Evaporating Cash Constraint

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Evaporating Cash Constraint

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1. © Goldratt India Evaporating Cash Constraint

2. Agenda Organizational Goal Conventional measurements for the Goal Five levels of Goal achievement New operational measurements Concept of Constraint Process Of On Going Improvement -Five focusing steps Implemented case studies from India Constraint identification Cash Constraint-definition Issues with cash constraint Managing cash constraint Exploitation and subordination Right measurements Increasing cash to cash velocity Selling obsolete material Elevating cash Next steps after breaking cash constraint Summary Overview of the Theory of Constraints Every organization has more than one link. The performance of the organization like the strength of a chain is governed by the performance of the weakest link. Often organizations, struggling to improve their performance, try to improve every area thereby either getting very little improvement or some times none at all in case the weakest link is missed. Most organization do not know where is their weakest link thus jeopardizing their entire time and effort! Five focusing steps Identify the constraint Exploit the constraint-make the most of what you have. Do not waste the constraint. Subordinate all other functions, departments, measurements to take out the most out of the constraint. Elevate-strengthen the weakest link. Go back to 1-identify the new constraint in case the constraint has changed. Identifying Organizational Constraint. Identifying organizational constraint is not at all rocket science. The following step by step approach will identify the constraint of a “For Profit” organization. The organization has a constraint in the market if it has a very large (~ 50%) market share of the world market. Most organizations other than Microsoft, Intel or some niche players are unlikely to have this constraint. An organization has a constraint in market if it delivers consistently (>99%+) On Time in Full (OTIF). OTIF is rather a very tough measurement to achieve. If an organization has orders for 10 items, its OTIF measurement will be zero if it misses the delivery of even one item by just one day. Most organizations do not have OTIF even close to 50%. An organization will have a constraint in operations if it is not achieving OTIF > 99% though it gets input materials on time. In case any of its equipment has an Overall Equipment Effectiveness (OEE) is more than >95% on 24X7 basis, then that equipment is the constraint. Otherwise its operational policies are responsible in generating an artificial constraint in making one of its equipment as the constraint. When an organization is having OTIF < 99%, and it is unable to get its input materials on time due to organization’s inability to pay the vendors on time, the organization is having the most difficult situation-CASH CONSTRAINT. Cash shortage is not the same as cash constraint though cash shortage will land the organization into cash constraint in due course of time. Managing Cash Constraint: An organization in cash constraint situation is in the most difficult situation as its very existence is threatened if it is not able to overcome this constraint within relatively very short period of time (weeks). Theory Of Constraints does offer solutions to overcome this constraint. In most cases it is possible to come out within 15-20 weeks.Overview of the Theory of Constraints Every organization has more than one link. The performance of the organization like the strength of a chain is governed by the performance of the weakest link. Often organizations, struggling to improve their performance, try to improve every area thereby either getting very little improvement or some times none at all in case the weakest link is missed. Most organization do not know where is their weakest link thus jeopardizing their entire time and effort! Five focusing steps Identify the constraint Exploit the constraint-make the most of what you have. Do not waste the constraint. Subordinate all other functions, departments, measurements to take out the most out of the constraint. Elevate-strengthen the weakest link. Go back to 1-identify the new constraint in case the constraint has changed. Identifying Organizational Constraint. Identifying organizational constraint is not at all rocket science. The following step by step approach will identify the constraint of a “For Profit” organization. The organization has a constraint in the market if it has a very large (~ 50%) market share of the world market. Most organizations other than Microsoft, Intel or some niche players are unlikely to have this constraint. An organization has a constraint in market if it delivers consistently (>99%+) On Time in Full (OTIF). OTIF is rather a very tough measurement to achieve. If an organization has orders for 10 items, its OTIF measurement will be zero if it misses the delivery of even one item by just one day. Most organizations do not have OTIF even close to 50%. An organization will have a constraint in operations if it is not achieving OTIF > 99% though it gets input materials on time. In case any of its equipment has an Overall Equipment Effectiveness (OEE) is more than >95% on 24X7 basis, then that equipment is the constraint. Otherwise its operational policies are responsible in generating an artificial constraint in making one of its equipment as the constraint. When an organization is having OTIF < 99%, and it is unable to get its input materials on time due to organization’s inability to pay the vendors on time, the organization is having the most difficult situation-CASH CONSTRAINT. Cash shortage is not the same as cash constraint though cash shortage will land the organization into cash constraint in due course of time. Managing Cash Constraint: An organization in cash constraint situation is in the most difficult situation as its very existence is threatened if it is not able to overcome this constraint within relatively very short period of time (weeks). Theory Of Constraints does offer solutions to overcome this constraint. In most cases it is possible to come out within 15-20 weeks.

3. © Goldratt India The Goal? What is the Goal of your organization?

4. © Goldratt India The Goal? Some organizations state that their Goal is to be a World Class Quality Company. Stated differently they would like to delight their customers now as well as in future.

5. © Goldratt India The Goal? Many other organizations say that their Goal is to keep their employees happy now and in future.

6. © Goldratt India The Goal? A few organizations declare that their Goal is to make money now and in future!

7. © Goldratt India The Goal? Is there any conflict between the three Goals stated or a hierarchy of Goals?

8. © Goldratt India The Goal? For example let us choose that our Goal is to delight customers now and in future. In order to achieve our chosen Goal i.e. to delight our customers now and in future, it is absolutely necessary to keep our employees happy now and in future. Similarly it is imperative to make money now and in future in order to continue to keep our employees happy.

9. © Goldratt India The Goal? Now let us decide that our Goal is to keep our employees happy now and in future. In order to achieve our chosen Goal, it is absolutely necessary to make money now and in future. It is impossible to make money now and in future unless we continue to delight our customers now and in future.

10. © Goldratt India The Goal? Now if we decide that our Goal is to make money now and in future, is it really possible to achieve it without delighting our customers now and in future! And can we satisfy our customers without keeping our employees happy now and in future!

11. © Goldratt India The Goal? In reality there is no conflict between the three different Goals. Choose any of the three Goals, the other two become the necessary conditions for achieving the chosen Goal! For the purpose of this presentation we will assume that the Goal is making money now and in future.

12. © Goldratt India Measures for the Goal-Making Money Generally accepted measures are Profit Return on investment Cash flow We do not question the validity of these measures. However we do question the usefulness of these measures as operational measures!

13. Current situation Only 23 out of 3000 (0.8%) companies actively trading on the Bombay Stock Exchange have increased their profits continuously in the last 10 years (The Economic Times 24th September 2005) And the Goal of the organization is to make more and more money Hence as per our agreed definition of Goal, 99.2% organizations are not achieving their Goal! © Goldratt India

14. Five levels of financial health Making more and more money Unable to meet financial commitments Meeting financial commitments but not making profits Meeting financial commitments, not making losses, but profits fluctuating Profits increasing continuously period after period Return On Investment (ROI) / Return On Capital Employed (ROCE) increasing continuously

15. © Goldratt India What measurements should we use? For the average employee, seeing the effect that any given action has on Net Profit (NP) or Return On Investment (ROI) is almost impossible. As a result we have created local measures like efficiency & utilization because we believe that they are linked to NP or ROI. We do know that 99%+ organizations are not achieving their Goal.

16. © Goldratt India What measurements should we use? New Operational Measures Throughput (“T”) Investment (“I”) Operating Expense (“OE”)

17. © Goldratt India

18. © Goldratt India Throughput (“T”) The rate at which Contribution Rupees are coming into organization. Only Rupees generated by the system are counted; e.g., Rupees spent on purchasing raw material or services do not count as they are passed on to your suppliers. T=(Net sales-all truly variable costs)

19. © Goldratt India Investment (“I”) All the money currently tied up inside the system. All the inventory in raw material, WIP, or in Finished Goods. Money blocked in plant and machinery. Receivables are also part of “I”.

20. © Goldratt India Operating Expense (“OE”) All the money that system spends on converting inventory into throughput. All the expenses are clubbed together as “OE” and are thought as fixed. All employee expenses are part of “OE”.

21. © Goldratt India Financial Links Is there any link between the new Operational Measures “T”, “I”, & “OE”, and conventional measures as “P”, “ROI”, & “Cash Flow”? P = T- OE ROI = P/ I = (T-OE)/I What happens to P, ROI & cash flow when we improve either “T”, “I” or “OE”, keeping other two as constant?

22. © Goldratt India Financial Links If we increase T keeping I & OE constant, P=(T-OE) improves, ROI= NP/I improves, and so does the cash flow. If we decrease I, keeping T & OE constant, P improves due to reduced carrying cost, ROI improves, and of course cash flow improves. When we reduce OE keeping T, and I constant, P, ROI, and cash flow improve.

23. © Goldratt India Financial Links Improving Throughput, Investment and Operating Expense have a positive co-relation with improving P, ROI, and cash flow. Throughput, Investment and Operating Expense are valuable operational measures that can guide our day to day actions to making money now and in future.

24. © Goldratt India Constraint for making money What is that limits your organization to achieving more of its Goal - to make more and more money?

25. © Goldratt India Theory of Constraints (TOC) The core idea in the Theory of Constraints is that every real system such as a profit-making enterprise must have at least one constraint that limits the system to achieving its Goal. Every ‘for profit organization’ will have a constraint in Supply, Operations, or Market. Current constraint may shift, but there cannot be any situation when there is no constraint. Had it been so, its profit would have been infinite!

26. © Goldratt India Theory of Constraints (TOC) Constraints are neither good nor bad. They are facts of life.

27. © Goldratt India Theory of Constraints (TOC) There is really no choice in the matter. Either you manage the constraints or the constraints will manage you. The constraints will determine the output of the system whether they are acknowledged and managed or not.

28. © Goldratt India Organization as a chain An organization can be compared to a chain. The activities that constitute a business are ‘chain’ of dependent events. For example we do not dispatch components unless they are packed, and we do not pack parts until they are manufactured.

29. © Goldratt India Organization as a chain The output of the organization is achieved through the synchronized efforts of various functions. The output is limited by the weakest area. The strength of the chain is determined by the strength of the weakest link. What should be done to improve the output of an organization?

30. © Goldratt India Organization as a chain Should we improve all functions or all links? Or should we strengthen the weakest function or the weakest link? It is common sense that unless we improve the weakest link, the organizational output or chain strength would not increase at all. Is it possible that overall organizational effectiveness is reduced by improving performance in one department ?

31. © Goldratt India Organization as a chain The global improvement is not the sum total of all the local improvements. Often organizations spread their energies thin in all areas in order to improve the output. In the TOC world optimizing a sub-system would sub-optimize the whole system.

32. © Goldratt India How does TOC help companies Focusing improvement efforts where it will have the greatest immediate impact on the bottom line. Providing a reliable process that insures Follow Through

33. © Goldratt India A process of on going improvement (POOGI) Identify the constraint. Exploit the constraint Subordinate all policies, decisions and procedures to exploiting the constraint. Elevate the constraint. If we need still more output from the constraint, elevate it. Avoid inertia. If in a previous step constraint shifts, start the cycle once again.

34. © Goldratt India POOGI: Step 1 Identify the Constraint. The constraint can be internal or external to your organization. Internal constraint is preferable. The constraint can be tangible or intangible. For example it could be an equipment or a policy. Invariably (> 95%) the constraint is a policy.

35. © Goldratt India POOGI: Step 2 Exploit the Constraint. Get the most possible out of the existing capacity of the constraint. Utilization at the constraint is critical.

36. © Goldratt India POOGI: Step 3 Subordinate all decisions to exploiting the constraint. All policies and measurements must be designed to get the most out of the constraint. Utilization and efficiency at the non-constraint resources must not be measured. However this does not imply that there are no measurements for non-constraint resources. This step is often missed, and thereby the majority of financial benefits of TOC is lost. This is the toughest step.

37. © Goldratt India

38. © Goldratt India POOGI: Step 4 Elevate the constraint. If more capacity is required after steps 2 &3 to meet the market requirements, increase it through capital investment, outsourcing, or off-load the constraint by defining alternative routings, processes or design. Capital investment should not be the first option. Often times, Exploitation and Subordination are sufficient to reach the needed output. Do not increase the investment too soon.

39. © Goldratt India POOGI: Step 5 Avoid Inertia. If in a previous step the constraint is broken, go back to Step 1. Do not let inertia be the system constraint. Often times when a new constraint is identified, it is necessary to change the policies you have just made!

40. © Goldratt India POOGI: Step 5 Avoid Inertia. The long term strategic application of TOC does not call for continuous removal of all constraints. Rather, the idea is to choose where the constraint should be in order to best exploit the market opportunities, and then keep it there!

41. Case study 1: Capital goods manufacturer Background Capital goods manufacturer for refractory equipment It was losing money for 2.5 years Owner has decided to close the plant in six months Constraint: cash / Goal achievement level 1 Actions Stopped measuring machine utilization Stopped measuring local performance parameters to prevent bad multi tasking Focus on cash generation Weekly review © Goldratt India

42. Case study 1: Capital goods manufacturer Results Turned around in 100 days Turnover increases by 30 times in 5 years Current profit > 3 times turnover in 2000 © Goldratt India

43. Case study 2: Auto component manufacturer Background manufacturer of automotive gears Losing money for last 5 years Action initiated for divestment Constraint: Operational policies / Goal achievement level 2 Actions Stopped measuring “Tons” All functional heads Key Result Areas (KRAs) abolished Started measuring OTIF (On time in full) Focus on throughput instead of sales Weekly review © Goldratt India

44. Case study 2: Auto component manufacturer Results Throughput increases by 70% within 2 years © Goldratt India

45. Case study 3: Refractory manufacturer Background manufacturer of refractories for steel and cement industry Inconsistent profits Constraint: Orders / Goal achievement level 3 Actions Stopped measuring “Tons” Started measuring “Throughput loss” Focus on throughput instead of sales Weekly review Results Throughput increases by 25% within 3 months © Goldratt India

46. Constraints: Identification Every system will always have only one weakest link at any given time- Constraint Constraint is in market if market share > 50% of world market Constraint is orders if On Time in Full (OTIF) > 95% © Goldratt India

47. Constraints: Identification Supply is constraint if material availability < 95% despite payments being on time Suppliers if consumption is > 50% of world consumption Supplier policies if consumption < 50% of world consumption © Goldratt India

48. Constraints: Identification Constraint is operations when OTIF < 95%, and material availability > 95% Equipment if OEE (Overall Equipment Effectiveness) for at least one equipment >95% on 24X7 basis Operational policies if OEE < 95% © Goldratt India

49. Cash Constraint There is Cash Constraint only and only if there are sufficient orders i.e. OTIF < 95% manufacturing capacity i.e. OEE < 95% for all equipments right suppliers there are raw material shortages as suppliers are refusing to supply unless paid upfront additional cash cannot be easily arranged Cash shortage does not necessarily imply cash constraint. However if cash shortage is not managed properly, it will lead to cash constraint © Goldratt India

50. Cash Constraint: definitions Cash to cash cycle time is the total time it takes from taking cash outflow to cash inflow (n) periods Throughput rate (T) is defined as the contribution per unit of constraint resource over one period of time When constraint is cash, it is defined as the contribution in $ per unit of time per $ of cash available T = ((s/tvc)^(1/n) -1) per unit of cash for one period of time where s is the unit selling price and tvc is the unit totally variable cost © Goldratt India Entity Definitions Cash to cash cycle time is the total time it takes from taking cash outflow to cash inflow (n) periods Throughput (T) is defined as the rate of contribution per unit of constraint resource over one period of time When cash is the constraint, it is defined as the contribution in $ per unit of time per $ of cash available T = ((s/tvc)^(1/n) -1) per unit of cash for one period of time where s is the unit selling price and tvc is the unit totally variable cost The following table details the calculations for throughput for two different products P & Q. Entity Definitions Cash to cash cycle time is the total time it takes from taking cash outflow to cash inflow (n) periods Throughput (T) is defined as the rate of contribution per unit of constraint resource over one period of time When cash is the constraint, it is defined as the contribution in $ per unit of time per $ of cash available T = ((s/tvc)^(1/n) -1) per unit of cash for one period of time where s is the unit selling price and tvc is the unit totally variable cost The following table details the calculations for throughput for two different products P & Q.

51. Cash Constraint: Throughput calculation example

52. Cash Constraint: definitions contd.. Throughput ratio (t) = s / tvc Survival Time: This is the time the organization can run with current cash. Survival time = Cash in hand / OE (Operating Expenses) Minimal cash required for survival = n*OE Adequate survival cash = n*OE*{t/(t-1)} Sufficient survival cash = n*(OE + Cash required for full capacity utilization for one period) © Goldratt India Throughput ratio (t) = s/tvc Survival Time: This is the time the organization can run with current cash. Survival time = Cash/OE Minimal cash required for survival = n*OE Adequate survival cash = n*OE*{t/(t-1)} Sufficient survival cash = n*(OE + Cash required for full capacity utilization for one period) Throughput ratio (t) = s/tvc Survival Time: This is the time the organization can run with current cash. Survival time = Cash/OE Minimal cash required for survival = n*OE Adequate survival cash = n*OE*{t/(t-1)} Sufficient survival cash = n*(OE + Cash required for full capacity utilization for one period)

53. Cash Constraint calculations Following table provides sample calculations for above parameters. Following table provides sample calculations for above parameters.

54. Cash Constraint: Issues Cash constraint is the worst constraint Cash shortage does not necessarily imply cash constraint Exploiting and subordinating cash constraint also elevates cash constraint Cash constraint impacts throughput non-linearly Cash Constraint is the fastest constraint to shift! © Goldratt India Cash constraint is the worst constraint Cash shortage does not necessarily imply cash constraint Exploiting and subordinating cash constraint also elevates cash constraint Cash constraint impacts throughput non-linearly Cash Constraint is the fastest constraint to shift! Cash constraint is the worst constraint Cash shortage does not necessarily imply cash constraint Exploiting and subordinating cash constraint also elevates cash constraint Cash constraint impacts throughput non-linearly Cash Constraint is the fastest constraint to shift!

55. Cash Constraint: Some Common nonsense Purchase more than immediate requirement to take advantage of quantity discount Combine supplies to get freight advantage Produce more than immediate requirement for better capacity utilization Batch dispatches to reduce freight cost Not selling obsolete material below purchase price / book value © Goldratt India Cash Constraint: Some Common nonsense examples Purchase more than immediate requirement to take advantage of quantity discount. Many organizations waste their most precious asset Cash for purchasing more than immediate requirement just because the purchase manager can get volume discount by buying additional quantity. In turn this additional cash outflow starves the organization of other required materials. Combine supplies to get freight advantage. Many times the logistic / purchase managers try to reduce freight cost by combining supplies of many materials, and thereby delaying the material that is required urgently and thereby increasing cash to cash cycle. Produce more than immediate requirement for better capacity utilization. Many production managers produce more products than immediately required to save on set up times. However when products of one type are produced more than required, cash is wasted is in more than one way. First some other required products are delayed, and thereby delaying the cash inflow. Secondly the additional products produced block cash and increasing cash to cash cycle. Batch dispatches to reduce freight cost. This is same behavior as discussed earlier i.e. combine supplies to get freight advantage. Not selling obsolete material below purchase price / book value. Surprisingly this behavior is observed universally in almost all organizations. For many organizations the cash generated by selling obsolete material is more than sufficient to get the organization out of cash constraint situation. The following example will illustrate this. This is the case of an organization that manufactures stainless steel bars. Its is having a yearly sales turnover of $ 180 million and loss of $ 12 million. Its capacity utilization is about 30%. The manufacturing time is two weeks. The totally variable cost (tvc) is 50%. There is a heavy demand for these products. Customers pay immediately on delivery. This organization is short of cash and hence is unable to buy sufficient raw material. Since the current capacity utilization is 30%, hence it can increase its sales to more than $ 300 million without increasing its fixed expenses. It can break even if it could generate additional throughput of $ 12 million or $ 1.0 million per month or $ 500,000 every two weeks. As its tvc is 50%, it needs to generate an additional sales of $ 24 million per year or just $ 1.0 million every two weeks. It has some obsolete material in its stock for more than 2 years. It can be sold for $ 40,000. However its book value is $ 100,00. Since it cannot be sold at book value, the management was unwilling to sell this at a loss. Now let us examine the situation if the management takes the unorthodox path of selling it a loss for $ 40,000. As the manufacturing time is 2 weeks, this additional cash of $ 40,000 can be converted into saleable material of $ 80,000 in 2 weeks. In turn $ 80,000 can generate sales of 160,000 in the next 2 weeks i.e. within 4 weeks $ 40,000 becomes $ 160,000. In the next 4 weeks this $ 160,000 will become $ 640,000. At the end of 8 weeks the organization has cash of $ 640,000. This cash of $ 640,000 is sufficient to generate additional sales of $ 1.28 million every two weeks. This is sufficient to turn around the organization within 10 weeks by just selling obsolete material. Cash Constraint: Some Common nonsense examples Purchase more than immediate requirement to take advantage of quantity discount. Many organizations waste their most precious asset Cash for purchasing more than immediate requirement just because the purchase manager can get volume discount by buying additional quantity. In turn this additional cash outflow starves the organization of other required materials. Combine supplies to get freight advantage. Many times the logistic / purchase managers try to reduce freight cost by combining supplies of many materials, and thereby delaying the material that is required urgently and thereby increasing cash to cash cycle. Produce more than immediate requirement for better capacity utilization. Many production managers produce more products than immediately required to save on set up times. However when products of one type are produced more than required, cash is wasted is in more than one way. First some other required products are delayed, and thereby delaying the cash inflow. Secondly the additional products produced block cash and increasing cash to cash cycle. Batch dispatches to reduce freight cost. This is same behavior as discussed earlier i.e. combine supplies to get freight advantage. Not selling obsolete material below purchase price / book value. Surprisingly this behavior is observed universally in almost all organizations. For many organizations the cash generated by selling obsolete material is more than sufficient to get the organization out of cash constraint situation. The following example will illustrate this. This is the case of an organization that manufactures stainless steel bars. Its is having a yearly sales turnover of $ 180 million and loss of $ 12 million. Its capacity utilization is about 30%. The manufacturing time is two weeks. The totally variable cost (tvc) is 50%. There is a heavy demand for these products. Customers pay immediately on delivery. This organization is short of cash and hence is unable to buy sufficient raw material. Since the current capacity utilization is 30%, hence it can increase its sales to more than $ 300 million without increasing its fixed expenses. It can break even if it could generate additional throughput of $ 12 million or $ 1.0 million per month or $ 500,000 every two weeks. As its tvc is 50%, it needs to generate an additional sales of $ 24 million per year or just $ 1.0 million every two weeks. It has some obsolete material in its stock for more than 2 years. It can be sold for $ 40,000. However its book value is $ 100,00. Since it cannot be sold at book value, the management was unwilling to sell this at a loss. Now let us examine the situation if the management takes the unorthodox path of selling it a loss for $ 40,000. As the manufacturing time is 2 weeks, this additional cash of $ 40,000 can be converted into saleable material of $ 80,000 in 2 weeks. In turn $ 80,000 can generate sales of 160,000 in the next 2 weeks i.e. within 4 weeks $ 40,000 becomes $ 160,000. In the next 4 weeks this $ 160,000 will become $ 640,000. At the end of 8 weeks the organization has cash of $ 640,000. This cash of $ 640,000 is sufficient to generate additional sales of $ 1.28 million every two weeks. This is sufficient to turn around the organization within 10 weeks by just selling obsolete material.

56. Guiding Principles Eli Goldratt: Measurements Drive Behaviors Warren Buffett: Take a few right decisions provided you do not make too many wrong decisions – Responding to a question for recipe for success at the Berkshire Hathaway AGM 2003 Eliminating current wrong practices is more important than initiating new right actions- Ravi Gilani © Goldratt India

57. Exploiting and subordinating Cash constraint: Measurements Remove wrong measurements Sales, profit, market share, gross margin, net margin (some times even throughput!) ROI, productivity, capacity utilization Monitoring right measurements Survival time, cash available, adequate cash requirement, overdue payments © Goldratt India Measurements Monitoring right measurements Survival time, cash available, adequate cash requirement Remove wrong measurements Damage due to wrong measurements is significantly more than the damage of not measuring right ones! Sales, profit, market share, gross margin, net margin ROI, productivity, capacity utilization See attached table for right measurements Measurements Monitoring right measurements Survival time, cash available, adequate cash requirement Remove wrong measurements Damage due to wrong measurements is significantly more than the damage of not measuring right ones! Sales, profit, market share, gross margin, net margin ROI, productivity, capacity utilization See attached table for right measurements

58. Exploiting and subordinating: Increasing cash to cash velocity Cash to cash cycle time (n) reduction has huge non-linear impact on throughput, cash availability, survival time, adequate cash requirement etc. For product P, reducing cash to cash cycle time from 6 weeks to 3 weeks, throughput / week increases by more than 100% Reduce cash to cash cycle time by shrinking Customer payment time - get money immediately even at deep discount of 20-40% Manufacturing lead time (Choke release of work) Supplier lead time (offer 5-10% price increase for immediate delivery) © Goldratt India Cash to cash cycle time (n) reduction has huge non-linear impact on throughput, cash availability, survival time, adequate cash requirement etc. Often just shrinking cash to cash time is good enough to come out of cash constraint provided right measurement are in place. For example if we could shrink cash to cash time for product P from 6 weeks to 3 weeks is sufficient for this organization to come out of cash constraint in 13 weeks. Table attached. Reducing cash to cash cycle time by shrinking Customer payment time Manufacturing lead time Supplier lead time Reducing customer payment time: Often customer payment time is the largest component in the cash to cash cycle time for most of the organizations. The belief in most organizations is that if we reduce payment time by one week, we are just saving interest for one week on the amount to be received. In cash constraint situation, cash to cash cycle time impacts throughput non linearly. Hence all efforts must be made in shrinking customer payment time. As we can get huge benefits from shrinking cash to cash time, we must explore all possibilities including significant discounts for immediate payment. For one of my clients in the cash constraint situation we offered 50% discount for immediate payment in lieu of standard time of 10 weeks! This helped the client not only survive but thrive too! Reducing manufacturing lead time. It is possible to reduce manufacturing lead time by a factor of 2-10 using Drum Buffer Rope solution of TOC. This is comparatively the fastest to implement as all changes required are totally internal to the organization. This has multifold benefits. First due to reduction in cash to cash cycle, throughput increases significantly. Reducing manufacturing lead time leads to reduced Work In Progress (WIP). Thus we are able to squeeze additional cash through reduction in WIP. Due to reduced WIP, process defects are noticed earlier to initiate corrective measures and thereby increasing throughput. For “Make to Stock” organizations this helps reduce Finished Good inventory thereby releasing more cash. Reducing supplier lead time: Raw material inventory is directly related to supplier lead time. Shorter the supplier lead time, shorter is the inventory required for raw material. We must not dismiss the very thought of increasing supplier price as this will decrease our throughput / profit. We will also have to take into account the corresponding reduction in cash to cash time, nonlinear increase in throughput, and reduced cash requirement for holding raw material inventory. Cash to cash cycle time (n) reduction has huge non-linear impact on throughput, cash availability, survival time, adequate cash requirement etc. Often just shrinking cash to cash time is good enough to come out of cash constraint provided right measurement are in place. For example if we could shrink cash to cash time for product P from 6 weeks to 3 weeks is sufficient for this organization to come out of cash constraint in 13 weeks. Table attached. Reducing cash to cash cycle time by shrinking Customer payment time Manufacturing lead time Supplier lead time Reducing customer payment time: Often customer payment time is the largest component in the cash to cash cycle time for most of the organizations. The belief in most organizations is that if we reduce payment time by one week, we are just saving interest for one week on the amount to be received. In cash constraint situation, cash to cash cycle time impacts throughput non linearly. Hence all efforts must be made in shrinking customer payment time. As we can get huge benefits from shrinking cash to cash time, we must explore all possibilities including significant discounts for immediate payment. For one of my clients in the cash constraint situation we offered 50% discount for immediate payment in lieu of standard time of 10 weeks! This helped the client not only survive but thrive too! Reducing manufacturing lead time. It is possible to reduce manufacturing lead time by a factor of 2-10 using Drum Buffer Rope solution of TOC. This is comparatively the fastest to implement as all changes required are totally internal to the organization. This has multifold benefits. First due to reduction in cash to cash cycle, throughput increases significantly. Reducing manufacturing lead time leads to reduced Work In Progress (WIP). Thus we are able to squeeze additional cash through reduction in WIP. Due to reduced WIP, process defects are noticed earlier to initiate corrective measures and thereby increasing throughput. For “Make to Stock” organizations this helps reduce Finished Good inventory thereby releasing more cash. Reducing supplier lead time: Raw material inventory is directly related to supplier lead time. Shorter the supplier lead time, shorter is the inventory required for raw material. We must not dismiss the very thought of increasing supplier price as this will decrease our throughput / profit. We will also have to take into account the corresponding reduction in cash to cash time, nonlinear increase in throughput, and reduced cash requirement for holding raw material inventory.

59. Exploiting and subordinating: Selling obsolete material Often organizations do not sell obsolete material at below purchase price/ book value In most cases selling unwanted stock even at a discount of 80-90% of purchase price is the right decision. (negative throughput!) For product Q, selling obsolete material even at 85% discount will generate cash > purchase price in just 13 weeks! (Apart from the fact that it also increases chances of survival ) Any addition in cash increases survival time immediately © Goldratt India

60. Elevating Cash Constraint: Additional Cash induction Cash constraint organizations do have difficulty in organizing loans even at high interest rates of 18-24% per year However even these organizations, cash may be available at 1-4% per week! For a cash constrained organization selling product P, borrowing even at 4% per week makes sense as P generates T @ 12% per week (Q even better @ 17% per week) Interest cost control is not the Goal of the organization! © Goldratt India

61. Managing Cash Constraint Example © Goldratt India

62. Managing Cash Constraint Substituting Q for P © Goldratt India

63. Managing Cash Constraint Borrowing cash @ 4% per week © Goldratt India Time in weeks for shifting cash constraint to capacity Time in weeks for shifting cash constraint to capacity Time in weeks for shifting cash constraint to capacity Time in weeks for shifting cash constraint to capacity

64. Cash Constraint-case study A mass manufacturing organization in electrical industry, had a constraint in cash Material cost ~ 40% of sales Manufacturing lead time ~ 3 days Collection time ~ 60 days Capacity utilization ~ 30% OTIF < 10% Suppliers were willing to provide material off the shelf provided they could get payment upfront The constraint shifted from cash to orders within 13 weeks by shrinking collection time at 50% discount! © Goldratt India

65. Cash Constraint-case study

66. Next step after cash constraint is broken Current crisis in the world is not due shortage of cash Currently it is due to slowing down of money rotation. We have very severe shortage of trust! What can we do? Increase the money flow! Offer early payment to your suppliers with cash constraint with or without price discount! © Goldratt India

67. © Goldratt India Summary A company must know its Goal. All the players in the organization must understand how is the scoring done Then it must identify the Constraint(s) that is limiting the level of achievement of that Goal. The Theory of Constraints is about Focus on global improvement in place of local improvements everywhere. Process of On Going Improvement.

68. © Goldratt India TOC Summary: Process of On Going Improvement Identify the constraint. Exploit it. Subordinate all other decisions to the necessity of exploiting the constraint. If after # 2 & # 3 more capacity is needed to meet market demand Elevate the constraint. Go back to # 1, but do not let inertia become the system’s constraint. Choose your constraint.

69. Summary You have Cash Constraint only and only if there are sufficient orders i.e. OTIF < 95%, sufficient manufacturing capacity i.e. OEE <95% for all equipments, right suppliers, and supplies are suffering as suppliers have not been paid on time due to cash crunch © Goldratt India

70. Summary Exploiting and subordinating cash constraint also elevates cash constraint Cash constraint impacts throughput non-linearly Cash Constraint is the fastest constraint to shift! Eliminate wrong measures and implement right measures © Goldratt India

71. Summary Shrinking cash to cash cycle time has the most immediate impact on cash Elevating cash by selling obsolete material even at very low price impacts cash significantly Borrowing cash at very high interest could also be an option during the duration of cash constraint situation In most cases cash constraint can be shifted within 13 weeks! © Goldratt India

72. Summary Once we have adequate cash, offer to construct Win-Win with your cash constrained suppliers. We cannot live in an island of prosperity surrounded by a sea of misery! © Goldratt India

73. © Goldratt India This is not the End. It is not even the beginning of the End. It is perhaps the End of the beginning! THANK YOU! Ravi Gilani [email protected]

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