Chapter 5: Design of goods and services

 Great products key to success

 Top organizations typically focus on core products
 Customers buy satisfaction, not just a physical good or particular service
 Limited and predictable life cycles need constant look for redesign & develop new products

Product Life Cycle: 4-phases: Introduction, Growth, Maturity, and Decline

Introduction: Tuning adds up expenses in research, product &supplier development & process modification;
Growth: Product design begins to stabilize adding capacity
Maturity: Competitors appear, high volume of production needed with better cost control
Decline phase: Unless product makes a special contribution, must plan termination

Reflected by 3 graphs: i) cost of development & production, ii) Sales revenue, iii) profit/net cash flow
i) Increases to max; then starts declining; further declines; remains low;
ii) Increases to some height; further increases to reach max; starts declining; remains low
iii) Reaches -ve max, then moves up; moves from - to +; reaches + max; then declines to 0

Product design:
 Function or performance to meet the customer requirements;
 Trade-off between function and aesthetic value;
 Availability of materials required;
 Producibility in terms of work methods and equipment, tolerances and work skill needed;
 Product quality specifications;
 Product reliability (probability of performing for a specific length of time or number of cycles);
 Cost-price trade off through design simplification, standardization, materials substitution, etc.;
 Ease of handing, packaging, and product delivery;
 Ease of product maintenance, and recycling;
 Product safety avoiding adverse impact on the worker, user, and the environment.

Quality Function Deployment:

1. Identify customer wants
2. Identify how the good/service will satisfy customer wants
3. Relate customer wants to product hows
4. Identify relationships between the firm’s hows
5. Develop customer importance ratings
6. Evaluate competing products
7. Compare performance to desirable technical attributes

House of Quality- Designing a new camera: An example:

Customer wants: Lightweight-3; Easy to use-4; Reliable-5; Easy to hold steady-2; High resolution-1
How to satisfy customer wants: low electricity requirements; aluminium components; auto focus; auto
exposure; high number of pixels; ergonomic design

Organizing for Product Development:

Team approach: cross functional- product development, manufacturability team, value engineering team
Japanese “Whole Organization” approach;

Robust design: small variations in production or assembly no adverse effect. Product is intended to perform
even in undesirable field conditions in terms of heat, cold, humidity, vibration, nature of use etc.
Modular design: Designed in easily segmented components; adds flexibility to both production and
marketing, improved ability to satisfy customer needs. Even maintenance or repair of products becomes
easier replacing the faulty module by a spare one.

Computer Aided Design (CAD): Use computers to design products and prepare engineering documentation
with shorter development cycles, improved accuracy and lower cost

Computer-Aided Manufacturing (CAM): Utilizing specialized computers and programs to control

manufacturing equipment, often driven by CAD system

Benefits of CAD/CAM: product quality; shorter design time; production cost reduction; database
availability; new range of capabilities

Process design:
Types of processes:
Conversion process from iron ore to steel;
Manufacturing process categorized as: i) forming to produce castings, forging, etc., changing shape without
removing or adding material; ii) machining removing metal such as turning, milling, drilling, shaping,
planning, etc., iii) assembly like welding, soldering, riveting, fastening with bolts and nuts, etc.,
Testing processes involving inspection and testing of products.

Process Technology: Could have-

1. Process focus - Low volume and high variety, job-shop situation;
2. Product focus - High volume and low variety, continuous process plants;
3. Repetitive focus - Modular fashion prepared in continuous process and then assembled;

Choice of process affects factors like:

1. Economy of scale,
2. Extent of mechanization and the choice of technology,
3. Cycle time of conversion of inputs to outputs,
4. Material handling,
5. Skill level of operators,
6. Inventory holding- raw material, work-in-process, and finished goods, and
7. Extent of planning and scheduling

Latest Developments- production and operations practices:

Sustainability and Life Cycle Assessment (LCA):

Meeting needs of the present without compromising ability of future generations to meet their needs;
LCA is a formal evaluation of the environmental impact of a product;
Product development continuum: product life cycles shorter & rate of technological change increasing;
Developing new products faster can result in a competitive advantage

Concurrent (simultaneous) engineering:

Method of designing and developing products, in which the different stages run simultaneously, rather than
consecutively. It is the most effective way to develop products with challenges for functionality, cost, time-
to-market, quality, satisfying customer needs

Group Technology:
Parts grouped into families with similar characteristics; coding system describes processing and physical
characteristics
Configuration Management:
Need to manage ECNs (Engineering Change Notice) has led to its development;
A product’s planned and changing components are accurately identified and control and accountability for
change are identified and maintained

Process-chain-network (PCN):
Analysis of ways in which processes designed to optimize interaction between firms and their customers

Technology assessment: Parameters for assessing the level of technology adoption by an organization:
Technology direct, inputs related, HR related, outputs related, maintenance related

Moving towards Sustainability

Triple Bottom Line:

System needed to support the three Ps: People, Planet, and Profit

Walmart’s objectives:
Improving livelihoods through the creation of productive, healthy, and safe workplaces
Building strong communities through access to affordable, high quality services
Preventing exposure to substances that are considered harmful or toxic
Promoting health and wellness

The Planet’s environment:

 Look for ways to reduce the environmental impact of operations
 Overarching objective to conserve scarce resources
 Carbon footprint and greenhouse gas emissions (GHG)
 The 3Rs for sustainability: Reduce, Reuse, and Recycle

ISO 14000:
Environmental management standards: implemented by more than 200000 organizations in 155 countries
 Environment management
 Auditing
 Performance evaluation
 Labelling
 Life cycle assessment

Basics of operating decisions:

 Contribution margin = (selling price – variable cost), to be maximized in any operating decision;
 Fixed cost (sunk, not controllable in short-term), maximization of contribution = profit maximized;
 Profit Volume (PV) Ratio = contribution per unit/unit selling price = total contribution/total sales;
 Break-Even Point (BEP) sales = No profit, no loss scenario; total contribution = fixed cost;
 BEP sales (Rs.) = fixed cost/PV ratio; BEP sales (units) = fixed cost/contribution per unit
 Margin of safety = sales at operating level – BEP sales;
 Profit made = margin of safety*PV ratio (after BEP, contribution = profit with no more fixed cost);
 Operating profit = Earnings before interest and taxes (EBIT);
 Business risk measured by Operating Lever;
 Operating lever = Rate of change of operating profit (EBIT)/rate of change of sales
= (δEBIT/EBIT)/ (δS/S) = contribution/ profit

Illustration 5.1 Machines A and B are both capable of manufacturing a product. They compare as follows:
 Items Machine A Machine B
Investment (Rs.) 50 000 80 000
Interest on capital (%pa) 15 15
Hourly charges-wages & power (Rs.) 10 8
No. of pieces produced per hour 5 8
Annual operating hours 2000 2000

i)Which machine is better, if run for the whole year?

ii) Which machine will be less costly, if only 4000 pieces need to be produced?
iii) If 12.5% of output of machine B gets rejected, will your decision will change for question i)?

When run for 2000 hours:

Cost per unit for A = [50 000*0.15 + 10*2000]/(5*2000) = Rs.2.75
Cost per unit for B = [80 000*0.15 + 8*2000]/(8*2000) = Rs.1.75- cheaper, better

When run for production of only 4000 pieces:

Cost per unit for A = [50 000*0.15 + 10*(4000/5)]/4000 = Rs.3.875
Cost per unit for B = [80 000*0.15 + 8*(4000/8)]/4000 = Rs.4

On rejection of 12.5% of output of B when run for 2000 hours:

Cost per unit for B = [80 000*0.15 + 8*2000]/(8*2000*0.875) = Rs.2- still cheaper than A, better

Illustration 5.2 Both methods P & Q can manufacture a product. The annual demand is 1500 units.
Operating cost per hour is Rs.128 for both processes. Material cost is same in each case. Otherwise they
compare as follows. Which one will you prefer during a period of one year?

Items Method P Method Q

Fixture cost (Rs.) 24 000 16 000
Fixture life (months) 6 4
Tooling cost (Rs.) 2 560 4 800
Tooling life (pieces) 300 500
Processing time per piece (minutes) 6 4

Cost per year = fixture cost + tooling cost + operating cost

For method P = 24000*2 + 2560*(1500/300) +128*(1500*6/60) = Rs. 80 000
For method Q = 16000*3 + 4800*(1500/500) +128*(1500*4/60) = Rs. 75 200- cheaper, better

Illustration 5.3
Production manager of a unit wants to know from what quantity he can use automatic machine as against
semi-automatic based on the following data:

Items Automatic Semi-automatic

Time for the job (minutes) 2 5
Set up time (hours) 2 1.5
Cost per hour (Rs.) 20 12

Let x be the break-even quantity, then

Cost on automatic machine = [setup time 2 hrs + run time 2x/60)]*20
Cost on semi-automatic machine = [setup time 1.5 hrs + run time 5x/60)]*12
Equating, 40+ (2/3)x = 18 + x
Or, x/3 = 22, x = 66, so up to 65 units, semi-auto will be cheaper, and beyond 66 units auto. better.

Illustration 5.4 Performance of a firm operating at 60% level during the period is given below. Assuming
material cost 100% variable, manpower cost 100% fixed, and fixed overheads for the period Rs.252 000,
calculate: i) PV, ii) BEP sales, iii) margin of safety, iv) profit at 70% operating level, v) profit at 50%
operating level, and vi) sales needed to earn 10% more profit.

Sales Materials Manpower Overheads Total cost Profit

1800 000 544 500 360 000 697 500 1602 000 198 000
.
Variable cost = 544 500 + 445 500 = 990 000;
Fixed cost = 360 000 + 252 000 = 612 000
Contribution = sales – variable cost = 1800 000 – 990 000 = 810 000
PV = contribution/sales = 810 000/1800 000 = 45%
BEP sales = fixed cost/PV = 612 000/0.45 = Rs. 1360 000
Margin of safety = opt sales – BEP sales = Rs. 440 000
Profit at 70% level = sales at 70%*PV – fixed cost = 1800 000*(0.7/0.6)*0.45 – 612 000 = Rs. 333 000
Profit at 50% level = sales at 50%*PV – fixed cost = 1800 000*(0.5/0.6)*0.45 – 612 000 = Rs. 63 000
Sales needed to earn 10% more profit = 1800 000 + 19 800/0.45 = 1844 000

Problems for practice

5.1 Total cost during the last month was Rs.800 000 of which 40% was fixed. This month activity level will
increase by 10%, and the fixed cost will increase by 8%. What is likely total cost this month?

5.2 Total cost during the last month was Rs.650 000 of which 60% was variable. This month activity level
is likely to increase by 10%, variable cost per unit is likely to be escalated by 5% and the fixed cost escalated
by 6%. Estimate likely total cost this month.

5.3 Total cost has been increased from Rs.800 000 in the last month to Rs.930 300 in the current month.
65% of total cost of last month was variable in nature. During current month variable cost per unit increased
by 5%, so also fixed cost increased by 8%. What is the change in operating level during the current month.

5.4 The average cost per unit of production is Rs.180 when the production is 700 units. If the production
increases to 800 units, the average unit cost is reduced by Rs.15. Calculate fixed and variable cost per unit.

5.5 Sales 10 000 units @Rs.120, variable cost per unit Rs.90, total monthly fixed cost Rs.225 000, calculate
PV ratio, BEP sales, margin of safety, and hence profit.

5.6 If variable cost is 45% of total cost, and profit is 10% of sales, what is PV ratio?

5.7 If sales Rs.400 000, BEP 65% of sales, and profit Rs. 63 000, what is PV ratio?

5.8 PV was 45% in the previous period; during the current period, selling price has gone up by 10%, and
variable cost per unit has been slashed down by 2%. What is PV in current period?

5.9 During the previous period PV of product A = 45%, and that of product A and B together = 52% with
the ratio of sales value of product A and product B = 1:2. During the current period, sales of product A has
gone down by 20%, whereas that of product B has gone up by 20%. Calculate the PV of two products
together in the current period.
5.10 Two alternative set-ups A & B are available for manufacturing a component on a machine when the
operating cost is Rs.20 per hour. Which one should be used for long range and economic production?

Items Set-up A Set-up B

Components/ set-up (pieces) 4000 3000
Set-up cost (Rs.) 300 1500
Production per hour (pieces) 10 15

5.11 Case Study: Make vs. Buy Options

A Company has an annual capacity to manufacture 10 000 units of component Alpha needed for its
assembly line.
It produced 8 000 units of Alpha during the year just ended to meet its requirement with a cost per unit of
Rs.450 including a fixed cost of Rs.160 per unit.
Next year, it anticipates the requirement of Alpha may go up to the extent of 12 000 units that can be
produced with existing resources but with an additional fixed cost of Rs.1 million. Alternatively, it can buy
additional 2 000 units of Alpha (on top of its existing capacity of 10 000 units) from the market @ Rs.690
per unit.
Decide whether the company should go for augmenting its capacity to continue to make or should prefer to
buy additional 2 000 units of Alpha on top of its existing capacity.

5.12 Case Study: Diversify into Take-Away or High-Quality Meals by Good Taste Restaurant

Ray, the owner of Good Taste Restaurant has been thinking how to utilize lot of space available
in his restaurant. He is thinking why not to expand his business through product diversification:
from only standard meal to take-away or high-quality meal along with the standard meal.
Harish, his Manager has just prepared the average weekly trading results of the Good Taste
Restaurant as under:
Average Weekly Trading Results of Good Taste Restaurant:
Items Amount ($) Amount ($)
Turnover @9 per standard meal 3240
Operating costs:
Materials 1620
Power 180
Staff salary 360
Staff incentive 108
Building rent etc. 480 2748
Profit 492

On hearing Ray on his idea, Harish says that’s a good possibility to utilize the unused space of the
Restaurant. Quite a good market is here in the locality for Take-Away. I am sure we shall be able to sell
700 Take-Away every week if we charge $4.80 or so. There is also good demand here for High-Quality
meal, at least 200 per week even if we sell at $12 per meal, I am quite confident based on my experience in
this line for more than two decades.
But Ray says, I am sure if we introduce Take-Away section, this will definitely cut down our existing sales
of standard meal. Harish says yes, but that will be at the most loss of 2 standard meal for every 7 take-away.
Of course, Harish says that to offer high quality meal, the new recruitment of staff would need a change in
terms of employment of our existing staff too that means an increase by $100 per week in the staff salary
of our existing business. However, with increased business and bulk purchasing, we are likely to save in
material cost of standard meal by $0.10 per meal.
What about the costs that are likely to be incurred for new categories, take-away would be much lower, but
definitely it will be higher for high quality meal. What about the additional cost of establishment, Ray asks.
Harish does some quick calculations, and says the preparation of Take-Away meal will cost 40% less than
our standard meal, but High-Quality will cost 20% more than the standard meal. Additional fixed cost for
Take-Away Section will be around $600 per week, and $300 per week for High-Quality meal.
Assess the best course of action for the Good Taste Restaurant and advice Ray on his proposed
diversification plan.