i need an essay about operation management for Frito-Lay

Sep 6th, 2017
Anonymous
Category:
Accounting
Price: $15 USD

Question description

All instruction is in the picture attached this, and this is the video link for the Frito-Lay

https://mediaplayer.pearsoncmg.com/assets/fl_op_mg...

i have attached the powerpoint for the chapter 1.

i also attached similar essay i wrote for the first exam about hard rock cafe. for the next exam i would like to do the same format and idea for the Frito-Lay instead of hard rock cafe.

intruction.jpg
Operations and Productivity 1 PowerPoint presentation to accompany Heizer, Render, Munson Operations Management, Twelfth Edition Principles of Operations Management, Tenth Edition PowerPoint slides by Jeff Heyl Copyright © 2017 Pearson Education, Inc. 1-1 Outline ▶ Global Company Profile: Hard Rock Cafe ▶ What Is Operations Management? ▶ Organizing to Produce Goods and Services ▶ The Supply Chain ▶ Why Study OM? ▶ What Operations Managers Do Copyright © 2017 Pearson Education, Inc. 1-2 Outline - Continued ▶ ▶ ▶ ▶ The Heritage of Operations Management Operations for Goods and Services The Productivity Challenge Current Challenges in Operations Management ▶ Ethics, Social Responsibility, and Sustainability Copyright © 2017 Pearson Education, Inc. 1-3 Operations Management at Hard Rock Cafe ▶ First opened in 1971 ▶ Now – 150 restaurants in over 53 countries ▶ Rock music memorabilia ▶ Creates value in the form of good food and entertainment ▶ 3,500+ custom meals per day in Orlando ▶ How does an item get on the menu? ▶ Role of the Operations Manager Copyright © 2017 Pearson Education, Inc. 1-4 Learning Objectives When you complete this chapter you should be able to: 1.1 Define operations management 1.2 Explain the distinction between goods and services 1.3 Explain the difference between production and productivity Copyright © 2017 Pearson Education, Inc. 1-5 Learning Objectives When you complete this chapter you should be able to: 1.4 Compute single-factor productivity 1.5 Compute multifactor productivity 1.6 Identify the critical variables in enhancing productivity Copyright © 2017 Pearson Education, Inc. 1-6 What Is Operations Management? Production is the creation of goods and services Operations management (OM) is the set of activities that create value in the form of goods and services by transforming inputs into outputs Copyright © 2017 Pearson Education, Inc. 1-7 Organizing to Produce Goods and Services ▶ Essential functions: 1. Marketing – generates demand 2. Production/operations – creates the product 3. Finance/accounting – tracks how well the organization is doing, pays bills, collects the money Copyright © 2017 Pearson Education, Inc. 1-8 Organizational Charts Figure 1.1 Copyright © 2017 Pearson Education, Inc. 1-9 Organizational Charts Figure 1.1 Copyright © 2017 Pearson Education, Inc. 1 - 10 Organizational Charts Figure 1.1 Copyright © 2017 Pearson Education, Inc. 1 - 11 The Supply Chain ▶ A global network of organizations and activities that supply a firm with goods and services ▶ Members of the supply chain collaborate to achieve high levels of customer satisfaction, efficiency and competitive advantage Figure 1.2 Farmer Syrup producer Copyright © 2017 Pearson Education, Inc. Bottler Distributor Retailer 1 - 12 Why Study OM? 1. OM is one of three major functions of any organization; we want to study how people organize themselves for productive enterprise 2. We want (and need) to know how goods and services are produced 3. We want to understand what operations managers do 4. OM is such a costly part of an organization Copyright © 2017 Pearson Education, Inc. 1 - 13 Options for Increasing Contribution TABLE 1.1 MARKETING OPTION FINANCE/ ACCOUNTING OPTION OM OPTION CURRENT INCREASE SALES REVENUE 50% REDUCE FINANCE COSTS 50% REDUCE PRODUCTION COSTS 20% $100,000 $150,000 $100,000 $100,000 Cost of goods –80,000 –120,000 –80,000 –64,000 Gross margin 20,000 30,000 20,000 36,000 Finance costs –6,000 –6,000 –3,000 –6,000 Subtotal 14,000 24,000 17,000 30,000 Taxes at 25% –3,500 –6,000 –4,200 –7,500 Contribution $ 10,500 $ 18,000 $ 12,750 $ 22,500 Sales Copyright © 2017 Pearson Education, Inc. 1 - 14 What Operations Managers Do Basic Management Functions ▶ ▶ ▶ ▶ ▶ Planning Organizing Staffing Leading Controlling Copyright © 2017 Pearson Education, Inc. 1 - 15 Ten Strategic Decisions TABLE 1.2 DECISION CHAPTER(S) 1. Design of goods and services 5, Supplement 5 2. Managing quality 6, Supplement 6 3. Process and capacity strategy 7, Supplement 7 4. Location strategy 8 5. Layout strategy 9 6. Human resources and job design 10 7. Supply-chain management 11, Supplement 11 8. Inventory management 12, 14, 16 9. Scheduling 13, 15 10. Maintenance 17 Copyright © 2017 Pearson Education, Inc. 1 - 16 The Strategic Decisions 1. Design of goods and services ▶ Defines what is required of operations ▶ Product design determines quality, sustainability and human resources 2. Managing quality ▶ Determine the customer’s quality expectations ▶ Establish policies and procedures to identify and achieve that quality Table 1.2 (cont.) Copyright © 2017 Pearson Education, Inc. 1 - 17 The Strategic Decisions 3. Process and capacity design ▶ How is a good or service produced? ▶ Commits management to specific technology, quality, resources, and investment 4. Location strategy ▶ Nearness to customers, suppliers, and talent ▶ Considering costs, infrastructure, logistics, and government Table 1.2 (cont.) Copyright © 2017 Pearson Education, Inc. 1 - 18 The Strategic Decisions 5. Layout strategy ▶ Integrate capacity needs, personnel levels, technology, and inventory ▶ Determine the efficient flow of materials, people, and information 6. Human resources and job design ▶ Recruit, motivate, and retain personnel with the required talent and skills ▶ Integral and expensive part of the total system design Table 1.2 (cont.) Copyright © 2017 Pearson Education, Inc. 1 - 19 The Strategic Decisions 7. Supply chain management ▶ Integrate supply chain into the firm’s strategy ▶ Determine what is to be purchased, from whom, and under what conditions 8. Inventory management ▶ Inventory ordering and holding decisions ▶ Optimize considering customer satisfaction, supplier capability, and production schedules Table 1.2 (cont.) Copyright © 2017 Pearson Education, Inc. 1 - 20 The Strategic Decisions 9. Scheduling ▶ Determine and implement intermediateand short-term schedules ▶ Utilize personnel and facilities while meeting customer demands 10. Maintenance ▶ Consider facility capacity, production demands, and personnel ▶ Maintain a reliable and stable process Table 1.2 (cont.) Copyright © 2017 Pearson Education, Inc. 1 - 21 Where are the OM Jobs? ▶ ▶ ▶ ▶ ▶ ▶ ▶ ▶ ▶ ▶ Technology/methods Facilities/space utilization Strategic issues Response time People/team development Customer service Quality Cost reduction Inventory reduction Productivity improvement Copyright © 2017 Pearson Education, Inc. 1 - 22 Opportunities Figure 1.3 Copyright © 2017 Pearson Education, Inc. 1 - 23 Certifications ▶ APICS, the Association for Operations Management ▶ American Society for Quality (ASQ) ▶ Institute for Supply Management (ISM) ▶ Project Management Institute (PMI) ▶ Council of Supply Chain Management Professionals ▶ Charter Institute of Procurement and Supply (CIPS) Copyright © 2017 Pearson Education, Inc. 1 - 24 Significant Events in OM Figure 1.4 Copyright © 2017 Pearson Education, Inc. 1 - 25 The Heritage of OM ▶ Division of labor (Adam Smith 1776; Charles Babbage 1852) ▶ Standardized parts (Whitney 1800) ▶ Scientific Management (Taylor 1881) ▶ Coordinated assembly line (Ford/ Sorenson 1913) ▶ Gantt charts (Gantt 1916) ▶ Motion study (Frank and Lillian Gilbreth 1922) ▶ Quality control (Shewhart 1924; Deming 1950) Copyright © 2017 Pearson Education, Inc. 1 - 26 The Heritage of OM ▶ Computer (Atanasoff 1938) ▶ CPM/PERT (DuPont 1957, Navy 1958) ▶ Material requirements planning (Orlicky 1960) ▶ Computer aided design (CAD 1970) ▶ Flexible manufacturing system (FMS 1975) ▶ Baldrige Quality Awards (1980) ▶ Computer integrated manufacturing (1990) ▶ Globalization (1992) ▶ Internet (1995) Copyright © 2017 Pearson Education, Inc. 1 - 27 Eli Whitney ▶ Born 1765; died 1825 ▶ In 1798, received government contract to make 10,000 muskets ▶ Showed that machine tools could make standardized parts to exact specifications ▶ Musket parts could be used in any musket Copyright © 2017 Pearson Education, Inc. 1 - 28 Frederick W. Taylor ▶ Born 1856; died 1915 ▶ Known as ‘father of scientific management’ ▶ In 1881, as chief engineer for Midvale Steel, studied how tasks were done ▶ Began first motion and time studies ▶ Created efficiency principles Copyright © 2017 Pearson Education, Inc. 1 - 29 Taylor’s Principles Management Should Take More Responsibility for: 1. Matching employees to right job 2. Providing the proper training 3. Providing proper work methods and tools 4. Establishing legitimate incentives for work to be accomplished Copyright © 2017 Pearson Education, Inc. 1 - 30 Frank and Lillian Gilbreth ▶ Frank (1868-1924); Lillian (1878-1972) ▶ Husband and wife engineering team ▶ Further developed work measurement methods ▶ Applied efficiency methods to their home and 12 children! ▶ Book and Movie: “Cheaper by the Dozen,” “Bells on Their Toes” Copyright © 2017 Pearson Education, Inc. 1 - 31 Henry Ford ▶ Born 1863; died 1947 ▶ In 1903, created Ford Motor Company ▶ In 1913, first used moving assembly line to make Model T ▶ Unfinished product moved by conveyor past work station ▶ Paid workers very well for 1911 ($5/day!) Copyright © 2017 Pearson Education, Inc. 1 - 32 W. Edwards Deming ▶ Born 1900; died 1993 ▶ Engineer and physicist ▶ Credited with teaching Japan quality control methods in post-WW2 ▶ Used statistics to analyze process ▶ His methods involve workers in decisions Copyright © 2017 Pearson Education, Inc. 1 - 33 Contributions From ▶ Industrial engineering ▶ Statistics ▶ Management ▶ Economics ▶ Physical sciences ▶ Information technology Copyright © 2017 Pearson Education, Inc. 1 - 34 Operations for Goods and Services Services – Economic activities that typically produce an intangible product (such as education, entertainment, lodging, government, financial, and health services) Copyright © 2017 Pearson Education, Inc. 1 - 35 Operations for Goods and Services ▶ Manufacturers produce tangible product, services often intangible ▶ Operations activities often very similar ▶ Distinction not always clear ▶ Few pure services Copyright © 2017 Pearson Education, Inc. 1 - 36 Differences Between Goods and Services TABLE 1.3 CHARACTERISTICS OF SERVICES CHARACTERISTICS OF GOODS Intangible: Ride in an airline seat Tangible: The seat itself Produced and consumed simultaneously: Beauty salon produces a haircut that is consumed as it is produced Product can usually be kept in inventory (beauty care products) Unique: Your investments and medical care are unique Similar products produced (iPods) High customer interaction: Often what the customer is paying for (consulting, education) Limited customer involvement in production Inconsistent product definition: Auto Insurance changes with age and type of car Product standardized (iPhone) Often knowledge based: Legal, education, and medical services are hard to automate Standard tangible product tends to make automation feasible Services dispersed: Service may occur at retail store, local office, house call, or via internet. Product typically produced at a fixed facility Quality may be hard to evaluate: Consulting, education, and medical services Many aspects of quality for tangible products are easy to evaluate (strength of a bolt) Reselling is unusual: Musical concert or medical care Product often has some residual value Copyright © 2017 Pearson Education, Inc. 1 - 37 U.S. Agriculture, Manufacturing, and Service Employment Figure 1.5 100 - Percent of Workforce 80 – 60 – 40 – 20 – 0 . | 1800 | 1825 | 1850 Agriculture Copyright © 2017 Pearson Education, Inc. | 1875 | | 1900 1925 Services | 1950 | | 1975 2000 2025 (est.) Manufacturing 1 - 38 Organizations in Each Sector TABLE 1.4 SECTOR EXAMPLE PERCENT OF ALL JOBS Service Sector Education, Medical, Other San Diego State University, Arnold Palmer Hospital 15.3 Trade (retail, wholesale), Transportation Walgreen's, Walmart, Nordstrom, Alaska Airlines 15.8 Information, Publishers, Broadcast IBM, Bloomberg, Pearson, ESPN Professional, Legal, Business Services, Associations Snelling and Snelling, Waste Management, Inc., American Medical Association, Ernst & Young Finance, Insurance, Real Estate Citicorp, American Express, Prudential, Aetna Food, Lodging, Entertainment Olive Garden, Motel 6, Walt Disney 10.4 Public Administration U.S., State of Alabama, Cook County 15.6 1.9 13.6 85.2 9.6 Manufacturing Sector General Electric, Ford, U.S. Steel, Intel 8.6 Construction Sector Bechtel, McDermott 4.3 Agriculture King Ranch 1.4 Mining Sector Homestake Mining Grand Total Copyright © 2017 Pearson Education, Inc. .5 100.0 1 - 39 Service Pay ▶ Perception that services are low-paying ▶ 42% of service workers receive above average wages ▶ 14 of 33 service industries pay below average ▶ Retail trade pays only 61% of national average ▶ Overall average wage is 96% of the average Copyright © 2017 Pearson Education, Inc. 1 - 40 Productivity Challenge Productivity is the ratio of outputs (goods and services) divided by the inputs (resources such as labor and capital) The objective is to improve productivity! Important Note! Production is a measure of output only and not a measure of efficiency Copyright © 2017 Pearson Education, Inc. 1 - 41 The Economic System Inputs Labor, capital, management Transformation The U.S. economic system transforms inputs to outputs at about an annual 2.5% increase in productivity per year. The productivity increase is the result of a mix of capital (38% of 2.5%), labor (10% of 2.5%), and management (52% of 2.5%). Outputs Goods and services Feedback loop Figure 1.6 Copyright © 2017 Pearson Education, Inc. 1 - 42 Improving Productivity at Starbucks A team of 10 analysts continually look for ways to shave time. Some improvements: Stop requiring signatures on credit card purchases under $25 Saved 8 seconds per transaction Change the size of the ice scoop Saved 14 seconds per drink New espresso machines Saved 12 seconds per shot Copyright © 2017 Pearson Education, Inc. 1 - 43 Improving Productivity at Starbucks A team of 10 analysts continually look for ways to shave time. Some improvements: Operations improvements have helped StarbucksSaved increase yearly Stop requiring signatures 8 seconds revenue per outlet bytransaction $250,000 to on credit card purchases per $1,000,000. under $25 27%, or Change the size Productivity of the ice has improved Saved 14by seconds about 4.5% per year. scoop per drink New espresso machines Copyright © 2017 Pearson Education, Inc. Saved 12 seconds per shot 1 - 44 Productivity Productivity = Units produced Input used ▶ Measure of process improvement ▶ Represents output relative to input ▶ Only through productivity increases can our standard of living improve Copyright © 2017 Pearson Education, Inc. 1 - 45 Productivity Calculations Labor Productivity Units produced Productivity = Labor-hours used = 1,000 250 = 4 units/labor-hour One resource input  single-factor productivity Copyright © 2017 Pearson Education, Inc. 1 - 46 Multi-Factor Productivity Output Multifactor = Labor + Material + Energy + Capital + Miscellaneous ► Also known as total factor productivity ► Output and inputs are often expressed in dollars Multiple resource inputs  multi-factor productivity Copyright © 2017 Pearson Education, Inc. 1 - 47 Collins Title Productivity Old System: Staff of 4 works 8 hrs/day Payroll cost = $640/day 8 titles/day Overhead = $400/day 8 titles/day Old labor = = .25 titles/labor-hr productivity 32 labor-hrs Copyright © 2017 Pearson Education, Inc. 1 - 48 Collins Title Productivity Old System: Staff of 4 works 8 hrs/day Payroll cost = $640/day New System: 14 titles/day 8 titles/day Overhead = $400/day Overhead = $800/day 8 titles/day Old labor = = .25 titles/labor-hr productivity 32 labor-hrs 14 titles/day New labor = = .4375 titles/labor-hr productivity 32 labor-hrs Copyright © 2017 Pearson Education, Inc. 1 - 49 Collins Title Productivity Old System: Staff of 4 works 8 hrs/day Payroll cost = $640/day New System: 14 titles/day 8 titles/day Overhead = $400/day Overhead = $800/day 8 titles/day Old multifactor = = .0077 titles/dollar productivity $640 + 400 Copyright © 2017 Pearson Education, Inc. 1 - 50 Collins Title Productivity Old System: Staff of 4 works 8 hrs/day Payroll cost = $640/day New System: 14 titles/day 8 titles/day Overhead = $400/day Overhead = $800/day 8 titles/day Old multifactor = = .0077 titles/dollar productivity $640 + 400 14 titles/day New multifactor = = .0097 titles/dollar productivity $640 + 800 Copyright © 2017 Pearson Education, Inc. 1 - 51 Measurement Problems 1. Quality may change while the quantity of inputs and outputs remains constant 2. External elements may cause an increase or decrease in productivity 3. Precise units of measure may be lacking Copyright © 2017 Pearson Education, Inc. 1 - 52 Productivity Variables 1. Labor - contributes about 10% of the annual increase 2. Capital - contributes about 38% of the annual increase 3. Management contributes about 52% of the annual increase Copyright © 2017 Pearson Education, Inc. 1 - 53 Key Variables for Improved Labor Productivity 1. Basic education appropriate for the labor force 2. Diet of the labor force 3. Social overhead that makes labor available ▶ Challenge is in maintaining and enhancing skills in the midst of rapidly changing technology and knowledge Copyright © 2017 Pearson Education, Inc. 1 - 54 Labor Skills About half of the 17-year-olds in the U.S. cannot correctly answer questions of this type Figure 1.7 Copyright © 2017 Pearson Education, Inc. 1 - 55 Capital Percent increase in productivity 10 8 6 4 2 0 10 15 20 25 30 35 Percentage investment Copyright © 2017 Pearson Education, Inc. 1 - 56 Management ▶ Ensures labor and capital are effectively used to increase productivity ▶ Use of knowledge ▶ Application of technologies ▶ Knowledge societies ▶ Labor has migrated from manual work to technical and information-processing tasks ▶ More effective use of technology, knowledge, and capital Copyright © 2017 Pearson Education, Inc. 1 - 57 Productivity in the Service Sector ▶ Productivity improvement in services is difficult because: 1. Typically labor intensive 2. Frequently focused on unique individual attributes or desires 3. Often an intellectual task performed by professionals 4. Often difficult to mechanize and automate 5. Often difficult to evaluate for quality Copyright © 2017 Pearson Education, Inc. 1 - 58 Productivity at Taco Bell Improvements: ▶ Revised the menu ▶ Designed meals for easy preparation ▶ Shifted some preparation to suppliers ▶ Efficient layout and automation ▶ Training and employee empowerment ▶ New water and energy saving grills Copyright © 2017 Pearson Education, Inc. 1 - 59 Results: Productivity at Taco Bell ▶ Preparation time cut to 8 seconds ▶ Management span of control increased from 5 Improvements: to 30 ▶ In-store labor cut by 15 hours/day ▶ Floor space reduced by more than 50% ▶ Stores average 164 seconds/customer from drive-up to pull-out ▶ Water- and energy-savings grills conserve 300 million gallons of water and 200 million KwH of electricity each year ▶ Green-inspired cooking method saves 5,800 restaurants $17 million per year Copyright © 2017 Pearson Education, Inc. 1 - 60 Current Challenges in OM ▶ ▶ ▶ ▶ ▶ ▶ Globalization Supply-chain partnering Sustainability Rapid product development Mass customization Lean operations Copyright © 2017 Pearson Education, Inc. 1 - 61 Ethics, Social Responsibility, and Sustainability Challenges facing operations managers: ▶ Develop and produce safe, high-quality green products ▶ Train, retrain, and motivate employees in a safe workplace ▶ Honor stakeholder commitments Copyright © 2017 Pearson Education, Inc. 1 - 62 Ethics,Stakeholders Social Responsibility, Those Sustainability with a vested interest in an and organization, including customers, distributors, Challenges facing suppliers, owners, lenders, employees, and community members. operations managers: ▶ Develop and produce safe, high-quality green products ▶ Train, retrain, and motivate employees in a safe workplace ▶ Honor stakeholder commitments Copyright © 2017 Pearson Education, Inc. 1 - 63 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher. Printed in the United States of America. Copyright © 2017 Pearson Education, Inc. 1 - 64
#1-Take Home Exam Essay Operations Management Chapter 2: Hard Rock Café Global Strategy A. This video focuses on global strategy and why it is important to get clear and as close to precise as the company can. This is why there are so many different methods that companies can use as global strategy approaches. Hard Rock Cafe is in the service sector, which the book makes a clear point of being more complicated relating to global strategy than other sectors tend to be. There are global strategy for different time-scales. Sales global strategy are done for different ranges (a month, one year, five years) to meet different needs. Capacity is a longrange global strategy. Consider the intermediate, or medium-range global strategy. The company calculates things such as purchasing contract blanket orders (raw materials for goods such as leather jackets). Hard Rock Café also utilizes short-range global strategy. Short range global strategy is used for things like labor, food, and supply purchases. Global strategy may drive another Global strategy (for example, a sales forecast can drive a profit forecast). This makes it critical that they are as accurate as possible. B. There are four global strategy techniques that are being used by hard rock. There are moving averages, weighted moving averages, exponential smoothing, and regression analysis. Hard Rock Café utilizes the weighted average method to set managers’ bonus targets. They use last 3 years, with heaviest weight on the most recent year ( in this specific case, 40/40/20 weighting from most recent year to 3 years ago). They get a bonus if they beat this moving average forecast of sales, which will drive performance in the company. Regression analysis is used by Hard Rock Cafe to plan menu changes. They observe how various food items correlate to determine how changing an item price will affect other menu items. For example, raising burger prices is very likely to cause more people to order sandwiches instead of burgers. A critical piece of information needed for their strategy is number of customers. Therefore, Hard Rock Cafe records how many people that enter the building as well as how many order entrees there are. By doing this, the company can combine customer statistics with weather and event statistics, as well as food and beverage costs to build forecasts. Hard Rock Café does a good job at following the seven steps in the forecasting system: determining the use of the forecast, selecting the items to be forecasted, determining the time horizon of the forecast, selecting the forecasting model or models to be used, gathering the data which will be needed in order to make the forecast, creating the forecast itself, and validating and implementing the results within the company. Using this system helps make the process more efficient and accurate, which is important for designing an outline for any company’s success. C. One thing that the OM application could try to do is to focus more on demand global strategy. This shows exactly what the customers want and buy the most. The company already uses this method by keeping records of numbers of customers and orders, but they could expand the idea by using more variables in their research. Overall, they seem most effective at using this method of forecasting. Hard Rock Café could utilize economic forecasts to prepare their medium to long range forecasts. This means they would need to take into consideration the state of the economy, statistics about household incomes, inflation rates, and other economic factors.
This page intentionally left blank 561590_MILL_MICRO_FM_ppi-xxvi.indd 2 24/11/14 5:26 PM TWELFTH EDITION O P E R AT I O N S MANAGEMENT Sustainability and Supply Chain Management J AY HEIZER Jesse H. Jones Professor of Business Administration Texas Lutheran University B A RRY RENDER Charles Harwood Professor of Operations Management Graduate School of Business Rollins College C HUCK MUNSON Professor of Operations Management Carson College of Business Washington State University Boston Columbus Indianapolis New York San Francisco Amsterdam Cape Town Dubai London Madrid Milan Munich Paris Montreal Toronto Delhi Mexico City Sao Paulo Sydney Hong Kong Seoul Singapore Taipei Tokyo A01_HEIZ0422_12_SE_FM.indd iii 29/12/15 4:08 pm Vice President, Business Publishing: Donna Battista Editor-in-Chief: Stephanie Wall Acquisitions Editor: Daniel Tylman Editorial Assistant: Linda Albelli Vice President, Product Marketing: Maggie Moylan Director of Marketing, Digital Services and Products: Jeanette Koskinas Field Marketing Manager: Lenny Ann Kucenski Product Marketing Assistant: Jessica Quazza Team Lead, Program Management: Ashley Santora Program Manager: Claudia Fernandes Team Lead, Project Management: Jeff Holcomb Senior Project Manager: Jacqueline A. Martin Operations Specialist: Carol Melville Creative Director: Blair Brown Art Director: Janet Slowik Vice President, Director of Digital Strategy and Assessment: Paul Gentile Manager of Learning Applications: Paul DeLuca Director, Digital Studio: Sacha Laustsen Digital Studio Manager: Diane Lombardo Digital Studio Project Manager: Andra Skaalrud Digital Studio Project Manager: Regina DaSilva Digital Studio Project Manager: Alana Coles Digital Studio Project Manager: Robin Lazrus Digital Content Project Lead: Courtney Kamauf Full-Service Project Management and Composition: Cenveo® Publisher Services Interior and Cover Designer: Cenveo® Publisher Services Cover Photos: Alaska Airlines Printer/Binder: Courier Kendallville Cover Printer: Phoenix Color/Hagerstown Microsoft and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published as part of the services for any purpose. 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Library of Congress Cataloging-in-Publication Data Heizer, Jay. [Production and operations management] Operations management; sustainability and supply chain management / Jay Heizer, Jesse H. Jones Professor of Business Administration, Texas Lutheran University, Barry Render, Charles Harwood Professor of Operations Management, Crummer Graduate School of Business, Rollins College, Chuck Munson, Professor of Operations Management, Carson College of Business, Washington State University. -- Twelfth edition. pages cm Original edition published under the Title: Production and operations management. Includes bibliographical references and index. ISBN 978-0-13-413042-2 -- ISBN 0-13-413042-1 1. Production management. I. Render, Barry. II. Munson, Chuck. III. Title. TS155.H3725 2015 658.5--dc23 2015036857 10 9 8 7 6 5 4 3 2 1 ISBN 10: 0-13-413042-1 ISBN 13: 978-0-13-413042-2 A01_HEIZ0422_12_SE_FM.indd iv 29/12/15 4:08 pm To Karen Heizer Herrmann, all a sister could ever be J.H. To Donna, Charlie, and Jesse B.R. To Kim, Christopher, and Mark Munson for their unwavering support, and to Bentonville High School teachers Velma Reed and Cheryl Gregory, who instilled in me the importance of detail and a love of learning C.M. A01_HEIZ0422_12_SE_FM.indd v 29/12/15 4:08 pm ABOUT THE AUTHORS JAY HEIZER BARRY RENDER Professor Emeritus, the Jesse H. Jones Chair of Business Administration, Texas Lutheran University, Seguin, Texas. He received his B.B.A. and M.B.A. from the University of North Texas and his Ph.D. in Management and Statistics from Arizona State University. He was previously a member of the faculty at the University of Memphis, the University of Oklahoma, Virginia Commonwealth University, and the University of Richmond. He has also held visiting positions at Boston University, George Mason University, the Czech Management Center, and the Otto-Von-Guericke University, Magdeburg. Dr. Heizer’s industrial experience is extensive. He learned the practical side of operations management as a machinist apprentice at Foringer and Company, as a production planner for Westinghouse Airbrake, and at General Dynamics, where he worked in engineering administration. In addition, he has been actively involved in consulting in the OM and MIS areas for a variety of organizations, including Philip Morris, Firestone, Dixie Container Corporation, Columbia Industries, and Tenneco. He holds the CPIM certification from APICS—the Association for Operations Management. Professor Heizer has co-authored 5 books and has published more than 30 articles on a variety of management topics. His papers have appeared in the Academy of Management Journal, Journal of Purchasing, Personnel Psychology, Production & Inventory Control Management, APICS—The Performance Advantage, Journal of Management History, IIE Solutions, and Engineering Management, among others. He has taught operations management courses in undergraduate, graduate, and executive programs. Professor Emeritus, the Charles Harwood Professor of Operations Management, Crummer Graduate School of Business, Rollins College, Winter Park, Florida. He received his B.S. in Mathematics and Physics at Roosevelt University, and his M.S. in Operations Research and Ph.D. in Quantitative Analysis at the University of Cincinnati. He previously taught at George Washington University, University of New Orleans, Boston University, and George Mason University, where he held the Mason Foundation Professorship in Decision Sciences and was Chair of the Decision Sciences Department. Dr. Render has also worked in the aerospace industry for General Electric, McDonnell Douglas, and NASA. Professor Render has co-authored 10 textbooks for Pearson, including Managerial Decision Modeling with Spreadsheets, Quantitative Analysis for Management, Service Management, Introduction to Management Science, and Cases and Readings in Management Science. Quantitative Analysis for Management, now in its 13th edition, is a leading text in that discipline in the United States and globally. Dr. Render’s more than 100 articles on a variety of management topics have appeared in Decision Sciences, Production and Operations Management, Interfaces, Information and Management, Journal of Management Information Systems, Socio-Economic Planning Sciences, IIE Solutions, and Operations Management Review, among others. Dr. Render has been honored as an AACSB Fellow and was twice named a Senior Fulbright Scholar. He was Vice President of the Decision Science Institute Southeast Region and served as Software Review Editor for Decision Line for six years and as Editor of the New York Times Operations Management special issues for five years. For nine years, Dr. Render was President of Management Service Associates of Virginia, Inc., whose technology clients included the FBI, NASA, the U.S. Navy, Fairfax County, Virginia, and C&P Telephone. He is currently Consulting Editor to Pearson Press. Dr. Render has received Rollins College’s Welsh Award as leading Professor and was selected by Roosevelt University as the recipient of the St. Claire Drake Award for Outstanding Scholarship. Dr. Render also received the Rollins College MBA Student Award for Best Overall Course, and was named Professor of the Year by full-time MBA students. vi A01_HEIZ0422_12_SE_FM.indd vi 29/12/15 4:08 pm ABOUT T HE AUT HORS Professor of Operations Management, Carson College of Business, Washington State University, Pullman, Washington. He received his BSBA summa cum laude in finance, along with his MSBA and Ph.D. in operations management, from Washington University in St. Louis. For two years, he served as Associate Dean for Graduate Programs in Business at Washington State. He also worked for three years as a financial analyst for Contel Telephone Corporation. Professor Munson serves as a senior editor for Production and Operations Management, and he serves on the editorial review board of four other journals. He has published more than 25 articles in such journals as Production and Operations Management, IIE Transactions, Decision Sciences, Naval Research Logistics, European Journal of Operational Research, Journal of the Operational Research Society, and Annals of Operations Research. He is editor of the book The Supply Chain Management Casebook: Comprehensive Coverage and Best Practices in SCM, and he has co-authored the research monograph Quantity Discounts: An Overview and Practical Guide for Buyers and Sellers. He is also coauthor of Managerial Decision Modeling with Spreadsheets (4th edition), published by Pearson. Dr. Munson has taught operations management core and elective courses at the undergraduate, MBA, and Ph.D. levels at Washington State University. He has also conducted several teaching workshops at international conferences and for Ph.D. students at Washington State University. His major awards include being a Founding Board Member of the Washington State University President’s Teaching Academy (2004); winning the WSU College of Business Outstanding Teaching Award (2001 and 2015), Research Award (2004), and Service Award (2009 and 2013); and being named the WSU MBA Professor of the Year (2000 and 2008). A01_HEIZ0422_12_SE_FM.indd vii vii CHUCK MUNSON 29/12/15 4:08 pm This page intentionally left blank 561590_MILL_MICRO_FM_ppi-xxvi.indd 2 24/11/14 5:26 PM Brief Table of Contents PART ONE Introduction to Operations Management 1 Chapter 1 Chapter 2 Chapter 3 Chapter 4 Operations and Productivity 1 Operations Strategy in a Global Environment Project Management 59 Forecasting 105 PART TWO Designing Operations 159 Chapter 5 Design of Goods and Services 159 ◆ Supplement 5 Sustainability in the Supply Chain Chapter 6 Managing Quality 213 ◆ Supplement 6 Statistical Process Control 29 193 245 Chapter 7 Process Strategy 279 ◆ Supplement 7 Capacity and Constraint Management 307 Chapter 8 Location Strategies 337 Chapter 9 Layout Strategies 367 Chapter 10 Human Resources, Job Design, and Work Measurement 407 PART THREE Managing Operations 441 Chapter 11 Supply Chain Management 441 ◆ Supplement 11 Supply Chain Management Analytics 471 Chapter 12 Chapter 13 Chapter 14 Chapter 15 Chapter 16 Chapter 17 Inventory Management 487 Aggregate Planning and S&OP 529 Material Requirements Planning (MRP) and ERP Short-Term Scheduling 599 Lean Operations 635 Maintenance and Reliability 659 PART FOUR Business Analytics Modules 677 Module A Module B Module C Module D Module E Module F Decision-Making Tools 677 Linear Programming 699 Transportation Models 729 Waiting-Line Models 747 Learning Curves 775 Simulation 791 563 ONLINE TUTORIALS 1. 2. 3. 4. 5. Statistical Tools for Managers T1-1 Acceptance Sampling T2-1 The Simplex Method of Linear Programming T3-1 The MODI and VAM Methods of Solving Transportation Problems T4-1 Vehicle Routing and Scheduling T5-1 ix A01_HEIZ0422_12_SE_FM.indd ix 29/12/15 4:08 pm This page intentionally left blank 561590_MILL_MICRO_FM_ppi-xxvi.indd 2 24/11/14 5:26 PM Table of Contents About the Authors Preface PART ONE Chapter 1 vi xxiii Operations and Productivity 1 GLOBAL COMPANY PROFILE: HARD ROCK CAFE 2 What Is Operations Management? 4 Organizing to Produce Goods and Services 4 The Supply Chain 6 Why Study OM? 6 What Operations Managers Do 7 The Heritage of Operations Management 8 Operations for Goods and Services 11 Growth of Services Service Pay 11 12 Productivity Measurement 14 Productivity Variables 15 Productivity and the Service Sector 17 Current Challenges in Operations Management 18 Ethics, Social Responsibility, and Sustainability 19 Summary 20 Key Terms 20 Ethical Dilemma 20 Discussion Questions 20 Using Software for Productivity Analysis 21 Solved Problems 21 Problems 22 CASE STUDIES 24 Uber Technologies, Inc. Developing Missions and Strategies 35 Mission 36 Strategy 36 Achieving Competitive Advantage Through Operations 36 Competing on Differentiation 37 Competing on Cost 38 Competing on Response 39 Issues in Operations Strategy 40 Strategy Development and Implementation 41 Key Success Factors and Core Competencies The Productivity Challenge 13 24 Frito-Lay: Operations Management in Manufacturing Video Case 25 Hard Rock Cafe: Operations Management in Services Video Case 25 Endnotes 26 Rapid Review 27 Self Test 28 Chapter 2 1 Introduction to Operations Management Operations Strategy in a Global Environment 29 GLOBAL COMPANY PROFILE: BOEING 30 A Global View of Operations and Supply Chains 32 Cultural and Ethical Issues 35 Integrating OM with Other Activities 41 43 Building and Staffing the Organization 43 Implementing the 10 Strategic OM Decisions 44 Strategic Planning, Core Competencies, and Outsourcing 44 The Theory of Comparative Advantage 46 Risks of Outsourcing 46 Rating Outsource Providers 47 Global Operations Strategy Options 49 Summary 50 Key Terms 50 Ethical Dilemma 51 Discussion Questions 51 Using Software to Solve Outsourcing Problems 51 Solved Problems 52 Problems 53 CASE STUDIES 55 Rapid-Lube 55 Strategy at Regal Marine Video Case 55 Hard Rock Cafe’s Global Strategy Video Case Outsourcing Offshore at Darden Video Case 55 56 Endnotes 56 Rapid Review 57 Self Test 58 Chapter 3 Project Management 59 GLOBAL COMPANY PROFILE: BECHTEL GROUP 60 The Importance of Project Management 62 xi A01_HEIZ0422_12_SE_FM.indd xi 29/12/15 4:08 pm xii TA B L E O F C O N T E N T S Project Planning 62 The Strategic Importance of Forecasting 109 The Project Manager 63 Work Breakdown Structure Supply-Chain Management 109 64 Human Resources 110 Project Scheduling 65 Project Controlling 66 Project Management Techniques: PERT and CPM 67 The Framework of PERT and CPM 67 Capacity 110 Seven Steps in the Forecasting System Forecasting Approaches 111 Overview of Qualitative Method 111 Network Diagrams and Approaches 68 Overview of Quantitative Methods 112 Time-Series Forecasting 112 Activity-on-Node Example 69 Decomposition of a Time Series 112 Activity-on-Arrow Example 71 Determining the Project Schedule 71 Naive Approach 113 Forward Pass 72 Moving Averages 114 Backward Pass 74 Exponential Smoothing 116 Calculating Slack Time and Identifying the Critical Path(s) 75 Measuring Forecast Error Variability in Activity Times 77 Three Time Estimates in PERT Seasonal Variations in Data 126 Cost-Time Trade-Offs and Project Crashing 82 A Critique of PERT and CPM 85 Using Microsoft Project to Manage Projects 86 Summary 88 Key Terms 88 Ethical Dilemma 89 Discussion Questions 89 Using Software to Solve Project Management Problems 89 Solved Problems 90 Problems 93 CASE STUDIES 98 Southwestern University: (A) 98 Project Management at Arnold Palmer Hospital Video Case 99 Managing Hard Rock’s Rockfest Video Case 100 Endnotes 102 Rapid Review 103 Self Test 104 Forecasting Cyclical Variations in Data 131 Associative Forecasting Methods: Regression and Correlation Analysis 131 Using Regression Analysis for Forecasting 131 Standard Error of the Estimate 133 Correlation Coefficients for Regression Lines Multiple-Regression Analysis 134 136 Monitoring and Controlling Forecasts 138 Adaptive Smoothing 139 Focus Forecasting 139 Forecasting in the Service Sector 140 Summary 141 Key Terms 141 Ethical Dilemma 141 Discussion Questions 142 Using Software in Forecasting 142 Solved Problems 144 Problems 146 CASE STUDIES 153 Southwestern University: (B) 153 105 GLOBAL COMPANY PROFILE: WALT DISNEY PARKS & RESORTS 106 What is Forecasting? 108 Forecasting Time Horizons 108 Types of Forecasts 117 Exponential Smoothing with Trend Adjustment 120 Trend Projections 124 77 Probability of Project Completion 79 Chapter 4 110 109 Forecasting Ticket Revenue for Orlando Magic Basketball Games Video Case 154 Forecasting at Hard Rock Cafe Video Case 155 Endnotes 156 Rapid Review 157 Self Test 158 159 PART TWO Designing Operations Chapter 5 Design of Goods and Services 159 GLOBAL COMPANY PROFILE: REGAL MARINE 160 Goods and Services Selection 162 A01_HEIZ0422_12_SE_FM.indd xii Product Strategy Options Support Competitive Advantage 163 Product Life Cycles 164 Life Cycle and Strategy 164 29/12/15 4:08 pm TABL E OF C ON T E N T S Design and Production for Sustainability 198 Product-by-Value Analysis 165 Generating New Products 165 Product Development 166 Product Design 198 Production Process 200 Product Development System 166 Logistics 200 Quality Function Deployment (QFD) 166 End-of-Life Phase 203 Organizing for Product Development 169 Manufacturability and Value Engineering 170 Issues for Product Design 171 Robust Design 171 Modular Design 171 Computer-Aided Design (CAD) and Computer-Aided Manufacturing (CAM) 171 Virtual Reality Technology 172 Value Analysis 173 Sustainability and Life Cycle Assessment (LCA) 173 Product Development Continuum 173 Purchasing Technology by Acquiring a Firm 174 Joint Ventures 174 Regulations and Industry Standards 203 International Environmental Policies and Standards 204 Summary 205 Key Terms 205 Discussion Questions 205 Solved Problems 206 Problems 207 CASE STUDIES 208 Building Sustainability at the Orlando Magic’s Amway Center Video Case 208 Green Manufacturing and Sustainability at Frito-Lay Video Case 209 Endnotes 210 Rapid Review 211 Self Test 212 Alliances 175 Defining a Product 175 Make-or-Buy Decisions 176 Group Technology 177 Chapter 6 Documents for Production 178 Product Life-Cycle Management (PLM) 178 Service Design 179 Process–Chain–Network (PCN) Analysis 179 Managing Quality 213 GLOBAL COMPANY PROFILE: ARNOLD PALMER HOSPITAL 214 Quality and Strategy 216 Defining Quality 217 Adding Service Efficiency 181 Implications of Quality 217 Documents for Services 181 Malcolm Baldrige National Quality Award 218 Application of Decision Trees to Product Design 182 Transition to Production 184 Summary 184 Key Terms 185 Ethical Dilemma 185 Discussion Questions 185 Solved Problem 186 Problems 186 CASE STUDIES 189 De Mar’s Product Strategy 189 Product Design at Regal Marine Video Case 189 Endnotes 190 Rapid Review 191 Self Test 192 ISO 9000 International Quality Standards 218 Cost of Quality (COQ) 218 Ethics and Quality Management 219 Total Quality Management 219 Continuous Improvement 220 Six Sigma 221 Employee Empowerment 222 Benchmarking 222 Just-in-Time (JIT) 224 Taguchi Concepts 224 Knowledge of TQM Tools 225 Tools of TQM 226 Check Sheets 226 Scatter Diagrams 227 Cause-and-Effect Diagrams 227 Supplement 5 Sustainability in the Supply Chain 193 Pareto Charts Corporate Social Responsibility 194 Sustainability 195 Histograms 229 Systems View 195 Commons 195 Triple Bottom Line 195 A01_HEIZ0422_12_SE_FM.indd xiii xiii Flowcharts 227 228 Statistical Process Control (SPC) 229 The Role of Inspection 230 When and Where to Inspect 230 Source Inspection 231 29/12/15 4:08 pm xiv TA B L E O F C O N T E N T S Chapter 7 Service Industry Inspection 232 Inspection of Attributes versus Variables 233 Process Focus 282 Repetitive Focus 283 Product Focus 284 Mass Customization Focus 284 Process Comparison 286 Selection of Equipment 288 Process Analysis and Design 288 Southwestern University: (C) 239 Flowchart The Culture of Quality at Arnold Palmer Hospital Video Case 240 Quality Counts at Alaska Airlines Video Case 240 Process Charts 289 Value-Stream Mapping 290 Service Blueprinting 292 Special Considerations for Service Process Design 293 Production Technology 294 Endnotes 242 Rapid Review 243 Self Test 244 Machine Technology 294 Statistical Process Control Control Charts for Variables Robots 296 248 Setting Mean Chart Limits ( x-Charts) Setting Range Chart Limits ( R-Charts) Control Charts for Attributes 250 253 254 259 Process Capability 260 260 Process Capability Index (Cpk ) Automated Storage and Retrieval Systems (ASRSs) 296 Automated Guided Vehicles (AGVs) 296 Flexible Manufacturing Systems (FMSs) 297 256 Managerial Issues and Control Charts Process Capability Ratio (Cp ) Automatic Identification Systems (AISs) and RFID 295 Vision Systems 296 248 Using Mean and Range Charts 245 Process Control 295 Statistical Process Control (SPC) 246 261 Acceptance Sampling 262 Operating Characteristic Curve 263 Average Outgoing Quality 264 Summary 265 Key Terms 265 Discussion Questions 265 Using Software for SPC 266 Solved Problems 267 Problems 269 CASE STUDIES 274 Bayfield Mud Company 274 Frito-Lay’s Quality-Controlled Potato Chips Video Case 275 Farm to Fork: Quality at Darden Restaurants Video Case 276 Endnotes 276 Rapid Review 277 Self Test 278 289 Time-Function Mapping 289 Quality at the Ritz-Carlton Hotel Company Video Case 242 The Central Limit Theorem 279 GLOBAL COMPANY PROFILE: HARLEY-DAVIDSON 280 Four Process Strategies 282 TQM in Services 233 Summary 235 Key Terms 235 Ethical Dilemma 235 Discussion Questions 236 Solved Problems 236 Problems 237 CASE STUDIES 239 Supplement 6 Process Strategy Computer-Integrated Manufacturing (CIM) 297 Technology in Services 298 Process Redesign 298 Summary 299 Key Terms 299 Ethical Dilemma 300 Discussion Questions 300 Solved Problem 300 Problems 301 CASE STUDIES 302 Rochester Manufacturing’s Process Decision 302 Process Strategy at Wheeled Coach Video Case 302 Alaska Airlines: 20-Minute Baggage Process— Guaranteed! Video Case 303 Process Analysis at Arnold Palmer Hospital Video Case 304 Endnotes 304 Rapid Review 305 Self Test 306 Supplement 7 Capacity and Constraint Management 307 Capacity 308 Design and Effective Capacity 309 A01_HEIZ0422_12_SE_FM.indd xiv 29/12/15 4:08 pm TABLE OF C ON T E N T S Capacity and Strategy 311 Capacity Considerations 311 Managing Demand 312 Service-Sector Demand and Capacity Management 313 Bottleneck Analysis and the Theory of Constraints 314 Theory of Constraints 317 Single-Product Case 319 Where to Place the Hard Rock Cafe Video Case 363 Multiproduct Case 320 Reducing Risk with Incremental Changes 322 Applying Expected Monetary Value (EMV) to Capacity Decisions 323 Applying Investment Analysis to Strategy-Driven Investments 324 Investment, Variable Cost, and Cash Flow 324 Net Present Value 324 Summary 326 Key Terms 327 Discussion Questions 327 Using Software for Break-Even Analysis 327 Solved Problems 328 Problems 330 CASE STUDY 333 Capacity Planning at Arnold Palmer Hospital Video Case 333 Endnote 334 Rapid Review 335 Self Test 336 Chapter 9 Layout Strategies 367 GLOBAL COMPANY PROFILE: McDONALD’S 368 The Strategic Importance of Layout Decisions Types of Layout 370 Office Layout 371 Retail Layout 372 370 Servicescapes 375 Warehouse and Storage Layouts 375 Cross-Docking 376 Random Stocking 377 Customizing 377 Fixed-Position Layout 377 Process-Oriented Layout 378 Work Cells 383 Requirements of Work Cells 383 337 Staffing and Balancing Work Cells 384 GLOBAL COMPANY PROFILE: FEDEX 338 The Strategic Importance of Location 340 Factors That Affect Location Decisions 341 Labor Productivity 342 Exchange Rates and Currency Risk 342 Costs 342 Political Risk, Values, and Culture 343 Proximity to Markets 343 Proximity to Suppliers 344 Proximity to Competitors (Clustering) 344 Methods of Evaluating Location Alternatives 344 The Factor-Rating Method 345 Locational Cost–Volume Analysis 346 Center-of-Gravity Method 348 349 Service Location Strategy 350 Geographic Information Systems 351 Summary 353 A01_HEIZ0422_12_SE_FM.indd xv Endnote 364 Rapid Review 365 Self Test 366 Computer Software for Process-Oriented Layouts 382 Location Strategies Transportation Model 362 Locating the Next Red Lobster Restaurant Video Case 362 Break-Even Analysis 318 Chapter 8 Key Terms 353 Ethical Dilemma 354 Discussion Questions 354 Using Software to Solve Location Problems 354 Solved Problems 355 Problems 357 CASE STUDIES 362 Southern Recreational Vehicle Company Bottleneck Management 317 xv The Focused Work Center and the Focused Factory 386 Repetitive and Product-Oriented Layout 386 Assembly-Line Balancing 387 Summary 392 Key Terms 392 Ethical Dilemma 392 Discussion Questions 392 Using Software to Solve Layout Problems 393 Solved Problems 394 Problems 396 CASE STUDIES 402 State Automobile License Renewals 402 Laying Out Arnold Palmer Hospital’s New Facility Video Case 402 Facility Layout at Wheeled Coach Video Case 404 Endnotes 404 Rapid Review 405 Self Test 406 29/12/15 4:08 pm xvi TA B L E O F C O N T E N T S Chapter 10 Human Resources, Job Design, and Work Measurement 407 GLOBAL COMPANY PROFILE: RUSTY WALLACE’S NASCAR RACING TEAM 408 Human Resource Strategy for Competitive Advantage 410 Constraints on Human Resource Strategy 410 Labor Planning 411 Employment-Stability Policies 411 Work Schedules 411 Job Classifications and Work Rules 412 Job Design 412 Labor Specialization 412 414 Ethics 430 Summary 430 Key Terms 430 Ethical Dilemma 431 Discussion Questions 431 Solved Problems 432 Problems 434 CASE STUDIES 437 Endnotes 438 Rapid Review 439 Self Test 440 Ergonomics and the Work Environment 415 Methods Analysis 417 The Visual Workplace 420 Labor Standards 420 441 Managing Operations Chapter 11 Supply Chain Management 441 Contracting 455 GLOBAL COMPANY PROFILE: DARDEN RESTAURANTS 442 The Supply Chain’s Strategic Importance 444 Sourcing Issues: Make-or-Buy and Outsourcing 446 Few Suppliers 447 Keiretsu Networks 448 Measuring Supply Chain Performance 461 Virtual Companies 449 Assets Committed to Inventory 461 Supply Chain Risk 449 Benchmarking the Supply Chain 463 Risks and Mitigation Tactics 450 The SCOR Model 463 Security and JIT 451 Managing the Integrated Supply Chain 451 Supplier Development 454 Negotiations 455 458 Establishing Sustainability in Supply Chains 460 448 Supplier Evaluation 454 457 Supply Chain Management Ethics 460 Vertical Integration 448 Building the Supply Base 454 Shipping Systems 456 Distribution Management 459 Ethics and Sustainable Supply Chain Management 460 Many Suppliers 447 Opportunities in Managing the Integrated Supply Chain 452 E-Procurement 456 Logistics Management 456 Third-Party Logistics (3PL) Outsourcing 447 Six Sourcing Strategies 447 Issues in Managing the Integrated Supply Chain Centralized Purchasing 455 Warehousing Make-or-Buy Decisions 447 A01_HEIZ0422_12_SE_FM.indd xvi Work Sampling 427 Hard Rock’s Human Resource Strategy Video Case 438 Motivation and Incentive Systems 415 Joint Ventures Predetermined Time Standards 425 The “People” Focus: Human Resources at Alaska Airlines Video Case 437 Psychological Components of Job Design 413 PART THREE Time Studies 421 Jackson Manufacturing Company 437 Job Expansion 413 Self-Directed Teams Historical Experience 421 451 Summary 464 Key Terms 465 Ethical Dilemma 465 Discussion Questions 465 Solved Problems 465 Problems 466 CASE STUDIES 467 Darden’s Global Supply Chains Video Case 467 29/12/15 4:08 pm TABLE OF C ON T E N T S Supply Chain Management at Regal Marine Video Case 467 Arnold Palmer Hospital’s Supply Chain Video Case 468 Endnote 468 Rapid Review 469 Self Test 470 Discussion Questions 515 Using Software to Solve Inventory Problems 516 Solved Problems 517 Problems 520 CASE STUDIES 524 Zhou Bicycle Company 524 Parker Hi-Fi Systems 525 Supplement 11 Supply Chain Management Analytics 471 Techniques for Evaluating Supply Chains 472 Evaluating Disaster Risk in the Supply Chain 472 Managing the Bullwhip Effect 474 A Bullwhip Effect Measure xvii 475 Video Case 525 Inventory Control at Wheeled Coach Video Case 526 Endnotes 526 Rapid Review 527 Self Test 528 Chapter 13 Aggregate Planning and S&OP Supplier Selection Analysis 476 Transportation Mode Analysis 477 Warehouse Storage 478 Summary 479 Discussion Questions 480 Solved Problems 480 Problems 482 Rapid Review 485 Self Test 486 Chapter 12 Inventory Management Managing Inventory at Frito-Lay 529 GLOBAL COMPANY PROFILE: FRITO-LAY 530 The Planning Process 532 Sales and Operations Planning 533 The Nature of Aggregate Planning 534 Aggregate Planning Strategies 535 Capacity Options 535 Demand Options 536 Mixing Options to Develop a Plan 537 Methods for Aggregate Planning 538 487 GLOBAL COMPANY PROFILE: AMAZON.COM The Importance of Inventory 490 Graphical Methods 538 488 Mathematical Approaches 543 Aggregate Planning in Services 545 Functions of Inventory 490 Restaurants 546 Types of Inventory 490 Hospitals 546 National Chains of Small Service Firms 546 Managing Inventory 491 ABC Analysis 491 Miscellaneous Services 546 Record Accuracy 493 Airline Industry 547 Cycle Counting 493 Control of Service Inventories 494 Inventory Models 495 Independent vs. Dependent Demand 495 Holding, Ordering, and Setup Costs 495 Inventory Models for Independent Demand 496 The Basic Economic Order Quantity (EOQ) Model 496 Minimizing Costs 497 Revenue Management 547 Summary 550 Key Terms 550 Ethical Dilemma 551 Discussion Questions 551 Using Software for Aggregate Planning 552 Solved Problems 554 Problems 555 CASE STUDIES 559 Reorder Points 501 Andrew-Carter, Inc. Production Order Quantity Model 502 Using Revenue Management to Set Orlando Magic Ticket Prices Video Case 560 Quantity Discount Models 505 Probabilistic Models and Safety Stock Other Probabilistic Models 511 Single-Period Model 513 Fixed-Period (P) Systems 514 Summary 515 Key Terms 515 Ethical Dilemma 515 A01_HEIZ0422_12_SE_FM.indd xvii 508 559 Endnote 560 Rapid Review 561 Self Test 562 Chapter 14 Material Requirements Planning (MRP) and ERP 563 GLOBAL COMPANY PROFILE: WHEELED COACH 564 Dependent Demand 566 29/12/15 4:08 pm xviii TA B L E O F C O N T E N T S Dependent Inventory Model Requirements 566 Master Production Schedule 567 Limitations of Rule-Based Sequencing Systems 616 Bills of Material 568 Finite Capacity Scheduling (FCS) 617 Scheduling Services 618 Accurate Inventory Records 570 Purchase Orders Outstanding 570 Scheduling Service Employees with Cyclical Scheduling 620 Lead Times for Components 570 MRP Structure 571 MRP Management 575 MRP Dynamics 575 MRP Limitations 575 Lot-Sizing Techniques 576 Extensions of MRP 580 Material Requirements Planning II (MRP II) 580 Closed-Loop MRP 581 Capacity Planning 581 Distribution Resource Planning (DRP) 584 Enterprise Resource Planning (ERP) 584 ERP in the Service Sector 587 Summary 587 Key Terms 587 Ethical Dilemma 587 Discussion Questions 588 Using Software to Solve MRP Problems 588 Solved Problems 589 Problems 592 CASE STUDIES 595 When 18,500 Orlando Magic Fans Come to Dinner Video Case 595 Video Case 596 Endnotes 596 Rapid Review 597 Self Test 598 Chapter 15 Short-Term Scheduling Scheduling at Hard Rock Cafe Video Case 632 Endnotes 632 Rapid Review 633 Self Test 634 Chapter 16 Lean Operations 635 GLOBAL COMPANY PROFILE: TOYOTA MOTOR CORPORATION 636 Lean Operations 638 Eliminate Waste 638 Remove Variability 639 Improve Throughput 640 Lean and Just-in-Time 640 640 Lean Inventory 643 599 Finite and Infinite Loading 604 Scheduling Criteria 604 Scheduling Process-Focused Facilities 605 Loading Jobs 605 Input–Output Control 606 607 Assignment Method 608 Sequencing Jobs 611 Priority Rules for Sequencing Jobs 611 A01_HEIZ0422_12_SE_FM.indd xviii 630 Lean Layout 642 Forward and Backward Scheduling 603 Critical Ratio 614 622 From the Eagles to the Magic: Converting the Amway Center Video Case 631 Supplier Partnerships GLOBAL COMPANY PROFILE: ALASKA AIRLINES 600 The Importance of Short-Term Scheduling 602 Scheduling Issues 602 Gantt Charts Summary 621 Key Terms 621 Ethical Dilemma 621 Discussion Questions 622 Using Software for Short-Term Scheduling Solved Problems 624 Problems 627 CASE STUDIES 630 Old Oregon Wood Store MRP in Services 583 MRP at Wheeled Coach Sequencing N Jobs on Two Machines: Johnson’s Rule 615 Lean Scheduling 646 Lean Quality 649 Lean and the Toyota Production System 649 Continuous Improvement 649 Respect for People 649 Processes and Standard Work Practice 650 Lean Organizations 650 Building a Lean Organization 650 Lean Sustainability 652 Lean in Services 652 Summary 653 Key Terms 653 Ethical Dilemma 653 Discussion Questions 653 Solved Problem 653 Problems 654 29/12/15 4:08 pm TABLE OF C ON T E N T S CASE STUDIES 655 Implementing Preventive Maintenance 667 Lean Operations at Alaska Airlines Video Case JIT at Arnold Palmer Hospital 655 Video Case 656 Endnote 656 Rapid Review 657 Self Test 658 Chapter 17 Maintenance and Reliability 659 GLOBAL COMPANY PROFILE: ORLANDO UTILITIES COMMISSION 660 The Strategic Importance of Maintenance and Reliability 662 Reliability 663 System Reliability 663 Providing Redundancy 665 Module A Decision-Making Tools 677 Decision Making Under Uncertainty Autonomous Maintenance 670 Total Productive Maintenance 671 Summary 671 Key Terms 671 Ethical Dilemma 671 Discussion Questions 671 Using Software to Solve Reliability Problems 672 Solved Problems 672 Problems 672 CASE STUDY 674 Maintenance Drives Profits at Frito-Lay Video Case 674 677 Graphical Representation of Constraints 681 Decision Making Under Risk 682 Decision Making Under Certainty Decision Trees 684 A More Complex Decision Tree Sensitivity Report 706 Changes in the Resources or Right-Hand-Side Values 706 707 Solving Minimization Problems 708 Linear Programming Applications 710 Diet Problem Example 711 The Poker Decision Process 688 Summary 689 Key Terms 689 Discussion Questions 689 Using Software for Decision Models 689 Solved Problems 691 Problems 692 CASE STUDY 696 696 Endnote 696 Rapid Review 697 Self Test 698 Linear Programming Corner-Point Solution Method 705 Sensitivity Analysis 705 Production-Mix Example 710 686 Warehouse Tenting at the Port of Miami 702 Iso-Profit Line Solution Method 703 Changes in the Objective Function Coefficient 683 Expected Value of Perfect Information (EVPI) 683 699 Why Use Linear Programming? 700 Requirements of a Linear Programming Problem 701 Formulating Linear Programming Problems 701 Glickman Electronics Example 701 Graphical Solution to a Linear Programming Problem 702 A01_HEIZ0422_12_SE_FM.indd xix 670 Business Analytics Modules The Decision Process in Operations 678 Fundamentals of Decision Making 679 Decision Tables 680 Types of Decision-Making Environments 681 Module B Increasing Repair Capabilities Rapid Review 675 Self Test 676 Maintenance 667 PART FOUR xix Labor Scheduling Example 712 The Simplex Method of LP 713 Integer and Binary Variables 713 Creating Integer and Binary Variables 713 Linear Programming Applications with Binary Variables 714 A Fixed-Charge Integer Programming Problem 715 Summary 716 Key Terms 716 Discussion Questions 716 Using Software to Solve LP Problems 716 Solved Problems 718 Problems 720 CASE STUDIES 725 Quain Lawn and Garden, Inc. 725 Scheduling Challenges at Alaska Airlines Video Case 726 Endnotes 726 Rapid Review 727 Self Test 728 29/12/15 4:08 pm xx TA B L E O F C O N T E N T S Module C Transportation Models 729 Endnotes 772 Rapid Review 773 Self Test 774 Transportation Modeling 730 Developing an Initial Solution 732 The Northwest-Corner Rule 732 The Intuitive Lowest-Cost Method Module E 733 737 Degeneracy 737 Doubling Approach Summary 738 Key Terms 738 Discussion Questions 738 Using Software to Solve Transportation Problems 738 Solved Problems 740 Problems 741 CASE STUDY 743 Learning-Curve Table Approach 779 Strategic Implications of Learning Curves 782 Limitations of Learning Curves 783 Summary 783 Key Term 783 Discussion Questions 783 Using Software for Learning Curves 784 Solved Problems 784 Problems 785 CASE STUDY 787 Custom Vans, Inc. 743 Waiting-Line Models 747 Queuing Theory 748 Characteristics of a Waiting-Line System SMT’s Negotiation with IBM 749 Arrival Characteristics 749 Waiting-Line Characteristics 750 752 Queuing Costs 753 The Variety of Queuing Models 754 Model A (M/M/1): Single-Server Queuing Model with Poisson Arrivals and Exponential Service Times 754 Model B (M/M/S): Multiple-Server Queuing Model 757 Model C (M/D/1): Constant-Service-Time Model 762 Little’s Law 763 Model D (M/M/1 with Finite Source): Finite-Population Model 763 Other Queuing Approaches 765 Summary 765 Key Terms 765 Discussion Questions 765 Using Software to Solve Queuing Problems 766 Solved Problems 766 Problems 768 CASE STUDIES 771 New England Foundry 771 The Winter Park Hotel 772 A01_HEIZ0422_12_SE_FM.indd xx 787 Endnote 788 Rapid Review 789 Self Test 790 Module F Service Characteristics 751 Measuring a Queue’s Performance 778 Formula Approach 779 Rapid Review 745 Self Test 746 Module D 775 What Is a Learning Curve? 776 Learning Curves in Services and Manufacturing 777 Applying the Learning Curve 778 The Stepping-Stone Method 734 Special Issues in Modeling 737 Demand Not Equal to Supply Learning Curves Simulation 791 What Is Simulation? 792 Advantages and Disadvantages of Simulation Monte Carlo Simulation 794 Simulation with Two Decision Variables: An Inventory Example 797 Summary 799 Key Terms 799 Discussion Questions 799 Using Software in Simulation 800 Solved Problems 801 Problems 802 CASE STUDY 805 793 Alabama Airlines’ Call Center 805 Endnote 806 Rapid Review 807 Self Test 808 Appendix A1 Bibliography B1 Name Index I1 General Index I7 29/12/15 4:08 pm xxi TABLE OF C ON T E N T S ONLINE TUTORIALS 1. Statistical Tools for Managers T1-1 Discussion Questions T3-8 Problems T3-9 Discrete Probability Distributions T1-2 Expected Value of a Discrete Probability Distribution T1-3 Variance of a Discrete Probability Distribution T1-3 Continuous Probability Distributions T1-4 MODI Method T4-2 How to Use the MODI Method The Normal Distribution T1-4 T4-2 Solving the Arizona Plumbing Problem with MODI T4-2 Summary T1-7 Key Terms T1-7 Discussion Questions T1-7 Problems T1-7 Bibliography T1-7 2. Acceptance Sampling 4. The MODI and VAM Methods of Solving Transportation Problems T4-1 Vogel’s Approximation Method: Another Way to Find an Initial Solution T4-4 Discussion Questions T4-8 Problems T4-8 T2-1 5. Vehicle Routing and Scheduling Sampling Plans T2-2 T5-1 Introduction T5-2 Single Sampling T2-2 Service Delivery Example: Meals-for-ME Double Sampling T2-2 Objectives of Routing and Scheduling Problems T5-2 Characteristics of Routing and Scheduling Problems T5-3 Sequential Sampling T2-2 Operating Characteristic (OC) Curves T2-2 Producer’s and Consumer’s Risk T2-3 Average Outgoing Quality T2-5 Summary T2-6 Key Terms T2-6 Solved Problem T2-7 Discussion Questions T2-7 Problems T2-7 3. The Simplex Method of Linear Programming Converting the Constraints to Equations T3-2 Setting Up the First Simplex Tableau T3-2 Simplex Solution Procedures T3-4 Summary of Simplex Steps for Maximization Problems T3-6 Artificial and Surplus Variables T3-7 Solving Minimization Problems T3-7 Summary T3-8 Key Terms T3-8 Solved Problem T3-8 A01_HEIZ0422_12_SE_FM.indd xxi T5-2 Classifying Routing and Scheduling Problems Solving Routing and Scheduling Problems T5-3 T5-4 Routing Service Vehicles T5-5 The Traveling Salesman Problem T5-5 Multiple Traveling Salesman Problem The Vehicle Routing Problem T3-1 T5-8 T5-9 Cluster First, Route Second Approach T5-10 Scheduling Service Vehicles T5-11 The Concurrent Scheduler Approach T5-13 Other Routing and Scheduling Problems T5-13 Summary T5-14 Key Terms T5-15 Discussion Questions T5-15 Problems T5-15 Case Study: Routing and Scheduling of Phlebotomists T5-17 Bibliography T5-17 29/12/15 4:08 pm This page intentionally left blank 561590_MILL_MICRO_FM_ppi-xxvi.indd 2 24/11/14 5:26 PM Preface Welcome to your operations management (OM) course. In this book, we present a state-of-theart view of the operations function. Operations is an exciting area of management that has a profound effect on productivity. Indeed, few other activities have as much impact on the quality of our lives. The goal of this text is to present a broad introduction to the field of operations in a realistic, practical manner. Even if you are not planning on a career in the operations area, you will likely be working with people in operations. Therefore, having a solid understanding of the role of operations in an organization will be of substantial benefit to you. This book will also help you understand how OM affects society and your life. Certainly, you will better understand what goes on behind the scenes when you attend a concert or major sports event; purchase a bag of Frito-Lay potato chips; buy a meal at an Olive Garden or a Hard Rock Cafe; place an order through Amazon.com; board a flight on Alaska Airlines; or enter a hospital for medical care. More than one and a half million readers of our earlier editions seem to have endorsed this premise. We welcome comments by email from our North American readers and from students using the International edition, the Indian edition, the Arabic edition, and our editions in Portuguese, Spanish, Turkish, Indonesian, and Chinese. Hopefully, you will find this material useful, interesting, and even exciting. New to This Edition We’ve made significant revisions to this edition, and want to share some of the changes with you. Five New Video Case Studies Featuring Alaska Airlines In this edition, we take you behind the scenes of Alaska Airlines, consistently rated as one of the top carriers in the country. This fascinating organization opened its doors—and planes— so we could examine leading edge OM in the airlines industry. We observe: the quality program at Alaska Air (Chapter 6); the process analysis behind the airline’s 20-minute baggage retrieval guarantee (Chapter 7); how Alaska empowers its employees (Chapter 10); the airline’s use of Lean, 5s, kaizen, and Gemba walks (Chapter 16); and the complexities of scheduling (Module B). Our prior editions focused on integrated Video Case Studies for the Orlando Magic basketball team, Frito-Lay, Darden Restaurants, Hard Rock Cafe, Arnold Palmer Hospital, Wheeled Coach Ambulances, and Regal Marine. These Video Case Studies appear in this edition as well, along with the five new ones for Alaska Airlines. All of our videos are created by the authors, with the outstanding coauthorship of Beverly Amer at Northern Arizona University, to explicitly match with text content and terminology. xxiii A01_HEIZ0422_12_SE_FM.indd xxiii 29/12/15 4:08 pm xxiv P R EFAC E Video Case Alaska Airlines: 20-Minute Baggage Process—Guaranteed! Alaska Airlines Alaska Airlines is unique among the nine major U.S. carriers not only for its extensive flight coverage of remote towns throughout Alaska (it also covers the U.S., Hawaii, and Mexico from its primary hub in Seattle). It is also one of the smallest independent airlines, with 10,300 employees, including 3,000 flight attendants and 1,500 pilots. What makes it really unique, though, is its ability to build state-of-the-art processes, using the latest technology, that yield high customer satisfaction. Indeed, J. D. Power and Associates has ranked Alaska Airlines highest in North America for seven years in a row for customer satisfaction. Alaska Airlines was the first to sell tickets via the Internet, first to offer Web check-in and print boarding passes online, and first with kiosk check-in. As Wayne Newton, Director of System Operation Control, states, “We are passionate about our processes. If it’s not measured, it’s not managed.” One of the processes Alaska is most proud of is its baggage handling system. Passengers can check in at kiosks, tag their own bags with bar code stickers, and deliver them to a customer service agent at the carousel, which carries the bags through the vast underground system that eventually delivers the bags to a baggage handler. En route, each bag passes through TSA automated screening and is manually opened or inspected if it appears suspicious. With the help of bar code readers, conveyer belts automatically sort and transfer bags to their location (called a “pier”) at the tarmac level. A baggage handler then loads the bags onto a cart and takes it to Creating Your Own Excel Spreadsheets We continue to provide two free decision support software programs, Excel OM for Windows and Mac and POM for Windows, to help you and your students solve homework problems and case studies. These excellent packages are found in MyOMLab and at our text’s Student Download Page. Many instructors also encourage students to develop their own Excel spreadsheet models to tackle OM issues. With this edition, we provide numerous examples at chapter end on how to do so. “Creating Your Own Excel Spreadsheets” examples now appear in Chapters 1, 2, 4, 8, 12, and 13, Supplement 6, Supplement 7, and Modules A, B, and F. We hope these eleven samples will help expand students’ spreadsheet capabilities. Using Software for Productivity Analysis This section presents three ways to solve productivity problems with computer software. First, you can create your own Excel spreadsheets to conduct productivity analysis. Second, you can use the Excel OM software that comes with this text. Third, POM for Windows is another program that is available with this text. CREATING YOUR OWN EXCEL SPREADSHEETS Program 1.1 illustrates how to build an Excel spreadsheet for the data in Example 2. Enter the values for the old system in column B and the new system in Column C. M09_HEIZ0422_12_SE_C07.indd 303 20/11/15 4:35 PM =C5*C6 =B10/B7 =C10/(C8+C9) Productivity = Output/Input =(C14-B14)/B14 Actions Copy C7 to B7, Copy B14 to C14, Copy C15 to B15, and Copy D14 to D15 Create a row for each of the inputs used for the productivity measure. Put the output in the last row. Program 1.1 X USING EXCEL OM Excel OM is an Excel “add-in” with 24 Operations Management decision support “Templates.” To access the templates, doubleclick on the Excel OM tab at the top of the page, then in the menu bar choose the appropriate chapter (in this case Chapter 1), from either the “Chapter” or “Alphabetic” tab on the left. Each of Excel OM’s 24 modules includes instructions for that particular module. The instructions can be turned on or off via the “instruction” tab in the menu bar. P USING POM FOR WINDOWS POM for Windows is decision support software that includes 24 Operations Management modules. The modules are accessed by double-clicking on Module in the menu bar, and then double-clicking on the appropriate (in this case Productivity) item. Instructions are provided for each module just below the menu bar. A01_HEIZ0422_12_SE_FM.indd xxiv 29/12/15 4:08 pm PRE FACE xxv Expanding and Reordering Our Set of Homework Problems We believe that a vast selection of quality homework problems, ranging from easy to challenging (denoted by one to four dots), is critical for both instructors and students. Instructors need a broad selection of problems to choose from for homework, quizzes, and exams—without reusing the same set from semester to semester. We take pride in having more problems—by far, with 807—than any other OM text. We added dozens of new problems this edition. The following table illustrates the selection by chapter. Chapter Number of Problems Chapter Number of Problems Chapter Number of Problems 1 18 Supplement 7 45 15 27 2 12 8 34 16 12 3 33 9 27 17 24 4 59 10 46 Module A 32 5 28 11 8 Module B 42 Supplement 5 19 Supplement 11 20 Module C 18 6 21 12 53 Module D 39 Supplement 6 55 13 26 Module E 33 7 17 14 32 Module F 25 Further, with the majority of our adopters now using the MyOMLab learning system in their classes, we have reorganized all the homework problems—both those appearing in the printed text, as well as the Additional Homework Problems that are available in MyOMLab—by topic heading. We are identifying all problems by topic (see the following example). The list of all problems by topic also appears at the end of each boxed example, as well as in the Rapid Review that closes each chapter. These handy references should make it easier to assign problems for homework, quizzes, and exams. A rich set of assignable problems and cases makes the learning experience more complete and pedagogically sound. CHAPTER 5 Problem 5.3 is available in MyOMLab. Problems 5.4–5.8 relate to Product Development • • 5.4 Construct a house of quality matrix for a wristwatch. Be sure to indicate specific customer wants that you think the general public desires. Then complete the matrix to show how an operations manager might identify specific attributes that can be measured and controlled to meet those customer desires. • • 5.5 Using the house of quality, pick a real product (a good or service) and analyze how an existing organization satisfies customer requirements. • • 5.6 Prepare a house of quality for a mousetrap. • • 5.7 Conduct an interview with a prospective purchaser of a new bicycle and translate the customer’s wants into the specific hows of the firm. • • • • 5.8 Using the house of quality sequence, as described in Figure 5.4 on page 169, determine how you might deploy resources to achieve the desired quality for a product or service whose production process you understand. Problems 5.9–5.17 relate to Defining a Product • • 5.9 Prepare a bill of material for (a) a pair of eyeglasses and its case or (b) a fast-food sandwich (visit a local sandwich A01_HEIZ0422_12_SE_FM.indd xxv | DESIGN OF GOODS AND SERVICES Problems 5.21–5.28 relate to the Application to Product Design 187 of Decision Trees • • 5.21 The product design group of Iyengar Electric Supplies, Inc., has determined that it needs to design a new series of switches. It must decide on one of three design strategies. The market forecast is for 200,000 units. The better and more sophisticated the design strategy and the more time spent on value engineering, the less will be the variable cost. The chief of engineering design, Dr. W. L. Berry, has decided that the following costs are a good estimate of the initial and variable costs connected with each of the three strategies: a) Low-tech: A low-technology, low-cost process consisting of hiring several new junior engineers. This option has a fixed cost of $45,000 and variable-cost probabilities of .3 for $.55 each, .4 for $.50, and .3 for $.45. b) Subcontract: A medium-cost approach using a good outside design staff. This approach would have a fixed cost of $65,000 and variable-cost probabilities of .7 of $.45, .2 of $.40, and .1 of $.35. c) High-tech: A high-technology approach using the very best of the inside staff and the latest computer-aided design technology. This approach has a fixed cost of $75,000 and variablecost probabilities of .9 of $.40 and .1 of $.35. What is the best decision based on an expected monetary value (EMV) criterion? (Note: We want the lowest EMV, as we are dealing with costs in this problem.) PX • • 5.22 MacDonald Products, Inc., of Clarkson, New York, has the option of (a) proceeding immediately with production of 29/12/15 4:08 pm xxvi P R EFAC E Jay, Barry, and Chuck’s OM Blog As a complement to this text, we have created a companion blog, with coordinated features to help teach the OM course. There are teaching tips, highlights of OM items in the news (along with class discussion questions and links), video tips, guest posts by instructors using our text, sample OM syllabi from dozens of colleges, and much more—all arranged by chapter. To learn more about any chapter topics, visit www.heizerrenderOM.wordpress.com. As you prepare your lectures and syllabus, scan our blog for discussion ideas, teaching tips, and classroom exercises. Lean Operations In previous editions, we sought to explicitly differentiate the concepts of just-in-time, Lean, and Toyota Production System in Chapter 16. However, there is significant overlap and interchangeability among those three concepts, so we have revised Chapter 16 to incorporate the three concepts into an overall concept of “Lean.” The chapter suggests that students view Lean as a comprehensive integrated operations strategy that sustains competitive advantage and results in increased returns to all stakeholders. Chapter-by-Chapter Changes To highlight the extent of the revisions in this edition, here are a few of the changes, on a chapterby-chapter basis. Chapter 1: Operations and Productivity We updated Table 1.4 to reflect employment in various sectors and expanded our discussion of Lean operations. Our new case, Uber Technologies, introduces productivity by discussing the disruptive nature of the Uber business model. In addition, there is a new “Creating Your Own Excel Spreadsheets” example for both labor productivity and multifactor productivity. Chapter 2: Operations Strategy in a Global Environment We have updated Figure 2.1 to better reflect changes in the growth of world trade and Figure 2.5 to reflect product life cycle changes. The Minute Lube case has been revised as Rapid Lube. Example 1 (National Architects) has been expanded to clarify factor rating calculations and is also demonstrated with a “Creating Your Own Excel Spreadsheets” presentation. Chapter 3: Project Management We rewrote and updated the Bechtel Global Company Profile and added a new section on welldefined projects with the “agile” and “waterfall” approaches. There are two new OM in Action boxes: “Agile Project Management at Mastek,” and “Behind the Tour de France.” Chapter 4: Forecasting We created a new table comparing the MAD, MSE, and MAPE forecasting error measures. There is also a new OM in Action box called “NYC’s Potholes and Regression Analysis.” Chapter 5: Design of Goods and Services We expanded our treatment of concurrent engineering and added two new discussion questions. Solved Problem 5.1 has been revised. Supplement 5: Sustainability in the Supply Chain We wrote a new introductory section on Corporate Social Responsibility. There is also a new OM in Action box called “Blue Jeans and Sustainability” and 10 new homework problems. Chapter 6: Managing Quality We added new material to expand our discussion of Taguchi’s quality loss function. There is a new section on SERVQUAL, and a new video case study, “Quality Counts at Alaska Airlines,” appears here. A01_HEIZ0422_12_SE_FM.indd xxvi 29/12/15 4:08 pm PRE FACE xxvii Supplement 6: Statistical Process Control We added a figure on the relationship between sample size and sampling distribution. We also added raw data to Examples S2 and S3 to illustrate how ranges are computed. There is a new Excel spreadsheet to show students how to make their own c-chart, and we have added three new homework problems. Chapter 7: Process Strategy We wrote a new section on machine technology and additive manufacturing. There are two new discussion questions and three new homework problems. Our second new video case study is called “Alaska Airlines: 20-Minute Baggage Process—Guaranteed!” Supplement 7: Capacity and Constraint Management We added a new Table S7.1, which compares and clarifies three capacity measurements, with an example of each. There is a new treatment of expected output and actual output in Example S2. The discussion of bottleneck time versus throughput time has also been expanded. Example S3, capacity analysis with parallel processes, has been revised. We have also added a new “Creating Your Own Excel Spreadsheets” example for a break-even model. Finally, we updated the Arnold Palmer Hospital capacity planning case with recent data. Chapter 8: Location Strategies We added two new OM in Action boxes: “Iowa—Home of Corn and Facebook” and “Denmark’s Meat Cluster.” We changed the notation for the center-of-gravity model to simplify the equation and provided a new “Creating Your Own Excel Spreadsheets” presentation for the center-ofgravity example. Chapter 9: Layout Strategies We created a new Muther grid for office relationship charting and added a spread of five layouts showing how offices have evolved over time. There is a new OM in Action box called “Amazon Lets Loose the Robots,” and there is a new graphic example of Proplanner’s Flow Path Calculator. We have included a formula for idle time as a second measure of balance assignment efficiency and added new technology issues to the Arnold Palmer Hospital video case. Chapter 10: Human Resources, Job Design, and Work Measurement We added a new OM in Action box, “The Missing Perfect Chair,” and revised the Operations Chart as a service example. Our third new video case study is “The ‘People’ Focus: Human Resources at Alaska Airlines.” Chapter 11: Supply Chain Management We added “outsourcing” as a supply chain risk in Table 11.3. Supplement 11: Supply Chain Management Analytics We added a major section on the topic of Warehouse Storage, with a new model for allocating inventory to storage locations. There is a new discussion question and three new homework problems. Chapter 12: Inventory Management New Programs 12.1 and 12.2 illustrate “Creating Your Own Excel Spreadsheets” for both the production run model and the single-period inventory model. The Excel function NORMSINV is introduced throughout the chapter. The Quantity Discount Model section is totally rewritten to illustrate the feasible solution shortcut. Solved Problem 12.5 is likewise redone with the new approach. Chapter 13: Aggregate Planning and S&OP We added a new OM in Action box, “Revenue Management Makes Disney the ‘King’ of the Broadway Jungle.” We also provided a new “Creating Your Own Excel Spreadsheets” example for the transportation method for aggregate planning, using the Solver approach. A01_HEIZ0422_12_SE_FM.indd xxvii 29/12/15 4:08 pm xxviii P R EFAC E Chapter 14: Material Requirements Planning (MRP) and ERP The MRP II example now includes greenhouse gasses. Chapter 15: Short-Term Scheduling We begin this chapter with a new Global Company Profile featuring Alaska Airlines and the scheduling issues it faces in its northern climate. We have added two new graphics to help illustrate Forward and Backward Scheduling. There is also a new section called Performance Criteria, detailing how the choice of priority rule depends on four quantifiable criteria. We now explicitly define the performance criteria for sequencing jobs as separate numbered equations. Also, we provide an explicit formula for job lateness. There is a new OM in Action box called “Starbucks’ Controversial Scheduling Software.” Chapter 16: Lean Operations This chapter saw a major reorganization and rewrite with an enhanced focus on Lean operations. There is more material on supplier partnerships and building lean organizations. A new OM in Action box describes the use of kaizen at San Francisco General Hospital, and we have added a new video case study called “Lean Operations at Alaska Airlines.” Chapter 17: Maintenance and Reliability There are no major changes in this chapter. Module A: Decision-Making Tools We added a discussion of “big data” and a new “Creating Your Own Excel Spreadsheets” example on how to evaluate a decision table. Module B: Linear Programming There is a new section on integer and binary programming, two new homework problems, and a new video case study called “Using LP to Meet Scheduling Challenges at Alaska Airlines.” The corner point method is now covered before the iso-profit line approach. Module C: Transportation Models There are no major changes to Module C. Module D: Waiting-Line Models The limited population model (Model D) has been replaced by the finite population model, M/M/1 with finite source. This standardizes the queuing notation to match the M/M/1, M/M/s, and M/D/1. We have also expanded the coverage of Little’s Law and added six new homework problems. Module E: Learning Curves There are no major changes to Module E. Module F: Simulation We added a new “Creating Your Own Excel Spreadsheets” example for a simulation problem. Student Resources To liven up the course and help students learn the content material, we have made available the following resources: ◆ A01_HEIZ0422_12_SE_FM.indd xxviii Forty-one exciting Video Case Studies (videos located at MyOMLab): These Video Case Studies feature real companies (Alaska Airlines, The Orlando Magic, Frito-Lay, Darden Restaurants, Regal Marine, Hard Rock Cafe, Ritz-Carlton, Wheeled Coach, and Arnold Palmer Hospital) and 29/12/15 4:08 pm PRE FACE ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ xxix allow students to watch short videos, read about the key topics, and answer questions. These case studies can also be assigned without using class time to show the videos. Each of them was developed and written by the text authors to specifically supplement the book’s content. Instructors who wish to use these in class, and who don’t have access to MyOMLab, should contact their Pearson Publishing Representative for access to the MyOMLab materials. POM for Windows software (located at MyOMLab and at the Student Download Page, www .pearsonhighered.com/heizer): POM for Windows is a powerful tool for easily solving OM problems. Its 24 modules can be used to solve most of the homework problems in the text. Excel OM problem-solving software (located at MyOMLab and at the Student Download Page, www.pearsonhighered.com/heizer): Excel OM is our exclusive user-friendly Excel add-in. Excel OM automatically creates worksheets to model and solve problems. Users select a topic from the pull-down menu and fill in the data, and then Excel will display and graph (where appropriate) the results. This software is great for student homework, what-if analysis, and classroom demonstrations. This edition includes a new version of Excel OM that is compatible with Microsoft Excel 2013 for Windows, Excel 2011 and 2016 for Mac, and earlier versions of Excel. Professor Howard Weiss, Temple University, developed both Excel OM for Windows and Mac, and POM for Windows to accompany our text and its problem set. Excel OM data files (located at MyOMLab and at the Student Download Page, www .pearsonhighered.com/heizer): These data files are prepared for specific examples and allow users to solve all the marked text examples without reentering any data. Active Models (located at MyOMLab and at the Student Download Page, www.pearsonhighered .com/heizer): These 28 Active Models are Excel-based OM simulations, designed to help students understand the quantitative methods shown in the textbook examples. Students may change the data in order to see how the changes affect the answers. Virtual tours (located at MyOMLab): These company tours provide direct links to companies— ranging from a hospital to an auto manufacturer—that practice key OM concepts. After touring each Web site, students are asked questions directly related to the concepts discussed in the chapter. Online Tutorial Chapters (located at MyOMLab and at the Student Download Page, www .pearsonhighered.com/heizer): “Statistical Tools for Managers,” “Acceptance Sampling,” “The Simplex Method of Linear Programming,” “The MODI and VAM Methods of Solving Transportation Problems,” and “Vehicle Routing and Scheduling” are provided as additional material. Additional practice problems (located at MyOMLab): These problems provide problem-solving experience. They supplement the examples and solved problems found in each chapter. Additional case studies (located at MyOMLab and at the Student Download Page, www .pearsonhighered.com/heizer): Over two dozen additional case studies supplement the ones in the text. Detailed solutions appear in the Solutions Manual. Virtual office hours (located at MyOMLab): Professors Heizer, Render, and Munson walk students through all 89 Solved Problems in a series of 5- to 20-minute explanations. These have been updated with this new edition. Instructor Resources At the Instructor Resource Center, www.pearsonhighered.com/irc, instructors can easily register to gain access to a variety of instructor resources available with this text in downloadable format. If assistance is needed, our dedicated technical support team is ready to help with the media supplements that accompany this text. Visit http://247.pearsoned.com for answers to frequently asked questions and toll-free user support phone numbers. The following supplements are available with this text: Instructor’s Resource Manual The Instructor’s Resource Manual, updated by co-author Chuck Munson, contains many useful resources for instructors—PowerPoint presentations with annotated notes, course outlines, video notes, blog highlights, learning techniques, Internet exercises and sample answers, case analysis ideas, additional teaching resources, and faculty notes. A01_HEIZ0422_12_SE_FM.indd xxix 29/12/15 4:08 pm xxx P R EFAC E Instructor’s Solutions Manual The Instructor’s Solutions Manual, written by the authors, contains the answers to all of the discussion questions, Ethical Dilemmas, Active Models, and cases in the text, as well as worked-out solutions to all the end-of-chapter problems, additional homework problems, and additional case studies. PowerPoint Presentations An extensive set of PowerPoint presentations, created by Professor Jeff Heyl of Lincoln University, is available for each chapter. With well over 2,000 slides, this set has excellent color and clarity. Test Bank / TestGen® Computerized Test Bank The test bank, updated by James Roh, contains a variety of true/false, multiple-choice, short-answer, and essay questions, along with a selection of written problems, for each chapter. Test questions are annotated with the following information: ◆ ◆ ◆ ◆ Difficulty level Type: multiple-choice, true/false, short-answer, essay, problem Learning objective AACSB (see the description that follows) TestGen®, Pearson Education’s test-generating software, is PC/MAC compatible and preloaded with all the test bank questions. The test program permits instructors to edit, add, and delete questions from the test bank to create customized tests. AACSB The Association to Advance Collegiate Schools of Business (AACSB) The test bank has connected select questions to the general knowledge and skill guidelines found in the AACSB Assurance of Learning standards. AACSB is a not-for-profit corporation of educational institutions, corporations, and other organizations devoted to the promotion and improvement of higher education in business administration and accounting. A collegiate institution offering degrees in business administration or accounting may volunteer for AACSB accreditation review. The AACSB makes initial accreditation decisions and conducts periodic reviews to promote continuous quality improvement in management education. Pearson Education is a proud member of the AACSB and is pleased to provide advice to help you apply AACSB assurance of learning standards. What are AACSB assurance of learning standards? One of the criteria for AACSB accreditation is quality of the curricula. Although no specific courses are required, the AACSB expects a curriculum to include learning experiences in the following areas: ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ Written and oral communication Ethical understanding and reasoning Analytical thinking Information technology Interpersonal relations and teamwork Diverse and multicultural work environments Reflective thinking Application of knowledge Questions that test skills relevant to these guidelines are appropriately tagged. For example, a question regarding clothing manufactured for U.S. firms by 10-year olds in Asia would receive the Ethical understanding and reasoning tag. Tagged questions help you measure whether students are grasping the course content that aligns with the AACSB guidelines noted. In addition, the tagged questions may help instructors identify potential applications of these skills. This in turn may suggest enrichment activities or other educational experiences to help students achieve these skills. A01_HEIZ0422_12_SE_FM.indd xxx 29/12/15 4:08 pm PRE FACE xxxi Video Package Designed and created by the authors specifically for their Heizer/Render/Munson texts, the video package contains the following 41 videos: ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ ◆ Frito-Lay: Operations Management in Manufacturing (Chapter 1) Hard Rock Cafe: Operations Management in Services (Chapter 1) Strategy at Regal Marine (Chapter 2) Hard Rock Cafe’s Global Strategy (Chapter 2) Outsourcing Offshore at Darden (Chapter 2) Project Management at Arnold Palmer Hospital (Chapter 3) Managing Hard Rock’s Rockfest (Chapter 3) Forecasting Ticket Revenue for Orlando Magic Basketball Games (Chapter 4) Forecasting at Hard Rock Cafe (Chapter 4) Product Design at Regal Marine (Chapter 5) Building Sustainability at the Orlando Magic’s Amway Center (Supplement 5) Green Manufacturing and Sustainability at Frito-Lay (Supplement 5) Quality Counts at Alaska Airlines (Chapter 6) The Culture of Quality at Arnold Palmer Hospital (Chapter 6) Quality at the Ritz-Carlton Hotel Company (Chapter 6) Frito-Lay’s Quality-Controlled Potato Chips (Supplement 6) Farm to Fork: Quality at Darden Restaurants (Supplement 6) Alaska Airlines: 20-Minute Baggage Process—Guaranteed! (Chapter 7) Process Strategy at Wheeled Coach (Chapter 7) Process Analysis at Arnold Palmer Hospital (Chapter 7) Capacity Planning at Arnold Palmer Hospital (Supplement 7) Locating the Next Red Lobster Restaurant (Chapter 8) Where to Place the Hard Rock Cafe (Chapter 8) Facility Layout at Wheeled Coach (Chapter 9) Laying Out Arnold Palmer Hospital’s New Facility (Chapter 9) The “People” Focus: Human Resources at Alaska Airlines (Chapter 10) Hard Rock’s Human Resource Strategy (Chapter 10) Darden’s Global Supply Chains (Chapter 11) Supply Chain Management at Regal Marine (Chapter 11) Arnold Palmer Hospital’s Supply Chain (Chapter 11) Managing Inventory at Frito-Lay (Chapter 12) Inventory Control at Wheeled Coach (Chapter 12) Using Revenue Management to Set Orlando Magic Ticket Prices (Chapter 13) When 18,500 Orlando Magic Fans Come to Dinner (Chapter 14) MRP at Wheeled Coach (Chapter 14) From the Eagles to the Magic: Converting the Amway Center (Chapter 15) Scheduling at Hard Rock Cafe (Chapter 15) Lean Operations at Alaska Airlines (Chapter 16) JIT at Arnold Palmer Hospital (Chapter 16) Maintenance Drives Profits at Frito-Lay (Chapter 17) Scheduling Challenges at Alaska Airlines (Module B) A01_HEIZ0422_12_SE_FM.indd xxxi 29/12/15 4:08 pm xxxii P R EFAC E Acknowledgments We thank the many individuals who were kind enough to assist us in this endeavor. The following professors provided insights that guided us in this edition (their names are in bold) and in prior editions: ALABAMA John Mittenthal University of Alabama Philip F. Musa University of Alabama at Birmingham William Petty University of Alabama Doug Turner Auburn University ALASKA Paul Jordan University of Alaska ARIZONA Susan K. Norman Northern Arizona University Scott Roberts Northern Arizona University Vicki L. Smith-Daniels Arizona State University Susan K. Williams Northern Arizona University CALIFORNIA Jean-Pierre Amor University of San Diego Moshen Attaran California State University–Bakersfield Ali Behnezhad California State University–Northridge Joe Biggs California Polytechnic State University Lesley Buehler Ohlone College Rick Hesse Pepperdine Ravi Kathuria Chapman University Richard Martin California State University–Long Beach Ozgur Ozluk San Francisco State University Zinovy Radovilsky California State University–Hayward Robert J. Schlesinger San Diego State University A01_HEIZ0422_12_SE_FM.indd xxxii V. Udayabhanu San Francisco State University Rick Wing San Francisco State University Nikolay Osadchiy Emory University Spyros Reveliotis Georgia Institute of Technology COLORADO Peter Billington Colorado State University–Pueblo Gregory Stock University of Colorado at Colorado Springs ILLINOIS Suad Alwan Chicago State University Lori Cook DePaul University Matt Liontine University of Illinois–Chicago Zafar Malik Governors State University CONNECTICUT David Cadden Quinnipiac University Larry A. Flick Norwalk Community Technical College FLORIDA Joseph P. Geunes University of Florida Rita Gibson Embry-Riddle Aeronautical University Jim Gilbert Rollins College Donald Hammond University of South Florida Wende Huehn-Brown St. Petersburg College Adam Munson University of Florida Ronald K. Satterfield University of South Florida Theresa A. Shotwell Florida A&M University Jeff Smith Florida State University GEORGIA John H. Blackstone University of Georgia Johnny Ho Columbus State University John Hoft Columbus State University John Miller Mercer University INDIANA Barbara Flynn Indiana University B.P. Lingeraj Indiana University Frank Pianki Anderson University Stan Stockton Indiana University Jerry Wei University of Notre Dame Jianghua Wu Purdue University Xin Zhai Purdue University IOWA Debra Bishop Drake University Kevin Watson Iowa State University Lifang Wu University of Iowa KANSAS William Barnes Emporia State University George Heinrich Wichita State University Sue Helms Wichita State University Hugh Leach Washburn University 29/12/15 4:08 pm PRE FACE M.J. Riley Kansas State University Teresita S. Salinas Washburn University Avanti P. Sethi Wichita State University KENTUCKY Wade Ferguson Western Kentucky University Kambiz Tabibzadeh Eastern Kentucky University LOUISIANA Roy Clinton University of Louisiana at Monroe L. 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Langella Shippensburg University Prafulla Oglekar LaSalle University David Pentico Duquesne University Stanford Rosenberg LaRoche College Edward Rosenthal Temple University Susan Sherer Lehigh University Howard Weiss Temple University TEXAS Warren W. Fisher Stephen F. Austin State University Garland Hunnicutt Texas State University Gregg Lattier Lee College Henry S. Maddux III Sam Houston State University Arunachalam Narayanan Texas A&M University Ranga V. Ramasesh Texas Christian University Victor Sower San Houston State University Cecelia Temponi Texas State University John Visich-Disc University of Houston Dwayne Whitten Texas A&M University Bruce M. Woodworth University of Texas–El Paso RHODE ISLAND Laurie E. Macdonald Bryant College John Swearingen Bryant College Susan Sweeney Providence College SOUTH CAROLINA Jerry K. Bilbrey Anderson University Larry LaForge Clemson University Emma Jane Riddle Winthrop University TENNESSEE Joseph Blackburn Vanderbilt University Hugh Daniel Lipscomb University A01_HEIZ0422_12_SE_FM.indd xxxiv UTAH William Christensen Dixie State College of Utah Shane J. Schvaneveldt Weber State University Madeline Thimmes (retired) Utah State University VIRGINIA Andy Litteral University of Richmond Arthur C. Meiners, Jr. Marymount University Michael Plumb Tidewater Community College Chris Sandvig Western Washington University John Stec Oregon Institute of Technology WASHINGTON, DC Narendrea K. Rustagi Howard University WEST VIRGINIA Charles Englehardt Salem International University Daesung Ha Marshall University John Harpell West Virginia University James S. Hawkes University of Charleston WISCONSIN James R. Gross University of Wisconsin–Oshkosh Marilyn K. Hart (retired) University of Wisconsin–Oshkosh Niranjan Pati University of Wisconsin–La Crosse X. M. Safford Milwaukee Area Technical College Rao J. Taikonda University of Wisconsin–Oshkosh WYOMING Cliff Asay University of Wyoming INTERNATIONAL Steven Harrod Technical University of Denmark Robert D. Klassen University of Western Ontario Ronald Lau Hong Kong University of Science and Technology WASHINGTON Mark McKay University of Washington 29/12/15 4:08 pm PR E FACE xxxv In addition, we appreciate the wonderful people at Pearson Education who provided both help and advice: Stephanie Wall, our superb editor-in-chief; Lenny Ann Kucenski, our dynamo marketing manager; Linda Albelli, our editorial assistant; Courtney Kamauf and Andra Skaalrud for their fantastic and dedicated work on MyOMLab; Jeff Holcomb, our project manager team lead; Claudia Fernandes, our program manager; Jacqueline Martin, our senior project manager; and Heidi Allgair, our project manager at Cenveo® Publisher Services. We are truly blessed to have such a fantastic team of experts directing, guiding, and assisting us. In this edition, we were thrilled to be able to include one of the country’s premier airlines, Alaska Airlines, in our ongoing Video Case Study series. This was possible because of the wonderful efforts of COO/EVP-Operations Ben Minicucci, and his superb management team. This included John Ladner (Managing Director, Seattle Station Operations), Wayne Newton (Managing Director, Station Operations Control), Mike McQueen (Director, Schedule Planning), Chad Koehnke (Director, Planning and Resource Allocation), Cheryl Schulz (Executive Assistant to EVP Minicucci), Jeffrey Butler (V.P. Airport Operations & Customer Service), Dan Audette (Manager of Operations Research and Analysis), Allison Fletcher (Process Improvement Manager), Carlos Zendejas (Manager Line-Flying Operations, Pilots), Robyn Garner (Flight Attendant Trainer), and Nikki Meier and Sara Starbuck (Process Improvement Facilitators). We are grateful to all of these fine people, as well as the many others that participated in the development of the videos and cases during our trips to the Seattle headquarters. We also appreciate the efforts of colleagues who have helped to shape the entire learning package that accompanies this text. Professor Howard Weiss (Temple University) developed the Active Models, Excel OM, and POM for Windows software; Professor Jeff Heyl (Lincoln University) created the PowerPoint presentations; and Professor James Roh (Rowan University) updated the test bank. Beverly Amer (Northern Arizona University) produced and directed the video series; Professors Keith Willoughby (Bucknell University) and Ken Klassen (Brock University) contributed the two Excel-based simulation games; and Professor Gary LaPoint (Syracuse University) developed the Microsoft Project crashing exercise and the dice game for SPC. We have been fortunate to have been able to work with all these people. We wish you a pleasant and productive introduction to operations management. JAY HEIZER BARRY RENDER CHUCK MUNSON Texas Lutheran University 1000 W. Court Street Seguin, TX 78155 Email: jheizer@tlu.edu Graduate School of Business Rollins College Winter Park, FL 32789 Email: brender@rollins.edu Carson College of Business Washington State University Pullman, WA 99164-4746 Email: munson@wsu.edu A01_HEIZ0422_12_SE_FM.indd xxxv 29/12/15 4:08 pm xxxvi P R EFAC E TWO VERSIONS ARE AVAILABLE This text is available in two versions: Operations Management, 12th edition, a hardcover, and Principles of Operations Management, 10th edition, a paperback. Both books include the identical core Chapters 1–17. However, Operations Management, 12th edition also includes six business analytics modules in Part IV. OPERATIONS MANAGEMENT, 12TH EDITION ISBN: 0-13-413042-1 PRINCIPLES OF OPERATIONS MANAGEMENT, 10TH EDITION ISBN: 0-13-418198-0 PART I INTRODUCTION TO OPERATIONS MANAGEMENT PART I INTRODUCTION TO OPERATIONS MANAGEMENT PART II DESIGNING OPERATIONS PART II DESIGNING OPERATIONS PART III MANAGING OPERATIONS PART III MANAGING OPERATIONS PART IV BUSINESS ANALYTICS MODULES ONLINE TUTORIALS 1. Operations and Productivity 2. Operations Strategy in a Global Environment 3. Project Management 4. Forecasting 5. S5. 6. S6. 7. S7. 8. 9. 10. Design of Goods and Services Sustainability in the Supply Chain Managing Quality Statistical Process Control Process Strategy Capacity and Constraint Management Location Strategies Layout Strategies Human Resources, Job Design, and Work Measurement 11. S11. 12. 13. 14. Supply Chain Management Supply Chain Management Analytics Inventory Management Aggregate Planning and S&OP Material Requirements Planning (MRP) and ERP 15. Short-Term Scheduling 16. Lean Operations 17. Maintenance and Reliability A. B. C. D. E. F. Decision-Making Tools Linear Programming Transportation Models Waiting-Line Models Learning Curves Simulation ONLINE TUTORIALS 1. Operations and Productivity 2. Operations Strategy in a Global Environment 3. Project Management 4. Forecasting 5. S5. 6. S6. 7. S7. 8. 9. 10. Design of Goods and Services Sustainability in the Supply Chain Managing Quality Statistical Process Control Process Strategy Capacity and Constraint Management Location Strategies Layout Strategies Human Resources, Job Design, and Work Measurement 11. S11. 12. 13. 14. Supply Chain Management Supply Chain Management Analytics Inventory Management Aggregate Planning and S&OP Material Requirements Planning (MRP) and ERP 15. Short-Term Scheduling 16. Lean Operations 17. Maintenance and Reliability 1. Statistical Tools for Managers 2. Acceptance Sampling 3. The Simplex Method of Linear Programming 4. The MODI and VAM Methods of Solving Transportation Problems 5. Vehicle Routing and Scheduling 1. Statistical Tools for Managers 2. Acceptance Sampling 3. The Simplex Method of Linear Programming 4. The MODI and VAM Methods of Solving Transportation Problems 5. Vehicle Routing and Scheduling A01_HEIZ0422_12_SE_FM.indd xxxvi 29/12/15 4:08 pm O P E R AT I O N S MANAGEMENT Sustainability and Supply Chain Management A01_HEIZ0422_12_SE_FM.indd xxxvii 29/12/15 4:08 pm This page intentionally left blank 561590_MILL_MICRO_FM_ppi-xxvi.indd 2 24/11/14 5:26 PM PART ONE Introduction to Operations Management GLOBAL COMPANY PROFILE: Hard Rock Cafe ◆ What Is Operations Management? 4 ◆ Organizing to Produce Goods and Services 4 ◆ The Supply Chain 6 ◆ Why Study OM? 6 ◆ What Operations Managers Do 7 ◆ The Heritage of Operations Management 8 ◆ ◆ ◆ ◆ Operations for Goods and Services 11 The Productivity Challenge 13 Current Challenges in Operations Management 18 Ethics, Social Responsibility, and Sustainability 19 Alaska Airlines CHAPTER OUTLINE C H A P T E R 1 Operations and Productivity 10 OM STRATEGY DECISIONS • • • • • Design of Goods and Services Managing Quality Process Strategy Location Strategies Layout Strategies • • • • • Human Resources Supply-Chain Management Inventory Management Scheduling Maintenance 1 M01_HEIZ0422_12_SE_C01.indd 1 01/12/15 2:18 PM C H A P T E R 1 Operations Management at Hard Rock Cafe GLOBAL COMPANY PROFILE Hard Rock Cafe O perations managers throughout the world are producing products every day to provide for the well-being of society. These products take on a multitude of forms. They may be washing machines at Whirlpool, motion pictures at DreamWorks, rides at Disney World, or food at Hard Rock Cafe. These firms produce thousands of complex products every day—to be delivered as the customer ordered them, when the customer wants them, and where the customer wants them. Hard Rock does this for over 35 million guests worldwide every year. This is a challenging task, and the operations manager’s job, whether at Whirlpool, DreamWorks, Disney, or Hard Rock, is demanding. Operations managers are interested in the attractiveness of the layout, but they must be sure that the facility contributes to the efficient movement of people and material with the necessary controls to ensure that proper portions are served. Demetrio Carrasco/Rough Guides/Dorling Kindersley, Ltd. Andre Jenny/Alamy Hard Rock Cafe in Orlando, Florida, prepares over 3,500 meals each day. Seating more than 1,500 people, it is one of the largest restaurants in the world. But Hard Rock’s operations managers serve the hot food hot and the cold food cold. 2 M01_HEIZ0422_12_SE_C01.indd 2 01/12/15 2:18 PM Presselect/Alamy Efficient kitchen layouts, motivated personnel, tight schedules, and the right ingredients at the right place at the right time are required to delight the customer. Jack Picone/Alamy Lots of work goes into designing designing, testing, testing and costing meals. Then suppliers deliver quality products on time, every time, for well-trained cooks to prepare quality meals. But none of that matters unless an enthusiastic waitstaff, such as the one shown here, holding guitars previously owned by members of U2, is doing its job. Orlando-based Hard Rock Cafe opened its first restau- ingredients, labor requirements, and customer satisfaction. rant in London in 1971, making it over 45 years old and the On approval, menu items are put into production—and then granddaddy of theme restaurants. Although other theme only if the ingredients are available from qualified suppliers. restaurants have come and gone, Hard Rock is still going The production process, from receiving, to cold storage, strong, with 150 restaurants in more than 53 countries—and to grilling or baking or frying, and a dozen other steps, is new restaurants opening each year. Hard Rock made its designed and maintained to yield a quality meal. Operations name with rock music memorabilia, having started when Eric managers, using the best people they can recruit and train, Clapton, a regular customer, marked his favorite bar stool also prepare effective employee schedules and design by hanging his guitar on the wall in the London cafe. Now efficient layouts. Hard Rock has 70,000 items and millions of dollars invested Managers who successfully design and deliver goods in memorabilia. To keep customers coming back time and and services throughout the world understand operations. again, Hard Rock creates value in the form of good food and In this text, we look not only at how Hard Rock’s manag- entertainment. ers create value but also how operations managers in other The operations managers at Hard Rock Cafe at Uni- services, as well as in manufacturing, do so. Operations versal Studios in Orlando provide more than 3,500 custom management is demanding, challenging, and exciting. It products—in this case meals—every day. These products affects our lives every day. Ultimately, operations managers are designed, tested, and then analyzed for cost of determine how well we live. 3 M01_HEIZ0422_12_SE_C01.indd 3 01/12/15 2:19 PM L E A RNING OBJECTIVES LO 1.1 Define operations management 4 LO 1.2 Explain the distinction between goods and services 11 LO 1.3 Explain the difference between production and productivity 13 LO 1.4 Compute single-factor productivity 14 LO 1.5 Compute multifactor productivity 15 LO 1.6 Identify the critical variables in enhancing productivity 16 STUDENT TIP Let’s begin by defining what this course is about. LO 1.1 Define operations management VIDEO 1.1 Operations Management at Hard Rock VIDEO 1.2 Operations Management at Frito-Lay Production The creation of goods and services. Operations management (OM) Activities that relate to the creation of goods and services through the transformation of inputs to outputs. STUDENT TIP Operations is one of the three functions that every organization performs. What Is Operations Management? Operations management (OM) is a discipline that applies to restaurants like Hard Rock Cafe as well as to factories like Ford and Whirlpool. The techniques of OM apply throughout the world to virtually all productive enterprises. It doesn’t matter if the application is in an office, a hospital, a restaurant, a department store, or a factory—the production of goods and services requires operations management. And the efficient production of goods and services requires effective applications of the concepts, tools, and techniques of OM that we introduce in this book. As we progress through this text, we will discover how to manage operations in an economy in which both customers and suppliers are located throughout the world. An array of informative examples, charts, text discussions, and pictures illustrates concepts and provides information. We will see how operations managers create the goods and services that enrich our lives. In this chapter, we first define operations management, explaining its heritage and exploring the exciting role operations managers play in a huge variety of organizations. Then we discuss production and productivity in both goods- and service-producing firms. This is followed by a discussion of operations in the service sector and the challenge of managing an effective and efficient production system. Production is the creation of goods and services. Operations management (OM) is the set of activities that creates value in the form of goods and services by transforming inputs into outputs. Activities creating goods and services take place in all organizations. In manufacturing firms, the production activities that create goods are usually quite obvious. In them, we can see the creation of a tangible product such as a Sony TV or a Harley-Davidson motorcycle. In an organization that does not create a tangible good or product, the production function may be less obvious. We often call these activities services. The services may be “hidden” from the public and even from the customer. The product may take such forms as the transfer of funds from a savings account to a checking account, the transplant of a liver, the filling of an empty seat on an airplane, or the education of a student. Regardless of whether the end product is a good or service, the production activities that go on in the organization are often referred to as operations, or operations management. Organizing to Produce Goods and Services To create goods and services, all organizations perform three functions (see Figure 1.1). These functions are the necessary ingredients not only for production but also for an organization’s survival. They are: 1. Marketing, which generates the demand, or at least takes the order for a product or service (nothing happens until there is a sale). 2. Production/operations, which creates, produces, and delivers the product. 3. Finance/accounting, which tracks how well the organization is doing, pays the bills, and collects the money. Universities, churches or synagogues, and businesses all perform these functions. Even a volunteer group such as the Boy Scouts of America is organized to perform these three basic 4 M01_HEIZ0422_12_SE_C01.indd 4 01/12/15 2:19 PM CHAP T ER 1 | OPERATIONS AND PRODUCTIVITY Figure (A) ((A A stockshoppe/Shutterstock Finance Fi Fin inanc ance ance an Investments Invest Inv nv ves estmen est nts ts Securities Se Sec S ec curi uritie tiess Real Re Rea R ea eal esta e estate sta tate te te 1.1 Organization Charts for Two Service Organizations and One Manufacturing Organization Commercial Com om mm mer errccia ia al B Bank a an ank Operations ns Teller scheduling heduling Check clearing earing Collection n Transaction on processing Facilities design/layout Vault operations erations Maintenance nce Security 5 Accounting Acccoun Ac Acc ou tin ing g Marketing Ma M Mar ar Loans Loa L Lo o ns Commercial Commerc Industrial Financial Personal Mortgage Auditing A Au Aud ititi iting ting Trust department T st dep Tr Tru d de pa (A) a bank, (B) an airline, and (C) a manufacturing organization. The blue areas are OM activities. STUDENT TIP The areas in blue indicate the significant role that OM plays in both manufacturing and service firms. (B) Sergiy Serdyuk/Fotolia Airline Operations support Ground supp port rtt equipment Maintenance M intenance Ma e Ground Gro round ro und un d operations opera op pe era ra atio ons ns Facility tyy maintenance maiinte ntenan nt tena nance nan ance ce Catering Flight Fllig Fli Fl gh ght h operations operatio op erra era er ations tio io ons ns Crew scheduling sche che hed he duliling du dul ing in Flying Communications Dispatching Management science Finance/accounting Accounting Accounts payable pay yabl ab e Accounts Accoun u ts receivable un re eiv rec va abl bl ble General Gen en nera e l ledger er led edg dger d er Finance Fin nanc anc a nc ce Cash Cas as sh control cont ontrrol oll International I ern Int ernati ationa ati ona al exchange exchange exch exc Marketing ng Traffic administration adm ad dministrat ration rat ra ion Reservations Reserv Reserv Res vat ati t ons Schedules Schedu Sch chedu dulles les s Tariffs Tar Tar arifififf iffss (pricing) (pri p cin cing) ing) Sales Sa Sale Sal ales es Advertising Adv A Ad d ert dv errttis isi s ng ng (C) Manufacturing Operations Facilities Construction; maintenance Production and inventory ry co ry ccontrol ntrol Scheduling; materials co control on ntr nt trol tr ol Alexzel/Shutterstock ea nd ccontrol on nt ol ntr nt Quality assurance and hain managem ment ntt Supply-chain management Manufacturing nuf ufacturing Tooling; oolin oo lin ing; in g fabrication; as g; assem assembly sem embly embly y Design Product development velop ve lop opmen me t a and nd n dd de des design es e sig iign gn g n Detailed productt spec sspecifications pec pecific cifi ific ficati fic atitions ations at ons Industrial engineering Efficient use of machines, sspace, pace, pac e and personnel Process analysis Development and installation of production tools and equipment M01_HEIZ0422_12_SE_C01.indd 5 Fin na anc an nce e/a /a account Finance/accounting D Dis is sbur burrsem semen en s/c /c /c Disbursements/credits Acc A ccoun ounts rreceivable e eiv eivv Accounts Acc cc cou oun un u nts s pa p ayab ab Accounts payable G Ge Gen e eral ledg ed ed dg ger General ledger Marketing Sales promotion Advertising Sales Market research Fu F Fun u unds un nds man m ma an nage age gement Funds management Mon Mo oney ym ma arket ket ke Money market Int terrna rnationa ona nall e na xch xc cchan nge International exchange Cap C ap pita ittal rrequirements eq equ q ire re emen m ntss Capital Sto ock k iss is ss ss ssue Stock issue B Bon Bo ond on nd iissue s e and ss ssu an nd d rec rrecall re all all Bond 01/12/15 2:19 PM 6 PA RT 1 Figure 1.2 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Soft Drink Supply Chain A supply chain for a bottle of Coke requires a beet or sugar cane farmer, a syrup producer, a bottler, a distributor, and a retailer, each adding value to satisfy a customer. Only with collaborations between all members of the supply chain can efficiency and customer satisfaction be maximized. The supply chain, in general, starts with the provider of basic raw materials and continues all the way to the final customer at the retail store. Supply chain A global network of organizations and activities that supplies a firm with goods and services. STUDENT TIP Good OM managers are scarce and, as a result, career opportunities and pay are excellent. Example 1 Farmer Syrup producer Bottler Distributor Retailer functions. Figure 1.1 shows how a bank, an airline, and a manufacturing firm organize themselves to perform these functions. The blue-shaded areas show the operations functions in these firms. The Supply Chain Through the three functions—marketing, operations, and finance—value for the customer is created. However, firms seldom create this value by themselves. Instead, they rely on a variety of suppliers who provide everything from raw materials to accounting services. These suppliers, when taken together, can be thought of as a supply chain. A supply chain (see Figure 1.2) is a global network of organizations and activities that supply a firm with goods and services. As our society becomes more technologically oriented, we see increasing specialization. Specialized expert knowledge, instant communication, and cheaper transportation also foster specialization and worldwide supply chains. It just does not pay for a firm to try to do everything itself. The expertise that comes with specialization exists up and down the supply chain, adding value at each step. When members of the supply chain collaborate to achieve high levels of customer satisfaction, we have a tremendous force for efficiency and competitive advantage. Competition in the 21st century is not between companies; it is between supply chains. Why Study OM? We study OM for four reasons: 1. OM is one of the three major functions of any organization, and it is integrally related to all the other business functions. All organizations market (sell), finance (account), and produce (operate), and it is important to know how the OM activity functions. Therefore, we study how people organize themselves for productive enterprise. 2. We study OM because we want to know how goods and services are produced. The production function is the segment of our society that creates the products and services we use. 3. We study OM to understand what operations managers do. Regardless of your job in an organization, you can perform better if you understand what operations managers do. In addition, understanding OM will help you explore the numerous and lucrative career opportunities in the field. 4. We study OM because it is such a costly part of an organization. A large percentage of the revenue of most firms is spent in the OM function. Indeed, OM provides a major opportunity for an organization to improve its profitability and enhance its service to society. Example 1 considers how a firm might increase its profitability via the production function. EXAMINING THE OPTIONS FOR INCREASING CONTRIBUTION Fisher Technologies is a small firm that must double its dollar contribution to fixed cost and profit in order to be profitable enough to purchase the next generation of production equipment. Management has determined that if the firm fails to increase contribution, its bank will not make the loan and the equipment cannot be purchased. If the firm cannot purchase the equipment, the limitations of the old equipment will force Fisher to go out of business and, in doing so, put its employees out of work and discontinue producing goods and services for its customers. M01_HEIZ0422_12_SE_C01.indd 6 01/12/15 2:19 PM CHAP T ER 1 | 7 OPERATIONS AND PRODUCTIVITY Table 1.1 shows a simple profit-and-loss statement and three strategic options (marketing, finance/accounting, and operations) for the firm. The first option is a marketing option, where excellent marketing management may increase sales by 50%. By increasing sales by 50%, contribution will in turn increase 71%. But increasing sales 50% may be difficult; it may even be impossible. APPROACH c TABLE 1.1 Options for Increasing Contribution MARKETING OPTIONa FINANCE/ ACCOUNTING OPTIONb OM OPTIONc CURRENT INCREASE SALES REVENUE 50% REDUCE FINANCE COSTS 50% REDUCE PRODUCTION COSTS 20% $100,000 $150,000 $100,000 $100,000 Costs of goods 80,000 120,000 80,000 64,000 Gross margin 20,000 30,000 20,000 36,000 Sales Finance costs Subtotal 6,000 6,000 3,000 6,000 14,000 24,000 17,000 30,000 Taxes at 25% 3,500 6,000 4,250 7,500 Contributiond $ 10,500 $ 18,000 $ 12,750 $ 22,500 aIncreasing sales 50% increases contribution by $7,500, or 71% (7,500/10,500). bReducing finance costs 50% increases contribution by $2,250, or 21% (2,250/10,500). cReducing production costs 20% increases contribution by $12,000, or 114% (12,000/10,500). dContribution to fixed cost (excluding finance costs) and profit. The second option is a finance/accounting option, where finance costs are cut in half through good financial management. But even a reduction of 50% is still inadequate for generating the necessary increase in contribution. Contribution is increased by only 21%. The third option is an OM option, where management reduces production costs by 20% and increases contribution by 114%. Given the conditions of our brief example, Fisher Technologies has increased contribution from $10,500 to $22,500. It may now have a bank willing to lend it additional funds. SOLUTION c INSIGHT c The OM option not only yields the greatest improvement in contribution but also may be the only feasible option. Increasing sales by 50% and decreasing finance cost by 50% may both be virtually impossible. Reducing operations cost by 20% may be difficult but feasible. LEARNING EXERCISE c What is the impact of only a 15% decrease in costs in the OM option? [Answer: A $19,500 contribution; an 86% increase.] Example 1 underscores the importance of the effective operations activity of a firm. Development of increasingly effective operations is the approach taken by many companies as they face growing global competition. What Operations Managers Do All good managers perform the basic functions of the management process. The management process consists of planning, organizing, staffing, leading, and controlling. Operations managers apply this management process to the decisions they make in the OM function. The 10 strategic OM decisions are introduced in Table 1.2. Successfully addressing each of these decisions requires planning, organizing, staffing, leading, and controlling. How does one get started on a career in operations? The 10 strategic OM decisions identified in Table 1.2 are made by individuals who work in the disciplines shown in the blue areas of Figure 1.1. Business students who know their accounting, Where Are the OM Jobs? M01_HEIZ0422_12_SE_C01.indd 7 10 Strategic OM Decisions Design of goods and services Managing quality Process strategy Location strategies Layout strategies Human resources Supply-chain management Inventory management Scheduling Maintenance 01/12/15 2:19 PM 8 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT STUDENT TIP An operations manager must successfully address the 10 decisions around which this text is organized. TABLE 1.2 Ten Strategic Operations Management Decisions DECISION CHAPTER(S) 1. Design of goods and services: Defines much of what is required of operations in each of the other OM decisions. For instance, product design usually determines the lower limits of cost and the upper limits of quality, as well as major implications for sustainability and the human resources required. 5, Supplement 5 2. Managing quality: Determines the customer’s quality expectations and establishes policies and procedures to identify and achieve that quality. 6, Supplement 6 3. Process and capacity strategy: Determines how a good or service is produced (i.e., the process for production) and commits management to specific technology, quality, human resources, and capital investments that determine much of the firm’s basic cost structure. 7, Supplement 7 4. Location strategy: Requires judgments regarding nearness to customers, suppliers, and talent, while considering costs, infrastructure, logistics, and government. 8 5. Layout strategy: Requires integrating capacity needs, personnel levels, technology, and inventory requirements to determine the efficient flow of materials, people, and information. 9 6. Human resources and job design: Determines how to recruit, motivate, and retain personnel with the required talent and skills. People are an integral and expensive part of the total system design. 10 7. Supply chain management: Decides how to integrate the supply chain into the firm’s strategy, including decisions that determine what is to be purchased, from whom, and under what conditions. 11, Supplement 11 8. Inventory management: Considers inventory ordering and holding decisions and how to optimize them as customer satisfaction, supplier capability, and production schedules are considered. 12, 14, 16 9. Scheduling: Determines and implements intermediate- and short-term schedules that effectively and efficiently utilize both personnel and facilities while meeting customer demands. 13, 15 10. Maintenance: Requires decisions that consider facility capacity, production demands, and personnel necessary to maintain a reliable and stable process. 17 statistics, finance, and OM have an opportunity to assume entry-level positions in all of these areas. As you read this text, identify disciplines that can assist you in making these decisions. Then take courses in those areas. The more background an OM student has in accounting, statistics, information systems, and mathematics, the more job opportunities will be available. About 40% of all jobs are in OM. The following professional organizations provide various certifications that may enhance your education and be of help in your career: ◆ ◆ ◆ ◆ ◆ APICS, the Association for Operations Management (www.apics.org) American Society for Quality (ASQ) (www.asq.org) Institute for Supply Management (ISM) (www.ism.ws) Project Management Institute (PMI) (www.pmi.org) Council of Supply Chain Management Professionals (www.cscmp.org) Figure 1.3 shows some recent job opportunities. The Heritage of Operations Management The field of OM is relatively young, but its history is rich and interesting. Our lives and the OM discipline have been enhanced by the innovations and contributions of numerous individuals. We now introduce a few of these people, and we provide a summary of significant events in operations management in Figure 1.4. M01_HEIZ0422_12_SE_C01.indd 8 01/12/15 2:19 PM CHAP T ER 1 Figure | OPERATIONS AND PRODUCTIVITY 1/15 Plant Manager Division of Fortune 1000 company seeks plant manager for plant located in the upper Hudson Valley area. This plant manufactures loading dock equipment for commercial markets. The candidate must be experienced in plant management including expertise in production planning, purchasing, and inventory management. Good written and oral communication skills are a must, along with excellent application of skills in managing people. 2/23 Operations Analyst Expanding national coffee shop: top 10 “Best Places to Work” wants junior level systems analyst to join our excellent store improvement team. Business or I.E. degree, work methods, labor standards, ergonomics, cost accounting knowledge a plus. This is a hands-on job and excellent opportunity for a team player with good people skills. West Coast location. Some travel required. 3/18 Quality Manager Several openings exist in our small package processing facilities in the Northeast, Florida, and Southern California for quality managers. These highly visible positions require extensive use of statistical tools to monitor all aspects of service, timeliness, and workload measurement. The work involves (1) a combination of hands-on applications and detailed analysis using databases and spreadsheets, (2) processing of audits to identify areas for improvement, and (3) management of implementation of changes. Positions involve night hours and weekends. 4/6 Supply-Chain Manager and Planner Responsibilities entail negotiating contracts and establishing long-term relationships with suppliers. We will rely on the selected candidate to maintain accuracy in the purchasing system, invoices, and product returns. A bachelor's degree and up to 2 years related experience are required. Working knowledge of MRP, ability to use feedback to master scheduling and suppliers and consolidate orders for best price and delivery are necessary. Proficiency in all PC Windows applications, particularly Excel and Word, is essential. Effective verbal and written communication skills are essential. 5/14 Process Improvement Consultants An expanding consulting firm is seeking consultants to design and implement lean production and cycle time reduction plans in both service and manufacturing processes. Our firm is currently working with an international bank to improve its back office operations, as well as with several manufacturing firms. A business degree required; APICS certification a plus. 9 1.3 Many Opportunities Exist for Operations Managers Eli Whitney (1800) is credited for the early popularization of interchangeable parts, which was achieved through standardization and quality control. Through a contract he signed with the U.S. government for 10,000 muskets, he was able to command a premium price because of their interchangeable parts. Frederick W. Taylor (1881), known as the father of scientific management, contributed to personnel selection, planning and scheduling, motion study, and the now popular field of ergonomics. One of his major contributions was his belief that management should be much more resourceful and aggressive in the improvement of work methods. Taylor and his colleagues, Henry L. Gantt and Frank and Lillian Gilbreth, were among the first to systematically seek the best way to produce. Another of Taylor’s contributions was the belief that management should assume more responsibility for: 1. 2. 3. 4. Matching employees to the right job. Providing the proper training. Providing proper work methods and tools. Establishing legitimate incentives for work to be accomplished. M01_HEIZ0422_12_SE_C01.indd 9 01/12/15 2:19 PM 10 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Everett Collection/Newscom PA RT 1 Cost Focus Early Concepts 1776–1880 Labor Specialization (Smith, Babbage) Standardized Parts (Whitney) Scientific Management Era 1880–1910 Gantt Charts (Gantt) Motion & Time Studies (Gilbreth) Process Analysis (Taylor) Queuing Theory (Erlang) Figure Mass Production Era 1910–1980 Moving Assembly Line (Ford/Sorensen) Statistical Sampling (Shewhart) Economic Order Quantity (Harris) Linear Programming PERT/CPM (DuPont) Material Requirements Planning (MRP) Quality Focus Customization Focus Globalization Focus Lean Production Era 1980–1995 Just-in-Time (JIT) Computer-Aided Design (CAD) Electronic Data Interchange (EDI) Total Quality Management (TQM) Baldrige Award Empowerment Kanbans Mass Customization Era 1995–2005 Internet/E-Commerce Enterprise Resource Planning International Quality Standards (ISO) Finite Scheduling Supply Chain Management Mass Customization Build-to-Order Radio Frequency Identification (RFID) Globalization Era 2005–2020 Global Supply Chains Growth of Transnational Organizations Instant Communications Sustainability Ethics in a Global Workforce Logistics 1.4 Significant Events in Operations Management By 1913, Henry Ford and Charles Sorensen combined what they knew about standardized parts with the quasi-assembly lines of the meatpacking and mail-order industries and added the revolutionary concept of the assembly line, where men stood still and material moved. Quality control is another historically significant contribution to the field of OM. Walter Shewhart (1924) combined his knowledge of statistics with the need for quality control and provided the foundations for statistical sampling in quality control. W. Edwards Deming (1950) believed, as did Frederick Taylor, that management must do more to improve the work environment and processes so that quality can be improved. Operations management will continue to progress as contributions from other disciplines, including industrial engineering, statistics, management, and economics, improve decision making. Innovations from the physical sciences (biology, anatomy, chemistry, physics) have also contributed to advances in OM. These innovations include new adhesives, faster integrated circuits, gamma rays to sanitize food products, and specialized glass for iPhones and plasma TVs. Innovation in products and processes often depends on advances in the physical sciences. Especially important contributions to OM have come from information technology, which we define as the systematic processing of data to yield information. Information technology—with wireless links, Internet, and e-commerce—is reducing costs and accelerating communication. Decisions in operations management require individuals who are well versed in analytical tools, in information technology, and often in one of the biological or physical sciences. In this textbook, we look at the diverse ways a student can prepare for a career in operations management. M01_HEIZ0422_12_SE_C01.indd 10 01/12/15 2:19 PM CHAP T ER 1 | 11 OPERATIONS AND PRODUCTIVITY Operations for Goods and Services Manufacturers produce a tangible product, while service products are often intangible. But many products are a combination of a good and a service, which complicates the definition of a service. Even the U.S. government has trouble generating a consistent definition. Because definitions vary, much of the data and statistics generated about the service sector are inconsistent. However, we define services as including repair and maintenance, government, food and lodging, transportation, insurance, trade, financial, real estate, education, legal, medical, entertainment, and other professional occupations. The operation activities for both goods and services are often very similar. For instance, both have quality standards, are designed and produced on a schedule that meets customer demand, and are made in a facility where people are employed. However, some major differences do exist between goods and services. These are presented in Table 1.3. We should point out that in many cases, the distinction between goods and services is not clear-cut. In reality, almost all services and almost all goods are a mixture of a service and a tangible product. Even services such as consulting may require a tangible report. Similarly, the sale of most goods includes a service. For instance, many products have the service components of financing and delivery (e.g., automobile sales). Many also require after-sale training and maintenance (e.g., office copiers and machinery). “Service” activities may also be an integral part of production. Human resource activities, logistics, accounting, training, field service, and repair are all service activities, but they take place within a manufacturing organization. Very few services are “pure,” meaning they have no tangible component. Counseling may be one of the exceptions. STUDENT TIP Services are especially important because almost 80% of all jobs are in service firms. Services Economic activities that typically produce an intangible product (such as education, entertainment, lodging, government, financial, and health services). LO 1.2 Explain the distinction between goods and services Growth of Services Services constitute the largest economic sector in postindustrial societies. Until about 1900, most Americans were employed in agriculture. Increased agricultural productivity allowed people to leave the farm and seek employment in the city. Similarly, manufacturing employment has decreased for the past 60 years. The changes in agriculture, manufacturing, and service employment as a percentage of the workforce are shown in Figure 1.5. Although the number of people employed in manufacturing has decreased since 1950, each person is now producing almost 20 times more than in 1950. Services became the dominant TABLE 1.3 Differences Between Goods and Services CHARACTERISTICS OF SERVICES CHARACTERISTICS OF GOODS Intangible: Ride in an airline seat Tangible: The seat itself Produced and consumed simultaneously: Beauty salon produces a haircut that is consumed as it is produced Product can usually be kept in inventory (beauty care products) Unique: Your investments and medical care are unique Similar products produced (iPods) High customer interaction: Often what the customer is paying for (consulting, education) Limited customer involvement in production Inconsistent product definition: Auto insurance changes with age and type of car Product standardized (iPhone) Often knowledge based: Legal, education, and medical services are hard to automate Standard tangible product tends to make automation feasible Services dispersed: Service may occur at retail store, local office, house call, or via Internet. Product typically produced at a fixed facility Quality may be hard to evaluate: Consulting, education, and medical services Many aspects of quality for tangible products are easy to evaluate (strength of a bolt) Reselling is unusual: Musical concert or medical care Product often has some residual value M01_HEIZ0422_12_SE_C01.indd 11 01/12/15 2:19 PM 12 PA RT 1 Figure 1.5 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT U.S. Agriculture, Manufacturing, and Service Employment U.S. Agriculture, Manufacturing, and Service Employment Percent of workforce 100 Source: U.S. Bureau of Labor Statistics. 80 Agriculture 60 Services 40 Manufacturing 20 0 1800 Service sector The segment of the economy that includes trade, financial, lodging, education, legal, medical, and other professional occupations. 1825 1850 1875 1900 1925 1950 1975 2000 2025 (est.) employer in the early 1920s, with manufacturing employment peaking at about 32% in 1950. The huge productivity increases in agriculture and manufacturing have allowed more of our economic resources to be devoted to services. Consequently, much of the world can now enjoy the pleasures of education, health services, entertainment, and myriad other things that we call services. Examples of firms and percentage of employment in the U.S. service sector are shown in Table 1.4. Table 1.4 also provides employment percentages for the nonservice sectors of manufacturing, construction, agriculture, and mining on the bottom four lines. Service Pay Although there is a common perception that service industries are low paying, in fact, many service jobs pay very well. Operations managers in the maintenance facility of an airline are very well paid, as are the operations managers who supervise computer services to the financial community. About 42% of all service workers receive wages above the national average. However, the service-sector average is driven down because 14 of the U.S. Department of TABLE 1.4 Examples of Organizations in Each Sector SECTOR EXAMPLE PERCENT OF ALL JOBS Service Sector San Diego State University, Arnold Palmer Hospital 15.3 Trade (retail, wholesale), Transportation Walgreen’s, Walmart, Nordstrom, Alaska Airlines 15.8 Information, Publishers, Broadcast IBM, Bloomberg, Pearson, ESPN Professional, Legal, Business Services, Associations Snelling and Snelling, Waste Management, American Medical Association, Ernst & Young Finance, Insurance, Real Estate Citicorp, American Express, Prudential, Aetna ('''''')''''''* Education, Medical, Other 1.9 13.6 85.2 9.6 Leisure, Lodging, Entertainment Olive Garden, Motel 6, Walt Disney 10.4 Government (Fed, State, Local) U.S., State of Alabama, Cook County 15.6 Manufacturing Sector General Electric, Ford, U.S. Steel, Intel 8.6 Construction Sector Bechtel, McDermott 4.3 Agriculture King Ranch 1.4 Mining Sector Homestake Mining Grand Total .5 100.0 Source: Bureau of Labor Statistics, 2015. M01_HEIZ0422_12_SE_C01.indd 12 01/12/15 2:19 PM CHAP T ER 1 | OPERATIONS AND PRODUCTIVITY 13 Commerce categories of the 33 service industries do indeed pay below the all-private industry average. Of these, retail trade, which pays only 61% of the national private industry average, is large. But even considering the retail sector, the average wage of all service workers is about 96% of the average of all private industries. The Productivity Challenge The creation of goods and services requires changing resources into goods and services. The more efficiently we make this change, the more productive we are and the more value is added to the good or service provided. Productivity is the ratio of outputs (goods and services) divided by the inputs (resources, such as labor and capital) (see Figure 1.6). The operations manager’s job is to enhance (improve) this ratio of outputs to inputs. Improving productivity means improving efficiency.1 This improvement can be achieved in two ways: reducing inputs while keeping output constant or increasing output while keeping inputs constant. Both represent an improvement in productivity. In an economic sense, inputs are labor, capital, and management, which are integrated into a production system. Management creates this production system, which provides the conversion of inputs to outputs. Outputs are goods and services, including such diverse items as guns, butter, education, improved judicial systems, and ski resorts. Production is the making of goods and services. High production may imply only that more people are working and that employment levels are high (low unemployment), but it does not imply high productivity. Measurement of productivity is an excellent way to evaluate a country’s ability to provide an improving standard of living for its people. Only through increases in productivity can the standard of living improve. Moreover, only through increases in productivity can labor, capital, and management receive additional payments. If returns to labor, capital, or management are increased without increased productivity, prices rise. On the other hand, downward pressure is placed on prices when productivity increases because more is being produced with the same resources. The benefits of increased productivity are illustrated in the OM in Action box “Improving Productivity at Starbucks.” For well over a century (from about 1869), the U.S. has been able to increase productivity at an average rate of almost 2.5% per year. Such growth has doubled U.S. wealth every 30 years. The manufacturing sector, although a decreasing portion of the U.S. economy, has on occasion seen annual productivity increases exceeding 4%, and service sector increases of almost 1%. However, U.S. annual productivity growth in the early part of the 21st century is slightly below the 2.5% range for the economy as a whole and in recent years has been trending down.2 In this text, we examine how to improve productivity through operations management. Productivity is a significant issue for the world and one that the operations manager is uniquely qualified to address. Inputs Labor, capital, management Transformation The U.S. economic system transforms inputs to outputs at about an annual 2.5% increase in productivity per year. The productivity increase is the result of a mix of capital (38% of 2.5%), labor (10% of 2.5%), and management (52% of 2.5%). Outputs Goods and services STUDENT TIP Why is productivity important? Because it determines our standard of living. Productivity The ratio of outputs (goods and services) divided by one or more inputs (such as labor, capital, or management). LO 1.3 Explain the difference between production and productivity Figure 1.6 The Economic System Adds Value by Transforming Inputs to Outputs An effective feedback loop evaluates performance against a strategy or standard. It also evaluates customer satisfaction and sends signals to managers controlling the inputs and transformation process. Feedback loop M01_HEIZ0422_12_SE_C01.indd 13 01/12/15 2:19 PM PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT OM in Action Improving Productivity at Starbucks “This is a game of seconds …” says Silva Peterson, whom Starbucks has put in charge of saving seconds. Her team of 10 analysts is constantly asking themselves: “How can we shave time off this?” Peterson’s analysis suggested that there were some obvious opportunities. First, stop requiring signatures on credit-card purchases under $25. This sliced 8 seconds off the transaction time at the cash register. Then analysts noticed that Starbucks’ largest cold beverage, the Venti size, required two bending and digging motions to scoop up enough ice. The scoop was too small. Redesign of the scoop provided the proper amount in one motion and cut 14 seconds off the average time of 1 minute. Third were new espresso machines; with the push of a button, the machines grind coffee beans and brew. This allowed the server, called a “barista” in Starbucks’s vocabulary, to do other things. The savings: about 12 seconds per espresso shot. As a result, operations improvements at Starbucks outlets have increased the average transactions per hour to 11.7—a 46% increase— and yearly volume by $250,000, to about $1 million. The result: a 27% improvement in overall productivity— about 4.5% per year. In the service industry, a 4.5% per year increase is very tasty. Kondor83/Shutterstock 14 Sources: BusinessWeek (August 23–30, 2012) and The Wall Street Journal (October 13, 2010 and August 4, 2009). Productivity Measurement LO 1.4 Compute single-factor productivity The measurement of productivity can be quite direct. Such is the case when productivity is measured by labor-hours per ton of a specific type of steel. Although labor-hours is a common measure of input, other measures such as capital (dollars invested), materials (tons of ore), or energy (kilowatts of electricity) can be used.3 An example of this can be summarized in the following equation: Productivity = Units produced Input used (1-1) For example, if units produced = 1,000 and labor-hours used is 250, then: Single@factor productivity = Single-factor productivity Indicates the ratio of goods and services produced (outputs) to one resource (input). Multifactor productivity Indicates the ratio of goods and services produced (outputs) to many or all resources (inputs). Example 2 Units produced 1,000 = = 4 units per labor@hour Labor@hours used 250 The use of just one resource input to measure productivity, as shown in Equation (1-1), is known as single-factor productivity. However, a broader view of productivity is multifactor productivity, which includes all inputs (e.g., capital, labor, material, energy). Multifactor productivity is also known as total factor productivity. Multifactor productivity is calculated by combining the input units as shown here: Multifactor productivity = Output (1-2) Labor + Material + Energy + Capital + Miscellaneous To aid in the computation of multifactor productivity, the individual inputs (the denominator) can be expressed in dollars and summed as shown in Example 2. COMPUTING SINGLE-FACTOR AND MULTIFACTOR GAINS IN PRODUCTIVITY Collins Title Insurance Ltd. wants to evaluate its labor and multifactor productivity with a new computerized title-search system. The company has a staff of four, each working 8 hours per day (for a payroll cost of $640/day) and overhead expenses of $400 per day. Collins processes and closes on 8 titles each day. The new computerized title-search system will allow the processing of 14 titles per day. Although the staff, their work hours, and pay are the same, the overhead expenses are now $800 per day. Collins uses Equation (1-1) to compute labor productivity and Equation (1-2) to compute multifactor productivity. APPROACH c M01_HEIZ0422_12_SE_C01.indd 14 01/12/15 2:19 PM CHAP T ER 1 | OPERATIONS AND PRODUCTIVITY 15 SOLUTION c 8 titles per day = .25 titles per labor@hour 32 labor@hours 14 titles per day = .4375 titles per labor@hour Labor productivity with the new system: 32 labor@hours 8 titles per day = .0077 titles per dollar Multifactor productivity with the old system: $640 + 400 14 titles per day = .0097 titles per dollar Multifactor productivity with the new system: $640 + 800 Labor productivity with the old system: LO 1.5 Compute multifactor productivity Labor productivity has increased from .25 to .4375. The change is (.4375 - .25) >.25 = 0.75, or a 75% increase in labor productivity. Multifactor productivity has increased from .0077 to .0097. This change is (.0097 - .0077) >.0077 = 0.26, or a 26% increase in multifactor productivity. Both the labor (single-factor) and multifactor productivity measures show an increase in productivity. However, the multifactor measure provides a better picture of the increase because it includes all the costs connected with the increase in output. INSIGHT c LEARNING EXERCISE c If the overhead goes to $960 (rather than $800), what is the multifactor productivity? [Answer: .00875.] RELATED PROBLEMS c 1.1, 1.2, 1.4, 1.5, 1.6, 1.7, 1.8, 1.9, 1.10, 1.11, 1.13, 1.14, 1.17 Use of productivity measures aids managers in determining how well they are doing. But results from the two measures can be expected to vary. If labor productivity growth is entirely the result of capital spending, measuring just labor distorts the results. Multifactor productivity is usually better, but more complicated. Labor productivity is the more popular measure. The multifactor-productivity measures provide better information about the trade-offs among factors, but substantial measurement problems remain. Some of these measurement problems are: 1. Quality may change while the quantity of inputs and outputs remains constant. Compare an HDTV of this decade with a black-and-white TV of the 1950s. Both are TVs, but few people would deny that the quality has improved. The unit of measure—a TV—is the same, but the quality has changed. 2. External elements may cause an increase or a decrease in productivity for which the system under study may not be directly responsible. A more reliable electric power service may greatly improve production, thereby improving the firm’s productivity because of this support system rather than because of managerial decisions made within the firm. 3. Precise units of measure may be lacking. Not all automobiles require the same inputs: Some cars are subcompacts, others are 911 Turbo Porsches. Productivity measurement is particularly difficult in the service sector, where the end product can be hard to define. For example, economic statistics ignore the quality of your haircut, the outcome of a court case, or the service at a retail store. In some cases, adjustments are made for the quality of the product sold but not the quality of the sales presentation or the advantage of a broader product selection. Productivity measurements require specific inputs and outputs, but a free economy is producing worth—what people want—which includes convenience, speed, and safety. Traditional measures of outputs may be a very poor measure of these other measures of worth. Note the quality-measurement problems in a law office, where each case is different, altering the accuracy of the measure “cases per labor-hour” or “cases per employee.” Productivity Variables As we saw in Figure 1.6, productivity increases are dependent on three productivity variables: Productivity variables 1. Labor, which contributes about 10% of the annual increase. 2. Capital, which contributes about 38% of the annual increase. 3. Management, which contributes about 52% of the annual increase. The three factors critical to productivity improvement—labor, capital, and the art and science of management. These three factors are critical to improved productivity. They represent the broad areas in which managers can take action to improve productivity. M01_HEIZ0422_12_SE_C01.indd 15 01/12/15 2:19 PM 16 PA RT 1 Figure 1.7 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT About Half of the 17-Year-Olds in the U.S. Cannot Correctly Answer Questions of This Type 6 yds If 9y + 3 = 6y + 15 then y = 4 yds 4 6 1 2 What is the area of this rectangle? 4 square yds 6 square yds 10 square yds 20 square yds 24 square yds LO 1.6 Identify the critical variables in enhancing productivity Which of the following is true about 84% of 100? It is greater than 100 It is less than 100 It is equal to 100 Labor Improvement in the contribution of labor to productivity is the result of a healthier, bettereducated, and better-nourished labor force. Some increase may also be attributed to a shorter workweek. Historically, about 10% of the annual improvement in productivity is attributed to improvement in the quality of labor. Three key variables for improved labor productivity are: 1. Basic education appropriate for an effective labor force. 2. Diet of the labor force. 3. Social overhead that makes labor available, such as transportation and sanitation. Illiteracy and poor diets are a major impediment to productivity, costing countries up to 20% of their productivity. Infrastructure that yields clean drinking water and sanitation is also an opportunity for improved productivity, as well as an opportunity for better health, in much of the world. In developed nations, the challenge becomes maintaining and enhancing the skills of labor in the midst of rapidly expanding technology and knowledge. Recent data suggest that the average American 17-year-old knows significantly less mathematics than the average Japanese at the same age, and about half cannot answer the questions in Figure 1.7. Moreover, about one-third of American job applicants tested for basic skills were deficient in reading, writing, or math. Overcoming shortcomings in the quality of labor while other countries have a better labor force is a major challenge. Perhaps improvements can be found not only through increasing competence of labor but also via better utilized labor with a stronger commitment. Training, motivation, team building, and the human resource strategies discussed in Chapter 10, as well as improved education, may be among the many techniques that will contribute to increased labor productivity. Improvements in labor productivity are possible; however, they can be expected to be increasingly difficult and expensive. Capital Human beings are tool-using animals. Capital investment provides those tools. Capital investment has increased in the U.S. every year except during a few very severe recession periods. Annual capital investment in the U.S. has increased at an annual rate of 1.5% after allowances for depreciation. Inflation and taxes increase the cost of capital, making capital investment increasingly expensive. When the capital invested per employee drops, we can expect a drop in productivity. Using labor rather than capital may reduce unemployment in the short run, but it also makes economies less productive and therefore lowers wages in the long run. Capital investment is often a necessary, but seldom a sufficient, ingredient in the battle for increased productivity. The trade-off between capital and labor is continually in flux. The higher the cost of capital or perceived risk, the more projects requiring capital are “squeezed out”: they are not pursued because the potential return on investment for a given risk has been reduced. Managers adjust their investment plans to changes in capital cost and risk. Knowledge society A society in which much of the labor force has migrated from manual work to work based on knowledge. M01_HEIZ0422_12_SE_C01.indd 16 Management Management is a factor of production and an economic resource. Management is responsible for ensuring that labor and capital are effectively used to increase productivity. Management accounts for over half of the annual increase in productivity. This increase includes improvements made through the use of knowledge and the application of technology. Using knowledge and technology is critical in postindustrial societies. Consequently, postindustrial societies are also known as knowledge societies. Knowledge societies are those in which much of the labor force has migrated from manual work to technical and information-processing 01/12/15 2:19 PM | OPERATIONS AND PRODUCTIVITY 17 Andrzej Thiel/Fotolia Guy Shapira/Shutterstock CHAP T ER 1 The effective use of capital often means finding the proper trade-off between investment in capital assets (automation, left) and human assets (a manual process, right). While there are risks connected with any investment, the cost of capital and physical investments is fairly clear-cut, but the cost of employees has many hidden costs including fringe benefits, social insurance, and legal constraints on hiring, employment, and termination. tasks requiring ongoing education. The required education and training are important highcost items that are the responsibility of operations managers as they build organizations and workforces. The expanding knowledge base of contemporary society requires that managers use technology and knowledge effectively. More effective use of capital also contributes to productivity. It falls to the operations manager, as a productivity catalyst, to select the best new capital investments as well as to improve the productivity of existing investments. The productivity challenge is difficult. A country cannot be a world-class competitor with second-class inputs. Poorly educated labor, inadequate capital, and dated technology are second-class inputs. High productivity and high-quality outputs require high-quality inputs, including good operations managers. Productivity and the Service Sector Olaf Jandke/Agencja Fotograficzna Caro/Alamy The service sector provides a special challenge to the accurate measurement of productivity and productivity improvement. The traditional analytical framework of economic theory is based primarily on goods-producing activities. Consequently, most published economic data relate to goods production. But the data do indicate that, as our contemporary service economy has increased in size, we have had slower growth in productivity. M01_HEIZ0422_12_SE_C01.indd 17 Siemens, a multi-billion-dollar German conglomerate, has long been known for its apprentice programs in its home country. Because education is often the key to efficient operations in a technological society, Siemens has spread its apprentice-training programs to its U.S. plants. These programs are laying the foundation for the highly skilled workforce that is essential for global competitiveness. 01/12/15 2:19 PM PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT OM in Action Taco Bell Improves Productivity and Goes Green to Lower Costs Founded in 1962 by Glenn Bell, Taco Bell seeks competitive advantage via low cost. Like many other services, Taco Bell relies on its operations management to improve productivity and reduce cost. Its menu and meals are designed to be easy to prepare. Taco Bell has shifted a substantial portion of food preparation to suppliers who could perform food processing more efficiently than a stand-alone restaurant. Ground beef is precooked prior to arrival and then reheated, as are many dishes that arrive in plastic boil bags for easy sanitary reheating. Similarly, tortillas arrive already fried and onions prediced. Efficient layout and automation has cut to 8 seconds the time needed to prepare tacos and burritos and has cut time in the drivethrough lines by 1 minute. These advances have been combined with training and empowerment to increase the span of management from one supervisor for 5 restaurants to one supervisor for 30 or more. Operations managers at Taco Bell have cut in-store labor by 15 hours per day and reduced floor space by more than 50%. The result is a store that can average 164 seconds for each customer, from drive-up to pull-out. In 2010, Taco Bell completed the rollout of its new Grill-to-Order kitchens by installing water- and energy-saving grills that conserve 300 million gallons of water and 200 million kilowatt hours of electricity each year. This “green”-inspired cooking method also saves the company’s 5,800 restaurants $17 million per year. Effective operations management has resulted in productivity increases that support Taco Bell’s low-cost strategy. Taco Bell is now the fast-food low-cost leader with a 58% share of the Mexican fast-food market. Bob Pardue-Signs/Alamy 18 Sources: Business Week (May 5, 2011); Harvard Business Review (July/August 2008); and J. Hueter and W. Swart, Interfaces (Vol. 28; issue 1). Productivity of the service sector has proven difficult to improve because service-sector work is: 1. 2. 3. 4. 5. Typically labor intensive (e.g., counseling, teaching). Frequently focused on unique individual attributes or desires (e.g., investment advice). Often an intellectual task performed by professionals (e.g., medical diagnosis). Often difficult to mechanize and automate (e.g., a haircut). Often difficult to evaluate for quality (e.g., performance of a law firm). The more intellectual and personal the task, the more difficult it is to achieve increases in productivity. Low-productivity improvement in the service sector is also attributable to the growth of low-productivity activities in the service sector. These include activities not previously a part of the measured economy, such as child care, food preparation, house cleaning, and laundry service. These activities have moved out of the home and into the measured economy as more and more women have joined the workforce. Inclusion of these activities has probably resulted in lower measured productivity for the service sector, although, in fact, actual productivity has probably increased because these activities are now more efficiently produced than previously. However, despite the difficulty of improving productivity in the service sector, improvements are being made. And this text presents a multitude of ways to make these improvements. Indeed, what can be done when management pays attention to how work actually gets done is astonishing! Although the evidence indicates that all industrialized countries have the same problem with service productivity, the U.S. remains the world leader in overall productivity and service productivity. Retailing is twice as productive in the U.S. as in Japan, where laws protect shopkeepers from discount chains. The U.S. telephone industry is at least twice as productive as Germany’s. The U.S. banking system is also 33% more efficient than Germany’s banking oligopolies. However, because productivity is central to the operations manager’s job and because the service sector is so large, we take special note in this text of how to improve productivity in the service sector. (See, for instance, the OM in Action box “Taco Bell Improves Productivity and Goes Green to Lower Costs.”) Current Challenges in Operations Management Operations managers work in an exciting and dynamic environment. This environment is the result of a variety of challenging forces, from globalization of world trade to the transfer of ideas, products, and money at electronic speeds. Let’s look at some of these challenges: M01_HEIZ0422_12_SE_C01.indd 18 01/12/15 2:19 PM CHAP T ER 1 ◆ ◆ ◆ ◆ ◆ ◆ | OPERATIONS AND PRODUCTIVITY Globalization: The rapid decline in the cost of communication and transportation has made markets global. Similarly, resources in the form of capital, materials, talent, and labor are also now global. As a result, countries throughout the world are contributing to globalization as they vie for economic growth. Operations managers are rapidly seeking creative designs, efficient production, and high-quality goods via international collaboration. Supply-chain partnering: Shorter product life cycles, demanding customers, and fast changes in technology, materials, and processes require supply-chain partners to be in tune with the needs of end users. And because suppliers may be able to contribute unique expertise, operations managers are outsourcing and building long-term partnerships with critical players in the supply chain. Sustainability: Operations managers’ continuing battle to improve productivity is concerned with designing products and processes that are ecologically sustainable. This means designing green products and packaging that minimize resource use, can be recycled or reused, and are generally environmentally friendly. Rapid product development: Technology combined with rapid international communication of news, entertainment, and lifestyles is dramatically chopping away at the life span of products. OM is answering with new management structures, enhanced collaboration, digital technology, and creative alliances that are more responsive and effective. Mass customization: Once managers recognize the world as the marketplace, the cultural and individual differences become quite obvious. In a world where consumers are increasingly aware of innovation and options, substantial pressure is placed on firms to respond in a creative way. And OM must rapidly respond with product designs and flexible production processes that cater to the individual whims of consumers. The goal is to produce customized products, whenever and wherever needed. Lean operations: Lean is the management model sweeping the world and providing the standard against which operations managers must compete. Lean can be thought of as the driving force in a well-run operation, where the customer is satisfied, employees are respected, and waste does not exist. The theme of this text is to build organizations that are more efficient, where management creates enriched jobs that help employees engage in continuous improvement, and where goods and services are produced and delivered when and where the customer desires them. These ideas are also captured in the phrase Lean. 19 STUDENT TIP One of the reasons OM is such an exciting discipline is that an operations manager is confronted with ever-changing issues, from technology, to global supply chains, to sustainability. These challenges must be successfully addressed by today’s operations managers. This text will provide you with the foundations necessary to meet those challenges. Ethics, Social Responsibility, and Sustainability The systems that operations managers build to convert resources into goods and services are complex. And they function in a world where the physical and social environment is evolving, as are laws and values. These dynamics present a variety of challenges that come from the conflicting perspectives of stakeholders, such as customers, distributors, suppliers, owners, lenders, employees, and community. Stakeholders, as well as government agencies at various levels, require constant monitoring and thoughtful responses. Identifying ethical and socially responsible responses while developing sustainable processes that are also effective and efficient productive systems is not easy. Managers are also challenged to: ◆ ◆ ◆ Stakeholders Those with a vested interest in an organization, including customers, distributors, suppliers, owners, lenders, employees, and community members. Develop and produce safe, high-quality green products Train, retain, and motivate employees in a safe workplace Honor stakeholder commitments Managers must do all this while meeting the demands of a very competitive and dynamic world marketplace. If operations managers have a moral awareness and focus on increasing productivity in this system, then many of the ethical challenges will be successfully addressed. The organization will use fewer resources, the employees will be committed, the market will be satisfied, and the ethical climate will be enhanced. Throughout this text, we note ways in which operations managers can take ethical and socially responsible actions while successfully addressing these challenges of the market. We also conclude each chapter with an Ethical Dilemma exercise. M01_HEIZ0422_12_SE_C01.indd 19 01/12/15 2:19 PM 20 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Summary Operations, marketing, and finance/accounting are the three functions basic to all organizations. The operations function creates goods and services. Much of the progress of operations management has been made in the twentieth century, but since the beginning of time, humankind has been attempting to improve its material well-being. Operations managers are key players in the battle to improve productivity. As societies become increasingly affluent, more of their resources are devoted to services. In the U.S., more than 85% of the workforce is employed in the service sector. Productivity improvements and a sustainable environment are difficult to achieve, but operations managers are the primary vehicle for making improvements. Key Terms Production (p. 4) Operations management (OM) (p. 4) Supply chain (p. 6) 10 strategic OM decisions (p. 7) Services (p. 11) Service sector (p. 12) Productivity (p. 13) Single-factor productivity (p. 14) Ethical Dilemma The American car battery industry boasts that its recycling rate now exceeds 95%, the highest rate for any commodity. However, with changes brought about by specialization and globalization, parts of the recycling system are moving offshore. This is particularly true of automobile batteries, which contain lead. The Environmental Protection Agency (EPA) is contributing to the offshore flow with newly implemented standards that make domestic battery recycling increasingly difficult and expensive. The result is a major increase in used batteries going to Mexico, where environmental standards and control are less demanding than they are in the U.S. One in five batteries is now exported to Mexico. There is seldom difficulty finding buyers because lead is expensive and in worldwide demand. While U.S. Multifactor productivity (p. 14) Productivity variables (p. 15) Knowledge society (p. 16) Stakeholders (p. 19) recyclers operate in sealed, mechanized plants, with smokestacks equipped with scrubbers and plant surroundings monitored for traces of lead, this is not the case in most Mexican plants. The harm from lead is legendary, with long-run residual effects. Health issues include high blood pressure, kidney damage, detrimental effects on fetuses during pregnancy, neurological problems, and arrested development in children. Given the two scenarios below, what action do you take? a) You own an independent auto repair shop and are trying to safely dispose of a few old batteries each week. (Your battery supplier is an auto parts supplier who refuses to take your old batteries.) b) You are manager of a large retailer responsible for disposal of thousands of used batteries each day. Discussion Questions 1. Why should one study operations management? 2. Identify four people who have contributed to the theory and techniques of operations management. 3. Briefly describe the contributions of the four individuals identified in the preceding question. 4. Figure 1.1 outlines the operations, finance/accounting, and marketing functions of three organizations. Prepare a chart similar to Figure 1.1 outlining the same functions for one of the following: a. a newspaper b. a drugstore c. a college library d. a summer camp e. a small costume-jewelry factory 5. Answer Question 4 for some other organization, perhaps an organization where you have worked. 6. What are the three basic functions of a firm? 7. Identify the 10 strategic operations management decisions. 8. Name four areas that are significant to improving labor productivity. M01_HEIZ0422_12_SE_C01.indd 20 9. The U.S., and indeed much of the rest of the world, has been described as a “knowledge society.” How does this affect productivity measurement and the comparison of productivity between the U.S. and other countries? 10. What are the measurement problems that occur when one attempts to measure productivity? 11. Mass customization and rapid product development were identified as challenges to modern manufacturing operations. What is the relationship, if any, between these challenges? Can you cite any examples? 12. What are the five reasons productivity is difficult to improve in the service sector? 13. Describe some of the actions taken by Taco Bell to increase productivity that have resulted in Taco Bell’s ability to serve “twice the volume with half the labor.” 14. As a library or Internet assignment, find the U.S. productivity rate (increase) last year for the (a) national economy, (b) manufacturing sector, and (c) service sector. 01/12/15 2:19 PM CHAP T ER 1 | OPERATIONS AND PRODUCTIVITY 21 Using Software for Productivity Analysis This section presents three ways to solve productivity problems with computer software. First, you can create your own Excel spreadsheets to conduct productivity analysis. Second, you can use the Excel OM software that comes with this text. Third, POM for Windows is another program that is available with this text. CREATING YOUR OWN EXCEL SPREADSHEETS Program 1.1 illustrates how to build an Excel spreadsheet for the data in Example 2. Enter the values for the old system in column B and the new system in Column C. =C5*C6 Productivity = Output/Input =B10/B7 =C10/(C8+C9) =(C14-B14)/B14 Actions Copy C7 to B7, Copy B14 to C14, Copy C15 to B15, and Copy D14 to D15 Create a row for each of the inputs used for the productivity measure. Put the output in the last row. Program 1.1 X USING EXCEL OM Excel OM is an Excel “add-in” with 24 Operations Management decision support “Templates.” To access the templates, doubleclick on the Excel OM tab at the top of the page, then in the menu bar choose the appropriate chapter (in this case Chapter 1), from either the “Chapter” or “Alphabetic” tab on the left. Each of Excel OM’s 24 modules includes instructions for that particular module. The instructions can be turned on or off via the “instruction” tab in the menu bar. P USING POM FOR WINDOWS POM for Windows is decision support software that includes 24 Operations Management modules. The modules are accessed by double-clicking on Module in the menu bar, and then double-clicking on the appropriate (in this case Productivity) item. Instructions are provided for each module just below the menu bar. Solved Problems Virtual Office Hours help is available in MyOMLab. SOLVED PROBLEM 1.1 Productivity can be measured in a variety of ways, such as by labor, capital, energy, material usage, and so on. At Modern Lumber, Inc., Art Binley, president and producer of apple crates sold to growers, has been able, with his current equipment, to produce 240 crates per 100 logs. He currently purchases 100 logs per day, and each log requires 3 labor-hours to process. He believes that he can hire a professional buyer who can buy a better-quality log at the same cost. If this is the case, he can increase his production to 260 crates per 100 logs. His labor-hours will increase by 8 hours per day. What will be the impact on productivity (measured in crates per labor-hour) if the buyer is hired? M01_HEIZ0422_12_SE_C01.indd 21 SOLUTION 240 crates 100 logs * 3 hours>log 240 = 300 = .8 crates per labor@hour 260 crates Labor productivity (b) = with buyer (100 logs * 3 hours>log) + 8 hours 260 = 308 = .844 crates per labor@hour Using current productivity (.80 from [a]) as a base, the increase will be 5.5% (.844/.8 = 1.055, or a 5.5% increase). (a) Current labor productivity = 01/12/15 2:19 PM 22 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT SOLVED PROBLEM 1.2 Art Binley has decided to look at his productivity from a multifactor (total factor productivity) perspective (refer to Solved Problem 1.1). To do so, he has determined his labor, capital, energy, and material usage and decided to use dollars as the common denominator. His total labor-hours are now 300 per day and will increase to 308 per day. His capital and energy costs will remain constant at $350 and $150 per day, respectively. Material costs for the 100 logs per day are $1,000 and will remain the same. Because he pays an average of $10 per hour (with fringes), Binley determines his productivity increase as follows: SOLUTION CURRENT SYSTEM SYSTEM WITH PROFESSIONAL BUYER Labor: 300 hrs. @10 = 3,000 Material: 100 logs/day 308 hrs. @10 = $3,080 1,000 1,000 Capital: 350 350 Energy: 150 150 $4,500 $4,580 Total Cost: Multifactor productivity of current system: = 240 crates>$4,500 = .0533 crates/dollar Multifactor productivity of proposed system: = 260 crates>$4,580 = .0568 crates/dollar Using current productivity (.0533) as a base, the increase will be .066. That is, .0568>.0533 = 1.066, or a 6.6% increase. Problems Note: PX means the problem may be solved with POM for Windows and/or Excel OM. Problems 1.1 to 1.17 relate to The Productivity Challenge • 1.1 Chuck Sox makes wooden boxes in which to ship motorcycles. Chuck and his three employees invest a total of 40 hours per day making the 120 boxes. a) What is their productivity? b) Chuck and his employees have discussed redesigning the process to improve efficiency. If they can increase the rate to 125 per day, what will be their new productivity? c) What will be their unit increase in productivity per hour? d) What will be their percentage change in productivity? PX • 1.2 Carbondale Casting produces cast bronze valves on a 10-person assembly line. On a recent day, 160 valves were produced during an 8-hour shift. a) Calculate the labor productivity of the line. b) John Goodale, the manager at Carbondale, changed the layout and was able to increase production to 180 units per 8-hour shift. What is the new labor productivity per labor-hour? c) What is the percentage of productivity increase? PX • 1.3 This year, Druehl, Inc., will produce 57,600 hot water heaters at its plant in Delaware, in order to meet expected global demand. To accomplish this, each laborer at the plant will work 160 hours per month. If the labor productivity at the plant is 0.15 hot water heaters per labor-hour, how many laborers are employed at the plant? • 1.4 Lori Cook produces “Final Exam Care Packages” for resale by her sorority. She is currently working a total of 5 hours per day to produce 100 care packages. a) What is Lori’s productivity? b) Lori thinks that by redesigning the package, she can increase her total productivity to 133 care packages per day. What will be her new productivity? c) What will be the percentage increase in productivity if Lori makes the change? PX M01_HEIZ0422_12_SE_C01.indd 22 • • 1.5 George Kyparisis makes bowling balls in his Miami plant. With recent increases in his costs, he has a newfound interest in efficiency. George is interested in determining the productivity of his organization. He would like to know if his organization is maintaining the manufacturing average of 3% increase in productivity per year? He has the following data representing a month from last year and an equivalent month this year: LAST YEAR Units produced Labor (hours) Resin (pounds) Capital invested ($) Energy (BTU) NOW 1,000 1,000 300 275 50 45 10,000 11,000 3,000 2,850 Show the productivity percentage change for each category and then determine the improvement for labor-hours, the typical standard for comparison. PX • • 1.6 George Kyparisis (using data from Problem 1.5) determines his costs to be as follows: ◆ Labor: $10 per hour ◆ Resin: $5 per pound ◆ Capital expense: 1% per month of investment ◆ Energy: $0.50 per BTU Show the percent change in productivity for one month last year versus one month this year, on a multifactor basis with dollars as the common denominator. PX 01/12/15 2:19 PM CHAP T ER 1 • 1.7 Hokey Min’s Kleen Karpet cleaned 65 rugs in October, consuming the following resources: Labor: 520 hours at $13 per hour Solvent: 100 gallons at $5 per gallon Machine rental: 20 days at $50 per day a) What is the labor productivity per dollar? b) What is the multifactor productivity? PX • • 1.8 Lillian Fok is president of Lakefront Manufacturing, a producer of bicycle tires. Fok makes 1,000 tires per day with the following resources: Labor: 400 hours per day @ $12.50 per hour Raw material: 20,000 pounds per day @ $1 per pound Energy: $5,000 per day Capital costs: $10,000 per day a) What is the labor productivity per labor-hour for these tires at Lakefront Manufacturing? b) What is the multifactor productivity for these tires at Lakefront Manufacturing? c) What is the percent change in multifactor productivity if Fok can reduce the energy bill by $1,000 per day without cutting production or changing any other inputs? PX • • • 1.9 Brown’s, a local bakery, is worried about increased costs—particularly energy. Last year’s records can provide a fairly good estimate of the parameters for this year. Wende Brown, the owner, does not believe things have changed much, but she did invest an additional $3,000 for modifications to the bakery’s ovens to make them more energy efficient. The modifications were supposed to make the ovens at least 15% more efficient. Brown has asked you to check the energy savings of the new ovens and also to look over other measures of the bakery’s productivity to see if the modifications were beneficial. You have the following data to work with: Production (dozen) Labor (hours) Capital investment ($) Energy (BTU) LAST YEAR NOW 1,500 1,500 350 325 15,000 18,000 3,000 2,750 PX | OPERATIONS AND PRODUCTIVITY 23 • • 1.10 Munson Performance Auto, Inc., modifies 375 autos per year. The manager, Adam Munson, is interested in obtaining a measure of overall performance. He has asked you to provide him with a multifactor measure of last year’s performance as a benchmark for future comparison. You have assembled the following data. Resource inputs were labor, 10,000 hours; 500 suspension and engine modification kits; and energy, 100,000 kilowatt-hours. Average labor cost last year was $20 per hour, kits cost $1,000 each, and energy costs were $3 per kilowatt-hour. What do you tell Mr. Munson? PX • • 1.11 Lake Charles Seafood makes 500 wooden packing boxes for fresh seafood per day, working in two 10-hour shifts. Due to increased demand, plant managers have decided to operate three 8-hour shifts instead. The plant is now able to produce 650 boxes per day. a) Calculate the company’s productivity before the change in work rules and after the change. b) What is the percentage increase in productivity? c) If production is increased to 700 boxes per day, what is the new productivity? PX • • • 1.12 Charles Lackey operates a bakery in Idaho Falls, Idaho. Because of its excellent product and excellent location, demand has increased by 25% in the last year. On far too many occasions, customers have not been able to purchase the bread of their choice. Because of the size of the store, no new ovens can be added. At a staff meeting, one employee suggested ways to load the ovens differently so that more loaves of bread can be baked at one time. This new process will require that the ovens be loaded by hand, requiring additional manpower. This is the only thing to be changed. If the bakery makes 1,500 loaves per month with a labor productivity of 2.344 loaves per labor-hour, how many workers will Lackey need to add ? (Hint: Each worker works 160 hours per month.) • • 1.13 Refer to Problem 1.12. The pay will be $8 per hour for employees. Charles Lackey can also improve the yield by purchasing a new blender. The new blender will mean an increase in his investment. This added investment has a cost of $100 per month, but he will achieve the same output (an increase to 1,875) as the change in labor-hours. Which is the better decision? a) Show the productivity change, in loaves per dollar, with an increase in labor cost (from 640 to 800 hours). b) Show the new productivity, in loaves per dollar, with only an increase in investment ($100 per month more). c) Show the percent productivity change for labor and investment. Taras Vyshnya/Shutterstock • • • 1.14 Refer to Problems 1.12 and 1.13. If Charles Lackey’s utility costs remain constant at $500 per month, labor at $8 per hour, and cost of ingredients at $0.35 per loaf, but Charles does not purchase the blender suggested in Problem 1.13, what will the productivity of the bakery be? What will be the percent increase or decrease? M01_HEIZ0422_12_SE_C01.indd 23 • • 1.15 In December, General Motors produced 6,600 customized vans at its plant in Detroit. The labor productivity at this plant is known to have been 0.10 vans per labor-hour during that month. 300 laborers were employed at the plant that month. a) How many hours did the average laborer work that month? b) If productivity can be increased to 0.11 vans per laborhour, how many hours would the average laborer work that month? 01/12/15 2:19 PM 24 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Susan Williams runs a small Flagstaff job shop where • • 1.16 garments are made. The job shop employs eight workers. Each worker is paid $10 per hour. During the first week of March, each worker worked 45 hours. Together, they produced a batch of 132 garments. Of these garments, 52 were “seconds” (meaning that they were flawed). The seconds were sold for $90 each at a factory outlet store. The remaining 80 garments were sold to retail outlets at a price of $198 per garment. What was the labor productivity, in dollars per labor-hour, at this job shop during the first week of March? • • • 1.17 As part of a study for the Department of Labor Statistics, you are assigned the task of evaluating the improvement in productivity of small businesses. Data for one of the small businesses you are to evaluate are shown at right. The data are the monthly average of last year and the monthly average this year. Determine the multifactor productivity with dollars as the common denominator for: a) Last year. b) This year. c) Then determine the percent change in productivity for the monthly average last year versus the monthly average this year on a multifactor basis. ◆ Labor: $8 per hour ◆ Capital: 0.83% per month of investment ◆ Energy: $0.60 per BTU Production (dozen) Labor (hours) Capital investment ($) Energy (BTU) LAST YEAR THIS YEAR 1,500 1,500 350 325 15,000 18,000 3,000 2,700 CASE STUDIES Uber Technologies, Inc. The $41 billion dollar firm Uber Technology, Inc., is unsettling the traditional taxi business. In over 40 countries and 240 markets around the world, Uber and similar companies are challenging the existing taxi business model. Uber and its growing list of competitors, Lyft, Sidecar, and Flywheel in America, and fledging rivals in Europe, Asia, and India, think their smart phone apps can provide a new and improved way to call a taxi. This disruptive business model uses an app to arrange rides between riders and cars, theoretically a nearby car, which is tracked by the app. The Uber system also provides a history of rides, routes, and fees as well as automatic billing. In addition, driver and rider are also allowed to evaluate each other. The services are increasingly popular, worrying established taxi services in cities from New York to Berlin, and from Rio de Janeiro to Bangkok. In many markets, Uber has proven to be the best, fastest, and most reliable way to find a ride. Consumers worldwide are endorsing the system as a replacement for the usual taxi ride. As the most established competitor in the field, Uber is putting more cars on the road, meaning faster pickup times, which should attract even more riders, which in turn attracts even more drivers, and so on. This growth cycle may speed the demise of the existing taxi businesses as well as provide substantial competition for firms with a technology-oriented model similar to Uber’s. The Uber business model initially attempts to bypass a number of regulations and at the same time offer better service and lower fees than traditional taxis. However, the traditional taxi industry is fighting back, and regulations are mounting. The regulations vary by country and city, but increasingly special licensing, testing, and inspections are being imposed. Part of the fee charged to riders does not go to the driver, but to M01_HEIZ0422_12_SE_C01.indd 24 Uber, as there are real overhead costs. Uber’s costs, depending on the locale, may include insurance, background checks for drivers, vetting of vehicles, software development and maintenance, and centralized billing. How these overhead costs compare to traditional taxi costs is yet to be determined. Therefore, improved efficiency may not be immediately obvious, and contract provisions are significant (see www.uber.com/legal/ usa/terms). In addition to growing regulations, a complicating factor in the model is finding volunteer drivers at inopportune times. A sober driver and a clean car at 1:00 a.m. New Year’s Eve does cost more. Consequently, Uber has introduced “surge” pricing. Surge pricing means a higher price, sometimes much higher, than normal. Surge pricing has proven necessary to ensure that cars and drivers are available at unusual times. These higher surge prices can be a shock to riders, making the “surge price” a contentious issue. Discussion Questions 1. The market has decided that Uber and its immediate competitors are adding efficiency to our society. How is Uber providing that added efficiency? 2. Do you think the Uber model will work in the trucking industry? 3. In what other areas/industries might the Uber model be used? Sources: Wall Street Journal (January 2, 2015), B3, and (Dec. 18, 2014), D1; and www.bloombergview.com/articles/2014-12-11/can-uber-rule-the-world. 01/12/15 2:19 PM CHAP T ER 1 | OPERATIONS AND PRODUCTIVITY Video Case Frito-Lay: Operations Management in Manufacturing Frito-Lay, the massive Dallas-based subsidiary of PepsiCo, has 38 plants and 48,000 employees in North America. Seven of Frito-Lay’s 41 brands exceed $1 billion in sales: Fritos, Lay’s, Cheetos, Ruffles, Tostitos, Doritos, and Walker’s Potato Chips. Operations is the focus of the firm—from designing products for new markets, to meeting changing consumer preferences, to adjusting to rising commodity costs, to subtle issues involving flavors and preservatives—OM is under constant cost, time, quality, and market pressure. Here is a look at how the 10 decisions of OM are applied at this food processor. In the food industry, product development kitchens experiment with new products, submit them to focus groups, and perform test marketing. Once the product specifications have been set, processes capable of meeting those specifications and the necessary quality standards are created. At Frito-Lay, quality begins at the farm, with onsite inspection of the potatoes used in Ruffles and the corn used in Fritos. Quality continues throughout the manufacturing process, with visual inspections and with statistical process control of product variables such as oil, moisture, seasoning, salt, thickness, and weight. Additional quality evaluations are conducted throughout shipment, receipt, production, packaging, and delivery. The production process at Frito-Lay is designed for large volumes and small variety, using expensive special-purpose equipment, and with swift movement of material through the facility. Product-focused facilities, such as Frito-Lay’s, typically have high capital costs, tight schedules, and rapid processing. FritoLay’s facilities are located regionally to aid in the rapid delivery of products because freshness is a critical issue. Sanitary issues and necessarily fast processing of products put a premium on an efficient layout. Production lines are designed for balanced throughput and high utilization. Cross-trained workers, who handle a variety of production lines, have promotion paths identified for their particular skill set. The company rewards employees with medical, retirement, and education plans. Its turnover is very low. Hard Rock Cafe: Operations Management in Services In its 45 years of existence, Hard Rock has grown from a modest London pub to a global power managing 150 cafes, 13 hotels/ casinos, and live music venues. This puts Hard Rock firmly in the service industry—a sector that employs over 75% of the people in the U.S. Hard Rock moved its world headquarters to Orlando, Florida, in 1988 and has expanded to more than 40 locations throughout the U.S., serving over 100,000 meals each day. Hard Rock chefs are modifying the menu from classic American— burgers and chicken wings—to include higher-end items such as stuffed veal chops and lobster tails. Just as taste in music changes over time, so does Hard Rock Cafe, with new menus, layouts, memorabilia, services, and strategies. At Orlando’s Universal Studios, a traditional tourist destination, Hard Rock Cafe serves over 3,500 meals each day. The cafe employs about 400 people. Most are employed in the restaurant, but some work in the retail shop. Retail is now a standard and increasingly prominent feature in Hard Rock Cafes (since close to 48% of revenue comes from this source). M01_HEIZ0422_12_SE_C01.indd 25 25 The supply chain is integral to success in the food industry; vendors must be chosen with great care. Moreover, the finished food product is highly dependent on perishable raw materials. Consequently, the supply chain brings raw material (potatoes, corn, etc.) to the plant securely and rapidly to meet tight production schedules. For instance, from the time that potatoes are picked in St. Augustine, Florida, until they are unloaded at the Orlando plant, processed, packaged, and shipped from the plant is under 12 hours. The requirement for fresh product requires ontime, just-in-time deliveries combined with both low raw material and finished goods inventories. The continuous-flow nature of the specialized equipment in the production process permits little work-in-process inventory. The plants usually run 24/7. This means that there are four shifts of employees each week. Tight scheduling to ensure the proper mix of fresh finished goods on automated equipment requires reliable systems and effective maintenance. Frito-Lay’s workforce is trained to recognize problems early, and professional maintenance personnel are available on every shift. Downtime is very costly and can lead to late deliveries, making maintenance a high priority. Discussion Questions* 1. From your knowledge of production processes and from the case and the video, identify how each of the 10 decisions of OM is applied at Frito-Lay. 2. How would you determine the productivity of the production process at Frito-Lay? 3. How are the 10 decisions of OM different when applied by the operations manager of a production process such as Frito-Lay versus a service organization such as Hard Rock Cafe (see the Hard Rock Cafe video case below)? *You may wish to view the video that accompanies this case before addressing these questions. Video Case Cafe employees include kitchen and waitstaff, hostesses, and bartenders. Hard Rock employees are not only competent in their job skills but are also passionate about music and have engaging personalities. Cafe staff is scheduled down to 15-minute intervals to meet seasonal and daily demand changes in the tourist environment of Orlando. Surveys are done on a regular basis to evaluate quality of food and service at the cafe. Scores are rated on a 1-to-7 scale, and if the score is not a 7, the food or service is a failure. Hard Rock is adding a new emphasis on live music and is redesigning its restaurants to accommodate the changing tastes. Since Eric Clapton hung his guitar on the wall to mark his favorite bar stool, Hard Rock has become the world’s leading collector and exhibitor of rock ‘n’ roll memorabilia, with changing exhibits at its cafes throughout the world. The collection includes 70,000 pieces, valued at $40 million. In keeping with the times, Hard Rock also maintains a Web site, www.hardrock.com, which receives over 100,000 hits per week, and a weekly cable television 01/12/15 2:19 PM 26 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT program on VH1. Hard Rock’s brand recognition, at 92%, is one of the highest in the world. Discussion Questions* 1. From your knowledge of restaurants, from the video, from the Global Company Profile that opens this chapter, and from the case itself, identify how each of the 10 OM strategy decisions is applied at Hard Rock Cafe. 2. How would you determine the productivity of the kitchen staff and waitstaff at Hard Rock? 3. How are the 10 OM strategy decisions different when applied to the operations manager of a service operation such as Hard Rock versus an automobile company such as Ford Motor Company? *You may wish to view the video that accompanies this case before addressing these questions. • Additional Case Study: Visit MyOMLab for these case studies: National Air Express: Introduces the issue of productivity, productivity improvement, and measuring productivity. Zychol Chemicals Corp.: The production manager must prepare a productivity report, which includes multifactor analysis. Endnotes 1. Efficiency means doing the job well—with a minimum of resources and waste. Note the distinction between being efficient, which implies doing the job well, and effective, which means doing the right thing. A job well done—say, by applying the 10 strategic decisions of operations management—helps us M01_HEIZ0422_12_SE_C01.indd 26 be efficient; developing and using the correct strategy helps us be effective. 2. U.S. Dept. of Labor, 2015: www.bls.gov/lpc/ 3. The quality and time period are assumed to remain constant. 01/12/15 2:19 PM Main Heading WHAT IS OPERATIONS MANAGEMENT? Review Material j j (p. 4) ORGANIZING TO PRODUCE GOODS AND SERVICES (pp. 4–6) THE SUPPLY CHAIN Production—The creation of goods and services Operations management (OM)—Activities that relate to the creation of goods and services through the transformation of inputs to outputs MyOMLab Concept Questions: 1.1–1.4 VIDEOS 1.1 and 1.2 OM at Hard Rock OM at Frito-Lay All organizations perform three functions to create goods and services: 1. Marketing, which generates demand 2. Production/operations, which creates the product 3. Finance/accounting, which tracks how well the organization is doing, pays the bills, and collects the money Concept Questions: 2.1–2.4 Supply chain—A global network of organizations and activities that supply a firm with goods and services Concept Questions: 3.1–3.4 j (p. 6) WHY STUDY OM? We study OM for four reasons: 1. To learn how people organize themselves for productive enterprise 2. To learn how goods and services are produced 3. To understand what operations managers do 4. Because OM is a costly part of an organization Concept Questions: 4.1–4.2 WHAT OPERATIONS MANAGERS DO Ten OM strategic decisions are required of operations managers: Concept Questions: 5.1–5.4 (pp. 6–7) (pp. 7–8) 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. Design of goods and services Managing quality Process strategy Location strategies Layout strategies Human resources Supply chain management Inventory management Scheduling Maintenance Rapid Review 1 Chapter 1 Rapid Review About 40% of all jobs are in OM. Operations managers possess job titles such as plant manager, quality manager, process improvement consultant, and operations analyst. THE HERITAGE OF OPERATIONS MANAGEMENT (pp. 8–10) OPERATIONS FOR GOODS AND SERVICES Significant events in modern OM can be classified into six eras: 1. Early concepts (1776–1880)—Labor specialization (Smith, Babbage), standardized parts (Whitney) 2. Scientific management (1880–1910)—Gantt charts (Gantt), motion and time studies (Gilbreth), process analysis (Taylor), queuing theory (Erlang) 3. Mass production (1910–1980)—Assembly line (Ford/Sorensen), statistical sampling (Shewhart), economic order quantity (Harris), linear programming (Dantzig), PERT/CPM (DuPont), material requirements planning 4. Lean production (1980–1995)—Just-in-time, computer-aided design, electronic data interchange, total quality management, Baldrige Award, empowerment, kanbans 5. Mass customization (1995–2005)—Internet/e-commerce, enterprise resource planning, international quality standards, finite scheduling, supply-chain management, mass customization, build-to-order, radio frequency identification (RFID) 6. Globalization era (2005–2020)—Global supply chains, growth of transnational organizations, instant communications, sustainability, ethics in a global work force, logistics and shipping Concept Questions: 6.1–6.4 Services—Economic activities that typically produce an intangible product (such as education, entertainment, lodging, government, financial, and health services). Almost all services and almost all goods are a mixture of a service and a tangible product. Service sector—The segment of the economy that includes trade, financial, lodging, education, legal, medical, and other professional occupations. Services now constitute the largest economic sector in postindustrial societies. The huge productivity increases in agriculture and manufacturing have allowed more of our economic resources to be devoted to services. Many service jobs pay very well. Concept Questions: 7.1–7.4 j (pp. 11–13) j M01_HEIZ0422_12_SE_C01.indd 27 01/12/15 2:19 PM Rapid Review 1 Chapter 1 Rapid Review continued Main Heading THE PRODUCTIVITY CHALLENGE (pp. 13–18) MyOMLab Review Material j Productivity—The ratio of outputs (goods and services) divided by one or more inputs (such as labor, capital, or management) High production means producing many units, while high productivity means producing units efficiently. Problems: 1.1–1.17 Only through increases in productivity can the standard of living of a country improve. U.S. productivity has averaged a 2.5% increase per year for over a century. Single@factor productivity = j j Units produced Input used Concept Questions: 8.1–8.4 Virtual Office Hours for Solved Problems: 1.1, 1.2 (1-1) Single-factor productivity—Indicates the ratio of goods and services produced (outputs) to one resource (input). Multifactor productivity—Indicates the ratio of goods and services produced (outputs) to many or all resources (inputs). Multifactor productivity = Output Labor + Material + Energy + Capital + Miscellaneous (1-2) Measurement problems with productivity include: (1) the quality may change, (2) external elements may interfere, and (3) precise units of measure may be lacking. j j Productivity variables—The three factors critical to productivity improvement are labor (10%), capital (38%), and management (52%). Knowledge society—A society in which much of the labor force has migrated from manual work to work based on knowledge CURRENT CHALLENGES IN OPERATIONS MANAGEMENT Some of the current challenges for operations managers include: j Global focus; international collaboration j Supply chain partnering; joint ventures; alliances j Sustainability; green products; recycle, reuse j Rapid product development; design collaboration j Mass customization; customized products j Lean operations; continuous improvement and elimination of waste Concept Questions: 9.1–9.4 ETHICS, SOCIAL RESPONSIBILITY, AND SUSTAINABILITY Among the many ethical challenges facing operations managers are (1) efficiently developing and producing safe, quality products; (2) maintaining a clean environment; (3) providing a safe workplace; and (4) honoring stakeholder commitments. j Stakeholders—Those with a vested interest in an organization Concept Question: 10.1 (pp. 18–19) (p. 19) Self Test j Before taking the self-test, refer to the learning objectives listed at the beginning of the chapter and the key terms listed at the end of the chapter. LO 1.1 Productivity increases when: a) inputs increase while outputs remain the same. b) inputs decrease while outputs remain the same. c) outputs decrease while inputs remain the same. d) inputs and outputs increase proportionately. e) inputs increase at the same rate as outputs. LO 1.4 Single-factor productivity: a) remains constant. b) is never constant. c) usually uses labor as a factor. d) seldom uses labor as a factor. e) uses management as a factor. LO 1.2 Services often: a) are tangible. b) are standardized. c) are knowledge based. d) are low in customer interaction. e) have consistent product definition. LO 1.3 Productivity: a) can use many factors as the numerator. b) is the same thing as production. c) increases at about 0.5% per year. d) is dependent upon labor, management, and capital. e) is the same thing as effectiveness. LO 1.5 Multifactor productivity: a) remains constant. b) is never constant. c) usually uses substitutes as common variables for the factors of production. d) seldom uses labor as a factor. e) always uses management as a factor. LO 1.6 Productivity increases each year in the U.S. are a result of three factors: a) labor, capital, management b) engineering, labor, capital c) engineering, capital, quality control d) engineering, labor, data processing e) engineering, capital, data processing Answers: LO 1.1. b; LO 1.2. c; LO 1.3. d; LO 1.4. c; LO 1.5. c; LO 1.6. a. M01_HEIZ0422_12_SE_C01.indd 28 01/12/15 2:19 PM GLOBAL COMPANY PROFILE: Boeing ◆ A Global View of Operations and Supply Chains 32 ◆ Developing Missions and Strategies 35 ◆ Achieving Competitive Advantage Through Operations 36 ◆ Issues in Operations Strategy 40 ◆ ◆ ◆ Strategy Development and Implementation 41 Strategic Planning, Core Competencies, and Outsourcing 44 Global Operations Strategy Options 49 Alaska Airlines CHAPTER OUTLINE 2 C H A P T E R Operations Strategy in a Global Environment 29 M02_HEIZ0422_12_SE_C02.indd 29 03/11/15 5:32 PM C H A P T E R 2 Boeing’s Global Supply-Chain Strategy Yields Competitive Advantage GLOBAL COMPANY PROFILE Boeing B oeing’s strategy for its 787 Dreamliner is unique for its technologically advanced product design and vast global supply chain. The Dreamliner incorporates the latest in a wide range of aerospace technologies, from airframe and engine design to super-lightweight titanium-graphite laminate and carbon-fiber Peter Carey/Alamy Dan Lamont/Alamy composites. The electronic monitoring system that allows the airplane to report maintenance With the 787’s state-of-the-art design, more spacious interior, and global suppliers, Boeing has garneredd recordd sales l worldwide. ld id Some of the International Suppliers of Boeing 787 Components requirements in real time to ground-based computer systems is another product innova- SUPPLIER HQ COUNTRY COMPONENT tion. Boeing’s collaboration with General Electric Latecoere Labinel Dassault France France France and Rolls-Royce has resulted in the develop- Messier-Bugatti Thales Messier-Dowty Diehl Cobham Rolls-Royce Smiths Aerospace BAE Systems Alenia Aeronautica Toray Industries Fuji Heavy Industries Kawasaki Heavy Ind. Teijin Seiki Mitsubishi Heavy Ind. Chengdu Aircraft Hafei Aviation Korean Airlines Saab France France France Germany UK UK UK UK Italy Japan Japan Japan Japan Japan China China South Korea Sweden Passenger doors Wiring Design and product life cycle management software Electric brakes Electrical power conversion system Landing gear structure Interior lighting Fuel pumps and valves Engines Central computer system Electronics Upper center fuselage Carbon fiber for wing and tail units Center wing box Forward fuselage, fixed sections of wing Hydraulic actuators Wing box Rudder Parts Wingtips Cargo and access doors ment of more efficient engines and an emissions reduction of 20%. The advances in engine technology contribute as much as 8% of the increased fuel/payload efficiency of the new airplane, representing a nearly two-generation jump in technology. Boeing’s design group at its Everett, Washington, facility led an international team of aerospace companies in development of this state-of-the-art plane. Technologically advanced design, new manufacturing processes, and a committed international supply chain have helped Boeing and its partners achieve unprecedented levels of performance in design and manufacture. 30 M02_HEIZ0422_12_SE_C02.indd 30 03/11/15 5:32 PM Copyright Boeing Tim Kelly/Reuters State-of-the-art composite sections of the 787 are built around the world and shipped to Boeing for final assembly. Components from Boeing’s worldwide supply chain come together on assembly lines in Everett, Washington, and Charleston, South Carolina. Although components come from throughout the world, about 35% of the 787 structure comes from Japanese companies. The 787 is global not only because it has a range of of these suppliers developed technologies, design concepts, 8,300 miles, but also because it is built all over the world. and major systems for the 787. Some of them are shown With a huge financial commitment of over $5 billion, Boeing in the table. The partners brought commitment to the table. needed partners. The global nature of both the technology The expectation is that countries that have a stake in the and the aircraft market meant finding exceptional engineering Dreamliner are more likely to buy from Boeing than from its talent and suppliers, wherever they might be. It also meant European competitor, Airbus. developing a culture of collaboration and integration with Japanese companies are producing over 35% of the firms willing to step up to the risk associated with this revolu- project, and Italy’s Alenia Aeronautica is building an addi- tionary and very expensive new product. tional 10% of the plane. State-of-the-art technology, multinational aircraft certi- The innovative Dreamliner, with its global range and worldwide supply chain, is setting new levels of operational and logistical challenges all added to the supply chain risk. efficiency. As a result, it is the fastest-selling commercial jet In the end, Boeing accepted the challenge of teaming with in history with over 1,100 planes sold. Boeing’s Dreamliner more than 300 suppliers in over a dozen countries. Twenty reflects the global nature of business in the 21st century. Copyright Boeing fications, the cross-culture nature of the communications, Boeing’s collaborative technology enables a “virtual workspace” that allows Everett, Washington-based engineers, as well as partners in Australia, Japan, Italy, Canada, and across the United States, to make concurrent design changes to the airplane in real time. Digitally designing, building, and testing before production not only reduces design time and errors, but also improves efficiencies in component manufacturing and assembly. 31 M02_HEIZ0422_12_SE_C02.indd 31 03/11/15 5:32 PM L E A RNING OBJECTIVES LO 2.1 Define mission and strategy 36 LO 2.2 Identify and explain three strategic approaches to competitive advantage 36 LO 2.3 Understand the significance of key success factors and core competencies 42 LO 2.4 Use factor rating to evaluate both country and outsource providers 47 LO 2.5 Identify and explain four global operations strategy options 49 A Global View of Operations and Supply Chains Today’s successful operations manager has a global view of operations strategy. Since the early 1990s, nearly 3 billion people in developing countries have overcome the cultural, religious, ethnic, and political barriers that constrain productivity. And now they are all players on the global economic stage. As these barriers disappear, simultaneous advances are being made in technology, reliable shipping, and inexpensive communication. These changes mean that, increasingly, firms find their customers and suppliers located around the world. The unsurprising result is the growth of world trade (see Figure 2.1), global capital markets, and the international movement of people. This means increasing economic integration and interdependence of countries—in a word, globalization. In response, organizations are hastily extending their distribution channels and supply chains globally. The result is innovative strategies where firms compete not just with their own expertise but with the talent in their entire global supply chain. For instance: ◆ ◆ ◆ ◆ ◆ 2.1 Growth of World Trade as a Percent of World GDP Sources: World Bank; World Trade Organization; and IMF. 70 World trade as a % of world GDP Figure Boeing is competitive because both its sales and supply chain are worldwide. Italy’s Benetton moves inventory to stores around the world faster than its competition with rapid communication and by building exceptional flexibility into design, production, and distribution. Sony purchases components from a supply chain that extends to Thailand, Malaysia, and elsewhere around the world for assembly of its electronic products, which in turn are distributed around the world. Volvo, considered a Swedish company, was purchased by a Chinese company, Geely. But the current Volvo S40 is assembled in Belgium, South Africa, Malaysia, and China, on a platform shared with the Mazda 3 (built in Japan) and the Ford Focus (built in Europe). China’s Haier (pronounced “higher”) is now producing compact refrigerators (it has onethird of the U.S. market) and refrigerated wine cabinets (it has half of the U.S. market) in South Carolina. 60 50 40 30 20 10 0 1970 1980 1990 2000 2010 2020 Year 32 M02_HEIZ0422_12_SE_C02.indd 32 03/11/15 5:32 PM CHAP T ER 2 | OPERATIONS STRATEGY IN A GLOBAL ENVIRONMENT 33 Globalization means customers, talent, and suppliers are worldwide. The new standards of global competitiveness impact quality, variety, customization, convenience, timeliness, and cost. Globalization strategies contribute efficiency, adding value to products and services, but they also complicate the operations manager’s job. Complexity, risk, and competition are intensified, forcing companies to adjust for a shrinking world. We have identified six reasons domestic business operations decide to change to some form of international operation. They are: 1. 2. 3. 4. 5. 6. Improve the supply chain. Reduce costs and exchange rate risk. Improve operations. Understand markets. Improve products. Attract and retain global talent. Let us examine, in turn, each of the six reasons. Improve the Supply Chain The supply chain can often be improved by locating facilities in countries where unique resources are available. These resources may be human resource expertise, low-cost labor, or raw material. For example, auto-styling studios from throughout the world have migrated to the auto mecca of southern California to ensure the necessary expertise in contemporary auto design. Similarly, world athletic shoe production has migrated from South Korea to Guangzhou, China; this location takes advantage of the low-cost labor and production competence in a city where 40,000 people work making athletic shoes for the world. And a perfume manufacturer wants a presence in Grasse, France, where much of the world’s perfume essences are prepared from the flowers of the Mediterranean. Reduce Costs and Exchange Rate Risk Many international operations seek to reduce risks associated with changing currency values (exchange rates) as well as take advantage of the tangible opportunities to reduce their direct costs. (See the OM in Action box “U.S. Cartoon Production at Home in Manila.”) Less stringent government regulations on a wide variety of operations practices (e.g., environmental control, health and safety) can also reduce indirect costs. Shifting low-skilled jobs to another country has several potential advantages. First, and most obviously, the firm may reduce costs. Second, moving the lower-skilled jobs to a lowercost location frees higher-cost workers for more valuable tasks. Third, reducing wage costs allows the savings to be invested in improved products and facilities (and the retraining of existing workers, if necessary) at the home location. Finally, having facilities in countries with different currencies can allow firms to finesse currency risk (and related costs) as economic conditions dictate. U.S. Cartoon Production at Home in Manila Fred Flintstone is not from Bedrock. He is actually from Manila, capital of the Philippines. So are Tom and Jerry, Aladdin, and Donald Duck. More than 90% of American television cartoons are produced in Asia and India, with the Philippines leading the way. With their natural advantage of English as an official language and a strong familiarity with U.S. culture, animation companies in Manila now employ more than 1,700 people. Filipinos understand Western culture, and “you need to have a group of artists that can understand the humor that goes with it,” says Bill Dennis, a Hanna-Barbera executive. Major studios like Disney, Marvel, Warner Brothers, and Hanna-Barbera send storyboards—cartoon action outlines—and voice tracks to the Philippines. M02_HEIZ0422_12_SE_C02.indd 33 Artists there draw, paint, and film about 20,000 sketches for a 30-minute episode. The cost of $130,000 to produce an episode in the Philippines compares with $160,000 in Korea and $500,000 in the United States. Sources: Animation Insider (March 30, 2011); The New York Times (February 26, 2004): and The Wall Street Journal (August 9, 2005). artisticco/Fotolia OM in Action 03/11/15 5:32 PM 34 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Maquiladoras Mexican factories located along the U.S.–Mexico border that receive preferential tariff treatment. World Trade Organization (WTO) An international organization that promotes world trade by lowering barriers to the free flow of goods across borders. North American Free Trade Agreement (NAFTA) A free trade agreement between Canada, Mexico, and the United States. European Union (EU) A European trade group that has 28 member states. The United States and Mexico have created maquiladoras (free trade zones) that allow manufacturers to cut their costs by paying only for the value added by Mexican workers. If a U.S. manufacturer, such as Caterpillar, brings a $1,000 engine to a maquiladora operation for assembly work costing $200, tariff duties will be charged only on the $200 of work performed in Mexico. Trade agreements also help reduce tariffs and thereby reduce the cost of operating facilities in foreign countries. The World Trade Organization (WTO) has helped reduce tariffs from 40% in 1940 to less than 3% today. Another important trade agreement is the North American Free Trade Agreement (NAFTA). NAFTA seeks to phase out all trade and tariff barriers among Canada, Mexico, and the U.S. Other trade agreements that are accelerating global trade include APEC (the Pacific Rim countries), SEATO (Australia, New Zealand, Japan, Hong Kong, South Korea, New Guinea, and Chile), MERCOSUR (Argentina, Brazil, Paraguay, and Uruguay), and CAFTA (Central America, Dominican Republic, and United States). Another trading group is the European Union (EU).1 The European Union has reduced trade barriers among the participating European nations through standardization and a common currency, the euro. However, this major U.S. trading partner, with over 500 million people, is also placing some of the world’s most restrictive conditions on products sold in the EU. Everything from recycling standards to automobile bumpers to hormone-free farm products must meet EU standards, complicating international trade. Operations learn from better understanding of management innovations in different countries. For instance, the Japanese have improved inventory management, the Germans are aggressively using robots, and the Scandinavians have contributed to improved ergonomics throughout the world. Another reason to have international operations is to reduce response time to meet customers’ changing product and service requirements. Customers who purchase goods and services from U.S. firms are increasingly located in foreign countries. Providing them with quick and adequate service is often improved by locating facilities in their home countries. Improve Operations Understand Markets Because international operations require interaction with foreign customers, suppliers, and other competitive businesses, international firms inevitably learn about opportunities for new products and services. Europe led the way with cell phone innovations, and then the Japanese and Indians led with cell phone fads. Knowledge of markets not only helps firms understand where the market is going but also helps firms diversify their customer base, add production flexibility, and smooth the business cycle. Another reason to go into foreign markets is the opportunity to expand the life cycle (i.e., stages a product goes through; see Chapter 5) of an existing product. While some products in the U.S. are in a “mature” stage of their product life cycle, they may represent state-of-the-art products in less-developed countries. Learning does not take place in isolation. Firms serve themselves and their customers well when they remain open to the free flow of ideas. For example, Toyota and BMW will manage joint research and share development costs on battery research for the next generation of green cars. Their relationship also provides Toyota with BMW’s highly regarded diesel engines for its European market, where diesel-powered vehicles make up more than half of the market. The payoff is reduced risk in battery development for both, a state-of-the-art diesel engine for Toyota in Europe, and lower per-unit diesel engine cost for BMW. Similarly, international learning in operations is taking place as South Korea’s Samsung and Germany’s Robert Bosch join to produce lithium-ion batteries to the benefit of both. Improve Products Global organizations can attract and retain better employees by offering more employment opportunities. They need people in all functional areas and areas of expertise worldwide. Global firms can recruit and retain good employees because they provide both greater growth opportunities and insulation against Attract and Retain Global Talent M02_HEIZ0422_12_SE_C02.indd 34 03/11/15 5:32 PM CHAP T ER 2 | OPERATIONS STRATEGY IN A GLOBAL ENVIRONMENT 35 Kraipit Phanvut/Sipa Press A worldwide strategy places added burdens on operations management. Because of economic and lifestyle differences, designers must target products to each market. For instance, clothes washers sold in northern countries must spin-dry clothes much better than those in warmer climates, where consumers are likely to line-dry them. Similarly, as shown here, Whirlpool refrigerators sold in Bangkok are manufactured in bright colors because they are often put in living rooms. unemployment during times of economic downturn. During economic downturns in one country or continent, a global firm has the means to relocate unneeded personnel to more prosperous locations. So, to recap, successfully achieving a competitive advantage in our shrinking world means maximizing all the possible opportunities, from tangible to intangible, that international operations can offer. Cultural and Ethical Issues While there are great forces driving firms toward globalization, many challenges remain. One of these challenges is reconciling differences in social and cultural behavior. With issues ranging from bribery, to child labor, to the environment, managers sometimes do not know how to respond when operating in a different culture. What one country’s culture deems acceptable may be considered unacceptable or illegal in another. It is not by chance that there are fewer female managers in the Middle East than in India. In the last decade, changes in international laws, agreements, and codes of conduct have been applied to define ethical behavior among managers around the world. The WTO, for example, helps to make uniform the protection of both governments and industries from foreign firms that engage in unethical conduct. Even on issues where significant differences between cultures exist, as in the area of bribery or the protection of intellectual property, global uniformity is slowly being accepted by most nations. Despite cultural and ethical differences, we live in a period of extraordinary mobility of capital, information, goods, and even people. We can expect this to continue. The financial sector, the telecommunications sector, and the logistics infrastructure of the world are healthy institutions that foster efficient and effective use of capital, information, and goods. Globalization, with all its opportunities and risks, is here. It must be embraced as managers develop their missions and strategies. Developing Missions and Strategies An effective operations management effort must have a mission so it knows where it is going and a strategy so it knows how to get there. This is the case for a small domestic organization as well as a large international organization. M02_HEIZ0422_12_SE_C02.indd 35 STUDENT TIP Getting an education and managing an organization both require a mission and strategy. 03/11/15 5:32 PM 36 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Mission Mission The purpose or rationale for an organization’s existence. LO 2.1 Define mission and strategy Economic success, indeed survival, is the result of identifying missions to satisfy a customer’s needs and wants. We define the organization’s mission as its purpose—what it will contribute to society. Mission statements provide boundaries and focus for organizations and the concept around which the firm can rally. The mission states the rationale for the organization’s existence. Developing a good strategy is difficult, but it is much easier if the mission has been well defined. Figure 2.2 provides examples of mission statements. Once an organization’s mission has been decided, each functional area within the firm determines its supporting mission. By functional area we mean the major disciplines required by the firm, such as marketing, finance/accounting, and production/operations. Missions for each function are developed to support the firm’s overall mission. Then within that function lower-level supporting missions are established for the OM functions. Figure 2.3 provides such a hierarchy of sample missions. Strategy Strategy How an organization expects to achieve its missions and goals. LO 2.2 Identify and explain three strategic approaches to competitive advantage VIDEO 2.1 Operations Strategy at Regal Marine With the mission established, strategy and its implementation can begin. Strategy is an organization’s action plan to achieve the mission. Each functional area has a strategy for achieving its mission and for helping the organization reach the overall mission. These strategies exploit opportunities and strengths, neutralize threats, and avoid weaknesses. In the following sections, we will describe how strategies are developed and implemented. Firms achieve missions in three conceptual ways: (1) differentiation, (2) cost leadership, and (3) response. This means operations managers are called on to deliver goods and services that are (1) better, or at least different, (2) cheaper, and (3) more responsive. Operations managers translate these strategic concepts into tangible tasks to be accomplished. Any one or combination of these three strategic concepts can generate a system that has a unique advantage over competitors. Achieving Competitive Advantage Through Operations Competitive advantage The creation of a unique advantage over competitors. Figure 2.2 Mission Statements for Three Organizations Source: Mission statement from Merck. Copyright © by Merck & Co., Inc. Reprinted with permission. Each of the three strategies provides an opportunity for operations managers to achieve competitive advantage. Competitive advantage implies the creation of a system that has a unique advantage over competitors. The idea is to create customer value in an efficient and sustainable way. Pure forms of these strategies may exist, but operations managers will more likely Merck The mission of Merck is to provide society with superior products and services—innovations and solutions that improve the quality of life and satisfy customer needs—to provide employees with meaningful work and advancement opportunities and investors with a superior rate of return. PepsiCo Our mission is to be the world's premier consumer products company focused on convenient foods and beverages. We seek to produce financial rewards to investors as we provide opportunities for growth and enrichment to our employees, our business partners and the communities in which we operate. And in everything we do, we strive for honesty, fairness and integrity. Arnold Palmer Hospital Arnold Palmer Hospital for Children provides state of the art, family-centered healthcare focused on restoring the joy of childhood in an environment of compassion, healing, and hope. M02_HEIZ0422_12_SE_C02.indd 36 03/11/15 5:32 PM CHAP T ER 2 | 37 OPERATIONS STRATEGY IN A GLOBAL ENVIRONMENT Sample Company Mission To manufacture and service an innovative, growing, and profitable worldwide microwave communications business that exceeds our customers’ expectations. Figure 2.3 Sample Missions for a Company, the Operations Function, and Major OM Departments Sample Operations Management Mission To produce products consistent with the company’s mission as the worldwide low-cost manufacturer. Sample OM Department Missions Product design To design and produce products and services with outstanding quality and inherent customer value. Quality management To attain the exceptional value that is consistent with our company mission and marketing objectives by close attention to design, supply chain, production, and field service opportunities. Process design To determine, design, and develop the production process and equipment that will be compatible with low-cost product, high quality, and a good quality of work life. Location To locate, design, and build efficient and economical facilities that will yield high value to the company, its employees, and the community. Layout design To achieve, through skill, imagination, and resourcefulness in layout and work methods, production effectiveness and efficiency while supporting a high quality of work life. Human resources To provide a good quality of work life, with well-designed, safe, rewarding jobs, stable employment, and equitable pay, in exchange for outstanding individual contribution from employees at all levels. Supply-chain management To collaborate with suppliers to develop innovative products from stable, effective, and efficient sources of supply. Inventory To achieve low investment in inventory consistent with high customer service levels and high facility utilization. Scheduling To achieve high levels of throughput and timely customer delivery through effective scheduling. Maintenance To achieve high utilization of facilities and equipment by effective preventive maintenance and prompt repair of facilities and equipment. be called on to implement some combination of them. Let us briefly look at how managers achieve competitive advantage via differentiation, low cost, and response. Competing on Differentiation Safeskin Corporation is number one in latex exam gloves because it has differentiated itself and its products. It did so by producing gloves that were designed to prevent allergic reactions about which doctors were complaining. When other glove makers caught up, Safeskin developed hypoallergenic gloves. Then it added texture to its gloves. Then it developed a synthetic disposable glove for those allergic to latex—always staying ahead of the competition. Safeskin’s strategy is to develop a reputation for designing and producing reliable state-of-the-art gloves, thereby differentiating itself. Differentiation is concerned with providing uniqueness. A firm’s opportunities for creating uniqueness are not located within a particular function or activity but can arise in virtually everything the firm does. Moreover, because most products include some service, and most services M02_HEIZ0422_12_SE_C02.indd 37 STUDENT TIP For many organizations, the operations function provides the competitive advantage. 03/11/15 5:32 PM 38 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Differentiation Distinguishing the offerings of an organization in a way that the customer perceives as adding value. Experience differentiation Engaging a customer with a product through imaginative use of the five senses, so the customer “experiences” the product. VIDEO 2.2 Hard Rock’s Global Strategy include some product, the opportunities for creating this uniqueness are limited only by imagination. Indeed, differentiation should be thought of as going beyond both physical characteristics and service attributes to encompass everything about the product or service that influences the value that the customers derive from it. Therefore, effective operations managers assist in defining everything about a product or service that will influence the potential value to the customer. This may be the convenience of a broad product line, product features, or a service related to the product. Such services can manifest themselves through convenience (location of distribution centers, stores, or branches), training, product delivery and installation, or repair and maintenance services. In the service sector, one option for extending product differentiation is through an experience. Differentiation by experience in services is a manifestation of the growing “experience economy.” The idea of experience differentiation is to engage the customer—to use people’s five senses so they become immersed, or even an active participant, in the product. Disney does this with the Magic Kingdom. People no longer just go on a ride; they are immersed in the Magic Kingdom—surrounded by dynamic visual and sound experiences that complement the physical ride. Some rides further engage the customer with changing air flow and smells, as well as having them steer the ride or shoot at targets or villains. Even movie theaters are moving in this direction with surround sound, moving seats, changing “smells,” and mists of “rain,” as well as multimedia inputs to story development. Theme restaurants, such as Hard Rock Cafe, likewise differentiate themselves by providing an “experience.” Hard Rock engages the customer with classic rock music, big-screen rock videos, memorabilia, and staff who can tell stories. In many instances, a full-time guide is available to explain the displays, and there is always a convenient retail store so the guest can take home a tangible part of the experience. The result is a “dining experience” rather than just a meal. In a less dramatic way, both Starbucks and your local supermarket deliver an experience when they provide music and the aroma of fresh coffee or freshly baked bread. Competing on Cost Low-cost leadership Achieving maximum value, as perceived by the customer. M02_HEIZ0422_12_SE_C02.indd 38 Southwest Airlines has been a consistent moneymaker while other U.S. airlines have lost billions. Southwest has done this by fulfilling a need for low-cost and short-hop flights. Its operations strategy has included use of secondary airports and terminals, first-come, first-served seating, few fare options, smaller crews flying more hours, snacks-only or no-meal flights, and no downtown ticket offices. In addition, and less obviously, Southwest has very effectively matched capacity to demand and effectively utilized this capacity. It has done this by designing a route structure that matches the capacity of its Boeing 737, the only plane in its fleet. Second, it achieves more air miles than other airlines through faster turnarounds—its planes are on the ground less. One driver of a low-cost strategy is a facility that is effectively utilized. Southwest and others with low-cost strategies understand this and use financial resources effectively. Identifying the optimum size (and investment) allows firms to spread overhead costs, providing a cost advantage. For instance, Walmart continues to pursue its low-cost strategy with superstores, open 24 hours a day. For 20 years, it has successfully grabbed market share. Walmart has driven down store overhead costs, shrinkage, and distribution costs. Its rapid transportation of goods, reduced warehousing costs, and direct shipment from manufacturers have resulted in high inventory turnover and made it a low-cost leader. Likewise, Franz Colruyt, a Belgian discount food retailer, is also an aggressive cost cutter. Colruyt cuts overhead by using converted factory warehouses, movie theaters, and garages as outlets. Customers find no background music, shopping bags, or bright lights: all have been eliminated to cut costs. Walmart and Colruyt are winning with a low-cost strategy. Low-cost leadership entails achieving maximum value as defined by your customer. It requires examining each of the 10 OM decisions in a relentless effort to drive down costs while meeting customer expectations of value. A low-cost strategy does not imply low value or low quality. 03/11/15 5:32 PM CHAP T ER 2 | OPERATIONS STRATEGY IN A GLOBAL ENVIRONMENT 39 Competing on Response The third strategy option is response. Response is often thought of as flexible response, but it also refers to reliable and quick response. Indeed, we define response as including the entire range of values related to timely product development and delivery, as well as reliable scheduling and flexible performance. Flexible response may be thought of as the ability to match changes in a marketplace where design innovations and volumes fluctuate substantially. Hewlett-Packard is an exceptional example of a firm that has demonstrated flexibility in both design and volume changes in the volatile world of personal computers. HP’s products often have a life cycle of months, and volume and cost changes during that brief life cycle are dramatic. However, HP has been successful at institutionalizing the ability to change products and volume to respond to dramatic changes in product design and costs—thus building a sustainable competitive advantage. The second aspect of response is the reliability of scheduling. One way the German machine industry has maintained its competitiveness despite having the world’s highest labor costs is through reliable response. This response manifests itself in reliable scheduling. German machine firms have meaningful schedules—and they perform to these schedules. Moreover, the results of these schedules are communicated to the customer, and the customer can, in turn, rely on them. Consequently, the competitive advantage generated through reliable response has value to the end customer. The third aspect of response is quickness. Johnson Electric Holdings, Ltd., with headquarters in Hong Kong, makes 83 million tiny motors each month. The motors go in cordless tools, household appliances, and personal care items such as hair dryers; dozens are found in each automobile. Johnson’s major competitive advantage is speed: speed in product development, speed in production, and speed in delivery. Whether it is a production system at Johnson Electric or a pizza delivered in 5 minutes by Pizza Hut, the operations manager who develops systems that respond quickly can have a competitive advantage. In practice, differentiation, low cost, and response can increase productivity and generate a sustainable competitive advantage. Proper implementation of the ten decisions by operations managers (see Figure 2.4) will allow these advantages to be achieved. 10 Operations Decisions Product Quality Process Strategy Example DIFFERENTIATION: Innovative design . . . . . . . . . . . . . . . . . . . . . . . Safeskin’s innovative gloves Broad product line . . . . . . . . . . . . . . . . . . . . .Fidelity Security’s mutual funds After-sales service . . . . . . . . . . . . . . . . Caterpillar’s heavy equipment service Experience . . . . . . . . . . . . . . . . . . . . . . . . . Hard Rock Cafe’s dining experience Location Layout Human resources Supply chain COST LEADERSHIP: Low overhead . . . . . . . . . . . . . . . . . . . . . Franz-Colruyt’s warehouse-type stores Effective capacity use . . . . . . . . . . . . Southwest Airlines' high aircraft utilization Inventory management . . . . . . . . . . Walmart's sophisticated distribution system Inventory Scheduling Maintenance Figure Response A set of values related to rapid, flexible, and reliable performance. Competitive Advantage Differentiation (better) Cost leadership (cheaper) Response (faster) RESPONSE: Flexibility . . . . . . . . . . . . . Hewlett-Packard’s response to volatile world market Reliability . . . . . . . . . . . . . . . . . . . . . . . FedEx’s “absolutely, positively on time” Quickness . . . . . . . . . . . . . Pizza Hut’s five-minute guarantee at lunchtime 2.4 Achieving Competitive Advantage Through Operations M02_HEIZ0422_12_SE_C02.indd 39 03/11/15 5:32 PM 40 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Darren Hauck/AP Images Response strategy wins orders at Super Fast Pizza. Using a wireless connection, orders are transmitted to $20,000 kitchens in vans. The driver, who works solo, receives a printed order, goes to the kitchen area, pulls premade pizzas from the cooler, and places them in the oven—it takes about 1 minute. The driver then delivers the pizza—sometimes even arriving before the pizza is ready. Issues in Operations Strategy Resources view A method managers use to evaluate the resources at their disposal and manage or alter them to achieve competitive advantage. Value-chain analysis A way to identify those elements in the product/service chain that uniquely add value. Five forces model A method of analyzing the five forces in the competitive environment. M02_HEIZ0422_12_SE_C02.indd 40 Whether the OM strategy is differentiation, cost, or response (as shown in Figure 2.4), OM is a critical player. Therefore, prior to establishing and attempting to implement a strategy, some alternate perspectives may be helpful. One perspective is to take a resources view. This means thinking in terms of the financial, physical, human, and technological resources available and ensuring that the potential strategy is compatible with those resources. Another perspective is Porter’s value-chain analysis.2 Value-chain analysis is used to identify activities that represent strengths, or potential strengths, and may be opportunities for developing competitive advantage. These are areas where the firm adds its unique value through product research, design, human resources, supply-chain management, process innovation, or quality management. Porter also suggests analysis of competitors via what he calls his five forces model.3 These potential competing forces are immediate rivals, potential entrants, customers, suppliers, and substitute products. In addition to the competitive environment, the operations manager needs to understand that the firm is operating in a system with many other external factors. These factors range from economic, to legal, to cultural. They influence strategy development and execution and require constant scanning of the environment. The firm itself is also undergoing constant change. Everything from resources, to technology, to product life cycles is in flux. Consider the significant changes required within the firm as its products move from introduction, to growth, to maturity, and to decline (see Figure 2.5). These internal changes, combined with external changes, require strategies that are dynamic. In this chapter’s Global Company Profile, Boeing provides an example of how strategy must change as technology and the environment change. Boeing can now build planes from carbon fiber, using a global supply chain. Like many other OM strategies, Boeing’s strategy has changed with technology and globalization. Microsoft has also had to adapt quickly to a changing environment. Faster processors, new computer languages, changing customer preferences, increased security issues, the Internet, the cloud, and Google have all driven changes at Microsoft. These forces have moved Microsoft’s product strategy from operating systems to office products, to Internet service provider, and now to integrator of computers, cell phones, games, and television via the cloud. The more thorough the analysis and understanding of both the external and internal factors, the more likely that a firm can find the optimum use of its resources. Once a firm understands itself and the environment, a SWOT analysis, which we discuss next, is in order. 03/11/15 5:32 PM CHAP T ER 2 Company Strategy / Issues Introduction | Growth Best period to increase market share Practical to change price or quality image R&D engineering is critical Strengthen niche 41 OPERATIONS STRATEGY IN A GLOBAL ENVIRONMENT Maturity Decline Poor time to change image, price, or quality Cost control critical Competitive costs become critical Defend market position Hybrid engine vehicles Boeing 787 Laptop computers Xbox One 3D printers DVDs Video physical rentals Electric vehicles Life Cycle Curve 3-D game players Apple SmartWatch OM Strategy / Issues Product design and development critical Frequent product and process design changes Short production runs High production costs Limited models Attention to quality Figure Forecasting critical Standardization Product and process reliability Fewer rapid product changes, more minor changes Competitive product improvements and options Optimum capacity Increase capacity Increasing stability of process Shift toward product focus Long production runs Enhance distribution Product improvement and cost cutting Little product differentiation Cost minimization Overcapacity in the industry Prune line to eliminate items not returning good margin Reduce capacity 2.5 Strategy and Issues During a Product’s Life Strategy Development and Implementation A SWOT analysis is a formal review of internal strengths and weaknesses and external opportunities and threats. Beginning with SWOT analyses, organizations position themselves, through their strategy, to have a competitive advantage. A firm may have excellent design skills or great talent at identifying outstanding locations. However, it may recognize limitations of its manufacturing process or in finding good suppliers. The idea is to maximize opportunities and minimize threats in the environment while maximizing the advantages of the organization’s strengths and minimizing the weaknesses. Any preconceived ideas about mission are then reevaluated to ensure they are consistent with the SWOT analysis. Subsequently, a strategy for achieving the mission is developed. This strategy is continually evaluated against the value provided customers and competitive realities. The process is shown in Figure 2.6. From this process, key success factors are identified. STUDENT TIP A SWOT analysis provides an excellent model for evaluating a strategy. SWOT analysis A method of determining internal strengths and weaknesses and external opportunities and threats. Key Success Factors and Core Competencies Because no firm does everything exceptionally well, a successful strategy requires determining the firm’s key success factors and core competencies. Key success factors (KSFs) are those activities that are necessary for a firm to achieve its goals. Key success factors can be so significant M02_HEIZ0422_12_SE_C02.indd 41 Key success factors (KSFs) Activities or factors that are key to achieving competitive advantage. 03/11/15 5:32 PM 42 PA RT 1 Figure 2.6 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Analyze the Environment Strategy Development Process Identify strengths, weaknesses, opportunities, and threats. Understand the environment, customers, industry, and competitors. Determine the Corporate Mission State the reason for the firm’s existence and identify the value it wishes to create. Form a Strategy Build a competitive advantage, such as low price, design or volume flexibility, quality, quick delivery, dependability, after-sale services, or broad product lines. Core competencies A set of skills, talents, and capabilities in which a firm is particularly strong. LO 2.3 Understand the significance of key success factors and core competencies that a firm must get them right to survive. A KSF for McDonald’s, for example, is layout. Without an effective drive-through and an efficient kitchen, McDonald’s cannot be successful. KSFs are often necessary, but not sufficient for competitive advantage. On the other hand, core competencies are the set of unique skills, talents, and capabilities that a firm does at a world-class standard. They allow a firm to set itself apart and develop a competitive advantage. Organizations that prosper identify their core competencies and nurture them. While McDonald’s KSFs may include layout, its core competency may be consistency and quality. Honda Motors’ core competence is gas-powered engines—engines for automobiles, motorcycles, lawn mowers, generators, snow blowers, and more. The idea is to build KSFs and core competencies that provide a competitive advantage and support a successful strategy and mission. A core competency may be the ability to perform the KSFs or a combination of KSFs. The operations manager begins this inquiry by asking: ◆ ◆ ◆ “What tasks must be done particularly well for a given strategy to succeed?” “Which activities provide a competitive advantage?” “Which elements contain the highest likelihood of failure, and which require additional commitment of managerial, monetary, technological, and human resources?” M02_HEIZ0422_12_SE_C02.indd 42 Water Pumps 4-Wheel Scooters Snow Blowers American Honda Motor Co., Inc. Race Cars American Honda Motor Co., Inc. Courtesy of www. HondaNews.com American Honda Motor Co., Inc. Motorcycles American Honda Motor Co., Inc. Marine Motors Generators American Honda Motor Co., Inc. Automobiles American Honda Motor Co., Inc. Honda’s core competence is the design and manufacture of gaspowered engines. This competence has allowed Honda to become a leader in the design and manufacture of a wide range of gas-powered products. Tens of millions of these products are produced and shipped around the world. Julie Lucht/Shutterstock Only by identifying and strengthening key success factors and core competencies can an organization achieve sustainable competitive advantage. In this text we focus on the 10 strategic OM decisions that typically include the KSFs. These decisions, plus major decision areas for marketing and finance, are shown in Figure 2.7. 03/11/15 5:32 PM CHAP T ER 2 | OPERATIONS STRATEGY IN A GLOBAL ENVIRONMENT Figure Support a Core Competency and Implement Strategy by Identifying and Executing the Key Success Factors in the Functional Areas Marketing Finance/Accounting Service Distribution Promotion Price Channels of distribution Product positioning (image, functions) 10 OM Decisions Product Quality Process Location Layout Human resources Supply chain Inventory Schedule Maintenance 43 2.7 Implement Strategy by Identifying and Executing Key Success Factors That Support Core Competencies Operations Leverage Cost of capital Working capital Receivables Payables Financial control Lines of credit Sample Options Customized or standardized; sustainability Define customer quality expectations and how to achieve them Facility design, capacity, how much automation Near supplier or near customer Work cells or assembly line Specialized or enriched jobs Single or multiple suppliers When to reorder; how much to keep on hand Stable or fluctuating production rate Repair as required or preventive maintenance Chapter 5,S5 6,S6 7,S7 8 9 10 11, S11 12,14,16 13,15 17 STUDENT TIP These 10 decisions are used to implement a specific strategy and yield a competitive advantage. Integrating OM with Other Activities Whatever the KSFs and core competencies, they must be supported by the related activities. One approach to identifying the activities is an activity map, which links competitive advantage, KSFs, and supporting activities. For example, Figure 2.8 shows how Southwest Airlines, whose core competency is operations, built a set of integrated activities to support its lowcost competitive advantage. Notice how the KSFs support operations and in turn are supported by other activities. The activities fit together and reinforce each other. In this way, all of the areas support the company’s objectives. For example, short-term scheduling in the airline industry is dominated by volatile customer travel patterns. Day-of-week preference, holidays, seasonality, college schedules, and so on all play roles in changing flight schedules. Consequently, airline scheduling, although an OM activity, is tied to marketing. Effective scheduling in the trucking industry is reflected in the amount of time trucks travel loaded. But maximizing the time trucks travel loaded requires the integration of information from deliveries completed, pickups pending, driver availability, truck maintenance, and customer priority. Success requires integration of all of these activities. The better the activities are integrated and reinforce each other, the more sustainable the competitive advantage. By focusing on enhancing its core competence and KSFs with a supporting set of activities, firms such as Southwest Airlines have built successful strategies. Activity map A graphical link of competitive advantage, KSFs, and supporting activities. Building and Staffing the Organization Once a strategy, KSFs, and the necessary integration have been identified, the second step is to group the necessary activities into an organizational structure. Then, managers must staff the organization with personnel who will get the job done. The manager works with subordinate managers to build plans, budgets, and programs that will successfully implement strategies that achieve missions. Firms tackle this organization of the operations function in a variety of M02_HEIZ0422_12_SE_C02.indd 43 03/11/15 5:32 PM 44 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT High employee compensation Hire for attitude, then train No seat assignments Automated “Bags fly free” and ticketing machines no baggage transfers Empowered employees Courteous but No meals Limited Passenger Service 20-minute gate turnarounds Short Haul, Point-toPoint Routes, Often to Secondary Airports Lean, Productive Employees High level of stock ownership Lower gate costs at secondary airports Competitive Advantage: Low Cost High Aircraft Utilization Maintenance personnel trained on only one type of aircraft Flexible employees/unions and standard planes aid scheduling Frequent, Reliable Schedules Standardized Fleet of Boeing 737 Aircraft Pilot training required on only one type of aircraft High number of flights reduces employee idle time between flights Saturate a city with flights, lowering administrative costs per passenger for that city Excellent supplier Reduced maintenance relations with inventory required Boeing have aided because only one financing type of aircraft is used Figure 2.8 Activity Mapping of Southwest Airlines’ Low-Cost Competitive Advantage To achieve a low-cost competitive advantage, Southwest has identified a number of key success factors (connected by red arrows) and support activities (shown by blue arrows). As this figure indicates, Southwest’s low-cost strategy is highly dependent on a very well-run operations function. ways. The organization charts shown in Chapter 1 (Figure 1.1) indicate the way some firms have organized to perform the required activities. The operations manager’s job is to implement an OM strategy, provide competitive advantage, and increase productivity. Implementing the 10 Strategic OM Decisions As mentioned earlier, the implementation of the 10 strategic OM decisions is influenced by a variety of issues—from missions and strategy to key success factors and core competencies— while addressing such issues as product mix, product life cycle, and competitive environment. Because each product brings its own mix of attributes, the importance and method of implementation of the 10 strategic OM decisions will vary. Throughout this text, we discuss how these decisions are implemented in ways that provide competitive advantage. How this might be done for two drug companies, one seeking competitive advantage via differentiation and the other via low cost, is shown in Table 2.1. Strategic Planning, Core Competencies, and Outsourcing Outsourcing Transferring a firm’s activities that have traditionally been internal to external suppliers. M02_HEIZ0422_12_SE_C02.indd 44 As organizations develop missions, goals, and strategies, they identify their strengths—what they do as well as or better than their competitors—as their core competencies. By contrast, non-core activities, which can be a sizable portion of an organization’s total business, are good candidates for outsourcing. Outsourcing is transferring activities that have traditionally been internal to external suppliers. Outsourcing is not a new concept, but it does add complexity and risk to the supply chain. Because of its potential, outsourcing continues to expand. The expansion is accelerating due to 03/11/15 5:32 PM CHAP T ER 2 TABLE 2.1 COMPETITIVE ADVANTAGE | OPERATIONS STRATEGY IN A GLOBAL ENVIRONMENT 45 Operations Strategies of Two Drug Companies* BRAND NAME DRUGS, INC. GENERIC DRUG CORP. PRODUCT DIFFERENTIATION STRATEGY LOW-COST STRATEGY Product selection and design Heavy R&D investment; extensive labs; focus on development in a broad range of drug categories Low R&D investment; focus on development of generic drugs Quality Quality is major priority, standards exceed regulatory requirements Meets regulatory requirements on a country-by-country basis, as necessary Process Product and modular production process; tries to have long product runs in specialized facilities; builds capacity ahead of demand Process focused; general production processes; “job shop” approach, short-run production; focus on high utilization Location Still located in city where it was founded Recently moved to low-tax, low-labor-cost environment Layout Layout supports automated product-focused production Layout supports process-focused “job shop” practices Human resources Hire the best; nationwide searches Very experienced top executives hired to provide direction; other personnel paid below industry average Supply chain Long-term supplier relationships Tends to purchase competitively to find bargains Inventory Maintains high finished goods inventory primarily to ensure all demands are met Process focus drives up work-in-process inventory; finished goods inventory tends to be low Scheduling Centralized production planning Many short-run products complicate scheduling Maintenance Highly trained staff; extensive parts inventory Highly trained staff to meet changing demands *Notice how the 10 decisions are altered to build two distinct strategies in the same industry. Keith Dannemiller/Alamy three global trends: (1) increased technological expertise, (2) more reliable and cheaper transportation, and (3) the rapid development and deployment of advancements in telecommunications and computers. This rich combination of economic advances is contributing to both lower cost and more specialization. As a result more firms are candidates for outsourcing of non-core activities. Outsourcing implies an agreement (typically a legally binding contract) with an external organization. The classic make-or-buy decision, concerning which products to make and which to buy, is the basis of outsourcing. When firms such as Apple find that their core competency is in creativity, innovation, and product design, they may want to outsource manufacturing. M02_HEIZ0422_12_SE_C02.indd 45 VIDEO 2.3 Outsourcing Offshore at Darden Contract manufacturers such as Flextronics provide outsourcing service to IBM, Cisco Systems, HP, Microsoft, Sony, Nortel, Ericsson, and Sun, among many others. Flextronics is a highquality producer that has won over 450 awards, including the Malcolm Baldrige Award. One of the side benefits of outsourcing is that client firms such as IBM can actually improve their performance by using the competencies of an outstanding firm like Flextronics. But there are risks involved in outsourcing. 03/11/15 5:32 PM 46 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Outsourcing manufacturing is an extension of the long-standing practice of subcontracting production activities, which when done on a continuing basis is known as contract manufacturing. Contract manufacturing is becoming standard practice in many industries, from computers to automobiles. For instance, Johnson & Johnson, like many other big drug companies whose core competency is research and development, often farms out manufacturing to contractors. On the other hand, Sony’s core competency is electromechanical design of chips. This is its core competency, but Sony is also one of the best in the world when it comes to rapid response and specialized production of these chips. Therefore, Sony finds that it wants to be its own manufacturer, while specialized providers come up with major innovations in such areas as software, human resources, and distribution. These areas are the providers’ business, not Sony’s, and the provider may very well be better at it than Sony. Other examples of outsourcing non-core activities include: ◆ ◆ ◆ ◆ DuPont’s legal services routed to the Philippines IBM’s handing of travel services and payroll and Hewlett-Packard’s provision of IT services to P&G Production of the Audi A4 convertible and Mercedes CLK convertible by Wilheim Karmann in Osnabruck, Germany Blue Cross sending hip resurfacing surgery patients to India Managers evaluate their strategies and core competencies and ask themselves how to use the assets entrusted to them. Do they want to be the company that does low-margin work at 3%–4% or the innovative firm that makes a 30%–40% margin? PC and iPad contract manufacturers in China and Taiwan earn 3%–4%, but Apple, which innovates, designs, and sells, has a margin 10 times as large. The Theory of Comparative Advantage Theory of comparative advantage A theory which states that countries benefit from specializing in (and exporting) goods and services in which they have relative advantage, and they benefit from importing goods and services in which they have a relative disadvantage. STUDENT TIP The substantial risk of outsourcing requires managers to invest in the effort to make sure they do it right. M02_HEIZ0422_12_SE_C02.indd 46 The motivation for international outsourcing comes from the theory of comparative advantage. This theory focuses on the economic concept of relative advantage. According to the theory, if an external provider, regardless of its geographic location, can perform activities more productively than the purchasing firm, then the external provider should do the work. This allows the purchasing firm to focus on what it does best—its core competencies. Consistent with the theory of comparative advantage, outsourcing continues to grow. But outsourcing the wrong activities can be a disaster. And even outsourcing non-core activities has risks. Risks of Outsourcing Risk management starts with a realistic analysis of uncertainty and results in a strategy that minimizes the impact of these uncertainties. Indeed, outsourcing is risky, with roughly half of all outsourcing agreements failing because of inadequate planning and analysis. Timely delivery and quality standards can be major problems, as can underestimating increases in inventory and logistics costs. Some potential advantages and disadvantages of outsourcing are shown in Table 2.2. A survey of North American companies found that, as a group, those that outsourced customer service saw a drop in their score on the American Consumer Satisfaction Index. The declines were roughly the same whether companies outsourced domestically or overseas.4 However, when outsourcing is overseas, additional issues must be considered. These issues include financial attractiveness, people skills and availability, and the general business environment. Another risk of outsourcing overseas is the political backlash that results from moving jobs to foreign countries. The perceived loss of jobs has fueled anti-outsourcing rhetoric. This rhetoric is contributing to a process known as reshoring, the return of business activity to the originating country. (See the OM in Action box “Reshoring to Small-Town U.S.A.”) 03/11/15 5:32 PM CHAP T ER 2 TABLE 2.2 | 47 OPERATIONS STRATEGY IN A GLOBAL ENVIRONMENT Potential Advantages and Disadvantages of Outsourcing ADVANTAGES DISADVANTAGES Cost savings Increased logistics and inventory costs Gaining outside expertise that comes with specialization Loss of control (quality, delivery, etc.) Improving operations and service Potential creation of future competition Maintaining a focus on core competencies Negative impact on employees Accessing outside technology Risks may not manifest themselves for years In addition to the external risks, operations managers must deal with other issues that outsourcing brings. These include: (1) reduced employment levels, (2) changes in facility requirements, (3) potential adjustments to quality control systems and manufacturing processes, and (4) expanded logistics issues, including insurance, tariffs, customs, and timing. To summarize, managers can find substantial efficiencies in outsourcing non-core activities, but they must be cautious in outsourcing those elements of the product or service that provide a competitive advantage. The next section provides a methodology that helps analyze the outsourcing decision process. Rating Outsource Providers Research indicates that the most common reason for the failure of outsourcing agreements is that the decisions are made without sufficient analysis. The factor-rating method provides an objective way to evaluate outsource providers. We assign points for each factor to each provider and then importance weights to each of the factors. We now apply the technique in Example 1 to compare outsourcing providers being considered by a firm. Reshoring to Small-Town U.S.A. U.S. companies continue their global search for efficiency by outsourcing call centers and back-office operations, but many find they need to look no farther than a place like Dubuque, Iowa. To U.S. firms facing quality problems with their outsourcing operations overseas and bad publicity at home, small-town America is emerging as a pleasant alternative. Dubuque (population 57,313), Nacogdoches, Texas (population 29,914), or Twin Falls, Idaho (population 34,469), may be the perfect call center location. Even though the pay is low, the jobs are some of the best available to small-town residents. By moving out of big cities to the cheaper labor and real estate of small towns, companies can save millions and still increase productivity. A call center in a town that just lost its major manufacturing plant finds the jobs easy to fill. IBM, which has been criticized in the past for moving jobs to India and other offshore locations, picked Dubuque for its new remote computer-services center with 1,300 jobs. Taking advantage of even cheaper wages in other countries will not stop soon, though. Is India the unstoppable overseas call center capital M02_HEIZ0422_12_SE_C02.indd 47 rating to evaluate both country and outsource providers that people think it is? Not at all. Despite its population of 1.3 billion, only a small percentage of its workers have the language skills and technical education to work in Western-style industries. Already, India has been warned that if call centers can’t recruit at reasonable wages, its jobs will move to the Philippines, South Africa, and Ghana. And indeed, Dell, Apple, and Britain’s Powergen are reshoring from Indian call centers, claiming their costs had become too high. Keith Dannemiller/Alamy OM in Action LO 2.4 Use factor Sources: Industry Week (August 5, 2014) and The Wall Street Journal, (November 27, 2013). 03/11/15 5:32 PM 48 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Example 1 RATING PROVIDER SELECTION CRITERIA National Architects, Inc., a San Francisco–based designer of high-rise office buildings, has decided to outsource its information technology (IT) function. Three outsourcing providers are being actively considered: one in the U.S., one in India, and one in Israel. National’s VP–Operations, Susan Cholette, has made a list of seven criteria she considers critical. After putting together a committee of four other VPs, she has rated each firm (boldface type, on a 1–5 scale, with 5 being highest) and has also placed an importance weight on each of the factors, as shown in Table 2.3. APPROACH c TABLE 2.3 Factor Ratings Applied to National Architects’ Potential IT Outsourcing Providers OUTSOURCE PROVIDERS FACTOR (CRITERION)* IMPORTANCE WEIGHT BIM (U.S.) S.P.C. (INDIA) TELCO (ISRAEL) .2 .2 × 3 = .6 .2 × 3 = .6 .2 × 5 = 1.0 1. Can reduce operating costs 2. Can reduce capital investment .2 .2 × 4 = .8 .2 × 3 = .6 .2 × 3 = .6 3. Skilled personnel .2 .2 × 5 = 1.0 .2 × 4 = .8 .2 × 3 = .6 4. Can improve quality .1 .1 × 4 = .4 .1 × 5 = .5 .1 × 2 = .2 5. Can gain access to technology not in company .1 .1 × 5 = .5 .1 × 3 = .3 .1 × 5 = .5 6. Can create additional capacity .1 .1 × 4 = .4 .1 × 2 = .2 .1 × 4 = .4 7. Aligns with policy/philosophy/culture .1 .1 × 2 = .2 .1 × 3 = .3 .1 × 5 = .5 3.9 3.3 3.8 Total Weighted Score *These seven major criteria are based on a survey of 165 procurement executives, as reported in J. Schildhouse, Inside Supply Management (December 2005): 22–29. Susan multiplies each rating by the weight and sums the products in each column to generate a total score for each outsourcing provider. She selects BIM, which has the highest overall rating. SOLUTION c INSIGHT c When the total scores are as close (3.9 vs. 3.8) as they are in this case, it is important to examine the sensitivity of the results to inputs. For example, if one of the importance weights or factor scores changes even marginally, the final selection may change. Management preference may also play a role here. Susan decides that “Skilled personnel” should instead get a weight of 0.1 and “Aligns with policy/philosophy/culture” should increase to 0.2. How do the total scores change? [Answer: BIM = 3.6, S.P.C. = 3.2, and Telco = 4.0, so Telco would be selected.] LEARNING EXERCISE c RELATED PROBLEMS c 2.8–2.12 Most U.S. toy companies now outsource their production to Chinese manufacturers. Cost savings are significant, but there are several downsides, including loss of control over such issues as quality. A few years ago, Mattel had to recall 10.5 million Elmos, Big Birds, and SpongeBobs. These made-in-China toys contained excessive levels of lead in their paint. More recently, quality issues have dealt with poisonous pet food, tainted milk products, and contaminated sheetrock. M02_HEIZ0422_12_SE_C02.indd 48 A. Ramey/PhotoEdit, Inc. EXCEL OM Data File Ch02Ex1.xls can be found in MyOMLab. 03/11/15 5:32 PM CHAP T ER 2 | 49 OPERATIONS STRATEGY IN A GLOBAL ENVIRONMENT Global Operations Strategy Options As we suggested early in this chapter, many operations strategies now require an international dimension. An international business is any firm that engages in international trade or investment. A multinational corporation (MNC) is a firm with extensive international business involvement. MNCs buy resources, create goods or services, and sell goods or services in a variety of countries. The term multinational corporation applies to most of the world’s large, well-known businesses. Certainly IBM is a good example of an MNC. It imports electronics components to the U.S. from over 50 countries, exports to over 130 countries, has facilities in 45 countries, and earns more than half its sales and profits abroad. Operations managers of international and multinational firms approach global opportunities with one of four strategies: international, multidomestic, global, or transnational (see Figure 2.9). The matrix of Figure 2.9 has a vertical axis of cost reduction and a horizontal axis of local responsiveness. Local responsiveness implies quick response and/or the differentiation necessary for the local market. The operations manager must know how to position the firm in this matrix. Let us briefly examine each of the four strategies. An international strategy uses exports and licenses to penetrate the global arena. This strategy is the least advantageous, with little local responsiveness and little cost advantage. But an international strategy is often the easiest, as exports can require little change in existing operations, and licensing agreements often leave much of the risk to the licensee. The multidomestic strategy has decentralized authority with substantial autonomy at each business. These are typically subsidiaries, franchises, or joint ventures with substantial independence. The advantage of this strategy is maximizing a competitive response for the local market; however, the strategy has little or no cost advantage. Many food producers, such as Heinz, use a multidomestic strategy to accommodate local tastes because global integration of the production process is not critical. The concept is one of “we were successful in the home market; let’s export the management talent and processes, not necessarily the product, to accommodate another market.” A global strategy has a high degree of centralization, with headquarters coordinating the organization to seek out standardization and learning between plants, thus generating economies of scale. This strategy is appropriate when the strategic focus is cost reduction but has little to recommend it when the demand for local responsiveness is high. Caterpillar, the world leader in earthmoving equipment, and Texas Instruments, a world leader in semiconductors, pursue global strategies. Caterpillar and Texas Instruments find this strategy advantageous because the end products are similar throughout the world. Earth-moving equipment is the same in Nigeria as in Iowa. Cost Reduction High Global strategy • Standardized product • Economies of scale • Cross-cultural learning Transnational strategy • Move material, people, or ideas across national boundaries • Economies of scale • Cross-cultural learning Examples: Texas Instruments Caterpillar Otis Elevator Examples: Coca-Cola Nestlé International strategy A firm that engages in crossborder transactions. Multinational corporation (MNC) A firm that has extensive involvement in international business, owning or controlling facilities in more than one country. International strategy A strategy in which global markets are penetrated using exports and licenses. Multidomestic strategy A strategy in which operating decisions are decentralized to each country to enhance local responsiveness. Global strategy A strategy in which operating decisions are centralized and headquarters coordinates the standardization and learning between facilities. LO 2.5 Identify and explain four global operations strategy options Multidomestic strategy • Import/export or license existing product • Use existing domestic model globally • Franchise, joint ventures, subsidiaries Examples: U.S. Steel Harley-Davidson Examples: Heinz McDonald’s The Body Shop Hard Rock Cafe Figure High Low Local Responsiveness (Quick Response and/or Differentiation) 2.9 Four International Operations Strategies Low M02_HEIZ0422_12_SE_C02.indd 49 International business Source: See a similar presentation in M. Hitt, R. D. Ireland, and R. E. Hoskisson, Strategic Management: Concepts, Competitiveness, and Globalization, 8th ed. (Cincinnati: Southwestern College Publishing). 03/11/15 5:32 PM 50 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Washington Imaging/Alamy Bernd Wüstneck/dpa/picture-alliance/Newscom In a continuing fierce worldwide battle, both Komatsu and Caterpillar seek global advantage in the heavy equipment market. As Komatsu (left) moved west to the UK, Caterpillar (right) moved east, with 13 facilities and joint ventures in China. Both firms are building equipment throughout the world as cost and logistics dictate. Their global strategies allow production to move as markets, risk, and exchange rates suggest. Transnational strategy A strategy that combines the benefits of global-scale efficiencies with the benefits of local responsiveness. A transnational strategy exploits the economies of scale and learning, as well as pressure for responsiveness, by recognizing that core competence does not reside in just the “home” country but can exist anywhere in the organization. Transnational describes a condition in which material, people, and ideas cross—or transgress—national boundaries. These firms have the potential to pursue all three operations strategies (i.e., differentiation, low cost, and response). Such firms can be thought of as “world companies” whose country identity is not as important as their interdependent network of worldwide operations. Nestlé is a good example of such a company. Although it is legally Swiss, 95% of its assets are held and 98% of its sales are made outside Switzerland. Fewer than 10% of its workers are Swiss. Summary Global operations provide an increase in both the challenges and opportunities for operations managers. Although the task is difficult, operations managers can and do improve productivity. They build and manage global OM functions and supply chains that contribute in a significant way to competitiveness. Organizations identify their strengths and weaknesses. They then develop effective missions and strategies that account for these strengths and weaknesses and complement the opportunities and threats in the environment. If this procedure is performed well, the organization can have competitive advantage through some combination of product differentiation, low cost, and response. Increasing specialization provides economic pressure to build organizations that focus on core competencies and to outsource the rest. But there is also a need for planning outsourcing to make it beneficial to all participants. In this increasingly global world, competitive advantage is often achieved via a move to international, multidomestic, global, or transnational strategies. Effective use of resources, whether domestic or international, is the responsibility of the professional manager, and professional managers are among the few in our society who can achieve this performance. The challenge is great, and the rewards to the manager and to society are substantial. Key Terms Maquiladoras (p. 34) World Trade Organization (WTO) (p. 34) North American Free Trade Agreement (NAFTA) (p. 34) European Union (EU) (p. 34) Mission (p. 36) Strategy (p. 36) Competitive advantage (p. 36) Differentiation (p. 38) M02_HEIZ0422_12_SE_C02.indd 50 Experience differentiation (p. 38) Low-cost leadership (p. 38) Response (p. 39) Resources view (p. 40) Value-chain analysis (p. 40) Five forces model (p. 40) SWOT analysis (p. 41) Key success factors (KSFs) (p. 41) Core competencies (p. 42) Activity map (p. 43) Outsourcing (p. 44) Theory of comparative advantage (p. 46) International business (p. 49) Multinational corporation (MNC) (p. 49) International strategy (p. 49) Multidomestic strategy (p. 49) Global strategy (p. 49) Transnational strategy (p. 50) 03/11/15 5:32 PM CHAP T ER 2 | OPERATIONS STRATEGY IN A GLOBAL ENVIRONMENT 51 Ethical Dilemma Michael S. Yamashita/Corbis As a manufacturer of athletic shoes whose image—indeed performance—is widely regarded as socially responsible, you find your costs increasing. Traditionally, your athletic shoes have been made in Indonesia and South Korea. Although the ease of doing business in those countries has been improving, wage rates have also been increasing. The labor-cost differential between your current suppliers and a contractor who will get the shoes made in China now exceeds $1 per pair. Your sales next year are projected to be 10 million pairs, and your analysis suggests that this cost differential is not offset by any other tangible costs; you face only the political risk and potential damage to your commitment to social responsibility. Thus, this $1 per pair savings should flow directly to your bottom line. There is no doubt that the Chinese government engages in censorship, remains repressive, and is a long way from a democracy. Moreover, you will have little or no control over working conditions, sexual harassment, and pollution. What do you do, and on what basis do you make your decision? Discussion Questions 1. Based on the descriptions and analyses in this chapter, would Boeing be better described as a global firm or a transnational firm? Discuss. 2. List six reasons to internationalize operations. 3. Coca-Cola is called a global product. Does this mean that Coca-Cola is formulated in the same way throughout the world? Discuss. 4. Define mission. 5. Define strategy. 6. Describe how an organization’s mission and strategy have different purposes. 7. Identify the mission and strategy of your automobile repair garage. What are the manifestations of the 10 strategic OM decisions at the garage? That is, how is each of the 10 decisions accomplished? 8. As a library or Internet assignment, identify the mission of a firm and the strategy that supports that mission. 9. How does an OM strategy change during a product’s life cycle? 10. There are three primary ways to achieve competitive advantage. Provide an example, not included in the text, of each. Support your choices. 11. Given the discussion of Southwest Airlines in the text, define an operations strategy for that firm now that it has purchased AirTran. 12. How must an operations strategy integrate with marketing and accounting? 13. How would you summarize outsourcing trends? 14. What potential cost-saving advantages might firms experience by using outsourcing? 15. What internal issues must managers address when outsourcing? 16. How should a company select an outsourcing provider? 17. What are some of the possible consequences of poor outsourcing? 18. What global operations strategy is most descriptive of McDonald’s? Using Software to Solve Outsourcing Problems Excel, Excel OM, and POM for Windows may be used to solve many of the problems in this chapter. CREATING YOUR OWN EXCEL SPREADSHEETS Program 2.1 illustrates how to build an Excel spreadsheet for the data in Example 1. In this example the factor rating method is used to compare National Architects’ three potential outsourcing providers. This program provides the data inputs for seven important factors, including their weights (0.0–1.0) and ratings (1–5 scale where 5 is the highest rating) for each country. As we see, BIM is most highly rated, with a 3.9 score, versus 3.3 for S.P.C. and 3.8 for Telco. X USING EXCEL OM Excel OM (free with your text and also found in MyOMLab) may be used to solve Example 1 (with the Factor Rating module). P USING POM FOR WINDOWS POM for Windows also includes a factor rating module. For details, refer to Appendix IV. POM for Windows is also found in MyOMLab and can solve all problems labeled with a P . M02_HEIZ0422_12_SE_C02.indd 51 03/11/15 5:32 PM 52 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Enter factor names and weights in columns A and B. Actions Copy C14 to D14 and E14 Enter scores (that come from manager ratings) for BIM, S.P.C., and Telco on each factor in columns C, D, and E. =SUMPRODUCT($B$6:$B$12,C6:C12) Compute the weighted scores as the sum of the product of the weights and the scores for each option using the SUMPRODUCT function. Program 2.1 Using Excel to Develop a Factor Rating Analysis, With Data from Example 1. Solved Problems Virtual Office Hours help is available in MyOMLab. SOLVED PROBLEM 2.1 SOLUTION The global tire industry continues to consolidate. Michelin buys Goodrich and Uniroyal and builds plants throughout the world. Bridgestone buys Firestone, expands its research budget, and focuses on world markets. Goodyear spends almost 4% of its sales revenue on research. These three aggressive firms have come to dominate the world tire market, with total market share approaching 60%. And the German tire maker Continental AG has strengthened its position as fourth in the world, with a dominant presence in Germany and a research budget of 6%. Against this formidable array, the old-line Italian tire company Pirelli SpA is challenged to respond effectively. Although Pirelli still has almost 5% of the market, it is a relatively small player in a tough, competitive business. And although the business is reliable even in recessions, as motorists still need replacement tires, the competition is getting stronger. The business rewards companies that have large market shares and long production runs. Pirelli, with its small market share and 1,200 specialty tires, has neither. However, Pirelli has some strengths: an outstanding reputation for tire research and excellent high-performance tires, including supplying specially engineered tires for performance automobiles, Ducati motorcycles, and Formula 1 racing teams. In addition, Pirelli’s operations managers complement the creative engineering with world-class innovative manufacturing processes that allow rapid changeover to different models and sizes of tires. Use a SWOT analysis to establish a feasible strategy for Pirelli. First, find an opportunity in the world tire market that avoids the threat of the mass-market onslaught by the big-three tire makers. Second, use the internal marketing strength represented by Pirelli’s strong brand name supplying Formula 1 racing and a history of winning World Rally Championships. Third, maximize the innovative capabilities of an outstanding operations function. This is a classic differentiation strategy, supported by activity mapping that ties Pirelli’s marketing strength to research and its innovative operations function. To implement this strategy, Pirelli is differentiating itself with a focus on higher-margin performance tires and away from the low-margin standard tire business. Pirelli has established deals with luxury brands Jaguar, BMW, Maserati, Ferrari, Bentley, and Lotus Elise and established itself as a provider of a large share of the tires on new Porsches and S-class Mercedes. Pirelli also made a strategic decision to divest itself of other businesses. As a result, the vast majority of the company’s tire production is now high-performance tires. People are willing to pay a premium for Pirellis. The operations function continued to focus its design efforts on performance tires and developing a system of modular tire manufacture that allows much faster switching between models. This modular system, combined with billions of dollars in new manufacturing investment, has driven batch sizes down to as small as 150 to 200, making small-lot performance tires economically feasible. Manufacturing innovations M02_HEIZ0422_12_SE_C02.indd 52 03/11/15 5:32 PM CHAP T ER 2 | 53 OPERATIONS STRATEGY IN A GLOBAL ENVIRONMENT at Pirelli have streamlined the production process, moving it from a 14-step process to a 3-step process. Pirelli still faces a threat from the big three going after the performance market, but the company has bypassed its weakness of having a small market share with a substantial research budget and an innovative operations function. The firm now has 19 plants in 13 countries and a presence in more than 160 countries, with sales approaching $8 billion. SOLVED PROBLEM 2.2 and Zaragoza in Spain. The owner, Nicole DeHoratius, has determined that only three criteria are critical. She has rated each firm on a 1–5 scale (with 5 being highest) and has also placed an importance weight on each of the factors, as shown below: DeHoratius Electronics, Inc., is evaluating several options for sourcing a critical processor for its new modem. Three sources are being considered: Hi-Tech in Canada, Zia in Hong Kong, Sources: Based on The Economist (January 8, 2011): 65; www.pirelli.com; and RubberNews.com. OUTSOURCE PROVIDERS FACTOR (CRITERION) IMPORTANCE WEIGHT 1. Cost HI-TECH (CANADA) ZIA (HONG KONG) ZARAGOZA (SPAIN) Rating Wtd. Score Rating Wtd.score Rating Wtd. Score 3 1.5 3 1.5 5 2.5 .5 2. Reliability .2 4 .8 3 .6 3 .6 3. Competence .3 5 1.5 4 1.2 3 .9 Totals 1.0 3.8 SOLUTION Nicole multiplies each rating by the weight and sums the products in each column to generate a total score for each outsourcing Problems 4.0 provider. For example the weighted score for Hi-Tech equals (.5 * 3) + (.2 * 4) + (.3 * 5) = 1.5 + .8 + 1.5 = 3.8. She selects Zaragoza, which has the highest overall rating. Note: PX means the problem may be solved with POM for Windows and/or Excel OM. Problems 2.1–2.3 relate to A Supply Chains Global View of Operations and • • 2.1 Match the product with the proper parent company and country in the table below: PRODUCT PARENT COMPANY Arrow Shirts a. Volkswagen 1. France Braun Household Appliances b. Bidermann International 2. Great Britain Volvo Autos c. Bridgestone 3. Germany Firestone Tires d. Campbell Soup 4. Japan Godiva Chocolate e. Credit Lyonnais 5. U.S. Häagen-Dazs Ice Cream (USA) f. Tata 6. Switzerland Jaguar Autos g. Procter & Gamble 7. China MGM Movies h. Michelin 8. India Lamborghini Autos i. Nestlé Goodrich Tires j. Geely COUNTRY Alpo Pet Foods • • 2.2 Based on the corruption perception index developed by Transparency International (www.transparency.org), rank the following countries from most corrupt to least: Venezuela, Denmark, the U.S., Switzerland, and China. • • 2.3 Based on the competitiveness ranking developed by the Global Competitiveness Index (www.weforum.org), rank the following countries from most competitive to least: Mexico, Switzerland, the U.S., and China. M02_HEIZ0422_12_SE_C02.indd 53 3.3 Problems 2.4 and 2.5 relate to Achieving Through Operations Competitive Advantage • 2.4 The text provides three primary strategic approaches (differentiation, cost, and response) for achieving competitive advantage. Provide an example of each not given in the text. Support your choices. (Hint: Note the examples provided in the text.) • • 2.5 Within the food service industry (restaurants that serve meals to customers, but not just fast food), find examples of firms that have sustained competitive advantage by competing on the basis of (1) cost leadership, (2) response, and (3) differentiation. Cite one example in each category; provide a sentence or two in support of each choice. Do not use fast-food chains for all categories. (Hint: A “99¢ menu” is very easily copied and is not a good source of sustained advantage.) Problem 2.6 relates to Issues in Operations Strategy • • • 2.6 Identify how changes within an organization affect the OM strategy for a company. For instance, discuss what impact the following internal factors might have on OM strategy: a) Maturing of a product. b) Technology innovation in the manufacturing process. c) Changes in laptop computer design that builds in wireless technology. Problem 2.7 relates to Strategy Development and Implementation • • • 2.7 Identify how changes in the external environment affect the OM strategy for a company. For instance, discuss what impact the following external factors might have on OM strategy: a) Major increases in oil prices. b) Water- and air-quality legislation. 03/11/15 5:33 PM 54 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT c) Fewer young prospective employees entering the labor market. d) Inflation versus stable prices. e) Legislation moving health insurance from a pretax benefit to taxable income. Problems 2.8–2.12 relate to Strategic and Outsourcing Planning, Core Competencies, • • 2.8 Claudia Pragram Technologies, Inc., has narrowed its choice of outsourcing provider to two firms located in different countries. Pragram wants to decide which one of the two countries is the better choice, based on risk-avoidance criteria. She has polled her executives and established four criteria. The resulting ratings for the two countries are presented in the table below, where 1 is a lower risk and 3 is a higher risk. SELECTION CRITERION ENGLAND CANADA Price of service from outsourcer 2 3 Nearness of facilities to client 3 1 Level of technology 1 3 History of successful outsourcing 1 2 The executives have determined four criteria weightings: Price, with a weight of 0.1; Nearness, with 0.6; Technology, with 0.2; and History, with 0.1. a) Using the factor-rating method, which country would you select? b) Double each of the weights used in part (a) (to 0.2, 1.2, 0.4, and 0.2, respectively). What effect does this have on your answer? Why? PX • • 2.9 Ranga Ramasesh is the operations manager for a firm that is trying to decide which one of four countries it should research for possible outsourcing providers. The first step is to select a country based on cultural risk factors, which are critical to eventual business success with the provider. Ranga has reviewed outsourcing provider directories and found that the four countries in the table that follows have an ample number of providers from which they can choose. To aid in the country selection step, he has enlisted the aid of a cultural expert, John Wang, who has provided ratings of the various criteria in the table. The resulting ratings are on a 1 to 10 scale, where 1 is a low risk and 10 is a high risk. John has also determined six criteria weightings: Trust, with a weight of 0.4; Quality, with 0.2; Religious, with 0.1; Individualism, with 0.1; Time, with 0.1; and Uncertainty, with 0.1. Using the factor-rating method, which country should Ranga select? PX CULTURE SELECTION CRITERION MEXICO PANAMA COSTA RICA PERU Trust 1 2 2 1 Society value of quality work 7 10 9 10 Religious attitudes 3 3 3 5 Individualism attitudes 5 2 4 8 Time orientation attitudes 4 6 7 3 Uncertainty avoidance attitudes 3 2 4 2 • • 2.10 Fernando Garza’s firm wishes to use factor rating to help select an outsourcing provider of logistics services. M02_HEIZ0422_12_SE_C02.indd 54 a) With weights from 1–5 (5 highest) and ratings 1–100 (100 highest), use the following table to help Garza make his decision: RATING OF LOGISTICS PROVIDERS WEIGHT OVERNIGHT SHIPPING WORLDWIDE DELIVERY UNITED FREIGHT Quality 5 90 80 75 Delivery 3 70 85 70 Cost 2 70 80 95 CRITERION b) Garza decides to increase the weights for quality, delivery, and cost to 10, 6, and 4, respectively. How does this change your conclusions? Why? c) If Overnight Shipping’s ratings for each of the factors increase by 10%, what are the new results? PX • • • 2.11 Walker Accounting Software is marketed to small accounting firms throughout the U.S. and Canada. Owner George Walker has decided to outsource the company’s help desk and is considering three providers: Manila Call Center (Philippines), Delhi Services (India), and Moscow Bell (Russia). The following table summarizes the data Walker has assembled. Which outsourcing firm has the best rating? (Higher weights imply higher importance and higher ratings imply more desirable providers.) PX PROVIDER RATINGS CRITERION IMPORTANCE WEIGHT MANILA DELHI MOSCOW Flexibility 0.5 5 1 9 Trustworthiness 0.1 5 5 2 Price 0.2 4 3 6 Delivery 0.2 5 6 6 • • • • 2.12 Rao Technologies, a California-based high-tech manufacturer, is considering outsourcing some of its electronics production. Four firms have responded to its request for bids, and CEO Mohan Rao has started to perform an analysis on the scores his OM team has entered in the table below. RATINGS OF OUTSOURCE PROVIDERS FACTOR WEIGHT A B C D Labor Quality procedures Logistics system Price w 30 5 25 5 2 3 5 4 3 4 3 3 5 3 4 5 1 5 4 Trustworthiness Technology in place Management team 5 15 15 3 2 5 2 5 4 3 4 2 5 4 1 Weights are on a scale from 1 through 30, and the outsourcing provider scores are on a scale of 1 through 5. The weight for the labor factor is shown as a w because Rao’s OM team cannot agree on a value for this weight. For what range of values of w, if any, is company C a recommended outsourcing provider, according to the factor-rating method? Problem 2.13 relates to Global Operations Strategy Options • • 2.13 Does Boeing practice a multinational operations strategy, a global operations strategy, or a transnational operations strategy? Support your choice with specific references to Boeing’s operations and the characteristics of each type of organization. 03/11/15 5:33 PM CHAP T ER 2 | OPERATIONS STRATEGY IN A GLOBAL ENVIRONMENT 55 CASE STUDIES Rapid-Lube A huge market exists for automobile tune-ups, oil changes, and lubrication service for more than 250 million vehicles on U.S. roads. Some of this demand is filled by full-service auto dealerships, some by Walmart and Firestone, and some by other tire/ service dealers. However, Rapid-Lube, Mobil-Lube, Jiffy-Lube and others have also developed strategies to accommodate this opportunity. Rapid-Lube stations perform oil changes, lubrication, and interior cleaning in a spotless environment. The buildings are clean, usually painted white, and often surrounded by neatly trimmed landscaping. To facilitate fast service, cars can be driven through three abreast. At Rapid-Lube, the customer is greeted by service representatives who are graduates of RapidLube U. The Rapid-Lube school is not unlike McDonald’s Hamburger University near Chicago or Holiday Inn’s training school in Memphis. The greeter takes the order, which typically includes fluid checks (oil, water, brake fluid, transmission fluid, differential grease) and the necessary lubrication, as well as filter changes for air and oil. Service personnel in neat uniforms then move into action. The standard three-person team has one person checking fluid levels under the hood, another assigned interior vacuuming and window cleaning, and the third in the garage pit, removing the oil filter, draining the oil, checking the differential and transmission, and lubricating as necessary. Precise task assignments and good training are designed to move the car into and out of the bay in 10 minutes. The business model is to charge no more, and hopefully less, than gas stations, automotive repair chains, and auto dealers, while providing better and faster service. Discussion Questions 1. What constitutes the mission of Rapid-Lube? 2. How does the Rapid-Lube operations strategy provide competitive advantage? (Hint: Evaluate how Rapid-Lube’s traditional competitors perform the 10 decisions of operations management vs. how Rapid-Lube performs them.) 3. Is it likely that Rapid-Lube has increased productivity over its more traditional competitors? Why? How would we measure productivity in this industry? Video Case Strategy at Regal Marine Regal Marine, one of the U.S.’s 10 largest power-boat manufacturers, achieves its mission—providing luxury performance boats to customers worldwide—using the strategy of differentiation. It differentiates its products through constant innovation, unique features, and high quality. Increasing sales at the Orlando, Florida, family-owned firm suggest that the strategy is working. As a quality boat manufacturer, Regal Marine starts with continuous innovation, as reflected in computer-aided design (CAD), high-quality molds, and close tolerances that are controlled through both defect charts and rigorous visual inspection. In-house quality is not enough, however. Because a product is only as good as the parts put into it, Regal has established close ties with a large number of its suppliers to ensure both flexibility and perfect parts. With the help of these suppliers, Regal can profitably produce a product line of 22 boats, ranging from the $14,000 19-foot boat to the $500,000 44-foot Commodore yacht. “We build boats,” says VP Tim Kuck, “but we’re really in the ‘fun’ business. Our competition includes not only 300 other boat, canoe, and yacht manufacturers in our $17 billion industry, but home theaters, the Internet, and all kinds of alternative family Hard Rock Cafe’s Global Strategy Hard Rock brings the concept of the “experience economy” to its cafe operation. The strategy incorporates a unique “experience” into its operations. This innovation is somewhat akin to mass customization in manufacturing. At Hard Rock, the experience concept is to provide not only a custom meal from the menu but a dining event that includes a unique visual and sound experience not duplicated anywhere else in the world. This strategy is succeeding. Other theme restaurants have come and gone while Hard Rock continues to grow. As Professor C. Markides of the London Business School says, “The trick is not to play the game M02_HEIZ0422_12_SE_C02.indd 55 entertainment.” Fortunately Regal has been paying down debt and increasing market share. Regal has also joined with scores of other independent boat makers in the American Boat Builders Association. Through economies of scale in procurement, Regal is able to navigate against billion-dollar competitor Brunswick (makers of the Sea Ray and Bayliner brands). The Global Company Profile featuring Regal Marine (which opens Chapter 5) provides further background on Regal and its strategy. Discussion Questions* 1. State Regal Marine’s mission in your own words. 2. Identify the strengths, weaknesses, opportunities, and threats that are relevant to the strategy of Regal Marine. 3. How would you define Regal’s strategy? 4. How would each of the 10 operations management decisions apply to operations decision making at Regal Marine? *You may wish to view the video that accompanies the case before addressing these questions. Video Case better than the competition, but to develop and play an altogether different game.”* At Hard Rock, the different game is the experience game. From the opening of its first cafe in London in 1971, during the British rock music explosion, Hard Rock has been serving food and rock music with equal enthusiasm. Hard Rock Cafe has 40 U.S. locations, about a dozen in Europe, and the remainder *Constantinos Markides, “Strategic Innovation,” MIT Sloan Management Review 38, no. 3: 9. 03/11/15 5:33 PM 56 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT scattered throughout the world, from Bangkok and Beijing to Beirut. New construction, leases, and investment in remodeling are long term; so a global strategy means special consideration of political risk, currency risk, and social norms in a context of a brand fit. Although Hard Rock is one of the most recognized brands in the world, this does not mean its cafe is a natural everywhere. Special consideration must be given to the supply chain for the restaurant and its accompanying retail store. About 48% of a typical cafe’s sales are from merchandise. The Hard Rock Cafe business model is well defined, but because of various risk factors and differences in business practices and employment law, Hard Rock elects to franchise about half of its cafes. Social norms and preferences often suggest some tweaking of menus for local taste. For instance, Hard Rock focuses less on hamburgers and beef and more on fish and lobster in its British cafes. Because 70% of Hard Rock’s guests are tourists, recent years have found it expanding to “destination” cities. While this has been a winning strategy for decades, allowing the firm to grow from one London cafe to 145 facilities in 60 countries, it has made Hard Rock susceptible to economic fluctuations that hit the tourist business hardest. So Hard Rock is signing a long-term lease for a new location in Nottingham, England, to join recently opened cafes in Manchester and Birmingham—cities that are not standard tourist destinations. At the same time, menus are being upgraded. Hopefully, repeat business from locals in these cities will smooth demand and make Hard Rock less dependent on tourists. Discussion Questions* 1. Identify the strategy changes that have taken place at Hard Rock Cafe since its founding in 1971. 2. As Hard Rock Cafe has changed its strategy, how has its responses to some of the 10 decisions of OM changed? 3. Where does Hard Rock fit in the four international operations strategies outlined in Figure 2.9? Explain your answer. *You may wish to view the video that accompanies the case before addressing these questions. Video Case Outsourcing Offshore at Darden Darden Restaurants, owner of popular brands such as Olive Garden, Bahama Breeze, and Longhorn Grill, serves more than 320 million meals annually in over 1,500 restaurants across the U.S. and Canada. To achieve competitive advantage via its supply chain, Darden must achieve excellence at each step. With purchases from 35 countries, and seafood products with a shelf life as short as 4 days, this is a complex and challenging task. Those 320 million meals annually mean 40 million pounds of shrimp and huge quantities of tilapia, swordfish, and other fresh purchases. Fresh seafood is typically flown to the U.S. and monitored each step of the way to ensure that 34°F is maintained. Darden’s purchasing agents travel the world to find competitive advantage in the supply chain. Darden personnel from supply chain and development, quality assurance, and environmental relations contribute to developing, evaluating, and checking suppliers. Darden also has seven native-speaking representatives living on other continents to provide continuing support and evaluation of suppliers. All suppliers must abide by Darden’s food standards, which typically exceed FDA and other industry standards. Darden expects continuous improvement in durable relationships that increase quality and reduce cost. Darden’s aggressiveness and development of a sophisticated supply chain provide an opportunity for outsourcing. Much food preparation is labor intensive and is often more efficient when handled in bulk. This is particularly true where large volumes may justify capital investment. For instance, Tyson and Iowa Beef prepare meats to Darden’s specifications much more economically than can individual restaurants. Similarly, Darden has found that it can outsource both the cutting of salmon to the proper portion size and the cracking/peeling of shrimp more cost-effectively offshore than in U.S. distribution centers or individual restaurants. Discussion Questions* 1. What are some outsourcing opportunities in a restaurant? 2. What supply chain issues are unique to a firm sourcing from 35 countries? 3. Examine how other firms or industries develop international supply chains as compared to Darden. 4. Why does Darden outsource harvesting and preparation of much of its seafood? *You may wish to view the video that accompanies this case study before answering these questions. • Additional Case Study: Visit MyOMLab for this free case study: Outsourcing to Tata: The Indian outsourcing firm is hired by New Mexico. Endnotes 1. The 28 members of the European Union (EU) as of 2015 were Austria, Belgium, Bulgaria, Cyprus, Croatia, Czech Republic, Denmark, Estonia, Finland, France, Germany, Greece, Hungary, Ireland, Italy, Latvia, Lithuania, Luxembourg, Malta, the Netherlands, Poland, Portugal, Romania, Slovakia, Slovenia, Spain, Sweden, and United Kingdom. Not all have adopted the euro. In addition, Iceland, Macedonia, Montenegro, and Turkey are candidates for entry into the European Union. M02_HEIZ0422_12_SE_C02.indd 56 2. M. E. Porter, Competitive Advantage: Creating and Sustaining Superior Performance. New York: The Free Press, 1985. 3. M. E. Porter, Competitive Strategy: Techniques for Analyzing Industries and Competitors. New York: The Free Press, 1980, 1998. 4. J. Whitaker, M. S. Krishnan, and C. Fornell. “How Offshore Outsourcing Affects Customer Satisfaction.” The Wall Street Journal (July 7, 2008): R4. 03/11/15 5:33 PM Main Heading Review Material MyOMLab A GLOBAL VIEW OF OPERATIONS AND SUPPLY CHAINS Domestic business operations decide to change to some form of international operations for six main reasons: Concept Questions: 1.1–1.4 (pp. 32–35) 1. 2. 3. 4. 5. 6. j j j j DEVELOPING MISSIONS AND STRATEGIES (pp. 35–36) ACHIEVING COMPETITIVE ADVANTAGE THROUGH OPERATIONS (pp. 36–40) An effective operations management effort must have a mission so it knows where it is going and a strategy so it knows how to get there. j Mission—The purpose or rationale for an organization’s existence. j Strategy—How an organization expects to achieve its missions and goals. The three strategic approaches to competitive advantage are: 1. Differentiation 2. Cost leadership 3. Response j j j j j ISSUES IN OPERATIONS STRATEGY (pp. 40–41) Improve supply chain Reduce costs and exchange rate risks Improve operations Understand markets Improve products Attract and retain global talent Maquiladoras—Mexican factories located along the U.S.–Mexico border that receive preferential tariff treatment. World Trade Organization (WTO)—An international organization that promotes world trade by lowering barriers to the free flow of goods across borders. NAFTA—A free trade agreement between Canada, Mexico, and the United States. European Union (EU)—A European trade group that has 28 member states. j j j Problems: 2.1–2.3 Rapid Review 2 Chapter 2 Rapid Review Concept Questions: 2.1–2.4 VIDEO 2.1 Operations Strategy at Regal Marine Competitive advantage—The creation of a unique advantage over competitors. Differentiation—Distinguishing the offerings of an organization in a way that the customer perceives as adding value. Experience differentiation—Engaging the customer with a product through imaginative use of the five senses, so the customer “experiences” the product. Low-cost leadership—Achieving maximum value, as perceived by the customer. Response—A set of values related to rapid, flexible, and reliable performance. Concept Questions: 3.1–3.4 Resources view—A view in which managers evaluate the resources at their disposal and manage or alter them to achieve competitive advantage. Value-chain analysis—A way to identify the elements in the product/service chain that uniquely add value. Five forces model—A way to analyze the five forces in the competitive environment. Concept Questions: 4.1–4.4 Problems: 2.4–2.5 VIDEO 2.2 Hard Rock’s Global Strategy Problem: 2.6 Forces in Porter’s five forces model are (1) immediate rivals, (2) potential entrants, (3) customers, (4) suppliers, and (5) substitute products. Different issues are emphasized during different stages of the product life cycle: j j j j M02_HEIZ0422_12_SE_C02.indd 57 Introduction—Company strategy: Best period to increase market share, R&D engineering is critical. OM strategy: Product design and development critical, frequent product and process design changes, short production runs, high production costs, limited models, attention to quality. Growth—Company strategy: Practical to change price or quality image, strengthen niche. OM strategy: Forecasting critical, product and process reliability, competitive product improvements and options, increase capacity, shift toward product focus, enhance distribution. Maturity—Company strategy: Poor time to change image or price or quality, competitive costs become critical, defend market position. OM strategy: Standardization, less rapid product changes (more minor changes), optimum capacity, increasing stability of process, long production runs, product improvement and cost cutting. Decline—Company strategy: Cost control critical. OM strategy: Little product differentiation, cost minimization, overcapacity in the industry, prune line to eliminate items not returning good margin, reduce capacity. 03/11/15 5:33 PM Rapid Review 2 Chapter 2 Rapid Review continued Main Heading STRATEGY DEVELOPMENT AND IMPLEMENTATION j j (pp. 41–44) j j STRATEGIC PLANNING, CORE COMPETENCIES, AND OUTSOURCING MyOMLab Review Material j j (pp. 44–48) SWOT analysis—A method of determining internal strengths and weaknesses and external opportunities and threats. Key success factors (KSFs)—Activities or factors that are key to achieving competitive advantage. Core competencies—A set of unique skills, talents, and activities that a firm does particularly well. A core competence may be a combination of KSFs. Activity map—A graphical link of competitive advantage, KSFs, and supporting activities. Concept Questions: 5.1–5.4 Outsourcing—Procuring from external sources services or products that are normally part of an organization. Theory of comparative advantage—The theory which states that countries benefit from specializing in (and exporting) products and services in which they have relative advantage and importing goods in which they have a relative disadvantage. Concept Questions: 6.1–6.4 Perhaps half of all outsourcing agreements fail because of inappropriate planning and analysis. Potential risks of outsourcing include: j j j j j A drop in quality or customer service Political backlash that results from outsourcing to foreign countries Negative impact on employees Potential future competition Increased logistics and inventory costs Problem: 2.7 Virtual Office Hours for Solved Problem: 2.1 Problems: 2.8–2.12 Virtual Office Hours for Solved Problem: 2.2 VIDEO 2.3 Outsourcing Offshore at Darden The most common reason given for outsourcing failure is that the decision was made without sufficient understanding and analysis. The factor-rating method is an excellent tool for dealing with both country risk assessment and provider selection problems. GLOBAL OPERATIONS STRATEGY OPTIONS j j (pp. 49–50) International business—A firm that engages in cross-border transactions. Multinational corporation (MNC)—A firm that has extensive involvement in international business, owning or controlling facilities in more than one country. The four operations strategies for approaching global opportunities can be classified according to local responsiveness and cost reduction: j j j j Concept Questions: 7.1–7.4 Problem 2.13 International strategy—A strategy in which global markets are penetrated using exports and licenses with little local responsiveness. Multidomestic strategy—A strategy in which operating decisions are decentralized to each country to enhance local responsiveness. Global strategy—A strategy in which operating decisions are centralized and headquarters coordinates the standardization and learning between facilities. Transnational strategy—A strategy that combines the benefits of global-scale efficiencies with the benefits of local responsiveness. These firms transgress national boundaries. Self Test j Before taking the self-test, refer to the learning objectives listed at the beginning of the chapter and the key terms listed at the end of the chapter. LO 2.1 A mission statement is beneficial to an organization because it: a) is a statement of the organization’s purpose. b) provides a basis for the organization’s culture. c) identifies important constituencies. d) details specific income goals. e) ensures profitability. LO 2.2 The three strategic approaches to competitive advantage are ____, ____, and _____. LO 2.3 Core competencies are those strengths in a firm that include: a) specialized skills. b) unique production methods. c) proprietary information/knowledge. d) things a company does better than others. e) all of the above. LO 2.4 Evaluating outsourcing providers by comparing their weighted average scores involves: a) factor-rating analysis. b) cost-volume analysis. c) transportation model analysis. d) linear regression analysis. e) crossover analysis. LO 2.5 A company that is organized across international boundaries, with decentralized authority and substantial autonomy at each business via subsidiaries, franchises, or joint ventures, has: a) a global strategy. b) a transnational strategy. c) an international strategy. d) a multidomestic strategy. Answers: LO 2.1. a; LO 2.2. differentiation, cost leadership, response; LO 2.3. e; LO 2.4. a; LO 2.5. c. M02_HEIZ0422_12_SE_C02.indd 58 03/11/15 5:33 PM GLOBAL COMPANY PROFILE: Bechtel Group ◆ The Importance of Project Management 62 ◆ Project Planning 62 ◆ Project Scheduling 65 ◆ Project Controlling 66 ◆ Project Management Techniques: PERT and CPM 67 ◆ Determining the Project Schedule 71 ◆ ◆ ◆ ◆ Variability in Activity Times 77 Cost-Time Trade-Offs and Project Crashing 82 A Critique of PERT and CPM 85 Using Microsoft Project to Manage Projects 86 Alaska Airlines CHAPTER OUTLINE C H A P T E R 3 Project Management 59 M03_HEIZ0422_12_SE_C03.indd 59 03/11/15 5:49 PM C H A P T E R 3 Project Management Provides a Competitive Advantage for Bechtel GLOBAL COMPANY PROFILE Bechtel Group O ver a century old, the San Francisco–based Bechtel Group (www.bechtel.com) is the world’s premier manager of massive construction and engineering projects. Known for billion-dollar projects, Bechtel is famous for its construction feats on the Hoover Dam, the Boston Central Artery/Tunnel project, the Riyadh, Saudi Arabia Metro, and over 25,000 other projects in 160 countries. With 53,000 employees and revenues over $39 billion, Bechtel is the U.S.’s largest project manager. Conditions weren’t what Bechtel expected when it won a series of billion-dollar contracts from the U.S. government to help reconstruct war-torn Iraq in the last decade. That country’s defeat by Allied forces hadn’t caused much war damage. Instead, what Bechtel found was a nation that had been Philipus/Alamy crumbling for years. None of the sewage plants in Baghdad worked. Power flicked on and off. Towns and cities had been left A massive dredge hired by Bechtel removes silt from Iraq’s port at Umm Qasr. This paved the way for large-scale deliveries of U.S. food and the return of commercial shipping. to decay. And scavengers were stealing everything from museum artifacts to electric power lines. Bechtel’s job was to oversee electric power, sewage, transportation, and airport repairs. Bechtel’s crews travelled under armed escort and slept in trailers surrounded by Steve Hebert/Bechtel National, Inc./PRN/Newscom razor wire. But the company’s efforts have paid off. Iraq’s main seaport, Umm Qasr, has opened. Electrical generation is back to prewar levels, and Bechtel has refurbished more than 1,200 schools. With a global procurement program, Bechtel easily tapped the company’s network of suppliers and buyers worldIn addition to major construction projects, Bechtel used its project management skills to provide emergency response to major catastrophes as it did here in the wake of Hurricane Katrina. wide to help rebuild Iraq’s infrastructure. 60 M03_HEIZ0422_12_SE_C03.indd 60 03/11/15 5:49 PM Courtesy of Bechtel Corporation Managing massive construction projects such as this is the strength of Bechtel. With large penalties for late completion and incentives for early completion, a good project manager is worth his or her weight in gold. Other interesting recent Bechtel projects ◆ include: ◆ Constructing 30 high-security data centers ($2.6 billion). ◆ ◆ Building and running a rail line between Building 30 plants for iMotors.com, a company that sells refurbished autos online ($4.6 billion). ($300 million). Developing an oil pipeline from the Caspian Expanding the Dubai Airport in the United ◆ Building a highway to link the north and south of Croatia ($303 million). When companies or countries seek out Arab Emirates ($600 million) and the Miami firms to manage massive projects, they go International Airport ($2 billion). to Bechtel, which, again and again, through Building liquefied natural gas plants in Trini- outstanding project management, has dem- dad, West Indies ($1 billion). onstrated its competitive advantage. Joe Cavaretta/AP Images Thomas Hartwell/U.S. Agency for International Development (USAID) ◆ ◆ London and the Channel Tunnel Sea region to Russia ($850 million). ◆ Constructing a natural gas pipeline in Thailand ($700 million). worldwide for Equinix, Inc. ($1.2 billion). ◆ Building a new subway for Athens, Greece Reconstructed terminal at Baghdad International Airport. Bechtel was the construction contractor for the Hoover Dam. This dam, on the Colorado River, is the highest in the Western Hemisphere. 61 M03_HEIZ0422_12_SE_C03.indd 61 03/11/15 5:49 PM L E A RNING OBJECTIVES LO 3.1 Use a Gantt chart for scheduling 65 LO 3.2 Draw AOA and AON networks 69 LO 3.3 Complete forward and backward passes for a project 72 LO 3.4 Determine a critical path 76 LO 3.5 Calculate the variance of activity times 78 LO 3.6 Crash a project 83 STUDENT TIP Wherever your career takes you, one of the most useful tools you can have, as a manager, is the ability to manage a project. VIDEO 3.1 Project Management at Hard Rock’s Rockfest The Importance of Project Management When Bechtel, the subject of the opening Global Company Profile, begins a project, it quickly has to mobilize substantial resources, often consisting of manual workers, construction professionals, cooks, medical personnel, and even security forces. Its project management team develops a supply chain to access materials to build everything from ports to bridges, dams, and monorails. Bechtel is just one example of a firm that faces modern phenomena: growing project complexity and collapsing product/service life cycles. This change stems from awareness of the strategic value of time-based competition and a quality mandate for continuous improvement. Each new product/service introduction is a unique event—a project. In addition, projects are a common part of our everyday life. We may be planning a wedding or a surprise birthday party, remodeling a house, or preparing a semester-long class project. Scheduling projects can be a difficult challenge for operations managers. The stakes in project management are high. Cost overruns and unnecessary delays occur due to poor scheduling and poor controls. Projects that take months or years to complete are usually developed outside the normal production system. Project organizations within the firm may be set up to handle such jobs and are often disbanded when the project is complete. On other occasions, managers find projects just a part of their job. The management of projects involves three phases (see Figure 3.1): 1. Planning: This phase includes goal setting, defining the project, and team organization. 2. Scheduling: This phase relates people, money, and supplies to specific activities and relates activities to each other. 3. Controlling: Here the firm monitors resources, costs, quality, and budgets. It also revises or changes plans and shifts resources to meet time and cost demands. We begin this chapter with a brief overview of these functions. Three popular techniques to allow managers to plan, schedule, and control—Gantt charts, PERT, and CPM—are also described. Project Planning Project organization An organization formed to ensure that programs (projects) receive the proper management and attention. Projects can be defined as a series of related tasks directed toward a major output. In some firms a project organization is developed to make sure existing programs continue to run smoothly on a day-to-day basis while new projects are successfully completed. For companies with multiple large projects, such as a construction firm, a project organization is an effective way of assigning the people and physical resources needed. It is a temporary organization structure designed to achieve results by using specialists from throughout the firm. The project organization may be most helpful when: 1. Work tasks can be defined with a specific goal and deadline. 2. The job is unique or somewhat unfamiliar to the existing organization. 3. The work contains complex interrelated tasks requiring specialized skills. 62 M03_HEIZ0422_12_SE_C03.indd 62 03/11/15 5:49 PM CHAP T ER 3 | PROJECT MANAGEMENT Figure Tim Performance Set the goals 3.1 Project Planning, Scheduling, and Controlling st Co e Planning the Project (Before project) 63 Define the project Develop work breakdown structure Identify team/ resources Scheduling the Project Sequence activities June 1.1 1.2 2.0 2.1 2.11 Adams Smith Jones Assign people S M T W T F S STUDENT TIP Managers must “make the plan and then work the plan.” 1 2 3 4 5 6 7 Schedule deliverables 8 9 10 11 12 13 Schedule resources Controlling the Project (During project) Revise and change plans 1.1 1.2 2.0 2.1 2.11 Adams Smith Jones Shift resources Monitor resources, costs, quality 4. The project is temporary but critical to the organization. 5. The project cuts across organizational lines. The Project Manager An example of a project organization is shown in Figure 3.2. Project team members are temporarily assigned to a project and report to the project manager. The manager heading the project coordinates activities with other departments and reports directly to top management. Project managers receive high visibility in a firm and are responsible for making sure that (1) all necessary activities are finished in proper sequence and on time; (2) the project comes in within budget; (3) the project meets its quality goals; and (4) the people assigned to the project receive the motivation, direction, and information needed to do their jobs. This means that project managers should be good coaches and communicators, and be able to organize activities from a variety of disciplines. Figure President Human Resources M03_HEIZ0422_12_SE_C03.indd 63 3.2 A Sample Project Organization Marketing Finance Design Quality Mgt. Production Project No.1 Project Manager Mechanical Engineer Test Engineer Technician Project No. 2 Project Manager Electrical Engineer Computer Engineer Technician STUDENT TIP Project organizations can be temporary or permanent. A permanent organization is usually called a matrix organization. 03/11/15 5:49 PM 64 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Ethical Issues Faced in Project Management Project managers not only have high visibility but they also face ethical decisions on a daily basis. How they act establishes the code of conduct for the project. Project managers often deal with (1) offers of gifts from contractors, (2) pressure to alter status reports to mask the reality of delays, (3) false reports for charges of time and expenses, and (4) pressures to compromise quality to meet bonuses or avoid penalties related to schedules. Using the Project Management Institute’s (www.pmi.org) ethical codes is one means of trying to establish standards. These codes need to be accompanied by good leadership and a strong organizational culture, with its ingrained ethical standards and values. Work Breakdown Structure Work breakdown structure (WBS) A hierarchical description of a project into more and more detailed components. The project management team begins its task well in advance of project execution so that a plan can be developed. One of its first steps is to carefully establish the project’s objectives, then break the project down into manageable parts. This work breakdown structure (WBS) defines the project by dividing it into its major subcomponents (or tasks), which are then subdivided into more detailed components, and finally into a set of activities and their related costs. The division of the project into smaller and smaller tasks can be difficult, but is critical to managing the project and to scheduling success. Gross requirements for people, supplies, and equipment are also estimated in this planning phase. The work breakdown structure typically decreases in size from top to bottom and is indented like this: Level 1. Project 2. Major tasks in the project 3. Subtasks in major tasks 4. Activities (or “work packages”) to be completed This hierarchical framework can be illustrated with the development of Microsoft’s operating system Windows 8. As we see in Figure 3.3, the project, creating a new operating system, is labeled 1.0. The first step is to identify the major tasks in the project (level 2). Three examples would be software design (1.1), cost management plan (1.2), and system testing (1.3). Two major subtasks for 1.1 are development of graphical user interfaces (GUIs) (1.1.1) and creating compatibility with previous versions of Windows (1.1.2). The major subtasks for 1.1.2 are level-4 activities, such as creating a team to handle compatibility with Windows 7 (1.1.2.1), Figure 3.3 Develop Windows 8 Operating System Level 1 Work Breakdown Structure Level 2 Software Design 1.1 Cost Management 1.2 Plan System Testing 1.3 Level 3 Develop GUIs 1.1.1 Design Cost 1.2.1 Tracking Reports Module Testing 1.3.1 Ensure Compatibility Develop Cost/ 1.1.2 1.2.2 with Earlier Versions Schedule Interface Defect Tracking 1.3.2 Level 4 (Work packages) M03_HEIZ0422_12_SE_C03.indd 64 1.0 Compatible with Windows 7 1.1.2.1 Compatible with Windows Vista 1.1.2.2 Compatible with Windows XP 1.1.2.3 03/11/15 5:49 PM CHAP T ER 3 | PROJECT MANAGEMENT 65 creating a team for Windows Vista (1.1.2.2), and creating a team for Windows XP (1.1.2.3). There are usually many level-4 activities. Project Scheduling Project scheduling involves sequencing and allotting time to all project activities. At this stage, managers decide how long each activity will take and compute the resources needed at each stage of production. Managers may also chart separate schedules for personnel needs by type of skill (management, engineering, or pouring concrete, for example) and material needs. One popular project scheduling approach is the Gantt chart. Gantt charts are low-cost means of helping managers make sure that (1) activities are planned, (2) order of performance is documented, (3) activity time estimates are recorded, and (4) overall project time is developed. As Figure 3.4 shows, Gantt charts are easy to understand. Horizontal bars are drawn for each project activity along a time line. This illustration of a routine servicing of a Delta jetliner during a 40-minute layover shows that Gantt charts also can be used for scheduling repetitive operations. In this case, the chart helps point out potential delays. The OM in Action box on Delta provides additional insights. On simple projects, scheduling charts such as these permit managers to observe the progress of each activity and to spot and tackle problem areas. Gantt charts, though, do not adequately illustrate the interrelationships between the activities and the resources. PERT and CPM, the two widely used network techniques that we shall discuss shortly, do have the ability to consider precedence relationships and interdependency of activities. On complex projects, the scheduling of which is almost always computerized, PERT and CPM thus have an edge over the simpler Gantt charts. Even on huge projects, though, Gantt charts can be used as summaries of project status and may complement the other network approaches. To summarize, whatever the approach taken by a project manager, project scheduling serves several purposes: 1. 2. 3. 4. Gantt charts Planning charts used to schedule resources and allocate time. STUDENT TIP Gantt charts are simple and visual, making them widely used. LO 3.1 Use a Gantt chart for scheduling It shows the relationship of each activity to others and to the whole project. It identifies the precedence relationships among activities. It encourages the setting of realistic time and cost estimates for each activity. It helps make better use of people, money, and material resources by identifying critical bottlenecks in the project. Passengers Baggage Fueling Cargo and mail Galley servicing Lavatory servicing Drinking water Cabin cleaning Cargo and mail Flight service Operating crew Baggage Passengers Figure Deplaning Baggage claim 3.4 Gantt Chart of Service Activities for a Delta Jet during a 40-Minute Layover Container offload Pumping Engine injection water Container offload Main cabin door Aft cabin door Aft, center, forward Loading Delta saves $50 million a year with this turnaround time, which is a reduction from its traditional 60-minute routine. First-class section Economy section Container/bulk loading Galley/cabin check Receive passengers Aircraft check Loading Boarding 0 10 20 30 40 Time, minutes M03_HEIZ0422_12_SE_C03.indd 65 03/11/15 5:49 PM PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT OM in Action Delta’s Ground Crew Orchestrates a Smooth Takeoff Flight 574’s engines screech its arrival as the jet lumbers down Richmond’s taxiway with 140 passengers arriving from Atlanta. In 40 minutes, the plane is to be airborne again. However, before this jet can depart, there is business to attend to: passengers, luggage, and cargo to unload and load; thousands of gallons of jet fuel and countless drinks to restock; cabin and restrooms to clean; toilet holding tanks to drain; and engines, wings, and landing gear to inspect. The 10-person ground crew knows that a miscue anywhere—a broken cargo loader, lost baggage, misdirected passengers—can mean a late departure and trigger a chain reaction of headaches from Richmond to Atlanta to every destination of a connecting flight. Carla Sutera, the operations manager for Delta’s Richmond International Airport, views the turnaround operation like a pit boss awaiting a race car. Trained crews are in place for Flight 574 with baggage carts and tractors, hydraulic cargo loaders, a truck to load food and drinks, another to lift the cleanup crew, another to put fuel on, and a fourth to take water off. The “pit crew” usually performs so smoothly that most passengers never suspect the proportions of the effort. Gantt charts, such as the one in Figure 3.4, aid Delta and other airlines with the staffing and scheduling that are needed for this task. Sources: Knight Ridder Tribune Business News (July 16, 2005) and (November 21, 2002). Jeff Topping/Getty Images 66 Project Controlling Courtesy Arnold Palmer Medical Center STUDENT TIP To use project management software, you first need to understand the next two sections in this chapter. The control of projects, like the control of any management system, involves close monitoring of resources, costs, quality, and budgets. Control also means using a feedback loop to revise the project plan and having the ability to shift resources to where they are needed most. Computerized PERT/CPM reports and charts are widely available today from scores of competing software firms. Some of the more popular of these programs are Oracle Primavera (by Oracle), MindView (by Match Ware), HP Project (by Hewlett-Packard), Fast Track (by AEC Software), and Microsoft Project (by Microsoft Corp.), which we illustrate in this chapter. These programs produce a broad variety of reports, including (1) detailed cost breakdowns, (2) labor requirements, (3) cost and hour summaries, (4) raw material and expenditure forecasts, (5) variance reports, (6) time analysis reports, and (7) work status reports. Courtesy Arnold Palmer Medical Center VIDEO 3.2 Project Management at Arnold Palmer Hospital Construction of the new 11-story building at Arnold Palmer Hospital in Orlando, Florida, was an enormous project for the hospital administration. The photo on the left shows the first six floors under construction. The photo on the right shows the building as completed two years later. Prior to beginning actual construction, regulatory and funding issues added, as they do with most projects, substantial time to the overall project. Cities have zoning and parking issues; the EPA has drainage and waste issues; and regulatory authorities have their own requirements, as do issuers of bonds. The $100 million, 4-year project at Arnold Palmer Hospital is discussed in the Video Case Study at the end of this chapter. M03_HEIZ0422_12_SE_C03.indd 66 03/11/15 5:49 PM CHAP T ER 3 OM in Action | PROJECT MANAGEMENT 67 Agile Project Management at Mastek Agile project management has changed the way that Mastek Corp., in Mumbai, India, develops its educational software products. On a traditional well-defined project, managers are actively involved in directing work and telling their team what needs to be done—a style often referred to as a step-by-step waterfall style of project management. Agile project management is different. In the early stages, the project manager creates a high-level plan, based on outline requirements and a high-level view of the solution. From that point, the end project is created iteratively and incrementally, with each increment building on the output of steps preceding it. The principles of agile are essentially communication and transparency. Instead of waiting for something to be delivered, with limited understanding of the desired end result, there are numerous checkpoints and feedback loops to track progress. Agile provides Mastek the ability to keep costs under control. Without agile, the cost of quality increases. “It’s much harder to correct mistakes when a software product is nearing its final phase of development,” says a company executive. “It’s much better to develop it as you go along. I think agile project management would help any software developer.” Sources: AMPG International (2015) and www.cprime.com (2012). Controlling projects can be difficult. The stakes are high; cost overruns and unnecessary delays can occur due to poor planning, scheduling, and controls. Some projects are “well-defined,” whereas others may be “ill-defined.” Projects typically only become well-defined after detailed extensive initial planning and careful definition of required inputs, resources, processes, and outputs. Well-established projects where constraints are known (e.g., buildings and roads) and engineered products (e.g., airplanes and cars) with well-defined specifications and drawings may fall into this category. Well-defined projects are assumed to have changes small enough to be managed without substantially revising plans. They use what is called a waterfall approach, where the project progresses smoothly, in a step-by-step manner, through each phase to completion. But many projects, such as software development (e.g., 3-D games) and new technology (e.g., landing the Mars land rover) are ill-defined. These projects require what is known as an agile style of management with collaboration and constant feedback to adjust to the many unknowns of the evolving technology and project specifications. The OM in Action box “Agile Project Management at Mastek” provides such an example. Most projects fall somewhere between waterfall and agile. Project Management Techniques: PERT and CPM Program evaluation and review technique (PERT) and the critical path method (CPM) were both developed in the 1950s to help managers schedule, monitor, and control large and complex projects. CPM arrived first, as a tool developed to assist in the building and maintenance of chemical plants at duPont. Independently, PERT was developed in 1958 for the U.S. Navy. The Framework of PERT and CPM PERT and CPM both follow six basic steps: 1. Define the project and prepare the work breakdown structure. 2. Develop the relationships among the activities. Decide which activities must precede and which must follow others. 3. Draw the network connecting all the activities. 4. Assign time and/or cost estimates to each activity. 5. Compute the longest time path through the network. This is called the critical path. 6. Use the network to help plan, schedule, monitor, and control the project. Step 5, finding the critical path, is a major part of controlling a project. The activities on the critical path represent tasks that will delay the entire project if they are not completed on time. Managers can gain the flexibility needed to complete critical tasks by identifying M03_HEIZ0422_12_SE_C03.indd 67 Program evaluation and review technique (PERT) A project management technique that employs three time estimates for each activity. Critical path method (CPM) A project management technique that uses only one time factor per activity. Critical path The computed longest time path(s) through a network. 03/11/15 5:49 PM 68 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT noncritical activities and replanning, rescheduling, and reallocating labor and financial resources. Although PERT and CPM differ to some extent in terminology and in the construction of the network, their objectives are the same. Furthermore, the analysis used in both techniques is very similar. The major difference is that PERT employs three time estimates for each activity. These time estimates are used to compute expected values and standard deviations for the activity. CPM makes the assumption that activity times are known with certainty and hence requires only one time factor for each activity. For purposes of illustration, the rest of this section concentrates on a discussion of PERT. Most of the comments and procedures described, however, apply just as well to CPM. PERT and CPM are important because they can help answer questions such as the following about projects with thousands of activities: 1. When will the entire project be completed? 2. What are the critical activities or tasks in the project—that is, which activities will delay the entire project if they are late? 3. Which are the noncritical activities—the ones that can run late without delaying the whole project’s completion? 4. What is the probability that the project will be completed by a specific date? 5. At any particular date, is the project on schedule, behind schedule, or ahead of schedule? 6. On any given date, is the money spent equal to, less than, or greater than the budgeted amount? 7. Are there enough resources available to finish the project on time? 8. If the project is to be finished in a shorter amount of time, what is the best way to accomplish this goal at the least cost? Network Diagrams and Approaches Activity-on-node (AON) A network diagram in which nodes designate activities. Activity-on-arrow (AOA) A network diagram in which arrows designate activities. Example 1 The first step in a PERT or CPM network is to divide the entire project into significant activities in accordance with the work breakdown structure. There are two approaches for drawing a project network: activity on node (AON) and activity on arrow (AOA). Under the AON convention, nodes designate activities. Under AOA, arrows represent activities. Activities consume time and resources. The basic difference between AON and AOA is that the nodes in an AON diagram represent activities. In an AOA network, the nodes represent the starting and finishing times of an activity and are also called events. So nodes in AOA consume neither time nor resources. Although both AON and AOA are popular in practice, many of the project management software packages, including Microsoft Project, use AON networks. For this reason, although we illustrate both types of networks in the next examples, we focus on AON networks in subsequent discussions in this chapter. PREDECESSOR RELATIONSHIPS FOR POLLUTION CONTROL AT MILWAUKEE PAPER Milwaukee Paper Manufacturing had long delayed the expense of installing advanced computerized air pollution control equipment in its facility. But when the board of directors adopted a new proactive policy on sustainability, it did not just authorize the budget for the state-of-the-art equipment. It directed the plant manager, Julie Ann Williams, to complete the installation in time for a major announcement of the policy, on Earth Day, exactly 16 weeks away! Under strict deadline from her bosses, Williams needs to be sure that installation of the filtering system progresses smoothly and on time. Given the following information, develop a table showing activity precedence relationships. Milwaukee Paper has identified the eight activities that need to be performed in order for the project to be completed. When the project begins, two activities can be simultaneously started: building the internal components for the device (activity A) and the modifications necessary for the floor and roof (activity B). The construction of the collection stack (activity C) can begin when APPROACH c M03_HEIZ0422_12_SE_C03.indd 68 03/11/15 5:49 PM CHAP T ER 3 | 69 PROJECT MANAGEMENT the internal components are completed. Pouring the concrete floor and installation of the frame (activity D) can be started as soon as the internal components are completed and the roof and floor have been modified. After the collection stack has been constructed, two activities can begin: building the high-temperature burner (activity E) and installing the pollution control system (activity F). The air pollution device can be installed (activity G) after the concrete floor has been poured, the frame has been installed, and the high-temperature burner has been built. Finally, after the control system and pollution device have been installed, the system can be inspected and tested (activity H). SOLUTION c Activities and precedence relationships may seem rather confusing when they are presented in this descriptive form. It is therefore convenient to list all the activity information in a table, as shown in Table 3.1. We see in the table that activity A is listed as an immediate predecessor of activity C. Likewise, both activities D and E must be performed prior to starting activity G. TABLE 3.1 ACTIVITY Milwaukee Paper Manufacturing’s Activities and Predecessors DESCRIPTION IMMEDIATE PREDECESSORS A Build internal components — B Modify roof and floor — C Construct collection stack A D Pour concrete and install frame A, B E Build high-temperature burner C F Install pollution control system C G Install air pollution device D, E H Inspect and test F, G INSIGHT c To complete a network, all predecessors must be clearly defined. LEARNING EXERCISE c What is the impact on this sequence of activities if Environmental Protection Agency (EPA) approval is required after Inspect and Test? [Answer: The immediate predecessor for the new activity would be H, Inspect and Test, with EPA approval as the last activity.] Activity-on-Node Example Note that in Example 1, we only list the immediate predecessors for each activity. For instance, in Table 3.1, because activity A precedes activity C, and activity C precedes activity E, the fact that activity A precedes activity E is implicit. This relationship need not be explicitly shown in the activity precedence relationships. When there are many activities in a project with fairly complicated precedence relationships, it is difficult for an individual to comprehend the complexity of the project from just the tabular information. In such cases, a visual representation of the project, using a project network, is convenient and useful. A project network is a diagram of all the activities and the precedence relationships that exist between these activities in a project. Example 2 illustrates how to construct an AON project network for Milwaukee Paper Manufacturing. It is convenient to have the project network start and finish with a unique node. In the Milwaukee Paper example, it turns out that a unique activity, H, is the last activity in the project. We therefore automatically have a unique ending node. In situations in which a project has multiple ending activities, we include a “dummy” ending activity. We illustrate this type of situation in Solved Problem 3.1 at the end of this chapter. M03_HEIZ0422_12_SE_C03.indd 69 LO 3.2 Draw AOA and AON networks 03/11/15 5:49 PM 70 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Example 2 AON GRAPH FOR MILWAUKEE PAPER Draw the AON network for Milwaukee Paper, using the data in Example 1. APPROACH c In the AON approach, we denote each activity by a node. The lines, or arrows, represent the precedence relationships between the activities. In this example, there are two activities (A and B) that do not have any predecessors. We draw separate nodes for each of these activities, as shown in Figure 3.5. Although not required, it is usually convenient to have a unique starting activity for a project. We have therefore included a dummy activity called Start in Figure 3.5. This dummy activity does not really exist and takes up zero time and resources. Activity Start is an immediate predecessor for both activities A and B, and it serves as the unique starting activity for the entire project. SOLUTION c Dummy activity An activity having no time that is inserted into a network to maintain the logic of the network. Figure 3.5 Beginning AON Network for Milwaukee Paper A Activity A (Build Internal Components) B Activity B (Modify Roof and Floor) Start Start Activity We now show the precedence relationships using lines with arrow symbols. For example, an arrow from activity Start to activity A indicates that Start is a predecessor for activity A. In a similar fashion, we draw an arrow from Start to B. Next, we add a new node for activity C. Because activity A precedes activity C, we draw an arrow from node A to node C (see Figure 3.6). Likewise, we first draw a node to represent activity D. Then, because activities A and B both precede activity D, we draw arrows from A to D and from B to D (see Figure 3.6). Figure 3.6 Activity A Precedes Activity C Intermediate AON Network for Milwaukee Paper C A Start B D Activities A and B Precede Activity D We proceed in this fashion, adding a separate node for each activity and a separate line for each precedence relationship that exists. The complete AON project network for the Milwaukee Paper Manufacturing project is shown in Figure 3.7. Figure 3.7 F Complete AON Network for Milwaukee Paper A C E Start H B D G Arrows Show Precedence Relationships INSIGHT c Drawing a project network properly takes some time and experience. We would like the lines to be straight and arrows to move to the right when possible. If EPA Approval occurs after Inspect and Test, what is the impact on the graph? [Answer: A straight line is extended to the right beyond H (with a node I added) to reflect the additional activity.] LEARNING EXERCISE c RELATED PROBLEMS c M03_HEIZ0422_12_SE_C03.indd 70 3.4a, 3.5, 3.8, 3.9, 3.10, 3.11a, 3.12 (3.13–3.14 are available in MyOMLab) 03/11/15 5:49 PM | CHAP T ER 3 71 PROJECT MANAGEMENT Activity-on-Arrow Example In an AOA project network we can represent activities by arrows. A node represents an event, which marks the start or completion time of an activity. We usually identify an event (node) by a number. Example 3 ACTIVITY-ON-ARROW FOR MILWAUKEE PAPER Draw the complete AOA project network for Milwaukee Paper’s problem. Using the data from Table 3.1 in Example 1, draw one activity at a time, starting with A. APPROACH c We see that activity A starts at event 1 and ends at event 2. Likewise, activity B starts at event 1 and ends at event 3. Activity C, whose only immediate predecessor is activity A, starts at node 2 and ends at node 4. Activity D, however, has two predecessors (i.e., A and B). Hence, we need both activities A and B to end at event 3, so that activity D can start at that event. However, we cannot have multiple activities with common starting and ending nodes in an AOA network. To overcome this difficulty, in such cases, we may need to add a dummy line (activity) to enforce the precedence relationship. The dummy activity, shown in Figure 3.8 as a dashed line, is inserted between events 2 and 3 to make the diagram reflect the precedence between A and D. The remainder of the AOA project network for Milwaukee Paper’s example is also shown. SOLUTION c Figure 3.8 Complete AOA Network (with Dummy Activity) for Milwaukee Paper 4 (Construct Stack) (In st l na er ts) t In en ild on u (B omp C A (M od ify Dummy Activity B Ro of r) 3 D (Pour Concrete/Install Frame) F lC on ls) E 6 H (Inspect/Test) 7 n tio lu l o ) lP e al vic t e s (In D G /F loo al tro (Build Burner) 1 STUDENT TIP The dummy activity consumes no time, but note how it changes precedence. Now activity D cannot begin until both B and the dummy are complete. C 2 5 Dummy activities are common in AOA networks. They do not really exist in the project and take zero time. INSIGHT c A new activity, EPA Approval, follows activity H. Add it to Figure 3.8. [Answer: Insert an arrowed line from node 7, which ends at a new node 8, and is labeled I (EPA Approval).] LEARNING EXERCISE c RELATED PROBLEMS c 3.4b, 3.6, 3.7 Determining the Project Schedule Look back at Figure 3.7 (in Example 2) for a moment to see Milwaukee Paper’s completed AON project network. Once this project network has been drawn to show all the activities and their precedence relationships, the next step is to determine the project schedule. That is, we need to identify the planned starting and ending time for each activity. Let us assume Milwaukee Paper estimates the time required for each activity, in weeks, as shown in Table 3.2. The table indicates that the total time for all eight of the company’s activities is 25 weeks. However, because several activities can take place simultaneously, it is clear that the total project completion time may be less than 25 weeks. To find out just how long the project will take, we perform the critical path analysis for the network. M03_HEIZ0422_12_SE_C03.indd 71 Critical path analysis A process that helps determine a project schedule. 03/11/15 5:49 PM 72 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT TABLE 3.2 Time Estimates for Milwaukee Paper Manufacturing ACTIVITY STUDENT TIP Does this mean the project will take 25 weeks to complete? No. Don’t forget that several of the activities are being performed at the same time. It would take 25 weeks if they were done sequentially. DESCRIPTION TIME (WEEKS) A Build internal components 2 B Modify roof and floor 3 C Construct collection stack 2 D Pour concrete and install frame 4 E Build high-temperature burner 4 F Install pollution control system 3 G Install air pollution device 5 H Inspect and test 2 Total time (weeks) 25 As mentioned earlier, the critical path is the longest time path through the network. To find the critical path, we calculate two distinct starting and ending times for each activity. These are defined as follows: Earliest start (ES) = earliest time at which an activity can start, assuming all predecessors have been completed Earliest finish (EF) = earliest time at which an activity can be finished Latest start (LS) = latest time at which an activity can start so as to not delay the completion time of the entire project Latest finish (LF) = latest time by which an activity has to finish so as to not delay the completion time of the entire project Forward pass A process that identifies all the early times. LO 3.3 Complete forward and backward passes for a project Figure We use a two-pass process, consisting of a forward pass and a backward pass, to determine these time schedules for each activity. The early start and finish times (ES and EF) are determined during the forward pass. The late start and finish times (LS and LF) are determined during the backward pass. Forward Pass To clearly show the activity schedules on the project network, we use the notation shown in Figure 3.9. The ES of an activity is shown in the top left corner of the node denoting that activity. The EF is shown in the top right corner. The latest times, LS and LF, are shown in the bottom-left and bottom-right corners, respectively. 3.9 Activity Name or Symbol Notation Used in Nodes for Forward and Backward Pass Earliest Start EF ES LS Latest Start Earliest Finish A LF 2 Latest Finish Activity Duration M03_HEIZ0422_12_SE_C03.indd 72 03/11/15 5:49 PM CHAP T ER 3 Earliest Start Time Rule must be finished: ◆ ◆ | PROJECT MANAGEMENT 73 Before an activity can start, all its immediate predecessors If an activity has only a single immediate predecessor, its ES equals the EF of the predecessor. If an activity has multiple immediate predecessors, its ES is the maximum of all EF values of its predecessors. That is: ES = Max {EF of all immediate predecessors} (3-1) STUDENT TIP All predecessor activities must be completed before an acitivity can begin. The earliest finish time (EF) of an activity is the sum of its earliest start time (ES) and its activity time. That is: Earliest Finish Time Rule EF = ES + Activity time Example 4 (3-2) COMPUTING EARLIEST START AND FINISH TIMES FOR MILWAUKEE PAPER Calculate the earliest start and finish times for the activities in the Milwaukee Paper Manufacturing project. Use Table 3.2, which contains the activity times. Complete the project network for the company’s project, along with the ES and EF values for all activities. APPROACH c With the help of Figure 3.10, we describe how these values are calculated. Because activity Start has no predecessors, we begin by setting its ES to 0. That is, activity Start can begin at time 0, which is the same as the beginning of week 1. If activity Start has an ES of 0, its EF is also 0, since its activity time is 0. Next, we consider activities A and B, both of which have only Start as an immediate predecessor. Using the earliest start time rule, the ES for both activities A and B equals zero, which is the EF of activity Start. Now, using the earliest finish time rule, the EF for A is 2 (= 0 + 2), and the EF for B is 3 (= 0 + 3). Since activity A precedes activity C, the ES of C equals the EF of A (= 2). The EF of C is therefore 4 (= 2 + 2). We now come to activity D. Both activities A and B are immediate predecessors for D. Whereas A has an EF of 2, activity B has an EF of 3. Using the earliest start time rule, we compute the ES of activity D as follows: ES of D = Max{EF of A, EF of B} = Max (2, 3) = 3 SOLUTION c The EF of D equals 7 (= 3 + 4). Next, both activities E and F have activity C as their only immediate predecessor. Therefore, the ES for both E and F equals 4 (= EF of C). The EF of E is 8 (= 4 + 4), and the EF of F is 7 (= 4 + 3). Activity G has both activities D and E as predecessors. Using the earliest start time rule, its ES is therefore the maximum of the EF of D and the EF of E. Hence, the ES of activity G equals 8 (= maximum of 7 and 8), and its EF equals 13 (= 8 + 5). Finally, we come to activity H. Because it also has two predecessors, F and G, the ES of H is the maximum EF of these two activities. That is, the ES of H equals 13 (= maximum of 13 and 7). This implies that the EF of H is 15 (= 13 + 2). Because H is the last activity in the project, this also implies that the earliest time in which the entire project can be completed is 15 weeks. The ES of an activity that has only one predecessor is simply the EF of that predecessor. For an activity with more than one predecessor, we must carefully examine the EFs of all immediate predecessors and choose the largest one. INSIGHT c LEARNING EXERCISE c A new activity I, EPA Approval, takes 1 week. Its predecessor is activity H. What are I’s ES and EF? [Answer: 15, 16] RELATED PROBLEMS c 3.15, 3.16, 3.19c EXCEL OM Data File Ch03Ex4.xls can be found in MyOMLab. Although the forward pass allows us to determine the earliest project completion time, it does not identify the critical path. To identify this path, we need to now conduct the backward pass to determine the LS and LF values for all activities. M03_HEIZ0422_12_SE_C03.indd 73 03/11/15 5:49 PM 74 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT 4 EF of A = ES of A + 2 ES of A A 0 ES of C = EF of A 2 2 2 0 Start C 4 2 4 Activity Name ES 0 E 8 13 4 EF B 7 3 0 0 F ES of D= Max(2,3) 3 3 3 D 7 Figure 15 2 8 4 LS LF Activity Duration H G 13 5 ES = Max{EF of D, EF of E} = Max(7, 8) = 8 3.10 Earliest Start and Earliest Finish Times for Milwaukee Paper Backward Pass Backward pass An activity that finds all the late start and late finish times. Just as the forward pass began with the first activity in the project, the backward pass begins with the last activity in the project. For each activity, we first determine its LF value, followed by its LS value. The following two rules are used in this process. Latest Finish Time Rule This rule is again based on the fact that before an activity can start, all its immediate predecessors must be finished: ◆ ◆ If an activity is an immediate predecessor for just a single activity, its LF equals the LS of the activity that immediately follows it. If an activity is an immediate predecessor to more than one activity, its LF is the minimum of all LS values of all activities that immediately follow it. That is: LF = Min{LS of all immediate following activities} (3-3) The latest start time (LS) of an activity is the difference of its latest finish time (LF) and its activity time. That is: Latest Start Time Rule LS = LF − Activity time Example 5 (3-4) COMPUTING LATEST START AND FINISH TIMES FOR MILWAUKEE PAPER Calculate the latest start and finish times for each activity in Milwaukee Paper’s pollution project. Use Figure 3.10 as a beginning point. Overlay 1 of Figure 3.10 shows the complete project network for Milwaukee Paper, along with added LS and LF values for all activities. In what follows, we see how these values were calculated. APPROACH c M03_HEIZ0422_12_SE_C03.indd 74 03/11/15 5:49 PM CHAP T ER 3 | 75 PROJECT MANAGEMENT We begin by assigning an LF value of 15 weeks for activity H. That is, we specify that the latest finish time for the entire project is the same as its earliest finish time. Using the latest start time rule, the LS of activity H is equal to 13 (= 15 − 2). Because activity H is the lone succeeding activity for both activities F and G, the LF for both F and G equals 13. This implies that the LS of G is 8 (= 13 − 5), and the LS of F is 10 (= 13 − 3). Proceeding in this fashion, we see that the LF of E is 8 (= LS of G), and its LS is 4 (= 8 − 4). Likewise, the LF of D is 8 (= LS of G), and its LS is 4 (= 8 − 4). We now consider activity C, which is an immediate predecessor to two activities: E and F. Using the latest finish time rule, we compute the LF of activity C as follows: SOLUTION c LF of C = Min{LS of E, LS of F} = Min(4, 10) = 4 The LS of C is computed as 2 (= 4 − 2). Next, we compute the LF of B as 4 (= LS of D) and its LS as 1 (= 4 − 3). We now consider activity A. We compute its LF as 2 (= minimum of LS of C and LS of D). Hence, the LS of activity A is 0 (= 2 − 2). Finally, both the LF and LS of activity Start are equal to 0. The LF of an activity that is the predecessor of only one activity is just the LS of that following activity. If the activity is the predecessor to more than one activity, its LF is the smallest LS value of all activities that follow immediately. INSIGHT c LEARNING EXERCISE c A new activity I, EPA Approval, takes 1 week. Its predecessor is activity H. What are I’s LS and LF? [Answer: 15, 16] RELATED PROBLEMS c 3.15, 3.19c Calculating Slack Time and Identifying the Critical Path(s) After we have computed the earliest and latest times for all activities, it is a simple matter to find the amount of slack time that each activity has. Slack is the length of time an activity can be delayed without delaying the entire project. Mathematically: Slack = LS − ES Example 6 or Slack = LF − EF (3-5) Slack time Free time for an activity. Also referred to as free float or free slack. CALCULATING SLACK TIMES FOR MILWAUKEE PAPER Calculate the slack for the activities in the Milwaukee Paper project. APPROACH c line at a time. Start with the data in Overlay 1 of Figure 3.10 in Example 5 and develop Table 3.3 one SOLUTION c Table 3.3 summarizes the ES, EF, LS, LF, and slack time for all of the firm’s activities. Activity B, for example, has 1 week of slack time because its LS is 1 and its ES is 0 (alternatively, its LF is 4 and its EF is 3). This means that activity B can be delayed by up to 1 week, and the whole project can still be finished in 15 weeks. On the other hand, activities A, C, E, G, and H have no slack time. This means that none of them can be delayed without delaying the entire project. Conversely, if plant manager Julie Ann Williams wants to reduce the total project times, she will have to reduce the length of one of these activities. Overlay 2 of Figure 3.10 shows the slack computed for each activity. Slack may be computed from either early/late starts or early/late finishes. The key is to find which activities have zero slack. INSIGHT c M03_HEIZ0422_12_SE_C03.indd 75 03/11/15 5:49 PM 76 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT TABLE 3.3 Milwaukee Paper’s Schedule and Slack Times ACTIVITY ACTIVITY TIME EARLIEST START ES EARLIEST FINISH EF LATEST START LS LATEST FINISH LF SLACK LS – ES ON CRITICAL PATH A 2 0 2 0 2 0 Yes B 3 0 3 1 4 1 No C 2 2 4 2 4 0 Yes D 4 3 7 4 8 1 No E 4 4 8 4 8 0 Yes F 3 4 7 10 13 6 No G 5 8 13 8 13 0 Yes H 2 13 15 13 15 0 Yes A new activity I, EPA Approval, follows activity H and takes 1 week. Is it on the critical path? [Answer: Yes, it’s LS – ES = 0] LEARNING EXERCISE c RELATED PROBLEMS c 3.8d, 3.15d, 3.19c ACTIVE MODEL 3.1 This example is further illustrated in Active Model 3.1 in MyOMLab. LO 3.4 Determine a critical path The activities with zero slack are called critical activities and are said to be on the critical path. The critical path is a continuous path through the project network that: ◆ ◆ ◆ Example 7 Starts at the first activity in the project (Start in our example). Terminates at the last activity in the project (H in our example). Includes only critical activities (i.e., activities with no slack time). SHOWING CRITICAL PATH WITH BLUE ARROWS Show Milwaukee Paper’s critical path and find the project completion time. We use Table 3.3 and Overlay 3 of Figure 3.10. Overlay 3 of Figure 3.10 indicates that the total project completion time of 15 weeks corresponds to the longest path in the network. That path is Start-A-C-E-G-H in network form. It is shown with thick blue arrows. APPROACH c The critical path follows the activities with slack = 0. This is considered the longest path through the network. INSIGHT c Why are activities B, D, and F not on the path with the thick blue line? [Answer: They are not critical and have slack values of 1, 1, and 6 weeks, respectively.] LEARNING EXERCISE c RELATED PROBLEMS c 3.5–3.11, 3.16, 3.19b, 3.21a Total Slack Time Look again at the project network in Overlay 3 of Figure 3.10. Consider activities B and D, which have slack of 1 week each. Does it mean that we can delay each activity by 1 week, and still complete the project in 15 weeks? The answer is no. Let’s assume that activity B is delayed by 1 week. It has used up its slack of 1 week and now has an EF of 4. This implies that activity D now has an ES of 4 and an EF of 8. Note that these are also its LS and LF values, respectively. That is, activity D also has no slack time now. Essentially, the slack of 1 week that activities B and D had is, for that path, shared between them. Delaying either activity by 1 week causes not only that activity, but also the other activity, to lose its slack. This type of a slack time is referred to as total slack. Typically, when two or more noncritical activities appear successively in a path, they share total slack. M03_HEIZ0422_12_SE_C03.indd 76 03/11/15 5:49 PM CHAP T ER 3 | 77 PROJECT MANAGEMENT Tim Coggin/Alamy To plan, monitor, and control the huge number of details involved in sponsoring a rock festival attended by more than 100,000 fans, managers use Microsoft Project and the tools discussed in this chapter. The Video Case Study “Managing Hard Rock’s Rockfest,” at the end of the chapter, provides more details of the management task. Variability in Activity Times In identifying all earliest and latest times so far, and the associated critical path(s), we have adopted the CPM approach of assuming that all activity times are known and fixed constants. That is, there is no variability in activity times. However, in practice, it is likely that activity completion times vary depending on various factors. For example, building internal components (activity A) for Milwaukee Paper Manufacturing is estimated to finish in 2 weeks. Clearly, supply-chain issues such as late arrival of materials, absence of key personnel, and so on could delay this activity. Suppose activity A actually ends up taking 3 weeks. Because A is on the critical path, the entire project will now be delayed by 1 week to 16 weeks. If we had anticipated completion of this project in 15 weeks, we would obviously miss our Earth Day deadline. Although some activities may be relatively less prone to delays, others could be extremely susceptible to delays. For example, activity B (modify roof and floor) could be heavily dependent on weather conditions. A spell of bad weather could significantly affect its completion time. This means that we cannot ignore the impact of variability in activity times when deciding the schedule for a project. PERT addresses this issue. Three Time Estimates in PERT STUDENT TIP PERT’s ability to handle three time estimates for each activity enables us to compute the probability that we can complete the project by a target date. In PERT, we employ a probability distribution based on three time estimates for each activity, as follows: Optimistic time (a) = time an activity will take if everything goes as planned. In estimating this value, there should be only a small probability (say, 1/100) that the activity time will be < a. Pessimistic time (b) = time an activity will take assuming very unfavorable conditions. In estimating this value, there should also be only a small probability (also 1/100) that the activity time will be > b. Most likely time (m) = most realistic estimate of the time required to complete an activity. When using PERT, we often assume that activity time estimates follow the beta probability distribution (see Figure 3.11). This continuous distribution is often appropriate for determining the expected value and variance for activity completion times. M03_HEIZ0422_12_SE_C03.indd 77 Optimistic time The “best” activity completion time that could be obtained in a PERT network. Pessimistic time The “worst” activity time that could be expected in a PERT network. Most likely time The most probable time to complete an activity in a PERT network. 03/11/15 5:49 PM PA RT 1 Figure 3.11 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Beta Probability Distribution with Three Time Estimates Probability 78 Probability of 1 in 100 of < a occurring Probability of 1 in 100 of > b occurring Optimistic Time (a) Activity Time Pessimistic Time (b) Most Likely Time (m) To find the expected activity time, t, the beta distribution weights the three time estimates as follows: t = (a + 4m + b)∕6 (3-6) That is, the most likely time (m) is given four times the weight as the optimistic time (a) and pessimistic time (b). The time estimate t computed using Equation (3-6) for each activity is used in the project network to compute all earliest and latest times. To compute the dispersion or variance of activity completion time, we use the formula:1 Variance = [(b − a)∕6]2 Example 8 (3-7) EXPECTED TIMES AND VARIANCES FOR MILWAUKEE PAPER Julie Ann Williams and the project management team at Milwaukee Paper want an expected time and variance for Activity F (Installing the Pollution Control System) where: a = 1 week, m = 2 weeks, b = 9 weeks APPROACH c SOLUTION c Use Equations (3–6) and (3–7) to compute the expected time and variance for F. The expected time for Activity F is: t = LO 3.5 Calculate the variance of activity times 1 + 4(2) + 9 a + 4m + b 18 = = = 3 weeks 6 6 6 The variance for Activity F is: Variance = c (9 - 1) 2 (b - a) 2 8 2 64 d = c d = a b = = 1.78 6 6 6 36 Williams now has information that allows her to understand and manage Activity F. The expected time is, in fact, the activity time used in our earlier computation and identification of the critical path. INSIGHT c Review the expected times and variances for all of the other activities in the project. These are shown in Table 3.4. LEARNING EXERCISE c TABLE 3.4 STUDENT TIP Can you see why the variance is higher in some activities than in others? Note the spread between the optimistic and pessimistic times. Time Estimates (in weeks) for Milwaukee Paper’s Project ACTIVITY OPTIMISTIC a MOST LIKELY m PESSIMISTIC b EXPECTED TIME t 5 (a 1 4 m 1 b)/6 A 1 2 3 2 [(3 2 1)/6]2 = 4/36 = .11 B 2 3 4 3 [(4 2 2)/6]2 = 4/36 = .11 C 1 2 3 2 [(3 2 1)/6]2 = 4/36 = .11 D 2 4 6 4 [(6 2 2)/6]2 = 16/36 = .44 E 1 4 7 4 [(7 2 1)/6]2 = 36/36 = 1.00 F 1 2 9 3 [(9 2 1)/6]2 = 64/36 = 1.78 G 3 4 11 5 [(11 2 3)/6]2 = 64/36 = 1.78 H 1 2 3 2 [(3 2 1)/6]2 = 4/36 = .11 RELATED PROBLEMS c VARIANCE [(b 2 a)/6]2 3.17a, b, 3.18, 3.19a, 3.20a (3.26b, 3.27 are available in MyOMLab) EXCEL OM Data File Ch03Ex8.xls can be found in MyOMLab. M03_HEIZ0422_12_SE_C03.indd 78 03/11/15 5:49 PM CHAP T ER 3 | PROJECT MANAGEMENT 79 Kim Hong-Ji/Reuters Here we see a ship being built at the Hyundai shipyard, Asia’s largest shipbuilder, in Korea. Managing this project uses the same techniques as managing the remodeling of a store, installing a new production line, or implementing a new computer system. Probability of Project Completion The critical path analysis helped us determine that Milwaukee Paper’s expected project completion time is 15 weeks. Julie Ann Williams knows, however, that there is significant variation in the time estimates for several activities. Variation in activities that are on the critical path can affect the overall project completion time—possibly delaying it. This is one occurrence that worries the plant manager considerably. PERT uses the variance of critical path activities to help determine the variance of the overall project. Project variance is computed by summing variances of critical activities: s2p = Project variance = Σ(variances of activities on critical path) Example 9 (3-8) COMPUTING PROJECT VARIANCE AND STANDARD DEVIATION FOR MILWAUKEE PAPER Milwaukee Paper’s managers now wish to know the project’s variance and standard deviation. Because the activities are independent, we can add the variances of the activities on the critical path and then take the square root to determine the project’s standard deviation. APPROACH c From Example 8 (Table 3.4), we have the variances of all of the activities on the critical path. Specifically, we know that the variance of activity A is 0.11, variance of activity C is 0.11, variance of activity E is 1.00, variance of activity G is 1.78, and variance of activity H is 0.11. Compute the total project variance and project standard deviation: SOLUTION c Project variance (s2p) = 0.11 + 0.11 + 1.00 + 1.78 + 0.11 = 3.11 which implies: Project standard deviation (sp) = 2Project variance = 23.11 = 1.76 weeks INSIGHT c Management now has an estimate not only of expected completion time for the project but also of the standard deviation of that estimate. If the variance for activity A is actually 0.30 (instead of 0.11), what is the new project standard deviation? [Answer: 1.817.] LEARNING EXERCISE c RELATED PROBLEMS c M03_HEIZ0422_12_SE_C03.indd 79 3.17e (3.24 is available in MyOMLab) 03/11/15 5:50 PM 80 PA RT 1 Figure 3.12 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Standard Deviation = 1.76 Weeks Probability Distribution for Project Completion Times at Milwaukee Paper 15 Weeks (Expected Completion Time) How can this information be used to help answer questions regarding the probability of finishing the project on time? PERT makes two more assumptions: (1) total project completion times follow a normal probability distribution, and (2) activity times are statistically independent. With these assumptions, the bell-shaped normal curve shown in Figure 3.12 can be used to represent project completion dates. This normal curve implies that there is a 50% chance that the manufacturer’s project completion time will be less than 15 weeks and a 50% chance that it will exceed 15 weeks. Example 10 PROBABILITY OF COMPLETING A PROJECT ON TIME Julie Ann Williams would like to find the probability that her project will be finished on or before the 16-week Earth Day deadline. To do so, she needs to determine the appropriate area under the normal curve. This is the area to the left of the 16th week. APPROACH c SOLUTION c STUDENT TIP Here is a chance to review your statistical skills and use of a normal distribution table (Appendix I). Figure The standard normal equation can be applied as follows: Z = (Due date - Expected date of completion)>sp = (16 weeks - 15 weeks)>1.76 weeks = 0.57 where Z is the number of standard deviations the due date or target date lies from the mean or expected date. Referring to the Normal Table in Appendix I (alternatively using the Excel formula =NORMSDIST(0.57)), we find a Z-value of 0.57 to the right of the mean indicates a probability of 0.7157. Thus, there is a 71.57% chance that the pollution control equipment can be put in place in 16 weeks or less. This is shown in Figure 3.13. 3.13 Probability That Milwaukee Paper Will Meet the 16-Week Deadline (3-9) 0.57 Standard Deviations Probability (T … 16 Weeks) is 71.57% 15 Weeks 16 Weeks Time INSIGHT c The shaded area to the left of the 16th week (71.57%) represents the probability that the project will be completed in less than 16 weeks. What is the probability that the project will be completed on or before the 17th week? [Answer: About 87.2%.] LEARNING EXERCISE c RELATED PROBLEMS c M03_HEIZ0422_12_SE_C03.indd 80 3.17f, 3.19d, 3.20d, 3.21b, 3.23 (3.25, 3.26e,f,g are available in MyOMLab) 03/11/15 5:50 PM CHAP T ER 3 | PROJECT MANAGEMENT 81 Let’s say Julie Ann Williams is worried that there is only a 71.57% chance that the pollution control equipment can be put in place in 16 weeks or less. She thinks that it may be possible to plead with the board of directors for more time. However, before she approaches the board, she wants to arm herself with sufficient information about the project. Specifically, she wants to find the deadline by which she has a 99% chance of completing the project. She hopes to use her analysis to convince the board to agree to this extended deadline, even though she is aware of the public relations damage the delay will cause. Clearly, this due date would be greater than 16 weeks. However, what is the exact value of this new due date? To answer this question, we again use the assumption that Milwaukee Paper’s project completion time follows a normal probability distribution with a mean of 15 weeks and a standard deviation of 1.76 weeks. Determining Project Completion Time for a Given Confidence Level Example 11 COMPUTING PROBABILITY FOR ANY COMPLETION DATE Julie Ann Williams wants to find the due date that gives her company’s project a 99% chance of on-time completion. APPROACH c She first needs to compute the Z-value corresponding to 99%, as shown in Figure 3.14. Mathematically, this is similar to Example 10, except the unknown is now the due date rather than Z. Figure 3.14 Probability of 0.99 Z-Value for 99% Probability of Project Completion at Milwaukee Paper Probability of 0.01 0 2.33 Standard Deviations Z 2.33 Referring again to the Normal Table in Appendix I (alternatively using the Excel formula =NORMSINV(0.99)), we identify a Z-value of 2.33 as being closest to the probability of 0.99. That is, Julie Ann Williams’s due date should be 2.33 standard deviations above the mean project completion time. Starting with the standard normal equation [see Equation (3-9)], we can solve for the due date and rewrite the equation as: SOLUTION c Due date = Expected completion time + (Z * sp) = 15 + (2.33 * 1.76) = 19.1 weeks (3-10) INSIGHT c If Williams can get the board to agree to give her a new deadline of 19.1 weeks (or more), she can be 99% sure of finishing the project by that new target date. LEARNING EXERCISE c What due date gives the project a 95% chance of on-time completion? [Answer: About 17.9 weeks.] RELATED PROBLEMS c 3.21c, 3.23e Variability in Completion Time of Noncritical Paths In our discussion so far, we have focused exclusively on the variability in the completion times of activities on the critical path. This seems logical because these activities are, by definition, the more important activities in a project network. However, when there is variability in activity times, it is important that we also investigate the variability in the completion times of activities on noncritical paths. Consider, for example, activity D in Milwaukee Paper’s project. Recall from Overlay 3 in Figure 3.10 (in Example 7) that this is a noncritical activity, with a slack time of 1 week. We have therefore not considered the variability in D’s time in computing the probabilities of project completion times. We observe, however, that D has a variance of 0.44 (see Table 3.4 in M03_HEIZ0422_12_SE_C03.indd 81 03/11/15 5:50 PM 82 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Example 8). In fact, the pessimistic completion time for D is 6 weeks. This means that if D ends up taking its pessimistic time to finish, the project will not finish in 15 weeks, even though D is not a critical activity. For this reason, when we find probabilities of project completion times, it may be necessary for us to not focus only on the critical path(s). Indeed, some research has suggested that expending project resources to reduce the variability of activities not on the critical path can be an effective element in project management. We may need also to compute these probabilities for noncritical paths, especially those that have relatively large variances. It is possible for a noncritical path to have a smaller probability of completion within a due date, when compared with the critical path. Determining the variance and probability of completion for a noncritical path is done in the same manner as Examples 9 and 10. What Project Management Has Provided So Far Project management techniques have thus far been able to provide Julie Ann Williams with several valuable pieces of management information: 1. The project’s expected completion date is 15 weeks. 2. There is a 71.57% chance that the equipment will be in place within the 16-week deadline. PERT analysis can easily find the probability of finishing by any date Williams is interested in. 3. Five activities (A, C, E, G, and H) are on the critical path. If any one of these is delayed for any reason, the entire project will be delayed. 4. Three activities (B, D, F) are not critical and have some slack time built in. This means that Williams can borrow from their resources, and, if necessary, she may be able to speed up the whole project. 5. A detailed schedule of activity starting and ending dates, slack, and critical path activities has been made available (see Table 3.3 in Example 6). Cost-Time Trade-Offs and Project Crashing Crashing Shortening activity time in a network to reduce time on the critical path so total completion time is reduced. While managing a project, it is not uncommon for a project manager to be faced with either (or both) of the following situations: (1) the project is behind schedule, and (2) the scheduled project completion time has been moved forward. In either situation, some or all of the remaining activities need to be speeded up (usually by adding resources) to finish the project by the desired due date. The process by which we shorten the duration of a project in the cheapest manner possible is called project crashing. CPM is a technique in which each activity has a normal or standard time that we use in our computations. Associated with this normal time is the normal cost of the activity. However, another time in project management is the crash time, which is defined as the shortest duration required to complete an activity. Associated with this crash time is the crash cost of the activity. Usually, we can shorten an activity by adding extra resources (e.g., equipment, people) to it. Hence, it is logical for the crash cost of an activity to be higher than its normal cost. The amount by which an activity can be shortened (i.e., the difference between its normal time and crash time) depends on the activity in question. We may not be able to shorten some activities at all. For example, if a casting needs to be heat-treated in the furnace for 48 hours, adding more resources does not help shorten the time. In contrast, we may be able to shorten some activities significantly (e.g., frame a house in 3 days instead of 10 days by using three times as many workers). Likewise, the cost of crashing (or shortening) an activity depends on the nature of the activity. Managers are usually interested in speeding up a project at the least additional cost. Hence, when choosing which activities to crash, and by how much, we need to ensure the following: ◆ ◆ ◆ M03_HEIZ0422_12_SE_C03.indd 82 The amount by which an activity is crashed is, in fact, permissible Taken together, the shortened activity durations will enable us to finish the project by the due date The total cost of crashing is as small as possible 03/11/15 5:50 PM CHAP T ER 3 | PROJECT MANAGEMENT 83 LO 3.6 Crash a project Crashing a project involves four steps: STEP 1: Compute the crash cost per week (or other time period) for each activity in the net- work. If crash costs are linear over time, the following formula can be used: Crash cost per period = (Crash cost - Normal cost) (Normal time - Crash time) (3-11) STEP 2: Using the current activity times, find the critical path(s) in the project network. Iden- tify the critical activities. STEP 3: If there is only one critical path, then select the activity on this critical path that (a) can still be crashed and (b) has the smallest crash cost per period. Crash this activity by one period. If there is more than one critical path, then select one activity from each critical path such that (a) each selected activity can still be crashed and (b) the total crash cost per period of all selected activities is the smallest. Crash each activity by one period. Note that the same activity may be common to more than one critical path. STEP 4: Update all activity times. If the desired due date has been reached, stop. If not, re- turn to Step 2. We illustrate project crashing in Example 12. Example 12 PROJECT CRASHING TO MEET A DEADLINE AT MILWAUKEE PAPER Suppose the plant manager at Milwaukee Paper Manufacturing has been given only 13 weeks (instead of 16 weeks) to install the new pollution control equipment. As you recall, the length of Julie Ann Williams’s critical path was 15 weeks, but she must now complete the project in 13 weeks. Williams needs to determine which activities to crash, and by how much, to meet this 13-week due date. Naturally, Williams is interested in speeding up the project by 2 weeks, at the least additional cost. APPROACH c The company’s normal and crash times, and normal and crash costs, are shown in Table 3.5. Note, for example, that activity B’s normal time is 3 weeks (the estimate used in computing the critical path), and its crash time is 1 week. This means that activity B can be shortened by up to 2 weeks if extra resources are provided. The cost of these additional resources is $4,000 (= difference between the crash cost of $34,000 and the normal cost of $30,000). If we assume that the crashing cost is linear over time (i.e., the cost is the same each week), activity B’s crash cost per week is $2,000 (= $4,000/2). SOLUTION c TABLE 3.5 Normal and Crash Data for Milwaukee Paper Manufacturing TIME (WEEKS) ACTIVITY NORMAL COST ($) CRASH NORMAL CRASH CRASH COST PER WEEK ($) CRITICAL PATH? A 2 1 22,000 22,750 750 Yes B 3 1 30,000 34,000 2,000 No C 2 1 26,000 27,000 1,000 Yes D 4 3 48,000 49,000 1,000 No E 4 2 56,000 58,000 1,000 Yes F 3 2 30,000 30,500 500 No G 5 2 80,000 84,500 1,500 Yes H 2 1 16,000 19,000 3,000 Yes This calculation for Activity B is shown in Figure 3.15. Crash costs for all other activities can be computed in a similar fashion. M03_HEIZ0422_12_SE_C03.indd 83 03/11/15 5:50 PM 84 PA RT 1 Figure 3.15 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Activity Cost Crash and Normal Times and Costs for Activity B Crash $34,000 Crash Cost/Week = Crash Cost – Normal Cost Normal Time – Crash Time Crash Cost $33,000 = $34,000 – $30,000 3–1 = $4,000 = $2,000/Week 2 Weeks $32,000 $31,000 Normal $30,000 Normal Cost 1 2 Time (Weeks) 3 Crash Time Normal Time Steps 2, 3, and 4 can now be applied to reduce Milwaukee Paper’s project completion time at a minimum cost. We show the project network for Milwaukee Paper again in Figure 3.16. Figure 3.16 Critical Path and Slack Times for Milwaukee Paper ES A 0 LS 0 2 0 Start 0 10 2 2 2 2 Slack = 0 0 4 EF LF C 2 4 4 Activity Name 1 B 3 Slack = 1 E 4 8 13 8 13 Slack = 0 3 3 4 4 Activity Duration 13 Slack = 0 4 0 3 7 Slack = 6 4 0 0 F D 4 2 15 15 Slack = 0 7 8 8 8 Slack = 1 H G 5 13 13 Slack = 0 The current critical path (using normal times) is Start–A–C–E–G–H, in which Start is just a dummy starting activity. Of these critical activities, activity A has the lowest crash cost per week of $750. Julie Ann Williams should therefore crash activity A by 1 week to reduce the project completion time to 14 weeks. The cost is an additional $750. Note that activity A cannot be crashed any further, since it has reached its crash limit of 1 week. At this stage, the original path Start–A–C–E–G–H remains critical with a completion time of 14 weeks. However, a new path Start–B–D–G–H is also critical now, with a completion time of 14 weeks. Hence, any further crashing must be done to both critical paths. On each of these critical paths, we need to identify one activity that can still be crashed. We also want the total cost of crashing an activity on each path to be the smallest. We might be tempted to simply pick the activities with the smallest crash cost per period in each path. If we did this, we would select activity C from the first path and activity D from the second path. The total crash cost would then be $2,000 (= $1,000 + $1,000). M03_HEIZ0422_12_SE_C03.indd 84 03/11/15 5:50 PM CHAP T ER 3 | PROJECT MANAGEMENT 85 But we spot that activity G is common to both paths. That is, by crashing activity G, we will simultaneously reduce the completion time of both paths. Even though the $1,500 crash cost for activity G is higher than that for activities C and D, we would still prefer crashing G because the total crashing cost will now be only $1,500 (compared with the $2,000 if we crash C and D). To crash the project down to 13 weeks, Williams should crash activity A by 1 week and activity G by 1 week. The total additional cost will be $2,250 (= $750 + $1,500). This is important because many contracts for projects include bonuses or penalties for early or late finishes. INSIGHT c Say the crash cost for activity B is $31,000 instead of $34,000. How does this change the answer? [Answer: no change.] LEARNING EXERCISE c RELATED PROBLEMS c 3.28–3.32 (3.33 is available in MyOMLab) EXCEL OM Data File Ch03Ex12.xls can be found in MyOMLab. A Critique of PERT and CPM As a critique of our discussions of PERT, here are some of its features about which operations managers need to be aware: Advantages 1. 2. 3. 4. Especially useful when scheduling and controlling large projects. Straightforward concept and not mathematically complex. Graphical networks help highlight relationships among project activities. Critical path and slack time analyses help pinpoint activities that need to be closely watched. 5. Project documentation and graphs point out who is responsible for various activities. 6. Applicable to a wide variety of projects. 7. Useful in monitoring not only schedules but costs as well. Behind the Tour de France The large behind-the-scenes operations that support a football World Cup or Formula One racing team are well-known, but a Tour de France team also needs major support. “A Tour de France team is like a large traveling circus,” says the coach of the Belkin team. “The public only sees the riders, but they could not function without the unseen support staff.” The base to the team’s cycling pyramid includes everything from osteopaths to mechanics, from logistics staff to PR people. Their project management skills require substantial know-how, as well as the ability to guarantee that riders are in peak physical, nutritional, and psychological condition. This can mean deciding which snack bars to give the cyclists before, during, and after race stages, while ensuring there are scientifically based cooling regimens in place for the riders. The team’s huge truck, coach, three vans, and five cars resemble the sort of traveling convoy more associated with an international music act. Here are just some of the supplies the project management team for Belkin handles: ◆ ◆ ◆ ◆ ◆ ◆ 11 mattresses 36 aero suits, 45 bib shorts, 54 race jerseys, 250 podium caps 63 bikes 140 wheels, 220 tires 250 feeding bags, 3,000 water bottles 2,190 nutrition gels, 3,800 nutrition bars M03_HEIZ0422_12_SE_C03.indd 85 Marc Pagani Photography/Shutterstock OM in Action ◆ ◆ 10 jars of peanut butter, 10 boxes of chocolate sprinkles, 20 bags of wine gums, 20 jars of jam 80 kg of nuts, raisins, apricots, and figs, plus 50 kg of cereals The project management behind a world-tour team is complex: These top teams often compete in two to three races simultaneously, in different countries and sometimes on different continents. Each team has 25–35 riders (9 compete in any single race), coming from different parts of the world, going to different races at different times, each with his own physique and strengths. They have customized bikes, uniforms, and food preferences. The support staff can include another 30 people. Sources: BBC News (July 6, 2014) and The Operations Room (June 24,2013). 03/11/15 5:50 PM 86 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Limitations 1. Project activities have to be clearly defined, independent, and stable in their relationships. 2. Precedence relationships must be specified and networked together. 3. Time estimates tend to be subjective and are subject to fudging by managers who fear the dangers of being overly optimistic or not pessimistic enough. 4. There is the inherent danger of placing too much emphasis on the longest, or critical, path. Near-critical paths need to be monitored closely as well. Using Microsoft Project to Manage Projects Milwaukee Paper Co. Activities TIME PREDEACTIVITY (WKS) CESSORS A 2 — B 3 — C 2 A D 4 A, B E 4 C F 3 C G 5 D, E H 2 F, G The approaches discussed so far are effective for managing small projects. However, for large or complex projects, specialized project management software is much preferred. In this section, we provide a brief introduction to the most popular example of such specialized software, Microsoft Project. A time-limited version of Microsoft Project may be requested with this text. Microsoft Project is extremely useful in drawing project networks, identifying the project schedule, and managing project costs and other resources. Entering Data Let us again consider the Milwaukee Paper Manufacturing project. Recall that this project has eight activities (repeated in the margin). The first step is to define the activities and their precedence relationships. To do so, we select File|New to open a blank project. We type the project start date (as July 1), then enter all activity information (see Program 3.1). For each activity (or task, as Microsoft Project calls it), we fill in the name and duration. The description of the activity is also placed in the Task Name column in Program 3.1. As we enter activities and durations, the software automatically inserts start and finish dates. The next step is to define precedence relationships between these activities. To do so, we enter the relevant activity numbers (e.g., 1, 2) in the Predecessors column. When all links have been defined, the complete project schedule can be viewed as a Gantt chart. We can also select View|Network Diagram to view the schedule as a project network (shown in Program 3.2). The critical path is shown in red on the Viewing the Project Schedule Click here to select different views. View has been zoomed out to show weeks. Gantt chart view. Program Project will finish on Friday, 10/14. 3.1 Gantt Chart in Microsoft Project for Milwaukee Paper Manufacturing M03_HEIZ0422_12_SE_C03.indd 86 03/11/15 5:50 PM CHAP T ER 3 | 87 PROJECT MANAGEMENT Click activity to see details regarding the activity. Project network view. Program Critical path and activities (A, C, E, G, and H) are shown in red. 3.2 Project Network in Microsoft Project for Milwaukee Paper Manufacturing screen in the network diagram. We can click on any of the activities in the project network to view details of the activities. Likewise, we can easily add or remove activities from the project network. Each time we do so, Microsoft Project automatically updates all start dates, finish dates, and the critical path(s). If desired, we can manually change the layout of the network (e.g., reposition activities) by changing the options in Format|Layout. Programs 3.1 and 3.2 show that if Milwaukee Paper’s project starts July 1, it can be finished on October 14. The start and finish dates for all activities are also clearly identified. Project management software, we see, can greatly simplify the scheduling procedures discussed earlier in this chapter. STUDENT TIP Now that you understand the workings of PERT and CPM, you are ready to master this useful program. Knowing such software gives you an edge over others in the job market. Microsoft Project does not perform the PERT probability calculations discussed in Examples 10 and 11. However, by clicking View|Toolbars|PERT Analysis, we can get Microsoft Project to allow us to enter optimistic, most likely, and pessimistic times for each activity. We can then choose to view Gantt charts based on any of these three times for each activity. PERT Analysis Perhaps the biggest advantage of using software to manage projects is that it can track the progress of the project. In this regard, Microsoft Project has many features available to track individual activities in terms of time, cost, resource usage, and so on. An easy way to track the time progress of tasks is to enter the percent of work completed for each task. One way to do so is to double-click on any activity in the Task Name column in Program 3.1. A window is displayed that allows us to enter the percent of work completed for each task. The table in the margin provides data regarding the percent of each of Milwaukee Paper’s activities that are completed as of today. (Assume that today is Friday, August 12, i.e., the end of the sixth week of the project schedule.) As shown in Program 3.3, the Gantt chart immediately reflects this updated information by drawing a thick line within each activity’s bar. The length of this line is proportional to the percent of that activity’s work that has been completed. How do we know if we are on schedule? Notice that there is a vertical line shown on the Gantt chart corresponding to today’s date. Microsoft Project will automatically move this line to correspond with the current date. If the project is on schedule, we should see all bars to the left Tracking the Time Status of a Project M03_HEIZ0422_12_SE_C03.indd 87 Pollution Project Percentage Completed on Aug. 12 ACTIVITY COMPLETED A 100 B 100 C 100 D 10 E 20 F 20 G 0 H 0 03/11/15 5:50 PM 88 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Check mark indicates activity is 100% complete. Bar indicates activity progress. Activity F is behind schedule, as are activities D and E. This is the indicator for today’s date (Aug. 12). Program 3.3 Tracking Project Progress in Microsoft Project of today’s line indicate that they have been completed. For example, Program 3.3 shows that activities A, B, and C are on schedule. In contrast, activities D, E, and F appear to be behind schedule. These activities need to be investigated further to determine the reason for the delay. This type of easy visual information is what makes such software so useful in practice for project management. We encourage you to load the copy of Microsoft Project that may be ordered with your text and to create a project network for work you are currently doing. Summary PERT, CPM, and other scheduling techniques have proven to be valuable tools in controlling large and complex projects. Managers use such techniques to segment projects into discrete activities (work breakdown structures), indentifying specific resources and time requirements for each. With PERT and CPM, managers can understand the status of each activity, including its earliest start, latest start, earliest finish, and latest finish (ES, LS, EF, and LF) times. By controlling the trade-off between ES and LS, managers can identify the activities that have slack and can address resource allocation, perhaps by smoothing resources. Effective project management also allows managers to focus on the activities that are critical to timely project completion. By understanding the project’s critical path, they know where crashing makes the most economic sense. Good project management also allows firms to efficiently create products and services for global markets and to respond effectively to global competition. Microsoft Project, illustrated in this chapter, is one of a wide variety of software packages available to help managers handle network modeling problems. The models described in this chapter require good management practices, detailed work breakdown structures, clear responsibilities assigned to activities, and straightforward and timely reporting systems. All are critical parts of project management. Key Terms Project organization (p. 62) Work breakdown structure (WBS) (p. 64) Gantt charts (p. 65) Program evaluation and review technique (PERT) (p. 67) Critical path method (CPM) (p. 67) M03_HEIZ0422_12_SE_C03.indd 88 Critical path (p. 67) Activity-on-node (AON) (p. 68) Activity-on-arrow (AOA) (p. 68) Dummy activity (p. 70) Critical path analysis (p. 71) Forward pass (p. 72) Backward pass (p. 74) Slack time (p. 75) Optimistic time (p. 77) Pessimistic time (p. 77) Most likely time (p. 77) Crashing (p. 82) 03/11/15 5:50 PM CHAP T ER 3 Ethical Dilemma Two examples of massively mismanaged projects are TAURUS and the “Big Dig.” The first, formally called the London Stock Exchange Automation Project, cost $575 million before it was finally abandoned. Although most IT projects have a reputation for cost overruns, delays, and underperformance, TAURUS set a new standard. But even TAURUS paled next to the biggest, most expensive public works project in U.S. history—Boston’s 15-year-long Central Artery/Tunnel Project. Called the Big Dig, this was | PROJECT MANAGEMENT 89 perhaps the poorest and most felonious case of project mismanagement in decades. From a starting $2 billion budget to a final price tag of $15 billion, the Big Dig cost more than the Panama Canal, Hoover Dam, or Interstate 95, the 1,919-mile highway between Maine and Florida. Read about one of these two projects (or another of your choice) and explain why it faced such problems. How and why do project managers allow such massive endeavors to fall into such a state? What do you think are the causes? Discussion Questions 1. Give an example of a situation in which project management is needed. 2. Explain the purpose of project organization. 3. What are the three phases involved in the management of a large project? 4. What are some of the questions that can be answered with PERT and CPM? 5. Define work breakdown structure. How is it used? 6. What is the use of Gantt charts in project management? 7. What is the difference between an activity-on-arrow (AOA) network and an activity-on-node (AON) network? Which is primarily used in this chapter? 8. What is the significance of the critical path? 9. What would a project manager have to do to crash an activity? 10. Describe how expected activity times and variances can be computed in a PERT network. 11. Define earliest start, earliest finish, latest finish, and latest start times. 12. Students are sometimes confused by the concept of critical path, and want to believe that it is the shortest path through a network. Convincingly explain why this is not so. 13. What are dummy activities? Why are they used in activity-onarrow (AOA) project networks? 14. What are the three time estimates used with PERT? 15. Would a project manager ever consider crashing a noncritical activity in a project network? Explain convincingly. 16. How is the variance of the total project computed in PERT? 17. Describe the meaning of slack, and discuss how it can be determined. 18. How can we determine the probability that a project will be completed by a certain date? What assumptions are made in this computation? 19. Name some of the widely used project management software programs. 20. What is the difference between the waterfall approach and agile project management? Using Software to Solve Project Management Problems In addition to the Microsoft Project software illustrated earlier, both Excel OM and POM for Windows are available to readers of this text as project management tools. X USING EXCEL OM Excel OM has a Project Scheduling module. Program 3.4 uses the data from the Milwaukee Paper Manufacturing example in this chapter (see Examples 4 and 5). The PERT/CPM analysis also handles activities with three time estimates. P USING POM FOR WINDOWS POM for Window’s Project Scheduling module can also find the expected project completion time for a CPM and PERT network with either one or three time estimates. POM for Windows also performs project crashing. For further details refer to Appendix IV. M03_HEIZ0422_12_SE_C03.indd 89 03/11/15 5:50 PM 90 PA RT 1 Program | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT 3.4 Enter the task names, times, and the names of the precedences. Be careful that the precedence names match the task names. Excel OM’s Use of Milwaukee Paper Manufacturing’s Data from Examples 4 and 5 EF = ES + task time. Late start is the late finish (from below) minus the task time. Early start is the maximum of the computations below. Solved Problems Late finishes depend on the tasks that precede the given task. The late finish is the earliest of the dependencies. Virtual Office Hours help is available in MyOMLab. SOLVED PROBLEM 3.1 SOLUTION Construct an AON network based on the following: ACTIVITY IMMEDIATE PREDECESSOR(S) A — B — C — D A, B E C A D B Start C End E SOLVED PROBLEM 3.2 SOLUTION Insert a dummy activity and event to correct the following AOA network: Because we cannot have two activities starting and ending at the same node, we add the following dummy activity and dummy event to obtain the correct AOA network: 3 days 1 3 2 5 days ays 3d 5 4 1 5d ays 2 3 Dummy activity (0 days) Dummy event M03_HEIZ0422_12_SE_C03.indd 90 5 4 03/11/15 5:50 PM CHAP T ER 3 SOLVED PROBLEM 3.3 TIME A 2 B 3 C 2 D 4 E 4 F 3 G 5 VARIANCE 2 6 2 6 4 6 4 6 2 6 1 6 1 6 ES EF LS LF SLACK 0 2 0 2 0 0 3 1 4 1 2 4 2 4 0 3 7 4 8 1 4 8 4 8 0 7 10 13 6 8 13 8 13 0 C End G E B 91 F Start D SOLUTION We conclude that the critical path is Start–A–C–E–G–End: Total project time = T = 2 + 2 + 4 + 5 = 13 and s2p = ∑ Variances on the critical path = 4 PROJECT MANAGEMENT A Calculate the critical path, project completion time T, and project variance s2p, based on the following AON network information: ACTIVITY | 4 2 1 9 2 + + + = = 1.5 6 6 6 6 6 SOLVED PROBLEM 3.4 SOLUTION To complete the wing assembly for an experimental aircraft, Jim Gilbert has laid out the seven major activities involved. These activities have been labeled A through G in the following table, which also shows their estimated completion times (in weeks) and immediate predecessors. Determine the expected time and variance for each activity. Expected times and variances can be computed using Equations (3–6) and (3–7) presented on page 78 in this chapter. The results are summarized in the following table: m b ACTIVITY EXPECTED TIME (IN WEEKS) A 2 IMMEDIATE PREDECESSORS B 3 C 5 D 9 ACTIVITY a A 1 2 3 — B 2 3 4 — C 4 5 6 A D 8 9 10 B E 5 E 2 5 8 C, D F 5 F 4 5 6 D G 1 2 3 E G 2 SOLVED PROBLEM 3.5 Referring to Solved Problem 3.4, now Jim Gilbert would like to determine the critical path for the entire wing assembly project as well as the expected completion time for the total project. In addition, he would like to determine the earliest and latest start and finish times for all activities. SOLUTION The AON network for Gilbert’s project is shown in Figure 3.17. Note that this project has multiple activities (A and B) with no immediate predecessors, and multiple activities (F and G) with no successors. Hence, in addition to a unique starting activity (Start), we have included a unique finishing activity (End) for the project. Figure 3.17 shows the earliest and latest times for all activities. The results are also summarized in the following table: M03_HEIZ0422_12_SE_C03.indd 91 VARIANCE 1 9 1 9 1 9 1 9 1 1 9 1 9 ACTIVITY TIME ACTIVITY ES EF LS LF SLACK A 0 2 5 7 5 B 0 3 0 3 0 C 2 7 7 12 5 D 3 12 3 12 0 E 12 17 12 17 0 F 12 17 14 19 2 G 17 19 17 19 0 Expected project length = 19 weeks Variance of the critical path = 1.333 Standard deviation of the critical path = 1.155 weeks The activities along the critical path are B, D, E, and G. These activities have zero slack as shown in the table. 03/11/15 5:50 PM 92 PA RT 1 Figure | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT 3.17 ES Critical Path for Solved Problem 3.5 A 0 5 2 2 2 7 7 EF C 5 0 0 0 12 12 12 E 5 17 17 LF LS Start 7 17 17 0 0 G 2 Activity Name Dummy Starting Activity 0 0 B 3 3 3 3 D 9 12 12 12 14 F 5 19 17 19 End 0 19 19 Dummy Ending Activity Activity Duration The following information has been computed from a project: 19 19 3 SOLVED PROBLEM 3.6 19 The normal curve appears as follows: Expected total project time = T = 62 weeks Project variance (s2p ) = 81 What is the probability that the project will be completed 18 weeks before its expected completion date? SOLUTION The desired completion date is 18 weeks before the expected completion date, 62 weeks. The desired completion date is 44 (or 62–18) weeks: sp = 2Project variance Z = = Due date - Expected completion date sp - 18 44 - 62 = = - 2.0 9 9 Due date = 44 T = 62 Because the normal curve is symmetrical and table values are calculated for positive values of Z, the area desired is equal to 1– (table value). For Z = + 2.0 the area from the table is .97725. Thus, the area corresponding to a Z-value of –2.0 is .02275 (or 1 – .97725). Hence, the probability of completing the project 18 weeks before the expected completion date is approximately .023, or 2.3%. SOLVED PROBLEM 3.7 SOLUTION Determine the least cost of reducing the project completion date by 3 months based on the following information: The first step in this problem is to compute ES, EF, LS, LF, and slack for each activity. ACTIVITY A C Start End B D E ACTIVITY NORMAL TIME (MONTHS) CRASH TIME (MONTHS) NORMAL COST CRASH COST A B C D E 6 7 7 6 9 4 5 6 4 8 $2,000 3,000 1,000 2,000 8,800 $2,400 3,500 1,300 2,600 9,000 M03_HEIZ0422_12_SE_C03.indd 92 ES EF LS LF SLACK A 0 6 9 15 9 B 0 7 0 7 0 C 6 13 15 22 9 D 7 13 7 13 0 E 13 22 13 22 0 The critical path consists of activities B, D, and E. 03/11/15 5:50 PM CHAP T ER 3 Next, crash cost/month must be computed for each activity: ACTIVITY NORMAL TIME–CRASH TIME CRASH COST– NORMAL COST CRASH COST/ MONTH CRITICAL PATH? A B C D E 2 2 1 2 1 $400 500 300 600 200 $200/month 250/month 300/month 300/month 200/month No Yes No Yes Yes 3.1 Planning The work breakdown structure (WBS) for building a house (levels 1 and 2) is shown below: Level 1 Level 2 ACTIVITY MONTHS REDUCED E 1 B 2 Masonry Carpentry Plumbing Finishing a) Add two level-3 activities to each of the level-2 activities to provide more detail to the WBS. b) Select one of your level-3 activities and add two level-4 activities below it. • • 3.2 James Lawson has decided to run for a seat as Congressman from the House of Representatives, District 34, in Florida. He views his 8-month campaign for office as a major project and wishes to create a work breakdown structure (WBS) to help control the detailed scheduling. So far, he has developed the following pieces of the WBS: LEVEL LEVEL ID NO. ACTIVITY 1 2 3 3 3 2 3 3 3 2 3 3 3 3 2 3 3 2 3 1.0 1.1 1.1.1 1.1.2 1.1.3 1.2 1.2.1 1.2.2 1.2.3 1.3 1.3.1 1.3.2 1.3.3 1.3.4 1.4 1.4.1 1.4.2 1.5 1.5.1 Develop political campaign Fund-raising plan ________________________________ ________________________________ ________________________________ Develop a position on major issues ________________________________ ________________________________ ________________________________ Staffing for campaign ________________________________ ________________________________ ________________________________ ________________________________ Paperwork compliance for candidacy ________________________________ ________________________________ Ethical plan/issues ________________________________ M03_HEIZ0422_12_SE_C03.indd 93 COST $200 500 Total: $700 Help Lawson by providing details where the blank lines appear. Are there any other major (level-2) activities to create? If so, add an ID no. 1.6 and insert them. Problem 3.3 relates to Project House Site Preparation 93 Note: PX means the problem may be solved with POM for Windows and/or Excel OM. Problems 3.1–3.2 relate to Project • PROJECT MANAGEMENT additional cost of $200. We still need to reduce the project completion date by 2 more months. This reduction can be achieved at least cost along the critical path by reducing activity B by 2 months for an additional cost of $500. Neither reduction has an effect on noncritical activities. This solution is summarized in the following table: Finally, we will select that activity on the critical path with the smallest crash cost/month. This is activity E. Thus, we can reduce the total project completion date by 1 month for an Problems | Scheduling • • 3.3 The City Commission of Nashville has decided to build a botanical garden and picnic area in the heart of the city for the recreation of its citizens. The precedence table for all the activities required to construct this area successfully is given. Draw the Gantt chart for the whole construction activity. CODE A B C D E F G H I ACTIVITY TIME (IN HOURS) DESCRIPTION Planning Find location; determine resource requirements Purchasing Requisition of lumber and sand Excavation Dig and grade Sawing Saw lumber into appropriate sizes Placement Position lumber in correct locations Assembly Nail lumber together Infill Put sand in and under the equipment Outfill Put dirt around the equipment Decoration Put grass all over the garden, landscape, paint Problems 3.4–3.14 relate to Project IMMEDIATE PREDECESSOR(S) 20 None 60 Planning 100 30 Planning Purchasing 20 10 Sawing, excavation Placement 20 Assembly 10 Assembly 30 Infill, outfill Management Techniques • • 3.4 Refer to the table in Problem 3.3. a) Draw the AON network for the construction activity. b) Draw the AOA network for the construction activity. 03/11/15 5:50 PM 94 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT • 3.5 Draw the activity-on-node (AON) project network associated with the following activities for Carl Betterton’s construction project. How long should it take Carl and his team to complete this project? What are the critical path activities? IMMEDIATE PREDECESSOR(S) ACTIVITY IMMEDIATE PREDECESSOR(S) TIME (DAYS) A — 2 A — 3 B — 5 B A 4 C — 1 D B 10 E A, D 3 F C 6 G E, F 8 C A 6 D B 6 E B 4 F C 4 G D 6 H E, F 8 ACTIVITY a) b) c) d) • 3.6 Given the activities whose sequence is described by the following table, draw the appropriate activity-on-arrow (AOA) network diagram. a) Which activities are on the critical path? b) What is the length of the critical path? ACTIVITY IMMEDIATE PREDECESSOR(S) IMMEDIATE PREDECESSORS A 6.0 — A TIME (DAYS) D 6.0 B, C E 4.5 B, C F 7.7 D G 4.0 E, F 2 C A 4 D B 5 E B 5 F C 5 G E, F 2 H D 3 a) b) c) d) 5 NODES Draw the project network using AON. Identify the critical path. What is the expected project length? Draw a Gantt chart for the project. PX • 3.10 The activities described by the following table are given for the Howard Corporation in Kansas: • 3.7 Using AOA, diagram the network described below for Lillian Fok’s construction project. Calculate its critical path. How long is the minimum duration of this network? TIME (WEEKS) J 1–2 10 N 3–4 2 K 1–3 8 O 4–5 7 L 2–4 6 P 3–5 5 M 2–3 3 M03_HEIZ0422_12_SE_C03.indd 94 TIME (IN HOURS) — A ACTIVITY ACTIVITY 5.0 B TIME (WEEKS) •• 3.9 Task time estimates for the modification of an assembly line at Jim Goodale’s Carbondale, Illinois, factory are as follows: 7.2 5 NODES Develop an AON network for this problem. What is the critical path? What is the total project completion time? What is the slack time for each individual activity? PX B — G, H TIME (DAYS) C A I ACTIVITY • • 3.8 Roger Ginde is developing a program in supply chain management certification for managers. Ginde has listed a number of activities that must be completed before a training program of this nature could be conducted. The activities, immediate predecessors, and times appear in the accompanying table: ACTIVITY IMMEDIATE PREDECESSOR(S) TIME A — 9 B A 7 C A 3 D B 6 E B 9 F C 4 G E, F 6 H D 5 I G, H 3 a) Draw the appropriate AON PERT diagram for J.C. Howard’s management team. b) Find the critical path. c) What is the project completion time? PX 03/11/15 5:50 PM CHAP T ER 3 • • 3.11 The following is a table of activities associated with a project at Rafay Ishfaq’s software firm in Chicago, their durations, and what activities each must precede: ACTIVITY | PROJECT MANAGEMENT • • • 3.16 The Rover 6 is a new custom-designed sports car. An analysis of the task of building the Rover 6 reveals the following list of relevant activities, their immediate predecessors, and their duration:2 DURATION (WEEKS) PRECEDES A (start) 1 B, C JOB LETTER B 1 E A Start — 0 C 4 F B Design A 8 E 2 F C Order special accessories B 0.1 F (end) 2 — D Build frame B 1 E Build doors B 1 F Attach axles, wheels, gas tank D 1 G Build body shell B 2 H Build transmission and drivetrain B 3 I Fit doors to body shell G, E 1 J Build engine B 4 K Bench-test engine J 2 L Assemble chassis F, H, K 1 a) Draw an AON diagram of the project, including activity durations. b) Define the critical path, listing all critical activities in chronological order. c) What is the project duration (in weeks)? d) What is the slack (in weeks) associated with any and all noncritical paths through the project? • 3.12 The activities needed to build a prototype laser scanning machine at Dave Fletcher Corp. are listed in the following table. Construct an AON network for these activities. DESCRIPTION IMMEDIATE PREDECESSOR(S) NORMAL TIME (DAYS) ACTIVITY IMMEDIATE PREDECESSOR(S) ACTIVITY IMMEDIATE PREDECESSOR(S) A — E B M Road-test chassis L 0.5 B — F B N Paint body I 2 C A G C, E O Install wiring N 1 D A H D, F P Install interior N 1.5 Q Accept delivery of special accessories C 5 R Mount body and accessories on chassis M, O, P, Q 1 S Road test car R 0.5 T Attach exterior trim S 1 U Finish T 0 Additional problems 3.13–3.14 are available in MyOMLab. Problems 3.15–3.16 relate to Determining the Project Schedule • 3.15 Dave Fletcher (see Problem 3.12) was able to determine the activity times for constructing his laser scanning machine. Fletcher would like to determine ES, EF, LS, LF, and slack for each activity. The total project completion time and the critical path should also be determined. Here are the activity times: ACTIVITY TIME (WEEKS) ACTIVITY TIME (WEEKS) A 6 E 4 B 7 F 6 C 3 G 10 D 2 H 7 M03_HEIZ0422_12_SE_C03.indd 95 95 a) Draw a network diagram for the project. b) Mark the critical path and state its length. c) If the Rover 6 had to be completed 2 days earlier, would it help to: i) Buy preassembled transmissions and drivetrains? ii) Install robots to halve engine-building time? iii) Speed delivery of special accessories by 3 days? d) How might resources be borrowed from activities on the noncritical path to speed activities on the critical path? PX 03/11/15 5:50 PM 96 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Problems 3.17–3.27 relate to Variability in Activity Times TIME (DAYS) • • • 3.17 Ross Hopkins, president of Hopkins Hospitality, has developed the tasks, durations, and predecessor relationships in the following table for building new motels. Draw the AON network and answer the questions that follow. ACTIVITY a m b IMMEDIATE PREDECESSOR(S) A 3 6 8 — B 2 4 4 — C 1 2 3 — D 6 7 8 C TIME ESTIMATES (IN WEEKS) IMMEDIATE ACTIVITY PREDECESSOR(S) OPTIMISTIC MOST LIKELY PESSIMISTIC E 2 4 6 B, D A — 4 8 10 F 6 10 14 A, E B A 2 8 24 G 1 2 4 A, E C A 8 12 16 H 3 6 9 F D A 4 6 10 I 10 11 12 G E B 1 2 3 J 14 16 20 C F E, C 6 8 20 K 2 8 10 H, I G E, C 2 3 4 H F 2 2 2 I F 6 6 6 J D, G, H 4 6 12 K I, J 2 2 3 a) What is the expected (estimated) time for activity C? b) What is the variance for activity C? c) Based on the calculation of estimated times, what is the critical path? d) What is the estimated time of the critical path? e) What is the activity variance along the critical path? f ) What is the probability of completion of the project before week 36? PX a) Determine the expected completion time and variance for each activity. b) Determine the total project completion time and the critical path for the project. c) Determine ES, EF, LS, LF, and slack for each activity. d) What is the probability that Kelle Carpet and Trim will finish the project in 40 days or less? PX • • • 3.20 The estimated times and immediate predecessors for the activities in a project at George Kyparis’s retinal scanning company are given in the following table. Assume that the activity times are independent. TIME (WEEKS) • 3.18 A renovation of the gift shop at Orlando Amway Center has six activities (in hours). For the following estimates of a, m, and b, calculate the expected time and the standard deviation for each activity: a m b A 11 15 19 B 27 31 41 C 18 18 18 D 8 13 19 E 17 18 20 F 16 19 22 a m b A — 9 10 11 B — 4 10 16 C A 9 10 11 D B 5 8 11 PX • • 3.19 Kelle Carpet and Trim installs carpet in commercial offices. Peter Kelle has been very concerned with the amount of time it took to complete several recent jobs. Some of his workers are very unreliable. A list of activities and their optimistic completion time, the most likely completion time, and the pessimistic completion time (all in days) for a new contract are given in the following table: M03_HEIZ0422_12_SE_C03.indd 96 IMMEDIATE PREDECESSOR jamstockfoto/Fotolia ACTIVITY ACTIVITY 03/11/15 5:50 PM CHAP T ER 3 a) Calculate the expected time and variance for each activity. b) What is the expected completion time of the critical path? What is the expected completion time of the other path in the network? c) What is the variance of the critical path? What is the variance of the other path in the network? d) If the time to complete path A–C is normally distributed, what is the probability that this path will be finished in 22 weeks or less? e) If the time to complete path B–D is normally distributed, what is the probability that this path will be finished in 22 weeks or less? f ) Explain why the probability that the critical path will be finished in 22 weeks or less is not necessarily the probability that the project will be finished in 22 weeks or less. PX • • • 3.21 Rich Cole Control Devices, Inc., produces custombuilt relay devices for auto makers. The most recent project undertaken by Cole requires 14 different activities. Cole’s managers would like to determine the total project completion time (in days) and those activities that lie along the critical path. The appropriate data are shown in the following table. a) What is the probability of being done in 53 days? b) What date results in a 99% probability of completion? A — 4 6 7 B — 1 2 3 C A 6 6 6 D A 5 8 11 E B, C 1 9 18 F D 2 3 6 G D 1 7 8 H E, F 4 4 6 I G, H 1 6 8 J I 2 5 7 K I 8 9 11 L J 2 4 6 M K 1 2 3 N L, M 6 8 10 PX • • • 3.22 Four Squares Productions, a firm hired to coordinate the release of the movie Pirates of the Caribbean: On Stranger Tides (starring Johnny Depp), identified 16 activities to be completed before the release of the film. a) How many weeks in advance of the film release should Four Squares have started its marketing campaign? What is the critical path? The tasks (in time units of weeks) are as follows: M03_HEIZ0422_12_SE_C03.indd 97 97 PROJECT MANAGEMENT ACTIVITY IMMEDIATE PREDECESSOR(S) OPTIMISTIC TIME MOST LIKELY TIME A — 1 2 PESSIMISTIC TIME 4 B — 3 3.5 4 C — 10 12 13 D — 4 5 7 E — 2 4 5 F A 6 7 8 G B 2 4 5.5 H C 5 7.7 9 I C 9.9 10 12 J C 2 4 5 K D 2 4 6 L E 2 4 6 M F, G, H 5 6 6.5 N J, K, L 1 1.1 2 O I, M 5 7 8 P N 5 7 9 b) What is the probability of completing the marketing campaign in the time (in weeks) noted in part a? c) If activities I and J were not necessary, what impact would this have on the critical path and the number of weeks needed to complete the marketing campaign? PX Tracy Whiteside/Shutterstock MOST IMMEDIATE OPTIMISTIC LIKELY PESSIMISTIC ACTIVITY PREDECESSOR(S) TIME TIME TIME | • • 3.23 Using PERT, Adam Munson was able to determine that the expected project completion time for the construction of a pleasure yacht is 21 months, and the project variance is 4. a) What is the probability that the project will be completed in 17 months? b) What is the probability that the project will be completed in 20 months? c) What is the probability that the project will be completed in 23 months? d) What is the probability that the project will be completed in 25 months? e) What is the due date that yields a 95% chance of completion? PX 03/11/15 5:50 PM 98 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Additional problems 3.24–3.27 are available in MyOMLab. NORMAL CRASH TIME TIME NORMAL CRASH IMMEDIATE ACTIVITY (WEEKS) (WEEKS) COST COST PREDECESSOR(S) Problems 3.28–3.33 relate to Cost-Time Trade-Offs and Project Crashing • • 3.28 Assume that the activities in Problem 3.11 have the following costs to shorten: A, $300/week; B, $100/week; C, $200/ week; E, $100/week; and F, $400/week. Assume also that you can crash an activity down to 0 weeks in duration and that every week you can shorten the project is worth $250 to you. What activities would you crash? What is the total crashing cost? • • • 3.29 What is the minimum cost of crashing the following project that Roger Solano manages at Slippery Rock University by 4 days? NORMAL CRASH TIME TIME NORMAL CRASH IMMEDIATE ACTIVITY (DAYS) (DAYS) COST COST PREDECESSOR(S) A 6 5 $ 900 $1,000 — B 8 6 300 400 — C 4 3 500 600 — D 5 3 900 1,200 A A 4 3 $2,000 $2,600 — B 2 1 2,200 2,800 — C 3 3 500 500 — D 8 4 2,300 2,600 A E 6 3 900 1,200 B F 3 2 3,000 4,200 C G 4 2 1,400 2,000 D, E a) What is the project completion date? b) What is the total cost required for completing this project on normal time? c) If you wish to reduce the time required to complete this project by 1 week, which activity should be crashed, and how much will this increase the total cost? d) What is the maximum time that can be crashed? How much would costs increase? PX • • • 3.32 Kimpel Products makes pizza ovens for commercial use. James Kimpel, CEO, is contemplating producing smaller PX ovens for use in high school and college kitchens. The activities E 8 5 1,000 1,600 C necessary to build an experimental model and related data are given in the following table: • • 3.30 Three activities are candidates for crashing on a project network for a large computer installation (all are, of course, NORMAL CRASH critical). Activity details are in the following table: TIME TIME NORMAL CRASH IMMEDIATE ACTIVITY (WEEKS) (WEEKS) COST ($) COST ($) PREDECESSOR(S) ACTIVITY PREDECESSOR NORMAL TIME NORMAL COST CRASH TIME CRASH COST A — 7 days $6,000 6 days $6,600 B A 4 days 1,200 2 days 3,000 C B 11 days 4,000 9 days 6,000 a) What action would you take to reduce the critical path by 1 day? b) Assuming no other paths become critical, what action would you take to reduce the critical path one additional day? c) What is the total cost of the 2-day reduction? PX • • • 3.31 Development of Version 2.0 of a particular accounting software product is being considered by Jose Noguera’s technology firm in Baton Rouge. The activities necessary for the completion of this project are listed in the following table: A 3 2 1,000 1,600 — B 2 1 2,000 2,700 — C 1 1 300 300 — D 7 3 1,300 1,600 A E 6 3 850 1,000 B F 2 1 4,000 5,000 C G 4 2 1,500 2,000 D, E a) What is the project completion date? b) Crash this project to 10 weeks at the least cost. c) Crash this project to 7 weeks (which is the maximum it can be crashed) at the least cost. PX Additional problem 3.33 is available in MyOMLab. CASE STUDIES Southwestern University: (A)* Southwestern University (SWU), a large state college in Stephenville, Texas, 30 miles southwest of the Dallas/Fort Worth metroplex, enrolls close to 20,000 students. In a typical town–gown relationship, the school is a dominant force in the small city, with more students during fall and spring than permanent residents. A longtime football powerhouse, SWU is a member of the Big Eleven conference and is usually in the top 20 in college football rankings. To bolster its chances of reaching the elusive and long-desired number-one ranking, in 2009, SWU hired the legendary Phil Flamm as its head coach. * This integrated study runs throughout the text. Other issues facing Southwestern’s football expansion include (B) forecasting game attendance (Chapter 4); (C) quality of facilities (Chapter 6); (D) break-even analysis for food services (Supplement 7); (E) location of the new stadium (Chapter 8); (F) inventory planning of football programs (Chapter 12); and (G) scheduling of campus security officers/staff for game days (Chapter 13). M03_HEIZ0422_12_SE_C03.indd 98 03/11/15 5:50 PM CHAP T ER 3 TABLE 3.6 | PROJECT MANAGEMENT 99 Southwestern University Project TIME ESTIMATES (DAYS) ACTIVITY PREDECESSOR(S) OPTIMISTIC A DESCRIPTION Bonding, insurance, tax structuring — 20 30 B Foundation, concrete footings for boxes A 20 C Upgrading skybox stadium seating A 50 D Upgrading walkways, stairwells, elevators C E Interior wiring, lathes B F Inspection approvals G Plumbing D, F E H Painting G I Hardware/AC/metal workings H PESSIMISTIC CRASH COST/DAY 40 $1,500 65 80 3,500 60 100 4,000 30 50 100 1,900 25 30 35 9,500 0.1 25 10 20 30 2,000 20 25 60 2,000 10 12 6,000 H 8 Inspection J 0.1 L Final detail work/cleanup The equivalent of a new kindergarten class is born every day at Orlando’s Arnold Palmer Hospital. With more than 13,000 births in the mid-2000s in a hospital that was designed 15 years earlier for a capacity of 6,500 births a year, the newborn intensive care unit was stretched to the limit. Moreover, with continuing strong population growth in central Florida, the hospital was often full. It was clear that new facilities were needed. After much analysis, forecasting, and discussion, the management team decided to build a new 273-bed building across the street from the existing hospital. But the facility had to be built in accordance with the hospital’s Guiding Principles and its uniqueness as a health center dedicated to the specialized needs of women and infants. Those M03_HEIZ0422_12_SE_C03.indd 99 0 2,500 Tile/carpet/windows Project Management at Arnold Palmer Hospital 0.1 35 J One of Flamm’s demands on joining SWU had been a new stadium. With attendance increasing, SWU administrators began to face the issue head-on. After 6 months of study, much political arm wrestling, and some serious financial analysis, Dr. Joel Wisner, president of Southwestern University, had reached a decision to expand the capacity at its on-campus stadium. Adding thousands of seats, including dozens of luxury skyboxes, would not please everyone. The influential Flamm had argued the need for a first-class stadium, one with built-in dormitory rooms for his players and a palatial office appropriate for the coach of a future NCAA champion team. But the decision was made, and everyone, including the coach, would learn to live with it. The job now was to get construction going immediately after the 2015 season ended. This would allow exactly 270 days until the 2016 season opening game. The contractor, Hill Construction (Bob Hill being an alumnus, of course), signed his contract. Bob Hill looked at the tasks his engineers had outlined and looked President Wisner in the eye. “I guarantee the team will be able to take the field on schedule next year,” he said with a sense of confidence. “I sure hope so,” replied Wisner. “The contract penalty 0.1 30 K I, K MOST LIKELY 20 0.1 25 0.1 0 60 4,500 of $10,000 per day for running late is nothing compared to what Coach Flamm will do to you if our opening game with Penn State is delayed or canceled.” Hill, sweating slightly, did not need to respond. In football-crazy Texas, Hill Construction would be mud if the 270-day target was missed. Back in his office, Hill again reviewed the data (see Table 3.6) and noted that optimistic time estimates can be used as crash times. He then gathered his foremen. “Folks, if we’re not 75% sure we’ll finish this stadium in less than 270 days, I want this project crashed! Give me the cost figures for a target date of 250 days—also for 240 days. I want to be early, not just on time!” Discussion Questions 1. Develop a network drawing for Hill Construction and determine the critical path. How long is the project expected to take? 2. What is the probability of finishing in 270 days? 3. If it is necessary to crash to 250 or 240 days, how would Hill do so, and at what costs? As noted in the case, assume that optimistic time estimates can be used as crash times. Video Case Guiding Principles are: Family-centered focus, a healing environment where privacy and dignity are respected, sanctuary of caring that includes warm, serene surroundings with natural lighting, sincere and dedicated staff providing the highest quality care, and patient-centered flow and function. The vice president of business development, Karl Hodges, wanted a hospital that was designed from the inside out by the people who understood the Guiding Principles, who knew most about the current system, and who were going to use the new system, namely, the doctors and nurses. Hodges and his staff spent 13 months discussing expansion needs with this group, as well as with patients and the community, before developing a proposal 03/11/15 5:50 PM 100 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT TABLE 3.7 Expansion Planning and Arnold Palmer Hospital Construction Activities and Timesa ACTIVITY SCHEDULED TIME PRECEDENCE ACTIVITY(IES) 1. Proposal and review 1 month — 2. Establish master schedule 2 weeks 1 3. Architect selection process 5 weeks 1 4. Survey whole campus and its needs 1 month 1 5. Conceptual architect’s plans 6 weeks 3 6. Cost estimating 2 months 2, 4, 5 7. Deliver plans to board for consideration/decision 1 month 6 8. Surveys/regulatory review 6 weeks 6 9. Construction manager selection 10. State review of need for more hospital beds (“Certificate of Need”) 9 weeks 6 3.5 months 7, 8 11. Design drawings 4 months 10 12. Construction documents 5 months 9, 11 13. Site preparation/demolish existing building 9 weeks 11 14. Construction start/building pad 2 months 12, 13 15. Relocate utilities 6 weeks 12 16. Deep foundations 2 months 14 17. Building structure in place 9 months 16 18. Exterior skin/roofing 4 months 17 19. Interior buildout 12 months 17 20. Building inspections 5 weeks 15, 19 21. Occupancy 1 month 20 aThis list of activities is abbreviated for purposes of this case study. For simplification, assume each week 5 .25 months (i.e., 2 weeks 5 .5 month, 6 weeks 5 1.5 months, etc.). for the new facility. An administrative team created 35 user groups, which held over 1,000 planning meetings (lasting from 45 minutes to a whole day). They even created a “Supreme Court” to deal with conflicting views on the multifaceted issues facing the new hospital. Funding and regulatory issues added substantial complexity to this major expansion, and Hodges was very concerned that the project stay on time and within budget. Tom Hyatt, director of facility development, was given the task of onsite manager of the $100 million project, in addition to overseeing ongoing renovations, expansions, and other projects. The activities in the multiyear project for the new building at Arnold Palmer are shown in Table 3.7. Managing Hard Rock’s Rockfest At the Hard Rock Cafe, like many organizations, project management is a key planning tool. With Hard Rock’s constant growth in hotels and cafes, remodeling of existing cafes, scheduling for Hard Rock Live concert and event venues, and planning the annual Rockfest, managers rely on project management techniques and software to maintain schedule and budget performance. M03_HEIZ0422_12_SE_C03.indd 100 Discussion Questions* 1. Develop the network for planning and construction of the new hospital at Arnold Palmer. 2. What is the critical path, and how long is the project expected to take? 3. Why is the construction of this 11-story building any more complex than construction of an equivalent office building? 4. What percent of the whole project duration was spent in planning that occurred prior to the proposal and reviews? Prior to the actual building construction? Why? *You may wish to view the video accompanying this case before addressing these questions. Video Case “Without Microsoft Project,” says Hard Rock Vice-President Chris Tomasso, “there is no way to keep so many people on the same page.” Tomasso is in charge of the Rockfest event, which is attended by well over 100,000 enthusiastic fans. The challenge is pulling it off within a tight 9-month planning horizon. As the event approaches, Tomasso devotes greater energy to its 03/11/15 5:50 PM CHAP T ER 3 activities. For the first 3 months, Tomasso updates his Microsoft Project charts monthly. Then at the 6-month mark, he updates his progress weekly. At the 9-month mark, he checks and corrects his schedule twice a week. Early in the project management process, Tomasso identifies 10 major tasks (called level-2 activities in a work breakdown structure, or WBS): † talent booking, ticketing, marketing/PR, online promotion, television, show production, travel, sponsorships, operations, and merchandising. Using a WBS, each of these is further divided into a series of subtasks. Table 3.8 identifies 26 of the major activities and subactivities, their immediate predecessors, and time estimates. Tomasso enters all these into the Microsoft Project software.‡ Tomasso alters the Microsoft Project document and the time line as the TABLE 3.8 ACTIVITY M03_HEIZ0422_12_SE_C03.indd 101 | PROJECT MANAGEMENT 101 project progresses. “It’s okay to change it as long as you keep on track,” he states. The day of the rock concert itself is not the end of the project planning. “It’s nothing but surprises. A band not being able to get to the venue because of traffic jams is a surprise, but an ‘anticipated’ surprise. We had a helicopter on stand-by ready to fly the band in,” says Tomasso. On completion of Rockfest in July, Tomasso and his team have a 3-month reprieve before starting the project planning process again. †The level-1 activity is the Rockfest concert itself. are actually 127 activities used by Tomasso; the list is abbreviated for this case study. ‡There Some of the Major Activities and Subactivities in the Rockfest Plan DESCRIPTION PREDECESSOR(S) TIME (WEEKS) A Finalize site and building contracts — 7 B Select local promoter A 3 C Hire production manager A 3 D Design promotional Web site B 5 E Set TV deal D 6 F Hire director E 4 G Plan for TV camera placement F 2 H Target headline entertainers B 4 I Target support entertainers H 4 J Travel accommodations for talent I 10 K Set venue capacity C 2 L Ticketmaster contract D, K 3 M On-site ticketing L 8 N Sound and staging C 6 O Passes and stage credentials G, R 7 P Travel accommodations for staff B 20 Q Hire sponsor coordinator B 4 R Finalize sponsors Q 4 S Define/place signage for sponsors R, X 3 T Hire operations manager A 4 U Develop site plan T 6 V Hire security director T 7 W Set police/fire security plan V 4 X Power, plumbing, AC, toilet services U 8 Y Secure merchandise deals B 6 Z Online merchandise sales Y 6 03/11/15 5:50 PM 102 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Discussion Questions§ 1. Identify the critical path and its activities for Rockfest. How long does the project take? 4. Why is a work breakdown structure useful in a project such as this? Take the 26 activities and break them into what you think should be level-2, level-3, and level-4 tasks. 2. Which activities have a slack time of 8 weeks or more? 3. Identify five major challenges a project manager faces in events such as this one. §You may wish to view the video accompanying this case before addressing these questions. • Additional Case Study: Visit MyOMLab for this free case study: Shale Oil Company: This oil refinery must shut down for maintenance of a major piece of equipment. Endnotes 1. This formula is based on the statistical concept that from one end of the beta distribution to the other is 6 standard deviations (±3 standard deviations from the mean). Because (b – a) is 6 standard deviations, the variance is [(b – a)'6]2. M03_HEIZ0422_12_SE_C03.indd 102 2. Source: Adapted from James A. D. Stoner, Management, 6th ed. (Upper Saddle River, NJ: Pearson). 03/11/15 5:50 PM MyOMLab Main Heading Review Material THE IMPORTANCE OF PROJECT MANAGEMENT (p. 62) PROJECT PLANNING The management of projects involves three phases: 1. Planning—This phase includes goal setting, defining the project, and team organization. 2. Scheduling—This phase relates people, money, and supplies to specific activities and relates activities to each other. 3. Controlling—Here the firm monitors resources, costs, quality, and budgets. It also revises or changes plans and shifts resources to meet time and cost demands. Projects can be defined as a series of related tasks directed toward a major output. j (pp. 62–65) j PROJECT SCHEDULING Project organization—An organization formed to ensure that programs (projects) receive the proper management and attention. Work breakdown structure (WBS)—Defines a project by dividing it into more and more detailed components. j Gantt charts—Planning charts used to schedule resources and allocate time. Project scheduling serves several purposes: 1. 2. 3. 4. PROJECT CONTROLLING Computerized programs produce a broad variety of PERT/CPM reports, including (1) detailed cost breakdowns for each task, (2) total program labor curves, (3) cost distribution tables, (4) functional cost and hour summaries, (5) raw material and expenditure forecasts, (6) variance reports, (7) time analysis reports, and (8) work status reports. PROJECT MANAGEMENT TECHNIQUES: PERT AND CPM (pp. 67–71) j j j It shows the relationship of each activity to others and to the whole project. It identifies the precedence relationships among activities. It encourages the setting of realistic time and cost estimates for each activity. It helps make better use of people, money, and material resources by identifying critical bottlenecks in the project. Program evaluation and review technique (PERT)—A project management technique that employs three time estimates for each activity. Critical path method (CPM)—A project management technique that uses only one estimate per activity. Critical path—The computed longest time path(s) through a network. PERT and CPM both follow six basic steps. The activities on the critical path will delay the entire project if they are not completed on time. j j VIDEO 3.1 Project Management at Hard Rock’s Rockfest Concept Questions: 2.1–2.4 Problems: 3.1–3.2 Concept Questions: 3.1–3.4 (pp. 65–66) (pp. 66–67) Concept Questions: 1.1–1.4 Rapid Review 3 Chapter 3 Rapid Review Problem: 3.3 Concept Questions: 4.1–4.2 VIDEO 3.2 Project Management at Arnold Palmer Hospital Concept Questions: 5.1–5.4 Problems: 3.4–3.14 Virtual Office Hours for Solved Problems: 3.1, 3.2 Activity-on-node (AON)—A network diagram in which nodes designate activities. Activity-on-arrow (AOA)—A network diagram in which arrows designate activities. In an AOA network, the nodes represent the starting and finishing times of an activity and are also called events. j Dummy activity—An activity having no time that is inserted into a network to maintain the logic of the network. A dummy ending activity can be added to the end of an AON diagram for a project that has multiple ending activities. DETERMINING THE PROJECT SCHEDULE (pp. 71–77) j j j j j j j M03_HEIZ0422_12_SE_C03.indd 103 Critical path analysis—A process that helps determine a project schedule. To find the critical path, we calculate two distinct starting and ending times for each activity: Earliest start (ES) = Earliest time at which an activity can start, assuming that all predecessors have been completed Earliest finish (EF) = Earliest time at which an activity can be finished Latest start (LS) = Latest time at which an activity can start, without delaying the completion time of the entire project Latest finish (LF) = Latest time by which an activity has to finish so as to not delay the completion time of the entire project Forward pass—A process that identifies all the early start and early finish times. ES = Max {EF of all immediate predecessors} (3-1) EF = ES + Activity time (3-2) Concept Questions: 6.1–6.4 Problems: 3.15, 3.16 Backward pass—A process that identifies all the late start and late finish times. LF = Min {LS of all immediate following activities} (3-3) LS = LF – Activity time (3-4) 03/11/15 5:50 PM Rapid Review 3 Chapter 3 Rapid Review continued MyOMLab Main Heading Review Material j Slack time—Free time for an activity. Slack = LS − ES or Slack = LF − EF (3-5) The activities with zero slack are called critical activities and are said to be on the critical path. Virtual Office Hours for Solved Problem: 3.3 ACTIVE MODEL 3.1 The critical path is a continuous path through the project network that starts at the first activity in the project, terminates at the last activity in the project, and includes only critical activities. VARIABILITY IN ACTIVITY TIMES (pp. 77–82) j j j Optimistic time (a)—The “best” activity completion time that could be obtained in a PERT network. Pessimistic time (b)—The “worst” activity time that could be expected in a PERT network. Most likely time (m)—The most probable time to complete an activity in a PERT network. When using PERT, we often assume that activity time estimates follow the beta distribution. Expected activity time t = (a + 4m + b) / 6 Variance of activity completion time = [(b – COST-TIME TRADE-OFFS AND PROJECT CRASHING (pp. 82–85) A CRITIQUE OF PERT AND CPM j a) / 6]2 Virtual Office Hours for Solved Problems: 3.4, 3.5, 3.6 (3-7) (3-8) Z = (Due date − Expected date of completion) / sp (3-9) Due date = Expected completion time + (Z × sp) (3-10) Crashing—Shortening activity time in a network to reduce time on the critical path so total completion time is reduced. (Crash cost – Normal cost) (Normal time – Crash time) Problems: 3.17–3.27 (3-6) s2p = Project variance = ∑ (variances of activities on critical path) Crash cost per period = Concept Questions: 7.1–7.4 (3-11) Concept Questions: 8.1–8.4 Problems: 3.28–3.33 Virtual Office Hours for Solved Problem: 3.7 As with every technique for problem solving, PERT and CPM have a number of advantages as well as several limitations. Concept Questions: 9.1–9.4 USING MICROSOFT Microsoft Project, the most popular example of specialized project management software, is extremely useful in drawing project networks, identifying the project schedule, and manPROJECT TO aging project costs and other resources. MANAGE PROJECTS Concept Questions: 10.1–10.4 (pp. 85–86) (pp. 86–88) Self Test j Before taking the self-test, refer to the learning objectives listed at the beginning of the chapter and the key terms listed at the end of the chapter. LO 3.1 Which of the following statements regarding Gantt charts is true? a) Gantt charts give a timeline and precedence relationships for each activity of a project. b) Gantt charts use the four standard spines: Methods, Materials, Manpower, and Machinery. c) Gantt charts are visual devices that show the duration of activities in a project. d) Gantt charts are expensive. e) All of the above are true. LO 3.2 Which of the following is true about AOA and AON networks? a) In AOA, arrows represent activities. b) In AON, nodes represent activities. c) Activities consume time and resources. d) Nodes are also called events in AOA. e) All of the above. LO 3.3 Slack time equals: a) ES + t. b) LS − ES. c) zero. d) EF − ES. LO 3.4 The critical path of a network is the: a) shortest-time path through the network. b) path with the fewest activities. c) path with the most activities. d) longest-time path through the network. LO 3.5 PERT analysis computes the variance of the total project completion time as: a) the sum of the variances of all activities in the project. b) the sum of the variances of all activities on the critical path. c) the sum of the variances of all activities not on the critical path. d) the variance of the final activity of the project. LO 3.6 The crash cost per period: a) is the difference in costs divided by the difference in times (crash and normal). b) is considered to be linear in the range between normal and crash. c) needs to be determined so that the smallest cost values on the critical path can be considered for time reduction first. d) all of the above. Answers: LO 3.1. c; LO 3.2. e; LO 3.3. b; LO 3.4. d; LO 3.5. b; LO 3.6. d. M03_HEIZ0422_12_SE_C03.indd 104 03/11/15 5:50 PM GLOBAL COMPANY PROFILE: Walt Disney Parks & Resorts ◆ ◆ What Is Forecasting? 108 Associative Forecasting Methods: ◆ Regression and Correlation The Strategic Importance of Analysis 131 Forecasting 109 ◆ ◆ Monitoring and Controlling Seven Steps in the Forecasting Forecasts 138 System 110 ◆ ◆ Forecasting in the Service Forecasting Approaches 111 ◆ Sector 140 Time-Series Forecasting 112 Alaska Airlines CHAPTER OUTLINE 4 C H A P T E R Forecasting 105 M04_HEIZ0422_12_SE_C04.indd 105 14/12/15 9:52 am C H A P T E R 4 Forecasting Provides a Competitive Advantage for Disney GLOBAL COMPANY PROFILE Walt Disney Parks & Resorts W hen it comes to the world’s most respected global brands, Walt Disney Parks & Resorts is a visible leader. Although the monarch of this magic kingdom is no man but a mouse— Mickey Mouse—it’s CEO Robert Iger who daily manages the entertainment giant. Disney’s global portfolio includes Shanghai Disney (2016), Hong Kong Disneyland (2005), Disneyland Paris (1992), and Tokyo Disneyland (1983). But it is Walt Disney World Resort (in Florida) and Disneyland Resort (in California) Travelshots/Peter rTavelshots/Peter Phipp/Travelshots.com/Alamy that drive profits in this $50 billion corporation, which is ranked in the top 100 in both the Fortune 500 and Financial Times Global 500. Revenues at Disney are all about people—how many visit the parks and how they spend money while there. When Iger receives a daily report from his four theme parks and two water parks near Orlando, the report contains only two numbers: the forecast of yesterday’s attendance at the parks (Magic Kingdom, Epcot, Disney’s Animal Kingdom, Disney-Hollywood Studios, Typhoon Lagoon, and Donald Duck, Goofy, and Mickey Mouse provide the public image of Disney to the world. Forecasts drive the work schedules of 72,000 cast members working at Walt Disney World Resort near Orlando. Blizzard Beach) and the actual attendance. An error close to zero is expected. Iger takes his forecasts very seriously. The forecasting team at Walt Disney World Resort doesn’t just do a daily prediction, however, and Iger is not its only customer. The team also provides daily, weekly, monthly, annual, and 5-year forecasts to the labor management, maintenance, operations, finance, and park scheduling departments. Forecasters use judgmental models, econometric models, moving-average models, and regression analysis. Nicolas Chan/Alamy The giant sphere is the symbol of Epcot, one of Disney’s four Orlando parks, for which forecasts of meals, lodging, entertainment, and transportation must be made. This Disney monorail moves guests among parks and the 28 hotels on the massive 47-square-mile property (about the size of San Francisco and twice the size of Manhattan). 106 M04_HEIZ0422_12_SE_C04.indd 106 14/12/15 9:52 am Melvyn Longhurst/Corbis Kevin Fleming/Corbis A daily forecast of attendance is made by adjusting Disney’s annual operating plan for weather forecasts, the previous day’s crowds, conventions, and seasonal variations. One of the two water parks at Walt Disney World Resort, Typhoon Lagoon, is shown here. With 20% of Walt Disney World Resort’s customers Ci d ll ’ iiconic Cinderella’s i castle l iis a ffocall point i ffor meeting i up with ih family and friends in the massive park. The statue of Walt Disney greets visitors to the open plaza. coming from outside the United States, its economic model includes such variables as gross domestic product (GDP), cross-exchange rates, and arrivals into the U.S. Disney also uses 35 analysts and 70 field people to survey 1 million people each year. The surveys, administered to guests at the parks and its 20 hotels, to employees, and to travel industry professionals, examine future travel plans and experiences at the parks. This helps forecast not only attendance but also behavior at each ride (e.g., how long people will wait, how many times they will ride). Inputs to the monthly forecasting model include airline specials, speeches by the chair of the Federal Reserve, and Wall Street trends. Disney even monitors 3,000 school districts inside and outside the U.S. for holiday/vacation schedules. With this approach, Disney’s 5-year attendance forecast yields just a 5% error on average. dmac/Alamy Its annual forecasts have a 0% to 3% error. Attendance forecasts for the parks drive a whole slew of management decisions. For example, capacity on any day can be increased by opening at 8 A.M. instead of the usual 9 A.M., by opening more shows or rides, by adding more food/ beverage carts (9 million hamburgers and 50 million Cokes Forecasts are critical to making sure rides are not overcrowded. Disney is good at “managing demand” with techniques such as adding more street activities to reduce long lines for rides. On slow days, Disney calls fewer cast members to work. are sold per year!), and by bringing in more employees (called parks, with the “FAST PASS” reservation system, and by shift- “cast members”). Cast members are scheduled in 15-minute ing crowds from rides to more street parades. intervals throughout the parks for flexibility. Demand can be managed by limiting the number of guests admitted to the At Disney, forecasting is a key driver in the company’s success and competitive advantage. 107 M04_HEIZ0422_12_SE_C04.indd 107 14/12/15 9:52 am L E A RNING OBJECTIVES LO 4.1 Understand the three time horizons and which models apply for each 108 LO 4.2 Explain when to use each of the four qualitative models 111 LO 4.3 Apply the naive, moving-average, exponential smoothing, and trend methods 113 LO 4.4 Compute three measures of forecast accuracy 118 LO 4.5 Develop seasonal indices 127 LO 4.6 Conduct a regression and correlation analysis 131 LO 4.7 Use a tracking signal 138 What Is Forecasting? STUDENT TIP An increasingly complex world economy makes forecasting challenging. Forecasting The art and science of predicting future events. Every day, managers like those at Disney make decisions without knowing what will happen in the future. They order inventory without knowing what sales will be, purchase new equipment despite uncertainty about demand for products, and make investments without knowing what profits will be. Managers are always trying to make better estimates of what will happen in the future in the face of uncertainty. Making good estimates is the main purpose of forecasting. In this chapter, we examine different types of forecasts and present a variety of forecasting models. Our purpose is to show that there are many ways for managers to forecast. We also provide an overview of business sales forecasting and describe how to prepare, monitor, and judge the accuracy of a forecast. Good forecasts are an essential part of efficient service and manufacturing operations. Forecasting is the art and science of predicting future events. Forecasting may involve taking historical data (such as past sales) and projecting them into the future with a mathematical model. It may be a subjective or an intuitive prediction (e.g., “this is a great new product and will sell 20% more than the old one”). It may be based on demand-driven data, such as customer plans to purchase, and projecting them into the future. Or the forecast may involve a combination of these, that is, a mathematical model adjusted by a manager’s good judgment. As we introduce different forecasting techniques in this chapter, you will see that there is seldom one superior method. Forecasts may be influenced by a product’s position in its life cycle—whether sales are in an introduction, growth, maturity, or decline stage. Other products can be influenced by the demand for a related product—for example, navigation systems may track with new car sales. Because there are limits to what can be expected from forecasts, we develop error measures. Preparing and monitoring forecasts can also be costly and time consuming. Few businesses, however, can afford to avoid the process of forecasting by just waiting to see what happens and then taking their chances. Effective planning in both the short run and long run depends on a forecast of demand for the company’s products. Forecasting Time Horizons LO 4.1 Understand the three time horizons and which models apply for each A forecast is usually classified by the future time horizon that it covers. Time horizons fall into three categories: 1. Short-range forecast: This forecast has a time span of up to 1 year but is generally less than 3 months. It is used for planning purchasing, job scheduling, workforce levels, job assignments, and production levels. 2. Medium-range forecast: A medium-range, or intermediate, forecast generally spans from 3 months to 3 years. It is useful in sales planning, production planning and budgeting, cash budgeting, and analysis of various operating plans. 3. Long-range forecast: Generally 3 years or more in time span, long-range forecasts are used in planning for new products, capital expenditures, facility location or expansion, and research and development. 108 M04_HEIZ0422_12_SE_C04.indd 108 14/12/15 9:52 am CHAP T ER 4 | FORECASTING 109 Medium- and long-range forecasts are distinguished from short-range forecasts by three features: 1. First, intermediate and long-range forecasts deal with more comprehensive issues supporting management decisions regarding planning and products, plants, and processes. Implementing some facility decisions, such as GM’s decision to open a new Brazilian manufacturing plant, can take 5 to 8 years from inception to completion. 2. Second, short-term forecasting usually employs different methodologies than longer-term forecasting. Mathematical techniques, such as moving averages, exponential smoothing, and trend extrapolation (all of which we shall examine shortly), are common to shortrun projections. Broader, less quantitative methods are useful in predicting such issues as whether a new product, like the optical disk recorder, should be introduced into a company’s product line. 3. Finally, as you would expect, short-range forecasts tend to be more accurate than longerrange forecasts. Factors that influence demand change every day. Thus, as the time horizon lengthens, it is likely that forecast accuracy will diminish. It almost goes without saying, then, that sales forecasts must be updated regularly to maintain their value and integrity. After each sales period, forecasts should be reviewed and revised. Types of Forecasts Organizations use three major types of forecasts in planning future operations: 1. Economic forecasts address the business cycle by predicting inflation rates, money supplies, housing starts, and other planning indicators. 2. Technological forecasts are concerned with rates of technological progress, which can result in the birth of exciting new products, requiring new plants and equipment. 3. Demand forecasts are projections of demand for a company’s products or services. Forecasts drive decisions, so managers need immediate and accurate information about real demand. They need demand-driven forecasts, where the focus is on rapidly identifying and tracking customer desires. These forecasts may use recent point-of-sale (POS) data, retailer-generated reports of customer preferences, and any other information that will help to forecast with the most current data possible. Demand-driven forecasts drive a company’s production, capacity, and scheduling systems and serve as inputs to financial, marketing, and personnel planning. In addition, the payoff in reduced inventory and obsolescence can be huge. Economic forecasts Planning indicators that are valuable in helping organizations prepare medium- to long-range forecasts. Technological forecasts Long-term forecasts concerned with the rates of technological progress. Demand forecasts Projections of a company’s sales for each time period in the planning horizon. Economic and technological forecasting are specialized techniques that may fall outside the role of the operations manager. The emphasis in this chapter will therefore be on demand forecasting. The Strategic Importance of Forecasting Good forecasts are of critical importance in all aspects of a business: The forecast is the only estimate of demand until actual demand becomes known. Forecasts of demand therefore drive decisions in many areas. Let’s look at the impact of product demand forecast on three activities: (1) supply-chain management, (2) human resources, and (3) capacity. Supply-Chain Management Good supplier relations and the ensuing advantages in product innovation, cost, and speed to market depend on accurate forecasts. Here are just three examples: ◆ Apple has built an effective global system where it controls nearly every piece of the supply chain, from product design to retail store. With rapid communication and accurate data shared up and down the supply chain, innovation is enhanced, inventory costs are reduced, and speed to market is improved. Once a product goes on sale, Apple tracks demand by the M04_HEIZ0422_12_SE_C04.indd 109 14/12/15 9:52 am 110 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT ◆ ◆ hour for each store and adjusts production forecasts daily. At Apple, forecasts for its supply chain are a strategic weapon. Toyota develops sophisticated car forecasts with input from a variety of sources, including dealers. But forecasting the demand for accessories such as navigation systems, custom wheels, spoilers, and so on is particularly difficult. And there are over 1,000 items that vary by model and color. As a result, Toyota not only reviews reams of data with regard to vehicles that have been built and wholesaled but also looks in detail at vehicle forecasts before it makes judgments about the future accessory demand. When this is done correctly, the result is an efficient supply chain and satisfied customers. Walmart collaborates with suppliers such as Sara Lee and Procter & Gamble to make sure the right item is available at the right time in the right place and at the right price. For instance, in hurricane season, Walmart’s ability to analyze 700 million store–item combinations means it can forecast that not only flashlights but also Pop-Tarts and beer sell at seven times the normal demand rate. These forecasting systems are known as collaborative planning, forecasting, and replenishment (CPFR). They combine the intelligence of multiple supply-chain partners. The goal of CPFR is to create significantly more accurate information that can power the supply chain to greater sales and profits. Human Resources Hiring, training, and laying off workers all depend on anticipated demand. If the human resources department must hire additional workers without warning, the amount of training declines, and the quality of the workforce suffers. A large Louisiana chemical firm almost lost its biggest customer when a quick expansion to around-the-clock shifts led to a total breakdown in quality control on the second and third shifts. Capacity When capacity is inadequate, the resulting shortages can lead to loss of customers and market share. This is exactly what happened to Nabisco when it underestimated the huge demand for its new Snackwell Devil’s Food Cookies. Even with production lines working overtime, Nabisco could not keep up with demand, and it lost customers. Nintendo faced this problem when its Wii was introduced and exceeded all forecasts for demand. Amazon made the same error with its Kindle. On the other hand, when excess capacity exists, costs can skyrocket. Seven Steps in the Forecasting System Forecasting follows seven basic steps. We use Disney World, the focus of this chapter’s Global Company Profile, as an example of each step: 1. Determine the use of the forecast: Disney uses park attendance forecasts to drive decisions about staffing, opening times, ride availability, and food supplies. 2. Select the items to be forecasted: For Disney World, there are six main parks. A forecast of daily attendance at each is the main number that determines labor, maintenance, and scheduling. 3. Determine the time horizon of the forecast: Is it short, medium, or long term? Disney develops daily, weekly, monthly, annual, and 5-year forecasts. 4. Select the forecasting model(s): Disney uses a variety of statistical models that we shall discuss, including moving averages, econometrics, and regression analysis. It also employs judgmental, or nonquantitative, models. 5. Gather the data needed to make the forecast: Disney’s forecasting team employs 35 analysts and 70 field personnel to survey 1 million people/businesses every year. Disney also uses a firm called Global Insights for travel industry forecasts and gathers data on exchange rates, arrivals into the U.S., airline specials, Wall Street trends, and school vacation schedules. M04_HEIZ0422_12_SE_C04.indd 110 14/12/15 9:52 am CHAP T ER 4 | FORECASTING 111 6. Make the forecast. 7. Validate and implement the results: At Disney, forecasts are reviewed daily at the highest levels to make sure that the model, assumptions, and data are valid. Error measures are applied; then the forecasts are used to schedule personnel down to 15-minute intervals. These seven steps present a systematic way of initiating, designing, and implementing a forecasting system. When the system is to be used to generate forecasts regularly over time, data must be routinely collected. Then actual computations are usually made by computer. Regardless of the system that firms like Disney use, each company faces several realities: ◆ ◆ ◆ Outside factors that we cannot predict or control often impact the forecast. Most forecasting techniques assume that there is some underlying stability in the system. Consequently, some firms automate their predictions using computerized forecasting software, then closely monitor only the product items whose demand is erratic. Both product family and aggregated forecasts are more accurate than individual product forecasts. Disney, for example, aggregates daily attendance forecasts by park. This approach helps balance the over- and underpredictions for each of the six attractions. Forecasting Approaches There are two general approaches to forecasting, just as there are two ways to tackle all decision modeling. One is a quantitative analysis; the other is a qualitative approach. Quantitative forecasts use a variety of mathematical models that rely on historical data and/or associative variables to forecast demand. Subjective or qualitative forecasts incorporate such factors as the decision maker’s intuition, emotions, personal experiences, and value system in reaching a forecast. Some firms use one approach and some use the other. In practice, a combination of the two is usually most effective. Quantitative forecasts Forecasts that employ mathematical modeling to forecast demand. Qualitative forecasts Forecasts that incorporate such factors as the decision maker’s intuition, emotions, personal experiences, and value system. Overview of Qualitative Methods In this section, we consider four different qualitative forecasting techniques: 1. Jury of executive opinion: Under this method, the opinions of a group of high-level experts or managers, often in combination with statistical models, are pooled to arrive at a group estimate of demand. Bristol-Myers Squibb Company, for example, uses 220 well-known research scientists as its jury of executive opinion to get a grasp on future trends in the world of medical research. 2. Delphi method: There are three different types of participants in the Delphi method: decision makers, staff personnel, and respondents. Decision makers usually consist of a group of 5 to 10 experts who will be making the actual forecast. Staff personnel assist decision makers by preparing, distributing, collecting, and summarizing a series of questionnaires and survey results. The respondents are a group of people, often located in different places, whose judgments are valued. This group provides inputs to the decision makers before the forecast is made. The state of Alaska, for example, has used the Delphi method to develop its longrange economic forecast. A large part of the state’s budget is derived from the million-plus barrels of oil pumped daily through a pipeline at Prudhoe Bay. The large Delphi panel of experts had to represent all groups and opinions in the state and all geographic areas. 3. Sales force composite: In this approach, each salesperson estimates what sales will be in his or her region. These forecasts are then reviewed to ensure that they are realistic. Then they are combined at the district and national levels to reach an overall forecast. A variation of this approach occurs at Lexus, where every quarter Lexus dealers have a “make meeting.” At this meeting, they talk about what is selling, in what colors, and with what options, so the factory knows what to build. 4. Market survey: This method solicits input from customers or potential customers regarding future purchasing plans. It can help not only in preparing a forecast but also in improving M04_HEIZ0422_12_SE_C04.indd 111 Jury of executive opinion A forecasting technique that uses the opinion of a small group of high-level managers to form a group estimate of demand. Delphi method A forecasting technique using a group process that allows experts to make forecasts. LO 4.2 Explain when to use each of the four qualitative models Sales force composite A forecasting technique based on salespersons’ estimates of expected sales. Market survey A forecasting method that solicits input from customers or potential customers regarding future purchasing plans. 14/12/15 9:52 am 112 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT product design and planning for new products. The consumer market survey and sales force composite methods can, however, suffer from overly optimistic forecasts that arise from customer input. Overview of Quantitative Methods1 Five quantitative forecasting methods, all of which use historical data, are described in this chapter. They fall into two categories: Time series A forecasting technique that uses a series of past data points to make a forecast. (')'* Naive approach Moving averages Exponential smoothing Trend projection Linear regression Time-series models " 1. 2. 3. 4. 5. Associative model Time-Series Models Time-series models predict on the assumption that the future is a function of the past. In other words, they look at what has happened over a period of time and use a series of past data to make a forecast. If we are predicting sales of lawn mowers, we use the past sales for lawn mowers to make the forecasts. Associative models, such as linear regression, incorporate the variables or factors that might influence the quantity being forecast. For example, an associative model for lawn mower sales might use factors such as new housing starts, advertising budget, and competitors’ prices. Associative Models STUDENT TIP Here is the meat of this chapter. We now show you a wide variety of models that use time-series data. Time-Series Forecasting A time series is based on a sequence of evenly spaced (weekly, monthly, quarterly, and so on) data points. Examples include weekly sales of Nike Air Jordans, quarterly earnings reports of Microsoft stock, daily shipments of Coors beer, and annual consumer price indices. Forecasting time-series data implies that future values are predicted only from past values and that other variables, no matter how potentially valuable, may be ignored. Decomposition of a Time Series Analyzing time series means breaking down past data into components and then projecting them forward. A time series has four components: STUDENT TIP The peak “seasons” for sales of Frito-Lay chips are the Super Bowl, Memorial Day, Labor Day, and the Fourth of July. 1. Trend is the gradual upward or downward movement of the data over time. Changes in income, population, age distribution, or cultural views may account for movement in trend. 2. Seasonality is a data pattern that repeats itself after a period of days, weeks, months, or quarters. There are six common seasonality patterns: PERIOD LENGTH “SEASON” LENGTH NUMBER OF “SEASONS” IN PATTERN Week Day Month Week 7 Month Day Year Quarter 4 Year Month 12 Year Week 52 4–412 28–31 Restaurants and barber shops, for example, experience weekly seasons, with Saturday being the peak of business. See the OM in Action box “Forecasting at Olive Garden.” Beer distributors forecast yearly patterns, with monthly seasons. Three “seasons”—May, July, and September—each contain a big beer-drinking holiday. M04_HEIZ0422_12_SE_C04.indd 112 14/12/15 9:52 am CHAP T ER 4 FORECASTING 113 Forecasting at Olive Garden It’s Friday night in the college town of Gainesville, Florida, and the local Olive Garden restaurant is humming. Customers may wait an average of 30 minutes for a table, but they can sample new wines and cheeses and admire scenic paintings of Italian villages on the Tuscan-style restaurant’s walls. Then comes dinner with portions so huge that many people take home a doggie bag. The typical bill: under $15 per person. Crowds flock to the Darden restaurant chain’s Olive Garden, Seasons 52, and Bahama Breeze for value and consistency—and they get it. Every night, Darden’s computers crank out forecasts that tell store managers what demand to anticipate the next day. The forecasting software generates a total meal forecast and breaks that down into specific menu items. The system tells a manager, for instance, that if 625 meals will be served the next day, “you will serve these items in these quantities. So before you go home, pull 25 pounds of shrimp and 30 pounds of crab out, and tell your operations people to prepare 42 portion packs of chicken, 75 scampi dishes, 8 stuffed flounders, and so on.” Managers often fine-tune the quantities based on local conditions, such as weather or a convention, but they know what their customers are going to order. Bob Pardue - Signs/Alamy OM in Action | By relying on demand history, the forecasting system has cut millions of dollars of waste out of the system. The forecast also reduces labor costs by providing the necessary information for improved scheduling. Labor costs decreased almost a full percent in the first year, translating into additional millions in savings for the Darden chain. In the low-margin restaurant business, every dollar counts. Sources: InformationWeek (April 1, 2014); USA Today (Oct. 13, 2014); and FastCompany (July-August 2009). 3. Cycles are patterns in the data that occur every several years. They are usually tied into the business cycle and are of major importance in short-term business analysis and planning. Predicting business cycles is difficult because they may be affected by political events or by international turmoil. 4. Random variations are “blips” in the data caused by chance and unusual situations. They follow no discernible pattern, so they cannot be predicted. Figure 4.1 illustrates a demand over a 4-year period. It shows the average, trend, seasonal components, and random variations around the demand curve. The average demand is the sum of the demand for each period divided by the number of data periods. LO 4.3 Apply the naive, moving-average, exponential smoothing, and trend methods Naive Approach The simplest way to forecast is to assume that demand in the next period will be equal to demand in the most recent period. In other words, if sales of a product—say, Nokia cell phones—were 68 units in January, we can forecast that February’s sales will also be 68 phones. Demand for product or service Trend component Seasonal peaks 4.1 Demand Charted over 4 Years, with a Growth Trend and Seasonality Indicated Actual demand line Average demand over 4 years Random variation 1 2 3 Time (years) M04_HEIZ0422_12_SE_C04.indd 113 Figure 4 STUDENT TIP Forecasting is easy when demand is stable. But with trend, seasonality, and cycles considered, the job is a lot more interesting. 14/12/15 9:52 am 114 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Naive approach A forecasting technique that assumes that demand in the next period is equal to demand in the most recent period. Moving averages A forecasting method that uses an average of the n most recent periods of data to forecast the next period. Does this make any sense? It turns out that for some product lines, this naive approach is the most cost-effective and efficient objective forecasting model. At least it provides a starting point against which more sophisticated models that follow can be compared. Moving Averages A moving-average forecast uses a number of historical actual data values to generate a forecast. Moving averages are useful if we can assume that market demands will stay fairly steady over time. A 4-month moving average is found by simply summing the demand during the past 4 months and dividing by 4. With each passing month, the most recent month’s data are added to the sum of the previous 3 months’ data, and the earliest month is dropped. This practice tends to smooth out short-term irregularities in the data series. Mathematically, the simple moving average (which serves as an estimate of the next period’s demand) is expressed as: Moving average = g demand in previous n periods n (4-1) where n is the number of periods in the moving average—for example, 4, 5, or 6 months, respectively, for a 4-, 5-, or 6-period moving average. Example 1 shows how moving averages are calculated. Example 1 DETERMINING THE MOVING AVERAGE Donna’s Garden Supply wants a 3-month moving-average forecast, including a forecast for next January, for shed sales. APPROACH c Storage shed sales are shown in the middle column of the following table. A 3-month moving average appears on the right. MONTH ACTUAL SHED SALES 3-MONTH MOVING AVERAGE January February March April 10 12 13 16 (10 + 12 + 13)/3 = 1123 May 19 (12 + 13 + 16)/3 = 1323 June 23 (13 + 16 + 19)/3 = 16 July 26 (16 + 19 + 23)/3 = 1913 August 30 (19 + 23 + 26)/3 = 2223 September 28 (23 + 26 + 30)/3 = 2613 October 18 (26 + 30 + 28)/3 = 28 November 16 (30 + 28 + 18)/3 = 2513 December 14 (28 + 18 + 16)/3 = 2023 The forecast for December is 2023 . To project the demand for sheds in the coming January, we sum the October, November, and December sales and divide by 3: January forecast = (18 + 16 + 14)/3 = 16. SOLUTION c Management now has a forecast that averages sales for the last 3 months. It is easy to use and understand. INSIGHT c LEARNING EXERCISE c If actual sales in December were 18 (rather than 14), what is the new January forecast? [Answer: 1713.] RELATED PROBLEMS c in MyOMLab) 4.1a, 4.2b, 4.5a, 4.6, 4.8a, b, 4.10a, 4.13b, 4.15, 4.33 (4.35, 4.38 are available EXCEL OM Data File Ch04Ex1.xls can be found in MyOMLab. ACTIVE MODEL 4.1 This example is further illustrated in Active Model 4.1 in MyOMLab. M04_HEIZ0422_12_SE_C04.indd 114 14/12/15 9:52 am CHAP T ER 4 | FORECASTING 115 When a detectable trend or pattern is present, weights can be used to place more emphasis on recent values. This practice makes forecasting techniques more responsive to changes because more recent periods may be more heavily weighted. Choice of weights is somewhat arbitrary because there is no set formula to determine them. Therefore, deciding which weights to use requires some experience. For example, if the latest month or period is weighted too heavily, the forecast may reflect a large unusual change in the demand or sales pattern too quickly. A weighted moving average may be expressed mathematically as: Weighted moving average = g ((Weight for period n)(Demand in period n)) g Weights (4-2) Example 2 shows how to calculate a weighted moving average. Example 2 DETERMINING THE WEIGHTED MOVING AVERAGE Donna’s Garden Supply (see Example 1) wants to forecast storage shed sales by weighting the past 3 months, with more weight given to recent data to make them more significant. APPROACH c Assign more weight to recent data, as follows: WEIGHTS APPLIED 3 2 1 6 PERIOD Last month Two months ago Three months ago Sum of weights Forecast for this month = 3 * Sales last mo. + 2 * Sales 2 mos. ago + 1 * Sales 3 mos. ago Sum of the weights SOLUTION c The results of this weighted-average forecast are as follows: MONTH ACTUAL SHED SALES January 10 3-MONTH WEIGHTED MOVING AVERAGE February 12 March 13 April 16 [(3 * 13) + (2 * 12) + (10)]/6 = 1216 May 19 [(3 * 16) + (2 * 13) + (12)]/6 = 1413 June 23 [(3 * 19) + (2 * 16) + (13)]/6 = 17 July 26 [(3 * 23) + (2 * 19) + (16)]/6 = 2012 August 30 [(3 * 26) + (2 * 23) + (19)]/6 = 2356 September 28 [(3 * 30) + (2 * 26) + (23)]/6 = 2712 October 18 [(3 * 28) + (2 * 30) + (26)]/6 = 2813 November 16 [(3 * 18) + (2 * 28) + (30)]/6 = 2313 December 14 [(3 * 16) + (2 * 18) + (28)]/6 = 1823 The forecast for January is 1513 . Do you see how this number is computed? In this particular forecasting situation, you can see that more heavily weighting the latest month provides a more accurate projection. INSIGHT c LEARNING EXERCISE c If the assigned weights were 0.50, 0.33, and 0.17 (instead of 3, 2, and 1), what is the forecast for January’s weighted moving average? Why? [Answer: There is no change. These are the same relative weights. Note that g weights = 1 now, so there is no need for a denominator. When the weights sum to 1, calculations tend to be simpler.] RELATED PROBLEMS c 4.1b, 4.2c, 4.5c, 4.6, 4.7, 4.10b (4.38 is available in MyOMLab) EXCEL OM Data File Ch04Ex2.xls can be found in MyOMLab. M04_HEIZ0422_12_SE_C04.indd 115 14/12/15 9:52 am 116 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Figure 4.2 Weighted moving average (from Example 2) Actual Demand vs. MovingAverage and WeightedMoving-Average Methods for Donna’s Garden Supply 25 Sales demand STUDENT TIP Moving-average methods always lag behind when there is a trend present, as shown by the blue line (actual sales) for January through August. 30 20 Actual sales 15 Moving average (from Example 1) 10 5 Jan. Feb. Mar. Apr. May June July Aug. Sept. Oct. Nov. Dec. Month Both simple and weighted moving averages are effective in smoothing out sudden fluctuations in the demand pattern to provide stable estimates. Moving averages do, however, present three problems: 1. Increasing the size of n (the number of periods averaged) does smooth out fluctuations better, but it makes the method less sensitive to changes in the data. 2. Moving averages cannot pick up trends very well. Because they are averages, they will always stay within past levels and will not predict changes to either higher or lower levels. That is, they lag the actual values. 3. Moving averages require extensive records of past data. Figure 4.2, a plot of the data in Examples 1 and 2, illustrates the lag effect of the movingaverage models. Note that both the moving-average and weighted-moving-average lines lag the actual demand. The weighted moving average, however, usually reacts more quickly to demand changes. Even in periods of downturn (see November and December), it more closely tracks the demand. Exponential Smoothing Exponential smoothing A weighted-moving-average forecasting technique in which data points are weighted by an exponential function. Smoothing constant The weighting factor used in an exponential smoothing forecast, a number greater than or equal to 0 and less than or equal to 1. Exponential smoothing is another weighted-moving-average forecasting method. It involves very little record keeping of past data and is fairly easy to use. The basic exponential smoothing formula can be shown as follows: New forecast = Last period’s forecast + a (Last period’s actual demand − Last period’s forecast) where a is a weight, or smoothing constant, chosen by the forecaster, that has a value greater than or equal to 0 and less than or equal to 1. Equation (4-3) can also be written mathematically as: Ft = Ft91 + a (At91 - Ft91) where M04_HEIZ0422_12_SE_C04.indd 116 (4-3) Ft Ft91 a At91 = = = = (4-4) new forecast previous period’s forecast smoothing (or weighting) constant (0 … a … 1) previous period’s actual demand 14/12/15 9:52 am CHAP T ER 4 | FORECASTING 117 The concept is not complex. The latest estimate of demand is equal to the old forecast adjusted by a fraction of the difference between the last period’s actual demand and last period’s forecast. Example 3 shows how to use exponential smoothing to derive a forecast. Example 3 DETERMINING A FORECAST VIA EXPONENTIAL SMOOTHING In January, a car dealer predicted February demand for 142 Ford Mustangs. Actual February demand was 153 autos. Using a smoothing constant chosen by management of a = .20, the dealer wants to forecast March demand using the exponential smoothing model. APPROACH c SOLUTION c The exponential smoothing model in Equations (4-3) and (4-4) can be applied. Substituting the sample data into the formula, we obtain: New forecast (for March demand) = 142 + .2(153 - 142) = 142 + 2.2 = 144.2 Thus, the March demand forecast for Ford Mustangs is rounded to 144. Using just two pieces of data, the forecast and the actual demand, plus a smoothing constant, we developed a forecast of 144 Ford Mustangs for March. INSIGHT c LEARNING EXERCISE c [Answer: 145.3] If the smoothing constant is changed to .30, what is the new forecast? RELATED PROBLEMS c 4.1c, 4.3, 4.4, 4.5d, 4.6, 4.9d, 4.11, 4.12, 4.13a, 4.17, 4.18, 4.31, 4.33, 4.34 (4.36, 4.61a are available in MyOMLab) The smoothing constant, a, is generally in the range from .05 to .50 for business applications. It can be changed to give more weight to recent data (when a is high) or more weight to past data (when a is low). When a reaches the extreme of 1.0, then in Equation (4-4), Ft 5 1.0At21. All the older values drop out, and the forecast becomes identical to the naive model mentioned earlier in this chapter. That is, the forecast for the next period is just the same as this period’s demand. The following table helps illustrate this concept. For example, when a = .5, we can see that the new forecast is based almost entirely on demand in the last three or four periods. When a = .1, the forecast places little weight on recent demand and takes many periods (about 19) of historical values into account. WEIGHT ASSIGNED TO SMOOTHING CONSTANT MOST RECENT PERIOD (A) 2ND MOST RECENT PERIOD A(12A) 3RD MOST RECENT PERIOD A(12 A)2 4TH MOST RECENT PERIOD A(12A)3 5TH MOST RECENT PERIOD A(12A)4 a = .1 .1 .09 .081 .073 .066 a = .5 .5 .25 .125 .063 .031 Selecting the Smoothing Constant Exponential smoothing has been successfully applied in virtually every type of business. However, the appropriate value of the smoothing constant, a, can make the difference between an accurate forecast and an inaccurate forecast. High values of a are chosen when the underlying average is likely to change. Low values of a are used when the underlying average is fairly stable. In picking a value for the smoothing constant, the objective is to obtain the most accurate forecast. Measuring Forecast Error The overall accuracy of any forecasting model—moving average, exponential smoothing, or other—can be determined by comparing the forecasted values with the actual or observed M04_HEIZ0422_12_SE_C04.indd 117 STUDENT TIP Forecasts tend to be more accurate as they become shorter. Therefore, forecast error also tends to drop with shorter forecasts. 14/12/15 9:52 am 118 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT values. If Ft denotes the forecast in period t, and At denotes the actual demand in period t, the forecast error (or deviation) is defined as: Forecast error = Actual demand - Forecast value = At - Ft LO 4.4 Compute three measures of forecast accuracy Mean absolute deviation (MAD) A measure of the overall forecast error for a model. Example 4 Several measures are used in practice to calculate the overall forecast error. These measures can be used to compare different forecasting models, as well as to monitor forecasts to ensure they are performing well. Three of the most popular measures are mean absolute deviation (MAD), mean squared error (MSE), and mean absolute percent error (MAPE). We now describe and give an example of each. Mean Absolute Deviation The first measure of the overall forecast error for a model is the mean absolute deviation (MAD). This value is computed by taking the sum of the absolute values of the individual forecast errors (deviations) and dividing by the number of periods of data (n): g ! Actual - Forecast ! (4-5) n Example 4 applies MAD, as a measure of overall forecast error, by testing two values of a. MAD = DETERMINING THE MEAN ABSOLUTE DEVIATION (MAD) During the past 8 quarters, the Port of Baltimore has unloaded large quantities of grain from ships. The port’s operations manager wants to test the use of exponential smoothing to see how well the technique works in predicting tonnage unloaded. He guesses that the forecast of grain unloaded in the first quarter was 175 tons. Two values of a are to be examined: a = .10 and a = .50. APPROACH c Compare the actual data with the data we forecast (using each of the two a values) and then find the absolute deviation and MADs. SOLUTION c QUARTER The following table shows the detailed calculations for a = .10 only: ACTUAL TONNAGE UNLOADED FORECAST WITH A = .50 FORECAST WITH A = .10 1 2 180 168 175 175.50 = 175.00 + .10(180 - 175) 175 177.50 3 159 174.75 = 175.50 + .10(168 - 175.50) 172.75 4 175 173.18 = 174.75 + .10(159 - 174.75) 165.88 5 190 173.36 = 173.18 + .10(175 - 173.18) 170.44 6 205 175.02 = 173.36 + .10(190 - 173.36) 180.22 7 180 178.02 = 175.02 + .10(205 - 175.02) 192.61 8 182 178.22 = 178.02 + .10(180 - 178.02) 186.30 9 ? 178.59 = 178.22 + .10(182 - 178.22) 184.15 To evaluate the accuracy of each smoothing constant, we can compute forecast errors in terms of absolute deviations and MADs: QUARTER 1 2 3 4 5 6 7 8 ACTUAL TONNAGE UNLOADED 180 168 159 175 190 205 180 182 Sum of absolute deviations: MAD = M04_HEIZ0422_12_SE_C04.indd 118 g ! Deviations ! n FORECAST WITH A = .10 175 175.50 174.75 173.18 173.36 175.02 178.02 178.22 ABSOLUTE DEVIATION FOR A = .10 5.00 7.50 15.75 1.82 16.64 29.98 1.98 3.78 82.45 10.31 FORECAST WITH A = .50 ABSOLUTE DEVIATION FOR A = .50 175 177.50 172.75 165.88 170.44 180.22 192.61 186.30 5.00 9.50 13.75 9.12 19.56 24.78 12.61 4.30 98.62 12.33 14/12/15 9:52 am CHAP T ER 4 | FORECASTING 119 On the basis of this comparison of the two MADs, a smoothing constant of a = .10 is preferred to a = .50 because its MAD is smaller. INSIGHT c LEARNING EXERCISE c If the smoothing constant is changed from a = .10 to a = .20, what is the new MAD? [Answer: 10.21.] RELATED PROBLEMS c in MyOMLab) 4.5b, 4.8c, 4.9c, 4.14, 4.23, 4.59b (4.35d, 4.37a, 4.38c, 4.61b are available EXCEL OM Data File Ch04Ex4a.xls and Ch04Ex4b.xls can be found in MyOMLab. ACTIVE MODEL 4.2 This example is further illustrated in Active Model 4.2 in MyOMLab. Most computerized forecasting software includes a feature that automatically finds the smoothing constant with the lowest forecast error. Some software modifies the a value if errors become larger than acceptable. The mean squared error (MSE) is a second way of measuring overall forecast error. MSE is the average of the squared differences between the forecasted and observed values. Its formula is: Mean Squared Error g (Forecast errors)2 (4-6) n Example 5 finds the MSE for the Port of Baltimore problem introduced in Example 4. Mean squared error (MSE) The average of the squared differences between the forecasted and observed values. MSE = Example 5 DETERMINING THE MEAN SQUARED ERROR (MSE) The operations manager for the Port of Baltimore now wants to compute MSE for a = .10. APPROACH c Equation (4-6). Using the same forecast data for a = .10 from Example 4, compute the MSE with SOLUTION c QUARTER ACTUAL TONNAGE UNLOADED FORECAST FOR A = .10 1 180 175 2 168 175.50 3 159 174.75 ( - 15.75)2 = 248.06 4 175 173.18 (1.82)2 = 3.31 5 190 173.36 (16.64)2 = 276.89 6 205 175.02 (29.98)2 = 898.80 7 180 178.02 (1.98)2 = 3.92 8 182 178.22 (3.78)2 = 14.29 (ERROR)2 52 = 25 ( - 7.5)2 = 56.25 Sum of errors squared = 1,526.52 MSE = g(Forecast errors)2 = 1,526.52/8 = 190.8 n INSIGHT c Is this MSE = 190.8 good or bad? It all depends on the MSEs for other forecasting approaches. A low MSE is better because we want to minimize MSE. MSE exaggerates errors because it squares them. LEARNING EXERCISE c Find the MSE for a = .50. [Answer: MSE = 195.24. The result indicates that a = .10 is a better choice because we seek a lower MSE. Coincidentally, this is the same conclusion we reached using MAD in Example 4.] RELATED PROBLEMS c M04_HEIZ0422_12_SE_C04.indd 119 4.8d, 4.11c, 4.14, 4.15c, 4.16c, 4.20 (4.35d, 4.37b are available in MyOMLab) 14/12/15 9:53 am 120 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT The MSE tends to accentuate large deviations due to the squared term. For example, if the forecast error for period 1 is twice as large as the error for period 2, the squared error in period 1 is four times as large as that for period 2. Hence, using MSE as the measure of forecast error typically indicates that we prefer to have several smaller deviations rather than even one large deviation. Mean absolute percent error (MAPE) The average of the absolute differences between the forecast and actual values, expressed as a percent of actual values. Mean Absolute Percent Error A problem with both the MAD and MSE is that their values depend on the magnitude of the item being forecast. If the forecast item is measured in thousands, the MAD and MSE values can be very large. To avoid this problem, we can use the mean absolute percent error (MAPE). This is computed as the average of the absolute difference between the forecasted and actual values, expressed as a percentage of the actual values. That is, if we have forecasted and actual values for n periods, the MAPE is calculated as: a 100 ! Actuali - Forecasti ! >Actuali n MAPE = i=1 n Example 6 illustrates the calculations using the data from Examples 4 and 5. Example 6 (4-7) DETERMINING THE MEAN ABSOLUTE PERCENT ERROR (MAPE) The Port of Baltimore wants to now calculate the MAPE when a = .10. APPROACH c Equation (4-7) is applied to the forecast data computed in Example 4. SOLUTION c QUARTER ACTUAL TONNAGE UNLOADED FORECAST FOR A = .10 1 180 175.00 100(5/180) = 2.78% 2 168 175.50 100(7.5/168) = 4.46% 3 159 174.75 100(15.75/159) = 9.90% 4 175 173.18 100(1.82/175) = 1.05% 5 190 173.36 100(16.64/190) = 8.76% 6 205 175.02 100(29.98/205) = 14.62% 7 180 178.02 100(1.98/180) = 1.10% 8 182 178.22 100(3.78/182) = 2.08% Sum of % errors = 44.75% MAPE = INSIGHT c value. ABSOLUTE PERCENT ERROR 100 (|ERROR|/ACTUAL) g absolute percent error 44.75% = = 5.59% n 8 MAPE expresses the error as a percent of the actual values, undistorted by a single large What is MAPE when a is .50? [Answer: MAPE = 6.75%. As was the case with MAD and MSE, the a = .1 was preferable for this series of data.] LEARNING EXERCISE c RELATED PROBLEMS c 4.8e, 4.29c The MAPE is perhaps the easiest measure to interpret. For example, a result that the MAPE is 6% is a clear statement that is not dependent on issues such as the magnitude of the input data. Table 4.1 summarizes how MAD, MSE, and MAPE differ. Exponential Smoothing with Trend Adjustment Simple exponential smoothing, the technique we just illustrated in Examples 3 to 6, is like any other moving-average technique: It fails to respond to trends. Other forecasting techniques that can deal with trends are certainly available. However, because exponential smoothing is such a popular modeling approach in business, let us look at it in more detail. M04_HEIZ0422_12_SE_C04.indd 120 14/12/15 9:53 am CHAP T ER 4 TABLE 4.1 | FORECASTING 121 Comparison of Measures of Forecast Error MEASURE MEANING Mean absolute deviation (MAD) How much the forecast missed the target EQUATION MAD = Mean squared error (MSE) The square of how much the forecast missed the target g (Forecast errors)2 MSE = n Mean absolute percent error (MAPE) The average percent error g 0 Actual - Forecast 0 n APPLICATION TO CHAPTER EXAMPLE (4-5) (4-6) a 100 ! Actuali - Forecast i ! >Actuali n MAPE = i=1 n (4-7) For a = .10 in Example 4, the forecast for grain unloaded was off by an average of 10.31 tons. For a = .10 in Example 5, the square of the forecast error was 190.8. This number does not have a physical meaning but is useful when compared to the MSE of another forecast. For a = .10 in Example 6, the forecast is off by 5.59% on average. As in Examples 4 and 5, some forecasts were too high, and some were low. Here is why exponential smoothing must be modified when a trend is present. Assume that demand for our product or service has been increasing by 100 units per month and that we have been forecasting with a = 0.4 in our exponential smoothing model. The following table shows a severe lag in the second, third, fourth, and fifth months, even when our initial estimate for month 1 is perfect: MONTH ACTUAL DEMAND 1 100 F1 = 100 (given) FORECAST (Ft) FOR MONTHS 1–5 2 200 F2 = F1 + a(A1 - F1) = 100 + .4(100 - 100) = 100 3 300 F3 = F2 + a(A2 - F2) = 100 + .4(200 - 100) = 140 4 400 F4 = F3 + a(A3 - F3) = 140 + .4(300 - 140) = 204 5 500 F5 = F4 + a(A 4 - F4) = 204 + .4(400 - 204) = 282 To improve our forecast, let us illustrate a more complex exponential smoothing model, one that adjusts for trend. The idea is to compute an exponentially smoothed average of the data and then adjust for positive or negative lag in trend. The new formula is: Forecast including trend (FITt) = Exponentially smoothed forecast average (Ft) + Exponentially smoothed trend (Tt) (4-8) With trend-adjusted exponential smoothing, estimates for both the average and the trend are smoothed. This procedure requires two smoothing constants: a for the average and b for the trend. We then compute the average and trend each period: Ft = a(Actual demand last period) + (1 - a)(Forecast last period + Trend estimate last period) or: Ft = a(At - 1) + (1 - a)(Ft - 1 + Tt - 1) (4-9) Tt = b(Forecast this period - Forecast last period) + (1 - b)(Trend estimate last period) or: Tt = b(Ft - Ft - 1) + (1 - b)Tt - 1 where Ft Tt At a b = = = = = M04_HEIZ0422_12_SE_C04.indd 121 (4-10) exponentially smoothed forecast average of the data series in period t exponentially smoothed trend in period t actual demand in period t smoothing constant for the average (0 … a … 1) smoothing constant for the trend (0 … b … 1) 14/12/15 9:53 am 122 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT So the three steps to compute a trend-adjusted forecast are: STEP 1: Compute Ft, the exponentially smoothed forecast average for period t, using Equation (4-9). STEP 2: Compute the smoothed trend, Tt, using Equation (4-10). STEP 3: Calculate the forecast including trend, FITt, by the formula FITt = Ft + Tt [from Equation (4-8)]. Example 7 shows how to use trend-adjusted exponential smoothing. Example 7 COMPUTING A TREND-ADJUSTED EXPONENTIAL SMOOTHING FORECAST A large Portland manufacturer wants to forecast demand for a piece of pollution-control equipment. A review of past sales, as shown below, indicates that an increasing trend is present: MONTH (t) ACTUAL DEMAND (At) MONTH (t) ACTUAL DEMAND (At) 1 12 6 21 2 17 7 31 3 20 8 28 4 19 9 36 5 24 10 ? Smoothing constants are assigned the values of a = .2 and b = .4. The firm assumes the initial forecast average for month 1 (F1) was 11 units and the trend over that period (T1) was 2 units. APPROACH c A trend-adjusted exponential smoothing model, using Equations (4-9), (4-10), and (4-8) and the three steps above, is employed. SOLUTION c Step 1: Forecast average for month 2: F2 = aA1 + (1 - a)(F1 + T1) F2 = (.2)(12) + (1 - .2)(11 + 2) = 2.4 + (.8)(13) = 2.4 + 10.4 = 12.8 units Step 2: Compute the trend in period 2: T2 = b(F2 - F1) + (1 - b)T1 = .4(12.8 - 11) + (1 - .4)(2) = (.4)(1.8) + (.6)(2) = .72 + 1.2 = 1.92 Step 3: Compute the forecast including trend (FITt): FIT2 = F2 + T2 = 12.8 + 1.92 = 14.72 units We will also do the same calculations for the third month: Step 1: F3 = aA2 + (1 - a)(F2 + T2) = (.2)(17) + (1 - .2)(12.8 + 1.92) = 3.4 + (.8)(14.72) = 3.4 + 11.78 = 15.18 Step 2: T3 = b(F3 - F2) + (1 - b)T2 = (.4)(15.18 - 12.8) + (1 - .4)(1.92) = (.4)(2.38) + (.6)(1.92) = .952 + 1.152 = 2.10 Step 3: FIT3 = F3 + T3 = 15.18 + 2.10 = 17.28. M04_HEIZ0422_12_SE_C04.indd 122 14/12/15 9:53 am CHAP T ER 4 | FORECASTING 123 Table 4.2 completes the forecasts for the 10-month period. Forecast with A 5 .2 and B 5 .4 TABLE 4.2 MONTH ACTUAL DEMAND SMOOTHED FORECAST AVERAGE, Ft 1 2 3 4 5 6 7 8 9 10 12 17 20 19 24 21 31 28 36 — 11 12.80 15.18 17.82 19.91 22.51 24.11 27.14 29.28 32.48 SMOOTHED TREND, Tt 2 1.92 2.10 2.32 2.23 2.38 2.07 2.45 2.32 2.68 FORECAST INCLUDING TREND, FITt 13.00 14.72 17.28 20.14 22.14 24.89 26.18 29.59 31.60 35.16 INSIGHT c Figure 4.3 compares actual demand (At) to an exponential smoothing forecast that includes trend (FITt). FIT picks up the trend in actual demand. A simple exponential smoothing model (as we saw in Examples 3 and 4) trails far behind. LEARNING EXERCISE c Using the data for actual demand for the 9 months, compute the exponentially smoothed forecast average without trend [using Equation (4-4) as we did earlier in Examples 3 and 4]. Apply a = .2, and assume an initial forecast average for month 1 of 11 units. Then plot the months 2–10 forecast values on Figure 4.3. What do you notice? [Answer: Month 10 forecast = 24.65. All the points are below and lag the trend-adjusted forecast.] RELATED PROBLEMS c 4.19, 4.20, 4.21, 4.22, 4.32 ACTIVE MODEL 4.3 This example is further illustrated in Active Model 4.3 in MyOMLab. EXCEL OM Data File Ch04Ex7.xis can be found in MyOMLab. Figure 4.3 Exponential Smoothing with Trend-Adjustment Forecasts Compared to Actual Demand Data 40 35 Product demand 30 Actual demand (At ) 25 20 15 Forecast including trend (FITt ) with c = .2 and d = .4 10 5 0 1 M04_HEIZ0422_12_SE_C04.indd 123 2 3 4 5 6 Time (months) 7 8 9 14/12/15 9:53 am 124 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT The value of the trend-smoothing constant, b, resembles the a constant because a high b is more responsive to recent changes in trend. A low b gives less weight to the most recent trends and tends to smooth out the present trend. Values of b can be found by the trial-and-error approach or by using sophisticated commercial forecasting software, with the MAD used as a measure of comparison. Simple exponential smoothing is often referred to as first-order smoothing, and trendadjusted smoothing is called second-order smoothing or double smoothing. Other advanced exponential-smoothing models are also used, including seasonal-adjusted and triple smoothing. Trend Projections Trend projection A time-series forecasting method that fits a trend line to a series of historical data points and then projects the line into the future for forecasts. The last time-series forecasting method we will discuss is trend projection. This technique fits a trend line to a series of historical data points and then projects the slope of the line into the future for medium- to long-range forecasts. Several mathematical trend equations can be developed (for example, exponential and quadratic), but in this section, we will look at linear (straight-line) trends only. If we decide to develop a linear trend line by a precise statistical method, we can apply the least-squares method. This approach results in a straight line that minimizes the sum of the squares of the vertical differences or deviations from the line to each of the actual observations. Figure 4.4 illustrates the least-squares approach. A least-squares line is described in terms of its y-intercept (the height at which it intercepts the y-axis) and its expected change (slope). If we can compute the y-intercept and slope, we can express the line with the following equation: yn = a + bx (4-11) where yn (called “y hat”) = computed value of the variable to be predicted (called the dependent variable) a = y-axis intercept b = slope of the regression line (or the rate of change in y for given changes in x) x = the independent variable (which in this case is time) Statisticians have developed equations that we can use to find the values of a and b for any regression line. The slope b is found by: b = g x2 - nx2 4.4 The Least-Squares Method for Finding the Best-Fitting Straight Line, Where the Asterisks Are the Locations of the Seven Actual Observations or Data Points Values of dependent variable (y-values) Figure g xy - nx y Deviation 7 Actual observation (y -value) Deviation 5 Deviation 6 Deviation 3 Deviation 4 Deviation1 (error) Deviation 2 Trend line, yî = a + bx 1 M04_HEIZ0422_12_SE_C04.indd 124 (4-12) 2 3 4 5 Time period 6 7 14/12/15 9:53 am CHAP T ER 4 where b g x y x y n = = = = = = = | FORECASTING 125 slope of the regression line summation sign known values of the independent variable known values of the dependent variable average of the x-values average of the y-values number of data points or observations We can compute the y-intercept a as follows: a = y - bx (4-13) Example 8 shows how to apply these concepts. Example 8 FORECASTING WITH LEAST SQUARES The demand for electric power at N.Y. Edison over the past 7 years is shown in the following table, in megawatts. The firm wants to forecast next year’s demand by fitting a straight-line trend to these data. YEAR ELECTRICAL POWER DEMAND 1 2 3 4 74 79 80 90 APPROACH c YEAR ELECTRICAL POWER DEMAND 5 6 7 105 142 122 Equations (4-12) and (4-13) can be used to create the trend projection model. SOLUTION c YEAR (x) 1 2 3 4 5 6 7 g x = 28 ELECTRIC POWER DEMAND (y) 74 79 80 90 105 142 122 g y = 692 x2 xy 1 4 9 16 25 36 49 74 158 240 360 525 852 854 g x 2 = 140 g xy = 3,063 gy gx 28 692 = = = 4 y = = 98.86 n n 7 7 gxy - nx y 3,063 - (7)(4)(98.86) 295 = b = = = 10.54 28 gx2 - nx2 140 - (7)(42) x = a = y - bx = 98.86 - 10.54(4) = 56.70 Thus, the least-squares trend equation is yn = 56.70 + 10.54x. To project demand next year, x = 8: Demand in year 8 = 56.70 + 10.54(8) = 141.02, or 141 megawatts INSIGHT c To evaluate the model, we plot both the historical demand and the trend line in Figure 4.5. In this case, we may wish to be cautious and try to understand the year 6 to year 7 swing in demand. M04_HEIZ0422_12_SE_C04.indd 125 14/12/15 9:53 am 126 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Figure 4.5 Trend line, yî = 56.70 + 10.54x 160 Electrical Power and the Computed Trend Line Power demand (megawatts) 150 140 130 120 110 100 90 80 70 60 50 1 2 3 4 5 Year 6 7 8 9 LEARNING EXERCISE c Estimate demand for year 9. [Answer: 151.56, or 152 megawatts.] RELATED PROBLEMS c 4.6, 4.13c, 4.16, 4.24, 4.30, 4.34 (4.39, 4.42 are available in MyOMLab) EXCEL OM Data File Ch04Ex8.xls can be found in MyOMLab. ACTIVE MODEL 4.4 This example is further illustrated in Active Model 4.4 in MyOMLab. Notes on the Use of the Least-Squares Method implies that we have met three requirements: Using the least-squares method 1. We always plot the data because least-squares data assume a linear relationship. If a curve appears to be present, curvilinear analysis is probably needed. 2. We do not predict time periods far beyond our given database. For example, if we have 20 months’ worth of average prices of Microsoft stock, we can forecast only 3 or 4 months into the future. Forecasts beyond that have little statistical validity. Thus, you cannot take 5 years’ worth of sales data and project 10 years into the future. The world is too uncertain. 3. Deviations around the least-squares line (see Figure 4.4) are assumed to be random and normally distributed, with most observations close to the line and only a smaller number farther out. Seasonal Variations in Data Seasonal variations Regular upward or downward movements in a time series that tie to recurring events. STUDENT TIP John Deere understands seasonal variations: It has been able to obtain 70% of its orders in advance of seasonal use so it can smooth production. M04_HEIZ0422_12_SE_C04.indd 126 Seasonal variations in data are regular movements in a time series that relate to recurring events such as weather or holidays. Demand for coal and fuel oil, for example, peaks during cold winter months. Demand for golf clubs or sunscreen may be highest in summer. Seasonality may be applied to hourly, daily, weekly, monthly, or other recurring patterns. Fast-food restaurants experience daily surges at noon and again at 5 p.m. Movie theaters see higher demand on Friday and Saturday evenings. The post office, Toys “ R” Us, The Christmas Store, and Hallmark Card Shops also exhibit seasonal variation in customer traffic and sales. Similarly, understanding seasonal variations is important for capacity planning in organizations that handle peak loads. These include electric power companies during extreme cold and warm periods, banks on Friday afternoons, and buses and subways during the morning and evening rush hours. 14/12/15 9:53 am CityFiles/Getty Images Dick Loek/Getty Images CHAP T ER 4 | FORECASTING 127 Demand for many products is seasonal. Yamaha, the manufacturer of this jet ski and snowmobile, produces products with complementary demands to address seasonal fluctuations. Time-series forecasts like those in Example 8 involve reviewing the trend of data over a series of time periods. The presence of seasonality makes adjustments in trend-line forecasts necessary. Seasonality is expressed in terms of the amount that actual values differ from average values in the time series. Analyzing data in monthly or quarterly terms usually makes it easy for a statistician to spot seasonal patterns. Seasonal indices can then be developed by several common methods. In what is called a multiplicative seasonal model, seasonal factors are multiplied by an estimate of average demand to produce a seasonal forecast. Our assumption in this section is that trend has been removed from the data. Otherwise, the magnitude of the seasonal data will be distorted by the trend. Here are the steps we will follow for a company that has “seasons” of 1 month: 1. Find the average historical demand each season (or month in this case) by summing the demand for that month in each year and dividing by the number of years of data available. For example, if, in January, we have seen sales of 8, 6, and 10 over the past 3 years, average January demand equals (8 + 6 + 10)/3 = 8 units. 2. Compute the average demand over all months by dividing the total average annual demand by the number of seasons. For example, if the total average demand for a year is 120 units and there are 12 seasons (each month), the average monthly demand is 120/12 = 10 units. 3. Compute a seasonal index for each season by dividing that month’s historical average demand (from Step 1) by the average demand over all months (from Step 2). For example, if the average historical January demand over the past 3 years is 8 units and the average demand over all months is 10 units, the seasonal index for January is 8/10 = .80. Likewise, a seasonal index of 1.20 for February would mean that February’s demand is 20% larger than the average demand over all months. 4. Estimate next year’s total annual demand. 5. Divide this estimate of total annual demand by the number of seasons, then multiply it by the seasonal index for each month. This provides the seasonal forecast. LO 4.5 Develop seasonal indices Example 9 illustrates this procedure as it computes seasonal indices from historical data. Example 9 DETERMINING SEASONAL INDICES A Des Moines distributor of Sony laptop computers wants to develop monthly indices for sales. Data from the past 3 years, by month, are available. APPROACH c M04_HEIZ0422_12_SE_C04.indd 127 Follow the five steps listed above. 14/12/15 9:53 am 128 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT SOLUTION c DEMAND YEAR 1 YEAR 2 YEAR 3 AVERAGE PERIOD DEMAND AVERAGE MONTHLY DEMANDa Jan. 80 85 105 90 94 .957 ( = 90>94) Feb. 70 85 85 80 94 .851 ( = 80>94) Mar. 80 93 82 85 94 .904 ( = 85>94) Apr. 90 95 115 100 94 1.064 ( = 100>94) May 113 125 131 123 94 1.309 ( = 123>94) June 110 115 120 115 94 1.223 ( = 115>94) July 100 102 113 105 94 1.117 ( = 105>94) Aug. 88 102 110 100 94 1.064 ( = 100>94) Sept. 85 90 95 90 94 .957 ( = 90>94) Oct. 77 78 85 80 94 .851 ( = 80>94) Nov. 75 82 83 80 94 .851 ( = 80>94) Dec. 82 78 80 80 94 .851 ( = 80>94) MONTH SEASONAL INDEXb Total average annual demand = 1,128 aAverage monthly demand = 1,128 = 94. 12 months bSeasonal index = Average monthly demand for past 3 years Average monthly demand . If we expect the annual demand for computers to be 1,200 units next year, we would use these seasonal indices to forecast the monthly demand as follows: MONTH DEMAND MONTH DEMAND Jan. 1,200 * .957 = 96 12 July 1,200 * 1.117 = 112 12 Feb. 1,200 * .851 = 85 12 Aug. 1,200 * 1.064 = 106 12 Mar. 1,200 * .904 = 90 12 Sept. 1,200 * .957 = 96 12 Apr. 1,200 * 1.064 = 106 12 Oct. 1,200 * .851 = 85 12 May 1,200 * 1.309 = 131 12 Nov. 1,200 * .851 = 85 12 June 1,200 * 1.223 = 122 12 Dec. 1,200 * .851 = 85 12 INSIGHT c Think of these indices as percentages of average sales. The average sales (without seasonality) would be 94, but with seasonality, sales fluctuate from 85% to 131% of average. LEARNING EXERCISE c If next year’s annual demand is 1,150 laptops (instead of 1,200), what will the January, February, and March forecasts be? [Answer: 91.7, 81.5, and 86.6, which can be rounded to 92, 82, and 87.] RELATED PROBLEMS c 4.26, 4.27 (4.40, 4.41a are available in MyOMLab) EXCEL OM Data File Ch04Ex9.xls can be found in MyOMLab. For simplicity, only 3 periods (years) are used for each monthly index in the preceding example. Example 10 illustrates how indices that have already been prepared can be applied to adjust trend-line forecasts for seasonality. M04_HEIZ0422_12_SE_C04.indd 128 14/12/15 9:53 am CHAP T ER 4 Example 10 | FORECASTING 129 APPLYING BOTH TREND AND SEASONAL INDICES San Diego Hospital wants to improve its forecasting by applying both trend and seasonal indices to 66 months of data it has collected. It will then forecast “patient-days” over the coming year. A trend line is created; then monthly seasonal indices are computed. Finally, a multiplicative seasonal model is used to forecast months 67 to 78. APPROACH c SOLUTION c Using 66 months of adult inpatient hospital days, the following equation was computed: yn = 8,090 + 21.5x where yn = patient days x = time, in months Based on this model, which reflects only trend data, the hospital forecasts patient days for the next month (period 67) to be: Patient days = 8,090 + (21.5)(67) = 9,530 (trend only) While this model, as plotted in Figure 4.6, recognized the upward trend line in the demand for inpatient services, it ignored the seasonality that the administration knew to be present. Figure 4.6 10,200 Trend Data for San Diego Hospital 10,000 Inpatient days Source: From “Modern Methods Improve Hospital Forecasting” by W. E. Sterk and E. G. Shryock from Healthcare Financial Management 41, no. 3, p. 97. Reprinted by permission of Healthcare Financial Management Association. 9,800 9,600 9,400 9,616 9,573 9,530 9,594 9,551 9,659 9,637 9,745 9,702 9,680 9,724 9,766 9,200 9,000 Jan. Feb. Mar. Apr. May June July 71 72 73 67 68 69 70 Aug. Sept. Oct. Nov. Dec. 78 74 75 76 77 Month (period = 67 for Jan. through 78 for Dec.) The following table provides seasonal indices based on the same 66 months. Such seasonal data, by the way, were found to be typical of hospitals nationwide. Seasonality Indices for Adult Inpatient Days at San Diego Hospital MONTH SEASONALITY INDEX January February March April May June 1.04 0.97 1.02 1.01 0.99 0.99 MONTH July August September October November December SEASONALITY INDEX 1.03 1.04 0.97 1.00 0.96 0.98 These seasonal indices are graphed in Figure 4.7. Note that January, March, July, and August seem to exhibit significantly higher patient days on average, while February, September, November, and December experience lower patient days. However, neither the trend data nor the seasonal data alone provide a reasonable forecast for the hospital. Only when the hospital multiplied the trend-adjusted data by the appropriate seasonal index did it obtain good forecasts. Thus, for period 67 (January): Patient days = (Trend@adjusted forecast)(Monthly seasonal index) = (9,530)(1.04) = 9,911 M04_HEIZ0422_12_SE_C04.indd 129 14/12/15 9:53 am 130 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT 4.7 Seasonal Index for San Diego Hospital Index for inpatient days Figure 1.06 1.04 1.04 1.03 1.02 1.02 1.01 1.00 1.00 0.99 0.98 0.99 0.98 0.96 1.04 0.97 0.97 0.96 0.94 0.92 Jan. Feb. Mar. Apr. May June July 67 68 69 70 71 72 73 Aug. Sept. Oct. Nov. Dec. 74 75 76 77 78 Month (period = 67 for Jan. through 78 for Dec.) The patient-days for each month are: Period Month Forecast with Trend & Seasonality 67 68 69 70 71 72 73 74 75 76 77 78 Jan. Feb. March April May June July Aug. Sept. Oct. Nov. Dec. 9,911 9,265 9,764 9,691 9,520 9,542 9,949 10,068 9,411 9,724 9,355 9,572 A graph showing the forecast that combines both trend and seasonality appears in Figure 4.8. Figure 4.8 10,200 Inpatient days Combined Trend and Seasonal Forecast 10,000 10,068 9,949 9,911 9,764 9,800 9,724 9,691 9,600 9,572 9,542 9,520 9,400 9,265 9,200 9,411 9,355 9,000 Jan. Feb. Mar. Apr. May June July 67 68 69 70 71 72 73 Aug. Sept. Oct. Nov. Dec. 74 75 76 77 78 Month (period = 67 for Jan. through 78 for Dec.) INSIGHT c Notice that with trend only, the September forecast is 9,702, but with both trend and seasonal adjustments, the forecast is 9,411. By combining trend and seasonal data, the hospital was better able to forecast inpatient days and the related staffing and budgeting vital to effective operations. LEARNING EXERCISE c If the slope of the trend line for patient-days is 22.0 (rather than 21.5) and the index for December is .99 (instead of .98), what is the new forecast for December inpatient days? [Answer: 9,708.] RELATED PROBLEMS c 4.25, 4.28 Example 11 further illustrates seasonality for quarterly data at a wholesaler. Example 11 ADJUSTING TREND DATA WITH SEASONAL INDICES Management at Jagoda Wholesalers, in Calgary, Canada, has used time-series regression based on pointof-sale data to forecast sales for the next 4 quarters. Sales estimates are $100,000, $120,000, $140,000, and $160,000 for the respective quarters. Seasonal indices for the four quarters have been found to be 1.30, .90, .70, and 1.10, respectively. M04_HEIZ0422_12_SE_C04.indd 130 14/12/15 9:53 am CHAP T ER 4 | FORECASTING 131 To compute a seasonalized or adjusted sales forecast, we just multiply each seasonal index by the appropriate trend forecast: APPROACH c ynseasonal = Index * yntrend forecast Quarter I: ynI = (1.30)(+100,000) = +130,000 Quarter II: ynII = (.90)(+120,000) = +108,000 Quarter III: ynIII = (.70)(+140,000) = +98,000 Quarter IV: ynIV = (1.10)(+160,000) = +176,000 SOLUTION c INSIGHT c The straight-line trend forecast is now adjusted to reflect the seasonal changes. If the sales forecast for Quarter IV was $180,000 (rather than $160,000), what would be the seasonally adjusted forecast? [Answer: $198,000.] LEARNING EXERCISE c RELATED PROBLEMS c 4.25, 4.28 (4.41b is available in MyOMLab) Cyclical Variations in Data Cycles are like seasonal variations in data but occur every several years, not weeks, months, or quarters. Forecasting cyclical variations in a time series is difficult. This is because cycles include a wide variety of factors that cause the economy to go from recession to expansion to recession over a period of years. These factors include national or industrywide overexpansion in times of euphoria and contraction in times of concern. Forecasting demand for individual products can also be driven by product life cycles—the stages products go through from introduction through decline. Life cycles exist for virtually all products; striking examples include floppy disks, video recorders, and the original Game Boy. We leave cyclical analysis to forecasting texts. Developing associative techniques of variables that affect one another is our next topic. Associative Forecasting Methods: Regression and Correlation Analysis Unlike time-series forecasting, associative forecasting models usually consider several variables that are related to the quantity being predicted. Once these related variables have been found, a statistical model is built and used to forecast the item of interest. This approach is more powerful than the time-series methods that use only the historical values for the forecast variable. Many factors can be considered in an associative analysis. For example, the sales of Dell PCs may be related to Dell’s advertising budget, the company’s prices, competitors’ prices and promotional strategies, and even the nation’s economy and unemployment rates. In this case, PC sales would be called the dependent variable, and the other variables would be called independent variables. The manager’s job is to develop the best statistical relationship between PC sales and the independent variables. The most common quantitative associative forecasting model is linear-regression analysis. Using Regression Analysis for Forecasting We can use the same mathematical model that we employed in the least-squares method of trend projection to perform a linear-regression analysis. The dependent variables that we want to forecast will still be yn . But now the independent variable, x, need no longer be time. We use the equation: Cycles Patterns in the data that occur every several years. STUDENT TIP We now deal with the same mathematical model that we saw earlier, the least-squares method. But we use any potential “cause-and-effect” variable as x. Linear-regression analysis A straight-line mathematical model to describe the functional relationships between independent and dependent variables. yn = a + bx where yn a b x = = = = value of the dependent variable (in our example, sales) y-axis intercept slope of the regression line independent variable LO 4.6 Conduct a regression and correlation analysis Example 12 shows how to use linear regression. M04_HEIZ0422_12_SE_C04.indd 131 14/12/15 9:53 am 132 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Example 12 COMPUTING A LINEAR REGRESSION EQUATION Nodel Construction Company renovates old homes in West Bloomfield, Michigan. Over time, the company has found that its dollar volume of renovation work is dependent on the West Bloomfield area payroll. Management wants to establish a mathematical relationship to help predict sales. Nodel’s VP of operations has prepared the following table, which lists company revenues and the amount of money earned by wage earners in West Bloomfield during the past 6 years: APPROACH c NODEL’S SALES (IN $ MILLIONS), y AREA PAYROLL (IN $ BILLIONS), x NODEL’S SALES (IN $ MILLIONS), y AREA PAYROLL (IN $ BILLIONS), x 2.0 1 2.0 2 3.0 3 2.0 1 2.5 4 3.5 7 The VP needs to determine whether there is a straight-line (linear) relationship between area payroll and sales. He plots the known data on a scatter diagram: Nodel’s sales (in $ millions) 4.0 STUDENT TIP A scatter diagram is a powerful data analysis tool. It helps quickly size up the relationship between two variables. 3.0 2.0 1.0 0 1 2 3 4 5 6 Area payroll (in $ billions) 7 From the six data points, there appears to be a slight positive relationship between the independent variable (payroll) and the dependent variable (sales): As payroll increases, Nodel’s sales tend to be higher. SOLUTION c We can find a mathematical equation by using the least-squares regression approach: SALES, y VIDEO 4.1 PAYROLL, x 2.0 3.0 2.5 2.0 2.0 3.5 Forecasting Ticket Revenue for Orlando Magic Basketball Games g y = 15.0 x = y = b = 1 3 4 2 1 7 g x = 18 gx 18 = = 3 6 6 x2 xy 1 9 16 4 1 49 2.0 9.0 10.0 4.0 2.0 24.5 g x2 = 80 g xy = 51.5 gy 15 = = 2.5 6 6 gxy - nx y gx - nx 2 2 = 51.5 - (6)(3)(2.5) 80 - (6)(32) = .25 a = y - bx = 2.5 - (.25)(3) = 1.75 The estimated regression equation, therefore, is: or: yn = 1.75 + .25x Sales = 1.75 + .25 (payroll) M04_HEIZ0422_12_SE_C04.indd 132 14/12/15 9:53 am CHAP T ER 4 | FORECASTING 133 If the local chamber of commerce predicts that the West Bloomfield area payroll will be $6 billion next year, we can estimate sales for Nodel with the regression equation: Sales (in + millions) = 1.75 + .25(6) = 1.75 + 1.50 = 3.25 or: Sales = +3,250,000 INSIGHT c Given our assumptions of a straight-line relationship between payroll and sales, we now have an indication of the slope of that relationship: on average, sales increase at the rate of 14 million dollars for every billion dollars in the local area payroll. This is because b = .25. LEARNING EXERCISE c $3.75 million.] What are Nodel’s sales when the local payroll is $8 billion? [Answer: 4.34, 4.43–4.48, 4.50–4.54 (4.56a, 4.57, 4.58 are available in MyOMLab) RELATED PROBLEMS c EXCEL OM Data File Ch04Ex12.xls can be found in MyOMLab. The final part of Example 12 shows a central weakness of associative forecasting methods like regression. Even when we have computed a regression equation, we must provide a forecast of the independent variable x—in this case, payroll—before estimating the dependent variable y for the next time period. Although this is not a problem for all forecasts, you can imagine the difficulty of determining future values of some common independent variables (e.g., unemployment rates, gross national product, price indices, and so on). Standard Error of the Estimate The forecast of $3,250,000 for Nodel’s sales in Example 12 is called a point estimate of y. The point estimate is really the mean, or expected value, of a distribution of possible values of sales. Figure 4.9 illustrates this concept. To measure the accuracy of the regression estimates, we must compute the standard error of the estimate, Sy, x. This computation is called the standard deviation of the regression: It measures the error from the dependent variable, y, to the regression line, rather than to the mean. Equation (4-14) is a similar expression to that found in most statistics books for computing the standard deviation of an arithmetic mean: g ( y - yc)2 B n - 2 Sy, x = where Standard error of the estimate A measure of variability around the regression line—its standard deviation. (4-14) y = y-value of each data point yc = computed value of the dependent variable, from the regression equation n = number of data points y Figure Distribution about the Point Estimate of $3.25 Million Sales 4.0 Nodel’s sales (in $ millions) 4.9 3.25 3.0 Regression line, yî = 1.75 + .25x 2.0 1.0 1 2 3 4 5 6 7 x Area payroll (in $ billions) M04_HEIZ0422_12_SE_C04.indd 133 14/12/15 9:53 am 134 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Michael Rosenfeld/Maximilian S/RGB Ventures/ SuperStock/Alamy Glidden Paints’ assembly lines require thousands of gallons every hour. To predict demand, the firm uses associative forecasting methods such as linear regression, with independent variables such as disposable personal income and GNP. Although housing starts would be a natural variable, Glidden found that it correlated poorly with past sales. It turns out that most Glidden paint is sold through retailers to customers who already own homes or businesses. Equation (4-15) may look more complex, but it is actually an easier-to-use version of Equation (4-14). Both formulas provide the same answer and can be used in setting up prediction intervals around the point estimate:2 Sy,x = g y2 - ag y - bg xy B n - 2 (4-15) Example 13 shows how we would calculate the standard error of the estimate in Example 12. Example 13 COMPUTING THE STANDARD ERROR OF THE ESTIMATE Nodel’s VP of operations now wants to know the error associated with the regression line computed in Example 12. APPROACH c Compute the standard error of the estimate, Sy,x, using Equation (4-15). The only number we need that is not available to solve for Sy,x is gy2. Some quick addition reveals gy = 39.5. Therefore: SOLUTION c 2 Sy,x = = gy2 - agy - bgxy n - 2 B 39.5 - 1.75(15.0) - .25(51.5) 6 - 2 B = 2.09375 = .306 (in $ millions) The standard error of the estimate is then $306,000 in sales. INSIGHT c The interpretation of the standard error of the estimate is similar to the standard deviation; namely, {1 standard deviation = .6827. So there is a 68.27% chance of sales being { $306,000 from the point estimate of $3,250,000. LEARNING EXERCISE c What is the probability sales will exceed $3,556,000? [Answer: About 16%.] RELATED PROBLEMS c 4.52e, 4.54b (4.56c, 4.57 are available in MyOMLab) Correlation Coefficients for Regression Lines Coefficient of correlation A measure of the strength of the relationship between two variables. M04_HEIZ0422_12_SE_C04.indd 134 The regression equation is one way of expressing the nature of the relationship between two variables. Regression lines are not “cause-and-effect” relationships. They merely describe the relationships among variables. The regression equation shows how one variable relates to the value and changes in another variable. Another way to evaluate the relationship between two variables is to compute the coefficient of correlation. This measure expresses the degree or strength of the linear relationship (but note 14/12/15 9:53 am CHAP T ER 4 y | FORECASTING Figure y 135 4.10 Five Values of the Correlation Coefficient x (a) Perfect negative correlation: r = –1 y x (e) Perfect positive correlation: r = 1 y x (b) Negative correlation y x (d) Positive correlation x (c) No correlation: r=0 High –1.0 –0.8 Moderate –0.6 Low –0.4 Low Moderate –0.2 0 0.2 Correlation coefficient values 0.4 0.6 High 0.8 1.0 that correlation does not necessarily imply causality). Usually identified as r, the coefficient of correlation can be any number between +1 and -1. Figure 4.10 illustrates what different values of r might look like. To compute r, we use much of the same data needed earlier to calculate a and b for the regression line. The rather lengthy equation for r is: r = ng xy - g xg y (4-16) 2 2[ng x - (g x)2][ng y2 - (g y)2] Example 14 shows how to calculate the coefficient of correlation for the data given in Examples 12 and 13. Example 14 DETERMINING THE COEFFICIENT OF CORRELATION In Example 12, we looked at the relationship between Nodel Construction Company’s renovation sales and payroll in its hometown of West Bloomfield. The VP now wants to know the strength of the association between area payroll and sales. We compute the r value using Equation (4-16). We need to first add one more column of calculations—for y2. APPROACH c SOLUTION c y x x2 xy 2.0 3.0 2.5 2.0 2.0 3.5 1 3 4 2 1 7 1 9 16 4 1 49 2.0 9.0 10.0 4.0 2.0 24.5 g y = 15.0 M04_HEIZ0422_12_SE_C04.indd 135 The data, including the column for y2 and the calculations, are shown here: g x = 18 g x2 = 80 g xy = 51.5 y2 4.0 9.0 6.25 4.0 4.0 12.25 g y2 = 39.5 14/12/15 9:53 am 136 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT r = (6)(51.5) - (18)(15.0) 2[(6)(80) - (18)2][(6)(39.5) - (15.0)2] 309 - 270 39 = = 2(156)(12) 21,872 39 = = .901 43.3 INSIGHT c This r of .901 appears to be a significant correlation and helps confirm the closeness of the relationship between the two variables. LEARNING EXERCISE c If the coefficient of correlation was - .901 rather than + .901, what would this tell you? [Answer: The negative correlation would tell you that as payroll went up, Nodel’s sales went down—a rather unlikely occurrence that would suggest you recheck your math.] RELATED PROBLEMS c Coefficient of determination A measure of the amount of variation in the dependent variable about its mean that is explained by the regression equation. 4.43d, 4.48d, 4.50c, 4.52f, 4.54b (4.56b, 4.57 are available in MyOMLab) Although the coefficient of correlation is the measure most commonly used to describe the relationship between two variables, another measure does exist. It is called the coefficient of determination and is simply the square of the coefficient of correlation—namely, r2. The value of r2 will always be a positive number in the range 0 … r2 … 1. The coefficient of determination is the percent of variation in the dependent variable (y) that is explained by the regression equation. In Nodel’s case, the value of r2 is .81, indicating that 81% of the total variation is explained by the regression equation. Multiple-Regression Analysis Multiple regression An associative forecasting method with more than one independent variable. Multiple regression is a practical extension of the simple regression model we just explored. It allows us to build a model with several independent variables instead of just one variable. For example, if Nodel Construction wanted to include average annual interest rates in its model for forecasting renovation sales, the proper equation would be: yn = a + b1x1 + b2x2 (4-17) where y = dependent variable, sales a = a constant, the y intercept x1 and x2 = values of the two independent variables, area payroll and interest rates, respectively b1 and b2 = coefficients for the two independent variables The mathematics of multiple regression becomes quite complex (and is usually tackled by computer), so we leave the formulas for a, b1, and b2 to statistics textbooks. However, Example 15 shows how to interpret Equation (4-17) in forecasting Nodel’s sales. Example 15 USING A MULTIPLE-REGRESSION EQUATION Nodel Construction wants to see the impact of a second independent variable, interest rates, on its sales. APPROACH c ware, is: The new multiple-regression line for Nodel Construction, calculated by computer softyn = 1.80 + .30x1 - 5.0x2 We also find that the new coefficient of correlation is .96, implying the inclusion of the variable x2, interest rates, adds even more strength to the linear relationship. M04_HEIZ0422_12_SE_C04.indd 136 14/12/15 9:53 am CHAP T ER 4 | FORECASTING 137 We can now estimate Nodel’s sales if we substitute values for next year’s payroll and interest rate. If West Bloomfield’s payroll will be $6 billion and the interest rate will be .12 (12%), sales will be forecast as: SOLUTION c Sales($ millions) = 1.80 + .30(6) - 5.0(.12) = 1.8 + 1.8 - .6 = 3.00 or: Sales = $3,000,000 INSIGHT c By using both variables, payroll and interest rates, Nodel now has a sales forecast of $3 million and a higher coefficient of correlation. This suggests a stronger relationship between the two variables and a more accurate estimate of sales. If interest rates were only 6%, what would be the sales forecast? [Answer: 1.8 + 1.8 - 5.0(.06) = 3.3, or $3,300,000.] LEARNING EXERCISE c RELATED PROBLEMS c 4.47, 4.49 (4.59 is available in MyOMLab) The OM in Action box, “NYC’s Potholes and Regression Analysis,” provides an interesting example of one city’s use of regression and multiple regression. NYC’s Potholes and Regression Analysis New York is famous for many things, but one it does not like to be known for is its large and numerous potholes. David Letterman used to joke: “There is a pothole so big on 8th Avenue, it has its own Starbucks in it.” When it comes to potholes, some years seem to be worse than others. The winter of 2014 was an exceptionally bad year. City workers filled a record 300,000 potholes during the first 4 months of the year. That’s an astounding accomplishment. But potholes are to some extent a measure of municipal competence—and they are costly. NYC’s poor streets cost the average motorist an estimated $800 per year in repair work and new tires. There has been a steady and dramatic increase in potholes from around 70,000–80,000 in the 1990s to the devastatingly high 200,000–300,000 range in recent years. One theory is that bad weather causes the potholes. Using inches of snowfall as a measure of the severity of the winter, the graph below shows a plot of the number of potholes versus the inches of snow each winter. 350,000 No. of potholes 350,000 300,000 250,000 y = 15,495 + 91.1x r 2 = .81 200,000 150,000 100,000 300,000 50,000 y = 115,860 + 2,246.1x r 2 = .32 250,000 0 200,000 150,000 0 500 1,000 1,500 2,000 2,500 3,000 Backlog of streets needing repair A third model performs a regression analysis using the resurfacing gap and inches of snow as two independent variables and number of potholes as the dependent variable. That regression model’s r 2 is .91. 100,000 50,000 0 Any amount below that would contribute to a “gap” or backlog of streets needing repair. The graph below shows the plot of potholes versus the gap. With an r 2 of .81, there is a very strong relationship between the increase in the “gap” and the number of potholes. It is obvious that the real reason for the steady and substantial increase in the number of potholes is due to the increasing gap in road resurfacing. No. of potholes OM in Action 0 10 20 30 40 50 Inches of snow 60 70 Potholes = 7,801.5 + 80.6 * Resurfacing gap + 930.1 * Inches of snow Sources: OR/MS Today (June, 2014) and New York Daily News (March 5, 2014). Research showed that the city would need to resurface at least 1,000 miles of roads per year just to stay even with road deterioration. M04_HEIZ0422_12_SE_C04.indd 137 14/12/15 9:53 am 138 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Monitoring and Controlling Forecasts Tracking signal A measurement of how well a forecast is predicting actual values. Once a forecast has been completed, it should not be forgotten. No manager wants to be reminded that his or her forecast is horribly inaccurate, but a firm needs to determine why actual demand (or whatever variable is being examined) differed significantly from that projected. If the forecaster is accurate, that individual usually makes sure that everyone is aware of his or her talents. Very seldom does one read articles in Fortune, Forbes, or The Wall Street Journal, however, about money managers who are consistently off by 25% in their stock market forecasts. One way to monitor forecasts to ensure that they are performing well is to use a tracking signal. A tracking signal is a measurement of how well a forecast is predicting actual values. As forecasts are updated every week, month, or quarter, the newly available demand data are compared to the forecast values. The tracking signal is computed as the cumulative error divided by the mean absolute deviation (MAD): Tracking signal = = where STUDENT TIP Using a tracking signal is a good way to make sure the forecasting system is continuing to do a good job. Bias A forecast that is consistently higher or consistently lower than actual values of a time series. LO 4.7 Use a tracking signal Figure g (Actual demand in period i - Forecast demand in period i) MAD MAD = (4-18) g ! Actual-Forecast ! n as seen earlier, in Equation (4-5). Positive tracking signals indicate that demand is greater than forecast. Negative signals mean that demand is less than forecast. A good tracking signal—that is, one with a low cumulative error—has about as much positive error as it has negative error. In other words, small deviations are okay, but positive and negative errors should balance one another so that the tracking signal centers closely around zero. A consistent tendency for forecasts to be greater or less than the actual values (that is, for a high absolute cumulative error) is called a bias error. Bias can occur if, for example, the wrong variables or trend line are used or if a seasonal index is misapplied. Once tracking signals are calculated, they are compared with predetermined control limits. When a tracking signal exceeds an upper or lower limit, there is a problem with the forecasting method, and management may want to reevaluate the way it forecasts demand. Figure 4.11 shows the graph of a tracking signal that is exceeding the range of acceptable variation. If the model being used is exponential smoothing, perhaps the smoothing constant needs to be readjusted. How do firms decide what the upper and lower tracking limits should be? There is no single answer, but they try to find reasonable values—in other words, limits not so low as to be triggered with every small forecast error and not so high as to allow bad forecasts to be regularly overlooked. One MAD is equivalent to approximately .8 standard deviations, 4.11 A Plot of Tracking Signals Cumulative error MAD Signal exceeded limit + Upper control limit 0 MADs – Tracking signal * Acceptable range Lower control limit Time M04_HEIZ0422_12_SE_C04.indd 138 14/12/15 9:53 am CHAP T ER 4 | FORECASTING 139 { 2 MADs = { 1.6 standard deviations, { 3 MADs = { 2.4 standard deviations, and { 4 MADs = { 3.2 standard deviations. This fact suggests that for a forecast to be “in control,” 89% of the errors are expected to fall within { 2 MADs, 98% within { 3 MADs, or 99.9% within { 4 MADs.3 Example 16 shows how the tracking signal and cumulative error can be computed. Example 16 COMPUTING THE TRACKING SIGNAL AT CARLSON’S BAKERY Carlson’s Bakery wants to evaluate performance of its croissant forecast. Develop a tracking signal for the forecast, and see if it stays within acceptable limits, which we define as { 4 MADs. APPROACH c Using the forecast and demand data for the past 6 quarters for croissant sales, we develop a tracking signal in the following table: SOLUTION c ABSOLUTE ACTUAL FORECAST CUMULATIVE FORECAST QUARTER DEMAND DEMAND ERROR ERROR ERROR 1 2 3 4 5 6 90 95 115 100 125 140 100 100 100 110 110 110 210 25 115 210 115 130 210 215 0 210 15 135 At the end of quarter 6, MAD = and Tracking signal = 10 5 15 10 15 30 CUMULATIVE ABSOLUTE FORECAST ERROR MAD 10 15 30 40 55 85 g ! Forecast errors ! n 10.0 7.5 10.0 10.0 11.0 14.2 = TRACKING SIGNAL (CUMULATIVE ERROR/MAD) 210/10 5 21 215/7.5 5 22 0/10 5 0 210/10 5 21 15/11 5 10.5 135/14.2 5 12.5 85 = 14.2 6 Cumulative error 35 = = 2.5 MADs MAD 14.2 Because the tracking signal drifted from - 2 MAD to + 2.5 MAD (between 1.6 and 2.0 standard deviations), we can conclude that it is within acceptable limits. INSIGHT c If actual demand in quarter 6 was 130 (rather than 140), what would be the MAD and resulting tracking signal? [Answer: MAD for quarter 6 would be 12.5, and the tracking signal for period 6 would be 2 MADs.] LEARNING EXERCISE c RELATED PROBLEMS c 4.59, 4.60 (4.61c is available in MyOMLab) Adaptive Smoothing Adaptive forecasting refers to computer monitoring of tracking signals and self-adjustment if a signal passes a preset limit. For example, when applied to exponential smoothing, the a and b coefficients are first selected on the basis of values that minimize error forecasts and then adjusted accordingly whenever the computer notes an errant tracking signal. This process is called adaptive smoothing. Adaptive smoothing An approach to exponential smoothing forecasting in which the smoothing constant is automatically changed to keep errors to a minimum. Focus Forecasting Rather than adapt by choosing a smoothing constant, computers allow us to try a variety of forecasting models. Such an approach is called focus forecasting. Focus forecasting is based on two principles: 1. Sophisticated forecasting models are not always better than simple ones. 2. There is no single technique that should be used for all products or services. M04_HEIZ0422_12_SE_C04.indd 139 Focus forecasting Forecasting that tries a variety of computer models and selects the best one for a particular application. 14/12/15 9:53 am 140 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Bernard Smith, inventory manager for American Hardware Supply, coined the term focus forecasting. Smith’s job was to forecast quantities for 100,000 hardware products purchased by American’s 21 buyers.4 He found that buyers neither trusted nor understood the exponential smoothing model then in use. Instead, they used very simple approaches of their own. So Smith developed his new computerized system for selecting forecasting methods. Smith chose to test seven forecasting methods. They ranged from the simple ones that buyers used (such as the naive approach) to statistical models. Every month, Smith applied the forecasts of all seven models to each item in stock. In these simulated trials, the forecast values were subtracted from the most recent actual demands, giving a simulated forecast error. The forecast method yielding the least error is selected by the computer, which then uses it to make next month’s forecast. Although buyers still have an override capability, American Hardware finds that focus forecasting provides excellent results. Forecasting in the Service Sector STUDENT TIP Forecasting at McDonald’s, FedEx, and Walmart is as important and complex as it is for manufacturers such as Toyota and Dell. Forecasting in the service sector presents some unusual challenges. A major technique in the retail sector is tracking demand by maintaining good short-term records. For instance, a barbershop catering to men expects peak flows on Fridays and Saturdays. Indeed, most barbershops are closed on Sunday and Monday, and many call in extra help on Friday and Saturday. A downtown restaurant, on the other hand, may need to track conventions and holidays for effective short-term forecasting. Specialty retail facilities, such as flower shops, may have other unusual demand patterns, and those patterns will differ depending on the holiday. When Valentine’s Day falls on a weekend, for example, flowers can’t be delivered to offices, and those romantically inclined are likely to celebrate with outings rather than flowers. If a holiday falls on a Monday, some of the celebration may also take place on the weekend, reducing flower sales. However, when Valentine’s Day falls in midweek, busy midweek schedules often make flowers the optimal way to celebrate. Because flowers for Mother’s Day are to be delivered on Saturday or Sunday, this holiday forecast varies less. Due to special demand patterns, many service firms maintain records of sales, noting not only the day of the week but also unusual events, including the weather, so that patterns and correlations that influence demand can be developed. Specialty Retail Shops VIDEO 4.2 Forecasting at Hard Rock Cafe Fast-Food Restaurants Fast-food restaurants are well aware not only of weekly, daily, and hourly but even 15-minute variations in demands that influence sales. Therefore, detailed forecasts of demand are needed. Figure 4.12(a) shows the hourly forecast for a typical fastfood restaurant. Note the lunchtime and dinnertime peaks. This contrasts to the mid-morning and mid-afternoon peaks at FedEx’s call center in Figure 4.12(b). Firms like Taco Bell now use point-of-sale computers that track sales every quarter hour. Taco Bell found that a 6-week moving average was the forecasting technique that minimized its mean squared error (MSE) of these quarter-hour forecasts. Building this forecasting methodology into each of Taco Bell’s 6,500 U.S. stores’ computers, the model makes weekly projections of customer transactions. These in turn are used by store managers to schedule staff, who begin in 15-minute increments, not 1-hour blocks as in other industries. The forecasting model has been so successful that Taco Bell has increased customer service while documenting more than $50 million in labor cost savings in 4 years of use. M04_HEIZ0422_12_SE_C04.indd 140 14/12/15 9:53 am CHAP T ER 4 Percent of sales by hour of day 20% (a) (b) Hourly sales at a fast-food restaurant Monday calls at a FedEx call center* 15% 10% 5% 11–12 1–2 3–4 5–6 7–8 9–10 4–5 12–1 2–3 6–7 8–9 10–11 (Lunchtime) (Dinnertime) 12% 11% 10% 9% 8% 7% 6% 5% 4% 3% 2% 1% 0% | FORECASTING 141 1 2 3 4 5 6 7 8 9 10 11 12 1 2 3 4 5 6 7 8 9 10 11 12 A.M. Hour of day P.M. Hour of day Figure 4.12 Forecasts Are Unique: Note the Variations between (a) Hourly Sales at a Fast-Food Restaurant and (b) Hourly Call Volume at FedEx *Based on historical data: see Journal of Business Forecasting (Winter 1999–2000): 6–11. Summary Forecasts are a critical part of the operations manager’s function. Demand forecasts drive a firm’s production, capacity, and scheduling systems and affect the financial, marketing, and personnel planning functions. There are a variety of qualitative and quantitative forecasting techniques. Qualitative approaches employ judgment, experience, intuition, and a host of other factors that are difficult to quantify. Quantitative forecasting uses historical data and causal, or associative, relations to project future demands. The Rapid Review for this chapter summarizes the formulas we introduced in quantitative forecasting. Forecast calculations are seldom performed by hand. Most operations managers turn to software packages such as Forecast PRO, NCSS, Minitab, Systat, Statgraphics, SAS, or SPSS. No forecasting method is perfect under all conditions. And even once management has found a satisfactory approach, it must still monitor and control forecasts to make sure errors do not get out of hand. Forecasting can often be a very challenging, but rewarding, part of managing. Key Terms Time series (p. 112) Naive approach (p. 114) Moving averages (p. 114) Exponential smoothing (p. 116) Smoothing constant (p. 116) Mean absolute deviation (MAD) (p. 118) Mean squared error (MSE) (p. 119) Mean absolute percent error (MAPE) (p. 120) Trend projection (p. 124) Seasonal variations (p. 126) Ethical Dilemma We live in a society obsessed with test scores and maximum performance. Think of the SAT, ACT, GRE, GMAT, and LSAT. Though they take only a few hours, they are supposed to give schools and companies a snapshot of a student’s abiding talents. But these tests are often spectacularly bad at forecasting performance in the real world. The SAT does a decent job (r2 = .12) of predicting the grades of a college freshman. It is, however, less effective at predicting achievement after graduation. M04_HEIZ0422_12_SE_C04.indd 141 Cycles (p. 131) Linear-regression analysis (p. 131) Standard error of the estimate (p. 133) Coefficient of correlation (p. 134) Coefficient of determination (p. 136) Multiple regression (p. 136) Tracking signal (p. 138) Bias (p. 138) Adaptive smoothing (p. 139) Focus forecasting (p. 139) LSAT scores bear virtually no correlation to career success as measured by income, life satisfaction, or public service. What does the r2 mean in this context? Is it ethical for colleges to base admissions and financial aid decisions on scores alone? What role do these tests take at your own school? Robert Kneschke/Fotolia Forecasting (p. 108) Economic forecasts (p. 109) Technological forecasts (p. 109) Demand forecasts (p. 109) Quantitative forecasts (p. 111) Qualitative forecasts (p. 111) Jury of executive opinion (p. 111) Delphi method (p. 111) Sales force composite (p. 111) Market survey (p. 111) 14/12/15 9:53 am 142 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Discussion Questions 1. What is a qualitative forecasting model, and when is its use appropriate? 2. Identify and briefly describe the two general forecasting approaches. 3. Identify the three forecasting time horizons. State an approximate duration for each. 4. Briefly describe the steps that are used to develop a forecasting system. 5. A skeptical manager asks what medium-range forecasts can be used for. Give the manager three possible uses/purposes. 6. Explain why such forecasting devices as moving averages, weighted moving averages, and exponential smoothing are not well suited for data series that have trends. 7. What is the basic difference between a weighted moving average and exponential smoothing? 8. What three methods are used to determine the accuracy of any given forecasting method? How would you determine whether time-series regression or exponential smoothing is better in a specific application? 9. Research and briefly describe the Delphi technique. How would it be used by an employer you have worked for? 10. What is the primary difference between a time-series model and an associative model? 11. Define time series. 12. What effect does the value of the smoothing constant have on the weight given to the recent values? 13. Explain the value of seasonal indices in forecasting. How are seasonal patterns different from cyclical patterns? 14. Which forecasting technique can place the most emphasis on recent values? How does it do this? 15. In your own words, explain adaptive forecasting. 16. What is the purpose of a tracking signal? 17. Explain, in your own words, the meaning of the correlation coefficient. Discuss the meaning of a negative value of the correlation coefficient. 18. What is the difference between a dependent and an independent variable? 19. Give examples of industries that are affected by seasonality. Why would these businesses want to filter out seasonality? 20. Give examples of industries in which demand forecasting is dependent on the demand for other products. 21. What happens to the ability to forecast for periods farther into the future? 22. CEO John Goodale, at Southern Illinois Power and Light, has been collecting data on demand for electric power in its western subregion for only the past 2 years. Those data are shown in the table below. To plan for expansion and to arrange to borrow power from neighboring utilities during peak periods, Goodale needs to be able to forecast demand for each month next year. However, the standard forecasting models discussed in this chapter will not fit the data observed for the 2 years. a) What are the weaknesses of the standard forecasting techniques as applied to this set of data? b) Because known models are not appropriate here, propose your own approach to forecasting. Although there is no perfect solution to tackling data such as these (in other words, there are no 100% right or wrong answers), justify your model. c) Forecast demand for each month next year using the model you propose. DEMAND IN MEGAWATTS MONTH LAST YEAR THIS YEAR January 5 17 February 6 14 March 10 20 April 13 23 May 18 30 June 15 38 July 23 44 August 26 41 September 21 33 October 15 23 November 12 26 December 14 17 Using Software in Forecasting This section presents three ways to solve forecasting problems with computer software. First, you can create your own Excel spreadsheets to develop forecasts. Second, you can use the Excel OM software that comes with the text. Third, POM for Windows is another program that is located in MyOMLab. CREATING YOUR OWN EXCEL SPREADSHEETS Excel spreadsheets (and spreadsheets in general) are frequently used in forecasting. Exponential smoothing, trend analysis, and regression analysis (simple and multiple) are supported by built-in Excel functions. Program 4.1 illustrates how to build an Excel forecast for the data in Example 8. The goal for N.Y. Edison is to create a trend analysis of the year 1 to year 7 data. As an alternative, you may want to experiment with Excel’s built-in regression analysis. To do so, under the Data menu bar selection choose Data Analysis, then Regression. Enter your Y and X data into two columns (say A and B). When the regression window appears, enter the Y and X ranges, then select OK. Excel offers several plots and tables to those interested in more rigorous analysis of regression problems. M04_HEIZ0422_12_SE_C04.indd 142 14/12/15 9:53 am CHAP T ER 4 | FORECASTING 143 =B$16+A5*B$17 =INTERCEPT(B5:B11,A5:A11) =SLOPE(B5:B11,A5:A11) =STEYX(B5:B11,A5:A11) =CORREL(B5:B11,A5:A11) Actions Copy C5 to C6:C13 To create the graph, select A5:C13 and choose Insert Line Chart Program 4.1 Using Excel to Develop Your Own Forecast, with Data from Example 8 X USING EXCEL OM Excel OM’s forecasting module has five components: (1) moving averages, (2) weighted moving averages, (3) exponential smoothing, (4) regression (with one variable only), and (5) decomposition. Excel OM’s error analysis is much more complete than that available with the Excel add-in. Program 4.2 illustrates Excel OM’s input and output, using Example 2’s weighted-moving-average data. Enter the weights to be placed on each of the last three periods at the top of column C. Weights must be entered from oldest to most recent. Forecast is the weighted sum of past sales (SUMPRODUCT) divided by the sum of the weights (SUM) because weights do not sum to 1. Error (B11 – E11) is the difference between the demand and the forecast. = AVERAGE(H11: H19) = SUMPRODUCT(B17:B19, $C$8:$C$10)/SUM($C$8:$C$10) Program The standard error is given by the square root of the total error divided by n – 2 , where n is the number of periods for which forecasts exist, i.e., 9. 4.2 Analysis of Excel OM’s Weighted-Moving-Average Program, Using Data from Example 2 as Input M04_HEIZ0422_12_SE_C04.indd 143 14/12/15 9:53 am 144 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT P USING POM FOR WINDOWS POM for Windows can project moving averages (both simple and weighted), handle exponential smoothing (both simple and trend adjusted), forecast with least squares trend projection, and solve linear regression (associative) models. A summary screen of error analysis and a graph of the data can also be generated. As a special example of exponential smoothing adaptive forecasting, when using an a of 0, POM for Windows will find the a value that yields the minimum MAD. Appendix IV provides further details. Solved Problems Virtual Office Hours help is available in MyOMLab. SOLVED PROBLEM 4.1 SOLUTION Sales of Volkswagen’s popular Beetle have grown steadily at auto dealerships in Nevada during the past 5 years (see table below). The sales manager had predicted before the new model was introduced that first year sales would be 410 VWs. Using exponential smoothing with a weight of a 5 .30, develop forecasts for years 2 through 6. YEAR SALES FORECAST 1 2 3 4 5 450 495 518 563 584 410 6 ? SOLVED PROBLEM 4.2 YEAR FORECAST 1 410.0 2 422.0 = 410 + .3 (450 - 410) 3 443.9 = 422 + .3 (495 - 422) 4 466.1 = 443.9 + .3 (518 - 443.9) 5 495.2 = 466.1 + .3 (563 - 466.1) 6 521.8 = 495.2 + .3 (584 - 495.2) SOLUTION In Example 7, we applied trend-adjusted exponential smoothing to forecast demand for a piece of pollution-control equipment for months 2 and 3 (out of 9 months of data provided). Let us now continue this process for month 4. We want to confirm the forecast for month 4 shown in Table 4.2 (p. 123) and Figure 4.3 (p. 123). For month 4, A4 = 19, with a = .2, and b = .4. F4 = = = = = T4 = = = = = FIT4 = = SOLVED PROBLEM 4.3 SOLUTION Sales of hair dryers at the Walgreens stores in Youngstown, Ohio, over the past 4 months have been 100, 110, 120, and 130 units (with 130 being the most recent sales). Develop a moving-average forecast for next month, using these three techniques: a) a) b) c) d) 3-month moving average. 4-month moving average. Weighted 4-month moving average with the most recent month weighted 4, the preceding month 3, then 2, and the oldest month weighted 1. If next month’s sales turn out to be 140 units, forecast the following month’s sales (months) using a 4-month moving average. M04_HEIZ0422_12_SE_C04.indd 144 aA3 + (1 - a)(F3 + T3) (.2)(20) + (1 - .2)(15.18 + 2.10) 4.0 + (.8)(17.28) 4.0 + 13.82 17.82 b(F4 - F3) + (1 - b)T3 (.4)(17.82 - 15.18) + (1 - .4)(2.10) (.4)(2.64) + (.6)(2.10) 1.056 + 1.26 2.32 17.82 + 2.32 20.14 3-month moving average 110 + 120 + 130 360 = = = 120 dryers 3 3 b) 4-month moving average 100 + 110 + 120 + 130 460 = = = 115 dryers 4 4 c) Weighted moving average 4(130) + 3(120) + 2(110) + 1(100) = 10 1,200 = 120 dryers = 10 d) Now the four most recent sales are 110, 120, 130, and 140. 110 + 120 + 130 + 140 4@month moving average = 4 500 = = 125 dryers 4 We note, of course, the lag in the forecasts, as the movingaverage method does not immediately recognize trends. 14/12/15 9:53 am CHAP T ER 4 SOLVED PROBLEM 4.4 | FORECASTING 145 g 0 Actual - Forecast 0 SOLUTION The following data come from regression line projections: PERIOD FORECAST VALUES ACTUAL VALUES 1 2 3 4 410 419 428 435 406 423 423 440 MAD = n 0 406 - 410 0 + 0 423 - 419 0 + 0 423 - 4280 + 0 440 - 435 0 = 4 4 + 4 + 5 + 5 18 = = = 4.5 4 4 g(Forecast errors)2 n (406 - 410)2 + (423 - 419)2 + (423 - 428)2 + (440 - 435)2 = 4 16 + 16 + 25 + 25 42 + 42 + 52 + 52 = = 20.5 = 4 4 Compute the MAD and MSE. MSE = SOLVED PROBLEM 4.5 SOLUTION Room registrations in the Toronto Towers Plaza Hotel have been recorded for the past 9 years. To project future occupancy, management would like to determine the mathematical trend of guest registration. This estimate will help the hotel determine whether future expansion will be needed. Given the following time-series data, develop a regression equation relating registrations to time (e.g., a trend equation). Then forecast year 11 registrations. Room registrations are in the thousands: Year 1: 17 Year 2: 16 Year 3: 16 Year 4: 21 Year 6: 20 Year 7: 23 Year 8: 25 Year 9: 24 Year 5: 20 YEAR REGISTRANTS, y (IN THOUSANDS) x2 xy 1 2 3 4 17 16 16 21 1 4 9 16 17 32 48 84 5 6 7 8 9 20 20 23 25 24 25 36 49 64 81 100 120 161 200 216 g x = 45 b = g y = 182 gxy - nx y gx - nx 2 2 = g x2 = 285 g xy = 978 978 - (9)(5)(20.22) 285 - (9)(25) 978 - 909.9 68.1 = = = 1.135 285 - 225 60 a = y - bx = 20.22 - (1.135)(5) = 20.22 - 5.675 = 14.545 yn = (registrations) = 14.545 + 1.135x The projection of registrations in year 11 is: yn = 14.545 + (1.135)(11) = 27.03 or 27,030 guests in year 11. SOLVED PROBLEM 4.6 SOLUTION Quarterly demand for Ford F150 pickups at a New York auto dealer is forecast with the equation: yn = 10 + 3x where x = quarters, and: Quarter I of year 1 = 0 Quarter II of year 1 = 1 Quarter III of year 1 = 2 Quarter IV of year 1 = 3 Quarter I of year 2 = 4 and so on and: Quarter II of year 2 is coded x = 5; Quarter III of year 2, x = 6; and Quarter IV of year 2, x = 7. Hence, Quarter I of year 3 is coded x = 8; Quarter II, x = 9; and so on. yn = quarterly demand yn (Year 3 Quarter I) yn (Year 3 Quarter II) yn (Year 3 Quarter III) yn (Year 3 Quarter IV) Adjusted forecast Adjusted forecast Adjusted forecast Adjusted forecast = = = = = = = = 10 10 10 10 + + + + 3(8) = 34 3(9) = 37 3(10) = 40 3(11) = 43 (.80)(34) = 27.2 (1.00)(37) = 37 (1.30)(40) = 52 (.90)(43) = 38.7 The demand for trucks is seasonal, and the indices for Quarters I, II, III, and IV are 0.80, 1.00, 1.30, and 0.90, respectively. Forecast demand for each quarter of year 3. Then, seasonalize each forecast to adjust for quarterly variations. M04_HEIZ0422_12_SE_C04.indd 145 14/12/15 9:53 am 146 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT SOLVED PROBLEM 4.7 Cengiz Haksever runs an Istanbul high-end jewelry shop. He advertises weekly in local Turkish newspapers and is thinking of increasing his ad budget. Before doing so, he decides to evaluate the past effectiveness of these ads. Five weeks are sampled, and the data are shown in the table below: SALES ($1,000s) AD BUDGET THAT WEEK ($100s) 11 5 6 3 10 7 6 2 12 8 Develop a regression model to help Cengiz evaluate his advertising. SOLUTION We apply the least-squares regression model as we did in Example 12. SALES, y ADVERTISING, x x2 xy 11 6 10 6 12 5 3 7 2 8 25 9 49 4 64 55 18 70 12 96 g y = 45 g x = 25 45 y = = 9 5 b = = g xy = 251 g x 2 = 151 25 = 5 x = 5 gxy - nx y gx - nx 2 2 = 251 - (5)(5)(9) 151 - (5)(52) 26 251 - 225 = = 1 151 - 125 26 a = y - bx = 9 - (1)(5) = 4 So the regression model is yn = 4 + 1x, or Sales (in $1,000s) = 4 + 1 (Ad budget in $100s) This means that for each 1-unit increase in x (or $100 in ads), sales increase by 1 unit (or $1,000). SOLVED PROBLEM 4.8 r = Using the data in Solved Problem 4.7, find the coefficient of determination, r2, for the model. = To find r2, we need to also compute gy2. SOLUTION gy2 = 112 + 62 + 102 + 62 + 122 = ngxy - gx gy 2[ngx - ( gx)2][ngy2 - ( gy)2] 2 5(251) - (25)(45) 2[5(151) - (25)2][5(437) - (45)2] 1,255 - 1,125 2(130)(160) = 121 + 36 + 100 + 36 + 144 = 437 = = .9014 The next step is to find the coefficient of correlation, r: 130 220,800 = 130 144.22 Thus, r2 = (.9014)2 = .8125, meaning that about 81% of the variability in sales can be explained by the regression model with advertising as the independent variable. Problems Note: PX means the problem may be solved with POM for Windows and/or Excel OM. Problems 4.1–4.42 relate to Time-Series Forecasting • 4.1 The following gives the number of pints of type B blood used at Woodlawn Hospital in the past 6 weeks: WEEK OF PINTS USED b) Use a 3-week weighted moving average, with weights of .1, .3, and .6, using .6 for the most recent week. Forecast demand for the week of October 12. c) Compute the forecast for the week of October 12 using exponential smoothing with a forecast for August 31 of 360 and a = .2. PX August 31 360 • • 4.2 September 7 389 YEAR 1 2 3 4 5 6 7 8 9 10 11 September 14 410 DEMAND 7 9 5 9 13 8 12 13 9 11 7 September 21 381 September 28 368 October 5 374 a) Forecast the demand for the week of October 12 using a 3-week moving average. M04_HEIZ0422_12_SE_C04.indd 146 a) Plot the above data on a graph. Do you observe any trend, cycles, or random variations? b) Starting in year 4 and going to year 12, forecast demand using a 3-year moving average. Plot your forecast on the same graph as the original data. 14/12/15 9:53 am CHAP T ER 4 c) Starting in year 4 and going to year 12, forecast demand using a 3-year moving average with weights of .1, .3, and .6, using .6 for the most recent year. Plot this forecast on the same graph. d) As you compare forecasts with the original data, which seems to give the better results? PX • • 4.3 Refer to Problem 4.2. Develop a forecast for years 2 through 12 using exponential smoothing with a = .4 and a forecast for year 1 of 6. Plot your new forecast on a graph with the actual data and the naive forecast. Based on a visual inspection, which forecast is better? PX • 4.4 A check-processing center uses exponential smoothing to forecast the number of incoming checks each month. The number of checks received in June was 40 million, while the forecast was 42 million. A smoothing constant of .2 is used. a) What is the forecast for July? b) If the center received 45 million checks in July, what would be the forecast for August? c) Why might this be an inappropriate forecasting method for this situation? PX MILEAGE 1 3,000 2 4,000 3 3,400 4 3,800 5 3,700 a) Forecast the mileage for next year (6th year) using a 2-year moving average. b) Find the MAD based on the 2-year moving average. (Hint: You will have only 3 years of matched data.) c) Use a weighted 2-year moving average with weights of .4 and .6 to forecast next year’s mileage. (The weight of .6 is for the most recent year.) What MAD results from using this approach to forecasting? (Hint: You will have only 3 years of matched data.) d) Compute the forecast for year 6 using exponential smoothing, an initial forecast for year 1 of 3,000 miles, and a = .5. PX • • 4.6 follows: The monthly sales for Yazici Batteries, Inc., were as MONTH SALES January 20 February 21 March 15 April 14 May 13 June 16 July 17 August 18 September FORECASTING • • 4.7 The actual demand for the patients at Omaha Emergency Medical Clinic for the first 6 weeks of this year follows: WEEK ACTUAL NO. OF PATIENTS 1 65 2 62 3 70 4 48 5 63 6 52 Clinic administrator Marc Schniederjans wants you to forecast patient demand at the clinic for week 7 by using this data. You decide to use a weighted moving average method to find this forecast. Your method uses four actual demand levels, with weights of 0.333 on the present period, 0.25 one period ago, 0.25 two periods ago, and 0.167 three periods ago. a) What is the value of your forecast? PX b) If instead the weights were 20, 15, 15, and 10, respectively, how would the forecast change? Explain why. c) What if the weights were 0.40, 0.30, 0.20, and 0.10, respectively? Now what is the forecast for week 7? • 4.8 Daily high temperatures in St. Louis for the last week were as follows: 93, 94, 93, 95, 96, 88, 90 (yesterday). a) Forecast the high temperature today, using a 3-day moving average. b) Forecast the high temperature today, using a 2-day moving average. c) Calculate the mean absolute deviation based on a 2-day moving average. d) Compute the mean squared error for the 2-day moving average. e) Calculate the mean absolute percent error for the 2-day moving average. PX • • • 4.9 Lenovo uses the ZX-81 chip in some of its laptop computers. The prices for the chip during the past 12 months were as follows: MONTH PRICE PER CHIP January $1.80 July 1.80 February 1.67 August 1.83 20 March 1.70 September 1.70 October 20 April 1.85 October 1.65 November 21 May 1.90 November 1.70 December 23 June 1.87 December 1.75 M04_HEIZ0422_12_SE_C04.indd 147 147 a) Plot the monthly sales data. b) Forecast January sales using each of the following: i) Naive method. ii) A 3-month moving average. iii) A 6-month weighted average using .1, .1, .1, .2, .2, and .3, with the heaviest weights applied to the most recent months. iv) Exponential smoothing using an a = .3 and a September forecast of 18. v) A trend projection. c) With the data given, which method would allow you to forecast next March’s sales? PX • • 4.5 The Carbondale Hospital is considering the purchase of a new ambulance. The decision will rest partly on the anticipated mileage to be driven next year. The miles driven during the past 5 years are as follows: YEAR | MONTH PRICE PER CHIP 14/12/15 9:53 am 148 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Dmitry Kalinovsky/Shutterstock a) Use a 2-month moving average on all the data and plot the averages and the prices. b) Use a 3-month moving average and add the 3-month plot to the graph created in part (a). c) Which is better (using the mean absolute deviation): the 2-month average or the 3-month average? d) Compute the forecasts for each month using exponential smoothing, with an initial forecast for January of $1.80. Use a = .1, then a = .3, and finally a = .5. Using MAD, which a is the best? PX • • 4.10 Data collected on the yearly registrations for a Six Sigma seminar at the Quality College are shown in the following table: YEAR 1 2 3 4 5 6 7 8 9 10 11 REGISTRATIONS (000) 4 6 4 5 10 8 7 9 12 14 15 a) Develop a 3-year moving average to forecast registrations from year 4 to year 12. b) Estimate demand again for years 4 to 12 with a 3-year weighted moving average in which registrations in the most recent year are given a weight of 2, and registrations in the other 2 years are each given a weight of 1. c) Graph the original data and the two forecasts. Which of the two forecasting methods seems better? PX • 4.11 Use exponential smoothing with a smoothing constant of 0.3 to forecast the registrations at the seminar given in Problem 4.10. To begin the procedure, assume that the forecast for year 1 was 5,000 people signing up. a) What is the MAD? PX b) What is the MSE? • • 4.12 Consider the following actual and forecast demand levels for Big Mac hamburgers at a local McDonald’s restaurant: a) Use exponential smoothing, first with a smoothing constant of .6 and then with one of .9, to develop forecasts for years 2 through 6. b) Use a 3-year moving average to forecast demand in years 4, 5, and 6. c) Use the trend-projection method to forecast demand in years 1 through 6. d) With MAD as the criterion, which of the four forecasting methods is best? PX • • 4.14 Following are two weekly forecasts made by two different methods for the number of gallons of gasoline, in thousands, demanded at a local gasoline station. Also shown are actual demand levels, in thousands of gallons. FORECASTS WEEK METHOD 1 METHOD 2 ACTUAL DEMAND 1 0.90 0.80 0.70 2 1.05 1.20 1.00 0.95 0.90 1.00 1.20 1.11 1.00 ACTUAL DEMAND FORECAST DEMAND 3 Monday 88 88 4 Tuesday 72 88 Wednesday 68 84 Thursday 48 80 DAY What are the MAD and MSE for each method? Friday The forecast for Monday was derived by observing Monday’s demand level and setting Monday’s forecast level equal to this demand level. Subsequent forecasts were derived by using exponential smoothing with a smoothing constant of 0.25. Using this exponential smoothing method, what is the forecast for Big Mac demand for Friday? PX • • • 4.13 As you can see in the following table, demand for heart transplant surgery at Washington General Hospital has increased steadily in the past few years: YEAR 1 2 3 4 5 6 HEART TRANSPLANTS 45 50 52 56 58 ? The director of medical services predicted 6 years ago that demand in year 1 would be 41 surgeries. M04_HEIZ0422_12_SE_C04.indd 148 • 4.15 Refer to Solved Problem 4.1 on page 144. a) Use a 3-year moving average to forecast the sales of Volkswagen Beetles in Nevada through year 6. b) What is the MAD? PX c) What is the MSE? • 4.16 Refer to Solved Problem 4.1 on page 144. a) Using the trend projection (regression) method, develop a forecast for the sales of Volkswagen Beetles in Nevada through year 6. b) What is the MAD? PX c) What is the MSE? • 4.17 Refer to Solved Problem 4.1 on page 144. Using smoothing constants of .6 and .9, develop forecasts for the sales of VW Beetles. What effect did the smoothing constant have on the forecast? Use MAD to determine which of the three smoothing constants (.3, .6, or .9) gives the most accurate forecast. PX • • • • 4.18 Consider the following actual (At) and forecast (Ft) demand levels for a commercial multiline telephone at Office Max: 14/12/15 9:53 am CHAP T ER 4 TIME PERIOD, t ACTUAL DEMAND, At FORECAST DEMAND, Ft 1 2 3 4 5 50 42 56 46 50 50 48 50 MONTH FEBRUARY MARCH APRIL MAY JUNE JULY Income (in $ thousand) 70.0 68.5 64.8 71.7 71.3 72.8 Use trend-adjusted exponential smoothing to forecast the firm’s August income. Assume that the initial forecast average for February is $65,000 and the initial trend adjustment is 0. The smoothing constants selected are a = .1 and b = .2. PX • • • 4.20 Resolve Problem 4.19 with a = .1 and b = .8. Using MSE, determine which smoothing constants provide a better forecast. PX • 4.21 Refer to the trend-adjusted exponential smoothing illustration in Example 7 on pages 122–123. Using a = .2 and b = .4, we forecast sales for 9 months, showing the detailed calculations for months 2 and 3. In Solved Problem 4.2, we continued the process for month 4. In this problem, show your calculations for months 5 and 6 for Ft, Tt, and FITt. PX • 4.22 Refer to Problem 4.21. Complete the trend-adjusted exponential-smoothing forecast computations for periods 7, 8, and 9. Confirm that your numbers for Ft, Tt, and FITt match those in Table 4.2 (p. 123). PX • • 4.23 Sales of quilt covers at Bud Banis’s department store in Carbondale over the past year are shown below. Management prepared a forecast using a combination of exponential smoothing and its collective judgment for the 4 months (March, April, May, and June): July August September October November December January February March April May June M04_HEIZ0422_12_SE_C04.indd 149 100 93 96 110 124 119 92 83 101 96 89 108 MANAGEMENT’S FORECAST 120 114 110 108 149 • 4.24 The following gives the number of accidents that occurred on Florida State Highway 101 during the past 4 months: • • • 4.19 Income at the architectural firm Spraggins and Yunes for the period February to July was as follows: UNIT SALES FORECASTING a) Compute MAD and MAPE for management’s technique. b) Do management’s results outperform (i.e., have smaller MAD and MAPE than) a naive forecast? c) Which forecast do you recommend, based on lower forecast error? PX The first forecast, F1, was derived by observing A1 and setting F1 equal to A1. Subsequent forecast averages were derived by exponential smoothing. Using the exponential smoothing method, find the forecast for time period 5. (Hint: You need to first find the smoothing constant, a.) MONTH | MONTH NUMBER OF ACCIDENTS January 30 February 40 March 60 April 90 Forecast the number of accidents that will occur in May, using least-squares regression to derive a trend equation.PX • 4.25 In the past, Peter Kelle’s tire dealership in Baton Rouge sold an average of 1,000 radials each year. In the past 2 years, 200 and 250, respectively, were sold in fall, 350 and 300 in winter, 150 and 165 in spring, and 300 and 285 in summer. With a major expansion planned, Kelle projects sales next year to increase to 1,200 radials. What will be the demand during each season? • • 4.26 George Kyparisis owns a company that manufactures sailboats. Actual demand for George’s sailboats during each of the past four seasons was as follows: YEAR SEASON 1 2 3 4 Winter 1,400 1,200 1,000 900 Spring 1,500 1,400 1,600 1,500 Summer 1,000 2,100 2,000 1,900 600 750 650 500 Fall George has forecasted that annual demand for his sailboats in year 5 will equal 5,600 sailboats. Based on this data and the multiplicative seasonal model, what will the demand level be for George’s sailboats in the spring of year 5? • • 4.27 Attendance at Orlando’s newest Disneylike attraction, Lego World, has been as follows: QUARTER GUESTS (IN THOUSANDS) QUARTER GUESTS (IN THOUSANDS) Winter Year 1 73 Summer Year 2 124 Spring Year 1 104 Fall Year 2 52 Summer Year 1 168 Winter Year 3 89 Fall Year 1 74 Spring Year 3 146 Winter Year 2 65 Summer Year 3 205 Spring Year 2 82 Fall Year 3 98 Compute seasonal indices using all of the data. PX • 4.28 North Dakota Electric Company estimates its demand trend line (in millions of kilowatt hours) to be: D = 77 + 0.43Q 14/12/15 9:54 am 150 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT where Q refers to the sequential quarter number and Q 5 1 for winter of Year 1. In addition, the multiplicative seasonal factors are as follows: QUARTER FACTOR (INDEX) Winter .8 Spring 1.1 Summer 1.4 Fall .7 Forecast energy use for the four quarters of year 26 (namely quarters 101 to 104), beginning with winter. • 4.29 The number of disk drives (in millions) made at a plant in Taiwan during the past 5 years follows: • • • 4.32 Using the 911 call data in Problem 4.31, forecast calls for weeks 2 through 25 with a trend-adjusted exponential smoothing model. Assume an initial forecast for 50 calls for week 1 and an initial trend of zero. Use smoothing constants of a = .3 and b = .2. Is this model better than that of Problem 4.31? What adjustment might be useful for further improvement? (Again, assume that actual calls in week 25 were 85.) PX • • • 4.33 Storrs Cycles has just started selling the new Cyclone mountain bike, with monthly sales as shown in the table. First, co-owner Bob Day wants to forecast by exponential smoothing by initially setting February’s forecast equal to January’s sales with a = .1. Co-owner Sherry Snyder wants to use a three-period moving average. SALES BOB JANUARY 400 — 160 FEBRUARY 380 400 3 190 MARCH 410 4 200 APRIL 375 5 210 MAY YEAR DISK DRIVES 1 140 2 a) Forecast the number of disk drives to be made next year, using linear regression. b) Compute the mean squared error (MSE) when using linear regression. c) Compute the mean absolute percent error (MAPE). PX • • 4.30 Dr. Lillian Fok, a New Orleans psychologist, specializes in treating patients who are agoraphobic (i.e., afraid to leave their homes). The following table indicates how many patients Dr. Fok has seen each year for the past 10 years. It also indicates what the robbery rate was in New Orleans during the same year: YEAR 1 2 3 4 5 6 7 8 9 10 NUMBER OF PATIENTS 36 33 40 41 40 55 60 54 58 61 ROBBERY RATE PER 1,000 58.3 61.1 73.4 75.7 81.1 89.0 101.1 94.8 103.3 116.2 POPULATION Using trend (linear regression) analysis, predict the number of patients Dr. Fok will see in years 11 and 12 as a function of time. How well does the model fit the data? PX • • • 4.31 Emergency calls to the 911 system of Durham, North Carolina, for the past 24 weeks are shown in the following table: WEEK 1 2 3 4 5 6 7 8 9 10 11 12 CALLS 50 35 25 40 45 35 20 30 35 20 15 40 WEEK 13 14 15 16 17 18 19 20 21 22 23 24 CALLS 55 35 25 55 55 40 35 60 75 50 40 65 a) Compute the exponentially smoothed forecast of calls for each week. Assume an initial forecast of 50 calls in the first week, and use a = .2. What is the forecast for week 25? b) Reforecast each period using a = .6. c) Actual calls during week 25 were 85. Which smoothing constant provides a superior forecast? Explain and justify the measure of error you used. PX M04_HEIZ0422_12_SE_C04.indd 150 SHERRY BOB’S ERROR SHERRY’S ERROR a) Is there a strong linear trend in sales over time? b) Fill in the table with what Bob and Sherry each forecast for May and the earlier months, as relevant. c) Assume that May’s actual sales figure turns out to be 405. Complete the table’s columns and then calculate the mean absolute deviation for both Bob’s and Sherry’s methods. d) Based on these calculations, which method seems more accurate? PX • • • • 4.34 Boulanger Savings and Loan is proud of its long tradition in Winter Park, Florida. Begun by Michelle Boulanger 22 years after World War II, the S&L has bucked the trend of financial and liquidity problems that has repeatedly plagued the industry. Deposits have increased slowly but surely over the years, despite recessions in 1983, 1988, 1991, 2001, and 2010. Ms. Boulanger believes it is necessary to have a long-range strategic plan for her firm, including a 1-year forecast and preferably even a 5-year forecast of deposits. She examines the past deposit data and also peruses Florida’s gross state product (GSP) over the same 44 years. (GSP is analogous to gross national product [GNP] but on the state level.) The resulting data are in the following table. DEPOSITSa GSPb YEAR DEPOSITSa GSPb 1 .25 .4 13 .50 1.2 2 .24 .4 14 .95 1.2 3 .24 .5 15 1.70 1.2 4 .26 .7 16 2.3 1.6 5 .25 .9 17 2.8 1.5 6 .30 1.0 18 2.8 1.6 7 .31 1.4 19 2.7 1.7 8 .32 1.7 20 3.9 1.9 9 .24 1.3 21 4.9 1.9 10 .26 1.2 22 5.3 2.3 11 .25 1.1 23 6.2 2.5 12 .33 .9 24 4.1 2.8 YEAR (continued) 14/12/15 9:54 am CHAP T ER 4 DEPOSITSa YEAR a b GSPb YEAR DEPOSITSa GSPb | FORECASTING PRICE NUMBER SOLD 25 4.5 2.9 35 31.1 4.1 $2.70 760 26 6.1 3.4 36 31.7 4.1 $3.50 510 27 7.7 3.8 37 38.5 4.0 $2.00 980 28 10.1 4.1 38 47.9 4.5 $4.20 250 29 15.2 4.0 39 49.1 4.6 30 18.1 4.0 40 55.8 4.5 $3.10 320 31 24.1 3.9 41 70.1 4.6 $4.05 480 32 25.6 3.8 42 70.9 4.6 33 30.3 3.8 43 79.1 4.7 34 36.0 3.7 44 94.0 5.0 Using these data, how many mocha latte coffees would be forecast to be sold according to simple linear regression if the price per cup were $2.80? PX In $ millions. In $ billions. a) Using exponential smoothing, with a 5 .6, then trend analysis, and finally linear regression, discuss which forecasting model fits best for Boulanger’s strategic plan. Justify the selection of one model over another. b) Carefully examine the data. Can you make a case for excluding a portion of the information? Why? Would that change your choice of model? PX Forecasting Methods • • 4.43 Mark Gershon, owner of a musical instrument distributorship, thinks that demand for guitars may be related to the number of television appearances by the popular group Maroon 5 during the previous month. Mark has collected the data shown in the following table: DEMAND FOR GUITARS 3 6 7 5 10 7 MAROON 5 TV APPEARANCES 3 4 7 6 8 5 a) Graph these data to see whether a linear equation might describe the relationship between the group’s television shows and guitar sales. b) Use the least-squares regression method to derive a forecasting equation. c) What is your estimate for guitar sales if Maroon 5 performed on TV nine times last month? d) What are the correlation coefficient (r) and the coefficient of determination (r2) for this model, and what do they mean? PX • 4.44 model: Lori Cook has developed the following forecasting yn = 36 + 4.3x where yn = demand for Kool Air conditioners and x 5 the outside temperature (°F) PX a) Forecast demand for the Kool Air when the temperature is 70°F. b) What is demand when the temperature is 80°F? c) What is demand when the temperature is 90°F? PX • • 4.45 Café Michigan’s manager, Gary Stark, suspects that demand for mocha latte coffees depends on the price being charged. Based on historical observations, Gary has gathered the following data, which show the numbers of these coffees sold over six different price values: M04_HEIZ0422_12_SE_C04.indd 151 • 4.46 The following data relate the sales figures of the bar in Mark Kaltenbach’s small bed-and-breakfast inn in Portand, to the number of guests registered that week: WEEK GUESTS BAR SALES 1 16 $330 2 12 270 3 18 380 4 14 300 a) Perform a linear regression that relates bar sales to guests (not to time). b) If the forecast is for 20 guests next week, what are the sales expected to be? PX Additional problems 4.35–4.42 are available in MyOMLab. Problems 4.43–4.58 relate to Associative 151 • 4.47 The number of auto accidents in Athens, Ohio, is related to the regional number of registered automobiles in thousands (X1), alcoholic beverage sales in $10,000s (X2), and rainfall in inches (X3). Furthermore, the regression formula has been calculated as: Y = a + b1X1 + b2X2 + b3X3 where Y 5 number of automobile accidents a 5 7.5 b1 5 3.5 b2 5 4.5 b3 5 2.5 Calculate the expected number of automobile accidents under conditions a, b, and c: (a) (b) (c) X1 X2 X3 2 3 4 3 5 7 0 1 2 • • 4.48 Rhonda Clark, a Slippery Rock, Pennsylvania, real estate developer, has devised a regression model to help determine residential housing prices in northwestern Pennsylvania. The model was developed using recent sales in a particular neighborhood. The price (Y) of the house is based on the size (square footage 5 X) of the house. The model is: Y = 13,473 + 37.65X The coefficient of correlation for the model is 0.63. a) Use the model to predict the selling price of a house that is 1,860 square feet. b) An 1,860-square-foot house recently sold for $95,000. Explain why this is not what the model predicted. 14/12/15 9:54 am 152 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT c) If you were going to use multiple regression to develop such a model, what other quantitative variables might you include? d) What is the value of the coefficient of determination in this problem? PX YEAR (SUMMER MONTHS) NUMBER OF TOURISTS (IN MILLIONS) RIDERSHIP (IN MILLIONS) 1 2 3 4 5 6 7 8 9 10 11 12 7 2 6 4 14 15 16 12 14 20 15 7 1.5 1.0 1.3 1.5 2.5 2.7 2.4 2.0 2.7 4.4 3.4 1.7 • 4.49 Accountants at the Tucson firm, Larry Youdelman, CPAs, believed that several traveling executives were submitting unusually high travel vouchers when they returned from business trips. First, they took a sample of 200 vouchers submitted from the past year. Then they developed the following multiple-regression equation relating expected travel cost to number of days on the road (x1) and distance traveled (x2) in miles: yn = +90.00 + +48.50x1 + +.40x2 The coefficient of correlation computed was .68. a) If Donna Battista returns from a 300-mile trip that took her out of town for 5 days, what is the expected amount she should claim as expenses? b) Battista submitted a reimbursement request for $685. What should the accountant do? c) Should any other variables be included? Which ones? Why? PX • • 4.50 City government has collected the following data on annual sales tax collections and new car registrations: ANNUAL SALES TAX COLLECTIONS 1.0 1.4 1.9 2.0 1.8 2.1 2.3 (IN MILLIONS) NEW CAR REGISTRATIONS (IN THOUSANDS) 10 12 15 16 14 17 20 Determine the following: a) The least-squares regression equation. b) Using the results of part (a), find the estimated sales tax collections if new car registrations total 22,000. c) The coefficients of correlation and determination. PX • • 4.51 Using the data in Problem 4.30, apply linear regression to study the relationship between the robbery rate and Dr. Fok’s patient load. If the robbery rate increases to 131.2 in year 11, how many phobic patients will Dr. Fok treat? If the robbery rate drops to 90.6, what is the patient projection? PX Light Thru My Lens Photography/Getty Images • • • 4.52 Bus and subway ridership for the summer months in London, England, is believed to be tied heavily to the number of tourists visiting the city. During the past 12 years, the data on the next page have been obtained: M04_HEIZ0422_12_SE_C04.indd 152 a) Plot these data and decide if a linear model is reasonable. b) Develop a regression relationship. c) What is expected ridership if 10 million tourists visit London in a year? d) Explain the predicted ridership if there are no tourists at all. e) What is the standard error of the estimate? f) What is the model’s correlation coefficient and coefficient of determination? PX • • 4.53 Thirteen students entered the business program at Sante Fe College 2 years ago. The following table indicates what each student scored on the high school SAT math exam and their grade-point averages (GPAs) after students were in the Sante Fe program for 2 years: STUDENT SAT SCORE GPA STUDENT SAT SCORE GPA A 421 2.90 H 481 2.53 B 377 2.93 I 729 3.22 C 585 3.00 J 501 1.99 D 690 3.45 K 613 2.75 E 608 3.66 L 709 3.90 F 390 2.88 M 366 1.60 G 415 2.15 a) Is there a meaningful relationship between SAT math scores and grades? b) If a student scores a 350, what do you think his or her GPA will be? c) What about a student who scores 800? • • 4.54 Dave Fletcher, the general manager of North Carolina Engineering Corporation (NCEC), thinks that his firm’s engineering services contracted to highway construction firms are directly related to the volume of highway construction business contracted with companies in his geographic area. He wonders if this is really so, and if it is, can this information help him plan his operations better by forecasting the quantity of his engineering services required by construction firms in each quarter of the year? The following table presents the sales of his services and total amounts of contracts for highway construction over the past eight quarters: QUARTER Sales of NCEC Services (in $ thousands) Contracts Released (in $ thousands) 1 2 3 4 5 6 7 8 8 10 15 9 12 13 12 16 153 172 197 178 185 199 205 226 a) Using this data, develop a regression equation for predicting the level of demand of NCEC’s services. 14/12/15 9:54 am CHAP T ER 4 b) Determine the coefficient of correlation and the standard error of the estimate. PX Additional problems 4.55-4.58 are available in MyOMLab. Problems 4.59–4.61 relate to Monitoring and Controlling Forecasts DEMAND WEEK DEMAND 1 20 6 29 2 21 7 36 3 28 8 22 4 37 9 25 5 25 10 28 FORECASTING 153 b) Compute the MAD. c) Compute the tracking signal. PX • • • 4.60 The following are monthly actual and forecast demand levels for May through December for units of a product manufactured by the D. Bishop Company in Des Moines: MONTH • • 4.59 Sales of tablet computers at Ted Glickman’s electronics store in Washington, D.C., over the past 10 weeks are shown in the table below: WEEK | ACTUAL DEMAND May June July August September October November December FORECAST DEMAND 100 80 110 115 105 110 125 120 100 104 99 101 104 104 105 109 What is the value of the tracking signal as of the end of December? a) Forecast demand for each week, including week 10, using exponential smoothing with a 5 .5 (initial forecast 5 20). Additional problem 4.61 is available in MyOMLab. CASE STUDIES Southwestern University: (B)* Southwestern University (SWU), a large state college in Stephenville, Texas, enrolls close to 20,000 students. The school is a dominant force in the small city, with more students during fall and spring than permanent residents. Always a football powerhouse, SWU is usually in the top 20 in college football rankings. Since the legendary Phil Flamm was hired as its head coach in 2009 (in hopes of reaching the elusive number 1 ranking), attendance at the five Saturday home games each year increased. Prior to Flamm’s arrival, attendance generally averaged 25,000 to 29,000 per game. Season ticket sales bumped up by 10,000 just with the announcement of the new coach’s arrival. Stephenville and SWU were ready to move to the big time! Southwestern University Football Game Attendance, 2010–2015 2010 OPPONENT 2011 ATTENDEES 2012 GAME ATTENDEES 1 34,200 Rice 36,100 Miami OPPONENT ATTENDEES 35,900 USC OPPONENT 2a 39,800 Texas 40,200 Nebraska 46,500 Texas Tech 3 38,200 Duke 39,100 Ohio State 43,100 Alaska 4b 26,900 Arkansas 25,300 Nevada 27,900 Arizona 5 35,100 TCU 36,200 Boise State 39,200 Baylor 2013 2014 GAME ATTENDEES OPPONENT ATTENDEES 1 41,900 Arkansas 42,500 2a 46,100 Missouri 3 43,900 Florida 4b 30,100 Central Florida 5 40,500 LSU a 2015 OPPONENT ATTENDEES OPPONENT Indiana 46,900 LSU 48,200 North Texas 50,100 Texas 44,200 Texas A&M 45,900 South Florida 33,900 Southern 36,300 Montana 47,800 Oklahoma 49,900 Arizona State Homecoming games. b During the fourth week of each season, Stephenville hosted a hugely popular southwestern crafts festival. This event brought tens of thousands of tourists to the town, especially on weekends, and had an obvious negative impact on game attendance. M04_HEIZ0422_12_SE_C04.indd 153 14/12/15 9:54 am 154 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT The immediate issue facing SWU, however, was not NCAA ranking. It was capacity. The existing SWU stadium, built in 1953, has seating for 54,000 fans. The following table indicates attendance at each game for the past 6 years. One of Flamm’s demands upon joining SWU had been a stadium expansion, or possibly even a new stadium. With attendance increasing, SWU administrators began to face the issue head-on. Flamm had wanted dormitories solely for his athletes in the stadium as an additional feature of any expansion. SWU’s president, Dr. Joel Wisner, decided it was time for his vice president of development to forecast when the existing stadium would “max out.” The expansion was, in his mind, a given. But Wisner needed to know how long he could wait. He also sought a revenue projection, assuming an average ticket price of $50 in 2016 and a 5% increase each year in future prices. Discussion Questions 1. Develop a forecasting model, justifying its selection over other techniques, and project attendance through 2017. 2. What revenues are to be expected in 2016 and 2017? 3. Discuss the school’s options. *This integrated case study runs throughout the text. Other issues facing Southwestern’s football stadium include (A) managing the stadium project (Chapter 3); (C) quality of facilities (Chapter 6); (D) break-even analysis of food services (Supplement 7 Web site); (E) locating the new stadium (Chapter 8 Web site); (F) inventory planning of football programs (Chapter 12 Web site); and (G) scheduling of campus security officers/staff for game days (Chapter 13 Web site). Video Case For its first 2 decades of existence, the NBA’s Orlando Magic basketball team set seat prices for its 41-game home schedule the same for each game. If a lower-deck seat sold for $150, that was the price charged, regardless of the opponent, day of the week, or time of the season. If an upper-deck seat sold for $10 in the first game of the year, it likewise sold for $10 for every game. But when Anthony Perez, director of business strategy, finished his MBA at the University of Florida, he developed a valuable database of ticket sales. Analysis of the data led him to build a forecasting model he hoped would increase ticket revenue. Perez hypothesized that selling a ticket for similar seats should differ based on demand. Studying individual sales of Magic tickets on the open Stub Hub marketplace during the prior season, Perez determined the additional potential sales revenue the Magic could have made had they charged prices the fans had proven they were willing to pay on Stub Hub. This became his dependent variable, y, in a multiple-regression model. He also found that three variables would help him build the “true market” seat price for every game. With his model, it was possible that the same seat in the arena would have as many as seven different prices created at season onset—sometimes higher than expected on average and sometimes lower. The major factors he found to be statistically significant in determining how high the demand for a game ticket, and hence, its price, would be were: ◆ ◆ ◆ The day of the week (x1) A rating of how popular the opponent was (x2) The time of the year (x3) For the day of the week, Perez found that Mondays were the least-favored game days (and he assigned them a value of 1). The rest of the weekdays increased in popularity, up to a Saturday game, which he rated a 6. Sundays and Fridays received 5 ratings, and holidays a 3 (refer to the footnote in Table 4.3). His ratings of opponents, done just before the start of the season, were subjective and range from a low of 0 to a high of 8. A very high-rated team in that particular season may have had one or more superstars on its roster, or have won the NBA finals the prior season, making it a popular fan draw. M04_HEIZ0422_12_SE_C04.indd 154 Fernando Medina Forecasting Ticket Revenue for Orlando Magic Basketball Games Finally, Perez believed that the NBA season could be divided into four periods in popularity: ◆ ◆ ◆ ◆ Early games (which he assigned 0 scores) Games during the Christmas season (assigned a 3) Games until the All-Star break (given a 2) Games leading into the play-offs (scored with a 3) The first year Perez built his multiple-regression model, the dependent variable y, which was a “potential premium revenue score,” yielded an r2 = .86 with this equation: y = 14,996 + 10,801x1 + 23,397x2 + 10,784x3 Table 4.3 illustrates, for brevity in this case study, a sample of 12 games that year (out of the total 41 home game regular season), including the potential extra revenue per game (y) to be expected using the variable pricing model. A leader in NBA variable pricing, the Orlando Magic have learned that regression analysis is indeed a profitable forecasting tool. Discussion Questions* 1. Use the data in Table 4.3 to build a regression model with day of the week as the only independent variable. 14/12/15 9:54 am CHAP T ER 4 TABLE 4.3 | FORECASTING 155 Data for Last Year’s Magic Ticket Sales Pricing Model TIME OF YEAR RATING OF OPPONENT Phoenix Suns TEAM November 4 DATE* Wednesday DAY OF WEEK* 0 0 ADDITIONAL SALES POTENTIAL Detroit Pistons November 6 Friday 0 1 $29,004 Cleveland Cavaliers November 11 Wednesday 0 6 $109,412 Miami Heat November 25 Wednesday 0 3 $75,783 Houston Rockets December 23 Wednesday 3 2 $42,557 Boston Celtics January 28 Thursday 1 4 $120,212 New Orleans Pelicans February 3 Monday 1 1 $20,459 L. A. Lakers March 7 Sunday 2 8 $231,020 San Antonio Spurs March 17 Wednesday 2 1 $28,455 Denver Nuggets March 23 Sunday 2 1 $110,561 NY Knicks April 9 Friday 3 0 $44,971 Philadelphia 76ers April 14 Wednesday 3 1 $30,257 $12,331 *Day of week rated as 1 5 Monday, 2 5 Tuesday, 3 5 Wednesday, 4 5 Thursday, 5 5 Friday, 6 5 Saturday, 5 5 Sunday, 3 5 holiday. 2. Use the data to build a model with rating of the opponent as the sole independent variable. 3. Using Perez’s multiple-regression model, what would be the additional sales potential of a Thursday Miami Heat game played during the Christmas holiday? 4. What additional independent variables might you suggest to include in Perez’s model? *You may wish to view the video that accompanies this case before answering these questions. Video Case Forecasting at Hard Rock Cafe With the growth of Hard Rock Cafe—from one pub in London in 1971 to more than 145 restaurants in 60 countries today—came a corporatewide demand for better forecasting. Hard Rock uses long-range forecasting in setting a capacity plan and intermediate-term forecasting for locking in contracts for leather goods (used in jackets) and for such food items as beef, chicken, and pork. Its short-term sales forecasts are conducted each month, by cafe, and then aggregated for a headquarters view. The heart of the sales forecasting system is the point-of-sale (POS) system, which, in effect, captures transaction data on nearly every person who walks through a cafe’s door. The sale of each entrée represents one customer; the entrée sales data are transmitted daily to the Orlando corporate headquarters’ database. There, the financial team, headed by Todd Lindsey, begins the forecast process. Lindsey forecasts monthly guest counts, retail sales, banquet sales, and concert sales (if applicable) at each cafe. The general managers of individual cafes tap into the same database to prepare a daily forecast for their sites. A cafe manager pulls up prior years’ sales for that day, adding information from the local Chamber of Commerce or Tourist Board on upcoming events such as a major convention, sporting event, or concert in the city where the cafe is located. The daily forecast is further broken into hourly sales, which drives employee scheduling. An hourly forecast of $5,500 in sales translates into 19 workstations, which are further broken down into a specific number of waitstaff, hosts, bartenders, and kitchen staff. Computerized scheduling software plugs in people based on their availability. Variances between forecast and actual sales are then examined to see why errors occurred. M04_HEIZ0422_12_SE_C04.indd 155 Hard Rock doesn’t limit its use of forecasting tools to sales. To evaluate managers and set bonuses, a 3-year weighted moving average is applied to cafe sales. If cafe general managers exceed their targets, a bonus is computed. Todd Lindsey, at corporate headquarters, applies weights of 40% to the most recent year’s sales, 40% to the year before, and 20% to sales 2 years ago in reaching his moving average. An even more sophisticated application of statistics is found in Hard Rock’s menu planning. Using multiple regression, managers can compute the impact on demand of other menu items if the price of one item is changed. For example, if the price of a cheeseburger increases from $7.99 to $8.99, Hard Rock can predict the effect this will have on sales of chicken sandwiches, pork sandwiches, and salads. Managers do the same analysis on menu placement, with the center section driving higher sales volumes. When an item such as a hamburger is moved off the center to one of the side flaps, the corresponding effect on related items, say french fries, is determined. HARD ROCK’S MOSCOW CAFEa 1 2 3 4 5 6 7 8 9 10 Guest count (in thousands) MONTH 21 24 27 32 29 37 43 43 54 66 Advertising (in $ thousand) 14 17 25 25 35 35 45 50 60 60 a These figures are used for purposes of this case study. 14/12/15 9:54 am 156 PA RT 1 | I N T R O D UC T I O N T O OP ERATI ONS MANAGEMENT Discussion Questions* 1. Describe three different forecasting applications at Hard Rock. Name three other areas in which you think Hard Rock could use forecasting models. 2. What is the role of the POS system in forecasting at Hard Rock? 3. Justify the use of the weighting system used for evaluating managers for annual bonuses. 4. Name several variables besides those mentioned in the case that could be used as good predictors of daily sales in each cafe. 5. At Hard Rock’s Moscow restaurant, the manager is trying to evaluate how a new advertising campaign affects guest counts. Using data for the past 10 months (see the table), develop a least-squares regression relationship and then forecast the expected guest count when advertising is $65,000. *You may wish to view the video that accompanies this case before answering these questions. • Additional Case Studies: Visit MyOMLab for these free case studies: North-South Airlines: Reflects the merger of two airlines and addresses their maintenance costs. Digital Cell Phone, Inc.: Uses regression analysis and seasonality to forecast demand at a cell phone manufacturer. Endnotes 1. For a good review of statistical terms, refer to Tutorial 1, “Statistical Review for Managers,” in MyOMLab. 2. When the sample size is large (n 7 30), the prediction interval value of y can be computed using normal tables. When the number of observations is small, the t-distribution is appropriate. See D. Groebner et al., Business Statistics, 9th ed. (Upper Saddle River, NJ: Prentice Hall, 2014). M04_HEIZ0422_12_SE_C04.indd 156 3. To prove these three percentages to yourself, just set up a normal curve for { 1.6 standard deviations (z-values). Using the normal table in Appendix I, you find that the area under the curve is .89. This represents { 2 MADs. Likewise, { 3 MADs = { 2.4 standard deviations encompass 98% of the area, and so on for { 4 MADs. 4. Bernard T. Smith, Focus Forecasting: Computer Techniques for Inventory Control (Boston: CBI Publishing, 1978). 14/12/15 9:54 am Main Heading WHAT IS FORECASTING? j j (pp. 108–109) j j THE STRATEGIC IMPORTANCE OF FORECASTING MyOMLab Review Material Forecasting—The art and science of predicting future events. Economic forecasts—Planning indicators that are valuable in helping organizations prepare medium- to long-range forecasts. Technological forecasts—Long-term forecasts concerned with the rates of technological progress. Demand forecasts—Projections of a company’s sales for each time period in the planning horizon. The forecast is the only estimate of demand until actual demand becomes known. Forecasts of demand drive decisions in many areas, including: human resources, capacity, and supply chain management. Concept Questions: 1.1–1.4 Rapid Review 4 Chapter 4 Rapid Review Concept Questions: 2.1–2.3 (pp. 109–110) SEVEN STEPS IN THE FORECASTING SYSTEM j (pp. 110–111) FORECASTING APPROACHES (pp. 111–112) j j j j j j j TIME-SERIES FORECASTING (pp. 112–131) j j Forecasting follows seven basic steps: (1) Determine the use of the forecast; (2) Select the items to be forecasted; (3) Determine the time horizon of the forecast; (4) Select the forecasting model(s); (5) Gather the data needed to make the forecast; (6) Make the forecast; (7) Validate and implement the results. Concept Questions: 3.1–3.4 Quantitative forecasts—Forecasts that employ mathematical modeling to forecast demand. Qualitative forecast—Forecasts that incorporate such factors as the decision maker’s intuition, emotions, personal experiences, and value system. Jury of executive opinion—Takes the opinion of a small group of high-level managers and results in a group estimate of demand. Delphi method—Uses an interactive group process that allows experts to make forecasts. Sales force composite—Based on salespersons’ estimates of expected sales. Market survey—Solicits input from customers or potential customers regarding future purchasing plans. Time series—Uses a series of past data points to make a forecast. Concept Questions: 4.1–4.4 Naive approach—Assumes that demand in the next period is equal to demand in Concept Questions: 5.1–5.4 the most recent period. Moving average—Uses an average of the n most recent periods of data to foreProblems: 4.1–4.42 cast the next period. Virtual Office Hours gdemand in previous n periods Moving average = (4-1) for Solved Problems: n 4.1–4.4 g((Weight for period n)(Demand in period n)) (4-2) gWeights j Exponential smoothing—A weighted-moving-average forecasting technique in which data points are weighted by an exponential function. j Smoothing constant—The weighting factor, a, used in an exponential smoothing forecast, a number between 0 and 1. Exponential smoothing formula: Weighted moving average = Ft = Ft - 1 + a(At - 1 - Ft - 1) j (4-4) Mean absolute deviation (MAD)—A measure of the overall forecast error for a model. g 0 Actual - Forecast 0 (4-5) n Mean squared error (MSE)—The average of the squared differences between the forecast and observed values. MAD = j ACTIVE MODELS 4.1–4.4 g(Forecast errors)2 (4-6) n Mean absolute percent error (MAPE)—The average of the absolute differences between the forecast and actual values, expressed as a percentage of actual values. MSE = j a 100 0 Actuali - Forecasti 0 /Actuali n MAPE = M04_HEIZ0422_12_SE_C04.indd 157 i=1 n (4-7) 14/12/15 9:54 am Rapid Review 4 Chapter 4 Rapid Review continued Main Heading MyOMLab Review Material Exponential smoothing with trend adjustment Virtual Office Hours for Solved Problems: Forecast including trend (FITt) = Exponentially smoothed forecast average (Ft) (4-8) 4.5–4.6 + Exponentially smoothed trend (Tt) j Trend projection—A time-series forecasting method that fits a trend line to a series of historical data points and then projects the line into the future for forecasts. Trend projection and regression analysis j j ASSOCIATIVE FORECASTING METHODS: REGRESSION AND CORRELATION ANALYSIS (pp. 131–137) j j j j j MONITORING AND CONTROLLING FORECASTS (pp. 138–140) j gxy - nx y and a = y - bx (4-11), (4-12), (4-13) gx2 - nx 2 Seasonal variations—Regular upward or downward movements in a time series that tie to recurring events. Cycles—Patterns in the data that occur every several years. yn = a + bx, where b = Linear-regression analysis—A straight-line mathematical model to describe the functional relationships between independent and dependent variables. Standard error of the estimate—A measure of variability around the regression line. Coefficient of correlation—A measure of the strength of the relationship between two variables. Coefficient of determination—A measure of the amount of variation in the dependent variable about its mean that is explained by the regression equation. Multiple regression—An associative forecasting method with . 1 independent variable. (4-17) Multiple regression forecast: yn = a + b1x1 + b2x2 Concept Questions: 6.1–6.4 Tracking signal—A measurement of how well the forecast is predicting actual values. Concept Questions: 7.1–7.4 Tracking signal = g(Actual demand in period i - Forecast demand in period i ) MAD Problems: 4.43-4.58 VIDEO 4.1 Forecasting Ticket Revenue for Orlando Magic Basketball Games Virtual Office Hours for Solved Problems: 4.7–4.8 Problems: 4.59–4.61 (4-18) j j j FORECASTING IN THE SERVICE SECTOR (pp. 140–141) Bias—A forecast that is consistently higher or lower than actual values of a time series. Adaptive smoothing—An approach to exponential smoothing forecasting in which the smoothing constant is automatically changed to keep errors to a minimum. Focus forecasting—Forecasting that tries a variety of computer models and selects the best one for a particular application. Service-sector forecasting may require good short-term demand records, even per 15-minute intervals. Demand during holidays or specific weather events may also need to be tracked. Concept Question: 8.1 VIDEO 4.2 Forecasting at Hard Rock Cafe Self Test j Before taking the self-test, refer to the learning objectives listed at the beginning of the chapter and the key terms listed at the end of the chapter. LO 4.1 Forecasting time horizons include: a) long range. b) medium range. c) short range. d) all of the above. LO 4.2 Qualitative methods of forecasting include: a) sales force composite. b) jury of executive opinion. c) consumer market survey. d) exponential smoothing. e) all except (d). LO 4.3 The difference between a moving-average model and an exponential smoothing model is that . LO 4.4 Three popular measures of forecast accuracy are: a) total error, average error, and mean error. b) average error, median error, and maximum error. c) median error, minimum error, and maximum absolute error. d) mean absolute deviation, mean squared error, and mean absolute percent error. LO 4.5 Average demand for iPods in the Rome, Italy, Apple store is 800 units per month. The May monthly index is 1.25. What is the seasonally adjusted sales forecast for May? a) 640 units b) 798.75 units c) 800 units d) 1,000 units e) cannot be calculated with the information given LO 4.6 The main difference between simple and multiple regression is . LO 4.7 The tracking signal is the: a) standard error of the estimate. b) cumulative error. c) mean absolute deviation (MAD). d) ratio of the cumulative error to MAD. e) mean absolute percent error (MAPE). Answers: LO 4.1. d; LO 4.2. e; LO 4.3. exponential smoothing is a weighted moving-average model in which all prior values are weighted with a set of exponentially declining weights; LO 4.4. d; LO 4.5. d; LO 4.6. simple regression has only one independent variable; LO 4.7. d. M04_HEIZ0422_12_SE_C04.indd 158 14/12/15 9:54 am PART TWO Designing Operations GLOBAL COMPANY PROFILE: Regal Marine ◆ Goods and Services Selection 162 ◆ Generating New Products 165 ◆ Product Development 166 ◆ Issues for Product Design 171 ◆ Product Development Continuum 173 ◆ Defining a Product 175 ◆ ◆ ◆ ◆ Documents for Production 178 Service Design 179 Application of Decision Trees to Product Design 182 Transition to Production 184 10 OM STRATEGY DECISIONS Alaska Airlines Alaska Airlines C H A P TE R OUTLINE C H A P T E R 5 Design of Goods and Services • • • • • Design of Goods and Services Managing Quality Process Strategy Location Strategies Layout Strategies • • • • • Human Resources Supply-Chain Management Inventory Management Scheduling Maintenance 159 M05_HEIZ0422_12_SE_C05.indd 159 20/11/15 2:56 PM C H A P T E R 5 Product Strategy Provides Competitive Advantage at Regal Marine GLOBAL COMPANY PROFILE Regal Marine F orty years after its founding by potato farmer Paul Kuck, Regal Marine has become a powerful force on the waters of the world. The world’s third-largest boat manufacturer (by global sales), Regal exports to 30 countries, including Russia and China. Almost one-third of its sales are overseas. Product design is critical in the highly competitive pleasure boat business: “We keep in touch with our customers and we respond to the marketplace,” says Kuck. “We’re introducing six new models this year alone. I’d say we’re definitely on the aggressive end of the spectrum.” With changing consumer tastes, compounded by material changes and ever–improving marine engineering, the design function is under constant pressure. Added to these pressures Barry Render CAD/CAM is used to design the rain cover of a new product. This process results in faster and more efficient design and production. Barry Render Here the deck, suspended from ceiling cranes, is being finished prior to being moved to join the hull. Regal is one of the first boat builders in the world to earn the ISO 9001 quality certification. 160 M05_HEIZ0422_12_SE_C05.indd 160 20/11/15 2:56 PM Barry Render Here th H the fifinishing i hi ttouches h are bbeing i putt on a mold ld usedd ffor fforming i th the hhull. ll is the constant issue of cost competitiveness Barry Render combined with the need to provide good value for customers. Consequently, Regal Marine is a frequent user of computer-aided design (CAD). New designs come to life via Regal’s threedimensional CAD system, borrowed from automotive technology. Regal’s naval architect’s goal is to continue to reduce the time from concept to prototype to production. The sophisticated CAD system not only has reduced product development time and cost, but also has reduced problems with tooling and production, resulting in a superior product. All of Regal’s products, from its $14,000 19-foot boat to the $500,000 52-foot Sports yacht, follow a similar production process. Once a hhullll hhas bbeen pulled the mold, O ll d ffrom th ld it ttravels l ddown a monorailil assembly bl path. JIT inventory delivers engines, wiring, seats, flooring, and interiors when needed. components—are installed at another. Racks of electrical wiring harnesses, engineered and rigged in-house, are then installed. An in-house upholstery department delivers customized seats, beds, dashboards, or other cushioned components. Finally, chrome fixtures are put in place, and the boat is sent to Regal’s test tank for watertight, gauge, and system inspection. Hulls and decks are separately hand-produced by spraying preformed molds with three to five layers of a fiberglass laminate. The hulls and decks harden and are removed to become the lower and upper structure of the boat. As they move to the assembly line, they are joined and components added at each workstation. Barry Render Wooden components, precut in-house by computer-driven routers, are delivered on a just-in-time basis for installation at one station. Engines—one of the few purchased the fifinall stage, smaller this one, are placed this ttestt ttank, At th t ll bboats, t suchh as thi l d iin thi k where a rain machine ensures watertight fits. 161 M05_HEIZ0422_12_SE_C05.indd 161 20/11/15 2:56 PM L E A RNING OBJECTIVES LO 5.1 Define product life cycle 164 LO 5.2 Describe a product development system 166 LO 5.3 Build a house of quality 167 LO 5.4 Explain how time-based competition is implemented by OM 173 LO 5.5 Describe how goods and services are defined by OM 175 LO 5.6 Describe the documents needed for production 179 LO 5.7 Explain how the customer participates in the design and delivery of services 180 LO 5.8 Apply decision trees to product issues 182 Goods and Services Selection STUDENT TIP Product strategy is critical to achieving competitive advantage. VIDEO 5.1 Product Strategy at Regal Marine Figure Global firms like Regal Marine know that the basis for an organization’s existence is the good or service it provides society. Great products are the keys to success. Anything less than an excellent product strategy can be devastating to a firm. To maximize the potential for success, many companies focus on only a few products and then concentrate on those products. For instance, Honda’s focus, its core competency, is engines. Virtually all of Honda’s sales (autos, motorcycles, generators, lawn mowers) are based on its outstanding engine technology. Likewise, Intel’s focus is on microprocessors, and Michelin’s is on tires. However, because most products have a limited and even predictable life cycle, companies must constantly be looking for new products to design, develop, and take to market. Operations managers insist on strong communication among customer, product, processes, and suppliers that results in a high success rate for their new products. 3M’s goal is to produce 30% of its profit from products introduced in the past 4 years. Apple generates almost 60% of its revenue from products launched in the past 4 years. Benchmarks, of course, vary by industry; Regal introduces six new boats a year, and Rubbermaid introduces a new product each day! The importance of new products cannot be overestimated. As Figure 5.1 shows, leading companies generate a substantial portion of their sales from products less than 5 years old. The need for new products is why Gillette developed its multiblade razors, in spite of continuing high sales of its phenomenally successful Sensor razor, and why Disney continues to innovate with new rides and new parks even though it is already the world’s leading family entertainment company. Despite constant efforts to introduce viable new products, many new products do not succeed. Product selection, definition, and design occur frequently—perhaps hundreds of times 50% 5.1 Percent of sales from new products Innovation and New Products 40% The higher the percentage of sales from the last 5 years, the more likely the firm is to be a leader. 30% 20% 10% 0% Industry Top Middle Bottom third leader third third Position of firm in its industry 162 M05_HEIZ0422_12_SE_C05.indd 162 20/11/15 2:56 PM CHAP T ER 5 | DESIGN OF GOODS AND SERVICES for each financially successful product. DuPont estimates that it takes 250 ideas to yield one marketable product. Operations managers and their organizations build cultures that accept this risk and tolerate failure. They learn to accommodate a high volume of new product ideas while maintaining the production activities to which they are already committed. Although the term products often refers to tangible goods, it also refers to offerings by service organizations. For instance, when Allstate Insurance offers a new homeowner’s policy, it is referred to as a new “product.” Similarly, when Citicorp opens a mortgage department, it offers a number of new mortgage “products.” An effective product strategy links product decisions with investment, market share, and product life cycle, and defines the breadth of the product line. The objective of the product decision is to develop and implement a product strategy that meets the demands of the marketplace with a competitive advantage. As one of the 10 decisions of OM, product strategy may focus on developing a competitive advantage via differentiation, low cost, rapid response, or a combination of these. 163 STUDENT TIP Motorola went through 3,000 working models before it developed its first pocket cell phone. Product decision The selection, definition, and design of products. Product Strategy Options Support Competitive Advantage (a) Markets: In its creative way, the market has moved athletic shoes from utilitarian footwear into fashionable accessories. Dutch Boy Paints/Sherwin Williams Gang/Fotolia Radu Razvan/Shutterstock A world of options exists in the selection, definition, and design of products. Product selection is choosing the good or service to provide customers or clients. For instance, hospitals specialize in various types of patients and medical procedures. A hospital’s management may decide to operate a general-purpose hospital or a maternity hospital or, as in the case of the Canadian hospital Shouldice, to specialize in hernias. Hospitals select their products when they decide what kind of hospital to be. Numerous other options exist for hospitals, just as they exist for Taco Bell and Toyota. Service organizations like Shouldice Hospital differentiate themselves through their product. Shouldice differentiates itself by offering a distinctly unique and high-quality product. Its world-renowned specialization in hernia-repair service is so effective it allows patients to return (b) Technology: Samsung’s latest technology: radical new smart phones that are bendable. (c) Packaging: Sherwin-Williams’ Dutch Boy has revolutionized the paint industry with its square Twist & Pour paint container. Product Innovation Can Be Driven By Markets, Technology, and Packaging. Whether it is design focused on changes in the market (a), the application of technology at Samsung (b), or a new container at Sherwin-Williams (c), operations managers need to remind themselves that the creative process is ongoing with major production implications. M05_HEIZ0422_12_SE_C05.indd 163 20/11/15 2:56 PM 164 PA RT 2 | D ES I G N I N G O P ERATI ONS to normal living in 8 days as opposed to the average 2 weeks—and with very few complications. The entire production system is designed for this one product. Local anesthetics are used; patients enter and leave the operating room on their own; meals are served in a common dining room, encouraging patients to get out of bed for meals and join fellow patients in the lounge. As Shouldice demonstrates, product selection affects the entire production system. Taco Bell has developed and executed a low-cost strategy through product design. By designing a product (its menu) that can be produced with a minimum of labor in small kitchens, Taco Bell has developed a product line that is both low cost and high value. Successful product design has allowed Taco Bell to increase the food content of its products from 27¢ to 45¢ of each sales dollar. Toyota’s strategy is rapid response to changing consumer demand. By executing the fastest automobile design in the industry, Toyota has driven the speed of product development down to well under 2 years in an industry whose standard is still over 2 years. The shorter design time allows Toyota to get a car to market before consumer tastes change and to do so with the latest technology and innovations. Product decisions are fundamental to an organization’s strategy and have major implications throughout the operations function. For instance, GM’s steering columns are a good example of the strong role product design plays in both quality and efficiency. The redesigned steering column is simpler, with about 30% fewer parts than its predecessor. The result: Assembly time is one-third that of the older column, and the new column’s quality is about seven times higher. As an added bonus, machinery on the new line costs a third less than that on the old line. Product Life Cycles LO 5.1 Define product life cycle Products are born. They live and they die. They are cast aside by a changing society. It may be helpful to think of a product’s life as divided into four phases. Those phases are introduction, growth, maturity, and decline. Product life cycles may be a matter of a few days (a concert t-shirt), months (seasonal fashions), years (Madden NFL football video game), or decades (Boeing 737). Regardless of the length of the cycle, the task for the operations manager is the same: to design a system that helps introduce new products successfully. If the operations function cannot perform effectively at this stage, the firm may be saddled with losers—products that cannot be produced efficiently and perhaps not at all. Figure 5.2 shows the four life cycle stages and the relationship of product sales, cash flow, and profit over the life cycle of a product. Note that typically a firm has a negative cash flow while it develops a product. When the product is successful, those losses may be recovered. Eventually, the successful product may yield a profit prior to its decline. However, the profit is fleeting—hence, the constant demand for new products. Life Cycle and Strategy Just as operations managers must be prepared to develop new products, they must also be prepared to develop strategies for new and existing products. Periodic examination of Figure 5.2 $ Cost of development and production Sales revenue Product Life Cycle, Sales, Cost, Profit, and Loss Profit Loss Loss Introduction Growth Maturity Decline Phase of life cycle M05_HEIZ0422_12_SE_C05.indd 164 20/11/15 2:56 PM CHAP T ER 5 | DESIGN OF GOODS AND SERVICES 165 products is appropriate because strategies change as products move through their life cycle. Successful product strategies require determining the best strategy for each product based on its position in its life cycle. A firm, therefore, identifies products or families of products and their position in the life cycle. Let us review some strategy options as products move through their life cycles. Because products in the introductory phase are still being “finetuned” for the market, as are their production techniques, they may warrant unusual expenditures for (1) research, (2) product development, (3) process modification and enhancement, and (4) supplier development. For example, when the iPhone was first introduced, the features desired by the public were still being determined. At the same time, operations managers were still groping for the best manufacturing techniques. Introductory Phase Growth Phase In the growth phase, product design has begun to stabilize, and effective forecasting of capacity requirements is necessary. Adding capacity or enhancing existing capacity to accommodate the increase in product demand may be necessary. By the time a product is mature, competitors are established. So highvolume, innovative production may be appropriate. Improved cost control, reduction in options, and a paring down of the product line may be effective or necessary for profitability and market share. Maturity Phase Decline Phase Management may need to be ruthless with those products whose life cycle is at an end. Dying products are typically poor products in which to invest resources and managerial talent. Unless dying products make some unique contribution to the firm’s reputation or its product line or can be sold with an unusually high contribution, their production should be terminated.1 Product-by-Value Analysis The effective operations manager selects items that show the greatest promise. This is the Pareto principle applied to product mix: Resources are to be invested in the critical few and not the trivial many. Product-by-value analysis lists products in descending order of their individual dollar contribution to the firm. It also lists the total annual dollar contribution of the product. Low contribution on a per-unit basis by a particular product may look substantially different if it represents a large portion of the company’s sales. A product-by-value report allows management to evaluate possible strategies for each product. These may include increasing cash flow (e.g., increasing contribution by raising selling price or lowering cost), increasing market penetration (improving quality and/or reducing cost or price), or reducing costs (improving the production process). The report may also tell management which product offerings should be eliminated and which fail to justify further investment in research and development or capital equipment. Product-by-value analysis focuses attention on the strategic direction for each product. Generating New Products Because products die; because products must be weeded out and replaced; because firms generate most of their revenue and profit from new products—product selection, definition, and design take place on a continuing basis. Consider recent product changes: DVDs to video streaming, coffee shops to Starbucks lifestyle coffee, traveling circuses to Cirque du Soleil, landlines to cell phones, cell phone to smart phones, and an Internet of digital information to an Internet of “things” that connects you and your smart phone to your home, car, and doctor. And the list goes on. Knowing how to successfully find and develop new products is a requirement. M05_HEIZ0422_12_SE_C05.indd 165 Product-by-value analysis A list of products, in descending order of their individual dollar contribution to the firm, as well as the total annual dollar contribution of the product. STUDENT TIP Societies reward those who supply new products that reflect their needs. 20/11/15 2:56 PM 166 PA RT 2 | D ES I G N I N G O P ERATI ONS Aggressive new product development requires that organizations build structures internally that have open communication with customers, innovative product development cultures, aggressive R&D, strong leadership, formal incentives, and training. Only then can a firm profitably and energetically focus on specific opportunities such as the following: 1. Understanding the customer is the premier issue in new-product development. Many commercially important products are initially thought of and even prototyped by users rather than producers. Such products tend to be developed by “lead users”—companies, organizations, or individuals that are well ahead of market trends and have needs that go far beyond those of average users. The operations manager must be “tuned in” to the market and particularly these innovative lead users. 2. Economic change brings increasing levels of affluence in the long run but economic cycles and price changes in the short run. In the long run, for instance, more and more people can afford automobiles, but in the short run, a recession may weaken the demand for automobiles. 3. Sociological and demographic change may appear in such factors as decreasing family size. This trend alters the size preference for homes, apartments, and automobiles. 4. Technological change makes possible everything from smart phones to iPads to artificial hearts. 5. Political and legal change brings about new trade agreements, tariffs, and government requirements. 6. Other changes may be brought about through market practice, professional standards, suppliers, and distributors. Operations managers must be aware of these dynamics and be able to anticipate changes in product opportunities, the products themselves, product volume, and product mix. Product Development Product Development System LO 5.2 Describe a product development system Quality function deployment (QFD) A process for determining customer requirements (customer “wants”) and translating them into the attributes (the “hows”) that each functional area can understand and act on. House of quality A part of the quality function deployment process that utilizes a planning matrix to relate customer “wants” to “how” the firm is going to meet those “wants.” M05_HEIZ0422_12_SE_C05.indd 166 An effective product strategy links product decisions with other business functions, such as R&D, engineering, marketing, and finance. A firm requires cash for product development, an understanding of the marketplace, and the necessary human talents. The product development system may well determine not only product success but also the firm’s future. Figure 5.3 shows the stages of product development. In this system, product options go through a series of steps, each having its own screening and evaluation criteria, but providing a continuing flow of information to prior steps. Optimum product development depends not only on support from other parts of the firm but also on the successful integration of all 10 of the OM decisions, from product design to maintenance. Identifying products that appear likely to capture market share, be cost-effective, and be profitable but are, in fact, very difficult to produce may lead to failure rather than success. Quality Function Deployment (QFD) Quality function deployment (QFD) refers to both (1) determining what will satisfy the customer and (2) translating those customer desires into the target design. The idea is to capture a rich understanding of customer wants and to identify alternative process solutions. This information is then integrated into the evolving product design. QFD is used early in the design process to help determine what will satisfy the customer and where to deploy quality efforts. One of the tools of QFD is the house of quality, a graphic technique for defining the relationship between customer desires and product (or service). Only by defining this relationship in a rigorous way can managers design products and processes with features desired by customers. 20/11/15 2:56 PM CHAP T ER 5 | DESIGN OF GOODS AND SERVICES Figure Concept: Ideas from many sources 167 5.3 Product Development Stages Feasibility: Does firm have ability to carry out idea? Customer requirements to win orders Product concepts are developed from a variety of sources, both external and internal to the firm. Concepts that survive the product idea stage progress through various stages, with nearly constant review, feedback, and evaluation in a highly participative environment to minimize failure. Functional specifications: How the product will work Scope of product development team Product specifications and manufacturability: Scope How the product will be made for design and Design review: Are these product engineering specifications the best way to meet teams customer requirements? Test market: Does product meet customer expectations? Introduction to market: Training, promotion and channel decisions Evaluation: Success? Defining this relationship is the first step in building a world-class production system. To build the house of quality, we perform seven basic steps: 1. Identify customer wants. (What do customers want in this product?) 2. Identify how the good/service will satisfy customer wants. (Identify specific product characteristics, features, or attributes and show how they will satisfy customer wants.) 3. Relate customer wants to product hows. (Build a matrix, as in Example 1, that shows this relationship.) 4. Identify relationships between the firm’s hows. (How do our hows tie together? For instance, in the following example, there is a high relationship between low electricity requirements and auto focus, auto exposure, and number of pixels because they all require electricity. This relationship is shown in the “roof” of the house in Example 1.) 5. Develop importance ratings. (Using the customer’s importance ratings and weights for the relationships shown in the matrix, compute our importance ratings, as in Example 1.) 6. Evaluate competing products. (How well do competing products meet customer wants? Such an evaluation, as shown in the two columns on the right of the figure in Example 1, would be based on market research.) 7. Determine the desirable technical attributes, your performance, and the competitor’s performance against these attributes. (This is done at the bottom of the figure in Example 1.) M05_HEIZ0422_12_SE_C05.indd 167 LO 5.3 Build a house of quality 20/11/15 2:56 PM 168 PA RT 2 | D ES I G N I N G O P ERATI ONS The following series of overlays for Example 1 show how to construct a house of quality. Example 1 CONSTRUCTING A HOUSE OF QUALITY Great Cameras, Inc., wants a methodology that strengthens its ability to meet customer desires with its new digital camera. APPROACH c SOLUTION c 3, and 4. Use QFD’s house of quality. Build the house of quality for Great Cameras, Inc. We do so here using Overlays 1, 2, Quality Function Deployment’s (QFD) House of Quality Relationship between the things we can do Customer importance ratings (5 = highest) What the customer wants What we can do (how the organization is going to translate customer wants into product and process attributes and design targets) G = good F = fair P = poor Competitive assessment How well what we do meets the customer’s wants (relationship matrix) Weighted rating Target values (technical attributes) Technical evaluation M05_HEIZ0422_12_SE_C05.indd 168 20/11/15 2:56 PM CHAP T ER 5 | DESIGN OF GOODS AND SERVICES 169 QFD provides an analytical tool that structures design features and technical issues, as well as providing importance rankings and competitor comparison. INSIGHT c If the market research for another country indicates that “lightweight” has the most important customer ranking (5), and reliability a 3, what is the new total importance ranking for low electricity requirements, aluminum components, and ergonomic design? [Answer: 18, 15, 27, respectively.] LEARNING EXERCISE c RELATED PROBLEMS c 5.4, 5.5, 5.6, 5.7, 5.8 Another use of quality function deployment (QFD) is to show how the quality effort will be deployed. As Figure 5.4 shows, design characteristics of House 1 become the inputs to House 2, which are satisfied by specific components of the product. Similarly, the concept is carried to House 3, where the specific components are to be satisfied through particular production processes. Once those production processes are defined, they become requirements of House 4 to be satisfied by a quality plan that will ensure conformance of those processes. The quality plan is a set of specific tolerances, procedures, methods, and sampling techniques that will ensure that the production process meets the customer requirements. The QFD effort is devoted to meeting customer requirements. The sequence of houses is a very effective way of identifying, communicating, and deploying production resources. In this way we produce quality products, meet customer requirements, and win orders. Organizing for Product Development Let’s look at four approaches to organizing for product development. First, the traditional U.S. approach to product development is an organization with distinct departments: a research and development department to do the necessary research; an engineering department to design the product; a manufacturing engineering department to design a product that can be produced; and a production department that produces the product. The distinct advantage of this approach is that fixed duties and responsibilities exist. The distinct disadvantage is lack of forward thinking: How will downstream departments in the process deal with the concepts, ideas, and designs presented to them, and ultimately what will the customer think of the product? A second and popular approach is to assign a product manager to “champion” the product through the product development system and related organizations. However, a third, and perhaps the best, product development approach used in the U.S. seems to be the use of teams. Figure House 1 House 2 House 3 Production process Specific components Customer requirements Design characteristics Design characteristics Specific components Production process Quality plan House 4 5.4 House of Quality Sequence Indicates How to Deploy Resources to Achieve Customer Requirements M05_HEIZ0422_12_SE_C05.indd 169 20/11/15 2:56 PM 170 PA RT 2 | D ES I G N I N G O P ERATI ONS Product development teams Teams charged with moving from market requirements for a product to achieving product success. Concurrent engineering Simultaneous performance of the various stages of product development. Such teams are known variously as product development teams, design for manufacturability teams, and value engineering teams. The Japanese use a fourth approach. They bypass the team issue by not subdividing organizations into research and development, engineering, production, and so forth. Consistent with the Japanese style of group effort and teamwork, these activities are all in one organization. Japanese culture and management style are more collegial and the organization less structured than in most Western countries. Therefore, the Japanese find it unnecessary to have “teams” provide the necessary communication and coordination. However, the typical Western style, and the conventional wisdom, is to use teams. Product development teams are charged with the responsibility of moving from market requirements for a product to achieving a product success (refer to Figure 5.3 on page 167). Such teams often include representatives from marketing, manufacturing, purchasing, quality assurance, and field service personnel. Many teams also include representatives from vendors. Regardless of the formal nature of the product development effort, research suggests that success is more likely in an open, highly participative environment where those with potential contributions are allowed to make them. The objective of a product development team is to make the good or service a success. This includes marketability, manufacturability, and serviceability. Concurrent engineering implies speedier product development through simultaneous performance of the various stages of product development (as we saw earlier in Figure 5.3). Often the concept is expanded to include all elements of a product’s life cycle, from customer requirements to disposal and recycling. Concurrent engineering is facilitated by teams representing all affected areas (known as cross-functional teams). Manufacturability and Value Engineering Manufacturability and value engineering Activities that help improve a product’s design, production, maintainability, and use. Manufacturability and value engineering activities are concerned with improvement of design and specifications at the research, development, design, and preproduction stages of product development. In addition to immediate, obvious cost reduction, design for manufacturability and value engineering may produce other benefits. These include: 1. 2. 3. 4. 5. 6. 7. Reduced complexity of the product. Reduction of environmental impact. Additional standardization of components. Improvement of functional aspects of the product. Improved job design and job safety. Improved maintainability (serviceability) of the product. Robust design. Manufacturability and value engineering activities may be the best cost-avoidance technique available to operations management. They yield value improvement by focusing on achieving the functional specifications necessary to meet customer requirements in an optimal way. Value engineering programs typically reduce costs between 15% and 70% without reducing quality, with every dollar spent yielding $10 to $25 in savings. The cost reduction achieved for a specific bracket via value engineering is shown in Figure 5.5. Figure 5.5 Cost Reduction of a Bracket via Value Engineering STUDENT TIP Each time the bracket is redesigned and simplified, we are able to produce it for less. M05_HEIZ0422_12_SE_C05.indd 170 2 1 $3.50 3 $2.00 $.80 20/11/15 2:56 PM CHAP T ER 5 | DESIGN OF GOODS AND SERVICES 171 Issues for Product Design In addition to developing an effective system and organization structure for product development, several considerations are important to the design of a product. We will now review six of these: (1) robust design, (2) modular design, (3) computer-aided design/computeraided manufacturing (CAD/CAM), (4) virtual reality technology, (5) value analysis, and (6) sustainability/life cycle assessment (LCA). Robust Design Robust design means that the product is designed so that small variations in production or assembly do not adversely affect the product. For instance, Lucent developed an integrated circuit that could be used in many products to amplify voice signals. As originally designed, the circuit had to be manufactured very expensively to avoid variations in the strength of the signal. But after testing and analyzing the design, Lucent engineers realized that if the resistance of the circuit was reduced—a minor change with no associated costs—the circuit would be far less sensitive to manufacturing variations. The result was a 40% improvement in quality. Robust design A design that can be produced to requirements even with unfavorable conditions in the production process. Modular Design Products designed in easily segmented components are known as modular designs. Modular designs offer flexibility to both production and marketing. Operations managers find modularity helpful because it makes product development, production, and subsequent changes easier. Marketing may like modularity because it adds flexibility to the ways customers can be satisfied. For instance, virtually all premium high-fidelity sound systems are produced and sold this way. The customization provided by modularity allows customers to mix and match to their own taste. This is also the approach taken by Harley-Davidson, where relatively few different engines, chassis, gas tanks, and suspension systems are mixed to produce a huge variety of motorcycles. It has been estimated that many automobile manufacturers can, by mixing the available modules, never make two cars alike. This same concept of modularity is carried over to many industries, from airframe manufacturers to fast-food restaurants. Airbus uses the same wing modules on several planes, just as McDonald’s and Burger King use relatively few modules (cheese, lettuce, buns, sauces, pickles, meat patties, french fries, etc.) to make a variety of meals. Modular design A design in which parts or components of a product are subdivided into modules that are easily interchanged or replaced. Computer-Aided Design (CAD) and Computer-Aided Manufacturing (CAM) Computer-aided design (CAD) is the use of computers to interactively design products and prepare engineering documentation. CAD uses three-dimensional drawing to save time and money by shortening development cycles for virtually all products (see the 3-D design photo in the Regal Marine Global Company Profile that opens this chapter). The speed and ease with which sophisticated designs can be manipulated, analyzed, and modified with CAD makes review of numerous options possible before final commitments are made. Faster development, better products, and accurate flow of information to other departments all contribute to a tremendous payoff for CAD. The payoff is particularly significant because most product costs are determined at the design stage. One extension of CAD is design for manufacture and assembly (DFMA) software, which focuses on the effect of design on assembly. For instance, DFMA allows Ford to build new vehicles in a virtual factory where designers examine how to put a transmission in a car on the production line, even while both the transmission and the car are still in the design stage. CAD systems have moved to the Internet through e-commerce, where they link computerized design with purchasing, outsourcing, manufacturing, and long-term maintenance. This move also speeds up design efforts, as staff around the world can work on their unique work schedules. Rapid product change also supports the trend toward “mass customization” and, M05_HEIZ0422_12_SE_C05.indd 171 Computer-aided design (CAD) Interactive use of a computer to develop and document a product. Design for manufacture and assembly (DFMA) Software that allows designers to look at the effect of design on manufacturing of the product. 20/11/15 2:56 PM 172 PA RT 2 | D ES I G N I N G O P ERATI ONS Standard for the exchange of product data (STEP) A standard that provides a format allowing the electronic transmission of three-dimensional data. Computer-aided manufacturing (CAM) The use of information technology to control machinery. 3-D printing An extension of CAD that builds prototypes and small lots. Paul Drinkwater/NBC/NBCU Photo Bank/Getty Images For prototypes, spares, and in the case of Jay Leno’s classic car collection, difficult-toreplace parts, 3D printing is often the answer. By scanning the original part, creating a digital file, making the necessary modifications, and feeding that data into a 3D printer, Jay’s shop can make parts not otherwise available for his 1906 Stanley Steamer. when carried to an extreme, allows customers to enter a supplier’s design libraries and make changes. The result is faster and less expensive customized products. As product life cycles shorten, designs become more complex, and global collaboration has grown, the European Community (EU) has developed a standard for the exchange of product data (STEP; ISO 10303). STEP permits 3-D product information to be expressed in a standard format so it can be exchanged internationally. Computer-aided manufacturing (CAM) refers to the use of specialized computer programs to direct and control manufacturing equipment. When CAD information is translated into instructions for CAM, the result of these two technologies is CAD/CAM. The combination is a powerful tool for manufacturing efficiency. Fewer defective units are produced, translating into less rework and lower inventory. More precise scheduling also contributes to less inventory and more efficient use of personnel. A related extension of CAD is 3-D printing. This technology is particularly useful for prototype development and small lot production (as shown in the photo above). 3-D printing speeds development by avoiding a more lengthy and formal manufacturing process, as we see in the OM in Action box “3-D Printers Hit the Mainstream.” Virtual Reality Technology Virtual reality A visual form of communication in which images substitute for reality and typically allow the user to respond interactively. OM in Action Virtual reality is a visual form of communication in which images substitute for the real thing but still allow the user to respond interactively. The roots of virtual reality technology in operations are in CAD. Once design information is in a CAD system, it is also in electronic digital form for other uses, such as developing 3-D layouts of everything from retail stores and restaurant layouts to amusement parks. Procter & Gamble, for instance, builds walk-in virtual 3-D Printers Hit the Mainstream 3-D printers are revolutionizing the product design process. With instructions from 3-D CAD models, these printers “build” products by laying down successive thin layers of plastic, metal, glass, or ceramics. Indeed, for many firms, 3-D printers have become indispensable. The medical field uses the machines to make custom hearing aids. Invisalign Corp. produces individualized braces for teeth. Architects use the technology to produce models of buildings, and consumer electronics companies build prototypes of their latest gadgets. Microsoft uses 3-D printers to help design computer mouse devices and keyboards, while Mercedes, Honda, Boeing, and Lockheed Martin use them to fashion prototypes and to make parts that go into final products. Eventually, “a person who buys a BMW will want a part of the car with their name on it or to customize the seats to the M05_HEIZ0422_12_SE_C05.indd 172 contours of their bodies,” says 3-D Systems’s CEO. And currently 3-D printing at Hershey’s Chocolate World attraction means customers can order their likeness or wedding cake decoration in chocolate. The cost of 3-D printing continues to drop. Now anyone can buy a 3-D printer, hook it up to a Wi-Fi network, and begin downloading files that will turn into real objects. Another beauty and value of 3-D printing is that it has the power to unleash a world of creative energy: People who previously only thought about an invention or improved product can now quickly make it real. Sources: Advertising Age (January 28, 2015); BusinessWeek (April 30, 2012); and The Wall Street Journal (July 16, 2011). 20/11/15 2:56 PM CHAP T ER 5 | DESIGN OF GOODS AND SERVICES 173 stores to rapidly generate and test ideas. Changes to mechanical design, layouts, and even amusement park rides are much less expensive at the design stage than they are later. Value Analysis Although value engineering (discussed on page 170) focuses on preproduction design and manufacturing issues, value analysis, a related technique, takes place during the production process, when it is clear that a new product is a success. Value analysis seeks improvements that lead to either a better product, or a product made more economically, or a product with less environmental impact. The techniques and advantages for value analysis are the same as for value engineering, although minor changes in implementation may be necessary because value analysis is taking place while the product is being produced. Value analysis A review of successful products that takes place during the production process. Sustainability and Life Cycle Assessment (LCA) Product design requires that managers evaluate product options. Addressing sustainability and life cycle assessment (LCA) are two ways of doing this. Sustainability means meeting the needs of the present without compromising the ability of future generations to meet their needs. An LCA is a formal evaluation of the environmental impact of a product. Both sustainability and LCA are discussed in depth in the supplement to this chapter. Product Development Continuum As product life cycles shorten, the need for faster product development increases. And as technological sophistication of new products increases, so do the expense and risk. For instance, drug firms invest an average of 12 to 15 years and $1 billion before receiving regulatory approval for a new drug. And even then, only 1 of 5 will actually be a success. Those operations managers who master this art of product development continually gain on slower product developers. To the swift goes the competitive advantage. This concept is called time-based competition. Often, the first company into production may have its product adopted for use in a variety of applications that will generate sales for years. It may become the “standard.” Consequently, there is often more concern with getting the product to market than with optimum product design or process efficiency. Even so, rapid introduction to the market may be good management because until competition begins to introduce copies or improved versions, the product can sometimes be priced high enough to justify somewhat inefficient production design and methods. Because time-based competition is so important, instead of developing new products from scratch (which has been the focus thus far in this chapter), a number of other strategies can be used. Figure 5.6 shows a continuum that goes from new, internally developed products (on the lower left) to “alliances.” Enhancements and migrations use the organization’s existing product strengths for innovation and therefore are typically faster while at the same time being less risky than developing entirely new products. Enhancements may be changes in color, size, weight, taste, or features, such as are taking place in fast-food menu items (see the OM in Action box “Product Development at Taco Bell” on the next page), or even changes in commercial aircraft. Boeing’s enhancements of the 737 since its introduction in 1967 has made the 737 the largest-selling commercial aircraft in history. Boeing also uses its engineering prowess in air frames to migrate from one model to the next. This allows Boeing to speed development while reducing both cost and risk for new designs. This approach is also referred to as building on product platforms. Similarly, Volkswagen is using a versatile automobile platform (the MQB chassis) for small to midsize frontwheel-drive cars. This includes VW’s Polo, Golf, Passat, Tiguan, and Skoda Octavia, and it may eventually include 44 different vehicles. The advantages are downward pressure on cost as well as faster development. Hewlett-Packard has done the same in the printer business. Enhancements and platform migrations are a way of building on existing expertise, speeding product development, and extending a product’s life cycle. The product development strategies on the lower left of Figure 5.6 are internal development strategies, while the three approaches we now introduce can be thought of as external M05_HEIZ0422_12_SE_C05.indd 173 STUDENT TIP Fast communication, rapid technological change, and short product life cycles push product development. Time-based competition Competition based on time; rapidly developing products and moving them to market. LO 5.4 Explain how time-based competition is implemented by OM 20/11/15 2:56 PM 174 PA RT 2 | D ES I G N I N G O P ERATI ONS Figure 5.6 Product Development Continuum Product Development Continuum External development strategies Alliances Joint ventures Purchase technology or expertise by acquiring the developer STUDENT TIP Managers seek a variety of approaches to obtain speed to market. As the president of one U.S. firm said: “If I miss one product cycle, I’m dead.” Internal development strategies Migrations of existing products Enhancements to existing products New internally developed products Internal Lengthy High Cost of product development Speed of product development Risk of product development Shared Rapid and/or Existing Shared development strategies. Firms use both. The external strategies are (1) purchase the technology, (2) establish joint ventures, and (3) develop alliances. Purchasing Technology by Acquiring a Firm Microsoft and Cisco Systems are examples of companies on the cutting edge of technology that often speed development by acquiring entrepreneurial firms that have already developed the technology that fits their mission. The issue then becomes fitting the purchased organization, its technology, its product lines, and its culture into the buying firm, rather than a product development issue. Firms establishing joint ownership to pursue new products or markets. OM in Action Joint Ventures In an effort to reduce the weight of new cars, GM is in a joint venture with Tokyo-based Teijin Ltd. to bring lightweight carbon fiber to GM’s customers. Joint ventures such as this are Product Development at Taco Bell Chains such as Chipotle, Carl’s Jr., and In-N-Out Burger may rely on a stable menu of popular items, but Taco Bell creates a constant rotation of products in hopes of not only keeping consumers coming back, but also uncovering the next big seller. Taco Bell seeks to be the leader in fast-food innovation and believes there is no finish line when it comes to being first and staying relevant. Breakfast is the fastest-growing part of the fast-food market—with dinner sales declining and lunch sales flat. Moreover, breakfast items tend to have good margins, making the crafting of breakfast hits, such as Taco Bell’s new A.M. Crunchwrap and Waffle Taco, lucrative additions. In search of ideas, the product developers mine social media, consider new ingredients, and track rivals. Some Fridays, the team does what they’ve dubbed a “grocery store hustle” to see what’s new in retail. But the basic pillars of anything they develop remain taste, value, and speed—all of which must be attainable within the constraints and operations capability of the Taco Bell kitchen. The less a restaurant has to change its kitchen operations, ingredients, or equipment, the better. Taco Bell’s 40-person product innovation team looks at 4,000 to 4,500 ideas every year. From there developers come up with 300 to 500 prototypes, which M05_HEIZ0422_12_SE_C05.indd 174 they then test on consumers in the lab and in test restaurants. From this huge array, Taco Bell selects dozens of items in various permutations for further review. Usually, only 8 to 10 of the new product ideas make the Taco Bell menu. The typical product goes through about 100 iterations by the time it is launched. The Waffle Taco, for instance, was changed 80 times through various characteristics such as shape, weight, thickness, intensity of vanilla flavor in the shell, and fillings. Jonathan Leibson/Getty Images Joint ventures Taco Bell’s New Waffle Taco Sources: BusinessWeek (June 2–9, 2014); The Wall Street Journal (Dec. 4, 2014); www.grubgrade.com; investorplace.com/2014/03. 20/11/15 2:56 PM CHAP T ER 5 | DESIGN OF GOODS AND SERVICES 175 combined ownership, usually between just two firms, to form a new entity. Ownership can be 50–50, or one owner can assume a larger portion to ensure tighter control. Joint ventures are often appropriate for exploiting specific product opportunities that may not be central to the firm’s mission. Such ventures are more likely to work when the risks are known and can be equitably shared. Alliances When new products are central to the mission, but substantial resources are required and sizable risk is present, then alliances may be a good strategy for product development. Alliances are cooperative agreements that allow firms to remain independent but use complementing strengths to pursue strategies consistent with their individual missions. Alliances are particularly beneficial when the products to be developed also have technologies that are in ferment. For example, Microsoft is pursuing alliances with a variety of companies to deal with the convergence of computing, the Internet, and television broadcasting. Alliances in this case are appropriate because the technological unknowns, capital demands, and risks are significant. Similarly, three firms, Mercedes-Benz, Ford Motor, and Ballard Power Systems, have formed an alliance to develop “green” cars powered by fuel cells. Alliances are much more difficult to achieve and maintain than joint ventures because of the ambiguities associated with them. It may be helpful to think of an alliance as an incomplete contract between the firms. The firms remain separate. Enhancements, migration, acquisitions, joint ventures, and alliances are all strategies for speeding product development. Moreover, they typically reduce the risk associated with product development while enhancing the human and capital resources available. Defining a Product Once new goods or services are selected for introduction, they must be defined. First, a good or service is defined in terms of its functions—that is, what it is to do. The product is then designed, and the firm determines how the functions are to be achieved. Management typically has a variety of options as to how a product should achieve its functional purpose. For instance, when an alarm clock is produced, aspects of design such as the color, size, or location of buttons may make substantial differences in ease of manufacture, quality, and market acceptance. Rigorous specifications of a product are necessary to ensure efficient production. Equipment, layout, and human resources cannot be determined until the product is defined, designed, and documented. Therefore, every organization needs documents to define its products. This is true of everything from meat patties, to cheese, to computers, to a medical procedure. In the case of cheese, a written specification is typical. Indeed, written specifications or standard grades exist and provide the definition for many products. For instance, Monterey Jack cheese has a written description that specifies the characteristics necessary for each Department of Agriculture grade. A portion of the Department of Agriculture grade for Monterey Jack Grade AA is shown in Figure 5.7. Similarly, McDonald’s Corp. has 60 specifications for potatoes that are to be made into french fries. Most manufactured items, as well as their components, are defined by a drawing, usually referred to as an engineering drawing. An engineering drawing shows the dimensions, tolerances, materials, and finishes of a component. The engineering drawing will be an item on a bill of material. An engineering drawing is shown in Figure 5.8. The bill of material (BOM) lists the hierarchy of components, their description, and the quantity of each required to make one unit of a product. A bill of material for a manufactured item is shown in Figure 5.9(a). Note that subassemblies and components (lower-level items) are indented at each level to indicate their subordinate position. An engineering drawing shows how to make one item on the bill of material. M05_HEIZ0422_12_SE_C05.indd 175 Alliances Cooperative agreements that allow firms to remain independent, but pursue strategies consistent with their individual missions. STUDENT TIP Before anything can be produced, a product’s functions and attributes must be defined. LO 5.5 Describe how products and services are defined by OM Engineering drawing A drawing that shows the dimensions, tolerances, materials, and finishes of a component. Bill of material (BOM) A list of the hierarchy of components, their description, and the quantity of each required to make one unit of a product. 20/11/15 2:56 PM 176 PA RT 2 | D ES I G N I N G O P ERATI ONS 5.7 § 58.2469 Specifications for U.S. grades of Monterey (Monterey Jack) cheese Monterey Jack A portion of the general requirements for the U.S. grades of Monterey Jack cheese is shown here. Source: Based on 58.2469 Specifications for U.S. grades of Monterey (Monterey Jack) cheese, (May 10, 1996). (a) U.S. grade AA. Monterey Cheese shall conform to the following requirements: sound, firm, and smooth, providing a good protection to the cheese. (1) Flavor. Is fine and highly pleasing, free from undesirable flavors and odors. May possess a very slight acid or feed flavor. Code of Federal Regulation, Parts 53 to 109, General Service Administration. (2) Body and texture. A plug drawn from the cheese shall be reasonably firm. It shall have numerous small mechanical openings evenly distributed throughout the plug. It shall not possess sweet holes, yeast holes, or other gas holes. David Murray/Dorling Kindersley, Ltd. Figure (3) Color. Shall have a natural, uniform, bright, attractive appearance. (4) Finish and appearance —bandaged and paraffin-dipped. The rind shall be In the food-service industry, bills of material manifest themselves in portion-control standards. The portion-control standard for Hard Rock Cafe’s hickory BBQ bacon cheeseburger is shown in Figure 5.9(b). In a more complex product, a bill of material is referenced on other bills of material of which they are a part. In this manner, subunits (subassemblies) are part of the next higher unit (their parent bill of material) that ultimately makes a final product. In addition to being defined by written specifications, portion-control documents, or bills of material, products can be defined in other ways. For example, products such as chemicals, paints, and petroleums may be defined by formulas or proportions that describe how they are to be made. Movies are defined by scripts, and insurance coverage by legal documents known as policies. Make-or-Buy Decisions Make-or-buy decision The choice between producing a component or a service and purchasing it from an outside source. 5.8 .250 FINE KNURL .050 .055 REVISIONS By Date 1/64 R X .010 DP. AFTER KNURL Tolerance Unless Specified: 1 — Fractional: + – 64 Decimal: + – .005 Material Heat Treat Finish .624 .625 Engineering Drawings Such as This One Show Dimensions, Tolerances, Materials, and Finishes No. .375 Figure For many components of products, firms have the option of producing the components themselves or purchasing them from outside sources. Choosing between these options is known as the make-or-buy decision. The make-or-buy decision distinguishes between what the firm wants to produce and what it wants to purchase. Because of variations in quality, cost, and delivery schedules, the make-or-buy decision is critical to product definition. Many items can be purchased as a “standard item” produced by someone else. Examples are the standard bolts listed twice on the bill of material shown in Figure 5.9(a), for which there will be SAE (Society A2 58-60 RC DRIVE ROLLER .250 DIA. THRU .251 .093 5-40 TAP THRU AUX. VIEW MARK PART NO. M05_HEIZ0422_12_SE_C05.indd 176 Scale: Checked: Drawn: D. PHILLIPS Date: ABryce D. Jewett Machine Mfg. Co., Inc. 20/11/15 2:56 PM CHAP T ER 5 (a) Bill of Material for a Panel Weldment NUMBER A 60-71 (b) DESCRIPTION QTY 1 PANEL WELDM’T A 60-7 R 60-17 R 60-428 P 60-2 LOWER ROLLER ASSM. ROLLER PIN LOCKNUT 1 1 1 1 A 60-72 R 60-57-1 A 60-4 02-50-1150 GUIDE ASSM. REAR SUPPORT ANGLE ROLLER ASSEM. BOLT 1 1 1 1 A 60-73 A 60-74 R 60-99 02-50-1150 GUIDE ASSM. FRONT SUPPORT WELDM’T WEAR PLATE BOLT 1 1 1 1 | DESIGN OF GOODS AND SERVICES Hard Rock Cafe’s Hickory BBQ Bacon Cheeseburger DESCRIPTION Bun Hamburger patty Cheddar cheese Bacon BBQ onions Hickory BBQ sauce Burger set Lettuce Tomato Red onion Pickle French fries Seasoned salt 11- inch plate HRC flag QTY 1 8 oz. 2 slices 2 strips 1/2 cup 1 oz. 1 leaf 1 slice 4 rings 1 slice 5 oz. 1 tsp. 1 1 Figure 177 5.9 Bills of Material Take Different Forms in a (a) Manufacturing Plant and (b) Restaurant, but in Both Cases, the Product Must Be Defined STUDENT TIP Hard Rock’s recipe here serves the same purpose as a bill of material in a factory: It defines the product for production. of Automotive Engineers) specifications. Therefore, there typically is no need for the firm to duplicate this specification in another document. Group Technology Engineering drawings may also include codes to facilitate group technology. Group technology identifies components by a coding scheme that specifies size, shape, and the type of processing (such as drilling). This facilitates standardization of materials, components, and processes as well as the identification of families of parts. As families of parts are identified, activities and machines can be grouped to minimize setups, routings, and material handling. An example of how families of parts may be grouped is shown in Figure 5.10. Group technology provides a systematic way to review a family of components to see if an existing component might suffice on a new project. Using existing or standard components eliminates all the costs connected with the design and development of the new part, which is a major cost reduction. (b) Grouped Cylindrical Parts (families of parts) (a) Ungrouped Parts Grooved M05_HEIZ0422_12_SE_C05.indd 177 Slotted Threaded Drilled Machined Group technology A product and component coding system that specifies the size, shape, and type of processing; it allows similar products to be grouped. Figure 5.10 A Variety of Group Technology Coding Schemes Move Manufactured Components from (a) Ungrouped to (b) Grouped (families of parts) 20/11/15 2:56 PM 178 PA RT 2 | D ES I G N I N G O P ERATI ONS STUDENT TIP Production personnel need clear, specific documents to help them make the product. Assembly drawing An exploded view of the product. Assembly chart A graphic means of identifying how components flow into subassemblies and final products. Route sheet A listing of the operations necessary to produce a component with the material specified in the bill of material. Work order An instruction to make a given quantity of a particular item. Engineering change notice (ECN) A correction or modification of an engineering drawing or bill of material. Configuration management A system by which a product’s planned and changing components are accurately identified. Product life-cycle management (PLM) Software programs that tie together many phases of product design and manufacture. Figure Documents for Production Once a product is selected, designed, and ready for production, production is assisted by a variety of documents. We will briefly review some of these. An assembly drawing simply shows an exploded view of the product. An assembly drawing is usually a three-dimensional drawing, known as an isometric drawing; the relative locations of components are drawn in relation to each other to show how to assemble the unit [see Figure 5.11(a)]. The assembly chart shows in schematic form how a product is assembled. Manufactured components, purchased components, or a combination of both may be shown on an assembly chart. The assembly chart identifies the point of production at which components flow into subassemblies and ultimately into a final product. An example of an assembly chart is shown in Figure 5.11(b). The route sheet lists the operations necessary to produce the component with the material specified in the bill of material. The route sheet for an item will have one entry for each operation to be performed on the item. When route sheets include specific methods of operation and labor standards, they are often known as process sheets. The work order is an instruction to make a given quantity of a particular item, usually to a given schedule. The ticket that a waiter writes in your favorite restaurant is a work order. In a hospital or factory, the work order is a more formal document that provides authorization to draw items from inventory, to perform various functions, and to assign personnel to perform those functions. Engineering change notices (ECNs) change some aspect of the product’s definition or documentation, such as an engineering drawing or a bill of material. For a complex product that has a long manufacturing cycle, such as a Boeing 777, the changes may be so numerous that no two 777s are built exactly alike—which is indeed the case. Such dynamic design change has fostered the development of a discipline known as configuration management, which is concerned with product identification, control, and documentation. Configuration management is the system by which a product’s planned and changing configurations are accurately identified and for which control and accountability of change are maintained. Product Life-Cycle Management (PLM) Product life-cycle management (PLM) is an umbrella of software programs that attempts to bring together phases of product design and manufacture—including tying together many of 5.11 (b) Assembly Chart (a) Assembly Drawing Assembly Drawing and Assembly Chart 1 2 Source: Assembly drawing and assembly chart produced by author. 3 11/2" * 3/8" Hex head bolt R 207 4 5 R 209 6 3/8" Lock washer 31/2"* 3/8" Hex head bolt 3/8" Hex nut R 404 3/8" Hex nut 7 8 9 10 R 207 11 M05_HEIZ0422_12_SE_C05.indd 178 R 209 Angle R 207 Angle Bolts w/nuts (2) Left SA bracket A1 1 assembly R 209 Angle R 207 Angle Bolts w/nuts (2) Right SA bracket A2 2 assembly Bolt w/nut R 404 Roller A3 Lock washer Part number tag Box w/packing material Poka-yoke inspection A4 A5 20/11/15 2:56 PM CHAP T ER 5 | DESIGN OF GOODS AND SERVICES 179 J.R. Simplot Company J.R. Simplot Company Each year the JR Simplot potato-processing facility in Caldwell, Idaho, produces billions of french fries for quickservice restaurant chains and many other customers, both domestically and overseas (left photo). Sixty specifications (including a special blend of frying oil, a unique steaming process, and exact time and temperature for prefrying and drying) define how these potatoes become french fries. Further, 40% of all french fries must be 2 to 3 inches long, 40% must be over 3 inches long, and a few stubby ones constitute the final 20%. Quality control personnel use a micrometer to measure the fries (right photo). the techniques discussed in the prior two sections, Defining a Product and Documents for Production. The idea behind PLM software is that product design and manufacture decisions can be performed more creatively, faster, and more economically when the data are integrated and consistent. Although there is not one standard, PLM products often start with product design (CAD/ CAM); move on to design for manufacture and assembly (DFMA); and then into product routing, materials, layout, assembly, maintenance, and even environmental issues. Integration of these tasks makes sense because many of these decision areas require overlapping pieces of data. PLM software is now a tool of many large organizations, including Lockheed Martin, GE, Procter & Gamble, Toyota, and Boeing. Boeing estimates that PLM will cut final assembly of its 787 jet from 2 weeks to 3 days. PLM is now finding its way into medium and small manufacture as well. Shorter life cycles, more technologically challenging products, more regulations regarding materials and manufacturing processes, and more environmental issues all make PLM an appealing tool for operations managers. Major vendors of PLM software include SAP PLM (www.mySAP.com), Parametric Technology Corp. (www.ptc.com), Siemens (www.plm .automation.siemens.com), and Proplanner (www.proplanner.com). Service Design LO 5.6 Describe the documents needed for production STUDENT TIP Services also need to be defined and documented. Much of our discussion so far has focused on what we can call tangible products—that is, goods. On the other side of the product coin are, of course, services. Service industries include banking, finance, insurance, transportation, and communications. The products offered by service firms range from a medical procedure that leaves only the tiniest scar after an appendectomy, to a shampoo and cut at a hair salon, to a great sandwich. Designing services is challenging because they have a unique characteristic—customer interaction. Process–Chain–Network (PCN) Analysis Process–chain–network (PCN) analysis , developed by Professor Scott Sampson, focuses on the ways in which processes can be designed to optimize interaction between firms and M05_HEIZ0422_12_SE_C05.indd 179 Process–chain–network (PCN) analysis Analysis that focuses on the ways in which processes can be designed to optimize interaction between firms and their customers. 20/11/15 2:56 PM 180 PA RT 2 | D ES I G N I N G O P ERATI ONS Assemble sandwich Sandwich consumer Consumer’s process domain Supplier’s process domain Make sandwich in restaurant kitchen from menu offerings with modest modifications Peter Titmuss/Alamy Figure Assemble custom sandwich at Subway as customer orders photosbyehlers/Fotolia Prepare sandwiches at factory for resale at convenience stores Direct Direct interaction interaction Monkey Business Images/Shutterstock Surrogate interaction REDA &CO srl/Alamy Independent processing Surrogate interaction Independent processing Customer assembles sandwich from buffet offerings Assemble sandwich at home using ingredients from refrigerator Zurijeta/Shutterstock Sandwich supplier 5.12 Customer Interaction Is a Strategic Choice Process chain A sequence of steps that accomplishes an identifiable purpose (of providing value to process participants). their customers.2 A process chain is a sequence of steps that accomplishes an activity, such as building a home, completing a tax return, or preparing a sandwich. A process participant can be a manufacturer, a service provider, or a customer. A network is a set of participants. Each participant has a process domain that includes the set of activities over which it has control. The domain and interactions between two participants for sandwich preparation are shown in the PCN diagram (Figure 5.12). The activities are organized into three process regions for each participant: 1. The direct interaction region includes process steps that involve interaction between participants. For example, a sandwich buyer directly interacts with employees of a sandwich store (e.g., Subway, in the middle of Figure 5.12). 2. The surrogate (substitute) interaction region includes process steps in which one participant is acting on another participant’s resources, such as their information, materials, or technologies. This occurs when the sandwich supplier is making sandwiches in the restaurant kitchen (left side of Figure 5.12) or, alternately, when the customer has access to buffet ingredients and assembles the sandwich himself (right side of the figure). Under surrogate interaction, direct interaction is limited. 3. The independent processing region includes steps in which the sandwich supplier and/or the sandwich customer is acting on resources where each has maximum control. Most make-to-stock production fits in this region (left side of Figure 5.12; think of the firm that assembles all those prepackaged sandwiches available in vending machines and convenience stores). Similarly, those sandwiches built at home occur to the right, in the customer’s independent processing domain. LO 5.7 Explain how the customer participates in the design and delivery of services M05_HEIZ0422_12_SE_C05.indd 180 All three process regions have similar operating issues—quality control, facility location and layout, job design, inventory, and so on—but the appropriate way of handling the issues differs across regions. Service operations exist only within the area of direct and surrogate interaction. From the operations manager’s perspective, the valuable aspect of PCN analysis is insight to aid in positioning and designing processes that can achieve strategic objectives. A firm’s operations are strategic in that they can define what type of business the firm is in and what value proposition it desires to provide to customers. For example, a firm may assume a low-cost strategy, operating on the left of Figure 5.12 as a manufacturer of premade sandwiches. Other firms (e.g., Subway) adopt a differentiation strategy with high customer interaction. Each of the process regions depicts a unique operational strategy. 20/11/15 2:56 PM CHAP T ER 5 | DESIGN OF GOODS AND SERVICES 181 Firms wanting to achieve high economies of scale or more control in their operations should probably position toward the independent processing region of their process domain. Firms intending to provide a value offering that focuses on customization should be positioned more toward the consumer’s process domain. PCN analysis can be applied in a wide variety of business settings. Adding Service Efficiency Service productivity is notoriously low, in part because of customer involvement in the design or delivery of the service, or both. This complicates the product design challenge. We will now discuss a number of ways to increase service efficiency and, among these, several ways to limit this interaction. Because customers may participate in the design of the service (e.g., for a funeral or a hairstyle), design specifications may take the form of everything from a menu (in a restaurant), to a list of options (for a funeral), to a verbal description (a hairstyle). However, by providing a list of options (in the case of the funeral) or a series of photographs (in the case of the hairstyle), ambiguity may be reduced. An early resolution of the product’s definition can aid efficiency as well as aid in meeting customer expectations. Limit the Options Delay Customization Design the product so that customization is delayed as late in the process as possible. This is the way a hair salon operates. Although shampoo and condition are done in a standard way with lower-cost labor, the color and styling (customizing) are done last. It is also the way most restaurants operate: How would you like that cooked? Which dressing would you prefer with your salad? Modularize the service so that customization takes the form of changing modules. This strategy allows for “custom” services to be designed as standard modular entities. Just as modular design allows you to buy a high-fidelity sound system with just the features you want, modular flexibility also lets you buy meals, clothes, and insurance on a mixand-match (modular) basis. Investments (portfolios of stocks and bonds) and education (college curricula) are examples of how the modular approach can be used to customize a service. Modularization Divide the service into small parts, and identify those parts that lend themselves to automation. For instance, by isolating check-cashing activity via ATM, banks have been very effective at designing a product that both increases customer service and reduces costs. Similarly, airlines have moved to ticketless service via kiosks. A technique such as kiosks reduces both costs and lines at airports—thereby increasing customer satisfaction—and providing a win–win “product” design. Automation Moment of Truth High customer interaction means that in the service industry there is a moment of truth when the relationship between the provider and the customer is crucial. At that moment, the customer’s satisfaction with the service is defined. The moment of truth is the moment that exemplifies, enhances, or detracts from the customer’s expectations. That moment may be as simple as a smile from a Starbucks barista or having the checkout clerk focus on you rather than talking over his shoulder to the clerk at the next counter. Moments of truth can occur when you order at McDonald’s, get a haircut, or register for college courses. The operations manager’s task is to identify moments of truth and design operations that meet or exceed the customer’s expectations. Documents for Services Because of the high customer interaction of most services, the documents for moving the product to production often take the form of explicit job instructions or script. For instance, regardless of how good a bank’s products may be in terms of checking, savings, trusts, loans, mortgages, and so forth, if the interaction between participants is not done well, the product may be poorly received. Example 2 shows the kind of documentation a bank may use to move M05_HEIZ0422_12_SE_C05.indd 181 20/11/15 2:56 PM 182 PA RT 2 | D ES I G N I N G O P ERATI ONS a product (drive-up window banking) to “production.” Similarly, a telemarketing service has the product design communicated to production personnel in the form of a telephone script, while a manuscript is used for books, and a storyboard is used for movie and TV production. Example 2 SERVICE DOCUMENTATION FOR PRODUCTION First Bank Corp. wants to ensure effective delivery of service to its drive-up customers. APPROACH c Develop a “production” document for the tellers at the drive-up window that provides the information necessary to do an effective job. SOLUTION c Documentation for Tellers at Drive-up Windows Customers who use the drive-up teller windows rather than walk-in lobbies require a different customer relations technique. The distance and machinery between the teller and the customer raises communication barriers. Guidelines to ensure good customer relations at the drive-up window are: Be especially discreet when talking to the customer through the microphone. Provide written instructions for customers who must fill out forms you provide. ◆ Mark lines to be completed or attach a note with instructions. ◆ Always say “please” and “thank you” when speaking through the microphone. ◆ Establish eye contact with the customer if the distance allows it. ◆ If a transaction requires that the customer park the car and come into the lobby, apologize for the inconvenience. ◆ ◆ Source: Adapted with permission from Teller Operations (Chicago, IL: The Institute of Financial Education, 1999): 32. By providing documentation in the form of a script/guideline for tellers, the likelihood of effective communication and a good product/service is improved. INSIGHT c Modify the guidelines above to show how they would be different for a drive-through restaurant. [Answer: Written instructions, marking lines to be completed, or coming into the store are seldom necessary, but techniques for making change and proper transfer of the order should be included.] LEARNING EXERCISE c RELATED PROBLEM c 5.11 Application of Decision Trees to Product Design STUDENT TIP A decision tree is a great tool for thinking through a problem. LO 5.8 Apply decision trees to product issues Decision trees can other management ful when there are decisions followed procedure: be used for new-product decisions as well as for a wide variety of problems when uncertainty is present. They are particularly helpa series of decisions and various outcomes that lead to subsequent by other outcomes. To form a decision tree, we use the following 1. Be sure that all possible alternatives and states of nature (beginning on the left and moving right) are included in the tree. This includes an alternative of “doing nothing.” 2. Payoffs are entered at the end of the appropriate branch. This is the place to develop the payoff of achieving this branch. 3. The objective is to determine the expected monetary value (EMV) of each course of action. We accomplish this by starting at the end of the tree (the right-hand side) and working toward the beginning of the tree (the left), calculating values at each step and “pruning” alternatives that are not as good as others from the same node. Example 3 shows the use of a decision tree applied to product design. M05_HEIZ0422_12_SE_C05.indd 182 20/11/15 2:56 PM CHAP T ER 5 Example 3 | DESIGN OF GOODS AND SERVICES 183 DECISION TREE APPLIED TO PRODUCT DESIGN Silicon, Inc., a semiconductor manufacturer, is investigating the possibility of producing and marketing a microprocessor. Undertaking this project will require either purchasing a sophisticated CAD system or hiring and training several additional engineers. The market for the product could be either favorable or unfavorable. Silicon, Inc., of course, has the option of not developing the new product at all. With favorable acceptance by the market, sales would be 25,000 processors selling for $100 each. With unfavorable acceptance, sales would be only 8,000 processors selling for $100 each. The cost of CAD equipment is $500,000, but that of hiring and training three new engineers is only $375,000. However, manufacturing costs should drop from $50 each when manufacturing without CAD to $40 each when manufacturing with CAD. The probability of favorable acceptance of the new microprocessor is .40; the probability of unfavorable acceptance is .60. Use of a decision tree seems appropriate as Silicon, Inc., has the basic ingredients: a choice of decisions, probabilities, and payoffs. APPROACH c SOLUTION c In Figure 5.13 we draw a decision tree with a branch for each of the three decisions, assign the respective probabilities and payoff for each branch, and then compute the respective EMVs. The expected monetary values (EMVs) have been circled at each step of the decision tree. For the top branch: EMV (Purchase CAD system) = (.4)(+1,000,000) + (.6)(9+20,000) = +388,000 This figure represents the results that will occur if Silicon, Inc., purchases CAD. The expected value of hiring and training engineers is the second series of branches: EMV (Hire>train engineers) = (.4)($875,000) + (.6)($25,000) = $365,000 Figure 5.13 Decision Tree for Development of a New Product Purchase CAD $388,000 (.4) High sales (.6) Low sales $2,500,000 –1,000,000 – 500,000 ––––––––– $1,000,000 $800,000 –320,000 –500,000 ––––––– –$20,000 Revenue Mfg. cost ($40 * 25,000) CAD cost Net Revenue Mfg. cost ($40 * 8,000) CAD cost Net loss Hire and train engineers $365,000 (.4) High sales (.6) Low sales STUDENT TIP The manager’s options are to purchase CAD, hire/train engineers, or do nothing. Purchasing CAD has the highest EMV. M05_HEIZ0422_12_SE_C05.indd 183 $2,500,000 –1,250,000 – 375,000 ––––––––– $875,000 $800,000 –400,000 –375,000 ––––––– $25,000 Revenue Mfg. cost ($50 * 25,000) Hire and train cost Net Revenue Mfg. cost ($50 * 8,000) Hire and train cost Net Do nothing $0 $0 Net 20/11/15 2:56 PM 184 PA RT 2 | D ES I G N I N G O P ERATI ONS The EMV of doing nothing is $0. Because the top branch has the highest expected monetary value (an EMV of $388,000 vs. $365,000 vs. $0), it represents the best decision. Management should purchase the CAD system. Use of the decision tree provides both objectivity and structure to our analysis of the Silicon, Inc., decision. INSIGHT c LEARNING EXERCISE c If Silicon, Inc., thinks the probabilities of high sales and low sales may be equal, at .5 each, what is the best decision? [Answer: Purchase CAD remains the best decision, but with an EMV of $490,000.] RELATED PROBLEMS c 5.21–5.27 (5.28 is available in MyOMLab) ACTIVE MODEL 5.1 This example is further illustrated in Active Model 5.1 in MyOMLab. STUDENT TIP One of the arts of management is knowing when a product should move from development to production. Transition to Production Eventually, a product, whether a good or service, has been selected, designed, and defined. It has progressed from an idea to a functional definition, and then perhaps to a design. Now, management must make a decision as to further development and production or termination of the product idea. One of the arts of management is knowing when to move a product from development to production; this move is known as transition to production. The product development staff is always interested in making improvements in a product. Because this staff tends to see product development as evolutionary, they may never have a completed product, but as we noted earlier, the cost of late product introduction is high. Although these conflicting pressures exist, management must make a decision—more development or production. Once this decision is made, there is usually a period of trial production to ensure that the design is indeed producible. This is the manufacturability test. This trial also gives the operations staff the opportunity to develop proper tooling, quality control procedures, and training of personnel to ensure that production can be initiated successfully. Finally, when the product is deemed both marketable and producible, line management will assume responsibility. To ensure that the transition from development to production is successful, some companies appoint a project manager; others use product development teams. Both approaches allow a wide range of resources and talents to be brought to bear to ensure satisfactory production of a product that is still in flux. A third approach is integration of the product development and manufacturing organizations. This approach allows for easy shifting of resources between the two organizations as needs change. The operations manager’s job is to make the transition from R&D to production seamless. Summary Effective product strategy requires selecting, designing, and defining a product and then transitioning that product to production. Only when this strategy is carried out effectively can the production function contribute its maximum to the organization. The operations manager must build a product development system that has the ability to conceive, design, and produce products that will yield a competitive advantage for the firm. As products move through their life cycle (introduction, growth, maturity, and decline), the options that the operations manager should pursue change. M05_HEIZ0422_12_SE_C05.indd 184 Both manufactured and service products have a variety of techniques available to aid in performing this activity efficiently. Written specifications, bills of material, and engineering drawings aid in defining products. Similarly, assembly drawings, assembly charts, route sheets, and work orders are often used to assist in the actual production of the product. Once a product is in production, value analysis is appropriate to ensure maximum product value. Engineering change notices and configuration management provide product documentation. 20/11/15 2:56 PM CHAP T ER 5 | DESIGN OF GOODS AND SERVICES 185 Key Terms Standard for the exchange of product data (STEP) (p. 172) Computer-aided manufacturing (CAM) (p. 172) 3-D printing (p. 172) Virtual reality (p. 172) Value analysis (p. 173) Time-based competition (p. 173) Joint ventures (p. 174) Alliances (p. 175) Engineering drawing (p. 175) Bill of material (BOM) (p. 175) Make-or-buy decision (p. 176) Ethical Dilemma John Sloan, president of Sloan Toy Company, Inc., in Oregon, has just reviewed the design of a new pull-toy locomotive for 1- to 3-year-olds. John’s design and marketing staff are very enthusiastic about the market for the product and the potential of follow-on circus train cars. The sales manager is looking forward to a very good reception at the annual toy show in Dallas next month. John, too, is delighted, as he is faced with a layoff if orders do not improve. John’s production people have worked out the manufacturing issues and produced a successful pilot run. However, the quality assessment staff suggests that under certain conditions, a hook to attach cars to the locomotive and the crank for the bell can be broken off. This is an issue because children can choke on small parts such as these. In the quality test, 1- to 3-year-olds were unable to break off these parts; there were no failures. But when the test simulated the force of an adult tossing the locomotive into a toy box or a 5-year-old throwing it on the floor, there were failures. The estimate is that one of the two parts can be broken off 4 times out of 100,000 throws. Neither the design Group technology (p. 177) Assembly drawing (p. 178) Assembly chart (p. 178) Route sheet (p. 178) Work order (p. 178) Engineering change notice (ECN) (p. 178) Configuration management (p. 178) Product life-cycle management (PLM) (p. 178) Process–chain–network (PCN) analysis (p. 179) Process chain (p. 179) nor the material people know how to make the toy safer and still perform as designed. The failure rate is low and certainly normal for this type of toy, but not at the Six Sigma level that John’s firm strives for. And, of course, someone, someday may sue. A child choking on the broken part is a serious matter. Also, John was recently reminded in a discussion with legal counsel that U.S. case law suggests that new products may not be produced if there is “actual or foreseeable knowledge of a problem” with the product. The design of successful, ethically produced new products, as suggested in this chapter, is a complex task. What should John do? Nikolay Stefanvo Dimitrov/ Shutterstock Product decision (p. 163) Product-by-value analysis (p. 165) Quality function deployment (QFD) (p. 166) House of quality (p. 166) Product development teams (p. 170) Concurrent engineering (p. 170) Manufacturability and value engineering (p. 170) Robust design (p. 171) Modular design (p. 171) Computer-aided design (CAD) (p. 171) Design for manufacture and assembly (DFMA) (p. 171) Discussion Questions 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. Why is it necessary to document a product explicitly? What techniques do we use to define a product? In what ways is product strategy linked to product decisions? Once a product is defined, what documents are used to assist production personnel in its manufacture? What is time-based competition? Describe the differences between joint ventures and alliances. Describe four organizational approaches to product development. Which of these is generally thought to be best? Explain what is meant by robust design. What are three specific ways in which computer-aided design (CAD) benefits the design engineer? What information is contained in a bill of material? What information is contained in an engineering drawing? M05_HEIZ0422_12_SE_C05.indd 185 12. What information is contained in an assembly chart? In a process sheet? 13. Explain what is meant in service design by the “moment of truth.” 14. Explain how the house of quality translates customer desires into product/service attributes. 15. What strategic advantages does computer-aided design provide? 16. What is a process chain? 17. Why are the direct interaction and surrogate interaction regions in a PCN diagram important in service design? 18. Why are documents for service useful? Provide examples of four types. 20/11/15 2:56 PM 186 PA RT 2 | D ES I G N I N G O P ERATI ONS Solved Problem Virtual Office Hours help is available in MyOMLab. SOLVED PROBLEM 5.1 SOLUTION Sarah King, president of King Electronics, Inc., has two design options for her new line of high-resolution monitors for CAD workstations. The production run is for 100,000 units. Design option A has a .90 probability of yielding 60 good monitors per 100 and a .10 probability of yielding 65 good monitors per 100. This design will cost $1,000,000. Design option B has a .80 probability of yielding 64 good units per 100 and a .20 probability of yielding 59 good units per 100. This design will cost $1,350,000. Good or bad, each monitor will cost $75. Each good monitor will sell for $150. Bad monitors are destroyed and have no salvage value. We ignore any disposal costs in this problem. We draw the decision tree to reflect the two decisions and the probabilities associated with each decision. We then determine the payoff associated with each branch. The resulting tree is shown in Figure 5.14. Figure For design A: EMV(design A) = (.9)(+500,000) + (.1)(+1,250,000) = +575,000 For design B: EMV(design B) = (.8)(+750,000) + (.2)(+0) = +600,000 The highest payoff is design option B, at $600,000. 5.14 Decision Tree for Solved Problem 5.1 Mean Yield 60 EMV = $575,000 Sales 60,000 at $150 Mfg. cost 100,000 at $75 Design cost $9,000,000 –7,500,000 –1,000,000 ––––––––– $500,000 Sales 65,000 at $150 Mfg. cost 100,000 at $75 Design cost $9,750,000 –7,500,000 –1,000,000 ––––––––– $1,250,000 Sales 64,000 at $150 Mfg. cost 100,000 at $75 Design cost $9,600,000 –7,500,000 –1,350,000 ––––––––– $750,000 Sales 59,000 at $150 Mfg. cost 100,000 at $75 Design cost $8,850,000 –7,500,000 –1,350,000 ––––––––– 0 (.9) (.1) Mean Yield 65 Design A Design B Mean Yield 64 (.8) (.2) EMV = $600,000 Problems Note: PX means the problem may be solved with POM for Windows and/or Excel OM. Problems 5.1–5.3 relate to Goods and Services Selection • • • 5.1 Prepare a product-by-value analysis for the following products, and given the position in its life cycle, identify the issues likely to confront the operations manager and his or her possible actions. Product Alpha has annual sales of 1,000 units and a contribution of $2,500; it is in the introductory stage. Product Bravo has annual sales of 1,500 units and a contribution of $3,000; it is in the growth stage. Product Charlie has annual sales of 3,500 units and a contribution of $1,750; it is in the decline stage. • • 5.2 Given the contribution made on each of the three products in the following table and their position in M05_HEIZ0422_12_SE_C05.indd 186 Mean Yield 59 the life cycle, identify a reasonable operations strategy for each: PRODUCT CONTRIBUTION (% OF SELLING PRICE) COMPANY CONTRIBUTION (%: TOTAL ANNUAL CONTRIBUTION DIVIDED BY TOTAL ANNUAL SALES) POSITION IN LIFE CYCLE Smart watch 30 40 Introduction Tablet 30 50 Growth Hand calculator 50 10 Decline PRODUCT 20/11/15 2:56 PM CHAP T ER 5 Problem 5.3 is available in MyOMLab. Problems 5.4–5.8 relate to Product Development • • 5.4 Construct a house of quality matrix for a wristwatch. Be sure to indicate specific customer wants that you think the general public desires. Then complete the matrix to show how an operations manager might identify specific attributes that can be measured and controlled to meet those customer desires. • • 5.5 Using the house of quality, pick a real product (a good or service) and analyze how an existing organization satisfies customer requirements. • • 5.6 Prepare a house of quality for a mousetrap. • • 5.7 Conduct an interview with a prospective purchaser of a new bicycle and translate the customer’s wants into the specific hows of the firm. • • • • 5.8 Using the house of quality sequence, as described in Figure 5.4 on page 169, determine how you might deploy resources to achieve the desired quality for a product or service whose production process you understand. Problems 5.9–5.17 relate to Defining a Product • • 5.9 Prepare a bill of material for (a) a pair of eyeglasses and its case or (b) a fast-food sandwich (visit a local sandwich shop like Subway, McDonald’s, Blimpie, Quizno’s; perhaps a clerk or the manager will provide you with details on the quantity or weight of various ingredients—otherwise, estimate the quantities). • • 5.10 its case. Draw an assembly chart for a pair of eyeglasses and • • 5.11 Prepare a script for telephone callers at the university’s annual “phone-a-thon” fund raiser. • • 5.12 Prepare an assembly chart for a table lamp. | DESIGN OF GOODS AND SERVICES Problems 5.21–5.28 relate to the Application to Product Design 187 of Decision Trees • • 5.21 The product design group of Iyengar Electric Supplies, Inc., has determined that it needs to design a new series of switches. It must decide on one of three design strategies. The market forecast is for 200,000 units. The better and more sophisticated the design strategy and the more time spent on value engineering, the less will be the variable cost. The chief of engineering design, Dr. W. L. Berry, has decided that the following costs are a good estimate of the initial and variable costs connected with each of the three strategies: a) Low-tech: A low-technology, low-cost process consisting of hiring several new junior engineers. This option has a fixed cost of $45,000 and variable-cost probabilities of .3 for $.55 each, .4 for $.50, and .3 for $.45. b) Subcontract: A medium-cost approach using a good outside design staff. This approach would have a fixed cost of $65,000 and variable-cost probabilities of .7 of $.45, .2 of $.40, and .1 of $.35. c) High-tech: A high-technology approach using the very best of the inside staff and the latest computer-aided design technology. This approach has a fixed cost of $75,000 and variablecost probabilities of .9 of $.40 and .1 of $.35. What is the best decision based on an expected monetary value (EMV) criterion? (Note: We want the lowest EMV, as we are dealing with costs in this problem.) PX • • 5.22 MacDonald Products, Inc., of Clarkson, New York, has the option of (a) proceeding immediately with production of a new top-of-the-line stereo TV that has just completed prototype testing or (b) having the value analysis team complete a study. If Ed Lusk, VP for operations, proceeds with the existing prototype (option a), the firm can expect sales to be 100,000 units at $550 each, with a probability of .6, and a .4 probability of 75,000 at $550. If, however, he uses the value analysis team (option b), the firm expects sales of 75,000 units at $750, with a probability of .7, and a .3 probability of 70,000 units at $750. Value analysis, at a cost of $100,000, is only used in option b. Which option has the highest expected monetary value (EMV)? PX Problems 5.13–5.17 are available in MyOMLab. Problems 5.18–5.20 relate to Service Design • • 5.19 Review strategic process positioning options for the regions in Figure 5.12, discussing the operational impact (in terms of the 10 strategic OM decisions) for: a) Manufacturing the sandwiches. b) Direct interaction. c) Establishing a sandwich buffet. • • • 5.20 Select a service business that involves interaction between customers and service providers, and create a PCN diagram similar to Figure 5.12. Pick a key step that could be performed either by the service provider or by the customers. Show process positioning options for the step. Describe how the options compare in terms of efficiency, economies of scale, and opportunity for customization. M05_HEIZ0422_12_SE_C05.indd 187 Romanchuck Dimitry/Shutterstock • • 5.18 Draw a two-participant PCN diagram (similar to Figure 5.12) for one of the following processes: a) The process of having your computer repaired. b) The process of pizza preparation. c) The process of procuring tickets for a concert. 20/11/15 2:56 PM 188 PA RT 2 | D ES I G N I N G O P ERATI ONS • • 5.23 Residents of Mill River have fond memories of ice skating at a local park. An artist has captured the experience in a drawing and is hoping to reproduce it and sell framed copies to current and former residents. He thinks that if the market is good he can sell 400 copies of the elegant version at $125 each. If the market is not good, he will sell only 300 at $90 each. He can make a deluxe version of the same drawing instead. He feels that if the market is good he can sell 500 copies of the deluxe version at $100 each. If the market is not good, he will sell only 400 copies at $70 each. In either case, production costs will be approximately $35,000. He can also choose to do nothing. If he believes there is a 50% probability of a good market, what should he do? Why? PX • • 5.24 Ritz Products’s materials manager, Tej Dhakar, must determine whether to make or buy a new semiconductor for the wrist TV that the firm is about to produce. One million units are expected to be produced over the life cycle. If the product is made, start-up and production costs of the make decision total $1 million, with a probability of .4 that the product will be satisfactory and a .6 probability that it will not. If the product is not satisfactory, the firm will have to reevaluate the decision. If the decision is reevaluated, the choice will be whether to spend another $1 million to redesign the semiconductor or to purchase. Likelihood of success the second time that the make decision is made is .9. If the second make decision also fails, the firm must purchase. Regardless of when the purchase takes place, Dhakar’s best judgment of cost is that Ritz will pay $.50 for each purchased semiconductor plus $1 million in vendor development cost. a) Assuming that Ritz must have the semiconductor (stopping or doing without is not a viable option), what is the best decision? b) What criteria did you use to make this decision? c) What is the worst that can happen to Ritz as a result of this particular decision? What is the best that can happen? PX • • 5.25 Sox Engineering designs and constructs air conditioning and heating systems for hospitals and clinics. Currently, the company’s staff is overloaded with design work. There is a major design project due in 8 weeks. The penalty for completing the design late is $14,000 per week, since any delay will cause the facility to open later than anticipated and cost the client significant revenue. If the company uses its inside engineers to complete the design, it will have to pay them overtime for all work. Sox has estimated that it will cost $12,000 per week (wages and overhead), including late weeks, to have company engineers complete the design. Sox is also considering having an outside engineering firm do the design. A bid of $92,000 has been received for the completed design. Yet another option for completing the design is to conduct a joint design by having a third engineering company M05_HEIZ0422_12_SE_C05.indd 188 complete all electromechanical components of the design at a cost of $56,000. Sox would then complete the rest of the design and control systems at an estimated cost of $30,000. Sox has estimated the following probabilities of completing the project within various time frames when using each of the three options. Those estimates are shown in the following table: PROBABILITY OF COMPLETING THE DESIGN ON TIME 1 WEEK LATE 2 WEEKS LATE 3 WEEKS LATE Internal Engineers .4 .5 .1 — External Engineers .2 .4 .3 .1 Joint Design .1 .3 .4 .2 OPTION What is the best decision based on an expected monetary value criterion? (Note: You want the lowest EMV because we are dealing with costs in this problem.) PX • • • 5.26 Use the data in Solved Problem 5.1 to examine what happens to the decision if Sarah King can increase all of Design B yields from 59,000 to 64,000 by applying an expensive phosphorus to the screen at an added manufacturing cost of $250,000. Prepare the modified decision tree. What are the payoffs, and which branch has the greatest EMV? • • • • 5.27 McBurger, Inc., wants to redesign its kitchens to improve productivity and quality. Three designs, called designs K1, K2, and K3, are under consideration. No matter which design is used, daily production of sandwiches at a typical McBurger restaurant is for 500 sandwiches. A sandwich costs $1.30 to produce. Non-defective sandwiches sell, on the average, for $2.50 per sandwich. Defective sandwiches cannot be sold and are scrapped. The goal is to choose a design that maximizes the expected profit at a typical restaurant over a 300-day period. Designs K1, K2, and K3 cost $100,000, $130,000, and $180,000, respectively. Under design K1, there is a .80 chance that 90 out of each 100 sandwiches are non-defective and a .20 chance that 70 out of each 100 sandwiches are non-defective. Under design K2, there is a .85 chance that 90 out of each 100 sandwiches are non-defective and a .15 chance that 75 out of each 100 sandwiches are non-defective. Under design K3, there is a .90 chance that 95 out of each 100 sandwiches are non-defective and a .10 chance that 80 out of each 100 sandwiches are non-defective. What is the expected profit level of the design that achieves the maximum expected 300-day profit level? Problem 5.28 is available in MyOMLab. 20/11/15 2:56 PM CHAP T ER 5 | DESIGN OF GOODS AND SERVICES 189 CASE STUDIES De Mar’s Product Strategy De Mar, a plumbing, heating, and air-conditioning company located in Fresno, California, has a simple but powerful product strategy: Solve the customer’s problem no matter what, solve the problem when the customer needs it solved, and make sure the customer feels good when you leave. De Mar offers guaranteed, same-day service for customers requiring it. The company provides 24-hour-a-day, 7-day-a-week service at no extra charge for customers whose air conditioning dies on a hot summer Sunday or whose toilet overflows at 2:30 A.M. As assistant service coordinator Janie Walter puts it: “We will be there to fix your A/C on the fourth of July, and it’s not a penny extra. When our competitors won’t get out of bed, we’ll be there!” De Mar guarantees the price of a job to the penny before the work begins. Whereas most competitors guarantee their work for 30 days, De Mar guarantees all parts and labor for one year. The company assesses no travel charge because “it’s not fair to charge customers for driving out.” Owner Larry Harmon says: “We are in an industry that doesn’t have the best reputation. If we start making money our main goal, we are in trouble. So I stress customer satisfaction; money is the by-product.” De Mar uses selective hiring, ongoing training and education, performance measures, and compensation that incorporate customer satisfaction, strong teamwork, peer pressure, empowerment, and aggressive promotion to implement its strategy. Says credit manager Anne Semrick: “The person who wants a nine-tofive job needs to go somewhere else.” De Mar is a premium pricer. Yet customers respond because De Mar delivers value—that is, benefits for costs. In 8 years, annual sales increased from about $200,000 to more than $3.3 million. Discussion Questions 1. What is De Mar’s product? Identify the tangible parts of this product and its service components. 2. How should other areas of De Mar (marketing, finance, personnel) support its product strategy? 3. Even though De Mar’s product is primarily a service product, how should each of the 10 strategic OM decisions in the text be managed to ensure that the product is successful? Source: Reprinted with the permission of The Free Press, from On Great Service: A Framework for Action by Leonard L. Berry. With hundreds of competitors in the boat business, Regal Marine must work to differentiate itself from the flock. As we saw in the Global Company Profile that opened this chapter, Regal continuously introduces innovative, high-quality new boats. Its differentiation strategy is reflected in a product line consisting of 22 models. To maintain this stream of innovation, and with so many boats at varying stages of their life cycles, Regal constantly seeks design input from customers, dealers, and consultants. Design ideas rapidly find themselves in the styling studio, where they are placed onto CAD machines in order to speed the development process. Existing boat designs are always evolving as the company tries to stay stylish and competitive. Moreover, with life cycles as short as 3 years, a steady stream of new products is required. A few years ago, the new product was the three-passenger $11,000 Rush, a small but powerful boat capable of pulling a water-skier. This was followed with a 20-foot inboard–outboard performance boat with so many innovations that it won prize after prize in the industry. Another new boat is a redesigned 52-foot sports yacht that sleeps six in luxury staterooms. With all these models and innovations, Regal designers and production personnel are under pressure to respond quickly. By getting key suppliers on board early and urging them to participate at the design stage, Regal improves both innovations and quality while speeding product development. Regal finds that M05_HEIZ0422_12_SE_C05.indd 189 Video Case the sooner it brings suppliers on board, the faster it can bring new boats to the market. After a development stage that constitutes concept and styling, CAD designs yield product specifications. The first stage in actual production is the creation of the “plug,” a foam-based carving used to make the molds for fiberglass hulls and decks. Specifications from the CAD system drive the carving process. Once the plug is carved, the permanent molds for each new hull and deck design are formed. Molds take about 4 to 8 weeks to make and are all handmade. Similar molds are made for many of the other features in Regal boats—from galley and Barry Render Product Design at Regal Marine 20/11/15 2:56 PM 190 PA RT 2 | D ES I G N I N G O P ERATI ONS stateroom components to lavatories and steps. Finished molds can be joined and used to make thousands of boats. Discussion Questions* 1. How does the concept of product life cycle apply to Regal Marine products? 2. What strategy does Regal use to stay competitive? 3. What kind of engineering savings is Regal achieving by using CAD technology rather than traditional drafting techniques? 4. What are the likely benefits of the CAD design technology? *You may wish to view the video accompanying this case before addressing these questions. Endnotes 1. Contribution is defined as the difference between direct cost and selling price. Direct costs are directly attributable to the product, namely labor and material that go into the product. M05_HEIZ0422_12_SE_C05.indd 190 2. See Scott Sampson, “Visualizing Service Operations,” Journal of Service Research (May 2012). More details about PCN analysis are available at services.byu.edu. 20/11/15 2:56 PM Main Heading Review Material MyOMLab GOODS AND SERVICES SELECTION Although the term products may often refer to tangible goods, it also refers to offerings by service organizations. Concept Questions: 1.1–1.4 The objective of the product decision is to develop and implement a product strategy that meets the demands of the marketplace with a competitive advantage. Problems: 5.1–5.3 (pp. 162–165) j Product Decision—The selection, definition, and design of products. The four phases of the product life cycle are introduction, growth, maturity, and decline. j GENERATING NEW PRODUCTS (pp. 165–166) PRODUCT DEVELOPMENT j j j j j ISSUES FOR PRODUCT DESIGN (pp. 171–173) j j j j j j j j j VIDEO 5.1 Product Strategy at Regal Marine Product-by-value analysis—A list of products, in descending order of their individual dollar contribution to the firm, as well as the total annual dollar contribution of the product. Product selection, definition, and design take place on a continuing basis. Changes in product opportunities, the products themselves, product volume, and product mix may arise due to understanding the customer, economic change, sociological and demographic change, technological change, political/legal change, market practice, professional standards, suppliers, or distributors. (pp. 166–170) Rapid Review 5 Chapter 5 Rapid Review Concept Question: 2.1 Quality function deployment (QFD)—A process for determining customer requirements (customer “wants”) and translating them into attributes (the “hows”) that each functional area can understand and act on. House of quality—A part of the quality function deployment process that utilizes a planning matrix to relate customer wants to how the firm is going to meet those wants. Product development teams—Teams charged with moving from market requirements for a product to achieving product success. Concurrent engineering—Simultaneous performance of the various stages of product development. Manufacturability and value engineering—Activities that help improve a product’s design, production, maintainability, and use. Concept Questions: 3.1–3.4 Robust design—A design that can be produced to requirements even with unfavorable conditions in the production process. Modular design—A design in which parts or components of a product are subdivided into modules that are easily interchanged or replaced. Computer-aided design (CAD)—Interactive use of a computer to develop and document a product. Design for manufacture and assembly (DFMA)—Software that allows designers to look at the effect of design on manufacturing of a product. Standard for the exchange of product data (STEP)—A standard that provides a format allowing the electronic transmission of three-dimensional data. Computer-aided manufacturing (CAM)—The use of information technology to control machinery. 3-D printing—An extension of CAD that builds prototypes and small lots. Virtual reality—A visual form of communication in which images substitute for reality and typically allow the user to respond interactively. Value analysis—A review of successful products that takes place during the production process. Concept Questions: 4.1–4.4 Sustainability is meeting the needs of the present without compromising the ability of future generations to meet their needs. Life cycle assessment (LCA) is part of ISO 14000; it assesses the environmental impact of a product from material and energy inputs to disposal and environmental releases. Both sustainability and LCA are discussed in depth in Supplement 5. PRODUCT DEVELOPMENT CONTINUUM (pp. 173–175) j Time-based competition—Competition based on time; rapidly developing products and moving them to market. Concept Questions: 5.1–5.4 Internal development strategies include (1) new internally developed products, (2) enhancements to existing products, and (3) migrations of existing products. External development strategies include (1) purchase the technology or expertise by acquiring the developer, (2) establish joint ventures, and (3) develop alliances. j j M05_HEIZ0422_12_SE_C05.indd 191 Joint ventures—Firms establishing joint ownership to pursue new products or markets. Alliances—Cooperative agreements that allow firms to remain independent but pursue strategies consistent with their individual missions. 20/11/15 2:56 PM Rapid Review 5 Chapter 5 Rapid Review continued Main Heading Review Material DEFINING A PRODUCT j (pp. 175–177) j j j DOCUMENTS FOR PRODUCTION j j (pp. 178–179) j j j j j SERVICE DESIGN j (pp. 179–182) j MyOMLab Engineering drawing—A drawing that shows the dimensions, tolerances, materials, and finishes of a component. Bill of material (BOM)—A list of the components, their description, and the quantity of each required to make one unit of a product. Make-or-buy decision—The choice between producing a component or a service and purchasing it from an outside source. Group technology—A product and component coding system that specifies the size, shape, and type of processing; it allows similar products to be grouped. Concept Questions: 6.1–6.4 Assembly drawing—An exploded view of a product. Assembly chart—A graphic means of identifying how components flow into subassemblies and final products. Route sheet—A list of the operations necessary to produce a component with the material specified in the bill of material. Work order—An instruction to make a given quantity of a particular item. Engineering change notice (ECN)—A correction or modification of an engineering drawing or bill of material. Configuration management—A system by which a product’s planned and changing components are accurately identified. Product life cycle management (PLM)—Software programs that tie together many phases of product design and manufacture. Concept Questions: 7.1–7.4 Process-chain-network (PCN) analysis—A way to design processes to optimize interaction between firms and their customers. Process chain—A sequence of steps that provide value to process participants. Concept Questions: 8.1–8.4 Problems: 5.9, 5.10, 5.12–5.17 To enhance service efficiency, companies: (1) limit options, (2) delay customization, (3) modularize, (4) automate, and (5) design for the “moment of truth.” APPLICATION OF DECISION TREES TO PRODUCT DESIGN (pp. 182–184) To form a decision tree, (1) include all possible alternatives (including “do nothing”) and states of nature; (2) enter payoffs at the end of the appropriate branch; and (3) determine the expected value of each course of action by starting at the end of the tree and working toward the beginning, calculating values at each step and “pruning” inferior alternatives. Concept Questions: 9.1–9.2 Problems: 5.21–5.25, 5.27–5.28 Virtual Office Hours for Solved Problem: 5.1 ACTIVE MODEL 5.1 TRANSITION TO PRODUCTION One of the arts of management is knowing when to move a product from development to production; this move is known as transition to production. Concept Questions: 10.1–10.2 (p. 184) Self Test j Before taking the self-test, refer to the learning objectives listed at the beginning of the chapter and the key terms listed at the end of the chapter. LO 5.1 A product’s life cycle is divided into four stages, including: a) introduction. b) growth. c) maturity. d) all of the above. LO 5.2 Product development systems include: a) bills of material. b) routing charts. c) functional specifications. d) product-by-values analysis. e) configuration management. LO 5.3 A house of quality is: a) a matrix relating customer “wants” to the firm’s “hows.” b) a schematic showing how a product is put together. c) a list of the operations necessary to produce a component. d) an instruction to make a given quantity of a particular item. e) a set of detailed instructions about how to perform a task. LO 5.4 Time-based competition focuses on: a) moving new products to market more quickly. b) reducing the life cycle of a product. c) linking QFD to PLM. d) design database availability. e) value engineering. LO 5.5 Products are defined by: a) value analysis. b) value engineering. c) routing sheets. d) assembly charts. e) engineering drawings. LO 5.6 A route sheet: a) lists the operations necessary to produce a component. b) is an instruction to make a given quantity of a particular item. c) is a schematic showing how a product is assembled. d) is a document showing the flow of product components. e) all of the above. LO 5.7 The three process regions in a process–chain–network diagram are: a) manufacture, supplier, customer b) direct and surrogate, customer, provider c) independent, dependent, customer interaction d) direct interaction, surrogate interaction, independent processing LO 5.8 Decision trees use: a) probabilities. b) payoffs. c) logic. d) options. e) all of the above. Answers: LO 5.1. d; LO 5.2. c; LO 5.3. a; LO 5.4. a; LO 5.5. e; LO 5.6. a; LO 5.7. d; LO 5.8. e. M05_HEIZ0422_12_SE_C05.indd 192 20/11/15 2:56 PM ◆ ◆ Corporate Social Responsibility 194 Sustainability 195 ◆ ◆ Design and Production for Sustainability 198 Regulations and Industry Standards 203 Alaska Airlines Alaska Airlines SUPPLEMENT OUTLINE 5 SUPPLEMENT Sustainability in the Supply Chain 193 M06_HEIZ0422_12_SE_C05S.indd 193 03/11/15 6:20 PM L E A RNING OBJECTIVES LO S5.1 Describe corporate social responsibility 194 LO S5.2 Describe sustainability 195 LO S5.3 Explain the 3Rs for sustainability 198 LO S5.4 Calculate design for disassembly 199 LO S5.5 Explain the impact of sustainable regulations on operations 203 Lex Van Lieshout/EPA/Newscom Airlines from around the world, including Air China, Virgin Atlantic Airways, KLM, Alaska, Air New Zealand, and Japan Airlines, are experimenting with alternative fuels to power their jets in an effort to reduce greenhouse gas emissions and to reduce their dependence on traditional petroleum-based jet fuel. Alternative biofuels are being developed from recycled cooking oil, sewage sludge, municipal waste, coconuts, sugar cane, and genetically modified algae that feed on plant waste. Corporate Social Responsibility1 LO S5.1 Describe corporate social responsibility Corporate social responsibility (CSR) Managerial decision making that considers environmental, societal, and financial impacts. Shared value Developing policies and practices that enhance the competitiveness of an organization while advancing the economic and social conditions in the communities in which it operates. Managers must consider how the products and services they provide affect both people and the environment. Certainly, firms must provide products and services that are innovative and attractive to buyers. But today’s technologies allow consumers, communities, public interest groups, and regulators to be well informed about all aspects of an organization’s performance. As a result, stakeholders can have strong views about firms that fail to respect the environment or that engage in unethical conduct. Firms need to consider all the implications of a product—from design to disposal. Many companies now realize that “doing what’s right” and doing it properly can be beneficial to all stakeholders. Companies that practice corporate social responsibility (CSR) introduce policies that consider environmental, societal, and financial impacts in their decision making. As managers consider approaches to CSR, they find it helpful to consider the concept of creating shared value. Shared value suggests finding policies and practices that enhance the organization’s competitiveness while simultaneously advancing the economic and social conditions in the communities in which it operates. For instance, note how automakers Tesla, Toyota, and Nissan find shared value in low-emission vehicles . . . vehicles that enhance their competiveness in a global market while meeting society’s interest in low-emission vehicles. Similarly, Dow Chemical finds social benefits and profit in Nexera canola and sunflower seeds. These seeds yield twice as much cooking oil as soybeans, enhancing profitability to the grower. They also have a longer shelf life, which reduces operating costs throughout the supply chain. As an added bonus, the oils have lower levels of saturated fat than traditional products and contain no trans fats. A win–win for Dow and society. Operations functions—from supply chain management to product design to production to packaging and logistics—provide an opportunity for finding shared value and meeting CSR goals.2 194 M06_HEIZ0422_12_SE_C05S.indd 194 03/11/15 6:20 PM S U P P L EMENT 5 | SUSTAINABILITY IN THE SUPPLY CHAIN 195 Sustainability Sustainability is often associated with corporate social responsibility. The term sustainability refers to meeting the needs of the present without compromising the ability of future generations to meet their needs. Many people who hear of sustainability for the first time think of green products or “going green”—recycling, global warming, and saving rainforests. This is certainly part of it. However, it is more than this. True sustainability involves thinking not only about environmental resources but also about employees, customers, community, and the company’s reputation. Three concepts may be helpful as managers consider sustainability decisions: a systems view, the commons, and the triple bottom line. Sustainability Systems View sustainability Managers may find that their decisions regarding sustainability improve when they take a systems view. This means looking at a product’s life from design to disposal, including all the resources required. Recognizing that both raw materials and human resources are subsystems of any production process may provide a helpful perspective. Similarly, the product or service itself is a small part of much larger social, economic, and environmental systems. Indeed, managers need to understand the inputs and interfaces between the interacting systems and identify how changes in one system affect others. For example, hiring or laying off employees can be expected to have morale implications for internal systems (within an organization), as well as socioeconomic implications for external systems. Similarly, dumping chemicals down the drain has implications on systems beyond the firm. Once managers understand that the systems immediately under their control have interactions with systems below them and above them, more informed judgments regarding sustainability can be made. Meeting the needs of the present without compromising the ability of future generations to meet their needs. LO S5.2 Describe VIDEO S5.1 Building Sustainability at the Orlando Magic’s Amway Center Commons Many inputs to a production system have market prices, but others do not. Those that do not are those held by the public, or in the common. Resources held in the common are often misallocated. Examples include depletion of fish in international waters and polluted air and waterways. The attitude seems to be that just a little more fishing or a little more pollution will not matter, or the adverse results may be perceived as someone else’s problem. Society is still groping for solutions for use of those resources in the common. The answer is slowly being found in a number of ways: (1) moving some of the common to private property (e.g., selling radio frequency spectrum), (2) allocation of rights (e.g., establishing fishing boundaries), and (3) allocation of yield (e.g., only a given quantity of fish can be harvested). As managers understand the issues of the commons, they have further insight about sustainability and the obligation of caring for the commons. Triple Bottom Line Firms that do not consider the impact of their decisions on all their stakeholders see reduced sales and profits. Profit maximization is not the only measure of success. A one-dimensional bottom line, profit, will not suffice; the larger socioeconomic systems beyond the firm demand more. One way to think of sustainability is to consider the systems necessary to support the triple bottom line of the three Ps: people, planet, and profit (see Figure S5.1), which we will now discuss. STUDENT TIP Profit is now just one of the three Ps: people, planet, and profit. People Companies are becoming more aware of how their decisions affect people—not only their employees and customers but also those who live in the communities in which they operate. Most employers want to pay fair wages, offer educational opportunities, and provide a safe and healthy workplace. So do their suppliers. But globalization and the reliance on outsourcing to suppliers around the world complicate the task. This means companies must create policies that guide supplier selection and performance. Sustainability suggests that supplier selection and performance criteria evaluate safety in the work environment, whether living wages are paid, if child labor is used, and whether work hours are excessive. Apple, GE, Procter & Gamble, and Walmart are examples of companies that conduct supplier audits to uncover any harmful or exploitative business practices that are counter to their sustainability goals and objectives. M06_HEIZ0422_12_SE_C05S.indd 195 03/11/15 6:20 PM 196 PA RT 2 | D ES I G N I N G O P ERATI ONS Minimize Raw material Concept Design Raw material Energy Transport Planet Manufacture Water Transport People Consume Waste Transport Disposal Profit Maximize the triple bottom line Figure S5.1 Improving the Triple Bottom Line with Sustainability STUDENT TIP Walmart has become a global leader in sustainability. Read Force of Nature: The Unlikely Story of Walmart’s Green Revolution. Recognizing that customers increasingly want to know that the materials in the products they buy are safe and produced in a responsible way, Walmart initiated the development of the worldwide sustainable product index for evaluating the sustainability of products. The goals of that initiative are to create a more transparent supply chain, accelerate the adoption of best practices, and drive product innovation. Walmart found a correlation between supply-chain transparency, positive labor practices, community involvement, and quality, efficiency, and cost. Walmart is committed to working with its suppliers to sell quality products that are safe, that create value for customers, and that are produced in a sustainable way. The firm is accomplishing this in four ways: 1. Improving livelihoods through the creation of productive, healthy, and safe workplaces and promoting quality of life 2. Building strong communities through access to affordable, high-quality services such as education and job training that support workers and their families 3. Preventing exposure to substances that are considered harmful or toxic to human health 4. Promoting health and wellness by increasing access to nutritious products, encouraging healthy lifestyles, and promoting access to health care Walmart’s CEO has said that companies that are unfair to their people are also likely to skimp on quality and that he will not continue to do business with those suppliers. Accordingly, operations managers must consider the working conditions in which they place their employees. This includes training and safety orientations, before-shift exercises, earplugs, safety goggles, and rest breaks to reduce the possibility of worker fatigue and injury. Operations managers must also make decisions regarding the disposal of material and chemical waste, including hazardous materials, so they don’t harm employees or the community. Planet When discussing the subject of sustainability, our planet’s environment is the first thing that comes to mind, so it understandably gets the most attention from managers. Operations managers look for ways to reduce the environmental impact of their operations, whether from raw material selection, process innovation, alternative product delivery methods, or disposal of products at their end-of-life. The overarching objective for operations managers is to conserve scarce resources, thereby reducing the negative impact on the environment. Here are a few examples of how organizations creatively make their operations more environmentally friendly: ◆ M06_HEIZ0422_12_SE_C05S.indd 196 S.C. Johnson, the company that makes Windex, Saran Wrap, Pledge, Ziploc bags, and Raid, developed Greenlist, a classification system that evaluates the impact of raw materials on human and environmental health. By using Greenlist, S.C. Johnson has eliminated millions of pounds of pollutants from its products. 03/11/15 6:20 PM S U P P L EMENT 5 ◆ ◆ | SUSTAINABILITY IN THE SUPPLY CHAIN 197 Thirty-one public school districts across the state of Kentucky operate hybrid electric school buses. They estimate fuel savings as high as 40%, with fuel mileage of 7.5 mpg increasing to 12 miles per gallon, relative to standard diesel buses. Levi has started a campaign to save water in the creation of jeans, as seen in the OM in Action box “Blue Jeans and Sustainability.” To gauge their environmental impact on the planet, many companies are measuring their carbon footprint. Carbon footprint is a measure of the total greenhouse gas (GHG) emissions caused directly and indirectly by an organization, a product, an event, or a person. A substantial portion of greenhouse gases are released naturally by farming, cattle, and decaying forests and, to a lesser degree, by manufacturing and services. The most common greenhouse gas produced by human activities is carbon dioxide, primarily from burning fossil fuels for electricity generation, heating, and transport. Operations managers are being asked to do their part to reduce GHG emissions. Industry leaders such as Frito-Lay have been able to break down the carbon emissions from various stages in the production process. For instance, in potato chip production, a 34.5-gram (1.2-ounce) bag of chips is responsible for about twice its weight in emissions—75 grams per bag (see Figure S5.2). Profit Social and environmental sustainability do not exist without economic sustainability. Economic sustainability refers to how companies remain in business. Staying in business requires making investments, and investments require making profits. Though profits may be relatively easy to determine, other measures can also be used to gauge economic sustainability. The alternative measures that point to a successful business include risk profile, intellectual property, employee morale, and company valuation. To support economic sustainability, firms may supplement standard financial accounting and reporting with some version of social accounting. Social accounting can include brand equity, management talent, human capital development and benefits, research and development, productivity, philanthropy, and taxes paid. OM in Action A measure of total greenhouse gas emissions caused directly or indirectly by an organization, a product, an event, or a person. VIDEO S5.2 Green Manufacturing and Sustainability at Frito-Lay Economic sustainability Appropriately allocating scarce resources to make a profit. Blue Jeans and Sustainability The recent drought in California is hurting more than just farmers. It is also having a significant impact on the fashion industry and spurring changes in how jeans are made and how they should be laundered. Southern California is estimated to be the world’s largest supplier of so-called premium denim, the $100 to $200-plus-a-pair of designer jeans. Water is a key component in the various steps of the processing and repeated washing with stones, or bleaching and dyeing that create that “distressed” vintage look. Southern California produces 75% of the high-end denim in the U.S. that is sold worldwide. The area employs about 200,000 people, making it the largest U.S. fashion manufacturing hub. Now that water conservation is a global priority, major denim brands are working to cut water use. Levi, with sales of $5 billion, is using ozone machines to replace the bleach traditionally used to lighten denim. It is also reducing the number of times it washes jeans. The company has saved more than a billion liters of water since 2011 with its Levi’s Water Less campaign. By 2020, the company plans to have 80% of Levi’s brand products made using the Water Less process, up from about 25% currently. Traditionally, about 34 liters of water are used in the cutting, sewing, and finishing process to make a pair of Levi’s signature 501 jeans. Nearly 3,800 liters of water are used throughout the lifetime of a pair of Levi’s 501. A study found cotton cultivation represents 68% of that and consumer washing another 23%. So Levi is promoting the idea that jeans only need washing M06_HEIZ0422_12_SE_C05S.indd 197 Carbon footprint Cradle to grave water consumption percentage Consumer care 23% Fiber 68% Sundries & Packaging 2% Cut, Sew, Finish 1% Fabric production 6% after 10 wears. (The average American consumer washes after 2 wears.) Levi’s CEO recently urged people to stop washing their jeans, saying he hadn’t washed his one-year-old jeans at the time. “You can air dry and spot clean instead,” he said. Sources: The Wall Street Journal (April 10, 2015) and New York Times (March 31, 2015). 03/11/15 6:20 PM 198 PA RT 2 | D ES I G N I N G O P ERATI ONS Figure S5.2 Carbon Footprint of a 34.5-gram Bag of Frito-Lay Chips Total carbon footprint 75 g Farming 44% Manufacture 30% Packaging 15% Shipping 9% Disposal 2% Design and Production for Sustainability Life cycle assessment Analysis of environmental impacts of products from the design stage through end-of-life. The operations manager’s greatest opportunity to make substantial contributions to the company’s environmental objectives occurs during product life cycle assessment. Life cycle assessment evaluates the environmental impact of a product, from raw material and energy inputs all the way to the disposal of the product at its end-of-life. The goal is to make decisions that help reduce the environmental impact of a product throughout its entire life. Focusing on the 3Rs—reduce, reuse, and recycle— can help accomplish this goal. By incorporating the 3Rs, product design teams, process managers, and supply-chain personnel can make great strides toward reducing the environmental impact of products—to the benefit of all stakeholders. Product Design LO S5.3 Explain the 3Rs for sustainability Product design is the most critical phase in product life cycle assessment. The decisions that are made during this phase greatly affect materials, quality, cost, processes, related packaging and logistics, and ultimately how the product will be processed when discarded. During design, one of the goals is to incorporate a systems view in the product or service design that lowers the environmental impact. This is the first R. Such an approach reduces waste and energy costs at the supplier, in the logistics system, and for the end user. For instance, by taking a systems view, Procter & Gamble developed Tide Coldwater, a detergent that gets clothes clean with cold water, saving the consumer about three-fourths of the energy used in a typical wash. Other successful design efforts include: ◆ ◆ ◆ Boston’s Park Plaza Hotel eliminated bars of soap and bottles of shampoo by installing pump dispensers in its bathrooms, saving the need for 1 million plastic containers a year. UPS reduced the amount of materials it needs for its envelopes by developing its reusable express envelopes, which are made from 100% recycled fiber. These envelopes are designed to be used twice, and after the second use, the envelope can be recycled. Coca-Cola’s redesigned Dasani bottle reduced the amount of plastic needed and is now 30% lighter than when it was introduced. Product design teams also look for alternative materials from which to make their products. Innovating with alternative materials can be expensive, but it may make autos, trucks, and aircraft more environmentally friendly while improving payload and fuel efficiency. Aircraft and auto makers, for example, constantly seek lighter materials to use in their products. Lighter materials translate into better fuel economy, fewer carbon emissions, and reduced operating cost. For instance: ◆ ◆ M06_HEIZ0422_12_SE_C05S.indd 198 Mercedes is building some car exteriors from a banana fiber that is both biodegradable and lightweight. Some Fords have seat upholstery made from recycled plastic soda bottles and old clothing. 03/11/15 6:20 PM | SUSTAINABILITY IN THE SUPPLY CHAIN 199 Alaska Airlines Dan Bates/The Herald/AP Images S U P P L EMENT 5 An excellent place for operations managers to begin the sustainability challenge is with good product design. Here Tom Malone, CEO, of MicroGreen Polymers, discusses the company’s new ultra light cup with production personnel (left). The cup can be recycled over and over and never go to a landfill. Another new design is the “winglet” (right). These wing tip extensions increase climb speed, reduce noise by 6.5%, cut CO2 emissions by 5%, and save 6% in fuel costs. Alaska Air has retrofitted its entire 737 fleet with winglets, saving $20 million annually. ◆ Boeing is using carbon fiber, epoxy composites, and titanium graphite laminate to reduce weight in its new 787 Dreamliner. Product designers often must decide between two or more environmentally friendly design alternatives. Example S1 deals with a design for disassembly cost–benefit analysis. This process focuses on the second and third Rs: reuse and recycle. The design team analyzes the amount of revenue that might be reclaimed against the cost of disposing of the product at its end-of-life. Example S1 STUDENT TIP A fourth R, improved reputation, follows the success of reduce, reuse, and recycle. DESIGN FOR DISASSEMBLY Sound Barrier, Inc., needs to decide which of two speaker designs is better environmentally. The design team collected the following information for two audio speaker designs, the Harmonizer and the Rocker: APPROACH c 1. 2. 3. 4. Resale value of the components minus the cost of transportation to the disassembly facility Revenue collected from recycling Processing costs, which include disassembly, sorting, cleaning, and packaging Disposal costs, including transportation, fees, taxes, and processing time SOLUTION c The design team developed the following revenue and cost information for the two speaker design alternatives: Harmonizer LO S5.4 Calculate design for disassembly PART Printed circuit board Laminate back RECYCLING REVENUE PER UNIT PROCESSING COST PER UNIT DISPOSAL COST PER UNIT $5.93 $1.54 $3.46 $0.00 0.00 0.00 4.53 1.74 Coil 8.56 5.65 6.22 0.00 Processor 9.17 2.65 3.12 0.00 Frame Aluminum case Total M06_HEIZ0422_12_SE_C05S.indd 199 RESALE REVENUE PER UNIT 0.00 0.00 2.02 1.23 11.83 2.10 2.98 0.00 $35.49 $11.94 $22.33 $2.97 03/11/15 6:20 PM 200 PA RT 2 | D ES I G N I N G O P ERATI ONS Rocker PART RESALE REVENUE PER UNIT RECYCLING REVENUE PER UNIT PROCESSING COST PER UNIT DISPOSAL COST PER UNIT $7.88 $3.54 $2.12 $0.00 Printed circuit board Coil 6.67 4.56 3.32 0.00 Frame 0.00 0.00 4.87 1.97 Processor 8.45 4.65 3.43 0.00 Plastic case 0.00 0.00 4.65 3.98 $23.00 $12.75 $18.39 $5.95 Total Using the Equation (S5-1), the design team can compare the two design alternatives: Revenue retrieval = Total resale revenue + Total recycling revenue - Total processing cost - Total disposal cost (S5-1) Revenue retrieval for Harmonizer 5 $35.49 1 $11.94 − $22.33 − $2.97 5 $22.13 Revenue retrieval for Rocker 5 $23.00 1 $12.75 − $18.39 − $5.95 5 $11.41 After analyzing both environmental revenue and cost components of each speaker design, the design team finds that the Harmonizer is the better environmental design alternative as it achieves a higher revenue retrieval opportunity. Note that the team is assuming that both products have the same market acceptance, profitability, and environmental impact. INSIGHT c What would happen if there was a change in the supply chain that caused the processing and disposal costs to triple for the laminate back part of the Harmonizer? [Answer: The revenue retrieval from the Harmonizer is $35.49 1 $11.94 − $31.39 − $6.45 5 $9.59. This is less than the Rocker’s revenue retrieval of $11.41, so the Rocker becomes the better environmental design alternative, as it achieves a higher revenue retrieval opportunity.] LEARNING EXERCISE c RELATED PROBLEMS c S5.1, S5.2, S5.3, S5.9, S5.12, S5.13, S5.14 Production Process Manufacturers look for ways to reduce the amount of resources in the production process. Opportunities to reduce environmental impact during production typically revolve around the themes of energy, water, and environmental contamination. Conservation of energy and improving energy efficiency come from the use of alternative energy and more energy-efficient machinery. For example: ◆ ◆ STUDENT TIP Las Vegas, always facing a water shortage, pays residents $40,000 an acre to take out lawns and replace them with rocks and native plants. ◆ S.C. Johnson built its own power plant that runs on natural gas and methane piped in from a nearby landfill, cutting back its reliance on coal-fired power. PepsiCo developed Resource Conservation (ReCon), a diagnostic tool for understanding and reducing in-plant water and energy usage. In its first 2 years, ReCon helped sites across the world identify 2.2 billion liters of water savings, with a corresponding cost savings of nearly $2.7 million. Frito-Lay decided to extract water from potatoes, which are 80% water. Each year, a single factory processes 350,000 tons of potatoes, and as those potatoes are processed, the company reuses the extracted water for that factory’s daily production. These and similar successes in the production process reduce both costs and environmental concerns. Less energy is consumed, and less material is going to landfills. Logistics As products move along in the supply chain, managers strive to achieve efficient route and delivery networks, just as they seek to drive down operating cost. Doing so reduces environmental impact. Management analytics (such as linear programming, queuing, and vehicle routing software) help firms worldwide optimize elaborate supply-chain and distribution networks. Networks of container ships, airplanes, trains, and trucks are being analyzed to M06_HEIZ0422_12_SE_C05S.indd 200 03/11/15 6:20 PM | SUSTAINABILITY IN THE SUPPLY CHAIN 201 Ted Foxx/Alamy NG Images/Alamy S U P P L EMENT 5 Three key success factors in the trucking industry are (1) getting shipments to customers promptly (rapid response), (2) keeping trucks busy (capacity utilization), and (3) buying inexpensive fuel (driving down costs). Many firms have now developed devices like the one shown on the right to track location of trucks and facilitate communication between drivers and dispatchers. Some systems use global positioning satellites (shown on the left), to speed shipment response, maximize utilization of the truck, and ensure purchase of fuel at the most economical location. Sensors are also being added inside trailers. These sensors communicate whether the trailer is empty or full and detect if the trailer is connected to a truck or riding on a railroad car. reduce the number of miles traveled or the number of hours required to make deliveries. For example: ◆ ◆ ◆ UPS has found that making left turns increases the time it takes to make deliveries. This in turn increases fuel usage and carbon emissions. So UPS plans its delivery truck routes with the fewest possible left turns. Likewise, airplanes fly at different altitudes and routes to take advantage of favorable wind conditions in an effort to reduce fuel use and carbon emissions. Food distribution companies now have trucks with three temperature zones (frozen, cool, and nonrefrigerated) instead of using three different types of trucks. Whirlpool radically revised its packaging to reduce “dings and dents” of appliances during delivery, generating huge savings in transportation and warranty costs. To further enhance logistic efficiency, operations managers also evaluate equipment alternatives, taking into account cost, payback period, and the firm’s stated environmental objectives. Example S2 deals with decision making that takes into account life cycle ownership costs. A firm must decide whether to pay more up front for vehicles to further its sustainability goals or to pay less up front for vehicles that do not. Example S2 LIFE CYCLE OWNERSHIP AND CROSSOVER ANALYSIS Blue Star is starting a new distribution service that delivers auto parts to the service departments of auto dealerships in the local area. Blue Star has found two light-duty trucks that would do the job well, so now it needs to pick one to perform this new service. The Ford TriVan costs $28,000 to buy and uses regular unleaded gasoline, with an average fuel efficiency of 24 miles per gallon. The TriVan has an operating cost of $.20 per mile. The Honda CityVan, a hybrid truck, costs $32,000 to buy and uses regular unleaded gasoline and battery power; it gets an average of 37 miles per gallon. The CityVan has an operating cost of $.22 per mile. The distance traveled annually is estimated to be 22,000 miles, with the life of either truck expected to be 8 years. The average gas price is $4.25 per gallon. APPROACH c Blue Star applies Equation (S5-2) to evaluate total life cycle cost for each vehicle: Total life cycle cost = Cost of vehicle + Life cycle cost of fuel + Life cycle operating cost (S5-2) a) Based on life cycle cost, which model truck is the best choice? b) How many miles does Blue Star need to put on a truck for the costs to be equal? c) What is the crossover point in years? M06_HEIZ0422_12_SE_C05S.indd 201 03/11/15 6:21 PM 202 PA RT 2 | D ES I G N I N G O P ERATI ONS SOLUTION c a) Ford TriVan: miles year Total life@ miles b($.20>mile)(8 years) = $28,000 + ≥ ¥ ($4.25>gallon) (8 years) + a22,000 year cycle cost miles 24 gallon 22,000 = $28,000 + $31,167 + $35,200 = $94,367 Honda CityVan: miles year Total life@ miles b($.22>mile)(8 years) = $32,000 + ≥ ¥ ($4.25>gallon)(8 years) + a22,000 year cycle cost miles 37 gallon 22, 000 = $32,000 + $20,216 + $38,720 = $90,936 b) Blue Star lets M be the crossover (break-even) point in miles, sets the two life cycle cost equations equal to each other, and solves for M: Total cost for Ford TriVan = Total cost for Honda CityVan $ $ 4.25 4.25 gallon gallon $ $ + .20 ¥ (M miles) = $32,000 + ≥ + .22 ¥ (M miles) $28,000 + ≥ miles mile miles mile 24 37 gallon gallon or, or, $28,000 + a.3770 $ $ b(M) = $32,000 + a.3349 b (M) mile mile $ b(M ) = $4,000 mile $4,000 M = = 95,012 miles $ .0421 mile a.0421 c) The crossover point in years is: Crossover point = 95,012 miles = 4.32 years miles 22,000 year INSIGHTS c a) Honda CityVan is the best choice, even though the initial fixed cost and variable operating cost per mile are higher. The savings comes from the better fuel mileage (more miles per gallon) for the Honda CityVan. b) The crossover (break-even) point is at 95,012 miles, which indicates that at this mileage point, the cost for either truck is the same. c) It will take 4.32 years to recoup the cost of purchasing and operating either vehicle. It will cost Blue Star approximately $.03 per mile less to operate the Honda CityVan than the Ford TriVan over the 8-year expected life. If the cost of gasoline drops to $3.25, what will be the total life-cycle cost of each van, the break-even point in miles, and the crossover point in years? [Answer: The cost of the Ford TriVan is $87,033; the Honda CityVan costs $86,179; the break-even is 144,927 miles; and the crossover point is 6.59 years.] LEARNING EXERCISE c RELATED PROBLEMS c M06_HEIZ0422_12_SE_C05S.indd 202 S5.4, S5.5, S5.6, S5.10, S5.11, S5.15, S5.16, S5.17, S5.18, S5.19 03/11/15 6:21 PM S U P P L EMENT 5 | SUSTAINABILITY IN THE SUPPLY CHAIN 203 End-of-Life Phase We noted earlier that during product design, managers need to consider what happens to a product or its materials after the product reaches its end-of-life stage. Products with less material, with recycled material, or with recyclable materials all contribute to sustainability efforts, reducing the need for the “burn or bury” decision and conserving scarce natural resources. Innovative and sustainability-conscious companies are now designing closed-loop supply chains, also called reverse logistics. Firms can no longer sell a product and then forget about it. They need to design and implement end-of-life systems for the physical return of products that facilitate recycling or reuse. Caterpillar, through its expertise in remanufacturing technology and processes, has devised Cat Reman, a remanufacturing initiative, in an effort to show its commitment to sustainability. Caterpillar remanufactures parts and components that provide same-as-new performance and reliability at a fraction of new cost, while reducing the impact on the environment. The remanufacturing program is based on an exchange system where customers return a used component in exchange for a remanufactured product. The result is lower operating costs for the customer, reduced material waste, and less need for raw material to make new products. In a 1-year period, Caterpillar took back 2.1 million end-of-life units and remanufactured over 130 million pounds of material from recycled iron. The OM in Action box “From Assembly Lines to Green Disassembly Lines” describes one automaker’s car design philosophy to facilitate the disassembly, recycling, and reuse of its autos that have reached their end-of-life. Closed-loop supply chains Supply chains that consider forward and reverse product flows over the entire life cycle. Regulations and Industry Standards Government, industry standards, and company policies are all important factors in operational decisions. Failure to recognize these constraints can be costly. Over the last 100 years, we have seen development of regulations, standards, and policies to guide managers in product design, manufacturing/assembly, and disassembly/disposal. To guide decisions in product design, U.S. laws and regulations, such as those of the Food and Drug Administration, Consumer Product Safety Commission, and National Highway Safety Administration, provide guidance and often explicit regulations. Manufacturing and assembly activities have their own set of regulatory agencies providing guidance and standards of operations. These include the Occupational Safety and Health From Assembly Lines to Green Disassembly Lines A century has passed since assembly lines were developed to make automobiles—and now we’re developing disassembly lines to take them apart. So many automobiles are disassembled that recycling is the 16thlargest industry in the U.S. The motivation for this comes from many sources, including mandated industry recycling standards and a growing consumer interest in purchasing cars based on how “green” they are. New car designs have traditionally been unfriendly to recyclers, with little thought given to disassembly. Some components, such as air bags, are hard to handle and dangerous, and they take time to disassemble. However, manufacturers now design in such a way that materials can be easily reused in the next generation of cars. The 2015 Mercedes S-class is 95% recyclable. BMW has disassembly plants in Europe, Japan, New York, Los Angeles, and Orlando. A giant 200,000-square-foot facility in Baltimore (called CARS) can disassemble up to 30,000 vehicles per year. At CARS’s initial “greening station,” special tools puncture tanks and drain fluids and remove the battery and gas tank. Then wheels, doors, hood, and trunk are removed; next come the interior items; plastic parts are removed and sorted for recycling; then glass and interior and trunk materials. Eventually the chassis is a bale and sold as a commodity to M06_HEIZ0422_12_SE_C05S.indd 203 Ton Koene/Alamy OM in Action LO S5.5 Explain the impact of sustainable regulations on operations minimills that use scrap steel. Reusable parts are bar-coded and entered into a database. The photo shows an operator controlling the car recycling plant. Sources: Wall Street Journal (April 29, 2008) and Time (February 4, 2010). 03/11/15 6:21 PM 204 PA RT 2 | D ES I G N I N G O P ERATI ONS STUDENT TIP A group of 100 apparel brands and retailers have created the Eco Index to display an eco-value on a tag, like the Energy Star rating does for appliances. Administration (OSHA), Environmental Protection Agency (EPA), and many state and local agencies that regulate workers’ rights and employment standards. U.S. agencies that govern the disassembly and disposal of hazardous products include the EPA and the Department of Transportation. As product life spans shorten due to everchanging trends and innovation, product designers are under added pressure to design for disassembly. This encourages designers to create products that can be disassembled and whose components can be recovered, minimizing impact on the environment. Organizations are obliged by society and regulators to reduce harm to consumers, employees, and the environment. The result is a proliferation of community, state, federal, and even international laws that often complicate compliance. The lack of coordination of regulations and reporting requirements between jurisdictions adds not just complexity but cost. From the following examples it is apparent that nearly all industries must abide by regulations in some form or another: ◆ ◆ ◆ Commercial homebuilders are required not just to manage water runoff but to have a pollution prevention plan for each site. Public drinking water systems must comply with the Federal Safe Drinking Water Act’s arsenic standard, even for existing facilities. Hospitals are required to meet the terms of the Resource Conservation and Recovery Act, which governs the storage and handling of hazardous material. The consequences of ignoring regulations can be disastrous and even criminal. The EPA investigates environmental crimes in which companies and individuals are held accountable. Prison time and expensive fines can be handed down. (British Petroleum paid billions of dollars in fines in the past few years for breaking U.S. environmental and safety laws.) Even if a crime has not been committed, the financial impacts and customer upheaval can be disastrous to companies that do not comply with regulations. Due to lack of supplier oversight, Mattel, Inc., the largest U.S. toymaker, has recalled over 10 million toys in recent years because of consumer health hazards such as lead paint. International Environmental Policies and Standards Organizations such as the U.N. Framework Convention on Climate Change (UNFCCC), International Organization for Standardization (ISO), and governments around the globe are guiding businesses to reduce environmental impacts from disposal of materials to reductions in greenhouse gas (GHG) emissions. Some governments are implementing laws that mandate the outright reduction of GHG emissions by forcing companies to pay taxes based on the amount of GHG emissions that are emitted. We now provide an overview of some of the international standards that apply to how businesses operate, manufacture, and distribute goods and services. European Union Emissions Trading System The European Union has developed and implemented the EU Emissions Trading System (EUETS) to combat climate change. This is the key tool for reducing industrial greenhouse gas emissions in the EU. The EUETS works on the “cap-and-trade” principle. This means there is a cap, or limit, on the total amount of certain greenhouse gases that can be emitted by factories, power plants, and airlines in EU airspace. Within this cap, companies receive emission allowances, which they can sell to, or buy from, one another as needed. The International Organization for Standardization (ISO) is widely known for its contributions in ISO 9000 quality assurance standards (discussed in Chapter 6). The ISO 14000 family grew out of the ISO’s commitment to support the 1992 U.N. objective of sustainable development. ISO 14000 is a series of environmental management standards that contain five core elements: (1) environmental management, (2) auditing, (3) performance evaluation, (4) labeling, and (5) life cycle assessment. Companies that demonstrate these elements may apply for certification. ISO 14000 has several advantages: ISO 14000 ISO 14000 A series of environmental management standards established by the International Organization for Standardization (ISO). ◆ ◆ M06_HEIZ0422_12_SE_C05S.indd 204 Positive public image and reduced exposure to liability Good systematic approach to pollution prevention through minimization of ecological impact of products and activities 03/11/15 6:21 PM S U P P L EMENT 5 ◆ 205 Subaru’s Clean, Green Set of Wheels with ISO 14001 “Going green” had humble beginnings. First, it was newspapers, soda cans and bottles, and corrugated packaging—the things you typically throw into your own recycling bins. Similarly, at Subaru’s Lafayette, Indiana, plant, the process of becoming the first completely waste-free auto plant in North America began with employees dropping these items in containers throughout the plant. Then came employee empowerment. “We had 268 suggestions for different things to improve our recycling efforts,” said Denise Coogan, plant ISO 14001 environmental compliance leader. Some ideas were easy to handle. “With plastic shrink wrap, we found some (recyclers) wouldn’t take colored shrink wrap. So we went back to our vendors and asked for only clear shrink wrap,” Coogan said. Some suggestions were a lot dirtier. “We went dumpster diving to see what we were throwing away and see what we could do with it.” The last load of waste generated by Subaru made its way to a landfill 7 years ago. Since then, everything that enters the plant eventually exits as a usable product. Coogan adds, “We didn’t redefine ‘zero.’ Zero means zero. Nothing from our manufacturing process goes to the landfill.” Last year alone, the Subaru plant recycled 13,142 tons of steel, 1,448 tons of paper products, 194 tons of plastics, 10 tons of solvent-soaked rags, ◆ SUSTAINABILITY IN THE SUPPLY CHAIN Cnky Photography/Fotolia OM in Action | and 4 tons of light bulbs. Doing so conserved 29,200 trees, 670,000 gallons of oil, 34,700 gallons of gas, 10 million gallons of water, and 53,000 million watts of electricity. “Going green” isn’t easy, but it can be done! Sources: IndyStar (May 10, 2014) and BusinessWeek (June 6, 2011). Compliance with regulatory requirements and opportunities for competitive advantage Reduction in the need for multiple audits ISO 14000 standards have been implemented by more than 200,000 organizations in 155 countries. Companies that have implemented ISO 14000 standards report environmental and economic benefits such as reduced raw material/resource use, reduced energy consumption, lower distribution costs, improved corporate image, improved process efficiency, reduced waste generation and disposal costs, and better utilization of recoverable resources. ISO 14001, which addresses environmental management systems, gives guidance to companies to minimize harmful effects on the environment caused by their activities. The OM in Action box “Subaru’s Clean, Green Set of Wheels with ISO 14001” illustrates the growing application of the ISO 14000 standards. Summary If a firm wants to be viable and competitive, it must have a strategy for corporate social responsibility and sustainability. Operations and supply-chain managers understand that they have a critical role in a firm’s sustainability objectives. Their actions impact all the stakeholders. They must continually seek new and innovative ways to design, produce, deliver, and dispose of profitable, customer-satisfying products while adhering to many environmental regulations. Without the expertise and commitment of operations and supply-chain managers, firms are unable to meet their sustainability obligations. Key Terms Corporate social responsibility (CSR) (p. 194) Shared value (p. 194) Sustainability (p. 195) Carbon footprint (p. 197) Economic sustainability (p. 197) Life cycle assessment (p. 198) Closed-loop supply chains (p. 203) ISO 14000 (p. 204) Discussion Questions 1. Why must companies practice corporate social responsibility? 2. Find statements of sustainability for a well-known company online and analyze that firm’s policy. 3. Explain sustainability. M06_HEIZ0422_12_SE_C05S.indd 205 4. 5. 6. 7. Discuss the 3Rs. Explain closed-loop supply chains. How would you classify a company as green? Why are sustainable business practices important? 03/11/15 6:21 PM 206 PA RT 2 | D ES I G N I N G O P ERATI ONS Solved Problems Virtual Office Hours help is available in MyOMLab. SOLVED PROBLEM S5.1 Design 2 The design team for Superior Electronics is creating a mobile audio player and must choose between two design alternatives. Which is the better environmental design alternative, based on achieving a higher revenue retrieval opportunity? Case 5.83 3.23 2.32 1.57 SOLUTION Amplifier 1.67 2.34 4.87 0.00 Collecting the resale revenue per unit, recycling revenue per unit, processing cost per unit, and the disposal cost per unit, the design team computes the revenue retrieval for each design: Design 1 PART Tuner RESALE REVENUE PER UNIT RECYCLING REVENUE PER UNIT $4.93 $2.08 PROCESSING COST PER UNIT $2.98 DISPOSAL COST PER UNIT $0.56 Speaker 0.00 0.00 4.12 1.23 Case 6.43 7.87 4.73 0.00 Total $11.36 $9.95 $11.83 $1.79 PART RESALE REVENUE PER UNIT RECYCLING REVENUE PER UNIT PROCESSING COST PER UNIT DISPOSAL COST PER UNIT Tuner $6.91 $4.92 $3.41 $2.13 Speaker Total 0.00 0.00 3.43 1.97 $14.41 $10.49 $14.03 $5.67 Using the following formula [Equation (S5-1)], compare the two design alternatives: Revenue retrieval = Total resale revenue + Total recycling revenue - Total processing cost - Total disposal cost Revenue retrieval Design 1 = +11.36 + +9.95 - +11.83 - +1.79 = +7.69 Revenue retrieval Design 2 = +14.41 + +10.49 - +14.03 - +5.67 = +5.20 Design 1 brings in the most revenue from its design when the product has reached its end-of-life. SOLVED PROBLEM S5.2 The City of High Point is buying new school buses for the local school system. High Point has found two models of school buses that it is interested in. Eagle Mover costs $80,000 to buy and uses diesel fuel, with an average fuel efficiency of 10 miles per gallon. Eagle Mover has an operating cost of $.28 per mile. Yellow Transport, a hybrid bus, costs $105,000 to buy and uses diesel fuel and battery power, getting an average of 22 miles per gallon. Yellow Transport has an operating cost of $.32 per mile. The distance traveled annually is determined to be 25,000 miles, with the expected life of either bus to be 10 years. The average diesel price is $3.50 per gallon. SOLUTION a) Based on life cycle cost, which bus is the better choice? Eagle Mover: miles 25,000 year miles $80,000 + ≥ b($.28>mile)(10 years) ¥ ($3.50>gallon)(10 years) + a25,000 year miles 10 gallon = $80,000 + $87,500 + $70,000 = $237,500 Yellow Transport: miles 25,000 year miles $105,000 + ≥ b($.32>mile)(10 years) ¥ ($3.50>gallon)(10 years) + a25,000 year miles 22 gallon = $105,000 + $39,773 + $80,000 = $224,773 Yellow Transport is the better choice. b) How many miles does the school district need to put on a bus for costs to be equal? Let M be the break-even point in miles, set the equations equal to each other, and solve for M: Total cost for Eagle Mover 5 Total cost for Yellow Transport $ $ 3.50 3.50 gallon gallon $ $ $80,000 + ≥ + .28 ¥ (M miles) = $105,000 + ≥ + .32 ¥ (M miles) miles mile miles mile 10 22 gallon gallon $ $ $80,000 + a.630 b(M ) = $105,000 + a.479 b(M ) mile mile $ b(M ) = $25,000 a.151 mile $25,000 = 165,563 miles M = $ .151 mile M06_HEIZ0422_12_SE_C05S.indd 206 03/11/15 6:21 PM S U P P L EMENT 5 | SUSTAINABILITY IN THE SUPPLY CHAIN 207 c) What is the crossover point in years? Crossover point = 165,563 miles = 6.62 years miles 25,000 year Problems Problems S5.1–S5.19 relate to Design and Production for Sustainability • • S5.1 The Brew House needs to decide which of two coffee maker designs is better environmentally. Using the following tables, determine which model is the better design alternative. Brew Master • • S5.6 Given the crossover mileage in Problem S5.5, what is the crossover point in years? • • S5.7 In Problem S5.5, if gas prices rose to $4.00 per gallon, what would be the new crossover point in miles? • • S5.8 Using the new crossover mileage in Problem S5.7, what is the crossover point in years? RESALE REVENUE PER UNIT RECYCLING REVENUE PER UNIT PROCESSING COST PER UNIT DISPOSAL COST PER UNIT $1.65 $2.87 $1.25 $0.75 Timer 0.50 0.00 1.53 1.45 • • S5.9 Mercedes is assessing which of two windshield suppliers provides a better environmental design for disassembly. Using the tables below, select between PG Glass and Glass Unlimited. Plug/cord 4.25 5.65 6.22 0.00 PG Glass Coffee pot 2.50 2.54 2.10 1.35 PROCESSING COST PER UNIT DISPOSAL COST PER UNIT PART Metal frame Brew Mini PART PART RESALE REVENUE PER UNIT Plastic frame RECYCLING REVENUE PER UNIT $1.32 $3.23 $0.95 $0.95 Plug/cord 3.95 4.35 5.22 0.00 Coffee pot 2.25 2.85 2.05 1.25 • • S5.2 Using the information in Problem S5.1, which design alternative is the better environmental choice if the Brew House decided to add a timer to the Brew Mini model? The timer revenue and costs are identical to those of the Brew Master. • • S5.3 Using the information in Problem S5.1, which design alternative is the better environmental choice if the Brew House decided to remove the timer from the Brew Master model? • • S5.4 What is the total vehicle life cycle cost of this hybrid car, given the information provided in the following table? VEHICLE PURCHASE COST $17,000 VEHICLE OPERATING COST PER MILE $0.12 USEFUL LIFE OF VEHICLE 15 years MILES PER YEAR 14,000 MILES PER GALLON 32 AVERAGE FUEL PRICE PER GALLON $3.75 • • S5.5 What is the crossover point in miles between the hybrid vehicle in Problem S5.4 and this alternative vehicle from a competing auto manufacturer? VEHICLE PURCHASE COST $19,000 VEHICLE OPERATING COST PER MILE $0.09 USEFUL LIFE OF VEHICLE 15 years MILES PER YEAR 14,000 MILES PER GALLON 35 AVERAGE FUEL PRICE PER GALLON $3.75 M06_HEIZ0422_12_SE_C05S.indd 207 Glass RESALE RECYCLING PROCESSING REVENUE REVENUE COST PER PER UNIT PER UNIT UNIT $12 $10 $6 DISPOSAL COST PER UNIT $2 Steel frame 2 1 1 1 Rubber insulation 1 2 1 1 Glass Unlimited PART Reflective glass RESALE RECYCLING PROCESSING REVENUE REVENUE COST PER PER UNIT PER UNIT UNIT DISPOSAL COST PER UNIT $15 $12 $7 $3 Aluminium frame 4 3 2 2 Rubber insulation 2 2 1 1 • • S5.10 Environmentally conscious Susan has been told that a new electric car will only generate 6 ounces of greenhouse gases (GHG) per mile, but that a standard internal combustion car is double that at 12 ounces per mile. However, the nature of electric cars is such that the new technology and electric batteries generate 30,000 lbs. of GHG to manufacture and another 10,000 lbs. to recycle. A standard car generates only 14,000 lbs. of GHG to manufacture, and recycling with established technology is only 1,000 lbs. Susan is interested in taking a systems approach that considers the life-cycle impact of her decision. How many miles must she drive the electric car for it to be the preferable decision in terms of reducing greenhouse gases? • • • S5.11 A Southern Georgia school district is considering ordering 53 propane-fueled school buses. “They’re healthier, they’re cleaner burning, and they’re much quieter than the diesel option,” said a school administrator. Propane-powered buses also reduce greenhouse gasses by 22% compared to gasolinepowered buses and 6% compared to diesel ones. But they come at a premium—$103,000 for a propane model, $15,000 more than the diesel equivalent. The propane bus operating cost (above and beyond fuel cost) is 30 cents/mile, compared to 40 cents for the diesel. Diesel fuel costs about $2/gallon in Georgia, about $1 more than propane. 03/11/15 6:21 PM 208 PA RT 2 | D ES I G N I N G O P ERATI ONS Bus mileage is 12 mpg for the propane model vs. 10 mpg for diesel. The life of a school bus in the district averages 9 years, and each bus travels an average of 30,000 miles per year because the district is so large and rural. Which bus is the better choice based on a life-cycle analysis? • • S5.12 Green Forever, a manufacturer of lawn equipment, has preliminary drawings for two grass trimmer designs. Charla Fraley’s job is to determine which is better environmentally. Specifically, she is to use the following data to help the company determine: a) The revenue retrieval for the GF Deluxe b) The revenue retrieval for the Premium Mate c) Which model is the better design alternative based on revenue retrieval GF Deluxe PART Metal drive RESALE REVENUE PER UNIT RECYCLING REVENUE PER UNIT PROCESSING COST PER UNIT DISPOSAL COST PER UNIT • • S5.14 Green Forever’s challenge (see Problem S5.12) is to determine which design alternative is the better environmental choice if it uses a different battery for the Premium Mate. The alternate battery revenue and costs are as follows: PART Battery RESALE REVENUE PER UNIT RECYCLING REVENUE PER UNIT PROCESSING COST PER UNIT DISPOSAL COST PER UNIT $0.00 $3.68 $4.15 $3.00 a) What is the revenue retrieval for the GF Deluxe? b) What is the revenue retrieval for the Premium Mate? c) Which is the better environmental design alternative? • • S5.15 Hartley Auto Supply delivers parts to area auto service centers and is replacing its fleet of delivery vehicles. What is the total vehicle life-cycle cost of this gasoline engine truck given the information provided in the following table? VEHICLE PURCHASE COST $25,000 VEHICLE OPERATING COST PER MILE $0.13 $3.27 $4.78 $1.05 $0.85 USEFUL LIFE OF VEHICLE 10 years Battery 0.00 3.68 6.18 3.05 MILES PER YEAR 18,000 Motor housing 3.93 2.95 2.05 1.25 MILES PER GALLON 25 Trimmer head 1.25 0.75 1.00 0.65 AVERAGE FUEL PRICE PER GALLON $2.55 Premium Mate PART Metal drive RESALE REVENUE PER UNIT RECYCLING REVENUE PER UNIT PROCESSING COST PER UNIT DISPOSAL COST PER UNIT • • S5.16 Given the data in Problem S5.15 and an alternative hybrid vehicle with the specifications shown below: a) What is the crossover point in miles? b) Which vehicle is has the lowest cost until the crossover point is reached? $3.18 $3.95 $1.15 $0.65 Battery 0.00 2.58 4.98 2.90 VEHICLE PURCHASE COST $29,000 Motor housing 4.05 3.45 2.45 1.90 VEHICLE OPERATING COST PER MILE $0.08 0.75 USEFUL LIFE OF VEHICLE 10 years MILES PER YEAR 18,000 MILES PER GALLON 40 AVERAGE FUEL PRICE PER GALLON $2.55 Trimmer head 1.05 0.85 1.10 • • S5.13 Green Forever (see Problem S5.12) has decided to add an automatic string feeder system with cost and revenue estimates as shown below to the GF Deluxe model. a) What is the new revenue retrieval value for each model? b) Which model is the better environmental design alternative? PART String feeder system RESALE REVENUE PER UNIT RECYCLING REVENUE PER UNIT PROCESSING COST PER UNIT DISPOSAL COST PER UNIT $1.05 $1.25 $1.50 $1.40 • S5.17 Based the crossover point in miles found in Problem S5.16, what is this point in years? • • S5.18 Using the data from Problem S5.16, if gas prices rose to $3.00 per gallon, what would be the new crossover point in miles? • S5.19 Using the new crossover point in Problem S5.18, how many years does it take to reach that point? CASE STUDIES Building Sustainability at the Orlando Magic’s Amway Center When the Amway Center opened in Orlando in 2011, it became the first LEED (Leadership in Energy and Environmental Design) gold–certified professional basketball arena in the country. It took 10 years for Orlando Magic’s management to develop a plan for the new state-of-the-art sports and entertainment center. The community received not only an entertainment center but an environmentally sustainable building to showcase M06_HEIZ0422_12_SE_C05S.indd 208 Video Case in its revitalized downtown location. “We wanted to make sure we brought the most sustainable measures to the construction, so in operation we can be a good partner to our community and our environment,” states CEO Alex Martins. The new 875,000-square foot facility—almost triple the size of the Amway Arena it replaced—is now the benchmark for other sports facilities. 03/11/15 6:21 PM S U P P L EMENT 5 | SUSTAINABILITY IN THE SUPPLY CHAIN 209 ◆ ◆ ◆ ◆ ◆ ◆ ◆ The roof of the building is designed to minimize daytime heat gain by using reflective and insulated materials. Rainwater and air-conditioning condensation are captured and used for irrigation. There is 40% less water usage than in similar arenas (saving 800,000 gallons per year), mostly through use of highefficiency restrooms, including low-flow, dual-flush toilets. There is 20% energy savings (about $750,000 per year) with the use of high-efficiency heating and cooling systems. The center used environmentally friendly building materials and recycled 83% of the wood, steel, and concrete construction waste that would have ended up in a landfill. There is preferred parking for hybrids and other energyefficient cars. The center is maintained using green-friendly cleaning products. LEED certification means five environmental measures and one design measure must be met when a facility is graded by the U.S. Green Building Council, which is a nationally accepted benchmark program. The categories are sustainability of site, water efficiency, energy, materials/resources, indoor environmental quality, and design innovation. Other Amway Center design features include efficient receiving docks, food storage layouts, and venue change-over systems. Massive LED electronic signage controlled from a central control room also contributes to lower operating costs. From an operations management perspective, combining these savings with the Green Manufacturing and Sustainability at Frito-Lay Frito-Lay, the multi-billion-dollar snack food giant, requires vast amounts of water, electricity, natural gas, and fuel to produce its 41 well-known brands. In keeping with growing environmental concerns, Frito-Lay has initiated ambitious plans to produce environmentally friendly snacks. But even environmentally friendly snacks require resources. Recognizing the environmental impact, the firm is an aggressive “green manufacturer,” with major initiatives in resource reduction and sustainability. For instance, the company’s energy management program includes a variety of elements designed to engage employees in reducing energy consumption. These elements include scorecards and customized action plans that empower employees and recognize their achievements. At Frito-Lay’s factory in Casa Grande, Arizona, more than 500,000 pounds of potatoes arrive every day to be washed, sliced, fried, seasoned, and portioned into bags of Lay’s and Ruffles chips. The process consumes enormous amounts of energy and creates vast amounts of wastewater, starch, and potato peelings. Frito-Lay plans to take the plant off the power grid and run it almost entirely on renewable fuels and recycled water. The managers at the Casa Grande plant have also installed skylights in conference rooms, offices, and a finished goods warehouse to reduce the need for artificial light. More fuel-efficient ovens recapture heat from exhaust stacks. Vacuum hoses that pull M06_HEIZ0422_12_SE_C05S.indd 209 Fernando Medina Here are a few of the elements in the Amway Center project that helped earn the LEED certification: significant ongoing savings from reduced water and energy usage will yield a major reduction in annual operating expenses. “We think the LEED certification is not only great for the environment but good business overall,” says Martins. Discussion Questions* 1. Find a LEED-certified building in your area and compare its features to those of the Amway Center. 2. What does a facility need to do to earn the gold LEED rating? What other ratings exist? 3. Why did the Orlando Magic decide to “go green” in its new building? *You may wish to view the video that accompanies this case before addressing these questions. Video Case moisture from potato slices to recapture the water and to reduce the amount of heat needed to cook the potato chips are also being used. Frito-Lay has also built over 50 acres of solar concentrators behind its Modesto, California, plant to generate solar power. The solar power is being converted into heat and used to cook Sun Chips. A biomass boiler, which will burn agricultural waste, is also planned to provide additional renewable fuel. Frito-Lay is installing high-tech filters that recycle most of the water used to rinse and wash potatoes. It also recycles corn byproducts to make Doritos and other snacks; starch is reclaimed and sold, primarily as animal feed, and leftover sludge is burned to create methane gas to run the plant boiler. There are benefits besides the potential energy savings. Like many other large corporations, Frito-Lay is striving to establish its green credentials as consumers become more focused on environmental issues. There are marketing opportunities, too. The company, for example, advertises that its popular Sun Chips snacks are made using solar energy. At Frito-Lay’s Florida plant, only 3.5% of the waste goes to landfills, but that is still 1.5 million pounds annually. The goal is zero waste to landfills. The snack food maker earned its spot in the National Environmental Performance Task Program by maintaining a sustained environmental compliance record and 03/11/15 6:21 PM 210 PA RT 2 | D ES I G N I N G O P ERATI ONS making new commitments to reduce, reuse, and recycle at this facility. Substantial resource reductions have been made in the production process, with an energy reduction of 21% across Frito-Lay’s 34 U.S. plants. But the continuing battle for resource reduction continues. The company is also moving toward biodegradable packaging and seasoning bags and cans and bottles. While these multiyear initiatives are expensive, they have the backing at the highest levels of Frito-Lay as well as corporate executives at PepsiCo, the parent company. Discussion Questions* 1. What are the sources of pressure on firms such as Frito-Lay to reduce their environmental footprint? 2. Identify the specific techniques that Frito-Lay is using to become a “green manufacturer.” 3. Select another company and compare its green policies to those of Frito-Lay. *You may wish to view the video that accompanies this case before answering these questions. • Additional Case Study: Visit MyOMLab for this free case study: Environmental Sustainability at Walmart: Walmart’s experiment with global sustainability. Endnotes 1. The authors wish to thank Dr. Steve Leon, University of Central Florida, for his contributions to this supplement. 2. See related discussions in M. E. Porter and M. R. Kramer, “Creating Shared Value,” Harvard Business Review M06_HEIZ0422_12_SE_C05S.indd 210 (Jan.–Feb. 2011) and M. Pfitzer, V. Bockstette, and M. Stamp, “Innovating for Shared Values,” Harvard Business Review (Sept. 2013). 03/11/15 6:21 PM MyOMLab Main Heading Review Material CORPORATE SOCIAL RESPONSIBILITY Managers must consider how the products and services they make affect people and the environment in which they operate. j Corporate social responsibility (CSR)—Managerial decision making that considers environmental, societal, and financial impacts. j Shared value—Developing policies and practices that enhance the competitiveness of an organization, while advancing the economic and social conditions in the communities in which it operates. Concept Question: 1.1 SUSTAINABILITY Sustainability—Meeting the needs of the present without compromising the ability of future generations to meet their needs. Systems view—Looking at a product’s life from design to disposal, including all of the resources required. The commons—Inputs or resources for a production system that are held by the public. Triple bottom line—Systems needed to support the three Ps: people, planet, and profit. To support their people, many companies evaluate safety in the work environment, the wages paid, work hours/week. Apple, GE, P&G, and Walmart conduct audits of their suppliers to make sure sustainability goals are met. To support the planet, operation managers look for ways to reduce the environmental impact of their operations. j Carbon footprint—A measure of the total GHG emissions caused directly and indirectly by an organization, product, event or person. To support their profits, company investments must be sustainable economically. Firms may supplement standard accounting with social accounting. Concept Questions: 2.1–2.4 (p. 194) (pp. 195–197) DESIGN AND PRODUCTION FOR SUSTAINABILITY (pp. 198–203) REGULATIONS AND INDUSTRY STANDARDS (pp. 203–205) M06_HEIZ0422_12_SE_C05S.indd 211 j Life cycle assessment—Analysis of environmental impacts of products from the design stage through end-of-life. The 3Rs: reduce, reuse, and recycle. These must be incorporated by design teams, process managers, and supply-chain personnel. Product design is the most critical phase in the product life cycle assessment. Design for disassembly focuses on reuse and recycle. Revenue retrieval 5 Total resale revenue 1 Total recycling revenue 2 Total processing cost 2 Total disposal cost (S5-1) Manufacturers also look for ways to reduce the amount of scarce resources in the production process. As products move along the supply chain, logistics managers strive to achieve efficient route and delivery networks, which reduce environmental impact. Vehicles are also evaluated on a life cycle ownership cost basis. A firm must decide whether to pay more up front for sustainable vehicles or pay less up front for vehicles that may be less sustainable. Total life cycle cost 5 Cost of vehicle 1 Life cycle cost of fuel 1 Life cycle operating cost (S5-2) j Closed-loop supply chains, also called reverse logistics—Supply chains that consider the product or its materials after the product reaches its end-of-life stage. This includes forward and reverse product flows. Green disassembly lines help take cars apart so that parts can be recycled. Recycling is the 16th-largest industry in the U.S. j Rapid Review S5 Supplement 5 Rapid Review VIDEO S5.1 Building Sustainability at the Orlando Magic’s Amway Center VIDEO S5.2 Green Manufacturing and Sustainability at Frito-Lay Concept Questions: 3.1–3.4 Problems: S5.1–S5.19 Virtual Office Hours for Solved Problems S5.1–S5.2 To guide product design decisions, U.S. laws and regulations often provide Concept Questions: explicit regulations. 4.1–4.4 Manufacturing and assembly activities are guided by OSHA, EPA, and many state and local agencies. There are also U.S. agencies that govern the disassembly and disposal of hazardous products. International environmental policies and standards come from the U.N., ISO, the EU, and governments around the globe. The EU has implemented the Emissions Trading System to help reduce greenhouse gas emissions. It works on a “cap-andtrade” principle. j ISO 14000—The International Organization of Standardization family of guidelines for sustainable development. ISO 14000 has been implemented by more than 200,000 organizations in 155 countries. ISO 14001 addresses environmental management systems. 03/11/15 6:21 PM Rapid Review S5 Supplement 5 Rapid Review continued Self Test j Before taking the self-test, refer to the learning objectives listed at the beginning of the supplement and the key terms listed at the end of the supplement. LO S5.1 Corporate social responsibility includes: a) doing what’s right. b) having policies that consider environmental, societal, and financial impact. c) considering a product from design to disposal. d) all of the above. e) a and b only. LO S5.2 Sustainability deals: a) solely with green products, recycling, global warming, and rain forests. b) with keeping products that are not recyclable. c) with meeting the needs of present and future generations. d) with three views—systems, commons, and defects. e) with not laying off older workers. LO S5.3 The 3Rs of sustainability are: a) reputation, reuse, reduce. b) reputation, recycle, reuse. c) reputation, reverse logistics, renewal. d) reuse, reduce, recycle. e) recycle, review, reuse. LO S5.4 Design for disassembly is: a) cost–benefit analysis for old parts. b) analysis of the amount of revenue that might be reclaimed versus the cost of disposing of a product. c) a means of recycling plastic parts in autos. d) the use of lightweight materials in products. LO S5.5 U.S. and international agencies provide policies and regulations to guide managers in product design, manufacturing/assembly, and disassembly/disposal. They include: a) U.N. Commission on Resettlement. b) World Health Organization (WHO). c) OSHA, FDA, EPA, and NHSA. d) EPA, ISO, and British High Commission. e) GHG Commission, UN, and ISO. Answers: LO S5.1. d; LO S5.2. c; LO S5.3. d; LO S5.4. b; LO S5.5. c. M06_HEIZ0422_12_SE_C05S.indd 212 03/11/15 6:21 PM GLOBAL COMPANY PROFILE: Arnold Palmer Hospital ◆ ◆ Quality and Strategy 216 Tools of TQM 226 ◆ ◆ Defining Quality 217 The Role of Inspection 230 ◆ ◆ Total Quality Management 219 TQM in Services 233 Alaska Air lines Alaska Air lines CHAPTER OUTLINE C H A P T E R 6 Managing Quality 10 OM STRATEGY DECISIONS • • • • • Design of Goods and Services Managing Quality Process Strategy Location Strategies Layout Strategies • • • • • Human Resources Supply-Chain Management Inventory Management Scheduling Maintenance 213 M07_HEIZ0422_12_SE_C06.indd 213 04/11/15 2:58 PM C H A P T E R 6 Managing Quality Provides a Competitive Advantage at Arnold Palmer Hospital GLOBAL COMPANY PROFILE Arnold Palmer Hospital S ince 1989, Arnold Palmer Hospital, named after its famous golfing benefactor, has touched the lives of over 7 million children and women and their families. Its patients come not only from its Orlando location but from all 50 states and around the world. More than 12,000 babies are delivered every year at Arnold Palmer, and its huge neonatal intensive care unit boasts one of the highest survival rates in the U.S. Every hospital professes quality health care, but at Arnold Palmer quality is the mantra— practiced in a fashion like the Ritz-Carlton practices it in the hotel industry. The hospital typically scores in the top 10% of national benchmark studies in terms of patient satisfaction. And its managers follow patient questionnaire results daily. If anything is amiss, corrective action takes place immediately. Virtually every quality management technique we present in this chapter is employed at Arnold Palmer Hospital: ◆ Continuous improvement: The hospital constantly seeks new ways to lower infection rates, readmission rates, deaths, costs, and hospital stay times. Courtesy Arnold Palmer Medical Center Courtesy Arnold Palmer Medical Center The lobby of Arnold Palmer Hospital, with its 20-foot-high Genie, is clearly intended as a warm and friendly place for children. The Storkboard is a visible chart of the status of each baby about to be delivered, so all nurses and doctors are kept up to date at a glance. 214 M07_HEIZ0422_12_SE_C06.indd 214 04/11/15 2:58 PM Courtesy Arnold Palmer Medical Center This PYXIS inventory station gives nurses quick access to medicines and supplies needed in their departments. When the nurse removes an item for patient use, the item is automatically billed to that account, and usage is noted at the main supply area. The hospital has redesigned its neonatal rooms. In the old system, there were 16 neonatal beds in an often noisy and large room. The new rooms are semiprivate, with a quiet simulatednight atmosphere. These rooms have proven to help babies develop and improve more quickly. ◆ Employee empowerment: When employees see a problem, they are trained to take care of Courtesy Arnold Palmer Medical Center it; staff are empowered to give gifts to patients displeased with some aspect of service. ◆ Benchmarking: The hospital belongs to a 2,000-member organization that monitors standards in many areas and provides monthly feedback to the hospital. ◆ Just-in-time: Supplies are delivered to Arnold Palmer on a JIT basis. This keeps inventory costs low and keeps quality problems from hiding. Courtesy Arnold Palmer Medical Center ◆ Tools such as Pareto charts and flowcharts: These tools monitor processes and help the staff graphically spot problem areas and suggest ways they can be improved. From their first day of orientation, employees from janitors to nurses learn that the patient comes first. Staff standing in hallways will never be heard discussing their personal When Arnold Palmer Hospital began planning for a new 11-story hospital across the street from its existing building, it decided on a circular pod design, creating a patient-centered environment. Rooms use warm colors, have pull-down Murphy beds for family members, 14-foot ceilings, and natural lighting with oversized windows. The pod concept also means there is a nursing station within a few feet of each 10-bed pod, saving much wasted walking time by nurses to reach the patient. The Video Case Study in Chapter 9 examines this layout in detail. lives or commenting on confidential issues of health care. This culture of quality at Arnold Palmer Hospital makes a hospital visit, often traumatic to children and their parents, a warmer and more comforting experience. 215 M07_HEIZ0422_12_SE_C06.indd 215 04/11/15 2:58 PM L E A RNING OBJECTIVES LO 6.1 Define quality and TQM 217 LO 6.2 Describe the ISO international quality standards 218 LO 6.3 Explain Six Sigma 221 LO 6.4 Explain how benchmarking is used in TQM 223 LO 6.5 Explain quality robust products and Taguchi concepts 225 LO 6.6 Use the seven tools of TQM 226 Quality and Strategy VIDEO 6.1 The Culture of Quality at Arnold Palmer Hospital STUDENT TIP High-quality products and services are the most profitable. Figure As Arnold Palmer Hospital and many other organizations have found, quality is a wonderful tonic for improving operations. Managing quality helps build successful strategies of differentiation, low cost, and response. For instance, defining customer quality expectations has helped Bose Corp. successfully differentiate its stereo speakers as among the best in the world. Nucor has learned to produce quality steel at low cost by developing efficient processes that produce consistent quality. And Dell Computers rapidly responds to customer orders because quality systems, with little rework, have allowed it to achieve rapid throughput in its plants. Indeed, quality may be the key success factor for these firms, just as it is at Arnold Palmer Hospital. As Figure 6.1 suggests, improvements in quality help firms increase sales and reduce costs, both of which can increase profitability. Increases in sales often occur as firms speed response, increase or lower selling prices, and improve their reputation for quality products. Similarly, improved quality allows costs to drop as firms increase productivity and lower rework, scrap, and warranty costs. One study found that companies with the highest quality were five times as productive (as measured by units produced per labor-hour) as companies with the poorest quality. Indeed, when the implications of an organization’s long-term costs and the potential for increased sales are considered, total costs may well be at a minimum when 100% of the goods or services are perfect and defect free. Quality, or the lack of quality, affects the entire organization from supplier to customer and from product design to maintenance. Perhaps more important, building an organization that can achieve quality is a demanding task. Figure 6.2 lays out the flow of activities for an organization to use to achieve total quality management (TQM). A successful quality strategy begins with an organizational culture that fosters quality, followed by an understanding of the principles of quality, and then engaging employees in the necessary activities to implement quality. When these things are done well, the organization typically satisfies its customers and obtains a competitive advantage. The ultimate goal is to win customers. Because quality causes so many other good things to happen, it is a great place to start. 6.1 Two Ways Quality Improves Profitability Ways Quality Improves Profitability Sales Gains via Improved response Flexible pricing Improved reputation Improved Quality Reduced Costs via Increased Profits Increased productivity Lower rework and scrap costs Lower warranty costs 216 M07_HEIZ0422_12_SE_C06.indd 216 04/11/15 2:58 PM CHAP T ER 6 | MANAGING QUALITY 217 Organizational practices Leadership, Mission statement, Effective operating procedures, Staff support, Training Yields: What is important and what is to be accomplished. Quality principles Customer focus, Continuous improvement, Benchmarking, Just-in-time, Tools of TQM Yields: How to do what is important and to be accomplished. Employee fulfillment Empowerment, Organizational commitment Yields: Employee attitudes that can accomplish what is important. Customer satisfaction Winning orders, Repeat customers Yields: An effective organization with a competitive advantage. Figure 6.2 The Flow of Activities Necessary to Achieve Total Quality Management Defining Quality The operations manager’s objective is to build a total quality management system that identifies and satisfies customer needs. Total quality management takes care of the customer. Consequently, we accept the definition of quality as adopted by the American Society for Quality (ASQ; www.asq.org): “The totality of features and characteristics of a product or service that bears on its ability to satisfy stated or implied needs.” Others, however, believe that definitions of quality fall into several categories. Some definitions are user based. They propose that quality “lies in the eyes of the beholder.” Marketing people like this approach and so do customers. To them, higher quality means better performance, nicer features, and other (sometimes costly) improvements. To production managers, quality is manufacturing based. They believe that quality means conforming to standards and “making it right the first time.” Yet a third approach is product based, which views quality as a precise and measurable variable. In this view, for example, really good ice cream has high butterfat levels. This text develops approaches and techniques to address all three categories of quality. The characteristics that connote quality must first be identified through research (a user-based approach to quality). These characteristics are then translated into specific product attributes (a product-based approach to quality). Then, the manufacturing process is organized to ensure that products are made precisely to specifications (a manufacturing-based approach to quality). A process that ignores any one of these steps will not result in a quality product. Quality The ability of a product or service to meet customer needs. LO 6.1 Define quality and TQM STUDENT TIP To create a quality good or service, operations managers need to know what the customer expects. Implications of Quality In addition to being a critical element in operations, quality has other implications. Here are three other reasons why quality is important: 1. Company reputation: An organization can expect its reputation for quality—be it good or bad—to follow it. Quality will show up in perceptions about the firm’s new products, employment practices, and supplier relations. Self-promotion is not a substitute for quality products. M07_HEIZ0422_12_SE_C06.indd 217 04/11/15 2:58 PM 218 PA RT 2 | D ES I G N I N G O P ERATI ONS 2. Product liability: The courts increasingly hold organizations that design, produce, or distribute faulty products or services liable for damages or injuries resulting from their use. Legislation such as the Consumer Product Safety Act sets and enforces product standards by banning products that do not reach those standards. Impure foods that cause illness, nightgowns that burn, tires that fall apart, or auto fuel tanks that explode on impact can all lead to huge legal expenses, large settlements or losses, and terrible publicity. 3. Global implications: In this technological age, quality is an international, as well as OM, concern. For both a company and a country to compete effectively in the global economy, products must meet global quality, design, and price expectations. Inferior products harm a firm’s profitability and a nation’s balance of payments. Malcolm Baldrige National Quality Award The global implications of quality are so important that the U.S. has established the Malcolm Baldrige National Quality Award for quality achievement. The award is named for former Secretary of Commerce Malcolm Baldrige. Winners include such firms as Motorola, Milliken, Xerox, FedEx, Ritz-Carlton Hotels, AT&T, Cadillac, and Texas Instruments. (For details about the Baldrige Award and its 1,000-point scoring system, visit www.nist.gov/baldrige/.) The Japanese have a similar award, the Deming Prize, named after an American, Dr. W. Edwards Deming. ISO 9000 International Quality Standards ISO 9000 A set of quality standards developed by the International Organization for Standardization (ISO). LO 6.2 Describe the ISO international quality standards STUDENT TIP International quality standards grow in prominence every year. See www.iso.ch. The move toward global supply chains has placed so much emphasis on quality that the world has united around a single quality standard, ISO 9000. ISO 9000 is the quality standard with international recognition. Its focus is to enhance success through eight quality management principles: (1) top management leadership, (2) customer satisfaction, (3) continual improvement, (4) involvement of people, (5) process analysis, (6) use of data-driven decision making, (7) a systems approach to management, and (8) mutually beneficial supplier relationships. The ISO standard encourages establishment of quality management procedures, detailed documentation, work instructions, and recordkeeping. Like the Baldrige Awards, the assessment includes self-appraisal and problem identification. Unlike the Baldrige, ISO certified organizations must be reaudited every three years. The latest modification of the standard, ISO 9001: 2015, follows a structure that makes it more compatible with other management systems. This version gives greater emphasis to riskbased thinking, attempting to prevent undesirable outcomes. Over one million certifications have been awarded to firms in 206 countries, including about 30,000 in the U.S. To do business globally, it is critical for a firm to be certified and listed in the ISO directory. Cost of Quality (COQ) Cost of quality (COQ) The cost of doing things wrong—that is, the price of nonconformance. Four major categories of costs are associated with quality. Called the cost of quality (COQ), they are: ◆ ◆ ◆ ◆ M07_HEIZ0422_12_SE_C06.indd 218 Prevention costs: costs associated with reducing the potential for defective parts or services (e.g., training, quality improvement programs). Appraisal costs: costs related to evaluating products, processes, parts, and services (e.g., testing, labs, inspectors). Internal failure costs: costs that result from production of defective parts or services before delivery to customers (e.g., rework, scrap, downtime). External failure costs: costs that occur after delivery of defective parts or services (e.g., rework, returned goods, liabilities, lost goodwill, costs to society). 04/11/15 2:58 PM CHAP T ER 6 TABLE 6.1 | MANAGING QUALITY 219 Leaders in the Field of Quality Management LEADER PHILOSOPHY/CONTRIBUTION W. Edwards Deming Deming insisted management accept responsibility for building good systems. The employee cannot produce products that on average exceed the quality of what the process is capable of producing. His 14 points for implementing quality improvement are presented in this chapter. Joseph M. Juran A pioneer in teaching the Japanese how to improve quality, Juran believed strongly in top-management commitment, support, and involvement in the quality effort. He was also a believer in teams that continually seek to raise quality standards. Juran varies from Deming somewhat in focusing on the customer and defining quality as fitness for use, not necessarily the written specifications. Armand Feigenbaum His 1961 book Total Quality Control laid out 40 steps to quality improvement processes. He viewed quality not as a set of tools but as a total field that integrated the processes of a company. His work in how people learn from each other’s successes led to the field of cross-functional teamwork. Philip B. Crosby Quality Is Free was Crosby’s attention-getting book published in 1979. Crosby believed that in the traditional trade-off between the cost of improving quality and the cost of poor quality, the cost of poor quality is understated. The cost of poor quality should include all of the things that are involved in not doing the job right the first time. Crosby coined the term zero defects and stated, “There is absolutely no reason for having errors or defects in any product or service.” Source: Based on Quality Is Free by Philip B. Crosby (New York, McGraw-Hill, 1979) p. 58. The first three costs can be reasonably estimated, but external costs are very hard to quantify. When GE had to recall 3.1 million dishwashers (because of a defective switch alleged to have started seven fires), the cost of repairs exceeded the value of all the machines. This leads to the belief by many experts that the cost of poor quality is consistently underestimated. Observers of quality management believe that, on balance, the cost of quality products is only a fraction of the benefits. They think the real losers are organizations that fail to work aggressively at quality. For instance, Philip Crosby stated that quality is free. “What costs money are the unquality things—all the actions that involve not doing it right the first time.”1 Takumi is a Japanese character that symbolizes a broader dimension than quality, a deeper process than education, and a more perfect method than persistence. Besides Crosby there are several other giants in the field of quality management, including Deming, Feigenbaum, and Juran. Table 6.1 summarizes their philosophies and contributions. Leaders in Quality Ethics and Quality Management For operations managers, one of the most important jobs is to deliver healthy, safe, and quality products and services to customers. The development of poor-quality products, because of inadequate design and production processes, not only results in higher production costs but also leads to injuries, lawsuits, and increased government regulation. If a firm believes that it has introduced a questionable product, ethical conduct must dictate the responsible action. This may be a worldwide recall, as conducted by both Johnson & Johnson (for Tylenol) and Perrier (for sparkling water), when each of these products was found to be contaminated. A manufacturer must accept responsibility for any poor-quality product released to the public. There are many stakeholders involved in the production and marketing of poor-quality products, including stockholders, employees, customers, suppliers, distributors, and creditors. As a matter of ethics, management must ask if any of these stakeholders are being wronged. Every company needs to develop core values that become day-to-day guidelines for everyone from the CEO to production-line employees. Total Quality Management Total quality management (TQM) refers to a quality emphasis that encompasses the entire organiza- tion, from supplier to customer. TQM stresses a commitment by management to have a continuing companywide drive toward excellence in all aspects of products and services that are M07_HEIZ0422_12_SE_C06.indd 219 Total quality management (TQM) Management of an entire organization so that it excels in all aspects of products and services that are important to the customer. 04/11/15 2:58 PM 220 PA RT 2 | D ES I G N I N G O P ERATI ONS TABLE 6.2 Deming’s 14 Points for Implementing Quality Improvement 1. Create consistency of purpose. 2. Lead to promote change. 3. Build quality into the product; stop depending on inspections to catch problems. 4. Build long-term relationships based on performance instead of awarding business on the basis of price. 5. Continuously improve product, quality, and service. 6. Start training. 7. Emphasize leadership. 8. Drive out fear. 9. Break down barriers between departments. 10. Stop haranguing workers. 11. Support, help, and improve. 12. Remove barriers to pride in work. 13. Institute a vigorous program of education and self-improvement. 14. Put everybody in the company to work on the transformation. Source: Deming, W. Edwards. Out of the Crisis, pp. 23–24, © 2000 W. Edwards Deming Institute, published by The MIT Press. Reprinted by permission. STUDENT TIP Here are 7 concepts that make up the heart of an effective TQM program. important to the customer. Each of the 10 decisions made by operations managers deals with some aspect of identifying and meeting customer expectations. Meeting those expectations requires an emphasis on TQM if a firm is to compete as a leader in world markets. Quality expert W. Edwards Deming used 14 points (see Table 6.2) to indicate how he implemented TQM. We develop these into seven concepts for an effective TQM program: (1) continuous improvement, (2) Six Sigma, (3) employee empowerment, (4) benchmarking, (5) just-in-time (JIT), (6) Taguchi concepts, and (7) knowledge of TQM tools. Continuous Improvement Total quality management requires a never-ending process of continuous improvement that covers people, equipment, suppliers, materials, and procedures. The basis of the philosophy is that every aspect of an operation can be improved. The end goal is perfection, which is never achieved but always sought. Walter Shewhart, another pioneer in quality management, developed a circular model known as PDCA (plan, do, check, act) as his version of continuous improvement. Deming later took this concept to Japan during his work there after World War II. The PDCA cycle (also called a Deming circle or a Shewhart circle) is shown in Figure 6.3 as a circle to stress the continuous nature of the improvement process. Plan-Do-Check-Act PDCA A continuous improvement model of plan, do, check. act. Figure 6.3 PDCA Cycle M07_HEIZ0422_12_SE_C06.indd 220 4. Act Implement the plan, document. 1. Plan Identify the problem and make a plan. 3. Check Is the plan working? 2. Do Test the plan. 04/11/15 2:58 PM CHAP T ER 6 | MANAGING QUALITY 221 The Japanese use the word kaizen to describe this ongoing process of unending improvement—the setting and achieving of ever-higher goals. In the U.S., TQM and zero defects are also used to describe continuous improvement efforts. But whether it’s PDCA, kaizen, TQM, or zero defects, the operations manager is a key player in building a work culture that endorses continuous improvement. Six Sigma The term Six Sigma, popularized by Motorola, Honeywell, and General Electric, has two meanings in TQM. In a statistical sense, it describes a process, product, or service with an extremely high capability (99.9997% accuracy). For example, if 1 million passengers pass through the St. Louis Airport with checked baggage each month, a Six Sigma program for baggage handling will result in only 3.4 passengers with misplaced luggage. The more common three-sigma program (which we address in the supplement to this chapter) would result in 2,700 passengers with misplaced bags every month. See Figure 6.4. The second TQM definition of Six Sigma is a program designed to reduce defects to help lower costs, save time, and improve customer satisfaction. Six Sigma is a comprehensive system— a strategy, a discipline, and a set of tools—for achieving and sustaining business success: ◆ ◆ ◆ It is a strategy because it focuses on total customer satisfaction. It is a discipline because it follows the formal Six Sigma Improvement Model known as DMAIC. This five-step process improvement model (1) Defines the project’s purpose, scope, and outputs and then identifies the required process information, keeping in mind the customer’s definition of quality; (2) Measures the process and collects data; (3) Analyzes the data, ensuring repeatability (the results can be duplicated) and reproducibility (others get the same result); (4) Improves, by modifying or redesigning, existing processes and procedures; and (5) Controls the new process to make sure performance levels are maintained. It is a set of seven tools that we introduce shortly in this chapter: check sheets, scatter diagrams, cause-and-effect diagrams, Pareto charts, flowcharts, histograms, and statistical process control. Six Sigma A program to save time, improve quality, and lower costs. LO 6.3 Explain Six Sigma Motorola developed Six Sigma in the 1980s, in response to customer complaints about its products and in response to stiff competition. The company first set a goal of reducing defects by 90%. Within one year, it had achieved such impressive results—through benchmarking competitors, soliciting new ideas from employees, changing reward plans, adding training, and revamping critical processes—that it documented the procedures into what it called Six Sigma. Although the concept was rooted in manufacturing, GE later expanded Six Sigma into services, including human resources, sales, customer services, and financial/credit services. The concept of wiping out defects turns out to be the same in both manufacturing and services. Lower limits Upper limits 2,700 defects/million Figure 6.4 Defects per Million for t 3S vs. t 6S 3.4 defects/million Mean ;3u ;6u M07_HEIZ0422_12_SE_C06.indd 221 STUDENT TIP Recall that { 3s provides 99.73% accuracy, while { 6s is 99.9997%. 04/11/15 2:58 PM 222 PA RT 2 | D ES I G N I N G O P ERATI ONS Implementing Six Sigma Implementing Six Sigma is a big commitment. Indeed, successful Six Sigma programs in every firm, from GE to Motorola to DuPont to Texas Instruments, require a major time commitment, especially from top management. These leaders have to formulate the plan, communicate their buy-in and the firm’s objectives, and take a visible role in setting the example for others. Successful Six Sigma projects are clearly related to the strategic direction of a company. It is a management-directed, team-based, and expert-led approach.2 Employee Empowerment Employee empowerment Enlarging employee jobs so that the added responsibility and authority is moved to the lowest level possible in the organization. Quality circle A group of employees meeting regularly with a facilitator to solve work-related problems in their work area. Employee empowerment means involving employees in every step of the production process. Consistently, research suggests that some 85% of quality problems have to do with materials and processes, not with employee performance. Therefore, the task is to design equipment and processes that produce the desired quality. This is best done with a high degree of involvement by those who understand the shortcomings of the system. Those dealing with the system on a daily basis understand it better than anyone else. One study indicated that TQM programs that delegate responsibility for quality to shop-floor employees tend to be twice as likely to succeed as those implemented with “top-down” directives.3 When nonconformance occurs, the worker is seldom at fault. Either the product was designed wrong, the process that makes the product was designed wrong, or the employee was improperly trained. Although the employee may be able to help solve the problem, the employee rarely causes it. Techniques for building employee empowerment include (1) building communication networks that include employees; (2) developing open, supportive supervisors; (3) moving responsibility from both managers and staff to production employees; (4) building highmorale organizations; and (5) creating such formal organization structures as teams and quality circles. Teams can be built to address a variety of issues. One popular focus of teams is quality. Such teams are often known as quality circles. A quality circle is a group of employees who meet regularly to solve work-related problems. The members receive training in group planning, problem solving, and statistical quality control. They generally meet once a week (usually after work but sometimes on company time). Although the members are not rewarded financially, they do receive recognition from the firm. A specially trained team member, called the facilitator, usually helps train the members and keeps the meetings running smoothly. Teams with a quality focus have proven to be a cost-effective way to increase productivity as well as quality. Benchmarking Selecting a demonstrated standard of performance that represents the very best performance for a process or an activity. Benchmarking is another ingredient in an organization’s TQM program. Benchmarking involves selecting a demonstrated standard of products, services, costs, or practices that represent Workers at this TRW airbag manufacturing plant in Marshall, Illinois, are their own inspectors. Empowerment is an essential part of TQM. This man is checking the quality of a crash sensor he built. M07_HEIZ0422_12_SE_C06.indd 222 TRW Automotive/General Manley Ford Benchmarking 04/11/15 2:58 PM CHAP T ER 6 TABLE 6.3 | MANAGING QUALITY 223 Best Practices for Resolving Customer Complaints BEST PRACTICE JUSTIFICATION Make it easy for clients to complain. It is free market research. Respond quickly to complaints. It adds customers and loyalty. Resolve complaints on the first contact. It reduces cost. Use computers to manage complaints. Discover trends, share them, and align your services. Recruit the best for customer service jobs. It should be part of formal training and career advancement. Source: Based on Canadian Government Guide on Complaint Mechanism. the very best performance for processes or activities very similar to your own. The idea is to develop a target at which to shoot and then to develop a standard or benchmark against which to compare your performance. The steps for developing benchmarks are: 1. 2. 3. 4. 5. Determine what to benchmark. Form a benchmark team. Identify benchmarking partners. Collect and analyze benchmarking information. Take action to match or exceed the benchmark. Typical performance measures used in benchmarking include percentage of defects, cost per unit or per order, processing time per unit, service response time, return on investment, customer satisfaction rates, and customer retention rates. In the ideal situation, you find one or more similar organizations that are leaders in the particular areas you want to study. Then you compare yourself (benchmark yourself) against them. The company need not be in your industry. Indeed, to establish world-class standards, it may be best to look outside your industry. If one industry has learned how to compete via rapid product development while yours has not, it does no good to study your industry. This is exactly what Xerox and Mercedes-Benz did when they went to L.L. Bean for orderfilling and warehousing benchmarks. Xerox noticed that L.L. Bean was able to “pick” orders three times faster. After benchmarking, Xerox was immediately able to pare warehouse costs by 10%. Mercedes-Benz observed that L.L. Bean warehouse employees used flowcharts to spot wasted motions. The auto giant followed suit and now relies more on problem solving at the worker level. Benchmarks often take the form of “best practices” found in other firms or in other divisions. Table 6.3 illustrates best practices for resolving customer complaints. Likewise, Britain’s Great Ormond Street Hospital benchmarked the Ferrari Racing Team’s pit stops to improve one aspect of medical care. (See the OM in Action box “A Hospital Benchmarks Against the Ferrari Racing Team?”) LO 6.4 Explain how benchmarking is used in TQM Internal Benchmarking When an organization is large enough to have many divisions or business units, a natural approach is the internal benchmark. Data are usually much more accessible than from outside firms. Typically, one internal unit has superior performance worth learning from. Xerox’s almost religious belief in benchmarking has paid off not only by looking outward to L.L. Bean but by examining the operations of its various country divisions. For example, Xerox Europe, a $6 billion subsidiary of Xerox Corp., formed teams to see how better sales could result through internal benchmarking. Somehow, France sold five times as many color copiers as did other divisions in Europe. By copying France’s approach, namely, better sales training and use of dealer channels to supplement direct sales, Norway increased sales by 152%, Holland by 300%, and Switzerland by 328%! Benchmarks can and should be established in a variety of areas. Total quality management requires no less. M07_HEIZ0422_12_SE_C06.indd 223 04/11/15 2:58 PM 224 PA RT 2 | D ES I G N I N G O P ERATI ONS A Hospital Benchmarks Against the Ferrari Racing Team? After surgeons successfully completed a 6-hour operation to fix a hole in a 3-year-old boy’s heart, Dr. Angus McEwan supervised one of the most dangerous phases of the procedure: the boy’s transfer from surgery to the intensive care unit. Thousands of such “handoffs” occur in hospitals every day, and devastating mistakes can happen during them. In fact, at least 35% of preventable hospital mishaps take place because of handoff problems. Risks come from many sources: using temporary nursing staff, frequent shift changes for interns, surgeons working in larger teams, and an ever-growing tangle of wires and tubes connected to patients. Using an unlikely benchmark, Britain’s largest children’s hospital turned to Italy’s Formula One Ferrari racing team for help in revamping patient handoff techniques. Armed with videos and slides, the racing team described how they analyze pit crew performance. It also explained how its system for recording errors stressed the small ones that go unnoticed in pit-stop handoffs. To move forward, Ferrari invited a team of doctors to attend practice sessions at the British Grand Prix in order to get closer looks at pit stops. Ferrari’s technical director, Nigel Stepney, then watched a video of a hospital handoff. Stepney was not impressed. “In fact, he was amazed at how clumsy, chaotic, and informal the process appeared,” said one hospital official. At that meeting, Stepney described how each Ferrari crew member is required to do a specific job, in a specific sequence, and in silence. Oliver Multhaup/AP Images OM in Action The hospital handoff, in contrast, had several conversations going on at once, while different members of its team disconnected or reconnected patient equipment, but in no particular order. Results of the benchmarking process: handoff errors fell over 40%, with a bonus of faster handoff time. Sources: The Wall Street Journal (December 3, 2007) and (November 14, 2006). Just-in-Time (JIT) The philosophy behind just-in-time (JIT) is one of continuing improvement and enforced problem solving. JIT systems are designed to produce or deliver goods just as they are needed. JIT is related to quality in three ways: ◆ ◆ ◆ JIT cuts the cost of quality: This occurs because scrap, rework, inventory investment, and damage costs are directly related to inventory on hand. Because there is less inventory on hand with JIT, costs are lower. In addition, inventory hides bad quality, whereas JIT immediately exposes bad quality. JIT improves quality: As JIT shrinks lead time, it keeps evidence of errors fresh and limits the number of potential sources of error. JIT creates, in effect, an early warning system for quality problems, both within the firm and with vendors. Better quality means less inventory and a better, easier-to-employ JIT system: Often the purpose of keeping inventory is to protect against poor production performance resulting from unreliable quality. If consistent quality exists, JIT allows firms to reduce all the costs associated with inventory. Taguchi Concepts Quality robust Products that are consistently built to meet customer needs despite adverse conditions in the production process. M07_HEIZ0422_12_SE_C06.indd 224 Most quality problems are the result of poor product and process design. Genichi Taguchi has provided us with three concepts aimed at improving both product and process quality: quality robustness, target-oriented quality, and the quality loss function. Quality robust products are products that can be produced uniformly and consistently in adverse manufacturing and environmental conditions. Taguchi’s idea is to remove the effects of adverse conditions instead of removing the causes. Taguchi suggests that removing the effects 04/11/15 2:58 PM CHAP T ER 6 MANAGING QUALITY Quality Loss Function (b) High loss Unacceptable Loss (to producing organization, customer, and society) | Poor Fair Target-oriented quality yields more product in the “best” category. Good Best Low loss Figure 225 6.5 (a) Distribution of Products Produced and (b) Quality Loss Function Taguchi aims for the target because products produced near the upper and lower acceptable specifications result in a higher quality loss. Target-oriented quality brings products toward the target value. Conformance-oriented quality keeps products within 3 standard deviations. Frequency Lower Target Upper Distribution of Specifications for Products Produced (a) Specification is often cheaper than removing the causes and more effective in producing a robust product. In this way, small variations in materials and process do not destroy product quality. A study found that U.S. consumers preferred Sony TVs made in Japan to Sony TVs made in the U.S., even though both factories used the exact same designs and specifications. The difference in approaches to quality generated the difference in consumer preferences. In particular, the U.S. factory was conformance-oriented, accepting all components that were produced within specification limits. On the other hand, the Japanese factory strove to produce as many components as close to the actual target as possible (see Figure 6.5(a)). This suggests that even though components made close to the boundaries of the specification limits may technically be acceptable, they may still create problems. For example, TV screens produced near their diameter’s lower spec limit may provide a loose fit with screen frames produced near their upper spec limit, and vice versa. This implies that a final product containing many parts produced near their specification boundaries may contain numerous loose and tight fits, which could cause assembly, performance, or aesthetic concerns. Customers may be dissatisfied, resulting in possible returns, service work, or decreased future demand. Taguchi introduced the concept of target-oriented quality as a philosophy of continuous improvement to bring the product exactly on target. As a measure, Taguchi’s quality loss function (QLF) attempts to estimate the cost of deviating from the target value. Even though the item is produced within specification limits, the variation in quality can be expected to increase costs as the item output moves away from its target value. (These quality-related costs are estimates of the average cost over many such units produced.) The QLF is an excellent way to estimate quality costs of different processes. A process that produces closer to the actual target value may be more expensive, but it may yield a more valuable product. The QLF is the tool that helps the manager determine if this added cost is worthwhile. The QLF takes the general form of a simple quadratic equation (see Figure 6.5(b)). LO 6.5 Explain quality robust products and Taguchi concepts Target-oriented quality A philosophy of continuous improvement to bring a product exactly on target. Quality loss function (QLF) A mathematical function that identifies all costs connected with poor quality and shows how these costs increase as output moves away from the target value. Knowledge of TQM Tools To empower employees and implement TQM as a continuing effort, everyone in the organization must be trained in the techniques of TQM. In the following section, we focus on some of the diverse and expanding tools that are used in the TQM crusade. M07_HEIZ0422_12_SE_C06.indd 225 04/11/15 2:58 PM 226 PA RT 2 | D ES I G N I N G O P ERATI ONS Tools for Generating Ideas (a) Check Sheet: An organized method of recording data (b) Scatter Diagram: A graph of the value of one variable vs. another variable 1 2 A lll l B ll l C l ll 3 l 4 5 6 7 8 l l l lll l ll lll ll llll l Materials Methods Effect Absenteeism Manpower Tools for Organizing the Data (d) Pareto Chart: A graph that identifies and plots problems or defects in descending order of frequency Machinery (e) Flowchart (Process Diagram): A chart that describes the steps in a process Percent Frequency Cause Productivity Hour Defect (c) Cause-and-Effect Diagram: A tool that identifies process elements (causes) that may affect an outcome A B C D E Tools for Identifying Problems (f) Histogram: A distribution that shows the frequency of occurrences of a variable (g) Statistical Process Control Chart: A chart with time on the horizontal axis for plotting values of a statistic Frequency Distribution Upper control limit Target value Lower control limit Repair time (minutes) Figure Time 6.6 Seven Tools of TQM STUDENT TIP These tools will prove useful in many of your courses and throughout your career. Tools of TQM Seven tools that are particularly helpful in the TQM effort are shown in Figure 6.6. We will now introduce these tools. Check Sheets LO 6.6 Use the seven tools of TQM M07_HEIZ0422_12_SE_C06.indd 226 A check sheet is any kind of a form that is designed for recording data. In many cases, the recording is done so the patterns are easily seen while the data are being taken [see Figure 6.6(a)]. Check sheets help analysts find the facts or patterns that may aid subsequent analysis. An example might be a drawing that shows a tally of the areas where defects are occurring or a check sheet showing the type of customer complaints. 04/11/15 2:58 PM CHAP T ER 6 Material (ball) | MANAGING QUALITY 227 Method (shooting process) Grain/feel (grip) Aiming point Bend knees Air pressure Size of ball Balance Hand position Lopsidedness Follow-through Missed free-throws Training Conditioning Consistency Motivation Concentration Rim size Rim height Rim alignment Backboard stability Manpower (shooter) Figure Machine (hoop & backboard) 6.7 Fish-Bone Chart (or Cause-and-Effect Diagram) for Problems with Missed Free-Throws Source: Adapted from MoreSteam.com, 2007. Scatter Diagrams Scatter diagrams show the relationship between two measurements. An example is the positive relationship between length of a service call and the number of trips a repair person makes back to the truck for parts. Another example might be a plot of productivity and absenteeism, as shown in Figure 6.6(b). If the two items are closely related, the data points will form a tight band. If a random pattern results, the items are unrelated. Cause-and-Effect Diagrams Another tool for identifying quality issues and inspection points is the cause-and-effect diagram, also known as an Ishikawa diagram or a fish-bone chart. Figure 6.7 illustrates a chart (note the shape resembling the bones of a fish) for a basketball quality control problem—missed freethrows. Each “bone” represents a possible source of error. The operations manager starts with four categories: material, machinery/equipment, manpower, and methods. These four Ms are the “causes.” They provide a good checklist for initial analysis. Individual causes associated with each category are tied in as separate bones along that branch, often through a brainstorming process. For example, the method branch in Figure 6.7 has problems caused by hand position, follow-through, aiming point, bent knees, and balance. When a fish-bone chart is systematically developed, possible quality problems and inspection points are highlighted. Cause-and-effect diagram A schematic technique used to discover possible locations of quality problems. Pareto Charts Pareto charts are a method of organizing errors, problems, or defects to help focus on problem- solving efforts. They are based on the work of Vilfredo Pareto, a 19th-century economist. Joseph M. Juran popularized Pareto’s work when he suggested that 80% of a firm’s problems are a result of only 20% of the causes. Example 1 indicates that of the five types of complaints identified, the vast majority were of one type—poor room service. M07_HEIZ0422_12_SE_C06.indd 227 Pareto charts A graphic way of classifying problems by their level of importance, often referred to as the 80–20 rule. 04/11/15 2:58 PM 228 PA RT 2 | D ES I G N I N G O P ERATI ONS Example 1 A PARETO CHART AT THE HARD ROCK HOTEL The Hard Rock Hotel in Bali has just collected the data from 75 complaint calls to the general manager during the month of October. The manager wants to prepare an analysis of the complaints. The data provided are room service, 54; check-in delays, 12; hours the pool is open, 4; minibar prices, 3; and miscellaneous, 2. APPROACH c A Pareto chart is an excellent choice for this analysis. SOLUTION c The Pareto chart shown below indicates that 72% of the calls were the result of one cause: room service. The majority of complaints will be eliminated when this one cause is corrected. Pareto Analysis of Hotel Complaints Data for October Frequency (number) 60 54 72 50 40 Number of occurrences 30 20 12 10 0 Room service 72% Check-in 16% 4 3 2 Pool hours 5% Minibar 4% Misc. 3% Cumulative percentage 100 93 88 70 Causes as a percentage of the total This visual means of summarizing data is very helpful—particularly with large amounts of data, as in the Southwestern University case study at the end of this chapter. We can immediately spot the top problems and prepare a plan to address them. INSIGHT c Hard Rock’s bar manager decides to do a similar analysis on complaints she has collected over the past year: too expensive, 22; weak drinks, 15; slow service, 65; short hours, 8; unfriendly bartender, 12. Prepare a Pareto chart. [Answer: slow service, 53%; expensive, 18%; drinks, 12%; bartender, 10%; hours, 7%.] LEARNING EXERCISE c RELATED PROBLEMS c 6.1, 6.3, 6.7b, 6.12, 6.13, 6.16c, 6.17b ACTIVE MODEL 6.1 This example is further illustrated in Active Model 6.1 in MyOMLab. Pareto analysis indicates which problems may yield the greatest payoff. Pacific Bell discovered this when it tried to find a way to reduce damage to buried phone cable, the number-one cause of phone outages. Pareto analysis showed that 41% of cable damage was caused by construction work. Armed with this information, Pacific Bell was able to devise a plan to reduce cable cuts by 24% in one year, saving $6 million. Likewise, Japan’s Ricoh Corp., a copier maker, used the Pareto principle to tackle the “callback” problem. Callbacks meant the job was not done right the first time and that a second visit, at Ricoh’s expense, was needed. Identifying and retraining only the 11% of the customer engineers with the most callbacks resulted in a 19% drop in return visits. Flowcharts Flowcharts Block diagrams that graphically describe a process or system. M07_HEIZ0422_12_SE_C06.indd 228 Flowcharts graphically present a process or system using annotated boxes and interconnected lines [see Figure 6.6(e)]. They are a simple but great tool for trying to make sense of a process or explain a process. Example 2 uses a flowchart to show the process of completing an MRI at a hospital. 04/11/15 2:58 PM CHAP T ER 6 Example 2 | MANAGING QUALITY 229 A FLOWCHART FOR HOSPITAL MRI SERVICE Arnold Palmer Hospital has undertaken a series of process improvement initiatives. One of these is to make the MRI service efficient for patient, doctor, and hospital. The first step, the administrator believes, is to develop a flowchart for this process. A process improvement staffer observed a number of patients and followed them (and information flow) from start to end. Here are the 11 steps: APPROACH c 1. Physician schedules MRI after examining patient (START). 2. Patient taken from the examination room to the MRI lab with test order and copy of medical records. 3. Patient signs in, completes required paperwork. 4. Patient is prepped by technician for scan. 5. Technician carries out the MRI scan. 6. Technician inspects film for clarity. 7. If MRI not satisfactory (20% of time), Steps 5 and 6 are repeated. 8. Patient taken back to hospital room. 9. MRI is read by radiologist and report is prepared. 10. MRI and report are transferred electronically to physician. 11. Patient and physician discuss report (END). SOLUTION c STUDENT TIP Flowcharting any process is an excellent way to understand and then try to improve that process. Here is the flowchart: 8 1 2 3 4 5 6 7 80% 11 9 10 20% With the flowchart in hand, the hospital can analyze each step and identify value-added activities and activities that can be improved or eliminated. INSIGHT c LEARNING EXERCISE c A new procedure requires that if the patient’s blood pressure is over 200/120 when being prepped for the MRI, she is taken back to her room for 2 hours and the process returns to Step 2. How does the flowchart change? Answer: 2 RELATED PROBLEMS c 3 4 6.6, 6.15 Histograms Histograms show the range of values of a measurement and the frequency with which each value occurs [see Figure 6.6(f)]. They show the most frequently occurring readings as well as the variations in the measurements. Descriptive statistics, such as the average and standard deviation, may be calculated to describe the distribution. However, the data should always be plotted so the shape of the distribution can be “seen.” A visual presentation of the distribution may also provide insight into the cause of the variation. Statistical Process Control (SPC) Statistical process control (SPC) monitors standards, makes measurements, and takes corrective action as a product or service is being produced. Samples of process outputs are examined; if they are within acceptable limits, the process is permitted to continue. If they fall outside certain specific ranges, the process is stopped and, typically, the assignable cause located and removed. M07_HEIZ0422_12_SE_C06.indd 229 Statistical process control (SPC) A process used to monitor standards, make measurements, and take corrective action as a product or service is being produced. 04/11/15 2:58 PM 230 PA RT 2 | D ES I G N I N G O P ERATI ONS 6.8 Control Chart for Percentage of Free-throws Missed by the Orlando Magic in Their First Nine Games of the New Season Plot of the percentage of free-throws missed 40% Upper control limit 20% Coach’s target value 0% Lower control limit 1 2 3 4 5 6 7 8 9 Game number Control charts Graphic presentations of process data over time, with predetermined control limits. McClatchy/Tribune Content Agency LLC/Alamy Figure Control charts are graphic presentations of data over time that show upper and lower limits for the process we want to control [see Figure 6.6(g)]. Control charts are constructed in such a way that new data can be quickly compared with past performance data. We take samples of the process output and plot the average of each of these samples on a chart that has the limits on it. The upper and lower limits in a control chart can be in units of temperature, pressure, weight, length, and so on. Figure 6.8 shows the plot of sample averages in a control chart. When the samples fall within the upper and lower control limits and no discernible pattern is present, the process is said to be in control with only natural variation present. Otherwise, the process is out of control or out of adjustment. The supplement to this chapter details how control charts of different types are developed. It also deals with the statistical foundation underlying the use of this important tool. The Role of Inspection Inspection A means of ensuring that an operation is producing at the quality level expected. To make sure a system is producing as expected, control of the process is needed. The best processes have little variation from the standard expected. In fact, if variation were completely eliminated, there would be no need for inspection because there would be no defects. The operations manager’s challenge is to build such systems. However, inspection must often be performed to ensure that processes are performing to standard. This inspection can involve measurement, tasting, touching, weighing, or testing of the product (sometimes even destroying it when doing so). Its goal is to detect a bad process immediately. Inspection does not correct deficiencies in the system or defects in the products, nor does it change a product or increase its value. Inspection only finds deficiencies and defects. Moreover, inspections are expensive and do not add value to the product. Inspection should be thought of as a vehicle for improving the system. Operations managers need to know critical points in the system: (1) when to inspect and (2) where to inspect. When and Where to Inspect Deciding when and where to inspect depends on the type of process and the value added at each stage. Inspections can take place at any of the following points: 1. 2. 3. 4. 5. 6. 7. M07_HEIZ0422_12_SE_C06.indd 230 At your supplier’s plant while the supplier is producing. At your facility upon receipt of goods from your supplier. Before costly or irreversible processes. During the step-by-step production process. When production or service is complete. Before delivery to your customer. At the point of customer contact. 04/11/15 2:58 PM CHAP T ER 6 | MANAGING QUALITY 231 Matthias Schrader/dpa picture alliance archive/Alamy Good methods analysis and the proper tools can result in poka-yokes that improve both quality and speed. Here, two poka-yokes are demonstrated. First, the aluminum scoop automatically positions the french fries vertically, and second, the properly sized container ensures that the portion served is correct. McDonald’s thrives by bringing rigor and consistency to the restaurant business. The seven tools of TQM discussed in the previous section aid in this “when and where to inspect” decision. However, inspection is not a substitute for a robust product produced by welltrained employees in a good process. In one well-known experiment conducted by an independent research firm, 100 defective pieces were added to a “perfect” lot of items and then subjected to 100% inspection. The inspectors found only 68 of the defective pieces in their first inspection. It took another three passes by the inspectors to find the next 30 defects. The last two defects were never found. So the bottom line is that there is variability in the inspection process. In addition, inspectors are only human: They become bored, they become tired, and the inspection equipment itself has variability. Even with 100% inspection, inspectors cannot guarantee perfection. Therefore, good processes, employee empowerment, and source control are a better solution than trying to find defects by inspection. You cannot inspect quality into the product. For example, at Velcro Industries, as in many other organizations, quality was viewed by machine operators as the job of “those quality people.” Inspections were based on random sampling, and if a part showed up bad, it was thrown out. The company decided to pay more attention to the system (operators, machine repair and design, measurement methods, communications, and responsibilities) and to invest more money in training. Over time as defects declined, Velcro was able to pull half its quality control people out of the process. STUDENT TIP One of our themes of quality is that “quality cannot be inspected into a product.” Source Inspection The best inspection can be thought of as no inspection at all; this “inspection” is always done at the source—it is just doing the job properly with the operator ensuring that this is so. This may be called source inspection (or source control) and is consistent with the concept of employee empowerment, where individual employees self-check their own work. The idea is that each supplier, process, and employee treats the next step in the process as the customer, ensuring perfect product to the next “customer.” This inspection may be assisted by the use of checklists and controls such as a fail-safe device called a poka-yoke, a name borrowed from the Japanese. A poka-yoke is a foolproof device or technique that ensures production of good units every time. These special devices avoid errors and provide quick feedback of problems. A simple example of a poka-yoke device is the diesel gas pump nozzle that will not fit into the “unleaded” gas tank opening on your car. In McDonald’s, the french fry scoop and standard-size container used to measure the correct quantity are poka-yokes. Similarly, in a hospital, the prepackaged surgical coverings that contain exactly the items needed for a medical procedure are poka-yokes. Checklists are a type of poka-yoke to help ensure consistency and completeness in carrying out a task. A basic example is a to-do list. This tool may take the form of preflight checklists used by airplane pilots, surgical safety checklists used by doctors, or software quality assurance lists used by programmers. The OM in Action box “Safe Patients, Smart Hospitals” illustrates the important role checklists have in hospital quality. The idea of source inspection, poka-yokes, and checklists is to guarantee 100% good product or service at each step of a process. M07_HEIZ0422_12_SE_C06.indd 231 Source inspection Controlling or monitoring at the point of production or purchase— at the source. Poka-yoke Literally translated, “mistake proofing”; it has come to mean a device or technique that ensures the production of a good unit every time. Checklist A type of poka-yoke that lists the steps needed to ensure consistency and completeness in a task. 04/11/15 2:58 PM 232 PA RT 2 | D ES I G N I N G O P ERATI ONS Safe Patients, Smart Hospitals Simple and avoidable errors are made in hospitals each day, causing patients to die. Inspired by two tragic medical mistakes—his father’s misdiagnosed cancer and sloppiness that killed an 18-month-old child at Johns Hopkins— Dr. Peter Pronovost has made it his mission, often swimming upstream against the medical culture, to improve patient safety and prevent deaths. He began by developing a basic 5-step checklist to reduce catheter infections. Inserted into veins in the groin, neck, or chest to administer fluids and medicines, catheters can save lives. But every year, 80,000 Americans get infections from central venous catheters (or lines), and over 30,000 of these patients die. Pronovost’s checklist has dropped infection rates at hospitals that use it down to zero, saving thousands of lives and tens of millions of dollars. His steps for doctors and nurses are simple: (1) wash your hands; (2) use sterile gloves, masks, and drapes; (3) use antiseptic on the area being opened for the catheter; (4) avoid veins in the arms and legs; and (5) take the catheter out as soon as possible. He also created a special cart, where all supplies needed are stored. Dr. Provonost believes that many hospital errors are due to lack of standardization, poor communications, and a noncollaborative culture that is “antiquated David Joel/Getty Images OM in Action and toxic.” He points out that checklists in the airline industry are a science, and every crew member works as part of the safety team. Provonost’s book has shown that one person, with small changes, can make a huge difference. Sources: Safe Patients, Smart Hospitals (Penguin Publishers, 2011); and The Wall Street Journal (December 13, 2014). Service Industry Inspection VIDEO 6.2 Quality Counts at Alaska Airlines In service-oriented organizations, inspection points can be assigned at a wide range of locations, as illustrated in Table 6.4. Again, the operations manager must decide where inspections are justified and may find the seven tools of TQM useful when making these judgments. TABLE 6.4 Examples of Inspection in Services ORGANIZATION WHAT IS INSPECTED STANDARD Alaska Airlines Last bag on carousel Less than 20 minutes after arrival at the gate Airplane door opened Less than 2 minutes after arrival at the gate Receptionist performance Phone answered by the second ring Billing Accurate, timely, and correct format Jones Law Offices Hard Rock Hotel M07_HEIZ0422_12_SE_C06.indd 232 Attorney Promptness in returning calls Reception desk Use customer’s name Doorman Greet guest in less than 30 seconds Room All lights working, spotless bathroom Minibar Restocked and charges accurately posted to bill Arnold Palmer Billing Accurate, timely, and correct format Hospital Pharmacy Prescription accuracy, inventory accuracy Lab Audit for lab-test accuracy Nurses Charts immediately updated Admissions Data entered correctly and completely Olive Garden Busboy Serves water and bread within one minute Restaurant Busboy Clears all entrèe items and crumbs prior to dessert Waiter Knows and suggests specials, desserts Nordstrom Department Display areas Attractive, well organized, stocked, good lighting Store Stockrooms Rotation of goods, organized, clean Salesclerks Neat, courteous, very knowledgeable 04/11/15 2:58 PM CHAP T ER 6 | MANAGING QUALITY 233 Inspection of Attributes versus Variables When inspections take place, quality characteristics may be measured as either attributes or variables. Attribute inspection classifies items as being either good or defective. It does not address the degree of failure. For example, the lightbulb burns or it does not. Variable inspection measures such dimensions as weight, speed, size, or strength to see if an item falls within an acceptable range. If a piece of electrical wire is supposed to be 0.01 inch in diameter, a micrometer can be used to see if the product is close enough to pass inspection. Knowing whether attributes or variables are being inspected helps us decide which statistical quality control approach to take, as we will see in the supplement to this chapter. Attribute inspection An inspection that classifies items as being either good or defective. Variable inspection Classifications of inspected items as falling on a continuum scale, such as dimension or strength. TQM in Services The personal component of services is more difficult to measure than the quality of the tangible component. Generally, the user of a service, like the user of a good, has features in mind that form a basis for comparison among alternatives. Lack of any one feature may eliminate the service from further consideration. Quality also may be perceived as a bundle of attributes in which many lesser characteristics are superior to those of competitors. This approach to product comparison differs little between goods and services. However, what is very different about the selection of services is the poor definition of the (1) intangible differences between products and (2) the intangible expectations customers have of those products. Indeed, the intangible attributes may not be defined at all. They are often unspoken images in the purchaser’s mind. This is why all of those marketing issues such as advertising, image, and promotion can make a difference. The operations manager plays a significant role in addressing several major aspects of service quality. First, the tangible component of many services is important. How well the service is designed and produced does make a difference. This might be how accurate, clear, and complete your checkout bill at the hotel is, how warm the food is at Taco Bell, or how well your car runs after you pick it up at the repair shop. Second, another aspect of service and service quality is the process. Notice in Table 6.5 that 9 out of 10 of the determinants of service quality are related to the service process. Such things as reliability and courtesy are part of the process. An operations manager can TABLE 6.5 Determinants of Service Quality Reliability involves consistency of performance and dependability. It means that the firm performs the service right the first time and that the firm honors its promises. Responsiveness concerns the willingness or readiness of employees to provide service. It involves timeliness of service. Competence means possession of the required skills and knowledge to perform the service. Access involves approachability and ease of contact. Courtesy involves politeness, respect, consideration, and friendliness of contact personnel (including receptionists, telephone operators, etc.). Communication means keeping customers informed in language they can understand and listening to them. It may mean that the company has to adjust its language for different consumers—increasing the level of sophistication with a well-educated customer and speaking simply and plainly with a novice. Credibility involves trustworthiness, believability, and honesty. It involves having the customer’s best interests at heart. Security is the freedom from danger, risk, or doubt. Understanding/knowing the customer involves making the effort to understand the customer’s needs. Tangibles include the physical evidence of the service. Sources: Adapted from A. Parasuranam, Valarie A. Zeithaml, and Leonard L. Berry, “A Conceptual Model of Service Quality and Its Implications for Future Research,” Journal of Marketing (1985): 49. Copyright © 1985 by the American Marketing Association. Reprinted with permission. M07_HEIZ0422_12_SE_C06.indd 233 04/11/15 2:58 PM 234 PA RT 2 | D ES I G N I N G O P ERATI ONS First passenger boarded 40 min. before departure Flight attendants on-board 45 min. before departure Alaska Airlines Final load closeout 2 min. before departure Aircraft 97% boarded 10 min. before departure time First bag to conveyor belt 15 min. after arrival Cargo door opened 1 min. after arrival On board check-in count 5 min. before departure All doors closed 2 min. before departure Like many service organizations, Alaska Airlines sets quality standards in areas such as courtesy, appearance, and time. Shown here are some of Alaska Airlines 50 quality checkpoints, based on a timeline for each departure. Service recovery Training and empowering frontline workers to solve a problem immediately. SERVQUAL A popular measurement scale for service quality that compares service expectations with service performance. VIDEO 6.3 TQM at Ritz-Carlton Hotels M07_HEIZ0422_12_SE_C06.indd 234 design processes that have these attributes and can ensure their quality through the TQM techniques discussed in this chapter. (See the Alaska Airlines photo.) Third, the operations manager should realize that the customer’s expectations are the standard against which the service is judged. Customers’ perceptions of service quality result from a comparison of their “before-service expectations” with their “actual-service experience.” In other words, service quality is judged on the basis of whether it meets expectations. The manager may be able to influence both the quality of the service and the expectation. Don’t promise more than you can deliver. Fourth, the manager must expect exceptions. There is a standard quality level at which the regular service is delivered, such as the bank teller’s handling of a transaction. However, there are “exceptions” or “problems” initiated by the customer or by less-than-optimal operating conditions (e.g., the computer “crashed”). This implies that the quality control system must recognize and have a set of alternative plans for less-than-optimal operating conditions. Well-run companies have service recovery strategies. This means they train and empower frontline employees to immediately solve a problem. For instance, staff at Marriott Hotels are drilled in the LEARN routine—Listen, Empathize, Apologize, React, Notify—with the final step ensuring that the complaint is fed back into the system. And at the Ritz-Carlton, staff members are trained not to say merely “sorry” but “please accept my apology.” The Ritz gives them a budget for reimbursing upset guests. Similarly, employees at Alaska Airlines are empowered to soothe irritated travelers by drawing from a “toolkit” of options at their disposal. Managers of service firms may find SERVQUAL useful when evaluating performance. SERVQUAL is a widely used instrument that provides direct comparisons between customer service expectations and the actual service provided. SERVQUAL focuses on the gaps between the customer service expectations and the service provided on 10 service quality determinants. The most common version of the scale collapses the 10 service quality determinants shown in Table 6.5 into five factors for measurement: reliability, assurance, tangibles, empathy, and responsiveness. Designing the product, managing the service process, matching customer expectations to the product, and preparing for the exceptions are keys to quality services. The OM in Action box “Richey International’s Spies” provides another glimpse of how OM managers improve quality in services. 04/11/15 2:58 PM CHAP T ER 6 OM in Action | MANAGING QUALITY 235 Richey International’s Spies How do luxury hotels maintain quality? They inspect. But when the product is one-on-one service, largely dependent on personal behavior, how do you inspect? You hire spies! Richey International is the spy. Preferred Hotels and Resorts Worldwide and Intercontinental Hotels have both hired Richey to do quality evaluations via spying. Richey employees posing as customers perform the inspections. However, even then management must have established what the customer expects and specific services that yield customer satisfaction. Only then do managers know where and how to inspect. Aggressive training and objective inspections reinforce behavior that will meet those customer expectations. The hotels use Richey’s undercover inspectors to ensure performance to exacting standards. The hotels do not know when the evaluators will arrive. Nor what aliases they will use. Over 50 different standards are evaluated before the inspectors even check in at a luxury hotel. Over the next 24 hours, using checklists, tape recordings, and photos, written reports are prepared. The reports include evaluation of standards such as: ◆ ◆ ◆ ◆ ◆ ◆ Does the doorman greet each guest in less than 30 seconds? Does the front-desk clerk use the guest’s name during check-in? Are the bathroom tub and shower spotlessly clean? How many minutes does it take to get coffee after the guest sits down for breakfast? Did the waiter make eye contact? Were minibar charges posted correctly on the bill? Established standards, aggressive training, and inspections are part of the TQM effort at these hotels. Quality does not happen by accident. Sources: Hotelier (Feb. 6, 2010); Hotel and Motel Management (August 2002); and The Wall Street Journal (May 12, 1999). Summary Quality is a term that means different things to different people. We define quality as “the totality of features and characteristics of a product or service that bears on its ability to satisfy stated or implied needs.” Defining quality expectations is critical to effective and efficient operations. Quality requires building a total quality management (TQM) environment because quality cannot be inspected into a product. The chapter also addresses seven TQM concepts: continuous improvement, Six Sigma, employee empowerment, benchmarking, just-in-time, Taguchi concepts, and knowledge of TQM tools. The seven TQM tools introduced in this chapter are check sheets, scatter diagrams, cause-and-effect diagrams, Pareto charts, flowcharts, histograms, and statistical process control (SPC). Key Terms Quality (p. 217) ISO 9000 (p. 218) Cost of quality (COQ) (p. 218) Total quality management (TQM) (p. 219) PDCA (p. 220) Six Sigma (p. 221) Employee empowerment (p. 222) Quality circle (p. 222) Benchmarking (p. 222) Quality robust (p. 224) Target-oriented quality (p. 225) Quality loss function (QLF) (p. 225) Cause-and-effect diagram, Ishikawa diagram, or fish-bone chart (p. 227) Pareto charts (p. 227) Flowcharts (p. 228) Statistical process control (SPC) (p. 229) Control charts (p. 230) Ethical Dilemma A lawsuit a few years ago made headlines worldwide when a McDonald’s drive-through customer spilled a cup of scalding hot coffee on herself. Claiming the coffee was too hot to be safely consumed in a car, the badly burned 80-year-old woman won $2.9 million in court. (The judge later reduced the award to $640,000.) McDonald’s claimed the product was served to the correct specifications and was of proper quality. Further, the cup read “Caution—Contents May Be Hot.” McDonald’s coffee, at 180°, is substantially hotter (by corporate rule) M07_HEIZ0422_12_SE_C06.indd 235 Inspection (p. 230) Source inspection (p. 231) Poka-yoke (p. 231) Checklist (p. 231) Attribute inspection (p. 233) Variable inspection (p. 233) Service recovery (p. 234) SERVQUAL (p. 234) than typical restaurant coffee, despite hundreds of coffeescalding complaints in the past 10 years. Similar court cases, incidentally, resulted in smaller verdicts, but again in favor of the plaintiffs. For example, Motor City Bagel Shop was sued for a spilled cup of coffee by a drive-through patron, and Starbucks by a customer who spilled coffee on her own ankle. Are McDonald’s, Motor City, and Starbucks at fault in situations such as these? How do quality and ethics enter into these cases? 04/11/15 2:58 PM 236 PA RT 2 | D ES I G N I N G O P ERATI ONS Discussion Questions 1. Explain how improving quality can lead to reduced costs. 2. As an Internet exercise, determine the Baldrige Award criteria. See the Web site www.nist.gov/baldrige/. 3. Which 3 of Deming’s 14 points do you think are most critical to the success of a TQM program? Why? 4. List the seven concepts that are necessary for an effective TQM program. How are these related to Deming’s 14 points? 5. Name three of the important people associated with the quality concepts of this chapter. In each case, write a sentence about each one summarizing his primary contribution to the field of quality management. 6. What are seven tools of TQM? 7. How does fear in the workplace (and in the classroom) inhibit learning? 8. How can a university control the quality of its output (that is, its graduates)? 9. Philip Crosby said that quality is free. Why? 10. List the three concepts central to Taguchi’s approach. 11. What is the purpose of using a Pareto chart for a given problem? Virtual Office Hours help is available in MyOMLab. SOLVED PROBLEM 6.1 SOLUTION Northern Airlines’s frequent flyer complaints about redeeming miles for free, discounted, and upgraded travel are summarized below, in five categories, from 600 letters received this year. Could not get through to customer service to make requests 125 Seats not available on date requested 270 Had to pay fees to get “free” seats Seats were available but only on flights at odd hours Rules kept changing whenever customer called Develop a Pareto chart for the data. 84 FREQUENCY 66 300 62 110 33 270 45 250 Frequency COMPLAINT 100 95 Number of complaints 200 150 125 Cumulative percentage Solved Problems 12. What are the four broad categories of “causes” to help initially structure an Ishikawa diagram or cause-and-effect diagram? 13. Of the several points where inspection may be necessary, which apply especially well to manufacturing? 14. What roles do operations managers play in addressing the major aspects of service quality? 15. Explain, in your own words, what is meant by source inspection. 16. What are 10 determinants of service quality? 17. Name several products that do not require high quality. 18. In this chapter, we have suggested that building quality into a process and its people is difficult. Inspections are also difficult. To indicate just how difficult inspections are, count the number of Es (both capital E and lowercase e) in the OM in Action box “Richey International’s Spies” on page 235 (include the title but not the source note). How many did you find? If each student does this individually, you are very likely to find a distribution rather than a single number! 110 100 62 50 0 33 Seats not available 45% Customer service 21% Available odd hours only 18% Fees 10% Rules 6% Causes as a percentage of the total M07_HEIZ0422_12_SE_C06.indd 236 04/11/15 2:58 PM CHAP T ER 6 | MANAGING QUALITY 237 Problems Problems 6.1–6.20 relate to Tools of TQM • 6.1 An avant-garde clothing manufacturer runs a series of high-profile, risqué ads on a billboard on Highway 101 and regularly collects protest calls from people who are offended by them. The company has no idea how many people in total see the ads, but it has been collecting statistics on the number of phone calls from irate viewers: TYPE DESCRIPTION NUMBER OF COMPLAINTS R Offensive racially/ethnically 10 M Demeaning to men W Demeaning to women 14 4 I Ad is incomprehensible 6 O Other 2 a) Depict this data with a Pareto chart. Also depict the cumulative complaint line. b) What percent of the total complaints can be attributed to the most prevalent complaint? • 6.2 Develop a scatter diagram for two variables of interest [say pages in the newspaper by day of the week; see the example in Figure 6.6(b)]. • 6.3 Develop a Pareto chart of the following causes of poor grades on an exam: REASON FOR POOR GRADE FREQUENCY Insufficient time to complete 15 Late arrival to exam 7 Difficulty understanding material 25 Insufficient preparation time 2 Studied wrong material 2 Distractions in exam room 9 Calculator batteries died during exam 1 Forgot exam was scheduled 3 Felt ill during exam 4 • 6.4 Develop a histogram of the time it took for you or your friends to receive six recent orders at a fast-food restaurant. • • 6.5 Kathleen McFadden’s restaurant in Boston has recorded the following data for eight recent customers: CUSTOMER NUMBER, i MINUTES FROM TIME FOOD ORDERED UNTIL FOOD ARRIVED (yi) a) McFadden wants you to graph the eight points (xi, yi), i 5 1, 2, … 8. She has been concerned because customers have been waiting too long for their food, and this graph is intended to help her find possible causes of the problem. b) This is an example of what type of graph? • • 6.6 Develop a flowchart [as in Figure 6.6(e) and Example 2] showing all the steps involved in planning a party. • • 6.7 Consider the types of poor driving habits that might occur at a traffic light. Make a list of the 10 you consider most likely to happen. Add the category of “other” to that list. a) Compose a check sheet [like that in Figure 6.6(a)] to collect the frequency of occurrence of these habits. Using your check sheet, visit a busy traffic light intersection at four different times of the day, with two of these times being during hightraffic periods (rush hour, lunch hour). For 15 to 20 minutes each visit, observe the frequency with which the habits you listed occurred. b) Construct a Pareto chart showing the relative frequency of occurrence of each habit. • • 6.8 Draw a fish-bone chart detailing reasons why an airline customer might be dissatisfied. • • 6.9 Consider the everyday task of getting to work on time or arriving at your first class on time in the morning. Draw a fish-bone chart showing reasons why you might arrive late in the morning. • • 6.10 Construct a cause-and-effect diagram to reflect “student dissatisfied with university registration process.” Use the “four Ms” or create your own organizing scheme. Include at least 12 causes. • • 6.11 Draw a fish-bone chart depicting the reasons that might give rise to an incorrect fee statement at the time you go to pay for your registration at school. • • • 6.12 Mary Beth Marrs, the manager of an apartment complex, feels overwhelmed by the number of complaints she is receiving. Below is the check sheet she has kept for the past 12 weeks. Develop a Pareto chart using this information. What recommendations would you make? WEEK GROUNDS PARKING/ DRIVES POOL TENANT ISSUES 1 ✓✓✓ ✓✓ ✓ ✓✓✓ 2 ✓ ✓✓✓ ✓✓ ✓✓ NO. OF TRIPS TO KITCHEN BY WAITRESS (xi) 3 ✓✓✓ ✓✓✓ ✓✓ ✓ 4 ✓ ✓✓✓✓ ✓ ✓ ✓✓ ✓✓✓ ✓✓✓✓ ✓✓ ✓ ✓✓✓✓ ✓✓ ✓✓✓ ✓✓ ✓✓ ✓✓✓ 1 10.50 4 5 2 12.75 5 6 3 9.25 3 7 4 8.00 2 8 ✓ ✓✓✓✓ ✓✓ ✓ ✓✓ ✓ ✓ ✓✓✓✓ ✓✓ ✓✓ ✓✓✓ ✓✓ ✓ ✓✓✓ ✓✓✓ ✓ 5 9.75 3 9 6 11.00 4 10 7 14.00 6 11 8 10.75 5 12 M07_HEIZ0422_12_SE_C06.indd 237 ✓✓ ELECTRICAL/ PLUMBING ✓ ✓✓ ✓ 04/11/15 2:58 PM 238 PA RT 2 | D ES I G N I N G O P ERATI ONS • 6.13 Use Pareto analysis to investigate the following data collected on a printed-circuit-board assembly line: NUMBER OF DEFECT OCCURRENCES DEFECT Components not adhering Even though Daniel increased his capacity by adding more workers to his normal contingent of 30, he knew that for many weeks he exceeded his regular output of 30 shipments per week. A review of his turnover over the past 8 weeks shows the following: 143 71 WEEK NO. OF NEW HIRES NO. OF TERMINATIONS TOTAL NO. OF WORKERS Misplaced transistors 601 1 1 0 30 Defective board dimension 146 2 2 1 31 Mounting holes improperly positioned 12 3 3 2 32 Circuitry problems on final test 90 4 2 0 34 212 5 2 2 34 a) Prepare a graph of the data. b) What conclusions do you reach? 6 2 4 32 7 4 1 35 • • 6.14 A list of 16 issues that led to incorrect formulations in Tuncey Bayrak’s jam manufacturing unit in New England is provided below: 8 3 2 36 Excess adhesive Wrong component List of Issues 1. Incorrect measurement 9. Variability in scale accuracy 2. Antiquated scales 10. Equipment in disrepair 3. Lack of clear instructions 11. Technician calculation off 4. Damaged raw material 12. Jars mislabeled 5. Operator misreads display 13. Temperature controls off 6. Inadequate cleanup 14. Incorrect weights 7. Incorrect maintenance 15. Priority miscommunication 8. Inadequate flow controls 16. Inadequate instructions Create a fish-bone diagram and categorize each of these issues correctly, using the “four Ms” method. • • 6.15 Develop a flowchart for one of the following: a) Filling up with gasoline at a self-serve station. b) Determining your account balance and making a withdrawal at an ATM. c) Getting a cone of yogurt or ice cream from an ice cream store. • • • • 6.16 Boston Electric Generators has been getting many complaints from its major customer, Home Station, about the quality of its shipments of home generators. Daniel Shimshak, the plant manager, is alarmed that a customer is providing him with the only information the company has on shipment quality. He decides to collect information on defective shipments through a form he has asked his drivers to complete on arrival at customers’ stores. The forms for the first 279 shipments have been turned in. They show the following over the past 8 weeks: a) Develop a scatter diagram using total number of shipments and number of defective shipments. Does there appear to be any relationship? b) Develop a scatter diagram using the variable “turnover” (number of new hires plus number of terminations) and the number of defective shipments. Does the diagram depict a relationship between the two variables? c) Develop a Pareto chart for the type of defects that have occurred. d) Draw a fish-bone chart showing the possible causes of the defective shipments. • • • 6.17 A recent Gallup poll of 519 adults who flew in the past year found the following number of complaints about flying: cramped seats (45), cost (16), dislike or fear of flying (57), security measures (119), poor service (12), connecting flight problems (8), overcrowded planes (42), late planes/waits (57), food (7), lost luggage (7), and other (51). a) What percentage of those surveyed found nothing they disliked? b) Draw a Pareto chart summarizing these responses. Include the “no complaints” group. c) Use the “four Ms” method to create a fish-bone diagram for the 10 specific categories of dislikes (exclude “other” and “no complaints”). d) If you were managing an airline, what two or three specific issues would you tackle to improve customer service? Why? 1 23 5 2 2 1 2 31 8 1 4 1 3 28 6 2 3 1 4 37 11 4 4 1 2 5 35 10 3 4 2 1 6 40 14 5 6 3 7 41 12 3 5 3 1 8 44 15 4 7 2 2 M07_HEIZ0422_12_SE_C06.indd 238 Christophe Testi/Shutterstock NO. OF REASON FOR DEFECTIVE SHIPMENT SHIPNO. OF MENTS INCORRECT INCORRECT SHIPWITH BILL OF TRUCKDAMAGED TRUCKS WEEK MENTS DEFECTS LADING LOAD PRODUCT LATE 2 Problems 6.18–6.20 are available in MyOMLab. Problem 6.21 (available in MyOMLab) relates to TQM in Services 04/11/15 2:58 PM CHAP T ER 6 | MANAGING QUALITY 239 CASE STUDIES Southwestern University: (C)* The popularity of Southwestern University’s football program under its new coach Phil Flamm surged in each of the 5 years since his arrival at the Stephenville, Texas, college. (See Southwestern University: (A) in Chapter 3 and (B) in Chapter 4.) With a football stadium close to maxing out at 54,000 seats and a vocal coach pushing for a new stadium, SWU president Joel Wisner faced some difficult decisions. After a phenomenal upset victory over its archrival, the University of Texas, at the homecoming game in the fall, Dr. Wisner was not as happy as one would think. Instead of ecstatic alumni, students, and faculty, all Wisner heard were complaints. “The lines at the concession stands were too long”; “Parking was harder to find and farther away than in the old days” (that is, before the team won regularly); “Seats weren’t comfortable”; “Traffic was backed up halfway to Dallas”; and TABLE 6.6 on and on. “A college president just can’t win,” muttered Wisner to himself. At his staff meeting the following Monday, Wisner turned to his VP of administration, Leslie Gardner. “I wish you would take care of these football complaints, Leslie,” he said. “See what the real problems are and let me know how you’ve resolved them.” Gardner wasn’t surprised at the request. “I’ve already got a handle on it, Joel,” she replied. “We’ve been randomly surveying 50 fans per game for the past year to see what’s on their minds. It’s all part of my campuswide TQM effort. Let me tally things up and I'll get back to you in a week.” When she returned to her office, Gardner pulled out the file her assistant had compiled (see Table 6.6). “There’s a lot of information here,” she thought. Fan Satisfaction Survey Results (N = 250) OVERALL GRADE A Game Day A. Parking C 45 D 5 F 5 50 85 48 52 15 C. Seating 45 30 115 35 25 160 35 26 10 19 66 34 98 22 30 105 104 16 15 10 75 80 54 41 0 E. Printed Program A. Pricing B. Season Ticket Plans Concessions B 105 B. Traffic D. Entertainment Tickets 90 A. Prices B. Selection of Foods C. Speed of Service 16 116 58 58 2 155 60 24 11 0 35 45 46 48 76 Respondents Alumnus 113 Student 83 Faculty/Staff 16 None of the above 38 Open-Ended Comments on Survey Cards: Parking a mess Add a skybox Get better cheerleaders Double the parking attendants Everything is okay Too crowded Seats too narrow Great food Phil F. for President! I smelled drugs being smoked Stadium is ancient Seats are like rocks Not enough cops for traffic Game starts too late Hire more traffic cops Need new band Great! M07_HEIZ0422_12_SE_C06.indd 239 More hot dog stands Seats are all metal Need skyboxes Seats stink Go SWU! Lines are awful Seats are uncomfortable I will pay more for better view Get a new stadium Student dress code needed I want cushioned seats Not enough police Students too rowdy Parking terrible Toilets weren’t clean Not enough handicap spots in lot Well done, SWU Put in bigger seats Friendly ushers Need better seats Expand parking lots Hate the bleacher seats Hot dogs cold $3 for a coffee? No way! Get some skyboxes Love the new uniforms Took an hour to park Coach is terrific More water fountains Better seats Seats not comfy Bigger parking lot I’m too old for bench seats Cold coffee served at game My company will buy a skybox— build it! Programs overpriced Want softer seats Beat those Longhorns! I’ll pay for a skybox Seats too small Band was terrific Love Phil Flamm Everything is great Build new stadium Move games to Dallas No complaints Dirty bathroom 04/11/15 2:58 PM 240 PA RT 2 | D ES I G N I N G O P ERATI ONS 1. Using at least two different quality tools, analyze the data and present your conclusions. 2. How could the survey have been more useful? 3. What is the next step? *This integrated case study runs throughout the text. Other issues facing Southwestern’s football stadium include: (A) Managing the renovation project (Chapter 3); (B) Forecasting game attendance (Chapter 4); (D) Break-even analysis of food services (Supplement 7 Web site); (E) Locating the new stadium (Chapter 8 Web site); (F) Inventory planning of football programs (Chapter 12 Web site); and (G) Scheduling of campus security officers/staff for game days (Chapter 13 Web site). Video Case The Culture of Quality at Arnold Palmer Hospital Founded in 1989, Arnold Palmer Hospital is one of the largest hospitals for women and children in the U.S., with 431 beds in two facilities totaling 676,000 square feet. Located in downtown Orlando, Florida, and named after its famed golf benefactor, the hospital, with more than 2,000 employees, serves an 18-county area in central Florida and is the only Level 1 trauma center for children in that region. Arnold Palmer Hospital provides a broad range of medical services including neonatal and pediatric intensive care, pediatric oncology and cardiology, care for high-risk pregnancies, and maternal intensive care. The Issue of Assessing Quality Health Care Quality health care is a goal all hospitals profess, but Arnold Palmer Hospital has actually developed comprehensive and scientific means of asking customers to judge the quality of care they receive. Participating in a national benchmark comparison against other hospitals, Arnold Palmer Hospital consistently scores in the top 10% in overall patient satisfaction. Executive Director Kathy Swanson states, “Hospitals in this area will be distinguished largely on the basis of their customer satisfaction. We must have accurate information about how our patients and their families judge the quality of our care, so I follow the questionnaire results daily. The in-depth survey helps me and others on my team to gain quick knowledge from patient feedback.” Arnold Palmer Hospital employees are empowered to provide gifts in value up to $200 to patients who find reason to complain about any hospital service such as food, courtesy, responsiveness, or cleanliness. Swanson doesn’t focus just on the customer surveys, which are mailed to patients one week after discharge, but also on a variety of internal measures. These measures usually start at the grassroots level, where the staff sees a problem and develops ways to Quality Counts at Alaska Airlines Alaska Airlines, with nearly 100 destinations, including regular service to Alaska, Hawaii, Canada, and Mexico, is the seventhlargest U.S. carrier. Alaska Airlines has won the J.D. Power and Associates Award for highest customer satisfaction in the industry for eight years in a row while being the number one on-time airline for five years in a row. Management’s unwavering commitment to quality has driven much of the firm’s success and generated an extremely loyal customer base. Executive V.P. Ben Minicucci exclaims, “We have rewritten our DNA.” Building an organization that can achieve quality is a demanding task, and the management at Alaska Airlines accepted the challenge. This is a highly participative quality culture, reinforced by leadership training, constant process improvement, comprehensive metrics, and frequent review of those metrics. The usual training of flight crews and pilots is supplemented with M07_HEIZ0422_12_SE_C06.indd 240 track performance. The hospital’s longstanding philosophy supports the concept that each patient is important and respected as a person. That patient has the right to comprehensive, compassionate family-centered health care provided by a knowledgeable physician-directed team. Some of the measures Swanson carefully monitors for continuous improvement are morbidity, infection rates, readmission rates, costs per case, and length of stays. The tools she uses daily include Pareto charts, flowcharts, and process charts, in addition to benchmarking against hospitals both nationally and in the southeast region. The result of all of these efforts has been a quality culture as manifested in Arnold Palmer’s high ranking in patient satisfaction and one of the highest survival rates of critically ill babies. Discussion Questions* 1. Why is it important for Arnold Palmer Hospital to get a patient’s assessment of health care quality? Does the patient have the expertise to judge the health care she receives? 2. How would you build a culture of quality in an organization such as Arnold Palmer Hospital? 3. What techniques does Arnold Palmer Hospital practice in its drive for quality and continuous improvement? 4. Develop a fish-bone diagram illustrating the quality variables for a patient who just gave birth at Arnold Palmer Hospital (or any other hospital). *You may wish to view the video that accompanies this case before answering these questions. Video Case Alaska Air lines Discussion Questions 04/11/15 2:58 PM | CHAP T ER 6 ELEMENTS WEIGHTING PERFORMANCE SCORE Process Compliance 20 15 Staffing 15 15 MAP Rate (for bags) 20 Delays 10 Time to Carousel (total weight 5 10) Percentage of flights scanned Percentage of bags scanned 20 Minutes all bags dropped (% compliance) Outliers (>25mins) 2 2 4 2 98.7% 70.9% 92.5% 2 MANAGING QUALITY BONUS POINTS TOTAL GRADE 15 B 20 A+ 15 15 B 9 9 A 10 10 A 20 A+ 10 A 99 A+ Safety Compliance 15 15 Quality Compliance 10 10 Total - 100% 100 89 5 5 10 241 Time to Carousel Points Percentage of flights scanned Points Percentage of bags scanned Points 2 95%–100% 1.5 90%–94.9% 2 60% or above 0 < 84.9% 1.5 10 2 5 0 59.9% 0 4 Last bag percent compliance Below 89.9% 90%–100% Points Last Bag >25 min. (Outliers) 0 20 1 15 classroom training in areas such as Six Sigma. Over 200 managers have obtained Six Sigma Green Belt certification. Alaska collects more than 100 quality and performance metrics every day. For example, the accompanying picture tells the crew that it has 6 minutes to close the door and back away from the gate to meet the “time to pushback” target. Operations personnel review each airport hub’s performance scorecard daily and the overall operations scorecard weekly. As Director of System Operations Control, Wayne Newton proclaims, “If it is not measured, it is not managed.” The focus is on identifying problem areas or trends, determining causes, and working on preventive measures. Within the operations function there are numerous detailed input metrics for station operations (such as the percentage of time that hoses are free of twists, the ground power cord is stowed, and no vehicles are parked in prohibited zones). Management operates under the assumption that if all the detailed input metrics are acceptable, the major key performance indicators, such as Alaska’s on-time performance and 20-minute luggage guarantee, will automatically score well. The accompanying table displays a sample monthly scorecard for Alaska’s ground crew provider in Seattle. The major evaluation categories include process compliance, staffing (degree that crew members are available when needed), MAP rate (minimum acceptable performance for mishandled bags), delays, time to carousel, safety compliance, and quality compliance. The quality compliance category alone tracks 64 detailed input metrics using approximately 30,000 monthly observations. Each of the major categories on the scorecard has an importance weight, and the provider is assigned a weighted average score at the end of each month. The contract with the supplier provides for up to a 3.7% bonus for outstanding performance and as much as a 5.0% M07_HEIZ0422_12_SE_C06.indd 241 1 89.9%–85% penalty for poor performance. The provider’s line workers receive a portion of the bonus when top scores are achieved. As a company known for outstanding customer service, service recovery efforts represent a necessary area of emphasis. When things go wrong, employees mobilize to first communicate with, and in many cases compensate, affected customers. “It doesn’t matter if it’s not our fault,” says Minicucci. Front-line workers are empowered with a “toolkit” of options to offer to inconvenienced customers, including the ability to provide up to 5,000 frequent flyer miles and/or vouchers for meals, hotels, luggage, and tickets. When an Alaska flight had to make an emergency landing in Eugene, Oregon, due to a malfunctioning oven, passengers were immediately texted with information about what happened and why, and they were told that a replacement plane would be arriving within one hour. Within that hour, an apology letter along with a $450 ticket voucher were already in the mail to each passenger’s home. No customer complaints subsequently appeared on Twitter or Facebook. It’s no wonder why Alaska’s customers return again and again. Discussion Questions* 1. What are some ways that Alaska can ensure that quality and performance metric standards are met when the company outsources its ground operations to a contract provider? 2. Identify several quality metrics, in addition to those identified earlier, that you think Alaska tracks or should be tracking. 3. Think about a previous problem that you had when flying, for example, a late flight, a missed connection, or lost luggage. How, if at all, did the airline respond? Did the airline adequately address your situation? If not, what else should they 04/11/15 2:58 PM 242 PA RT 2 | D ES I G N I N G O P ERATI ONS have done? Did your experience affect your desire (positively or negative) to fly with that airline in the future? 4. See the accompanying table. The contractor received a perfect Time to Carousel score of 10 total points, even though its performance was not “perfect.” How many total points would the contractor have received with the following performance scores: 93.2% of flights scanned, 63.5% of bags scanned, 89.6% of all bags dropped within 20 minutes, and 15 bags arriving longer than 25 minutes? *You may wish to view the video that accompanies this case before addressing these questions. Video Case Quality at the Ritz-Carlton Hotel Company Ritz-Carlton. The name alone evokes images of luxury and quality. As the first hotel company to win the Malcolm Baldrige National Quality Award, the Ritz treats quality as if it is the heartbeat of the company. This means a daily commitment to meeting customer expectations and making sure that each hotel is free of any deficiency. In the hotel industry, quality can be hard to quantify. Guests do not purchase a product when they stay at the Ritz: They buy an experience. Thus, creating the right combination of elements to make the experience stand out is the challenge and goal of every employee, from maintenance to management. Before applying for the Baldrige Award, company management undertook a rigorous self-examination of its operations in an attempt to measure and quantify quality. Nineteen processes were studied, including room service delivery, guest reservation and registration, message delivery, and breakfast service. This period of self-study included statistical measurement of process work flows and cycle times for areas ranging from room service delivery times and reservations to valet parking and housekeeping efficiency. The results were used to develop performance benchmarks against which future activity could be measured. With specific, quantifiable targets in place, Ritz-Carlton managers and employees now focus on continuous improvement. The goal is 100% customer satisfaction: If a guest’s experience does not meet expectations, the Ritz-Carlton risks losing that guest to competition. One way the company has put more meaning behind its quality efforts is to organize its employees into “self-directed” work teams. Employee teams determine work scheduling, what work needs to be done, and what to do about quality problems in their own areas. In order to see the relationship of their specific area to the overall goals, employees are also given the opportunity to take additional training in hotel operations. Ritz-Carlton believes that a more educated and informed employee is in a better position to make decisions in the best interest of the organization. Discussion Questions* 1. In what ways could the Ritz-Carlton monitor its success in achieving quality? 2. Many companies say that their goal is to provide quality products or services. What actions might you expect from a company that intends quality to be more than a slogan or buzzword? 3. Why might it cost the Ritz-Carlton less to “do things right” the first time? 4. How could control charts, Pareto diagrams, and cause-andeffect diagrams be used to identify quality problems at a hotel? 5. What are some nonfinancial measures of customer satisfaction that might be used by the Ritz-Carlton? *You may wish to view the video that accompanies this case before addressing these questions. Source: Adapted from C. T. Horngren, S. M. Datar, and G. Foster, Cost Accounting, 15th ed. (Upper Saddle River, NJ: Prentice Hall, 2014). • Additional Case Study: Visit MyOMLab for this free case study: Westover Electrical, Inc.: This electric motor manufacturer has a large log of defects in its wiring process. Endnotes 1. Philip B. Crosby, Quality Is Free (New York: McGraw-Hill, 1979). Further, J. M. Juran states, in his book Juran on Quality by Design (The Free Press 1992, p. 119), that costs of poor quality “are huge, but the amounts are not known with precision. In most companies the accounting system provides only a minority of the information needed to quantify this cost of poor quality. It takes a great deal of time and effort to extend the accounting system so as to provide full coverage.” M07_HEIZ0422_12_SE_C06.indd 242 2. To train employees in how to improve quality and its relationship to customers, there are three other key players in the Six Sigma program: Master Black Belts, Black Belts, and Green Belts. 3. “The Straining of Quality,” The Economist (January 14, 1995): 55. We also see that this is one of the strengths of Southwest Airlines, which offers bare-bones domestic service but whose friendly and humorous employees help it obtain number-one ranking for quality. (See Fortune [March 6, 2006]: 65–69.) 04/11/15 2:58 PM Main Heading Review Material QUALITY AND STRATEGY Managing quality helps build successful strategies of differentiation, low cost, and response. Two ways that quality improves profitability are: (pp. 216–217) j j DEFINING QUALITY (pp. 217–219) Sales gains via improved response, price flexibility, increased market share, and/or improved reputation Reduced costs via increased productivity, lower rework and scrap costs, and/ or lower warranty costs An operations manager’s objective is to build a total quality management system that identifies and satisfies customer needs. j MyOMLab Concept Questions: 1.1–1.4 VIDEO 6.1 The Culture and Quality at Arnold Palmer Hospital Rapid Review 6 Chapter 6 Rapid Review Concept Questions: 2.1–2.4 Quality—The ability of a product or service to meet customer needs. The American Society for Quality (ASQ) defines quality as “the totality of features and characteristics of a product or service that bears on its ability to satisfy stated or implied needs.” The two most well-known quality awards are: j j j U.S.: Malcolm Baldrige National Quality Award, named after a former secretary of commerce Japan: Deming Prize, named after an American, Dr. W. Edwards Deming ISO 9000—A set of quality standards developed by the International Organization for Standardization (ISO). ISO 9000 is the only quality standard with international recognition. To do business globally, being listed in the ISO directory is critical. j Cost of quality (COQ)—The cost of doing things wrong; that is, the price of nonconformance. The four major categories of costs associated with quality are prevention costs, appraisal costs, internal failure costs, and external failure costs. Four leaders in the field of quality management are W. Edwards Deming, Joseph M. Juran, Armand Feigenbaum, and Philip B. Crosby. TOTAL QUALITY MANAGEMENT (pp. 219–226) j Total quality management (TQM)—Management of an entire organization so that Concept Questions: it excels in all aspects of products and services that are important to the customer. 3.1–3.4 Seven concepts for an effective TQM program are (1) continuous improvement, (2) Six Sigma, (3) employee empowerment, (4) benchmarking, (5) just-in-time (JIT), (6) Taguchi concepts, and (7) knowledge of TQM tools. j PDCA—A continuous improvement model that involves four stages: plan, do, check, and act. The Japanese use the word kaizen to describe the ongoing process of unending improvement—the setting and achieving of ever-higher goals. j Six Sigma—A program to save time, improve quality, and lower costs. In a statistical sense, Six Sigma describes a process, product, or service with an extremely high capability—99.9997% accuracy, or 3.4 defects per million. j Employee empowerment—Enlarging employee jobs so that the added responsibility and authority are moved to the lowest level possible in the organization. Business literature suggests that some 85% of quality problems have to do with materials and processes, not with employee performance. j j Quality circle—A group of employees meeting regularly with a facilitator to solve work-related problems in their work area. Benchmarking—Selecting a demonstrated standard of performance that represents the very best performance for a process or an activity. The philosophy behind just-in-time (JIT) involves continuing improvement and enforced problem solving. JIT systems are designed to produce or deliver goods just as they are needed. j j j M07_HEIZ0422_12_SE_C06.indd 243 Quality robust—Products that are consistently built to meet customer needs, despite adverse conditions in the production process. Target-oriented quality—A philosophy of continuous improvement to bring the product exactly on target. Quality loss function (QLF)—A mathematical function that identifies all costs connected with poor quality and shows how these costs increase as output moves away from the target value. 04/11/15 2:58 PM Rapid Review 6 Chapter 6 Rapid Review continued MyOMLab Main Heading Review Material TOOLS OF TQM TQM tools that generate ideas include the check sheet (organized method of recording data), scatter diagram (graph of the value of one variable vs. another variable), and cause-and-effect diagram. Tools for organizing the data are the Pareto chart and flowchart. Tools for identifying problems are the histogram (distribution showing the frequency of occurrences of a variable) and statistical process control chart. (pp. 226–230) j Cause-and-effect diagram—A schematic technique used to discover possible locations of quality problems. (Also called an Ishikawa diagram or a fish-bone chart.) Concept Questions: 4.1–4.4 Problems: 6.1, 6.3, 6.5, 6.8–6.14, 6.16–6.20 ACTIVE MODEL 6.1 Virtual Office Hours for Solved Problem: 6.1 The 4 Ms (material, machinery/equipment, manpower, and methods) may be broad “causes.” j j j j THE ROLE OF INSPECTION (pp. 230–233) j j j j j j TQM IN SERVICES (pp. 233–235) Pareto chart—A graphic that identifies the few critical items as opposed to many less important ones. Flowchart—A block diagram that graphically describes a process or system. Statistical process control (SPC)—A process used to monitor standards, make measurements, and take corrective action as a product or service is being produced. Control chart—A graphic presentation of process data over time, with predetermined control limits. Inspection—A means of ensuring that an operation is producing at the quality level expected. Source inspection—Controlling or monitoring at the point of production or purchase: at the source. Poka-yoke—Literally translated, “mistake proofing”; it has come to mean a device or technique that ensures the production of a good unit every time. Checklist—A type of poka-yoke that lists the steps needed to ensure consistency and completeness in a task. Attribute inspection—An inspection that classifies items as being either good or defective. Variable inspection—Classifications of inspected items as falling on a continuum scale, such as dimension, size, or strength. Determinants of service quality: reliability, responsiveness, competence, access, courtesy, communication, credibility, security, understanding/knowing the customer, and tangibles. j j Service recovery—Training and empowering frontline workers to solve a problem immediately. SERVQUAL—A popular measurement scale for service quality that compares service expectations with service performance. Concept Questions: 5.1–5.4 VIDEO 6.2 Quality Counts at Alaska Airlines Concept Questions: 6.1–6.4 Problem: 6.21 VIDEO 6.3 TQM at Ritz-Carlton Hotels Self Test j Before taking the self-test, refer to the learning objectives listed at the beginning of the chapter and the key terms listed at the end of the chapter. LO 6.1 In this chapter, quality is defined as: a) the degree of excellence at an acceptable price and the control of variability at an acceptable cost. b) how well a product fits patterns of consumer preferences. c) the totality of features and characteristics of a product or service that bears on its ability to satisfy stated or implied needs. d) being impossible to define, but you know what it is. LO 6.2 ISO 9000 is an international standard that addresses _____. LO 6.3 If 1 million passengers pass through the Jacksonville Airport with checked baggage each year, a successful Six Sigma program for baggage handling would result in how many passengers with misplaced luggage? a) 3.4 b) 6.0 c) 34 d) 2,700 e) 6 times the monthly standard deviation of passengers LO 6.4 The process of identifying other organizations that are best at some facet of your operations and then modeling your organization after them is known as: a) continuous improvement. b) employee empowerment. c) benchmarking. d) copycatting. e) patent infringement. LO 6.5 The Taguchi method includes all except which of the following major concepts? a) Employee involvement b) Remove the effects of adverse conditions c) Quality loss function d) Target specifications LO 6.6 The seven tools of total quality management are ______, ______, ______, ______, ______, ______, and ______. Answers: LO 6.1. c; LO 6.2. quality management systems; LO 6.3. a; LO 6.4. c; LO 6.5. a; LO 6.6. check sheets, scatter diagrams, cause-and-effect diagrams, Pareto charts, flowcharts, histograms, SPC charts. M07_HEIZ0422_12_SE_C06.indd 244 04/11/15 2:58 PM ◆ ◆ Statistical Process Control (SPC) 246 Acceptance Sampling 262 ◆ Process Capability 260 Alaska Airlines Alaska Airlines SUPPLEMENT OUTLINE S U PPL E ME N T 6 Statistical Process Control 245 M08_HEIZ0422_12_SE_C06S.indd 245 14/12/15 5:34 pm L E A RNING OBJECTIVES LO S6.1 Explain the purpose of a control chart 247 LO S6.2 Explain the role of the central limit theorem in SPC 248 LO S6.3 Build x-charts and R-charts 250 LO S6.4 List the five steps involved in building control charts 254 LO S6.5 Build p-charts and c-charts 256 LO S6.6 Explain process capability and compute Cp and Cpk 260 LO S6.7 Explain acceptance sampling 262 Georgia Tech As part of its statistical process control system, Flowers Bakery, in Georgia, uses a digital camera to inspect just-baked sandwich buns as they move along the production line. Items that don’t measure up in terms of color, shape, seed distribution, or size are identified and removed automatically from the conveyor. Statistical Process Control (SPC) Statistical process control (SPC) A process used to monitor standards by taking measurements and corrective action as a product or service is being produced. Control chart A graphical presentation of process data over time. Natural variations Variability that affects every production process to some degree and is to be expected; also known as common cause. In this supplement, we address statistical process control—the same techniques used at BetzDearborn, at Arnold Palmer Hospital, at GE, and at Southwest Airlines to achieve quality standards. Statistical process control (SPC) is the application of statistical techniques to ensure that processes meet standards. All processes are subject to a certain degree of variability. While studying process data in the 1920s, Walter Shewhart of Bell Laboratories made the distinction between the common (natural) and special (assignable) causes of variation. He developed a simple but powerful tool to separate the two—the control chart. A process is said to be operating in statistical control when the only source of variation is common (natural) causes. The process must first be brought into statistical control by detecting and eliminating special (assignable) causes of variation.1 Then its performance is predictable, and its ability to meet customer expectations can be assessed. The objective of a process control system is to provide a statistical signal when assignable causes of variation are present. Such a signal can quicken appropriate action to eliminate assignable causes. Natural Variations Natural variations affect almost every process and are to be expected. Natural variations are the many sources of variation that occur within a process, even one that is in statistical control. Natural variations form a pattern that can be described as a distribution. As long as the distribution (output measurements) remains within specified limits, the process is said to be “in control,” and natural variations are tolerated. 246 M08_HEIZ0422_12_SE_C06S.indd 246 14/12/15 5:34 pm (a) Samples of the product, say five boxes of cereal taken off the filling machine line, vary from one another in weight. Frequency (b) After enough sample means are taken from a stable process, they form a pattern called a distribution. Frequency S U P P L EMENT 6 | STATISTICAL PROCESS CONTROL Each of these represents one sample of five boxes of cereal. Figure 247 S6.1 Natural and Assignable Variation Weight The solid line represents the distribution. (e) If assignable causes of variation are present, the process output is not stable over time and is not predictable. That is, when causes that are not an expected part of the process occur, the samples will yield unexpected distributions that vary by central tendency, standard deviation, and shape. Assignable Variations Frequency (d) If only natural causes of variation are present, the output of a process forms a distribution that is stable over time and is predictable. Frequency (c) There are many types of distributions, including the normal (bell-shaped) distribution, but distributions do differ in terms of central tendency (mean), standard deviation or variance, and shape. Frequency Weight Measure of central tendency (mean) Weight Variation (std. deviation) Weight Shape Weight Prediction Weight Time ??? ?? ?? ? ? ? ?? ?? ? Prediction Weight Time Assignable variation in a process can be traced to a specific reason. Factors such as machine wear, misadjusted equipment, fatigued or untrained workers, or new batches of raw material are all potential sources of assignable variations. Natural and assignable variations distinguish two tasks for the operations manager. The first is to ensure that the process is capable of operating under control with only natural variation. The second is, of course, to identify and eliminate assignable variations so that the processes will remain under control. Assignable variation Variation in a production process that can be traced to specific causes. Because of natural and assignable variation, statistical process control uses averages of small samples (often of four to eight items) as opposed to data on individual parts. Individual pieces tend to be too erratic to make trends quickly visible. Figure S6.1 provides a detailed look at the important steps in determining process variation. The horizontal scale can be weight (as in the number of ounces in boxes of cereal) or length (as in fence posts) or any physical measure. The vertical scale is frequency. The samples of five boxes of cereal in Figure S6.1 (a) are weighed, (b) form a distribution, and (c) can vary. The distributions formed in (b) and (c) will fall in a predictable pattern (d) if only natural variation is present. If assignable causes of variation are present, then we can expect either the mean to vary or the dispersion to vary, as is the case in (e). Samples The process of building control charts is based on the concepts presented in Figure S6.2. This figure shows three distributions that are the result of outputs from three types of processes. We plot small samples and then examine characteristics of the resulting data to see if the process is within “control limits.” The purpose of control charts is to help distinguish between natural variations and variations due to assignable causes. As seen in Figure S6.2, a process is (a) in control and the process is capable of producing within established control limits, (b) in control but the process is not capable of producing within established Control Charts M08_HEIZ0422_12_SE_C06S.indd 247 LO S6.1 Explain the purpose of a control chart 14/12/15 5:34 pm 248 PA RT 2 | D ES I G N I N G O P ERATI ONS Figure S6.2 (a) In statistical control and capable of producing within control limits A process with only natural causes of variation and capable of producing within the specified control limits Process Control: Three Types of Process Outputs Frequency Lower control limit Upper control limit (b) In statistical control but not capable of producing within control limits A process in control (only natural causes of variation are present) but not capable of producing within the specified control limits (c) Out of control A process out of control having assignable causes of variation Size (weight, length, speed, etc.) limits, or (c) out of control. We now look at ways to build control charts that help the operations manager keep a process under control. Control Charts for Variables x-chart A quality control chart for variables that indicates when changes occur in the central tendency of a production process. R-chart A control chart that tracks the “range” within a sample; it indicates that a gain or loss in uniformity has occurred in dispersion of a production process. Central limit theorem The theoretical foundation for x-charts, which states that regardless of the distribution of the population of all parts or services, the distribution of xs tends to follow a normal curve as the number of samples increases. The variables of interest here are those that have continuous dimensions. They have an infinite number of possibilities. Examples are weight, speed, length, or strength. Control charts for the mean, x or x-bar, and the range, R, are used to monitor processes that have continuous dimensions. The x-chart tells us whether changes have occurred in the central tendency (the mean, in this case) of a process. These changes might be due to such factors as tool wear, a gradual increase in temperature, a different method used on the second shift, or new and stronger materials. The R-chart values indicate that a gain or loss in dispersion has occurred. Such a change may be due to worn bearings, a loose tool, an erratic flow of lubricants to a machine, or to sloppiness on the part of a machine operator. The two types of charts go hand in hand when monitoring variables because they measure the two critical parameters: central tendency and dispersion. The Central Limit Theorem The theoretical foundation for x-charts is the central limit theorem. This theorem states that regardless of the distribution of the population, the distribution of xs (each of which is a mean of a sample drawn from the population) will tend to follow a normal curve as the number of samples increases. Fortunately, even if each sample (n) is fairly small (say, 4 or 5), the distributions of the averages will still roughly follow a normal curve. The theorem also states that: (1) the mean of the distribution of the xs (called x) will equal the mean of the overall population (called m); and (2) the standard deviation of the sampling distribution, sx, will be the population (process) standard deviation, divided by the square root of the sample size, n. In other words:2 x = m LO S6.2 Explain the role of the central limit theorem in SPC M08_HEIZ0422_12_SE_C06S.indd 248 (S6-1) and sx = s 1n (S6-2) 14/12/15 5:34 pm S U P P L EMENT 6 Population distributions | STATISTICAL PROCESS CONTROL Distribution of sample means Figure Standard deviation of u the sample means = ux = Un Even though the population distributions will differ (e.g., normal, beta, uniform), each with its own mean (m) and standard deviation (s), the distribution of sample means always approaches a normal distribution. Normal Uniform –3ux –2ux –1ux x +1ux +2ux S6.3 The Relationship Between Population and Sampling Distributions Mean of sample means = x Beta 249 +3ux (mean) 95.45% fall within ;2ux 99.73% of all x s fall within ;3ux Figure S6.3 shows three possible population distributions, each with its own mean, m, and standard deviation, s. If a series of random samples (x1, x2, x3, x4, and so on), each of size n, is drawn from any population distribution (which could be normal, beta, uniform, and so on), the resulting distribution of xi s will approximate a normal distribution (see Figure S6.3). Moreover, the sampling distribution, as is shown in Figure S6.4(a), will have less variability than the process distribution. Because the sampling distribution is normal, we can state that: ◆ ◆ 95.45% of the time, the sample averages will fall within {2sx if the process has only natural variations. 99.73% of the time, the sample averages will fall within {3sx if the process has only natural variations. If a point on the control chart falls outside of the {3sx control limits, then we are 99.73% sure the process has changed. Figure S6.4(b) shows that as the sample size increases, the sampling distribution becomes narrower. So the sample statistic is closer to the true value of the population for larger sample sizes. This is the theory behind control charts. The sampling distribution has less variability than the process distribution (a) (b) As the sample size increases, the sampling distribution narrows n = 100 Sampling distribution of means n = 50 n = 25 Process distribution x=m Mean Figure Mean S6.4 The Sampling Distribution of Means Is Normal The process distribution from which the sample was drawn was also normal, but it could have been any distribution. M08_HEIZ0422_12_SE_C06S.indd 249 14/12/15 5:34 pm 250 PA RT 2 | D ES I G N I N G O P ERATI ONS Setting Mean Chart Limits ( x-Charts) If we know, through past data, the standard deviation of the population (process), s, we can set upper and lower control limits3 by using these formulas: LO S6.3 Build x-charts and R-charts where x z sx s n = = = = = Upper control limit (UCL) = x + zsx (S6-3) Lower control limit (LCL) = x - zsx (S6-4) mean of the sample means or a target value set for the process number of normal standard deviations (2 for 95.45% confidence, 3 for 99.73%) standard deviation of the sample means = s> 1n population (process) standard deviation sample size Example S1 shows how to set control limits for sample means using standard deviations. Example S1 SETTING CONTROL LIMITS USING SAMPLES The weights of boxes of Oat Flakes within a large production lot are sampled each hour. Managers want to set control limits that include 99.73% of the sample means. Randomly select and weigh nine (n = 9) boxes each hour. Then find the overall mean and use Equations (S6-3) and (S6-4) to compute the control limits. Here are the nine boxes chosen for Hour 1: APPROACH c STUDENT TIP If you want to see an example of such variability in your supermarket, go to the soft drink section and line up a few 2-liter bottles of Coke or Pepsi. Oat Flakes Oat Flakes Oat Flakes Oat Flakes Oat Flakes Oat Flakes Oat Flakes Oat Flakes Oat Flakes 17 oz. 13 oz. 16 oz. 18 oz. 17 oz. 16 oz. 15 oz. 17 oz. 16 oz. SOLUTION c 17 + 13 + 16 + 18 + 17 + 16 + 15 + 17 + 16 9 = 16.1 ounces. The average weight in the first hourly sample = Also, the population (process) standard deviation (s) is known to be 1 ounce. We do not show each of the boxes randomly selected in hours 2 through 12, but here are all 12 hourly samples: WEIGHT OF SAMPLE WEIGHT OF SAMPLE WEIGHT OF SAMPLE HOUR (AVG. OF 9 BOXES) HOUR (AVG. OF 9 BOXES) HOUR (AVG. OF 9 BOXES) 1 16.1 5 16.5 9 16.3 2 16.8 6 16.4 10 14.8 3 15.5 7 15.2 11 14.2 4 16.5 8 16.4 12 17.3 a (Avg. of 9 Boxes) § £ The average mean x of the 12 samples is calculated to be exactly 16 ounces x = i = 1 . 12 12 M08_HEIZ0422_12_SE_C06S.indd 250 14/12/15 5:34 pm S U P P L EMENT 6 | STATISTICAL PROCESS CONTROL 251 We therefore have x = 16 ounces, s = 1 ounce, n = 9, and z = 3. The control limits are: 1 1 ≤ = 16 + 3¢ ≤ = 17 ounces 3 19 UCL x = x + zsx = 16 + 3¢ LCL x = x - zsx = 16 - 3¢ 1 1 ≤ = 16 - 3¢ ≤ = 15 ounces 3 19 The 12 samples are then plotted on the following control chart: Control chart for samples of 9 boxes Out of control Variation due to assignable causes 17 = UCL Variation due to natural causes 16 = Mean 15 = LCL 1 2 3 4 5 6 7 8 9 10 11 12 Sample number Variation due to assignable causes Out of control INSIGHT c Because the means of recent sample averages fall outside the upper and lower control limits of 17 and 15, we can conclude that the process is becoming erratic and is not in control. If Oat Flakes’s population standard deviation (s) is 2 (instead of 1), what is your conclusion? [Answer: LCL = 14, UCL = 18; the process would be in control.] LEARNING EXERCISE c RELATED PROBLEMS c S6.1, S6.2, S6.4, S6.8, S6.10a,b (S6.28 is available in MyOMLab) ACTIVE MODEL S6.1 This example is further illustrated in Active Model S6.1 in MyOMLab. EXCEL OM Data File CH06ExS1.XLS can be found in MyOMLab. Because process standard deviations are often not available, we usually calculate control limits based on the average range values rather than on standard deviations. Table S6.1 provides the necessary conversion for us to do so. The range (Ri) is defined as the difference between the largest and smallest items in one sample. For example, the heaviest box of Oat Flakes in Hour 1 of Example S1 was 18 ounces and the lightest was 13 ounces, so the range for that hour is 5 ounces. We use Table S6.1 and the equations: UCLx = x + A2R (S6-5) LCLx = x - A2R (S6-6) and: a Ri k i=1 = average range of all the samples; Ri = range for sample i k A2 = value found in Table S6.1 k = total number of samples where R = x = mean of the sample means Example S2 shows how to set control limits for sample means by using Table S6.1 and the average range. M08_HEIZ0422_12_SE_C06S.indd 251 14/12/15 5:34 pm 252 PA RT 2 | D ES I G N I N G O P ERATI ONS TABLE S6.1 Factors for Computing Control Chart Limits (3 sigma) SAMPLE SIZE, n MEAN FACTOR, A2 UPPER RANGE, D4 LOWER RANGE, D3 2 1.880 3.268 0 3 1.023 2.574 0 4 .729 2.282 0 5 .577 2.115 0 6 .483 2.004 0 7 .419 1.924 0.076 8 .373 1.864 0.136 9 .337 1.816 0.184 10 .308 1.777 0.223 12 .266 1.716 0.284 Source: Reprinted by permission of American Society for Testing Materials. Copyright 1951. Taken from Special Technical Publication 15–C, “Quality Control of Materials,” pp. 63 and 72. Copyright ASTM INTERNATIONAL. Reprinted with permission. Example S2 SETTING MEAN LIMITS USING TABLE VALUES Super Cola bottles soft drinks labeled “net weight 12 ounces.” Indeed, an overall process average of 12 ounces has been found by taking 10 samples, in which each sample contained 5 bottles. The OM team wants to determine the upper and lower control limits for averages in this process. APPROACH c Super Cola first examines the 10 samples to compute the average range of the process. Here are the data and calculations: SAMPLE WEIGHT OF LIGHTEST BOTTLE IN SAMPLE OF n 5 5 WEIGHT OF HEAVIEST BOTTLE IN SAMPLE OF n 5 5 RANGE (Ri ) 5 DIFFERENCE BETWEEN THESE TWO 1 11.50 11.72 .22 2 11.97 12.00 .03 3 11.55 12.05 .50 4 12.00 12.20 .20 5 11.95 12.00 .05 6 10.55 10.75 .20 7 12.50 12.75 .25 8 11.00 11.25 .25 9 10.60 11.00 .40 10 11.70 12.10 .40 Ri 5 2.50 Average Range = 2.50 5 .25 ounces 10 samples Now Super Cola applies Equations (S6-5) and (S6-6) and uses the A2 column of Table S6.1. SOLUTION c Looking in Table S6.1 for a sample size of 5 in the mean factor A2 column, we find the value .577. Thus, the upper and lower control chart limits are: UCL x = x + A2R = 12 + (.577)(.25) = 12 + .144 = 12.144 ounces M08_HEIZ0422_12_SE_C06S.indd 252 14/12/15 5:34 pm 292 PA RT 2 | D ES I G N I N G O P ERATI ONS Service Blueprinting Service blueprinting A process analysis technique that lends itself to a focus on the customer and the provider’s interaction with the customer. Products with a high service content may warrant use of yet a fifth process technique. Service blueprinting is a process analysis technique that focuses on the customer and the provider’s interaction with the customer. For instance, the activities at level one of Figure 7.7 are under the control of the customer. In the second level are activities of the service provider interacting with the customer. The third level includes those activities that are performed away from, and not immediately visible to, the customer. Each level suggests different management issues. For instance, the top level may suggest educating the customer or modifying expectations, whereas the second level may require a focus on personnel selection and training. Finally, the third level lends itself to more typical process innovations. The service blueprint shown in Figure 7.7 also notes potential failure points and shows how poka-yoke techniques can be added to improve quality. The consequences of these failure points can be greatly reduced if identified at the design stage when modifications or appropriate poka-yokes can be included. A time dimension is included in Figure 7.7 to aid understanding, extend insight, and provide a focus on customer service. STUDENT TIP Service blueprinting helps evaluate the impact of customer interaction with the process. Figure 7.7 F Poka-yokes to address potential failure points Service Blueprint for Service at Speedy Lube, Inc. Poka-yoke: Bell in driveway in case customer arrival was unnoticed. Poka-yoke: If customer remains in the work area, offer coffee and reading material in waiting room. Poka-yoke: Conduct dialog with customer to identify customer expectation and assure customer acceptance. Personal Greeting Physical Attributes to Support Service Level #1 Customer is in control. Parking adequate Signage clear Waiting room amenities Poka-yoke: Review checklist for compliance. Poka-yoke: Service personnel review invoice for accuracy. Poka-yoke: Customer approves invoice. Poka-yoke: Customer inspects car. Service Diagnosis Perform Service Friendly Close Employee appearance Forms Shop cleanliness Technology Car delivered clean Employee appearance Customer arrives for service. (3 min) Customer departs. Customer pays bill. (4 min) F Warm greeting and obtain service request. (10 sec) Level #2 Customer interacts with service provider. No Standard request. (3 min) Direct customer to waiting room. F Level #3 Service is removed from customer’s control and interaction. Determine specifics. (5 min) Can service be done and does customer approve? (5 min) F F Yes Yes Notify customer and recommend an alternative provider. (7 min) F F Notify customer that car is ready. (3 min) No Perform required work. (varies) F Prepare invoice. (3 min) F M09_HEIZ0422_12_SE_C07.indd 292 20/11/15 4:35 PM

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