Strategic Management Accounting

Day 1 part 1

Lauri Larjavaara

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Structure of the course –Day 1
• Practicalities
• What is strategy
• What is strategic management
• Introduction to strategic management
accounting

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Structure of the course –Day 2&3
• Making strategic plan in Excel

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 Corporate Strategy
Strategic Management

-Review on topic

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WHAT IS STRATEGY?
“Competitive strategy is about being different.
It means deliberately choosing a different
set of activities to deliver a unique mix of
value.

… the essence of strategy is in the activities --

choosing to perform activities differently or
to perform different activities than rivals. “

Porter, Michael E., “What is Strategy?,” Harvard Business Review,

November-December, 1996.

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Definitions
Corporate Strategy:
• is the direction and scope of an organization, which achieves
advantage for the organization through its configuration of
resources within a changing environment and to fulfill stakeholder
expectations.
• is the pattern of major objectives, purposes or goals and essential
policies or plans (for achieving those goals), stated in such a way
as to define what business the company is in, or is to be in, and
the kind of company it is, or is to be.

Strategic Management:
• Is the managerial process that focusses on identifying and building
competitive advantage by
• Generating good ideas and
• Implementing them effectively

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Tasks of Strategic Management
1. Forming a strategic vision – Long term direction, a sense of
purposeful action.
2. Setting objectives – Converting the strategic vision into specific
performance outcomes for the organisation to achieve.
3. Crafting a strategy to achieve desired results :
• Macroeconomic analysis
• Industry Analysis
• Game theory
• Capabilities-based strategy formulation
• Dynamic capabilities & evolutionary thinking
4. Implementation & executing the strategy
5. Evaluating performances, reviews and corrective action

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Business Model
• A Business Model is a document describing the operations of a
business including the components of the business, the functions,
and design. It is the plan implemented by a company to generate
revenue and make a profit from operations.
• Magretta defines Business Model as ‘Stories that explain how
enterprises work’.
• A Business Model depicts the content, structure and governance of
transactions, designed so as to create value through exploitation
of business opportunities.
• A Business Model is the ‘logic’ of the firm, the way it operates and
how it creates value for its stakeholders.
• A business model is how a company operates and a strategy is how
a company competes. Strategies cannot be formulated without
first understanding the fundamental elements of a business model.
• When the basis of competition changes because a new model
changes the economics in the industry, business models need to be
adjusted and then the strategy realigned.

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How corporate strategy links the organisation’s
resources with its environment

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How corporate strategy links the organisation’s
resources with its environment

(Porter M.)
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Environmental Threat & Opportunities Profile (ETOP)

• ETOP analysis is a management tool that analyses environmental

information and determines the relative impact of threats and
opportunities for the systematic evaluation of the environment.

• Environment scanning is the process of gathering, analysing and

dispensing information for tactical or strategic purposes.

• ETOP process involves dividing the environment into different

environmental sectors and then analysing the impact of each
sector on the organisation.

• ETOP gives a clear picture to the strategies about each aspect of

the business environment, the various individual factors within
each sector which affect the business favorably or otherwise

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Environmental Threat & Opportunities Profile (ETOP)

ENVIRONMENTAL
NATURE OF IMPACT IMPACT OF THE SECTOR
SECTOR

Burgeoning middle class,

ECONOMIC rising disposable incomes,
lifestyle changes.

Several major players, lots of

small players and a large
MARKET unorganised sector, margin
pressures.

Global slowdown, cheaper

GLOBAL
imports, US$, crude prices.

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Environmental Threat & Opportunities Profile (ETOP)

ENVIRONMENTAL
NATURE OF IMPACT IMPACT OF THE SECTOR
SECTOR

Coalition compulsions, lack

POLITICAL
of direction, instability.

Too many controls, inspector

raj, documentation and
REGULATORY licensing, reservations for SSI
etc.
Changing attitudes,
acceptance of new social
SOCIAL values and norms, new ideas
and liberal outlook.

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Environmental Threat & Opportunities Profile (ETOP)

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DISCUSSION Environmental Threat & Opportunities
Profile (ETOP)
1. Form groups of 5
2. Open the ETOP –file from >Materials
3. Choose a company
4. Fill the form, 15 min and present it

COMPANY x

ENVIRONMENTAL SECTOR NATURE OF IMPACT IMPACT OF THE SECTOR

ECONOMIC THREAT/OPPORTUNITY
MARKET
GLOBAL
POLITICAL
REGULATORY
SOCIAL
TECHNOLOGY
SUPPLIERS

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Characteristics of Corporate Strategy
Corporate strategies provide direction when the company enters new
economic markets. The strategy determines markets of the firms,
customers and competitors.
1. Generally long-range in nature but valid for short-range situations
also.
2. Action-oriented and more specific than objectives.
3. Multipronged and integrated.
4. Flexible and dynamic
5. Formulated at top management level with inputs from middle and
lower level managers
6. Generally meant to deal with competitive and complex settings
7. Flows out of goals and objectives and is meant to turn them into
realities.
8. Is concerned with perceiving opportunities and threats and seizing
initiatives to cope with them.
9. Provides unified criteria for managers in function of decision making.

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Levels of Strategy
• Corporate level strategy
• It decides the business you should be in. Is concerned with the overall
purpose and scope of an organisation and how value will be added to
the different parts (Business units) of an organisation.

• Business Unit strategy

• Also known as ‘Competitive Strategy’, it decides the tactics to beat/
overcome the competition.
• Is about how to compete successfully in particular markets. The
concerns are about competitors, opportunities and new products or
services.

• Operational strategy
• Also called the ‘Go-to-Market Strategy’ or ‘Functional Strategy’, it
decides the operational methods to implement the tactics.
• Are concerned with how the component parts of an organisation
deliver effectively the corporate and business-level strategies in
terms of resources, processes and people.

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Levels of Strategy

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 Core areas of Corporate Strategy
Strategic Analysis :
The organisation, its mission and objectives have to be examined
and analysed. The top management examines the objectives, the
environment and the resources.

Strategy Development :
The strategy options have to be developed and selected. The
strategy has to be built on the particular strengths of the
organisation, developing advantages over competition that are
sustainable over time.

Strategy Implementation :
The selected options have to be implemented.

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 Vision, Mission & Objectives
Vision Statements and Mission Statements are the inspiring words chosen by
successful leaders to clearly and concisely convey the direction of the organization.
Vision Statement
• describes the desired future position of the company.
• communicates both the purpose and values of the organization.
• refers to the category of intentions that are broad, all-inclusive and forward-
thinking. It is the image that a business must have of its goals before it sets out
to reach them.
Mission Statement
• defines the company's business, its objectives and its approach to reach those
objectives.
• an organization's vision translated into written form. It makes concrete the
leader's view of the direction and purpose of the organization
• guides the actions of the organisation, spells out its overall goals and provides
the framework or context within which the company’s strategies are formulated

Elements of Mission and Vision Statements are often combined to provide a

statement of the company's purposes, goals and values.

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 Goals and objectives

Objectives are
• open-ended attributes that denote the future states or outcomes.
• organizations performance targets – the results and outcomes it
wants to achieve. They function as yardstick for tracking an
organizations performance and progress.

Goals
• are close-ended attributes which are precise and expressed in
specific terms.
• objectives may be qualitative while goals generally tend to be
quantitative.

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 Common Objectives

The pursuit of objectives is an unending process such that organizations

sustain themselves. They provide meaning and sense of direction to
organizational endeavour.

Common Objectives: SURVIVAL

STABILITY

GROWTH

PROFITABILITY

EFFICIENCY

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 Types of Strategies
Integration
• Forward integration: Gaining ownership/ increased control over
channel partners
• Backward integration: Ownership/ control over suppliers
• Horizontal integration: Ownership/ control over competitors

Intensification
• Market penetration: Seeking increased market share in existing
markets through extra efforts
• Market development: Introducing existing product(s) into new
geographic areas or consumer segments
• Product development: Improving existing products or developing
new products

DISCUSSION: ONE EXAMPLE FOR EACH

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 Types of Strategies
Diversification
• Related Diversification: Adding new but related products or services
• Unrelated Diversification: Adding new, unrelated products or
services

Defensive
• Retrenchment: Regrouping through cost and asset reduction to
reverse declining sales/ profits
• Divestiture: Selling/ hiving off a division or part of the organisation
• Liquidation: Selling all the assets, in parts, for their tangible worth

DISCUSSION: ONE EXAMPLE FOR EACH

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 Competitive Analysis: Porter’s Five-Forces
Model

1. Rivalry among competing firms

2. Potential entry of new competitors

3. Potential development of substitute products

4. Bargaining power of suppliers

5. Bargaining power of consumers

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Generic Strategies

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Business Portfolio Analysis
• A company's portfolio is the sum of its business, assets
and products. In portfolio analysis, top management
views its product lines and business units as a series of
investments from which it expects returns.
• The best business portfolio is the one that best fits the
company’s strengths and weaknesses to opportunities
in the environment.
• A perfect portfolio analysis is shaped to meet and suit
the company's potency and also enable it to exploit the
best opportunities available.
• Analysis of a portfolio involves deciding on the relative
importance of available business and investment
opportunities

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Business Portfolio Analysis
• Portfolio analysis can be defined as a set of techniques
that help strategists in taking strategic decisions with
regard to individual products or business in a
company’s portfolio.
• It is primarily used for competitive analysis and
corporate strategic planning in multi-product and
multi-business firms.
• The objective is to help divert resources from its cash-
rich businesses to more prospective ones that hold
promise of a faster growth so that the company
achieves its corporate level objectives in an optimal
manner.

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 Boston Consulting Group (BCG) Growth-Share
Matrix

BCG Matrix is considered to be the simplest way to portray a

company’s portfolio of investments. It is popularly used for
resource allocation in a diversified company.
Using the BCG approach, a company classifies its different
businesses on a 2-dimensional growth-share matrix:
• The vertical axis represents the market growth rate and
provides a measure of market attractiveness.
• The horizontal axis represents relative market share of the
company or the product and serves as a measure of the
company’s strength in the market.
• The products are classified n four categories as ‘Stars’,
‘Cash Cows’, ‘Question Marks’ and ‘Dogs’.
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 GE Nine-Cell Strategic Model

The GE 9-Cell Matrix was developed with the intention to

overcome certain limitations of the BCG Matrix.
The Matrix was pioneered by General Electric Co., with the
aid of Boston Consulting Group and McKinsey & Co.
The matrix consists of 9 cells (3X3) and Two Key Variables :

Business Strengths : Industry Attractiveness :

• Product features/ Patents
• Market Share
• Profit Margins
• Price/ Quality Competitiveness
• Market Intelligence
• Market Size & Growth
• Economies of scale
• Technology
• Social/ environmental aspects
• Competitive factors

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 GE Nine-Cell Strategic Model
If your enterprise falls in the green zone you are in a favorable position
with relatively attractive growth opportunities.
A position in the yellow zone is viewed as having medium attractiveness.

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GE Nine-Cell Strategic Model

A position in the red zone is not attractive. The suggested

strategy is that management should begin to make plans to exit
the industry.

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 Strategy Evaluation
It is essential for managers to systematically review, evaluate
and control the execution of strategies, because even the
best-formulated and best-implemented strategies can become
obsolete as the internal and external environments change.
Strategy evaluation is essential to ensure that the stated
objectives are being achieved.
Strategy evaluation is important because organisations face
dynamic environments in which key external and internal
factors often change quickly and dramatically.
Strategy evaluation includes three basic activities :
• Examining the underlying bases of the firm’s strategy
• Comparing expected results with the actual results
• Corrective action to ensure performance conforms to plans

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 Strategy Evaluation
Richard Rumelt lays down four criteria that can be used to
evaluate a strategy :
1. Consistency: Strategy must be consistent with goals and
policies.
2. Consonance: A strategy must represent an adaptive
response to the external environment and to the critical
changes occurring within.
3. Feasibility: The strategy should be attempted within the
physical, human and financial resources of the enterprise.
4. Advantage: The strategy must provide for creation and/ or
maintenance of a competitive advantage in a selected
area of activity (Resource, skill or position).

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 Strategy Evaluation Process
The process of strategy evaluation consists of the following
steps :
1. Fixing benchmarks of performance – qualitative &
quantitative
2. Measurement of performance
3. Analysing variance
4. Corrective action

There is a role in strategic management accounting to provide

the information to this process

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 Difficulties in Strategy Evaluation
Strategy evaluation in modern business environment has become a
difficult and complicated process because of certain factors :
• Increase in environment complexity
• Difficulty in predicting the future accurately
• Increasing number of variables
• High rate of obsolescence of even the best laid plans
• Increase in domestic world events
• Decreasing time span for planning certainty
Most common ways to evaluate strategic performance :
• Change in assets
• Change in profitability
• Change in sales The Strategic Management
Accounting helps to cope with the
• Change in productivity difficulties
• Change in profit margins
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Strategic Management Accounting
Day 1 part 2

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Definitions
Strategic management accounting:
• Have not yet been answered precisely by the
accounting researchers, teachers and others.
• There is no comprehensive framework available on
strategic management accounting.
• Some attempts have been made to define strategic
management accounting (see next pages)

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Definitions
Lord has identified the following components of strategic
management accounting:
• Extension of traditional management accounting’s internal focus
to include external information about competitors.
• Relationship between the strategic position chosen by a firm and
the expected emphasis on management accounting (i.e.
accounting in relation to strategic positioning).
• Gaining competitive advantage by analysing ways to decrease
costs and/or enhance the differentiation of a firm’s products,
through exploiting linkages in the value chain and optimising cost
drivers.

Strategic role of Management Accounting emphasized in

formulating and supporting the overall strategy of an organization
by developing an integrated framework of performance
measurement

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Definitions
• Simmonds: strategic management accounting as the provision and
analysis of management accounting data about a business and its
competitors which is of use in the development and monitoring of
the strategy of that business
• Cooper and Kaplan: strategic accounting techniques are designed
to support the overall competitive strategy of the organisation,
principally by the power of using information technology to
develop more refined product and service costs.
• Bromwich: provision and analysis of financial information on the
firm’s product markets and competitors’ costs and cost structures
and the monitoring of the enterprise’s strategies and those of its
competitors in these markets over a number of periods.
• Innes: provision of information to support the strategic
decisions in the organisations. Strategic decisions usually involve
the longer term, have a significant effect on the organisation
and, although they may have an internal element, they also have
an external element.

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Definitions
Shank, John K. and Vijay Govindarajan have identified the following
components of strategic management accounting:
• Accounting exists within an business primarily to facilitate the
development and implementation of business strategy...
• Three important generalizations emerge from this way of viewing
management accounting:
• Accounting is not an end in itself, but only a means to help
achieve business success
• Specific accounting techniques or systems must be considered in
terms of the role they are intended to play
• In evaluating the overall accounting system... the key question is
whether the overall fit with strategy is appropriate.

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Techniques of Strategic Management Accounting
Strategic management accounting uses different approaches/techniques to achieve
strategy execution, to develop integrated approaches to performance measurement.
1. Strategic Cost Management
1. Value chain analysis
2. Cost Driver analysis
2. Cost Control
1. Life cycle costing
2. Target costing
3. Kaizen Costing
4. Activity-Based Analysis/costing/management
3. Inventory management
1. Just-In-Time Method (JIT)
4. Total quality management DISCUSSION: Do you find any
5. Customer Analysis maethods/themes/aspects
6. Supplier and Competitor Analysis that are not mentioned in
1. Five forces analysis this list
7. Theory of constraints (TOC)
8. Benchmarking
9. Balanced Scoreguard

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Techniques of Strategic Management Accounting
Activity based costing
An approach to the costing and monitoring of activities which involves tracing resources
consumption and costing final outputs. Resources are assigned to activities and activities to cost
objects based on consumption estimates. The latter utilise cost drivers to attach activity costs to
outputs.
Attribute costing
An extension of activity based costing using cost-benefit analysis (based on increased customer
utility) to choose the product attribute enhancements that the company wants to integrate into a
product.
Benchmarking
The establishment, through data gathering, of target and comparators, that permits relative levels
of performance (and particularly areas of underperformance) to be identified. Adoption of
identified best practices should improve performance
Brand value budgeting and monitoring
Brand valuation assigns financial value to the equity created by the name or image of a brand. It
can be represented as the net present value of the estimated future cash flows attributable to the
brand.
Capital budgeting
The process of selecting long-term capital investments
Competitor cost assessment
A technique in which the competitor cost per unit is attempted to be ascertained from available
information. It is often at best an estimate.

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Techniques of Strategic Management Accounting
Competitive position monitoring
Monitoring the market position and competitive strategy (market positioning) of the key
competitors.
Competitor appraisal based on published financial statements
Looking for strengths and weaknesses in the competitors’ financial position.
Customer profitability analysis
CPA is the analysis of the revenue streams and service costs associated with specific customers or
customer groups.
Integrated performance measurement – balanced scorecard
The balanced scorecard is a strategic planning and management system that is used to align
business activities to the vision and strategy of the organisation, improve internal and external
communications, and monitor the organisation’s performance against strategic goals.
Life-cycle costing
Life-cycle costing is the profiling of costs over the life of a product, including the pre-production
stage.
Quality costing
The concept of quality costs is a means to quantify the total cost of quality related efforts and
deficiencies. It can be broken down into appraisal costs, prevention costs, internal and external
failure costs.
Strategic cost management
Strategic cost management is the overall recognition of the cost relationships among the activities
in the value chain, and the process of managing those cost relationships to a firm's advantage.

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Techniques of Strategic Management Accounting
Strategic pricing
Strategic pricing takes into account market segments, ability to pay, market conditions, competitor
actions, trade margins and input costs, as well as other potential factors affecting market position
and demand for the product.
Target costing
Target costing is an activity which is aimed at reducing the life-cycle costs of new products, by
examining all possibilities for cost reduction at the research, development and production stage. It
is not a costing system, but a profit-planning system – the selling price and profit requirement are
set during the research stage, thus creating a target cost.
Value chain costing
Based on Porter’s Value Chain analysis, a firm may create a cost advantage either by reducing the
cost of individual value chain activities or by reconfiguring the value chain. Once the value chain is
defined, a cost analysis can be performed by assigning costs to the value chain activities

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1.1 Value Chain Analysis
Focus of the analysis
• External vs. Internal (traditional)
• Highlights profit improvement areas:
1. Linkages with suppliers
2. Linkages with customers
3. Process linkages within a business unit
4. Linkages across business units

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1.1 Value Chain Analysis
1. Identify the firm’s value creating processes
2. Assign costs, revenues, and assets to value creating
activities
3. Identify the cost drivers for each process
4. Identify the links between processes
5. Evaluate the opportunities for achieving relative
cost advantage (Note: goal for strategic
management)

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1.1 Value Chain Analysis

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1.1 Value Chain Analysis & Strategic
Management
Integration with sustainable competitive
advantages
Low cost
Differentiation
Management relative to competitors
Better value for equivalent cost
Equivalent value for lower cost
Placement in the value chain
Each firm is only a part of the total chain
Overall value chain for each firm is unique

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1.2 Cost Driver Analysis
The study of factors that cause or influence costs.

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2.1 LIFE-CYCLE MANAGEMENT AND
ACCOUNTING

Cost commitment vs. incurrance

Product life cycle
Life-cycle costs
Whole-life costs

Management of life-cycle costs

Strategic implications

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2.1 LIFE-CYCLE MANAGEMENT AND ACCOUNTING

100

90
80
85

60
66

40

20

Product Preliminary Detailed Production Logistics

Planning Design Design & Support
Testing

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2.1 LIFE-CYCLE MANAGEMENT AND ACCOUNTING

Life-cycle
Cost
100

90
80
85

Cash
60
Flow
66

Life-cycle40
cost ($) Matched
Cost
20

Product Preliminary Detailed Production Logistics

Planning Design Design & Support
Testing

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2.1 LIFE-CYCLE MANAGEMENT AND ACCOUNTING

Management of activities throughout a

product’s entire life-cycle so that a long-term
competitive advantage is created

Consideration of the total value-chain of the

product is essential to life-cycle management

Specific considerations
Relation to target costing
Identification of development stage costs
Cost reduction and control

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2.2 ESTABLISHMENT OF TARGET COSTS

Estimated
Market
Price

Market
Research

Define Target
Product/ Understand Define Cost
Customer Customer Product
Niche Requirements Features

Competitor
Analysis
Required
Profit

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 2.2 ATTAINMENT OF TARGET COSTS

Compute Cost Gap Design Costs Out Produce

Perform
Value
Engineering
Release
Initial Compare Design Estimate Design to Actual
Cost to Target Products/ Achievable Production Cost
Estimates Cost Processes Cost

Perform
Cost Undertake
Analysis Continuous
Improvement

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2.4 ACTIVITY BASED ANALYSIS

Activity Based Costing

A costing system focused on ESSENTIAL ACTIVITIES
comprising a firm’s operations.
Costs are first traced to these activities and then
to products/services.

Activity Based Management

A system-wide, integrated approach which
focuses attention on activities performed by the
firm and assessing their value,
The objective is to identify and continue only
those activities that add value.

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2.4 VALUE-ADDED ACTIVITIES

Those necessary to remain in business

Required - comply with legal requirements
Discretionary
Produces a desired state of change in product or service
Not achievable by other activities
Enables other activities to be performed

VALUE-ADDED COSTS
Costs to perform value-added activities with
perfect efficiency

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2.4. NONVALUE-ADDED ACTIVITIES
Activities that are either unnecessary or are
necessary but inefficiently performed and
can be improved
Nonvalue-added activities = Nonvalue-added
costs
From THE CUSTOMER’S PERSPECTIVE (within
strategic constraints)
Examples of nonvalue-added activities
Scheduling
Moving
Waiting
Inspecting
Useless accounting reports

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2.4. OBJECTIVES OF ACTIVITY BASED
MANAGEMENT
Elimination of all unnecessary activities

Increase efficiency of necessary activities

Improving operating functions
Improving combination of activities
Sharing necessary activities

ADD, NEW, VALUE-ADDED ACTIVITIES

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 2.4 The Two-Dimensional ABM Model
Cost Dimension

Resources

Process Dimension

Driver Performance
Analysis
Analysis Measures
Why? What? How Well?

Product
and
Customers

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3. INVENTORY MANAGEMENT

Essential Questions
How much inventory must be ordered or
produced?

How should the purchase order or internal

production be managed?

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3. WHY IS INVENTORY NEEDED?
Traditional View
Balance ordering (or setup) costs and carrying
costs
Satisfy customer demand and avoid stock-out
costs
Avoid operating shut-downs
Buffer against unreliable production processes
Take advantage of purchase discounts
Hedge against future price increases

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3. INVENTORY COSTS
Ordering - costs of placing and receiving an order
Clerical costs, documents, insurance, unloading

Carrying - costs of keeping inventory

Insurance, taxes, obsolescence, opportunity cost,
storage

Stockout - costs of not having enough inventory

Lost sales, cost of expediting, cost of interrupted
production

Setup - costs of preparing operating facilities to produce

a particular product or service
Setup labor, lost revenue (during setup) test runs, etc.

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 3.1 JIT OPERATIONS
A Management Philosophy
JIT Operations
• Demand-Pull System
• Focused Operations
• Reduce Setup Time: Enables
production of small batches
(generates “economies of
scope”)
• Insignificant Inventories
• Total Quality Management
• Interdisciplinary Labor
• Decentralized Support
Services
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Traditional Operations
• Production-Push System
• Functional Departments
• Produce Large Batches:
Reduces total setup time
(generates “economies of
scale”)
• Significant Inventories
• Acceptable Quality Levels
• Specialized Labor
• Centralized Support Services
 Traditional Manufacturing Layout

Dept 1 Dept 2 Dept 3

Product A A A Finished A

Product B Lathes Grinding B Welding Finished B

B

JIT Manufacturing Layout

Cell A Cell B

Grinder

Lathe Welding Lathe Welding

Product A Finished A Product B Finished B

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3.1 JIT OPERATIONS
Other Considerations
Reduction in Setup Time
Key to competitive advantages
Optimum batch of “ONE”
Flexibility and diversity
Direct cost identification
Reduction in labor costs
Guide for automation
Proactive approach
Need for operational measures
Simplified accounting

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3.1 JIT OPERATIONS
Costs and Limitations

Commitment from employers and employees

Continuous improvement
Empowerment of employees
Changed relations with suppliers
Long-term agreements
Stipulated prices
Guaranteed quality
Delivery assured
Same for many customers
Reorientation of operations
JIT is not for everyone

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3.1 JIT OPERATIONS
Service Organizations
Essential Concepts Similar
Demand-Pull
Focused Operations
Reduced Cycle Time
Simplification of Activities
Continuous Improvement
Total Quality Operations
Multidisciplined labor force
Decentralized support services
Examples
Loan application process at banks
Processing of claims by insurance companies
Registration process at universities
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3.1 JIT & INVENTORY MANAGEMENT

Setup & Carrying Costs

Costs of acquiring inventory reduced
Significant reductions in setup time
Using long-term purchase contracts
Carrying costs reduced because of lower
inventories
Due-Date Performance
Lead times reduced for quick response
Focused manufacturing
Reduction in setup time
Improved quality

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3.1 JIT & INVENTORY MANAGEMENT

Avoidance of Shutdown
Preventive maintenance
Quality control to reduce defects
Good supplier relationships for availability of
materials
Discounts and Price Increases
Careful vendor selection
Long-term agreements
Prices
Quality
Reduction in order costs

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4. TOTAL QUALITY MANAGEMENT
Total Quality Management
Management philosophy that attempts to eliminate all
defects, waste, and activities that do not add value to
customers

Nature of Quality
The degree of excellence
Quality product/service is one that conforms to customer
expectations

Types of Quality
Quality of design
Quality of conformance

Costs of Quality

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 4. QUALITY OF DESIGN & CONFORMANCE

High Do right Do right

things wrong
(failure)
things right
Quality (Winner!)
of
Design
Do wrong Do wrong
things wrong things right
Low (failure) (failure)

Low High

Quality of Conformance

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4. COSTS OF QUALITY
Prevention costs
Incurred to prevent defects in products or services being
produced
Quality engineering, quality training programs, quality planning
and reporting, supplier evaluations, quality audits, quality
circles, design reviews, etc.

Appraisal costs
Incurred to determine whether products or services are
conforming to specifications

Inspection and testing of raw materials, packaging inspection,

supervising appraisal activities, product and process acceptance,
supplier verification, and field testing

“The objective is to prevent nonconforming goods from being

shipped to customers”

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4. COSTS OF QUALITY Continued
Internal failure costs
Incurred because nonconforming products and
services are detected prior to being shipped to
outside parties (detected by appraisal activities)

Scrap, rework, downtime due to defects,

reinspection, retesting, and design changes

External failure costs

Incurred because products/services fail to conform
to requirements after being delivered to customers

Returns, Warranties, Repairs, Product liability,

Compliant adjustments, and LOST SALES!
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4. MANAGEMENT OF QUALITY

Traditional View
Balance between prevention/appraisal costs
and internal/external failure costs
Identification of an optimal level of defects

World Class View

Zero defects approach

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4. DISTRIBUTION OF QUALITY COSTS
Traditional View

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4. QUALITY COSTS
Contemporary View

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4 Customer Analysis
Enables an organisation to make decisions on how to
handle unprofitable customers
1. Reduce the costs of servicing unprofitable
customers
2. Increase prices to unprofitable customers
3. No longer do business with unprofitable customers

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5 Supplier and competitor analysis
Five forces analysis (Porter M.) + inventory
management
Good strategy regarding suppliers
• To avoid shutdown and mistakes
• To allow a better performance
• To receive some discounts from term (long-term
contracts)

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6 Theory of constraints (TOC)

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6 Theory of constraints (TOC)

STEPS:

1. Identify the System’s Constraints.

2. Decide how to Exploit the System’s
Constraints.
3. Subordinate everything else to the above
decision.
4. Elevate the System’s Constraints.
5. If in the previous steps a Constraint has been
broken, go back to Step 1.

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6 Theory of constraints (TOC)
STEP 1 Identify the System’s Constraints :

• What limits the system performance now?

• Is it inside the system (a resource or policy) or
is it outside the system (the market, material
supply, a vendor . . . or another policy)?
• When looking at a process, where is the one
point people always have to go to expedite?

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6 Theory of constraints (TOC)
Types of constraints
1. Market – Not enough demand for a product or service.
2. Resource – Not enough people, equipment, or facilities.
3. Material – Inability to obtain required material.
4. Supplier/Vendor – Unreliability of a supplier or vendor, or
excessive lead time in responding to orders.
5. Financial – Insufficient cash flow to sustain an operation.
6. Knowledge/Competence – Information or knowledge
to improve business performance is not resident within
the system or organization.
7. Policy – Any law, regulation, rule, or business practice
that inhibits progress toward the system’s goal.

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6 Theory of constraints (TOC)
STEP 2 Decide how to Exploit the System’s
Constraints:

Exploit means to get the most out of the constraining

element without additional investment.

• Change the way you operate so that the maximum

financial benefit is achieved from the constraining element.
• Understand the sales mix that maximizes the Capacity
Constrained Resource (CCR) or identified Capacity Point.
• Throughput Decision Support using Throughput per CCR Hour.

Exploit: Use; develop; make use of; take advantage of; make the most of.

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6 Theory of constraints (TOC)
STEP 3 Subordinate everything else to the above
decision:

• All parts of the system that are NOT constraints are

required to do whatever they can to SUPPORT the
plan to EXPLOIT decided on in step 2.

• All non-constraints must NOT DO ANYTHING that

would HURT the exploitation plan for the constraint.

• Non-constraints (most of the system) recognize that

THEIR OWN EFFICIENCY is not as important as
supporting the system constraint.

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6 Theory of constraints (TOC)
STEP 4 Elevate the System’s Constraints:

• Evaluate alternative ways to ELEVATE one or more

constraints.
• Predict where the future constraint will be (after
elevation) and its impact on the global
performance.
• Mentally apply the first three steps to each
alternative
• Where will the constraint go NEXT, and how
difficult will it be to manage it THERE?
• Select the best alternative to elevate the
constraint.
Elevate: To physically raise or increase the capacity to flow work through a resource or system
component; acquisition of, or investment in, more resources.

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6 Theory of constraints (TOC)
STEP 5

• Go back to step one. Beware of inertia in identifying

constraints.
• The actual new constraint may be different from what was expected.

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 7 Benchmarking
Types of benchmarking:
Internal benchmarking – is a process of comparing
performance within the company or division. A comparison
is made across internal operations and parameters, such
as purchasing, marketing, research and development,
administration and so on.
External benchmarking – focuses on external
comparisons, that is performance is compared with a
spread of look-alike businesses in similar positions
experiencing similar market growth, fluctuations and
circumstances
Best-practice benchmarking – requires seeking out the
undisputed leader in a particular process that is critical to
the entire business process – regardless of sector, industry
or location – and comparing it with your own.
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 7 Benchmarking
What to Benchmark:
• Business processes
• Equipment
• Manufacturing (production) processes
• Products and services

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8 Balanced Scorecard (R. Kaplan & D. Norton 1992)

A multi-dimensional measurement system that translates

an organization’s mission and strategy into performance
measures
Management tool to measure, document and control a
company‘s performance in comparison to its mission &
vision

How did we perform?

How will we perform?

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 8 Balanced Scorecard
Is a strategy performance management tool that can be used by managers
to keep a track of the execution of activities by the staff within their
control, and to monitor the consequences arising from these actions.
The concept involves creating a set of measurements for four strategic
perspectives. These include :
• Financial
• Customer
• Internal Processes
• Learning & Growth
As a model of performance, the Balanced Scorecard is effective since "it
articulates the links between leading inputs (human and physical),
processes, and lagging outcomes, and focuses on the importance of
managing these components to achieve the organization's strategic
priorities."

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 8 Balanced Scorecard
Lets executives see whether they have improved in one area at the
expense of another. Knowing that will protect companies from posting
sub-optimal performance.
A Balanced Scorecard defines what management means by "performance"
and measures whether management is achieving desired results.
The characteristic of the balanced scorecard and its derivatives is the
presentation of a mixture of financial and non-financial measures each
compared to a 'target' value within a single concise report.

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 8 Balanced Scorecard
What Balanced Scorecards Do:
• Articulate the business's vision and strategy
• Identify the performance categories that best link the business's vision
and strategy to its results (e.g., financial performance, operations,
innovation, employee performance)
• Establish objectives that support the business's vision and strategy
• Develop effective measures and meaningful standards, establishing
both short-term milestones and long-term targets
• Ensure companywide acceptance of the measures
• Create appropriate budgeting, tracking, communication, and reward
systems
• Collect and analyze performance data and compare actual results with
desired performance
• Take action to close unfavorable gaps
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 8 Balanced Scorecard
The emphasis is on establishing a ‘balance’ between four types of
measurements :
Short term & Long Term
External & Internal:
• External factors include shareholders and customers
• Internal include critical business processes, innovation, learning and
growth
Performance Drivers (Leading indicators) & Outcome measures (Lagging
indicators)
Objective measures and Subjective measures:
• Objective measures are mostly financial while
• Subjective measures are mostly non-financial

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8 Balanced Scorecard

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8 Balanced Scorecard

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8 Strategy and Balanced Scorecard

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