Theory of Constraints Superfactory Excellence Program™ www

Theory of Constraints Superfactory Excellence Program™ www
Theory of Constraints Superfactory Excellence Program™ © 2004 Superfactory™. All Rights Reserved.

Disclaimer and Approved use
The files in the Superfactory Excellence Program by Superfactory Ventures LLC (“Superfactory”) are intended for use in training individuals within an organization. The handouts, tools, and presentations may be customized for each application. THE FILES AND PRESENTATIONS ARE DISTRIBUTED ON AN "AS IS" BASIS WITHOUT WARRANTIES OF ANY KIND, EITHER EXPRESSED OR IMPLIED. Copyright All files in the Superfactory Excellence Program have been created by Superfactory and there are no known copyright issues. Please contact Superfactory immediately if copyright issues become apparent. Approved Use Each copy of the Superfactory Excellence Program can be used throughout a single Customer location, such as a manufacturing plant. Multiple copies may reside on computers within that location, or on the intranet for that location. Contact Superfactory for authorization to use the Superfactory Excellence Program at multiple locations. The presentations and files may be customized to satisfy the customer’s application. The presentations and files, or portions or modifications thereof, may not be re-sold or re-distributed without express written permission from Superfactory. Current contact information can be found at: © 2004 Superfactory™. All Rights Reserved.

Outline Introduction to Constraints
Five Steps Of Theory of Constraints Drum Buffer Rope Evaporating Cloud Method The Batch Size Problem Chain Analogy Issues with TOC Measurements & Financial Issues © 2004 Superfactory™. All Rights Reserved.

Constraints Constraint 60 units Per day 70 units Per day 40 units
Any system can produce only as much as its critically constrained resource Constraint 60 units Per day 70 units Per day 40 units Per day 60 units Per day Maximum Throughput = 40 units per day © 2004 Superfactory™. All Rights Reserved.

Significance of Bottlenecks
Maximum speed of the process is the speed of the slowest operation Any improvements will be wasted unless the bottleneck is relieved © 2004 Superfactory™. All Rights Reserved.

Theory of Constraints Purpose is to identify constraints and exploit them to the extent possible Identification of constraints allows management to take action to alleviate the constraint in the future © 2004 Superfactory™. All Rights Reserved.

Theory of Constraints Assumes current constraints cannot be changed in the short-run What should be produced now, with current resources, to maximize profits? Question cannot be answered by traditional accounting methods © 2004 Superfactory™. All Rights Reserved.

Theory of Constraints Based on the concepts of drum, buffer and ropes
Output of the constraint is the drumbeat Sets the tempo for other operations Tells upstream operations what to produce Tells downstream operations what to expect © 2004 Superfactory™. All Rights Reserved.

Theory of Constraints Buffer Ropes
Stockpile of work in process in front of constraint Precaution to keep constraint running if upstream operations are interrupted Ropes Limitations placed on production in upstream operations Necessary to prevent flooding the constraint © 2004 Superfactory™. All Rights Reserved.

Do we really want or need another new theory?
“The significant problems we face today can not be resolved at the same level of thinking we were at when we created them.” - Einstein © 2004 Superfactory™. All Rights Reserved.

What is the Theory of Constraints?
“The core idea in the Theory of Constrains is that every real system such as a profit-making enterprise must have at least one constraint”. © 2004 Superfactory™. All Rights Reserved.

What is TOC? (continued)
“There really is no choice in the matter. Either you manage constrains or they manage you. The constraints will determine the output of the system whether they are acknowledged and managed or not” Noreen, Smith, and Mackey, The Theory of Constraints and its Implecations for Management Accounting (North River Press, 1995) © 2004 Superfactory™. All Rights Reserved.

How does TOC help companies?
1. Focusing improvement efforts where they will have the greatest immediate impact on the bottom line. 2. Providing a reliable process that insures Follow Through! © 2004 Superfactory™. All Rights Reserved.

Five Steps Of TOC Identifying the constraint
Decide how to exploit the constraint Subordinate everything else to the decision in step 2 Elevate the constraint Go back to step 1, but avoid inertia © 2004 Superfactory™. All Rights Reserved.

Theory of Constraints 2. Identify the bottlenecks
3. Use bottlenecks properly 1. Identify the appropriate measures of value 4. Synchronize all other processes to the bottlenecks 6. Avoid inertia and return to Step #1 5. Increase the bottleneck’s capacity © 2004 Superfactory™. All Rights Reserved.

Steps in the TOC Process
Identify the system constraints Internal Process constraints Machine time, etc. Policy constraints No overtime, etc. External Material constraints Insufficient materials Market constraints Insufficient demand © 2004 Superfactory™. All Rights Reserved.

Subordinate everything else to the preceding decision Plan production to keep constraint working at 100% May need to change performance measures to “rope” upstream activities © 2004 Superfactory™. All Rights Reserved.

Drum Buffer Rope Buffer 60 70 40 60 Rope Constraint (Drum)
Drum-Buffer-Rope for Shop Floor Control Drum: The Pace Setting Resource - constraint Buffer: The amount of protection in front of the resource Rope:The scheduled staggered release of material to be in line with the Drum’s schedule. A Pull System Buffer 60 70 40 60 Rope Constraint (Drum) © 2004 Superfactory™. All Rights Reserved.

Lean: How DBR Supports it
Fundamentally, Don’t Build Until Needed Overproduction avoided because DBR is “pull” system Inventory minimized because only buffer at constraint Transportation reduced because “unbuilt material” doesn’t move Processing waste minimized because “unbuilt material” Unnecessary Motion decreased because don’t build unneeded Waiting is eliminated at the constraint –only place that counts Defects avoided because of “small lot”, non conformance, and corrective action VISUAL DBR can address a number of these “waste” issues – since DBR is a “pull” system, overproduction is not an issue. DBR produces only what is demanded and only when it is needed. The DBR production system greatly reduces inventory and WIP by placing carefully controlled buffers only where they are needed to support efficiency and high throughput. Transportation (or handling) is reduced when you produce only what’s needed, when it is needed. Additional handling is eliminated when you reduce inventories, particularly finished goods. Processing waste is naturally reduced in a DBR environment since all work centers except the constraint are prohibited from any production that does not directly support the constraint, which is in turn focused on customer demand. Certainly, procedural and management changes are also required to make processes as efficient as possible to eliminate unnecessary work, movement, processes, etc. Motion – same comments Waiting – DBR focuses on making sure that the constraint is not waiting – the only facility that counts. Defects – DBR “pull” is equivalent to “flow manufacturing” in its small lot, zero defect orientation that goes well with an attitude of “do it right the first time” and identify and correct any process errors immediately before making defective parts. VISUAL quality supports this objective as well. © 2004 Superfactory™. All Rights Reserved.

Evaporating Cloud Method
Implementing step 2: Decide how to exploit the system‘s constraints Idea: Find the minimum number of changes that are needed to create an eviroment where the core problem (big black cloud) cannot exist You don‘t try to solve the problem, but instead cause the problem not to exist. © 2004 Superfactory™. All Rights Reserved.

„as long as we think we already know, we don´t bother to rethink the situation“ Problem of „accepted“ solutions (compromise) „You can‘t have your cake and eat it too“ Existence of compromising solutions „God does not limit us, we are limiting ourselves“ Whenever we face a solution that requires a compromise, there is always a simple solution that does not require a compromise © 2004 Superfactory™. All Rights Reserved.

Define a problem precisely Declaration of the desired objective Define the requirements that must be fulfilled Define shared prerequisite Verbalize the hidden assumptions Find invalid assumptions Check the local objective versus the global goal © 2004 Superfactory™. All Rights Reserved.

The Batch Size Problem Cost per unit Carrying cost/unit
Setup cost/unit Batch size Best optimum size © 2004 Superfactory™. All Rights Reserved.

The Batch Size Problem Hidden assumptions:
Setup costs cannot be reduced Just-in-time Does setup really cost us money? Distortion of the definition of cost © 2004 Superfactory™. All Rights Reserved.

The Batch Size Problem Hidden assumptions:
Large batch is the opposite of small batch improper use of terminology © 2004 Superfactory™. All Rights Reserved.

Chain Analogy A company can be compared to a chain. The activities businesses perform is really a “chain” of dependent events. That is to say that we don’t ship parts until they are packaged, and we don’t package parts until they are manufactured, etc. © 2004 Superfactory™. All Rights Reserved.

Chain Analogy Marketing Bidding Purchasing Production Finishing
Shipping © 2004 Superfactory™. All Rights Reserved.

Chain Analogy Conventional Wisdom believes that…
Improvement of any link is an improvement to the chain. Global improvement is the sum of the local improvements. Primary Measurement: Link Weight Result: Every link wants/needs more resources all the time © 2004 Superfactory™. All Rights Reserved.

MAXIMIZE Chain Analogy
“Take actions that will maximize any/all local operations.” (i.e. Fight constantly for scarce resources.) MAXIMIZE Marketing Shipping Bidding Finishing Purchasing Production © 2004 Superfactory™. All Rights Reserved.

Chain Analogy Throughput World Approach believes that…
Most improvement of most links do not improve the the chain. Global improvement is NOT the sum of the local improvements. Primary Measurement: Chain Strength Result: Resources are channeled to the weakest link (aka: Herbie, the constraint, “CCR”). © 2004 Superfactory™. All Rights Reserved.

Management & Resources
Chain Analogy “Think Globally. Take only those local actions that will strengthen the chain.” (i.e. Focus scarce resources on the constraint.) Management & Resources Marketing Bidding Purchasing Production Finishing Shipping © 2004 Superfactory™. All Rights Reserved.

Common Sense Throughput
A Lean Approach to Managing the Shop Floor Throughput Management Constraint- Based Scheduling Central Database Allows business processes to be simplified and standardized Bureaucracy elimination: Removing unnecessary administrative tasks, approvals, and paperwork Jobs get combined, the steps are in a natural, logical order Duplication elimination: Removing identical activities (such as data entry) that are performed at different parts of the process By making it difficult to do an activity incorrectly and error-proofing the process, checks and controls can be reduced and reconciliation can be minimized Value-added Assessment: Evaluating every activity in the business process to determine its contribution to meeting customer requirements. Simplification: Reducing the complexity of the process Cycle-time reduction: Determining ways to compress cycle time to meet or exceed customer expectations and minimize costs of performance Error-proofing: Making it difficult to do activity incorrectly Upgrading: Making effective use of capital equipment and computers to improve overall performance Simple language: Reducing the complexity of the way we write and talk; making our documents easy to comprehend for all who use them Standardization: Selecting a single way of doing an activity and having all employees do the activity that way all the time DBR Shop Floor © 2004 Superfactory™. All Rights Reserved.

Shop Floor Control Techniques
Product Line Strategy Engineer To Order Make to Order Assemble Make to Stock Job Shop Low Volume, High Variety Batch Flow Medium Volume, Med. Variety Mixed-Model Repetitive High Volume, Fixed Variety Dedicated Repetitive High Volume, Standard Product TOC/DBR Production Process Layout JIT/KANBAN © 2004 Superfactory™. All Rights Reserved.

Issues with TOC Constraining resource must be maximized
All other operations must be geared toward this goal May require suboptimization in other areas © 2004 Superfactory™. All Rights Reserved.

Issues with TOC Upstream operations must provide only what the constraint can handle Downstream operations will only receive what the constraint can put out Constraint must be kept operating at its full capacity If not, the entire process slows further © 2004 Superfactory™. All Rights Reserved.

Issues with TOC Advantages
Improves capacity decisions in the short-run Avoids build up of inventory Aids in process understanding Avoids local optimization Improves communication between departments © 2004 Superfactory™. All Rights Reserved.

Issues with TOC Disadvantages Negative impact on non-constrained areas
Diverts attention from other areas that may be the next constraint Temptation to reduce capacity © 2004 Superfactory™. All Rights Reserved.

Issues with TOC Ignores long-run considerations
Introduction of new products Continuous improvement in non-constrained areas May lead organization away from strategy Not a substitute for other accounting methods © 2004 Superfactory™. All Rights Reserved.

Financial Issues: Finding the Goal
Before a company can properly focus, one necessary condition is that they answer the following question: What is the Goal of a for profit enterprise? © 2004 Superfactory™. All Rights Reserved.

The Goal? To make more money now and in the future!
© 2004 Superfactory™. All Rights Reserved.

The Goal Some would argue that the goal of their company is to…
To satisfy customers now and in the future! Or to.. Provide satisfying jobs now and in the future! © 2004 Superfactory™. All Rights Reserved.

The Goal TOC recognizes that only the “owners” of a company can choose THE goal. However, once chosen, the other 2 become conditions necessary to achieving the goal. Make money now and in the Future Satisfy customers now and in the future. Satisfy employees now and in the future © 2004 Superfactory™. All Rights Reserved.

The Goal That is… If your goal is to satisfy customers, it is absolutely necessary that you make money and that you satisfy employees… Likewise, if your goal is to satisfy employees, you also have to make money and satisfy your customers… …or you won’t be in business in the future! © 2004 Superfactory™. All Rights Reserved.

The Goal The choice is yours, choose any of the three as the goal of your organization. For the duration of this presentation, we will assume that the goal is: To make more money now and in the future! © 2004 Superfactory™. All Rights Reserved.

Measuring Progress Once the Goal is identified, one necessary condition to success in achieving the goal is to identify which measurements will be used to judge progress. © 2004 Superfactory™. All Rights Reserved.

“Are you using the right measurements?”
Conventional Wisdom Net profit? Efficiency? Utilization? Return on Investment? Cash Flow? “Are you using the right measurements?” Jonah in The Goal © 2004 Superfactory™. All Rights Reserved.

Measurements TOC Wisdom Throughput Inventory Operating Expense
© 2004 Superfactory™. All Rights Reserved.

Throughput (“T”) The rate at which the system generates money through sales. (Or, the money coming into the organization.) Building inventory is not throughput Only $ generated by the system get counted; e.g., raw materials and purchased parts are not throughput. T = Selling Price - Materials © 2004 Superfactory™. All Rights Reserved.

Inventory (“I”) All the money the system has invested in purchasing things which it intends to sell. Inventory is a liability (not an asset) Raw materials, work in process, finished goods and scrap are “I” © 2004 Superfactory™. All Rights Reserved.

Operating Expense (“OE”)
All the money the system spends in order to turn inventory into throughput. (Or, the money coming into the organization.) All employee time is “OE” (direct, indirect, operating, etc.) Depreciation of a machine is “OE” Operating supplies are “OE” © 2004 Superfactory™. All Rights Reserved.

Financial Links “Wait a minute” someone exclaims. “If I monitor Throughput, Inventory, and Operating Expense in the short term, how can I be sure that I will have a Profit, with a reasonable Return On Investment in the long term, and maintain a positive Cash Flow?” © 2004 Superfactory™. All Rights Reserved.

Financial Links (continued)
Question 1: If we can increase “T” while maintaining level “I” and level “OE, what will the impact be on Net Profit, ROI and Cash Flow? If… Then... T I OE NP ROI CF © 2004 Superfactory™. All Rights Reserved.

Question 2: If we can decrease “I” while maintaining level “T” and level “OE”, what will the impact be on Net Profit, ROI, and Cash Flow? If… Then... T I OE NP ROI CF © 2004 Superfactory™. All Rights Reserved.

Question 3: If we can decrease “OE” while maintaining level “T” and level “I”, what will the impact be on Net Profit, ROI, and Cash Flow? If… Then... T I OE NP ROI CF © 2004 Superfactory™. All Rights Reserved.

So the answers to these 3 questions show unquestionable that by determining the impact that an action will have now on Throughput, Inventory, and Operating Expense we will know the future impact on Net Profit, ROI, and Cash Flow. © 2004 Superfactory™. All Rights Reserved.

Question 4: What about Inventory? Because it has no direct impact on Net Profit, it would seem to be less powerful at impacting the bottom line. Even though when… There is no Direct impact on... I NP © 2004 Superfactory™. All Rights Reserved.

Therefore, there is an indirect link… If… Then… And since we already saw that a reduction in inventory causes a direct increase in ROI and Cash Flow, we can see that reducing inventory has a significant financial impact. I NP © 2004 Superfactory™. All Rights Reserved.

Throughput, Inventory, and Operating Expense are valuable operational measures that can be used to guide our decisions. The next question must be: Which of these 3 is the most important -- or do they all have equal weight? © 2004 Superfactory™. All Rights Reserved.

Traditional vs JIT, TQM and TOC
Traditional Ranking Operating expense Throughput Inventory or Assets JIT, TQM and TOC Throughput Inventory or Assets Operating expense All Three methods attack the underlying assumption that crated a problem related to inventory levels. They ask: WHY DO WE NEED INVENTORY TO PROTECT THROUGHPUT ? © 2004 Superfactory™. All Rights Reserved.

Why do we need inventory to protect throughput ?
We need inventory to protect throughput, because there are statistic fluctuations ( variations ) and dependent resources © 2004 Superfactory™. All Rights Reserved.

TOC, TQM and JIT All 3 methods attempt to reduce variation and recognize the interdependencies. Statistical process control is emphasized in the quality area to help identify ways to reduce variations. Cells are used to reduce the dependencies „..U cell configurations , where one worker is moving with the processed piece from one machine to another“ Predetermined schedules, in TOC, reduce both statistical fluctuation and dependent resources. © 2004 Superfactory™. All Rights Reserved.

The “Cost World” Decreasing “OE” is definitely #1 because we have relatively high control of our expenses. Increasing “T” is always important, but it ranks #2 because we are at the mercy of the marketplace and have less control over sales. Inventory tends to fall into a “grey area” that we don’t know exactly what to do about; it is a “necessary evil” that must be lived with to protect sales. © 2004 Superfactory™. All Rights Reserved.

The “Throughput World”
Increasing “T” is unquestionably #1 because it has the greatest potential impact on the bottom line. Decreasing “I” is #2 because excess WIP and finished goods jeopardize future throughput. Decreasing “OE” is #3 because significant reductions (workforce reductions) usually jeopardize future throughput. © 2004 Superfactory™. All Rights Reserved.

Financial Issues TOC is a management tool, not a financial tool
Not used to determine inventory values Not used to allocate overhead to inventory Does not comply with GAAP Does indicate how to use available resources most effectively © 2004 Superfactory™. All Rights Reserved.

Financial Issues Does indicate what it should cost to produce a product Does not indicate which products will maximize profits given the constraints Doesn’t take constraints into account Standard cost does not consider the demands each item places on limited resources © 2004 Superfactory™. All Rights Reserved.

Financial Issues Traditional absorption costing promotes undesirable behavior Production costs are assets until sold Accumulation of inventory keeps costs off the income statement Illusion of profitability © 2004 Superfactory™. All Rights Reserved.

Financial Issues Does indicate what it costs to produce a product
Doesn’t indicate which products will maximize profits given the constraints Doesn’t take constraints into account Absorption cost does not consider the demands each item places on limited resources © 2004 Superfactory™. All Rights Reserved.

Financial Issues Variable (direct) costing identifies the incremental costs of producing a product Identifies product that provides the greatest contribution margin, or contribution margin per unit of constrained resource Cannot deal with more than one constraining resource at a time © 2004 Superfactory™. All Rights Reserved.

Financial Issues Traditional definition of variable cost doesn’t hold in the short-run Labor, variable overhead aren’t really variable on a day-to-day basis Some costs are truly variable in the short-run Material, commissions, delivery costs, out-of-pocket selling costs © 2004 Superfactory™. All Rights Reserved.

Profit Profit is defined in terms of throughput
Sales – totally variable costs All other costs treated as fixed operational expenses Cannot vary much in the short-run © 2004 Superfactory™. All Rights Reserved.

TOC Question... How do you manage a company in a world where increasing Throughput is the #1 priority, reducing Inventory is #2, and reducing Operating Expense is a tactic only after serious efforts at #1 and #2? © 2004 Superfactory™. All Rights Reserved.

TOC Summary: Focus A company must first know its Goal
Then it must identify the thing(s), the constraint(s), that are limiting the level of achievement of that goal. © 2004 Superfactory™. All Rights Reserved.

TOC Summary: Follow Through
The Process Of On Going Improvement 1. Identify the constraint 2. Exploit it 3. Subordinate all other operations to the necessity to exploit the constraint. 4. If after #2 and #3 more capacity is needed to meet market demand, Elevate the constraint. 5. Go back to #1, but don’t let inertia become the system.s constraint. © 2004 Superfactory™. All Rights Reserved.

Conclusion Viewing an organisation from the operation expense world perspective causes one to believe that almost everything is important – that the organization is composed of independent variables. But viewing the organization from throughput world perspective forces the realization that the organization is a collection of dependent variables and that the artificial barriers between these variables, or functions, must be eliminated. Managing the parts of an organization as if they were isolated kingdoms is not the dominated measurement. © 2004 Superfactory™. All Rights Reserved.

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