Meridth-ffirs.indd 2 11/5/2015 4:08:43 PM Operations and Supply Chain Management for MBAs Meridth-ffirs.indd 1 11/5/2015 4:08:43 PM Meridth-ffirs.indd 2 11/5/2015 4:08:43 PM Operations and Supply Chain Management for MBAs Sixth Edition Jack R. Meredith Scott M. Shafer Wake Forest University Meridth-ffirs.indd 3 11/5/2015 4:08:44 PM VICE PRESIDENT & DIRECTOR EXECUTIVE EDITOR DEVELOPMENT EDITOR ASSOCIATE DEVELOPMENT EDITOR SENIOR PRODUCT DESIGNER MARKET SOLUTIONS ASSISTANT SENIOR DIRECTOR PROJECT MANAGER PROJECT SPECIALIST PROJECT ASSISTANT PROJECT ASSISTANT EXECUTIVE MARKETING MANAGER ASSISTANT MARKETING MANAGER ASSOCIATE DIRECTOR SENIOR CONTENT SPECIALIST PRODUCTION EDITOR George Hoffman Lise Johnson Jennifer Manias Kyla Buckingham Allison Morris Amanda Dallas Don Fowley Gladys Soto Nichole Urban Anna Melhorn Emily Meussner Christopher DeJohn Puja Katariwala Kevin Holm Nicole Repasky Ezhilan Vikraman This book was set in 10/12 Times LT Std by SPi Global and printed and bound by Lightning Source Inc. Founded in 1807, John Wiley & Sons, Inc. has been a valued source of knowledge and understanding for more than 200 years, helping people around the world meet their needs and fulfill their aspirations. 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Meridth-ffirs.indd 5 11/5/2015 4:08:44 PM Brief Contents Preface Part 1 Strategy and Execution 1 Operations and Supply Chain Strategy for Competitiveness 2 Executing Strategy: Project Management Part 2 Process and Supply Chain Design 3 4 5 6 Process Planning Capacity and Scheduling Supply Chain Planning and Analytics Supply Chain Management Part 3 Managing and Improving the Process 7 Monitoring and Controlling the Processes 8 Process Improvement: Six Sigma 9 Process Improvement: Lean Cases Glossary Index xiii 1 2 34 65 66 97 126 157 199 200 225 258 284 338 343 vi Meridth-ftoc.indd 6 11/6/2015 2:49:49 PM Contents Preface Part 1 Strategy and Execution 1 2 xiii 1 Operations and Supply Chain Strategy for Competitiveness 2 1.1 Operations 1.1.1. Systems Perspective 1.1.2. Inputs 1.1.3. Transformation Processes 1.1.4. Outputs 1.1.5. Control 1.1.6. Operations Activities 1.1.7. Trends in Operations and Supply Chain Management 1.2 Customer Value 1.2.1. Costs 1.2.2. Benefits 1.2.3. Innovativeness 1.2.4. Functionality 1.2.5. Quality 1.2.6. Customization 1.2.7. Responsiveness 1.3 Strategy and Competitiveness 1.3.1. Global Trends 1.3.2. Strategy 1.3.3. Strategic Frameworks 1.3.4. Core Capabilities 4 5 6 6 7 9 9 10 11 11 12 12 14 14 15 18 19 19 21 22 28 Executing Strategy: Project Management 34 2.1 Defining a Project 2.2 Planning the Project 2.2.1. The Project Portfolio 2.2.2. The Project Life Cycle 2.2.3. Projects in the Organizational Structure 2.2.4. Organizing the Project Team 2.2.5 Project Plans 37 38 38 41 42 42 43 vii Meridth-ftoc.indd 7 11/6/2015 2:49:49 PM viii Contents 2.3 Scheduling the Project 2.3.1. Project Scheduling with Certain Activity Times: A Process Improvement Example 2.3.2. Project Scheduling with Uncertain Activity Times 2.3.3. Project Management Software Capabilities 2.3.4. Goldratt’s Critical Chain 2.4 Controlling the Project: Earned Value Part 2 Process and Supply Chain Design 3 4 5 Meridth-ftoc.indd 8 46 47 50 55 56 58 65 Process Planning 66 3.1 Forms of Transformation Systems 3.1.1. Continuous Process 3.1.2. Flow Shop 3.1.3. Job Shop 3.1.4. Cellular Production 3.1.5. Project Operations 3.2 Selection of a Transformation System 3.2.1. Considerations of Volume and Variety 3.2.2. Product and Process Life Cycle 3.2.3. Service Processes 68 68 69 75 79 83 83 84 86 87 Capacity and Scheduling 97 4.1 Long‐Term Capacity Planning 4.1.1. Capacity Planning Strategies 4.2 Effectively Utilizing Capacity Through Schedule Management 4.2.1. Scheduling Services 4.3 Short‐Term Capacity Planning 4.3.1. Process‐Flow Analysis 4.3.2. Short‐Term Capacity Alternatives 4.3.3. Capacity Planning for Services 4.3.4. The Learning Curve 4.3.5. Queuing and the Psychology of Waiting 99 100 104 106 109 109 115 117 119 122 Supply Chain Planning and Analytics 126 5.1 Importance of Supply Chain Planning and Analytics 5.2 Demand Planning 5.2.1. Forecasting Methods 5.2.2. Factors Influencing the Choice of Forecasting Method 5.2.3. Time Series Analysis 5.2.4. Causal Forecasting with Regression 5.2.5. Assessing the Accuracy of Forecasting Models 128 129 130 131 132 141 147 11/6/2015 2:49:49 PM Contents 6 5.3 Sales and Operations Planning 5.3.1. Aggregate Planning Strategies 5.3.2. Determining the Service Level: An Example Using the Newsvendor Problem 5.3.3. Collaborative Planning, Forecasting, and Replenishment 148 149 Supply Chain Management 157 6.1 Defining SCM 6.2 Supply Chain Strategy 6.2.1. Strategic Need for SCM 6.2.2. Measures of Supply Chain Performance 6.3 Supply Chain Design 6.3.1. Logistics 6.4 Sourcing Strategies and Outsourcing 6.4.1. Purchasing/Procurement 6.4.2. Supplier Management 6.5 Inventory and Supply Planning 6.5.1. Functions of Inventories 6.5.2. Forms of Inventories 6.5.3. Inventory‐Related Costs 6.5.4. Decisions in Inventory Management 6.6 Role of Information Technology 6.6.1. ERP 6.6.2. Customer Relationship Management Systems 6.7 Successful SCM 6.7.1. Closed‐Loop Supply Chains and Reverse Logistics 160 162 163 165 166 167 175 177 179 180 181 182 183 185 185 186 188 188 189 Supplement A—The Beer Game 195 ix 150 153 Supplement B—The Economic Order Quantity Model (online) Part 3 Managing and Improving the Process 7 Meridth-ftoc.indd 9 199 Monitoring and Controlling the Processes 200 7.1 Monitoring and Control 7.2 Process Monitoring 7.2.1. Stages of Operational Effectiveness 7.2.2. Balanced Scorecard 7.2.3. The Strategy Map 7.2.4. ISO 9000 and 14000 7.2.5. Failure Mode and Effect Analysis (FMEA) 7.3 Process Control 7.3.1. Statistical Process Control 7.3.2. Constructing Control Charts 201 203 203 204 206 207 208 209 210 213 11/6/2015 2:49:49 PM x Contents 8 9 Meridth-ftoc.indd 10 7.4 Controlling Service Quality 7.4.1. Service Defections 216 217 Process Improvement: Six Sigma 225 8.1 Approaches for Process Improvement 8.2 Business Process Design (Reengineering) 8.3 Six Sigma and the DMAIC Improvement Process 8.3.1. Example Six Sigma Project 8.4 The Define Phase 8.4.1. Benchmarking 8.4.2. Quality Function Deployment 8.5 The Measure Phase 8.5.1. Defects per Million Opportunities (DPMO) 8.5.2. Measurement Systems Analysis 8.6 The Analyze Phase 8.6.1. Brainstorming 8.6.2. Cause-and-Effect Diagrams 8.6.3. Process Capability Analysis 8.7 The Improve Phase 8.7.1. Design of Experiments 8.8 The Control Phase 8.9 Six Sigma in Practice 8.9.1. Six Sigma Roles 8.9.2. Becoming Certified 8.9.3. The Need to Customize Six Sigma Programs 228 229 231 232 235 235 236 238 239 241 243 244 246 246 249 249 251 251 251 252 252 Process Improvement: Lean 258 9.1 History and Philosophy of Lean 9.1.1. Traditional Systems Compared with Lean 9.2 Specify Value and Identify the Value Stream 9.2.1. Identify the Value Stream 9.3 Make Value Flow 9.3.1. Continuous Flow Manufacturing 9.3.2. The Theory of Constraints 9.4 Pull Value through the Value Stream 9.4.1. Kanban/JIT in Services 9.5 Pursue Perfection 9.5.1. 5S 9.5.2. The Visual Factory 9.5.3. Kaizen 9.5.4. Poka Yoke 9.5.5. Total Productive Maintenance 261 262 266 268 271 272 273 275 276 277 277 277 278 278 278 11/6/2015 2:49:49 PM Contents 9.6 Benefits of Lean and Lean Six Sigma 9.6.1. Lean Six Sigma Cases BPO, Incorporated: Call Center Six Sigma Project Peerless Laser Processors General Micro Electronics, Inc.: Semiconductor Assembly Process Heublein: Project Management and Control System D. U. Singer Hospital Products Corp. Automotive Builders, Inc.: The Stanhope Project xi 279 280 284 284 297 302 315 327 331 Case (online)—United Lock: Door Hardware Division (A) Bibliography (online) Glossary 338 Index 343 Meridth-ftoc.indd 11 11/6/2015 2:49:49 PM Meridth-ftoc.indd 12 11/6/2015 2:49:49 PM Preface The enthusiasm of the users of this MBA‐oriented book has been greatly rewarding for us, and we thank them for their comments, suggestions, criticism, and support. Although the book is not the massive seller that an undergraduate textbook can become, it is clear that there is, as we felt, a need for a solely MBA‐level text. The book was originally written because of the express need we felt in our many MBA programs at Wake Forest University for an operations management textbook directed specifically to MBA students and especially to those who had some real‐world experience. We tried all of the current texts but found them either tomes that left no time for the cases and other materials we wanted to include or shorter but simplistic quantitative books. Moreover, all the books were so expensive they did not allow us to order all the cases, readings, and other supplements and class activities (such as the “Beer Game”; see Chapter 6 Supplement) that we wanted to include in our course. What we were looking for was a short, inexpensive book that would cover just the introductory, basic, and primarily conceptual material. This would allow us, as the professors, to tailor the course through supplementary cases and other materials for the unique class we would be teaching: executive, evening, full time, short course, and so on. Although we wanted a brief, supplementary‐type book so that we could add other material, we have colleagues who need a short book because they only have a half‐semester module for the topic. Or they may have to include another course (e.g., statistics) in the rest of the semester. Changes in this Sixth Edition A lot has happened since our previous edition, and we felt compelled to reorganize the book to reflect these changes. First, we amended the title to reflect the increased importance of supply chain management concepts and added an extra chapter (5) as well, focusing on demand planning, forecasting, analytics, and sales and operations planning. Also, project management is now being used for implementing strategic plans through the project portfolio, since the successful execution of strategy has continued to be a problem. Also, the concepts of lean and six sigma are now well established in organizations, and the details of their procedures are of less importance for MBA students. As a result of all these changes, we reorganized the material into three parts of the book. In Part I: Strategy and Execution, we discuss operations and supply chain strategy in Chapter 1 and then follow this up with executing strategy through project management in Chapter 2. Part II: Process and Supply Chain Design then covers four chapters. Process planning is described first in Chapter 3 and then the planning of capacity and schedules in Chapter 4. Chapter 5: Supply Chain Planning and Analytics is our first chapter on the supply chain as described above, and then Chapter 6 covers many of the details on managing the supply chain. Part III: Managing and Improving the Process then begins with Chapter 7 on monitoring and controlling the processes, followed by Chapter 8 on process improvement through the use of six sigma. The last chapter, also on process improvement, covers the concepts of lean management. The book then concludes with six cases, one of which—General Micro Electronics—is new. This is followed by a Glossary of key terms to help students quickly refresh their memories on the terminology used in the chapters. We have also updated the examples and added a few new xiii Meridth-fpreface.indd 13 10/30/2015 6:11:50 PM xiv Preface short cases to those at the back of the chapters. To conserve space and improve the pace of the book, we have cut about 80 pages from the previous edition and moved the bibliographies online, as well as some of the supplements. Of course, we have added a lot of new material as listed below so the book may still run about the same total length: r
Process mapping r
Supply chain disruptions r
Total cost of ownership r
Strategic sourcing r
Sustainability r
Collaborative planning and replenishment r
SCOR model r
Change management r
Reverse logistics r
Triple bottom line r
Analytics r
Demand planning r
Forecasting r
Sales and operations planning In revising the book, we have kept the elements of our earlier philosophy. For example, we kept the other majors such as marketing and finance in mind—what did these students need to know about operations to help them in their careers? And we still minimize the heavier quantitative material, keeping only discussions and examples that illustrate a particular concept since finance and marketing majors would not be solving operations problems. Moreover, even operations managers probably wouldn’t themselves be solving those problems; more likely, they would be assigned to an analyst. For those chapters in which exercises are included, they are intended only to help illustrate the concept we are trying to convey rather than make experts of the students. We continued to add service examples throughout the text, since the great majority (over 80 percent these days!) of our students would be, or are already, employed in a service organization. And since these students will be working and competing in a highly global economy, we employ many international examples. We also kept the textual flow of material in the chapters away from the current undergraduate trend of fracturing the material flow with sidebars, examples, applications, solved problems, and so forth, in an attempt to keep the students’ interest and attention. Given the maturity of MBA students, we instead worked these directly into the discussions to attain a smoother, clearer flow. As noted below, the Instructor’s Manual includes suggestions for readings, cases, videos, and other course supplements that we have found to be particularly helpful for MBA classes since this book is intended to be only a small part of the MBA class. Supplements Our approach to supplementary MBA‐level material here is to reference and annotate in the Instructor’s Manual additional useful cases, books, video clips, and readings for each of the nine textbook chapters. The annotation is intended to help the instructors select the most appropriate materials for their unique course. Although we have added some of our own and our colleagues’ Meridth-fpreface.indd 14 10/30/2015 6:11:50 PM Preface xv cases to the rear of this edition, we also rely on our favorite Harvard, Darden, Western Ontario, and European cases, plus Harvard Business Review readings to fully communicate the nature of the chapter topic we are covering. Although we didn’t think that Test Bank Questions or PowerPoint slides would be used by most MBA instructors, these materials are available from the publisher also. For that matter, the publisher can also custom bind selected content from this text, our larger undergraduate (or any other) Web text, along with cases and articles, should this approach be of interest to the professor. Please contact your local Wiley representative for more details. Your Inputs Appreciated We would once again like to encourage users of this book to send us their comments and suggestions. Tell us if there is something we missed that you would like to see in the next edition (or the Instructor’s Manual or web site) or if there is perhaps material that is unneeded for this audience. Also, please tell us about any errors you uncover or if there are other elements of the book you like or don’t like. We hope to continue keeping this a living, dynamic project that evolves to meet the needs of the MBA audience, an audience whose needs are also evolving as our economy and society evolve and change. We want to thank the many reviewers of this book and its previous editions: Alexander Ansari, Seattle University; Dennis Battistella, Florida Atlantic University; Linda Brennan, Mercer University; David Cadden, Quinnipiac University; Satya Chakravorty, Kennesaw State University; Okechi Geoffrey Egekwu; Michael H. Ensby, Clarkson University; James A. Fitzsimmons, University of Texas; Lawrence D. Fredendall, Clemson University; William C. Giauque, Brigham Young University; Mike Godfrey, University of Wisconsin–Oshkosh; Damodar Golhar, Western Michigan University; Suresh Kumar Goyal, Concordia University, Canada; Hector Guerrero, The College of William & Mary; Robert Handfield, North Carolina State University; Mark Gerard Haug, University of Kansas; Janelle Heineke, Boston University; Zhimin Huang, Hofstra University; David Hollingworth, Rensselaer Polytechnic Institute; James L. Hoyt, Troy State University; Kendra Ingram, Texas A&M University–Commerce; Jonatan Jelen, NYU–Poly; Mehdi Kaighobadi, Florida Atlantic University; Casey Kleindienst, California State University–Fullerton; Archie Lockamy III, Samford University; Manoj Malhotra, University of South Carolina; Gus Manoochehri, California State University–Fullerton; Robert F. Marsh, Sacred Heart; Ron McLachlin, University of Manitoba; Ivor P. Morgan, Babson College; Rob Owen, Thunderbird School of Global Management; Seungwook Park, California State University–Fullerton; Ranga V. Ramasesh, Texas Christian University; Jaime S. Ribera, IESE–Universidad de Navarra, Spain; Gary D. Scudder, Vanderbilt University; Sue Perrott Siferd, Arizona State University; Samia Siha, Kennesaw State University; Donald E. Simmons, Ithaca College; William J. Tallon, Northern Illinois University; Forrest Thornton, River College; Richard Vail, Colorado Mesa University; Asoo J. Vakharia, University of Florida; Jerry C. Wei, University of Notre Dame; and Jack Zhang, Hofstra University. For this edition we thank the following reviewers: Patrick Jaska, University of Mary Hardin–Baylor; Deborah Kellogg, University of Colorado, Denver; JD McKenna, Colorado Technical University; Madeleine Pullman, Portland State University; Anthony Steigelman, California Lutheran University. Jack Meredith Scott Shafer School of Business Wake Forest University, P.O. Box 7897 Winston‐Salem, NC 27109 meredijr@wfu.edu www.mba.wfu.edu/faculty/meredith 336.758.4467 School of Business Wake Forest University, P.O. Box 7897 Winston‐Salem, NC 27109 shafersm@wfu.edu www.mba.wfu.edu/faculty/shafer 336.758.3687 Meridth-fpreface.indd 15 10/30/2015 6:11:50 PM Meridth-fpreface.indd 16 10/30/2015 6:11:50 PM part Strategy and Execution In this first part of the book, we describe the importance of operations and the supply chain to the global competitiveness of all organizations. We then move into a discussion of their role in designing and executing a competitive strategy for the organization. Chapter 1 first describes the functions of operations and the supply chain in an organization and then lists the aspects of value that customers and clients desire of the products and services they buy. Next, a range of strategic frameworks are described that organizations commonly employ. However, selecting and carefully designing a strategy for the organization are only half the battle for survival in a very competitive global economy— the organization must be able to successfully execute the strategy. As discussed in Chapter 2, a major tool for achieving this is project management, which has developed into a field in itself, with a full range of tools and techniques for executing projects of all kinds, including strategy. I ROLE OF OPERATIONS AND SUPPLY CHAINS IN THE ORGANIZATIONS’ COMPETITIVENESS PART I: Strategy and Execution Chapter. 1: Operations and Supply Chain Strategy for Competitiveness Chapter. 2: Executing Strategy: Project Management PART II: Process and Supply Chain Design PART III: Managing and Improving the Process Chapter. 3: Process Planning Chapter. 7: Monitoring and Controlling the Process Chapter. 4: Capacity and Scheduling Chapter. 8: Process Improvement: Six Sigma Chapter. 5: Supply Chain Planning and Analytics Chapter. 9: Process Improvement: Lean Chapter. 6: Supply Chain Management 1 Meridth-p01.indd 1 11/5/2015 4:10:30 PM chapter 1 Operations and Supply Chain Strategy for Competitiveness C HA P TE R IN P ERS PECTIVE The crucial role that operations and the supply chain play in the global competitiveness of all organizations is achieved through the execution of an operations strategy devoted to designing, improving, and then executing the production process by which the organization’s services and products are created. In Chapter 1, we first describe the nature of the operations function within the global competitive environment. Then, we analyze what customers value such as innovativeness, functionality, quality, customization, and responsiveness at minimal cost. Last, we explore the major strategic frameworks used in operations to provide these valued benefits at low cost. Introduction • No discussion of global competitiveness would be complete without the inclusion of Apple Inc.’s amazing comeback from its near‐death experience over a decade ago. Under the futuristic vision of the late Steve Jobs, the firm has innovated in the electronics market like no firm has ever done before, with high quality and reasonable pricing to bring magical capabilities to small gadgets and overwhelm its competitors. Over the five‐year period from February 2010 to February 2015, Apple’s share price has risen to 338.3 percent, compared to the S&P 500’s increase of 89.6 percent. At the end of 2014, Apple became the most valuable company of all time as its market capitalization crossed the $700 billion mark. This example of Apple’s uniqueness shows how important operations capabilities in areas such as innovation, quality, customization, and cost can be to an organization’s global competitiveness (Cheng and Intindola 2012). • As in sports, numerous intense rivalries exist in the world of business, such as the rivalries between Visa and MasterCard, Microsoft and Apple, Ford and General Motors, Energizer and Duracell, and Nike and Reebok. Certainly, any list of top business rivalries would be incomplete without Coke and Pepsi. Interestingly, while these two firms compete in the same industry, one has had considerable success on the important dimension of share price performance, while the other’s performance has been rather dismal. More specifically, over the 10‐year period ending in February 2015, Pepsi’s stock price increased by 85.6 percent, while Coke’s increased by 100.6 percent. The result was that Coke’s market capitalization increased to $182.4 billion compared to Pepsi’s market capitalization of $145.8 billion. This difference in market capitalization is even more dramatic when one considers the fact that Pepsi’s sales are significantly higher than Coke’s—$66.4 billion versus $46.9 billion in 2013. A question that naturally arises is: What accounts for these very different outcomes? One explanation offered by analysts and critics is that Pepsi simply took its eye off the ball. In particular, while Coke focused its attention on beverages, Pepsi has been distracted by attempting to develop nutritious snacks. One result is that Pepsi Cola went from being the number‐two soda to the number‐three soda behind Coke and Diet Coke. To address its 2 Meridth-c01.indd 2 11/5/2015 4:15:25 PM Introduction 3 weakened performance, Pepsi’s board of directors initiated a strategic review of the company. A variety of opinions have been offered regarding what the outcome of Pepsi’s strategic review will be, from reducing its payroll to free up additional resources for marketing its soft drink products to breaking up the company into a beverage company and a snack food company (Esterl 2012). • General Motors’ market share had been in a long downward decline from about 45 percent in 1980 to about 20 percent in 2008 when the entire automotive industry got hit with a powerful one‐two punch, throwing all the weakened American automobile producers into chaos. First, in early 2008, extreme gasoline prices killed the truck and SUV market, and then, the sudden credit crisis and recession killed the rest of the automobile market. The high cost of debt, unionized labor, and unfunded liabilities (pensions and health care) forced GM and Chrysler to go begging to the government for bailouts, with GM getting a $50 billion lifeline from US taxpayers, for example. By late 2008, GM was burning through billions of dollars of cash every month. One industry analyst calculated that GM’s obligations in March of 2009 amounted to $62 billion, 35 times its market capitalization (Denning 2009, p. C10)! Finally, both GM and Chrysler had to file for a prepackaged structured bankruptcy. The bankruptcy helped GM to cut its labor costs, get rid of a lot of its debt, get rid of some of its pension and health care obligations, and cut the number of models it was offering to the public. So how did the restructuring work out? In 2011, GM had the largest annual profit, at $7.6 billion, in its 103‐year history, up 62 percent from 2010. GM’s revenues were up 13 percent on sales of 1.37 million cars (Chrysler’s sales were up 26 percent), and GM had hired 100,000 workers in each of the previous five months! GM’s car sales are growing quickly in China as well as in North America, and the company now has very little debt, over $38 billion in liquidity, and minimal taxes (as a part of their bankruptcy agreement). This represents a tremendous turnaround in the competitiveness of the US automobile industry. But the news is not all good. GM’s European business is in trouble, having lost $747 million in 2011 (but $2 billion in 2010). And its share of the US market also continues to slip, dropping to 17.8 percent in 2014 (Bennett 2012; Terlep 2012; McIntyre 2014). These brief examples highlight the diversity and importance of operations while providing a glimpse of two themes that are central to operations: customer satisfaction and competitiveness. They also illustrate a more subtle point—that improvements made in operations can simultaneously increase customer satisfaction and lower costs. The Apple example demonstrates how a company obtained a substantial competitive advantage by improving their innovation capability, their production process, and their supply chain. The American automobile industry example shows how losing an operations focus can drive a firm into bankruptcy but how, through restructuring, the firm can regain its operational competitiveness. The Pepsi example illustrates a fundamental principle in strategy and competitiveness—namely, that organizations that focus on doing a few things well usually outperform organizations that lack this focus. And Apple’s success demonstrates how quickly technology can upend an industry and change the major players and their competitiveness. Today, in our international marketplace, consumers purchase their products from the provider that offers them the most “value” for their money. To illustrate, you may be doing your course assignments on a Japanese notebook computer, driving a German automobile, or watching a sitcom on a TV made in Taiwan while cooking your food in a Korean microwave. However, most of your services—banking, insurance, and personal care—are probably provided domestically, although some of these may also be owned by, or outsourced to, foreign corporations. There is a reason why most services are produced by domestic firms while products may be produced in part, or wholly, by foreign firms, and it concerns an area of business known as operations. Meridth-c01.indd 3 11/5/2015 4:15:25 PM 4 Operations and Supply Chain Strategy for Competitiveness A great many societal changes that are occurring today intimately involve activities associated with operations. For example, there is great pressure among competing nations to increase their exports. And businesses are intent on building efficient and effective supply chains, improving their processes through “Six Sigma,” and successfully applying the precepts of “lean management” and other operations‐based programs. Another characteristic of our modern society is the explosion of new technology, an important aspect of operations. Technologies such as smart phones, e‐mail, notebook computers, tablets, and the Web, to name a few, are profoundly affecting business and are fundamentally changing the nature of work. For example, many banks are shifting their focus from building new branch locations to using the Web as a way to establish and develop new customer relationships. Banks rely on technology to carry out more routine activities as well, such as transferring funds instantly across cities, states, and oceans. Our industries also rely increasingly on technology: robots carry and weld parts together, and workerless, dark “factories of the future” turn out a continuing stream of products. And soft operations technologies, such as “supply chain management” and “lean production” (Feld 2000; Womack and Jones 2003), have transformed world markets and the global economy. This exciting, competitive world of operations is at the heart of every organization and, more than anything else, determines whether the organization survives in the international marketplace or disappears into bankruptcy or a takeover. It is this world that we will be covering in the following chapters. 1.1 Operations Why do we argue that operations be considered the heart of every organization? Fundamentally, organizations exist to create value, and operations is the part of the organization that creates value for the customer. Hammer (2004) maintains that operational innovation can provide organizations with long‐term strategic advantages over their competitors. Regardless of whether the organization is for profit or not for profit, primarily service or manufacturer, or public or private, it exists to create value. Thus, even nonprofit organizations like the Red Cross strive to create value for the recipients of their services in excess of their costs. Moreover, this has always been true, from the earliest days of bartering to modern‐day corporations. Consider McDonald’s as an example. This firm uses a number of inputs, including ingredients, labor, equipment, and facilities; transforms them in a way that adds value to them (e.g., by frying); and obtains an output, such as a chicken sandwich, that can be sold at a profit. This conversion process, termed as production system, is illustrated in Figure 1.1. The elements of the figure represent what is known as a system1: a purposeful collection of people, objects, and procedures for operating within an environment. Note the word purposeful; systems are not merely arbitrary groupings but goal‐directed or purposeful collections. Managing and running a production system efficiently and effectively are at the heart of the operations activities that will be discussed in this text. Since we will be using this term throughout the text, let us formally define it. Operations is concerned with transforming inputs into useful outputs according to an agreed‐upon strategy and thereby adding value to some entity; this constitutes the primary activity of virtually every organization. Not only is operations central to organizations, it is also central to people’s personal and professional activities, regardless of their position. People, too, must operate productively, adding value to inputs and producing quality outputs, whether those outputs are information, reports, services, products, or even personal accomplishments. Thus, operations should be of major interest to every reader, not just professionally but also personally. 1 Note the word system is being used here in a broad sense and should not be confused with more narrow usages such as information systems, planning and control systems, or performance evaluation systems. Meridth-c01.indd 4 11/5/2015 4:15:25 PM 1.1 Operations 5 Environment • Customers • Government Strategy • Value proposition • Vision/mission • Strategic frameworks • Core capabilities Inputs • Capital • Materials • Equipment • Facilities • Suppliers • Labor • Knowledge • Time Action Action • Competitors • Technology Transformation processes • Alteration • Transportation • Storage • Inspection Data Action • Suppliers • Economy Output • Facilitating goods • Services Data Data Control • Measure • Compare • Plan improvements • Implement improvements FIGURE 1.1 The production system. 1.1.1 Systems Perspective As Figure 1.1 illustrates, a production system is defined in terms of the environment, a strategy, a set of inputs, the transformation process, the outputs, and some mechanism for controlling the overall system. The strategy includes determining such elements as what customers value (often referred to as the value proposition), the vision and mission of the organization, an appropriate framework to execute this vision, and the core capabilities of the organization. We discuss the strategy in detail a bit later. The environment includes those things that are outside the actual production system but that influence it in some way. Because of its influence, we need to consider the environment, even though it is beyond the control of decision makers within the system. For example, a large portion of the inputs to a production system are acquired from the environment. Also, government regulations related to pollution control and workplace safety affect the transformation system. Think about how changes in customers’ needs, a competitor’s new product, or a new advance in technology can influence the level of satisfaction with a production system’s current outputs. As these examples show, the environment exerts a great deal of influence on the production system. Because the world around us is constantly changing, it is necessary to monitor the production system and take action when the system is not meeting its strategic goals. Of course, it may be that the current strategy is no longer appropriate, indicating a need to revise the strategy. On the other hand, it may be found that the strategy is fine but that the inputs or transformation processes, or both, should be modified in some way. In either case, it is important to continuously collect data from the environment, the transformation processes, and the outputs; compare that data to the strategic plan; and, if substantial deviations exist, design and implement improvements to the system, or perhaps the strategy, so that results agree with the strategic goals. Meridth-c01.indd 5 11/5/2015 4:15:27 PM 6 Operations and Supply Chain Strategy for Competitiveness Thinking in terms of systems provides decision makers with numerous advantages. To begin with, the systems perspective focuses on how the individual components that make up a system interact. Thus, the systems perspective provides decision makers with a broad and complete picture of an entire situation. Furthermore, the systems perspective emphasizes the relationships between the various system components. Without considering these relationships, decision makers are prone to a problem called suboptimization. Suboptimization occurs when one part of the system is improved to the detriment of other parts of the system and, perhaps, the organization as a whole. For example, if a retailer decides to broaden its product line in an effort to increase sales, this could actually end up hurting the retailer as a whole if it does not have sufficient shelf space or service personnel available to accommodate the broader product line. Thus, decisions need to be evaluated in terms of their effect on the entire system, not simply in terms of how they will affect one component of the system. In the remainder of this section, we elaborate on inputs, the transformation processes, and outputs. In later sections and chapters, we further discuss both strategy and elements of the control system in more detail. 1.1.2 Inputs The set of inputs used in a production system is more complex than might be supposed and typically involves many other areas such as marketing, finance, engineering, and human resource management. Obvious inputs include facilities, labor, capital, equipment, raw materials, and supplies. Supplies are distinguished from raw materials by the fact that they are not usually a part of the final output. Oil, paper clips, pens, tape, and other such items are commonly classified as supplies because they only aid in producing the output. Another very important but perhaps less obvious input is knowledge of how to transform the inputs into outputs. The employees of the organization hold this knowledge. Finally, having sufficient time to accomplish the operations is always critical. Indeed, the operations function quite frequently fails in its task because it cannot complete the transformation activities within the required time limit. 1.1.3 Transformation Processes The transformation processes are the part of the system that add value to the inputs. Value can be added to an entity in a number of ways. Four major ways are described here: 1. Alter: Something can be changed structurally. That would be a physical change, and this approach is basic to manufacturing industries, where goods are cut, stamped, formed, assembled, and so on. We then go out and buy the shirt, or computer, or whatever the good is. But it need not be a separate object or entity; for example, what is altered may be us. We might get our hair cut, or we might have our appendix removed. Other, more subtle, alterations may also have value. Sensual alterations, such as heat when we are cold, or music, or beauty, may be highly valued on certain occasions. Beyond this, even psychological alterations can have value, such as the feeling of worth from obtaining a college degree or the feeling of friendship from a long‐distance phone call. 2. Transport: An entity, again including ourselves, may have more value if it is located somewhere other than where it currently is. We may appreciate having things brought to us, such as flowers, or removed from us, such as garbage. 3. Store: The value of an entity may be enhanced for us if it is kept in a protected environment for some period of time. Some examples are stock certificates kept in a safe‐deposit box, our pet boarded at a kennel while we go on vacation, or ourselves staying in a hotel. Meridth-c01.indd 6 11/5/2015 4:15:27 PM 1.1 Operations 7 4. Inspect: Last, an entity may be more valued because we better understand its properties. This may apply to something we own, plan to use, or are considering purchasing, or, again, even to ourselves. Medical exams, elevator certifications, and jewelry appraisals fall into this category. Thus, we see that value may be added to an entity in a number of different ways. The entity may be changed directly, in space, in time, or even just in our mind. Additionally, value may be added using a combination of these methods. To illustrate, an appliance store may create value by both storing merchandise and transporting (delivering) it. There are other, less frequent, ways of adding value as well, such as by “guaranteeing” something. These many varieties of transformations, and how they are managed, constitute some of the major issues to be discussed in this text. 1.1.4 Outputs Two types of outputs commonly result from a production process: services and products. Generally, products are physical goods, such as a personal computer, and services are abstract or nonphysical. More specifically, we can consider the characteristics in Table 1.1 to help us distinguish between the two. However, this classification may be more confusing than helpful. For example, consider a pizza delivery chain. Does this organization produce a product or provide a service? If you answered “a service,” suppose that instead of delivering its pizzas to the actual consumer, it made the pizzas in a factory and sold them in the frozen food section of grocery stores. Clearly, the actual process of making pizzas for immediate consumption or to be frozen involves basically the same tasks, although one may be done on a larger scale and use more automated equipment. The point is, however, that both organizations produce a pizza, and defining one organization as a service and the other as a manufacturer seems to be a little arbitrary. In addition, both products and services can be produced as commodities or individually customized. We avoid this ambiguity by adopting the point of view that any physical entity accompanying a transformation that adds value is a facilitating good (e.g., the pizza). In many cases, of course, there may be no facilitating good; we refer to these cases as pure services. The advantage of this interpretation is that every transformation that adds value is simply a service, either with or without facilitating goods! If you buy a piece of lumber, you have not purchased a product. Rather, you have purchased a bundle of services, many of them embodied in a facilitating good: a tree‐cutting service, a sawmill service, a transportation service, a storage service, and perhaps even an advertising service that told you where lumber was on sale. We refer to these services as a bundle of “benefits,” of which some are tangible (the sawed length of lumber, the type of tree) and others are intangible (courteous salesclerks, a convenient location, and payment by charge card). Some services may, of course, even be negative, such as an audit of your tax return. In summary, services are bundles of benefits, some of which may be tangible and others intangible, and they may be accompanied by a facilitating good or goods. ■ TABLE 1.1 Characteristics of Products and Services Products Services Tangible Intangible Minimal contact with customer Extensive contact with customer Minimal participation by customer in the delivery Extensive participation by customer in the delivery Delayed consumption Immediate consumption Equipment‐intense production Labor‐intense production Quality easily measured Quality difficult to measure Meridth-c01.indd 7 11/5/2015 4:15:27 PM 8 Operations and Supply Chain Strategy for Competitiveness Flour purchase Magazine purchase Movie rental Auto repair Hand-made suit Travels Plush restaurant Theatrical performance FIGURE 1.2 The range from services to products. Medical examination 100 50 % Service 0 50 100 % Product Firms often run into major difficulties when they ignore this aspect of their operations. They may think of, and even market themselves as, a “lumberyard” and not as providing a bundle of services. They may recognize that they have to include certain tangible services (such as cutting lumber to the length desired by the customer) but ignore the intangible services (charge sales, having a sufficient number of clerks). Another reason for not making a distinction between manufacturing and services is that when a company thinks of itself as a manufacturer, it tends to focus on measures of internal performance such as efficiency and utilization. But when companies consider themselves as providing services, they tend to focus externally and ask questions such as “How can we serve our customers better?” This is not to imply that improving internal performance measures is not desirable. Rather, it suggests that improved customer service should be the primary impetus for all improvement efforts. It is generally not advisable to seek internal improvements if these improvements do not ultimately lead to corresponding improvements in customer service and customer satisfaction. In this text, we will adopt the point of view that all value‐adding transformations (i.e., operations) are services, and there may or may not be a set of accompanying facilitating goods. Figure 1.2 illustrates how the tangible product (or facilitating good) portion and the intangible service portion for a variety of outputs contribute to the total value provided by each output. The outputs shown range from virtually pure services to what would be known as products. For example, the Plush restaurant appears to be about 75 percent service and 25 percent product. Although we work with “products” as extensively as with services throughout the chapters in this book, bear in mind that in these cases we are working with only a portion of the total service, the facilitating good. In general, we will use the nonspecific term outputs to mean either products or services. One particular type of output that is substantially different from products and many other types of services is that of knowledge or information. These outputs often have the characteristic that the more they are used, the more valuable they become. For example, in a network, the more entities that belong to the network, the more useful it may be. If you are on Facebook® or use e‐ mail, the more other people that are also there, the more valuable it is to you. And when you share this output, you don’t lose anything, you gain. Some other characteristics of information or knowledge that differ from normal goods and services are as follows. Meridth-c01.indd 8 11/5/2015 4:15:29 PM 1.1 Operations 9 • Giving or selling the information/knowledge to someone doesn’t mean you can’t give or sell it to someone else. • The information/knowledge doesn’t wear out. • The information/knowledge isn’t subject to the law of diminishing returns. • The information/knowledge can be replicated at minimal cost and trouble. • The more the knowledge is used, the more valuable it becomes. 1.1.5 Control Suppose that in our production system, we make a mistake. We must be able to observe this through, for example, accounting records (measurement data), compare it to a standard to see how serious the error is, and then, if needed, plan and implement (usually via a project) some improvements. If the changes are not significantly affecting the outputs, then no control actions are needed. But if they are, management must intercede and apply corrective control to alter the inputs or the transformation processes and, thereby, the outputs. The control activities illustrated in Figure 1.1 are used extensively in systems, including management systems, and will be encountered throughout this text. One example of the components of the production system for a school would be as follows: A strategy of providing a safe, trustworthy, friendly environment for passing knowledge on to the students. The inputs would be, among others, the teachers, facility, books, and students that are exposed to a transformation system of learning, counseling, motivating, and so on to produce outputs of educated, skilled students. Control is exercised through examinations, demographics, grievance procedures, and constant oversight. This all occurs in a physical and structural environment that includes state and county school boards to provide oversight policies and tax systems to provide the resources. 1.1.6 Operations Activities Operations include not only those activities associated specifically with the production system but also a variety of other activities. For example, purchasing or procurement activities are concerned with obtaining many of the inputs needed in the production system. Similarly, shipping and distribution are sometimes considered marketing activities and sometimes considered operations activities. Because of the important interdependencies of these activities, many organizations are attempting to manage these activities as one process commonly referred to as supply chain management. As organizations begin to adopt new organizational structures based on business processes and abandon the traditional functional organization, it is becoming less important to classify activities as operations or nonoperations (e.g., sales, marketing, and accounting). However, to understand the tasks more easily, we commonly divide the field of operations into a series of subject areas such as scheduling, process design, inventory management, maintenance, and quality control. These areas are quite interdependent, but to make their workings more understandable, we discuss them as though they were easily separable from each other. In some areas, a full‐fledged department may be responsible for the activities, such as quality control or scheduling, but in other areas, the activities (such as facility location) may be infrequent and simply assigned to a particular group or project team. Moreover, some of the areas such as supply chain management are critically important because they are a part of a larger business process or because other areas depend on them. Finally, since we consider all operations to be services, these subject areas are equally applicable to organizations that have traditionally been classified as manufacturers and services. Meridth-c01.indd 9 11/5/2015 4:15:29 PM 10 Operations and Supply Chain Strategy for Competitiveness 1.1.7 Trends in Operations and Supply Chain Management As has been previously discussed in this chapter and will be further emphasized in the remaining chapters, an organization’s operations play a critical role in its overall competitiveness and long‐ term success. Given the critical role played by operations, it is important to stay abreast of the significant trends in the operations area as well as general business trends that may impact the operations function. As in other disciplines, technology is having a significant impact on the practice of operations. For example, communication technologies such as the Internet and cloud computing are greatly facilitating the ability of organizations to share real‐time information with their suppliers and customers. Having more timely information enhances the opportunities for supply chain partners to coordinate and integrate their operations, which ultimately leads to a more effective and efficient supply chain that benefits both the end customer and the trading partners in the supply chain. One exciting technology that promises to greatly enhance the ability of organizations to have real‐time information on their inventory and other assets is radio‐frequency identification (RFID); RFID tags are attached to individual inventory items, and these tags transmit identification and location information. For example, by attaching an RFID tag to a part, its progress through the production process can be monitored and, when finished, its location in the warehouse tracked. RFID tags are classified as passive or active. Passive RFID tags contain no power source and therefore rely on the power source of an RFID reader to transmit their information. Active RFID tags contain a power source such as a battery and use this power source to periodically transmit a signal that provides identification information. Perhaps the greatest challenge to greater adoption of RFID tags is the cost of the tags themselves. As with other technologies, the cost of RFID has decreased dramatically and is expected to continue on this trajectory. The cost of basic passive RFID tags ranges from $0.10 to $1.50, depending on the volume of tags purchased and the environmental factors they are designed to withstand. The cost of active RFID tags starts from $15 to $20 and again increases depending on the features desired. Thus, at present, the costs of active RFID tags are mainly justified for tracking expensive assets such as a rail car or delivery truck. Beyond technology, another important trend in business is the increasing emphasis organizations are placing on effectively managing their supply chains. Indeed, to remain competitive, organizations are discovering the importance of leveraging the volumes of customer data that are a natural by‐product of our computerized society, developing stronger relationships with their supply chain partners, and proactively managing the risks associated with disruptions to their supply chain. Regarding the increasing volumes of data, as will be discussed in greater detail in Chapter 5, many organizations are finding ways to combine the volumes of data they accumulate with advanced analytical techniques to manage and improve their supply chains in ways that were unthinkable in the past. Another area gaining increasing attention in supply chain management is the development of strong relationships with supply chain partners through increased collaboration. It is now widely accepted that all supply chain partners can benefit through greater collaboration. For example, including all supply chain partners in the development of the demand forecast not only increases the amount of information available from different perspectives but also helps ensure that the detailed plans of suppliers and customers are aligned and working toward achieving the same goals. We return to the issue of building relationships with supply chain partners and the benefits of greater collaboration in Chapter 5. Related to the area of developing stronger relationships with supply chain partners is the emphasis organizations are placing on the sourcing of their products. In the past, sourcing decisions Meridth-c01.indd 10 11/5/2015 4:15:29 PM 1.2 Customer Value 11 were frequently viewed as primarily tactical in nature with the overarching goal of obtaining the lowest possible unit cost. Often, the strategy used to obtain the lowest cost was to play one supplier against another. Now, we see organizations increasingly discussing strategic sourcing and thinking more holistically in terms of the total cost of ownership, not just the unit cost. Likewise, the potential benefits of outsourcing overseas are being increasingly questioned, and new terms such as reshoring and next‐shoring have entered the lexicon. The topic of strategic sourcing is discussed in greater detail in Chapter 6. Managing the risk of disruptions to the supply chain is yet another area gaining increasing attention. For example, consider the impact of the earthquake and the tsunami that hit Japan in 2011 on the availability of product components and finished goods. Disruptions to the supply chain are generally either the result of nature (natural disasters such as earthquakes, blizzards, floods, and hurricanes) or human behavior (terrorist strikes, glitches in technology, and workers going on strike). Managing such disruptions is especially challenging because they are often difficult to predict. The best approach for dealing with these types of disruptions to the supply chain is to brainstorm potential disruptions, assess the impact of the identified disruptions, and develop contingency plans to mitigate the risk of the disruption. A final important trend impacting the practice of operations management is the increasing levels of concern for the environment which in turn have led many organizations to place greater emphasis on issues related to sustainability. Addressing environmental concerns impacts virtually all aspects of operations management from the design of the organization’s output to the sourcing of parts, the distribution of the product, and even the disposal or recycling of the product or its components once it reaches the end of its useful life. Green sourcing, for example, seeks to identify suppliers in such a way that the organization’s carbon footprint and overall impact on the environment are minimized. As a result of the increasing importance organizations are placing on sustainability, some organizations are adopting the triple bottom line approach for assessing their performance. In addition to assessing profits, organizations that employ the triple bottom line approach also assess themselves on social responsibility (people) and their environmental responsibility (planet). Reducing the waste associated with products is another top sustainability priority of organizations that seek to minimize the negative impact they have on the environment. In this case, organizations can deploy a strategy often referred to as the three Rs: reduce, reuse, and recycle. As its name suggests, the reduce strategy seeks to decrease the amount of waste associated with a product. One way to accomplish this is to minimize the amount of product packaging used. In services, switching to electronic copies of documents helps reduce waste, such as when a bank switches to electronic statements. Reuse is a second strategy for minimizing waste. The idea underlying reuse is to identify alternative uses for an item after its initial use. For example, there are kits available for converting old computer monitors into fish aquariums. Finally, recycling involves using the materials from old products to create new products. For example, many greeting cards are made from recycled paper. 1.2 Customer Value 1.2.1 Costs In the “Introduction” to this chapter, we mentioned that customers support the providers of goods and services who offer them the most “value.” In this section, we elaborate on this concept. The equation for value is conceptually clear: Value Meridth-c01.indd 11 perceived benefits /costs 11/5/2015 4:15:30 PM 12 Operations and Supply Chain Strategy for Competitiveness The perceived benefits can take a wide variety of forms, but the costs are usually more straightforward: • The upfront monetary investment • Other monetary life‐cycle costs of using the service or product, such as maintenance • The hassles involved in obtaining the product or service, such as travel required, obtaining financing, the friendliness of service, and so on The cost to the customer is, of course, the price paid, but this is usually highly correlated with the cost of producing the service or product, which is itself largely based on the “efficiency” of the production process. Efficiency is always measured as output/input; for example, a standard automobile engine that uses gasoline is usually about 15 to 20 percent efficient (that is, the energy put into the engine in terms of gasoline vs. the energy put out in terms of automobile motion). However, electric and jet engines are more efficient, and rocket engines can reach almost 70 percent efficiency. The primary method of attaining efficiency in production is through high productivity, which is normally defined as output per worker hour. This definition of productivity is actually what is known as a partial factor measure of productivity, in the sense that it considers only worker hours as the productive factor. Although in the past, labor often constituted as much as 50 percent of the cost of a product—or even more for a service—it is now frequently as little as 5 percent, so labor productivity is no longer a good measure of efficiency. Clearly, labor productivity could easily be increased by substituting machinery for labor, but that doesn’t mean that this is a wise, or even cost‐saving, decision. A multifactor productivity measure uses more than a single factor, such as both labor and capital. Obviously, the different factors must be measured in the same units, such as dollars. An even broader gauge of productivity, called total factor productivity, is measured by including all the factors of production—labor, capital, materials, and energy—in the denominator. This measure is to be preferred in making any comparisons of productivity for efficiency or cost purposes. Last, we also frequently hear of “effectiveness,” which is a measure of the achievement of goals; where efficiency is sometimes considered to be “doing the thing right,” effectiveness is instead considered to be “doing the right thing” or being focused on the proper task or goal. 1.2.2 Benefits In contrast to the role of costs in the customer’s value equation, the benefits can be multiple. We will consider five of these in detail: innovativeness, functionality, quality, customization, and responsiveness. 1.2.3 Innovativeness Many people (called “early adopters” in marketing) will buy products and services simply because they are so innovative, or major improvements over what has been available formerly. It is the field of research and development (known as R&D) that is primarily responsible for developing innovative new product and service ideas. R&D activities focus on creating and developing (but not producing) the organization’s outputs. On occasion, R&D also creates new production methods by which outputs, either new or old, may be produced. Research itself is typically divided into two types: pure and applied. Pure research is simply working with basic technology to develop new knowledge. Applied research is attempting to develop new knowledge along particular lines. For example, pure research might focus on developing a material that conducts electricity with zero resistance, whereas applied research Meridth-c01.indd 12 11/5/2015 4:15:30 PM 1.2 Customer Value 13 could focus on further developing this material to be used in products for customers. Development is the attempt to utilize the findings of research and expand the possible applications, often consisting of modifications or extensions to existing outputs to meet customers’ interests. Figure 1.3 illustrates the range of applicability of development as the output becomes more clearly defined. In the early years of a new output, development is oriented toward removing “bugs,” increasing performance, improving quality, and so on. In the middle years, options and variants of the output are developed. In the later years, development is oriented toward extensions of the output that will prolong its life. Unfortunately, the returns from R&D are frequently meager, whereas the costs are great. Figure 1.4 illustrates the mortality curve (fallout rate) associated with the concurrent design, Pure Research Applied Development Options Effort Maturity Idea refinement Idea examination and evaluation Variants Growth Saturations Full marketing Idea incubation Extensions Acceptance testing, modification Improving performance Decline Output selection Discovery Death Time FIGURE 1.3 The development effort. 10 In the market 20 Commercialization and production 30 Design and testing 40 Development Number of products remaining 50 Economic analysis Evaluation and screening 60 0 0 1 2 3 4 Years Meridth-c01.indd 13 5 6 Success FIGURE 1.4 Product mortality curve. 11/5/2015 4:15:34 PM 14 Operations and Supply Chain Strategy for Competitiveness evaluation, and selection for a hypothetical group of 50 potential products, assuming that the 50 candidate products are the result of earlier research. Initial evaluation and screening reduce the 50 to about 22, and economic analysis further reduces the number to about 9. Development reduces this number even more, to about 5, and design and testing reduce it to perhaps 3. After two and a half more year’s commercialization and production are completed, there is only one successful product left. (Sometimes there are none!) One study found that, beyond this, only 64 percent of the new products brought to market were successful or about two out of three. Two alternatives to research frequently used by organizations are imitation of a proven new idea (i.e., employing a second‐to‐market strategy) or outright purchase of someone else’s invention. The outright purchase strategy is becoming extremely popular in those industries where bringing a new product to market can cost huge sums, such as pharmaceuticals and high technology. It is also employed in those industries where technology advances so rapidly that there isn’t enough time to employ a second‐to‐market strategy. Although imitation does not put the organization first in the market with the new product or service, it does provide an opportunity to study any possible defects in the original product or service and rapidly develop a better design, frequently at a better price. The second approach—purchasing an invention or the inventing company itself—eliminates the risks inherent in research, but it still requires the company to develop and market the product or service before knowing whether it will be successful. Either route spares the organization the risk and tremendous cost of conducting the actual research leading up to a new invention or improvement. In addition to product research (as it is generally known), there is also process research, which involves the generation of new knowledge concerning how to produce outputs. Currently, the production of many familiar products out of plastic (toys, pipe, furniture, etc.) is an outstanding example of successful process research. Motorola, to take another example, extensively uses project teams that conduct process development at the same time as product development. 1.2.4 Functionality Many people confuse functionality with quality (discussed next). But functionality involves the activities the product or service is intended to perform, thereby providing the benefits to the customer. A contemporary example is the ubiquitous cell phone. These days, it is probably rare to find a cell phone that is only a phone; many phones include a camera and a way to send its picture to another person or provide access to the Internet, as well as a myriad of other functions. However, many products, especially electronics, but also some services, may be advertised to provide purchasers with a new, unique function and they may do so, but it may not work well or for long. The former involves performance and the latter has to do with reliability. Clearly, these are different attributes of the output, and one can be well addressed while others disappoint. Our discussion of quality, next, elaborates a bit more on the distinction between these attributes. 1.2.5 Quality Quality is a relative term, meaning different things to different people at different times. Moreover, quality is not an absolute but, rather, is based on customers’ perceptions. Customers’ impressions can be influenced by a number of factors, including brand loyalty and an organization’s reputation. Richard J. Schonberger has compiled a list of multiple quality dimensions that customers often associate with products and services: 1. Conformance to specifications. Conformance to specifications is the extent to which the actual product matches the design specifications, such as a pizza delivery shop that consistently meets its advertised delivery time of 30 minutes. Meridth-c01.indd 14 11/5/2015 4:15:34 PM 1.2 Customer Value 15 2. Performance. Customers frequently equate the quality of products and services with their performance. (Note, however, that this dimension may in some cases actually refer to functionality.) Examples of performance include how quickly a sports car accelerates or the battery life of a cell phone. 3. Features. Features are the options that a product or service offers, such as side impact airbags or leather seats in automobiles. (Again, however, this dimension may also be confused with functionality.) 4. Quick response. Quick response is associated with the amount of time required to react to customers’ demands. However, we consider this to be a separate benefit, discussed further in the following text. 5. Reliability. Reliability is the probability that a product or service will perform as intended on any given trial or for some period of time, such as the probability that a car will start on any given morning. 6. Durability. Durability refers to how tough a product is, such as a notebook computer that still functions after being dropped or a knife that can cut through steel and not need sharpening. 7. Serviceability. Serviceability refers to the ease with which maintenance or a repair can be performed. 8. Aesthetics. Aesthetics are factors that appeal to human senses, such as the taste of a steak or the sound of a sports car’s engine. 9. Humanity. Humanity has to do with how the customer is treated, such as a private university that maintains small classes so students are not treated like numbers by its professors. It is worth noting that not all the dimensions of quality are relevant to all products and services. Thus, organizations need to identify the dimensions of quality that are relevant to the products and services they offer. Market research about customers’ needs is the primary input for determining which dimensions are important. Of course, measuring the quality of a service can often be more difficult than measuring the quality of a product or facilitating good. However, the dimensions of quality described previously apply to both. 1.2.6 Customization Customization refers to offering a product or service exactly suited to a customer’s desires or needs. However, there is a range of accommodation to the customer’s needs, as illustrated in Figure 1.5. At the left, there is the completely standard, world‐class (excellence suitable for all markets) product or service. Moving to the right is the standard with options, continuing on to Increasing customization Standard world-class Standard with options Variants Increasing standardization Meridth-c01.indd 15 Alternate models Customization FIGURE 1.5 Continuum of customization. 11/5/2015 4:15:35 PM 16 Operations and Supply Chain Strategy for Competitiveness variants and alternative models and ending at the right with made‐to‐order customization. In general, the more customization, the better—if it can be provided quickly, with acceptable quality and cost. Flexibility However, to offer customization demands flexibility on the part of the firm. Professor Upton (1994), formerly of the Harvard Business School, defines flexibility as “the ability to change or react with little penalty in time, effort, cost, or performance” (p. 73). There are more than a dozen different types of flexibility that we will not pursue here—design, volume, routing through the production system, product mix, and many others. But having the right types of flexibility can offer the following major competitive advantages: • Faster matches to customers’ needs because change over time from one product or service to another is quicker • Closer matches to customers’ needs • Ability to supply the needed items in the volumes required for the markets as they develop • Faster design‐to‐market time to meet new customer needs • Lower cost of changing production to meet needs • Ability to offer a full line of products or services without the attendant cost of stocking large inventories • Ability to meet market demands even if delays develop in the production or distribution process Mass Customization Until recently, it was widely believed that producing low‐cost standard products (at the far left in Figure 1.5) required one type of transformation process and producing higher‐cost customized products (far right) required another type of process. However, in addition to vast improvements in operating efficiency, an unexpected by‐product of the continuous improvement programs of the 1980s was substantial improvement in flexibility. Indeed, prior to this, efficiency and flexibility were thought to be trade‐offs. Increasing efficiency meant that flexibility had to be sacrificed, and vice versa. Thus, with the emphasis on continuous improvement came the realization that increasing operating efficiency could also enhance flexibility. For example, many manufacturers initiated efforts to reduce the amount of time required to set up (or change over) equipment when switching from the production of one product to another. Obviously, all time spent setting up equipment is wasteful, since the equipment is not being used during this time to produce outputs that ultimately create revenues for the organization. Consequently, improving the amount of time a resource is used productively directly translates into improved efficiency. Interestingly, these same reductions in equipment times also resulted in improved flexibility. Specifically, with shorter equipment setup times, manufacturers could produce economically in smaller‐size batches, making it easier to switch from the production of one product to another. In response to the discovery that efficiency and flexibility can be improved simultaneously and may not have to be traded off, the strategy of mass customization emerged (see Pine 1993; Gilmore and Pine 1997). Organizations pursuing mass customization seek to produce low‐cost, high‐quality outputs in great variety. Of course, not all products and services lend themselves to being customized. This is particularly true of commodities, such as sugar, gas, electricity, and flour. On the other hand, mass customization is often quite applicable to products characterized by short life cycles, rapidly advancing technology, or changing customer Meridth-c01.indd 16 11/5/2015 4:15:35 PM 1.2 Customer Value 17 requirements. However, recent research suggests that successfully employing mass customization requires an organization to first develop a transformation process that can consistently deliver high‐quality outputs at a low cost. With this foundation in place, the organization can then seek ways to increase the variety of its offerings while at the same time ensuring that quality and cost are not compromised. In an article published in the Harvard Business Review, Gilmore and Pine (1997) identified four mass customization strategies: 1. Collaborative customizers. These organizations establish a dialogue to help customers articulate their needs and then develop customized outputs to meet these needs. For example, one Japanese eyewear retailer developed a computerized system to help customers select eyewear. The system combines a digital image of the customer’s face and then various styles of eyeware are displayed on the digital image. Once the customer is satisfied, the customized glasses are produced at the retail store within an hour. 2. Adaptive customizers. These organizations offer a standard product that customers can modify themselves, such as fast‐food hamburgers (ketchup, etc.) and closet organizers. Each closet‐organizer package is the same but includes instructions and tools to cut the shelving and clothes rods so that the unit can fit a wide variety of closet sizes. 3. Cosmetic customizers. These organizations produce a standard product but present it differently to different customers. For example, Planters packages its peanuts and mixed nuts in a variety of containers on the basis of specific needs of its retailing customers, such as Wal‐Mart, 7‐Eleven, and Safeway. 4. Transparent customizers. These organizations provide custom products without the customers knowing that a product has been customized for them. For example, Amazon.com provides book recommendations based on information about past purchases. Example: Hewlett‐Packard Faced with increasing pressure from its customers for quicker order fulfillment and for more highly customized products, Hewlett‐Packard (HP) wondered whether it was really possible to deliver mass‐customized products rapidly while at the same time continuing to reduce costs (Feitzinger and Lee 1997). HP’s approach to mass customization can be summarized as effectively delaying tasks that customize a product as long as possible in the product supply process. It is based on the following three principles: • Products should be designed around a number of independent modules that can be easily combined in a variety of ways. • Manufacturing tasks should also be designed and performed as independent modules that can be relocated or rearranged to support new production requirements. • The product supply process must perform two functions. First, it must cost‐effectively supply the basic product to the locations that complete the customization activities. Second, it must have the requisite flexibility to process individual customers’ orders. HP has discovered that modular design provides three primary benefits. First, components that differentiate the product can be added during the later stages of production. This method of mass customization, generally called postponement, is one form of the assemble‐to‐order production process, discussed in more detail in Chapter 3. For example, the company designed its printers so that country‐specific power supplies are combined with the printers at local distribution centers and actually plugged in by the customer when the printer is set up. Second, production time can be significantly reduced by simultaneously producing the required modules. Third, producing in modules facilitates the identification of production and quality problems. Meridth-c01.indd 17 11/5/2015 4:15:35 PM 18 Operations and Supply Chain Strategy for Competitiveness 1.2.7 Responsiveness The competitive advantages of faster, dependable response to new markets or to the individual customer’s needs have occasionally been noted in the business media (Eisenhardt and Brown 1998; Stalk 1988; Vessey 1991). For example, in a study of the US and Japanese robotics industry, the National Science Foundation found that the Japanese tend to be about 25 percent faster than Americans, and to spend 10 percent less, in developing and marketing new robots. The major difference is that the Americans spend more time and money on marketing, whereas the Japanese spend five times more than the Americans on developing more efficient production methods. Table 1.2 identifies a number of prerequisites for and advantages of fast, dependable response. These include higher quality, faster revenue generation, and lower costs through elimination of overhead, reduction of inventories, greater efficiency, and fewer errors and scrap. One of the most important but least recognized advantages for managers is that by responding faster, they can allow a customer to delay an order until the exact need is known. Thus, the customer does not have to change the order—a perennial headache for most operations managers. Faster response to a customer also can, up to a point, reduce the unit costs of the product or service, sometimes significantly. On the basis of empirical studies reported by Meredith et al. (1994) and illustrated in Figure 1.6, it seems that there is about a 2:1 (i.e., 0.50) relationship between response time and unit cost. That is, starting from typical values, an 80 percent reduction in response time results in a corresponding 40 percent reduction in unit cost. The actual empirical data indicated a range between about 0.60 and 0.20, so for an 80 percent reduction in response time, there could be a cost reduction from a high of 0.60 × 80 percent = 48 percent to a low of 16 percent. This is an overwhelming benefit because if corresponding price reductions are made, it improves the value delivered to the customer through both higher responsiveness and lower price. The result for the producer is a much higher market share. If the producer chooses not to reduce the price, then the result is both higher margins and higher sales, for significantly increased profitability. ■ TABLE 1.2 Meridth-c01.indd 18 Prerequisites for and Advantages of Rapid Response 1 Sharper focus on the customer. Faster response for both standard‐ and custom‐designed items places the customer at the center of attention 2 Better management. Attention shifts to management’s real job, improving the firm’s infrastructure and systems 3 Efficient processing. Efficient processing reduces inventories, eliminates nonvalue‐added processing steps, smoothes flows, and eliminates bottlenecks 4 Higher quality. Since there is no time for rework, the production system must be sufficiently improved to make parts accurately, reliably, consistently, and correctly 5 Elimination of overhead. More efficient, faster flows through fewer steps eliminate the overhead needed to support the remaining steps, processes, and systems 6 Improved focus. A customer‐based focus is provided for strategy, investment, and general attention (instead of an internal focus on surrogate measures such as utilization) 7 Reduced changes. With less time to delivery, there is less time for changes in product mix, engineering changes, and especially changes to the order by the customer who just wanted to get in the queue in the first place 8 Faster revenue generation. With faster deliveries, orders can be billed faster, thereby improving cash flows and reducing the need for working capital 9 Better communication. More direct communication lines result in fewer mistakes, oversights, and lost orders 10 Improved morale. The reduced processing steps and overhead allow workers to see the results of their efforts, giving a feeling of working for a smaller firm, with its greater visibility and responsibility 11/5/2015 4:15:36 PM 1.3 Strategy and Competitiveness 19 Percentage change in cost 100 80 Upper range Lower range Approximation 60 40 20 20 40 60 80 100 Percentage change in response time FIGURE 1.6 Cost reductions with decreases in response time. 1.3 Strategy and Competitiveness Competitiveness can be defined in a number of ways. We may think of it as the long‐term viability of a firm or organization, or we may define it in a short‐term context such as the current success of a firm in the marketplace as measured by its market share or its profitability. We can also talk about the competitiveness of a nation, in the sense of its aggregate competitive success in all markets. The US President’s Council on Industrial Competitiveness gave this definition in 1985: Competitiveness for a nation is the degree to which it can, under free and fair market conditions, produce goods and services that meet the test of international markets while simultaneously maintaining and expanding the real incomes of its citizens. 1.3.1 Global Trends The United States provides a graphic example of global trade trends. The trend in merchandise trade for the United States is startling. Although some might think that foreign competition has been taking markets away from US producers only in the past decade, US merchandise imports have grown considerably for over 30 years. Although exports have increased over this period as well, they have not increased as fast as imports; the result is an exploding trade deficit with foreign countries. Partly as a result of this deficit, the United States is now the biggest debtor nation in the world, with a cumulative deficit of about $5 trillion, nearly half of the US annual gross domestic product (GDP), and an annual deficit running about 6 percent of GDP. However, these values hold only for the period up to mid‐2008, when the global financial/credit/recession crisis started. It now appears that all these figures will become much worse—not for just the United States, but globally. Another important issue relating to the financial crisis involves the exchange rate between currencies. Let’s consider in more detail what it means when a country’s currency declines in value relative to foreign currencies. A weaker currency means that citizens in that country will have to pay more for products imported from foreign countries. Meanwhile, the prices for products produced in that country and exported to foreign countries will decline, making them more desirable. Thus, a decline in the value of a country’s currency is a double‐edged sword. Such a decline makes imported goods more expensive for citizens to purchase but at the same time makes exports less expensive for foreign consumers, increasing the demand for domestic products. Meridth-c01.indd 19 11/5/2015 4:15:37 PM 20 Operations and Supply Chain Strategy for Competitiveness As an example, let’s consider the American dollar. In the financial crisis of 2008, the dollar grew stronger as Americans sold foreign assets and foreigners rushed to hold assets in the dollar, the world’s strongest currency, as well as a “reserve” (commodities are priced in dollars) currency. However, given the massive amount of dollars, the US government borrowed and created to overcome the financial crisis, there is widespread concern that the dollar may weaken or even collapse in the future. According to economic theory, a stronger dollar should make American products less desirable (or competitive) in foreign markets and imports more desirable in American markets. However, some market actions that governments and businesses often take to keep from losing customers can alter this perfect economic relationship. For instance, in the 1990s, when the price of Japanese products in the United States started increasing in terms of dollars, Japanese firms initiated huge cost‐cutting drives to reduce the cost (and thereby the dollar price) of their products, to keep from losing American customers, which was largely successful. Similarly, China controls the exchange rate of its currency, the renminbi, to stay at about 7 to the dollar (though they have been letting it strengthen recently), so it always sells its goods at a competitive price. In the last decade, particularly with the economic rise of China and India, global markets, manufacturers, and service producers have evolved in a dramatic manner. With the changes occurring in the World Trade Organization (WTO), international competition has grown very complex in the last two decades. Previously, firms were domestic, exporters, or international. A domestic firm produced and sold in the same country. An exporter sold goods, often someone else’s, abroad. An international firm sold domestically produced as well as foreign‐produced goods both domestically and in foreign countries. However, domestic sales were usually produced domestically, and foreign sales were made either in the home country or in a plant in the foreign country, typically altered to suit national regulations, needs, and tastes. Now, however, there are global firms, joint ventures, partial ownerships, foreign subsidiaries, and other types of international producers. For example, Canon is a global producer that sells a standard “world‐class” camera with options and add‐ons available through local dealers. And automobile producers frequently own stock in foreign automobile companies. Mazak, a fast‐ growing machine tool company, is the US subsidiary of Yamazaki Machinery Company of Japan. Part of the reason for cross‐ownerships and cross‐endeavors is the spiraling cost of bringing out new products. New drugs and memory chips run in the hundreds of millions to billions of dollars to bring to market. By using joint ventures and other such approaches to share costs (and thereby lower risks), firms can remain competitive. Whether to build offshore, assemble offshore, use foreign parts, employ a joint venture, and so on is a complex decision for any firm and depends on a multitude of factors. For example, the Japanese have many of their automobile manufacturing plants in foreign countries. The reasons are many and include to circumvent foreign governmental regulation of importers, to avoid the high yen cost of Japanese‐produced products, to avoid import fees and quotas, and to placate foreign consumers. Of course, other considerations are involved in producing in foreign countries: culture (e.g., whether women are part of the labor force), political stability, laws, taxes, regulations, and image. Other complex arrangements of suppliers can result in hidden international competition. For example, many products that bear an American nameplate have been totally produced and assembled in a foreign country and are simply imported under a US manufacturer’s or retailer’s nameplate, such as Nike shoes. Even more confusing, many products contain a significant proportion of foreign parts or may be composed entirely of foreign parts and only assembled in the United States (e.g., toasters, mixers, and hand tools). This recent strategic approach of finding the best mix of producers and assemblers to deliver a product or service to a customer has come to be known as “supply chain management,” a topic we discuss in detail in Chapters 5 and 6. Meridth-c01.indd 20 11/5/2015 4:15:37 PM 1.3 Strategy and Competitiveness 21 1.3.2 Strategy The organization’s business strategy is a set of objectives, plans, and policies for the organization to compete successfully in its markets. In effect, the business strategy specifies what an organization’s competitive advantage will be and how this advantage will be achieved and sustained through the decisions the organization’s business units make in the future. A key element of the business strategy is determining the window of opportunity for executing this strategy before competitors do the same. The strategic plan that details this business strategy is typically formulated at the executive committee level (CEO, president, vice presidents) and is usually long range, at least three to five years. In fact, however, the actual decisions that are made over time become the long‐range strategy. In too many firms, these decisions show no pattern at all, reflecting the truth that they have no active business strategy, even if they have gone through a process of strategic planning. In other cases, these decisions bear little or no relationship to the organization’s stated or official business strategy. The point is that an organization’s actions tell more about its true business strategy, or the lack thereof, than its public statements. But devising a winning strategy is only the first step in being competitive. The organization and its various business units still need to successfully implement this strategy, and that is where so many fail. It is now clear that more organizational strategies fail not so much for being a poor strategy but instead for poor execution. As Morgan, Levitt, and Malek note in their widely heralded book, “Executing your Strategy; How to Break it Down and Get it Done” (Morgan et al. 2007, p. 1), “Corporations spend about $100 billion a year on management consulting and training, most of it aimed at creating brilliant strategy. Yet studies have found that . . . something like 90 percent of companies consistently fail to execute strategies effectively.” They confirm that thousands of such strategies fail every year because of poor execution. DILBERT: © Scott Adams/Dist. by United Feature Syndicate, Inc. Executing a winning strategy is a major project that must be implemented within a limited time, taking substantial resources and experienced talent, the province of project management (Meredith et al. 2015). Unfortunately, as Morgan et al. point out, top managers consider the tedious work of project management as “too ‘tactical’ to take up their precious time . . . leaving the grunt work of execution to the lower echelons. Nothing could be further from the truth . . . that is precisely where strategy goes awry.” (p. 2, 4). Morgan et al. suggest that a simple test of this failure in perspective of top executives is to examine the set of projects—the project portfolio—to see whether it is aligned with the organization’s stated strategy or not. The execution of strategic initiatives through project management will be dealt with in the next chapter of this first part of the book concerning strategy and execution. Meridth-c01.indd 21 11/5/2015 4:15:37 PM 22 Operations and Supply Chain Strategy for Competitiveness 1.3.3 Strategic Frameworks We now move to a discussion of the business unit strategies organizations employ to support the overall strategy of the organization. Clearly, the business unit strategies are also projects—there will be a marketing strategy, a financial strategy, an R&D strategy, and so on. Here, of course, we are interested in the operations and supply chain strategy. As it happens, there are a number of fairly well‐defined such strategies. One that is common to many of the functional areas is related to the life cycle of the organization’s products or services. The Life Cycle Demand A number of functional strategies are tied to the stages in the standard life cycle of products and services, shown in Figure 1.7. Studies of the introduction of new products indicate that the life cycle (or stretched S growth curve, as it is also known) provides a good pattern for the growth of demand for a new output. The curve can be divided into three major segments: (1) introduction and early adoption, (2) acceptance and growth of the market, and (3) maturity with market saturation. After market saturation, demand may remain high or decline, or the output may be improved and possibly start on a new growth curve. The length of product and service life cycles has been shrinking significantly in the last decade or so. In the past, a life cycle might have been five years, but it is now six months. This places a tremendous burden on the firm to constantly monitor its strategy and quickly change a strategy that becomes inappropriate to the market. The life cycle begins with an innovation—a new output or process for the market, as discussed earlier. The innovation may be a patented product or process, a new combination of existing elements that has created a unique product or process, or some service that was previously unavailable. Initial versions of the product or service may change relatively frequently; production volumes are small, since the output has not caught on yet; and margins are high. As volume increases, the design of the output stabilizes and more competitors enter the market, frequently with more capital‐intensive equipment. In the mature phase, the now high‐volume output is a virtual commodity, and the firm that can produce an acceptable version at the lowest cost usually controls the market. Clearly, a firm’s business strategy should match the life‐cycle stages of its products and services. If a firm such as HP is good at innovation, it may choose to focus only on the introduction and acceptance phases of the product’s life cycle and then sell or license production to others as the product moves beyond the introduction stage. If its strength is in high‐volume, low‐cost production, the company should stick with proven products that are in the maturity stage. Most FIGURE 1.7 The life‐cycle curve. Meridth-c01.indd 22 Introduction Growth Maturity Time 11/5/2015 4:15:39 PM 1.3 Strategy and Competitiveness 23 common, perhaps, are firms that attempt to stick with products throughout their life cycle, changing their strategy with each stage. One approach to categorizing an organization’s business strategy is based on its timing of introductions of new outputs. Two researchers, Maidique and Patch (1979), suggest the following four product development strategies: 1. First‐to‐market. Organizations that use this strategy attempt to have their products available before the competition. To achieve this, strong applied research is needed. If a company is first‐to‐market, it has to decide if it wants to price its products high and thus skim the market to achieve large short‐term profits or set a lower initial price to obtain a higher market share and perhaps larger long‐term profits. 2. Second‐to‐market. Organizations that use this strategy try to quickly imitate successful outputs offered by first‐to‐market organizations. This strategy requires less emphasis on applied research and more emphasis on fast development. Often, firms that use the second‐to‐ market strategy attempt to learn from the mistakes of the first‐to‐market firm and offer improved or enhanced versions of the original products. 3. Cost minimization or late‐to‐market. Organizations that use this strategy wait until a product becomes fairly standardized and is demanded in large volumes. They then attempt to compete on the basis of costs as opposed to features of the product. These organizations focus most of their R&D on improving the production process, as opposed to focusing on product development. 4. Market segmentation. This strategy focuses on serving niche markets with specific needs. Applied engineering skills and flexible manufacturing systems are often needed for the market‐segmentation strategy. Be aware that a number of implicit trade‐offs are involved in de...
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