in capacity are insufficient, Long-term capacity planning may evolve.
For example, if the organisation.s additions of a third shift plan does not
3 For more information on Capacity Planning please visit
http://en.wikipedia.org/wiki/Capacity_planning
4 For more information on Capacity Planning please refer .The Art of Capacity Planning. by John
Allspaw produce enough output, and if subcontracting arrangements cannot be made. The
possible alternative is to add capital equipment and optimise the layout of the plant (long-term
actions). It might be more desirable to include some more additional plant space or to construct a
new facility (long-term alternatives).
Short-Term Capacity Planning
In the short term, capacity planning focus is on issues which are related to scheduling, labour
shifts, and balancing resource capacities. The main aim of this capacity planning (short-term
capacity planning) is to handle unpredicted shifts in demand, in an efficient economic manner.
The time frame for short-term planning generally involves a few days, but may run as long as six
months.
There are many alternatives for making short-term changes in capacity. One of them involves
failure in meeting the demands. Working overtime is the easiest and the most commonly used
way to increase capacity in short term. It is also a flexible and low cost alternative. While, the firm
has to pay one and a half times more than the normal labour rate. It exceeds the expenses of
training, hiring, and paying extra benefits. Other resource-increasing alternatives are available, if
overtime does not provide enough short-term capacity. These include employing casual or part-
time workers, adding shifts, getting workers on lease, and facilities subcontracting.
Medium-term Capacity Planning
In the medium-term, capacity planning is focus is on analysis during monthly meetings. It may be
necessary to take short-term measures, if the capacity is consistently less than what is
demanded. Financial data and comparisons need to be completed, when making the decision to
increase capacity in the medium-term. The decision to subcontract or hire more people or use
overtime are all over expensive and are required to be analysed properly.
Capacity must be analysed in the short-term on a weekly basis, when the production schedule is
being released. The decision to increase capacity can be extremely costly and is not easy.
Ensure that you have checked and analysed all your options and supported them with financial
calculations.
Capacity is calculated: (number of machines or workers) ¡¿ (number of shifts) ¡¿ (utilisation)
¡¿ (efficiency).
Capacity planning can be related to both the long term and the short term. However, there are
different issues at stake for each.
Activity 3
Assume that you are going to open a retail shop. List out the factors as well as issues which you
think will affect the Capacity Planning.
9.8 Different kinds of Capacity Plannings
Any particular production unit.s capacity (e.g. machine, factory) is its ability to produce or do what
the customer requires. Production and operations management consists of three different kinds of
capacity, they are:
. Potential capacity
. Immediate capacity
. Effective capacity
Potential capacity is the capacity available to influence the planning of senior management. For
example, assisting them to take decisions on overall business growth and investment. This is
important for a long-term decision that does not influence the daily production management.
Immediate capacity planning is the capacity made available in the short-term. It is the highest
potential capacity taking it as used productively. Effective capacity is a very simple concept. This
is essential for production managers to know what capacity is actually receivable.
9.9 Measuring capacity
Capacity must be measured in the unit of work, as it is the ability to work.
For example, assume that a factory has a capacity of 10,000 "machine hours" in each 40 hour
week. Then this factory must possess the capacity to produce 10,000 "standard hours of work"
during a 40-hour week. The actual volume of product that the particular factory produces will
depend on:
. The quantity of work involved in production (for example. does a product require 1, 5, 10
standard hours?).
. Any extra time required in production (for example. machine set-up, maintenance).
. The effectiveness or productivity of the factory.
9.12 Answers
Answers to Self Assessment Questions
1. Material Handling
2. Boundaries
3. System point of view
4. Johnson.s Algorithm of Sequencing
5. Order picking
6. Expansion or reduction
7. Variability in the above
8. True
9. Ergonomics
10. Outsourced, Expertise
11. "Work / study"
Answers to Terminal Questions
1. Refer section 9.3
2. Refer section 9.4
3. Refer section 9.4
4. Refer section 9.9
5. Refer section 9.3
6. Refer section 9.8
11.10 Answers
Answers to Self Assessment Questions
1. Quality-related activities
2. Long term relationships
3. In any process
4. Conformance to design
5. Two
6. Pin-pointing, exact place
7. Quality improvement
8. Non-conformance
9. Taguchi
10. 14
11. ISO 9000
12. Certification
13. Six sigma
14. Maintenance, equipment
15. Ownership of the operation
12.1 Introduction
Inventory is the stock of any item or resource used in an organisation. An inventory system is a
set of policies and controls, which monitors the levels of inventory and determines what levels
must be maintained, when the stock should be replenished, and how large the orders should be.
By convention, manufacturing inventory generally refers to material entities that contribute to or
become part of a firm's product output. Manufacturing inventory is generally classified into raw
materials, finished products, component parts, supplies, and work in process. In services,
inventory generally refers to the goods to be sold and the supplies necessary to deal with the
service.
A common classification of inventory items in manufacturing companies is as follows:
„h Raw materials: Purchased items or extracted materials that are transformed into components
or products.
„h Components: Parts or sub-assemblies used in building the final product.
„h Work-in-process (WIP): Any item that is in some stage of completion in the manufacturing
process.
„h Finished goods: Completed products that are delivered to customers.
„h Distribution inventory: Finished goods and spare parts that are at various points in the
distribution system.
„h Maintenance, repair and operational (MRO) inventory (often called supplies): Items that are
used in manufacturing but do not become part of the finished product.
Inventory serves many purposes, such as:
„h Ensuring on time delivery of completed products to customers
„h Providing a buffer against supply chain uncertainty and unpredictability
„h Detaching manufacturing operations
„h Assuring an uninterrupted supply of seasonal products
„h Taking advantage of volume discounts.
Inventory items are divided into two main types:
„h Independent demand
„h Dependent demand items
Learning Objectives
After studying this unit, you will be able to:
„h Explain the different types and uses of inventory.
„h Analyse the importance of Inventory in manufacturing, using a material requirements planning
(MRP) system.
„h Explain Inventory Management Techniques.
„h Calculate appropriate safety stock inventory policies and perform ABC inventory control and
analysis.
„h Analyse the role of cycle counting in inventory record accuracy.
14.1 Introduction
Although no operation must be indifferent to failure, in some operations it is vital that the products
and services do not fail. For example, electricity supplies to the hospitals. Other products and
services must be available when needed, such as car seat belts, the police service and other
emergency services. In these situations dependability is not just desirable, it is essential. In less
critical situations, having dependable products and services is a way for organisations to gain a
competitive advantage. For example, Japanese companies made great gains in share market
(automobiles and electrical goods) through their reputation for high product reliability.
Operations managers are always concerned with improving the dependability of operations, the
products and services that they produce,
and trying to have strategies in place to minimise the likelihood of failure. However, the failures do
occur, in spite of all the attempts to prevent them. What is important is that, they have plans in
place to help them recover from the failures. Figure 14.1 explains how this unit fits into the
operation‘s improvement activities.
Figure 14.1: Model of Operations Improvement
Failure is when something does not work as it should do. For example, if the shop assistant who
sells you an item of clothing =fails‘ to inform you the fact that it should be dry cleaned, it is
technically a failure. Yet, frequently in operation management, we use the term failure to denote a
more dramatic event.
There is a clear spectrum of failure which goes from regular minor failures to very serious and/or
catastrophic. Usually, the minor =failures‘ are addressed in =quality management‘.
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In this unit on failure prevention and recovery we mainly deal with less frequent but more serious
failures.
Learning Objectives:
After studying this unit, you will be able to:
. Identify why failure occurs in operations.
. Explain the various ways of measuring failure.
. Describe the means of detecting and analysing failure.
. Describe the different approaches to maintenance.
. Discuss the importance of failure recovery.
14.2 System Failure
There is always a chance that in developing a product or providing a service, things might go
wrong. Mistakes are inevitable and are an intrinsic part of life. Nothing is perfect.
Accepting that failure occurs is not equivalent to ignoring it, and this does not imply that
operations cannot or should not attempt to minimise failure. Not all failures are equally serious.
Some failures are incidental and may not be noticed. In the finale of a concert performance a
violinist may play a wrong note and the effect is unlikely to have any great impact. If he or she is
giving a solo performance, however, then the error may sour the whole performance. The concert
like all systems may be more tolerant to some types and some levels of failure than others.
For example, if the cigarette lighter in a car or the pen used by a police officer to write a
statement fails, the effect may be irritating but not necessarily serious. Conversely, the failure of
one component of a system may threaten the whole system. For example, leaking hydraulics in a
car or a prisoner not informed of his or her rights can put the whole process at risk.
Failure is perceived differently from the viewpoints of the evaluators. For a person who is only
interested in the final result of an activity would consider it to be an Outcome Failure if the core
issue has not been resolved or a core need is not met.
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A failure can also be a process failure, wherein the activity is completed successfully but a person
may still feel dissatisfied if the underlying process is perceived to be below expected standard or
benchmark.
14.2.1 Why Do Things Fail?
Failure in an operation can occur because of many different reasons. Machines can break down,
customers might make unexpected demands which the operation fails to meet, staff may make
simple errors in their jobs which prevent normal working, materials from suppliers could be faulty
and so on. The three main causes for failures are:
. Those which have their source inside the operation because its overall design was faulty, or
because its facilities (machines, equipment and buildings) or staff fail to operate as they should
. Those caused by faults in the material or information inputs to the operation
. Those caused by the actions of customers
Types of failures that occur in operations are:
. Design failures
. Facilities failures
. Staff failures
. Supplier failures
Design failures
The overall design of an operation can be the root cause of failure. In its design stage an
operation might look fine on paper, only when it has to cope with real circumstances does
inadequacies become evident. Some design failures occur because a characteristic of demand
was overlooked or miscalculated.
A production line might have been installed in a factory which in practice cannot cope with the
demands placed upon it or a theatre front-of-house layout might cause confused and jumbled
customer flow at peak times. In both the examples, there is no unexpected demand placed on the
operations. It is just the straightforward errors in translating the requirements of demand into an
adequate design that causes the problems.
Other design-related failures occur because the circumstances under which an operation has to
work are not as expected. Consider the following
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examples, a biscuit production line might have been installed assuming a certain pack size but
then the market demands a larger pack size which causes the machine to jam occasionally. A
theatre‘s lighting controls might have been designed for simple lighting sequences, but because it
now takes bookings for shows with complex lighting needs, the control system overloads and
fails.
In both cases the demands placed on the operation were unexpected at the point of design and
this led to some kind of failure. But they are still considered as design failures. Adequate design
includes identifying the range of circumstances under which the operation has to work and
designing accordingly.
Facilities failures
All the facilities (i.e, the machines, equipment, buildings and fittings) of an operation are liable o
break down. The =breakdown‘ may only be partial, for example a worn or marked carpet in a
hotel or a machine that can only work at half its normal rate. Alternatively, this can be regarded as
a =failure‘ - a total and sudden cessation of operation. Either way, it is the effects of a breakdown
that should be considered.
Some breakdowns can cause a large part of the operation to halt. For example, a computer
failure in a chain of supermarket could paralyse several large stores until it is repaired. Other
failures might have a significant impact only if they occur at the same time as other failures.
Staff failures
Staff failures occur due to errors and violations. Errors are mistakes in judgement with hindsight.
A person must have done something different that might result in significant deviation from
normal operation.
For example, if the manager of a sports shop fails to anticipate an increased demand for footballs
during the World Cup, the shop runs out of stock and fail to supply its potential customers. This is
an error of judgment.
Violations are acts that are clearly contrary to defined operating procedure. For example, if a
machine operator fails to clean and lubricate the machine in the prescribed manner, it is
eventually likely to fail. This indicates that the operator has violated a set procedure.
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Supplier failures
Any failure in the delivery or quality of goods and services into an operation can cause failure
within the operation. The failure of the band to turn up at a concert causes the whole event to
=fail‘. Similarly, if the band does show up but proves to be of dubious talent, the concert could
also be regarded as a failure. The more an operation relies on suppliers of materials or services,
the more it is liable to failure, which is caused by missing or sub-standard inputs.
Customer failures
Not all failures are (directly) caused by the operation or its suppliers. Customers can misuse the
products and services which the operation has created.
For example, a washing machine might have been manufactured in an efficient and fail-free
manner, yet the customer who buys it could overload it or misuse it in some way which causes it
to fail. The customer is not =always right‘. Customers‘ inattention, incompetence or lack of
common sense can be the cause of failure. However, merely complaining about customers is
unlikely to reduce the chances of this type of failure. Most organisations accept that they have a
responsibility to educate and train their customers and to design their products and services, so
as to minimise the chances of failure. For example, the sequence of questions at automatic teller
machines (ATM) is designed by banks to make their operation as =fail-free‘ as much as possible.
14.3 Measuring Failure
There are three main ways of measuring failure. They are:
. Failure rates — how often a failure occurs
. Reliability — the chances of a failure occurring
. Availability — the amount of available useful operating time
=Failure rate‘ and =reliability‘ are different ways of measuring the same thing – the tendency of an
operation, or part of an operation, to fail. =Availability‘ is a measure of the consequences of
failure in the operation.
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14.3.1 Failure Rate
Failure rate is calculated as the number of failures over a period of time. For
example, the failure rate of security at an airport can be measured by the
number of security breaches per year.
The failure rate of an engine can be measured in terms of the number of
failures divided by its operating time. Failure Rate (FR) is usually calculated
from examining actual operating or test data. It can be measured either as a
percentage of the total number of products tested or as the number of
failures over time:
FR =
Or
FR =
14.3.2 Failure over Time - The ‘Bath-Tub’ Curve
Failure, for most parts of an operation, is a function of time. At different
stages during the production life cycle the probability of it failing is different.
For example, the probability of an electric lamp failing is relatively high when
it is first plugged in. Any small defect in the filament material or in the way
the lamp is assembled could cause the lamp to fail. If the lamp survives
these initial stages, it could still fail at any point, but the longer it survives,
the more likely its failure becomes. Most physical parts of an operation
behave in a similar manner.
The curve which describes failure probability of this type is called the bathtub
curve. Figure 14.2 does not depict the failure rate of a single item, but
describes the relative failure rate of an entire population of products over
time.
total number of products tested
number of failures
operating time
number of failures
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Figure 14.2: The Bathtub Curve
Some individual units fails relatively early (infant mortality failures), others lasts until wear-out,
and some fails during the relatively long period typically called normal life.
Failures during infant mortality are undesirable and are always caused by defects and blunders
like material defects, design blunders, errors in assembly, etc. Normal life failures are considered
to be random cases of "stress exceeding strength." However, many failures often considered as
normal life failures are actually infant mortality failures. Wear-out is due to fatigue or depletion of
materials (such as lubrication depletion in bearings). A product's life is usually limited by its
shortest-lived component. A product manufacturer must check that all specified materials are
adequate to function through the intended product life.
The bathtub curve is generally used as a visual model to illustrate the three key periods of a
product failure and not calibrated to depict a graph of the expected behaviour for a particular
product family. It is uncommon to have enough short-term and long-term failure information to
actually model a
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population of products with a calibrated bathtub curve. Also, the actual time periods for these
three characteristic failure distributions can vary greatly. Infant mortality does not mean that
"products fail within 90 days" or any other defined time period. Infant mortality is the time when
the failure rate of a product decreases, and may last for years. Conversely, wear-out does not
always happen long after the expected product life. It is a period when the failure rate increases,
and is observed in products after just a few months of use. This, of course, is a disaster from a
warranty standpoint.
The infant mortality period is the time over which the failure rate drops, but is undesirable
because a significant number of failures occur in a short time, causing early customer
dissatisfaction and warranty expense. Theoretically, failures during normal life occur at random
but with a relatively constant rate when measured over a long period of time. Because these
failures are liable to warranty expense or create service support costs, the bottom of the bathtub
should be as low as possible. And no wear-out failures should occur during the expected useful
lifetime of the product.
Self Assessment Questions
1. _______ is when something does not work as it should do.
2. Three main ways of measuring failure MRP are _______, ________ and _________.
3. __________ is calculated as the number of failures over a period of time.
Activity 1:
A deceptively simple activity. Deceptive because the processes that universities use to detect
=failures‘ are subtle and often deeply flawed!
List out the different kinds of failure that occur at a university. These may include some of the
following:
. Failure of students to take advantage of the learning opportunities they are presented with.
. Failure of staff to carry out their contracted functions.
. Failure of equipment.
. Failure of outside suppliers.
. Failure to follow an appropriate strategic direction.
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14.4 Failure Detection and Analysis
When failure occurs, operations managers must have:
. Mechanisms in place, to ensure that a failure has occurred.
. Procedures in place, to analyse the root cause for this failure.
14.4.1 Mechanisms to Detect Failure
Organisations sometimes may not be aware that the system has failed and thereby lose the
opportunity both to put things right for the customer and to learn from the experience. There are
many methods available to actively look for failure. They are:
. In-process checks: Employees check if the service is acceptable during the process itself.
Although in some situations this form of failure detection can detract from the service itself.
. Machine diagnostic checks: A machine is tested through a prescribed sequence of activities
designed to expose any failures or potential failures. Computer servicing procedures often include
this type of check.
. Point-of-departure interviews: At the end of a service, staff may formally or informally check if
the service has been satisfactory and try to solicit problems as well as compliments.
. Phone surveys: These can be used to solicit opinions about products or services. Television
rental companies, for example, may check on the installation and servicing of equipment in this
way.
. Focus groups: These are groups of customers who are requested to focus on some aspects of a
product or service. These can be used to discover either specific problems or more general
attitudes towards the product or service.
. Complaint cards or feedback sheets: These are used by many organisations to solicit views
about the products and services. The problem with this method is that very few people tend to
complete them. It may possible, however, to identify the respondents and so follow up on any
individual problem.
. Questionnaires: These may generate a slightly higher response than complaint cards. However,
they may only generate general information from which it is difficult to identify specific individual
complaints.
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14.5 Failure Analysis
One of the critical activities for an organisation when failure has occurred is to understand why
the failure occurred. This activity is called failure analysis. There are different techniques and
approaches used to uncover the root cause of failures. Some of these approaches are briefly
described in this section.
Accident investigation
Large-scale national disasters like oil tanker spillages and aeroplane accidents are usually
investigated by accident investigators specifically trained in analysis of the causes of the
accident. Although the techniques they use have usually been developed to be appropriate for
the particular type of accident being investigated, the common role of accident investigators is to
make recommendations to minimise or even eradicate the likelihood of any such failures
occurring again.
Product liability
Many organisations (either by choice or more often because of a legal requirement) adopt
product liability. This ensures that all their products are traceable. Any failures can be traced back
to the process which produced them, the components from which they were produced or the
suppliers who provided them. This means that any fault can be rectified and also that, if
necessary, all other similar products can be recalled for checking. This is sometimes seen when
car and electrical components or food items are recalled.
Complaint analysis
Just like errors, complaints always arise. They are increasingly seen to be a cheap and easily
available source of information about errors. Complaints and indeed compliments need to be
taken seriously as they are likely to represent only the =tip of the iceberg‘ of customer attitudes.
The prime function of complaint analysis involves analysing the content of the complaints to
understand better the nature of the problem as it is perceived by the customer.
Critical incident analysis
Critical incident analysis requires customers to identify the elements of products or services that
they find either particularly satisfying or not satisfying. They are asked to write down incidents that
led dissatisfaction or
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satisfaction. It is a popular way of collecting information, especially in service operations. The
Critical Incident Technique (CIT) was originally developed during the Second World War by
psychologist John Flanagan and was used to determine the reasons for the high rate of pilot
failure during training.
Fault tree analysis
Fault tree analysis is a logical procedure that starts with a failure or a potential failure and works
backwards to identify all the possible causes and therefore the origins of that failure. The fault
tree is made up of branches connected by two types of nodes: AND nodes and OR nodes. All the
events at the branches below an AND node need to occur for the event above the node to occur.
Only one of the events at the branches below an OR node needs to occur for the event above the
node to occur.
Figure 14.3 shows a simple tree identifying the possible reasons for a hot dish being served cold
in a restaurant.
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Figure 14.3: Fault-Tree Analysis - Example
14.6 Improving the Operation’s Reliability
Once a thorough understanding of the causes and effects of failure have been established, the
next responsibility of operations managers is to try to prevent the failures occurring. It is achieved
by:
. Designing out the fail points in the operation
. Building redundancy into the operation
. =Fail-safing‘ some of the activities in the operation
. Maintaining the physical facilities in the operation
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The maintenance of physical facilities (equipment, machines and buildings) is an important
activity in all operations.
14.7 Recovery in Service Operations
Recovery has been developed particularly in operating services. The word =Recovery‘ has
originated from British Airways =Putting the Customer First‘ campaign. Service recovery does not
just mean .return to a normal state. but to a state of enhanced perception.
Service operations managers need to recognise that all customers have recovery expectations
that they want organisations to meet. Recovery should be a planned process. Organisations need
to design appropriate responses to failure. Responses are always linked to cost and
inconvenience caused by the failure. It should meet the needs and expectations of the customer.
14.7.1 Failure planning
Identifying how organisations can recover from failure is of particular interest to service
operations because they can turn failures around to minimise the effect on customers or even
turn failure into a positive experience.
However, it is also of interest to other, especially those where the consequences of failure are
particularly severe. Bulk chemical manufacturers and nuclear processors, for example, spend
considerable resources in deciding how to cope with failures. The activity of devising the
procedures that allow the operation to recover from failure is called failure planning. There are
four stages in failure planning. They are:
1. Discover
2. Act
3. Learn
4. Plan
Discover: The first thing any manager needs to do when faced with a failure is to discover its
exact nature. Three important pieces of information are needed: first of all, what exactly has
happened; second, who will be affected by the failure; and third, why did the failure occur? The
last point is not intended to be a detailed inquest into the causes of failure (that comes later) but it
is often necessary to know the causes of failure to determine further action.
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Act: The discover stage could take only minutes or even seconds, depending on the severity of
the failure. If the failure is severe, with important consequences, we need to do something about
it quickly. This means carrying out three actions, the first two of which could be carried out in
reverse order, depending on the urgency of the situation.
First, inform the people involved, what you propose to do about the failure. In service operations
this is especially important where customers need to be informed, both for their peace of mind
and to demonstrate that something is being done. In all operations, however, it is important to
communicate what action is going to happen so that everyone can set their own recovery plans in
motion. Second, the effects of failure need to be contained in order to stop the consequences
spreading and causing further failures. The precise containment action depends on the nature of
the failure. Third, there needs to be some kind of follow-up to make sure that the containment
action has really contained the failure.
Learn: As discussed earlier in this unit, the benefits of failure in providing learning opportunities
should not be underestimated. In failure planning, learning involves revisiting failure to find out its
root cause and then engineering out the causes of the failure so that it does not happen again.
This is the key stage for failure planning.
Plan: Learning lessons from a failure is not the end of the procedure. Operations managers need
to formally incorporate these lessons into their future reactions to failures. This is often done by
working through =in theory‘ how they would react to failures in the future. Specifically, this
involves identifying all possible failures that might occur and then, formally defining the
procedures that the organisation should follow in the case of each type of identified failure.
14.8 Summary
Failure problems and mistakes are inevitable and intrinsic part of operations life. Things are
always going wrong. This is why operations managers need to be concerned with the causes and
effects of failure, as well as being active in attempting to minimise failure. Not all failures are
equally serious and attention is usually directed at those that have adverse impact on the
operation or its customers.
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Failures occur in operations for several reasons. Some are a direct result of goods or services
which are supplied to the operation. Others happen within the operation, either because there is
an overall failure in its design, because one or more of its physical facilities break down, or
because there is a human error. Customers can also cause failures through their incompetence in
handling goods and services.
In practical terms, operations managers have three sets of activities which relate to failure. The
first is concerned with understanding what failures are occurring in the operation and why they
are occurring. Once the nature of the failure is understood, an operations manager‘s second task
is to examine ways of either reducing the chances of failure or minimising the consequences of
failure. The third task is to devise plans and procedures that help the operation to recover from
failures when they do occur. The first of these tasks is, in fact, a prerequisite for the other two.
This chapter deals with these three tasks.
Self Assessment Questions
4. When the failure occurs, operations managers must have __________ and __________ in
place.
5. _______ is one of the ways to analyse failure.
6. ________ is one of the ways to improve operations reliablity.
7. The word =Recovery‘ has originated from _________.
8. The ________is typically used as a visual model to illustrate the three key periods of product
failure.
9. The phenomenon of understanding the reason for failure is called ___.
10. The ___________ period is a time when the failure rate is dropping.
Activity 2:
A 24-hour ATM machine outside a bank was closed down between the following times during a
seven-day period:
11.00 am Monday – 2.00 pm Monday 1.00 am Tuesday – 10.30 am Tuesday 4.00 pm Tuesday –
10.00 am Wednesday 3.00 pm Friday – 10.00 am Saturday
Calculate the ATM‘s failure rate (in time), the mean time between failures and its availability.
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14.9 Terminal Questions
1. What is Failure? Explain with an example.
2. What are the three main causes for failures?
3. What are the types of failures?
4. What are the three main ways of measuring failures?
5. Name the mechanisms to detect failure.
14.10 Answers
Answers to Self Assessment Questions
1. Failure
2. failure rates, reliability, availability
3. Failure rate
4. mechanisms, procedures
5. Accident investigation
6. Fail-safing
7. British Airways
8. bathtub curve
9. Failure Analysis
10. infant mortality
Answers to Terminal Questions
1. Refer section 14.1
2. Refer section 14.2.1
3. Refer section 14.2.1
4. Refer section 14.3
5. Refer section 14.4.1
14.11 Case Study
Better late and happy than just late
Fiona Rennie sat and enjoyed her coffee as she waited at Warsaw airport. Returning home to the
UK after a week of energetic academic research, she was pondering her latest project – how
service businesses have to be more aware of their customers‘ needs and, in order to compete
must be able to offer a high level of customer service.
Warsaw airport was busy with passengers, waiting to board the afternoon
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British Airways flight to London Heathrow, the anticipation growing as they passed through the
scanners and walked down the aisle onto the aircraft. Safely in their seats, the 200 passengers
were soon depressed to hear from the captain that there was a slight mechanical problem and
that their take-off would be delayed by approximately half an hour. This delay did not merit having
to disembark and complimentary drinks were soon on the way round.
Inevitably, the half-hour delay soon unfolded into a bigger problem and an apologetic captain
announced that he felt that passengers would be better placed in the departure lounge rather
than waiting for the repair to be completed. A few grumbles and mutters about connections at
Heathrow and other missed appointments could be heard – but generally the mood was fairly
genial and the airline staff went out of their way to try to accommodate passenger queries. After
an hour in the departure lounge and with no definitive answer available on the estimated take-off
time, the airline moved into the next stage of its =customer-placating programme‘ by providing
meal vouchers for everyone and directing them to the airport restaurant. As the mood quietened
and passengers began to question further just how long they were going to have to wait, the
airline announced the departure time – some four hours behind schedule.
The flight itself went according to plan and the cabin crew walked up and down the aisles
answering, where possible, queries on connecting flights and subsequent travel arrangements.
On arrival (finally) at Heathrow, the captain, who had been very apologetic throughout the whole
process, bade the passengers‘ farewell, expressing his concerns at the late arrival and hoping
that it had not inconvenienced them too greatly. For some, though, the four-hour delay meant
considerable problems in trying to reach their onward destinations that evening and the airline
sales desk was soon busy with anxious passengers looking for help. Several were to be put up in
a local hotel, courtesy of the airline, leaving them to recommence their travels, fresh, the next
morning. Others did not have so far to go and to stay overnight in the UK‘s capital city actually
meant more inconvenience the following day. Unperturbed, the airline‘s Customer Service
Manager quickly took it upon himself to arrange chauffeur-driven transport for these people,
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ensuring that the inconvenience caused by the delay was effectively minimised. The priority was
not necessarily to deal with each customer as quickly as possible, but to ensure that each person
was given a solution that suited his or her needs.
Airlines are known to have well-developed recovery procedures. In the case of failure, the airline
could activate various levels of preconceived and ad hoc customer care.
Fiona was certainly impressed, and although very late, glad to be safely home as planned.
Questions
1. Draw up a =failure plan‘ for delays of this type. How could it help the airline to improve its
recovery procedures further?
2. When are failure and recovery particularly important to an operation?
14.12 Glossary
Term
Description
Failure
Is when something does not work as it should.
Errors
Mistakes in judgement.
Failure rate
A way to calculate the number of failures over a period of time.
The infant mortality period
The time when the failure rate starts dropping.
Failure Analysis
The phenomenon of understanding the reasons for failure.
References
1. Operations management, by Mike Pycraft.
2. Operations management, by Nigel Slack, Stuart Chambers, Robert Johnston.
3. http://wps.pearsoned.co.uk/ema_uk_he_slack_opsman_4/17/4473/1145139.cw/index.html
When locating operations internationally organisations can adopt four configurations. These are:
. Home country configuration
. Regional configuration
. Global coordinated configuration
. Combined regional and global coordinated configuration
Transferring operations practices
Companies all over the world differ in their conditions and culture and hence develop their own
approach to operations management, so can the practices which grew up under one set of
conditions transfer successfully to parts of the world where conditions might be very different?
Sometimes, an operational practice that is extremely successful in one part of the world does not
transfer easily. For example, the Federal Express Corporation in America invented the overnight
express deliver service. Its .hub-and-spoke. operations in the United States guarantees overnight
delivery from any part of the country to any other part by routing all packages through a single
hub in Memphis, Tennessee. Influenced by the moves towards greater European integration,
Federal express attempted to duplicate its US operation in Europe. However, Europe is far from
being a single integrated economic entity as is the US. Differences in culture, language, currency,
tax rates and so on, posed problems which were not experienced in the US. After a few years of
struggling to develop the overnight express business it gave up the struggle and closed this part
of its business.
Long-term transfers of operations practice
In the long term operations, one can trace the movement and development of operations
management practice as it responds to conditions in one part of the world and then is adopted by
other parts.
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15.7 Strategies Must be Creative
The operations strategy formulation procedures which are described earlier in this unit provide a
structure and logical process that help operation managers to move in a sensible direction.
However, these procedures do not provide the single best strategic solution. They help
operations managers to go about developing a strategy, they do not instruct them what to do.
When different sets of operations managers, face exactly the same set of circumstances, they
come up with very different strategic solutions. Some operations managers might follow the
conventional and traditional routes (which may well provide adequate solutions), while others
might be more innovative and creative in coming up with an original strategic solutions, or at least
develop ones which embody some original idea. Many successful operations are successful
because of the innovative way of creating their products and services. Federal Express, the
parcel delivery company described earlier in this unit, is a good example of this.
15.8 Strategies Must be Implemented
Implementation is the structure and the condition which connects strategic initiatives to
measurable results. It is only half of the success to develop a good strategy. The execution is an
important step, which can easily make or break the best strategy. Many businesses fail to achieve
the objectives, since they do not connect operations with goals.
Implementing strategy is challenging for many organisations. Learning from emotional responses
in the early stages of implementation process, reveals the presence of unexpected emotional
triggers, can allow timely adjustments. In other words, emotions serve as feedback signals in
strategy implementation.
15.9 System Failure
System Failure is one of the major challenges in operations. There is always a chance that in
developing a product or providing a service, things might go wrong. Mistakes are inevitable and
are an intrinsic part of life. Nothing is perfect. Accepting that failure occurs is not equivalent to
ignoring it and this does not imply that operations cannot or should not attempt to minimise
failure. Not all failures are equally serious. Some failures are incidental and may not be noticed.
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Failure in an operation can occur because of many different reasons. Machines can break down,
customers might make unexpected demands which the operation fails to meet, staff may make
simple errors in their jobs which prevent normal working, and materials from suppliers could be
faulty and so on. When failure occurs, operations managers must have:
. Mechanisms in place, to ensure that a failure has occurred
. Procedures in place, to analyse the root cause for this failure.
Mechanisms to Detect Failure
Organisations sometimes may not be aware that the system has failed and thereby lose the
opportunity both to put things right for the customer and to learn from the experience. There are
many methods available to actively look for failure. In-process checks, Machine diagnostic
checks, Phone surveys and Questionnaires are mechanisms to detect failure.
15.9.1 Failure Analysis
One of the critical activities for an organisation when failure has occurred is to understand why
the failure occurred. This activity is called failure analysis. There are different techniques and
approaches used to uncover the root cause of failures. Some of these approaches are briefly
described in this section.
. Accident investigation
. Product liability
. Complaint analysis
. Critical incident analysis
Fault tree analysis
Fault tree analysis is a logical procedure that starts with a failure or a potential failure and works
backwards to identify all the possible causes and therefore the origins of that failure.
15.9.2 Improving the Operation¡¯s Reliability
Once a thorough understanding of the causes and effects of failure have been established, the
next responsibility of operations managers is to try to prevent the failures occurring. It is achieved
by:
. Designing out the fail points in the operation.
. Building redundancy into the operation.
. .Fail-safing. some of the activities in the operation.
. Maintaining the physical facilities in the operation.
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The maintenance of physical facilities (equipment, machines and buildings) is an important
activity in all operations.
Self Assessment Questions
4. ____ and _________ are the two important formulating procedures.
5. ____________ is often employed when an organisation believes that there is little competitive
advantage to be gained by differentiating itself from its competitors.
6. Name the four way classification of generic operations strategies.
7. The innovator strategy is a combination of the ______________and the strategies.
8. _________ is one of the major challenges in operations.
9. ______________is a logical procedure that starts with a failure or a potential failure and works
backwards.
10. __________ of physical facilities (equipment, machines and buildings) is an important activity
in all operations.
Activity 2:
A leading American cosmetic company, planning to open a branch in India. What do you think are
the ethical and cultural challenges that the company would face, while implementing its operation
strategy.
15.10 Summary
The process of operations strategy is concerned with the act of creating the strategy, whereas the
content of operations strategy is concerned with the output from the operations strategy
formulation process. Although not all operations have operation strategy, there is some evidence
to suggest that those who do are more likely to be successful, and those operations managers
who take part in the strategy, formulation process should have obtained a better understanding of
the organisation.s overall strategy.
Operations strategies can be classified into categories of generic strategies. One of such
classification distinguishes between caretaker strategies, marketeer strategies, reorganiser
strategies, and innovator strategies.
The Hill methodology uses a five step procedure which progressively establishes a strategic logic
between the long corporate objectives of the organisation, the marketing strategy of the
organisation, and its competitive
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factors for each product or service group, the structural process choice decisions of operations
and the infrastructural decisions of operations.
The Platt.s-Gregory procedure places a greater emphasis on comparing the needs on comparing
the needs of markets with the achieved performance of operations. It uses profiling methods to
determine the gaps between the importance of competitive factors and the operation.s
performance at delivering them. Some companies make their ethical stance explicit through a
statement of mission and values.
System Failure is one of the major challenges in operations. One of the critical activities for an
organisation when failure has occurred is to understand why the failure occurred. This activity is
called failure analysis.
15.11 Terminal Questions
1. What are the three main difficulties faced in formulating operation strategy?
2. Explain strategy challenge.
3. Explain the five steps involved in Hill methodology.
4. What is Failure? Explain with an example.
5. Mention the four ways to improve the operations reliability.
15.12 Answers
Answers to Self Assessment Questions
1. 'strategy'
2. Content, process
3. Ethical implications
4. The Hill methodology, The Platt.s-Gregory procedure
5. The Caretaker strategy
6. The four way classification of generic operations strategies are:
¨¬ Caretaker strategy
¨¬ Marketeer strategy
¨¬ Reorganiser strategy
¨¬ Innovator strategy
7. Marketeer, reorganiser
8. System Failure
9. Fault tree analysis
10. The maintenance
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Answers to Terminal Questions
1. Refer section 15.2.2
2. Refer section 15.2
3. Refer section 15.4.1
4. Refer section 15.8
5. Refer section 15.10
15.13 Case Study
Short Case
Recycled St Regis
The trend towards materials recycling in many countries can have a significant impact on the way
in which some products are manufactured. Perhaps the industry which has had to adjust the most
is paper-making. St Regis Paper is one of the largest manufacturers of recycled paper in Europe,
producing almost a million tonnes of finished product a year. Its mill in Kemsley, in the UK, is one
of the most modern, efficient and environmentally friendly plants in Europe. Two paper machines
running at speeds of up to 900 metres per minute each make 250 000 tonnes a year of high-
quality brown .liner grades. (used to make corrugated boxes).
The raw material is 100% cent recycled paper, which is treated on a state-of-the-art stock
preparation plant. This process cleans and sorts the individual paper fibres. When this material is
used on the paper machines, it produces a product which is practically indistinguishable from
conventional paper made from wood pulp.
Questions
1. What production problems would you anticipate from using waste papers in the stock
preparation plant and in the paper-making process?
2. In what ways would you expect recycled products to differ from their conventional
counterparts? What steps could you take in the production process to minimise these
differences?
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15.14 Glossary
Term
Description
Generic Operations strategies
Are common approaches to organise the operational functions, which are adopted by different
types of organisation.
Formulation Procedures
Are the two important procedures which explain how operations strategies are formulated in
practice.
Fault tree analysis
Is a logical procedure that starts with a failure or a potential failure and works backwards to
identify all the possible causes and therefore the origins of that failure.
Failure Analysis
The phenomenon of understanding the reasons for failure.
References
1. Operations management: an active learning approach, by John Bicheno, Brian Elliot.
2. Operations management: an international perspective, by David Barnes.
3. Challenges posed to operations management by the "new economy".
http://findarticles.com/p/articles/mi_qa3796/is_200204/ai_n9067667/pg_2/?tag=content;col1
4. http://www.palgrave.com/products/title.aspx?is=1403934665
5. http://www.unimep.br/phpg/editora/revistaspdf/rct16art02.pdf