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. 4. OPERATIONS MANAGEMENT
4.1. The Nature of Operations
Key points of discussion:
1. Operations means production of products and services both.
2. Operation process starts from the idea of making a new product or an
existing product in market sold by competitors.
3. Resources in operations management include: land, labour, capital
(including intellectual capital)
4. Difference of: Effectiveness, Efficiency and Productivity
5. How Value Added is performed by the business?
6. Benefits and limitations of capital and labour intensive processes.
To produce a specific product land, workers, raw materials and equipment’s
are used as inputs. Through different processes these inputs are transformed
into finished products. These processes are called Business Operations.
Value Added refers to the increase in value of an item after every stage of
processing. This value addition to the item can be due to labor, machine,
creativity, technology etc. It is the enhancement of the value after each
stage of the process. A key objective for an Operations Management is the
ability to increase the value-added during the transformation process. Value-
added is the difference between the cost of inputs and the price of outputs.
This is an indicator of the effectiveness of the operation.
Two terms need explanation:
Effective (adj.) – capability of producing a desired output.
Efficient (adj.) – Performing in the best possible manner with the least waste
of time, effort and resources.
It is important that every business makes effective use of its assets.
Efficiency in the workplace is the time it takes to do something. Efficient
workers complete tasks in the least amount of time and resources by
utilizing time-saving strategies. The efficiency of a business operation
increases the productivity of factors of production. Productivity can be
measured in several ways: e.g. Output per worker, Output per machine or
Unit costs (total costs divided by total output). The unit cost measure is
particularly important. Higher productivity means minimum costs and
maximum profits. A more efficient business produces goods at lower cost
than its competitors.
There are various ways in which a business can try to improve its
productivity. Management provides training to improve skills to its
employees. Better working conditions increases motivation of work in the
employees. More or better capital equipment and raw materials.
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Functions of Operations Management:

1. converting materials and labor into goods and services as efficiently as
possible.
2. balance costs with revenue to achieve the highest profit.
3. examining various strategic issues, including determining the size of
manufacturing plants and production methods and implementing the
structure of information technology networks. Operational managers
need a system that tracks basic activities and organizational
transactions, such as sales, receipts, cash deposits, payroll, credit
decisions, and flow materials at the factory. Transaction Processing
System (TPS) provides information like this. Transaction processing
systems are computerized systems that carry out and record daily
routine transactions needed to conduct business, such as orders, sales,
hotel reservations, payroll, employee records, and shipping. The main
purpose of the system at this level is to answer routine questions and
to track the flow of transactions through the organization.
4. Tracking raw material and finished goods inventory levels to determine
the time period required to meet the order.
5. Managing Supply Chain of a business. A Supply Chain is a network
between a company and its suppliers to distribute a specific product to
the final buyer. The steps include moving and transforming raw
materials into finished products, transporting those products, and
distributing them to the end-user. The entities involved in the supply
chain include producers, vendors, warehouses, transportation
companies, distribution centers, and retailers. When supply chain
management is effective, it can lower a company's overall costs and
boost profitability. Logistics refers specifically to the part of the supply
chain that deals with the planning and control of the movement and
storage of goods from their point of origin to their final destination.
Logistics management begins with the raw materials and ends with the
delivery of the final product. Successful logistics management ensures
that there is no delay in delivery at any point in the chain and that
products and services are delivered in good condition. This, in turn,
helps keep the company's costs down. Operations management is
responsible for finding vendors that supply the appropriate goods at
reasonable prices and have the ability to deliver the product when
needed. Operations management also typically follows up with
customers to ensure the products meet quality and functionality
needs.
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Capital and Labour Intensive Production.

Capital-intensive
In business, capital refers to the equipment, machinery, and vehicles and so
on that a business uses to make its product or service. Capital-intensive
processes are those that require a relatively high level of capital investment.
These processes are more likely to be highly automated and to be used to
produce on a large scale. Capital is a long-term investment for most
businesses, and the costs of financing, maintaining and depreciating
equipment’s and machines represent a substantial overhead.
Labour-intensive
‘Labour’ refers to the people required to carry out a process in a business.
Labour-intensive processes are those that require a relatively high level of
labour compared to capital investment. These processes are more likely to
be used to produce individual or personalised products, or to produce on a
small scale. Some flexibility in capacity may be available by use of overtime
and temporary staff, or by laying-off workers. Long-term growth depends on
being able to recruit sufficient suitable staff.

Operations Methods: Job, Batch, Flow, Mass Customization.

Manufacturing is the production of goods from materials, parts and
components. It is a broad term that includes things produced Job Production
(one-off production), in batches or mass produced.

Job Production:
A single and customized product is produced for a specific client. It is
performed by skilled and expert workers. In job production the job is done by
specialist workers, therefore, high standard product is produced. Producer
meets individual customer needs in job production. This increases the
goodwill and market of the firm. Workers are well motivated-unique job
requires concentration and must ensure customer’s expectations are met.
Disadvantages: This production method tends to result in high unit costs.
Expensive materials and equipment may have to bought in order to
complete the task. A particular job may take a long time to complete. The job
is usually labour intensive. The labour force also needs to be highly skilled
and this is not always easy to achieve. Firms have to spend on training of
workers.

Batch Production:
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It is a method whereby a group of identical products are produced

simultaneously rather than one at a time.
A batch may produce several thousands of units in separate groups. Each
batch is finished before starting the next batch of goods. Each batch can be
different, as manufacturers can decide to change the specifications from one
group of products to the next.
For example, a baker first produces a batch of 50 white loaves then baking
50 loaves of brown bread. In this way this production method allows a
degree of customization. All of the items in the batch are the same, so
production is speeded up. This reduces the cost of labor and results in the
final product being less expensive for the customer.
Batch Production: Additional Details:
 It is repetitive production. Instead of making one single product as in
case of job production, a batch or group of products are produced at
one time. One batch of products may not resemble with the next
batch.
 The work is divided into operations and one operation is done at a
time. After one operation work is passed on to the second operation
and so on till the product is completed.
 Same type of machines is arranged at one place. It is generally chosen
where trade is seasonal or there is a need to produce great variety of
goods.

Advantages:
Batch production can reduce initial capital outlay (the cost of setting up the
machines) because a single production line can be used to produce several
products. Since a single machine or line is used for multiple products, the
level of risk is less.
When there is a production in the form of batches, then there will be less
time required for the changing of the parts and the movement of the
machines. Each and every single one of the tasks can be completed easily
and that too in huge numbers.
So, this way, the tasks will be over sooner. Manufacturers that produce
seasonal products often benefit from batch production. Making large batches
of items and then switching the machinery for the next season is a very
efficient production method. This method allows more variety of products to
be made so can respond to changes in demand for any good i.e. toys,
furniture or refrigerators or LCDs.
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Different batches means variety in workers’ jobs leading to better

motivation. Workers are skilled or semi-skilled. Workers often work in teams
with the ability to do other roles if needed.
Limitations:
Work in progress inventory is higher compared to continuous production. If
batches are small then unit cost will increase. Time is wasted between the
production of different batches as the machinery and equipment needs to be
cleaned. Storage of semi-finished and finished goods require space and this
will increase cost. As workers become more specialized, they may become
bored and become demotivated.

Flow Production:
Flow/Continuous production process produces output in a continuous flow.
Production process never stops between the different steps of the product
creation. Flow production uses assembly line technology.
Assembly line production for mass producing goods adds separate
parts of the product at each individual stage of production, thus assembling
the product until it is complete. Each worker is assigned a repeated task, and
where the process moves to the worker who performs another task until the
product is completed. Flow production is capital intensive and there is a high
ratio of machines to humans in the production process.

Advantages:
Labour costs tend to be relatively low, because much of the process is
mechanized and there is little physical handling of products. Quality tends to
be consistent and high and it is easy to check the quality of products at
various points throughout the process. The production line runs continuously
for extended periods of time with no interruptions. Mostly used where
changes in market demand is limited and predictable. Materials can be
bought in bulk, this reduces the products cost.

Disadvantages:
The main disadvantage is the high initial set-up cost. By definition, capital
intensive, high technology production lines are going to cost a great deal of
money. The machinery tends to be highly inflexible and therefore is difficult
to change the design of the products or produce a different product. Flow
production is capital intensive and workers’ may be very specialized; they
may become bored which may affect motivation. A breakdown of machinery
will bring production of the product to a stop. If any part of the production
line breaks then production will completely stop.
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Difference between batch and flow production methods

 Batch production allows for the use of a production line for different
products. In mass production, assembly line cannot be used for
different products.
 Mass production differs from other forms of production in that all steps
in the production process are run simultaneously and continuously.
Batch production is the making of different version of the same basic
product in batches (eg. different colour, types of paint, different
varieties of jams etc).
 Mass production is used for the production of large number of units.
 The unit cost in line production is comparatively low as compared to
batch.

Mass Customization can be defined as mass production of individually

customized goods and services to large number of customers. Products
include from low price items to high price items i.e. automobiles.
Using production lines to make a variation in products.
Mass customization is mainly determined by:
 Market competition: Product variety is exploding while product life
cycle is shortening.
 Technological revolutions: Flexible manufacturing systems allow
manufacturers to quickly adapt to changes without incurring high
penalty in terms of cost and lead time.
It allows firms to produce only things their customers want or produce after
they have orders in hand. It brings many benefits to firms in terms of cost
and profit because of lower inventory levels, maximum sales, elimination of
material waste, flexible production and, most of all, customer satisfaction.
This system requires customer to specify requirements through online
ordering or call center. Advanced manufacturing systems that enable
economies of scope (keep cost and price low).

Product Customization Examples from Leading Mass Customization

Companies:
Since 1990s, BMW has gained recognition for its customization program,
which allows buyers to design their own cars from a set of available options.
The cars are then delivered within 12 days of the order being placed. There
are many sectors that have seen great innovation in mass customization are
centered around goods that require specialized fitting, such as sporting
goods, footwear, eye-ware, and clothing.
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Here are a few of the leading mass customization companies in these areas:
1. Vista print, offers online tools to help its customers order customized
business cards, brochures, face masks. Cimpress has revolutionized the
short-run press business.
2. Warby Parker: This is eye-ware company sell millions of pairs of custom
glasses in the U.S. via their online channel.
3. Nike’s NikeiD Brand: Nike’s NikeiD brand allows consumers to personalize
their shoe orders online.
4. True Gault: Sandra Gault focuses on making customized high heel shoes
for women. This New York-based startup used an iPhone camera app to
capture a true size 3D model of women’s feet, allowing for a more natural,
custom fit.
5. Atomic Skis: Outdoor sporting goods innovator Atomic allows you to
design your own personal pair of skis online, including all colors, textures,
and design elements.

Selecting the most appropriate method of production

There is no one best method of production. The choice of production method
rests on a number of variables which will change over time. The following are
some factors which will influence business in its selection of production
method:
 The level of demand - if there is a mass market for a product, this may
justify the investment in capital to allow for flow production.
 The nature of the target market - customers may demand a high level
of customisation and quality which only job production can provide.
However, price sensitive markets segments may only be satisfied if the
firm produces high volume, standardised products.
 The comparative costs of labour and capital - labour is often the largest
cost for firms in developed countries. Consequently, large firms will
look to minimise cost by investing in automation and mass production
technologies. However, businesses operating in countries where labour
is relatively cheap are more likely to use labour-intensive production
methods.

What Problems are faced by companies when changing production methods?

Job to Batch:
Purchase of new equipment for batch production. It increases cost. Additional
working capital is needed. In batch production less emphasis placed on an
individual’s craft skills. It could be demotivated for the worker.
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Job/Batch to Flow:
Flow production requires higher Cost of capital equipment. Highly skilled and
qualified staff is required. Regular training to staff is necessary. Managers
have to estimate accurate future demand. It ensures that output matches
demand.

4.2. INVENTORY MANAGEMENT

Manufacturing businesses hold inventory in the form of:
.
Raw Materials: Manufacturing process is used to convert raw material into
desired finished goods.

Work-In-Progress (WIP): WIP are the semi-finished goods. It is partly

processed raw materials lying on the production floor. This inventory is kept
as low as possible.

Finished Goods: These are the final products after manufacturing process on
raw materials. They are sold in the market.
MRO stands for maintenance, repair, and operating supplies.
Maintenance and repairs goods like bearings, lubricating oil, bolt,
nuts etc are used in the production process. Supplies like
stationary are also included in this category.

A business should not run out of stock otherwise it cannot meet the demand
of customers. Stock control is managed effectively by production
department. Stock held more than the demand increases costs of the firm.
Businesses purchase raw materials, semi-finished goods and components to
produce products for customers and other businesses.
In case a firm maintains adequate inventory of raw materials, it can execute
the customers’ orders. In this way sales revenue will not be lost. Businesses
get Discount if the purchase order is large.

Managing materials involves purchasing, storing and issuing of stocks.

Production managers ensure quick delivery of raw materials in the factory at
the most competitive prices. Choose reliable suppliers and maintain good
relations with them.
A poor supplier may delay production, which can be costly. The
measurement of suppliers’ performance is called Vendor Rating. Vendor
rating involves quality, price, delivery, communication and flexibility of
suppliers.
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A business has to bear costs of handling extra inventory.

1. Cash is used to buy inventory. Even in credit purchase cash is paid to
settle payables of the business. This cash can be used in other productive
use. This is opportunity cost of holding inventory.

2. The inventory may become obsolete/outdated due to improved

technology, improvements in product design, changes in customers’ taste
etc.

3. Inventory management has to take into account of the price of inventory,

transport expenses and insurance costs. Cost of ordering includes cost of
requisitioning, preparation of purchase order, transportation of inventory,
receiving the supplies at the warehouse etc. Carrying cost includes the cost
of storing the inventory in warehouse, handling expenses and rent paid for
managing the inventory, opportunity cost locked up in stocks etc.

4. Stock out costs are the economic consequences of not being able to meet
an internal or external demand from the current inventory. Such costs
consist of internal costs (delays, labor time wastage, lost production, etc.)
and external costs (loss of profit from lost sales, and loss of future profit due
to loss of goodwill). Also called shortages costs.

JIT and JIC methods of managing Inventory.

Just-In-Time (JIT) ensures that the stock required by a business for production
is supplied just in time as required, and raw materials are delivered just in
time for production.
Storage cost is saved. Waste is decreased as goods are acquired only as they
are needed in the production process. Companies also spend less money on
raw materials because they buy just enough resources to make the ordered
products and no more. This method requires producers to forecast demand
accurately otherwise benefits will not be gained.
This process relies on high-quality workmanship (skills), no machine
breakdowns, and reliable suppliers.
The JIT inventory system is popular with small businesses and major
corporations alike because it enhances cash inflows.
Retailers, restaurants, on-demand publishing, tech manufacturing, and
automobile manufacturing are examples of industries that have benefited
from just-in-time inventory.
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Just-In-Case (JIC) inventory management is the technique of keeping a lot of

stock on hand to reduce the risk of stock-out.
This system maintains stock at a higher level so that there is no disruption in
production and products are delivered on time.
In case of sudden demand increases, a large inventory also allows the
business to produce more goods and generate more income. JIC is often used
for products with a large, ongoing demand. For example, medicines at
hospitals are made with the JIC production to meet the constant need of
patients.
JIC is adopted when there are conditions like unreliable suppliers, natural
disasters, or poor transportation systems.
It also saves the company from penalties for late deliveries and loss of sales.
In JIC system, companies have to reorder the stock before it reaches
the minimum level.
Having more inventory means that the business can produce and deliver
goods to customers more quickly. This can contribute to a higher level of
customer satisfaction.
By keeping a large inventory of goods, the company can place new orders
less frequently and reduce ordering costs.
Businesses can negotiate lower prices per unit with a large quantity ordered,
leading to purchasing economies of scale.

JIC system has limitations also. A large inventory means a lot of storage
space is needed. Large amount of cash is set aside.
It can’t be applied to the production of perishable goods such as fruits,
produce, or meat since these ingredients will lose their freshness if kept in
stock for too long.
Unsold goods become waste that needs to be disposed of. Since most
discarded goods end up in environmental issues.

Conclusion:
JIC can be used for high-demand items, whereas JIT is typically adopted for
lower-demand, made-to-order products.
A more accurate demand forecast is key to the success of this hybrid model

Maintaining Stocks with the help of Stock Control Chart.

In maintaining stocks, firms have to consider Buffer Inventory, Lead Time,
Reorder Level.
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 Buffer Inventory is also called Safety Stock. This inventory is kept for
the purpose of meeting future uncertainties. It is the amount of
inventory besides the current inventory requirement. Raw material as
buffer stock is kept for achieving nonstop production and finished
goods for delivering any size, any type of order by the customer.
 Lead Time is the amount of time it takes for a stock purchase to be
placed, received, inspected and made ready for use. The longer the
lead time, the higher the minimum level of stock needed.
 Reorder level (or reorder point) is the inventory level at which a
company would place a new order or start a new manufacturing run.

Objective: Total costs of holding stocks is minimize.

I. Maximum level: Max level of stock a business can or wants to hold, 800
units
II. Re-order level: When stock falls to this level, the next supplier order
should be placed, 400 units
III. Lead time: Amount of time between placing the order and receiving
the stock, under a week
IV. Buffer Stock/Minimum level: Minimum amount of product that is hold.

Illustration:
For example, Company XYZ has a lead time for ordering stock of 7 days, with
a stock demand per day of 5,000 units. To calculate the reorder point, simply
multiply the lead time in days by the demand per day.

Reorder Point = Lead Time x Demand per Day

Reorder Point = 7 days x 5,000 units
Reorder Point = 35,000 units
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The reorder point in this example occurs when the stock on hand falls to a
level of 35,000 units. If Company XYZ likes to keep 60 days of stock on hand,
when the stock on hand falls to 35,000 units, Company XYZ will reorder
300,000 units (60 days x 5,000 units per day).

Suppose Company XYZ does not always receive its shipments on time or
they like to keep additional stock on hand for emergency situations. This
would change the reorder point as a certain level of "safety stock" is built in.
For example, say Company XYZ wants to have 2 days of stock on hand at all
times. They would build in a safety stock level of 10,000 units (2 days x
5,000 units per day). This would change the reorder level of stock. The new
formula is as follows:

Reorder Point = Lead Time x Demand per Day + Safety Level of Stock

The new reorder point for Company XYZ would be:

Reorder Point = 7 days x 5,000 units + 2 days x 5,000 units = 45,000 units

Capacity Utilisation
Maximum Production Capacity is the maximum level of output that a
company can sustain to produce.
Capacity Utilization is a measure of the utilization of the productive capacity
of a business to produce goods and services. Efficiency of labor and capital
determines the extent of capacity utilization. Capacity utilization is
calculated using this formula:
Actual Output
× 100
Maximum Possible Output
Firms usually aim to produce as close to full capacity as possible.
Capacity utilization depends on market demand and the way resources are
used. When product is successful, firm can reach at full capacity utilization.
This leads to high profitability and a streamlined manufacturing plant that
turns out high-quality products.
Streamline: make (an organization or system) more efficient and effective by
employing faster or simpler working methods.

When utilisation is at a high rate, average fixed costs is reduced because the
fixed cost is spread out over a large number of units.
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Maximum capacity must be sustainable. This suggests that it is the highest

output level that can be maintained over a reasonable period of time. It
might be possible, that during emergency situations managers achieve
higher output levels by using machines beyond their safe working limits and
by asking labour to work longer than the contractually permitted hours.
Obviously, this situation is not sustainable or recommended. The result will
be:
1. Staff may feel under pressure due to the workload.
2. Mistakes can incur heavy loss for the firm.
3. Insufficient time for maintenance and repairs of equipment.

Under Utilization of Capacity/Spare Capacity:

In case of underutilization of capacity the existing output is relatively low
compared to what could be produced.
When a business operates at less than 100% capacity, it is said to have
spare capacity. In spare capacity resources are not fully utilized due to which
average cost increases.

Continuous spare capacity indicates that the demand for the products is not
sufficient. It leads to low profit and unemployment.
If there is spare capacity, then production department can meet extra
demand for the product, without increase in cost per unit.

If Spare capacity is just for a short-term or seasonal problem. Example might

be lower demand of ice creams in colder months, then possible solutions
may be:

Business can adopt flexible production process. Resources can be used to

produce other goods or service that is suitable for the colder months. Offer
only flexible employment contracts to staff so that during periods of low
demand and excess capacity, staff may be laid off and costs saved.
However, this may have a negative impact on staff morale and motivation.
Flexible equipment can be installed that can be switched to making other
products.

If Spare capacity is for longer-term, the causes may be economic recessions

or mismanagement of the resources. A company can adopt following
methods to overcome the spare capacity problem:
1. Rationalization. 2. Research and 3. Outsourcing
Development of New
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Product.
The Industrial Rationalization program aims to improve the competitiveness
by reducing the capacity.
It is done through cutting overheads, equipment are sold and laying off
employees.
If demand cannot be revived by means of promotion, a cut in production
capacity should be considered.
It results in higher capacity utilisation from the remaining production
resources.
The main drawbacks of rationalization are:
 Redundancy payments might have to be paid.
 If capacity is cut back too much, an unexpected upturn in demand may
leave the firm with too little capacity and disappointed customers.
 Staff redundancies will lead to lost job security and low worker
motivation.
 The business may be criticised for not fulfilling its social
responsibilities.

Company can conduct Research and development to launch new products.

New products will replace existing products and make the business more
competitive.
If introduced quickly enough, new products might prevent rationalisation and
associated problems.
However, without long-term planning, new products are introduced too
quickly, without a clear market strategy, and may be unsuccessful.

Outsourcing is a business practice in which job functions are given to a third

party. It’s when a business subcontracts out a portion of the company’s
activities to a third-party. Some common outsourcing activities include:
human resource management, facilities management, supply chain
management, accounting, customer support and service, marketing,
computer aided design, research, design, content writing, engineering,
diagnostic services, and legal documentation.
Example: A US-based company hires another firm in China to handle their
website.

Outsourcing is primarily a measure that helps in cost-cutting by getting the

tasks (which were earlier being done by the employees) completed with the
assistance of another business.
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Reasons of Outsourcing:
1. Instead of employing expensive specialists that might not be fully used at
all times, it could be cheaper to ‘buy in’ specialist services as and when they
are needed. These specialist firms may be cheaper because they benefit
from economies of scale, as they may provide similar services to a large
number of other businesses. Much outsourcing involves off shoring. Offshore
outsourcing is the process of relocating office jobs to countries with lower
labour costs but equal expertise.
2. By removing departments from the staff payroll and buying in services
when needed, fixed costs are converted into variable costs. Additional
capacity can be obtained from outsourcing only when needed and contracts
can be cancelled if demand falls much more quickly than closing down whole
factories owned by the business.
3. By outsourcing, the management of a business can concentrate on the
main aims and tasks of the business. Most of the resources are available for
core activities. If the HR department of an insurance company is closed and
the functions bought in, then the office space and computer facilities could
be made available to improve customer service.

There are potential drawbacks to outsourcing too:

1. Workers who remain directly employed by the organisation may
experience a loss of job security. This could lead to the firm’s ethical
standards being questioned.

2. Internal processes will be monitored by the firm’s own quality-assurance

system. This will not be so easy when outside contractors are performing
important functions.

3. Customer complains create problems. This could take several forms.

Overseas telephone call centres have led to criticism about inability to
understand foreign operators.
4. Using outside businesses to perform important IT functions may be a
security risk – if important data were lost by the business, who would take
responsibility for this?

Evaluation:
The global trend towards outsourcing will continue as firms seek further
ways of improving operational effectiveness. More opportunities arise due to
globalisation. The process is not without its risks, however. Before any stage
of the production process is outsourced, the company must undertake a
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cost−benefit analysis of the decision. One of the key factors in any business
decision on outsourcing is to decide what is a truly core activity that must be
kept within the direct control of the business. The nature of these core
activities will vary from business to business.

Mass Customization analysis points: [May/June 2022—12]

Analysis 4 marks : Increases the ability of the business to satisfy customer
needs; slight differences in products might more easily satisfy consumers.
Reduces the costs of customising products assuming that the volume is
sufficiently high for each variation of the product. The components/materials
used in each variation will be the same or similar in most cases but still allow
for some bulk-buying discounts.
The customisation of products is a strong marketing point which can be used
to promote a business and its products.
This allows a business to differentiate itself from its competitors and
therefore increase the strength of the brand of the product.
By responding to customer needs through the process of mass customisation
a business might gain a better understanding of exactly what its customers
want, and this might allow more focused product development