Managing Risks & Serving the Customer: Decision Making in Business

1. Lecture 1 MGMT 661 Decision Making: Managing Risks, Serving the Customer, Examining the Numbers

2. What is this course about? • To understand • Why do some companies thrive while others struggle or fail? • Decision making • What What resources/what amounts • When Needed/scheduled/ordered • Where Work to be done • How Designed • Who To do the work

3. Organization Finance Marketing Operations Basic Functions of Businesses The management of systems or processes that create goods and/or provide services

4. Value added Inputs Outputs Transformation/ Land Goods Conversion Labor Services process Capital Feedback Control Feedback Feedback Value-Added The difference between the cost of inputs and the value or price of outputs.

5. Raw Vegetables Cleaning Canned vegetables Metal Sheets Making cans Water Cutting Energy Cooking Labor Packing Building Labeling Equipment Food Processor Outputs Inputs Processing

6. Doctors, nurses Examination Healthy patients Hospital Surgery Medical Supplies Monitoring Equipment Medication Laboratories Therapy Hospital Process Inputs Processing Outputs

7. Production of Goods vs. Delivery of Services • Production of goods – tangible output • Delivery of services – an act • Service job categories • Government • Wholesale/retail • Financial services • Healthcare • Personal services • Business services • Education

8. Manufacturing vs Service Characteristic Manufacturing Service Output Tangible Intangible Customer contact High Low Uniformity of input Low High Labor content High Low Uniformity of output Low High Measurement of productivity Difficult Easy Opportunity to correct quality problems Low High High

9. Key Decisions of Businesses • What What resources/what amounts • When Needed/scheduled/ordered • Where Work to be done • How Designed • Who To do the work • Operations Managers • The operations function • Consists of all activities directly related to producing goods or providing services

10. Scope of Operations Management • Operations Management includes: • Forecasting • Capacity planning • Scheduling • Managing inventories • Assuring quality • Deciding where to locate facilities • And more . . .

11. Operations Examples Goods Producing Farming, mining, construction , manufacturing, power generation Storage/Transportation Warehousing, trucking, mail service, moving, taxis, buses, hotels, airlines Exchange Retailing, wholesaling, banking, renting, leasing, library, loans Entertainment Films, radio and television, concerts, recording Communication Newspapers, radio and television newscasts, telephone, satellites Types of Operations

12. Decision Making • System Design • Capacity • Location • Arrangement of departments • Product and service planning • Acquisition and placement of equipment

13. Decision Making • System Operation • Management of personnel • Inventory planning and control • Scheduling • Project Management • Quality assurance

14. Decision Making • Steps of problem solving • Models • (Simple) Numerical approaches • Analysis of trade-offs

15. Problem Solving and Decision Making • Steps of Problem Solving (First 5 steps are the process of decision making) • Define the problem. • Identify the set of alternative solutions. • Determine the criteria for evaluating alternatives. • Evaluate the alternatives. • Choose an alternative (make a decision). --------------------------------------------------------------------- • Implement the chosen alternative. • Evaluate the results.

16. Iconic – – Analog – Mathematical Models A model is an abstraction of reality. Tradeoffs What are the pros and cons of models?

17. A Simulation Model

18. Quantitative Analysis and Decision Making • Potential reasons for a quantitative analysis approach to decision making • The problem is complex • The problem is very important • The problem is new • The problem is repetitive

19. Mathematical Models • Relate decision variables (controllable inputs) with fixed or variable parameters (uncontrollable inputs) • Maximize or minimize some objective function subject to constraints • Two types • Stochastic if any of the uncontrollable inputs is subject to variation, • Deterministic otherwise • Generally, stochastic models are more difficult to analyze • Values of the decision variables that provide the mathematically-best output referred to as optimal solution for the model • Frequently a less complicated (and perhaps less precise) model is more appropriate than a more complex and accurate one due to cost and ease of solution considerations

20. Product Mix Example

21. A Linear Programming Model • Objective – profit maximization Maximize 60X1 + 50X2 • Subject to Assembly 4X1 + 10X2 <= 100 hours Inspection 2X1 + 1X2 <= 22 hours Storage 3X1 + 3X2 <= 39 cubic feet X1, X2 >= 0 X1 = # of type 1 PC; X2 = # of type 2 PC

22. Analysis of Trade-offs • How many more jeans would Levi need to sell to justify the cost of additional robotic tailors? • Cost of additional robotic tailors vs Inventory Holding Cost

23. Quantitative Models • Cost-Revenue-Profit models • Simple break-even analysis • Analysis of tradeoffs • Linear programming: optimal allocation of resources • Project models: planning, coordinating and controlling large scale projects • Statistical models: forecasting • Queuing models: analyze waiting lines • Inventory models: management of inventory

24. Models Are Beneficial • Easy to use, less expensive • Minimizes risk • Require users to organize • Systematic approach to problem solving • Increase understanding of the problem • Enable “what if” questions: simulation models • Specific objectives • Power of mathematics • Standardized format

25. The Management Scientist Software

26. Cost, Revenue and Profit Models(Course Pack - Chapter 1)(Custom Text – Chapter 5)

27. Cost Classification of Owning and Operating a Passenger Car

28. Cost-Volume Relationship

29. Cost-Volume Relationship

30. Total revenue Amount ($) Amount ($) Total cost = VC + FC Total variable cost (VC) Fixed cost (FC) 0 0 Q (volume in units) Q (volume in units) Cost-Volume Relationships

31. Cost-Volume Relationships Profit Total revenue Amount ($) Total cost Formula (5-8) of Course Text 0 BEP units Q (volume in units)

32. Example: Ponderosa Development Corp. • Ponderosa Development Corporation (PDC) is a small real estate developer that builds only one style house. • The selling price of the house is $115,000. • Land for each house costs $55,000 and lumber, supplies, and other materials run another $28,000 per house. Total labor costs are approximately $20,000 per house. • Ponderosa leases office space for $2,000 per month. The cost of supplies, utilities, and leased equipment runs another $3,000 per month. • The one salesperson of PDC is paid a commission of $2,000 on the sale of each house. PDC has seven permanent office employees whose monthly salaries are given on the next slide.

33. Example: Ponderosa Development Corp. EmployeeMonthly Salary President $10,000 VP, Development 6,000 VP, Marketing 4,500 Project Manager 5,500 Controller 4,000 Office Manager 3,000 Receptionist 2,000

34. Example: Ponderosa Development Corp. • Identify all costs and denote the marginal cost and marginal revenue for each house. • Write the monthly cost function c (x), revenue function r (x), and profit function p (x). • What is the breakeven point for monthly sales of the houses? • What is the monthly profit if 12 houses per month are built and sold? • Determine the BEP for monthly sale of houses graphically.

35. Example: Ponderosa Development Corp. 1200 Total Revenue = 115,000x 1000 800 600 Thousands of Dollars Total Cost = 40,000 + 105,000x 400 200 Break-Even Point = 4 Houses 0 0 1 2 3 4 5 6 7 8 9 10 Number of Houses Sold (x)

36. Fixed Variable Total City Cost Cost Cost Akron $30,000 $75 $180,000 Bowling Green $60,000 $45 $150,000 Chicago $110,000 $25 $160,000 Selling price = $120 Expected volume = 2,000 units Locational Break-Even Analysis Three locations: Total Cost = Fixed Cost + Variable Cost x Volume

37. – $180,000 – – $160,000 – $150,000 – – $130,000 – – $110,000 – – – $80,000 – – $60,000 – – – $30,000 – – $10,000 – – Chicago cost curve Annual cost Bowling Green cost curve Akron cost curve Akron lowest cost Chicago lowest cost Bowling Green lowest cost | | | | | | | 0 500 1,000 1,500 2,000 2,500 3,000 Volume Locational Break-Even Analysis Graph of Break-Even Points

38. Example: Step Fixed Costs • A manager has the option of purchasing 1, 2 or 3 machines • Fixed costs and potential volumes are as follows: • Variable cost = $10/unit and revenue = $40/unit • If the projected annual demand is between 580 and 630 units, how many machines should the manager purchase?

39. Break-Even Problem with Step Fixed Costs Total Cost FC + VC = TC Total Revenue BEVs FC + VC = TC 3 machines FC + VC = TC 2 machines 1 machine Quantity Step fixed costs and variable costs.

40. Assumptions of Cost-Volume Analysis • One product is involved • Everything produced can be sold • Variable cost per unit is the same regardless of volume • Fixed costs do not change with volume • Revenue per unit constant with volume • Revenue per unit exceeds variable cost per unit