STRATEGIC COST MANAGEMENT (SCM)

Prof. Alok Thareja

CONCEPTUAL FRAME WORK OF SCM• IN THE 1980’S, CRITICISM OF TRADITIONAL MANAGEMENT ACCOUNTING WERE PUBLICISED & SCM

APPROACHES WERE ADVOCATED, WHICH ARE MORE IN TUNE WITH TODAY’S COMPETITIVE & BUSINESS ENVIRONMENT.

• INNES (1998) DEFINES STRATEGIC MANAGEMENT ACCOUNTING AS THE PROVISION OF INFORMATION TO SUPPORT THE STRATEGIC DECISIONS IN ORGANIZATIONS. STRATEGIC DECISION USUALLY INVOLVE THE LONGER TERM, HAVE A SIGNIFICANT EFFECT ON THAT ORGANIZATION & ALTHOUGH THEY MAY HAVE AN INTERNAL ELEMENT- THEY ALSO HAVE AN EXTERNAL ELEMENT. THE USE OF ACTIVITY BASED COSTING INFORMATION FOR PROVIDING INFORMATION RELATING TO PRODUCT – MIX, INTRODUCTION & ABANDONMENT DECISION FALL WITHIN THE DOMAIN OF STRATEGIC MANAGEMENT ACCOUNTING. COOPER & KAPLAN (1988), STATE THAT STRATEGIC ACCOUNTING TECHNIQUES ARE DESIGNED TO SUPPORT THE OVERALL COMPETITIVE STRATEGY OF THE ORGANIZATION. THIS IS AACHIEVED PRINCIPALLY BY USING INFORMATION TECHNOLOGY TO DEVELOP MORE REFINED PRODUCTS & SERVICES’ COSTS.

• IN 1996, LORD IDENTIFIED SEVERAL STRANDS THAT HAVE BEEN USED TO CHARACTERIZE STRATEGIC MANAGEMENT ACCOUNTING:

1. EXTENSION OF TRADITIONAL MANAGEMENT ACCOUNTING TO INCLUDE EXTERNAL INFORMATION ABOUT COMPETITORS

2. THE RELATIONSHIP BETWEEN THE STRATEGIC POSITION CHOSEN BY A FIRM & THE EXPECTED EMPHASIS ON MANAGEMENT ACCOUNTING, AND

3. GAINING COMPETITIVE ADVANTAGES BY ANALYSING WAYS TO DECREASE COSTS &.OR ENHANCE THE DIFFERENTIATION OF A FIRM’S PRODUCT THROUGH EXPLOITING LINKAGES IN THE VALUE CHAIN & OPTIMIZING COST DRIVERS.

EXTERNAL INFORMATION ABOUT COMPETITORS

• TO PROTECT AN ORGANIZATION’S STRATEGIC POSITION & DETERMINE STRATEGIES TO IMPROVE IT’S FUTURE COMPETIVENESS, MANAGERS REQUIRE INFORMATION THAT INDICATES THAT BY WHOM, BY HOW MUCH & WHY THEY ARE GAINING OR BEING BEATEN.

• COMPETITIVE INFORMATION IS AVAILABLE FROM PUBLIC SOURCES VIZ COMPANY ANNUAL REPORTS, PRESS, OFFICIAL INSTITUTIONS & INFORMAL SOURCES (SALES PERSONNEL, ANALYZING COMPETITOR’S PRODUCTS, INDUSTRY SPECIALISTS, CONSULTANTS ETC.)

• SIMMONDS STRESSED THE IMPORTANCE OF THE LEARNING CURVE AS A MEANS OF OBTAINING STRATEGIC ADVANTAGES BY FORECASTING COST REDUCTIONS & CONSEQUENTLY SELLING PRICE REDUCTIONS BY COMPETITORS. ALSO, EARLY EXPERIENCE WITH A NEW PRODUCT AS A MEANS OF CONFERRING AN UNBEATABLE LEAD OVER COMPETITORS.

• SIMMONDS STATES: FOR AN ADEQUATE ASSESSMENT OF THE LIKELIHOOD OF COMPETITORS PRICE REACTIONS, THEN SOME CALCULATION IS NEEDED OF THE IMPACT OF POSSIBLE PRICE MOVES ON THE PERFORMANCE OF INDIVIDUAL COMPETITORS SUCH AN ASSESSMENT IN TURN REQUIRES AN ACCOUNTING APPROACH THAT CAN DEPICT BOTH COMPETITOR COST – VOLUME – PROFIT SITUATIONS & THEIR FINANCIAL RESOURCES.

• FOCUS ON VOLUME ON & MARKET SHARE MOVEMENTS OF THE FIRM AND IT’S COMPETITORS IS ALSO IMPORTANT & SHOULD BE AN INTEGRAL PART OF MIS.

ACCOUNTING IN RELATION TO STRATEGIC POSITIONING

• PORTER (1985) SUGGESTS THAT A FIRM HAS A CHOICE OF THREE GENERIC STRATEGIES IN ORDER TO ACHIEVE SUSTAINABLE COMPETIVE ADVANTAGE:

1. COST LEADERSHIP – WHERE BY A FIRM AIMS TO BE THE LOWEST COST PRODUCER WITHIN THE INDUSTRY. THIS ENABLES IT TO COMPETE ON THE BASIS OF LOWER PRICES RATHER THAN PROVIDING UNIQUE PRODUCTS OR SERVICES. FACTORS LIKE ECONOMIES OF SCALE, ACCESS TO FAVORABLE RAW MATERIALS SOURCES & SUPERIOR TECHNOLOGY CONTRIBUTE TO GAINING THE COST ADVANTAGE

2. DIFFERENTIATION- WHERE THE FIRM OFFERS PRODUCTS & SERVICE THAT ARE CONSIDERED BY CONSUMERS TO BE SUPERIOR & UNIQUE WHEN COMPARED TO IT’S COMPETITORS

3. FOCUS – ON A NARROW SEGMENT OF THE MARKET THAT HAVE SPECIAL NEEDS THAT ARE POORLY SERVED BY OTHERS COMPETITORS IN THE INDUSTRY

• MILES & SNOW DISTINGUISHED BETWEEN :• DEFENDERS: - OPERATE IN STABLES AREAS, HAVE LIMITED PRODUCTS LINES & EMPLOY MASS

PRODUCTION ROUTINE TECHNOLOGY.OPERATIONAL EFFICIENCY THROUGH COST, QUALITY & SERVICE LEADERSHIP ARE INHERENT FEATURES.

• PROSPECTORS: - COMPETE THROUGH NEW PRODUCT INNOVATIONS & MARKET DEVELOPMENT & ARE ON THE LOOKOUT FOR NEW MARKET OPPORTUNITIES.

• THE CHOICE OF ACCOUNTING TECHNIQUES DIFFERS WITH THE PRODUCT POSITIONING. PORTER (1980) SUGGESTS THAT TIGHT COST CONTROLS ARE MORE APPROPRIATE WHEN A COST LEADERSHIP STRATEGY IS FOLLOWED. SIMONS (1987) FOUND THAT BUSINESS UNITS THAT ADOPTED THE DEFENDER’S STRATEGY PLACED MORE IMPORTANCE ON THE USE OF FINANCIAL MEASURES. PROSPECTOR FIRMS ON THE OTHER HAND PLACED IMPORTANCE ON FORECAST DATA & LESS EMPHASIS ON COST CONTROL.

SHANKS (1989) ILLUSTRATION• HOW TWO DIFFERENT COMPETITIVE STRATEGIES – COST LEADERSHIP AND

DIFFERENTIATION REQUIRES DIFFERENT COST ANALYSIS PERSPECTIVE

PRODUCT DIFFERENTIATION COST LEADER SHIP

ROLE OF STANDARD COSTS IN ASSESSING PERFORMANCE NOT VERY IMPORTANT VERY IMPORTANT

IMPORTANCE OF FLEXIBLE BUDGETS FOR MANUFACTURING COST CONTROL

MODERATE TO LOW HIGH TO VERY HIGH

PERCEIVED IMPORTANCE OF MEETING BUDGETS MODERATE TO LOW HIGH TO VERY HIGH

MARKETING COST ANALYSIS CRITICAL TO SUCCESS OFTEN NOT DONE AT ALL FORMALLY

PRODUCT COST AS AN INPUT FOR PRICING LOW HIGH

IMPORTANCE OF COMPETITOR COST ANALYSIS LOW HIGH

GAINING COMPETITIVE ADVANTAGETHE VALUE CHAIN

VALUE CHAIN IS THE LINKED SET OF VALUE CREATING ACTIVITIES. VALUE CHAIN ANALYSIS IS USED TO ANALYSE, COORDINATE & OPTIMIZE LINKAGES TO IMPROVE CUSTOMER SATISFACTION. THESE ACTIVITIES ARE HIGHLY INTERDEPENDENT – PERFORMANCE OF ONE ACTIVITY AFFECTS THAT OF SUBSEQUENT ACTIVITIES. THE LINKAGES EXPRESS THE ABOVE RELATIONSHIP – THE HIGHER THE INTERDEPENDENCE, THE GREATER THE REQUIRED COORDINATION. IF EACH LINK IS DESIGNED TO MEET THE NEEDS OF ITS CUSTOMER, END CUSTOMER SATISFACTION SHOULD ENSUE.

SUPPLIERS CUSTOMERS

R & D DESIGN PRODn MKTG DISTBnCUSTOMER SERVICE

STRATEGY & ADMINISTRATION

SHANK & GOVIND RANJAN (1992) ADVOCATE EVALUATION OF FIRM’S VALUE CHAIN WITH THAT OF COMPETITORS:• IDENTITY INDUSTRY’S VALUE CHAIN & ALSO OF THE

FIRM COSTS. REVENUES & ASSETS SHOULD THEN BE ASSIGNED TO ACTIVITIES TO ASCERTAIN THEIR VALUE

• DIAGNOSE THE COST DRIVERS REGULATING EACH VALUE ACTIVITY.

• DEVELOP SUSTAINABLE COST ADVANTAGE THROUGH CONTROLLING COST DRIVERS BETTER THAN COMPETITORS OR BY RECONFIGURING THE VALUE CHAIN.

COST MANAGEMENT TOOLSA. LIFE CYCLE COSTING • TRADITIONAL MANAGEMENT ACCOUNTING CONTROL PROCEDURES HAVE FOCUSED PRIMARILY

ON THE MANUFACTURING STAGE OF A PRODUCT’S LIFE CYCLE. PRE MANUFACTURING COSTS LIKE R& D & DESIGN & POST MANUFACTURING ABANDONMENT & DISPOSAL COSTS ARE TREATED AS PERIOD COSTS& HENCE NOT INCLUDED IN PRODUCT COST CALCULATIONS.

• THE PRODUCT LIFE CYCLE SPANS THE TIME FROM INITIAL R&D ON THE PRODUCT TO WHEN THE CUSTOMER SERVICING & SUPPORT IS NO LONGER OFFERED TO THAT PRODUCT. FOR MOTOR VEHICLES IT MAY BE 12-15, YEARS FOR PHARMACEUTICALS IT MAY BE 15-20 YEARS.

• LIFE CYCLE COSTING ESTIMATES ACCUMULATES COSTS OVER A PRODUCT’S ENTIRE LIFE CYCLE IN ORDER TO DETERMINE WHETHER THE PROFITS EARNED DURING THE MANUFACTURING PHASE WILL COVER THE COST INCURRED DURING PRE AND POST MANUFACTURING STAGES.

• LIFE CYCLE COSTING ENABLES THE MANAGEMENT TO UNDERSTAND THE COST CONSEQUENCES OF DEVELOPMENT & MARKETING A PRODUCT & IDENTIFY AREAS IN WHICH COST- REDUCTION EFFORTS ARE LIKELY TO BE MOST EFFECTIVE.

• THE THREE STAGES OF A PRODUCT LIFE CYCLE ARE:• PLANNING & DESIGN • MANUFACTURING & THE SERVICE • ABANDONMENT STAGE.

PRODUCTIVE LIFE CYCLE PHASES

Product Life Cycle Phase• PRODUCT LIFE CYCLE PHASE COMMITTED OR LOCKED IN COSTS ARE THOSE WHICH HAVE NOT

BEEN INCURRED, BUT THEY HAVE BEEN DECIDED TO BE INCURRED IN FUTURE. FOR EXAMPLE THE PRODUCT DESIGNING, SPECIFICATION DETERMINE A PRODUCT’S MATERIAL & LABOUR IN PUTS & THE PRODUCTION PROCESS. FROM THE FIGURE IT IS SEEN THAT A ROUND 80% OF A PRODUCT’S COSTS ARE COMMITTED DURING PLANNING & DESIGN STAGE. IN CONTRAST THE MAJORITY OF THE COSTS ARE INCURRED AT THE MANUFACTURING STAGE, BUT THESE HAVE BEEN LOCKED IN AT PLANNING & DESIGN STAGE & ARE DIFFICULT TO ALTER

• LIFE CYCLE BUDGETING & PRICING DECISION – EXAMPLE CONSIDER HEWLETT PACKARD (HP) DEVELOPING A NEW SOFT WARE PACKAGE, ‘GENERAL LEDGER.’ ASSUME FOLLOWING BUDGET AMOUNT FOR GENERAL LEDGER OVER A SIX YEAR PRODUCT LIFE CYCLE:

YEARS 1,2

R & D COST RS 24,00,000DESIGN COSTS RS 16,00,000

YEARS 3-6 ONE TIME VARIABLE

SET UP COSTS COST PER PACKAGE

PRODUCTION COST RS 10,00,000 RS 250

MARKETING COSTS RS 7,00,000 RS 240

DISTRIBUTION COSTS RS 5,00,000 RS 160

CUSTOMER SERVICE COST RS 8,00,000 RS 300

• THE SELLING PRICE OF RS 4,800/PACKAGE MAXIMIZES THE LIFE CYCLE OPERATING INCOME .THE ABOVE EXAMPLE CONSIDERS THE SAME PRICE FOR ALL YEARS IN THE LIFE CYCLE HOWEVER, HP MAY DECIDE TO SKIM THE MARKET – CHARGING HIGHER PRICES INITIALLY & LOWERING THEM LATER.

ALTERNATE SCENARIOS

A B C

SELLING PRICE PACKAGE 4,000 4,800 6000

SALE QUANTITY IN UNITS 5,000 4,000 2500

LIFE CYCLE REVENUES 20,00,000 192,00,000 150,00,000

R & D COST 24,00,000 24,00,000 24,00,000

DESIGN COST 16,00,000 16,00,000 16,00,000

PRODUCTION COST 22,50,000 20,00,000 16,25,000

MARKETING COST 19,00,000 16,60,000 13,00,000

DISTRIBUTION COST 13,00,000 11,40,000 9,00,000

CUSTOMER SERVICE COST 23,00,000 20,00,000 15,50,000

TOTAL LIFE CYCLE COST 117,50,000 108,00,000 93,75,000

LIFE CYCLE OPERATING INCOME

82,50,000 84,00,000 56,25,000

• MANAGEMENT & ENVIRONMENTAL LAWS ENTAILING LARGE COSTS AT A DESIGN / R & D STAGE IS OTHER EXAMPLE. COMPAQ & APPLE HAVE INTRODUCED COSTLY RECYCLING PROGRAMS TO ENSURE NICKEL - CADMIUM BATTERIES THAT CAN LEAK HAZARDOUS CHEMICALS INTO THE SOIL ARE DISPOSED OFF IN AN ENVIRONMENTAL FRIENDLY WAY AT THE END OF THE BATTERIES LIFE. THE COSTS IMPACT NOT ONLY R & D DESIGN STAGES BUT ALSO AT THE CUSTOMER SERVICE STAGES.

TARGET COSTING • TARGET COSTING IS A CUSTOMER ORIENTED TECHNIQUES THAT IS WIDELY

USED BY JAPANESE COMPANIES, & IS NOW BEING ADOPTED IN EUROPE & USA. IT INVOLVES FOUR STAGES:

• STAGE 1 DETERMINES TARGET PRICE WHICH THE CUSTOMERS WILL BE WILLING TO PAY FOR THE PRODUCT. THIS WILL INVOLVE MARKET RESEARCH TO FIND OUT THE CUSTOMER’S PERCEIVED VALUE OF THE PRODUCERS BASED ON ITS FUNCTION & ATTRIBUTES, ITS DIFFERENTIATION VALUE RELATIVE TO COMPETING PRODUCTS & PRICE OF COMPETING PRODUCTS.

• STAGE 2 DEDUCT A TARGET PROFIT MARGIN FROM ITS TARGET PRICE TO DETERMINE THE TARGET COST. THIS DEPENDS ON THE PLANNED RETURN ON INVESTMENT FIR THE ORGANIZATION AS A WHOLE AS A PERCENT AGE OF SALES.

• STAGE 3 ESTIMATE THE ACTUAL COST OF THE PRODUCTION• STAGE 4 IF ESTIMATED ACTUAL COST EXCEEDS THE TARGET COST;

INVESTIGATE WAYS OF DRIVING DOWN THE ACTUAL COST TO THE TARGET COST.

TARGET COSTING • THE ADVANTAGE OF ADOPTING TARGET COSTING IS THAT IT IS DEPLOYED

DURING A PRODUCT’S DESIGN & PLANNING STAGE, THEREBY HAVING A MAXIMUM IMPACT IN DETERMING THE LEVEL OF LOCKED IN COSTS.

• TARGET COST -ILLUSTRATION• THE DIGITAL ELECTRONIC COMPANY IS I N THE PROCESS OF INTRODUCING A

NEW STATE OF THE ART DIGITAL VIDEO. CUSTOMER SURVEY & COMPETITOR ANALYSIS HAS LEAD TO LIFE CYCLE VOLUME AT THE TARGET PRICE, & A PROFIT MARGIN AT 30% OF PROPOSED SELLING PRICE AS FOLLOWS:

PROJECTED LIFE TIME SALES VOLUME 300,000 UNITS

TARGET SELLING PRICE $800

TARGET PROFIT MARGIN (30% OF PRICE)

$240

TARGET COST(800-240) $560

PROJECTED COST $700

• SINCE PROJECTED COST IS MUCH HIGHER THAN THE TARGET COST, AN INTENSIVE TARGET COSTING EXERCISE HAS BROUGHT DOWN THE TOTAL COST FROM $700 TO $555 AGAINST THE ABOVE TARGET OF $560.

• THE ANALYSIS OF THE PROJECTED COST BEFORE & AFTER THE TARGET COSTING EXERCISE IS AS FOLLOWS:

• THE PROPOSED COST HAS BEEN BROUGHT WITHIN THE TARGET COST BY COST REDUCTION ACROSS SEVERAL AREAS:

• DIRECT LABOUR – SIMPLIFIED PRODUCT DESIGN YIELDS REDUCED ASSEMBLY TIME, THUS REDUCING COST ($80-- $ 100)

• DIRECT MACHINING COST –NO REDUCTION POSSIBLE AS MACHINERY COSTS ARE COMMITTED.

BEFORE AFTER$ $ $ $

MANUFACTURING COSTDIRECT MATERIAL (PARTS) 390 325DIRECT LABOUR 100 80DIRECT MACHINING COST 20 20ORDERING AND RECEIVING 8 2QUALITY ASSURANCE 60 50REWORK 15 6ENGINEERING DESIGN 10 603 8 491NON MANUFACTURING COST MARKETING 40 25DISTRIBUTION 30 20AFTER SALES SERVICE & WARRANTY

27 97 19 64

700 555

ORDERING & RECEIVED COSTS HAVE BEEN REDUCED AS UNDER

• QUALITY ASSURANCE – THE CAMERA WILL BE EASIER TO TEST RESULTING IN 10 HRS/ CAMERA AGAINST 12 HOURS EARLIER. SAVING PER CAMERA = 2HRS X $5/HRS = $10.

• REWORK: PAST EXPERIENCE WITH MANUFACTURING SIMILAR PRODUCT SUGGEST THAT 10% OF THE OUTPUT WILL REQUIRE RE WORK I.E 30,000 CAMERAS WILL REQUIRE REWORK OVER THE LIFE CYCLE AT A COST OF $150 PER REWORKED CAMERA UNIT

• THUS THE PROJECTED COST WAS $15/ UNIT. AFTER THE EXERCISE THE PREDICTED COST WILL BE 5% AT A COST OF $120 PER REWORKED CAMERA REDUCING THE COST TO $6/UNIT

BEFORE AFTER

NO. OF PARTS ( NOS) 80 40 SIMPLIFIED DESIGNNO. OF ORDERS FOR EACH PART OR LIFE CYCLE

150 100 RE DESIGN OF ORDERING & RECEIVING

COST PER ORDER 200 150 ACTIVITYORDER & RECEIVING COST – TOTAL $24,00,000 $ 6,00,000 $600,000- PER UNIT 8 $2 $2

ENGINEERING / DESIGN COSTS

• NO. OF PARTS – SIMPLIFIED DESIGN , PARTS STANDARDIZATION & VALUE ENGINEERING ACTIVITIES HAVE ENABLED NUMBERS OF PARTS TO BE REDUCED TO 40

• OTHERS – PLANNED PROCESS IMPROVEMENTS, INCORPORATING THE ACTIVITY BASED COSTING SYSTEM ENABLED PREDICTED MARKETING, DISTRIBUTION & AFTER SALES SERVICE COSTS TO BE REDUCED.

BEFORE AFTER

TOTAL LIFE TIME COST

30,00,000 24,00,000 ↓20%

PER UNIT $10 8

KAIZEN COSTING• USED BY JAPANESE ORGANIZATIONS, KAIZEN COSTING RELIES HEAVILY ON EMPLOYEE

EMPOWERMENT WORKERS ARE GIVEN RESPONSIBILITY TO IMPROVE PROCESSES & REDUCE COSTS. WORKERS ARE ASSUMED TO HAVE SUPERIOR KNOWLEDGE ABOUT HOW TO IMPROVE THE MANUFACTURING PROCESSES & ARE LIKELY TO HAVE GREATER INSIGHT INTO HOW THE COSTS CAN BE REDUCED.

• THE ARM OF KAIZEN COSTING IS TO REDUCE THE COST OF COMPONENTS & PRODUCTS BY A PRE SPECIFIED AMOUNT. EACH PLANT IS ASSIGNED A TARGET COST REDUCTION RATIO & THIS IS APPLIED TO THE PREVIOUS YEAR’S ACTUAL COSTS TO DETERMINE THE TARGET COST REDUCTION.

• THE TERM KAIZEN IS THE JAPANESE TERM FOR MAKING IMPROVEMENTS TO A PROCESS THROUGH SMALL INCREMENTAL AMOUNTS RATHER THAN THROUGH LARGE INNOVATIONS. THE MAJOR DIFFERENCE BETWEEN TARGET COSTING & KAIZEN COSTING IS THAT TARGET COSTING IS APPLIED DURING THE DESIGN STAGE WHEREAS KAIZEN COSTING IS A APPLIED DURING THE MANUFACTURING STAGE OF THE PRODUCT LIFE CYCLE

• THE POTENTIAL COST REDUCTIONS ARE SMALLER IN KAIZEN BECAUSE THE PRODUCTS ARE ALREADY IN THE MANUFACTURING STAGES AND A SIGNIFICANT PROPORTION OF ALL COSTS WILL HAVE BECOME LOCKED IN.UNLIKE TARGET COSTING KAIZEN IS NOT ACCOMPANIED BY A SET OF TECHNIQUES OR PROCEDURES THAT ARE AUTOMATICALLY APPLIED TO ACHIEVE THE COST REDUCTION.

JUST IN TIME (JIT) SYSTEM• IMPLEMENTATION OF JIT PRODUCTION METHODS WAS ONE OF

THE MAJOR FACTORS THAT CONTRIBUTED TO THE SUCCESS OF JAPANESE FIRMS IN INTERNATIONAL MARKETS. JIT INVOLVES A CONTINUOUS COMMITMENT TO PURSUIT OF EXCELLENCE IN ALL PHASES OF MANUFACTURING SYSTEM, DESIGN & OPERATIONS. JIT AIMS AT PRODUCING THE REQUIRED ITEMS AT THE REQUIRED QUALITY & IN THE REQUIRED QUANTITIES AT THE PRECISE TIME THEY ARE REQUIRED. ITS GOAL ARE:

• ELIMINATION OF NON – VALUE ADDED ACTIVITIES • ZERO INVENTORY • ZERO DEFECTS • BATCH SIZE OF ONE • ZERO BREAK DOWN• A 100% ON TIME DELIVERY SERVICES.

ELIMINATION OF NON VALUE ADDED ACTIVITIES

• ANYTHING THAT DOES NOT ADD VALUE TO A PRODUCT IS WASTE. THE LEAD OR CYCLE TIME INVOLVED IN MANUFACTURING & SELLING A PRODUCT CONSISTS OF PROCESS TIME, INSPECTION TIME , MOVE TIME , QUEUE TIME & STORAGE TIME. OF THESE FIVE ITEMS ONLY PROCESS TIME ACTUALLY ADDS VALUE TO THE PRODUCT. OTHER ACTIVITIES ADD COST BUT NO VALUE.

• ACCORDING TO BERLINER & BRIMSON (1988) PROCESS TIME IS LESS THAN 10% OF THE MANUFACTURING LEAD TIME IN MANY US ORGANIZATIONS. THE BALANCE LEAD TIME 90% OFFERS GOOD OPPORTUNITIES FOR REDUCING LEAD TIME AND EFFECTING SIGNIFICANT COST REDUCTION.

FACTORY LAYOUT• JIT IMPLEMENTATION ENTAILS MOVING AWAY FROM BATCH PRODUCTION FUNCTIONAL LAYOUT

TOWARDS PRODUCT LAYOUT USING FLOW LINES. WITH FUNCTIONAL PLANT LAYOUT PRODUCT PASSES THROUGH A NUMBER OF SPECIALIST DEPARTMENTS THAT NORMALLY CONTAIN A GROUP OF SIMILAR MACHINES. BATCH SIZE IS LARGE TO MINIMIZE THE SET UPTIME. BATCHES MOVE VIA DIFFERENT & COMPLEX ROUTES THROUGH VARIOUS DEPARTMENTS TRAVELLING OVER MUCH OVER THE FACTORY FLOOR BEFORE THEY ARE COMPLETED ENTAILING WAITING TIME AT VARIOUS STATIONS. TO DETERMINE THE PROGRESS MADE ON INDIVIDUAL BATCHES DETAILED COST ACCUMULATION RECORDS IS NECESSARY TO TRACK WIP OVERALL RESULT – HIGH WIP + LONG MANUFACTURING CYCLE TIME.

• THE JIT SOLUTION IS TO REORGANIZE THE PRODUCTION PROCESS BY DIVIDING THE MANY DIFFERENT PRODUCTS THAT THE ORGANIZATION MAKES INTO FAMILIES OF SIMILAR PRODUCTS OR COMPONENTS. ALL OF THE PRODUCTS OF A PARTICULAR GROUP WILL HAVE SIMILAR PRODUCTION REQUIREMENTS & ROUTING. THE PRODUCTION LAYOUT THUS RESEMBLES A ‘MINI FACTORY’ FOR EACH PRODUCT FAMILY, BASED ON FLOW LINE PRINCIPLES FOR EACH PRODUCT LINE THE MACHINES ARE PLACED CLOSE TOGETHER IN THE ORDER OF WHICH THEY ARE REQUIRED BY THE GROUPS OF PRODUCT TO BE PROCESSED . ITEMS IN EACH PRODUCT FAMILY CAN NOW MOVE, ONE AT A TIME FROM PROCESS TO PROCESS MORE EASILY, THUS REDUCING WIP & MANUFACTURING LEAD TIMES.

• OPERATORS ARE TRAINED TO OPERATE ALL MACHINES ON THE LINE & UNDERTAKE ROUTINE PREVENTIVE MAINTENANCE. ANY WORKER CAN STOP THE PRODUCTION LINE IF A PROBLEM ARISES. THE EMPHASIS IS ON EMPLOYEE EMPOWERMENT, TRUST AND RESPONSIBILITY.

• THE PRODUCING CELL CANNOT RUN THE PARTS UNTIL AUTHORIZED TO DO SO. THE PULL SYSTEM IS IMPLEMENTED BY MONITORING CONSUMPTION OF PARTS AT EACH OPERATION STAGE & USING VARIOUS TYPES OF VISIBLE SIGNALING SYSTEMS (KNOWN AS KANAB’S)

ILLUSTRATION• TO ILLUSTRATION HOW THE SYSTEM WORKS CONSIDER THREE

MACHINES FORMING PARTS OF A CELL. PARTS ARE FIRST PROCESSED AT MACHINE A, FURTHER PROCESSED BY MACHINE B& PRODUCTION IS COMPLETED ON MACHINE C. KANBANS ARE LOCATED BETWEEN THE MACHINES. AS LONG AS THE KANBAN CONTAINER IS NOT FULL, THE WORKER AT MACHINES A CONTINUOUS TO PRODUCE PARTS PLACING THEM IN THE KANBAN CONTAINER. WHEN THE CONTAINER IS FULL THE WORKER STOPS PRODUCING & RECOMMENCES WHEN A PART HAS BEEN REMOVED FROM THE CONTAINER BY THE WORKER OPERATING MACHINE B. A SIMILAR PROCESS APPLIES TO WORKERS OF THE MACHINE B & C

• WITH A PULL SYSTEM, PROBLEMS ARISING IN ANY PART OF THE SYSTEM WILL IMMEDIATELY HALT THE PRODUCTION LINE BECAUSE WORK CENTERS AT THE EARLIER STAGES WILL NOT RECEIVE THE PULL SIGNAL. THUS ATTENTION IS DRAWN IMMEDIATE TO PRODUCTION PROBLEMS SO THAT APPROPRIATE REMEDIAL ACTION CAN BE TAKEN.

BATCH SIZES OF ONE • SET UP IS THE AMOUNT OF TIME REQUIRED TO ADJUST EQUIPMENT & RETOOL FOR A DIFFERENT

PRODUCT. LONG SET UP & CHANGE OVER TIMES MAKE THE PRODUCTION OF BATCHES WITH A SMALL NUMBER OF UNITS UN ECONOMIC. HOWEVER THE PRODUCTION OF LARGE BATCHES LEADS TO SUBSTANTIAL THROUGH PUT DELAYS, CREATING HIGH INVENTORY LEVELS

• THROUGHOUT DELAYS ARISE BECAUSE SEVERAL LENGTHY PRODUCTION RUNS ARE REQUIRED TO PROCESS LARGER BATCHES THROUGH THE FACTORY. ALSO, THE PROBLEM WITH LARGE BATCHES IS THAT OFTEN THEY HAVE TO WAIT FOR LENGTHY PERIODS. THEY ARE PROCESSED BY THE NEXT PROCESS OR BEFORE THEY ARE SOLD.

• THE JIT PHILOSOPHY IS TO REDUCE & EVENTUALLY ELIMINATE SET UP TIMES:• FOR EXAMPLE BY INVESTMENT IN ADVANCED TECHNOLOGY SOME MACHINE SETTING CAN BE

ADJUSTED AUTOMATICALLY INSTEAD OF MANUALLY • ALTERNATIVELY, SOME SET UP TIMES CAN BE ELIMINATED ENTIRELY BY REDESIGNING PRODUCTS

SO THAT MACHINES DO NOT HAVE TO BE RESET EACH TIME A DIFFERENT PRODUCT HAS TO BE MADE.

• IF SET UP TIME ARE APPROACHING ZERO, IT MEANS THAT THERE IS NO ADVANTAGE IN PRODUCING IN BATCHES. HENCE THE OPTIMAL BATCH SIZE CAN BE ONE SO THAT WORK CAN FLOW SMOOTHLY. THIS WILL REMOVE THE NEED TO STORE & TO SCHEDULE THE NEXT MACHINE TO ACCEPT THIS ITEM.

• IN MANY CASES SET UP TIMES WILL NOT BE APPROACHING ZERO, BUT WILL REDUCE SIGNIFICANTLY. HENCE, SMALL BATCHES WILL ENABLE THE FIRMS TO ADAPT MORE READILY TO SHORT TERM FLUCTUATIONS IN MARKET DEMAND & RESPOND FACTOR TO CUSTOMER REQUEST.

JIT PURCHASING ARRANGEMENTS • IN PURCHASING THE JIT TECHNIQUE AIMS AT DELIVERY OF MATERIALS PRECEDING

THEIR USE. BY ARRANGING WITH SUPPLIERS FOR MORE FREQUENT DELIVERIES, STOCKS CAN BE CUT TO A MINIMUM.

• CONSIDERABLE SAVINGS IN THE MATERIAL HANDLING EXPENSES CAN BE OBTAINED BY REQUIRING SUPPLIERS TO INSPECT MATERIALS BEFORE THEIR DELIVERY & GUARANTEEING THEIR QUALITY. THIS IMPROVED SERVICE CAN BE OBTAINED BY GIVING MORE BUSINESS TO FEWER SUPPLIERS & PLACING LONG – TERM PURCHASING ORDERS. BEING ASSURED OF LONG TERM SALES, THE SUPPLIERS CAN PLAN TO MEET THIS DEMAND OF QUALITY ASSURANCE.

• COMPANIES THAT HAVE IMPLEMENTED JIT PURCHASING TECHNIQUES CLAIM ACHIEVING THE FOLLOWING BENEFITS:

• REDUCED INVESTMENTS IN RAW MATERIALS & WIP • SAVING IN FACTORY SPACE.• LARGE QUANTITY DISCOUNT.• TIME SAVING BECAUSE OF NEGOTIATING WITH FEWER SUPPLIERS.• REDUCTION IN PAPER WORK ARISING FROM ISSUING BLANKET LONG TERM

ORDERS TO FEWER SUPPLIER, RATHER THAN INDIVIDUAL PURCHASE ORDERS TO MANY SUPPLIERS.