7-1 Operations Management Process Strategy and Capacity Planning Chapter 7.

7-1

Operations Operations ManagementManagement

Process Strategy andProcess Strategy and Capacity Planning Capacity Planning

Chapter 7Chapter 7

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OutlineOutline Four Process Strategies.

Process Focus. Repetitive Focus. Product Focus. Mass Customization Focus.

Service Process Design. Process Reengineering. Capacity. Break-Even Analysis. Net Present Value.

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Process StrategyProcess Strategy How to produce a product or provide a

service.

Objective: Meet or exceed customer requirements. Achieve competitive advantage.

Has long-run effects: Product & volume flexibility. Costs & quality .

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Four Process StrategiesFour Process Strategies Four process strategies:

1. Process focused. 2. Product focused. 3. Repetitive focused. 4. Mass customization.

Several strategies may be used within one facility.

Process strategies follow a continuum.

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Fit of Process, Volume, and VarietyFit of Process, Volume, and Variety

PROCESS FOCUS(job shops, printing)

REPETITIVE FOCUS(autos, motorcycles)

PRODUCT FOCUS(steel, chemicals)

High VarietySmall production runs (allows customization)

Low VarietyLong production runs (standardization)

MASS CUSTOMIZATION (Dell Computer)

POOR STRATEGY

Low Volume High Volume

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1. Process Focus1. Process Focus Facilities organized by process.

Similar processes or equipment grouped together. (Example: All drill presses are together.)

Low volume, high variety products. 75% of all global products.

Products follow many different paths. Other names:

Intermittent process. Job shop.

1

3 4

2

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Process Focus ExamplesProcess Focus Examples

Bank

Machine Shop

Hospital

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Process Focus - Pros & ConsProcess Focus - Pros & Cons

Advantages: Greater product flexibility. More general purpose equipment. Lower initial capital investment.

Disadvantages: High variable cost per unit. More highly trained personnel. More difficult production planning & control. Low equipment utilization (5% to 25%).

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2. Product Focus2. Product Focus

Facilities organized by product. High volume, low variety products. Long, continuous production runs.

Discrete unit manufacturing. Continuous process manufacturing.

Other names: Line flow production. Continuous production.

11 22 33 44

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Product Focus ExamplesProduct Focus Examples

Light Bulbs (Discrete)

Paper (Continuous).

Soft Drinks (Continuous, then Discrete)

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Product Focus: Steel PlantProduct Focus: Steel Plant

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Product Focus - Pros & ConsProduct Focus - Pros & Cons

Advantages: Lower variable cost per unit. Lower but more specialized labor skills. Easier production planning and control. Higher equipment utilization (70% to 90%).

Disadvantages: Lower product flexibility. More specialized equipment. Higher capital investment.

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3. Repetitive Focus3. Repetitive Focus

Facilities often organized by assembly lines.

Characterized by modules. Parts & assemblies made previously.

Modules combined for many output options.

Other names: Assembly line.

Production line.

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Repetitive Focus - ExamplesRepetitive Focus - Examples

Truck

Clothes Dryer

Fast Food

McDonald’sover 95 billion served

McDonald’sover 95 billion served

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Repetitive Focus - Harley DavidsonRepetitive Focus - Harley Davidson

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Repetitive Focus - ConsiderationsRepetitive Focus - Considerations

More structured than process focus, less structured than product focus.

Enables quasi-customization.

Has advantages and disadvantages of process focus and product focus.

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Process ContinuumProcess Continuum

Process Focused(intermittent process)

Repetitive Focus

(assembly line)

Product Focused (continuous

process)

Continuum

High variety, low volumeLow utilization (5% - 25%)

General-purpose equipment

Low variety, high volumeHigh utilization (70% - 90%)

Specialized equipment

ModularFlexible

equipment

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Increasing Product VarietyIncreasing Product Variety

Item Early 1970s

Late1990s

Vehicle models 140 260Vehicle styles 18 1,212Bicycle types 8 19Software titles 0 380,000Web sites 0 9,865,982Movie releases 267 458New book titles 40,530 77,446TV channels 5 851Breakfast cereals 160 340Items in supermarkets 14,000 20,000

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4. Mass Customization4. Mass Customization

Rapid, low-cost production to fulfill unique customer desires.

Distinctions between process, repetitive and product focus blur, making variety and volume issues less significant.

Very hard to achieve!

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Mass Customization at Dell Mass Customization at Dell Computer CompanyComputer Company

Sells custom-built PCs directly to consumer.

Builds computers rapidly, at low cost, and only when ordered.

Integrates the Web into every aspect of business.

Operates with six days inventory.

Research focus on software to make installation and configuration of PCs fast and simple.

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Process Analysis and DesignProcess Analysis and Design

Process should: Be designed to achieve competitive advantage

- differentiation, response, or low cost.

Eliminate steps that do not add value.

Maximize customer value, as perceived by the customer.

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Tools for Process DesignTools for Process Design

Flow Diagrams - Figures 7.2, 7.3, 7.4

Process Charts - Figure 7.7

Time-Function/Process Mapping - Figure 7.6

Service Blueprint - Figure 7.8

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Process Design for ServicesProcess Design for Services Consider customization and labor intensity. Degree of customization.

High: Focus on specialization and uniqueness (equipment, training, etc.).

Low: Focus on standardization and automation.

Degree of labor intensity. High: Focus on personalization & human resources

(selection, training, etc.) Low: Use technology and automation.

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Process Design for ServicesProcess Design for Services

Mass Service Professional Service

Service Factory Service Shop

Commercial Banking

General purpose law firms

Fine dining restaurants

Retailing

Personal banking

Boutiques

Degree of Customization

Deg

ree

of L

abor

Inte

nsity

Low High

Low

H

igh

Law clinics

Warehouse and catalog stores

Fast food restaurants

Vending machines

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Improving Service Productivity - Improving Service Productivity - Table 7.3Table 7.3

Separation: Different services in different places.

Self-service: Customers serve themselves.

Postponement: Customize at delivery.

Focus: Restrict offerings.

Automation: Automate where appropriate.

Scheduling: Precise personnel scheduling.

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Process ReengineeringProcess Reengineering Fundamental rethinking and radical redesign

of business processes. To produce dramatic improvements in performance.

Re-examine the basic process and its objectives: Re-evaluate the purpose of the process.

Question underlying assumptions.

Focus on activities that cross boundaries.

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How much long-range capacity is needed?

When more capacity is needed?

Where facilities should be located? Location - Chapter 8.

How facilities should be arranged? Layout - Chapter 9.

Facility planning answers:

Facility PlanningFacility Planning

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Definition and Measures of CapacityDefinition and Measures of Capacity

Capacity:

Design Capacity:

Effective capacity:

The maximum output of a system in a given period.

The maximum capacity that can be achieved under ideal conditions.Example: 200/day

The expected capacity given the current operating environment and constraints;may be viewed as a percentage of design capacity.Example: 180/day or 90%

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Utilization = Percent of design capacity achieved.

Efficiency = Percent of effective capacity achieved.

Utilization = Actual output

Design capacity

Utilization & EfficiencyUtilization & Efficiency

Efficiency = Actual output Effective capacity

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Design capacity = 120/day. Effective capacity = 100/day. Actual output = 80/day.

Utilization = Actual output

Design capacity

Utilization & Efficiency ExampleUtilization & Efficiency Example

Efficiency = Actual output Effective capacity

= 80/120 = 67%

= 80/100 = 80%

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Anticipated output = Design Capacity x Effective Capacity % x Efficiency

Example: Design capacity = 150 units per day Effective capacity = 80% Efficiency = 90%

Anticipated output = 150 x 0.80 x 0.90 = 108 per day.

Efficiency = 90%; Utilization = 108/150=72%

Anticipated OutputAnticipated Output

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Capacity Planning ProcessCapacity Planning Process Forecast Demand.

Compute Needed Capacity.

Develop Alternative Plans.

Evaluate Capacity Plans. Quantitative & Quantitative factors.

Select Best Capacity Plan.

Implement Best Plan.

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Vary staffing. Change equipment

& processes. Change methods. Redesign the product/service

for faster processing.

Capacity Management Vary prices. Vary promotion. Backorder. Offer complementary

products.

Demand Management

Managing Existing CapacityManaging Existing Capacity To make capacity match demand, either:

Adjust demand = Demand management. Adjust capacity = Capacity management.

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Complementary ProductsComplementary Products

Time (Months)

Sales (Units)

Jet Skis

Snow-mobiles

Total

01,000

2,000

3,000

4,0005,000

J M M J S N J M M J S N J

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Capacity Expansion Options – Capacity Expansion Options – Capacity Leads DemandCapacity Leads Demand

Expected Demand

Expected Demand

Time in Years

Time in Years

Dem

and

Dem

and

New Capacity

New Capacity

Small expansions

Large expansion

Add new capacity in advance of increasing demand. Advantages:

Can capture market. Discourage competition.

Disadvantages: Expensive and risky. Demand may not materialize. Size of needed expansion

relies on forecast.

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Capacity Expansion Options – Capacity Expansion Options – Capacity Lags DemandCapacity Lags Demand

Add new capacity after demand materializes. Advantages:

Lower cost. Less risk. Size of expansion known.

Disadvantages: May be too late to market.

Expected Demand

Time in Years

Dem

and New Capacity

Small expansions

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Break-even AnalysisBreak-even Analysis To evaluate process & equipment alternatives. Objective:

Find the point ($ or units) at which total cost equals total revenue, -or-

Find the range of output over which different alternatives are preferred.

Assumptions: Revenue & costs are related linearly to volume. All information is known with certainty. No time value of money.

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Break-even Analysis - CostsBreak-even Analysis - Costs

Fixed costs: Costs independent of the volume of units produced. Depreciation, taxes, debt, mortgage payments, etc.

Variable costs: Costs that vary with the volume of units produced. Labor, materials, portion of utilities, etc.

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Break-even ChartBreak-even Chart

Volume (units/period)

Dol

lars

Profit

Loss Fixed cost

Variable costTotal cost line

Total revenue line

Breakeven pointTotal cost = Total revenue

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Break-even EquationsBreak-even Equations

F = Fixed cost per unit time.

V = Variable cost per unit produced.

x = Number of units produced per unit time.

P = Revenue (price) per unit

TC = Total costs per unit time = F + Vx

TR = Total revenue per unit time = Px

Profit = TR - TC

At break-even point: Total Cost = Total Revenue

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Break-even Example 1Break-even Example 1A firm produces radios with a fixed cost of $7,000 per

month and a variable cost of $5 per radio. If radios sell for $8 each:

1a) What is the break-even point?

TR = TC so 8x = 7000 + 5x

x = 7000/3 = 2,333.333 radios per month

1b) What output is needed to produce a profit of $2,000/month?

Profit = 2000/month so

TR - TC = 8x - (7000 + 5x) = 2000

x = 9000/3 = 3,000 radios per month

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Break-even Example 1 - continuedBreak-even Example 1 - continued1c) What is the profit or loss if 500 radios are produced each

week?

First, get monthly production:

50052/12 = 2,166.6667 radios per month

Then calculate profit or loss

TR - TC = 82166.6667 - (7000 + 52166.6667)

= $-500 per month

($500 loss per month)

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Break-even Example 2Break-even Example 2A firm produces radios with a fixed cost of $7,000 per month and

a variable cost of $5 per radio for the first 3,000 radios produced per month. For all radios produced each month after the first 3,000 the variable cost is $10 per radio (for added overtime and maintenance costs). If radios sell for $8 each:

2a) What are the break-even point(s)?

Now TC has two parts depending on the level of production:

For x 3000/month: TC = 7000 + 5x

For x > 3000/month: TC = 7000 + 5(3000) + 10(x-3000)

= -8000 + 10x

For any x: TR = 8x

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Break-even Example 2 - continuedBreak-even Example 2 - continuedFor x 3000/month: TC = 7000 + 5x

For x > 3000/month: TC = -8000 + 10x

For any x: TR = 8x

For x 3000/month: 7000 + 5x = 8x so x = 2,333.33/month

This is < 3000/month, so it is a valid break-even point.

For x > 3000/month: -8000 + 10x = 8x so x = 4000/month

This is > 3000/month, so it is also a valid break-even point.

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Break-even Example 2Break-even Example 2

Total cost line

Total revenue line

1000

Break-even points

Volume (units/month)

Dol

lars

(Tho

usan

ds)

400030002000

8

24

32

16

40

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Break-even Example 3Break-even Example 3A firm produces radios with a fixed cost of $7,000 per month and

a variable cost of $5 per radio for the first 2,000 radios produced per month. For all radios produced each month after the first 2,000 the variable cost is $10 per radio (for added overtime and maintenance costs). If radios sell for $8 each:

3a) What are the break-even point(s)?

Again TC has two parts depending on the level of production:

For x 2000/month: TC = 7000 + 5x

For x > 2000/month: TC = 7000 + 5(2000) + 10(x-2000)

= -3000 + 10x

For any x: TR = 8x

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Break-even Example 3 - continuedBreak-even Example 3 - continuedFor x 2000/month: TC = 7000 + 5x

For x > 2000/month: TC = -3000 + 10x

For any x: TR = 8x

For x 2000/month: 7000 + 5x = 8x so x = 2,333.33/month

This is not < 2000/month, so it is not a break-even point!!

For x > 2000/month: -3000 + 10x = 8x so x = 1500/month

This is not > 2000/month, so it is not a break-even point!!

THERE ARE NO BREAK-EVEN POINTS!

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Break-even Example 3Break-even Example 3

Total cost lineTotal revenue line

1000

Volume (units/month)

Dol

lars

(Tho

usan

ds)

400030002000

8

24

32

16

40

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Other Break-even PossibilitiesOther Break-even Possibilities

Total cost lineTotal revenue line

1000

Volume (units/month)

Dol

lars

(Tho

usan

ds)

400030002000

8

24

32

16

40

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Crossover ChartCrossover Chart

Total cost - Process CTotal cost - Process B

Total cost - Process A

Process A: Low volume, high varietyProcess B: Repetitive

Process C: High volume, low variety

Process CProcess BProcess A Lowest cost process

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Crossover ExampleCrossover ExampleProcess A: FA = $5000/week VA = $10/unit

Process B: FB = $8000/week VB = $4/unit

Process C: FC = $10000/week VC = $3/unit

Over which range of output is each process best?

1. At x = 0 A is best (FA is smallest fixed cost).

2. As x gets larger, either B or C may become better than A:

B < A for x > 3000/6 or x > 500/week

C < A for x > 5000/7 or x > 714.28/week

so B is best for x > 500/week

3. Eventually, C will become better than B (VC< VB).

C < B for x > 2000/week

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Crossover ExampleCrossover ExampleSummary:A is best for output of 0-500 units per week.B is best for output of 500-2000 units per week.C is best for output greater than 2000 units per week.

0 500 714 2000

A<B

A<C

B<CA<BA<CB<C

A<B<C

B<AC<AB<C

B<C<A

B<AA<CB<C

B<A<C

B<AC<AC<B

C<B<A

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Time Value of Money - Net Present Time Value of Money - Net Present ValueValue

Future cash receipt of amount F is worth less than F today.

F = Future value N years in the future.

P = Present value today.

i = Interest rate.

NN

i

FPiPF

)1()1(

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AnnuitiesAnnuities An annuity is a annual series of equal payments.

R = Amount received every year for N years.

S = Present value today.

S = RX

where X is from Table 7.5 (page 264).

Example: What is present value of $1,000,000 paid in 20 equal annual installments?

For i=6%/year, S = 5000011.47 = $573,500

For i=14%/year, S = 500006.623 = $331,150

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Limitations of Net Present ValueLimitations of Net Present Value

Investments with the same NPV will differ: Different lengths.

Different salvage values.

Different cash flows.

Assumes we know future interest rates!

Assumes payments are always made at the end of the period.