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Foundations for SuccessThe Resource/Profit Model begins, quite logically, with the overriding objective of the business—profitability—and proceeds with two of its most critical prerequisites—strategy and processes. These concepts are presented in Exhibit 1.3 as “foundations for success” because they form the foundation for decision making throughout the business. It is no coincidence that there are parallels between finance classes and the coverage of profitability, as it relates to operations management, in this book. This connection is critical because finance exists in the environment of operations management decisions. Operations management, on the other hand, exists within an environment of financial decision making. It is also no coincidence that the coverage of strategy will link closely to concepts in marketing. Strategy is a plan for creating value and is an important operations management responsibility. Determining what customers value, however, is at the root of marketing responsibility. Profitability Every business organizes resources into processes and uses these processes to create goods and/or services to sell. Ideally, the sale results in a positive financial return on the investments that were utilized to create the goods and services. ProfitabilityA measure of the productivity of money invested in a business, typically a ratio of net income to some input such as net sales or total assets. is the primary objective of any business. It is the answer to the question “Why?” when asked about the existence of any business. The goal of a business is profitability, not profit. When most people say “profit,” they really mean “net income,” but net income doesn't provide enough information to measure a business's success. It's simply the measure of an output. If a business's net income was $100,000, it's impossible to know whether it was successful. Profitability measures compare outputs to inputs to determine how productive the investment is. A successful business strives for long-term profitability. That requires staying power, growing market share, and, most of all, treating customers well. Businesses have other objectives, including employment and development of individuals and contributing to society as a whole, but none can be accomplished without profitability. Financial return, short and long term, at a rate that is greater than other alternatives must be at the forefront or all other objectives will fail when the company folds. Operations management is at the heart of that cycle, managing the productive resources to provide profitability. Strategy The goal of any investor is to find an investment that will create valueThe amount a customer is willing to pay for a product or service, sometimes thought of as benefits divided by cost. for the owner. Resources are company assets that are expected to provide a financial benefit to the owner. If the answer to the “Why?” question of a business's existence is profitability, then the answer to the “How?” question is value. You bought the shoes you're wearing because you thought they were a better value than other alternatives. You prefer one restaurant to another because of how you define value. The difference between the perceived benefits and the perceived costs establish the customer perception of value. Customers are willing to pay for value, and therein lies the potential for the business's owners to benefit from their investment. The difference between the amount customers are willing to pay for something and the cost of creating it provides the opportunity for profitability. Changes in pricing approaches have dramatically changed the way customers must determine value. As businesses gather more data about customers' purchasing habits, they are setting different prices for different individuals. This has been a standard practice for airlines, hotels, and car rental companies. In mortgage lending, different interest rates are applied for different risks. This is actually advantageous for some, because they would pay an even higher rate elsewhere. Grocery stores have followed, offering reduced prices automatically for customers who normally buy certain products only during promotions or with coupons. A business must identify how it will continue to add value to its inputs in ways that customers will desire. What type of customer will the business seek to attract? What will customers want? What will competitors do to meet customer wants? What must a business do to compete against them? A business must determine how it can create value as its environment changes and as customer desires change. The business must plan its strategyThe means by which a company positions itself for future profitability., which sets the direction for the future. The strategy is the way of offering value to a specific set of customers and is the means by which the company positions itself for future profitability. By establishing goals for the future, and creating the mechanisms to reach them, the business is able to adapt to changing customer expectations and changing environmental pressures. The capabilitiesThe abilities a business has that result from its processes. Capabilities create value. the company has formulated are the answer to the customer's questions “What exactly can you do for me?” and “What is it that I'm paying for?” The answer to those questions can be, simply, “This company can sell you a collar for your dog cheaper than anyone else.” Or it can be “This company can offer you a selection of 50 different dog collars on our Web site. Our Web site is easy to navigate and quick to download. Purchasing products on the site is simple, secure, and quick. We can deliver your collar in 48 hours at a price lower than anyone else.” Are the capabilities that enable a company to make such claims valuable? Certainly. Are they important parts of its strategy? Definitely.
Processes Capabilities are the direct outcome of processes. Processes are made up of activities. Activities are specifically designed to contribute to a product or service in a way that will be valuable to a customer. The grouping of simple activities into processes, and the grouping of processes in a way that creates capabilities, is at the core of creating value. One might argue that—unlike capabilities—processes are not viewed by customers as important. This argument may be true for product-oriented processes, because customers aren't as concerned about how a product is produced. However, customers care very much about the processesOrganized tasks accomplished by grouping resources together. they must interact with to purchase that product. They care about service-oriented processes, such as those they interact with to get assistance when they need it. Customers care deeply about those business processes that affect them directly.
Processes and capabilities are a responsibility of operations management. They range from being extremely simple to extremely complex. For some businesses, the need for consistency mandates that processes be standardized and accurately documented. For others, the need for customization requires processes to be flexible in order to satisfy each customer's special needs. Processes range tremendously, from the method that McDonald's uses to ensure that a small paper bag is full of french fries, to the steps taken when KPMG audits a Fortune 500 firm's books, to how a credit card account number is transferred securely online by L.L. Bean. Most firms utilize a variety of processes that create capabilities of interest to customers. Often these capabilities set one firm apart from another. If the customer wants what the business capability provides, the processes have created value. For someone trying to make money in the stock market, investment decisions ultimately determine the return on the dollars invested. Make a good decision—get a good return. Make a poor decision—get a poor return. For product- and service-oriented businesses, processes act in a manner similar to that of a stock fund manager. Processes define how resources are used. If resources are used well, the return will be good. Processes play two critical roles in defining the financial return of a resource investment. First, the lower the cost (as long as value remains the same), the greater the difference between cost and market value. Second, the process is a major factor in the customer's perceived value. The more value added by the process, the greater the difference between market value and cost (as long as cost remains the same). Processes define the way resources are used through design, implementation, and use. Components of ValueThe capabilities made possible through the effective development and management of processes create the services and products customers value. That value is the result of the interactions among three components of value—costThe expenses associated with ownership., qualityMeeting customer expectations., and timelinessThe speed at which a business completes tasks and the degree to which it completes tasks on schedule and as promised.—influenced by operations decisions and shown in Exhibit 1.3. Cost When a customer orders a pizza, he is thinking about the taste of the pizza. When the manager of the pizza restaurant orders flour, she is concerned about the flour, but other aspects of the business transaction also affect the value of the dough. The first is the cost associated with obtaining the product or service. Cost can be defined as the amount of scarce resources consumed to achieve a specified objective. The cost of owning a new car, for example, is not just the price one has to pay to drive it off the dealer's lot. The total cost of owning it includes all costs associated with it over a specified period of time. If the customer wishes to own the car for six years, for example, the cost includes expenditures over that time period. Certainly, the price paid is part of the total cost, but so is the interest on the loan, the price of insurance, the cost of maintenance and repair, and the value depreciation on the car over the six years. Costs can have very different meanings to different customers. In the previous example, the customer was assumed to be a consumer. A business customer might have a very different view of cost. A Toyota dealer, for example, would view the cost of purchasing a car as more of a financial investment. The total costs would include the cost of the space it would take on the lot, work that would need to be done on the car to get it ready to sell, administrative costs associated with ownership transfer, advertisement costs, and opportunity cost of the dollars invested in it that could be used for something else. Processes cost money to operate. Resources cost money to maintain. The costs of employee time, materials consumed, and electricity are passed on to the customer and contribute to her costs as well. Cost is a critical component of value and an important criterion for many operations decisions. Quality The quality of the product or service is another component of its value. For virtually any product or service, different levels of quality exist. Why? Because customers view quality very differently. What's high quality for one customer is not important for another. Higher levels of quality don't always translate into higher levels of value. Remember, value is in the eye of the beholder. Quality has very different meanings when products are compared to services. As mentioned earlier, outcomes dominate the customer's perception of value and quality when products are considered. For consumers, quality is often judged by how well the product met the customer's expectations. Did the product last as long as it should have? In other words, was it durable? Was it reliable? Did it do what it was designed to do? However, as soon as services are examined, the concept of quality becomes broader and more difficult to define. Were the employees friendly? Was the service quick? Did I have to wait in line long? The answers to each of these questions can be different for different customers. No matter what the customer's definition, however, the perception of quality will be a major determinant of value. Timeliness The third component of value consists of the timeliness associated with the product's or service's creation, delivery, and availability. Something now is generally perceived as more valuable than the same thing later. Timeliness is often less critical for consumers than it is for business customers, but enhances value for both. Timeliness is often lumped together with quality when services are evaluated. When products are evaluated, particularly those purchased by a business, the product quality is certainly important, but issues of timeliness can be equally or even more important. For a business, time has a critical role in determining financial return on any investment. Achieving timeliness goals involves scheduling activities and processes so that process times can be minimized or due date promises can be met. Managing Resources Used to Create ValueResources provide the direct inputs that either are converted into salable goods and services or enable that conversion to happen. As presented in Exhibit 1.3, among the most important resource management topics are inventory, logistics, capacity, facilities, and workforce. They provide critical inputs to creating the products and services customers seek. Operations, although critical in the creation of value, can't claim responsibility for all value added. There are other important resources as well, such as intangibles like patents that result from the creativity of engineers and research and development specialists. Employee knowledge and skills—instilled in the workforce through training and development—and the creativity that emerges with the help of the business culture are also important. The communication networks that provide management with the data needed to make timely and appropriate decisions are also essential to the success of the business. This large pool of resources is tapped to provide capabilities that can differentiate a business from its competition. The effective management of inventory, logistics, capacity, facilities, and workforce requires an understanding of the decision-making processes associated with those resources. As businesses have integrated business functions, however, that is not enough. In the last two decades, several integrative management frameworksA management approach or “philosophy” that guides day-to-day decisions in a way that is consistent with a firm's profitability goals. Examples include lean systems, constraint management, and supply chain management. have changed the way resource decisions are made. Supply chain management (SCM), the most recent integrative framework, recognizes that resource decisions within one business affect outcomes of customers and suppliers. SCM extends the realm of decision making beyond the business's walls and considers effects up and down the supply chain. Lean systemsA productive system that functions with little waste or excess, usually with low inventory levels. have evolved from the just-in-time (JIT) movement of the 1980s and focus on waste reduction in all its forms, but particularly emphasizing leanness in inventory and capacity. Constraint managementA framework for managing the constraints of a system in a way that maximizes the system's accomplishment of its goals. takes a system view of how one limiting resource can reduce system productivity in a manner similar to the weakest link in a chain. Constraint management focuses on capacity-related resources, but has implications for inventory and workforce as well. Integrative management frameworks provide a set of principles that eliminate the need to evaluate day-to-day decisions on the basis of profitability. They are, in a sense, an intermediate standard on which to evaluate decisions. A good analogy would be the way different basketball, football, and hockey teams identify a particular offensive or defensive system to run. The system provides guidance for players' actions, no matter what the opposing team does. Each system comes with a general objective and a specific set of rules of behavior that, if implemented effectively, should result in the team being able to compete. Different systems emphasize a different approach to utilizing resources (player talent or capabilities). One system might be used if a team is extremely fast but not very tall. Another system might be more effective if the team has two very tall players but no outside shooters. Integrative management frameworks are similar in that each has a general objective, each comes with a set of techniques or tools, and each focuses on specific resources. The rise of integrative management frameworks has been interesting to observe. In virtually every case, they have been born out of the need to adapt to changing external forces. Each has become very popular, creating a frenzy to learn and adopt the system, as well as charge countless billable hours for consulting firms. Each has been labeled a “new philosophy of management.” Some have gained an almost cultlike following. And then each has declined in popularity—not because managers no longer believe in their value, but because they have been absorbed into mainstream management practice. They become such a part of good management practices that they are no longer viewed as a distinctive way of doing things. Supply Chain Management Supply chain management focuses on the relationships among customers and suppliers, recognizing that the effects of decisions aren't limited to the business that made them but extend to suppliers and customers as well. Ultimately, the entire supply chain creates the value a customer perceives and receives. Optimizing that value and minimizing its costs require a decision-making perspective that includes the entire supply chain. The integrative management frameworks tie together the foundations for success, the components of value, and the resources used to create value in a consistent set of decision-making priorities. Managers familiar with the objectives and the techniques inherent in each framework are provided with a systematic approach to decision making that will be consistent with global performance measures. Each provides a means of making day-to-day decisions consistent with the firm's profitability goals. Demand Forecasting Simply owning inventory, capacity, and facilities, and paying a workforce does not result in the production of goods and services or the creation of value. These resources must be brought together into processes that provide the firm with capabilities. The firm's level of success or failure will be determined not by what resources the company owns, but by how it uses them. Resources aren't free, so the business must possess them in the appropriate quantity and at the appropriate time. If a company has invested in too many resources, those resources won't contribute to value. If the firm has too few resources, it can't meet demand. If the resources arrive too early, they aren't used. If they arrive too late, customer needs aren't met. Effective resource planning depends on an accurate forecast of demand. The demand forecast gives managers the basis upon which to order more inventory, identify more transportation or storage facilities, add to capacity, expand facilities, or increase the workforce. Lean Systems Lean systems' primary focus is on the elimination of waste in producing goods and services. It is frequently used to eliminate waste related to inventory, processes, and the workforce, and it is also used when inventory reduction is desired. Just-in-time (JIT) management has been implemented in the United States since about 1980 after being practiced in Japan since the 1960s. Efforts to maintain lean systems utilize a variety of techniques and approaches to minimize inventory and increase flexibility of capacity. Constraint Management Constraint management, also known as the theory of constraints, first attained visibility around 1987. It focuses on the role constraints play in an organization and how best to manage those constraints. Its goal is to increase the productivity of the system as a whole by focusing on its constraints and recognizing that optimizing specific parts of the system will not optimize the entire system. The role a constraint plays is often misunderstood. Its impact is so critical to system productivity that a better understanding can affect such wide-ranging issues as investment decisions, product and service pricing, and inventory levels. Inventory A retailer performs what appears to be a simple function—selling products to consumers. It's easy to assume that the products, or inventoryMaterials used in the production of products and services. Examples include raw materials inventory, work-in-process inventory, and finished goods inventory., would be one of its most important resources. The retailer must have it when the customer needs it, or sales are lost. To produce the product being sold, a manufacturer needs raw materials, which are used to create component parts, which in turn are assembled into finished products and sold to the retailer. All forms of materials make up a category of resources known as inventory, which serves many critical functions. It buffers one work center from direct dependency on another. It allows customers to be satisfied immediately. It enables retailers to offer their customers many choices. It is an asset on the balance sheet, but it is widely recognized by managers as a liability as well. Despite all of its benefits, surplus inventory has been blamed for many business failures. A resource that, when in either short supply or excess, can destroy a business must be managed with extreme care. Logistics LogisticsThe flow and storage of goods, services, and related information from production to consumption. consists of managing the flow and storage of goods and services. It adds value by ensuring that the products and services are where they need to be. It contributes to timeliness because the movement of goods is often more time consuming than their production. It is intertwined with inventory management because effective inventory management extends beyond simply managing inventory within the business. The increasing dependency on outsourcing requires effective management of inventory between businesses as well. Logistics is a critical component of supply chain management because of increased competition, globalization, and technological advancements, and to increase the value offered to consumers. Effective logistics management reduces costs and increases value. Capacity CapacityThe level of productive output of an organization in a specified period of time. can be summed up as the level of productive output of an organization in a specified period of time. Productive output results from a variety of resources, but in most cases it is dominated by the availability of labor and/or equipment. H&R Block's ability to meet its demand is dictated by the number of skilled employees who can complete the IRS forms. Bank of America's ability to keep up with demand at a drive-up service is determined by the number of drive-up bays and tellers. A Target store's ability to keep pace with customers making their purchases is determined by the number of cash registers and operators. One similarity should stand out in each of the above examples. Capacity is almost always expressed as an average. Why? Because the time required per unit can vary. In some cases that variability is a function of what's required. One person's income taxes are more complex than another's. Drive-up banking customers have different needs. In other cases, the employee or equipment varies in its ability to complete the required tasks. One particular accountant is faster in the morning and slower in the late afternoon. Ultimately, the management of capacity is to match output to demand. Excess capacity results in a financial return on those resources that is lower than that desired. A shortage of capacity results in an inability to meet demand. Facilities The land and the building that houses a business can be the least important decision for management, as in the case of where to place a Web server, or it can be the most important decision, as when a retailer is determining store location. In addition to facility location, facilityThe buildings and structures that house various aspects of a business. decisions also include how the facility should be arranged, or its layout. The facility layout often determines the business's ability to meet customer expectations. It dictates such outcomes as the ability to customize products and services, the ability to produce in high volumes, and the type of skills needed from employees. In many businesses, the layout determines the ease with which employees can interact with each other and with customers. Every business has to be somewhere. The location decision makes that determination. Within that facility, every thing and every person also has to be somewhere. Where they are matters. The layout dictates possible processes and capabilities, as well as the costs, the quality, and the timeliness. Workforce Most managers will claim that the workforceThe employees required to produce a product or service. is their business's most critical resource. Inventory can be purchased, capacity can be purchased, facilities can be purchased, but good, talented, skilled employees are not easy to come by. They are developed, over a long period of time and at great expense. They are also the only resource that can leave the business for a better offer elsewhere. Employees' skills, talents, experiences, attitudes, and backgrounds range tremendously. The diversity adds to the potential capabilities of the firm and also adds to the skills necessary at the managerial level. Great potential isn't free. The diversity of ideas, the creativity, and the ability to recognize potential value can come only from the widest possible set of experiences. The result of this diversity is truly any business's most valuable resource, but it is also one of the most difficult to manage. | ||||||||
