Você está na página 1de 159

Nature and Scope of

UNIT 1 NATURE AND SCOPE OF Operations Management

1.0 Introduction
1.1 Unit Objectives
1.2 Operations Management : A system's Perspective
1.3 Operations Management Function
1.4 Challenges in Operations Management
1.5 Competitiveness and Operations Management
1.6 Summary
1.7 Key Terms
1.8 Questions and Exercies
1.9 Further Reading and References.

1.0 Introduction
Production is one of the fundamental functional area of any business. A business
organization exists to satisfy customers through offering products or services. These
products or services can not be offered without making or developing them in a
production system. "A production system is one where value is added to raw materials
through successive processing to convert it in a desired goods or services." In a
manufacturing environment mechanically or chemically, raw material is treated to change
the shape of original input as well as to get desired functionlity. Similarly, in a service
environment, service provider offers services to customer using equipments and
knowledge / skills of provider itself. It should be noted that the finished product of one
manufacturing unit does not always furnish a ready-made product for the ultimate
consumption. In a chain of manufacturing activities, the finished product of the one
organization sometimes becomes the raw material or component for the manufacturing
firms falling next in the sequence.
Operations management is a systematic approach to address issues in the
conversion process of inputs into useful, revenue- generating outputs.

1.1 Unit Objectives

After studying this Unit, you should be able to understand-
 Basic meaning of Operations Management
 Systems perspective of Operations Managment
 Functions of Operations Management
 Challenges of Operations Management
 Role of Operations Management in providing a competitive advantage to
Production & Operations
the Company Management : 1
Nature and Scope of
Operations Management 1.2 Operation Management : A Systems Perspective
Operations Management is best understood using systematic approach. It involves
NOTES understanding the nature of issues and problems to be studied, establishing measures
of performance, collecting relevant data, using scientific tools, techniques, and solution
methodologies for analysis, and developing effective as well as efficient solutions to
the problem at hand.

Inputs such as material,

Labour, Capital, Energy,
 Transformation process  Output

Method etc. (Goods / Services)

(Value addition steps)

Fig. 1 : Operation System

Basic inputs as shown in figure 1, in a operating system are labour, material and
Second important element of this system is processing unit. This includes the
various activities that an operating system undertakes to convert the raw material into
useful products for customers. This part includes activities such as product and process
design, purchasing and inventory control, operations planning and control, material
and capacity planning etc.
The output of operation system consists of goods and services. An organization
that manufactures two - wheelers will provide many variants of the two- wheelers. On
the other hand, a hair - dresser may provide various styles of hair design. In several
manufacturing organizations, services are also offered in the form of after- sales support
and warranty.
Finally, an operation system also has feedback loop. In any system, the feedback
loop serves the purpose of identifying the deviation paths and highlighting the areas
that need immediate correction. In a common operation system three feedback loops,
namely, quality management, maintenace management, and process improvements are
available. These activities provide checkpoints to identify the areas requiring
improvement and ensure that corrective measures are indeed taken.
Demand of goods and services plays inportant role in design of operation system.
From a systems perspective, the demand is an exogenous variable. However, planning
for production, and capacity is directly depended on demand data. Estimating future
demand of products with respect to different time horizon is an important aspect of
operation management.

1.3 Operations Management Functions

Operations management (OM) is an intergal part of all types of organizations. To
understand various functions of OM, following classification scheme can be used.
(a) Design Functions :- Design functions prepare configuration of the operations
Production & Operations system and provide an overall framework under which the operations system will
Management : 2
function. Various design functions can be product design and development, process Nature and Scope of
design, quality management, location and layout of facilities and capacity planning. Operations Management
(b) Operational Control Functions :- Functions of forecasting, production planning
and control, supply chain management, maintenance management are some of
the control functions of oerations management.
Most of the design issues are discussed in control functions also. However
context may differ in two. Design issues are often strategic in nature while
operational issues are tactical in nature.
Take example of capacity planning. As a design issue, we are interested to
know capacity requirment for meeting targeted business plans but as a control
issue the objective is to match the requirement to the available capacity.
(c) Long Term Functions :- Certain operations management functions are rare.
Decisions with respect to them is made once every five to ten years. Where to
locate a new plant is one such decision. Most of the design related decisions are
made on long term horizon.
(d) Short Term Functions :- Short term decisions can be made in fixed cycles of one
year. Aggregate production planning, master production scheduling etc. are done
once or twice in a year while operations scheduling are done for very short period,
may be one or two weeks.

1.4 Challenges in Operations Management

Challenges in Operations management arise as a result of need of efficient and

effective systems. Efficient systems are required for making cost effective and sustainable
processes. Effective systems are required to support customer requirements.
Rising customer expectations, technological developments, and growing awareness
about environmental issues have given new challenges to the field of operations
Some of the possible future challenges that operations management may have to
face are as follows :
(a) Challenges Due to Marketplace Development
Marketplace is now demanding customized products in place of mass marketed
products. This has created a challenge for operations management to develop systems
which are capable to produce wide varity of products at low cost.
Secondly, specially in service industry, customer is becoming partner - often
unwillingly. For example in a self serving restaurant customer has to pick his order on
a beep. This trend is coming to manufacturing also giving pressure to operations
(b) Challenges Due to Economic Reforms
This is particularly applicable in Indian Scenario after 1991's economic reforms.
Before the economic reforms, Indian Industry enjoyed undue advantage due to high
import tariffs. In some cases tariff rates were as high as 350 percent. Among the many Production & Operations
Management : 3
Nature and Scope of changes effected, tariff reductions demanded a basic shift in the approach of business.
Operations Management "Cost plus some margin is the price" was approach before economic reforms. After
reforms prices are guided by market forces. Subtract some margin from this price to get
that cost under which a business has to deliver the products. To match the offerings of
NOTES overseas players, Indian companies were also expected to improve their performance
with respect to cost, delivery, quality and service.
(c) Challenges Due to Factors of Production
Factors of production such as managing an increasingly diverse workforce,
shortage of skilled workers, availability of raw materials from sustainable sources are
challenges to modern systems of operations management.
(d) Challenges Due to Technological Environment
Information technology is one of the most important enabler for developing and
easy implementation of tools such as ERP, computer aided manufacturing, Flexible
manufacturing system etc. Now the challenge is investing in right technology and
mastering it. It is difficult for any small and medium company to implement regularly
changing technology.
(e) Challenges Due to Regulatory Environment
Global pressure of intellectual property rights protection has created a pressure
on developing nation to keep their systems in alignment of requirement of these legal
provisions. Similarly new financial reporting systems, environmental protection laws
are giving challenge to operation managers which are new to this field.
(f) Challenges Due to Innovative Business Models
With the advent of new technology, particularly IT and related e-commerce, new
business models are emerging. These new business models such as e - choupal of ITC,
flipkart have posed new challenges to operation managers with respect to supply chain

1.5 Competitiveness and Operations Management

Operations management is not merely the conversion process that takes place on
the shop floor, but a large number of activities before and after it, till the product leaves
the organization. Thus operations is a more comprehensive activity and includes
activities, such as materials management, equipment and tooling, material handling,
planning, information systems and human resources. Each of these activities is important
and must be done well to achieve operational excellence. For continued success in a
competitive market, continuous improvement in all areas of activity is essential.
Every organization has a strategic intent. This can be providing products at low
cost or to provide high degree of customization. Some organizations have combination
of these intents. For example Wall- Mart offers wide variety of products at relatively
low cost. The strategic intent influences the overall corporate strategy of an organization,
which in turn, shapes its operations strategy. Operations strategy plays key role in
achieving a competitive advantage for the organization. Japanese organizations got
Production & Operations tremendous success because of clear operations strategy focussed on quality. Chiness
Management : 4
organizations are giving tough competition to Indian companies because of low cost Nature and Scope of
strategy. Clearly a focussed operations strategy helpes organizations to gain Operations Management

1.6 Conclusion

Operations management has emerged as one of the most important functional

activity in any organization. Operations management is an important source of
competitiveness to the organization. Traditionally operations management was
responsible around "QCD", which stands for good quality, low cost and quick deliveries.
In changing enviornment, some of the challenges faced by operations firms include the
need to address increased competition due to economic liberalization and globalization,
growing aspirations of customers, rapid technological advances, and emerging
envioronmental concerns.
As customer aspirations grow, organizations must find ways and means of dealing
with the proliferation of variety. Operations management practices need to be developed
for this purpose. In the future, addressing emerging enviornmental concerns through
better operations practices will become a necessity.

1.7 Key Terms

Operations Management : It is a Systematic Approach for Converting inputs into

useful, revenue oriented outputs.
Strategic Decisions : Decisions about products, processed and facilities. These decisions
have long term Significance.
Operating Decisions : Decisions about planning production to meet demand.
Control Decisions : Decisions related to day-to-day activities for planning and
controlling operations.

1.8 Questions and Exercises

(1) What is operations management? What is the systems view of operations

(2) Define operations processes and explain its key components. What challenges do
operations manager faces in managing processes?
(3) What is the role of operations in an organization? How operations is related to
other functions in the organization?
(4) What are the challenges of operations management in coming times? Discuss
with examples.
(5) What do you mean by competitiveness? How operations management helps in
achieving this competitiveness.
(6) What are the different functions of operations management? Production & Operations
Management : 5
Nature and Scope of
Operations Management 1.9 Further Reading and References


Production & Operations

Management : 6
Types of Characteristics of

2.0 Introduction
2.1 Unit Objectives
2.2 Product Strategies
2.3 Product Life Cycle
2.4 Production System Types
2.4.1 Process Foucssed System
2.4.2 Product Focused Systems
2.4.3 Production of Stock Vs. Prodcution to Orda
2.5 Distinctive Features of Service Systems
2.6 A Classification of Service Systems
2.7 Summary
2.8 Key Terms
2.9 Questions and Exercies
2.10 Further Reading and References.

2.0 Introduction

We use a wide variety of products from sugar, salt, petrol, diesel, power to jewelry,
pizza, mobile phones, bikes and cars. With this large variety of products, it is
unreasonable that the production systems that manufacture these products could have
common characteristics – the materials vary widely; the sizes, shapes, and weights are
diverse; and the applications and uses are equally variegated. But if there were no
common characteristics among systems for diverse products- if each system were entirely
unique- we could learn nothing transferable by studying productions management, and
such is not the case. By examining the nature of the product demand in its growth from
introduction to maturity and by relating it to the competitive criteria of cost, quality,
on-time delivery, and flexibility we can develop logical types of manufacturing systems
that match marketplace needs.
This unit discusses different types of production systems for manufacturing
organizations as well as different types of service organizations.

2.1 Unit Objectives

After studying this Unit, you should be able to understand-
 Different types of production system for Manufacturing
Production & Operations
 Different types of systems for service Organizations Management : 7
Types of Characteristics of  Product strategies with respect to volume vs variety
Manufacturing Systems

2.2 Product Strategies (Volume Vs Variety)

Products which we use can be seen on a broad spectrum, as shown in figure 1
ranging from highly customized to highly standardized. It could be considered as a
continuum (volume- variety). One extreme end of this continuum shows very high
variety and hence very low volume, may be each product is unique. The other extreme
is that of low variety but very high volume, may be single variety only. Variety requires
skilled technicians, general purpose machines and complex planning. High volume
require automation, mass-producing special machines and simple planning.

Highly High Variety Low Variety Highly

Customized Low Volume High Volume Standarized
e.g. Designer Products Products e.g. Salt

Fig 2.1 : Spectrum of Product Types

As shown in figure 1, on left extreme, we might have products that are custom in
nature; that is , products especially designed to the needs of an individual customer.
Individual customer may be a person or an institution. Examples are an individual
house, power plant etc. These products are mostly make to order and not available
from inventory because it is one of a kind. The emphases in the custom product strategy
are on uniqueness, dependability of on-time delivery, quality, and flexibility to change
the production process in accordance with changing customer preferences. Cost or
price is not an important criterion. Higher profit margins are normally possible in custom
made products.
At the right extreme are highly standardized products. Products of this type are
available from inventory. They are “off-the-shelf” or make to stock products because
each unit is identical and the nature of demand is such that availability and cost are
important elements of competitive strategy. There is very little product differentiation
between producers, and there are limited options available in products. As we are moving
towards marketing dominated era, we do not have very good examples of highly
standardize products. However products such as sugar, salt, stainless steel are some
close examples. You get different types of salt- low sodium, high sodium, sugar- single
refined, double refined, sugar cubes, sweeteners without sugar, branded and non branded
sugar, so some varieties are coming up in these products also. Important managerial
concerns for highly standardized products are dependability of delivery and low cost.

Production & Operations

Management : 8
Conventional framework of Product - Process Matrix Types of Characteristics of
Manufacturing Systems
Process Job shop-Jumbled None
Flow, Low volume-Low
Batch-Disconnected flow,
Multipal products, low volume NOTES
Assembly line-connected
line flow Few Major
Products- High volume
flow, Higher
volume, high


Between the extremes of custom designed product strategies and highly

standardized product strategies, we have mixed strategies that are sensitive to variety,
some flexibility, moderated cost, and dependability of supply. In these situations quality
of products is important. Multiple size and types of products are available, possibly
from inventory or fairly low volume, but some, such as automobiles, are available in
high volume. The great majority of products available today are available in this middle
category. Most consumer products are available from inventory. Most producer goods
are available by order and may be subject to some special design modifications to meet
individual needs, though the basic designs are quite standard.

2.3 The Product Life Cycle

Figure 2 shows different stages in life of a product. Normally, as shown in figure

2, a product has four distinct phases in its life. These are introduction, growth, saturation
or maturity and decline. (Students can refer modules of Marketing Management for
in-depth knowledge about product life cycle).

Black & White

Utensils TV

Sales Phones



Industrial Maturity Decline

Stage of development

Fig 2.2 : Product Life Cycle Production & Operations

Management : 9
Types of Characteristics of The product life cycle curve is particularly important in formulating marketing
Manufacturing Systems strategies for pricing and market penetration. Of course, one of the objectives in
marketing strategy is to find ways to renew the life cycles of products that have matured
or are in a state of decline. For example, there has been a market for calculators for a
NOTES long time. It was satisfied by mechanical calculators for many years. But the mechanical
calculator was replaced by the electromechanical calculators, then by the electronic
calculator, the most recently by the pocket electronic calculator. Each generation of
calculators has had its own product life cycle.
We should note that there are some custom products that are mature but do not go
through the phases we have discussed. For example, there is a market for custom-built
homes. Architects design such homes and contractors build them to specifications. The
industry involved is mature in that it regularly produces custom-designed homes and
has refined the system, but if the custom home were produced in volume, it would no
longer be a custom home.

2.4 Production System Types

The basic managerial strategies adopted for the productive system must be in
accordance with the product strategies. Obviously, it would be inappropriate to use a
laboratory facility for testing purpose to make commercial products. Again, we should
think in terms of alternative strategies of the extremes as well as for the middle ground.
2.4.1 Process- Focused System
Process focused system is used for making customized products. A production
system for custom products must be flexible. It must have the ability to produce according
to customer or client specifications. For example, a tool room machines tools as per
requirement of a particular machine. The equipment and personnel must be capable of
meeting the individual component specifications and of assembling the component in
the special configurations of the custom product.
Physical facilities in the plant are organized around the nature of the processes,
and personnel are specialized by generic process type. For example, in a machine shop
we might expect to find milling machine departments, lathe departments, drill
departments and so on. The flow of the item being processed in such productive systems
is dictated by individual product requirements, so the routes through the system are
variable. Figure 3 shows a Process focused system in a machine shop.

G Driling Shaper Milling LA

rin B B THE
der 2
Bro A
a T
ching E1

Fig. 2.3 : Process Focussed System

Production & Operations
Management : 10 The nature of the demand on the productive system results in intermittent demand
for the system’s facilities and each component flows from one process to the next Types of Characteristics of
intermittently. Manufacturing Systems
The physical arrangement of the departments as shown in figure 3 by generic
type is often called a “job shop” because it is designed to accommodate the needs of
individual job orders.
2.4.2 Product-Focused Systems
In a product focused manufacturing environment, processing is adapted completely
to the product. Under the extreme conditions of high demand for standardized products,
the production process is integrated and makes use of mechanization and automation
to achieve standardization and low cost. The nature of the demand on the productive
system that produces high volume, standardize product results in continuous use of the
facilities. Also the material flow may be continuous, as in petroleum refining, or
approaching continuous flow, as with automobile fabrication and assembly. Because
of the high volume requirements of such systems, special processing equipment and
entire dedicated producing systems can be justified as a productive system strategy.
Individual process are physically arranged in the sequence required, and the entire
system is integrated for a single purpose, like one giant machine, thus, continuous
systems have a product focus. Inventories of standardized products may be an important
element of production as well as marketing strategy. Figure 4 shows an example of
product focused system involving flow of product from six machines arranged in series.

Row Material
Receving M/c1 M/c2 M/c3

Finished Product
Exit M/c6 M/c5 M/c4

Fig. 2.4 : Product Focussed System

Between the two extremes of process focused and product focused systems, we
have systems that must deal with low volume multiple product and relatively high
volume multiple products. The low volume multiple product situations usually involve
a process focused system like that shown in Figure 3 but produced in batches. This
allows certain economies of scale in comparison to the job shop system, which is
designed to deal with custom products.
The high volume multiple product situation is likely to employ a mixed production
strategy that combines both the process focused and product focused systems as
illustrated in Figures 3 and 4. In manufacturing, part fabrication is often organized on
a batch intermittent basis and final assembly is organized on a line or continuous basis.
Because parts fabrications output volume may be substantial but not large enough to
justify the continuous use of facilities, parts are produced in economical batches, and
the resulting inventories provide an important producing strategy. On the other hand,
the nature of assembly makes possible continuous lines dedicated to certain products.
2.4.3 Production to Stock vs. Production to Order
Production & Operations
One important consideration affecting selection of the process is that of making Management : 11
Types of Characteristics of products first for keeping in the warehouse for selling or receiving an order first from
Manufacturing Systems the customer and then start making the product.
Products which are standard, having high demand on a regular basis are fit cases
for to-stock policy. This policy offers better service as waiting time for product is
minimum. These products are inventoriable. As inventories are kept, risk of being
obsolete is there. This risk is even more in the case of perishable products and short
shelf life products.
Produce-to-order is customized producing where the manufacturing process
follows the receipt of customer’s order. A to-order policy offers product design flexibility
to customers, it might minimize the risk associated with carrying inventories, it might
allow a closer control of quality, and so on. But there is a waiting time in this case. The
time is proportional to the lead time of the operational process.
The choice between a to order or to stock inventory policy does not necessarily
depend on whether a product focused or a process focused physical system has been
adopted, for example, one might think that the auto industry, which use a product
focused system, would certainly be a to stock producer. But this has not been the case.
Each auto is produced for a specific order from a customer or a dealer who has specified
the options desired.
Therefore, we have the possibility of two types of systems, product focused or
process focused, in combination with two possible finished goods inventory policies,
to-stock or to-order,
A reason for emphasizing to-stock and to-order inventory policies is that the
management systems for planning and controlling production, scheduling, and inventory
policies are very different, depending on positioning with respect to market. A stock
policy results in each item being indistinguishable from the others, so planning and
controlling systems can deal with all like items in the same way. A to-order policy
means that each order must be controlled separately in a much more complex way; we
must be able to respond to individual customers concerning the progress of an order, to
quote delivery dates, and to control the progress of each order through the plant.
In practice, there may be a combination of both to stock and to order operations
because many organizations actually engage in a mixture of product market situations.
Consequently, it is important to realize that even though outputs may appear similar on
the surface, very different managerial procedure are usually necessary because of the
different policy contexts in which the products are produced.

2.5 Distinctive Fretures of Sevice Systems

Services are integral part of economic development in any country. Rather over a
period, share of services in GDP is increasing (see table 1).

Production & Operations

Management : 12
Table 1: Growth in Service sector (2001-2011) Types of Characteristics of
Manufacturing Systems
Share of services sector as a percentage of GDP

2001 2010 2011

INDIA 50.1 56.8 58.3

USA 77 78.3 78.4

China 40.6 41.9 41.7

Japan 70.6 69.9 70.5

Germany 70.0 70.8 70.00

(Source: Planning Commission of India, accessed from http://indiabudget.nic.in/

es2012-13/echap-10.pdf on May 27, 2013)
In India itself more than 50% GDP is coming from services in 2011. India was
known as agrarian economy but share of agriculture and manufacturing is just around
40 percent in GDP. So it is important to understand nature and characteristics of services
with respect to operations management.
The key distinction between service and manufacturing systems is that services
are intangible outputs that are consumed in the process of their production. Services
cannot be stored and only follow to-order approach. The technology and process for
supplying the service can differ significant from one industry in the service sector to
another. Further, within the same industry- for example, the restaurant industry- there
can be vast differences in both the supply technology and the desired outputs.
The inputs to a service productive system are the consumers themselves. The
productive process that transforms the inputs into outputs consists of labour, technology,
information, and the like. The output of such a system is the altered state of the consumer,
for example, a cured patient, a transported traveler, or an informed client. The operations
manager can control the design and mix of the productive process to meet customer
The point of contact for a customer with product, in a conventional manufacturing,
is limited to the retail end. In the production of tangible goods, such as automobiles,
soap, or beer, customer contacts product after actual manufacturing has been completed.
In the design, planning and control of the associated manufacturing process, the
preferences of consumers are important, but the customer’s actual presence is not.
However in current concepts like co-creation, companies are trying to increase the
contact of customer in early stages of production and design.
Significant manufacturing efficiencies and productivity growth has been witnessed
in the past 100 years. For example, the number of TVs produced per worker has increased
a hundred fold since the advent of the TV industry. This has undoubtedly decreased the
cost of TVs, making them affordable to virtually anyone with moderate means. In the
same time span, however, productivity in education may not have even doubled, despite
the significant advances in information transmission technology. Therefore, without
public subsidy, quality education would be affordable only to those with extensive Production & Operations
Management : 13
Types of Characteristics of means. The key distinction is not that the TV maker now works faster than the teacher
Manufacturing Systems but rather that the direct customer contact required in education limits regular growth
in the productivity without compromising the quality of the service delivered. Gradual
increases in the cost of education are not the result of administrative inefficiencies but
NOTES are intrinsic to the nature of the services provided. An operations manager or policymaker
who views progress in terms of cost reduction would likely be frustrated in the field of
educations. Instead, the emphasis should be on the quality and accessibility of education
and on education’s contribution to productivity growth in other sectors through well
trained engineers, managers, or physicists.
However, not all services require such a high degree of customer contact. At the
other extreme is the telephone industry, which requires little direct customer contact
except for operator assisted telephone calls and directory assistance. In this industry,
the cost of the service has steadily decreased while quality improvements have been
consistently achieved over time. The productivity growths documented in the telephone
industry are large in comparison to those attained by virtually any manufacturing
institution. Since considerable insights into the workings of various industries within
the service sector of our economy can be provided by using direct customer contact as
a variable, we will use it as a primary feature of classifying service systems.

2.6 A Classification of Service Systems

The service sector does not consist of a homogeneous group of services. The
industries within the service sector are too heterogeneous for a common frame of
analysis. We will use here a classification scheme proposed by Baumol (1984) with
some modifications. The services can be classified into four categories:
1. Stagnant personal services
2. Substitutable personal services
3. Progressive services
4. Explosive services
Stagnant Personal Services
These services frequently require direct contact between the customer and the
service provider. Some examples are haircutting, live artistic performance, psychiatric
counseling, and teaching. Since the quality of such a service is highly correlated with
labor time, it is difficult to realize significant productivity gains for these services
without an appreciable reduction in quality. It seems evident, for instance, that the
amount of time required for a haircut cannot be decreased substantially without some
drastic implications. These services offer low innovations potential and are difficult to
The challenge in managing stagnant personal services is to improve their
effectiveness through better management. A substantial gain in productivity in the
supporting activities necessary for providing the service can often be realized. For
example, copying facilities, overhead projectors, and computers have all contributed
to improving the productivity of teachers. Even live artistic performance have benefited
Production & Operations
Management : 14 from jet travel, which has reduced the total number of artist hours performance
considerably even though actual rehearsal and performance time remains constant over Types of Characteristics of
time. Manufacturing Systems
Although productivity gains are minimal in stagnant personal services, the
operations manager has several options for strategically placing the service that are
consistent with corporate goals. All haircutting shops, for instance, are not alike. One
may emphasize low cost with little customization, whereas another may emphasize
customization and charge a higher price. Both firms may be successful if managed
well, as they cater to different segments of the market.
Substitutable Personal Services
These services also require direct personal contact, and they have characteristics
similar to stagnant personal services. However, it is possible to substitute for these
services with technological or other alternatives. An example would be the services of
a guard that can be replaced by electronic surveillance systems. In the twenty first
century, we have seen ovens, washers and dryers, and other household appliances
substituted for personal servants. Some types of teaching, such as real estate licensing
course work, are now conducted using cassettes, tapes, and videos, and the demand for
the live instructors has decreased correspondingly.
A great leap in productivity in substitutable personal services is provided by
technological innovation. For example, electronic mail may improve the productivity
of the mail delivery system manifold. Television provides access to millions of people
of special events that can be viewed in person by only a few thousand.
It should be noted that while the substitutes for personal services are often less
costly, they are often also inferior. A personal cook cannot be compared with an
assortment of kitchen devices that make cooking easy. Similarly, watching a concert or
a sporting event on TV is not the same as the live performance.
Progressive Services
These services have two components. One component requires little labor and
considerable cost reductions are possible with it. The second component is highly labor
intensive and is much like stagnant personal services. An example is computation service.
In a simplified aggregate view, computation services can be conceptualized as
consisting of hardware and software. The cost of hardware per computation has declined
steadily; conversely, the cost of software has risen. This is because software is produced
by human labor and offers limited productivity growth.
Another example is television broadcasting, where the two components are the
transmission and the production of a program. Transmission cost have steadily decreased
with advances in the electronics and space industries. However, the production of a
television program, is highly labor intensive and consequently, the associated cost
continues to increase. Research and development can also be thought of as consisting
of two dichotomous components: equipments and human thought.
Progressive services can exhibit phenomenal productivity growth and cost
reductions initially. This is due to the relatively important contribution of the first
technology intensive component. For example, computer hardware contributes
significantly to computations cost; thus, decreases in hardware cost per computation Production & Operations
Management : 15
Types of Characteristics of lead to overall cost educations. Since the costs per unit of output for the second, labor
Manufacturing Systems intensive component are increasing, the decline in total cost cannot be sustained for
long periods. In this sense, productivity growth is self-extinguishing. This happens
because, in due course of time, the relative contribution of the second component exceeds
NOTES that of the first component. The stagnant nature of the second component dampens
productivity growth.
Progressive services pose a special challenge to operations managers, as the
management of the two components of the service will require careful coordination.
The rational expectations for these services should not be guided by the initial cost
decline and productivity growth but by a longer range view. In the long run, the emphasis
should be on improving the performance of the service system as overall costs will not
be likely to go down. This has been demonstrated in electronic libraries, where the
quality of the service has improved but expected cost savings have not occurred.
Explosive Services
Explosive services involve virtually no contact between customers and production
labor. Telephone communications is one example of such a service. These services
offer high innovation potential as technological advances decrease cost substantially.
In telephone communications, the technology has progressed from open wires to
microwaves, coaxial cables, satellite transmissions, and digital technology. The
productivity growth has been connections as clear as those for local city calls. In the
future, services such as airlines reservations, banking, and shopping may be conveniently
conducted using home computer. These services better experience and explosive growth
in productivity commensurate with associated technological advances. The benefits to
the consumer will be greater variety of services at declining costs.

2.7 Summary

2.8 Key Terms

Make to-stock : Scheduling Production for the purpose of replenishing stock to some
predetermined level.
Production & Operations Make to-order : Scheduling production after order is placed. It is used by those
Management : 16
organizations that typically manufacture products with high variety and low Types of Characteristics of
valumes. Manufacturing Systems
Process focussed system : Manufacturing System with focus on various processes.
This system is capable of producing large variety of products.
Product Focussed system : Manufacturing system with focus on a product. This system
is preferred for making standardized products.
Stagnant personal services : Services requiring direct contract of customer with service
provider. e.g. haircutting, classroom teaching etc.
Substitutable personal services : Services where role of human in providing the service
can be substituted by some technology. e.g. Electronic surveillance systems.
Progressive services : Services with two component human role and technology. e.g.
Making a movie.
Explosive services : Almost no contract between customer and provider. e.g. mobile
phone services.

2.9 Questions and Exercises

1. What is the importance of volume vs. variety discussion in selection of
manufacturing process?
2. Define process focused manufacturing. Give some examples also.
3. Define product focused manufacturing. Give some examples also.
4. What do you mean “Produce to-stock” concept? Give some examples also.
5. What do you mean by “produce to-order” concept? Give some examples
6. What are the distinctive features of a service ?
7. How can we differentiate between services and goods?
8. On the basis of customer contact in services, how can we classify services?

2.10 Further Reading and References

Baumol, W.J., (1984), “Productivity Policy and the Service Sector,” Discussion
Paper #1, Fishman- Davidson Center for the study of the Service Sector, University of
Pennsylvania, Philadelphia

Production & Operations

Management : 17
The Product Devlopement
3.0 Introduction
3.1 Unit Objectives
3.2 Benefits of Sound Product Development Process
3.3 The Product Development Process
3.4 Concurrent Engineering
3.5 Tools for Efficient Product Development
3.6 Measuring Product Development Performance
3.7 Summary
3.8 Key Terms
3.9 Questions and Exercies
3.10 Further Reading and References.

3.0 Introduction

Product development process provides a broad set of tools techniques and concepts
that enable an organization to provide competitive advantage in its offering by
introducing new products and services faster and at a lower cost.

Promise is a Promise : Story of Tata Nano

Ratan Tata announces his vision of small Car. Says ideal price level for a
affordable family car should be about $2500 or Rs1 lakh. The small car project
team, headed by Girish Wagh, tries out several innovations, different design
specifications and engineering changes to keep cost level below Rs1 lakh. Every
design has to cater to three key requirements:

 Regulatory requirements
Production & Operations
 Acceptable performance standards
Management : 18
The Product Devlopement
Three designs were presented, finally one was picked in mid 2005. Tata Motors
announces that the small car will be produced in Singur in West Bengal. Design
house IDEA does final refinement to the design and finally a Nano style is frozen
in mid 2006. The Rs1 lakh car, named the Nano, is unvield at the Delhi Auto Expo
and witnessed an explosion of media interest. Mid 2008, the project moves from
Singur to Sanand in Gujrat.
Check Your Progress
Ratan Tata says during launching of the Nano, “ We are happy to present the 1. Identify three examples
people’s car in India and we hope it brings the joy, pride and utility of owning a car of new product
to families who need personal mobility.” development.
Source: http://www.tatanano.com accessed on May 27, 2013

To be successful, companies need to engage in value creation for all the

stakeholders. Innovation is considered the most potential driver for value creation.
Operations manager brings competitive advantage to the organization through product
development using innovation as key lever. Examples of TATA Nano, Scorpio of
Mahindra, products of Apple, Samsung Mobiles are some of the recent examples of
success of organization based on new product development. This chapter gives a detailed
description about benefits of good product development process, stages of product
development process, design of manufacturability, handling of mass customization in
the organizations.

3.1 Unit Objectives

After studying this unit, you should be able to understand
 the pocess of new product development
 the benefits of sound product development process
 tolls for efficient product development such as value engieering and house
of auality.
 to measure product development performance.

3.2 Benefits of Sound Product Development Process

Various benefits are possible through sound product development process. The
most important one is getting a competitive advantage for the organization. We can
classify benefits in four important dimensions. Customers get better product to meet
their expectations. This gives positive and significant impact on the customer for whom
the product/services are designed. The second dimension is related to sustained
performance. Sustained performances mean addressing environmental issues, reduced
life- cycle cost, and user friendliness to the society. The third dimensions of benefit
pertains to operational advantage obtained in the product development process. These
are normally related to simplification of manufacturing process, simplification of
assembly process and minimizing the need for revisions and changes. As a fourth
dimension organization take strategic advantage by faster new product introductions,
lower cost and mass customization. Production & Operations
Management : 19
The Product Devlopement Customer happiness

Sustained Product Development Stategic
Performance Process advantage

Operational advantage
such as simplified manufacturing process
assembly process

Fig 3.1 : Product Development

3.3 The Product Development Process

The Product Development process is a structured activity. The product

development process has four different stages, namely, concept generation, design,
development, and production.
Concept generation is the first stage of product development cycle. Customers’
needs are the basis of idea generation. Once there is some clarity on customers need,
we try to convert need into products or services. Innovative skills are required to develop
unique product and services. Once idea is generated we do feasibility study including
technological feasibility, cost feasibility and feasibility of customer acceptance. If results
of feasibility study are positive we go to the design stage otherwise we again go back to
idea generation.
Check Your Progress
Potentially feasible ideas are analysed from the perspective of physical aspects
2. Consider following
such as shapes, sizes and materials. During the design stage, detailed specification are
products :
drawn about the product. Design stage has a preliminary design which gives birth to
(a) New Mobile (b)
process planning. And process planning decision are required for cost estimation for
New Car cuch as
the proposed design. At design stage expert from design department, the finance
Nano (c) New
department, the production planning department, the marketing department, and the
Washing Machine.
procurement department are involved. They all do different iterations for design
Justify benefits of
feasibility. At the end of the design stage we have one alternative selected for commercial
new product
development in
each of these above. The third stage of the product development process is physical development of
the product itself. Normally, prototypes are made first. Detailed testing is done on
these prototypes.
Finally the last stage of the development process is production activity. Here we
establish the system for volume production. During the development stage only limited
number of items are produced for testing purposes. Efficiency of the process was not
of concern in the development phase. In the production stage systems are established
Production & Operations to improve productivity and bring down the cost.
Management : 20
Figure 2– A Typical Product Development Process The Product Devlopement








3.4 Concurrent Engineering (CE)

The basis for concurrent engineering is the significant overlap among the different
phases of product development. A significant number of companies are already
identifying where there is a need to communicate and work together both within the
company divisions and with other organizations so as to reduce the time between the
finalization of the definitive design and the introduction of the product or service.
Check Your Progress
In high clock-speed industries, this is critical. Many companies, in this category, 3. Identify examples
use the concurrent engineering approach to speed up the product development process. of use of concurrent
Teams are constituted that integrate the CE program. There can be three types of teams; Engineering in new
(i) Program management team, (ii) technical team and (iii) design-build team. product
Concurrency involves the parallel completion of project phases. development.
With an integration team ensuring the exchange of information between the teams
working on different aspects, it is possible to considerably reduce development times
and create high quality product designs that meet customer expectation. Using this
techniques, some companies boast that they have reduced, by a third or more, the time
Production & Operations
needed to develop and launch new products. They have injected more customer-related
Management : 21
The Product Devlopement information into the process and to make it flow better.
Development of Scorpio-Sport utility vehicle (SUV) by Mahindra & Mahindra
(M&M) is a very good example of CE. M&M used a team of 120 people for the
development of Scorpio. These persons were divided into 19 cross functional teams.
Design work was done in the USA, Korea, Japan, France, Austria, and the UK.
Coordination was done from Mumbai office at Kandivili. Using CE design teams worked
closely with the suppliers resulting in less development time and rework of the design.
Simultaneously, at each state of the development process customer feedback was also
included. This helped M&M to be as close as possible to the market expectations when
product was launched in the market. Through various initiatives, M&M priced the
vehicle between Rs. 5.5 lacks and Rs. 6.5 lacks. This was much less as compared to
competitors’ vehicle of the same segment.

3.5 Tools for Efficient Product Development

Several tools and techniques are under development for new product development.
Organizations are continuously in a mad race of introducing new products.
Note: Students should prepare timeline of some of the companies with respect to
introduction of new products.
Different tools are available to help the organization at different stages of the new
product development process. The first step is understanding the customer needs.
Market Research is normally done to understand customer needs. Using a
structured questionnaire and after identifying an appropriate sample, information is
collected which is subjected to statistical analysis. Focus group meetings can also be
arranged for market research. It is not a quantitative method like data collection through
questionnaire. Qualitative research is also in practice now a days. In-depth qualitative
interviews are conducted the number of respondents are much less as compared to
structured questionnaire respondents. The data collected in the form of interviews is
subjected to extensive analysis. Irrespective of the method adopted, the exercise must
eventually lead to creating a bundle of attributes that customers are looking for in the
Competitor analysis is also a part of stage one of development process. It is done
to understand current offerings and to determine gaps. It is done in those cases where it
is difficult to reach customers directly. Reverse engineering can be performed for
knowing the materials, their specification and to understand the manufacturing process
by dismantling the product. Perceptual maps can also be used for competitor analysis.
It is graphical representation of the various competitor offerings and that of one’s own
proposed products.
Quality Function Deployment helps in making inferences from customer
requirement for design, process planning, and manufacturing specifications using a
four stage process. This approach uses interfunctional teams from marketing, design
engineering, and manufacturing. The first stage links customer needs to the design
attributes. Second stage gives actions based on design attributes. The third stage gives
Production & Operations
Management : 22 specific decisions to be implemented based on the identified actions. Finally, in the
fourth stage, the implementation decision drive the process plans to be deployed. The Product Devlopement
Customer requirement information forms the basis for a matrix called the house of Process


x x

x x

Im Technical Competitive
Energy Needs

rta Characteristic
Gaurantee evaluation
Per hours

nc X= Own
oC A = Comp A
us B = Comp B
Customer tom
er 5 is best
1 2 3 4
x AB
Faster Cooling 7

Low Maintenance 5 x AB

4 x
Low Electricity Cons.

Easy to Operate 2 x A B

Importance 10 7 6 Importance Sale

weighting Strong = 9
Medium = 3
Small = 1
Consumption by 10%

Increase guarantee

Reduce noise level

period by 1 year

Target Values
Reduce energy

by 20%

5 BA
Technical x B
4 B
evaluation A A
(5 is best) 3
2 x

Different types of data are used in house of quality. Customer requirements such
as faster cooling, etc. is an important requirement. Next we list product characteristics
and the relationship of these product characteristics with customer requirements. There
can be strong positive or strong negative correlation between customer requirements
and product characteristics. Our product is benchmarked against competitors’ products Production & Operations
also. Management : 23
The Product Devlopement Value Engineering helps in simplifying the products. Its objective is to achieve
Process equivalent or better performance at a lower cost while maintaining all functional
requirements defined by the customer. Unnecessary costs are identified and eliminated.
Questions such as “Does the item have any design features that are not necessary?”,
NOTES “can two or more parts be combined into one?”, “ How can we cut down the weight?”,
“Are there nonstandard parts that can be eliminated” are asked in brainstorming sessions.
Check Your Progress
in value engineering.
4. Prepare a house of
quality matrix for Design for Manufacturing (DFM) is a structured approach to ensure that
developing a new manufacturing requirements and preferences are considered fairly early in the design
washing machine. process without the need for extensive coordination between the two departments.
Objectives of DFM are to reduce variety, develop operational convenience and reduce

3.6 Measuring Product Development Performance

As mentioned earlier, organizations try to maintain their competitiveness through
offering a series of new products. Apple , Samsung, Nokia in electronics and mobile
industry, Maruti, Hyundai, Hero Honda, Mahindra & Mahindra in automobile sector
and similarly in other categories, organizations have demonstrated the power of new
product development in gaining competitive advantage. To succeed, firms must respond
to changing customer needs and the moves of their competitors.
In order to have new products at a faster rate in the environment of reduced life
cycles, time to market is an important criterion of product development success. It
measures frequency of new product introduction, time from initial concept to market
introduction, projects started and projects completed and percentage of sales revenue
from new products. Second important dimension is productivity of the actual
development process. It measures engineering hours per project, cost of materials and
tooling per project. Third important dimension of success is quality of the actual products

3.7 Summary

Production & Operations

Management : 24
The Product Devlopement
3.8 Key Terms Process

Concurrent Engineering : Emphasizes cross functional integration and concurrent

development of a product and its associated processes. NOTES
Quality function deployment (QFD) : A process that helps a company determine the
product characteristics important to the consumer and to evaluate its own
product in relation to others.
House of Quality : A matrix that helps a product design team translate customer
requirements into operating and engineering goals.
Value Engineering : Analysis with the purpose of simplifying products and processes
by achieving equivalent or better performance at a lower cost.

3.9 Questions and Exercies

1. Identify one organization in following product category:
(a) Mobile phones
(b) Two- wheeler
(c) TV
(d) Biscuits
Enumerate number of different new products introduced by these organization in
last 5 years.
2. Describe generic product development process.
3. What are the advantages of a new product? Describe with the help of example.
4. What factor must be traded off by product development before introducing a new
5. What is QFD? How does the QFD approach help?
6. Write short notes on the following:
(i) Value Engineering
(ii) Performance measurement of Product Development process
(iii) Concurrent Engineering
(iv) House of Quality

3.10 Further Reading and References

Production & Operations

Management : 25
Facilities Planning :
4.0 Introduction
4.1 Unit Objectives
4.2 Site Selection
4.3 Factors affecting size of the firm
4.4 Factors affecting the plant location
4.5 Economic Survey of Site Selection
4.6 Computation of investment and cost of production and distribution
4.7 Factor and Location Rating
4.8 Break-even Analysis for Facility Location Planning
4.9 Simple Median Model
4.10 Centre of Gravity Method
4.11 Summary
4.12 Key Terms
4.13 Questions and Exercises
4.14 Further Reading and References

4.0 Introduction

Developing production facilities at a suitable place is an important decision. Site

selection is an important activity which decides the fate of the business. A good location
may, reduce the cost of production and distribution to a considerable extent. The
reduction of cost of production and distribution helps in elevating either the competitive
strength or the profit margin of the business. Locating a business involves a large,
relatively permanent investment. If the site selection is not proper, all the money spent
on factory building, machinery, and their installation will go in waste and the owner
has to suffer a great loss. Therefore, the site for the factory should be selected very
carefully. This unit deals with site selection and developing layouts within factory for
different types of manufacturing requirements.

4.1 Unit Objectives

After studying this unit, you should be able to understand.
 Various aspects of site selection and steps involved in site selection;
 Factors affecting size of a firm;
 Factors affecting plant location including primary and secondary factors;
Production & Operations
Management : 26  use of different models and techniques in different context.
Facilities Planning :
4.2 Site Selection Location

While selecting a site, it is necessary to consider technical, commercial and

financial aspects and then select a site that may provide maximum advantages. The NOTES
need for selecting a suitable site or location to house the factory may arise in the following
1. While starting a new factory;
2. During the expansion of the existing plant;
3. When the existing plant is to be re-located at some other place, to remove
the drawback of the present location or to gain the benefits of a still better
The various steps involved in selection of site are as follows:
1 Selection of the Region : — Generally, the geographical area is divided on the
basis of natural regions or political boundaries within the nation (for example
Maharashtra, U.P. etc.). The suitability of various regions is considered on the
basis of comparative cost advantage available out of the possible regions. Check Your Progress
1. Cosider a new plant
2 Selection of the Locality : — After selecting the region, the specific locality with
opened in your area
the region is considered. Generally, the following alternatives are open in selecting
and enumerate reasons
the locality—urban area, rural area, and suburban area in the vicinity of the urban
for selecting this site.
area. The comparative advantages of each locality are considered at this stage.
3 Selection of the Site: — While selecting the site, the type of development of land,
cost of leveling etc., possibility of plant expansions, and other infrastructure
facilities like transport, banking , power, communication, postal facilities etc. are

4.3 Factor affecting Size of the Firm

The size of firms is usually dependent on the following factors:

1. Availability of Capital : The size of the firm depends upon the availability of
capital. Every firm needs capital. The need of the capital depends on size, type
and nature of the firm. Industries which require large capital investment e.g., sugar
refining, tend towards large scale. But business units requiring small capital and
more labor and a few tool and machines can be started on a small scale.
2. Entrepreneurial Ability and Efficiency : The ability, experiences and managerial
efficiency of the entrepreneur is one of the important factors that determine the
size of the business unit. The inability of the entrepreneur to successfully co-
ordinate and supervise a large unit is a factor that may check the expansion of the
3. Risk of Uncertainties : Risks of changes in demand have their impact on the
trends in the size of the firm. Firms have to face fluctuation in demand for their
products and accordingly adjust their policies and strategies in order to survive
Production & Operations
and maintain the position in the market. Management : 27
Facilities Planning : 4. Type of Organization : The size of the firm also depends on the type of
Location organization e.g., trading business concern or individual proprietorship, partnership
firm, private companies that are managing business on small and medium scale.
5. Availability of Inputs : The size can be large if the inputs are available on a large
scale. Where the inputs will have to be transported from a distance and there is
also some uncertainty, the size is bound to be small.
6. Nature of Product : In the case of processing of raw materials resulting in the
production of joint and by products, the scale is naturally more if the entrepreneur
decides to process all the products. In case of production of less standardized and
more artistic products, the size is bound to be small
7. Government Regulation or Licensing Policy of Government : The size of the
firm depends on the decision taken by the entrepreneur and on the attitude in the
government . Large scale firms are subject to much more rigorous state regulation
than small ones.

4.4 Factors Affecting the Plant Location

When the location of an industrial unit is preplanned, many factors are taken into
consideration. The factors of location planning can be divided into the following categories:
Primary Factors
1. Supply of Raw Materials : It is necessary to consider the adequate supply of raw
materials and the nature of raw materials. The cost of raw materials are an important
element of the total cost of production. If the supply of raw materials is not regular,
it may lead to frequent stoppages and breakages in production. The time and the
cost of transporting raw materials is also important. Therefore, industrial units are
located near sources of raw materials.
2. Nearness to market : Every producer wants to sell his product in the market.
Nearness to market is important from the point of view of his control over the
market. In those industries where raw materials are obtained from different sources,
nearness to the source of raw materials is not as important as nearness to the
market. Nearness to the market is important for supplying goods to the customers
in a minimum period of time adjusting supply according to changes in demand
and gaining control over the market.
3. Transport Facilities : Speedy transport facilities are needed for the regular and
timely supply of raw materials at low cost and for transporting finished products
Check Your Progress on time to the market. Transport facilities are important for getting control over
foreign markets.
2. Enumerate various
primary factors for 4. Supply of Labor : The supply of labor at low cost is important. The importance
opening a food of labour supply has not lessened in spite of mechanization .
prrocessing plant at 5. Power : Power is necessary for the process of production and for transporting
Maharashtra. finished goods and raw materials. Power may be electrical, diesel and tropic energy.
Power shortages lead to tremendous losses due to the stoppage of machinery.
Therefore, industries must have sufficient and regular supply of power if continuity
Production & Operations in production is to be maintained and if industries are to operate at the full capacity.
Management : 28
6. Supply of Capital : Industries require capital for initial promotion and expansion. Facilities Planning :
Therefore, a capital market must be developed in industrial centers. Location
7. Government Subsidies and Facilities : The government may encourage the
dispersal of industries in underdeveloped areas by making capital, land, water
and power available at subsidized rates.
Secondary Factors
8. Facilities : An enterprising spirit, innovation, technical know-how and an
industrious nature of population- all these factors taken together and a favorable
government policy create a favorable atmosphere for the purpose of the
establishment of industries.
9. Natural Factors : Land, water, climate, sources of raw materials and agricultural
climate are some natural factors which are important for some industries like
cotton textile, sugar nd jute. These industries depend on a good climate and source
of natural raw materials.
10. Political Factors : The government’s policy of licensing and encouraging the
development of industries in underdeveloped regions also determines the location
of industries.
11. Historical and Religious Factors : Some industrial cities are of historical
importance. Some of them are having religious importance – e.g., Benaras, Prayag,
Kolhapur, Nasik, etc,. Industries grow at these religious centre because these are
places of historical importance.
12. Initial Start and Goodwill : Some industries get located at a place because some
industrialists start the industry at that place at an early stage—e.g., Jamshedpur
(Tatas) was developed into’ an industrial city; the iron and steel industry received
its initial start there.
13. Personal Factors : In business history, it is found that personal considerations
have decidedly affected the location of certain industrial units. There is no rationale
for such considerations, however, when there is possibility of multiple locations,
this factor plays a decisive role in vocational consideration. Henry Ford started
the automobile industry in Detroilt (U.S.A) because it was his home town.
14. Miscellaneous Factors : The following factors also affect the location of the
industrial unit:
(i) Sufficient water supply, if water is consumed in large quantities in the
production processes.
(ii) Disposal of waste water.
(iii) Strategic factors like dangers of air-attacks.
(iv) Availability of fire-fighting facilities.
(v) Availability of recreational, medical and educational facilities.
(vi) Quality of life because of facilities like schools, hospitals, post-office, parks
etc enjoyed by the community.
(vii) Community attitudes.
(viii)Ecological and environmental considerations.
(ix) Regional aspirations of people and their political satisfaction . Production & Operations
Management : 29
Facilities Planning :
Location 4.5 Economic Survey of Site Selection
The necessary factors in the selection of plant location vary from industry to
NOTES industry and with changing technical and economic conditions. Therefore, a location
survey must be carried out based on the specific requirements of a given enterprise.
Check Your Progress
The aim of such an economic survey is to find out whether or not the location
3. Enumerate various
meets first the primary, and then the secondary requirements. The relative importance
secondary factors for
of the necessary factors can be determined on the basis of their proportionate share in
opening a steel factory
the unit cost of production and distribution.
in Maharashtra.

4.6 Computation of Investment and Cost of Production

and Distribution
The required capital investment and the unit cost of production and distribution
for a given volume of output should be computed for each prospective location. The
ideal location’ is that which permits the lowest cost of productions and its distribution.
If the unit cost of production in the various locations is somewhat comparable, the
location that requires the least capital or fixed investment will be preferred. The choice
should be checked against detailed information obtained from local hanks and
government agencies.

4.7 Factor and Location Rating

Most of the factors discussed in section 4.4 are important for any type of industry.
But relative importanc of each of these factors may vary fo different types of plants.
These factors are given rating to indicate the importance attached to a particular factor.
Rating varies form 1 to 5. I indicates least importance while 5 is given for most impor-
tant. These are called factor rarings.
Let us consider three location oprtions for a new food processing unit to be started
by a company. These location options are, say, Nashik, Nagpur and Aurangabad. Table
4.1 givs the factors considered important for a food processing unit and their factor
Table 4.1 Factor ratings for a processed food unit
Factor Factor ratings
Close proximity to raw food items 5
Transportation facility 4
Availability of cheap/ efficient labour 4
Colod storage availability 3
Basic amenities 2
Low construction cost 1

Production & Operations Now, with respect to each of the three locations, we will give each of these factors
Management : 30
another rating, called the location rating. Location rating depends on the benefits a Facilities Planning :
particular location offers. Rating for location varies from 1 to 10. Rating of 1 and 10 Location
denotes least beneficial and most beneficial respectively.
Table 4.2 gives the location ratings for the food processing unit
Factor FactorLocation Ratings
Close proximity to raw food items 5 9 8 5
Transportation facility 4 8 9 7
Availability of cheap/ efficient labour 4 8 8 6
Colod Storage Availabity 3 7 8 8
Basic amenities 2 7 7 7
Low Construction Cost 1 2 5 5
For each location, let us find the product of factor and location ratings :
5 X 9 = 45 5 X 8 = 40 5 X 5 = 25
4 X 8 = 32 4 X 9 = 36 4 X 7 = 28
4 X 8 = 32 4 X 8 = 32 4 X 6 = 24
3 X 7 = 21 3 X 8 = 24 3 X 8 = 24
2 X 7 = 14 2 X 7 = 14 2X 7 = 14
1X2=2 1X5=5 5 X 5= 25
146 151 140

Hence, we Observe that the total score of Nagpur is the highest, followed by
Nashik. This tecnhique is used for screening locations with higher scores, which are
then subjected to final analysis for finding the best loaction option.

4.8 Break-even Analysis for Facility Location Planning

Fixed Costs anf variable costs are two types of costs involved in making of any
Fixed costs comes from capital expenditures. It is mainly because of long-term
investment in fixed assets.
These costs remain constant irrespective of the volume of production. Purchase
of land, construction fo building and purchase of machines and equipment are some of
investments which are indepent of number of units produced within a given duration.
Variable cost is cost per Unit. Cost of labour and raw material costs are important
types of variable cost. On the basis of number of Units produced, variable cost also
increases. When the variable Cost (VC) is added to the fixed Cost (FC), we get the total
cost (TC) at a particular valoume of production. Figure 4.1 presents toatl cost as a sum
of fixed and variable costs.
Production & Operations
Management : 31
Facilities Planning : 7&


)& )&

Fig. 4.1 : Total Cost Grahph
Figure 4.2 adds one more line in figure 4.1. This is total revenue (TR) line. Rev-
enue is the money that comes into a firm when it sells its products at sales price.




9&DW 9&DW

)& )&

Fig 4.2
Figure 4.2 shows three important things, namely, loss region, profit regions and
break even point. The region where at any level at production TR is less than TC, it is
loss region, if TR is more than TC, it is profit region and at a particular level of produc-
tion, where TR = TC, it is the break-even point. In figure 4.2, this breack even point is
shown as V BE . Break even point is that level of production where we have no profit or
less. At BEP loss region converts into profit region. It is always preferred to have low
BEP so that organization can quickly come into profit region.
In facility location planning, a location at which the break-even volume is lower,
is preferred. At different locations, fixed costs may be different because of lant cost.
Variable costs may also be different at different location because of differest cost of
labour at different places. Cost of labour in India is much less than cost of labour in
USA. Therefore a MNC will like to open a new unit in India.
Three different locations arre having different combinations of fixed and variable
costs. these will give different values of break-even point.

Production & Operations

Management : 32
75 75 75 Facilities Planning :
7& 7& 7&


9& 9& 9& NOTES

)& )& )&

9%( 9%( 9%(

$ % &
Fig. 4.3
As shown in figure 4.3 (A), 4.3 (B) and 4.3 (C), Value of V BE is minumum in 4.3
(C). Therefore, location C is the best option for new facility.
Example 4.1 : Shree Balaji Foods Ltd. is planning to start a new factory for
manufacturing biscuits. It is considering three locations, namely, Nashik, Mumbai, and
Pune. The fixed Costs at the three locations have been estimated at Rs. 10,00,000, Rs.
9,00,000 and Rs. 11,00,000, respectively. The variable costs at the three locations are
estimated at Rs. 400 per Unit, Rs. 500 per Unit, and Rs. 450 per unit, respectively. The
Factory will have an annual production capacity of 1,00,000 biscuits and in the initial
years it will operate at 80% efficiency. Find the best location option, which has the
lowest total cost of production.
Solution : At 80% efficiency, the factory will annually
produce -------------- X 1,00,000 = 80,000 biscuits
Total producation cost TC = FC + VC X no. of units
For Nashik, TC = 10,00,000 + 400 X 80,000 =
= 10,00,000 + 320,00,000 = Rs. 330,00,000
For Mumbai, TC = 9,00,000 + 500 X 80,000 = 9,00,000 + 400,00,000
= 409,00,000
For Pune, TC = 11,00,000 + 450 X 80,000 = 11,00,000 + 360,00,000
= 371,00,000
Hence, Nashik is the best location from the economic point of view, as the total
cost is minumum there.
Example 4.2 : ABC Ltd. is considering two location options for locating its new
manufacturing facility, X and Y. The company estimates that the FC and VC at 'X' for
the facility are Rs. 2 million and Rs 20 per unit, respectively. On the other hand, at Y,
the FC and VC are estimated at Rs. 1.8 million and Rs. 25 per unit, respectively. The
sales revenwe estimates are also different for the two locations because of the consumer's
perception of the quality of products manufactured at X being better. An unit can be
sold for Rs. 100 if manufactured at Y, and the same product can be sold fo Rs. 120 if
manufactured at X. which option should the company choose. according to break-even Production & Operations
criterion? Management : 33
Facilities Planning : Solution : Let us plot break-even charts for bot the locations, X and Y.
75 75
7& 7&



Fig 4.4
From figures 4.4 (a) and (b), we see that the break-even volume for X is 20,000
units as compared to 24,000 units for Y. Therefore, X is a better location according to
break-even criterion.

4.9 Simple Median Model

This model is used for the final selection of the best location options. This Model
minimizes total transportation cost between the new facility and the existing facilities.
This model assumes movement fo goods only in two directions, the X and Y axes. No
diagonal movement is allowed. Let us take an example to understand. Table 4.3 gives
information about the existing facilities of a steel factory.
Table 4.3
Facility (F) Coordinate Cost (c) of moving one unit Annual Load (L)
location (X,Y) by unit distacne (Rs.) Units.
Nashik (10, 80) 10 452
Aurangabad (30, 60) 10 678
Nagpur (80, 50) 10 400
Gondia (50, 10) 10 700

These existing facilites may be the factories, warehouses, or markets of the com-
pany. The compnay wants to know location of new plant. The annual load (in units) is
the goods to be moved between a facility (F) and the new plant (NP).

Production & Operations

Management : 34
< Facilities Planning :


Fig 4.5
To use simple medain model, first we find median laod. This is the sum of annual
loads for all the existing facilites. Then we determine median load. Then we find X and
Y coordinates of the new plant. To determine X coordinate we move form origin to
positive X axis. The mean load here is 2230/2 = 1115. As we move to positive X axis
crossing nashik to Aurangabad to Gondia to Nagpur, we can check that median load
will pass through Aurangabad. So X coodinate of new plant will be same as of
Aurangabad. To get Y Coordinate, we move from origin to positive upward. We corass
Gondia then Nagpur then Aurangabad and finalley Nashik. 1-700 units are at Godia,
701 to 1100 units are at Nagpur. 1101 to 1178 units are at Aurangabad which include
median load (1115) also. So Y Coordinate of new plant will be same as of Aurangabad.
Therefore new plant will be located at Aurangabad only.
The Centre of Gravity Method :
According to Centre of gravity method coordinates (XNP, YNP) are determined as
follows :
______________ ΣYiLi

Where (Xi, Yi) are the coordinates of existing facilities and Li represents the
loads to be transported between the existing facilities and the new plant.
Using data available in table 4.3, XNP, and YNP can be determined as follows :

(10 X 452) + (30 X 678) + (80 X 400) + (50 X 700) ______

_______________________________________________ 91860
XNP = =
452 + 678 + 400 + 700 2230
= 41.19

(80 X 452) + (60 X 678) + (50 X 400) + (10 X 700) ______

_______________________________________________ 103840
YNP = =
452 + 678 + 400 + 700 2230
= 46.56

Production & Operations

Management : 35
Facilities Planning :
Location 4.11 Summary


4.12 Key Terms

Facilites : Facilites are the actual locations where product is sotred, assembled,
or fabricated.
Break - Even Point : It is the point at which total cost including fixed and vari-
able costs are equal to total revenue.
At Nashik, the fixed cost of the factory is estimated at Rs. 1.0 million and the
variable cost at Rs. 1200 per unit. The selling price of the product is Rs. 3000/- per
units. Decide which locations is best fo the factory using break-even analysis.

4.13 Questios and Exercise's

1. Explain the factors affecting facility location planning.
2. What ae factor ratings and location ratings? Ho are these useful in facility loca-
tion planning?
3. What do you understand by break-even point? What are fixed and variable Costs?
4. What is the role of break-even analysis in deciding location for a new facility?
5. What is the simple median model? How is it used to find the best locations of
6. A company is considering two locations for its audio factory. One location is
Noida and the other is Nashik. At Noida, the fixed cost of the factory is estimated
at Rs. 1.2 million and the variable cost at Rs. 1100 per unit.
7. A Company manufactures plastic chairs. It is evaluating two location optios fo its
new facility. the first location option is Haridwar, where the fixed cost of the
facility will be Rs. 1.5 million and the variable cost will be Rs. 150 per chair. The
second location options is Nagpur, where the fixed cost of the facility will be Rs.
2.0 million and the variable cost will be Rs. 140 per chair. The factory will pro-
duce 5,000 chairs in the first year of production. The companyy will decide the
location depending upon the lower cost of production in the first year. Which
Production & Operations
Management : 36 location should the company choose?
8. XYZ Ltd. has four existing facilities- Bhandara, Chandrapur, Satara and Kolhapur. Facilities Planning :
The details of these facilities are given in Table 4.4. The company wants to locate Location
a new facility such that the total transportation cost is minimum. Advise the man-
agement of the company about the best possible locatin using the simple median
model. Also find the total transportation cost. NOTES
Table 4.4
Existing Annual loads Cost of moving Coordinate
Facility (F) between (F) and One Unit location
new facility by Unit (X, Y)
(Units) (L) Distance (Rs.)
Bhandara 200 10 (20, 30)
Chandrapur 300 10 (70, 10)
Satara 300 10 (50, 40)
Kolhapur 400 10 (10, 80)

9. Solve problem 8 with data available in Table 4.4 using the centre of gravity method.

4.14 Further Reading and References

Production & Operations

Management : 37
Facilites Layout and
5.0 Introduction
5.1 Unit Objectives
5.2 Plant Layout
5.2.1 Objectives of an ideal Plnat Layout
5.2.1 Factors Affecting the Plnat Layour Desicion
5.3 Material Flow System
5.3.1 Horizontal Flow System
5.3.2 Vartical Flow System
5.4 Types of Plant Layout
5.4.1 Process Layout
5.4.2 Product layout
5.4.3 Mixed or Combined Layout
5.4.4 Static Product Layout or Project Layout
5.4.5 Cellular or Group Layout
5.5 Process Charts
5.5.1 Operations Process Chart
5.5.2 Flow Process Chart
5.6 Flow Diagram
5.7 Travel Chart
5.8 REL Chart
5.9 Summaries
5.11 Questions and Exercises
5.12 Futher Reading and References

5.0 Introduction
The output of layout decisions tells determining the placement of departments,
work groups within the departments, workstations, machines, and stock- holding points
within a production facility. The objective is to arrange these elements in a way that
ensures a smooth work flow or a particular traffic pattern. Specification of the objectives
and corresponding criteria to be used to evaluate the design, estimates of product or
service demand on the system, processing requirements in tems of number of operations
and amount of flow between the elements in the layout are some of the important
inputs for layout decisions.
Production & Operations
Management : 38
This unit introduces various layouts and their formats. The focus is more on Facilites Layout and
quantitative techniques, but qualitative aspects are also discussed. Material Handling

5.1 Unit Objectives NOTES

After studying this unit, you should be able to understand.

 Objectives of plant layout decisions and various factors affecting these
 Various material flow systems in a factory;
 Characteristics and development of different type of layouts, namely, product,
process, mixed, project and cellular layout;
 Understand meaning of line balancing;
 Understand usage of process charts;
 Understand flow diagram, travel charts and REL charts.

5.2 Plant layout

Plant layout is the overall arrangement of the production process, store-room,

stock-room, tool-room, material handling equipment, aisles, racks and sub-stores,
employee services and all other accessories required for facilitation of the production
in the factory. As encompasses production and service facilities and provides for the
most effective utilization of the men, materials and machine’ constituting the process,
it is a master blueprint for coordinating all operations performed inside the factory.
According to F G. Moore, “ A good layout is one which allows materials rapidly and
directly for processing. This reduces transport handling, clerical and other costs down
per unit, space requirements arc minimized and it reduces idle machine and idle man
5.2.1 Objectives of an Ideal Plant Layout
A good plant layout strives to attain the following objectives:
1. Minimization of material handling.
2. Elimination of bottlenecks through balancing of plant capacities.
3. High material turnover through shorter operating cycle.
4. Effective utilization of installed capacity so that the returns on the investments
may be maximized.
5. Effective utilization of cubic space of the factory area.
6. Effective utilization of man power resources through elimination of idle time.
7. Elimination, improvement or confinement of objectionable operations e.g.,
operations with bad odour, vibrating operations etc.
8. Elimination of physical efforts required by operative workers.
9. Avoidance of industrial accidents.
10. Better working conditions for the employees like lighting, ventilation, control
Production & Operations
of noise and vibrations etc. Management : 39
Facilites Layout and 11. Decency and orderliness inside the plant area.
Material Handling 12. Better customer services through cheaper and better product supplies
according to the delivery promises.

NOTES 5.5.2 Factors Affecting the Plant Layout Decision

The decision of the plant layout is affected by the following factors:
Check Your Progress 1. Type of production : The layout for an engineering unit will be quite different
1. Visualize layout of a from that of a flour factory, similarly layout of a paper mill will be different
hospital, you visited. from a tool room and layout of an engine assembly line is different from toy
Find shortcomings in making facility.
layout comparing 2. Production System : The plant layout in a continuous production system
objectives o ideal plant will be totally different from the under the intermitted production system.
layout. 3. Scale of Production : The plant layout and material handling equipment in
the large scale organization will be different from that in the small scale
manufacturing activity.
4. Type of Machines : The use of single purpose and multipurpose machines
substantially affects the plant layout. Similarly noisy and vibrating machines
require special attention in the plant layout decision.
5. Type of building facilities : The plant layout in a single story building will
be different from that in a multi storey building.
6. Availability of Total Floor Area : The allocation of space for machines,
work benches sub stores, aisles, etc is made on the basis of the available
floor area. Use of overhead space is made in case of shortage of space.
7. Possibility of Future Expansion : Plant layout is mad in the light of the
future requirements and installation of additional facilities.
8. Arrangement of Material Handling Equipment : The plant layout and
the material handling services are closely related and the latter has a decisive
effect on the arrangement of production process and plant services.

5.3 Material Flow System

Men, machines and materials are the three basic inputs in the manufacturing
processes. Generally men and machines tend to remain static while the materials move
from one work station to another for the purpose of processing. The raw materials pass
trough various paths till they are converted into finished products. The pattern of
movement of materials inside the plant area is prescribed under different types of floor
systems. The pattern of material flow is an important consideration in the plant layout
decision because good layout aims at minimizing the flow of materials. The pattern of
the flow of the materials is largely decided by the type of layout. In the product layout,
the material flow is short and smooth while in the process layout it is long and involves
many complexities. The flow pattern of the material is closely related to the type of the
material handling equipment and the cost of material handling. It also decides the need
for temporary storing, sports of bottleneck or rushing. The operating cycle period has a
close relation with the flow pattern of materials.
Production & Operations
Management : 40
The flow pattern of the materials helps in eliminating bottlenecks, rushing, back- Facilites Layout and
tracking and ensures good supervision and control. It also helps in minimizing the Material Handling
material handling cost , effective utilization of plant capacity, reduction in the operating
cycle and resultantly profitable returns on the investments. Even without changing the
process flow, the system can be speeded up, and waiting time reduced, by simple NOTES
streamlining and de-bottlenecking the flow. If necessary the shop floor can be relocated.
New lines can be added. We can introduce automation and reprioritization. In short, the
flow of work can be reorganized.
The material flow system is broadly divided into two categories on the basis of
the nature of the availability of floor space as under:
1 Horizontal flow system,
2 Vertical flow system. Check Your Progress
5.3.1 Horizontal flow system 2. Give. example of
The horizontal flow systems are devised in the single storey building when the horizontal and veritcal
flat floor area is available. The starting point is the “receiving” (R) of the raw materials flow system.s
and the terminal point is the “shipment” (S) of finished goods. In between these two
points. The materials move form one work station to another for the purpose of
processing. The horizontal flow system is denoted by the alphabetic letters as under:
(i) Shortest route
(ii) Must have roads on both sides.
(iii) Plant area has long lengths but short width.
(iv) Difficulty in returning empty containers.
(v) Absence of rising of outside transportation.
(vi) Unsuitable for longer production lines.
5.3.2 Vertical flow system
The vertical flow system arises in the case of multi storey buildings. Multi-storey
building are used where limited land area is available and the processing is done the
materials with the help of light machines. The advantages of gravity flow can be tapped,
however, it first requires the availability of materials at the top floor.

5.4 Type of Plant Layout

The popular types of plant layout are (1) Process layout (2) Product layout (3)
Combined layout (4) Static product layout or Project layout (5) Job Shop layout. Each
layout is explained in brief in the following paragraphs:
5.4.1 Process Layout
It is also called functional layout. All machines performing similar type of
operations are grouped at one location in the process layout e.g., all lathes, milling,
machines, cutting machines etc. in the engineering shop will be clustered in their like
groups. Thus all forging will be done in one area and all the lathes will be placed in Production & Operations
another area. In this layout, several products may share a machine to make its full use. Management : 41
Facilites Layout and The sequential arrangement of the machine group is generally, but not necessarily made
Material Handling on the basis of labor operations. In this type of layout, the process rather than the
product has dominating role. The product is given secondary consideration and is moved
for the purpose of operations to the process section with like machines stationed at a
NOTES particular point. This type of layout is more suitable to job order type of production. In
such production the operation differ from product of product. So, it is desirable to
arrange the machines on the basis of process rather than on the products. The typical
arrangement of the machines in the process layout will be as under:


% % )LQDO
$ $ % &DU$

Fig 5.1 Process Layout

Car ‘A’ and Car ‘B’ with their differential sequence will be routed for the processing
in the manner as shown in the previous figure.
Advantages: The process layout avails of the following advantages:
(i) It eliminates the duplication of machines and enables the optimum use of
installed capacity
(ii) It facilitates the flexibility in production. It is more flexible than a line layout.
Different products can be made without the changes in the arrangements of
machine. The production capacity is not arranged in rigid sequence and fixed
rated capacity with line balancing.
(iii) The break down of one machine does not interrupt the entire production
(iv) Specialization in supervision becomes possible.
(v) Individual incentive schemes can be developed.
Disadvantages: The following are the main disadvantages of the process layout.
Check Your Progress
(i) Due to lack of straight line sequence of production, it is impossible to maintain
3. Enumerate advantages the line balancing in production. So the problems of bottleneck and waiting
and limitations of and the idle capacity
process layout.
(ii) The cost of material handling increases due to long routing and back tracking
between the processes.
(iii) The processing time is prolonged which reduce the inventory turnover and
increases the investments in inventories.
(iv) The inspection cost increases. Due to frequent changes in the machine set
up, inspection is required at each stage of the process.
(v) The cost of supervision increases due to specialist supervisors and more
Production & Operations
Management : 42 number of supervisors are required at each process unit.
(vi) The production planning and control becomes difficult due to complexities Facilites Layout and
arising in routing, scheduling, dispatching and follow-up. Material Handling
(vii) It is not possible to implement the group incentive schemes on the basis of
quantity of the products manufacturing.
(viii)More space is required for internal storing, reservoir of materials and provision
for the expansion of the particular process section.
5.4.2 Product layout
In this type of layout, the machines are arranged in the sequence as required by
the particular product. All machines as required to balance the particular product line
are arranged in a sequential line but not necessarily in the straight line. It is also known
as “ the product line layout.” In this layout, one product goes through all the machines
lined up, in the order required by its manufacture. The best known example of this type
of layout is seen in motor car production. To make this layout successful, the work load
on the various machines must be balanced. The process of getting even loading at each
stage of production is called line balancing.
In this type of layout, the product is dominating over the process, in the sense
that the product is given the primary importance and the process machine must
remain present at a point where the product needs its services. Thus, unlike the
process layout, the process is given secondary importance in relation to the product.
Product layout is more suitable for continuous flow-production with few items of
production. It does not require frequent changes in machine set up. The typical
arrangement of the machines in the product with separate independent product
lines for the Product A and Product B will be as shown in the following figure :
Fig. 2 - Product Layout

M/C 1 M/C 2 M/C3 M/c4 Product A

M/C 1 M/C 2 M/C4 Product B

M/C 1 M/C 3 M/C4 Product C

Advantages: The product layout is advantageous as under :

(i) Reduced material handling cost due to straight- line production flow.
(ii) Mechanization of material handling between fixed points.
(iii) Line balancing may eliminate bottlenecks and idle capacity.
(iv) Shorter operating cycle due to shorter and speedy movement of materials. Check Your Progress
(v) Maximum utilization of machine and labour capacity through developing 4. Enumerate advantages
proper balance between them. and limitations of
(vi) Effective control over production with reduced supervision by generalists product layout.
supervisor. By reducing the manufacturing to simple steps we can often use
less skilled labour.
(vii) Effective quality control with reduced inspection points. It does not require Production & Operations
Management : 43
Facilites Layout and frequent changes in machine set-up.
Material Handling (viii)Effective production planning and control. Unlike process layout, the routing,
scheduling, dispatching and follow up are relatively easier.
(ix) Maximum use of space due to straight production flow and reduced need of
interim storing.
(x) It facilitates the implementation of group incentive schemes for the workers.
(xi) It is relatively easy to control.
Disadvantages: The following are the main disadvantages of the product layout:
(i) The duplication of machines and equipment necessitates the increased
investments in them sometime resulting in idle capacity.
(ii) The production flow is regulated through the straight line sequence and fixed
rated capacity, and thus makes it highly inflexible.
(iii) The breakdown of one single machine in the line interrupts the entire
production flow.
(iv) Unlike process layout, the benefits of specialized supervision is not possible.
(v) As the entire production is the result of the joint efforts of all operations in
the line, it is difficult to implement individual incentive schemes.
(vi) They are less flexible than others. Any change in product requires rebalancing
the line.
Line Balancing : Line balancing is an analysis method of developing balanced
product layouts. Product layouts are, as shown in figure 2 also having lines of consecutive
workstations. Line balancing helps in equally dividing the work to be done among
workstations so that the number of workers or workstations required on a product line
is minimized. Following are some important terms taken in regard of line balancing.
(1) Cycle Time : This is the time in minutes, seconds or in hours (rarely) between
products coming off the end of a production line. If demand of a product is
expected to be 550 units / hr. Total 55 minutes of prouductive time is available
per hour in the factory. So cycle time will be computed as follows.
Productive Time / hour
Cycle Time = -A
Demand / hour

55 minutes / hour
550 munit / hour

= 0.100 minutes / unit.

It means that after every 0.1 minute, one product is coming out of production
Here productive time in a hour are 55 minutes only. A workstation may not
work for reasons like lunch, tea, breakdown, change overs etc.
(2) Workstation : These are physical locations where a particular set of tasks is
Production & Operations (3) Workcentre : It is a physical location where two or more identical workstations
Management : 44
are located. Facilites Layout and
Material Handling
Minimum no. of workstations that can provide the required cycle time, as
computed in formula (A) above can be determined as
Sum of all task times NOTES
Minimum no. of Workstations = -B
Cycle time

(4) Utilization :- The precentage of time that a production line is working.

Formula is
Minimum (Theoretical) number of workstations X 100
Utilization = -C
Actual number of workstations
Procedure of line balancing :
(1) Determine the sequence of tasks and draw a precedence diagram.
(2) Make sum of individual task time.
(3) Calculate cycle time and theoretical number of work stations.
(4) Using a particular logic, such as incremental utilization heuristic or longest
task time heuristic, tasks are assigned to workstations so that the production
line is balanced.
In incremental utilization heuristic, we add tasks to a workstation but as per
precedence diagram to make maximum utilization (normally 100%) of workstations.
This logic is useful when one or more task times is equal to or greater than the cycle
The longest - task time heuristic adds tasks to a workstation one at a time in the
order of task precedence. When a choice is to be made between two or more tasks, the
one with the longest task time is added. This heuristic is appropriate in case of all
individual task times are less than or equal to the cycle time.
Example 5.1
A company requires 550 Units of a product in 55 minutes of productive activity
in an hour. Activities in table 1 gives precedence relationship. Balance the line of
production using incremental utilication logic.
Table 5.1 : Data for example 5.1

Task Tasks that must immediately precede Task time (minutes)

A - 0.32
B A 0.18
C A 0.12
D B,C 0.51
E D 0.42
F E 0.80
G F 0.90
H F 0.70
I G,H 1.00 Production & Operations
Management : 45
Facilites Layout and Solution : (i) Total task time = sum of individual task times = 0.32 + 18 + .12
Material Handling + .51 + .42 + .80 + .90 + .70 + 1.00 = 4.95 minutes
(ii) Cycle time, using formula A, = .1 minutes / unit
(iii) Minimum number of workstations, using formula B,
= = 49.50 workstations.
(iv) Precedence diagram

Fig. 3
(v) Assignment of tasks to work centres using incremental utilization heuristic :
We will combine tasks to a workcentre strictly in accordance of precedence
diagram to achieve 100% utilization at workcentre. Utilization will be
calculated for workcenters by using formula,
Number of workstations required
x 100
Actual number of workstations working
Sometime 100% utilization of not possible, and utilization may fall by adding
new tasks, so maximum utilization is taken and tasks accordingly are grouped to one
Table 5.2 below gives detail calculations for knowing number of workstations at
each workcentre and tasks grouped at each workstations.
Table 5.2 : Calculation for number of workcentres and workstations

Work Tasks Minutes/Unit No. of Actual Utilization

Centre workstations number of of
required workstations workstations
[(3) - Cycle time] working (4)
[ X 100]
(1) (2) (3) (4) (5) (6)
1 A 0.32 3.2 4 80%
A,B 0.32+.18 = .5 5 5 100%
2 C .12 1.2 2. 60%
C,D .12 + .51 = .63 6.3 7 90%
C, D, E .12+ .51+.42= 1.05 10.5 11 95.45%
C,D,E,F .12+.51 +.42+ .80 = 1.85 18.5 19 97.37%
C,D,E,F,G .12+.51+.42+.80+.90 = 27.5 28 98.21%
C,D,E,F,G,H 2.75+0.70 = 34.50 35 98.57%
C,D,E,F,G,H,I 3.45+1.00 = 4.45 44.50 45 98.88%
Production & Operations
Management : 46
Total = 50
Assignment can be summorized as follows : Facilites Layout and
Material Handling
Work centres 1 2
No. of workstations 5 45
Tasks assigned A,B C,D,E,F,G,H,I NOTES

Utilization is X 100
= 99%
(See here that all individual task times are more than cycle time of 0.1 minute so
incremental utilization heuristic is more suitable.)
Example 5.2 Following information is available for an assembly line.
Table 5.3 : Data for Example 5.2

Task Immediate Predecessor Task Time (minutes)

A - 0.32
B A 0.18
C B 0.12
D C 0.51
E D 0.42
F D 0.37
G E,F 0.65

Total = 2.57

Using this additional information that 75 units are required per hour and productive
time per hour is 50 minutes, balance the line using longest task time heuristic.
(i) Cycle time = .67 minutes
(ii) Theoretical number of workstations= = 3.83
(iii) Precedence diagram


Fig. 4
(iv) Task assignment to workstations using longest task time heuristic

Production & Operations

Management : 47
Facilites Layout and Table 5.4 : Task assignment to workstation. Example 5.2
Material Handling
Workstation Task Time Unassigned Time at workstation
(1) (2) (3) (4) = .67 - (3)
NOTES 1 A .32 .35
1 A,B .32+.18=.50 .17
1 A,B,C .32+18+.12 = .62 .05

2 D .51 .16

3 E .42 .25

4 F .37 .30

5 G .65 .02

Table 5.4 shows that some unassigned time at each workstation. This can not be
used as next task in line, if assigned at these workstations, will increase the time at the
workstation beyond cycle time limit.
Utilization = x 100 = 76.60%
Example 5.3 : A manufacturer is interested in creating a cellular manufacturing
layout with its current machines. The chart below in figure 5.5 shows the machines
required by each part. Organize the machines and parts into cells.
1 2 3 4 5 6 7 8
A x x
B x x
C x x x
D x x
E x x
F x x x
G x
H x x x
I x x

Figure 5.5
Solution : Rearrange the rows :- First, place the machines that produce the same
parts in adjacent rows.

Production & Operations

Management : 48
Parts Facilites Layout and
Material Handling
1 2 3 4 5 6 7 8
A x x
H x x x NOTES

E x x
B x x
C x x x
F x x x
D x x
I x x
Rearrange the columns : Next rearrange the columns such that parts requiring the
same machines are put in adjacent columns.
1 4 3 5 8 2 6 7
A x x
H x x x
E x x
B x x
C x x x
F x x x
D x x
I x x
Further fine arranging will lead to following matrix :
1 4 3 5 8 2 7 6
A x x
H x x x
E x x
F x x x
B x x
C x x x
D x x
I x x

Production & Operations

Management : 49
Facilites Layout and Based on rearranged matrix, we can have following cells for different parts :-
Material Handling

NOTES Cell 1 Part 1 and 4

Cell 2 B Part 3, 5 and 8

Cell 3 H Part 2, 7 and 6

We can have three cells containing different machines as shown in figure 5.6. See
that part 6 requires operations on machine H, E and F. Machines H and E are grouped
in cell 3 while machine F is grouped in cell 2. Now it depends on volume of part 6. If
volume is not very high, we can take semi- finished 6 to cell 2 for processing of these
items on machine F. If volume is very high we can install one machine F in cell 3 also.
We can also take a decision to keep one machine F separately without assigning it to
any cell. Part 6 as well as part 3 and 8 also go to this dedicated machine for working on
this machine.
5.4.3 Mixed or Combined Layout
Generally pure process or pure layout is not found in practice. Both process and
product are mutually exclusive. Proper compromise reaping the benefits of both the
layouts is possible to some extent. So efforts are made to have the combined layout
incorporating the benefits of process and product layout. Combined layout is developed
as under :
(i) Product layout for the main product with a process layout for joint or by
product tapping the idle capacity of product layout along with marginal
investments required in process layout.
(ii) To diversify the production with a view to tap the idle capacity of the product
layout. Products with complete negative correlation with the product line
can make the maximum use of idle capacity of the product layout.
(iii) In the product layout, some process may be segregated from the product line
e.g., objectionable, hazardous, requiring special treatment and repetitive
performance etc.
5.4.4 Static Product Layout or Project Layout
The manufacturing operation require the movements of men, machines and
materials. Generally few inputs tend to be static while the others are moving. In the
Production & Operations product layout and process layout generally the machines have fixed installations and
Management : 50
the operators are static in terms of their specified work stations. It is only the materials Facilites Layout and
which move form operation to operation for the purpose of processing. But where the Material Handling
product is large in size and heavy in weight, it tends to be static, e.g., ship building. In
such a production system, the product remains static and the men and machines move
performing the operations on the product. The production characteristics are sufficient NOTES
enough to treat it as a separate type of layout, viz. static product layout.
5.4.5 Cellular or Group Layout
Here an attempt is made to introduce some of the advantages of a line layout into
a situation where pure line layout is not practicable. Here machines are placed in groups.
Each machine group makes maximally of parts which require similar treatment. This
layout lies between process layout and line layout. It is easier to control than a strictly
process layout and has more flexibility into the manufacturing system as regards the
batch size variations and the differing operations sequences.

5.5 Process Charts

The most commonly used process charts are :

1. Operations Process Chart
2. Flow Process Chart
5.5.1 Operations process chart
It is a process chat which gives an overall pictue by recording in sequence only
the main operations (O) and inspections ([])
Check Your Progress
5. What are the meaning
fig. of line balancing, cycle
time, flow time?

1. Type of chart.
2. Job concerned and whether it is the present or proposed method.
3. Date of study and name of observer.
4. Where chart begins and ends.
5. Adequate and accurate description of all activities on the right-hand side of
the symbol concerned.
6. Number each activity for identification purposes by placing the number
with in the symbol. The convention for doing this is implied by the chart.
(a) Each class of symbol is numbered in its own sequence.
(b) Numbering begins on the main line of activities which is always placed on
the right- hand side of the chart.
(c) The numbering sequence continues until there is a junction with a subsidiary
line, when it jumps to the top of this subsidiary and proceeds downwards
Production & Operations
form there. Management : 51
Facilites Layout and The same convention is applied when meeting all other junctions. When combined
Material Handling symbols are used, the first number applies to the outer symbol.
7. Date concerning time, distance, weight, or quantity are shown on the left-
hand sid of the symbol it refers to.
8. A summary of activities is shown at the bottom left hand side of the chart.
9. Use the same scale of breakdown in the analysis of activities so that the
comparison of present and proposed methods will not be distorted by
10. Neatness and clarity in the layout of the chart help to simplify the process of
critical examination
5.2.2 Flow Process Chart
A process chart setting out the sequence of the flow of a product or a procedure
by recording all events under review using the appropriate process chart symbols.
(a) Man Type : A flow process chart which records what the worker does
(b) Material Type :A flow process chart which records what happens to material.
(c) Equipment Type :A flow process chart which records how the
equipment is used.

Flow process Chart Job: Cast, Turn, Drill

Method :Present Location :Machine shop
Charted by :Ramesh Joshi Chart begins :Raw Materials Store
Date :25the Jan, 1997 Chart ends :Inspection pit

Present Proposed

No Time No Time

Operations 3 120

Transportation 2 nil

Inspections 1 20

Delays 2 40

Storages 3 nil

Distance Travelled 18 M


5.6 Flow Diagram

Production & Operations
Management : 52 A diagram or model, substantially to scale, which shows the location of specific
activities carried out and the routes followed by workers, materials, or equipment in Facilites Layout and
their execution. Material Handling

5.7 Travel Chart NOTES

It is also called from to chart, since it depicts the entire material flows amongst
the departments taken as source and destination. We present here in the fig. a typical
travel chart. The travel chat is of significant help in process type layout design. However,
it has no importance in product layout. It shows the material interface between
department. The higher the interface, the closer the departments are placed. It avoids
unnecessary materials handling. Though the theoretical ideal is not attainable in practice,
it is approximated as far as possible. The travel chart becomes a compact matrix of
materials flow. It is possible to computerize it. It can carry additional details about bulk
material handle, material handling equipment, method of material handling etc. to make
it more helpful. The entries in the chart are scattered on both the sides of the diagonal.
A to B and B to A departments’ travel requirements may be different. The sum of each
column (i.e., jobs entering the department and leaving the same department are equal).
It exercises a constraint on the continuity of the system. This is not valid for the first
and last department. The sum of first and last row exactly balance the sum of first and
last column.
Travel chart has the following merits.
1. Useful tool of materials movement analysis.
2. Useful to locate activities.
3. Alternative flows and layouts could be compared.
4. Relationship of activities in terms of volume of movement becomes clear.
5. Shows quantitative relationship and hence useful in computerization/Or

5.8 REL Chart

Relationship chart denotes relationship amongst department based on closeness

of the activities in that department. The letters used in the chat stand for :
A : Absolutely essential
E : Essential
I : Important
O : Ordinary
U : Unimportant
X : Not desirable.

5.9 Summary

Production & Operations

Management : 53
Facilites Layout and
Material Handling


5.8 Key Terms

Process Layout : A format in which similar equipment or functions are grouped together.
Job Shop Layout : Same as Process Layout
Functional Layout : Same as Process Layout
Product Layout : A format in which equipments are arranged according to the
progressive steps by whihc the product is made.
Flow Shap Layout : Same as Product Layout
Group tecnhology (cellular) Layout : Different machines are grouped into work
Centers (or Cells) to work on products that have similar processing
Fixed Position Layout : The product remains static but tolls are dynamic, i.e. tools ae
moved to the product.
Workstation Cycle time : The time between sucessive units coming off the end of an
assembly line.
Line balancing : Assigning all the tasks to a series of workstations so that each
workstation has no more than can be done in the workstations cycle time,
and so that idle time across all workstations is minimized.

5.11 Questions and Exercises

(1) What is the importance of site selection in developing a facility?
(2) What are the important factors affecting decision of site- selection?
(3) Define facility layout.
(4) What are the different types of facility layout?
(5) Give advantages and limitations of process layout.
(6) Give advantages and limitations of product layout.
(7) How group technoloty layout offers benefits of process and product layouts?
(8) In a factory for a new product desired output rate is 25 units per hour.
Employees are productive on an average for 50 minutes each hour. Task
times for various activities and their precedence is given below.
Production & Operations
Management : 54
Task Immedite Preceding Task Task time Facilites Layout and
Material Handling
A - 4
B A 3
D B,C 6
E D 7
F E 5

Using incremental utilization heuristic, balance the line with minimum number
of workstations.
(9) The time to perform each task and the tasks that must immediately precede
are shown below :
Task Task that immediatly precede Time to perform task (minutes)

A - 0.25
B A 0.08
C B 0.12
D B 0.17
E C, D 0.06
F E 0.05
G E 0.09
H E 0.11
I F,G,H 0.16
J I 0.08

If 150 products are to be produced per hour and 50 minutes per hour are productive:
(a) Draw a precedence diagram.
(b) Determine cycle time.
(c) Determine minimum number of workstations required.
(d) Using longest task- time heuristic, belance the line. Determine Utilization
(10) In a company, 5 parts are to be manufactursed. These 5 parts require machining
on 5 different machines. Requirement of various machines for making a part
is listed below :-
Part No Machines Required
1 A, D
2 B, C, E
3 A, D
4 B, C, E
5 A, B, C, E

Arrange this information on a matrix of parts and machine combination, as shown Production & Operations
Management : 55
Facilites Layout and in example 5.3.
Material Handling
Make cells for these parts so that to minimize the number of exceptional parts.

NOTES 5.12 Further Reading and References

Production & Operations

Management : 56
Structure NOTES
6.0 Introduction
6.1 Unit Objectives
6.2 Fore casting and Time Horizons
6.3 Classifications of Forecasting Methods
6.4 Extrapolative or Time Series Method
6.4.1 Moving Average Method
6.4.2 Weighted Moving Average Method
6.4.3 Exponential Smoothing Methods. Basic Exponential Smoothign Model Exponential Smoothing with Trend Component Exponential Smoothing Model with Seasonality
6.5 Forecasting Errors
6.6 Causal or Explanatory Methods
6.7 Qualitative or Judgemental Methods
6.8 How to have a successful Forecasting System
6.9 Summary
6.10 Key Terms
6.11 Questions and Exercises
6.12 Further Reading and References.

6.0 Introduction

Estimation of future demand of products and Services that an organization expects

to provide in the future is very much essential input for planning and control of
operations. Decisions are based on forecaste of future conditions as they become
operational in future. Forecasting tools help in the analysis of the environment and
provide inputs on how the organization can use its resources for maximum leverage.

6.1 Unit Objectives

After studying this Unit, you should be able to understand-
 Different timeshorizons of forecasting
 Classification of forecasting methods
 Use of time series analysis
 Use of regression analysis in forecasting
 Concept of forecasting error and various measures of forecasting errors Production & Operations
Management : 57
Forecasting  Qualitative forecasting techniques

6.2 Forecasting and Time Horizons

Planning and Control, for operation takes place at several, levels. For this reason,
we require different type of forecasts to serve requirements of different levels. Forecasts
can be of different types based on planning needs for different time horizons. These
can be as follows :-
(i) Immediate Requirements :- Forecast is required for current operations and for
the immediate future. Here degree of detail required in forecasting is high. The
forecast data should be available in a form that can be translated into demands for
material, specific labour skills, and time usage of specific equipments.
(ii) Intermediate - range Requirements :- This forecast serves the purpose of plan
to provide for the capacities of personnel, materials and equipment required for
the next 1 to 12 months. Here we require forecasting methods which can handle
aggregated forecasts by product types. Detailed forecasts for each individual item
may not be necessary.
(iii) Long- Range Requirements :- Long- range plans for capacity, location, and new
technologies for plant and equipment require forecasts for the next 1 to 10 years.
Because of the longer time involved, these forecasts will necessarily have greater
uncertainty and a lower degree of accuracy. The methods of forecasting should be
able to integrate objective data and subjective inputs.

6.3 Classification of Forecasting Methods

Forecasting methods can be divided into two main categories :

(a) Quantitative Methods.
(b) Qualitative Methods
Quantitative methods use numeric data and based on some mathematical approach,
forecasts are made. Two types of quantitative methods are available for forecasting.
(i) Extrapolative or Time Series methods
(ii) Causal or Explanatory methods
Extrapolative methods use the historical demand data for making forecasts. After
identifying pattern in past data, we extrapolate that pattern for future periods. This
method is very much suitable for short time horizons.
Causal methods are relationship based methods. Here demand of products is a
dependent variable. We establish a relationship between this dependent variable and
various independent variables which can affect the demand. These independent variables
can be price, advertising expenses, per capita income etc. Once this relationship is
established, future values can be forecasted by simply plugging in the appropriate values
for the independent variables.

Production & Operations Qualitative methods are used when neither historical data is available nor
Management : 58
independent variables can be easily identified. In qualitative or judgemental methods, Forecasting
we rely on experts opinion in making a forecast. These methods are useful for medium
to long- range forecasting.

6.4 Extrapolative or Time Series Methods

Extrapolative methods are pattern finding in past data of demand. Past data may
contain different types of characteristics. These are known as components of past data.
These are horizontal, trend, seasonal and cyclic variations.
(a) Horizontal Component :- Here demand data fluctuates about average demand.
The average demand remains constant and does not consistently increase or
(b) Trend Component :- Here demand data shows characteristics of sustained
increase or decrease from one period to the next. Demand of a product shows
positive trend during growth stage of product life cycle while it shows negative
trend in decline stage of product life cycle.
(c) Seasonal Component :- In some products, demand is either positively or
negatively affected by seasonal factors. For example, the sales of umbrellas
will be higher in mansoon period and lower in rest of the year, indicating a
positive seasonal component in the demand of umbrellas during mansoon
(d) Cyclical Component :- Cyclical component is similar of seasonal factor except
in frequency and duration of occurrence. Seasonal component is visible at
regular intervals and is of constant length, whereas the cyclic component
varies in both time and duration of occurrence.
6.4.1 Moving Average Method
Moving average method is the simplest extrapolative method.
The process of determining forecast using moving average method is as follows_
(i) Select the number of periods (N) for which moving avarage will be computed.
(ii) Take the average demand for the most recent N periods.
(iii) Average calculated in step (ii) above is forecast for next period.
Example : Demand of mobile phones from a retail outlet at Nasik for January
2013 to June 2013 is 90, 80, 100, 110, 100 and 120 respectively. What is the forecast
for the month of July 2013?
Solution :
(i) We need to select a value for moving avarage period, say N=3.
(Note : Larger N values will have a greater smoothing effect on random
fluctuations in demand. Smaller N values will emphasize the more recent
demand history.)
(ii) Take average demand for the most recent 3 periods.
Moving Average = Demand for June, May and April
3 Production & Operations
Management : 59
Forecasting 120+100+110
= = 110 Units
(iii) The Forecast for July is therefore 110 Units.
NOTES (Students should check forecast for July using N = 4 and N = 5)
Now, Take the actual demand for July as 112 Units. Using N = 3, the forecast for
August will be computed by taking the average demand for May, June and July.
Limitations of Moving Average Method
(i) Moving average method requires the storage of demand data for N periods
for each item. It is advised to keep large values of N for greater smoothing
effect on ramdom fluctuations, therefore in a production situation where
forecasts for a large number of items are to be made, the data storage
requirements are significant.
(ii) Simple moving average method is not suitable for trend or seasonality
component in data.
(iii) It gives equal weight to the demand in each of the most recent N periods.
6.4.2 Weighted Moving Average Method
Weighted moving average method is improvement over simple average method
by assigning a different weight to each previous period. Steps are as follows :-
(i) Select period of moving average (N).
(ii) Assign Weights w1, w2,.... wn to these most recent N periods in such a way
that w1 > w2 > wN ..... > wN and w1 + w2 + ..... + wN = 1 Where w1is the weight
attached with most recent demand and wN is the weight attached to the demand
of Nth period from the most recent.
(iii) Calculate Weighted Moving Average using following expression.
Weighted Moving Average = W1D1+ .... + wNDN
(iv) Weighted moving average calculated in step (iii) above is the forecast for
next period.
Example 2 : Demand data is as follows :

Week Actual demand

7 85
8 102
9 110

Take moving average period N = 3. Weights are.50, .30 and .20 from most recent
(9 Week) to 7 th Week, respectively.

Forecast for 10th Week = .2(85) + .3(102) + .5 (110)

= 102.6 Units.
Weighted moving average method allows forecasters to specify the relation
Production & Operations importance of each past period of data.
Management : 60
6.4.3 Exponential Smoothing Methods Forecasting
Exponential smoothing methods are special category of weighted moving average
method where weight assigned to a previous period's demand decreases exponentially
as that data gets older.
These methods are finding maximum use in production and operations applications
that involve forecasting for a larger number of items. It is particularly suitable for small
time horizon. It provides a quick mechanism to update the forecast without much efforts.
These methods provide forecast which have adjusted randomness and tracks trends
and seasonality. Basic Exponential Smoothing Model
First, we consider a case where only horizontal component is present in demand
data. As discussed earlier, demand fluctuates around an average value. This average
demand is known as base. If the base is constant from period to period, then all
fluctuations in demand are attributed to randomness.
Figure 1 shows presence of randomness in horizontal demand data.
Randomness actual demand curve

Demand average demond (Base)


0 t
Time Fig. 1
In basic exponential smoothing model, the updated base for current period is
forecast for the next period.
The demand of current period is a result of average demand and fluctuations
which can be attributed to change in the base and random noise.
Updated base for current period is, therefore calculated as follows :
New Base or updated base = Previous Base + α (Demand for Current period -
Previous Base)
Where α is smoothing constant. Values of α can be between 0 to 1, but for most
practical purposes α varies between 0.01 to 0.30
In symbols, St=St-1 + α (Dt-St-1)

or St= α Dt + (1- α) St-1

and Ft+1 = St

Example : Demand of a product in the month of April was 75 Units, while base
for month of march was 70 Assume α = .20, what will be forecast for May?
Solution : Forecast for May will be updated base for April.
SApril= α DApril + (1-α) Smarch
=.20 (75) + .80 (70)
= 15 + 56 = 71 Units Production & Operations
Management : 61
Forecasting Expontial smoothing methods are simple and resolve the issue of large data storage
of historical data.
Only current demand and base of immediate past period is enough for forecast.
NOTES In exponential methods, choice of α allows us to control the weighting of the new
demand. Small values of α have a stronger smoothing effect than large values. On the
other hand, large values of α reflect real changes in actual demand more quickly. Thus,
if fluctuations in demand are primarily due to randomness, small α should be taken. If
fluctuations in demand are due to a changing base, then a higher α should be chosen.
(Students can discuss effects of two extreme cases when α = 0 and α = 1.) Exponential Smoothing with Trend Component
In past data, presence of trend component is very common. Trend can be positive
or negative. In a positive trend, demand increases over the periods while in negative
trend demand decreases over the periods.
Trend can be linear or ratio. The apparent linear trend is exponentially smoothod
averages is the difference between the successive values, St-S t-1. Ratio trend is
exponentially smoothed averages is the ratio of the successive values,
In case trend is present in our data, we will use one additional smoothing constant
(β) to smooth the St-St-1 Series. Values of β will also range between 0 ot 1. These values
may or maynot be similar to α values.
The process of calculation of forecast for next periods will require updated base
and updated trend.
Updated base will be calculated as follows :
St= α Dt+ (1- α) (St-1 + Tt-1) -A
Where Tt-1is trend of previous period.
The updated trend Tt=β (St-St-1) + (1-β) Tt-1 -B
Therefore forecast for next period = Ft, 1 = St+ Tt -C
and forecast for m period ahead = Ft,m = St+ mT -D
Example : Following demand data is available for a product for past six months:

Month Actual Demand (Dt )

Jan 19.50
Feb 24.00 Assume initial base of 20.00 and trend 0,
determine forecast for the month of July.
March 30.00
Take α = .2 and β = .1
April 32.00
May 29.00
June 35.00
Production & Operations
Management : 62
Solution : Using equations A and B, we can determine updated base and trend for Forecasting
various months from January to June.
Given S0 =20, T0 = 0
SJan = α DJan + (1- α) (S0 + T0)

TJan = β (SJan -S0 ) + (1- β) T0

} SJan = 19.9 TJan = -.01 NOTES

SFeb = α DFeb + (1- α) (SJan + TJan)

TFeb = β (SFeb -SJan ) + (1- β) TJan

} SFeb = 20.712 TFeb = .0722

Students should complete remaining calculations.

SJune = α DJune + (1- α) (SMay + TMay)
} SJune and TJune
TJune = β (SJune -SMay ) + (1- β) TMay

FJuly = SJune + TJune Exponential Smoothing Model with Seasonality

Seasonality may also be present in past data. Here we need to construct a seasonal
index using previous data. Seasonal index is prepared by dividing each monthly demand
by the annual average. Use seasonal indexes to deseasonalize the data (remove the
seasonal patterns). Then calculate deseasonalized smoothed base as
St= α ( ) + (1-α) St-1
Where I is seasonal index and L represents number of periods in one cycle - 12 if
data are by month, 4 if data are by quarter. So in case of monthly data, if we are
updating base for July 2013, we will use It-t for July 2012.
Seasonal indices will be updated using
It= γ ( ) + (1- γ) It-L - F
Where γ is another smoothing constant to smooth seasonal indices.
Here forecast will be
Ft,1 = StIt-L+1 - G
(To forecast for the upcoming period, t+1, we take the most current updated base,
but we modify it by the seasonal index for the upcoming period, It-L+1.)
For Forecasting m periods ahead, Ft,m = StIt-L+m - H
Example :- Past data for a product's demand is as follows :

Quarter 2010 2011 2012 2013

1 10 10 10
2 30 50 50
3 50 50 60
4 10 10 20 Production & Operations
Management : 63
Forecasting Consider α = γ = .3
Solution : Here data of 2010 will be used for getting initial seasonality indices
for different quarters.
NOTES Average demand for 2010 = 25
So (I1)2010 = 10/25 = 0.4
(I2) 2010 = 30/25 = 1.2
(I3) 2010 = 50/25 = 2.0
(I4) 2010 = 10/25 = 0.4
Assume Base for fourth quarter of 2010 as 15.

Now (S1)2011 = α ( D1, 2011

I1, 2010
) + (1-α) S 4, 2010

= .3 ( 10
) + .7 (15) = 18
and (I1)2011 = .3 ( D1, 2011
S1, 2011
) + .7 (I 1, 2010

= .3 (10) + .7 (.4) = 0.45

(S2)2011= α ( D2,2011
)+ (1-α) S 1, 2011
= .3 ( 50 )1.2+ .7 (18) = 25.1
and (I2)2011= γ ( D2,2011
S2, 2011
) + (1-γ) (I 2, 2010
) =.3 ( 50
) + .7 (1.2) = 1.44
(S3)2011= α ( DI 3,2011
)+ (1-α) S 2, 2011
= .3 ( 2.050 ) + .7 (25.1) = 25.07
3, 2010

and (I3)2011= γ ( D3,2011

)+ (1-γ) )I 3, 2010
= .3 ( 25.07
) + .7 (2) = 1.998
In this way calculation can be completed to forecast demand for different quarters
of 2013.

6.5 Forecasting Errors

Forecasting is estimation of future demand. Actual demand may be different from

forecasted values. Difference between actual demand and forecast for same period is
known as forecast error.
Forecast error, et = Actual demand for period t - forecast for period t
et= Dt-Ft
Following four measures of forecasting error help in decision making regarding
Production & Operations
Management : 64 selection of a particular model for forecasting.
1 n Forecasting
1. Average error (AE) = Σ et ,
n t=1
zero for a large
AE should be near sample, otherwise, the model exhibits bias.

2. Mean absolute deviation (MAD) NOTES

1 N
= Σ l et l ,
N t=1
MAD is a very useful forecasting error measure. It is average of all forecasting
errors without regard to algebraic sign. MAD is particularly useful in selecting a
forecasting model and its parameters.
3. Mean squared error (MSE)
1 N
= Σ et2 ,
N t=1
MSE provides information similar to MAD, but it penalizes larger errors.
4. Mean absolute percentage error (MAPE)
1 N et
> >
x 100 &
MAPE gives the decision maker an idea of how much the forecast is off as a
perantage of demand.
One or more of these measures could be used to compare the performance of
alternative forecasting models.
Tracking Signal :- A tracking signal is a measurement to determine pace of forecast
average with any genuine upward or downward changes in demand.
Tracking Singal, TS =
Where RSFE = The running sum of forecast errors, considering the nature of the
error. (negative errors cancel positive errors and vice versa.)
Exhibit 1. Computing MAD, RSFE and TS from forecast and actual Data.

Month Forecast Actual Demand et RSFE &e& t

Σ &e&

1 1200 900 -300 -300 300 300 300 -1

2 1200 1050 -150 -450 150 450 225 -2.0
3 1200 1100 -100 -550 100 550 183.3 -3.00
4 1200 1250 +50 -500 50 600 150 -3.33
5 1200 1150 -50 -550 50 650 130 -4.23
6 1200 1300 +100 -450 100 750 125 -3.60

Production & Operations

Management : 65
Forecasting 3
2 Actual exceeds forecost
Tracking 0
Signal 1
4 Actual is less than forecost
1 2 3 4 5 6

Fig 2 A plot of the tracking signals calculated in exhibit 1.

In a perfect forecasting model, the sum of the actual forecast error would be zero;
the errors that result in overestimates should be offset by errors that are underestimates.
The tracking signal would also be zero, indicating an unbiased model, neither leading
nor lagging the actual demands.
In figure 2, tracking signal is continue to drop, indicating actual demand is less
than forecast. We would conclude that assuming a forecast at 1200 is a bad forecast.

6.6 Causal or Explanatory Methods

The causal forecasting models express mathematical relationships between the

causal factors and the demand for the item being forecasted. Most common type of
causal method is linear regression analysis. Other model can be econometric methods.
Linear Regression Analysis : Regression can be defined as a functional
relationship between two or more correlated variables. It is used to predict one variable
given the other. We need to identify those independent variables which influence the
unknown or forecasted value of the dependent variable. If only one independent variable
is used to estimate the dependent variable, the relationship between the two is established
using simple regression analysis. Linear simple regression analysis refers to the special
class of regression where the relationship between variable forms a straight line. This
line is of the form Y = a + bX, where Y is the forecasted value (dependent variable), a
is the Y intercept, b is the slobe, and X is the value of independent variable. Linear
regression is useful for long- term forecasting of major occurrences and aggregate
In a regression line Y = a + bx
Σ xy - n xY
Σ x2 - nx2

a = Y - b x-

Production & Operations

Management : 66
Exhibit 2 Data and intermediate computations for regression analysis. Forecasting

Indian Sales Global Sales

Y X XY X2 Y2
(10 thousand Rupee) (Million Rupee) NOTES
9 2 18 4 81
14 4 56 16 196
16 4 64 16 256
18 6 108 36 324
19 6 114 36 361
20 6 120 36 400
18 7 126 49 324
21 7 147 49 441
22 8 176 64 484
23 10 230 100 529

Σ Y = 180 Σ X = 60 Σ XY = 1159 Σ X2 = 406 Σ Y2 = 3396

ΣX 60
X= = =6
n 10
ΣY 180
Y= = = 18
n 10
Σ XY - nxY 1159 - 10 (6) (18)
b= = = 1.717
Σ X - nx
2 2
406 - 10 (6)2
a = y- - bx- = 18 - 1.717 (6) = 7.698
The regression line is Y = 7.698 + 1.717 x
The regression line equation will yield forecasted values corresponding to any
value of independent variable 'x'.
The value of independent variable 'x' is known from some sources which are
Scatter diagram for the data in exhibit 2
Indian 14
Sales 12

0 1 2 3 4 5 6 7 8 9 10
Global Sales
Production & Operations
Fig. 3 : Scatter Diagram Management : 67
Forecasting In causal method, we have considered an independent variable 'X' to forecast 'Y'.
But in most of the situations all variations of 'Y' can not be explained by single 'X' only.
Ideally 'X' should be able to explain all variations of 'Y', but a measure known as
coefficient of determination (r2) is designed to know the strength of the linear relationship
NOTES between the two variables. There are three types of variations in Y : total, explained,
and unexplained.
Total variation = Explained variation + unexplained variation
Σ (Y-Y)2 Σ (Y - Y)2 + Σ (Y - Y)2

The Total variation is the sum of the squared deviations of each value of y from
its mean y-.
The explained variation is the sum of the squared deviation of Y values that lie on
the trend line from y-.
The unexplained variation is the sum of the squared deviations of y from Y values
on the trend line.
Coefficient of determination is determined by the ratio of explained variation to
total variation :
Explained variation Unexplained variation
r2 = = 1-
Total Variation Total Variation
For some data if r2= .85, This means that 85% of the variations can be explained
by the variation in independent variable 'X' and 15% has not been explained. If r2 is
low, then we should either look for another independent variable or include other
variables in the analysis.
Reliability of Forecasts :
 Figure 4 presents scattering of two
sets of data point, represented by 0 and 
around same trend line. It is evident that,

on an average, the deviation between the
forecasted value and the actual value will
be points are widely scattered around the
line, as in case of 0 data set and smaller if
Fig. 4 Scattering of data points X
the data points are close to the line, as in
around Trend line
case of 
Standard error of estimate, Sy.x, is a measure to know the extent to which data
points are scattered around a trend line.
√ Σ (Y - Y) 2
Where Y and Y are the observed and the estimated values of the dependent variable.
If Sy.x is small relative to the forecast, past data points have been tightly grouped
about the trend line.
Production & Operations Simple regression analysis has its limitations in developing forecasts with high
Management : 68
accuracy in the real business world. In many such situations, multiple regression analysis Forecasting
is used when two or more independent variables are used in regression equation.
Consider an equation Y = 20 + 3.2X1+12.2 X2 - 0.6 X3
This is a multiple regression equation involving three independent variables x1, NOTES
x2 and x3.
Multiple regression analysis is used for forecosting for longer terms, as when
new products and services are contemplated or when new facility locations and capacities
are being considered. Multiple regression analysis requires considerable time and cost
because various hypotheses about the effect of various variables may need to be tested.
Now a days, standard computer programs are available easing the application of multiple
regression analysis.

6.7 Qualitative or Judgemental Methods

In many situations it is very likely that neither we have enough past data to develop
a time series analysis nor we have knowledge of independent variables affecting demand
of the product in future. In these cases qualitative or judgemental methods are the most
scientific approoch to bring as much order as possible to judgements of experts. Some
of the important qualitative methods are delphi technique, market survey, historical
analogy and life cycle analysis and scenario based forecasting.
The Delphi Method : The delphi method is a consensus building process among
a panel of experts in a way that eliminates the potential dominance of the most verbal
expert. The result of Delphi method is a pooled judgement, in which both the range of
opinion and the reasons for differences of opinion can be seen.
Some experts from inside and outside the organization are taken. Each panel
member is an expert on some aspect of the problem, but no one is an expert on the
entire problem.
In this method, each expert in the group makes independent predictions in the
form of brief statements. The co ordinator of panel edits and larifies these statements.
Based on the feedback supplied by experts of the panel, co-ordinator provides a series
of written questions to the experts. Experts again make predictions in light of feedback
supplied by co-ordinator and process is repeated till a convergence is obtained. This
converged / consensus prediction is the forecast.
Delphi Techniques are suitable for longest term forecasting.
Market Surveys : Market surveys are costly and time consuming efforts for
forecasting. It tests market through questionnaires, surveys, tests of trial products etc.
There are a lot of sophistication in area of market surveys which is mostly discussed in
courses of statistics and market research.
Historical Analogy and Life Cycle Analysis :- These methods are used to
supplement market research studies. This method used product life cycle curve (S-
Curve) analysis of an ancestor of the product or service under consideration.
Production & Operations
Management : 69
6.8 How to have a successful forecasting system

Following figures explains the role of forecasting in business.


Related to market, Forecasting Business Output

economonic and
other external
factors convert forecast
of products into
resource forecast

Long Range Medium Range Short Range

Factory Capacity, Workforce, Machine

funds etc. Inventories, capaicty
Departmental, utilization cash
capacities etc. Inventories etc.

Fig. 5 : Role of forecasting in Business.

This figure 5 clearly shows that forecasting is a vital input for arranging various
production resources in an organization. It is therefore very important to have good
forecasts. Sometime organizations fail to involve a broad cross section of people in
forecasting, fail to recognize integral role of forecasting in business planning, fail to
select an appropriate forecasting method and fail to track the performance of the
forecasting models. As a result forecasting becomes ineffective.
Selection of right forecasting model plays a very important role in making effective
Cost, accuracy, data available, time span and nature of products and services are
some of the important factors for selection of a forecasting method.
Organizations do a trade-off between cost and accuracy. In many situations, simple
and low - cost forecasting methods tend to provide forecasts that are as accurate as
more complex and high- cost forecasting methods.

6.9 Summary

Production & Operations

Management : 70


6.10 Key Terms

Extrapalative method : Use of past data to make future estimates.

Causal method : Predicting future demand with the help of a cause- effect relationship
between dependent variable (demand) and independent variables.
Seasonality : Seasonal patterns that are fluctuations usually within one year and the
tend to be repeated annually.
Tracking signal : Measurement showing whether a forecast has had any built in biases
ouer a period of time.
Time series : Set of observed values, usually sales, measured over successive period
of time.
Mouing average method : Short rarge forecasting method that averages the data from
a few recent past periods to form the forecast for the next period.
Delphi method : Qualitatine forecasting method using experts to achieve consensus in
two-three rounds of iterations.

6.11 Question and Exercises

1. What is forecasting? Describe how forecasting is integral to business
2. What are the different components of historical data? Give examples also.
3. Define and describe the co-efficient of determination.
4. What is the meaning of seasonal indexes? Why do we smooth these indexes
for subsequent years?
5. What is the tracking signal? How is it used in forecasting?
6. Are exponential smoothing forecasts weighted averages? Explain.
7. Why do we have different measures of forecosting error? Explain their utility.
1. Following actual demand data is available for past 10 weeks.

Week No. 1 2 3 4 5 6 7 8 9 10

Actual Demand 100 125 90 110 105 130 85 102 110 90

(a) Determine forecast for 11th Week using 3, 5 and 7 week moving average.
(b) Also determine forecast for 8th, 9 th and 10th Weeks using three different
moving avarages, i. e. 3 week, 5 week and 7 week. Production & Operations
Management : 71
Forecasting (c) Determine MAD in case of three different forecasts as obtained in step (b)
for 8th, 9 th and 10th Weeks.
2. Consider following data for last two years, given on monthly basis.
NOTES Month No of Crimes Month No of Crimes Month No of Crimes
Reports Reports Reports

1 16 9 51 17 63
2 25 10 56 18 57
3 16 11 67 19 48
4 24 12 45 20 55
5 38 13 53 21 61
6 46 14 61 22 51
7 54 15 55 23 56
8 52 16 69 24 53

(a) Develop a moving average forecast for the past 5 months (Months 20-24)
with period of moving average = 3, 5, and 7 months.
(b) Which moving average results in the minimum MAD?
(c) Consider a 5 month weighted MA model with weights .45, .25, .15, .10 and
.05 in order of most recent period. Develop forecast for months 20- 24.
(d) Determine MAD for (c) and compare with MAD obtained step (b) above.
3. Assume an initial starting forecost of 100 units, a linear trend of 10 units, α =
.20, β =.30. If actual demand is 115. Determine forecast for the next period.

6.12 Further Reading and References


Production & Operations

Management : 72
Inventory Management
7.0 Introduction
7.1 Unit Objectives
7.2 Concept of Inventory Management
7.2.1 Reasons to keep Inventory
7.2.2 Types of Inventory
7.2.3 Inventory Costs
7.3 Continuous Inventory Systems
7.4 Periodic Inventory Systems
7.5 Two-bin System Method
7.6 The ABC Classification System
7.7 Economic Order Quantity Models
7.7.1 EOQ model with non instantaneous delivery
7.7.2 Quantity Discounts
7.7.3 Reorder Point
7.7.4 Reorder point with variable demand
7.8 Order Quantity for a Periodic Inventory System
7.9 Summary
7.10 Key Terms
7.11 Questions and Exercies
7.12 Further Reading and References.

7.0 Introduction

Have you ever gone shopping in a Big Bazaar, Easyday, Reliance Mart, Vishal
Mega Mart? The concept behind these stores is to offer high quality goods at high
volume and low cost in modest surroundings. It is entirely feasible to buy a 5kg potatoes
/ tomatoes/seasonal vegetable at a very reasonable price (lower than open market).
Does that sound tempting to you? All right, maybe potatoes / tomatoes / seasonal
vegetable aren’t the most glamorous food in the world, but you’ve got to admit that
prices these stores offers are quite a bargain. Suppose you bought all your food at such
a place. Most of the products come packaged in discount packs, like a 6-pack of soaps,
or 4-pack of Parle biscuits, or 2-pack of Colgate pastes, or 2-pack of a Real / Tropicana
Juice, 2l bottle of soft drink etc. Maybe such a store is 5-10 km from your home. If you
only get into the area once a month, those big packages might be just right. Come on,
wouldn’t you be tempted to make a once-a-month trip to the store to load up on all your
favorites? Production & Operations
Management : 73
Inventory Management Well, maybe not. What if you live in an apartment with a kitchen the size of a
cabinet? Where would you put everything? Or maybe you have one of those small
refrigerators. Then again, if you are student, maybe your cash flow is slower than
you’d like, and dropping Rs. 1000 at a time is a pretty big deal. Maybe you’d even
NOTES have to get a loan if you needed Rs. 1000. Then there’s all those vegetables / grocery /
daily needs items sitting, waiting, s-l-o-w-l-y wasting away. After all, how much of
that stuff can you eat? Still, running to the nearby store every other day to buy high-
priced daily needs items is no bargain, and the thought of getting all your shopping
done at once, saving time / conveyance cost by making one trip, the lower prices for
the higher quantity. One common thing that everyone may observe after visiting these
shopping malls is, they does not offer any thing unique which is not available in near
by small shops but these shopping malls differentiate themselves with other in terms of
HUGE STOCK OF ITEMS at a time. In nutshell, one can conclude that AMOUNT OF
STOCK provides a competitive dimension to these shopping malls.

7.1 Unit Objectives

This chapter discusses the basics of inventory management and provides

quantitative methods for determining order quantity, timing of order and amount of
safety stock. At the end of this chapter, you should be able to know the following
1. Purposes of inventory.
2. Types of costs associated with inventory.
3. Types of inventory management systems.
4. Purpose of the basic EOQ model, assumptions associated with EOQ model.
5. How inventory cost and quantity to be ordered is computed using EOQ model?
6. Different types of models of inventory other than EOQ model.
7. Purpose of each of the following: EOQ model with non-instantaneous receipt,
quantity discounts, reorder point, lead time, safety stock, and fixed time
period inventory systems, fixed order quantity model.
8. Classification of inventory on the basis of cost and quantity.
9. Requirements for good inventory management system

Production & Operations

Management : 74
Inventory Management


Figure 7.1
Industrial managers are hesitant towards inventories. On the one hand, inventories
are costly, blocking up considerable amounts of working capital. They are also risky
because items held in stock could deteriorate, become obsolete or just get lost, and,
furthermore, they take up valuable space in the organization. On the other hand, they
provide some security in a complex and uncertain environment. Knowing that one
have the items in stock, should customers or production schedules demand them, is a
comforting insurance against the unexpected. Certainly when a customer goes elsewhere
because just one item is out of stock, or when a major project is waiting for just one
small part, the value of inventories seems indisputable. This is the tight spot of inventory
management, in spite of the cost and the other disadvantages associated with maintaining
stocks, inventories do facilitate the smoothing of supply and demand. In fact inventories
only exist because supply and demand are not in harmony with each other.

Production & Operations

Management : 75
Inventory Management
i. What item should be ordered? TYPE
ii. How much of an item should be ordered at a time? QUANTITY
iii. When should orders be placed? TIMING
NOTES iv. How should stock (inventory) be monitored? TRACKING
v. Is it better to order a large amount at once, or order a smaller amount many
times throughout the year? MINIMIZATION OF COST
vi. How to classify inventory items into various categories? CLASSIFICATION.
vii. What is the cost of inventory policy that has been selected?
Thinking about this scenario should you give some perspective of what inventory
management is all about. As an Industrial Manager one has to answer following
In general the above questions deals with type of order, quantity of order, timing
of order and tracking of order.

7.2 Concept of Inventory Management

Inventory is a stock of items held to meet future demand. Any item available with
us which is not being used right now, is inventory. The best examples of inventory are
at our home. We keep inventory of water, vegetables, milk, and grocery. One can observe
all these items at our home are kept in excess of our immediate requirement, they are
being stocked in anticipation of demand i.e. over the time these items may be required.
Similarly shops, retail stores, companies and industries keep inventory of various items
in anticipation of demand. Any organization whether buys parts and products or produces
them, is faced with decisions about inventory. Inventories are neither totally good nor
totally bad. Adequate inventories facilitate production activities and help to assure
customers of good service. The types of inventory and reasons for keeping them put
the foundation for inventory management practices. This chapter is primarily concerned
with general inventory management practices, and more specifically with minimizing
inventory costs.
Inventory can be defined as a stock of materials maintained to overcome
future demand.

Inventories are idle stocks of any kind that possesses economic value and
held for future use.

Check Your Progress 7.2.1 Reasons to keep Inventory

1. What are the various i. To overcome anticipated demand - These inventories are referred to as
components of anticipation stocks because they are held to satisfy planned or expected demand.
inventory ii. To smooth seasonal or cyclical demand - Organisations that experience
management? seasonal patterns in demand often build up inventories during off-season to
meet high requirements during certain seasonal periods.
iii. To take advantage of price / quantity discounts – Some times item are
Production & Operations inventoried to take advantage of price discount, if those items are purchased
Management : 76 in larger quantity.
iv. To provide a means of obtaining and handling materials in Economic Lot Inventory Management
Sizes - Inventory storage enables a firm to buy and produce in economic lot
sizes without having to try to match purchases or production with demand
requirements in short run.
v. To protect against price increases - The ability to store extra goods also
allows a firm to take advantage of price discounts for large orders.
vi. To decouple successive stages in operations so breakdowns do not stop the
entire system - The buffers permit other operations to continue temporarily
while the problem is resolved. Firms have used buffers of raw materials to
insulate production from disruptions in deliveries from suppliers, and finished
goods inventory to buffer sales operations from manufacturing disruptions.
vii. To guard against unexpected natural events - like strikes, shortages, bad
weather, etc - Delayed deliveries and unexpected increases in demand increase
the risk of shortages. The risk of shortages can be reduced by holding safety
stocks, which are stocks in excess of anticipated demand.
Effects of un-managed inventory system
Un-managed control of inventories can result into two categories:
i. Under stocking results in missed deliveries, loss of business, dissatisfied
customers and production bottlenecks.
ii. Overstocking unnecessarily blocks up funds that might be more productive.
7.2.2 Types of Inventory
Inventory can take on a number of different forms for different reasons as
mentioned below.
i. Raw materials
ii. Purchased parts and supplies
iii. Work in process (WIP) inventory (partially completed) products
iv. Component parts
v. Working capital
vi. Tools, machines, and equipment
vii. Finished goods
viii. Fluctuation inventory - safety stock maintained to prevent shortages

Check Your Progress

2. Discuss two examples
fo dependent and
independent demand.

Figure 7.2 : Types of Inventory Production & Operations

Management : 77
Inventory Management Demand
Two basic types of demand are considered in inventory management. Each type
requires different management systems and ordering philosophies.


Figure 7.3 : Dependent and Independent demand

Independent demand
Independent demand of items is demanded by external customers. Finished goods
/ end products fall under this category, which eventually feed the demand for dependent
demand goods. This demand is uncertain and we predict it using forecasting methods.
The inventory for products falling under independent demand is usually stocked on a
continual basis uniform over time. The demand of items available in retail stores fall
under the category of independent demand. In a Big Bazaar, the demand for number of
various items offered for sale, for example, appliances, cosmetics, garments, etc. fall
under independent demand category.
Dependent demand
Dependent demand of items is generated by the items that are used to produce
final products / end products. Demand for these items “depends” on the demand for the
final product. Demand for items that are subassemblies or component parts to be used
in production of finished goods. Once demand for the final product is known, demand
can be predicted exactly. Dependent demand tends to occur in lumps. Dependent
inventories are stocked as they are needed.
Refer to figure – 6.3, the manufacturing of bicycle is shown, bi-cycle is the end
product, therefore, it falls under independent demand, while the demand of sub-products
(handles, frames, etc.) that are used for assembly of bi-cycles fall under dependent
demand, as the demand of these products is dependednt on number of bi-cycles to be
7.2.3 Inventory Costs
Inventory can be very costly. Inventory “turnover” has become a measure of
competitiveness. Inventory turnover is the total inventory used for the year divided by
the inventory value held for a time period. For example, if Rs. 1,00,00,00,000 (10
Crore) of inventory is used per year, and about 100,00,00,00 is held at any given time,
inventory turnover is 10. In general it means a “complete set of inventory” bought
about 10 times during the year.
Production & Operations
Management : 78
Major Categories of Inventory Cost Inventory Management
Carrying cost (Cc)
Inventory carrying cost also called as inventory holding costs, is the cost of holding
or maintaining an item as inventory. These costs vary with the level of inventory and
with the length of time an item is stocked, i.e. the greater the amount of inventory over
time, the higher the carrying costs. As the number of orders per year decreases, the
annual inventory carrying cost increases because a higher volume of items must be
purchased each time. (Is it a good idea for a restaurant to order refrigerated food products
just once a year?)

Check Your Progress

3. Describe various costs
associated with
inventory management.

Figure 7.4
Elements Types of carrying cost
i. Financing, Interest on money invested in inventory, and loss of positive cash
ii. Direct storage costs, like rent, heating, cooling, lighting, security, refrigeration,
record keeping, and internal transportation.
iii. Protection / security cost.
iv. Depreciation and obsolescence.
v. Product deterioration and spoilage, breakage, and pilferage.
vi. Taxes and insurance.
Methods of calculating carrying cost:
Summing all the individual costs just mentioned and assigning them on a per-unit
basis per time period, such as Rupees 20 per unit per year. Carrying costs can be
expressed as a percentage of cost of inventory item by summing all the individual costs
and assigning them on a percentage basis, such as 15% of cost of item per year to hold
Ordering costs
Ordering Costs are basically the cost of getting the item into the firm’s inventory.
They are occurred each time an order is placed and are expressed in revenue such as
Rupees or $ per order. Ordering Costs start with the requisition sent to purchasing
office, includes all cost of issuing to purchase order and of following it up, continue Production & Operations
with such steps as receiving the goods and placing them into inventory, and end with Management : 79
Inventory Management the buying firm’s paying the supplier. Salaries constitute the major ordering cost,
stationary is another ordering cost. Ordering cost per unit of item decreases as number
of units ordered in single order increases. Or as the number of orders per year increases,
the annual ordering cost increases, i.e. number of units ordered in single order decreases
NOTES (Is it a good idea to order a single pencil each time someone in the company needs

Figure 7.5
Types of ordering costs:
i. Salary of purchasing department employees,
ii. Paperwork associated with order placement, invoicing, and payment
iii. Transportation and shipping from the supplier.
iv. Receiving and inspection.
v. Handling and storage.
vi. Accounting and auditing costs.
Method of calculating ordering cost:
Usually the above costs are summed and applied on a “per order” basis.
Shortage or stockout cost — temporary or permanent loss of sales when demand
cannot be met because of insufficient inventory.
Later, we’ll see that the question of how much to order is based on the concept
that inventory carrying costs react inversely to inventory ordering cost. We’ll find the
optimal amount to order to avoid excess carrying cost and excess ordering cost.
Concept of Average Inventory
If a firm buys an item only once for the coming year, if use of the item is constant,
and if the last of the item is used on the last day of the year, then the firm’s average
inventory equals one-half of the amount bought; this is the same as saying one-half of
the beginning inventory. Fig.7.6 shows average inventory under conditions of constant

Production & Operations

Management : 80
Inventory Management
Maximum Inventory + Minimum Inventory
Average amount of inventory =
Q+0 Q
= =

Figure 7.6 : Concept of average inventory

Inventory Control Systems
The question of when and how much inventory to order depends on the type of
inventory control system used:

7.3 Continuous (fixed-order-quantity) Inventory Systems

In this model of inventory system every time (in every inventory cycle) a constant
amount of items are ordered when inventory of item declines to a predetermined level. Check Your Progress
This system is event triggered, i.e. placing of next order is based on event to take place, 4. Differentiate between
ex. generally people re-fuel there two-wheelers, when the level of fuel reaches a fixed order and fixed
predetermined level (reserve). In this kind of system continuous tracking of inventory time inventory system.
is required, eg. in automobiles continuous monitoring of fuel is taking place.
1. The control provided by the continuous monitoring of inventory withdrawals.
2. The fixed-order quantity management can identify an economic order size.
1. The added cost of record keeping.

7.4 Periodic (fixed-time-period) Inventory System

In this mode of inventory system an order is placed after a fixed amount of time
period for a variable amount of items. The level of inventory is not contionously
monitored. The level inventory is cheked after fixed time period only. In many items Production & Operations
this kind of system is used, eg. distribution of bread, coke, pepsi, medicines. FMCG Management : 81
Inventory Management products by respective companies are ordered after fixed amount of time period.
Orders for many items occur at the same time, which can result in economies in
NOTES processing and shipping orders.
(a) Lack of control between reviews.
(b) The need to protect against shortages between review periods by carrying
extra stock.
(c) The need to make a decision on order quantities at each review

7.5 Two-bin-system method

Here we keep two containers of inventory and reorder takes place when the first
is empty. The advantage of this system is that there is no need to record each withdrawal
from inventory; the disadvantage is that the reorder card may not be turned in for a
variety of reasons.
Tracking System
Universal Product Code (UPC) bar code printed on a label has information about
the item to which it is attached. Bar coding represents an important development for
other sectors of business besides retailing. In manufacturing, bar codes attached to
parts, subassemblies, and finished goods greatly facilitate counting and monitoring

Fig 7.7 : A typical bar code

7.6 The ABC Classification System

Another important aspect of the inventory control system is the degree of

monitoring revuirements. Because demand volume and the value of items varies,
inventory can be classified according to its value to determine how much control is
1. Class A items are 5-15% of the items by quantity, but 70-80% of the revenue
value of the times (automobile chassis, heavy equipment)
2. Class B items are 30% of the items by quantity, but 15-20% of the revenue
value of the times (parts, supplies, steering wheels and storage consoles).
3. Class C items are 50-60% of the items by quantity, but 5-10% of the revenue
value of the times (pins, nuts, bolts, pens, etc.).

Production & Operations

Management : 82
Inventory Management


Check Your Progress

5. Classify items into
ABC Categories at an
qutomobile spare parts
shop in your area.

Figure 7.8 : ABC Classification of inventory items

Class Percentage revenue value of items Percentage quantity of items

A 70-80 5-15

B 15-20 20-30

C 5-10 50-60

Table 7.1 : Classifying Items as ABC

The analysis points the way to where control efforts are best directed. Judgment
is needed on critical items or security matters that Pareto analysis in itself does not
reveal. remember in assembly situations where items from A, B and C are combined in
an assembly, a C item out of stock can delay production just as much as an A or B item.
The analysis requires items to be listed with their unit costs and average rate of
usage. Then
1. calculate use by value
2. sort the list into items by value descending
3. calculate percentage that each item contributes to total value
4. derive a cumulative percentage list
5. evaluate the cumulative list and identify appropriate breakpoints

7.7 Economic Order Quantity (EOQ) Models

There are several variations of the EOQ model depending on the assumptions
made about the inventory system. In this section various quantitative formulas for
determining how much inventory to order and when to order will be developed. Once
basic EOQ model is developed, further EOQ model shall be modified to remove some
of the assumptions that may limit the application of the EOQ model i.e. the EOQ
model with non instantaneous receipt and the EOQ model with shortages
Basic EOQ Model
The EOQ model is the oldest and the best-known inventory model. Its origine
Production & Operations
date all the way back to the 1915 and is credited to Ford Harris, an employee at Management : 83
Inventory Management Westinghouse, USA. The purpose of using the EOQ model is to find that particular
quantity to order which minimises total inventory costs. EOQ is essentially a single
formula for determining the optimal order size that minimises the sum of carrying
costs and ordering costs.
EOQ is the optimal order quantity that will minimize total inventory costs.
To understand the EOQ model, refer figure 7.9. The sketch shows inventory levels
plotted against time. The value, “Q,” represents the quantity of items ordered each
period. Notice that it spikes up on a regular basis, and then shows a linear decrease
until it reaches 0. The average inventory on hand during an order interval is ,
because at any give time maximum inventory is Q and at any given time the minimum
inventory is 0. Therefore, average
will be :

Figure 7.9 : Sketch of inventory level over time

Assumptions made for developing EOQ model
1. Order of only one item is considered.
2. Demand is known and is constant over time.
3. No shortages are allowed, therefore no shortage cost
4. Lead time for the receipt of orders is known and is constant.
5. The quantity ordered is received all at once i.e. in one lot.
6. Carrying cost and ordering cost are known.
7. Cost of the item is fixed (constant) and no quantity discounts are available.
Q = quantity to order in single lot or maximum inventory at any time.
D = Demand per year for an item
I= unit cost of inventory item
Cc = Annual carrying cost for one unit of item as inventory (Rupees per unit per
Co = Ordering cost per order (Rupees per order)
= average amount of inventory
Production & Operations 2
Management : 84
Q Inventory Management
Cc = Annual carrying cost levied on average amount of inventory
= Number of orders per year NOTES

Co = Annual ordering cost
TC = total cost of inventory per year
=Length of order Cycle
To define annual inventory costs, recall that shortage cost is zero because no
shortages are allowed by our assumptions. That leaves total annual inventory cost
composed of inventory carrying cost and inventory ordering cost. Refer figure-7.12,
which shows the total annual inventory cost plotted against order quantity. Notice the
straight line representing carrying cost. It starts from zero and increases at a constant
rate (also refer figure – 6.4). This should make sense to you, as the quantity of items
ordered increases for each order, the annual inventory carrying cost increases because
more space, financing, etc. are needed. The opposite is true of the ordering cost line.
When a small quantity of items is purchased in each order, the ordering costs will be
high because there will be a large number of orders over the year. When a large quantity
is purchased, the number of orders will be low, so the annual ordering cost will be low,
(also refer figure – 7.5). The third line on the graph is gotten by adding the carrying
cost and ordering cost at each quantity to get total inventory cost. Notice that it starts
high, decreases, levels out, then increases and ends up high. The point where it levels
out is the point where total inventory cost is minimized.

Fig 7.10 : Effect of Small lot size

Figure 7.10 : tells that Small lot size contributes to less average inventory and
more inventory cycles in turn more number of orders per year.

Production & Operations

Management : 85
Inventory Management


Fig. 7.11 : Effect of large lot size

Figure 7.11 : Explains that Larger lot size contributes to higher average inventory
and lesser inventory cycles in turn lesser number of orders per year but higher carrying

Figure 7.12: Economic Order Quantity (EOQ) Model

Method 1:
Look at the equation for total inventory cost:
Total Annual Inventory Cost (TC) = Annual Carrying Cost + Annual Ordering
Cost + Annual Shortage Cost + Annual Cost of the item
As we have assumed that there will be no shortage of items due to demand is
known and constant and further it is assumed the cost of item is fixed and no quantity
discounts are available. Therefore, we can ignore the Annual Shortage Cost and Annual
Cost of the item from the annual total cost equation.
Total Annual Inventory Cost (TC) = Annual Carrying Cost + Annual Ordering
Production & Operations
Management : 86 Refer to figure 7.12, one can observe from total cost curve that as smaller quantity
ordered the total cost is high and on the other hand, as larger quantity ordered the total Inventory Management
cost is high. The minimum cost occurs some where in between of the curve, this point
is just above the point of intersection of carrying cost curve and ordering cost curve.
Mathematically at the point of intersection of two curves, the value of carrying cost is
equal to ordering cost. Therefore, it can be concluded, total cost curve, the minimum NOTES
inventory cost occurs at the point where carrying cost equals ordering cost, and total
minimum inventory cost is defined as:
Total Annual Inventory Cost (TC) = Annual Carrying Cost + Annual Ordering

The annual carrying cost is gotten by applying the per unit carrying cost, Cc, to
the average inventory held during the order interval :
Annual carrying cost = × Cc
If the number of units demanded for the whole year is DDand the quantity purchased
in each order is Q, then the number of orders for the year is By applying the cost per
order, Co, to the number of orders, the total annual ordering cost can be defined:
Annual ordering cost = × Co
The total annual inventory cost is the sum of the carrying cost and the ordering
⎛Q ⎞ ⎛D ⎞
TC = ⎜ × Cc ⎟ + ⎜ × C o ⎟
⎝2 ⎠ ⎝Q ⎠
One can also solve for Q by noting that the minimum total cost occurs at the point
where carrying cost equals ordering cost.

Solve for Q by setting carrying cost equal to ordering cost:

× Cc = × C o
2 Q
Q D × Co
2 Q × Cc

2 × D × Co
Q2 =
2 × D × Co

The optimal order quantity necessary to minimize total inventory cost is defined
by the above equation, know as the economic order quantity:

Qoptimal or EOQ =

⎛Q ⎞ ⎛ D ⎞
Total Annual Inventory Cost minimum = ⎜ optimal × Cc ⎟ + ⎜ × Co ⎟
⎠ ⎜⎝ Qoptimal ⎟ Production & Operations
⎝ 2 ⎠ Management : 87
Inventory Management Method 2
Slope of any point is zero. From calculus one can get the slope of the total cost
line by taking the derivative of the equation that defines that line. Since the slope at the
minimum point is horizontal, or equal to zero. Therefore, optimal order quantity is
found by equating the derivative of total annual cost of inventory (TC) with respect to
quantity (Q) equal to zero and further solving for Q.
Total annual inventory cost is given by:

TC= × Cc + × Co
2 Q
The derivative of TC with respect to Q is:

d(TC) dQ D
= Cc + Co
d(Q) 2 dQ

d(TC) ⎛ Cc ⎞ ⎛ D ⎞
= ⎜ ⎟ + ⎜ − 2 Co ⎟
d(Q) ⎝ 2 ⎠ ⎝ Q ⎠
As minimum cost point is lying on a point, therefore set the derivative of TC
i.e. = 0 and solve for Q.

⎛C ⎞ ⎛ D ⎞
0= ⎜ c ⎟ + ⎜ − 2 Co ⎟
⎝ 2 ⎠ ⎝ Q ⎠

Cc D
= Co
2 Q2
Q2 =
2DC o

Qoptimal or EOQ=

⎛Q ⎞ ⎛ D ⎞
Total Cost minimum = ⎜ optimal × Cc ⎟ + ⎜ × Co ⎟
⎝ 2 ⎠ ⎜⎝ Qoptimal ⎟

It is important to understand the concepts that underlie the EOQ model:
i. Annual inventory cost is minimized at the order quantity where carrying
cost exactly equals ordering cost.
ii. The EOQ represents the optimal order quantity that minimizes total inventory
Production & Operations
Management : 88 iii. The EOQ tells how much to order.
iv. The number of orders for the year is represented by D/Q. Dividing the year Inventory Management
by the number of orders tells when to order (based on the constant demand
rate assumed in the model).
v. The EOQ can be adapted for use in production problems. Qoptimal corresponds
to production lot size and Co corresponds to set-up cost.
The next example illustrates these concepts:
Example 7.1
Check Your Progress
A paint shop wants to order the optimal quantity of paint tins to minimize its
6. List donw various
inventory costs. The estimated annual demand for the paint tins is 10,000, the carrying
assumptions in
cost is Re.0.75 per tin, and the ordering cost is Rs.150 per order. What is the quantity to
developing basic EOQ
order, the annual inventory cost, number of orders, and time between orders?
Cc=Rs.0.75 per tin
Co=Rs.150 per order

2DCo 2 *(150) *(10000)

Qoptimal = = = 2000 paint tins
Cc 0.75

The paint store should 2000 tins in each order.

Qoptimal D
Total Cost minimum = Cc + Co
2 Qoptimal

2000* (0.75) 10000*(150)

Total Cost minimum = +
2 2000
Total Cost minimum =750+750=Rs.1500

The total inventory cost is Rs. 1500. Note that the carrying cost equals the ordering

D 10000
Number of orders per year = Q = = 5 orders / year
optimal 2000

The paint shop is open 311 days annually, so the order cycle time, or number of
shop-days between orders is:

311 Days 311

Order cycle time = = = 62.2 shop days
Number of orders per year 5
(Note: To check the right answer for Qoptimal is to see if carrying cost , C c ,
equals ordering cost,). Co
Production & Operations
Management : 89
Inventory Management Example 7.2
Café Coffee Day needs 1000 coffee makers per year. The cost of each coffee
maker is Rs.780. Ordering cost is Rs.100 per order. Carrying cost is Rs.20 per unit.
Lead time is 5 days. Café Coffee Day is open 360 days in a year.
i. What is the Economic Order Quantity to be ordered?
ii. How many times per year does the Café Coffee Day reorder?
iii. What is the length of order cycle?
iv. What is the total annual cost if the EOQ quantity is ordered?
Cc=Rs.20 per unit
Co=Rs.100 per order

2DCo 2* (1000) * (100)

(i) EOQ= = = 100 coffee makers in one lot
Cc 20

= 100 units

D 1000
(ii) Number of orders per year = Q = = 10 orders / year
optimal 100

Q 100
(iii) Cycle Length = = = 0.1 per year = 0.1 x 360 days/year = 36 days i.e.
D 1000
after 36 days order is being placed.

Qoptimal D
Total Annual Inventory Cost minimum = Cc + Co
2 Qoptimal

100* (20) 1000*(100)

Total Annual Inventory Cost minimum = +
iv . 2 100
Total Annual Inventory Cost minimum =1000+1000=Rs.2000

7.7.1 EOQ model with non instantaneous delivery

In this EOQ model the assumption that orders are received all at once is relaxed.
The order quantity is received gradually over time, and the inventory level is depleted
at the same time it is being replenished. This situation is most commonly found when
the inventory user is also the producer, as in a manufacturing operation where a part is
produced to use in a larger assembly. When a firm is both a producer and a user or
deliveries are spread over time, inventories tend to build up gradually instead of
instantaneously. If usage and production (or delivery) rates are equal, there will be no
inventory build-up since all output will be used immediately and the issue of lot size
does not come up. In the model assumption made is that production rate is higher than
Production & Operations usage rate. In the production case, production occurs over only a portion of each cycle
Management : 90
because the production rate is greater than the usage rate, and usage occurs over the Inventory Management
entire cycle.
Examples from Car Manufacturing
In a car manufacturing unit, two different production units are in operation, output NOTES
of unit 1 is used as input at unit 2. But output at unit 1 is higher than usage at unit 1.
Therefore, production at unit 1 is to be stopped at some point of time, otherwise inventory
build will be ongoing and it will be problem for company to maintain the same. The
best example is from car manufacturing industry, bodies from paint shop are used in
assembly shop. Bodies may be produced at the rate of 200 bodies per 8 hour day but
bodies in assembly shop may be used at the rate of 60 bodies per 8 hour day. Therefore,
the inventory build up rate will be 200-60=140 per 8 hour day. After some point of time
production at paint shop has to be stopped.
Example of a water tank
Consider the water tank in house / building. When the tank is empty, delivery of
water is started. The water is delivered gradually over the time, simultaneously usage
of water is also taking place, as in assumption of this model, delivery rate is greater
than usage rate, one can observe that over the time water is filled up and the delivery of
water has to be stopped. This cycle goes on. The managerial question is, what should
be the size of tank? i.e. in one lot (when once pump is switched on) how much water
should be delivered?

Fig. 7.13 : Water Storage in a tank

Water tank is a case of non instantaneous delivery, water is delivered at the rate of
p liters per hour and simultaneously usage is taking place at the rate of u litres per hour,
the amount of water that is being stored in tank will at the arte of p-u litres per hour.

Production & Operations

Management : 91
Inventory Management


Figure 7.14 : EOQ model with non instantaneous delivery / receipt.

1. Order of only one item is considered.
2. Demand is known and is constant over time.
3. No shortages are allowed, therefore no shortage cost
4. Item is delivered at uniform rate (p) and used at uniform rate (u), and quantity
of item is entirely used up when the next order begins to arrive.
5. In this model ordering cost is called as setup cost.
6. Carrying cost and setup cost are known.
7. Cost of the item is fixed (constant) and no quantity discounts are available.
8. Production or delivery rate (p) is greater than usage rate (d).
p – amount of production rate
u – amount of usage rate
Inventory build up rate = amount of production rate - amount of usage rate
= p-u
Maximum inventory level (Imax) = Inventory build up rate x period of delivery

Imax = (p - u) × ⎜ ⎟
Minimum inventory level = 0

Production & Operations

Management : 92
Inventory Management
Maximum Inventory level+ Minimum Inventory level
Average amount of inventory (Iaverage ) =
(p - u) × ⎜ ⎟ + 0
Iaverage = ⎝p⎠ NOTES
Q ⎛p-u⎞
Iaverage = ×⎜ ⎟
2 ⎝ p ⎠

Annual carrying cost = Average amount of inventory × Carrying Cost

⎡⎛ Q ⎞ ⎛ p - u ⎞⎤
= ⎢⎜ ⎟ × ⎜ ⎟ ⎥ × Cc
⎣⎝ 2 ⎠ ⎝ p ⎠⎦

Annual ordering cost = Number of orders per year × Ordering Cost

⎛D ⎞
= ⎜ ⎟ × Co

Total annual inventory cost = Annual Carrying Cost + Annual Ordering Cost
⎡⎛ Q ⎞ ⎛ p - u ⎞⎤ ⎛D ⎞
TC = ⎢⎜ ⎟ × ⎜ ⎟ ⎥ × Cc + ⎜ ⎟ × Co
⎣⎝ 2 ⎠ ⎝ p ⎠⎦ ⎝Q⎠

Similar to basic EOQ model, set the derivative of total annual inventory cost
(TC) with respect to amount of inventory (Q) equal to zero and solve for Q.

⎛D ⎞ ⎛p-u⎞
⎜ Q 2 ⎟ × Co = ⎜ 2p ⎟ × C c
⎝ ⎠ ⎝ ⎠
⎛ 2DCo ⎞ ⎛ p ⎞
Q2 = ⎜ ⎟×⎜ ⎟
⎝ Cc ⎠ ⎝ p - u ⎠
⎛ 2DCo ⎞ ⎛ p ⎞
EOQ non instantaneous or Q NI = ⎜ ⎟×⎜ ⎟
⎝ C c ⎠ ⎝p-u⎠

The derivative of TC with respect to Q is:

d(TC) ⎡ p - u ⎤ ⎡D ⎤
= ⎢ ⎥ × Cc - ⎢ 2 ⎥ × Co
dQ ⎣ 2p ⎦ ⎣Q ⎦

Production & Operations

Management : 93
Inventory Management
Set the equal to zero and solve for Q
⎛p-u⎞ ⎛D ⎞
NOTES 0= ⎜ ⎟ × Cc - ⎜ Q 2 ⎟ × Co
⎝ 2p ⎠ ⎝ ⎠

Cycle Time = time between beginning of range

Run time = production phase of the cycle

Example 7.3
A toy manufacturer uses 48,000 rubber wheels per year for its popular dump
truck. The firm makes its own wheels, which it can produce at a rate of 800 per day.
The toy trucks are assembled uniformly over entire year. Carrying cost is $ 1 per wheel
a year. Setup cost of production run of wheels is $45. The firm operates 240 days per
year. Determine the:-
(a) Optimal Run Size.
(b) Minimum total annual cost for carrying and setup.
(c) Cycle time for the optimum run size.
(d) Run time.
D = 48,000 wheels per year
Co= $ 45
Cc= $ 1 per wheel per year
P = 800 wheels per day
U = 48,000 wheel per 240 days or 200 wheels per day

2 DS p 2(48000)45 800
Qp = . . =2400 wheels
H p−u 1 800 − 200

I max D
TCmin = .H + .S so we first must find I
2 Q max

The maximum inventory level =

Qp 2400
.( p − u ) .(800 − 200) = 1800 wheel
p 800

I max D 1800 4800

So = TC min = .H + .S (1) + (45) = 1800
Production & Operations
Management : 94
2 Q 2 200
Qp Inventory Management
Cycle Time = = = 12 days
u 200

Q p 2400
Run time = = = 3 days NOTES
p 800

7.7.2 Quantity Discounts

Quantity discounts are often given to encourage customers to order in large enough
quantities so that a company can benefit from less frequent changeovers. For example,
T-shirt shops that imprint T-shirts with special-order insignia often offer a different
price per shirt as the quantity ordered increases.
The formulas for quantity discount add a term to the inventory cost equation to
account for the differential pricing:

Qopt =

TCmin = + + PD

EOQ Model with Purchase Quantity Discounts (Price Breaks; All-Quantity

Differences from the basic EOQ model:
Because the per-unit price of the items purchased changes as the quantity changes,
the purchase price must be included in the calculation of total annual inventory
management cost.
As the purchase price changes, the inventory-holding cost also may change since
the investment in inventory is different.
Because each discount category may represent a different inventory holding cost,
we must calculate the EOQ for each discount category.
The optimal order quantity may or may not occur at the quantity where total
ordering cost equals total holding cost.
The optimal quantity will occur either:
i) at one of the EOQs; or
ii) at the minimum quantity of one of the discount categories that is larger than
the feasible EOQ with the lowest price finding the optimal order quantity
involves calculating the total annual cost (including purchase cost) for each
of these quantities, and picking the quantity that gives the lowest total cost.
the EOQ using the lowest price. If this EOQ is feasible, this is the best order quantity,
so stop.
Step 2: Solve the EOQ for the next higher price. If this EOQ is feasible, go to
Step 4. Production & Operations
Management : 95
Inventory Management Step 3: If the EOQ found in Step 2. is not feasible, repeat Step 2. for the next
higher price until a feasible EOQ is found.
Step 4: Calculate the total annual inventory management cost for the (first) feasible
EOQ (found in Step 2.) and for the minimum quantity in all discount categories that are
larger than the feasible EOQ.
Select the order quantity with the lowest total annual inv. management cost.
The equations are used in a trial and error method to determine if it makes sense
to take advantage of the quantity discounts offered. The next example shows how the
equations are used.
Example 7.4
A fine arts shop sends greeting cards to all its clients. The cards will be specially
designed with several scenes and imprinted with the company’s name and insignia.
The purpose of the cards is to remind the clients about the store during certain holidays
and sends a general message that states a 5% discount will be given if they bring the
card with them. The price per card varies with the number ordered as shown in the
price schedule below:
Quantity Price
50-99 $1.50
100-149 1.00
150- 199 0.90
Over 199 0.80
The company can order as large a number of cards as economically reasonable
because several designs are included with the order. If all the cards are not used for the
first holiday, several designs can be reserved for sending out for later holidays. If the
ordering cost is $1 per order, the carrying cost $0.10 per card, and the number of cards
used per year is 500, how many cards should be ordered?
CO = $1
CC = $0.10
D = 500 per year

Qopt = = = 100

This is the optimal quantity to order if there is no quantity discount. We’ll compare
the inventory cost of ordering this optimal amount with the cost of ordering the lowest
quantity necessary to get the next lowest card price, $0.90.
The price of cards for an order of 100 is $1.00 per card:

TC100 = + + PD
Production & Operations
Management : 96
Inventory Management
TC100 = + + ($1.00)(500)

TC100 = $510
To get a price of $0.90, an order of 150 must be placed. The total inventory cost
is computed if 150 cards is ordered:

TC150 = + + PD

TC150 = + + ($0.90)(500)

TC150 = $460.48
The calculations so far show that it makes sense to order the larger amount, 150.
e. An order of 200 cards will cost $0.80 per card. What is the total inventory cost
for an order of 200?
f. Does it make sense to place an order for 200?
e. Answer: $412.50

Gotten by TC200 = + + ($0.80)(500)

f. Yes, the total inventory cost is lower because of the quantity discount
7.7.3 Reorder Point
In previous calculations we determined how much to order, the number of orders
to place annually, and the number of days between orders. We can also calculate when
an order should be placed based on how much inventory is left in stock. As inventory
is used, the quantity is depleted to a level known as the reorder point. An order must be
placed at this point so that inventory will not run out before the next order arrives. The
equation for reorder point is:
R = dL
d = demand rate per period
l = lead time
Example 7.5
The annual demand for the carpet is 10,000 yards. The store is open 311 days per
year. If the lead time to receive an order is 10 days, what is the reorder point?

d= = 32.2 yards per day

R = dL = (32.2)(10 days) = 322 yards.

When the inventory is depleted down to a level of 322 yards, the carpet store
should place a new order. Production & Operations
Management : 97
Inventory Management Safety Stocks
In the example we just reviewed, an order is placed when the inventory level
reaches the reorder point. During the lead time, the remaining inventory in stock will
be depleted at a constant demand rate, such that the new order quantity will arrive at
exactly the same moment as the inventory level reaches zero. Realistically, demand
and lead time are less certain. This is shown in Figure 7.15. Notice that for the second
order cycle, the inventory dips past zero (a stockout - “negative” inventory, meaning
the company ran out before the next order came in). This can be a very serious and
costly situation for a company, particularly if production is halted because of the shortage.

Inventory Level

Point, R

Fig. 7.15 : Variable Demand with a Recorder Point
As a hedge against stockouts when demand is uncertain, a safety stock of inventory
is frequently added to the expected demand during lead time.
NOTE: Safety stock is not added to EOQ (the amount of inventory ordered). It
is added to the re-order point, meaning an order is placed sooner than it would be if
demand was certain.
Service Level
The amount of safety stock needed is determined by the service level desired by
the company. The service level is the probability that the amount of inventory on hand
during the lead time is sufficient to meet expected demand — that is, the probability
that a stockout will not occur. A service level of 90 percent means that there is a .90
probability that demand will be met during lead time.
7.7.4 Reorder Point with Variable Demand
To compute the reorder point with a safety stock that will meet a specific service
level, the following equations are used:
R= L+z
= average daily demand
L = lead time
s d = standard deviation of daily demand
z = number of standard deviations for desired service level
z = safety stock
Production & Operations The term in this formula for the reorder point is the square root of the sum
Management : 98
of the daily variances during lead time: Inventory Management
Variance = (daily variances) x (number of days of lead time) = s d2L
Standard Deviation = s d
The Figure below illustrates the added quantity necessary for safety stock. The NOTES
blue area on the bottom is safety stock. Notice that the “dip” for cycle two is covered
by the safety stock on this graph.
Inventory Level

Point, R

Fig. 7.17 : Reorder Point with a Safety Stock
This Figure 7.17 depicts a normal probability curve for demand during lead time.
The average demand during lead time is at the center of the normal curve. The unshaded
area under the curve represents the probability of a stock out.
For a service level of 95 percent, a normal probability chart shows z = 1.65. To
get the value, recall that the entire area under the curve is 1.0. The unshaded area is
0.05. Because normal probability charts, like the one in Appendix A show only the
values of z for the right-hand side of the curve, only the area under the curve on the
right-hand side must be used to derive z-values. The total area on the right-hand side of
the normal probability curve is one-half of the total area, or one-half of 1, or 0.50. The
shaded portion of the right-hand side of the curve for a stockout probability of 0.05 is
0.50 - 0.05, or 0.45. In the chart in Appendix A, look for 0.45 in the columns of numbers
to the right of the Z-column. The values 0.4495 and 0.4505 occur where Z = 1.6 looking
horizontally across to the left. Looking vertically above, the columns for 0.4495 and
0.4505 are headed with the numbers 0.04 and 0.05, respectively, so 0.45 occurs at
about 0.045. This value is added to Z = 1.6, to get Z = 1.645.

Fig. 7.17 :L Recorder Point for a Service Level Production & Operations
Management : 99
Inventory Management Example 7.7
For the carpet store, assume the daily demand for carpet is normally distributed
with an average daily demand of 30 yards and a standard deviation of 5 yards per day.
The lead time is 10 days. Determine the reorder point and safety stock if the store
NOTES wants a service level of 95 with the probability of a stockout equal to 5%.
= 30 yards per day
L = 10 days
SD = 5 yards per day
For a 95% service level, the value of z is 1.645. The reorder point is calculated as:
R= L+z
R = (30)(10) + 1.645
R = 326.1
Carpet should be re-ordered when the level of inventory is depleted to 326.1
The safety stock is the amount:
Safety stock = z = 1.645 = 26.1 yards

7.8 Order Quantity for a Periodic Inventory System

A periodic (or fixed-time-period) inventory system is one in which the time
between orders is constant and the order size varies. Drug stores are one example of a
business that sometimes uses a periodic inventory system. Products such as shampoo,
toothpaste, and aspirin are stocked in such a way. Vendors who supply these items will
make periodic visits and count the stock of inventory on hand for their product. If the
inventory is at or below some pre-determined reorder point, a new order will be placed
for an amount that will bring the inventory level back up to the desired level.
Safety stock and service levels
We may run out of stock because of a re-supply delay or higher than anticipated
usage. If we can predict demand then we merely place EOQ orders on time. The figure
shows the predictable, timely re-ordered stock movements.
But we risk a stock-out with unpredictable demand,usage and resupply so
introducing a safety or buffer stock reduces the risks of variable demand/lead time.

Production & Operations

Management : 100 Fig. 7.18 : Role of Safety Stock
Lead time Inventory Management
- the time between a replenishment need arising and new deliveries being ready
for use. It includes e.g. time to
 detect then authorise replenishment NOTES
 establish supplier contact and complete admin/paperwork
 obtain, produce and have the goods delivered
 goods inwards/receiving and quality checking time
Safety stock levels
Calculating safety stocks requires understanding of demand and lead time.
Assuming that these are normally distributed then
Safety stock = ( L Dv+D 2Lv )
 L = mean lead time, D = mean demand (in the lead time) Lvar = variance of
lead time, Dvar = variance of demand
 For a safety stock level in a service agreement, an Sdev (standard deviation)
value of 1.6 gives 95% stock availability and 2.3. gives 99%.
The controllable aspects of lead time should be investigated. It is seldom normally
distributed and improved control over the length and variability of lead time will reduce
the need to maintain safety stocks.
Inventory incurs costs, ties up working capital, it consumes space and must be
managed in and out. Stocks can deteriorate or get stolen. Most operations, capacity
planning and scheduling, depend on inventory. Stocks serve to smooth out timing gaps
in the rates of supply and demand. Inventory offers insurance and good planning/ control
can minimise the associated costs and satisfy efficiency/effectiveness requirements.
This is the raison d’etre for a just-in-time approach to inventory.
Services generally are not stocked nevertheless in car repair services and retail
distribution, inventory of support items are components of service transactions. For a
central heating installation company, if a fitter has to drive to and queue at a supplier to
obtain a minor part - this adds to service costs.
Requirements for Effective Inventory Management system
To be effective management of inventory must have the following:
1. A system to keep track of the inventory on hand and on order.
2. A reliable forecast of demand that includes an indication of possible forecast
3. Knowledge of lead times and lead time variability.
4. Reasonable estimates of inventory carrying costs, ordering costs, and shortage
5. A classification system for inventory items.
All organisations keep inventories - some trivil, some highly significant. Even
the trivial can from another prespective e.g. health and safety take on a different degree
Production & Operations
of importance. What is trivial to one organisation is important to the next e.g. cleaning Management : 101
Inventory Management materials - trivial in a factory but essential to a supplier of cleaning materials. Spares,
stationery, consumables are common inventory to all organisations.

NOTES 7.9 Summary

7.10 Key Terms

Inventory : To keep stock of either. raw material, semi processed products or finished
Independent demand : Demond for different items remain unrelated to eac other.
Dependent demand : When an item is part of assembly, demand of this item depends
on number of assembly demanded.
Q - Model : Also known as Fixed Order Quantity model, here amount required is
constant and order takes place when inventory drops to predefined level.
P - Model : Also known as Fixed time period model, here order is placed at fixed
time interval but order quantity may vary.
Safety Stock : Amount of inventory kept in addition to the expected demand.
Lead Time : The time between placing and receiving and order.
Carrying Costs : The costs fo storage facilities, handling, insurance, pilferage,
breakage, obsolescence, depreciation, taxes, and the opoortunity cost of

7.11 Questions and Excercises

(1) What are the different types of inventories? Explain with examples.
(2) What are the different types of costs that affect inventory size?
(3) How to select a fixed order or a fixed period inventory system?
Production & Operations (4) What is the purpose of classifying items into ABC analysis for inventory
Management : 102
managament? Inventory Management
(5) Explain in breif :
(i) Reorder point (ii) Buffer Stock
(iii) Lead Time (iv) Quantity discount model NOTES
Practice Questions
(1) Find the economic order quantity and the reorder point, given, annual demand =
100 units, No. of dyas in a year = 250 days, Ordering Cost = Rs. 5 per order,
holding Cost = Rs. 1.25 per unit per year.
It lead time is 5 days and cost per unit is Rs. 12.50, when should orderr be
placed and what is total inventory Cost?
(2) In a case annual demand is 1000 units, EOQ is 200 units, the desired prabability
of not stocking out P = 0.95, the standard deviation of demand during lead time is
25 units and lead time is 15 days. Dethe reorder point, assuming that demand is
over a 250 work day year.
(3) Consider a situation, where annual demand is 10,000 units, ordering cost is Rs. 20
per order, holding cost is 20% of material cost and cost per unit varies Rs. 5, Rs.
450 and Rs. 3.90 for quantities 0 to 499 units; 500 to 999 and 1000 and above,
respectievely. What quantity should be ordered?
(4) Daily demand for a product is 50 units with a standard deviation of 10 units. The
review period is 12 days, and lead time is 3 days. At the time of review there are
100 units in stock. It 98 percent service probability is desired, how many units
should be ordered?
(5) A particular raw material is available to a company at three different prices,
depending on the size of the order :
Less tan 40 kg Rs. 20 per kg
40 kg to 400 kg Rs. 19 per kg
More than 400 kg Rs. 18 per kg
The cost to plance an order is Rs. 40, Annual demand is 3000 kg. Holding (or
carrying) Cost is 25 percent of the material price. What is the EOQ to buy each time?

7.12 Furter reading and References

Production & Operations

Management : 103
Production Planning
8.0 Introduction
8.1 Unit Objectives
8.2 Production - Planning Hierarchy
8.3 Aggregate Planning
8.3.1 Costs associated with Aggregate Plans
8.4 Aggregate Planning techniques
8.4.1 Level Strategy
8.4.2 Chase Strategy
8.4.3 Mixed Strategy
8.5 Disaggregating the Aggregate Plan
8.6 Rough Cut Capacity Planning
8.7 Material Requirement Planning
8.8 Summary
8.9 Key Terms
8.10 Questions and Exercies
8.11 Further Reading and References.

8.0 Introduction
In an organization, operations system is responsible to fulfill demand of market
by producing products at the right time. A motorbike company takes a conscious decision
to produce 1,00,000 bikes monthly. Changing the monthly production rate is not simple
and instantaneous decision.
Operating systems require different types of resources such as labour, resources,
market and materials etc. Effective production planning is the key to successful
operations in a production system. Planning is possible from strategic level to operational
level, time horizon becomes shorter.
Here in this unit we understand aggregate planning. Aggregate planning is an
intermediate term planning approach. Here operations manager develops medium- range
plans of how they will produce products for next 9 to 12 months. These plans specify
the amount of labour, subcontracting, and other sources of capacity to be used.
We will study meaning of aggregate planning, some known aggregate planning
strategies such as the level strategy, the chase stratety, and the mixed strategy. It also
discusses master production schedule, meterial requirement planning, manufacturing
Production & Operations resource planning (MRPII) and enterprise resoure planning (ERP) concepts in brief.
Management : 104
MBA 108 unit 7
Production Planning
8.1 Unit Objectives : and Contral

After stydying this unit, you should be able to

 Understand reasons for engaging in aggregate production planning. NOTES
 Understand various steps involved in as aggregate planning exercise
 understnad generic strategies adopted in an aggregate planning exercise
 Understand use and preparation of Master Poduction Schedule

8.2 Production - Planning Hierarchy

Figure 8.2 shows hierarchry of production planning from long range to short
range planning. Long range planning deals with capacity planning such as opening a
new plant etc. Next is aggregate planning which is done for about an year. Decisions
related to hiring or firing of workers, subcontracting, overtime planning, facility
modifications are made in aggregate planning. Then master production schedules
disaggregate plans for specific products. This is a short range from few weeks to 3
months planning horizon. Master Production Schedule drives production planning and
control systems for production schedules of parts and assemblies to be manufactured,
schedules of purchased materials, shop- floor schedules and workforce schedules.

Long Range Aggregate Master Production planning

Planning Planning Production and Control
Schedule Systems
(Strategic) (Tactical) (Operational)
Figure 8.1 : Production - planning Hierarchy

8.3 Aggregate Planning

The aggregate plan deals in totality with the demand and supply side of a firm's
activities for its all products. Aggregate planning helps in optimal loading of facilities
to minimize production costs, to plan sufficient production capacity to meet expected
aggregate demand and finally, to get the most output for the available resources.
Aggregate demand is an important input for aggregate planning. Aggregate demand is
the total of demand of various products offered by a company over a period of time.
Following table 7.1 shows aggregate demand, period wise for a company making four
different types of paints :

Production & Operations

Management : 105
Production Planning Table 8.1 : Aggregate demand table
and Contral
Season Expected Expected Expected Expected Aggregate
demand demand demand demand demand
NOTES Product A Product B Product C Product D

1 1000ltrs 1200 ltrs 800 ltrs 1500 ltrs 4500 ltrs

2 800 ltrs 1400 ltrs 1000 ltrs 2000 ltrs 5200 ltrs
3 800 ltrs 1000 ltrs 800 ltrs 1000 ltrs 3600 ltrs
4 1000 ltrs 1200 ltrs 1200 ltrs 1300 ltrs 4700 ltrs

Same data can be presented in form of a graph as shown in figure 7.2.

4500 3600 4700
Demand 2000
1500 1300 `D’
1200 `C’
1200 1000
1000 `A’
1000 1000
800 800 800

1 2 3 4
Figure 8.2 : Aggregating individual product demand into aggregate demand
8.3.1 Casts associated with Aggregate Plans
1 Straight - time labour cost :- Straight time labour rates are paid to labours. Normally
8 hrs. per day for a six day week are considered straight time. The sources of
labour are full time and part time present employees, new hires, and workers who
have been laid off and can be recalled.
2 Overtime Cost :- Cost associated with payments for overtime work. Overtime
work is done after normal working hours. Rates of overtime is normally more
than straight time rates.
3 Inventory holding Cost :- Cost assoiciated with holding extra production in
previous periods for shipment in later time periods.
4 Subcontracting Cost :- Cost associated with production of products by suppliers.
5 Back ordering Cost :- Cost in terms of penalties for fulfilling previous periods
demand in subsequent periods.

Production & Operations

Management : 106
MBA 108 unit 7
Production Planning
8.4 Aggregate Planning Techniques and Contral

Traditional aggregate planning techniques are based upon three factors number
of workers, utilization of workers, and inventory size. In different techniques, one NOTES
factor is variable while two factors are kept constant.
Level strategy and chase strategy are two basic types of aggregate planning Check Your Progress
technique. 1. Prepare aggregate
8.4.1 Level Strategy demand of four
important products (in
In the level strategy, production capacity is held constant over the planning period.
units) of a nearby shop.
Therefore inventory size becomes variable keeping number of workers and utilization
of workers constant. During months of low demand, the excess production are kept as
inventory. During high demand months, demand is fulfilled from inventory.
In this strategy cost of hiring and training new workers is zero, cost of laying off
is also zero.
8.4.2 Chase Strategy
This is opposite of level strategy where no inventory is kept. Production capacity
is varied in each period to exactly match the forecasted aggregate demand in that period.
During periods of high demand, additional workers are hired, the number of working
hours is increased, overtime is done and more capacity is obtained by outsourcing the
unmet demand. During periods of low demand, some workers are laid off, and some
may be asked to work for less than straight time hours. This approach is more suitable
when stocking of inventory is not possible.
8.4.3 Mixed Strategies
Level and Chase Strategies are generic strategies for aggregate production
planning. Mixed Strategies are combinations of two pure strategies in different ways.
Sometimes no hiring or fining is done, but production rate is adjusted by varying the
number of shifts or by subcontracting etc.
In most cases, we maintain level production during periods of low demand by
stocking inventory and chase the demand by additional alternatives during periods of
high demand.
Additional alternatives are selected on the basis of total cost structure. Following
examples will help us to compute total cost of pure strategies as well as mixed strategies.
Example 7.1 : Shri Sai computers is a PC assembling company based at Nasik.
Company is in the process of making APP for next year. Every worker assembles two
computers a day. The overtime cost is Rs. 25 per day per unit in excess of the maximum
capacity of the company. i. e. 100 units. The company wants to find the total cost
involved in the following plans :
(a) Level output plan
(b) Chase plan
Table 7.2 gives forecast for next year with working days in each month.

Production & Operations

Management : 107
Production Planning Table 7.2
and Contral
Month Jan Feb March April May June July August Sept Oct Nov Dec

Demand 500 200 240 300 250 400 500 550 600 400 300 200
(in units)

Check Your Progress No. of 23 22 24 23 22 21 24 22 22 19 23 21

2. Discuss suitability of
different types of
aggregate planning Solution : For level output plan, first we determine the optimum size of the
techniquies. workforce. For this we determine total demand of the year. This is 4440 units. Total no.
of working days in a year is 266. So daily production requirement is 4440/266 = 16.69
≅ 17 Units
A worker assembles 2 units in day, so we need 17/2 = 8.5 ≅ 9 workers.
Table 8.3 below gives level output rate plan :-
Table 8.3 Level output Rate Plan

Month Demand No. of Output Monthly Begining Net addition Ending Average
(in units) working Rate Output Inventory or subtraction Inventory Inventory
Days (Units/day) (Units)
(1) (2) (3) (4) (5)=(3)x(9) (6) (7)=(5)-(2) (8)=(6)+(7) (9)

Jan 500 23 17 391 0 -109 0 0

Feb 200 22 17 374 0 +174 65 32.5
Mar 240 24 17 408 65 +168 233 149
Apr 300 23 17 391 233 +91 324 278.5
May 250 22 17 374 324 +124 448 386
June 400 21 17 357 448 -43 405 426.5
July 500 24 17 408 405 -92 313 359
Aug 550 22 17 374 313 -176 137 225
Sept 600 22 17 374 137 -226 0 68.5
Oct 400 19 17 323 0 -77 0 0
Nov 300 23 17 391 0 +91 0 0
Dec 200 21 17 357 0 +157 82 41

Calculation of ending inventory is done as follows :

(1) If in a current period, beginning inventory is available, and there is net addition
(i.e. value of column 7 is '+'ve) then ending inventory is sum of these values,
provided there is no backlog in previous month.
(2) In case beginning inventory is 0 and value of column 7 is '-'ve, it means some
backlog equal to value of column 7 will be there and ending inventory will be
Production & Operations zero.
Management : 108
MBA 108 unit 7
(3) Ending inventory will only exist when backlogs are cleared. Production Planning
and Contral
Note that ending inventory at the end of last month should be zero. It is 82 here
because we have taken integer values in place of 16.69 as 17 for daily output rate. As
we are taking 9 workers, there daily output will be 18 units. This table 8.3 can be NOTES
revised with this output rate. Students can see further increase in ending inventory at
the end of last month.
Now consider the cost of keeping inventory as Rs 1 per unit per period and cost of
backorder also Rs. 1 per unit per period. So we now calculate in table 8.4 below cost in
inventory and cost of backorders for level output rate plan shown in table 8.3.
Table 8.4 : Costs associated with level output rate plan of table 8.3

Months Av. Inventory Backorders Inventory Cost Backorder Cost (Rs.)

(1) (units) (2) (3) (4)= (Rs) 1 X (2) (5) = Rs 1 X (3)

Jan 0 109 0 109

Feb 32.5 0 32.5 0
Mar 149 0 149 0
Apr 278.5 0 278.5 0
May 386 0 386 0
June 426.5 0 426.5 0
July 359 0 359 0
Aug 225 0 225 0
Sep 68.5 89 68.5 89
Oct 0 89+77=166 0 166
Nov 0 166-91=75 0 75
Dec 41 0 41 0

Total = Rs. 1966 Rs. 439

Total Cost of level output rate plan is total of inventory cost and backorder cost=
Rs. 2405.
Column (3) of table 8.4 gives no. of units backordered in a period. Backorder will
exist if monthly output is less than demand and no inventory is available to fulfill the
demand. e. g. in month of Junuary, output is 391 units while demand is 500 and no
beginning inventory, so backorders are 109 units. In June, July, August also production
was less than the demand, but inventory from earlier periods helped in fulfilling the
demand, resulting in zero backorders for these periods. In september, production is
short by 226 units. Begnning inventory was 137 units. So back order of 89 units is
shown in this month
For Chase output plan, the production output is planned so as to follow the demand
forecasts in every period (month). Change in output rate every month will result in
hiring and firing of workers. In this case cost of inventory and backorders will not be Production & Operations
Management : 109
Production Planning present, but cost of training of hired workers and cost of compensation for fired workers
and Contral will be involved. Assume cost of hiring a new worker Rs. 500 per worker and cost of
firing is Rs. 1000 per worker. Table 8.5 gives calculations of number of new hired and
fired workers. We will start calculation assuming 11 workers in the company. This
NOTES number is obtained as follows :-
Demand of January = 500 units
No of working days in January = 23
Daily production required = 500/23 = 21.74 units.
Output rate of individual worker = 2 units / day
Therefore, number of workers required in January = 21.74 / 2
= 10.87
= say 11
Table 8.5 : Chase plan for example 8.1

Month Demand No. of Daily New Laid No. of workers Cost of Hiring Cost of
(units) working Production Hired off available new workers Firing
(1) (2) Days (2)
_____ (5) (6) required (8) = (5) x Rs. 500 (9) = (6)xRs 1000
(3) (4) (7)

Jan 500 23 ≅22 - - 11 - -

Feb 200 22 ≅10 - 6 5 - 6000
Mar 240 24 ≅10 - - 5 - -
April 300 23 ≅14 2 - 7 1000 -
May 250 22 ≅12 - 1 6 - 1000
June 400 21 ≅20 4 - 10 2000 -
July 500 24 ≅21 1 - 11 500 -
August 550 22 ≅25 2 - 13 1000 -
Sept 600 22 ≅28 1 - 14 500 -
Oct 400 19 ≅22 - 3 11 - 3000
Nov 300 23 ≅14 - 4 7 - 4000
Dec 200 21 ≅10 - 2 5 - 2000

Total Cost 5000 Total = 16000

The total cost of chase plan is Rs. 21,000. In table 8.5 we have not included
calculation of inventory. Ideally, in a chase plan, no inventory will be developed, but
some inventory will be there due to rounding off problems.
Comparing cost structures of level output rate (Rs. 2405) and chase plan (Rs.
21,000), clearly we will select level strategy. It is dependent on the availability of
workers, space for inventory and related factors.
Example 8.2 : A manufacturer of T- Shirts is preparing an aggregate production
plan for next six months from April to September. Table 8.6 gives monthly forecasted
Production & Operations demand and number of working days.
Management : 110
MBA 108 unit 7
Table 8.6 : Data for example 8.2 Production Planning
and Contral
Month April May June July August Sept

Demand (in Units) 500 620 300 290 260 180

No. of working Days 23 22 21 24 22 22

The manufacturer currently works on a single shift basis and employs 30 workers.
One T- Shirt requires 10 hrs of manufacturing time. There is no opening stock of
inventory and manufacturer chooses to devise a chase production strategy. The following
additional information is available :
1. Overtime costs are Rs. 50 per hour and undertime costs are Rs. 25 per hour.
2. Hiring and training expenses are Rs. 1500 per worker and laying- off costs are
Rs. 2000 per worker.
Evaluate the following options for chase strategy and offer your suggestions to
the garment factory owner.
(a) Utilizing overtime and undertime alternatives.
(b) Using hiring and laying- off alternatives for capacity adjustments.
Solution :- (a) chase strategy using overtime (OT) / under time (UT) in this
strategy, the demand- supply mismatch is addressed through use of OT during periods
of high demand and UT during periods of low demand. Take case of month of June,
demand is 300 units, i. e. requirement of working hours = 300 X 10 = 3000 Hours,
available capacity with 30 hours working 8 hours a day for 21 working days in June =
30 X 8 X 21 = 5040 Hours. Therefore 2040 hours of UT will be allowed during June at
the rate of Rs. 25 per hour.
As explained in example 8.1 also, chase strategy does not result in carrying
inventory, there will be no inventory carrying cost. By computing the extent of OT /
UT required and the costs associated with this in every month one can arrive at the cost
of the plan. Table 8.7 shows all relevant calculations.
Table 8.7 : Calculation of OT / UT costs for example 8.2

(1) (2) (3) (4) (5)=(4)-(3) (6) (7) (8)

Month Demand Demand Capacity Available Supply OT UT OT / UT
(in units) (in hrs.) (in hrs) - demand (hrs) (hrs) Cost (Rs.)

April 500 5000 30X8X23=5520 +520 - 520 520X25=13000

May 620 6200 30X8X22=5280 -920 920 - 920X50=46000
June 300 3000 30X8X21=5040 +2040 - 2040 2040X25=51000
July 290 2900 30X8X24=5760 +2860 - 2860 2860X25=71500
Aug 260 2600 30X8X22=5280 +2680 - 2680 2680X25=67000
Sept 180 1800 30X8X22=5280 +3480 - 3480 3480X25=87000

Total Cost = 3,35,500 (Rs.)

Production & Operations
Management : 111
Production Planning As shown in the table total cost of the plan is Rs. 3,35,500.
and Contral
(b) Chase strategy using hire - lay - off
In the hire - lay- off alternative we compute the number of workers to be hired /
NOTES laid off by examining the demand - supply mismatch. When the demand is more than
the supply, we hire. For the given example, consider the month of May. Demand is in
excess of available capacity by 920 hrs. If we hire one worker, he / she will contribute
176 hrs in this month (22 days X 8 hrs per day = 176). Therefore, the number of
workers to be hired during May is 920 / 176 = 5.23 ≅ 6 workers. Similarly we compute
the number of workers to be laid off during a lean period. Consider month of July.
Supply is in excess of demand by 2860 hrs. July has 24 working days, so laying aff one
worker will reduce supply by 192 hours. Therefore, we will lay off 2860 / 192 = 14.89
≅ 14 workers.
Since the number of workers to be hired / laid off can only be integers, we round
off the number to be hired to the next higher integer and the number to be laid off to the
nearest lower integer. In this process we also incur some idle time by retaining a little
more capacity than needed. The cost of the plan takes all these into consideration.
Table 8.8 : Cost calculation for example 8.2 using hire / lay off strategy

(1) (2) (3) (4)=(3)-(2) (5) (6) (7)

Month Demand Capacity Mismatch No. of No. of UT (hrs.)
(in hrs) Av. (in hrs) (in hrs) workers workers
Hired laid off
April 5000 5520 +520 - =2 152
May 6200 5280 -920 =6 - 136
June 3000 5040 +2040 - =12 24
July 2900 5760 +2860 - =14 172
August 2600 5280 +2680 - =15 40
Sept 1800 5280 +3480 - =19 136

Production & Operations

Management : 112
MBA 108 unit 7
Starting number of employees = 30 Production Planning
and Contral
(8) (9) (10) (11) (12)
Workers Net workers Net laid Net Hiring / laying off and UT cost (Rs)
Required Hired off UT NOTES

28 - 2 152 7800=2X2000+152X25
36 8 - 136 15400=8X1500+136X25
18 - 18 24 36600= 18X2000+24X25
16 - 2 172 8300=2X2000+172X25
15 - 1 40 3000=1X2000+40X25
11 - 4 136 11400=4X2000+136X25

Total Cost = Rs. 82500

Comparing two cost structures, it is advised to choose chase strategy with hire-
lay off system.
Note :- In many cases cost of hire- lay off is higher than any other alternative.
Moreover there are other costs that are hard to measure. For instance, frequent hire /
lay off may not be feasible in several sectors involving skilled workers. The training
costs and lost productivity during the learning phase would have been grossly under
- estimated. Moreover, such practices could result in low morale / motivation among
the workers, leading to productivity and quality problems. These costs are difficult to
Example 8.3 : Consider example 8.2. assume that on the basis of earlier
calculations the company has come up with a plan with following alternatives.
(a) Hire 5 more workers at the beginning of April.
(b) Lay off 20 workers at the end of May.
(c) Maintain constant working hours (1 shift of 8 hours.)
(d) Absorb the demand - supply mismatch by building inventory during periods
of loan demand and by resorting to OT during periods of excess demand.
Evaluate the cost of this plan.
Solution :- 5 workers are hired at the beginning of April and 20 are laid off at
the end of May. This means during April and May 35 workers are available while 15
workers are available from June to September. Table 8.9 gives capacity available in
each month.
Table 8.9 : Calculation of available capacity for example 8.3

Month April May June July August


No. of working days 23 22 21 24 22 22

No. of workers 35 35 15 15 15 15
Capacity Available (in hrs) 6440 6160 2520 2880 2640 2640 Production & Operations
Management : 113
Production Planning Cost of Hiring 5 workers = 1500 X 5 = 7500 (Rs)
and Contral
Cost of laying off 20 workers = 2000 X 20 = 40000 (Rs)
Total cost of Hiring laying off = Rs. 47,500
NOTES Table 8.10 : Total cost of example 7.3 (Mixed strategy)

(1) (2) (3) (4) (5) (6) (7) (8) (9)

Month Opening Demand Effective Capacity OT Ending Av. Cost of
inventory (hrs) Demand Available inventory inventory inventory
(Units) (hrs) (hrs) (hrs) (Units) (Units) (Rs)

April 0 5000 5000 6440 - 144 72 720

May 144 6200 4760 6160 - 140 70 700
June 140 3000 1600 2520 - 92 46 460
July 92 2900 1980 2880 - 90 45 450
Aug 90 2600 1700 2640 - 94 47 470
Sep 94 1800 860 2640 - 178 89 890

Total Cost = 0 Total Cost = Rs. 3690

(Assume inventory carrying cost is Rs 10 per Unit per period.)

Total Cost of mixed strategy = Total Hiring laying - off cost + Total OT cost +
Total cost of inventory
= 47500 + 0 + 3690
= Rs. 51,190.00
Comparing costs of three tables (8.7, 8.8 and 8.10) we can conclude to adopt
mixed stratery. In reality also, organizations should use a mixed strategy by utilizing
several combinations of the available alternatives for APP.

8.5 Disaggregating the Aggregate Plan

Aggregate plan deals with aggregate demand. It does not give specific information
as to how many units of different models of the product are to be produced.
Disaggregation of aggregate plan is necessary to plan resources for individual models.
Master Schedule is the result of disaggregation of an aggregate plan. Master production
Schedule (MPS) is a critical linkage between planning and execution of operations.
While aggregate production planning ensures that adequate capacity is available in a
period - by period basis, organizations need to relate the capacity needs of specific
varieties of products and services that they offer to the overall capacity available.
Based on the customer orders, forecasts, inventory status reports and production
capacity information, most urgent orders are placed in the earliest available open slot
of the MPS. The process of developing MPS is explained with the help of following
example :-
Example 8.4 :- A firm produces two products, A and B on a make to stock basis. The
Production & Operations demand estimates for the two products over the next five weeks are given in table 8.11.
Management : 114
MBA 108 unit 7
Table 8.11 : Demand for products A and B from different sources Production Planning
Demand for product A from All Sources and Contral

Sources of Demand Weekly Demand (in Units)

1 2 3 4 5 NOTES

Intercompany orders 20 10 10
Branch Warehouse orders 20
R & D orders 5 5
Customer Demand 15 15 15 15 15

Total Demand for product A 15 40 40 25 25

Demand for product B from All sources

Weekly Demand (in Units)

Sources of Demand 1 2 3 4 5

Intercompany orders 10 10
Branch Warehouse orders 20
R & D orders 5 5
Customer Demand 25 25 25 20 20

Total Demand for product B 25 35 45 35 25

The safety level is the minimum level of planned inventory. The safety stock for
A is 10 and for B is 20 units. The fixed lot size for A is 25 units and for B is 35 units.
The starting inventory for A is 10 units and for B it is 20 units. Prepare MPS for these
two products.
Solution :- For each product, take the total demands, consider beginning, inventory,
determine in which weeks ending in ventory would fall below the safety stock (SS) and
this require production, and schedule a lot of the product to be produced during those
Table 8.12 : Calculation of production requirements and ending inventory
for products For product 'A' Check Your Progress
Week Beginning Total Balance Required Ending 3. What do you
(1) inventory Demand (4)=[(2)-(3)] production (5) inventory understand by master
(2) (3) (Fixed lot size (6) production schedule?
if (4) is less than [(2) + (5) - (3)]
SS; if not, then zero)

1 10 15 (5) 25 20
2 20 40 (20) 50 30
3 30 40 (10) 25 15
4 15 25 (10) 25 15
5 15 25 (10) 25 15 Production & Operations
Management : 115
Production Planning Note : For product A, SS is 10 units, fixed lot size is 25, and beginning inventory
and Contral in week 1 is 10 units. See in second week here, 20 units are short of demand and 10
units are needed for SS, So total 30 units are required, lot size is of 25 units. So we are
producing two lots; 25 X 2 = 50, in week 2.
For product `B’

Week Beginning Total Balance (4) Required Ending

(1) inventory Demand [(2)-(3)] production (5) inventory (6)
(2) (3) (Fixed lot size if (4) [(2) + (5) - (3)]
is less than SS; if
not, then zero)

1 20 25 (5) 35 30
2 30 35 (5) 35 30
3 30 45 (15) 35 20
4 20 35 (15) 35 20
5 20 25 (5) 35 30

For product B, SS is 20 units, fixed lot size is 35, and beginning inventory in
week 1 is 20 units.
Table 8.13 : Master production Schedule (Number of products A and B)

End item (Weeks)

1 2 3 4 5

A Total Demand 15 40 40 25 25
Beginning Inventory 10 20 30 15 15
Required Production 25 50 25 25 25
Ending Inventory 20 30 15 15 15

B Total Demand 25 35 45 35 25
Beginning Inventory 20 30 30 20 20
Required Production 35 35 35 35 35
Ending Inventory 30 30 20 20 30

Table 8.13 is prepared on the basis of calculations shown in table 8.12.

8.6 Rough Cut Capacity Planning

Rough cut capacity is a preliminary check of MPS to determine the effect on the
loading of the production work centers. Objective is to identify any week in the MPS
where under loading or overloading of the production capacity occurs and revise the
MPS as required.
Underloading :- Not enough production of end items has been scheduled to fully
Production & Operations
Management : 116 load the facility.
MBA 108 unit 7
Overloading :- Too much production of end items has been scheduled and capacity Production Planning
is insufficient. and Contral

Example 7.5 : The firm in example 8.4 now wishes to determine if the MPS that
was developed underloads or overloads the final assembly line that produces both NOTES
Product A and Product B. The final assembly line has a weekly capacity of 80 hours
available. Each product A requires 0.75 hours and each product B requires 1.5 hours of
final assembly capacity. (A) Compute the actual load. (final assembly hours required
to produce the MPS for both products.) (B) Compare the load to the final assembly
capacity available in each week and for the total 5 weeks; (Rough cut capacity planning.)
(C) Does sufficient final assembly capacity exist to produce the MPS? (D) What changes
to the MPS would you recommend?
Solution :- (A) Table 14 gives calculation of load in each week and for the five
weeks, and comparison of load to the final assembly capacity :
Table 8.14 : Load as per MPS of Table 8.13

End item Weekly final assembly Hours

1 2 3 4 5 Total

A Production (in units) 25 50 25 25 25 150

Final Assembly Hours 18.75 37.5 18.75 18.75 18.75 112.5 Hours

B Production (in Units) 35 35 35 35 35 175

Final Assembly Hours 52.5 52.5 52.5 52.5 52.5 262.5 Hours

Load (Hours) 71.25 90 71.25 71.25 71.25 375

Capacity (Hours) 80 80 80 80 80 400
(b) and (c) A total of 400 hours of final assembly capacity is available over the five -
week schedule, and the MPS required only a total of 375 hours. However, the
MPS overloads final assembly in 2nd week, and it underloads final assembly in
weeks 1, 3, 4 and 5.
(d) Seeing the loading, available capacity and lot sizes, given MPS is the only best
available solution.

8.7 Material Requirement Planning

It is a computerized planning system to handle problems of high inventories in
MRP system consider lead time, inventory status, and MPS to ensure production
items are available at the time of requirement.
From the point of MRP, two types of inventories exist in organizations. Operating
inventory and distribution inventory. Operating inventory consists of materials,
components which are to be consumed in production process, while distribution
inventory is of finished products which are to consumed by market resources.
Production & Operations
Management : 117
Production Planning A sample MRP record is shown in table 8.15.
and Contral
Table 8.15 : MRP Record of Spark Plug
Item : S123 Lot Size : 50 Units
NOTES Description : Spark Plug Lead Time : 2 weeks

Week 1 2 3 4 5 6 7 8

Gross Requirement 100 100 100 150 100

Check Your Progress
Scheduled Receipts 50
4. Make MRP with
necessary assumed Projected - on hand inventory 100 50 100 100 100
Planned Receipts 100 100

Planned Order Releases 100 100

A MRP record has information about Gross Requirements, scheduled receipt of

material from previous plans, projected on hand inventory, planned receipts of material
and planned order releases.
Planned order release is made according to lead time, so that receipts of these
orders should support gross requirements.
MRP II is new concept of MRP. MRP II stands for manufacturing resource
planning. MRPII is base for Enterprise Resource Planning (ERP). Both MRP II and
ERP are concerned with the manufacturing aspects of the expanded model. These include
conventional Material Requirements planning and scheduling. They are integrated into
purchasing, functions, sales order, costing, accounts receivable and payable, general
ledger, etc.

8.8 Summary

8.9 Key Terms

Aggregate Production Planning : It deals with the amount of resources to be
Production & Operations committed, the rate at which goods and services need to be produced during
Management : 118
MBA 108 unit 7
a period, and the inventory to be carried forward from one period to the next. Production Planning
and Contral
Master Production Schedule (MPS) : A schedule of the amounts and times when
specific items will be manufactured, typically using weekly increments of
Material Requirement Planning (MEP) : When MPS is available, MRP generates
specific shcedules for component parts and subassemblies.

8.10 Questions and Exercise

(1) What is aggregate planning? What is the purpose of aggregate planning?
(2) What are alternative Strategies of aggregate planning?
(3) In how many different ways chase strategy can be achieved?
(4) What do you mean by mixed strategy of aggregate planning?
(5) What is Master Production Schedule? How it is used for material planning?
(6) What is material requirement planning?
(7) For a company, based on the market demand, requirement of labour hours
for the next four quarters are 4000 hours, 8000 hours, 12000 haous and 9000
hours. Each of the 10 workers on the work force can contribute 480 hours
per quarter. Overtime is limited to 20 percent of the regular - time capacity
in any quarter. Sub- contracting is not permitted.
Find a level workforce plan that allows no delay and minimizes undertime. OT
can be used to its limits in any quarter.
Payroll costs Rs. 10000 per month in wages per worker for regular time worked
upto 480 hours, with an OT pay rate of Rs. 40 for each OT hour. Unused regular time
(UT) is paid at Rs. 20 per hour.
The cost of hiring is Rs. 15000 and laying off is Rs. 60,000. What is the cost of
level work- force plan?

8.11 Further Reading and References

Production & Operations

Management : 119
Quality Management

9.0 Introduction
9.1 Unit Objectives
9.2 What is Quality?
9.3 Cost of Quality
9.4 Famous Quality Guru
9.5 Total Quality Management (TQM)
9.6 Six Sigma
9.7 Statistical Quality Control
9.8 Quality Certification
9.9 Summary
9.10 Key Terms
9.11 Questions and Exercies
9.12 Further Reading and References.

9.0 Introduction

Quality as a competitive criterion has been thrust centre stage since the late 1970s.
The success of Japanese manufacturing firms in the 1970s and 1980s is largely attributed
to a quality revolution sweeping across these firms. Many studies are available comparing
quality of Japanese and American products. Studies were conducted in the field of air-
conditioners and automobile sector particularly. In one of the study conducted by
Massachusetts Institute of Technology (MIT), it was found that Japanese manufacturers
were employing fewer workers, smaller purchasing departments and fewer defects in
final products as compared to American manufacturers.
For most companies today, superior quality is at the core of their business strategy.
For these companies, attaining near- perfect product quality is seen as a major source
of capturing market share in global competition. Achieving superior product quality
within a business requires a long- Term process of changing the fundamental culture of
the organization. This unit is about quality management, which will discuss traditional
thinking on quality management and new approach known as total quality management.

9.1 Unit Objectives

After studying this unit, you should be able to
 Understand fundamentals of quality management,
 understand evolution of quality management and contribution made by
Production & Operations different scholars in this evolution,
Management : 120
 understand philosophy of total quality management, Quality Management
 understand statistical quality control and use of various quality control charts
such as P chart and X, R charts
 understand quality certification and ISO 9000 certification. NOTES

9.2 What is qaulity?

Traditional meaning of quality is changing. Earlier conformance to standards

was considered quality. Now quality is determined by customers. Quality is a customer's
perception of the degree to which the product or service meets his or her expectations.
Customer's expectations from a product are not similar. Consider a simple gear in a
sugar cane juice machine and a gear for an aeroplane. Requirements expected from
these two uses of gear are different, so as quality related to them. Thus quality is a
relative term.
To define quality in detail following dimensions of product quality are very useful:
(i) Performance :- This is related to primary product or service characteristics. For
example in case of a car, mileage can be a performance issue.
(ii) Features :- Thers are secondary or special characteristics of product which appeal
to customers. Central locking or power steering are features of a car.
(iii) Reliability :- The product should be available to provide useful service without
fail. This refers to consistency of performance overtime. Check Your Progress
(iv) Serviceability / Maintainability :- This refers to speed, cost and convenience of 1. Define various
repairs and maintenance. Mean time to repair (MTTR) is a quantitative measure dimensions of Quality
of serviceability. Low MTTR is always desirable. for a Mobile Phone,
(v) Aesthetics :- A product’s appearance, feel, sound, taste or smell refects its aesthetics. Bank and restaurant.
Aesthetics are customer specific and sometimes situation specific.
(vi) Safety :- How well the product protects users before, during and after use.
(vii) Environmental friendliness :- This aspect has both societal aspect and individual
Quality is determined based on above dimensions. These dimensions are equally
applicable to manufacturing and service industry.
Quality of design, quality capability of production processes, quality of
conformance, quality of customer service and organization quality custure are important
determinants of quality affecting quality of product.
Quality of design is referred to designing a product to exhibit the attributes
necessary to meet its customers expectations. Capability of production processes must
be designed and built to produce products with the attributes wanted by customers.
Quality of conformance is related to operation of production facilities to produce
products meeting design and performance specifications aimed at the quality
expectations of customers. Quality at the source is also frequently discussed in the
context of conformance quality. This means that the person who does the work takes
Production & Operations
responsibility for making sure that his or her output meets specification. Management : 121
Quality Management
9.3 Cost of Quality

There are some very interesting costs associated with product quality. Three basic
NOTES assumptions are taken to discuss these costs : (1) failures are caused, (2) prevention is
cheaper, and (3) performance can be measured. Four types of costs of quality are as
follows :
(i) Internal failure costs :- When products are found to be defective while in
production, they must be either scrapped or repaired or reworked. The costs
of repair, rework, retesting defective products and all the costs of delays,
paperwork, rescheduling and other handling are internal failure costs.
(ii) External failure costs :- These costs are for defects when a defected product
pass through the system. Customer warranty replacements, loss of customers
or goodwill, handling complaints and product repairs are external failure
(iii) Detecting Defects (Appraisal Costs) :- This includes the cost of inspection,
testing and other quality contral activities to ensure that the product or process
is acceptable.
(iv) Prevention Cost :- The sum of all the costs to prevent defects, such as the
costs to identify the cause of the defect, to implement corrective action to
eliminate the cause,
to train personnel, to WLW\
 4 XDO
redesign the product $QQXDO&RVW VWR
or system, and to 7R RVW
purchase new LO RVW
equipment or make ,Q SUD
Fig. 9.1 shows
combination of these four costs
showing optional level of  ;RILQVSHFWHG
inspection. )LJ

9.4 Famous Qaulity Guru

Development in the field of modern quality management is contributed by various

quality researchers and thinkers. Popularly, they are known as quality gurus. Among
these Deming, Crosby, Feigenbaum, Ishikawa, Juran and Toguchi are worth mentioning.
W. Edwards Deming :- A Professor at New York University, Deming was in
Japan from 1949 to 1958 When he assisted Japanese industries in improving productivity
and quality. In recognition of his contribution, Japanese government constituted Deming
price in 1951 for innovation in quality management.
Deming's idea of quality improvement is presented in a 14 points agenda. These
are as follows :-
Production & Operations
(i) Constantly demonstrate commitment towards product quality to achieve
Management : 122
organizational goal with the help of statements. Quality Management
(ii) Do not accept poor quality level.
(iii) understand the purpose of inspection for improvement of processes and
reduction of cost. Stop depending on inspection to achieve quality.
(iv) Don't have a large list of suppliers on the basis of price. Select few suppliers
on the basis of quality and dependability.
(v) Constantly improve the system of production and service.
(vi) Train all employees on quality concepts.
(viii) Eliminate fear among employees. Develop trust. Create a climate for
innovation using two - way communication between workers and
(ix) Encourge team work between departments.
(x) Eliminate the use of quantitative goals leading to exhortation of the
(xi) Use statistical methods for continuous improvement of quality.
(xii) Remove barriers that rob people of pride of workmanship.
(xiii) Encourge education and self - improvement for everyone.
(xiv) Take action to accomplish the transformation.
In order to have a systematic approach to quality management, Deming also
proposed a four step process, plan - do - check - act, (PDCA) cycle.
The PDCA cycle is a concept
of continuous improvement as an
endless cycle actions. Fig 9.2 shows
that the first step is plan where in a
process, we identify potential
improvements and develop plan,
then plan is tried on test basis, then
in third step we check (evaluate) plan &KHFN 'R
to see if it works and finally in fourth
step the plan is permanently
implemented as part of the normal
operation. The PDCA cycle then
starts over with the first step again.
Joseph M. Juran :- Juran was
also an American like deming .... was
discovered very late by U. S. Companies. Juran proposed "fitness for use", one of the
most popular and simplest way to understand quality. Juran insisted that the serior
management play an active role in the quality management process. He emphasized for
investment in superior quality systems. Juran's trilogy, i.e. Quality Planning - preparation
to achieve quality goals, Quality Control - the process of making quality goals during
operations and Quality improvement - the process of breaking through to unprecedented
levels of performance, is his popular approach to quality management. Juran belived to
run number of quality improvement projects simultaneously in all areas of an
Production & Operations
organization. Management : 123
Quality Management Philip B. Crosby :- He wrote 'Quality is Free' in 1979. He introduced the concept
of Zero defect. He popularized the phrase "do it right the first time." He argued against
traditional trade- off between the costs of improving quality and the costs of poor
quality. Crosby noted that most companies spend 20 to 25 percent of their sales on
NOTES quality costs. On the other hand, a company with a well- managed quality programme
can achieve cost of quality that is less than 2.5 percent of sales.
Check Your Progress
2. Develop a brief /DERXU 0DWHULDO

account of similarities
and differences
between thoughts of
various quality gurus.





Karou Ishikawa :- Ishikawa influenced the development of participatius, bottom-

up approach to quality management. His contribution of the fishbone diagram (cause-
effect diagram) is one of the widely used quality management tool.
Fishbone diagram as shown in figure 9.3 is a generic methodology to trace the
problems at their root causes.
To identify root causes of problems (effects) he proposed participation of all
employees. For this purpose he developed Quality Control (QC) Circles. Quality Circle
is a group of Voluntecr workers from the unit of an organization. The QC meets at
regular intervals to discuss solution of various work related problems. In some open
organizations, QCs are empowered to implement their own ideas.
Shigeo Shingo :- He suggested an approach for complete elimination of errors.
He developed concept of Poka Yoke.
Poka Yoke is a
Japanese word which
means mistake proofing. /RVV

Armand V
Feigenbaum :- He
introduced concept of
involving "all" in 7DUJHW

producing a quality
product. He developed the
idea of "Total Quality
Production & Operations referred to as quality at the
source and means that every worker, secretary, engineer must be responsible for Quality Management
performing their work with perfect quality.
Genichi Taguchi :- He focused quality from a different perspective. He aimed to
reduce variations to function satisfactory despite variations on the production line or in NOTES
field. He introduced concept of loss function to measure quality.
Figure 9.4 shows loss function of Taguchi, which establishes a financial measure
of user dissatisfaction with a product's performance as it deviates from a target valus.

9.5 Total Quality Management (TQM)

Broad objective of TQM philosophy is to build an organization that produces

products and services that are considered world class by its customers. TQM can be
defined as an organization - wide efforts to develop the systems, tools, technique, skills,
and mindset required to establish a quality assurance system that is responsive to
emerging market (Customer) needs. Term "total" is very important in TQM program
Check Your Progress
which means everyone, everywhere and everytime.
3. Discuss one example of
Figure 9.5 shows four pillars of 7RS0DQDJHPHQW your knowledge
commitment and involvement is most implementation of
important prequirsite. for success of TQM.
TQM implementation. Top 740
management needs to shift their
approach of controller to facilitator. (PSRZHUHG &RQWLQXRXV
Process ownership comes to workers HPSOR\HHV LPSURYHPHQW
and their supervisors. Success of )LJ(OHPHQWVRI740
TQM depends on how well this
transition is made. A well defined quality policy serves to signal the seriousness of an
organization and the nature of its commitment to various stakeholders in the system.
Exhibit 1
Quality policy at some organizations.
Exhibit 1 shows quality policy
statements of some of the organizations. This
is the first step in launching a TQM
Second important element of TQM
program is customer involvement.
Mechanisms must be found to involve
customers in organizations. Customer wants
drive the TQM system. The charactristics
that they value most are built into products
from design to after- sales service.
Quality function deployment (QFD)
is a formal system for identifying customer Production & Operations
Management : 125
Quality Management wants and eliminating wasteful product features and activities that do not contribute.
QFD captures the qualitative attributes of the quality as perceived by the customers
and translates them into meaningful quantitative measures. In QFD every possible
customer expectations are listed for a product which are further broken down into more
NOTES and more specific features. The aim of QFD is to identify product characteristics that
need improvement.
Empowered employees are another important element of TQM program. Process
ownership is the important concept in this direction. Process ownership is the
transformation of the role of employees from the function of merely accomplishing the
assigned tasks related to a process to one of thinking through the various aspects of the
process and taking on a conscious role in the overall management of the process.
Finally a culture of organization - wide continuous improvement has to be
developed. If implemented properly, TQM program will help organization to achieve
best in class or world class organization status.

9.6 Six Sigma

Six Sigma is a new approach to quality control based on process control to enable
an organization to improve the quality of its output by controlling process variation to
a very narrow range to get near- Zero defect levels. Since the focus of Six-Sigma
quality is primarily business processes, it is equally applicable to both manufacturing
and service organizations. For example, in administrative processes, Six Sigma may
mean optimizing response time to inquiries, maximizing the speed and accuracy with
which inventory and materials are supplied, and fool proofing such support processes
from errors, inaccuracies and inefficiency.
Following issues differentiate Six- Sigma methodology from traditional quality
control methodology.
(i) A new metric, defects per million opportunities (DPMO) to evaluate the quality
of a business process.
(ii) A new methodology of "define-measure- analyse-improve- control" (DMAIC)
(iii) An organizational framework for ensuring that these outcomes are generated on a
regular basis.
(i) Defects per million Opportunities :- Six Sigma philosophy aims to reduce the
variations in the processes. Standard deviation is the most common measure for
Standard deviation (σ) can be defined as

σ= Σ (x-x)2

here 'x' is the value of attribute

Production & Operations
Management : 126 'x-' is the mean value, and
'n' is the number of readings Quality Management
Control limits of acceptable error in any process is +3 σ To see the effect of this
limit on number of defects in a population, a new metric defects per million opportunities
(DPMO) is defined. NOTES
Number of defects (d) X 1,000,000
Number of opportunities per unit (k) X Number of units of observation (n)






Fig. 9.6 : Comparison of Three Sigma and Six Sigma distribution.

The figure no. 9.6 gives comparison of 3σ and 6σ distribution where in Six-
Sigma, process variations are half of 3σ limits. By normal distribution knowledge, we
know that 99.73% of outputs are within +3σ of the mean and only .27% are outside
+3σ of the mean. In this case 2700 units per million (ppm) are out of specification.
When we reduce process variation to such an extent where the interval of natural variation
(+3σ) of the process is half of the interval of the specification limits, then the probability
of producing a unit outside the +3σ interval remains .27% but the probability of having
a part produced out of the specification interval is only about 2 parts per billion. Six
Sigma is implemented in a systematic project - oriented fashion through Define, Measure,
Analyze, Improve and Control (DMAIC) steps. First customers are identified with
their priorities. Then critical quality characteristics are identified according to customer’s
perception. Next we determine how to measure the process and how it is performing.
Then we determine the most likely causes of defects. We understand why defects are
generated by identifying the key variables that are most likely to create process variation.
Then under improve state, we identify means to remove the causes of defects. We
identify the maximum acceptance ranges of the key variables and a system for measuring
deviations of the variables. We modify the process to stay within an acceptable range.
Finally under control stage, it is determine how to maintain the improvements. We put
Production & Operations
tools in place to ensure that the key variables remain within the maximum acceptance Management : 127
Quality Management ranges under the modified process.

9.7 Statistical Quality Control

Variations are natural in any process. These variations can be of two types -
assignable variation and random variations. Assignable variations are caused by factors
that can be clearly identified and possibly even managed. Random variations are inherent
in the process.
Incorrect setting, faulty materials, machine breakdown, operations error, incorrect
specifications are some of the assignable causes in manufacturing. Vibrations,
environmental fluctuation, variation in material, limits of measurement are some of the
random causes.
Under process control, quality is monitored while the product or service is being
produced. For this purpose, certain Quality Control (QC) charts are prepared.
ρ-Chart : Process control with Attribute Measurements
Attributes are quality
characteristics that are classified as UCL
either conforming or not conforming
to specification - Measurement by
attributes means taking samples and p value
using a single decision- the item is LCL
good or it is bad. Here we make a p
chart as shown in figure 8.7. Fig. 9.7 ρ chart

P value is ratio of defective Here AL = Average limit

parts in a sample. ULC = Upper Control limit
UCL = p- + 3 __________
p (100-p) LCL = Lower Control limit

LCL = p- - 3 __________
p (100-p)
Where p- is Average level and n is number of units in a sample.
Example 1 : In a shift of production 10 samples are taken of 100 items each. In
each sample 4, 3, 3, 6, 1, 9, 5, 12, 4, and 3 items are defective respectively.
Here p = =5

UCL = 5 + 3 5 (100-5)/100 = 11.53

LCL = 5 - 3 5 (100-5)/100 = -1.53, or "0"

Figure 9.8 is p chart for given data. only one point having p value of "12" is above
UCL which is out of acceptance range.
Production & Operations
Management : 128 This is alarming point. If chart gets this point, we need to immediatly stop the
process, look for reasons for bringing Quality Management
process out of acceptance range, correct
those reasons and then start the process. 9
This chart should not follow any trend. 6
It should show randomness while plotting 4 5 4 NOTES
3 3 3
the data. If all points are below AL or 1
above AL, it means process is biased and Check Your Progress
same process has to be improved to Fig. 9.8 4. Describe various steps
restore randomness in the process only. in making X and R
X-and R charts :- These charts are used in controlling variables. The size of the chart
samples, number of samples, frequency of samples, and control limits are four main
issues in constructing X- and R charts.
For a particular variable in a sample, we are taking n observations. Measurement
of this variable is x1, x2, ........xn
x1+x2... + xn
So x = , and R = xmax - xmin in a sample
UCL of X- Chart = x=+AR LCL of R Chart = D1R-
LCL of X- Chart = x=+AR UCL of R Chart = D2R-
A, D1and D2are determined on the basis of sample size.

sample size (n) A D1 D2

2 1.880 0 3.267
3 1.023 0 2.575
4 0.729 0 2.282
5 0.577 0 2.116
10 0.308 0.223 1.777

Table 1 : Factors for constructing x and R chart

Example 2 : Following 10 samples are taken at regular interval to measure length
of a product.

Sample No. 1 2 3 4 5 x R

1 10 10.01 10.08 9.88 10 9.994 0.2

2 10.01 10.10 10.12 9.80 9.90 9.986 0.32

3 10.00 10.05 10.15 9.75 9.85 9.96 0.40

4 9.88 9.92 10.00 10.08 10.12 10.00 0.24

5 10.00 10.12 10.08 10.00 9.80 10.00 0.32

6 9.85 10.05 10.00 10.00 9.80 9.94 0.25

7 10.00 10.12 10.00 9.80 9.90 9.964 0.32 Production & Operations
Management : 129
Quality Management 8 9.75 10.00 10.08 9.90 10.10 9.966 0.35

9 10.10 10.00 9.80 9.90 10.12 9.984 0.32

10 10.12 9.80 9.95 10.05 10.00 9.984 0.32

x= =9.977 R== .304
Here, n=5
so A = 0.577
D1 = 0
D2 = 2.116
For X Chart
UCL = x= +AR- = 9.977 + 0.577 (.304) = 10.152
LCL = x= +AR- = 9.977 + 0.577 (.304) = 9.80
For R chart
UCL = D2R- = 2.116 (.304) = 0.643
LCL = D1R- = 0(.304) = 0

ULC=10.152 ULC=.643

AL=9.977 AL=.304

LCL=9.80 LCL=0
1 2 3 4 5 6 7 8 9 10 1 2 3 4 5 6 7 8 9 10

X Chart R Chart
Fig. 9.9 X and R chart
Figure 9.9 shows x-and R charts. Here data points are randonly distributed around
mean value. If any point goes out of these limits, we will stop the process to correct the
fault and then we start the process again.
Acceptance Sampling :- In many situations, it is either impossible or uneconomical
to inspect and test each and every product. In some products, we perform destructive
tests where product does not survive after the test. In case of quality check through
destructive tests, such as pressure testing of cylinders, acceptance sampling is the
desired statistical method.
Single or double sampling plans can be made as per requirement. In a single plan,
an acceptance or rejection decision is made after drawing only one sample from the lot.
Following steps are followed in a single sampling plan!
(1) Lot size = N items
(2) Select a random sample of n items.
(3) Decide a pre defined acceptance level 'X'
Production & Operations (4) Test n items on decided quality parameters.
Management : 130
(5) p items out of n are found OK. Quality Management
(6) Decision rule, if p > 'x' accept the lot
if p < x reject the lot
9.8 Quality Certification

Quality certification, particularly ISO 9000 has become very much popular in near
past. ISO 9000 is a series of international quality standards that have been developed
by the international organization for standardization. Many Indian manufacturing and
services company are applying and getting ISO certification. Within ISO 9000 group
principal standards are ISO 9001, 9002 and 9003. These all are requirement standards.
Out of these, ISO 9001 is the most comprehensive.
Scope of ISO 9001 is model for quality assurance in design, development,
production, installation and servicing. ISO 9002 and ISO 9003 are derivatives of the
9001. ISO 9002 is a model for quality assurance in production, installation and servicing
while 9003 deals with final inspection and test.
Another important series ISO 14000 deals with environment management. ISO
14000 family provides practical tools for companies and organizations looking to identify
and control their environmental import and constantly improve their environmental
performance. ISO 140001:2004 and ISO 14004:2004 focus on environment management
systems. The other standards in the family focus on specific environment aspects such
as life cycle analysis, communication and auditing.
ISO 22000 is another international standards providing you with a framework
defining the requirements for food safety management.
ISO 28000 is supply chain security management training standards.

9.9 Summary

9.10 Key Terms

Acceptable quality level (AQL) : Level defined in quality control for good lots. Production & Operations
Management : 131
Quality Management Acceptance plan : the overall scheme for accepting or rejecting a product lot based
on information gained from samples.
Attributes : Product characteristics that are classified into one of two categories :
defective or nond defective.
Control charts : Chart used to routinely monitor a production operation to determine if
its outputs meet quality standards.
Deming Prize : Award annually given for innovation in quality management.
Fishbone diagram : Diagrram used to trace back a customer complaint about a quality
Quality Circle : Small group of employees who voluntarily and regularly meet to
analyze and solve production and quality problems.
Quality function deployment (QFD) : A system for understanding customer needs
and eliminating wasteful product features and activities that do not contribute.
Total quality Management (TQM) : Syystem of producing highquality products and
services initially rather than depending on detecting defects later through

9.11 Questions and Exericises

(1) What is 'Quality'? Give the account of evolution of Quality in different parts
of the world.
(2) Explain different perspectives of quality defined by various gurus.
(3) What do you mean by total quality management? What is the meaning of
empowered employee in case of a TQM program?
(4) What are the costs of quality? Briefly explain each one of them.
(5) Describe a TQM programme for following service organizations.
(a) bank (b) hotel (c) hospital (d) degree college.
6) Write short notes on following
(a) Quality function deployment
(b) Quality circles
(c) Six Sigma
(d) ISO 9000
Practice Question
(7) Create X-and R Charts for following data :-

Sample Number 1 2 3 4 5

1 9.98 10.25 10.05 10.23 10.33

2 9.85 9.90 10.20 10.25 10.15
3 9.90 9.95 9.50 9.67 10.10
4 9.90 10.30 10.60 9.90 10.10
Production & Operations 5 9.95 10.20 10.50 10.30 10.20
Management : 132
6 9.90 9.60 10.50 10.10 10.60 Quality Management
7 10.30 10.40 10.50 10.10 10.20
8 10.20 9.50 9.60 9.80 10.30
9 10.54 10.30 10.40 10.55 10.00
10 10.10 10.30 10.40 10.24 10.30

Take values of A, D1, and D2 from Table 1.

(8) Following data is related to final check of productions for 10 days with a
sample size of 100 each.

Sample Size With errors Sample Size With errors

1 100 4 6 100 7
2 100 3 7 100 3
3 100 5 8 100 2
4 100 6 9 100 8
5 100 4 10 100 4

Draw a p chart for this data.

9.12 Further Reading and References

Production & Operations

Management : 133
Project Management
10.0 Introduction
10.1 Unit Objectives
10.2 Characteristics of Project
10.3 Project Life Cycle
10.4 Framewok for Project Management
10.5 Work Breakdown Structure
10.6 Organization Breakdown Structure
10.7 Cost Breakdown Structure
10.8 Tools and Techniques for Project Management
10.8.1 Developing a Network Representation of Project
10.8.2 Analysis of Project Network
10.8.3 Time- Cost- Trade- Offs in Project
10.8.4 Programme Evaluation And Review Technique (PERT)
10.9 Summary
10.10 Key Terms
10.11 Questions and Exercies
10.12 Further Reading and References.

10.0 Introduction

An enterprise is based on project. The success or failure of an enterprise is largely

dependent upon the project. There are several occasions when organizations perform
large scale activites in a non- repetitive manner. Making a new production facility,
making a new dam or making a new missile are some of the examples of project. A
sound project management helps in achieving objectives of project in more efficient
and effective way. The present unit deals with different phases of project management.

10.1 Unit Objectives

After studying this unit, you should be able to
 understand charcteristics of a Project,
 understand phases of project life, framework of project management
 understand network representation of project using CPM
 understand analysis of project networks
 understand issues in shortening the project durations

Production & Operations

Management : 134
Project Management
10.2 Characteristics of Project
A project has a fixed set of objectives. Project cannot continue endlessly. Duration
of a project is one important characteristics of project. A project is a single entity and is NOTES
normally entrusted to one responsibility centre while the participants in the project are
Projects are different from operatiions. While operations are ongoing activities,
projects have a difinite beginning and a definite end. Projects generally involve large
capital outlays. They may have long gestation periods and are prone to risk and
uncertainly. The decisions are usually irreversible because of the large sums of capital
Project Life Cycle :- In general, Project Life is divided into four phases. These
four phases are connecting a project form beginning to end. These are
1. Project initiation
2. Project planning
3. Project execation, monitoring and control
4. Project closure

Project initiation

Project closure Project Communication Project planning

Project execution

Fig. 10.1 : Phases of a Project Life Cycle

Project initiation is the first phase of project life cycle. It invloves developing
project proposals and selecting a project. After it planning is done. The planning provides
answers to what, where, when, who and how issues. Here we identify project activities,
their duration, resource requirements etc. Then in execution, monitoring and control
phase, we organize the project team, develop a work breakdown structures, schedule
and document work and level resources. Finally, project comes to an end. Here we
produce project deliverables, obtain customer acceptance, complete project
documentation and issue project final report.

10.4 Framework for Project Management

A framework is needed in project management to breakdown large activities.

Framework of project management involves following specific elements :
What  Work Breakdown Structure (WBS)
Who  Organzation Breakdown Structure (OBS) Production & Operations
Management : 135
Project Management Hou much  Cost Breakdown Structure (CBS)
When  Network Representation and planning
How well  Project monitering and control, post project appraisal

10.5 Work Breakdown Structure

WBS is a tool for breaking up the project into its component parts and is the
foundation of project planning. The WBS is a task list and helps in understanding the
project. WBS resembles a typicall bill of material in production planning scenario.
We can take a very simple example of constructing our house. Construction of
house requires large number of small and long duration activites a WBS for this project
is given in figure 2.

- Own House (200 Squre Yard) 1 year

- General Condition

Indentify Architect 2 days

Prepare Drawings 7 days
Submit drawings to local body 1 day
Get approvals 7 days
Identify Contractor 2 days

- Construction

Excavation for foundation 7 days

Fig. 10.2 Partial list of a WBS for constructing own house.

10.6 Organization Breakdown Structure (OBS)

Since individual responsibilities are assigned during the development of the WBS,
it integrates the work and the organizational structure. This process is called the OBS.
OBS identifies an appropriate organizational structure to execute the tasks listed under
each work package. The OBS indicates the organizational relationship. Fiqure 9.3 gives
OBS for a construction company.

Production & Operations

Management : 136
Project Management
XYZ Constructions Ltd.

Civil Engineering Mechanical Engineering Electrical Engineering

department department department NOTES

Design Structural Plumbing and

Construction Water works


Carpentry and joinery Fiqure 10.3 : Partial OBS for a construction company.

A matrix type of organization is often found to be appropriate form of project

organization. In a matrix organization, a project manager has dual role. Figure 10.4
depicts a typical matrix organization. With respect to project completion and targets, a
project manager has a subordinate relationship with GM projects, on the other hand


*0 *0 *0 *0 *0




Fig. 10.4 Matrix structure for a Project Organization

For various functional requirements, project manager reports to different functional
heads such as GM Engineering, GM Procurement etc.

10.7 Cost Breakdown Structure (CBS)

CBS ia a tool to link each element of WBS to a dimension of cost. CBS provides
useful means for budgetary control and review. Cost of a project is an important aspect
in project management. In many examples like construction of hydro power plants,
infrastructure development cost of initial proposal increase many folds giving extra
burden to the government. Therefor, CBS is an integral part of porject management.
Production & Operations
Management : 137
Project Management
10.8 Tools and Techniques for Project Management
Tood and techniques for project management are related to develop a network
NOTES representation of a project, to analyse these networks, to address time and resource
constraints in projects and finally, to handle uncertainities in projects.
To represent a project as a network, we use two commonly used techniques. These
are Critical Path Method (CPM) and the Programme Evaluation and Review Technique
(PERT). Both these techniques are essentially the same in their approach.
PERT addresses uncertainty in various activities of the project and gives estimates
of the probability of meeting specified schedule dates at various stages of the project.
CPM treates the activity performance time in a deterministic manner and its main feature
is to arrive at a project schedule which minimizes the total cost.
10.8.1 Developing a Network Representation of Project
A network is a schematic representation of work to be done in such a way that
relationship between work items are logically defined. The network representation
provides a visual aid to a manager in understanding various activities involved and
their interactions with other activities.
Activity is the work content required to be achieved to accomplish an event.
Activity is a clearly defined project element, a job or a task which requires the
consumption of resources including time. A merge activity is dependent on two or
more preceeding activities while a burst activity is followed by two or more activities.
Dummy activity does not consume time or resource but provides a logical function.
Example 9.1 : Following table gives some important activities in a project with
their predecessor and time to complete. Draw a network to represent the project.
Table 9.1

Activity Predecessor Time (days)

A - 8
B A 12
C B 4
D B 2
E C,D 8
F D 2
G E 3
H F 2

Solution :- Network diagram can be drawn using tow conventions- Activity on

arc (AOA) or Activity on node (AON) In AOA, activities are represented on the arc.
Arc starts from the beginning node of an activity and ends at finishing node of the
Production & Operations
Management : 138 In AoN, each node represents the activity itself. The arc from one node to the
other represents the precedence relationship between the activities. In AoN networks, Project Management
one `Start` and one `end` nodes are also required.
We will make both networks for the given problem.
E(8) G(3) NOTES
C(4) 4 6 8
A(8) B(12) 2)
1 2 3 H(
D(2 F(2)
5 7

Fig. 10.5 : The AoA network for example 9.1

Figure 5 shows the AoA network. Note that activities A,B,C, D etc. are mentioned
on arc. Figures in ( ) adjacent to activity name are completion time for that activity as
given in table 10.1. In this diagram most of the relationships are straight forward. See
activity E, which has two predecessors, C and D. Since two arcs cannot connect nodes
3 and 4, we direct activity D to another node, Node 5, and connect nodes 4 and 5 using
a dummy activity (Shown by dotted lines). Dummy activity is introduced to logically
satisfy the precedence diagram.

C(4) E(8)
Start A(8) B(12) End
D(2) F(2)

Fig. 10.6 : The AoN network for example 10.1

Figure 6 shows the AoN network. See, it started with a `Start` node and finished
with an `End` node. All coneecting arcs between different nodes representing activities
are drawn to honour precedence relationship. Check that dummy activity is not required
in the AoN netwrok representation.
10.8.2 Analysis of Project Network
Once the basic network (Figure 10.5 or Figure 10.6) is constructed, we will use
this network to do some analysis. Most of the analysis is related to project time and
cost. Considering figure 10.6, we have following alternative paths leading from the
start to the end point in the given project.
Path 1 : A-B-C-E-G
Path 2 : A-B-D-F-H
Path 3 : A-B-D-E-G
The sum of the activity times along each path indicates the total time to complete
the set of activities in that path. The path durations for three alternatives are as follows.
Path 1 : 9 + 12 + 4 + 8 + 3 = 35 days
Path 2 : 8 + 12 + 2 + 2 + 2 = 26 days
Production & Operations
Path 3 : 8 + 12 + 2 + 8 + 3 = 33 days
Management : 139
Project Management The time required for the completion of the project is the maximum of the duration
of all paths in a network. The path that has the maximum duration is the critical path.
Any delay in activities on critical path will affect directly the completion time of the
Example 10.2 A project has following activities with defined predecessor and
completion of activity in days. Determine critical path for the project.
Table 10.2

Acitvity Predecessor Time (days)

A - 6
B - 7
C- 8
D A 20
E A 18
F B 9
G B 8
H D,E 7
I C 2
J G, I 14
K F,H,J 10

Solution :-
The Aon network is presented in figure- 10.7.

D (20)
H (7)
A (6)
E (18)

Start K (10) End

B (7) F (9)
J (14)
G (8)
C (8) I (2)

Fig 10.7 : Network for example 10.2

This network has various alternative paths form start to end, such as A-D-H-K;
A-E-H-K, B-F-K, B - G - J- K and C - I - J - K. In more complex problems, large
number of alternative paths are possible. It is difficult to identify all paths in complex
projects and to calculte total time through manual calculations of critical path. We will
compute four time estimates for each activity in the network in a systematic way. Two
time estimates are early start time and early finish time. Two time estimates are late
finish and late start times. One can compute the early start schedules for all activities
by going from the beginning to end of the project. The early finish time of an activity
is the total of early start time and activity duration. The earliest finish of the predecessor
Production & Operations becomes the earliest start of an activity. In the case of multiple predecessors, the
Management : 140
maximum of the earliest finish of all the predecessors is the early start time for the Project Management
Start time of the project at start node = 0
So Early start time (EST) for activity A = 0 NOTES
EST for activity B = 0
EST for activity C= 0
Now Early Finish time (EFT) for activity A = EST for activity + duration of A
= 0 + 6 = 6.
EFT for activity B = EST for activity B + deuration of B = 0 + 7 = 7
EFT for activity C = 0 + 8 = 8
Now For activities D and E, EST will be EFT of activity A = 6
For activities F and G, EST will be EFT of activity B = 7
For activity I, EST will be EFT of activity C = 8
EFT calculations for activities D, E, F, G and I :
EFT for activity D = 6 + 20 = 26
EFT for activity E = 6 + 18 = 24
EFT for activity F = 7 + 9 = 16
EFT for activity G = 7 + 8 = 15
EFT for activity I = 8 + 2 = 10
For a merging activity such as H, EST will be maximum {EFT (D, E)}. So EST
for H will be 26.
Similarly EST of J = Max { EFT (G, I)}
= Max {15, 10}
= 15
EFT of J = 15 + 14 = 29
EFT of H = 26 + 7 = 33
EST of K = Max {EFT (H,F,J)}
= Max (33, 16, 29) = 33
EFT of K = 33 + 10 = 43
Similarly, one can compute late finish and late start times by going form the end
to the beginning of the project. Activity K needs to be completed by 43rd day. Therefore,
the late finish for this activity is 43 days. The late start for the activity is the difference
between the late finish and the activity duration. In the case of multiple successors an
activity, the late finish is the minimum of the late start of all the success.
Late finish time (LFT) for activity K = project completion time = 43 days
Production & Operations
Late start time (LST) for activity K = LFT for activity K - activity durations of K. Management : 141
Project Management = 43 - 10 = 33
LFT for activity H, F and J = LST for K = 33
LST for activity H = 33 - 7 = 26
NOTES LST for activity F = 33 - 9 = 24
LST for activity J = 33 -14 = 19
LFT for activity D and E = LST for activity H = 26
LST for activity D = 26 - 20 = 6
LST for activity E = 26 - 18 = 8
LFT for activity G and I = LST for activity J = 19
LST for activity G = 19 - 8 =11
LST for activity I = 19 - 2 =17
LFT for activity A = minimum {LST (D, E)}
= minimum {6, 8} = 6
LST for activity A = 6 - 6 = 0
LFT for activity B = minimum {LST (F, G)}
= minimum {24, 11} = 11
LST for activity B = 11 - 7 = 4
LFT for activity C = LST for activity I = 17
LST for activity C = 17 - 8 = 9
This way we complete calculations of EST, EFT, LST and LFT for each activity
in the network. These time estimates are summarized in table 10.3 below.
Table 10.3 : The start/ Finish schedules for example 10.2

Activity Durations (days) EST EFT LST LFT Slack LFT-EFT or


A 6 0 6 0 6 0
Check Your Progress B 7 0 7 4 11 4
1. Define EST, EFT, LST, C 8 0 8 9 17 9
LFT, Slack and critical
D 20 6 26 6 26 0
path in project
management. E 18 6 24 8 26 2
F 9 7 16 24 33 17
G 8 7 15 11 19 4
H 7 26 33 26 33 0
I 2 8 10 17 19 9
J 14 15 29 19 33 4
K 10 33 43 33 43 0
Production & Operations
Management : 142
Last column of table 10.3 gives calculation of slack, which is the difference of Project Management
either LFT and EFT or LST and EST. Slack for some of the activities is Zero. Path
made of zero slack activities is critical path. All these activities with zero slack are
critical activities. Non- zero slack for an activity indicates the possiblility of shifting an
activity without disturbing the project completion time. The slack information is a key NOTES
managerial information.
Complete information of table 10.3 with respect to a particular activity can be
represented on the network diagram using following convention :
Activity (Activity duration)
Fig. 10.8 Representing all time estimates on network
Using symbols of figure 10.8, activity E can be shown as follows :
6 24
E (18)
8 26
Fig. 10.9 An example of showing all time estimates on network diagram
Now we can make network diagram of figure 10.7 with all time estimates as
6 26
D (20)
6 0 26 26 33
H (7)
6 24
0 6 26 0 33
E (18)
A (6)
8 2 26
0 0 6 33 43
7 16 K (10) End
F (9) 33 0 43
0 7
B (7) 24 17 33
4 4 11 7 15
G (8)
11 4 19 15 29
0 8
J (14)
C (8)
8 10 19 4 33
9 9 17 I (2)
17 9 19

Fig. 10.10 Network diagram for example 10.2 with all time estimates and slack
The highlighed path A-D-H-K is the critical path for the given project. Production & Operations
Management : 143
Project Management 10.8.3 Time-Cost-Trade-Offs in Project
We want to complete project in minimum cost with time objectives. Project
completion duration can be squeezed by employing more resources such as manpower
or machinery. This is known as crashing in project management. Crashing involves
additional cost to complete an activity.
In a project, if we want to
complete the project in short Direct Cost
duration, additional resources Total Cost
demand higher cost. On the
other hand, if project elongates Cost
because of limited resources, Indirect Cost
cost of site management,
supervision or penalty is
incurred. The fitst type of cost
is direct cost while later is Project duration
indirect one. We have to make Fig. 10.11 Graph between project duration
a balance between two. and various costs.
If NT is normal duration
of the activity,
CT is the shortest possible duration of the activity,
NC is the normal cost of the activity,
CC is the crashed cost of the activity,
IC is the indirect cost for the project per unit time
Maximum possible crashing of the activity = NT-CT
Additional cost of crashing = CC - NC
(CC - NC)
The crash cost per unit time = - 9.1
(NT - CT)
It means that if the project duration is reduced by one day or one time unit, there
will be a reduction in indirect cost by IC and increase in the direct cost as per equation
Example 10.3 : Reconsider example 9.2 and suppose additional information is
available to the manager regarding crashing of some activities in the project. Analyse
the time - cost - trade - off involved in crashing the project duration and identify the
optimal crash length for the project.

Production & Operations

Management : 144
Table 10.4 : Cost and time data for example 9.2 with estimates for crashing Project Management

Activity Normal Crash Normal Crash

time (days) time (days) cost (INR) Cost (INR)
A 6 6 6000 NA
B 7 6 7000 8000 Check Your Progress
C 8 6 8000 10000 2. What is time-cost trade
D 20 18 12000 15000 off in a project?
E 18 16 14000 18000
F 9 8 6000 6500
G 8 6 8000 10000
H 7 5 6000 10000
I 2 2 4000 NA
J 14 12 10000 14000
K 10 8 8000 10000

The indirect cost for the project is estimated to be INR 2000 per day.
Solution : The critical path for the problem does not change.
Therefore, the project duration is 43 days (as shown in solution of example 9.2).
The total indirect cost is 2000 x 43 = 86000 (INR).
Also, from the information available in table 9.4, we can add the normal cost of
all activities to get the direct cost for the project without any crashing. The direct cost
for the project is 89000 (INR). Therefore, the total cost of the project with no crashing
is 175000 (INR).
Cost per day of crashing the activities
From the table 10.4, two activities, A and I, cannot be crashed. Therefore our
focus is only on the remaining activity.
Table 10.5 below gives calculations of cost per day of crashing for all the activities :
Table 10.5

Activity Maximum Crashing Period (days) Crashing Cost per day

NT - CT (NT-(T)/(CC-NC)

A 0 NA
B 1 1000
C 2 1000
D 2 1500
E 2 2000
F 1 500
G 2 1000
H 2 2000
I 0 NA
J 2 2000
Production & Operations
K 2 1000 Management : 145
Project Management To reduce the duration of the project, we will select an activity in the critical path
and reduce its duration by crashing. We will select a critical activity with least cost of
crashing per day and crash it to maximum possible time before selecting the next one.
In our example A, D, H and K are critical activities with crashing cost per day NA,
NOTES 1500, 2000 and 1000 (INR) respectively. Activity K has the lowest cost of crashing per
day. The revised calculations are performed as follows :
Cost of the project (With no crashing) : Rs. 1,75,000
Number of days crashed : 2 days
Cost of crashing the project by two day : Rs. 2000
Reduction in indirect cost (@Rs 2000 per day) : Rs. 4000
Net cost of the project after crashing activity K
= 1,75,000 + 2000 - 4000
= Rs. 1,73,000
Revised project duration = 41 days.
Revised critical path : A- D- H - K (Unchanged)
We repeat this procedure until no more activities exist for crashing the project.
Table 10.6 has the detailed computation for crashing.
Table 10.6

Number Critical Crashable Activitiy Number Direct Project Indirect Total

path Activities crashed of days cost Duration cost Cost
crashed (Rs.) (Rs.) (Rs.)

1 A- D-H- K D, H, K None 0 89000 43 86000 17500

2 A- D-H- K D, H, K K 2 91000 41 82000 17300
3 A- D-H- K D, H D 2 94000 39 78000 17200
4 A- D-H- K H H 2 98000 37 74000 17200

Now we recompute critical path for this example and see that A- E- H- K and B-
G- J- K are also two new critical paths. Let us consider path A- E- H- K first. In this
path activities, A, H and K are already handled, E can be crashed by two days. The total
cost will not change. It will remain Rs. 1,72,000, but now we will have only A- D- H-
K and B- G- J- K as critical paths. If we consider lowest cost of crasing per day activity
for maximum duration, it will be G. But this crashing will make path. B- G- J- K as non
critical. Therefore, A- D- H- K with crashed time of 37 days and total cost of project
Rs. 1,72,000 is the optimal solution.
10.8.4 Programme Evaluation And Review Technique (PERT)
The PERT network is similar to CPM, but since it deals with activities whose
duration is not exactly known, it relies on three time estimates of activity duration-
pessimistic time, optimistic time and most likely time. A mean time for the activity is
calculated using formula.
pessimistic + 4tmost likely + toptimistic
Mean time = - 9.2
Production & Operations
Management : 146
Then the network is drawn as in the case of CPM. The critical path is determined Project Management
and the variance on the path is calculated. The probability of completing the project by
a certain date then be determined.
Variance of the activity duration is calculated using formula
pessimistic - toptimistic 2

σ 2= [ 6
] -9.3

Table 10.7 Data for example 10.4

Activity Predecessor Optimistic time Most likely time Pessimistic time

(to) (tm) (tp)

A - 4 8 18
B A 11 12 25 Check Your Progress
C A 3 4 11 3. What is the difference
D B 1 2 3 between CPM and
E B 6 8 22 PERT?
F D 2 2 8
G E,F 2 3 4
H C, G 1 2 3
I E, F 1 2 3
J I, H 1 2 3

Table 8 below gives mean duration and variance of duration for each activity :
Table 10.8

to+4tm + tp tp-to
Activity Mean time t = Variance σ2 = ( )
6 6

A 9 5.44
B 14 5.44
C 5 1.78
D 2 0.11
E 10 7.11
F 3 1.00
G 3 0.11
H 2 0.11
I 2 0.11
J 2 0.11

Now draw the network following the same rules as for the CPM network.

Production & Operations

Management : 147
Project Management    
'  ) 
6WDUW $  -  (QG
&  + 

Fig. 10.12 Netwrom diagram for example 10.4

Network diagram in figure 10.12 shows A- B- E- G- H- J as critical path, giving
40 days duration for completion of the project. The total variance of all activities on
critical path is 18.32.
(a) With 84% level of confidence how much time would the project take?
PERT assumes that the
distribution of the total project $UHD 
completion time is normal. To
estimate the probability of
completion of the project for a
given path P, within a targeted due
date D, using the standard normal
variate given by :

Zp = ( D- Tp
) - 9.4
Area = .4484
Now, from the knowledge of normal distribution, we know that 84% represents
mean + 1 standared deviation. Hence we can say with 84% level of confidence that the
project will finish is
40 + 18.32 = 44.28 days.
(b) What are the chances that project will finish in 47 days.
We will calculate `Z` value using formula (9.4).
47 - 40 7
Zp = = = 1.635
18.32 4.28

As shown in figure 9.13, corresponding probability will be

0.50 + .4484 = .9484.
Hence, there is a 95% chance that the project will finish in 47 days.
Production & Operations (c) The mean duration of the project is 40 days, that is, there is a 50% chance that
Management : 148
the project will finish in 40 days. Project Management

10.9 Summary

10.10 Key Terms

Critical Activity : In project management, an activity that has no room for schedule
slippage; an activity with zero slack.
Critical path : a chain of critical activities for a projects the longest path through a
Crashing : Accelerating or speeding up an activity by adding resources; reducing the
time required for a project.
Dummy Activity : A CPM network device that simply indicates precedence
Earliest Start : the earliest time that an activity can start.
Earliest Finish : The earliest time that an activity can finish
Latest Start : The latest time that an activity can Start without delaying the entire
Latest Finish :The latest time that an activity can finish without delaying the entire
Event : A signal that an activity has either begun or ended.
Optimistic Time : the best case time duration estimate for an activity in a project if all
goes as well as possible.
Pessimistci Time : The worst case time duration estimate for an activity in as project if
all goes poorly.

10.11 Questions and Exercises

(1) Give two examples in following each category, requiring project management
techniques :- Production & Operations
Management : 149
Project Management (i) Manufacturing
(ii) Services
(iii) Infrastructure development
NOTES (2) What’s meant by work breakdown structure? Why do you need this in project
(3) What are the different types of time estimates in PERT. Disuss.
(4) What is critical path in a project network? How do we determine critical path?
(5) For the data given in table 10.9, draw the network. Crash the activities and
determine the optimal cost of the project and the optimal duration.
Table 10.9 : Data for problem (5)

Activity Normal Crash

Time (Days) Cost (Rs.) Time (Days) Cost (Rs.)

1-2 8 1000 6 2000

1-3 4 1500 2 3500
2-4 2 500 1 900
2-5 10 1000 5 4000
3-4 5 1000 1 2000
4-5 3 800 1 1000

Indirect cost is Rs. 700 per day.

(6) A project consists of eight activities as shown in table 10.10. What is the expected
time to complete the project? What is the probability of completing the project in
20 weeks or less? Time estimates are given as follows :
Table 10 : Data for Problem (6)

Activity Predecessor Optimistic Most likely Pessimistic

time time time

A - 1 3 5
B - 2 3 4
C - 3 4 5
D A 2 9 10
E C 4 5 6
F B, D, E 5 6 13
G A 2 4 6
H C 1 3 6

7) Prepare a WBS, OBS and CBS for a project of your choice, such as organization
of a cultural fest in your college.

Production & Operations

Management : 150
Maintenance Management
11.0 Introduction
11.1 Unit Objectives
11.2 The Maintenance Function
11.3 Equipment Life Cycle
11.4 Measures of Maintenance Performance
11.5 Maintennace Strategies
11.6 Total Productive Maintenance
11.7 Summary
11.8 Key Terms
11.9 Questions and Exercies
11.10 Further Reading and References.

11.0 Introduction
Maintenance is a basic function in any organization for the upkeep and running of
the system. Every production manager wants to make sure that the equipments, machines
and systems in the organization are available for use as and when required. Maintenance
management is a systematic approach to the planning of maintenance activities using
decision - making tools to improve the overall efficiency and effectiveness of the
operating system. To ensure better maintenance management, maintenance departments
are developed within organizations.
The degree of technology of the production processes, the amount of investment
in plant and equipment, the age of the buildings and equipment, and other factors will
affect how maintenance departments are organized, the required worker skills, and the
overall mission of maintenance departments.
This unit deals with different maintenance strategies, difference between them,
measuring maintenance performance, asset lifecycle and trends in maintenance.

11.1 Unit Objectives

After studying this unit, you should be able to
 understand impact of maintenance function on other careas of operations in
an organization;
 understand concept of bathtub curve and its role in maintenance management;
 understand alternatives available to an organization to perform maintenance;
 understand concept of total perductive maintenance. Production & Operations
Management : 151
Maintenance Management
11.2 The Maintenance Function
Maintenance is defined as 'any action that restores failed equipments to an
NOTES operational condition or 'retains non- failed equipments in an operational state' or 'an
activity carried out for any equipment or asset to ensure its reliability to perform its
The objectives of maintenance function is to ensure trouble free service and output
at rated capacity from equipments, minimum downtime of equipments and to minimize
the cost of operations and maintenance.
Maintenance function decisions directly affect the planning and operational control
activities in an organization. Inputs from maintenance department are crucial to the
Aggregate production planning. The plans for shut- down maintenance and major
overhaulds of the systems are to be factored in the aggregate production planning exercise
to assess the magnitude and timings of the demand supply mismatch. Maintenance
decisions have direct bearing on scheduling also. Scheduling is done on the assumption
of availability of equipments, maintenance function directly ensures this availability.
If maintenance function is not upto the mark, frequent changes in scheduling are possible.
This will result in missed delivery commitments to the customers and loss of goodwill
in the longrun.
A good maintenance activity contribute significantly to quality assurance also.
Check Your Progress Achieving six sigma quality levels is only possible when maintenance function ensures
1. What is maintenance good upkeep of equipments.
management? Identify Over a period, we can see changes in maintenance activities in organization. Earlier
an organization and maintenance was only involved when an equipment failed. During this period complexity
observe maintenance was less and priority to maintenance was low. Next period of sixties and seventies of
function in it. twentieth century, saw starting of scheduled overhaulds. Enough complexities were
there in plant design. People started giving attention to maintenance time and cost.
After 1980's, the growth of mechanization and automation has become more complex
and even small breakdowns in equipment affect the operation of the whole plant.
Therefore, reliability and availability became key issues. Major developments such as
condition monitoring, design for reliability and maintainability, failure mode and effects
analysis (FMEA) are developed.

11.3 Equipment Life Cycle

Each equipment has a definite pattern of lifespan. Equipment failure rate has a
characteristic behaviour and is closely related to the life cycle of the equipment. Failure
rate is the frequency with which a piece of equipment breaks down during the intended
period of its use. Figure 11.1 gives a general plot of lifespan of products with respect to
failure rate. This curve is known as ''bath tub curve''.

Production & Operations

Management : 152
Maintenance Management


Infant mortality Useful life period Wear out

phase (Constant failure rates) phase

Fig. 11.1 : The Bath tub Curve

This curve suggestes that the equipments may have a high failure rate in the
beginning. Defective design, improper manufacturing practices resulting in uneven
stress distribution in the structural components, defects in assembly resulting in failures
once the equipment becomes operational and defects in materials that were left
undefected in the manufacturing process are some of the reasons for high failure rate
during infant mortality phase.
Once the early failures are detected and weeded out, the equipment comes in
stable operational condition. This phase has constant failure rate. This is useful life of
the equipment. The failures that do occur during this period are truly random,
unpredictable and cannot be prevented by additional testing or burn- in of the
In time, however, the failures begin to increase until the last of the group succumbs
due to wear and tear. This is the last phase of bathtub curve. As the failure rate increases,
the method adopted for maintenance is likely to undergo change and eventually, the
equipment may require replacement.

11.4 Measures of Maintenance Performance

(1) Mean Time Between Failures (MTBF) :- It is the average time between two
consecutive failures. If λ is the failure rate of the equipment, MTBF is 1/λ A good
maintenance performance means higher values of MTBF. Check Your Progress
(2) Mean Time to Repair (MTTR) :- It is the mean time for restoring the equipment 2. What is bath tub curve?
back to working condition. If the repair rate is µ, MTTR is 1/µ. The severity of the Make bath tub curuve
breakdown significantly influence the MTTR. A good maintenance performance for Black & White TV
aims to minimize MTTR. in your house.
3. What are different
(3) Availability :- It refers to the fraction of the time for which the equipment is
measures of
available for productive use. Equipment can be considered to go through a series
of failure and repairs until its useful life is over. Figure 11.2 shows life over.

Production & Operations

Management : 153
Maintenance Management Life Over
Working start
Failed1 Working start Failed2 Working start again
again again

NOTES Working Repair Working Repair Working Repair Working

Start of working

Figure 11.2 : Series of failures, repairs over useful life of an equipment.

successive failures and repairs and working.
Availability combines MTBF and MTTR as follows :
Availability = - 11.1

As MTBF is concerned with frequency of breakdowns and MTTR is concerned

with severity of breakdowns, availability is a useful measure for assessing maintenance
Example 11.1 : A testing of 100 equipments of a company was done with a
running time of 500 hours. It was found that there were a total of 35 failures during the
testing phase. In total, 625 hours were lost on account of identifying the problem and
restoring it back to working condition.
What is failure rate, MTBF, MTTR and availbility of equipment?
Solution : Total time of testing = 100 X 500 = 50000 Hours.
Number of failures = 35
Repair time = 625 Hours.
(a) Failure rate = Number of failures 35
Total time 50000
= 7X 10-4 / Hour
Total time 1 1
(b) MTBF = = = = 1428.57 Hours
Number of failures λ 7 X 10-4

Repair time 625

(c) MTTR = = = 17.85 Hours
Number of repairs 35

MTBF 1428.57
(d) Availability = = = 0.987
MTBF + MTTR 1428.57 + 17.85

11.5 Maintenance Strategies

Over the years, many new approaches have been suggested as maintenance
strategies that are intended to overcome problems related to equipment breakdown.
Alternatives range from simple routine inspection schedules to equipment replacement.
Production & Operations Some of the possible maintenance strategies are as follows :
Management : 154
(1) Routine Inspection :- This is the simplest form of maintenance. Production workers Maintenance Management
inspect the equipments for routine and simple maintenance tasks such as checking
of lubrication level etc. We also check air pressures in tyres, water level coolant
level, engine oil level etc. in our vehicles before starting for a long drive. Routine
inspection is done at the beginning of every shift before regular production activity. NOTES
Routine inspection helps in timely detection of simple problems, which helps in
retarding wear and tear of the equipment.
(2) Breakdown Maintenance :- This is one of the earliest maintenance strategies. It is
normally implemented in those organizations where a robust maintenance set- up
is not present. It is a reactive maintenance strategy where repair work is performed
only after a piece of equipment has failed. Breakdown maintenance is both
expensive and undesirable. Where capacity and demand are close, breakdowns
may affect production and thus reduce profits.
(3) Preventive Maintenance :- Our car is working well, but we take it to garage on a Check Your Progress
specific date. This is a case of preventive maintenance. Preventive maintenance is 4. Prepare a comparative
a planned decision to perform some maintenance on the equipment even when the chart of various
equipment is in working condition. Frequency or time gap between preventive mainatenance
maintenance activity is a cirtical issue in preventine maintenance strategy. Frequent strategies.
maintenance will incurr extra cost while delayed maintenance increases the chance 5. Identify suitable
of breakdowns. Often, preventive maintenance is scheduled on the basis of historic example for each of the
data. maintenance strategy.
(4) Predictive Maintenance :- Predictive maintenance is a condition - based approach
to maintenance. Therefore, it is also known as condition - monitoring. Condition
of the equipment is regularly monitored and the decision to carry out maintenance
is based on extrapolation of the health data of the equipment. Advancements in
the field of computers and communications have enabled organizations to make
good analytical models, programs, softwares for equipment monitoring and
predictive maintenance.
(5) Proactive Maintenance :- Proactive maintenance concentrates on the monitoring
and correction of root causes to equipment failures. It aims to achieve zero
downtime or zero in - service breakdowns. It is designed to extend the useful age
of the equipment to reach the wear - out stage by adoptation to a high level of
operating precision.
(6) Planned shutdowns : Sometimes a planned shutdown is done for major overhaul.
In a sugar plant, all major overhauls are done during planned shutdonws. In most
process industry, frequent stoppage of the system for maintenance may prove to
be expensive. Planned shutdown once in a year helps in de- bottlenecking and
(7) Equipment Replacement :- As shown in the bathtub curve in figure 11.1, when
the equipment reaches the end of useful life, failure rate begins to increase. At
some stage, both preventive and breakdown maintenance may prove to be
expensive. Now replacement of equipment may be a better option. We need to
compare cost of replacement as it requires heavy expenditure in comparison with
various maintenance strategies. Production & Operations
Management : 155
Maintenance Management Figure 10.3 represents the cost and operational impact of the various alternatives.
Increasing Cost of Maintenance

NOTES Routine Preventive Predictive Breakdown Major Replace-

inspection Maintenance Maintenance Mainteinance overhaul ment

Increasing impact on capacity due to interruptions

Fig. 10.3 Cost and operation impact of various maintenance strategies.

11.6 Total Productive Maintenance (TPM)

It is expected that maintenance should contribute in improving the productivity

and competitiveness of the organization. TPM is an alternative approach to maintenance
that seeks to achieve zero breakdowns and zero defects. Nakajima (1982) suggests that
in the ideal factory, equipment should be operating at 100% capacity 100% of the time.
TPM draws heavily upon the philosophy of TQM. It involves everyone in all
departments and from all levels of the organizational hierarchy. TPM can help in getting
competitive advantage by substantial measurable improvements in cost, delivery, safety
and morals.
TPM is based on following important concepts :-
(i) Autonomous Maintenance :- The workers are trained about cleaning the
equipment so that forced deterioration of equipment can be eliminated.
(ii) Individual Improvement :- Individual improvement is required to achieve
zero losses of all kinds such as breakdown losses, set- up time loss, tool change
Check Your Progress losses etc. Objective is to improve overall equipment efficiency (OEE).
6. Visit websites of TPM
OEE is an important measure for maintenance management. OEE is a function of
award winning
availability, performance efficiency and quality rate.
organisations to
understand OEE = Availability X Performance efficiency X Quality rate - 11.2
implementatin of TPM Here Availability is determined using formula 1. Availability covers losses due to
in these organisations. downtime. Some losses are in addition to downtime. These are losses due to inappropriate
use of equipment. Inappropriate use can be understood with the help of driving example.
In one case a good driver can obtain fuel economy of 90 kmpl on a motorbike, while
inappropriate use of same bike by a poor driver can reduce fuel economy to 60- 70
kmpl. Performance efficiency of the equipment provides a quantitative basis to assess
this loss.
Theoretical cycle time X Actual output
Performance efficiency = X 100 - 11.3
Operating time

Quality rate captures losses due to defects and rework.

Actual output - Defects
Quality rate = X 100 - 11.4
Production & Operations Actual output
Management : 156
As we want to improve OEE, it helps organizations to gain competitiveness. Maintenance Management
(iii) Planned Maintenance :- It helps in extending the life of equipment, stabilizing
failures, periodically restoring deterioration, and even predicting equipment
(iv) Quality Maintenance :- It helps in improving the quality of maintenance NOTES
function. Targets can be reduction in process failures and consumer
(v) Development Management :- It aims to drastically reduce the time taken to
receive, install and set- up newly purchased equipment.
(vi) Education and Training :- It emphasizes hard engineering training to
familiarize production workers with equipment. It is similar to give knowledge
of engine to a driver.
(vii) Safety, Health, and Environment :- It aims to achieve the objective of zero
accidents and defects and reducing the level of human effort required to
attain a given level of production.
(viii)Office TPM :- Office TPM is related to improve the productivity of office.
Some losses are possible due to delayed decision making, communication
losses, data and document processing. Processes and procedures are analysed
in order to improve the work efficiency in offices.
Figure 4 gives a graph showing increasing trend of TPM implementation by Indian
No. of awarders


1995 98 99 200 01 02 03 04 05 06 07 08 09 10 11 12

Fig. 11.4 : TPM awards in India (Cumulative)

Source : http : / tpmclubindia.org/pdf/TPM- Awards - India. pdf
(accessed on 22 May 2013)
One of the award winning company, TVS Motor Company has shown overall
250% increase in profits, 40% reduction in manufacturing cost, 60% reduction in tool Production & Operations
cost, zero customer complaints in all models, 98% reduction in scrap cost, 57 % of Management : 157
Maintenance Management cells with zero defect, 100% daily despatches to customers, overall equipment efficiency
of 88%, 94% reduction in breakdown time while number of machines increased 80%
and 46 % increase in productivity, as a result of TPM implementation. (Source : http:/
www.tvsmotor.in/news.asp?id=80&yr=2005, accessed on 22 May 2013)

11.7 Summary

11.8 Key Terms

Availability : Fraction of time for which the equipment is available for productive use.
Mean time between failures (MTBF) : Expected time of the arrival of a failure.
Mean time to repair (MTTR) : Expected time for restoring the equipment back to
working condition.
Preventive Maintenance : A conscious decision on the part of the maintenance
management team to perform some maintenance on the equipment even when
it is in working condition.
Predictive Maintenance : Condition of the equipment is constantly monitored and
decision to carry out maintenance is taken based on the analysis of the
equipment behaviour.
Total productive maintenance (TPM) : An alternative apporach to equipment
maintenance that seeks to achieve zero breakdowns and zero defects.

11.9 Questions and Exercises

(1) What is the importance of maintenance function in an organization?
(2) What is a bathtub curve? How is it useful for a maintenance manager?
(3) What are the different types of maintenance performance measurement indi-
cators? Give their use also.
(4) What is OEE? Why is the OEE a more robust measure for maintenance
(5) What is condition monitoring? How is it helpful in maintenance?
(6) What is TPM? How is it different from various traditional approaches of
Production & Operations maintenance?
Management : 158
(7) An equipment has MTBF of 150 Hours and a MTTR of 7 hours. What is the Maintenance Management
availability of the equipment?
(8) If equipment in question 7 has a new design wehre MTBF increases by 10%
and MTTR decreases by 10% what will be the change in availability?

11.10 Further Reading and References

Production & Operations

Management : 159