This rather critical question has been a really difficult challenge for all business owners for a long time – so Goalfix offers a new perspective.
In my experience, simplistically, there are two ways to improve profitability.
- increase revenues – price and or volume and
- reduce costs and overheads – some of which may vary with volume and others being fixed (time related).
The challenge that has faced management for some time is to establish the relationship between human resource costs, levels of performance and competence and the two factors above – and to determine how and if process loss – in the form of ineffectiveness – affects them.
The principles of the balanced scorecard are well known and documented and clearly identifies the four perspectives involved:
- Finances: ROI, profit, and revenue
- Customer perspective: Customer satisfaction
- Internal business processes: Productivity rates and time to market
- Learning and growth: Employee performance and skills
This article attempts to define the impact of effectiveness on productivity in a manufacturing environment.
Clearly similar interventions may be applied to other business process – such as sales and marketing,
It explains the principles and effects in the supporting financial model titled Goalfix ROI on Human Capital Model.xlsx
The context of this document – the key objective – is financial and relates to improving company or project EBITDA. (Earnings before Interest, Tax, Depreciation & Amortisation).
The following factors need to be considered.
- Defining the production environment
Demand driven environment (production constrained by demand)
In this environment there is no upside or benefit in producing more product than demand (orders).
In this scenario the most significant benefits will accrue in the form of cost reduction.
Ancillary benefits will also arise from of:-
- production planning and scheduling
- greater attention to preventive maintenance
iii. improved quality
- material utilisation
- reduced wastage
- on time delivery
vii. Customer satisfaction resulting from the above factors.
Production driven environment
In this environment there may be significant upside or benefit in maximising production.
The most significant benefits will accrue in the form of:-
- increased production and as a consequence increased revenue, and
- cost reduction as in the demand driven environment
To some extent, as a consequence of the focus on production quantity, the ancillary benefits listed in the demand driven environment could reduce, triggered by the age-old conflict between quantity and quality.
2. Correlation – human effectiveness and productivity
In order to quantify or evaluate the impact of effectiveness, it is necessary to calculate or develop a correlation between team (department) effectiveness and production output.
Once developed, the impact of increased (improved) effectiveness can be calculated as the difference between optimal overall effectiveness and actual overall effectiveness.
This correlation requires one to determine the impact of each team (dept) on the overall production output drivers.
Typically the production drivers are a combination of:-
- Process effectiveness
- Machine effectiveness
Determining Individual Team Impact on Overall Effectiveness
In a normal sequential production process this will require an in-depth understanding of the production stages involving:-
- the theory of constraints and,
- the understanding of irretrievable knock-on effects
- inter-stage buffering or safety margins
The key issue requiring definition could be stated as follows:-
“What is the minimal team (dept) effectiveness required in each production stage which would still allow the following (next) team (dept) to achieve their minimal required effectiveness?”
A practical approach may be the determination of optimal overall effectiveness as a production goal, and then working in reverse (back solving) from the last stage back to the first stage to answer the question above.
e.g.
- Assume the optimal overall effectiveness goal is set @ 90%
- Assume the stages of production in reverse order are:
Primary stages (reverse order)
- Packing and shipping
- Assembly
- Paint shop
- Moulding
- Material preparation
- Purchasing and Inventory
Ancillary Involvement
- Support Services
- Engineering Maintenance and Support
- QC and QA
Patently the ancillary support services are applicable to each of the primary stages, and the minimal efficiencies required may vary and be different to the primary effectiveness levels required.
Questions to determine minimal team effectiveness (in sequence):
- What is the minimal effectiveness required in stage 6 (Purchasing) to permit stage 5
(Material Preparation) to achieve its minimal effectiveness level.
- What is the minimal effectiveness required in stage 5 (Material Preparation) to permit stage 4
(Moulding) to achieve its minimal effectiveness level.
…… and so on.
Similar questions need to be asked of the Ancillary support functions.
Once both processes have been completed, a weighting factor can be applied (if necessary) to the individual team values to calculate an overall effectiveness factor.
This represents the overall effectiveness goal (objective).
NB.
A similar a weighting factor can be applied (if necessary) to the actual individual team values as provided by the Integro Team Performance Solutions – www.teams.co.za to calculate and improve actual overall performance.
A gap analysis per team (dept) and overall effectiveness can then be calculated.
This represents the increase (improvement) in the overall productivity.
- Impact (relationship) of improved effectiveness on all key production factors:
Increased (improved) overall effectiveness needs to be assessed in relation to :-
- Production hours necessary – (available)
- Production effectiveness – processes
- Production effectiveness – equipment
- Production volumes
- Key variable cost of sales inputs
- Key fixed cost of sales inputs
- Fixed and Variable overheads
The impact of the improved effectiveness will of course vary from item to item and the range could be from a Zero effect to even greater that the quantum of the overall improvement.
Clearly this process requires the in-depth participation of the production management team and a detailed appreciation of the production processes.
Essentially there are two questions:
- Will the improvement in overall effectiveness impact on the particular item – Yes or No
and
- If Yes, what will be the quantum of the effect – Full (100%) or marginal (a reduced % of the total (overall ) improvement %)
Accounting Concept
It should be noted that in quantifying the effect of the improvements on the individual cost factors, the concept of “marginal contribution” has been employed.
i.e. all costs are divided into:-
- Variable costs – costs directly related to operating hours and volumes produced
and
- Fixed costs – those costs accruing on a time basis – not affected by volumes or operating hours.
The self-same principles have been used in the calculation of the break-even revenue.
Goalfix Financial Modellers have developed an explanatory (sample) model to demonstrate the effects of the above principles.
If you would like to find out more – or want to explore the benefits of optimising team performance, please contact us on +27 82 888 1900 or send an email to colin@goalfixglobal.com
C Human CA(SA) CMA
CEO
Goalfix Financial Modellers