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2010

Maybe I am just too cynical. It is likely that I am. However,  whenever I work with clients who are implementing (or thinking about  implementing) ERP software that includes a manufacturing suite and  further,  when this client is implementing the manufacturing suite  because they "need to get a better handle on manufacturing costs," I  warn them: "The problems with implementing software that helps you  calculate your cost of manufacturing are two-fold: first, the system  will produce a lot of numbers and reports for you and, second, you  will believe the reports!"

 

"So, why is this a problem?"  I hear you ask.

 

In order to answer that question, let  me take you through the steps that a client is going to go through in  order to implement their new manufacturing suite before they are  going to start getting reports and numbers coming out of the  system.

 

In even a relatively simple manufacturing  suite, there are dozens of parameters involved. These parameters are  used in various places. However, for our purposes, we will just concern  ourselves with the few parameters that might be found on a typical  "routing" or "router" – the part of the data that tells the system what  steps must be executed – and in what sequence the steps must occur – in  the manufacture of any given item. Consider the following table:

 

Parameter

Purpose

Source and Comments

1

Move Hours

Used by APS  (advanced planning and scheduling) to calculate the time it will take to  move a unit of production (piece) between operations

Most  organizations have never tracked this, nor even given much consideration  to "move time" in their operations. Therefore, this is usually a very  round "guess-timate" provided to the new manufacturing suite from  "tribal knowledge."

2

Queue Hours

Used by APS to calculate the time a unit of  production will sit in its queue waiting for the pending operation to  actual work on this particular piece

Again, this is usually a very round  "guess-timate" provided to the manufacturing suite from "tribal  knowledge."

3

Set Up Hours

Used by APS for  scheduling purposes, but also used by manufacturing costing to calculate  the labor costs and fixed overhead that should be allocated to a  production run for the time spent setting up to run a particular  operation

The values provided to the new manufacturing suite for the time it takes to set up for a particular operation will probably be pretty  close, even if they do come from "tribal knowledge" with no formal  calculations underlying them. Likewise, the dollar-costs for the  variable labor will also probably be pretty close to the dollar-amounts  per set-up. The problem area is going to be fixed overhead  absorption rates. These are problem because the actual amount of  fixed overhead dollars that should be absorbed will be dependent upon  the number of set-ups that occur. If there are more actual set-ups than the number of set-ups used to make the calculations, fixed  overhead (and variable labor) will be over-absorbed, and if there  are fewer actual set-ups, fixed overhead (and variable labor)  will be under-absorbed. One thing of which you may be pretty  certain – the number will never be the right number. That is, the  actual number of set-ups and the actual duration of the  set-ups will virtually never coincide precisely with the  numbers used to set the parameters in the software.

4

Reset Hours

See Set Up Hours above

The problems with Reset Hours are  precisely the same as with Set Up Hours above.

5

Pieces per Reset

Used by APS and  manufacturing costing to determine how many "resets" were performed  during each reported production run

This is just one  more parameter that contributes to the calculation of manufacturing  costs. The relative accuracy of the calculated cost versus the true  cost will be entirely depend on the following factors:

  • Was the number of  "resets" actually performed exactly as estimated in the creation  of the routing?
  • Did the "resets" actually take the  precise number of hours allotted for each "reset"?

6

Scrap Pieces

Used by APS and manufacturing costing to  determine how many pieces had to be "processed" in order to produce the  number of usable pieces required

This  parameter also is based on averages. Therefore, if the actual scrap was different from the averages, incorrect costs will be assigned  to WIP and, ultimately, to finished goods. If methods are provided by  the manufacturing software to capture actual scrap by production  run then, most likely, the differences will show up in variances –  yet another confusing data point to unravel for decision-making.

7

Production Rates  (pieces/hour or hours/piece)

Used by APS for  scheduling purposes, but also used by manufacturing costing to calculate  how much labor and fixed overhead should be calculated into the  manufacturing cost of each operation

Even if the  averages used for this parameter are pretty accurate, they are just that  – averages. This means that, while they may be reasonably  accurate on average over a large sampling of data, the factor  will be actually wrong (inaccurate) for virtually every actual  production run (which will almost never hit precisely on the average used to set the parameter in the software).

8

Production Effective Rates  (percent of "standard" rates)

Companies frequently have "standard" rates per  manufacturing operation based on some (frequently unknown) factors.  However, they realize that in the process of actual manufacturing the operations generally do not hit this rate. As a result, they  may apply a "effective rate" factor to the "standard rate." This factor  is used by both APS and manufacturing costing.

Since this factor is taken into  account in the calculation of manufacturing costs, it is subject to the  same weaknesses previously listed for other parameters.

 

 

So, let me get this right…

All right. Let us start with this sampling of eight data points  in a typical routing for manufacturing. Remember, these eight data  points are repeated for each labor step in the routing. So, if a complex  item has, say, 30 labor steps, that means that these data points are  going to be used in 240 calculations associated with determining what  will appear on reports and may be affecting the value of  inventory, as well.

 

These eight data points – most of  which are "guess-timates" or averages to begin with, will next be  mathematically compounded against other data points related to:

 

  • Variable  labor absorption rates
  • Variable labor overhead absorption rates
  • Fixed overhead absorption rates

Since these absorption rates must be calculated based on  other "averages" or "guess-timates" as to production quantities per  period (e.g., month, quarter, year), we may safely assume that  these absorption rates themselves will never be correct. We may  say this in a mathematical sense that, in order to be mathematically  correct the actual production during the period must match  precisely the estimated production during upon which the  absorption rates were calculated for the whole organization.  Furthermore, the actual fixed overhead or variable labor expenses destined  for absorption must match precisely the estimated fixed overhead or  variable labor expenses used to calculate the absorption factors.  The statistical likelihood of this occurrence is so close to zero as to  be the statistical equivalent of zero. Therefore, we may properly say,  these calculations will never be "correct" in actuality.

 

Unfortunately,  having populated their new manufacturing suite with "averages" and  "guesses," when the official-looking reports come out the other end, far  too many executives and managers actually believe what the  reports say. Worse! They actually begin taking action on the results  presented by their costly manufacturing software as though the data  reported is "God's truth" in print.

 

A simpler solution

Before you invest from $100,000 to $1 million or more in the  purchase and implementation of a manufacturing suite of software, allow  me to suggest some calculations that you and your management team can do  simply in a spreadsheet (or on a napkin at lunch).

 

Try  this simple formula for any item in your system:

 

T = R – TVC

where T = Throughput,
R = Revenue, and
TVC = Truly Variable Cost

 

Now, for almost any  item in your manufacturing operations, you – or someone on you  management team – can come pretty close to calculating the Throughput  (T) value without getting up from the table. Many times this calculation  can be done with reasonable accuracy without ever going to your present  accounting system to get "costs."

 

Forget about all  those "allocations" and "absorptions" of fixed overhead! They don't  really happen and they can make you believe things that aren't true.  Your payroll and fixed overhead do not vary directly with each  unit of production – even though that's what most manufacturing software  wants to make you believe in their costing and variance reports.

 

The  previous formula is good for looking at a individual product or product  family, but how about looking at overall operations?

 

Here's  another simple formula to help you do that:

 

P = T – OE

where P =  Profit,
T = Throughput, and
OE = Operating Expenses

 

Operating Expenses  are, essentially, everything that you pay out that is not TVC.

 

We  will look into this further in another post.  Stay tuned.

 

©2010 Richard D. Cushing

Recently I stumbled across a whitepaper entitled Demand-Driven  Inventory Management Strategies: Challenges & Opportunities for  Distribution-Intensive Companies (Fraser and Brandel 2007) prepared  by Julie Fraser and William Brandel, principals at Industry Directions,  Inc. What I found amazing about this article is that it doesn't really  get to the point of "demand-driven inventory management strategies."  Instead the focus is on better systems, better data, better use of the  data, and better forecasts at the SKU level (rather than at the "product  family" or "product category" levels).

 

Now, maybe I'm  an idealist, but when I think of "demand-driven" inventory, I think of  an integrated supply chain that functions in such a way that when an  end-user takes a unit of product off the shelf at the retailer's store  (or whatever model is being used), that action triggers the production  of one unit at the manufacturer's plant with a minimum of mid-stream  manipulation.

 

 

 

See the accompanying  illustration, and let me describe for you my concept of a  demand-driven supply chain. We will start at the bottom of the  illustration – where the action begins – at the retail store. Ideally,  each retail store should stock just enough product to cover one day's  sales plus a "buffer" to allow for expected variability in demand.

 

At  the end of each business day, the retailers should transmit to their  associated distribution center (DC) the quantities sold of each SKU in  the supply chain depicted. It doesn't matter whether the DC is owned by  the retail chain or the distributor, the process would and should work  the same.

 

Next, depending upon the agreed replenishment  cycle (although daily is ideal), the DCs would prepare replenishment  orders to be shipped to the retail outlets. The goal would be to  replenish exactly the quantity that was reported as sold (plus or minus  any adjustments for seasonality, special promotions, etc.) at each  outlet. Meanwhile, the DCs will have reported to their supplying  warehouse how many units of each SKU that they have sold (again, plus or  minus any adjustments).

 

Each DC should stock only  enough of each SKU to cover the replenishment cycle from the domestic  warehouse plus a "buffer" to cover any variability in demand. On  its scheduled replenishment cycle – and, again, daily is ideal –  the domestic warehouse should ship out replenishment orders to the DCs.  In the meantime, if the replenishment cycle is longer than one day, the  domestic warehouse will have transmitted daily sales numbers back to the  off-shore warehouse, so that the consumer purchase made at the retail  outlet is transmitted all the way back to the manufacturer within one  business day.

 

Following the pattern we have discussed  already, the domestic warehouse should carry just enough of each SKU to  cover variability in demand and supply (lead-time). The size of the  "buffer" should include a calculated allowance for disruptions in the  supply chain where it is most vulnerable (e.g., overseas  transportation, or other). Naturally, since this represents aggregate  demand, estimates of demand will be more accurate at this level than  they will be at either the DCs or the retail outlets. As a result, the  domestic warehouse inventories will be larger, but not nearly as large  as if each lower level in the supply chain tried to estimate (read: forecast)  demand for periods into the future. This approach helps keep  inventories to a minimum and makes the whole supply chain more  responsive to changes in demand.

 

Likewise, the foreign  port warehouse should carry just enough stock of each SKU to cover  variability in demand from the warehouse(s) on the opposite shore plus  any variability in lead time from the manufacturing plant which, as we  shall see, should be near zero.

 

Since estimates of  demand variability will be most accurate at the level that demand  is most highly aggregated, the manufacturer is the most reasonable  place to keep the largest "buffer" of inventory for the SKUs in the  supply chain. The manufacturer should carry enough stock of each SKU to  cover production lead time variability. (Typically, this buffer length  should be only three times the actual production time for each  SKU. That is to say, if a day's aggregate supply of SKU #1001 can be  produced in a single day of production, then the buffer for SKU #1001  should initially be set for three days. Then production should be  scheduled in batches as small as is practical for the SKU.) Generally,  production should be scheduled at the manufacturing plant based on  producing the actual demand reported via the supply chain plus enough to fill any "holes" created in the buffer created by unusual  demand in a prior period.

 

Now, that's what I  call a "demand-driven" supply chain. It is do-able and it makes life  better for everyone. Here's why:

 

  • Lower inventories  everywhere
  • Reduced write-offs due to obsolescence
  • Lower inventory carrying costs all across the supply chain
  • Manufacturing is more responsive to changes in market demand – not  separated from real feedback by weeks or months
  • Fewer lost sales due to stock-out (And the value of lost sales are  almost always under-estimated in supply chain calculations simply  because they are done by "averages," but the items most likely to suffer  stock-outs are the most popular selling items, not average performers.)
  • Reduction or elimination of expediting costs across the whole supply  chain
  • Dramatic reduction in overstocks (and about 73% of companies report  overstocks simultaneously with expediting for items that are running  short), which leads to less price-cutting to liquidate unneeded  inventories

 

©2010 Richard D. Cushing

 

 

Works Cited

Fraser, Julie, and William Brandel. Demand-Driven Inventory  Management Strategies: Challenges & Opportunities for  Distribution-Intensive Companies. White paper, Boston, MA: Industry  Directions, 2007.

RDCushing

The New ERP - Part 37

Posted by RDCushing Mar 26, 2010

In an article posted on the Web in October 2009, Carol Francum  states, "A quick search of CIO magazine's website turns up more than 200  entries for the term 'Project Plan' and even more for 'Project Success'  and 'ERP Project.' Many of these articles point out that 'scope creep'  and the failure to assess customers' real requirements are the biggest  reasons projects fail. Other articles focused on selling users a  particular tool for project management. A recent blog asserts that ERP  project success may be defined as completion, regardless of the ROI or  performance improvements which may or may not have been achieved." [Emphasis  added.] (Francum 2009)

 

Apparently, from what Ms.  Francum reports later in the same article, there is not really much  agreement among traditional ERP – Everything Replacement Project project managers as to which factors are, in fact, "critical" to project  success:

 

  • Just over 1  in 5 traditional ERP project managers said that "accurate  requirements definition" was a primary success factor
  • About 1 in 6 each cited one of the following as  "critical" to traditional ERP project success –

    • Upfront project planning
    • Stakeholder commitment and alignment
    • Subject matter expert involvement
  • And, about 1 in 7 traditional ERP project managers  seemed to think that understanding and documenting the "as-is" versus  the "to-be" business processes was "critical" to success

What is it about "business requirements"?

Another author, Todd Boehm, tells us this about "requirements  gathering" in a traditional ERP – Everything Replacement Project:  "One of the most important steps of any software project, especially  the choice of an ERP system, is to gather requirements. You need to know  what is needed, what is wanted, and what you can do without…. The  definition of ERP is very loose, and could include modules that you  don't need, or not include modules that you will eventually want."  (Boehm 2010)

 

Now there's an encouraging word: If you  opt for traditional ERP, you might end up buying "modules that  you don't need" on the one hand; or the application may "not include  modules that you will eventually want." There are two problems with this  statement:

 

  1. Buying "modules" – or any  functionality – that your organization does not need to add or  change in order to increase Throughput, reduce Inventories  or the demand for new Investment, or cut or hold the line on  Operating Expenses while sustaining significant growth is pure waste.  It certainly should not be done because someone in the organization, no  matter how influential or how highly ranked, simply says they "want" or  "need" the additional functionality.

  2. This brings us to the other problem with the statement, and that is  the use of the word "want" with regard to the modules that may  potentially be missing in a traditional ERP offering. Decisions  intended to bring improvement – that is, decisions focused on helping a  for-profit organization make more money tomorrow than they are making  today – should not be predicated on "want." It makes no difference  the title of the one "wanting" the capabilities. If the capability  cannot pass must when scrutinized under the R.O.I. (return on  investment) challenge, it should not be purchased – now or ever.

The good news is that at least someone writing for Wikipedia seems to have gotten the basic concept right. Here's the definition of  "business requirements" from Wikipedia:

 

"Business requirements describe in  business terms what must be delivered or accomplished to provide value." (Wikipedia.org 2007)

 

I confess: I really like  this definition. It is too-the-point and leaves nothing essential out.

 

In  almost all of the literature surrounding traditional ERP –  Everything Replacement Projects the missing element is a strong  connection between the changes being effected through the deployment of  the new – and costly – technology and "what must be delivered or  accomplished to provide value." And this critical element for "business  success" – not to be confused with "project success" – is missing  despite the fact that traditional ERP consultants frequently make  a point about involving business owners and managers in the  "requirements gathering" process.

 

My strong sense, in  speaking with a large number of executives and managers over the last 25  years, is that they calculate ROI on traditional ERP something  along these lines:

 

"Our  business is presently growing at X% a year and we believe (or "think")  that if we replace our existing ERP system with a newer and fancier ERP system that we can make more money."

 

This  "make more money" part is usually predicated on more rumination about  "making more sales" or "reducing expenses" in some ethereal form. There  are almost never any hard facts or numbers put on paper as to the  expected results.

 

What "business requirements" should  look like

No.

What must be delivered or accomplished?

What is the expected business value to be delivered  as a result?

1

Implement a supply chain integration and  visibility solution directed at reducing stock-outs in among the top 20%  of SKUs (rated by Throughput) to fewer than 5 per month

Increase Throughput by 12.5% where 9.5% (over 9  months) of the increase comes from recapturing what would have been  "lost sales" and the remaining  3.0% (over 6 months) come from Sales  Management's commitment to regain customers previously lost due to what  customers deemed to be our lack of reliability as a supplier for these  SKUs

2

Implement a business intelligence (OLAP)  solution to provide the Sales and Marketing Departments with visibility  into sales data by customer, salesperson, sales manager, region, and  other demographics for the express purpose of establishing viable  "market segmentation" for use in the development of "irrefusable offers"  by market segment (to a single customer, if required)

Increase Throughput by  22% (over 12 months) in accordance with estimates and concepts outlined  by the Sales and Marketing Departments without increasing Operating  Expenses

3

Eliminate paper-based  picking, packing and shipping in the warehouse with the goal of being  able to accurately pick, pack and ship 16 average orders (~117 lines)  per hour in order to support increasing Throughput without increasing  Operating Expenses

Hold-the-line  on Operating Expenses while increasing the capacity of the warehouse  shipping function to an average of 16 orders per hour with greater than  99% accuracy

 

 

Please note that the  "business requirements" in the examples above contain all of the key  elements listed in the Wikipedia definition. Further, note that these  are all measurable. And because they are all measurable, it is not only  possible for the management team to determine whether the resulting IT  project was a "success" based on project-related measures such as  on-time, within the budget (for establishing budgets, see other posts in  this series), and of acceptable quality. The management team can also  measure whether the "improvement project" was a success from the  standpoint of having achieved its forecast business objectives.

 

There  is no way to write a comprehensive set of "business  requirements" that would be parallel to this in a traditional ERP –  Everything Replacement Project. The reason is simply that the traditional  ERP approach results in too large a project covering too  many changes within the organization. Some of the changes will,  undoubtedly, produce negative results if reduced to such  definable metrics.

 

Think about this next time you are  asked to write "business requirements" for someone's proposed IT  project. What will be your management team's measure of "success"?

 

Works  Cited

Boehm, Todd. Gathering ERP Requirements. January 01,  2010.  http://worldclasstech.wordpress.com/2010/01/01/gathering-erp-requirements/  (accessed January 02, 2010).

 

Francum, Carol. Revving  your engines: Tuning up your ERP project plan. October 26, 2009.  http://searchoracle.techtarget.com/news/1372186/Revving-your-engines-Tuning-up-your-ERP-project-plan  (accessed November 18, 2009).

 

Wikipedia.org. Requirement. October 2007. http://en.wikipedia.org/wiki/Requirement (accessed  January 07, 2010).

RDCushing

The New ERP - Part 36

Posted by RDCushing Mar 24, 2010

In December 2009, Eric Kimberling,  founder and president of Panorama Consulting Group (Denver, CO), offered  his "ERP Software Predictions for 2010". They are as follows (with my  comments added:

 

  1. Diligent  focus on ERP software benefits realization and ROI. Long gone are  the days of spending like it's 1999 and hoping for the best.   CIOs and  COOs will continue to face pressure to prove that every dime of  investment in ERP systems is justified and generates a solid return on  investment.  Look for more deliberate spending, more phased rollouts,  buying licenses only as they're needed, and hesitancy to invest in more  expensive advanced enterprise software modules.

    Isn't this what The New ERP – Extended Readiness for Profit is  all about? We have emphasized the ROI should be a deliberate  forethought for you and your management team over and over. We have  repeatedly pointed out that spending money on technology – or anything  else – based on some "hope" that your organization will improve is pure  folly. "Hope" is not a strategy; it's a small town in Pennsylvania, I  believe.

  2. SMBs to get back into the ERP software market. The bright  spot in any recovering economy is usually small business (SMBs).  As the  economy emerges from the recession, SMBs will look for small business  software to automate their operations and scale for growth.  In  addition, large software vendors such as SAP and Oracle will continue to  focus on the SMB market to reinvigorate their revenue growth in  software license sales. [Emphasis added.]

    "Growth" ought to be the focus of every business organization. This  is also the focus of The New ERP. While cost-cutting is the  knee-jerk reaction to trying economic times, there is a limit to the  gains that can be made through cost-cutting. I have frequently put this  challenge before individuals and groups of businesspeople and have yet  to receive a correct response: "Name for me one business enterprise that  has become a market leader where its primary business strategy was  'cost-cutting.'" Growth is the only strategy that has no limitations to  improvement.

  3. Increased adoption of Software as a Service (SaaS) at SMBs. While SMBs may lead the charge in their small business software  investments, it may be difficult for them to make the necessary  investments.  Given that tight credit markets will likely continue into  the new decade, many SMBs will look to SaaS ERP software to help them minimize  up front capital IT costs. [Emphasis added.]

    Here again we see that this approach falls directly in line with The  New ERP – Extended Readiness for Profit. Minimizing up-front capital  IT costs means nothing less that holding what we have called delta-I  (the change in Investment) as low as possible while driving to maximize delta-T (the change in Throughput). Once again, the strategy we  are suggesting is right on the money – literally.

  4. Lots of ERP SaaS talk, but not as much action at large  organizations. Larger companies, on the other hand, are likely to  consider SaaS options, but are much less likely than their SMB  counterparts to commit to these deployment models.  As software vendors  expand hybrid solutions combining the benefits of SaaS with the  flexibility of traditional ERP (e.g. Oracle's On Demand and SAP's  Business By Design offerings), larger organizations will continue opting  for non-SaaS options that more commonly reduce cost and risk while  maximizing business benefits in the long-term.  They will, however, be  more inclined to leverage SaaS for some niche functions, such as  Document Management Systems (DMS), Human Resource Management Software  (HRM/HCM), Product Lifecycle Management (PLM), and Customer Relationship  Management (CRM). [Emphasis added.]

    In this case, I think Mr. Kimberling misses the mark. While his  analysis is likely correct as to the reactions of "large organizations"  versus "SMB" firms to SaaS offerings, Kimberling is off-base when he  makes reference to "the flexibility of traditional ERP." In fact, if  "traditional ERP" has fallen into disfavor for any reason in the last  decade, it is the sheer weight of evidence that "traditional ERP" is far  too rigid that has led to it.

    On the other hand,
    The New ERP's approach to solution design and  decision-making is all about taking "traditional ERP," with its inherent rigidity, and finding economically sensible ways to extend its  capabilities at low-cost and without (or minimizing) changes  to source code.

  5. Increasing focus on organizational change management and ERP  benefits realization. As demonstrated by the exponential growth  in Panorama's organizational change management practice, companies  are directing much of their ERP software investments to areas that  ensure they implement effectively and get more out of their existing  enterprise investments.  The need to more effectively manage  organizational and business risk will likely result in a continuation of  this trend in 2010. [Emphasis added.]

    Bang! The New ERP hits the target again. Imagine the novel  idea that companies should "direct much of their… investments to areas  that ensure they implement effectively and get more out of their  existing enterprise investments." That sounds very much like what we  have been trying to hammer home with The New ERP – Extended  Readiness for Profit.

  6. With ERP software, it's still a buyers' market. Even in the  most optimistic scenario, overall 2010 enterprise software spending will  not return to pre-recession levels.  This means ERP software buyers  will remain in the driver's seat, which will be reflected in  aggressive software pricing and shared benefits implementation models,  such as that introduced by Epicor late this year. [Emphasis added.]

    Mr. Kimberling's statements here suggest – and rightly so – that, in  some prior years, the "ERP software buyers" were not "in the  driver's seat." If you have read the prior posts in The New ERP –  Extended Readiness for Profit, then you will understand when I ask  this question: "Why, for goodness sake, has the ERP software buyer not always held his ground and stood fast 'in the driver's seat'?" The New ERP is all about assuring that you and your management team are, and remain  firmly ensconced, in the driver's seat.

  7. Enterprise software risk management. As CIOs and executive  teams remain on the hot seat to prove the value of their investments,  risk management will be the name of the game.  Look for more ERP  implementations to leverage organizational change management and  independent oversight of software vendors to help mitigate business  risk. [Emphasis added.]

    A survey of the literature surrounding the ERP software industry  makes it all too plain that, heretofore, most CIOs and executive teams  were not held to metrics that would clearly "prove the value of their  investments." In fact, far too many CIOs today still make excuses  about how the "benefits" of investments in IT cannot be measured.

    However, as
    The New ERP boldly asserts, if the organization  cannot figure out how – and approximate how much – a  recommended change in information technologies will lead to increasing  Throughput, reducing Inventories or demand for new  Investment, and/or cutting or holding the line on Operating  Expenses, then maybe – just maybe – the IT change just  isn't worth making.

  8. ERP software vendor consolidation. Vendor competition was  fierce before the recession and is even more so now.  Dozens of smaller  vendors are starved for cash and unable to fuel R&D and other  product innovations without infusions of capital.  Add the fact that  larger vendors have cash and some have grown successfully via  acquisition to date (e.g. Oracle and Infor), and continued vendor  consolidation looks inevitable.

    In my opinion, vendor consolidation is neither good nor bad from the  perspective you and your management team. If you are applying the  concepts set forth in The New ERP – Extended Readiness for Profit you come out a winner no matter who supplies the desired technologies.

  9. Focus on integration rather than major ERP package enhancements. Given corporate aversion to risk, companies are going to be less  likely to bet on entirely new products or risky upgrades.  As a  result, vendors are more likely to invest in incremental product  enhancements and tighter integration between modules rather than  revolutionary changes to their software. [Emphasis added.]

    Once again The New ERP falls right in line with Mr.  Kimberling's analysis. Why should an organization undertake a "risky  upgrade" or "bet on entirely new [software] products" – traditional  ERP (Everything Replacement Project) – when following the guidelines  in The New ERP will bring them near-immediate benefits through increased  Throughput and/or reductions in Investment demands and  Operating Expenses?

  10. Niches, low-hanging fruit, and business value.
    Look for companies to be very deliberate about how they invest in  enterprise software, the risk they're willing to take, and how they  manage implementations.  If executives aren't convinced that their  enterprise software investments will deliver measurable business value,  they won't invest in it.  Areas that deliver immediate value are  priorities for the coming year." (Kimberling 2009) [Emphasis  added.]

    Now this one sounds so good, I almost could have written it myself!  What a strange thing it is that it took nearly 30 years from the coining  of the term "ERP" to reach the point where companies have become "very  deliberate about how they invest in enterprise software" and business  executives "won't invest" unless they're "convinced that their…  investments will deliver measurable business value." That is far  too much wasted time, energy and money.  Don't you think so, too?

Works Cited

Kimberling, Eric. Top Ten ERP Software Predictions for 2010. December 7, 2009.  http://panorama-consulting.com/top-ten-erp-software-predictions-for-2010/  (accessed December 21, 2009).

 

 

 

©2009, 2010 Richard D. Cushing

RDCushing

The New ERP - Part 35

Posted by RDCushing Mar 22, 2010

Death by data

Writing for the Aberdeen Group, Matthew Littlefield and Shah  Mehul suggest, "The only way for manufacturers to achieve world-class  performance [is] by providing greater visibility into what [has] long  been the black box of production. And the only way to do that [is] to  start collecting a lot more data on work in process (WIP)." (Littlefield  and Mehul 2009) This is an all-too-common misconception that originated  long before the inception of the computer, but has been dramatically  augmented and expanded since computing power was made available to the  business at low cost and on an unprecedented scale with the introduction  of the personal computer.

 

A never-articulated, but  oft-held, belief amongst business executives and managers is that more  data leads to better management. This thought has been  sometimes carried to the extreme in the minds of some executives – and  fully supported by their all-too-willing IT departments – to the point  that the concept may be formulated along the following lines:

 

  1. More  data will help me make better decisions
  2. Better decisions means that, as a manager, I will be more effective  and make fewer mistakes
  3. If I can know "everything" – have all the data – about my  operations, I can manage flawlessly

 

Even as I write this, I am certain that there are business  owners, executives and managers busily scouring the Web for new  "business intelligence" tools as the next real wave in ERP.

 

Nevertheless,  all the data can tell an executive is what has happened. Data,  by its very nature, is entirely historical. (Yes, there are  "forecasts," but forecasts – if they are known for anything – are best  known for being wrong. Not a reputation likely also sought by  executives and managers in pursuit of "flawless" management.

 

What  the historical data cannot tell the executive is, "What lever  should I push or pull to produce some particular outcome in the future –  an outcome that assures improvement and not just added cost,  expense or consumed capital?" Only a sound theoretical framework about how the executive's "system" – read: whole organization – works  (or fails to work) can aid him or her in finding "the right lever" and  applying the correct amount of force in the proper direction.

 

Employing  reams of data will not keep you and your management team from  spending precious time, energy and money optimizing the efficiency of  departmental silos while reducing the efficiency of the organization as a  whole. Investments in business intelligence in the absence of a sound theoretical  framework will not prevent you and your managers from  building work-arounds to keep work moving instead of solving problems  that repeatedly delay revenues or disrupt operations. In fact, data –  wrongly understood and improperly applied – may actually move your  management team to take actions that sacrifice quality and lead time in a  mistaken attempt to increase production or meet standard cost goals.

 

What's  wrong here?

As H. Thomas Johnson, professor of Business Administration at  Portland State University, puts it, "Causing [such] destructive  practices is the assumption that financial information not only defines  the purpose of the business, it also provides the primary means to  control the financial outcomes of a business…. A key reason [that]  American companies fail to emulate Toyota's long-term financial results  is their belief that managers can use financial targets as 'levers' to  control those results." (Johnson 2006)

 

Professor  Johnson's argument is precisely the reverse of that stated by  Littlefield and Mehul. Johnson argues that U.S. executives and managers  tend to believe that they can employ relatively linear and  one-dimensional data – the data they use to report on the financial  performance of operations – to "understand, explain, and control" the  results of those operations, "even though the results emerge from  nonlinear and multidimensional operations." Toyota's executives and  managers do not make this same mistake.

 

In fact, while  Littlefield and Mehul state that "world-class performance" can only be  achieved by companies developing systems to give them "greater  visibility into… the black box of production," Toyota has, in fact,  achieved "world-class performance" by virtually assuring that accounting  has no visibility into "the black box of production." In  Toyota's arrangement, corporate finance knows only two things about "the  black box of production": 1) what goes in, and 2) what comes out.  Everything else is invisible to "accounting." In fact, it may be because "Toyota makes virtually no use of management accounting targets (or  'levers') to control or motivate operations" that they have achieved  financial performance levels that are "unsurpassed in its industry."  (Johnson 2006)

 

Understanding your operations

Inside "the black box of production," Toyota's managers are  highly visual in their management style. They do not believe that  they "know" or "understand" what is happening on the shop floor simply  because they have worked in the plant ten years, or 20 years, or more.  They believe that to understand how to improve again and again, they  must thoroughly understand what is happening today – everyday.  Toyota managers employ genchi genbutsu ("going to the place") to  see first-hand where and why there is any delay or disruption in  production of quality products. These managers understand that the  sought-after financial "results ultimately emanate from, and are  explained by, complex processes and concrete relationships, not by  abstract quantitative relationships…." (Johnson 2006)

 

Whether  you and your management team choose to employ the Toyota method of genchi  genbutsu and asking "Why" five times to get to the root of what  needs to change, or if you choose to employ the Thinking  Processes (as we have discussed elsewhere on this site and in this  series on The New ERP – Extended Readiness for Profit), do not fall for the line that "more data will help you manage better." Avid IT  staffers aided by value-added resellers (who genuinely believe the  mantra to be true) are more than happy to have you spend your money on  systems to collect, organization and report on more and more data.  However, if you do not yet understand your "system" thoroughly –  if you have not yet developed a sound theoretical framework by which to manage your enterprise – most or all of what you spend to  obtain "more data" will be wasted.

 

©2009 Richard D. Cushing

Works Cited

Johnson, H. Thomas. Manage a Living System, Not a Ledger. December 2006.  http://www.sme.org/cgi-bin/find-articles.pl?&ME06ART83&ME&20061210&&SME&  (accessed November 18, 2009).

 

Littlefield, Matthew,  and Shah Mehul. Operational Excellence in the Process Industries:  Staying Profitable Through the Downturn. White paper, Boston, MN: Aberdeen Group, Inc., 2009.

RDCushing

The New ERP - Part 34

Posted by RDCushing Mar 20, 2010

What executives and managers need to know

It seems we must constantly return to fundamentals – to simplicity.  Meredith Levinson , writing for CIO magazine, points all too  clearly to the fact that executives and managers in far too many  business enterprises do not understand clearly the three  simple things necessary to improve an organization:

 

  1. What  needs to change
  2. What the change should look like
  3. How to effect the change

Levinson writes: "Part of the reason project managers don't know  projects are strategic is because the projects are chosen in many  organizations in an ad-hoc manner. Half of survey respondents said that  projects are selected in their organizations on the basis of a  stakeholder requiring it or some through some other informal process, or  they indicated that they didn't know how projects were chosen.

 

"Since  projects are often initiated through informal processes, organizations  shift project priorities in an equally informal manner. This severely  complicates project managers' work." (Levinson 2009)

 

It seems all too apparent from  Levinson's findings that organizations spend far more time and  energy trying to figure out how to assure that their selected projects  are "successful" – i.e., they are on-time, on-budget, and  delivered with some measure of quality – than they do deciding whether  the projects should be done at all. Worse! Shifting priorities  within the organization make even efforts on poorly selected projects  less likely to produce the desired results.

Only one reason to select an improvement project

For-profit organizations (i.e., business enterprises)  will find themselves in one of four classes based on two critical  criteria:

 

  • How effectively are they increasing  Throughput?
  • Are they significantly differentiated (in a positive way) from their  competitors?

The four classes become:

 

  1. Failing –  firms that are neither effective at increasing Throughput nor differentiated from their competitors
  2. Risking – firms that are differentiated from the  competition, but ineffective at increasing Throughput (sometimes,  "bleeding edge")
  3. Competing – firms that are effective at increasing  Throughput, but are not significantly differentiated from the  competition ("commodity" firms)
  4. Leading – firms that are both effective at increasing  Throughput and successful at differentiating themselves  from their competitors

 

 

Note:  For readers unfamiliar with the definition of Throughput or other terms  used in this section, see Part I in this series.

 

In  the New ERP – Extended Readiness for Profit, we advise that  executives and managers always seeking to maximize R.O.I. (return  on investment) according to the following formula:

 

ROI = (delta-T – delta-OE) /  delta-I

 

where T = Throughput,

OE =  Operating Expenses, and

I = Investment

 

For  executives and managers, the analysis becomes a simple matter of maximizing the change in T (delta-T), with the lowest possible change in OE  and I. Doing so assures that the planned action will  help the  organization achieve more of its goal of making more money – both  today and in the future.

 

Being rescued from  cost-world thinking

Executives and managers looking at this simple formula are  immediately rescued from cost-world thinking and are transported  into the realm of guiding their organization toward achieving the potential for which they are already paying. Guided by new understandings brought  to light through the application of the Thinking Processes executives  and managers in companies of all sizes are exposing heretofore  unrealized potential within their own organizations. As published in The  World of the Theory of Constraints, Vicky Mabin and Steven  Balderstone report the following astonishing results:

 

  • Lead  Times – 70% mean reduction in lead times
  • Cycle Times – 65% mean reduction in cycle times
  • Inventory Levels – 49% mean reduction in inventory
  • Due Date Performance – 44% improvement in on-time delivery
  • Combined Financial Variable – 63% improvement in combined  financial results
  • Revenue/Throughput – 73% mean increase

    (Mabin and Steven 1999)

Cost-world thinking causes management teams to shrink their organizations in an attempt to hold costs and expenses within  present revenues. Unfortunately, this leads to diminishing returns in  several ways. However, getting your management team to focus on  increasing Throughput and helping them achieve breakthrough thinking on  new ways to differentiate what you do, leading to increasing market  segmentation and penetration, can help your firm unlock more and more of  its potential for making money.

 

©2009 Richard D. Cushing

Works Cited

Levinson, Meridith. Business Strategy: The 'Best Determinant'  of Project Success. Nov 17, 2009.  http://www.cio.com/article/508018/Business_Strategy_The_Best_Determinant_of_Project_Success  (accessed Nov 17, 2009).

 

Mabin, Vicky, and Balderston  Steven. The World of the Theory of Constraints. Boca Raton, FL:  St. Lucie Press, 1999.

In a report entitled Retail Merchandising: Buckling Down in a Tough Economy, authors Paula Rosenbaum and Steve Rowen of Retail Systems Research (RSR) tell us that nearly half (47% on average, but 55% of performing laggards in the survey) of respondents to their survey said that their leading business challenge was “fractured [inventory] planning processes.”

 

Unfortunately, in the published report to which I have access, Rosenbaum and Rowen do not elaborate on just what the respondents consider to be a “fractured planning process,” although the accompanying prose tends to suggest that this description relates to business processes tied to inventory planning that are not unified or even in good end-to-end communications across the enterprise and beyond.

A common problem

While this survey deals with retailers and inventory specifically, it does highlight a problem in small-to-mid-sized businesses (SMBs) that I have observed for nearly 30 years: that is, the lack of “planning” at all. For sure, most SMBs do develop plans for special projects. If they are going to purchase new or upgraded technologies, build a new or extend existing facilities, open a new location, or add a new product line, then they do prepare and plan in a more or less formal way.

 

What executives and managers do not do on a regular basis is develop a plan for making more money – both now and in the future. Most executives tend to get their business rolling and then set the “cruise control.” Then, with the vehicle barreling down the road, they spend their time fighting fires and trying to keep up the organization’s momentum with little or no thought about how the terrain (read: business environment) has changed until something big hits (like a recession or big competitor appears on the horizon).

 

So, what keeps executives from “planning” more frequently and more effectively for business improvement?

 

My experience suggests the some blend of following key components comprise the answer:

  1. Many executives developed a business plan once, and now they have a business. It never occurred to them that planning for “improving” the business is required or would even help. Being entrepreneurs, they tend to manage by the seat of their pants and trust their “gut” for what will bring improvement.
  2. You can’t drain the swamp when you’re up to your neck in alligators. Many executives spend the bulk of their time being reactive, rather than proactive. There time is spent taking care of things that others don’t get done or fighting fires so people can return to doing what they need to do to keep the business running.
  3. Unless something big is happening, most executives don’t think time spent in “planning” – rather than “doing” – is a good investment.
  4. Far too many executives do not know of – or know how to apply – a good “tool” for effective planning. In the absence of a good tool, most executives feel that time spent in planning is not going to be effective anyway.
  5. Things are changing too fast. We just need to do the best we can to survive, right now. Of course, in good times, or when things were not “changing too fast,” these same executives used other excuses for not planning.

A POOGI: A Process Of On-Going Improvement

In times like these – challenging economic times – it is more important than ever for executives and managers in companies that hope to survive despite the economic upheaval to make a concerted effort at ongoing improvement. That is, to start a POOGI within their firm.

 

Why?

 

Because it is becoming increasingly difficult to compete for the consumers dollars.  If you are not improving your value proposition in a process of on-going improvement, then day-by-day your products and services are losing out. Dollars that used to come your way are now going to other businesses – and I don’t mean just businesses that you see as your competitors. I’m talking about dollars that consumers used to spend for your goods and services are now going, instead, to buy groceries, fuel, or pay off credit cards – anywhere but into your bank account. That’s why you need a plan to increase the value of your offerings in an on-going way.

How to begin

How should you begin a POOGI?

 

You should begin by figuring out your present situation. You need to unlock your organization’s “tribal knowledge” and understand your current reality. Naturally, the right tool for doing this is called the Current Reality Tree (CRT).

 

For more information on Current Reality Trees, including step-by-step information on how to begin constructing one, click here. If you would like to have help unlocking your firm’s “tribal knowledge” effectively and in constructing your CRT, then contact me directly.

Next steps

Once your CRT has given you and your management team a clearer view of what needs to change, the next step is to decide what should the change look like. In other words, if you and your team took steps to reduce or eliminate Un-Desirable Effects (UDEs – pronounced: YOU-dee-eez) revealed by your CRT, what would your organizational cause-and-effect flow look like? The Thinking Processes tool used to expose this future state is called the Future Reality Tree (FRT).

 

Other of the Thinking Processes may also be applied, including:

  • Evaporating Cloud
  • Prerequisite Tree
  • Negative Branch Reservations

 

However, for your “planning roadmap,” the tool that will you and your team move from where you are today (your CRT) to your planned future state (FRT), you will want to build a Transition Tree (TrT).

 

Again, if you’d like to have assistance in effectively applying the Thinking Processes and in creating a POOGI in your organization, then feel free to contact me directly. But, whatever you do, do not sit and do nothing and let the recession drive one more enterprise out of business.

 

©2010 Richard D. Cushing

Vivek Sehgal brings up an important point in the post Putting Your Money Where Your Mouth Is (3 March 2010) here at Supply Chain Expert Commnity. Even though, at GeeWhiz To R.O.I. I talk a lot about the the goal of business being to make more money, I generally add ...tomorrow than you are making today. Making more money "tomorrow," should not be predicated on actions that will diminish the long-term prospects for making more money. Nevertheless, a lot of companies -- especially publicly traded companies -- have a fixation on short-term profits that is damaging to the long-term health of the enterprise.

 

W. Edwards Deming diagnosed this issue early and brought it to our attention about 30 years ago. He called it "paper entrepreneurialism." The investing relationship of real entrepreneurs looks like this:

FIG Invest_Entrepreneurs.jpg

Entrepreneurs sitting in this relationship have a vested interest in the ability of the firm to produce profits over the long term. Such investor-entrepreneurs seldom intentionally make decisions to reap short-term profits at the expense of the long-term prospects for the business.

 

Speculative investors have a slightly different relationship with the firm(s) in which they take stock. That relationships looks like this:

FIG Invest_Investors.jpg

The most connected investors are those that hold a relationship similar to that of the real entrepreneurs. They invest in shares directly with the company (or at least have an more intimate relationships with the firm and knowledge of its management, even if they must make their stock acquisitions through a broker). However, most of the investors agreed to buy stock in the specific firms based on the advice of their broker. They may know little or nothing about the firm or the firm's management directly. They trust the advice of their broker.

 

The intervention of the broker/brokerage house makes buying and selling of stocks easier, and the brokers are typically incented to produce results (return on investment) for their customers (the shareholders) over both the short-term and long-term. The focus of the broker and the guidance given to the investors will vary based on personal preferences. Nevertheless, it is easy to see that the investors are abstracted from their investments by the borkers and management at the publicly held companies must satisfy the short-term expectations of the brokers or, in the interest of their customers, the brokers are likely to shift investment away from companies performing poorly in the short-term in favor of those with better short-term returns on investment.

 

Paper entrepreneurs are even further abstracted from their holdings as shown in the following diagram:

FIG Invest_PaperEntrepreneurs.jpg

With the introduction of mutual funds and government-incented retirement plans, more capital has moved into the markets, but at the price of having the investors abstracted from the companies in which their dollars are invested by three or four layers, which layers tend to be focused entirely on short-term performance and profitability. By a huge factor, a majority of the investors in today's capital markets do not even know the names of the companies in which they hold stock. How can they be anything but "paper entrepreneurs"?  They seek the highest return on their investments without any concern for the long-term viability of the companies providing the returns.

 

Consider that the mutual fund manager. He care not one whit for the companies in which the fund he manages invests beyond the companies' ability to provide solid growth for the mutual fund over the next reporting period. He will gladly shift millions from company A to company B at the hint that company B's short-term return will outstrip company A's performance.

 

Next in line come the brokers and the brokerage houses. They are willing to recommend mutual fund C over mutual fund D on the basis of their likelihood of producing short-term returns to the investors. The brokers and brokerage houses are incented to provide this kind of advice without consideration for the long-term survivability of the companies which their investments ultimately reside.

 

Then, of course, for the vast majority of investors, there are the corporate retirement and pension fund managers. They, too, have only one incentive: to see good performance in the funds they manage. They, like the investors themselves, quite often have no knowledge -- ultimately -- about the companies in which their investments ultimately are put to use.

 

All of this leads to the boards of directors in publicly-held companies providing incentives to their chief executives to provide short-term profitability so as to keep market capitalization up -- which is almost entirely based on stock prices. So, how do CEOs and CFOs react to all of this? They are willing to sacrifice the long-term prospects of their own organization for short-term performance during the particular CEO's or CFO's term in office -- and their successors will do the same.

 

This constitutes a grave danger to publicly-held companies in the U.S.  What is the answer?

One of the things I try to do in working with a new team of executives and managers is to get them to enlarge their view of their own organization – their own enterprise. I encourage them to think in terms of potential and not just the results they are beholding today.

 

 

 

Most managers and executives think in terms of "forecasts" versus "actuals." In their minds, they compare forecast sales with actual sales, and they compare forecast profits with actual profits. But what the enterprise is really giving up is not the difference between "forecast" and "actual." What the firm is actually giving up – what the enterprise is actually losing – is the difference between their actual profit and the full profit potential for the firm. These losses are irrecoverable – gone forever – as a lost opportunity.

 

Cost-world thinking

If you are like most folks in management, you've heard the oft-repeated mantra of the cost-world: "Every dollar of cost (or expense) that is cut falls directly to the bottom line." This makes sense because it is true.

 

Unfortunately, this concept is a very constrictive, and sometimes misleading, fact when taken by itself.

 

Three or four decades ago, it was possible for companies to actually "cut costs" in a way that made, in some cases, a real difference. New technologies – not necessarily computer-related – were making companies more efficient. Competition from abroad just beginning to emerge in a good many industries, and real waste had to be cut away to stay profitable as prices fell.

 

By the 1980s and into the 1990s, most U.S. companies had already completed (or were wrapping up) major cost-cutting efforts. By this time, executives and managers had trimmed a good deal of the true waste available in their systems. Attempts to reduce costs further frequently butt heads with the law of diminishing returns: the efforts to reduce costs further simply do not produce enough benefits on the bottom-line to make them economically sensible to undertake.

 

Cost-Cutting Period

Est. Cost to Implement

Savings

Change in Profit

Pre-1980 Cost-Cutting

$10,000

$80,000

15%

1980 - 1999 Cost-Cutting

$20,000

$25,000

4%

21st Century Cost-Cutting

$30,000

$10,000

2%

 

 

Actually, the real picture gets worse than this simple chart of diminishing returns.

 

 

 

Understanding protective capacity

Every business entity or other functional organization has two types of capacities: First, there is the organizations core capacity. This is the capacity the organization calls upon day-in and day-out to meet its normal workload. However, surrounding your enterprise's core capacity is another layer of capacity that is automatically generated. No deliberate act of management created this layer of capacity and its appearance varies dramatically from firm to firm. We refer to this capacity as protective capacity, and it is this capacity that is called upon whenever "Murphy" attacks and disrupts the organization's ability to meet its normal day-to-day demands. When protective capacity engages, it causes resources in the organization to work harder, faster, longer, more efficiently or in other ways to meet short-term requirements. It causes the organization the "sprint" to catch up at a pace that is unsustainable in the long-run.

 

Note: Some organization's have a third type of capacity: namely, excess capacity. We will address that capacity in a few moments.

 

 

During cost-cutting cycles, many management teams fail to recognize the presence of and need for the organization's protective capacity. When this happens, such firms run the risk of cutting away, not "fat," but protective capacity that is necessary to the maintenance of the organization in the long-term.

 

If protective capacity is, in fact, trimmed away during cost-cutting actions, the natural reaction of the organization is to shrink core capacity in order to rebuild the layer of protective capacity and thus protect itself against "Murphy." The resulting reductions in core capacity will have several ill effects on the enterprise:

 

  • A reduced capacity to recover from business disruptions
  • A reduced capacity to meet periods of unusually high demand
  • A reduced capacity to emerge rapidly or successfully from economic recessions
  • A reduced capacity to take advantage of unanticipated opportunities

Understanding excess capacity

During cost-cutting cycles, what executives and managers are frequently looking to efface from the organization is what might be deemed "excess capacity." But, if management will stop to consider, what might be classified as "excess capacity," is really the capacity in your organization that is unconstrained and which your management team has not yet exploited in the production of Throughput and profit. It is precisely that capacity that your enterprise has been paying for all along but failing to reap the benefits of leveraging it toward reaching the firm's full potential.

 

Cutting is always easier than thinking, but thinking is generally the more profitable.

 

Consider how Federal Express got its name. As I understand it, Frederick Smith, founder of FedEx had developed the concepts behind such an overnight courier service in college. When he got ready to put his ideas into action, he bought or leased some airplanes and hired some pilots, on the one hand, while negotiating with the U.S. Federal Reserve system on a contract to courier money and documents between the banks of the Fed on an overnight basis. However, just he was about to put it all together, the Fed backed out of the deal. That left Smith a lot of excess capacity in the nature of airplanes and pilots. The name "FedEx" stuck, but Smith put the excess capacity to work in private commerce by developing offers that made economic sense to his customers while creating new Throughput.

 

Had Frederick Smith been a "cost-cutter" rather than a visionary and an entrepreneur, FedEx may have fallen by the wayside instead of becoming the firm it is today.

 

©2009 Richard D. Cushing

IDC author Michael Faucette published a report in December 2009 entitled "Modifying and Maintaining ERP Systems: The High Cost of Business Disruption". (Faucette 2009)

 

Interestingly, the "Five Key Drivers of System Change" at the more than 200 companies surveyed by IDC were these:

 

  1. Regulatory requirements
  2. Organizational change or restructuring
  3. Mergers and acquisitions
  4. Financial management-driven changes
  5. New or changed business processes

Now, while I suppose it could be argued that "new or changed business processes," "financial management-driven changes," or even "mergers and acquisitions" were actually the actions of these businesses to increase Throughput (T), reduce Inventories or demands for new Investment (I), or to cut or hold the line on Operating Expenses (OE) while sustaining significant growth, I find it quite amazing that the first and foremost response by the firms being interviewed was not: "We change out ERP system when we find it necessary to do so in order to achieve more of our goal, which is to make more money tomorrow than we are making today."

 

Meeting changing regulatory requirements

I am not disputing that some "regulatory changes" may force upon an enterprise the need to make changes to their ERP systems. This is an inevitable part of government interventions in our economy. Organizations should have the goal to accommodate these, of course, with a focus on the smallest possible values of DT and DOE, as they certainly will have a zero-value (or even a negative value) for DT. These should be evaluated using the same basic formula that we have previously introduced:

 

 

 

In the case of changes for regulatory purposes, your ROI will almost always be negative. Therefore, the goal would be to keep that negative as small as possible, thus producing the smallest possible negative impact on the bottom-line.

 

For all other changes

For changes driven by any of the other four reasons listed above, precisely the same formula for ROI should be applied, with the goal of maximizing the value of ROI. After all, consider the following:

 

  • Reorganization or restructuring that produces a negative ROI should simply not be done
  • Mergers and acquisitions that produce a negative ROI should simply not be done
  • Financial management-driven changes that produce a negative ROI should never have been considered by "financial management" in the first place
  • New or changed business practices that result in a negative ROI should simply not be undertaken

While these simple rules are nothing more than common sense, it is amazing to me how many organizations undertake reorganization, mergers, acquisitions, or business practice changes without ever considering the impact on T, I, or OE. To do so is not "management," at all. It is simply "acting" without consideration of the basic goals of the organization. It is action in the absence of a theoretical framework by which to understand how "the system" – the enterprise – really works in achieving the goal of making more money.

 

Failure to manage the enterprise as "a system"

Faucette's IDC report goes on to list nine categories of disruption costs associated with actions taken based on the "drivers" listed above. Here are the nine categories:

 

  1. Decreased operational efficiency (increased OE)
  2. Decreased decision-making efficiency (lost T? increased I?)
  3. Delayed cost-reduction plans (increased TVC – Truly Variable Costs; reduced T)
  4. Reduced levels of customer satisfaction (reduced T)
  5. Delayed product launch or increased product time-to-market (reduced T; increased OE?)
  6. Lost market share (reduced T; increased OE)
  7. Payment of fines for non-compliance (increased OE)
  8. Missed opportunities for or delayed acquisitions (reduced T)
  9. Decline in stock price (reduced NPV)

Note: If you are not familiar with any of these terms, go back to Parts 1 and 2 in this series and get your bearings.

 

Executives and managers are not stupid. However, if they fail to manage the entire enterprise as "a system" and, instead, take their various management actions (see "drivers" above) with the goal of optimizing departmental silos, the list above (and worse) are the results they are likely to see. In the absence of a clear "system view" of the enterprise, actions taken for "improvement" may actually lead to achieving less of your goal or achieve your goals only after much painstaking recovery.

 

I cannot emphasize strongly enough how applying this simple formula to any planned "change" in the enterprise can help executives and managers stop making decisions that do not consider the business as an integral system.

 

 

 

This simple formula enforces a "system view." Essentially, this formula asks executives and managers to consider three factors: If we make the change under consideration…

 

  • How much will Throughput change (+/-)
  • How much will Operating Expenses change (+/-)
  • How much will Investment/Inventory change (+/-)

Almost any rational ballpark estimates of changes in T, OE, and I are better than forging ahead with changes without giving due consideration to the effects of the impending changes on the enterprise's movement toward the goal of making more money.

 

Let us now take a brief look at how much money was given up by the 214 enterprises in the IDC survey as changes to their ERP systems were undertaken based on the "drivers" listed earlier. Here is the summary:

 

Reason for Losses

Percent of Respondents

Losses per Respondent

1.  Financial management-driven changes

51.4%

From $12 to $296 million

2.  Delays in product launches

72.2%

From $10 to $255 million

3.  Delayed cost-reduction plans

76.2%

From $10 to $255 million

 

 

 

Restoring focus

These shocking losses are, to a great degree, attributable to – and testimony of – the unfortunate rigidity to be found in most ERP software today. This rigidity clearly exists – and may cost your company millions of dollars – despite the vendors' and VARs' near constant sales chatter about "flexibility" and "agility" to meet "your company's growing needs" or "changing requirements."

 

Nevertheless, as W. Edwards Deming put it so succinctly, "It is management's job to know." It is management's job to know what will make a business improve – and what will not. Certainly for improvement to occur, some change must be implemented. But it does not follow that all change will bring about improvement, even if it is management's good intention that improvement be derived from the change.

 

In the system view, "the system" must have a singular goal. In for-profit organizations, that singular goal is generally to make more money tomorrow than it is making today. The goal is not to make people's jobs easier, faster or more efficient department by department. The goal is to make more money. With that goal in mind, management can go back to restoring focus by employing the Theory of Constraints focusing steps.

 

When applying these focusing steps, your organization's executives and managers must see the system – the entire organization – as a chain of interrelated functions and not as departmental silos. Once your management team understand the concept of the chain, they can begin to see that the only change that makes sense today is the change that will strengthen the weakest link in the chain. Spending precious resources of time, energy or money on any other factor will not produced improvement for the system. The "weakest link" is the system's constraint to achieving more of its goal.

 

So, as in the accompanying illustration, here are the Five Focusing Steps:

 

  1. Identify the weakest link – the system's constraint
  2. Decide how to exploit the system's constraint – to strengthen the weakest link in the chain
  3. Subordinate all other decisions to the constraint and your methods to exploit it
  4. Elevate the system's constraint
  5. Check to see if your system's constraint has changed, then go back to Step 1 and do not let inertia set in (that is POOGI – a process of ongoing improvement)

 

Contact Me!

 

(c)2009, 2010 Richard D. Cushing

 

Works Cited

Faucette, Michael. Modifying and Maintaining ERP Systems: The High Cost of Business Disruption. White paper, Framingham, MA: IDC, 2009.

Cost-world thinking

It is clear that in the traditional ERP – Everything Replacement Project world virtually everyone is deeply mired in cost-world thinking. Lip-service is paid to terms like "investment" and "return on investment," but is all too evident that executives and managers consider information technologies (IT) an "expense" or a "cost" and, sadly, not an investment. What is worse, however, is that technology vendors and value-added resellers (VARs) have willingly opted into this same cost-world thinking.

 

Vendors and VARs would simply love to talk to their prospects and clients about ROI (return on investment). However, even if they tried in the recesses of the dark past, they soon gave up, and the reason they gave up is because their prospects simply never believed the ROI numbers that these vendors and VARs presented.

 

Why didn't these executives and managers believe the ROI numbers provided by the VARs?

 

The answer is simple and complex at the same time.

 

It's the sales guy

I think, clearly, the first reason that VAR-developed ROI calculations are generally not believed is simply because they come from "the sales guy." Every executive and manager in the prospect's office knows that "the sales guy" is here to sell us something. What that implies is that the prospect clearly believes that the VAR – and "the sales guy" – is in their office for one, and only one, reason: to line their own pockets with cash taken directly from the prospect company's bank accounts. The prospect company's management team is likely to conclude that the calculations provided by the VAR's "sales guy" – usually predicated on averages and formulas – have little bearing on reality in their own company.

 

This is compounded by the fact that, up to this point in the relationship between the VAR and the prospect, nothing of substance has really been discussed about specific changes in the prospect's operations – supported by the new technologies – that would induce the prospect to believe that the calculations done by the VAR constitute anything more than a "guess" for their specific situation.

 

It is nothing more than "mystical mojo" to suggest to a management team that the following transaction will lead to ROI for the buyer:

 

  1. Buyer gives Seller $250,000
  2. Seller provides and implements new technologies
  3. Buyer gives Seller an extra $75,000 for budget overruns
  4. Buyer "mystically" improves and makes more money because they have new technologies

This is nothing less than a witch-doctor approach – in the absence of solid discussions about

 

  • What need to  change to make the company more profitable
  • What should the change look like in order to make the company more profitable
  • How can we effect the proper change in the company in order to make the company more profitable

Up to this point, the VAR has delivered nothing more than promises to the management team in the prospective company. The prospect has no reason – literally – to believe that the VAR can deliver anything of value, and the horror stories abound of traditional ERP failures and cost-overruns. On what rational basis should the executives at the prospect company believe the ROI calculations provided by "the sales guy"?

 

Too many ROI discussions are disingenuous

Since (like good old Ivory soap) VARs are 99.44% purely mired in cost-world thinking – just like their counterparts on the management team at the typical prospect firm – when they talk about ROI they are almost always talking about "cost savings." However, at the root of it, these discussions are disingenuous.

 

Sad, but true, usually neither the VAR nor the prospect's executives will bring up the fact that calculated "cost-savings" based on reducing labor are almost entirely fictitious in the absence of the VARs ability to convince the prospect firm that they will also see substantial growth in Throughput as a result of the new technology deployment. It is relatively easy to throw that labor "savings" number into the calculations, but very, very few firms are actually going to lay people off or reduce their working hours following a traditional ERP – Everything Replacement Project deployment. Therefore, in the absence of significant and sustainable growth in Throughput, wherein additional personnel need not be hired, there are no real "cost savings" to the organization from the "labor" portion of the VAR's ROI estimates.

 

"The sales guys" frequently ignore this fact in their discussions with the prospect's team – because they do not have an answer for increasing Throughput. Meanwhile, some or all on the prospect's management team know and understand the fiction underlying the VAR's ROI calculations and, because of this recognized but unacknowledged fiction in the numbers, they are wary about accepting any portion of the VAR's ROI numbers.

 

Even if the ROI estimates are correct…

There is another major factor that plays into the executives and managers of prospective buyers of traditional ERP failing to place much value on VAR-provided ROI estimates. That is simply the lousy (I would like to use another word here, but this is probably the most appropriate word without collapsing into vulgarity) performance of traditional ERP in terms of actually delivering promised business benefits. Consider the following. Despite spending an average of $2.6 million (Microsoft) to $16.8 million (SAP) and taking about 18 months to implement (average), traditional ERP projects:

 

  • Take longer than expected to implement 93% of the time – thus delaying business benefits and reducing ROI
  • Exceed original budget expectations 59% of the time – thus reducing ROI
  • Only about 21% of traditional ERP efforts effectively realize at least 50% of the anticipated business benefits – thus dramatically reducing the likelihood of achieving any ROI at all
  • The average achievement of business value for traditional ERP deployments is only 68.6% –thus, ROI, if any, should be estimated using about two-thirds of earlier calculations

Is it any wonder that most prospects for traditional ERP – Everything Replacement Projects are a bit jaundiced about ROI figures coming from the vendor or VAR?

 

There is an answer. Stay tuned.

 

©2009 Richard D. Cushing