Identify one company and provide three examples of both internal and external constraints that they face. Which of the three measures presented in the text would you recommend that they use for their organizational performance? Websites can be used as references for this assignment. Be sure to provide references for the company that you select.
0-4aOperational Measures
Given that the goal is to make money, TOC argues that the next crucial step is to identify operational measures that encourage achievement of the goal. TOC focuses on three operational measures of systems performance: throughput, inventory, and Operating expenses. Throughput is the rate at which an organization generates money through sales. Operationally, throughput is the rate at which contribution dollars come into the organization. Thus, we have the following operational definition:
(20.5)
Typically, the unit-level variable costs acknowledged are materials and power. Direct labor is viewed as a fixed unit-level expense and is not usually included in the definition. With this understanding, throughput corresponds to contribution margin. It is also important to note that it is a global measure and not a local measure. Finally, throughput is a rate. It is the contribution earned per unit of time (per day, per month, etc.).
Inventory is all the money the organization spends in turning materials into throughput. In operational terms, inventory is money invested in anything that it intends to sell and, thus, expands the traditional definition to include assets such as facilities, equipment (which are eventually sold at the end of their useful lives), fixtures, and computers. In the TOC world, inventory is the money spent on items that do not have to be immediately expensed. Thus, inventory represents the money tied up inside the organization.
Operating expenses are defined as all the money the organization spends in turning inventories into throughput and, therefore, represent all other money that an organization spends. This includes direct labor and all operating and maintenance expenses. Thus, throughput is a measure of money coming into an organization, inventory measures the money tied up within the system, and operating expenses represent money leaving the system. Based on these three measures, the objectives of management can be expressed as increasing throughput, minimizing inventory, and decreasing operating expenses.
By increasing these objectives, the following three traditional financial measures of performance will be affected favorably: net income and return on investment will increase and cash flow will improve. Of the three TOC factors, throughput is viewed as being the most important for improving financial performance, followed by inventory,and then by operating expenses. The rationale for this order is straightforward. Operating expenses and inventories can be reduced at most to zero (inventory, though, being the larger amount), while there is virtually no upper limit on throughput. Increasing throughput and decreasing operating expenses have always been emphasized as key elements in improving the three financial measures of performance; the role of minimizing inventory, however, in achieving these improvements has been traditionally regarded as less important than reducing operating expenses.
The theory of constraints, like JIT, assigns inventory management a much more prominent role than does the traditional just-in-case viewpoint. TOC recognizes that lowering inventory decreases carrying costs and, thus, decreases operating expenses and improves net income. TOC, however, argues that lowering inventory helps produce a competitive edge by having better products, lower prices, and faster response to customer needs.
