Process Design &

Technology Choice
BU375
Class 6, May 23
 Long-Term Implications of Process Design &
Technology Choice

• Sustainability
• Does the process/technology allow the firm to compete well into the future? Is
the competitive advantage gained from good processes sustainable?

• Workforce Morale
• The way work is designed creates job structure for those actually operating a
plant
• Bad processes can lead to job dissatisfaction and ultimately lower quality work
or higher than expected employee turnover

• Ability to achieve long-term goals/fulfill Vision/Mission statements

• Do our processes put the firm in a place where they can actually meet
customer needs?
 Process Types

• We are going to focus on four process types

• Processes types vary on the capital intensity, level of
standardization, employee skills level, output quantities and more
• We will start with highly customized (low standardization) but low
output volumes and move along this spectrum to process that are
completely standardized with extremely high volumes

Project Based Batch

(Job Shop) Repetitive Continuous
Processing

Low output, low High output, High

standardization standardization
 Project Based

• Low volume of highly-variable customized goods or services

• Often produced one at a time

• Process is intermittent
• Jobs differ by their individual requirements
• Employs skilled workers
• Uses highly flexible equipment that can be used on a wide variety of
applications

• Examples:
• Aircraft carrier production
• Construction
• [Link]
 Batch Processing

• This describes a firm that produces a moderate quantity of a good

• Process is intermittent (i.e., by batch scheduled)

• Equipment is not nearly as flexible as it is in a job shop
• Employees workers are skilled but not as skilled as those in a job
shop
• Challenge for managers is to schedule work such that the facilities
are used as efficiently as possible

• Examples:
• Breweries
• Bakeries
 Batch Processing

[Link]
 Repetitive

• Marked by higher volumes of more standardized goods

• Lower skilled workforce – This is changing

• Equipment is not very flexible
• Characterized by production and assembly lines
• Assembly lines can be either machine-paced as in an auto assembly plant OR
variable speed as would be the case with an assembly line for television sets
• Challenges include:
• Capacity balancing (not leaving some workers and workstations idle)
• Technology management
• Maintaining quality levels
• Materials management (e.g. Just-in-Time arrivals)

• Examples: Car manufacturing, fast food, cell phone production

 Repetitive

[Link]
 Continuous

• Extremely high volumes of virtually identical output

• Production is continuous and therefore not counted as ‘units’

• Equipment is highly specialized and likely useless outside of one
task
• Low skilled workforce
• Key challenges:
• Greater need to rely on automated controls due to the production speed
• Extremely high costs associated with starting/stopping production

• Example: pulp and paper mills

 Continuous

[Link]
 Breakeven Analysis

• Standard decisions in operations include:

• Should we make a product ourselves or outsource production?
• If we produce a product, what technology should we choose?
• How does our production choice change with the level of demand?

• Our goal will always be to maximize profits or minimize costs

• Breakeven analysis is just a comparison of the profits/costs under

different scenarios/technologies
 Breakeven Analysis: Notation
• Quantity produced - 𝑄
• Costs
• Fixed Costs (𝐹): independent of the volume produced
• Variable Costs (𝑉): entirely dependent on the amount produced
• 𝑉 is constant, regardless of the value of 𝑄
• Total Costs: 𝑇𝐶 = 𝐹 + 𝑉×𝑄 $
• Revenue
𝑇𝐶
• Revenue per unit: 𝑅
• Total Revenue: 𝑇𝑅 = 𝑅×𝑄
• Profit: 𝑉×𝑄

• 𝜋 = 𝑇𝑅 − 𝑇𝐶 = 𝑅×𝑄 − 𝐹 − 𝑉×𝑄 = 𝑄 𝑅 − 𝑉 − 𝐹

𝑄
 Visually Comparing Costs & Revenues

• Profit:
• 𝜋 = 𝑇𝑅 − 𝑇𝐶 = 𝑄 𝑅 − 𝑉 − 𝐹
• This means if 𝑇𝑅 = 𝑇𝐶, profit is zero
• The quantity that achieves this is our breakeven value 𝑄!"
• Mathematically:
𝑇𝑅 (revenue)
#$ $
• 𝑄!" = (& ())
𝑇𝐶 (cost)

𝑉×𝑄

𝑄
𝑄!"
 Breakeven Analysis: Example
A recent graduate from community college is considering the construction of a
car body repair shop. The costs to construct the building and buy the necessary
equipment is $120,000. The average revenue for painting cars is $2,500. If the
costs for paint, labour and miscellaneous materials to paint and repair one car
is $1,800:

1. What is the BE quantity?

2. How much would the shop make or lose if it repaired 220 cars?
3. If the shop has a profit of $85,100: How many cars did it repair?
 Breakeven Analysis: Solution

• 𝐹 = 120,000
• 𝑅 = 2,500
• 𝑉 = 1,800

. 567,777
1. Q ,- = = = 171.43
(0 23) 6,977 25,:77
2. π = 𝑅 − 𝑉 ×𝑄 − 𝐹 = 700×220 − 120,000 = 34,000
3. Set the profit equation equal to $85,100:
85,100 = 𝑅 − 𝑉 ×𝑄 − 𝐹
85,100 = 700×𝑄 − 120,000
85,100 + 120,000
𝑄= = 293
700
 Make or Buy Decisions

• We can also use breakeven analysis to determine whether you

should outsource the production of a certain item/supply
• For variable costs, we assume 𝑉!#$ > 𝑉%&'(
• You only incur a fixed cost is you make the product, i.e., 𝐹%&'( > 𝐹!#$ = 0
• We want to determine the quantity 𝑄!" where we are indifferent
between making and buying the product $
• 𝑄!" should satisfy:
• 𝐹%&'( + 𝑉%&'( 𝑄!" = 𝐹!#$ + 𝑉!#$ 𝑄!" 𝑉!#$ ×𝑄

= 𝑉!#$ 𝑄!" 𝑇𝐶%&'(

)+,-.
• That is, 𝑄!" =
*/01 , *+,-.
𝐹%&'(
𝑉%&'( ×𝑄

𝑄
𝑄!"
 Considerations For Outsourcing Decisions

• Cost
• Are volumes insufficient to justify a high capital cost to do it ourselves?
• Is it less expensive to import it from a distant supplier?

• Capacity
• Do we have sufficient capacity, or do we need to outsource?
• If we have a level workforce and experience seasonal demand, should we make
it in-house and build up inventories or outsource when we need to do so?

• Expertise
• Do suppliers have the expertise that we lack?
• How do we protect our own expertise if we need to share it with our
outsourcing partners?
 Considerations for Outsourcing Decisions

• Quality Control
• Do we have better control over quality, if we make it ourselves?
• Will supplier certification help to ensure that we receive quality inputs?

• Speed (& Transportation Costs)

• Can we get offshore goods without extended delivery times?
• How much will outsourcing add to our transportation and in-transit inventory
costs?

• Reliability
• Will we experience unexpected delays or short shipments?
 Breakeven Analysis – Comparing Technologies

• Suppose we have two potential technologies/machines

• Machine A has a lower fixed cost but a higher variable cost
• In other words, 𝐹- < 𝐹! and 𝑉- > 𝑉!
• If machine A had lower fixed and lower variable costs, then it would always be
the best choice

• Our breakeven point is where the costs of using the two machines
are equal
𝐹- + 𝑉- ×𝑄 = 𝐹! + 𝑉! ×𝑄
𝐹! − 𝐹-
𝑄!" =
𝑉- − 𝑉!
• For quantities above 𝑄!" we would use the machine with the lower
variable cost (Machine B)
Breakeven Analysis – Comparing Technologies
 Comparing Technologies - Example

Process A has a fixed cost of $3,500 and a variable cost of $45 per unit
produced. In comparison Process B has a fixed cost of $8,800 and a variable
cost of $28. At what point are you indifferent between selecting either of these
two process?
 Comparing Technologies - Solution

Process A has a fixed cost of $3,500 and a variable cost of $45 per unit
produced. In comparison Process B has a fixed cost of $8,800 and a variable
cost of $28. At what point are you indifferent between selecting either of these
two process?

• 𝐹# = 3,500
• 𝐹! = 8,800
• 𝑉# = 45
• 𝑉! = 28
$) & $* (,(** &+,,**
• 𝑄!" = '* & ')
= -, &.(
= 311.76
 Comparing More Than Two Technologies

• The basic idea is the same as the two-technology case

• For each level of demand, we want to find the technology that has
the lowest total cost

• When we solve these problems, we want to find the range of

outputs for which each technology/machine/system is optimal
 Multiple Technologies Example 1

• Our general approach is to start with the cheapest system based

on fixed costs
• This will be the cheapest at an output level of zero
• Next, we find the breakeven quantity for each technology
compared with the current ‘cheapest option’
• We may be able to eliminate some systems without doing any
calculations
• If a system has a higher fixed cost and variable cost, then it will never be
used
System Fixed Cost ($) Variable Cost ($)
A 300,000 60
B 325,000 65
C 450,000 45
D 550,000 40
 Multiple Technologies Example 1: Solution

1. Rearrange in ascending order of fixed costs

2. Eliminate any choices where both the FC and the VC increase
3. Start with the lowest capital cost technology and compare it to all
higher prices technology choices
4. Choose the lowest (indifferent) quantity and choose that as the
next optimal technology
5. Repeat Step 3 until all the options have been used
• Only need to compare against systems with higher fixed costs

System Fixed Cost ($) Variable Cost ($)

A 300,000 60
B 325,000 65
C 450,000 45
D 550,000 40
 Multiple Technologies Example 1: Solution

1. Completed
2. We can eliminate system B

3. Compare A with C and D

)2 , )3 /01,111 ,311,111
• 𝑄!",-. = = = 10,000
*3 , *2 41,/0
)4 , )3 001,111 ,311,111
• 𝑄!",-5 = = = 12,500
*3 , *4 41,/1
4. Choose the lowest indifferent point
• The lowest indifferent point is 𝑄!",-. = 10,000
• This means A is the cheapest system below 10,000 units, and then C becomes
the cheapest system
System Fixed Cost ($) Variable Cost ($)
A 300,000 60
B 325,000 65
C 450,000 45
D 550,000 40
 Multiple Technologies Example 1: Solution

5. Repeat Step 3
• Since C is the cheapest system, we now compare it with the remaining
systems with higher fixed costs
• In this case, this is just D
)4 , )2 001,111,/01,111
• 𝑄!",.5 = = = 20,000
*2 , *4 /0,/1
• After 20,000 units system D is the cheapest system

• Our final choice of system depending on quantity is:

• System A if 𝑄 ≤ 10,000
• System C if 10,000 < 𝑄 ≤ 20,000
• System D if 𝑄 > 20,000 System Fixed Cost ($) Variable Cost ($)
A 300,000 60
B 325,000 65
C 450,000 45
D 550,000 40
Multiple Technologies Example 1: Solution

$ B
A
C
D

10,000 12,500 20,000 Q

Multiple Technologies Example 2

System Fixed Cost ($) Variable Cost ($)

A 25,000 60
B 36,000 36
C 30,000 50
D 32,000 46
E 43,000 30
F 35,000 35
 Multiple Technologies Example 2: Solution

1. Re-order the table so the fixed costs are increasing

2. Eliminate any technologies that are expensive in both fixed and
variable costs
• In this case, System B

System Fixed Cost ($) Variable Cost ($)

A 25,000 60
C 30,000 50
D 32,000 46
F 35,000 35
B 36,000 36
E 43,000 30
 Multiple Technologies Example 2: Solution

3. Compare the system with the lowest fixed cost (System A) with
all other systems (Systems C, D, F, E)
#)( #* 67,777 (9:,777
• 𝑄!"(5$ = )*( ))
= ;7(:7
= 500
#+( #* 69,777 (9:,777
• 𝑄!"(5< = = = 500
)*( )+ ;7(=;
#,( #* 6:,777 (9:,777
• 𝑄!"(5# = )*( ),
= ;7(6:
= 400
#-( #* =6,777 (9:,777
• 𝑄!"(5" = )*( )-
= ;7(67
= 600

System Fixed Cost ($) Variable Cost ($)

A 25,000 60
C 30,000 50
D 32,000 46
F 35,000 35
B 36,000 36
E 43,000 30
 Multiple Technologies Example 2: Solution

4. Compare the system with the lowest 𝐹 with all other systems
(higher 𝐹)
• The lowest indifference point is between System A and System F, we choose F
as our next cheapest technology
• A is the cheapest system before the indifference point of 400
• After 400, the cheapest technology at current step is F

System Fixed Cost ($) Variable Cost ($)

A 25,000 60
C 30,000 50
D 32,000 46
F 35,000 35
B 36,000 36
E 43,000 30
 Multiple Technologies Example 2: Solution

5. Compare System F with other systems with higher fixed costs

• In this case, System E
• We do NOT need to compare System F to Systems C or D
• At 400 units, System F has a lower total cost that Systems C or D (since their
indifference points with A are higher)
• F has a lower variable cost than C and D, so the total costs for F will grow slower
#- ( #, =6,777 (6:,777
• 𝑄!"(#" = = = 1,600
), ( )- 6:(67

System Fixed Cost ($) Variable Cost ($)

A 25,000 60
C 30,000 50
D 32,000 46
F 35,000 35
B 36,000 36
E 43,000 30
 Multiple Technologies Example 2: Solution

• The cheapest technology choices are:

• System A if 𝑄 ≤ 400
• System F if 400 < 𝑄 ≤ 1,600
• System E if 𝑄 > 1,600

System Fixed Cost ($) Variable Cost ($)

A 25,000 60
C 30,000 50
D 32,000 46
F 35,000 35
B 36,000 36
E 43,000 30
Multiple Technologies Example 2: Solution

B
F
A C D
E