Management of Business Unit 2 Module 1

Production and Operations Management

Contents
Nature of Production .................................................................................................................... 3
Methods of Production ................................................................................................................ 3
Factors management must take into consideration before making a final decision of the
production method used .............................................................................................................. 4
Factors influencing when to produce .......................................................................................... 4
Location of production ................................................................................................................ 4
Forecasting Techniques ................................................................................................................ 4
Sales force composite ................................................................................................................. 5
Delphi method ............................................................................................................................. 5
Consumer survey ........................................................................................................................ 5
Jury of experts ............................................................................................................................. 5
Moving average .......................................................................................................................... 5
Product Design Strategies ............................................................................................................ 5
Design brief/ product design planning ........................................................................................ 5
Modularisation ............................................................................................................................ 6
Miniaturisation ............................................................................................................................ 6
Integration ................................................................................................................................... 6
Value analysis ............................................................................................................................. 6
Computer Aided Design (CAD) ................................................................................................. 6
Computer Aided Manufacturing (CAM) .................................................................................... 7
Capacity Planning ......................................................................................................................... 7
Definition of Capacity................................................................................................................. 7
The importance of capacity utilisation ........................................................................................ 7
Design Capacity .......................................................................................................................... 8
Efficiency Capacity..................................................................................................................... 8
Methods of improving capacity utilisation ................................................................................. 8
Layout Strategies .......................................................................................................................... 9
Process Layout ............................................................................................................................ 9
Production Layout ....................................................................................................................... 9
Fixed Position Layout ............................................................................................................... 10

1
Management of Business Unit 2 Module 1

Cellular Layout ......................................................................................................................... 10

Costing ......................................................................................................................................... 10
Cost of Production (direct/indirect, variable/fixed) .................................................................. 10
Approaches to Costing .............................................................................................................. 10
Application of Marginal Costing .............................................................................................. 12
Make or Buy Decisions ............................................................................................................. 13
Inventory Management .............................................................................................................. 14
Importance of Inventory (Stock) ............................................................................................... 15
Inventory Control Management ................................................................................................ 16
Lean Production and Quality Management ............................................................................. 17
Importance of quality ................................................................................................................ 17
Dimensions of quality ............................................................................................................... 17
Techniques for improving quality............................................................................................. 18
Productivity ................................................................................................................................. 25
Definition .................................................................................................................................. 25
Factors affecting productivity ................................................................................................... 25
Project Management ................................................................................................................... 26
Critical Path Analysis (CPA) .................................................................................................... 26
Decision Trees .......................................................................................................................... 28

2
Management of Business Unit 2 Module 1

Nature of Production
Production is the use of inputs (raw materials) OR (factors of production) in converting to
outputs (products).
Methods of Production
Job:
 This is the type of production where each individual and unique product has to be
completed before the next product is started. Usually product produced by job production
very specific in their nature. For example, a wedding cake or tailored suit. Given how
specialised these types of products are, they are also usually very expensive.

Advantages: Able to undertake specialist jobs, often with high value added.

Disadvantages: High cost of production, time consuming.

Batch:
 This type of production involves the production of products in separate batches. Each batch
must be completed before another is started. Another key factor of this type of production
is that each product in the batch must go through the various stages of the batch process
together before they move on to the next stage. For example, in a bakery.

Advantages: Economies of scale, faster and lower unit costs than job production.

Disadvantages: High levels of stocks of unfinished goods at each stage of production.

Flow:
 Flow production also known as mass production involves the continuous movement of
items through the production process. For example in car production you will find
production lines of the car and its components as it moves along the assembly line.

Advantages: It makes use of more machinery as opposed to workers. As such a high

number of products can roll off the assembly line at pretty low costs given that firms may
benefit from economies of scale which should lower the cost per unit of production.

Disadvantage: Given the dependence on of machinery production is somewhat inflexible

and as such all products are standardised and cannot be tailored to each consumer’s tastes.

Cellular:
 This method of production uses “cells” groups of team members, or equipment to facilitate
operations by eliminating setup and unneeded costs between operations. Cells are usually
design for specific process or complete product.

Advantages: Low unit cost, produces to order with a range of different goods.

Disadvantages: Expensive redesign of products to achieve compatibility.

3
Management of Business Unit 2 Module 1

Factors management must take into consideration before making a final decision of the
production method used
o Size of the market
o The amount of capital available
o Availability of other resources (e.g. labour, land.)
o Flexibility with mass production (to achieve low costs and differentiated products)
Factors influencing when to produce
o Perishability/Durability
o Demand patterns
o Cost of storage
o Tangibility of product

Location of production
Quantitative Factors:
o Site costs – includes the purchase or rent of land and property. Cheaper sites tend to be
more far away from central populated areas.
o Transport costs – includes the transportation of raw materials and components, and the
finished product; service needs to be close to market.
o Labour costs – quality and productivity of labour need to be considered.
o Revenue generation – location increases sales due to proximity of the market.
Qualitative Factors:
o Infrastructure – quality of transport and communication links.
o Environmental and planning consideration – includes poor public relations and action
from pressure groups.
o Management preferences – includes senior management deciding to set up in an area
with a high quality of life; e.g. schools, shopping facilities, proximity to airports for
international travel ease.
o Clustering – includes same businesses located in one general area where they can benefit
from proximity of potential and existing customers, suppliers, and labour.

Forecasting Techniques
This is the prediction of future demand; e.g. costs, stock levels, sales, production capacity.
Forecasting can be:
o Micro – looks at predictions of a department; e.g. projected sales.
o Macro – The making of predictions of the overall market; e.g. demand for a firm’s
product.
o Forecasting techniques can be:

4
Management of Business Unit 2 Module 1

o Qualitative – based on judgement opinions; is subjective; e.g. sales force composite,

Delphi method, consumer surveys, jury or experts.
o Quantitative – based on historical data and previous experience; e.g. moving average.
Sales force composite
↳ Short term planning
↳ Easy and quick and cheap to conduct
↳ Limited to only a micro point of view
↳ Conducted by sales force representatives, who have frequent contact with customers
Delphi method
↳ Expert opinion
↳ Strictly anonymous
↳ Expert opinions are collected and coordinated, which are detailed questionnaires
inquiring their judgement about possible future events; e.g. demand levels, technological
changes that affect consumer taste.
↳ The process goes back and forth until an agreement is made
↳ The process is time consuming
Consumer survey
↳ Needs a larger sample for greater accuracy
↳ Can be expensive to conduct
↳ General questionnaires are distributed to consumers
↳ When conducting consumer surveys, there are four main important aspects to look for:
 Who to ask?
 What to ask?
 How to ask?
 How accurate are the results?
Jury of experts
↳ Uses specialists within a business to make forecasts of the future
↳ Quicker and cheaper than the Delphi method
↳ Lacks external view of market conditions and consumer trends
Moving average
↳ Often uses the average of the past few periods to determine the approximate forecasted
sales for the upcoming period
↳ Can have many serious errors is applied carelessly

Product Design Strategies

Design brief/ product design planning
This is the step taken before designing a product. It is a documented outline of how a product
will be produced in order to get the desired results. It gives production a clear sense of what is
expected before any production processes are undertaken.

5
Management of Business Unit 2 Module 1

The design brief may contain a number of elements such as:

o The problem statement – What is to be produced? What is the objective of the product?
o Functions of the product – What role will the product play in fixing/fulfilling the above
problem/need outlined?
o The resources required
o The technology needed
o Current industry trends
o Project budget
o Level of competition
Modularisation
This offers the opportunity to mix and match components in modular product design. A standard
product is made and the modular components (the parts of the product that can easily be added to
or subtracted from the standard product.
Advantages:
o Gives designers flexibility to meet different market segment needs
o Allows for a wider range of products to be offered for sale
o Modules can be made on a large scale since they can be used for in a wide range of
applications
o Ease of design and testing since each module can be designed and tested separately
before final assembly
o Product updating is easier – one or two modules can be changed and the product can be
launched as a newer version
Miniaturisation
This is the development of small products that have the same function and use of the larger
products they replace. Over time, it gets smaller and smaller; less chunky and burdensome to
consumers and more efficient. E.g. flash drives, phones.
Integration
This is where the product design must be cost effective and integrated with market research to
ensure success.
Value analysis
This is the process of analysing whether a new product design can be made more efficiently
without reducing its appeal. A compromise is therefore made between performance/quality,
appearance and economy of manufacture.
Computer Aided Design (CAD)
The use of computer systems to create, modify, and analyse a products design. CAD software is
used to increase the designer productivity, improve design quality, improve communications by
documentation, and to create a database for manufacturing.

6
Management of Business Unit 2 Module 1

Advantages:
↳ Less human error
↳ Modification is easier, cheaper and less time consuming
↳ It can be shared among multiple users simultaneously
Disadvantages:
↳ High initial cost of software
↳ It relies on other technology; i.e. computers
↳ Staff training will be required
Computer Aided Manufacturing (CAM)
This works as the link between product design and the actual manufacturing of the product. It
can take many forms, from an automatic conveyer belt to a fully automates computerised factory.
Its primary purpose is to create a faster production process and components and tooling with
more precise dimensions and material consistency.
CAM uses computer software and hardware to convert the raw data and models from CAD into
instructions which are used to manufacture a product.
Advantages:
↳ Results in production consistency
↳ Improves the level of accuracy of production
↳ Speeds up the production process as lead teams between design and actual manufacturing
Disadvantages:
↳ High set up costs
↳ Not economical to do one off products
↳ Employees will have to be trained

Capacity Planning
Definition of Capacity
Capacity is the current or future levels that a system is capable of producing. Usually, however,
when you speak of capacity it does not look at the future level but rather how much the current
system is capable of producing.
The importance of capacity utilisation
Capacity utilisation is about how a business uses its resources. A business is said to be operating
at full capacity when it is not able to increase output; therefore its capacity utilisation is at 100%.
If a business is not operating at full capacity then it will have excess, surplus, spare or unused
capacity.

7
Management of Business Unit 2 Module 1

Capacity utilisation is often used as a measure of productive efficiency. Average production

costs tend to fall as output rises; so higher utilisation can reduce unit costs, making a business
more competitive.
It can be calculated using the following formula:
𝑝𝑟𝑒𝑠𝑒𝑛𝑡 𝑜𝑢𝑡𝑝𝑢𝑡
Capacity utilisation = 𝑡𝑜𝑡𝑎𝑙 𝑝𝑜𝑡𝑒𝑛𝑡𝑖𝑎𝑙 𝑜𝑢𝑡𝑝𝑢𝑡 X 100

Design Capacity
Design capacity is the total achievable capacity given that all equipment and processes are
working in perfect order.
Efficiency Capacity
Efficiency capacity refers to the estimated capacity that would result in the efficient operation of
the business. It measures the maximum demand that the production system can manage before it
becomes inefficient.
It is a ration of production output to effective capacity; it measures effective management in
utilizing effective capacity. It is calculated with the following formula:
𝐴𝑐𝑡𝑢𝑎𝑙 𝑜𝑢𝑡𝑝𝑢𝑡
Efficiency = 𝐸𝑓𝑓𝑒𝑐𝑡𝑖𝑣𝑒 𝑐𝑎𝑝𝑎𝑐𝑖𝑡𝑦

Methods of improving capacity utilisation

1. Reduced Capacity – reducing excess capacity by getting rid of resources that the business
can operate without:
↳ Reducing staff – employing more part time and temporary staff and offering early
retirement (rationalising)
↳ Selling off unused fixed assets
↳ Leasing capacity – parts of a factory can be leased to another manufacturer and
the space may be reclaimed if demand picks up again
↳ Moving to smaller premises where costs are lower
↳ Maintain unused fixed assets so that they can be reemployed if necessary
(Mothballing)
2. Increased sales – as sales increase, production will have to follow. Sales increased may
have to come from spending money on promotion.
3. Increased usage – reduce downtime or idle time of the machinery. This can be done by
offering discounts during off-peak periods.
4. Subcontracting – it may be more efficient to subcontract/outsource capital equipment that
have low utilisation rates.
5. Redeployment – this is where resources are deployed to another department.
Advantages of working at full capacity
↳ Lower average costs since fixed costs will be spread across as many units of output as
possible; hence increasing profits.
↳ Staff motivation due to secure job positions.

8
Management of Business Unit 2 Module 1

↳ Customer confidence increases due to improved company image from busy operation.
↳ Reduced competition by decreasing prices.
↳ Cater to market demand.
Disadvantages of working at full capacity
↳ The pressure of having to constantly work at full capacity may put a strain on some
resources (labour, equipment)
↳ Increased repair costs
↳ Depreciation of machinery
↳ The business may lose profitable orders from new customers
↳ There may not be enough time for staff training and important maintenance work

Layout Strategies
The basic layout of any business facility (factory or office) is to ensure a smooth flow or work,
materials and information throughout the building. The business layout is determined by:
o The availability of space
o The amount of space that each piece of machinery will occupy
o The sequence of operations of the product being produced
o The distance that must be travelled between each piece of machinery in the layout
o The wear and tear of demand on each piece of machinery
Process Layout
Process/functional layout groups similar activities together in departments according to the
process/function that they perform.
Advantages:
↳ Workers become skilled in one particular area of work (specialisation) and can produce a
flexible range of products.
Disadvantages:
↳ Inefficiency as a result of jobs not flowing in an orderly fashion throughout the business
↳ Increased idle time for workers as they have to wait for work to be delivered to them
from another department
↳ Work-in-progress stock will be high since material moves between work centres waiting
to be processed
↳ In service outlets, firms will require large aisles to allow customers to move between
specialist sections
Production Layout
Production/product layout (aka assembly lines) is generally used for mass production of similar
products where activities are arranged in an assembly line.

9
Management of Business Unit 2 Module 1

Advantages:
↳ Very high level of efficiency
↳ Unit production costs are kept to a minimum
Disadvantages:
↳ Every product that is different must have its own assembly line
↳ The assembly line must be carefully balanced so that no one stage of the line holds up the
flow of work (becomes a bottleneck)
Fixed Position Layout
Fixed position layout is where the production of a project is too fragile, bulky or heavy to move
and it is impossible to move during the production process; e.g. ships, houses.
Cellular Layout
Cellular layout is when activities are grouped together based on similarities and may perform the
same or similar tasks, and are manufactured together.

Costing
Cost of Production (direct/indirect, variable/fixed)
o Direct Costs – costs specifically related to what is being produced
↳ Direct Materials – materials used in production
↳ Direct Labour/Wages – expenses of labour who have worked in production
↳ Direct Expenses – specific costs related to production of a particular
product/service; e.g. rental of machine to work on a particular product
o Indirect Costs – costs that cannot be classified direct costs; usually factory overheads
↳ Indirect Materials – materials used to make production possible but not project
specific; e.g. lubricant for machinery, cleaning material
↳ Indirect Labour/Wages – payment for labour who are not project specific; e.g.
cleaners, maintenance, supervisor
↳ Indirect Expenses – other expenses that are not project or department specific;
e.g. rent and rates for the factory or factory insurance
o Fixed Costs – costs that are not affected (remain constant) by the rate of output; e.g. rent,
lease and insurance.
o Variable Costs – costs that vary and are dependent on output rates; e.g. material costs,
delivery costs and wages.
o Semi-variable Costs – costs that change depending on the amount consumed; e.g.
electricity.
Approaches to Costing
1. Marginal Costing is a costing system that charges variable costs to the production of a
product. Fixed costs are then incorporated when drafting the profit and loss statement.
Contribution = Sales – Variable Costs
10
Management of Business Unit 2 Module 1

Contribution per unit = Selling Price –Variable Costs per unit

DETAILS $ $
Sales xxxx
Variable production cost:
Direct labour xxx
Direct materials xxx
Direct expenses xxx
xxx
Less: Closing stock (xxx) (xxxx)
Contribution xxx
less: Fixed costs & other expenses (xxx)
OPERATING PROFIT/LOSS _xxxx_

Advantages of Marginal Costing

o Profits under this method are calculated on the basis of sales volume rather than
production unit.
o Easily understandable and a useful tool for comparison, especially as it pertains to
budgetary control.
o A great tool to aid managers in making pricing decisions.
o Prevents the technicality of over and under absorption since the calculation of
contribution includes fixed costs; i.e. it eliminates the need for fixed cost to be to be
absorbed in production.
o Prevents a portion of fixed costs from being carried over and included to the next period
because closing stock is only valued as a variable cost.
Disadvantages of Marginal Costing
o Difficult to separate overheads and variable and fixed costs.
o This method of costing is not recognised for external reporting purposes.
o Profits can be misleading since closing stock does not reflect fixed cost.
o Cannot be used for long-term planning and decision making because variable costs
should not be the only basis for decision making.

2. Absorption Costing (aka full cost method) is a method of sharing overheads between a
number of different products on a fair basis. In this system, all manufacturing costs are
absorbed by the units produced. This means that the cost of a finished unit will include
both fixed and variable costs to arrive at the production costs.

11
Management of Business Unit 2 Module 1

DETAILS $ $
Sales xxxx
Production Costs:
Direct labour xxx
Direct materials xxx
Direct expenses xxx
Fixed costs xxx
less: Closing stock (xxx) (xxx)
Gross Profit xxxx
less: Expenses or Overhead (xxx)
Net Profit _xxxx_

Advantages of Absorption Costing

o A portion of fixed cost is incorporated into the value of closing stock; which allows the
costs of the period to be matched accurately with the revenue of the same period.
o There’s a more accurate production cost; prices can be set based on total costs and not
only variable costs.
o This method is a more realistic method of costing since both fixed and variable costs are
included.
o It is accepted as a method for external reporting.
o It avoids the need to separate costs (fixed and variable) because some costs are semi
variable and will be difficult to separate accurately.
Disadvantages of Absorption Costing
o The absorption of fixed costs and determining whether they were over or under absorbed
can complicate the process.
o Can be complicated to accurately calculate.

Application of Marginal Costing

Breakeven Analysis
Breakeven is based on contribution made from the sale of each unit. A business can work out
what volume of sales it needs to achieve to cover its costs. This is known as the breakeven point
𝑓𝑖𝑥𝑒𝑑 𝑐𝑜𝑠𝑡
Breakeven = .
𝑢𝑛𝑖𝑡 𝑐𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛

Breakeven is useful to a business when planning production and selling levels.

Advantages of Breakeven
o Fairly simple calculations
o Profits or losses are highlighted at different output levels
o It shows how a firm’s profit/sales will be affected by changes in price or cost

12
Management of Business Unit 2 Module 1

o Firms can determine the level of sales needed to make a certain level of profit
Disadvantages of Breakeven
o Results can be misleading due to the assumption that all output is sold (there is no closing
stock)
o Dependent on the accuracy of data
o Time consuming to construct a breakeven chart
o The chart only applies to a single product, or to a fixed mix of products
𝑓𝑖𝑥𝑒𝑑 𝑐𝑜𝑠𝑡𝑠
Breakeven point in sales = 𝑐𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛 𝑡𝑜 𝑠𝑎𝑙𝑒𝑠 𝑟𝑎𝑡𝑖𝑜
𝑐𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛
Contribution to sales ratio = 𝑥 100
𝑠𝑒𝑙𝑙𝑖𝑛𝑔 𝑝𝑟𝑖𝑐𝑒

𝑓𝑖𝑥𝑒𝑑 𝑐𝑜𝑠𝑡𝑠+𝑡𝑎𝑟𝑔𝑒𝑡 𝑝𝑟𝑜𝑓𝑖𝑡

Level of sales to result in target profit (units) = 𝑐𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡

𝑓𝑖𝑥𝑒𝑑 𝑐𝑜𝑠𝑡𝑠+𝑡𝑎𝑟𝑔𝑒𝑡 𝑝𝑟𝑜𝑓𝑖𝑡

Level of sales to result in target profit (sales) = 𝑥 𝑠𝑒𝑙𝑙𝑖𝑛𝑔 𝑝𝑟𝑖𝑐𝑒
𝑐𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡

Margin of safety = 𝑎𝑐𝑡𝑢𝑎𝑙 𝑠𝑎𝑙𝑒𝑠 − 𝑏𝑟𝑒𝑎𝑘𝑒𝑣𝑒𝑛 𝑝𝑜𝑖𝑛𝑡

Make or Buy Decisions

This is the action of deciding between producing an item internally (in-house) or buying from
external suppliers. It looks at both quantitative and qualitative factors. Firstly, quantitative
analysis is carried out; the variable cost of production is compared to the price that would have to

13
Management of Business Unit 2 Module 1

be paid if it were to be bought. After this, qualitative factors are considered and incorporated into
the quantitative assessment to therefore arrive at the make or buy decision.
Cost Factors of the Make Analysis
o Direct labour expenses
o Direct materials
o Variable overheads
o Fixed cost
o Inventory carrying expenses
o Follow on expenses resulting from quality and associated problems
o Storage considerations
Cost Factors for Buying
o Transport cost
o Storage considerations
o Follow on expense associated with service or quality
o Purchase price

Inventory Management
Key terms
↳ Maximum Stock – the greatest amount of stock a business can hold based on their
objective and storage space.
↳ Reorder Level – the point at which a new order will be placed to replenish the stock.
↳ Reorder Quantity – the difference between the maximum and minimum stock level.
↳ Minimum Stock – the lowest amount of stock a business holds at any given time.
↳ Lead Time – the difference between placing an order and receiving that order.

14
Management of Business Unit 2 Module 1

Importance of Inventory (Stock)

Inventory refers to any item/resources owned by the business; it is an important part of any
business. Firms can hold different types of inventory, such as:
o Finished goods
o Work in progress
o Raw materials
o Maintenance and operating supplies
Regardless of the type of industry a firm holds and the various costs involved, it is important to
hold stock for some of the following reasons:
o Materials purchased in bulk get a discount, which reduces the cost of transportation that
would be paid for regular purchases of smaller quantity.
o Holding stock ensures that materials are readily available when required for production;
this prevents the firm from having a shortage of materials in critical conditions.
↳ The supplier may not be able to deliver the raw materials as fast as the firm needs
them.
↳ The firm can respond to changes in demand quickly
o Stock is held as a safeguard in case the supplier encounters unforeseen problems and the
lead time becomes longer than expected.
Implications that a business is holding excess stock:
↳ Wastage as a result of spoilage
↳ Increased cost of storage
↳ Liquidity issues; since cash is tied up in stock
↳ Stack may become outdated

15
Management of Business Unit 2 Module 1

Holding too little stock, however, can lead to production hold-ups and loss of sales revenue. In
order to decide on the optimal level of stock to be held, the firm may employ inventory control
management systems.
Inventory Control Management
Economic Order Quantity (EOQ)
In this system, the firm has to determine a specific point when an order will be placed and the
amount of stock to be purchased so that it does not over or under stock the business. EOQ
essentially aims to minimise total costs in terms of both space and stock holding cost.
To achieve this aim, the firm has to calculate the economic order quantity by using the following
formula.

2𝐶𝐷
EOQ =√
𝐻

Where:
↳ C = cost of placing the order
↳ D = annual rate of demand/quantity
↳ H = cost of holding one unit of stock for a year
Just-in-time
This technique is where very little stock, if any, will be held at the firm. An order for raw
materials will then be made when they are needed ‘just in time’ for production. For this method o
work the supplier has to be very efficient with readily available supplies, and delivery of high
quality raw materials must be made on time so that production can start within a specified time.
This method hence eliminates stock holding costs, while minimising waste.
For ‘just-in-time’ to work the following elements must be present:
o Standardisation – the product, raw materials, parts, tools and processes should be
standardised and the least possible variety should be used.
o High-quality raw materials – firms that store finished goods may find it easier to fix
defects in those goods, however with a just-in-time, there is little time available for
careful assessment; resulting in a setback delivery and a lost customer.
o Vendor certification – raw materials purchased from a certified vendor will more likely
meet the required standards; vendor certification is the verification of the supplier’s
processes, quality standards and delivery cycles.
o Responsibility of the workers – workers must be fully aware of the firm’s quality
standards and adhere to these standards in the production of goods and services and be
fully committed.
Benefits of using ‘just-in-time’
o Reduced cost of storage

16
Management of Business Unit 2 Module 1

o Storage space free

o Fewer funds are spent on stock
o Emphasis on quality control among stakeholders
o Reduced wastage of resources and defect rates while improving customer satisfaction
Drawbacks of using ‘just-in-time’
o Difficulty in meeting sudden increase in demand of the final product
o No room for mistakes since minimum stock is kept
o Risky reliance on suppliers to maintain quality
o No benefit from discounts and economies of scale since larger amounts of raw material
might not be purchased
o If machinery breaks down then the firm is at a detriment since no stock is kept

Lean Production and Quality Management

Importance of quality
According to ISO 8402-94, quality is defined as the set of characteristics of an entity that give
that entity the ability to satisfy expressed and implicit needs. Quality measures the degree to
which a product meets or exceeds the desire of the consumer. Quality is normally measured in
terms of performance, reliability and durability.
It should be the desire of every firm to maintain quality at all times since defective products can
quickly ruin a firm’s reputation. Firms that maintain quality can gain a competitive edge over
their competitors. Customers also tend to become loyal to any product of high quality.
Dimensions of quality
o Performance – what is the product created for? Performance is assessed by using
measurable attributes so that each brand can be ranked objectively.
o Features – the characteristics of the product that are used to enhance its basic
performance. Consumers should be able to use the features of the product to make
judgments of quality and not just base these on their individual prejudices.
o Reliability – this is judged by the possibility of malfunctioning or breaking down within
a specific period of time. The most common measures of reliability are the average time
of the first failure, the average time between failures, and the failure rate per unit
produced.
o Conformance – this is measured against the defect rates in the factory and frequency of
service calls after the product is sold. It measures the extent to which the product’s design
and operating characteristics adhere to the established standards.
o Durability – this is the measure of lifespan expectancy of the product. It measures the
product’s life in terms of economic and technical dimensions. Technical durability refers
to the amount of use the consumer gets from the product before it deteriorates.
o Serviceability – this measures the speed, courtesy, capability and ease of repair of the
product. It includes the quality of the service personnel, the manner in which service
appointments are kept and whether or not servicing corrects the problem. The consumer
wants to be sure that the product has after-sale care is something goes wrong with it.

17
Management of Business Unit 2 Module 1

o Aesthetics – this is based on the judgements and preferences of the individual consumer,
hence making it difficult to please everyone in terms of quality dimension.
o Perceived quality – this is the perception of the consumer at the initial contact with the
product; i.e. what comes to mind the first time the product is seen.
Techniques for improving quality
Quality control and quality assurance
Quality control is the process of ensuring that the product meets its established quality standards.
The main objective is to ensure that products being produced and sold are free of defects. The
lower the defect rate, the lower the cost incurred by correcting the problem. High-quality
products will help the firm gain trust and loyalty of consumers who will be satisfied after their
usage. A good quality control system is one that involves regular inspection of the product and
correction of any defects found. The following concepts are essential to quality control:
o Zero defects – this is the production of products that are free of fault; it is usually used to
encourage employees’ quality of work by offering possible rewards.
o Quality standards – these are standards that are determined by independent firms to
ensure that consumer interests are protected.
o Quality assurance – this is a guarantee to maintain an agreed/established set of quality
standards. By doing this, the firm’s suppliers must be involved because the quality of raw
materials directly impacts the quality of products.
While quality control focuses on detecting defects once they have occurred, quality assurance
focuses on taking the necessary steps to prevent defect occurrences. Therefore, it attempts to
build quality into the system from the very start.
Benchmarking
This is another method of quality improvement where a firm identifies the best practices of
competing firms and implements the same to improve its own product. This method is a good
source as the strategies have been tested and proven by other firms in the industry.
The aims of a firm using benchmarking may include:
o Improving delivery time and frequency
o Proper waste management and disposal
o Inventory control management
o Improving consumer service
o Cost reduction
o Eliminating waste in the production process
The main steps followed in benchmarking are:
a) Identify the area for improvement – by doing this, the firm may gather information from
consumers and workers; this can be done through extensive market research or consumer
feedback cards or suggestion boxes.

18
Management of Business Unit 2 Module 1

b) Choose the right company – in this step, a company to be studied and assessed will be
chosen and secured by being contacted and establishment of the relevant restrictions.
Generally, the focus should be on best practices in terms of maintenance of standards and
quality and strategies used to improve performance.
c) Gather information – the firm should ensure that information collected is relevant to the
areas in need of improvement and is credible.
d) Analyse the information gathered – a comparison should be done between what the firm
is doing and what the benchmark company is doing. The analysis will assist the firm in
identifying the areas of the benchmark findings to implement.
e) Implement and evaluate the findings – the firm must now implement the findings of the
benchmarking exercise. Also, it should reassess its operations over time to establish
whether or not the policies that were implements as a result of benchmarking are
working.

Advantages of using benchmarking

o Brings about faster awareness of important innovations
o Usually cheaper than other quality improvement methods
o Reduction of waste and improved quality with proper implementation
o Improved competitive edge of the firm both locally and internationally
o Enables team building and employee involvement in the decision making process
o Gives the firm a better understanding of its consumers and how to keep them satisfied
Disadvantages of using benchmarking
o Searching for a suitable firm to benchmark can be a tedious process since not all firms
will want to share information
o Processes followed by one firm may not work for another
o May be expensive to obtain the needed qualified experts to make meaningful
comparisons
o Implementation of new policies may encourage resistance to change

ISO Quality Standards

The International Organisation for Standardisation (ISO) is a network of national standards
organisations around the world; most, if not all, CARICOM member states are member of the
ISO. The organisation has developed a number of ISO quality standards, such as ISO 9000
which deals with quality management.
ISO 9000 outlines the guidelines that firms should employ to improve their level of efficiency
and customer satisfaction. The main goals of ISO 9000 are to:
o Increase productivity
o Minimize costs

19
Management of Business Unit 2 Module 1

o Improve quality of processes and products

It focuses on the following principles:
o Focus on customers – organisations should try and respond to the needs of their
customers so as to improve customer satisfaction, resource allocation and efficiency.
o Good leadership – firms should ensure that a good team of managers are employed and
possess the requisite skills and ability to motivate their subordinates and minimise
miscommunication.
o Involvement of people – team working strategies should be employed to improve
employee morale and quality of work improvement.
o Process approach to quality management – activities and resources should be managed
together as this will hopefully reduce costs as a result of better use of resources,
personnel and time.
o Continual improvement – closely related to Kaizen.
o Factual approach to decision making – decisions should be based on analysis and
interpretation of data as this will enable the firm to make informed and statistically sound
decisions.
o Good supplier relationships – this will assist in improving the quality of raw materials.
Advantages of ISO quality standards:
o High level of consistency in performance
o Cost reduction
o Improvement in customer satisfaction
o Higher productivity levels and efficiency improvement
o Improvement of employee morale

Outsourcing
This is the process where firms subcontract some of their operations to independent service
suppliers. By doing so, the firm can then concentrates its resources on its core product.
Benefits of outsourcing
o The firm’s focus can be on its core products
o Usually results in cost savings, including labour costs
o Improvement in efficiency and quality
o Can boost productivity and competitiveness
o Usually leads to greater customer satisfaction
Disadvantages of outsourcing
o The firm’s financial success may be tied to that of another company
o It might be more difficult for the firm to maintain quality since it is not involved in the
production of some of its products

20
Management of Business Unit 2 Module 1

o Can become a potential source of conflict because some workers may be laid off
o Loss of managerial control since the outsource firm has its own management

Quality Circles
These are groups of lower-level employees who meet regularly to analyse and critically review
the design and production of a product. The team may also discuss production problems and
develop possible solutions to these problems. They are normally charged with a directive to
improve the quality of the firm’s product offering.
Objectives of quality circles include:
o Promotion of employees’ involvement
o Fostering better communication
o Engendering good leadership qualities
o Allowing workers to develop their problem-solving capabilities
o Improving productivity
Some of the main features of quality circles include:
o Decisions are made by compromise rather than majority rules
o Groups are usually small
o Members are not chosen, they volunteer their services
o It uses bottom-up approach
o Regular meetings are held to discuss issues
Quality circles can help to:
o Improve motivation in the workplace
o Promote continuous improvement
o Develop good leadership qualities among their members
o Improve communication between management and subordinates
o Reduce defect rates as employees become more aware of maintenance of quality
o Promote team working among employees

Kaizen or Continuous Improvement

Kaizen is based on the concept that product improvement should be a never-ending process.
Consequently, improvements should be made on a small and gradual basis over the product’s
life. A firm using this method of quality improvement will seek to continually improve its
machinery, production method, raw material and labour, among others.
The major assumption of this approach is that employees play a critical role in the maintenance
of quality; since they interact with the product they are able to identify areas of the production
process or the product itself that needs improvement.

21
Management of Business Unit 2 Module 1

The main features of Kaizen are:

o Small improvements are made continuously
o The workforce is regarded as being talented, skilled and usually knows more about the
product therefore they are able to suggest improvements to be made
o Suggestions are usually easier to implement since they come from the workplace
o Small improvements are less likely to require major capital investments
o Teamwork is often used to solicit suggestions for improvement and to maintain quality
A democratic leadership style should be adopted in order for the Kaizen approach to be
successful. Management and workers must be committed to the culture of on-going change.
Disadvantages of Kaizen
o Some of the changes that are requires cannot be done progressively
o The firm may incur short-term costs on a regular basis as it implements changes
o Success is heavily dependent on the culture of the organisation and leadership style of
management
o Employees may feel pressurised into continuously coming up with new ideas
o There is little room for stability since things are constantly changing

Research and Development (R&D)

In order to improve quality and satisfy their consumers, firms must strive to produce the best-
quality products. This is done through conducting constant research and developing the products
based on the findings of the research. R&D involves steps taken by a firm to improve either the
product itself or its production process. This is especially important in an industry that is very
competitive.
Research is concerned with the discovering and uncovering of new principles and ways to do
things, while development deals with the transformation of the research findings into the actual
improvement of the product or production process.
Advantages of R&D:
o May help to boost sales
o Extends the firm’s reach into new markets
o Can improve the firm’s reputation and brand
o Quality improvements
o Increased competitive edge
o Reduction in costs over time
o Improvements in the product and the value received by consumers
R&D is dependent on:
o The amount of financial resources available
o The desire and drive for long-term competitiveness

22
Management of Business Unit 2 Module 1

o The level of innovation in the industry

o The objectives of the firm
Lean Production
This method of production was developed to reduce wastage of resources by using as few
resources as possible in production. By doing so, the company is expected to save time, money,
materials and human effort while also improving quality and productivity.
The aim of lean production is to cut costs while increasing efficiency. To do so, the firm needs to
ensure quality is maintained at all times throughout the organisation.

Total Quality Management (TQM)

TQM ensures that quality is maintained in all areas of the organisation in order to meet
customer’s expectations. It is people focused and aims to continually satisfy the firm’s
customers. Objectives of TQM include:
o CUSTOMER SATISFACTION
o Performance enhancement of quality, speed or response, cost and flexibility
o To foster a customer-focused organisation instead of one focused on functions
o To create an organisation that is people focused and involves stakeholders in all its
activities
o To produce a product with zero defects
o To empower workers to work in teams focused on quality improvement
Principles that can be used to improve total quantity:
o Creation of a purpose consistency with a view to improving quality and customer
satisfaction.
o Adopting a philosophy of leadership to promote change.
o Cease using inspection as a means to achieve quality and instead build quality into the
product from the start.
o Establishing long-term relationships with suppliers based on their performance and not
price.
o Constantly improving quality, production and service provision, with the aim of reducing
costs.
o Implementing on-the-job training.
o Changing the focus of leadership to one that promotes quality instead of production
numbers. It is expected that the improvement of quality will do that in productivity.
o Eliminating fear from employees so that they can work effectively and hence increase
productivity.
o Breaking down barriers among departments to encourage teamwork and synergy while
also reducing conflict among the varying departments.

23
Management of Business Unit 2 Module 1

o Eliminating criticism of workers and unrealistic targets and slogans that are not supported
by the relevant resources to accomplish them.
o Eliminating work standards; such as quota for factory workers and numerical objectives
for people in management.
o Removing the barriers in the workplace which prevent workers from taking pride in their
work; such as performance appraisal where workers are assessed based on their output.
o Educating workers and encouraging self-improvement; therefore, improving quality.
o Encouraging everyone in the organisation to work on the transformation process; in order
to be successful, there must be a smooth transition from top management to other
workers.
The main features of TQM are:
o Consumer inputs
o Zero defects
o Teamwork/Quality circles
o Control strategies
o Company culture and policies
o Quality chains
The role of the customer in TQM are:
o Customers tend to purchase the product they believe has the highest quality and will give
a monetary value.
o It is believed that customers are the best judge of the effectiveness of the firm’s product.
o Consumer knowledge should be integrated with the objectives of the firm so that a
quality good or service can be produced.
The success of TQM is dependent on the following:
o Involvement of trade unions in the planning process
o Strong sense of job security
o Constant employee training
o The firm’s financial resources
o Employee involvement in the decision-making process
Advantages of TQM
o Promotes quality improvement and achievement of zero defects
o Results in the continuous improvement of production and processes
o Greater customer satisfaction
o Improved competitiveness
o Helps companies identify areas of waste and inefficiencies and help to correct them
Disadvantages of TQM
o Expensive to implement
o The entire business must be involved

24
Management of Business Unit 2 Module 1

o Management may have unrealistic expectations

o May lead to labour-management problems

Productivity
Definition
This is a measure of how well a business is using its resources. It is the amount of output that is
produced per unit of input (land, labour or capital). It results in an increased output due to
producing more without using more inputs or resources.
Production refers to the amount of output that is being produced; productivity refers to output per
unit.
𝑡𝑜𝑡𝑎𝑙 𝑜𝑢𝑡𝑝𝑢𝑡
Productivity =
𝑡𝑜𝑡𝑎𝑙 𝑖𝑛𝑝𝑢𝑡

The level of productivity is important to stakeholder for the following reasons:

o Productivity is used to assess how well the firm is using its inputs to produce output
o It gives managers the opportunity to plan, control and improve efficiency within the firm
o Workers may receive higher salaries and incentives, hence improving motivation
o Can result in lower production cost for the firm
o More profits generated from the firm will be shared among shareholders
Factors affecting productivity
Internal Factors
o Labour-management relations – this is the relationship existing between management
and the workforce. A good relationship can encourage productivity improvements.
o Required investor returns – people generally enter into business to make a profit. A
required return on investment is the minimum return that the investor requires in order to
purchase an asset or make an investment.
External Factors
o Technology – regular intervals of changes and improvements in technology can benefit
businesses by enabling an increase in output without using more inputs. It can also
minimise wastage of resources, and increase the level of output per unit of input.
o Level of pricing – change in factor of production prices (land, labour or capital) will lead
to an inverse change in productivity.
o Regulations and laws – regulations such as import restrictions and anti-pollution laws
usually cause an increase input prices, hence causing productivity to fall. On the other
hand, laws and regulations that encourage firms to improve working conditions can
increase the firm’s productivity; this therefore increases the level of motivation and hence
work ethics and productivity.

25
Management of Business Unit 2 Module 1

o Market demand – product demand levels and productivity levels have a direct
relationship. In trying to meet high demand, firms will seek to increase its productivity by
possibly employing more production-improving technologies.
o Competition – lack of competition hinder productivity improvement.
o Quality of the labour supply – the more educated and qualified the worker is the more
likely it is to improve productivity.

Methods of improving productivity

o Increasing output as costs remain constant (i.e. without employing any additional
resources)
o Reducing costs while maintaining the same level of output (by employing cheaper labour
or materials)
This can be done by adopting some of the following methods of improving productivity:
o Good working environment – safe and convenient environment, good relations, and
reduction/removal of work hazards will enable workers to work comfortably and
productively.
o Profit-sharing plans – workers are promised a share of the company’s profits if the firm
does extremely well, hence encouraging them to put in extra effort in carrying out their
responsibilities.
o Technological improvements – reduced waste, improved speed and quality in
production and increased output with the same amount of input.
o Training – improved speed, work habits, quality and productivity, and reduction in waste
as workers acquire new skills.
o Staff participation in decision making – empowerment and motivation from staff
involvement will result in promptness and efficiency in work.

Project Management
Project management is vital to a firm’s success. In order to minimise loss and wastage of
resources, it is advised that the firm’s projects be carefully managed on a step-by-step basis.
Critical Path Analysis (CPA)
CPA is also referred to as critical path method or network analysis.
It is a network map of project/activity that traces the sequence of tasks from start to finish and it
is used to schedule a complex series of related tasks. This sequence of activities is important
because any change in an activity may affect the entire network. Therefore, the assumption is
made that project activity times can be estimated accurately without varying.
CPA allows a business to:
o Forecast the length of time needed for the completion of a project

26
Management of Business Unit 2 Module 1

o Monitor the progress of the project, while identifying delays

o Identify the resources needed for the project
o Highlight activities where timing is critical
A node is used to show the start or end of an activity and is divided into three sections:
EST is the earliest time an
activity can start.
LFT is the latest time an activity
should end to prevent delays in
the next activity.

Lines are used to represent each activity.

Total float is the maximum increase in time that an activity can take without causing an increase
in the overall duration of the project.
Total float = 𝐿𝐹𝑇 − 𝑑𝑢𝑟𝑎𝑡𝑖𝑜𝑛 − 𝐸𝑆𝑇
Free float is the maximum increase in the time taken by one activity that will not alter the floats
available to other activities.
Free float = 𝐸𝑆𝑇 𝑎𝑡 𝑒𝑛𝑑 − 𝑑𝑢𝑟𝑎𝑡𝑖𝑜𝑛 − 𝐸𝑆𝑇 𝑎𝑡 𝑠𝑡𝑎𝑟𝑡
The dummy activity is represented by a dotted line as it uses no resources and carries no value;
i.e. it has a duration of zero.
Advantages of CPA
o Helps businesses to identify resources needed and when
o Management can decide which activity should be closely supervised in order to prevent
delays
o It is useful for the scheduling, controlling and monitoring of projects
o It minimises stock level and equipment costs, since items and equipment can be
purchased/rented when needed
o It helps firms to be more efficient since wastage is minimised
o Management can identify activities with float time

27
Management of Business Unit 2 Module 1

Disadvantages of CPA
o Too many activities may make it difficult to construct a network diagram
o Estimates made may be incorrect, hence invalidating the entire project
o Can be complex and complicated, especially for larger projects
o Unforeseen events (weather) may delay the project
o The scheduling of personnel and the allocation of resources cannot be represented on the
network

Decision Trees
The decision tree is a graphical representation of a series of interrelated sequential decisions. It is
used to trace alternative outcomes of decisions and compare each result before a decision is
made. It involves the use of squares and circles (nodes) and branches. A square (decision node)
is used at points where a decision has to be made regarded the next course of action to take. A
circle (chance node) is used when a course of action may lead to several outcomes.
To aid the decision-making process, managers will also look at the probability of each outcome
happening. Probability is measured between 0 and 1; 1 being the highest certainty of an activity
occurring. In addition to the probability of each course of action, the expected value should be
calculated as: 𝑟𝑒𝑑𝑖𝑐𝑡𝑒𝑑 𝑝𝑟𝑜𝑓𝑖𝑡 (𝑙𝑜𝑠𝑠) × 𝑡ℎ𝑒 𝑝𝑟𝑜𝑏𝑎𝑏𝑖𝑙𝑖𝑡𝑦 𝑜𝑓 𝑖𝑡 𝑜𝑐𝑐𝑢𝑟𝑟𝑖𝑛𝑔 .

Advantages of decision trees

o Managers can think about alternative courses of action
o It allows managers to use mathematical tools to highlight the best course of action
o Managers can quantify the effect of a decision
o Suitable for decisions that involve a series of interrelated steps
o Helps managers to consider the risks involved in decision making.
Disadvantages of decision trees
o The validity of the decision tree depends on the accuracy of the estimates made
o Not all alternatives are identifiable while preparing the diagram

28
Management of Business Unit 2 Module 1

o It is subject to time lag which may mislead decisions in the future

o The diagram may become very larger and complex where numerous alternatives are
possible

29