MD375
Operations & Competition
Class Notes
Fall 2009
Professor Field
Definitions of Operations Strategy

An operations strategy is a set of goals, policies, and selfimposed restrictions that together describe how the
organization proposes to direct and develop all the resources
invested in operations so as to best fulfill its mission.

Other definitions of operations strategy:



An operations strategy consists of a pattern of decisions that,
over time, enables a business unit to achieve a desired
operations structure, infrastructure, and set of specific capabilities
in support of competitive priorities.
An operations strategy is a set of policies in both process choice
and infrastructure design that are consistent with the existing
ways products win orders, while being able to reflect future
developments in line with changing business needs.
The successful implementation of an operations strategy
creates value for the customer.
2
Levels of Strategy
Fin
HR
Corporate
What business are we in?
Divisional
(business)
How do we compete?
Mkt
Prod
Devpt
Ops
Role of each function?
3
Components of the Definition

Structural decision
categories:





Capacity
Facilities
Vertical integration
(sourcing)
Information/process
technology
Infrastructural decision
categories:




Capabilities:


Unique to each firm
Competitive priorities:





Cost
Quality
Delivery
Flexibility
Innovation
Workforce
Organization
Control/quality systems
4
Key Operations Principles

Aggregation Principle


Uncertainty Principle


The higher the level of aggregation of resources and
information, the more predictable operations becomes (e.g.
forecasts of total product volume tend to be more accurate
than forecasts of individual products). This is a
manifestation of the Central Limit Theorem.
The more uncertainty in operations, the greater the need to
employ extra resources to cope with this uncertainty.
Alternatively, the greater the stability and predictability, the
more efficiently operations can function.
Efficiency Principle

All else being equal, operations should function as
efficiently as possible.
5
Competitive Priorities
Quality
Quality consists of many dimensions that can be aggregated into: relative
quality (level of attributes) and functional quality (the ability to operate as
intended). The categories, dimensions, and definitions of quality are as follows:

Relative Quality

Performance


Features


The "bells and whistles" of products and services, those
characteristics that supplement their basic functioning
Aesthetics



A product's or service's primary operating characteristics
How a product looks, feels, sounds, tastes, or smells
For services – physical facilities, equipment, and appearance of
personnel
Perceived quality

Inferences about quality based on indirect tangible and intangible
aspects of the product or service (e.g. reputation)
6
Competitive Priorities
Quality (cont.)

Functional quality:

Reliability



Conformance


The degree to which product or service design and operating
characteristics meet established standards
Durability


The probability of a product malfunctioning or failing within a
specified time period
For services – ability to perform the promised service dependably
and accurately
The amount of use one gets from a product or service before it
deteriorates
Service delivery


The speed, courtesy, and competence of personnel
For products – also, the ease of repair
Improvements in functional quality result from a reduction in process
variation.
7
Competitive Priorities
Delivery

Two delivery dimensions:


Lead time – the time the customer must wait between
order placement and receipt
Reliability – how reliable the company is in delivering
a customer's order on or before the quoted delivery
date
Both lead time and reliability can be improved by reducing
uncertainty in the operations system.
8
Competitive Priorities
Flexibility

Primary flexibility dimensions:


Product flexibility – the ability to produce a wide
variety of products or services and the ease with
which the product or service mix can be changed
Volume flexibility – the ability of the production system
to operate at different volumes and the ease with
which the volume can be changed
Increased flexibility is a means to deal with demand
uncertainty.
Advances in technology have greatly increased
operational flexibility.
9
Competitive Priorities
Innovation

Definition: In operations, innovation as a competitive priority
involves the ability to quickly introduce and improve process
technologies, which increases speed to market with often
better products and services.

Main types of operations innovations:


Incremental – Minor improvements or simple adjustments in
existing technology. Rapid accumulation of these innovations
can convey a competitive advantage.
Radical – Fundamental changes that represent revolutionary
changes in technology. They represent clear departures from
existing practice (i.e., substantially new processes and process
technologies)
Innovation is often the primary competitive priority in highvelocity environments with short product life cycles.
10
Operations Strategy Formulation
Content

Mission


Objectives


Structural and infrastructural decisions are stated in strategic terms. They must be
formulated to support the operations mission and objectives and should be
consistent with each other and with what is intended to be accomplished by
operations.
Policies


Operations objectives should be defined in concise, measurable terms, as part of
the operations strategy. They should be specific statements of expected results –
a refinement of the mission.
Operational strategies


The operations mission specifies what operations must accomplish for the
business to succeed. It states the purpose of the operations function and
competitive priorities as they relate to the customer and competition.
Structural and infrastructural decisions are stated in tactical terms in support of
the operational strategies.
Distinctive competence

The competitive priorities provide a framework for developing a distinctive
competence, which is realized through the implementation of the operations
strategy and the use of the firm’s resources. It is what sets operations apart from
the competition and, thus, can be defined in terms of uniqueness.
11
A Marketing-Oriented View
of Operations Strategy

Development of an operations strategy:





Define corporate objectives.
Determine marketing strategies to meet these objectives.
Assess how different products or services qualify in their
respective markets and win orders against competitors.
Establish the most appropriate process to produce or
deliver these products or services (structural/infrastructural
decisions).
Provide the operations infrastructure to support production
and delivery.
The last two steps constitute the operations strategy.
12
Order Qualifiers and Order Winners




Order-qualifiers are those criteria that a company
must meet for a customer to even consider it as a
possible supplier. Companies need only be as good
as competitors.
Order-winners are those criteria that win the order.
Companies need to be better than their competitors.
From an operations perspective, determining orderwinners and order qualifiers helps to define
competitive priorities.
This view of operations strategy is especially timeand market-specific.
13
Important Considerations in
Operations Strategy Formulation

Operations are part of a system that includes the other
functional areas, the business, and the corporation.




As such, the strategies must be linked, integrated, and
mutually supportive.
The operations strategy process is iterative, both within a
planning cycle and between cycles.
Between planning cycles, the operations strategy
process should reflect the changing environment.
While strategic planning precedes implementation, a
plan that is not implemented is not a strategy and is
often worse for the organization than no stated plan at
all.
14
McDonald’s Example

McDonald’s operations mission:

McDonald’s operational strategies (structural):

Capacity



Facilities


Distributed facilities, each facility being very similar to the next, all focused
around a similar menu with some local variations (especially by country)
Vertical integration (sourcing)



Growth as needed through additional stores - but capacity added carefully
Well-utilized - franchisee's well-being depends on heavily utilization
Partnership arrangement
Long-term relationship with suppliers to promote innovation and quality
improvement
Information/process technology


High degree of process understanding, emphasis on "fool-proof" processes
A leader in the technology of fast-food delivery
15
McDonald’s Example
(cont.)

McDonald’s operational strategies (infrastructural):

Workforce



Organization


Franchisees: well-trained, carefully selected, entrepreneurs
Operators: high-turnover, lower-paid
Guidelines provided by corporation, but franchisees push to
locally optimize
Control/quality systems



Centralized buying
Bulk contracts
"Push" system for basic supplies, "pull" system day-to-day in
the restaurants
16
Criteria for Evaluating an Operations Strategy

Consistency (internal and external):





Between the operations strategy and the overall business strategy
Among the decision categories that make up the operations
strategy
Between the operations strategy and the other functions’ strategies
Between the operations strategy and the business environment
(resources available, competitive behavior, governmental restraints,
etc.)
Contribution (to competitive advantage):




Making trade-offs explicit, enabling operations to set priorities that
enhance the competitive advantage
Directing attention to opportunities that complement the business
strategy
Promoting clarity regarding the operations strategy throughout the
firm
Providing the operational capabilities that will be required by the
business now and in the future
17
Evolution of Operations Strategy
Stages

Stage 1


Stage 2


Externally neutral - Achieve parity with competitors.
Stage 3


Internally neutral - Minimize operation's negative potential.
Internally supportive - Provide credible support to the
business.
Stage 4

Externally supportive - Pursue an operations-based
competitive advantage.
18
Stages of Operations Strategy
Stages 1 and 2

Stage 1

Internally neutral







Operations not involved in strategy
Keep operations under control - detailed measurement
Fight fires, eliminate problems
Operations is kept flexible and unfocused
Short-term performance is emphasized
Top management is not involved in operations
Stage 2

Externally neutral





Industry practice is followed
Capital investment to maintain or gain position
Keep up with competition in operations
Planning horizon is one business cycle
Use industry-wide wage rates
19
Stages of Operations Strategy
Stages 3 and 4

Stage 3

Internally supportive







An operations strategy is formulated and pursued
Keep operations in step with business strategy
Operations investments are screened for consistency with business strategy
Longer-term trends are addressed systematically
Consistency within operations
Translate business strategy into operations terms
Stage 4

Externally supportive









Anticipate new operations practices and technology
Operations is an equal partner in business strategy
Operations is involved upfront in market decisions
Operations contributes to other functions
Structure and infrastructure are concerns to top management
Teamwork and involved workforce
Operations is innovative
Competitive strategy rests on operations capability
Functions of the firm are well integrated
20
Attacking and Defending through Operations

Attacking:


Positioning – Appealing to a different customer need
Capabilities – being better at the same game




Process-based capabilities
Systems (coordination)-based capabilities
Organization-based capabilities
Defending:



Exploiting its own strengths
Attacking its attacker’s operations-based weaknesses
Recognizing the seriousness of the attack quickly and
emulating the attacker’s strategy
21
Information-Intensive Industries and E-Commerce
Characteristics and Implications for Operations
Characteristics:






The cost structure for most information-intensive products is dominated by the “upfront” costs associated with developing a new product and creating its associated
production/delivery facilities.
Rapid changes in technology and markets.
Network effects (i.e. the increasing attractiveness to users of certain networks as they
increase in size). Network effects are a function of the number of users of a particular
technology and the system of complementary products associated with the network.
Quality and time have an interaction effect.
Information technology enables direct, real-time communication with users.
Compatibility is as important as differentiation.
Implications:






Increased importance of project (vs. process) management.
Cumulative output and speed to market are key for low-cost strategies.
Installing a less-than-perfect but improvable system is sometimes better than waiting
to introduce a more refined system later.
High flexibility (customization) is at least an order qualifier.
Operations must be able to introduce new products and services rapidly.
Operations organized for collaboration and communication.
22
Issues in Service Operations

Simultaneous production and consumption

Inability to inventory the customer-facing portion of services
increases the importance of capacity and facilities management

Services tend to be high on experience and credence attributes,
and,
Much of the service delivery process is transparent to the
customer, therefore …



Evaluation of the service is based to a large extent on the process
and not just the outcome
Because both the provider and customer are involved in service
delivery process (i.e., co-production), effective service delivery
requires that service delivery “models” or “scripts” are consistent
between the customer and service provider.
23
Issues in Service Operations
(cont.)

Customer contact

The interaction between the front-line employee and customer is an
important determinant of customer satisfaction, therefore …


Greater variability (both complexity and divergence) in outcomes
exists due to customer participation in service delivery, therefore …


A high degree of customer contact requires that the interface between
the service provider and customer be carefully managed.
As the customer becomes more actively involved in the service process,
it becomes increasingly difficult to deliver the service efficiently.
Even a service that can be characterized as “high customer contact”
overall is usually a mix of high and low contact.

High and low contact segments of the service can be decoupled for
greater efficiency, but should not always be decoupled.
24
Customer Contact Model
1



Potential facility efficiency  
 customer contact 
Most services are a combination of high and low contact and can be designed
for both customer satisfaction and efficiency by following these steps:




Identify those points in the service system where decoupling between high and low
contact is possible and desirable.

For “Cost Leader” type services, back-office activities are decoupled from the front
office for the purpose of lowering costs.

For “Personal Service” type services, back-office tasks are retained in the front office
to pursue non-cost-oriented objectives.

For “Kiosk” type services, all tasks remain in the front-office to save costs.

For “Focused Professional” type services, front- and back-office activities are
decoupled to enable front-office workers to provide higher service, rather than to
reduce costs.
Employ contact reduction strategies where appropriate.
Employ contact enhancement strategies where appropriate.
Employ traditional efficiency improvement techniques (TQM, BPR, etc.) to improve low
contact operations, especially for Cost Leader services.
25
Customer Contact
Behavioral Considerations
Sequence effects:

Customers carry away an overall assessment of an experience
based on:



The trend in the sequence of pain or pleasure
The high and low points
The ending
Duration effects:



People who are engaged in a task don’t notice how long it takes
People will overestimate the time an activity takes
Increasing the number of segments in an encounter lengthens its
perceived duration
Rationalization effects:

People want things to make sense. If there’s no handy explanation
for an unexpected event, they’ll concoct one.
26
Implications for Service Design

Finish strong.

Get the bad experiences out of the way early.

Segment the pleasure, combine the pain.

Build commitment through choice.

Give people rituals, and stick to them.
27
Structural Decisions
Capacity Strategy

Eight important factors to consider:








Capacity is technologically based.
Capacity depends on the interaction of multiple resource
constraints.
Capacity is mix dependent.
Capacity can sometimes be stored.
Capacity depends on management policies.
Capacity is dynamic.
Capacity is location specific.
Capacity is affected by the degree of variability of demand and
processing time.


With demand and processing variability, lines may form even with
excess capacity.
As the average rate of arrivals approaches the average processing
rate, system performance deteriorates rapidly and a capacity
squeeze occurs.
28
Capacity Strategy
Timing of Capacity Changes

Policies:





Lead demand with capacity
Build to the forecast
Add capacity only after demand exceeds it
Mixed and/or nonstructural policies
Determining the appropriate capacity cushion:

Unit costs of excess/insufficient capacity
29
Capacity Strategy
Sizing of Capacity Increments

Economies of scale:



Short-term – cost per unit output decreases as total output
increases (i.e., spreading the overhead costs)
Intermediate-term – increasing batch sizes (decreasing
changeovers); dedicating resources to specific products,
services, or tasks; using equipment that is specifically designed
for the needs of a given product or service
Long-term



Diseconomies of scale:


Static economies of scale – using one large facility or piece of
equipment instead of a number of smaller ones to create a product or
service
Dynamic economies of scale – improvements in the total operating
cost per unit that results from the skills, systems, and experience that
accumulates over time
Distribution, bureaucratization, confusion, vulnerability
Increasing economies of scale:

Network effects
30
Average cost/unit
Optimal Economic Size
Plant size
31
Capacity Strategy
Approaches to Capacity Expansion

Don't build additional capacity until the need for it
develops

Try to outguess the market by following a countercyclical strategy

Build for the long haul

Follow the leader(s)

Question:

How can a capacity expansion strategy be used
proactively?
32
Developing the Supply Chain
Insourcing vs. Outsourcing Considerations
Pros
Increased
Insourcing
control over price,
quality, etc.
Economies of combined
operations
Proprietary products protected
Low
capital costs
Specialization
Outsourcing Competition
Increased flexibility
Cons
Capital
costs
Capability limits
Time limits
Opportunity costs
Reduced flexibility to change
partners
Reduced volume flexibility
Unfavorable
allocation of product
Lack of control over price, quality,
etc.
Lock-in from specialized
contracts and assets
Transaction (coordination) costs
33
Developing the Supply Chain
Supplier Relations

Competitive Orientation:


Cooperative Orientation:


The view that negotiations between buyer and seller is a zerosum game. Often used when a firm represents a significant
share of the supplier’s sales or many substitutes are available.
Example: WalMart
The view that the buyer and seller are partners. Includes sole
sourcing. Often used with strategically important and/or high
value-added components. Example: McDonald’s
Mixed strategy:

Seeks to combine the advantages of the competitive orientation
(e.g. low prices) with the cooperative orientation (e.g. few
suppliers). Example: Toyota
34
Managing Supply Chain Relationships
Long-term relationships
Arm’s Length
Characteristics




When to use





Non-strategic
Short-term contracts
Price sensitivity
Minimal interface
between firms
Contractual
safeguards are
sufficient to enforce
agreements


Product is
necessary but nonstrategic
Commodity product
Purchases account
for a small
percentage of
supplier’s
production
Switching costs are
low
Low value-added







Strategic
Longer-term contracts
Price sensitivity more
broadly defined
Minimal to moderate
interface between firms
Contractual safeguards
are sufficient to enforce
agreements


Product is necessary but
non-strategic
Dividing purchases
across multiple suppliers
reduces the ability of
suppliers to achieve
significant economies of
scale
Vigorous competition
can be achieved with few
suppliers
Switching costs are
relatively high
Low value-added







Long-term contracts
Relation-specific
investments
Supplier performance
more broadly defined
Self-enforcing
agreements are
necessary for optimal
performance
Components help to
differentiate the
customer’s product
Customized, nonstandard products
Multiple interaction
effects with other
inputs
High degree of
supplier/ buyer
interdependence
High value inputs
35
Strategic Management of the Supply Chain

Efficient Supply Chains


Responsive Supply Chains


The purpose of efficient supply chains is to coordinate the flow of
materials and services so as to minimize inventories and maximize the
efficiency of the manufacturers and service providers in the chain.
Efficient supply chains work best when demand is predictable and
products/services are stable. Example of competitive priority: low cost.
The purpose of responsive supply chains is to react quickly to market
demands by positioning inventories and capacities in order to hedge
against uncertainties in demand. Responsive supply chains work best
when demand is unpredictable, new product introduction is frequent, and
product variety is high. Examples of competitive priorities: development
speed, fast delivery, customization, volume flexibility.
In addition …

Innovations in information technology and other practices are facilitating
the integration of the supply chain for greater efficiency and
responsiveness and enabling “orchestrated” networks.
36
Global Outsourcing and Offshoring

Specific considerations:

Capabilities/resources

Coordination requirements

Strategic control and risks
37
Designing the Multifacility Network
Facilities Decisions




Number
Size
Location
Specialization (focus)





By product line
By production volumes
By process stage
By geographic region
Layout – some key issues are efficiency,
communication, and ergonomics
38
Managing the Multifacility Network


Infrastructural issues
Choosing and managing a network type



Horizontal network
Vertical network
Degree of (de)centralization

Centralized networks are more appropriate when different
facilities:




Produce similar products
Serve similar customers who value uniformity
Operate in similar environments with similar constraints and/or
resources, especially in the presence of significant economies
Decentralized networks are more appropriate when facilities:



Produce different products
Serve customers with different needs
Operate in very different local environments
39
Supply Chain Dynamics

Horizontal networks

Vertical networks

The bullwhip effect is a tendency towards increased
fluctuations in inventory and order levels as one moves
back up the channel from the final customer.


Some causes of the bullwhip effect include lack of
visibility/communication throughout the supply chain, delays in
information flows, ordering and shipping lags.
The bullwhip effect can be alleviated by:





Reducing the number of stages in the supply chain
Communicating consumer demand directly up the supply chain
Reducing ordering and shipping delays
Reducing demand destabilizing practices
Counter consumer “gaming” during shortages
40
Structural Decisions
Process Technology

Strategic implications of superior process technology
implementation:





Accelerated time to market
Rapid ramp-up
Enhanced customer acceptance
Stronger proprietary position
Key process development decisions:




Approaches to integrating process and product development (e.g.
design for manufacturability, prototyping)
Timing of technology transfer to operations
Locus of process development problem solving and learning by
doing vs. learning before doing
Degree of local autonomy for developing and changing
processes
41
Incremental Improvement, Reengineering,
and Productivity - Definitions




The purpose of incremental process improvement and reengineering is
to move operations toward the performance frontier by: 1) eliminating
non-value added activities and steps in the process and/or, 2) moving to
a new performance frontier.
Non-value added activities or steps can be characterized as waste
(i.e., no potential to add value) or slack (i.e., resources in excess of
what are required to get the job done, including buffers). The concept
of “value added” can be thought of in the context of whether a customer
would be willing to pay for that activity or step to be performed and/or
whether a product or service’s value can be increased through that
activity.
Incremental process improvement involves eliminating non-value
added activities or steps while leaving the current process essentially
intact.
Reengineering involves a fundamental rethinking and radical redesign
of processes to improve performance dramatically in terms of cost,
quality, service, and speed.
Elimination of non-value added activities or steps increases productivity, by
definition.
42
Sources of Non-Value Added Activities

Why do non-value added activities or steps occur in
processes?



Poor process and/or organizational design (dysfunctional
uncertainty)
Historical artifact
Barriers to learning






Individual
Within group
Across groups
From outside the organization
To find and correct errors elsewhere in the process
Unclear understanding of “value” and “risks”
43
Process Improvement Procedure

Discover where non-value added activities are in the process
and prioritize improvement efforts:




Flow charts (value stream mapping)
Brainstorming
Data collection
Take action based on the source of the non-value added
activity:



Process reviews
Remove barriers to learning
Continuous improvement



Reducing dysfunctional uncertainty
Implementing a systematic approach to process improvement
Increasing process knowledge
Reengineering projects often take more of a “clean-slate” approach
than incremental process improvement and are typically higher risk and
higher return.
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Lean Systems

Definition:
A lean system is one which minimizes the cost of buffering (i.e.,
“best buffer”).
Implementation
Reduce the need for buffers  Reduce excess buffers
(uncertainty principle):
(efficiency principle):
 Address dysfunctional
 More efficient responses to
uncertainty (e.g. poor
strategic uncertainty (e.g.
quality, poor planning
cross-training, mass
customization)
processes)
 Lower-buffer practices in
stable and predictable
environments (e.g. JIT)
If buffers are needed, it is often possible to “swap” buffers (inventory,
capacity, time) to minimize the disruption to the process/customer
and provide the slack to address and eliminate problems.
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Customization (Product Variety) with
Standardized Operations (Mass Customization)
Since customization (product variety) creates uncertainty in operations,
and uncertainty requires extra resources, customization is more
resource-intensive than standardization.
However, it is sometimes possible to increase operational efficiency
even with customization using standardization strategies (i.e., mass
customization). Standardization strategies include:



Part standardization – Maximize component commonality across
products
Process standardization – Delay customization as late as possible
Product standardization – Carry a limited number of products in
inventory
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Creating an Improvement Strategy

What are the pros and cons of the following
improvement strategies?

Tightly focused, top management-driven
improvement programs:

Single performance measure, dominant quadrant

Single performance measure, multiple quadrants

Broadly based, diffused improvement programs

Top management directed, staged improvement
programs
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