Fluent Essays

DO IN 20 HOURS ATTACHED Midas Read the “Midas” case study in Chapter 2 of your text and respond to the guided response below in a three- to four-page paper in accordance with APA guidelines as outlined in the Writing Center. In this paper you must: · Discuss the anticipated impacts (both positive and negative) upon operating efficiencies, and recommend solutions to minimize the negative impacts. · Discuss whether or not operating practices should be changed to accommodate the tune-ups. Be sure to explain your reasoning. · Examine the reasons why input should be gathered from the shop owners. · Discuss the type of input that should be gathered. · Describe the processes and steps needed to launch this new program. Your paper should be in paragraph form (avoid the use of bullet points) and supported with the concepts outlined in your text and additional scholarly sources. Submit your three- to four-page paper (not including the title and reference pages). Your paper must be formatted according to APA style as outlined in the Writing Center and must cite at least three scholarly sources in addition to the textbook. Learning Objectives After completing this chapter, you should be able to: • Understand how business processes create competitive capabilities that enable organizations to satisfy customer requirements. • Explain how operations management can maintain an organization’s competitive edge through high-quality production, convenient delivery, effective customer service, and competitive cost. • Describe key business processes including strategy development, product develop- ment, system creation to produce services and goods, and order fulfillment. • Discuss why operations are strategically important. • List and define the steps necessary to link operations to corporate strategy. • Describe how operations managers use information technology to increase produc- tivity, improve quality, provide a safer environment, and reduce costs. 2 .Dominik Pabis/Getty Images Gaining Competitive Advantage Through Operations von70154_02_c02_033-060.indd 33 2/22/13 3:31 PM CHAPTER 2Section 2.1 Achieving Competitive Advantage 2.1 Achieving Competitive Advantage Operations presents top management with many opportunities to develop competi-tive advantages. A competitive advantage is a capability that customers value, such as short delivery lead-time or high product quality that gives an organization an edge against its competition. When prop- erly used, operations can be an important tool for improving profits, increasing market share, and developing new markets. A firm’s market share is its percentage of sales in a particular market, that is, its sales divided by total sales for all organizations competing in a particular market. An organization creates a competitive advan- tage by giving customers what they want in a better way than other companies. What do cus- tomers want, or in other words, what do they value? Figure 2.1 provides a model for under- standing how an organization can deliver com- petitive advantage to its customers. An organi- zation should know its external environment (threats and opportunities) and its internal environment (strengths and weaknesses), and have a clear understanding of the customers it is trying to serve. This is often called “SWOT analysis,” for strengths, weaknesses, opportu- nities, and threats. An in-depth understanding of customer requirements allows the firm to determine a set of competitive capabilities that will enable it to delight, rather than merely sat- isfy, customers. These competitive capabilities are, in turn, the result of well-designed busi- ness processes. These key business processes are cross-functional and require operations managers to work closely with their counter- parts in accounting, finance, information systems, marketing, and other disciplines within the organization. A list of factors that customers value is provided in Figure 2.1. The factors that customers value as well as the relative importance of each factor vary from industry to industry and from customer to customer, but this list presents a good starting point. Figure 2.1 also pro- vides a set of competitive capabilities that are affected by decisions made by operations managers. These competitive capabilities help the organization meet customer require- ments, although there is not a one-to-one correlation between a competitive capability and a customer requirement. For example, flexibility in operations enables firms to meet specific customer needs quickly, but it may also impact product quality and price. ©Stockbyte/Thinkstock A competitive advantage gives an organization the edge over its competition. By improving profits, increasing market share, and expanding into new areas, operations can work toward achieving this desired advantage. von70154_02_c02_033-060.indd 34 2/22/13 3:31 PM CHAPTER 2Section 2.1 Achieving Competitive Advantage Figure 2.1: Model for developing competitive advantage As shown in Figure 2.1, organizations must create business processes that enable the orga- nization to improve the competitive capabilities needed to meet customer requirements, thereby satisfying customers. However, an organization’s impact on competitive capabili- ties is not immediate, that is, no firm can create flexibility, productivity, or quality. Com- petitive capabilities are indirectly impacted through effective design and the implementa- tion of the business processes that help the firm meet customer requirements. Figure 2.1 also provides a list of business processes that are related to operations. This list also may vary from industry to industry and from company to company within the same industry. Other processes not listed, such as those to recruit personnel or raise capital, are impor- tant, but they are not discussed in this text mainly because they are not central elements of operations management. Upcoming sections in this chapter examine customer requirements, competitive capabili- ties, business processes, and technology, which is a critical tool for developing competitive advantage. Coverage of the environmental factors often appears in a course on business strategy or business policy and, with the exception of global competition and technology, will not be discussed here. Environment Business Process Competitive Capabilities Customer Requirements External: 1. Threats: Competitors’ actions & government regulations 2. Opportunities: Global markets & technology 1. Strategy development 2. Product development 3. Developing systems to produce services and goods 4. Order fulfillment 1. Meeting specific customer needs 2. Quick response 3. Product performance and features 4. Product quality (fitness for use) 5. Price 6. Service 1. Flexibility 2. Productivity 3. Building quality into the product 4. Time · Concept to design · Production to delivery 5. E-business · Supply chain management · Customer relationship management Internal: 1. Strengths in material resources, people, & products 2. Weaknesses in material resources, people, & products von70154_02_c02_033-060.indd 35 2/22/13 3:31 PM CHAPTER 2Section 2.2 Customer Requirements 2.2 Customer Requirements Customers are at the core of business operations. Satisfying customer requirements leads to a competitive advantage if an organization can meet needs better than its competitors. If these requirements were equally valued by all customers, regardless of product or industry, assessing customer requirements would be easy. However, there is no universal set of customer requirements for all industries or for all customers within one industry. For example, customers who purchase gasoline buy based on convenience, price, and service because gasoline is (despite industry claims to the contrary) an undif- ferentiated or standard product that is virtually identical from one company to the next. On the other hand, many customers buy automobiles based on product features, perfor- mance, quality, and price because automobiles are differentiated products. Some automo- bile buyers are less concerned about price and buy for the status associated with a high- priced, high-performance luxury car with all possible features. The same customer may have requirements that change over time, so organizations must continuously measure and evalu- ate customer requirements. To be successful at building com- petitive advantage, organizations should know who their custom- ers are, and what their custom- ers want. By understanding their customers’ requirements, organi- zations can build a competitive advantage that enables them to compete in global markets. Under- standing these customer require- ments is essential for focusing on the right competitive capabilities and designing the best business processes. A brief description of customer requirements is listed in Figure 2.1. • Meeting specific customer needs—Value is created by precisely meeting specific customer needs. For example, one approach to providing payroll software is to provide a generic package that many firms can use, but that does not exactly fit any given customer’s needs. The generic package is usually less expensive than a software package written specifically for a particular organization. The generic package may require extra work by the customer, or the customer may decide to pay an additional fee to have the software customized to meet its needs. A com- petitive advantage can be gained by creating software with built-in flexibility, so that it meets the different needs of various customers. The competitive advantage of the software is greatly enhanced when this flexibility is offered and the price is close to the price for software that lacks this flexibility. This approach, sometimes called mass customization, enables firms to design, produce, and quickly deliver products that meet specific customer needs at a price that rivals mass-production. Mass customization is the firm’s ability to produce differentiated products with ©iStockphoto/Thinkstock Because gasoline is, essentially, an undifferentiated product, customers purchase it based on convenience, price, service, and location. von70154_02_c02_033-060.indd 36 2/22/13 3:31 PM CHAPTER 2Section 2.3 Competitive Capabilities cost effectiveness, volume effectiveness, and responsiveness to customers’ needs. Volume effectiveness is the ability to produce goods and services in large enough quantities to meet overall demand. • Quick response—It is usually an advantage for customers to have products avail- able immediately upon request. Late delivery may create delays, increase costs, and create other problems for customers. Early delivery often creates storage problems, raises the risk of theft or damage as the item sits in inventory, and increases the need for working capital to carry inventory. Long lead times force customers to commit to the purchase decision before they need the product. This situation can lead to mistakes because the circumstances may change during the lead time. For example, buying next summer’s wardrobe at a clearance sale in September incurs substantial risk for the style-conscious consumer. Similar prob- lems occur when organizations force their customers to contend with long lead times when placing orders. • Product performance and features—Generally, high-performing products with many features are preferred by consumers, especially when acquired for little or no addi- tional cost. Organizations that are innovative in design and production of services and goods can achieve this. When it was first proposed that automobiles come equipped with air bags to increase safety, there was great concern that the cost of the air bag (estimated at about $600–700 each) would make the price of an automo- bile too high for the average consumer. Today, air bags are touted as an important safety feature; some vehicles have six, seven, or more. The cost of air bags has dropped dramatically because of better design, economies of scale in production, and productivity improvement through learning how to make the product better and cheaper—often called the learning curve. This is true for a variety of goods and services from the iPhone to automatic braking systems for vehicles, to mobile phone plans that offer more minutes as well as data downloads and Internet access at lower prices than voice-only plans from a few years ago. • Product quality—To the customer, product quality means fitness for use. Does the product do what the customer wants, and does it perform well? Quality is broadly defined and can include both product performance and features. • Price—The amount paid for a service or good is still important to consumers. In fact, it is the other half of the value equation. Value is what a customer gets for the price paid. • Service—Service is broadly defined. It includes companion activities, such as helping to arrange financing for a purchase or helping to install equipment. It also includes service after the sale—advice on operating a piece of equipment, provid- ing repair parts, and processing warranty claims. If an organization can provide better service than its competitors, it may achieve a competitive advantage. 2.3 Competitive Capabilities Competitive capabilities are the outcomes of well-designed business processes and, in turn, enable a firm to satisfy its customer requirements. They are outcomes that an organization has achieved, such as flexibility, so that a customer’s needs can be met precisely, or productivity, so that costs can be kept low. The purposes of this discus- sion are to identify and define some of the most important capabilities required by most von70154_02_c02_033-060.indd 37 2/22/13 3:31 PM CHAPTER 2Section 2.3 Competitive Capabilities organizations and to describe how they might be achieved. The list of competitive capa- bilities in Figure 2.1 is not intended to be exhaustive. The emphasis is on operations and discussion focuses primarily on operating issues and concerns. Flexibility Flexibility, as defined for operations, is the ability to modify production from one product to another in response to customer demands with minimal costs and delays. With flexibil- ity, customer satisfaction increases and delivery time is reduced. Flexibility in operations may be as simple as a barber’s chair that can be adjusted for a customer’s height. It may be an employee at a medical clinic who can schedule patients, access electronic medical records, and bill insurance companies for medical claims. It may be a metal-bending press that can quickly be changed to produce a van door panel or a car hood. Flexibility can be helpful in gaining a competitive advantage in a variety of ways: • With the ability to produce a wide variety of products quickly and cheaply, mar- keting can meet specific customer demands more closely and at a lower cost. • Timely deliveries are possible because flexibility implies that inexpensive and quick changes can be made from one product to another. • Changeover costs are reduced because it takes less time and effort to change production resources, thereby reducing operating costs. • When sudden shifts in market preference occur, the cost of redesigning facilities and equipment is reduced because the system can more easily adapt to produc- ing new and different products. Marketing departments would like to satisfy all demands made by any customer because sell- ing is part of the job. Sales can be more easily achieved when a wide variety of products is avail- able for customer choice. Marketing also aims to avoid any unnecessary delays in delivering the service or good. Requesting that operations keep adequate stock of inventory for all items is one approach that can be used in the produc- tion of goods. Inventory, however, is very expen- sive to hold. Also, a high level of inventory does not ensure that the firm has what the customer wants because companies often have in inventory what is not selling, rather than what is selling. An organization can maintain quick delivery and still keep finished goods inventory low through reducing the changeover time between products, thereby adjusting production to meet the custom- er’s needs. ©Jupiterimages/Thinkstock A barber chair can easily be adjusted to best fit each customer’s height. This exemplifies operational flexibility, which is the ability to alter production processes in response to customer demands, with minimal costs or delays. von70154_02_c02_033-060.indd 38 2/22/13 3:31 PM CHAPTER 2Section 2.3 Competitive Capabilities For service organizations, flexibility can be achieved by cross-training employees. Many service operations are labor intensive; if an organization wants to deliver a variety of ser- vices, it is important to train employees to perform more than one function. For example, an automotive repair firm may repair brakes, align wheels, and install batteries. If it has only one person who specializes in performing each service, it may have customers wait- ing for batteries, while no work is being done in brakes and wheel alignments, and two idle workers are present. Cross training can eliminate a problem such as this. Flexibility in the production process also permits facilities to adapt to market changes. Disruptive technology, geo-political change, and global trade can cause relatively quick changes. Dramatic changes make it difficult for companies to maintain their competitive- ness. Without the flexibility to adjust, firms may face lower profitability, declining market share, and even bankruptcy. Real World Scenarios: Flint Auto Stamping Creates Flexibility Through Set-up Time Reduction Flint Auto Stamping uses flexibility to gain a competitive advantage. Stamping involves sending flat sheets of steel through a series of large presses that shape the metal by hitting it with dies (molds). The dies are formed to the shape of the finished product. Flint Auto Stamping produces left-front and right-front quarter panels (fenders) for cars. To change from left to right quarter panels, the press must be stopped, and the dies that shape the metal must be changed. At Flint Auto Stamping, 4–8 hours are required to change dies. If they change dies each day, they will spend four to eight hours each day without production. Because of these delays, management will probably choose long production runs so the changeover times and costs will not be excessive. Longer production runs will lead to greater inventory of one part. Demand for the quarter panel not being produced must be satisfied from inventory because car assembly requires both front quarter panels at the same time. If the time required to make the change was reduced to only 15 minutes, then management could afford more changeovers because less time would be taken away from production. More changes mean less inventory buildup, because the time until the next change is short and less inventory is needed to supply the part that is not being produced. Less inventory leads to lower cost, which is a competitive advantage. Greater flexibility is a result of good planning and effectively organized changeover procedures that use written documentation and dedicated people—engineering, management, and labor—who are willing to work together. Flexibility can also be enhanced through the application of the most current technologies. von70154_02_c02_033-060.indd 39 2/22/13 3:31 PM CHAPTER 2Section 2.3 Competitive Capabilities Highlight: Market Changes in Communication, Automotive, and Health Care Industries iPhone as Disruptive Technology. A disruptive technology is a product that is substantially better than existing products: The iPhone is one such example. Disruptive technology makes it difficult for other companies to compete. For several years, the iPhone was available only with AT&T service, but as service expanded to include Verizon as an option, a large segment of the market purchased the iPhone. This had a negative impact on sales of the BlackBerry unit sold by Research In Motion (RIM), and RIM is struggling to regain lost market share with new products that are designed to compete with the iPhone. So far, these products have not been successful competitors. As a result, the stock price for RIM dropped from more than $80 per share to less than $15 in a very short time. Over the same period of time, Apple’s stock price has increased to more than $600 per share. Supplying new, better performing products to the market more quickly could possibly have helped RIM maintain its market share and financial performance. Apple’s ability to design and improve its technology quickly—flexibility in design and production—and RIM’s inability to do the same determine in large part their relative performance. Oil Price and the U.S. Automobile Industry. Since 1973, the date of the first oil embargo, the U.S. automobile industry has faced several major changes in market preference between large and small cars. Prior to the embargo, gasoline was selling for $.30/gallon, but afterward, gasoline doubled to $.60/gallon, sending shock waves through the industry. In the early-1980s, the price more than dou- bled again to about $1.30/gallon. In 1986, with crude oil prices falling, the price of gasoline dropped dramatically to about $.70/gallon. However, the price soared again in 1990 to about $1.50/gallon, only to drop again in 1998 to $1.10/gallon. From 2000 to 2004, the price of gasoline fluctuated from as high as $1.90/gallon to as low as $1.20/gallon. By 2007, it approached $5.00/gallon, but it was back below $2.00 a gallon the next year. As of late-2012, it stands at about $3.50/gallon, and it is not clear what the cost will be in the future. Each dramatic increase in gasoline prices has decreased the demand for large vehicles with 8-cylinder engines and increased the demand for more fuel-efficient small cars with 4-cylinder engines. Once gasoline prices stabilized (or at least remained stable for a while) larger vehicles with 8-cylinder engines were in demand once again. For many years, the production lines that machined the engines were not flexible; they were set up to make only one type of engine. It was very time consuming and costly to shift production from 8-cylinder engines to 6-cylinder or 4-cylinder engines, and it was just as expensive to shift back when gasoline prices dropped. This inflexibility was a function of equipment design. When determining the most effective level of flexibility, decision makers in the automobile industry should consider the tradeoffs between shifts to new technology, extra costs of designing and operating flexible machining centers for engine blocks, and the cost of converting inflexible systems each time crude oil prices drastically change. Global Trade and Health Care. For many years, items once manufactured in the United States such as apparel, furniture, and televisions, have been produced in other countries, such as Mexico, China, and India. Now, global trade is impacting health care as well as hospitals. Other countries are attempting to lure U.S. patients abroad for surgical and other procedures because the costs for these procedures are far less in other countries. This small but growing trend, called medical tourism, may eventually impact hospitals in the same way that global trade has impacted manufacturing. Health care providers must find ways to keep costs in check or reduce them, improve service quality, and enhance customer service to maintain their market position. von70154_02_c02_033-060.indd 40 2/22/13 3:31 PM CHAPTER 2Section 2.3 Competitive Capabilities Productivity Productivity is a mathematical calculation; it is the ratio of the outputs achieved divided by the inputs consumed to achieve those outputs. As productivity increases, organiza- tions can do the same work with less effort, or can do more work with the same effort. Increases in productivity reduce costs, lower prices, and provide a basis for competing in world markets. While productivity is defined by a mathematical equation, efficiency is a general descriptor of the time or effort needed to do work. Efficiency is often used to mean achieving an outcome with a minimum amount of effort, that is, no waste. In this way, efficiency addresses the same challenges as productivity, which is a precise measure. More is discussed about productivity in a later chapter. Productivity improvements are beneficial to the organization, to management, to con- sumers, and to workers. In any situation, there are limits on resources, capital and equip- ment, material and energy, and labor. Additionally, none of these resources is free. If an organization can produce more products with fewer resources, while improving quality, it will achieve two significant advantages. First, the unit cost of the product will decline because less labor or fewer materials are required to produce each unit. This, in turn, makes the product cost less and the company more price competitive. Second, there will be unused resources that can be used to develop and produce new products and enhance existing products. When significant increases in productivity have been achieved, revo- lutionary changes in resource allocation have occurred. These types of shifts in resource allocation have changed the face of economic development in the United States three times. The First Revolution Increases in farming productivity resulting from the development of better methods and machinery have caused farm labor in the United States to decline from 95\% in the early 1800s to less than 3\% today. Those who had been working on the farms then became free to work in other areas producing a vast array of consumer goods. It also provided the oppor- tunity to expand leisure time by reducing the work time to only 40 hours per week. At the same time, the prices consum- ers paid for food as a percentage of income have declined drasti- cally. Consumer goods such as automobiles, home appliances, and electronic gadgets were developed and produced by labor freed from farming tasks. These changes have improved business opportunities, created new jobs, and improved living standards. These improvements ©Hemera/Thinkstock The advent of farming equipment caused farm labor in the United States to decline from 95\% to less than 3\%. This shift allowed workers to focus on creating and producing consumer goods and services. von70154_02_c02_033-060.indd 41 2/22/13 3:31 PM CHAPTER 2Section 2.3 Competitive Capabilities would not have been possible without the development of better methods and machinery that allowed companies to reallocate their human and physical resources from farming to the production of goods. The Second Revolution During the late-1800s and the first half of the 1900s, improvements in manufacturing pro- ductivity freed resources for the rapid expansion of service operations. As manufacturers invested in equipment to automate production, less labor was needed to make the same amount of finished goods. Banking, health care, insurance, retail, and other service indus- tries grew because of the labor freed by mechanizing operations. Greater opportunities for services became possible because labor productivity improvements in manufacturing allowed the U.S. economy to do more with fewer people and resources. This is how real improvement in living standards can be made. The Third Revolution The next wave of productivity improvements began in the 1950s with the development and commercial application of computers. This phase, which some call the post-industrial era, began with large, difficult to operate mainframe computers used by governments and a few very large businesses. Improvements have progressed with the use of large scale databases, telecommunications technology, the personal computer, the Internet, and smart devices. Now, the possibilities and potential uses of these kinds of technologies are endless. As this technology is applied to problems in decision making on the factory floor, in the office, in the hospital, in government, and so and on, productivity of blue- and white-collar workers will increase. This technology allows fewer people to do more work. Building Quality into Products For firms to remain competitive in today’s global markets, they must produce high- quality products. To remain cost-competitive, organizations must find ways to improve product quality without increasing costs. Technological advances can lead to reduced costs, improved product performance, and enhanced quality. Enhancements in quality can result from applying new technology (such as advances in micro and robotic sur- gery), developing new materials (such as high-strength carbon fiber composite materials to replace steel), and improving operations through better management and training. von70154_02_c02_033-060.indd 42 2/22/13 3:31 PM CHAPTER 2Section 2.3 Competitive Capabilities Highlight: Building a Culture of Quality: China and Japan The importance of building quality into products is evident in a growing reluctance to purchase cer- tain products, including food and toys from China because of well-publicized failures in China’s pro- duction systems. For China to maintain and grow its economy through global trade, it must create a culture of quality that will root out these problems, and build products that customers will seek out and pay a price premium to obtain. This is the approach Japan has taken, beginning in the 1950s under the leadership of W. Edward Deming and Joseph Juran. Using their quality principles, Japan changed its perception from low-quality trinket producer after World War II to the maker of high- quality, high-technology products by the 1970s. However, even with this renewed perception, a long history of high-quality products can be damaged. For example, the substantial quality defects involv- ing Toyota automobiles with unintended acceleration have had a significant and negative impact on sales. The quality defects and the impact of the 2011 tsunami on key suppliers’ ability to deliver components have lowered Toyota from … Learning Objectives After completing this chapter, you should be able to: • Define productivity. • Describe why productivity is the key to an increasing standard of living. • Discuss how the relationship between productivity and the nature of work has changed over time. • Explain labor, capital, and material productivity. • Calculate productivity in single and multiple factor cases. • Discuss important trade-offs among the factors of productivity. • Explain the relationship between wage rate and productivity. • Describe ways to enhance productivity. 3 .Hemera/Thinkstock Enhancing Productivity von70154_03_c03_061-086.indd 61 2/22/13 3:32 PM CHAPTER 3Section 3.1 Understanding Productivity 3.1 Understanding Productivity Productivity is a term that is mentioned often in the news. It is a term that many believe is important, but they are not sure why. Productivity is often associated with increasing efficiency and lowering costs, which have positive connotations. In fact, increasing productivity is an essential factor for improving living standards. Productiv- ity is the level of output achieved from an activity divided by the inputs consumed to make the output. While productivity is defined by a mathematical equation, efficiency is a general descriptor of the time or effort required to complete work. Generally, efficiency is used to mean achieving an outcome with a minimal amount of effort, that is, no waste; it has a similar meaning as productivity. Productivity = Output/Input The above definition, while accurate, does not convey the central role that productivity and productivity improvements have in determining living standards for people in the United States and around the world. To understand this impact, imagine that seven people are stranded on an island, completely cut off from the rest of society. The island has abundant natural resources. The immediate problems are getting fresh water to drink and gathering fruits and vegetables to eat. Appropriate shelter and clothing come next. The amount of water that seven castaways are able to drink (the output) depends upon how much effort (the input) they place on locating, collecting, transporting, and storing it. As the group becomes better at gathering an adequate supply of water with less effort, members of the group have more time for gathering food, building shelters, and making clothes. For example, rather than going to the water source each time a person is thirsty, the group could build buckets and barrels to transport and store large amount of water that is easily and quickly acces- sible. This investment in design- ing and building tools to make collecting water faster and eas- ier frees time for other activities. Eventually, as shelters are built, they could be designed and con- structed so that the roofs could collect rainwater and funnel it into water barrels. This sys- tem would eliminate the labor required to collect water, thus providing more time for other activities, such as growing a large variety of food, building transportation devices, swim- ming, and devising forms of entertainment. ©John Foxx/Thinkstock Productivity improvements have a profound impact upon living standards for people around the world. Although completely cut off from society, a group of people stranded on a tropical island would likely employ these same improvements to increase their quality of living. von70154_03_c03_061-086.indd 62 2/22/13 3:32 PM CHAPTER 3Section 3.1 Understanding Productivity As the seven castaways become more productive, they meet their basic needs (outputs) with less time and effort (input). This provides free time, which can be used to create new products, develop better ways to make existing products, and enjoy leisure activities. Put in the simplest terms, the seven castaways can only consume what they produce. The more they produce, the more they must consume. In this simplistic example, the cast- aways clearly benefit by finding ways of “doing more with less,” which is a phase that is synonymous with cost cutting, and may have a negative connotation. Doing more with less is the way to achieve an improved living standard. A 21st-century economy with more than six billion people is similar to the castaway econ- omy because the concept of productivity does not change. Productivity still measures the ability to produce goods and services (outputs) compared to the inputs or resources used in the process. The primary difference is that most work in the economy is done by groups of people working in organizations. As discussed earlier in this text, organizations exist to meet the needs of society that people working alone cannot. It is through these organiza- tions that people achieve the cooperation and coordination to produce the array of ser- vices and goods consumed each day. First, organizations allow individuals to specialize in work, such as production, engineering, and sales. Second, they support the development and implementation of technology and automation to achieve greater productivity. Third, organizations provide a mechanism to coordinate work toward a common set of goals. Examining and redesigning organizational processes and activities is a key source of pro- ductivity improvement. The following examples illustrate these points. 1. Specialization—Product design for life insurance requires an estimate of life expectancy. This effort is critical to setting the terms and conditions of the policy, including the premium. Actuaries are statisticians who specialize in making this estimate. Their productivity (ability to make the estimate quickly and accurately) is greatly enhanced by specialization. They are well trained in the techniques required to do the job. An employee of the life insurance company with training and education as a general manager, sales manager, or accountant would require significantly more time and effort to do actuarial work, and the estimate would probably be much less accurate. Similarly, the actuary would likely make a poor accountant or manager. 2. Technology and Automation—At today’s universities, students have the option of paying fees using electronic funds transfer (EFT) via the Internet rather than standing in line at the cashier’s office—the approach used a generation ago. Not only is EFT more convenient for the student (improves the student’s productivity by requiring less time to make the payment), it also increases the productivity of the workforce at the university. From the university’s perspective, each transac- tion that shifts from paying in person to paying using EFT reduces the amount of time university employees spend accepting the payment and entering informa- tion into the computer system. This presents an opportunity to cut costs and to do more value-added work. 3. Process Redesign—In many organizations, marketing and sales are responsible for gathering information about customers and their orders. When a customer makes a request that requires special processing, such as a special finish on a piece of steel or a major change to a software module, that information is relayed from the customer through sales to the people who do the work, and takes extra time and effort, thereby increasing the risk of errors. Changing the process so that the von70154_03_c03_061-086.indd 63 2/22/13 3:32 PM CHAPTER 3Section 3.1 Understanding Productivity Real World Scenarios: Procter & Gamble Work With Walmart Sometimes, process improvements involve working across organizations. In many cases, retailers are working with suppliers to develop innovative ways to improve the replenishment process and reduce the resources devoted to manage this relationship. Procter & Gamble (P&G) supplies Walmart with disposable diapers—a bulky, inexpensive, high sales- volume and low profit-margin commodity—so Walmart must keep inventory low and product avail- ability high. To accomplish this, Walmart has changed its replenishment process. Rather than placing orders with P&G, Walmart provides sales data for each individual store. It is P&G’s responsibility to track inventory, schedule production, and deliver diapers to the store. How does this shifting of responsibility improve the process? P&G receives sales data from Walmart each day. P&G uses the data, along with orders from other customers, to schedule its production processes more effectively and generate orders for its suppliers more quickly. P&G can more eas- ily balance its production process to reduce spikes in production, which can lead to higher costs through the need for overtime production and similar effects. P&G suppliers, in turn, can improve their response time and reduce their in-process inventory. Walmart spends less time tracking inven- tory, deciding how much and when to order, and placing the order. As responsibilities shift between P&G and Walmart, overall costs decline, product availability increases, and the amount of unneces- sary communication and interaction between organizations is reduced. customer can communicate directly with the people doing the work increases the productivity of all participants. This can be accomplished in a number of ways, including having the customer visit the facility and meet with the employees, or sending employees to meet the customer. It can also be done by sharing feedback from customers in a video format and providing “made by” information so the customer know who made the product. Providing customer with the employees’ email or other points of contact is helpful. Employees tend to respond better when the contact with the customer is personal. Money Versus Productivity Productivity is more important than money when improving the standard of living, because productivity determines the level of output and, therefore, consumption, whereas money measures the value of the output. Money in the form of revenue, profits, and income is a way for organizations and individuals to track performance. Refer to the cast- away example mentioned earlier. Suppose that each castaway landed on the island with $1 billion in gold. The money does not create a single glass of water or one bit of food. It is only through the work of the castaways that these commodities are gathered and produced. Methods to increase productivity, such as specialization of labor, automation, technology, and process improvement, create better living conditions and a society with a higher living standard. von70154_03_c03_061-086.indd 64 2/22/13 3:32 PM CHAPTER 3Section 3.1 Understanding Productivity Initially, the small island economy may use a barter system in which a castaway gathering water would trade water for food with another castaway gathering or growing food. As the economy grows in complexity, a currency will likely emerge to facilitate the exchange of goods and services, because bartering can be cumbersome. Suppose a currency is in place, and it is based on the gold that the castaways brought with them. Now suppose the castaways discover gold on the island. They divide the gold up evenly, so now each cast- away has twice as much gold as before and wants to buy more goods and services. The immediate impact is to increase the price for items because the quantity of available goods and services has not changed. There would be no increase in the goods and services avail- able unless productivity is improved or the castaways work more hours at the same level of productivity. For the island economy, it does not matter whether or not more gold is found, the castaways could do either of these activities: increase productivity or increase the number of hours worked. As the population grows and the island economy develops, income for each individual would be determined by the value of the work they could do. If medical care, for example, is determined more valuable than education, doctors would receive a higher income than teachers. This would allow a doctor to consume more than a teacher because the value of the doctor’s labor is judged to be higher. If an individual in a developed economy finds $1 million worth of gold in his or her backyard, that still does not generate more output. It does, however, allow the person to outbid others for the outputs of the economy and consume more. Someone else, in turn, must consume less until productivity increases. Productivity and the Nature of Work Many individuals believe that productivity applies primarily (or exclusively) to the blue- collar workforce. People think of the number of laptop computers produced by workers on an assembly line, or the amount of paper produced in a mill as key productivity data. While the productivity of blue-collar workers is important, blue-collar workers represent a small and declining portion of the workforce in developed countries. During the 20th century and continuing today, there has been a substantial shift in the nature of work. Early in the 20th century, nearly 80\% of the workforce in the United States performed manual work, with the balance doing intellectual work, such as designing, planning, and managing. Today, that percentage has reversed. In addition, about 80\% of the workforce in the United States is employed in service organizations. Of those employed in manufacturing, many work in management, sales, and other staff activi- ties, such as quality control and engineering. Like the seven castaways, the productivity of everyone is important because each impacts the living standard of all. Because a large portion of the U.S. workforce does intellectual work, its impact upon living standards is very important. Table 3.1 presents some examples of people doing intellectual work, key measures of their productivity, and possible methods to improve that productivity. von70154_03_c03_061-086.indd 65 2/22/13 3:32 PM CHAPTER 3Section 3.1 Understanding Productivity Table 3.1: Productivity measures and methods of improving productivity Worker Activity Measure Method of Improving Productivity University faculty Educates students or educates them better Student credit hours taught. This does not take into account what students have learned or other duties of faculty, including curriculum design, research, and service. • Increasing class size leads to more student credit hours • Assigning more sections per faculty also leads to more student credit hours • Distance learning provides access to education that may not otherwise be available • Innovative teaching methods can improve the quality or the quantity of what is learned Postal worker Oversees the operation of an automatic sorting machine Number of pieces of mail sorted in an hour • Equipment improvements that speed up the sorting process • Job training Case worker for children’s services Manages the care of children in foster homes Number of cases under management at any time. This does not consider the degree of difficulty of the cases, or the quality of the service provided. • Information systems, including databases that support care • Communication technology that gives access to foster parents, service providers, and support services Productivity in Service Organizations T hrough the last half of th e 2 0th century, as the U.S. economy shifted from a manufacturing-based economy to a service-based economy, productivity improvements lagged because productivity gains in the service sector were more difficult to achieve. With rapid advances such as the Internet, telecommunication, and mobile devices of all types, the ability to improve the productivity of the intellectual labor force has increased drastically. Companies that are able to apply these technologies are gaining a competitive edge. For example, Northwestern Mutual has a processing cost of $.063 cents for each von70154_03_c03_061-086.indd 66 2/22/13 3:32 PM CHAPTER 3Section 3.2 Assessing Productivity dollar of premium collected from its policyholders while its competitors’ costs range from $.15 to $.20. It is logical to argue that these companies have not managed their resources and technology effectively. Costs for telephone access, both wired and wireless, are declin- ing as technology is applied to reduce equipment and labor costs. The Quality Condition While the importance of quality may be obvious, it is worth discussing. Productivity calculations are based on the assumption that quality levels are maintained. If an orga- nization produces more output with the same level of resources, but the quality of the output is lower, then productivity may not increase. If a company produces more com- puter software, but the software is defective and must be corrected, then the company has gained little. In fact, productivity may actually have been reduced. If a lower quality product reaches the consumer, and the product’s value to the consumer is reduced, or the consumer must spend additional resources to prepare the product for use, productiv- ity is affected. The same ideas apply to a research laboratory or an inner-city mission. If researchers’ output is higher quality, the people that use their work will benefit because the output has more value. If the mission provides better nutrition and preventive health care screening, the people using the services will feel better and the cost of health care should decline. This frees health care resources for others. Conversely, quality may be another way to boost productivity. If firms find ways to make a higher-quality product, using the same or fewer resources, then productivity increases because the output has greater value. Following the software example, if a firm purchases new software development tools that are easier to use and result in fewer errors, the pro- ductivity of its programmers and analysts increases. 3.2 Assessing Productivity To calculate productivity, it is essential to define and measure the inputs and the outputs of the activity. In the simplest cases, measure- ment is a trivial problem. If a manufacturing operation makes a single product on an auto- matic machine, calculating the productivity of that machine is simple. The output over a given period of time is measured. It is usually better to measure a rela- tively long period of time, days or weeks rather than minutes or hours. The reason is that the outputs may be greatly affected by a short-term occurrence such as a machine breakdown. ©iStockphoto/Thinkstock It is essential to define and measure the inputs and the outputs of an activity to calculate productivity. If a manufacturing operation makes a single product on an automatic machine, it is simple to calculate the productivity of that machine. von70154_03_c03_061-086.indd 67 2/22/13 3:32 PM CHAPTER 3Section 3.2 Assessing Productivity Example: Machine Productivity If a machine can make 200,000 roofing nails in 40 hours, then the productivity of the machine is 5,000 nails per hour. This is a single-factor productivity calculation because only the machine is considered. Machine Productivity = 200,000 roofing nails/40 machine hours Machine Productivity = 5,000 roofing nails/machine hour The resulting data become a benchmark that the firm seeks to improve. Suppose the firm invests in a new piece of equipment that automatically feeds metal to the machine so the machine can run faster. Now, the machine is able to produce 210,000 nails in the same 40-hour period. Productivity has increased from 5,000 nails per hour to 5,250. Productivity has increased by 5\%. Change in pro- ductivity is the productivity after the new equipment minus the productivity before the new equip- ment divided by the original productivity times 100. Make sure that the sign of that number is kept so it can be determined if productivity increases or decreases. Percent Change in Productivity = (New Productivity – Old Productivity)/Old Productivity (100) Percent Change in Productivity = (5,250 – 5,000)/5,000 (100) Percent Change in Productivity = 5\% Inputs and Outputs While this simple example illustrates the method for calculating productivity, it does not consider that most operations have more than one input and more than one output. Eco- nomically, the inputs are: 1. Labor by managers and workers (either internally or externally) 2. Capital for land, facilities, and equipment 3. Materials, including energy requirements The importance of these factors varies widely for companies producing different prod- ucts. For example, steel mills require large amounts of energy while Children’s Services, a social service agency, uses very little. In a steel plant, the significant inputs include managers, laborers, land, facilities, equipment, energy, and raw materials. The inputs for Children’s Services include management and caseworkers. For Children’s Services, the investment in land and facilities would be small compared to labor costs. Equipment investments may be relevant for information technology. Energy and raw material costs would be very small. Material costs would also be low with only small quantities of office supplies required. Outputs can be more difficult to define and measure. For example, how would the produc- tivity of a fast-food restaurant be measured? Would it be measured by customers served per hour? If so, that calculation is problematic because customers may order different things. Measuring output as the number of items sold also can be misleading because these restaurants sell various items (such as drinks, sandwiches, and ice cream) that have different value to each customer, which is, therefore, reflected in the prices charged. These examples illustrate two important issues that can complicate how productivity is measured: (1) How can multiple inputs with different economic values be included? In von70154_03_c03_061-086.indd 68 2/22/13 3:32 PM CHAPTER 3Section 3.2 Assessing Productivity the fast-food example, how does the productivity of labor relate to the productivity of capital or materials?; (2) How can multiple outputs with different economic values be calculated? Continuing the fast-food example, a pizza shop may produce hot submarine sandwiches, chicken wings, and bread sticks. How does it value those outputs compared to a pizza? Even if the pizza shop sells only pizza, there are different sized pizzas with different toppings that have different economic value. In cases where there are multiple inputs or outputs with different values, dollars rather than item counts or hours worked are used to measure both inputs and outputs. Labor Productivity Labor is the most obvious input in the productivity equation. In fact, some businesses are concerned only with measuring labor productivity because it is easy to calculate and many managers believe it is one factor under their direct control. For many service operations, labor is the largest input. In service operations, such as banks, hospitals, and universities, labor is often 70\% or more of total costs. For manufacturing firms, however, it is impor- tant to note that direct labor, people who work in producing goods, usually accounts for a small percent of total input costs—10\% or less. Indirect labor, which is labor that sup- ports production such as quality, supervision, and maintenance, can be two or three times the cost of direct labor cost. If indirect labor, management costs, and outside services are added to direct labor costs, the total is usually below 50\% of the cost of all inputs. Some service operations may be able to function minimally with only labor productivity, but a broader perspective on productivity may be relevant. The simplest way to determine labor productivity is to measure output per labor-hour. This approach does not account for variations in pay rates among workers. To calculate such rate differences, many companies use labor costs as a measure of inputs. The equa- tion for labor productivity is: Labor Productivity = Quantity or Value of Units Produced/ Labor Hours or Labor Cost The equation for any other individual factor of productivity differs only by its title and its divisor. For example, to calculate material productivity, use material quantity or material costs as the divisor. Capital Productivity Another major component of production is capital, which includes all money invested in land, facilities, and equipment, as well as working capital, such as inventory. Capital pro- ductivity can increase when firms invest in new facilities and equipment that increase out- put. Capital productivity can also be increased if a company can produce the same level of output as it previously had while reducing its inventory levels or other working capital requirements. Many firms invest in new facilities and equipment in order to reduce labor costs; however, the benefits of making a capital investment may greatly expand labor productivity and capital productivity may instead decline. These trade-offs are discussed later in the text. Service and manufacturing firms often have very different capital requirements. Service operations often have relatively small investments in capital. For example, insurance von70154_03_c03_061-086.indd 69 2/22/13 3:32 PM CHAPTER 3Section 3.2 Assessing Productivity companies require office space, furniture, information systems, and working capital, which represent a small part of their input costs. Hybrid service operations, such as retail, often have large investments in retail outlets, distribution centers, and inventory in their network of retail outlets and distribution centers. Manufacturers usually have very large capital outlays to build production facilities. Material Productivity Materials and energy are often critical inputs to manufacturing processes, but may be insignifi- cant in most service operations. For manufactur- ing companies, materials often represent more than 50\% of the input costs. A university may pur- chase office and laboratory supplies as materials. A hospital’s primary materials include medicine, linens, and food for the cafeteria. For universities and hospitals, materials represent a very small part of the inputs to the organization. Trade-Offs in Productivity Productivity can increase by maintaining the level of output while decreasing inputs, or by increas- ing output without increasing any input. This is difficult to achieve, so trade-offs are necessary. Companies must contend with trade-offs among the various inputs in order to achieve increases in overall productivity, called multiple-factor pro- ductivity. In this case, some individual factors of productivity may decrease while others increase. Trading Capital for Labor For thousands of years, producers of food and goods have traded capital for labor. These trade- offs date back to the time when our early ances- tors first began using tools to make life easier. The wheel and axle allowed people to carry heavy loads across greater distances. Instead of making many trips to move a certain load, a person could make one trip in a wheeled cart. This trade of capital, the investment in designing and building a wheeled cart, for less labor resulted in substantial productivity increases that are still occurring today. This is why research and development activities that design and develop new technologies and devices are important for economic health and improving living standards. In the devel- opment and application of the wheel and axle to industrial and transportation uses, some- one or a group of people had to take the time to research the concept, create a design, build and test prototypes, and put the idea into production. This investment required a shift of resources from the labor associated with doing the actual work of moving the item to be transported, to research and development on how to move the item more efficiently. This meant that someone had to take a significant risk, but the benefits have been tremendous. The impact of this investment on living standards can be seen everywhere. ©Comstock Images/Thinkstock Materials and energy are often critical inputs to manufacturing processes, but may be insignificant within service operations. For example, laboratory supplies purchased for universities and hospitals represent a very small part of the inputs required for the organization. von70154_03_c03_061-086.indd 70 2/22/13 3:32 PM CHAPTER 3Section 3.2 Assessing Productivity Trade-offs involving capital and labor have focused primarily on automating activities previously performed by people. In the construction business, trucks and bulldozers move large quantities of dirt and other materials on construction sites. In the automo- tive industry many boring, unpleasant, or dangerous tasks are performed by robots and other automated devices. In retail operations, checkout systems are becoming completely automated as customers check out their items using a scanner, and pay by credit card or cash. The result is high capital costs, low labor costs, and greater overall output—which generate an overall productivity increase. Higher capital costs pay for research and devel- opment as well as equipment production. At some retail stores, cashiers are being replaced by technology that allows …