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PRODUCTION & OPERATION
MANAGEMENT
Author
NEELAM YADAV
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Production Operation Management
POM concerns itself with the conversion of inputs into outputs, usingphysical resourses, so as to provide the desired utility/ utilities ± of
form, place, possession or state or a combination thereof ± to the
customer while meeting the other organisational objectives of
effectiveness, efficiency and adaptability.
Production and Operations Management ± Some Cases
Case Input Physical
Resource/s used
Output Type of Input/
Output
Type of utility
provided to
the customers
1. Inorganic
chemicalsproduction
Ores Chemical plant &
equipment, otherchemicals, use of
labour, etc.
Inorganic
chemical
Physical input
and physicaloutput
Form
2. Outpatient
ward of a
general
hospital
Unhealth
y
Patients
Doctors, nurses,
other staff,
equipment, other
facilities
Healthier
patients
Physical input
and physical
output
State
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3. Educational
institution
µRaw¶ minds Teachers,
books, teaching
aids, etc.
µEnlightened¶
minds
Physical input
and physical
output
State
4. Sales office Data from
market
Personnel,
office
equipment and
facilities, etc.
Processed
µinformation¶
Non-physical
input and Non-
physical output
State
5. Petrol
pump
Petrol (in
possession of
the petrolpump owner)
Operators and
boys,
equipment, etc.
Petrol (in
possession of
the carowner)
Physical input
and physical
output
Possession
6. Taxi Service Customer (at
railway
station)
Driver taxi
itself, petrol
Customer (at
his residence)
Physical input
and physical
output
Place
7.Maintenance
workshop
Equipmentgone µbad¶
Mechanics,Engineers,
repairs
equipment, etc.
µGood¶Equipment
Physical inputand physical
output
State andForm
8. Income Tax
office
µInformation
¶
Officers and
other staff,
office facility
Raid Non-physical
input and
physical output
State
(possession?)
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Production and operations management (POM) is defined as thedesign, operation, and improvement of the transformation process,
which converts the various inputs into the desired outputs of
products and services.
It is now replaced by simply operations management. Operations
management is a broad term which includes manufacturing as well
as service organizations. Operations management also highlights the
increasing importance of service industry in the overall business
environment.
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Today's Factors Affecting OM
Global Competition
Quality, Customer Service, and Cost
Challenges
Rapid Expansion of Advanced
Technologies
Continued Growth of the Service Sector
Scarcity of Operations Resources
Social-Responsibility Issues
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Studying Operations Management
Operations as a System
Decision Making in OM
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Operations as a System
ProductionProduction SystemSystem
InputsInputsConversionConversion
SubsystemSubsystem OutputsOutputs
ControlControl
SubsystemSubsystem
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Inputs of an Operations System External
± Legal, Economic, Social, Technological
Market
± Competition, Customer Desires, Product Info.
Primary Resources
± Materials, Personnel, Capital, Utilities
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Conversion Subsystem
Physical (Manufacturing)
Locational Services (Transportation)
Exchange Services (Retailing)
Storage Services (Warehousing)
Other Private Services (Insurance)
Government Services (Federal)
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Transformation ProcessTransformation process for a hybrid service and manufacturing
organization ( a restaurant)
Inputs
Customers Waiters
Chef
Manager
Furniture
Building
Food
Transformation
Pr ocess
OutputsCustomer satisfied with
Good preparationsof the food
Pleasant behaviour
and personality
of the waiters
Appropriate prices
charged
Random Disturbances
High turnover of chefs,
waiters, etc.
Inflation
Govt.¶s taxation policy
Feedback mechanisms
Rising revenues
Repeat customers
Appreciation of customers
Quality of
inputs
monitored
Quality of outputs
monitored
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Decision Making in OM Strategic Decisions
Operating Decisions
Control Decisions
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Strategic Decisions
These decisions are of strategic importanceand have long-term significance for the
organization.
Examples include deciding: ± the design for a new product¶s production
process
± where to locate a new factory
± whether to launch a new-product development
plan
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Operating Decisions
These decisions are necessary if theongoing production of goods and services is
to satisfy market demands and provide
profits. Examples include deciding:
± how much finished-goods inventory to carry
± the amount of overtime to use next week
± the details for purchasing raw material next
month
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Control Decisions
These decisions concern the day-to-day
activities of workers, quality of products
and services, production and overheadcosts, and machine maintenance.
Examples include deciding:
± labor cost standards for a new product
± frequency of preventive maintenance
± new quality control acceptance criteria
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Production
Production is the process of making products.
In this process, different inputs like materials,
human, capital and other resources aretransformed into higher valued goods and
services.
³Production is a process by which goods andservice are created.´
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Objectives of production management
1. Primary objectives
Quality
Quantity
Cost/ price
Time
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2. Secondary objectives
Men
Materials
Machines
Services
Techniques
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Functions of production management
Production design
Development of product
Purchasing
Plan implementation
Inventory control
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Production vs. Operations vs.
Material Management
These are interrelated but there is a line of
difference between three.
Production is the transformation of rawmaterials and other inputs into higher valued
outputs.
Management of materials as input is known
as material management.
Management of processes or operations is
operations management.
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Product Life Cycle
Time
ProductDevelop-
ment
Introduction
Profits
Sales
Growth Maturity Decline
Losses/Investments ($)
Sales andProfits ($)
Sales and Pr ofits Over the Pr oduct¶s Life Fr om
Intr oduction to Decline
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Introduction Stage of the PLC
Summary of Characteristics, Objectives, & Strategies
SalesSales
CostsCosts
Pr ofitsPr ofits
Mar keting ObjectivesMar keting Objectives
Pr oductPr oduct
Pr icePr ice
Low salesLow sales
High cost per customer High cost per customer
Negative or lowNegative or low
Cr eate pr oduct awar eness and tr ialCr eate pr oduct awar eness and tr ial
Offer a basic pr oductOffer a basic pr oduct
Usually is high; use cost-plus formulaUsually is high; use cost-plus formula
Distr ibutionDistr ibution High distr ibution expensesHigh distr ibution expenses
Adver tisingAdver tising Build pr oduct awar eness among early adopter s and dealer s
Build pr oduct awar eness among early adopter s and dealer s
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G rowth Stage of the PLC G rowth Stage of the PLC
Summary of Characteristics, Objectives, & Strategies
SalesSales
CostsCosts
Pr ofitsPr ofits
Mar keting ObjectivesMar keting Objectives
Pr oductPr oduct
Pr icePr ice
Rapidly r ising salesRapidly r ising sales
Average cost per customer Average cost per customer
Rising pr ofitsRising pr ofits
Maximize mar ket shar eMaximize mar ket shar e
Offer new pr oduct featur es, extensions,ser vice, and warranty
Offer new pr oduct featur es, extensions,ser vice, and warranty
Pr ice to penetrate mar ketPr ice to penetrate mar ket
Distr ibutionDistr ibution Incr ease number of distr ibution outletsIncr ease number of distr ibution outlets
Adver tisingAdver tising Build awar eness and inter est in the massmar ket
Build awar eness and inter est in the massmar ket
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M aturity Stage of the PLC M aturity Stage of the PLC Summary of Characteristics, Objectives, & Strategies
SalesSales
CostsCosts
Pr ofitsPr ofits
Mar keting ObjectivesMar keting Objectives
Pr oductPr oduct
Pr icePr ice
Peak salesPeak sales
Low cost per customer Low cost per customer
High pr ofits, then lower pr ofitsHigh pr ofits, then lower pr ofits
Maximize pr ofits while defending mar ketshar e
Maximize pr ofits while defending mar ketshar e
Diver sif y brand and modelsDiver sif y brand and models
Pr ice to match or best competitor sPr ice to match or best competitor s
Distr ibutionDistr ibution Build mor e intensive distr ibutionBuild mor e intensive distr ibution
Adver tisingAdver tising Str ess brand differ ences and benefitsStr ess brand differ ences and benefits
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Decline Stage of the PLC Decline Stage of the PLC
Summary of Characteristics, Objectives, & Strategies
SalesSales
CostsCosts
Pr ofitsPr ofits
Mar keting ObjectivesMar keting Objectives
Pr oductPr oduct
Pr icePr ice
Declining salesDeclining sales
Low cost per customer Low cost per customer
Declining pr ofitsDeclining pr ofits
Reduce expenditur e and maintain, r eposition,har vest or dr op the pr oduct
Reduce expenditur e and maintain, r eposition,har vest or dr op the pr oduct
Phase out weak itemsPhase out weak items
Cut pr iceCut pr ice
Distr ibutionDistr ibution Go selective: phase out unpr ofitable outletsGo selective: phase out unpr ofitable outlets
Adver tisingAdver tising Reduce to level needed to r etainhar d-cor e loyal customer s
Reduce to level needed to r etainhar d-cor e loyal customer s
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Classification of Operations
The production and operations management function can be broadlydivided into the following four areas:
1. Technology selection and management
2. Capacity management
3. Scheduling/Timing/Time allocation
4. System maintenance
Technology selection and management
This is primarily an aspect pertaining to the long-term decision. It is not
immediate connected with the day-to-day short term decisions handled in
the plant, it is an important problem to be addressed in an age of
spectacular technological advances, so that an appropriate choice is made by a particular organization to suit its objectives, organizational
preparedness and its micro-economic perspectives.
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It is a decision that will have a significant bearing on the management of
manpower, machinery, and materials capacity of the operations system. A
technology decision is closely linked with the capacity and system
maintenance areas.
Capacity Management
The capacity management aspect once framed in a long-term perspective,
revolves around matching of available capacity to demand or makingcertain capacity available to meet the demand variation. This is done on
both the intermediate and short time horizons. Capacity management is
very important for achieving the organisational objectives of efficiency,
customer service and overall effectiveness. While lower than needed
capacity results in non-fulfillment of some of the customer services and
other objectives of the production/operations system a higher than
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necessary capacity results in lowered utilisation of the resourses or, in
other words, lower efficiency of the conversion operations.
Scheduling
Scheduling is another decision area of operations management which
deals with the timing of various activities ± time phasing of the filling of
the demands or rather, the time phasing of the capacities to meet the
demand as it keeps fluctuating. In job-shop (i.e. tailor-made physical
output or service) type operations systems, the scheduling decisions arevery important which determine the system effectiveness (e.g. customer
delivery) as well as the system efficiency (i.e. the productive use of the
machinery and labour). Similarly, we can also say that the need for system
effectiveness coupled with system efficiencies determine the system
structure and the importance of scheduling.
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System Maintenance
The fourth area of operations management is regarding safeguards ± that
only desired outputs will be produced in the µnormal¶ condition of the physical resources, and that the condition will be maintained normal.
Technology selection and management has much to contribute towards
this problem. A proper selection and management procedure would give
rise to few problems. Further, the checks (e.g. quality checks on
physical/non-physical output) on the system performance and the
corrective action (e.g. repair of an equipment) would enhance the chances
of having the desired outputs undiluted by other pollutants.
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Responsibilities of Operations Manager
To act as internal
quality auditors incertification
programmes suchas ISO 9000
To take part instrategic decisionmaking of the
organization.
To implement TotalProductiveMaintenance (TPM)programme
To take part in theimplementation anduse of ERP software
in the organization.
To automateprocessesaccording to therequirements of theorganization
To enhance the R & Defforts of the organizationfor becoming self-reliant
in developing newtechnologies.
To take care of issuesrelating to serviceoperationsmanagement
Increased attention totimely implementation of projects (such ascommissioning of facilities, launching of new products/services,etc.) in view of the
increased competition.
To implement theenvironment andpollution normsestablished by thegovernment from timeto time.
To take decisionsregarding outsourcing/off-shoing of businessprocesses
To act as amember of theconcurrent
engineeringteam in newproductdesign.
To act as supply chainmanagers in in forging long-term strategic relationships
with suppliers.
Increased attention totechnology managementin view of joint ventures
of MNCs with domesticcompanies.
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New-Product Development
Process
IdeaGeneration
IdeaScr eening
ConceptDevelopment
and Testing
Mar ketingStrategy
BusinessAnalysis
Pr oductDevelopment
TestMar keting
Commer cialization
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Customer s Competitor s Distr ibutor s Supplier s
N ew Product Development ProcessStep 1. Idea G eneration
N ew Product Development ProcessStep 1. Idea G eneration
Idea Generation is the Systematic Sear ch for New Pr oduct Ideas Obtained Inter nally Fr om
Employees and Also Fr om:
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Process to spot good ideas and drop poor ones assoon as possible.
Many companies have systems for rating andscreening ideas which estimate:
± Market Size
± Product Price
± Development Time & Costs
± Manufacturing Costs
± Rate of Return Then, the idea is evaluated against a set of general
company criteria.
N ew Product Development ProcessStep 2. Idea Screening
N ew Product Development ProcessStep 2. Idea Screening
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1. Develop New Pr oduct Ideasinto Alter native Detailed
Pr oduct Concepts
2. Concept Testing - Test theNew Pr oduct Concepts withGr oups of Tar get Customer s
3. Choose the One That Has theStr ongest Appeal to Tar get
Customer s
N ew Product Development ProcessStep 3. Concept Development & Testing
N ew Product Development ProcessStep 3. Concept Development & Testing
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Par t Two Descr ibes Shor t-Term:Pr oduct¶s Planned Pr ice
Distr ibution
Mar keting Budget
Par t Two Descr ibes Shor t-Term:Pr oduct¶s Planned Pr ice
Distr ibution
Mar keting Budget
Par t Thr ee Descr ibes Long-Term:Sales & Pr ofit Goals
Mar keting Mix Strategy
Par t Thr ee Descr ibes Long-Term:Sales & Pr ofit Goals
Mar keting Mix Strategy
Mar keting Strategy Statement Formulation
Par t One Descr ibes Overall:Tar get Mar ket
Planned Pr oduct Positioning
Sales & Pr ofit GoalsMar ket Shar e
Par t One Descr ibes Overall:Tar get Mar ket
Planned Pr oduct Positioning
Sales & Pr ofit GoalsMar ket Shar e
N ew Product Development ProcessStep 4. M arketing Strategy Development
N ew Product Development ProcessStep 4. M arketing Strategy Development
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N ew Product Development ProcessStep 5. Business Analysis
Step 6. Product Development
N ew Product Development ProcessStep 5. Business Analysis
Step 6. Product Development
Business Analysis
Review of Pr oduct Sales, Costs,
and Pr ofits Pr o jections to See if
They Meet Company Objectives
If Yes, Move to
Pr oduct Development
If No, Eliminate
Pr oduct Concept
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N ew Product Development ProcessStep 7. Test M arketing
N ew Product Development ProcessStep 7. Test M arketing
Adver tising
Packaging
Pr oductBudget Levels
Positioning
Strategy
Distr ibutionPr icing
Branding
Elements thatMay be Test
Mar keted by a
Company
Test Mar keting is the Stage Wher e the Pr oduct andMar keting Pr ogram ar e Intr oduced into Mor e RealisticMar ket Settings.
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When? Wher e?
Commer cialization is the Intr oduction of theNew Pr oduct into the Mar ketplace.
N ew Product Development ProcessStep 8. Commercialization
N ew Product Development ProcessStep 8. Commercialization
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Facility Location Planning
A factory or a plant is the manufacturing facility of a company. A
warehouse is the storage facility of a manufacturing or a distribution
company. The offices of a service sector company such as a courier
company, a bank, or an insurance company are its facilities. The
facility location decision is very important for big business houses aswell as new entrepreneurs. Wrong location of the facility may lead to
a failure of the complete project.
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Factors affecting Facility Location Planning
FacilityLocation
planning
Residential
Complexes,
Schools,
Hospitals,
Clubs, etc. Availability
Of cheap and
Skillful labour
Proximity
to raw
material
Good
transportationfacilities
Proximity to
subcontractors
Easy
Availability
Of cheap
land
Government
policies
Basic
amenities
Environment And
community
ProximityTo markets
Low
Construction
costs
Availability
Of power
supply
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Availability of power supply ± Uninterrupted power supply is a basic
requirement of most industries. some factories have to set up their own
captive power plant if located in areas with power problems. For eg: the
factories of HINDALCO (Aditya Birla Group) have their own captive power plant.
Basic amenities ± The area for location of plant should have water supply
lines managed by the local municipal corporation. Roads up to the factory
premises are always desireable. These basic amenities are very useful
even during the construction period of the plant. Other amenities desired
are sanitation facilities such as sewer lines, drainage system, etc.
Government Policies ± The governments of state such as Maharashtra,
Gujarat, and Karnataka have been very successful in inducing big business
houses to set up their plants in these states. Local taxation policies and
various promotional efforts help in increasing the industrial activity in the
region. Pondicherry and Daman and Diu are examples of µno sales tax
regions¶.
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Environmental and community considerations- Many state
governments have strict environmental policies in place, which have to be
followed by the industries operating there. The people residing in the area
should not be against the idea of having a plant in their region as the
effluents from a factory spoil the natural environment of the region.
Proximity to subcontractors- The presence of small ancillary units
manufacturing small components/sub-assemblies is important for any new
factory. If a new auto plant is set up in Gurgaon, where the Maruti Suzuki
plant is already located, it will get the advantage of the subcontractors
existing there. These subcontractors can immediately start supplying the
components required by the new plant for starting its production process.
Easy availability of cheap land- Land is the basic necessity for the
construction of a new plant. Regions such as UP, Bihar, and Orissa may
be suitable because of this. Still, because of many other factors, companies
prefer costly land near Mumbai, Pune, Ahmedabad, etc.
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Less Construction costs- Construction costs of a plant may be low at a
particular place due to cheap labour available there. The construction
material may also be cheaper at another place. Such places are obviously
preffered for locating a plant.
Availability of cheap, skillful and efficient labour- India and other
developing nations appear to have cheap labour. However, the reality is
that labour turns to be expensive here because it is not efficient when
compared to the labour in developed countries. Multinational companies prefer China over India to set up their global sourcing bases because the
labour in china has become more skillful and efficient as a result of
increased industrial activity in the past few decades.
Residential complexes, schools, hospitals, clubs, etc. ± Usually new
factories are given land in remote villages by the state governments.
Proper facilities such as residential complexes, schools, hospitals, clubs,
etc. are not available for the managers of these plants and their families at
such places. Under such situations, companies have to create these
facilities on their own.
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Proximity to customers (markets)- When the customers/markets are
located near the plant, products can be easily supplied to them. This
reduces the cost of the product as the transportation cost is not added to it.
Proximity to raw material- Most textile units are located in Gujarat and
Maharashtra because these are the largest cotton-growing areas in the
country. Iron and steel plants are located in Bihar and Orissa because of
the large presence of iron ore mines in these regions.
Good transportation facilities- Regions near metro cities have the
advantage of good transportation facilities, as they have good rail, air,
water and road transportation networks.
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INTRODUCTION The production cycle is a recurring set of
business activities and related data processing
operations associated with the manufacture of
products.
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INTRODUCTION Questions to be addressed in this topic include:
± What are the basic business activities and data processingoperations that are performed in the production cycle?
± What decisions need to be made in the production cycle,and what information is needed to make these decisions?
± How can the company¶s cost accounting system help inachieving the entity¶s objectives?
± What are the major threats in the production cycle and the
controls that can mitigate those threats?
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INTRODUCTION Information also flows fr om the production cycle:
± The revenue cycle receives information from the
production cycle about finished goods available for sale.
± The expenditure cycle receives information about rawmaterials needs.
± The human resources/payroll cycle receives information
about labor needs.
± The general ledger and reporting system receivesinformation about cost of goods manufactured.
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INTRODUCTION Decisions that must be made in the production
cycle include:
± What mix of products should be produced?
± How should products be priced? ± How should resources be allocated?
± How should costs be managed and performanceevaluated?
These decisions require cost data well beyondthat required for external financial statements.
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PRODUCTION CYCLE
ACTIVITIES The four basic activities in the production cycle are:
± Product design
± Planning and scheduling
± Production operations ± Cost accounting
Accountants are primarily involved in the fourthactivity (cost accounting) but must understand theother processes well enough to design an AIS that provides needed information and supports theseactivities.
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PRODUCT DESIGN
The objective of product design is to design a
product that strikes the optimal balance of:
± Meeting customer requirements for quality,
durability, and functionality; and
± Minimizing production costs.
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PRODUCT DESIGN
Key documents and forms in product design:
± Bill o f Mater ials: Lists the components that are
required to build each product, including part
numbers, descriptions,and quantity.
± Oper at i on s List : Lists the sequence of steps
required to produce each product, including the
equipment needed and the amount of time
required.
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PRODUCT DESIGN
Role of the accountant in product design:
± Participate in the design, because 65í80% of
product cost is determined at this stage.
± Add value by:
Designing an AIS that measures and collects the needed
data.
Information about current component usage. Information about machine set-up and materials-handling
costs.
Data on repair and warranty costs to aid in future
modification and design.
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PLANNING AND
SCHEDULING
The objective of the planning and scheduling
activity is to develop a production plan that isefficient enough to meet existing orders and
anticipated shorter-term demand while
minimizing inventories of both raw materials
and finished goods.
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PLANNING AND
SCHEDULING Key documents and forms:
± Master production schedule Specifies how much of each product is to be produced during the period and
when. Uses information about customer orders, sales forecasts, and finished goods
inventory levels to determine production levels.
Although plans can be modified, production plans must be frozen a few weeks
in advance to provide time to procure needed materials and labor.
Scheduling becomes significantly more complex as the number of factories
increases.
Raw materials needs are determined by exploding the bill of materials to
determine amount needed for current production. These amounts are
compared to available levels to determine amounts to be purchased.
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PLANNING AND
SCHEDULING Key documents and forms:
± Master production schedule
± Production order
Authorizes production of a specified quantity of a
product. It lists:
± Operations to be performed
± Quantity to be produced
± Location for delivery Also collects data about these activities,
PLANNING AND
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PLANNING AND
SCHEDULING
Key documents and forms:
± Master production schedule
± Production order
± Materials requisition
Authorizes movement of the needed materials from the
storeroom to the factory floor.
This document indicates:
± Production order number
± Date of issue
± Part numbers and quantities of raw materials needed
(based on data in bill of materials)
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PLANNING AND
SCHEDULING Key documents and forms:
± Master production schedule
± Production order
± Materials requisition
± Move ticket
Documents the transfer of parts and materials
throughout the factory.
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COST ACCOUNTING
The objectives of cost accounting are:
± To provide information for planning, controlling,
and evaluating the performance of production
operations;
± To provide accurate cost data about products for
use in pricing and product mix decisions; and
± To collect and process information used tocalculate inventory and COGS values for the
financial statements.
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COST ACCOUNTING
Types of cost accounting systems:
± Job order costing Assigns costs to a specific production batch or job.
Used when the product or service consists of discretely
identifiable items.
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CONTROL & THREATS
In the production cycle (or any cycle), a well-designed AIS
should provide adequate controls to ensure that the following
objectives are met:
± All transactions are properly authorized.
± All recorded transactions are valid.
± All valid and authorized transactions are recorded.
± All transactions are recorded accurately.
± Assets are safeguarded from loss or theft.
± Business activities are performed efficiently and effectively. ± The company is in compliance with all applicable laws and
regulations.
± All disclosures are full and fair.
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There are several actions a company can take withrespect to any cycle to reduce threats of errors or irregularities. These include:
± Using simple, easy-to-complete documents with clear instructions (enhances accuracy and reliability).
± Providing space on forms to record who completed andwho reviewed the form (encourages proper authorizations and accountability).
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± Pre-numbering documents (encourages recording
of valid and only valid transactions).
± Restricting access to blank documents (reduces
risk of unauthorized transaction).
In the following sections, we¶ll discuss the
threats that may arise in the four major stepsof the production cycle, as well as general
threats
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THREATS IN PRODUCT
DESIGN THREAT NO. 1²Poor product design
± Why is this a problem?
Higher materials purchasing and carrying costs.
Costs for inefficient production.
Higher repair and warranty costs.
± Controls:
Accurate data about the relationship between
components and finished goods.
Analysis of warranty and repair costs to identify primary causes of product failure to be used in re-designing product.
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THREATS IN PLANNING AND
SCHEDULING
THREAT NO. 2²Over- or under-production
± Why is this a problem? Over-production may result in:
± Excess goods for short-run demand and potential cash flow
problems.
± Obsolete inventory.
Under-production may result in:
± Lost sales.
± Customer dissatisfaction.
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THREATS IN PLANNING AND
SCHEDULING ± Controls:
More accurate production planning, including accurate andcurrent:
± Sales forecasts ± Inventory data
Investments in production planning.
Regular collection of data on production performance toadjust production schedule.
Proper authorization of production orders.
Restriction of access to production scheduling program.
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THREATS IN PLANNING AND
SCHEDULING THREAT NO. 3 ²Suboptimal investment in
fixed assets
± Why is this a problem? Over-investment causes excess costs.
Under-investment impairs productivity.
± Controls:
Proper authorization of fixed asset transactions:
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THREATS IN PRODUCTION
OPERATIONS
Managers should be held accountable for assets under
their control.
Fixed assets should be physically secured. Disposal of assets should be authorized and
documented.
Periodic reports of fixed asset transactions should be
reviewed by the controller.
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THREATS IN PRODUCTION
OPERATIONS
THREAT NO. 5²Disruption of operations
± Why is this a problem?
Disasters can disrupt functioning and destroy assets
± Controls:
Backup power sources, such as generators and
uninterruptible power supplies.
Investigate disaster preparedness of key suppliers andidentify alternative sources for critical components.
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THREATS IN COST
ACCOUNTING THREAT 6²Inaccurate recording and
processing of production activity data
± Why is this a problem? Diminishes effectiveness of production scheduling.
Undermines management¶s ability to monitor and
control operations.
± Controls:
Automate data collection with RFID technology, bar
code scanners, and badge readers to ensure accurate
data entry.
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THREATS IN COST
ACCOUNTING
Use online terminals for data entry.
Restrict access with passwords, user IDs, and access
control matrices to prevent unauthorized changes to
data.
Do periodic physical counts of inventory and compare
to records.
Do periodic inspections and counts of fixed assets.
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GENERAL THREATS Controls:
± All data files and key master files should be backed up
regularly.
± All disks and tapes should have external and internal filelabels to reduce chance of accidentally erasing important
data.
± Promptly, remove all access rights of employees who quit
or are fired
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Demand Forecasting
Demand Forecasting is predicting the future demand of theproducts or services of an organization. To forecast is to estimate orcalculate in advance.
Planning is a fundamental activity of management. Forecasting formsthe basis of planning. Be it planning for sales and marketing, orproduction planning or manpower planning, forecasts are extremelyimportant.
Forecasting is a scientifically calculated guess. It is basic to allplanning activity ±
(i) Whether it is national, regional, organisational, or functionalplanning; and
(ii) Whether it is a long range plan or a short-range plan.
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Reasons for Demand Forecastiong
Reasons fordemand
forecasting
To offset the
actions of
competitor
organizations.
To minimize losses
associated with
uncontrollable eventsexternal to the
organization
To maximize gains from
events which are the results
Of actions taken by theorganization.
To maximize gains
From events externalTo the organization
(from the external
Environment).
To develop policies
That apply to people
Who are not part of The organization.
To develop administrative
Plans and policies internal
To an organization (e.g.,
personnel or budget).
To provide adequate
Staff to support
production
requirements.
As an input to
aggregate production
Planning and/or
materials requirement
Planning (MRP).
In decision-makingFor facility capacity
planning and for
capital budgeting
M th d f D d F ti
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Demand Forecasting
Methods of Demand Forecasting
Qualitative analysis Quantitative analysis
Customer
surveySales force
composition
Executive
opinionDelphi
method
Past analogy
Time Series analysis Casual analysis
Trend analysisSimple
moving
average
Simple
exponential
smoothing
Holt¶s double-
Exponentialsmoothing
Winters¶ triple-
Exponential
smoothing
Forecast by linear
Regression analysis
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Qualitative Methods of Forecasting
There are certain situations in which forecasts have to be prepared quicklywithout using historical data. At other times, historical data may not beavailable, resulting in qualitative analysis as the only available forecastingmethod. For example, in the launch of a new innovative product, there isno data available from past experience on the sales of the product.Thereare five qualitative methods of forecasting.
Customer Surveys
It is the customers who determines the demand for a product or service. Itis practically not possible to identify all the potential customers or tocontact all the existing customers, sampling of customers are resorted to.While designing customer survey questionnaires, care has to be taken to
frame questions such that the true responses of the customers are solicited.Similarly, the implementation and analysis stages of the survey have to becarefully handled to ensure that the conclusions drawn from the surveyreflect the exact pulse of the customers.
Sales Force composite
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Sales Force composite
This approach to forecasting is much less expensive compared tocustomer surveys. The sales force of a company is in direct contact withthe customers. Thus, they may be advised to give their estimates about the
likely sales of the product in their region. The marketing manager maycompile these estimates for different regions to arrive at the overallestimate of the demand forecast for the product.
This approach to forecasting has its disadvantages. The sales person¶sestimates may not be as accurate as customer surveys.
Executive opinion
A jury of top executives of the company from different functional areassuch as marketing, finance, human resources, production, etc. are broughttogether to give their opinion about the forecast of a new product to belaunched. This approach to forecasting is particularly suitable for new
products, which do not have any past history of sales. In such situations,there is no other option except to depend upon the vast experience of thesesenior executives in providing the forecast for the new product.
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Quantitaive Methods of Forecasting
Time Series Analysis
In this method, we require a time series of historical demand data withrespect to time intervals (periods) in the past to make predictions for future demand. Five popular methods are used in time series analysis:
1. Simple moving average
2. Simple exponential smoothing
3. Holt¶s double-exponential smoothing
4. Winters¶ triple-exponential smoothing5. Forecasting by linear regression analysis
Simple moving average
The simple moving average method of forecasting is suitable under situations where there is neither a growth nor a decline trend, i.e., there isa horizontal trend shown by the actual past data used for forecasting.There can also be seasonal variations in this past data. This methodinvolves finding the simple average of the past data used for forecasting.
In mathematical terms, moving average forecast can be expresses as
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In mathematical terms, moving average forecast can be expresses as
Ft = At-1 +At-2 +«.+At-n
n
Example 1
Kids Toys (P) Ltd is a toy marketing company at Mumbai. The sales figures (in
units) of a particular toy during the past 20 weeks are given. Calculate the four-
week and eight-week moving average forecasts for the given 20 weeks.
Week
Actual
demand (units) Week
Actual
demand (units)
1 1,643 11 2,395
2 1,821 12 2,683
3 2,069 13 1,936
4 1,952 14 2,076
5 2,178 15 2,103
6 1,597 16 1,699
7 1,834 17 2,387
8 1,852 18 1,854
9 1,771 19 1,521
10 2,014 20 1,726
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1000
1200
1400
16001800
2000
2200
2400
2600
2800
1 4 7 1 0 1 3 1 6 1 9
Week
A c t u a l d e m
a n d / f o r e c a s t
Actual demand(in units)
Four-week
moving averageEight-week moving average
Weighted moving average
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Weighted moving average
In calculating the simple moving average, actual demand data in all the
past periods considered are given equal importance. Sometimes it is felt
that while finding the moving average, the data in the recent past periodsshould be given more weight or importance compared to the data in the
periods far off the current time.
For example, let us suppose that for a product the actual demand in
months 1,2
, and 3 is2
0, 30, and 10 units, respectively. For calculating athree-month moving average forecast for month 4, the company may
decide to give 50% importance (weight 0.5) to the data in week 3, 30%
importance (weight 0.3) to the data in week 2, and 20% importance
(weight 0.2) to the data in week 1. Thus, the weighted three-month
moving average forecast for week 4 will be given by
F4 = 0.2 x 20 + 0.3 x 30 + 0.5 x 10 = 4 + 9 + 5 = 18
0.2 + 0.3 + 0.5
Simple exponential smoothing
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Simple exponential smoothing
Simple exponential smoothing is the most popular forecasting method. Itis very simple in application and, in addition, the past data required islimited to just the last period¶s actual demand and its forecast. The
forecast using simple exponential smoothing is given by the followingequation:
F F t t +1+1 == D Dt t + (1+ (1 -- )) F F t t where:where:
F F t t +1+1
= forecast for next period= forecast for next period
D Dt t == actual demand for present periodactual demand for present period
F F t t == previously determined forecast previously determined forecastfor present periodfor present period
== weighting factor, smoothingweighting factor, smoothing
constant having a value between 0 & 1constant having a value between 0 & 1
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Selection of smoothing constant
can make the difference between an accurate forecast and an
inaccurate forecast.
forecast error = (actual demand)- (forecast demand)
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Exponential Smoothing (=0.30)
F F 22 == D D1 + (11 + (1 -- )) F F 11
= (0.30)(37) + (0.70)(37)= (0.30)(37) + (0.70)(37)
= 37= 37
PERIODPERIOD MONTHMONTH DEMANDDEMAND
11 JanJan 3737
22 FebFeb 4040
33 Mar Mar 4141
44 Apr Apr 3737
55 May May 4545
66 JunJun 5050
77 Jul Jul 4343
88 AugAug 4747
99 SepSep 56561010 OctOct 5252
1111 NovNov 5555
1212 DecDec 5454
F F 3 3 == D D22 + (1+ (1 -- )) F F 22
= (0.30)(40) + (0.70)(37)= (0.30)(40) + (0.70)(37)
= 37.9= 37.9
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Exponential SmoothingFORECAST,FORECAST, F F t t + 1+ 1
PERIODPERIOD MONTHMONTH DEMANDDEMAND ((EE = 0.3)= 0.3) ((EE = 0.5)= 0.5)
11 JanJan 3737 ± ± ± ±
22 FebFeb 4040 37.0037.00 37.0037.00
33 Mar Mar 4141 37.9037.90 38.5038.50
44 Apr Apr 3737 38.8338.83 39.7539.7555 May May 4545 38.2838.28 38.3738.37
66 JunJun 5050 40.2940.29 41.6841.68
77 Jul Jul 4343 43.2043.20 45.8445.84
88 AugAug 4747 43.1443.14 44.4244.42
99 SepSep 5656 44.3044.30 45.7145.71
1010 OctOct 5252 47.8147.81 50.8550.85
1111 NovNov 5555 49.0649.06 51.4251.42
1212 DecDec 5454 50.8450.84 53.2153.21
1313 JanJan ± ± 51.7951.79 53.6153.61
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Holt¶s double-exponential smoothing
Holt¶s double-exponential smoothing is suitable when the actual demand
follows either a increasing or a decreasing trend. In Holt¶s double-
exponential smoothing, we use two smoothing constants. One is smoothingconstant , and other is , which is used to adjust the trend effect.
Forecasting by linear regression analysis
Linear regression analysis is applied in situations where two variables are
linearly correlated to each other. In time series analysis, the independentvariable is time, while the dependent variable is the actual demand in the
past.
The best-fit line is represented by the straight line equation
y = a + bx
y = forecast for period x
b= slope of the straight line
x = specified number of time period
Monitoring and controlling
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Monitoring and controlling
forecasts Once a forecast has been completed, it needs to be monitored and
corrected periodically by determining why actual demand differed
significantly from that projected.
This can be done by setting upper and lower limits on how much the
performance characteristic of a forecasting model can deteriorate beforewe change the parameters of the model.
One way to monitor forecasts to ensure that they are performing well is to
use a tracking signal.
A tracking signal is a measurement of how well the forecast is predicting
actual values.
tracking signal = running sum of forecast errors (RSFE) /mean
absolute deviation(MAD)
(OR)
tracking signal = forecasting errors/ n
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RSFE = (actual demand in period i) ± ( forecast demand in
period i)
MAD = (actual demand in period i ± forecast demand in period i)/n
n= number of years
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Implication of tracking signal
+ tracking signals indicate that demand is greater than forecast.
- tracking signals mean that demand is less than forecast.
Once tracking signals are evaluated, they are compared with
predetermined control limits. When a tracking signal exceeds an upper or lower limit, there is some
problem with the forecasting method and hence, the forecasting
method must be reevaluted.
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R f i ff i f i
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Reasons for ineffective forecasting
Not involving a broad cross section in forecasting Not recognizing that forecast will never be correct or
accurate
Not recognizing the fact the forecasting is integral to
business planning
Not forecasting the right things
Not selecting an appropriate forecasting method
Not tracking the performance of the forecasting modelsmodels so that forecast accuracy can be improved.