Management Science 2 ABI-301 Prelim Period Lecture Note#3. Introduction to Operations Management. 1 Page

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Management Science 2 ABI-301 Prelim Period Lecture Note#3 Introduction to Operations Management Business organizations typically have three basic functional areas, as depicted in Figure 1.

It doesn t matter if the business is a retail store, a hospital, a manufacturing firm, a car wash, or some other type of business; it is true for all business organizations.

1 Management Science 2 ABI-301 Prelim Period Lecture Note#3 Introduction to Operations Management Business organizations typically have three basic functional areas, as depicted in Figure 1.1: finance, marketing, and operations. It doesn t matter if the business is a retail store, a hospital, a manufacturing firm, a car wash, or some other type of business; it is true for all business organizations. Finance is responsible for securing financial resources at favorable prices and allocating those resources throughout the organization, as well as budgeting, analyzing investment proposals, and providing funds for operations. Marketing is responsible for assessing consumer wants and needs, and selling and promoting the organization s goods or services. And operations is primarily responsible for producing the goods or providing the services offered by the organization. To put this into perspective, if a business organization were a car, operations would be its engine. And just as the engine is the core of what a car does, in a business organization, operations is the core of what the organization does. Operations management is responsible for managing that core. Hence, operations management is the management of systems or processes that create goods and/or provide services. The creation of goods or services involves transforming or converting inputs into outputs. Various inputs such as capital, labor, and information are used to create goods or services using one or more transformation processes (e.g., storing, transporting, cutting). To ensure that the desired outputs are obtained, measurements are taken at various points in the transformation process (feedback) and then compared with previously established standards to determine whether corrective action is needed (control). Figure 1.2 depicts the conversion process. The essence of the operations function is to add value during the transformation process: Value-added is the term used to describe the difference between the cost of inputs and the value or price of outputs. 1 Page

Organizational functions in practice, there is significant interfacing and collaboration among the various functional areas, involving exchange of information and cooperative decision making.

2 Organizational functions in practice, there is significant interfacing and collaboration among the various functional areas, involving exchange of information and cooperative decision making. For example, although the three primary functions in business organizations perform different activities, many of their decisions impact the other areas of the organization. Consequently, these functions have numerous interactions, as depicted by the overlapping circles shown in Figure 1.5. Finance and operations management personnel cooperate by exchanging information and expertise in such activities as the following: 1. Budgeting. Budgets must be periodically prepared to plan financial requirements. Budgets must sometimes be adjusted, and performance relative to a budget must be evaluated. 2. Economic analysis of investment proposals. Evaluation of alternative investments in plant and equipment requires inputs from both operations and finance people. 3. Provision of funds. The necessary funding of operations and the amount and timing of funding can be important and even critical when funds are tight. Careful planning can help avoid cash-flow problems. Thus, marketing, operations, and finance must interface on product and process design, forecasting, setting realistic schedules, quality and quantity decisions, and keeping each other informed on the other s strengths and weaknesses. Other Functions in operations 1) Accounting Provides information to management on costs of labor, materials, and overhead, and may provide reports on items such as scrap, downtime, and inventories. 2) Management information systems (MIS) is concerned with providing management with the information it needs to effectively manage. 3) The personnel or human resources department is concerned with recruitment and training of personnel, labor relations, contract negotiations, wage and salary administration, assisting in manpower projections, and ensuring the health and safety of employees. 4) Public relations has responsibility for building and maintaining a positive public image of the organization. Good public relations provides many potential benefits. 5) The legal department must be consulted on contracts with employees, customers, suppliers, and transporters, as well as on liability and environmental issues. 6) Purchasing procurement of raw materials 2 Page

Production systems Stage 1 System design decisions on system capacity, location of facilities, arrangement of department, acquisition of equipment usually involves decision that is for long-term use.

3 Production systems Stage 1 System design decisions on system capacity, location of facilities, arrangement of department, acquisition of equipment usually involves decision that is for long-term use. Stage 2 System Operation- decision on management of personnel, inventory planning and control, scheduling, project management, quality control Production of Goods versus Delivery of Services Production of goods results in a tangible output, such as an automobile, eye glasses, a golf ball, a refrigerator anything that we can see or touch. It may take place in a factory, but can occur elsewhere. For example, farming produces non-manufactured goods. Delivery of service, on the other hand, generally implies an act. A physician s examination, TV and auto repair, lawn care, and projecting a film in a theater are examples of services. The majority of service jobs fall into these categories: Government (federal, state, local). Wholesale/retail (clothing, food, appliances, stationery, toys, etc.). Financial services (banking, stock brokerages, insurance, etc.). Health care (doctors, dentists, hospitals, etc.). Personal services (laundry, dry cleaning, hair/beauty, gardening, etc.). Business services (data processing, e-business, delivery, employment agencies, etc.). Education (schools, colleges, etc.). The differences between manufacturing and service 1. Degree of customer contact (service involves a much higher degree of customer contact). 2. Uniformity of input (Service operations are subject to greater variability of inputs) 3. Labor content of jobs (Often services involving a higher labor content) 4. Uniformity of output (in manufacturing there is less variability in final product) 5. Measurement of productivity (productivity is more straightforward in manufacturing) 6. Production and delivery (often customers receive the service as it is performed) 7. Quality assurance (is more challenging in services when production and consumption occur at the same time) 8. Amount of inventory 3 Page

2) Lean production Uses minimal amount of resource to produce high volume of high quality goods with some variety.

4 Classification of Production system 1) Mass production Producing large volume of standardized products/goods, produced by low skilled or semi skilled workers, using highly specialized and expensive equipment. 2) Lean production Uses minimal amount of resource to produce high volume of high quality goods with some variety. 3) Craft Production Using highly skilled workers using simple, flexible tools to produce small quantities of customized goods Productivity 4 Page

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6 Productivity Measures are useful to the following: 1. To track performance over time 2. To determine what has changed and then devise means of improving productivity in the subsequent periods. 3. To judge the performance of an entire industry or the productivity of a country as a whole. Factors that Affect Productivity: 1) Methods: by Standardizing the process and procedures where ever possible to reduce variability can have a significant benefit for both production and quality. 2) Capital: From manual packing to automated packing but requires capital investment for auto packing comparing to manual. 3) Quality: Example will it be 100% inspection which is time consuming or just random sampling? 4) Technology: the fact is that many productivity gains in the past have come from technological change such as automation, computers, calculators and so on 5) Management: A supportive management will boost morale of employees 6) Raw Materials: Will production be able to perform will if raw materials are substandard or don t come on time? 7) Equipment: What will be the output if the machines are too old and experience downtime? 8) Working Condition/Environment: Will one produce more if the work area is too hot? 6 Page

7 Introduction Capacity issues are important for all organizations, and at all levels of an organization. Capacity refers to an upper limit or ceiling on the load that an operating unit can handle. The operating unit might be a plant, department, machine, store, or worker. The capacity of an operating unit is an important piece of information for planning purposes: It enables managers to quantify production capability in terms of inputs or outputs, and thereby make other decisions or plans related to those quantities. The basic questions in capacity planning are the following: 1. What kind of capacity is needed? 2. How much is needed? 3. When is it needed? Importance of Capacity Decisions For a number of reasons, capacity decisions are among the most fundamental of all the design decisions that managers must make. 1) 2) 3) 4) 5) 6) Capacity decisions impact on ability organization to meet future demands Capacity decisions affect operating costs Capacity is usually a major determinant of initial cost. Capacity decisions often involve long-term commitment Capacity decisions can affect competitiveness. Capacity affects the ease of management. Defining and Measuring Capacity Capacity often refers to an upper limit on the rate of output. Even though this seems simple enough, there are subtle difficulties in actually measuring capacity in certain cases. These difficulties arise because of different interpretations of the term capacity and problems with identifying suitable measures for a specific situation. Up to this point, we have been using a working definition of capacity. Although it is functional, it can be refined into two useful definitions of capacity: 1) Design capacity: the maximum output that can possibly be attained. 2) Effective capacity: the maximum possible output given a product mix, scheduling difficulties, machine maintenance, quality factors, and so on. 3) Actual Capacity: The actual production at specific time. These different measures of capacity are useful in defining two measures of system effectiveness: efficiency and utilization. Efficiency is the ratio of actual output to effective capacity. Utilization is the ratio of actual output to design capacity. 7 Page

Determinants of Effective Capacity Many decisions about system design have an impact on capacity. The same is true for many operating decisions.

8 Determinants of Effective Capacity Many decisions about system design have an impact on capacity. The same is true for many operating decisions. This section briefly describes some of these factors, which are then elaborated on elsewhere in the book. The main factors relate to the following: 1. Facilities 2. Products or services 3. Processes 4. Human considerations 5. Operations 6. External forces Developing Capacity Alternatives Aside from the general considerations about the development of alternatives (i.e., conduct a reasonable search for possible alternatives, consider doing nothing, take care not to overlook nonquantitative factors), there are other things that can be done to enhance capacity management: 1) Design flexibility into systems. The long-term nature of many capacity decisions and the risks inherent in long-term forecasts suggest potential benefits from designing flexible systems. (For example provision for future expansion). 2) Differentiate between new and mature products or services. Mature products or services tend to be more predictable in terms of capacity requirements, and they may have limited life span. 3) Take a big picture approach to capacity changes. When developing capacity alternatives, it is important to consider how parts of the system interrelate. (for example increase capacity without enough car park). 4) Prepare to deal with capacity chunks. Capacity increases are often acquired in fairly large chunks rather than smooth increments. 5) Attempt to smooth out capacity requirements. Unevenness in capacity requirements also can create certain problems. 6) Identify the optimal operating level. Production units typically have an ideal or optimal level of operation in terms of unit cost of output. Production units have an optimal rate of output for minimum cost Minimum cost and optimal operating rate are functions of size of a production unit 8 Page

3) The variable cost per unit is the same regardless of the volume.

9 COST VOLUME (BEP) ASSUMPTIONS Cost volume analysis can be a valuable tool for comparing capacity alternatives if certain assumptions are satisfied: 1) One product is involved. 2) Everything produced can be sold. 3) The variable cost per unit is the same regardless of the volume. 4) Fixed costs do not change with volume changes, or they are step changes. 5) The revenue per unit is the same regardless of volume. 6) Revenue per unit exceeds variable cost per unit. Cost volume symbols 9 Page

Managerial Accounting, 2e Braun/Tietz/Harrison Test Item File Chapter 2: Building Blocks of Managerial Accounting

Managerial Accounting, 2e Braun/Tietz/Harrison Test Item File Chapter 2: Building Blocks of Managerial Accounting 2.1-1 Retailers sell their products to other wholesalers. Answer: False LO: 2-1 EOC: E