Chapter 15:

Production of goods and

services
What is production?
- The traditional view of production was the making of inputs such as land, labour
and capital into physical goods such as motor cars, clothing, and computers.
- Process of adding value to a product (using four factors of production – land,
labour, capital and enterprise) to satisfy customer needs and wants.

Managing resources to produce goods and services:

The production processes.
Operations management involves managing business resources (input)
throughout the production process so as to produce finished goods, services and
components (output) that can be sold to other businesses or customers.

Operation management must:

- Use resources in the most cost – effective way
- Produce the required output to meet consumer demand
- Meet the quality standard expected by consumers

Difference between production and productivity

- Important not to confuse production with productivity. Production involves
changing inputs into outputs.
- Productivity is a measure of how efficiently the inputs are changed into output,
which is the number of units of produced for every unit of input

Total output
Labour productivity =
Number of production workers
Benefits of increasing efficiency and how to increase it
All businesses will try to increase productivity because this usually reduces
average costs – the cost of producing each unit of output.

How to improve labour productivity

- Improve labour productivity:
+ Increasing output with the same number of workers
+ Keeping output at the same level but with fewer workers.
To increase total output with the same number of workers means that, on
average, each worker needs to produce a greater output (become more
productive)
+ Improving the skill level of workers.
+ Improving the motivation of workers.
+ Introducing more automation and more or better technology.
+ Improving the quality of management decisions.
+ Improving layout of factory so production become faster and more
efficient.
+ Training workers so they can be more productive.
+ Using automation.
The main reason for improving productivity is to reduce unit costs, so the
increase in output must be greater than the increase in costs.

Benefits in increasing efficiency / productivity

+ Lower cost per unit
+ Less employees needed (reduce labour cost)
+ Reduces overall costs.

Why business hold inventories

Almost all businesses hold inventories (stocks) of:
+ Raw materials and components – there are needed as inputs for the
production process.
+ Work – in – progress, that is part – finished goods that have not yet
completed the production process.
+ Finished goods ready to be sold or sent out to customers.
(Businesses keep stocks for a variety of reasons, for example, factories keep raw
material inventory to make sure there are enough materials for production while
a shop might hold stock to ensure that products are available to customers.)

Too much stock

+ Money wasted on storage cost.
+ Depreciation cost.
+ Shelf life (items may reach best before date before being sold).
+ Money could’ve been used on something else.

Not enough stock

+ Opportunity lost (profit could be made if product sold)
Holding inventories adds to a business’s costs, such as:
+ Warehousing costs – the business will need to rent or purchase a
warehouse to store the inventories.
+ Handling costs – inventories need to be moved into and out of the
warehouse.
+ Shrinkage costs – damaged, lost or stolen inventories will need to be
replaced.
+ Insurance costs – these will cover the cost of losses from shrinkage.
+ Obsolescence – the business may not be able to sell out – of – date
goods.
+ Opportunity cost – working capital is ‘tied – up’ inventories which
could be used more profitably by the business.
Buffer stock (aka safety stock) – inventory to deal with sudden customer
demands for a product or in case supplies doesn’t get delivered on time.

If holding inventories is costly, then why do business hold

them?
+ The production process needs raw materials or components (If there are
not available when required then the process must stop)
+ If the business does not have finished goods in stock, then customers’
orders cannot be met and the business will lose sales (could result in the loss of
current and future sales, affecting both the short – term and long – term.
+ Benefit from economic of scale (bulk – buying)
Businesses have to balance the costs of holding inventories with the costs of not
holding inventories in order to minimise inventory costs.

Lean production
Lean Production – Term for techniques used by businesses to cut down waste
and increase efficiency.
- Lower costs and prices must not lead to a reduction in the quality of the
business’s products, otherwise it may lose customers and its competitiveness
and profitability will suffer.
- Many businesses use lean production methods in order to improve their
competitiveness.
- Lean production aims to lower the costs of production by reducing waste to a
minimum while maintaining, or even improving, the quality of the finished
product
(at the same time, inputs to the production process must be used efficiently)
 Common wastes in businesses

Overproduction – Producing too many

products which then costs the business
money to keep the product in storage.
(and may get damaged/expires etc.)
Waiting – Goods not being processed
Transporting – Materials being moved
around the factory inefficiently.
Over-processing – e.g., using advanced
machine to do simple tasks
Defects- production of faulty products
which can’t be sold.

Benefits of lean production:

+ New products can be bought to the market more quickly.
+ Quality is improved.
+ Wastage of time and other resources is reduced or eliminated.
+ The costs of holding inventories are eliminated.
+ Unit costs are reduced, which will increase the profit made on each unit
sold or enable a business to reduce its prices and be more competitive (increase
sales, revenue, profit)
+Less storage of raw materials (e.g., no need for refrigeration costs,
warehouse etc…)
+ Less defects in production (broken products don’t get produced)
+ Better use of equipment
+ Speeding up production by cutting out unnecessary tasks.
+ Less money tied up in stock.

Three common lead production techniques

Just – in – time (JIT) inventory control
The just – in – time inventory control system means that no inventories are held
by the business. Raw materials and components arrive from suppliers just as
they are needed by the production process.
- As soon as finished goods leave the production probes., they are delivered to
the customer. JIT inventory control reduces business costs by removing the costs
of holding inventories.
- JIT to be successful it must also remove the costs of not holding inventories
which we looked at earlier. To achieve this, businesses need to have an excellent
relationship with suppliers. The raw materials and components have to delivered
on time and be of the required quality and quantity.
(Both the workers and the machinery used in production must be flexible [must
be able to switch from one product to another at short notice])
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(+ Focus on reducing the need to hold stocks of raw material or parts that are
needed (This reduces storage costs)
+ Raw materials are delivered just in time by suppliers for production.
+ Reliable suppliers are needed for this to work.
e.g., Milk gets delivered to milkshake factory 30 minutes before production
starts, this means that the milkshake factory won’t have to spend money on
expensive refrigerators to store milk before it gets produced.)

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Kaizen
Kaizen is a Japanese term meaning ‘continuous improvement’. The Kaizen
approach gives all workers the opportunity to make suggestions about how to
improve quality or productivity. Workers are doing the tasks everyday and so
they may know better than managers how to change the production process to
make it more efficient. The changes suggested by individual workers may be
very small, but all of these small improvements can lead to big improvements in
efficiency.
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(Kaizen means continuous improvement by eliminating waste.
+ Workers meet regularly to discuss problems and possible solutions.
+ In this way, wastage is reduced, and efficiency is improved.
+ Factory floors are usually rearranged so that the flow of production from
one activity to the next is improved.)
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Cell production
The production line is divided into separate teams of workers, each makes a part
of the finished production
Motivation is improved due to the variety of tasks and the worker belonging to a
team
The main methods of production
The production of goods and services has traditionally used one of the following
methods:
+ job production
+ batch production
+ flow production

Job production:
- In job production an individual item is completed before another is started. This
method is normally used to produce single or one – off / unique items, large or
small, such as a ship or designer dress.
- Job production usually needs highly skilled workers and specialized equipment
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Each product is different and made to specific instructions by the consumer. e.g.
tailor made suits, customizable birthday/wedding cakes

Advantages of Job production

+ Workers have more varied job (They won’t become bored)
+ Higher price can be charged for product.
+ Product meets requirements of the customer.

Disadvantages of Job production.

+Costs of production are high because skilled labour is used
+ Product takes a long time to produce.
+ Products are made to order so any errors may be expensive for the
company to fix.
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Batch production:
- A group of items is completed one stage of the production process at a time,
through to completion.

Advantages of Batch production

+ Gives more variety of jobs to
workers.

+ Production can be easily changed

from one product to another.

+ Gives consumers a variety of

products (e.g., many colour shirts)
Disadvantages of Batch production
+ Expensive to produce goods.

+ Machines have to be reset when changing from one batch to another

which slows down production (e.g., change colour of shirts from white to green
dye)

+ Warehouse space is needed to store products.

Flow production
The process of flow production involves products moving continuously along a
production line. At each stage of production additional features are added until
the product reaches its finished state.
- This type of production is used where a large output of identical, standardised
products is required, to meet high consumer demand
- Flow production also known as mass production

Advantages of Flow production

+ Goods are produced quickly and cheaply (economies of scale)

+ Increased efficiency through use of machinery

+ Less labour is needed (machines do the work)

+ Automated production line means production can operate overnight.

Disadvantages of Flow production

+ Very boring for workers (same product over and over)
+ Starting costs are high (expensive machines, big factory etc…)
+ If a machine breaks down the whole production line may stop
+ Expensive storage costs as they are lots of products.

The main features of flow production are:

+ large quantities are produced.
+ standardised products.
+ workers are relatively unskilled.
+ high degree of automation
+ large inventories of raw materials and work in progress.
Choosing the method of production
Firms choose their method of production based on a number of factors:
+ the amount they are likely to sell.
+ the product they are making.
+ the costs of production
+ the variety of goods expected by customers.
The most appropriate methods of production will depend on:
+ The nature of the product – Unique products will require job production.
+ Size of the market – Products with small number of customers mean job
or batch production is used. Products with large number of consumers = flow
production should be used.
 + The nature of demand – Small and infrequent demand by customers
means job or batch production will be used.
+ The size of the business – Small businesses tend to operate using job
and batch production while large business may use flow production.

How technology has changed production methods:

Automation – Production by equipment which are controlled by computers.
Mechanisation – Production by machine operated by workers (human)
Computer aided design (CAD) – 3D drawing software to design new products.
Electronic point of sale – Used at checkouts where stock records are
automatically adjusted as an item barcode is scanned when it is sold. e.g.,
supermarket stock
Electronic funds transfer at point of sale (EFTPOS) – Cash registers
connected to bank (Customer’s card is swiped and money is transferred right
away from customer’s bank account

Advantages of technology
+ Higher productivity

+ Improved motivation as boring jobs are now done by machines.

+ Better quality products are produced.

+ Faster communication.

+ Improved flow of information for managers.

Disadvantages of technology
+ Higher unemployment as machines replaces human labour.

+ Technology is expensive.

+ Technology becomes outdated very quickly and may needs to be

upgraded often.

The main advantage and disadvantage to business, workers, and

consumers
KEY TERM
Production: the process of converting inputs such as land, labour, and capital
into saleable goods, for example shoes and cell phones.
Productivity: a measure of the efficiency of inputs used in the production
process, especially labour and capital.
Lean production: the production of goods and services with the minimum waste
of resources.
Job production: the production of items one at a time
Batch production: the production of goods in batches. Each batch passes through
one stage of production before moving onto the new stage.
Flow production: the production of very large quantities of identical goods using
a continuously moving process.
Capital intensive: production process uses a high quantity of capital equipment
compared with labour input.