After reading this chapter, you will be able to: 1) define sunk costs and explain why sunk costs are not relevant. 2) analyze make-or-buy decisions. 3) demonstrate the influence of qualitative factors in making decisions. 4) compare the different types of facilities layouts. 5) explain the theory of constraints 6)demonstrate the value of just-in-time manufacturing systems. 7)describe the concept of the cost of quality. ) calcurate the cost savings resulting from reductions in inventories,reduction in production cycle time,production yields improvement, and reductions in rework and defect rates. 2 Short Case For 50 years,the Tobor Toy Company had been producing high-qulity plastic toys for children. In early 2006,Tobor experienced a large drop in sales and market share. After some investigations,this loss was attributed to a significant decreases in the quality of the product and to general delays in getting it to customers. After several weeks of study,Don and a cross-functional team of management personnel documented and numerous shop floor problems.Don Pielin,senior manager’s report to top management raised several questions. 1. Should many of the existing machines,including the major injectionmolding machine must be replaced. 2. What should the company do about the local vendor who produced the faulty computer chips? 3. Would it make sense to implement an entirely new production process such as JIT? 3 This chapter presents three types of facility designs(1) Process layouts,(2)product layouts,and (3)cellular manufacturing-all if which can be used to help organizations reduce costs.We follow this with a discussion of how organizations can reduce costs by ensuring that they focus on improving the quality of their processes. Finally the JIT manufacturing system is presented as a system that integrates many of the ideas we discuss in the chapter. 4 1. Evaluationof Financial Implications(p. 208) Managers must evaluate the financial implications of decisions that require trade-offs between the costs and the benefits of different alternatives. 2. Sunk Costs are not relevant.When choosing among different alternatives, managers should concentrate only on the costs and revenues that differ across the decisions alternative ;these are the relevant cost/revenues. 5 Opportunity costs by difinition are also relevant costs for any decision. One category of costs that often causes confusion for decisions makers consists of those incurred in the past,or sunk costs. Sunk costs are the costs of resources that already have been committed and cannot be influenced by any current action of devision. 6 ) Relevant Costs for the replacement of a machine Exhibit 5-2 Bonner Cmpany:relevant costs and revenues Cost increase and cash outflows Cost savings and Cash inflows 1. Disposal of the $50,000 Old newtech machine 2. Montly cost saving labor materials Maintenance $4,400 1,000 800 $6,200 1. Down payment on the new precision machine 2. Monthly lease payments on the Precision machine $50,0000 $ 6,000 7 3)Summary of Relevant Costs Manager must be able to identify the costs and revenues relevant for the evaluation of alternatives.Equally important,they must recognize that some costs and revenues are not relevant in such evaluations. 4)Assuming Responsibility for Decisions On a technical level,the correct decision for Bonner Company is to dispose of the machine and replace it;however,because they are concerned about their reputations within their own organizations,not all managers would do so. 8 3 Make or Buy Decisions Management accountants often supply information about relevant costs and revenues to help managers make special one-time decisions.One example is a make-or-buy decisions. As managers attempt to reduce costs and increase the competitiveness of their products, they face decisions about whether their companies should manufacture some parts and components for their products in-house or subcontract with another company to supply these parts and components. Exhibit 5-3 displays details of the two lowest quates from outside suppliers for a representative lamp in each of the four product lines manufactured in-house. The lowest bid is lower than the total in-house manufacturing cost of each lamp.Ray should accept the outisde bid and terminate the in-house production of these product? 9 Exhibit 5-3 sommers motors,Inc. Product line Standard rear Standard Multicolored lump Front Halogen Rear Lamp Lamp Curved Side and Rear Lamp 18? 4 CS418 Dimension Product number Product cost per unit Direct material Direct labor Unit-related support Batch-related support Product-sustaiining over Facility-sustaining over Total manufactuirng costs Bids from outside suppliers Lowest Second lowest Annual Production(units) 20? 6 SR214 14? SF120 14? 4 MR314 36 22 14 10 6 8 96 82 88 36,000 49 25 16 16 12 10 128 109 116 48,500 56 24 18 19 14 11 142 140 147 6,800 58 28 20 22 19 14 161 156 164 8,700 10 1) Avoidable Costs To answer the previous questions,the decision maker must identify what costs are relevant for the decision. To summarize the analysis so far,if product SR214 is outsourced , Sommers Motors can avoid 3,168,000 of manufacturing costs. This is 216,000 more than the total price of 2,952,000 ($82? 36,000)that Sommers Motors has to pay the outside supplier.Avoidable Production Costs Direct Material costs Direct Labor Costs Unit-related support costs Batch-related support cost Product-sustaining support costs Cost to ouside supplier Increase in Profits from outsourcing 1,296,000 792,000 504,000 360,000 216,000 3,168,000 2,953,000 216,000 11 2)Qualitaitve Factors One is the permanence of lower price if you would use outsourcers. Second is the realiability of the suppliers in quality and deliveries. Third is technological innovation factors for our own product advantage. 12 4 Facility Layout SystemsManagers must consider the entire operations process within a facility. Process layouts, 2) product layouts, and 3)cellular manufacturing Regardless of the type of facility design, a central goal of the design process is to streamline operations and thus increase the operating income of the system, one method that can guide this process for all three designs is the theory of constraints(TOC). The TOC means that operating income can be increased by carefully managing the bottlenecks in a process. The TOC relies on the use of three measures;1) throughput contribution;2)investments and 3)operating costs. 3 1) Throughput contribution: the difference between revenues and direct materials for the quantitiy of product sold. 2) Investment:the materials costs contained in raw materials,work-in-process,and finished goods inventories. 3) Operating costs;are all other costs except for direct materials costs 14 1) Process Layouts To understand why inventories stockpile in conventional processing systems and thus increase cycle time,we must understand the conventional way that factory or office facilities are organized.In a process layout,all similar equipment or functions are grouped together. But,some oraganizations have developed innovative approaches to eliminate many of costs relating to moving and storing,which are siginificant non-valueadded cost associated with process layout systems. 15 In a product layout, equipment is organized to accommodate the production of a specific product;an automobile assembly line or a package line for cereal or milk, for example ,is a product layout. 2)Product layout 16 5 Cellular manufacturingThe third approach to facilities layout ,cellular manufacturing ,refers to the organization of a plant into a number of cells so that within each cell all machines required to manufacture a group of similar products arranged in close proximity to each other. Exhibit 5-5 17 6 Inventory Costs and Processing Time 1)Inventory and Processing time Batch production create inventory and create the delays associated with storng and moving inventory. 2)Inventory-related costs Demand for inventory lead to huge costs in organizations,including the cost of moving,handling,and storing the work-in process,in addition to costs due to obsolence or damage. 8 3)Costs and benefits of changing to a NEW Layout: An example using Cellular Manufacturing Old system : The plant manufactures 128 different products that have been grouped into eight product lines for accounting purposes, based on common product features and production processes. This production flow required storage of work-in-process inventory for a long time and at several times before the beginning of the next production stage. Manufacturing cycle time is measured as the time from the receipt of the raw materials from the supplier to the delivery of the finished goods to the distributions and customers.To evaluate how much of the old cycle time was spent in inventory,we need to know how organizations asses the efficiency of their manufacturing processes. One widely used measure is processing cycle efficiency(PCE) and is calculated as follows: PCE= Processing time/ (processing time + moving time + storage time +inspection time) 19 20 4) reorganization: A primary objective of the reorganization of the San Rafael plant layout was to reduce the production cycle time. Thus ,the plant was reorganized into eight manufacturing cells in addition to the casting department.Exhibit 5-7 depicts the production flows under the new plant layout. When comparing Exhibit 5-6 and 5-7,notice that San Rafael Electric Corporation did not reduce the amount of time spent on manufacturing operations after the change is the same as the time spent before the change (see Exhibit 5-6). However,the cycle time is reduced substantially in the new plant layout from 28 to only 12 days. 21 22 5) Analysis of relevant costs and benefits Has this change helped improve the profitability of the Pasadena plant?The Pasadena plant controller ,identified the following costs associated with the implemantationof the changes in the plant layout: Moving machines ands reinstallation $600,000 Training workers for cellelar manufacturing +$400,000 Total costs $1,000,000 Three types of benefits from the plant reorganization; (1) Increase in sales because of the decrease in production cycle time (2) A reduction in inventory-related costs because of the decrease in the amount and handling of work-in-process inventory. 3) An improvement in quality since defective process are detected much faster ,before many defective items have been produced. 23 6) Summary of Costs and Benefits The information on cost saving resulting from the change in the plant layout(see the exhibit 5-10). He estimated that annual benefits were $829,620. In comparison,the one-time costs of implementing the change were only $1,000,000. If benefits from the change layout continue to accrue at the same rate for at least 3 more months,the total benefits will exceed the amount that San Rafel invested in the project: $829,620 ? 5/12 =$ 1,037,025 In particular, we have seen that financing is a principal inventory-related cost. It is important to consider the cost, although financing costs are often not emphasised in many traditional cost accounting systems. 24 7 Cost of Nonconformance and Quality Issues(p. 226) The premise underlaying cost reduction efforts today is to decrease costs while maintaining or improving product quality in order to be competitive. If the quality of products and services does not conform to quality standards, then the organization incurs a cost known as the cost of nonconformance to quality standards. 1)Satifying customer expectations regarding the attributes and performance of the product ,such as in functionality and feasures. (2) Wnsuring that the technical aspects of the product’s design and performance ,such as whether it performs to the standard expected,conform to the manufacurer’s standards. 25 1)Quality standards 2) Costs of Quality Control 3) Prevention Costs Appraisal Costs Internal Failure Costs External Failure Costs Exhibit 5-12 Example of quality-related costs Prevention costsQuality engineering Quality training Statistical process control Suppler certifications Research of customer needs Internal failure costs Downtime due to defects Waste Net cost of scrap Rework costs Appraisal costs Inspection /testing of incoming Maintenance of test equipment process control monitaring product quaility audits external failure costs Product liability lawsuits Repair costs in the field returned products product liability recalls service calls warranty claims 26 8 Just-in-time manufacturingA compehensive and effective manufacturing system that integrates many of the idea discussed in this chapter is just-in-time manufacturing. 1) Implication of JIT manufacturing JIT manufacturing is simple in theory but hard to achieve inpractice. At the core of the JIT is a highly-trained workforce whose task is to carry put activites using the hightest standards of quality. 27 2) JIT manufactuirng and Management Accounting JIT manufactuirng has two major for management accounting.First,management accounting must support the move to JIT manufacturing by monitaring ,identifying, and communicating to decisions makers the sources of delays,error,and waste in the system. (1)Defect rates (2)Cycle times (3)Percent of time that deliveries are on time (4)Order accuracy (5)Actual production as percent of planned production (6) Actual machine time available compared with planned machine time available. 28 9 Tobor Toy Company Revisited 1) 2) 3) 4) 5) 6) 7) We return into see how Tobor Toy company fared after its adoption of the JIT manufacturing system.Production flows Effects on work-in-process inventory Effects on production Costs Cost of rework Cost of carrying work-in-process inventory Benefits from increased sales Summary of costs and benefits 29 30 Summary 1) The impact of managerial decision and actions that affect the organization’s activities and processes is evaluated by managers. 2) Managers evaluate the financial impact of recent activiy and process decisions,such as improved plant layouts 3)The JIT manufacturing systems has many possitive effects on the level of work-in-process inventory,the cost of support activities of handling and storing work-in-process inventory. 31
Measuring and Managing Process Performance Paper
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