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Unit 9

Unit 9. Production

9.1. What is production and operations management?

Production is the creation of goods and services. Firms create goods and services by transforming

inputs into outputs. Operations management (OM) is the set of activities that creates value in the

form of goods and services by transforming inputs into outputs. Activities creating goods and
services take place in all organizations. In manufacturing firms, production activities are quite
obvious. In them, we can see the creation of a tangible product such as a Sony TV or a Harley-
Davidson motorcycle. In an organization that does not create a tangible product but provides a

service, the production function may be less obvious. Examples include the transfer of funds from
a savings account to a checking account, the transplant of a liver, a massage or a haircut, traveling
on a plane, or the education of a student. Regardless of whether the end product is a good or

service, the production activities that go on in the organization are often referred to as operations,
or operations management.

9.2. Production methods

In manufacturing firms, production can be best described as “job shop”, “batch production”, or
“continuous flow” Each method varies greatly in how the production process is actually handled but
the aim of each is the same: to transform inputs into outputs in the most efficient way. Job shops

make items individually and each item is finished before the next one is started. Designer dresses

are made using the job shop production method. On the other hand, batch production makes
together groups of items (or batches). Each batch is finished before starting the next block of

goods. For example, a baker first produces a batch of 50 white loaves. Only after they are
completed will he or she start baking 50 loaves of brown bread. Finally, with continuous flow,

identical, standardized items are produced on an assembly line. Most cars are mass-produced in

large factories using conveyor belts and expensive machinery such as robot arms. Workers have
specialized jobs, for instance, fitting wheels.

When choosing a production method, the best method of production depends on the type of

product being made and the size of the market. Small firms operating in the service sector, such as

plumbers, use job shop production because each consumer has individual needs. Manufactures of
made-to-measure suits would also use job shop production because each item they make is

different. Batch production is used to meet group orders. For example, a set of machines could be
set up to make 500 size 12 dresses and then adjusted to make 600 size 12 dresses. Two batches
have been made. Continuous flow production, on the other hand, is used to mass produce

everyday standardized (all the same) items such as soap powder and canned drinks. As

mentioned in Unit 3, economies of scale lead to lower unit costs and prices. There is usually a

trade-off between unit costs and meeting specific customer needs. Continuous flow production

takes advantage of economies of scale for a one-size-fits-all product.

9.3. Productivity

Greater operational efficiency is always a goal and the operations manager is responsible for that.
Productivity is used to assess operational efficiency. Productivity is the ratio of outputs (goods and

services) divided by the inputs (resources, such as labor and capital). Improving productivity
means improving efficiency. The more productive we are, the more value is added to the good or

service provided.

Next we present different measures of productivity. The measurement of productivity can be quite
direct. Such is the case when productivity is measured by labor-hours per ton of a specific type of
steel. Although labor-hours is a common measure of input, other measures such as capital (euros

invested), materials (tons of ore), or energy (kilowatts of electricity) can be used. An example of
this can be summarized in the following equation

where output refers to as units produced and inputs to inputs or factors of production used.

The use of just one resource input to measure productivity is known as single-factor productivity.
However, a broader view of productivity is multifactor productivity, which includes all inputs (e.g.
capital, labor, material, energy). Multifactor productivity is also known as total factor productivity.

Multifactor productivity is calculated by combining the input units as shown here

To aid in the computation of multifactor productivity, the individual inputs (the denominator) can be
expressed in euros.

9.4. Measuring production risk

As another way to look at break-even points, the degree of operating leverage (DOL) provides a

measure of risk of the production activity, which is important in operations management. DOL is an
elasticity measure. Elasticity is a measure of the responsiveness of one variable to changes in

another variable, that is, the percentage change in one variable that arises due to a given
percentage change in another variable. More specifically, DOL measures the percentage change
in earnings before interest and taxes (EBIT) associated with a 1% increase in the units of product
sold or qS. In other words,

When the business is operating near its break-even point, any change in the number of units sold

will have a dramatic impact in EBIT. Therefore, operating near the break-even point represents a
very risky situation.