CHAPTER

Introduction to
Operations Management

1
McGraw-Hill/Irwin
 Operations Management

The management of systems or processes

that create goods and/or provide services

Organization

Finance Operations Marketing

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 Value-Added
An operation is a function or system that transforms inputs into
outputs of greater value and the transformation process is a series of
activities along a value chain extending from supplier to customer.

Value Added
The difference between the cost of inputs
and the value or price of outputs

Inputs
Transformation/ Outputs
Land
Conversion Goods
Labor
Process Services
Capital

Feedback

Control
Feedback Feedback
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Transformation of inputs into
outputs

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Transformation of inputs into
outputs

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 Why do we study OM?
1. OM activities are at the core of
Operations
all business organizations,
regardless of what business
they are in.
Marketing Finance

2. 50% or more of all jobs are in

operations management The three major functions of biz. organizations overlaps
related areas Industrial
Engineering
Maintenance
3. A business education is Distribution
incomplete without an
understanding of modern
Purchasing Public
approaches to managing Operations Relations
operations.
Legal
Personnel

Accounting MIS
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Operations interfaces with a number of supporting functions
Goods-service Continuum

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 Food Processor

Inputs Processing Outputs

Raw vegetables Cleaning Canned
Metal Sheets Making cans Vegetables
Water Cutting
Energy Cooking
Labor Packing
Building Labeling
Equipment

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 Hospital Process
Inputs Processing Outputs
Doctors, Nurses Examination Healthy
Hospital Surgery Patients
Medical supplies Monitoring
Equipment Medication
Laboratories Therapy

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 Production of Goods vs. Delivery of
Services
Production of goods-tangible
output
Delivery of services-an act
Service job categories
Government
Wholesale/retail
Tangible Act
Financial services
Healthcare
Personal services
Business services
Education

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 Manufacturing vs. Service
Key Difference Manufacturing Service
Output Tangible Intangible
Customer contact Low High
Uniformity of input High Low
Labor content Low High
Uniformity of output High Low
Measurement of Easy Difficult
productivity
Opportunity to correct High Low
quality problems
Production and delivery Differentiated Simultaneous
Inventory RW, WIP, FG, Tools Tools
Patentable Usually Not usually

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Scope of Operations Management
Operations Management includes:
Forecasting
Capacity planning
Scheduling
Managing inventories
Assuring quality
Motivating employees
Deciding where to locate facilities
And more . . .

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 Types of Operations
Operations Examples
Goods producing Firming, mining, construction,
manufacturing, power generation
Storage/Transportation Warehousing, mail service, trucking,
moving, taxis, buses, hotels, airlines
Exchange Retailing, wholesaling, banking, renting,
leasing, library, loans
Entertainment Firms, radio, television, concerts,
recording
Communication Newspapers, radio and television,
newscasts, telephone, satellites

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Historical Evolution of Operations
Management

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 Trends in Business
Major Issues
Internet, e-commerce, e-business
Management of technology
Globalization
Management of supply chains
Lean Production and Agility
Ethical Behavior
Quality and process improvement
Increased regulation and product liability

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 Ethical Issues in Operations
Worker safety: providing adequate training,
maintaining equipment in good working condition,
maintaining a safe working environment.
Product safety: providing products that minimize the
risk of injury to users or damage to property or the
environment.
Quality: honoring warranties, avoiding hidden defects.
Environment: not doing things that will harm the
environment.

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 Ethical Issues in Operations
Community: being a good neighbor.
Hiring and firing workers: dont hire under false
pretenses (e.g. promising a long term job when
that is not what is intended).
Closing facilities: taking into account the impact
on a community and honoring commitments that
have been made.
Workers right: respecting workers rights, dealing
with workers problems quickly and fairly.

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 Introduction to
Supply Chain Management

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 What is a Supply Chain?
Includes movement of products, information, and funds from
suppliers to customers in both directions
Probably more accurate to use the term supply network or supply
web.
Customer is an integral part of the supply chain.
Typical supply chain stages: customers, retailers, distributors,
manufacturers, suppliers.
All stages may not be present in all supply chains
(e.g., no retailer or distributor for Dell).

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 What is Supply Chain
Information

Upstream Product & Service Flow Downstream

Fund

End- Distributor/ Retailer End

Suppliers Suppliers
supplier product Wholesaler Customer
Producer

Third Party Companies

Information Systems Firms
Transportation Firms
Warehousing Firms
Clearing Agents etc.

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 Supply Chain Management

Supply chain management (SCM) is the structuring and coordination of

relationships and activities across firms to deliver value in an information
and technology intensive global environment.
Supply chain management is the management of flows between and
among supply chain stages to maximize total supply chain profitability-
Chopra & Meindl.
Supply chain management is a set of approaches used to efficiently
integrate suppliers, manufacturers, warehouses, and customers so that
merchandise is produced and distributed at the right quantities, to the
right locations, and at the right time in order to minimize system wide
costs while satisfying service-level requirements Simchi-Levi et al.

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A Supply Chain for Bread

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 Why Supply Chain Management

Share of logistics cost in the manufacturing firm

Profit 4%

Logistics Cost 21%

Marketing Cost 27%

Manufacturing Cost 48%

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 Why Supply Chain Management
Customer is the true source of income.
More customer more competition.
No firm can be best in all the Value added Activities
Focus on Core Capabilities to survive.
Create alliance or strategic partnerships with other
winning chain members.

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 Evolution of Supply Chain Management
Activity fragmentation to 1960 Activity Integration 1960 to 2000 2000+

Demand forecasting

Purchasing

Requirements planning
Purchasing/
Production planning Materials
Management
Manufacturing inventory

Warehousing
Logistics
Material handling

Packaging

Finished goods inventory Supply Chain

Physical Supply Chain
Management
Distribution Management
Distribution planning

Order processing

Transportation

Customer service

Strategic planning

Information services

Marketing/sales

Finance
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 Future of SCM
Expanding the supply chain to second and third tier
suppliers and customers.
Utilization of ICT & Web for further integration.
Increasing supply chain responsiveness (quick
response, mass customization, JIT, TQM).
Greening of Supply Chain (environment friendliness,
recycling and reverse supply chain).
Innovating Supply Chain (blue ocean strategy).

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 Expanding strategic scope
Intracompany intraoperation scope: miminize local cost view
(per operation, e.g. warehouse).

Intracompany intrafunctional scope: minimize functional cost

view (over operations e.g. warehousing and transportation).

Intracompany interfunctional scope: maximize company profit

view (over functions: marketing and distribution)

Intercompany interfunctional scope: maximize supply chain

surplus view (over companies).

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 Expanding strategic scope
Material flow Customer Service

Stage one: baseline

Material
Purchasing Production Sales Distribution
Control

Stage Two: functional integration

Materials Manufacturing
Distribution
management management

Stage Three: internal integration

Materials Manufacturing
management
Distribution
management

Stage Four: external integration

Internal Supply
Suppliers Chain
Purchasing
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 Expanding strategic scope
Company

Sub-optimization

Sub-optimization
Procurement Production Distribution Customer

Supply Chain
Sub-optimization

Sub-optimization
Supplier Manufacturer Distributor Customer

One-plan mentality within the business which seeks to replace the conventional
stand-alone and separate plans of distribution, production and procurement.
The competition is not company against company but rather supply chain against
supply chain.
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Competitiveness,
Strategic Fit,
Productivity
 Competitive Advantage
Customer
Needs seeking
benefits at
acceptable prices

.A firm gains competitive advantage

by performing these strategically
important activities more cheaply or
better than its competitors.------- Competitor
Company
Porter, M.E., Competitive Advantage, Assets & Cost Assets &
Free Press, 1985 utilization differentials utilization

Source: Ohmae, K, The Mind of the Strategist,

Penguin Books, 1983

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 The Two Vectors of Strategic Direction
High

Value Advantage
To gain competitive advantage over
its rivals, a firm must deliver value
to its customers through performing
those activities more efficiently than
its competitors or by performing the
activities in a unique way that create
greater differentiation. Low

High Cost Advantage Low

The most profitable competitor in any industry sector tends to be the

lowest cost producer or the supplier providing a product with the
greatest perceived differentiated values.

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 Business organizations compete with one
another in a variety of ways
Price: Price is the amount a customer must pay for the
product or service.
Quality: a buyers perceptions of how well the product or
service will serve its intended purpose.
Product or service differentiation: any special features (i.e.
design, cost, quality, ease of use, convenient location,
warranty) that cause a product or service to be perceived by
the buyer as more suitable than a competitors product or
service.
Flexibility: ability to respond to changes. The changes might
relate to increases or decreases in volume demanded or to
changes in the design of goods or services.
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Business organizations compete with one another in
a variety of ways
Time: a number of different aspects of an organizations
operations.
how quickly a product or service is delivered to a customer.
how quickly new products or services are developed and brought to the
market.
Service: Service might involve after sale activities that are
perceived by customers as value added.
Managers and workers: if the worker are competent and
motivated they can provide a distinct competitive edge by their
skills and the ideas they create.

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 Achieving Strategic Fit in Supply Chain
Strategy:
A plan for achieving organizational goal.

Strategic fit:
Consistency between customer priorities and organizational
capabilities specified by OSCM strategies.
Competitive and OSCM strategies must have the same goals.

A company may fail because of a lack of strategic fit or

because its processes and resources do not provide
the capabilities to execute the desired strategy.
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 How is Strategic Fit Achieved?

Step 1: Understanding the customer and uncertainty

Step 2: Understanding the OSCM
Step 3: Achieving strategic fit

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Step 1: Understanding the Customer

Identify the needs of the customer segment being

served.
Quantity of product needed in each lot.
Response time customers will tolerate.
Variety of products needed.
Service level required.
Price of the product.
Desired rate of innovation in the product.
Uncertainty of customer demand for a product.
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Step 1: Understanding the Customer

Understanding the Customer

Lot size
Response time Implied
Service level Demand
Product variety Uncertainty
Price
Innovation

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 Impact of Customer Needs on Implied
Demand Uncertainty
Customer Need
Range of quantity increases
Lead time decreases
Causes implied demand uncertainty to
increase because
Wider range of quantity implies greater
variance in demand
Less time to react to orders

Variety of products required increases Demand per product becomes more

Number of channels increases
Rate of innovation increases
Required service level increases
disaggregated
Total customer demand is now
disaggregated over more channels
New products tend to have more
uncertain demand
Firm now has to handle unusual surges in
demand

First step to strategic fit is to understand customers by mapping their

demand on the implied uncertainty spectrum
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 Implied uncertainty spectrum

Predictable supply and uncertain demand Highly

or
Predictable uncertain
Uncertain supply and predictable demand
supply and or supply and
demand Some what uncertain supply and demand demand

Salt at a A new
An existing automobile
super communication
model
market device

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 Step 2: Understanding SCM

Network design : Number and location of facilities

System capacity : Capacity and layout
Production plan : Mass, lean, JIT etc.
Inventory policy : EOQ, Safety stock, ROP
Quality standards: ISO, TQM,
Transportation and delivery systems: mode and rout
Supplier relationship: Contracts, alliances
Buyer relationships

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 Step 2: Understanding the Supply Chain

There is a cost to achieving responsiveness

Supply chain efficiency: cost of making and delivering
the product to the customer
Increasing responsiveness results in higher costs that
lower efficiency
Second step to achieving strategic fit is to map the
supply chain on the responsiveness spectrum

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Example of efficient and responsive OSCM
strategic fit
Primary goal
Product design strategy
Pricing strategy
Mfg strategy
Inventory strategy
Lead time strategy
Supplier selection strategy
Transportation strategy
Efficient
Lowest cost
Min product cost
Lower margins
High utilization
Minimize inventory
Reduce but not at expense
of greater cost
Cost and low quality
Greater reliance on low cost
modes
Responsive
Quick response
Modularity to allow
postponement
Higher margins
Capacity flexibility
Buffer inventory
Aggressively reduce even if
costs are significant
Speed, flexibility, quality
Greater reliance on
responsive (fast) modes
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 Responsive spectrum

Highly Somewhat Somewhat Highly

efficient efficient responsive responsive

Integrated Hanes Most Seven

steel mill apparel automotive Eleven
production

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 Step 3: Achieving Strategic Fit
Step is to ensure that what the supply chain does well is
consistent with target customers needs
All functions in the value chain must also support the
competitive strategy to achieve strategic fit.
Two extremes:
Efficient supply chains (Barilla) and responsive supply chains (Dell).
Certain demand (functional product) and Uncertain demand
(innovative product)
Two key points
there is no right OSCM strategy independent of competitive strategy.
there is a right OSCM strategy for a given competitive strategy.

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 Achieving Strategic Fit Shown on the
Uncertainty/Responsiveness Map
Responsive
OSCM
Dell

Responsivene
ss spectrum

Efficient Barilla
OSCM

Certain Implied Uncertain

demand uncertainty demand
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spectrum
Mechanism for Ensuring Strategic Fit
(Drivers)
Logistics drivers
Facility decisions
Inventory decisions
Transportation decisions
Cross functional drivers
Information
Sourcing decisions
Pricing decisions

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 Facilities
Role in the supply chain
the where of the supply chain
manufacturing or storage (warehouses)
Role in the competitive strategy
Central production _economies of scale (efficiency priority)
larger number of smaller facilities (responsiveness priority)
Proximity to customers/ suppliers (Location)
Capacity Utilization
Flexible vs. Dedicated
Cross-dock vs. warehousing
Overall trade-off: Responsiveness versus efficiency
3-48
 Inventory
Role in the Supply Chain
Inventory exists because of a mismatch between supply and demand
Source of cost and influence on responsiveness
Role in Competitive Strategy
If responsiveness is a strategic competitive priority, a firm can locate
larger amounts of inventory closer to customers
If cost is more important, inventory can be reduced to make the firm
more efficient
Inventory location and Inventory policies (EOQ, Reorder point, safety
stock, 80/20 policy, ABC etc.)
Overall trade-off: Responsiveness versus efficiency
more inventory: greater responsiveness but greater cost
less inventory: lower cost but lower responsiveness
3-49
 Transportation
Role in the Supply Chain
Moves the product between stages in the supply chain
Impact on responsiveness and efficiency
Also affects inventory and facilities decisions
Role in Competitive Strategy
Faster transportation allows greater responsiveness but
lower efficiency
Can also consider both inventory and transportation to
find the right balance

3-50
 Components of Transportation Decisions

Mode of transportation:
air, truck, rail, ship, pipeline, electronic transportation
vary in cost, speed, size of shipment, flexibility
Route and network selection
route: path along which a product is shipped
network: collection of locations and routes
In-house or outsource (2PL, 3PL, 4PL)
Mode selection
Overall trade-off: Responsiveness versus efficiency

3-51
 Information
Role in the supply chain
The connection between the various stages in the supply
chain allows coordination between stages
Crucial to daily operation of each stage in a supply chain
e.g., production scheduling, inventory levels
Role in the competitive strategy
Allows supply chain to become more efficient and more
responsive at the same time (reduces the need for a trade-
off)
Information technology cost vs. responsiveness

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 Sourcing
Role in the supply chain
Set of business processes required to purchase goods and
services in a supply chain
Supplier selection, single vs. multiple suppliers, contract
negotiation
Role in the competitive strategy
Sourcing decisions are crucial because they affect the level
of efficiency and responsiveness in a supply chain
In-house vs. outsource decisions- improving efficiency and
responsiveness

3-53
 Pricing
Role in the supply chain
Pricing determines the amount to charge
customers in a supply chain
Pricing strategies can be used to match demand
and supply
Role in the competitive strategy
Firms can utilize optimal pricing strategies to
improve efficiency and responsiveness
Low price and low product availability; vary prices
by response times
3-54
Productivity

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 Productivity
Productivity
A measure of the effective use of resources usually
expressed as the ratio of output to input.
Productivity ratios are used for
Planning workforce requirements
Scheduling equipment
Financial analysis

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 Productivity
Partial measures
output/(single input) Productivity=Output/inputputs
Multi-factor measures
output/(multiple inputs)
Total measure
output/(total inputs)

Productivity Growth
Current Period Productivity Previous Period Productivity
Productivity Growth= Previous Period Productivity

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 Measures of Productivity
Table 2.4

Partial Output Output Output Output

measures Labor Machine Capital Energy

Multifactor Output Output

measures Labor + Machine Labor + Capital + Energy

Total Goods or Services Produced

measure All inputs used to produce them

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Examples of Partial Productivity Measures

Labor Units of output per labor hour

Units of output per shift
Productivity Value-added per labor hour
Dollar value of output per labor hours
Machine Units of output per machine hour
machine hour
Productivity Dollar value of output per machine hour

Capital Units of output per dollar input

Dollar value of output per dollar input
Productivity

Energy Units of output per kilowatt-hour

Dollar value of output per kilowatt-hour
Productivity

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 Example 3

7040 Units Produced

Sold for $1.10/unit

Cost of labor of $1,000 What is the

multifactor
Cost of materials: $520 productivity?

Cost of overhead: $2000 Ans. 2.20

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 Example 3 Solution

MFP = Output
Labor + Materials + Overhead

MFP = (7040 units)*($1.10)

$1000 + $520 + $2000

MFP = 2.20

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 Factors Affecting Productivity

Capital Quality

Technology Management

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 Other Factors Affecting Productivity
Standardization
Quality
Use of Internet
Computer viruses
Scrap rates
New workers
Safety
Shortage of IT workers
Layoffs
Labor turnover
Design of the workspace
Incentive plans that reward productivity 63
 Improving Productivity
Develop productivity measures
Determine critical (bottleneck) operations
Develop methods for productivity improvements
Establish reasonable goals
Get management support
Measure and publicize improvements
Dont confuse productivity with efficiency

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 Class work
1. The manager of a crew that installs carpeting has tracked the
crews output over the past several weeks, obtain these
figures:
Week Crew Size Yards Installed
1 4 960
2 3 702
3 4 968
4 2 500
5 3 696
6 2 500
Compute the labor productivity for each of the weeks. On the
basis of your calculations, what can you conclude about crew
size and productivity?
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 Class work
2. Compute the multifactor productivity measure for each of
the weeks shown. What do the productivity figures suggests?
Assume 40-hour weeks and an hourly wage of $12. Overhead
is 1.5times weekly labor cost. Material cost is $6 per pound.
Standard price is $140 per unit.

Week Output Workers Material

(units) (lbs)
1 300 6 45
2 338 7 46
3 322 7 46
4 354 8 48

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 Home Work
1. A company that makes shopping carts for supermarkets and other stores
recently purchased some new equipment that reduces the labor content
of the jobs needed to produce the shopping carts. Prior to buying the
new equipment, the company used five workers, who produced an
average of 80 carts per hour. Workers receive $10 per hour and machine
cost was $40 per hour. With the new equipment, it was possible to
transfer one of the workers to another department, and equipment cost
increased by $10 per hour while output increased by four carts per hour.
a) Compute labor productivity under each system. Use carts per worker per
hour as the measure of labor productivity.
b) Compute the multifactor productivity under each system. Use carts per
dollar cost (labor plus equipment) as the measure.
c) Comment on the changes in productivity according to the two measures,
and on which one you believe is the more pertinent for this situation.
2. A manager checked production records and found that a worker
produced 160 units while working 40 hours. In the previous week, the
same worker produced 138 units while working 36 hours. Did the
workers productivity increase? Explain. 67