The Nature of Operations

Operations 

• The operations department deals with using resources (inputs) to create final products (outputs) 

• They are aiming to produce goods and service of the right quality and the required quantity, at the time needed in the most cost-effective method 

• They are concerned with –

  • Efficiency of production – produce at the lowest possible cost

  • Quality – maintain quality standards and keep improvising 

  • Flexibility and innovation – keep adapting to the dynamic business environment

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Production process – transformation

• Conversion of inputs into outputs is known as the transformation process

• It involves adding value to the product 

Factors influencing the degree of value added 

1. Design of the product 

2. Efficiency with which the input resources are combined and managed 

3. Ability to convince consumers to pay more than the price of inputs

Operations stages 

1. Converting a consumer need into a product/service 

2. Organising efficient operations 

3. Deciding on suitable methods of production 

4. Setting quality standards 

5. Ensuring they are maintained

Resources 

1. Land – natural resources businesses require 

2. Labour – both manual and mental labour. Quality of labour highly influences the operational success and maybe improved through training and motivation 

3. Capital – tools, machinery and other man-made resources required for production 

4. Intellectual capital – intangible assets of the business. Human capital – trained and knowledgeable employees, structural capital – IT systems, relational capital – relations with suppliers, customers

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Production and productivity 

• Production is the absolute measure of the quantity of output that a firm produces in a given time period 

• Productivity is a relative measure of how efficiently inputs are converted into outputs. 

• Labour productivity = total output/total employees 

• Capital productivity = output/capital employed

Ways to raise productivity 

1. Improve training –

   1. Increasing training will make the workforce more flexible and efficient. 

   2. But it is expensive and time consuming 

2. Improve motivation – 

   1. Using Herzberg’s and Maslow’s theories workers motivation levels can be increased 

   2. This will increase productivity but may also be expensive to implement 

3. Purchase more machinery/technology –

   1. Employing more machinery will allow the company to increase output and reduce the amount of labour employed 

   2. Plus, it will ensure good quality and maximum efficiency 

   3. But it is expensive and labourers may be scared to lose jobs, reducing their motivation to worker harder 

4. More efficient management –

   1. Failure to purchase enough materials, poor schedules will reduce the efficiency of the business

Is raising productivity always the answer?

• Higher productivity doesn’t guarantee success for a business

• Higher productivity may lead to higher wage demands, raising the firm’s costs of production

• Quality of management will determine the success of the policies implemented and thus the success of a business 

• Effectiveness and efficiency are different. A product maybe efficient but not effective, leading to its failure

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Efficiency and effectiveness

• Efficiency is producing output at the highest input to output ratio 

• Effectiveness is producing goods and services that satisfy customer needs and wants 

• Being effective involves meeting business’s corporate aims by satisfying consumer needs, profitably

Labour intensive and capital intensive 

• Labour intensive is when there are more workers employed than machinery 

• Being labour intensive will allow firms to charge higher prices as it is hand-made and maybe customised. It enhances brand image and loyalty. 

• But skilled workers are required and low chances for economies of scale

• Capital intensive is when there is more capital equipment employed relative to labourers 

• Being capital intensive will allow opportunities for economies of scale, lower unit costs. 

• But fixed costs will be high, cost of purchasing and maintaining the machinery is high. Also, skilled employees and engineers will be required to operate the equipment. Also, technology can quickly become outdated and obsolete

Factors influencing choice of resource (labour VS capital)

1. Nature of product 

2. Prices of inputs

3. Size and ability of firm 

4. Intended image

Operations Planning

Operations decisions

1. Link with marketing

   1. Operations manager needs to know market demand forecasts to be able to match supply and demand. This is known as operations planning.

   2. If sales forecasts are accurate:

      1. Easily match supply to demand

      2. Keep inventory levels to a minimum efficient level

      3. Reduce wastage

      4. Employee appropriate number of factors of production

      5. Produce the right product mix

2. Availability of resources

   1. Production of goods and services requires – land, labour, capital, raw materials

   2. Lack of these will influence operations decisions:

      1. Location – locate in areas with abundant supply of materials

      2. Nature of production method – if labour productivity is high, business may use labour intensive production method

      3. Automation – if technology is cheaper, business may decide to switch to automated production method.

3. Technology

   1. Technological developments like CAD and CAM have changed the production process

   2. They help the process become more efficient and cost effective

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CAD – computer aided design 

• It involves the use of computer programs to create 2D and 3D representations

• Benefits –

  • Lower development costs 

  • Higher productivity 

  • Improved quality 

  • Faster time-to-market 

  • Good visualisation 

  • Great accuracy 

  • Easy to make changes 

• Problems –

  • Complex programs 

  • Extensive employee training needed 

  • Expensive

CAM – computer aided manufacturer 

• Using computers to control and operate machines

• Benefits –

  • Reduced quality problems 

  • Faster production 

  • Higher productivity

  • More flexible 

  • Integration with CAD helps widen product portfolio 

• Limitations –

  • Cost of machinery 

  • Employee training required 

  • Poor motivation – loss of job security 

  • Hardware failure, halt production 

  • Need for quality assurance or TQM

Need for flexibility and innovation 

• Flexibility is the business’s ability to vary production with changes in demand 

• Ways to increase flexibility –

  • Increase capacity 

  • Hold higher stocks 

  • Have a flexible workforce 

  • Flexible flow production equipment 

Process innovation

• It involves the use of new, advanced technology to improve production 

• Done through using CAM, CAD, robots, faster machines, computer tracking inventory system, etc

• Gives a competitive edge

• Better quality

• Higher reputation and brand loyalty 

• Expensive

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Production methods 

1. Job production 

   1. Producing a single, one-off item, specifically designed for the customer 

   2. It is labour intensive 

   3. Specific consumer needs are met, higher reputation and loyalty

   4. Specialised products are produced, ability to charge higher prices 

   5. Cannot enjoy economies of scale 

   6. Expensive as requires skilled labour and training 

2. Batch production 

   1. Producing products in separate groups where the entire groups goes through the production process together

   2. Enables division of labour and specialisation 

   3. Economies of scale 

   4. Easy to alter batches according to demand and preferences 

   5. High storage costs – work in progress inventory 

   6. Workers may get bored and demotivated

3. Flow production 

   1. Producing products in a continuous process through the use of technology 

   2. Higher output 

   3. Economies of scale

   4. Consistent and standardised quality 

   5. Low labour costs 

   6. High initial costs

   7. Lower job security 

4. Mass customisation 

   1. It involves the use of computer aided production to meet specific customer needs at mass production costs 

   2. Allows businesses to focus on differentiated marketing 

   3. Increases added value 

   4. Low unit costs 

   5. Customer needs are met

Production methods – making the choice 

1. Size of market – if the market is small, flow production can not be used, batch or job production is more appropriate 

2. Amount of capital available – employing flow production is expensive and requires a high initial capital investment. Small firms may not be able to afford this and therefore use job or batch production 

3. Availability of other resources – using flow production requires a high supply of unskilled workers and huge land area. Job production requires highly skilled workers. The chosen production method may even depend on whether the company is able to allocate these resources. 

4. Market demand exists for products adapted to specific customer requirements – if the company wants low costs but has a differentiated target market, mass customisation is the best option. 

Problems of changing production methods 

• Job to batch: high equipment costs, need for extra working capital and fall in employee morale

• Job/batch to flow: high capital cost, costs of employee training, need for accurate demand forecasts

Location decisions

Benefits of optimum location

• Characteristics of location decisions:

• Strategic (long term) in nature

• Difficult to reverse

• Taken by the highest management level

• The optimal location should help maximise long term profits of a business

• An optimal location:

  • Balances fixed costs, customer convenience and potential sales revenue

  • Balances quantitative & qualitative factors

Factors influencing location decisions

1. Quantitative factors –

   1. Site and other capital costs 

   2. Labour costs – depends on whether it is a labour-intensive or capital-intensive business 

   3. Transport costs 

   4. Sales revenue potential 

   5. Government grants 

2. Quantitative factors – 

   1. Safety 

   2. Room for further expansion 

   3. Managers preferences

   4. Ethical considerations 

   5. Environmental concerns 

   6. Infrastructure

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Techniques to assist location decisions 

1. Profit estimates – compare estimated revenues and costs to choose the location with the highest profit potential. Only profit forecasts have limited use. They must be compared with capital costs

2. Investment appraisal – it involves looking at locations which will provide the highest potential returns on investment over the years. One method is payback. This helps businesses who face capital shortage. Need estimates of many years, which may not be accurate and bring in uncertainty into the decision making  

3. Break-even analysis 

Other locational issues 

1. Pull of the market 

   1. A company producing a product must be located near other companies producing similar products as well 

2. Planning restrictions

3. External economies of scale

   1. Cost reductions a business benefits when the industry grows in one area

Multi-site locations 

• A business which operates from more than one location.

International location decisions

• Offshoring is the relocation of a business process to another country to the same or another business. 

Reasons for international location decisions 

1. To reduce costs

   1. Companies may switch to law wage countries or to countries with low raw material costs 

2. To access global markets 

   1. Rapid economic growth in less-developed countries has created huge market potential 

3. Avoid protectionist barriers 

   1. To avoid trade barriers like tariffs a company may have to relocate to another country 

4. Other reasons

   1. Government grants 

Problems with international locations 

1. Language and communication barriers 

2. Cultural differences 

3. Level-of-service concerns – quality, reliability of delivery and control with suppliers may be lost with overseas manufacturing 

4. Supply-chain concerns 

5. Ethical considerations

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Scale of operations 

• Scale of operations is the max output a company can achieve using the available inputs 

• Only increased by increasing all inputs (factors of production)

• Factors influencing scale of operations:

  • Owner’s objectives

  • Capital available 

  • Size of market 

  • Number of competitors 

  • Scope for scale economies

Economies of scale

• Cost benefits arising with increased scale of operations

Types of economies of scale

1. Purchasing economies

   1. Bulk buying economies

   2. Suppliers may offer discounts on bulk purchases

   3. They will want to keep large customers happy so may provide good quality goods and on time delivery

2. Technical economies

   1. High output will lower unit costs

   2. Fixed costs are spread across the output, lowering its output

3. Financial economies

   1. Banks and other financial institutions will be willing to provide loans to larger businesses

   2. They may be willing to charge lower interest rates to them

4. Marketing economies

   1. Costs of advertising and promotion maybe spread over a larger output, lowering unit costs

5. Managerial economies

   1. Employing specialists and managers will be easier for large firms as their salary will be spread over a larger output

Diseconomies of scale

• Factors which lead to a rise in average costs of production arising with increased scale of operations beyond a certain size.

Types of diseconomies of scale

1. Communication problems

   1. In a large firm, the feedback provided will be poor

   2. The chain of command may be long leading to distortion of messages

   3. This may cause poor decision making

2. Alienation of the workforce

   1. The bigger the organisation, the more difficult it becomes to involve every worker.

   2. They may feel demotivated due to lower job satisfaction

3. Poor coordination

How to avoid diseconomies of scale

1. Management by objectives: This will help avoid coordination problems

2. Decentralisation: This gives divisions a considerable degree of autonomy and independence.

3. Reduce diversification: Businesses that concentrate on ‘core’ activities may help to reduce coordination problems and some communication problems.

Inventory Management

Inventory 

• Materials needed for the production of goods and services. 

Types:

1. Raw materials 

   1. Purchased from outside suppliers 

2. Work in progress 

   1. Work in progress is any product which is not yet converted into finished goods. 

   2. Depends on time period of production and production method used.

3. Finished goods 

   1. Good ready to be sold to consumers

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Inventory management 

• Without effective inventory management, there maybe many problems. 

• Insufficient inventories to meet unforeseen changes in demand 

• Out-of-date inventories maybe held 

• Wastage due to incorrect storage conditions 

• High storage and opportunity costs if extra inventory is held  

• Poor management may lead to delayed deliveries, ignoring discounts, etc

Inventory holding costs 

1. Opportunity cost – working capital tied up in inventory could be used elsewhere. Higher interest rates, higher the opportunity cost of holding inventory. 

2. Storage cost – inventories must be held in appropriate, safe conditions to avoid wastage. Higher inventory, higher the storage costs  

3. Risk of wastage and obsolescence – if inventories are kept unused, they may become obsolete, lowering the value of such inventories and increasing the business’s expenses 

Costs of not holding inventories

1. Lost sales – business may not be able to supply all customers, leading to loss of sales and revenue 

2. Idle production resources – if raw material inventories run out, expensive equipment and workers will be left idle, leading to loss of output and wasted resources.

3. Special orders could be expensive – urgent orders given to suppliers may lead to extra delivery, administration costs 

4. Small order quantities – higher average costs as the company will not benefit from economies of scale

Optimum order size 

• Operations managers must ensure they have enough stocks to allow for smooth production. 

• Operations managers usually order their inventories on the basis of the Economic Order Quantity (EOQ)

• EOQ is the optimum inventory level where the costs incurred are minimum (both re-ordering costs and stock-holding costs)

• The reorder costs decrease as the order size increases, showing a downward sloping graph. 

• Whereas, the stock-holding costs increase as the order size rises, showing an upward sloping graph. 

• The Economic Order Quantity is shown where the stock-holding costs and re-order costs curves intersect.

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Inventory control graphs 

• Inventory-control graphs record the buffer inventories, maximum inventory.

• They help in determining the right order time and quantity.

• Buffer inventory – minimum inventory held to deal with delays in delivery and unforeseen demand changes 

• Maximum inventory level – the maximum quantity of inventory the company can hold, space and financial terms 

• Reorder quantity – the number of units ordered each time

• Lead time – time taken for the supplier to deliver the raw materials 

• Reorder stock level – the level of inventory which will trigger a new order 

The maximum inventory is 60000 units. The buffer inventory level is 10000 units and the reorder level is 20000 units. The reorder quantity is 50000 units (60000-10000)

Just in time (JIT) inventory control 

• It is an inventory control system which avoids the need to hold inventories. They arrive just as and when required 

Requirements for JIT 

• Excellent relations with supplier 

• Flexible and multiskilled production staff 

• Flexible equipment and machinery 

• Accurate demand forecasts 

• Latest IT technology 

• Excellent employee-employer relations 

• Quality must be priority 

Advantages and disadvantages 

JIT evaluation 

• JIT requires employees to be accountable for their performance and suppliers to be reliable 

• JIT may be unsuitable when:

• Costs of halting production exceed inventory holding costs 

• Expensive IT systems cannot justify potential cost savings 

• Global inflation makes holding inventories cheaper