5 · Operations and break-even decisions

IB Diploma Programme Business Management HL, Unit 5 Operations management (first assessment 2024). This topic covers sections 5.1 to 5.9: the role of operations, operations methods, lean production and quality (HL), location, break-even analysis, production planning (HL), crisis management (HL), research and development (HL) and management information systems (HL). The worked examples use the course's repair business, and the numbers fit Unit 3: each repair sells for 25 on average, uses 15 of parts and direct labour, and fixed costs are 12,500 a month.

In March 2011 a huge earthquake and tsunami hit north-east Japan. Many of Toyota's suppliers stopped work. Toyota was famous for holding very little stock, so within days some of its factories in Japan and abroad had no parts, and output stayed low for months. Toyota did not give up its low-stock system. Instead it built a database of every supplier behind its suppliers, so it could act faster next time. This topic is about how a business makes its products, and the choices behind that: how much stock to hold, where to produce, and how to plan for things going wrong.

Must-know for this topic:

Operations management 运营管理 is the part of a business that makes its goods or provides its services. It turns inputs 投入 (labour, materials, machines, money and information) into outputs 产出 that are worth more than the inputs. The extra value is value added 附加值.

Inputs are transformed into outputs worth more than the inputs: value added

Operations links to every other part of the business. Marketing says what customers want; finance pays for the machines; human resources finds the skilled staff. Operations must also be sustainable: a workshop that recycles oil and old tyres cuts its costs and its harm to the environment.

There are four main operations methods 生产方法:

Lean production 精益生产 means using fewer resources, cutting waste and making the business more efficient. Waste includes making too much, waiting, moving things around, holding too much stock, and faulty work. The main methods are:

• kaizen 持续改善: continuous improvement in many small steps. Every worker suggests better ways of doing the job.
• just-in-time 准时制 (JIT): parts arrive just when they are needed, so almost no stock is held.
• kanban 看板: a card or signal that tells the earlier stage to send more parts. When a box of brake pads is empty, its card goes back to the store and a new box comes.
• andon 安灯: a signal, often a light or a cord, that any worker can use to stop the line when there is a problem, so faults are fixed at once.

Cradle to cradle 从摇篮到摇篮 design plans products so that, at the end of their life, every part can be reused or recycled. Nothing becomes waste.

Quality 质量 means meeting customers' expectations. There are two approaches:

• Quality control 质量控制 checks the finished product and rejects faulty ones. It finds faults after they happen, so the work is wasted.
• Quality assurance 质量保证 builds quality into every stage, so faults do not happen in the first place. It is usually cheaper in the long run.

Ways to manage quality include quality circles 质量圈 (small groups of workers who meet to solve quality problems), benchmarking 标杆管理 (comparing your methods with the best firm in the industry and copying what works), and total quality management 全面质量管理 (TQM), where everyone in the business is responsible for quality, all the time. Businesses can also meet national and international quality standards. ISO 9001 is the best-known international standard for quality management; in China, many products need the CCC mark before they can be sold. Standards build trust with customers, but meeting them takes time and money.

Businesses choose a location by weighing:

• costs: land, rent, wages and transport;
• the labour available and its skills;
• nearness to customers (most important for services, such as repairs) and to suppliers (important for heavy materials);
• infrastructure: roads, ports, power and internet;
• government: taxes, grants, rules and political stability;
• culture and language, for a business moving abroad.

A business can also change who does the work and where.

Outsourcing and insourcing change who does the work; offshoring and reshoring change where

• Outsourcing 外包 (subcontracting) gives a task to another firm, such as the repair business paying a firm to run its booking app. It is often cheaper and uses the other firm's skills, but the business loses some control over quality.
• Offshoring 离岸外包 moves work to another country, for lower costs or to be near new markets.
• Insourcing 内包 brings an outsourced task back inside the business, usually for better control or quality.
• Reshoring 回流 brings work back to the home country, often after supply problems abroad.

Contribution 边际贡献 per unit is the price minus the variable cost per unit. It is the amount each sale adds towards paying the fixed costs.

Total contribution is contribution per unit × output. At 2,000 repairs a month it is $2{,}000 \times 10 = 20{,}000$. Profit is total contribution minus fixed costs: $20{,}000 - 12{,}500 = 7{,}500$ a month.

The break-even 盈亏平衡 output is where total revenue equals total cost, so there is no profit and no loss.

The margin of safety 安全边际 is how far sales can fall before the business makes a loss.

Break-even at 1,250 repairs a month; at 2,000 repairs the margin of safety is 750 repairs

A business can also work out the output or price it needs for a target profit 目标利润:

• target output $= \dfrac{\text{fixed costs} + \text{target profit}}{\text{contribution per unit}}$. For a profit of 15,000: $(12{,}500 + 15{,}000) \div 10 = 2{,}750$ repairs.
• target price $= \dfrac{\text{fixed costs} + \text{target profit}}{\text{output}} + \text{variable cost per unit}$. For a profit of 10,000 at 2,000 repairs: $(12{,}500 + 10{,}000) \div 2{,}000 + 15 = 26.25$.

Worked example: a change in price and cost. The business raises its price to 27, so contribution rises to 12. In the same month the rent rises by 3,000, so fixed costs become 15,500. The new break-even output is $15{,}500 \div 12 = 1{,}291.7$, which rounds up to 1,292 repairs. If sales stay at 2,000, profit rises to $2{,}000 \times 12 - 15{,}500 = 8{,}500$, but the margin of safety falls from 750 to 708. If the higher price drives some customers away, the business is closer to a loss than before.

Break-even analysis is quick and easy to show on a chart, and it helps when planning prices or a new product. But it assumes that every unit made is sold, that the price and the variable cost per unit stay the same at every output, and that fixed costs never change. In real life, buying in bulk lowers variable costs, a bigger output may need a new workshop, and sales forecasts can be wrong.

A supply chain 供应链 is every step from raw materials to the final customer. A local supply chain is short and easier to control; a global one is often cheaper but longer, so there is more that can go wrong.

Businesses choose between two ways of holding stock. With just-in-time (JIT), parts arrive only when needed; this saves storage costs and money tied up in stock, but one late delivery can stop work. With just-in-case 以防万一 (JIC), the business keeps a large buffer stock 缓冲库存 for emergencies; this protects production but costs more to store, and stock can go out of date.

Just-in-time holds almost no stock; just-in-case holds a buffer

A stock control chart 库存控制图 shows how stock falls as it is used and rises when a delivery arrives. The repair business uses 500 brake pads a week. A delivery takes 2 weeks to arrive (the lead time 交货期), and it keeps a buffer stock of 200.

• Reorder level 再订货点 = buffer stock + usage × lead time $= 200 + 500 \times 2 = 1{,}200$. When stock falls to 1,200, the business orders more.
• Reorder quantity 再订货量 = the amount ordered each time, here 2,000.
• Maximum stock = buffer stock + reorder quantity $= 2{,}200$.

The order is placed at 1,200 and arrives two weeks later, just as stock reaches the buffer of 200

Operations managers measure their work with these ratios:

Capacity utilisation 产能利用率 compares what the business makes with the most it could make. A low rate means machines and staff stand idle and fixed costs are spread over few units. A rate near 100% leaves no time for maintenance or for a sudden rush of orders.

The defect rate 缺陷率 shows quality: here 50 repairs a month have to be done again.

• Labour productivity 劳动生产率 = total output ÷ total hours worked. The mechanics work 4,000 hours a month, so $2{,}000 \div 4{,}000 = 0.5$ repairs per hour.
• Capital productivity 资本生产率 = total output ÷ capital input. With 20 car lifts, $2{,}000 \div 20 = 100$ repairs per lift a month.
• Productivity rate 生产率 = output ÷ input × 100, used to compare one period with another.

Worked example: make or buy? The business uses 6,000 brake pads a year. A supplier sells them for 9 each. The business could make its own with a machine that costs 20,000 a year to run, plus 5 per pad for materials.

• Cost to buy 购买成本 (CTB) = price × quantity $= 9 \times 6{,}000 = 54{,}000$.
• Cost to make 自制成本 (CTM) = fixed costs + variable cost per unit × quantity $= 20{,}000 + 5 \times 6{,}000 = 50{,}000$.

Making is 4,000 cheaper, but the business must also think about quality, the skills it would need, and whether 6,000 pads a year will stay the same.

Crisis management and contingency planning

A crisis 危机 is a sudden event that threatens the business: a fire, a data breach, a product that injures customers, or a supplier that closes. Crisis management 危机管理 is how the business responds while it is happening. Good crisis management needs:

• transparency 透明: telling the truth about what happened;
• communication 沟通: keeping staff, customers, the media and the government informed;
• speed 速度: acting quickly before rumours spread;
• control 控制: a clear leader and a clear plan.

A contingency plan 应急计划 is written before a crisis. It lists the risks, who does what, and the backup options, such as a second supplier or a second workshop. Contingency planning costs time and money, and the crisis may never come. But it lowers the damage and helps the business recover faster, and it reassures insurers, banks and customers.

Research and development

Research and development 研究与开发 (R&D) creates new products and new processes. It is expensive and slow, and many projects fail, but without it a business falls behind its rivals. There are four types of innovation 创新:

How much a business spends on R&D depends on how fast its industry changes (fast in phones, slow in furniture), on its culture (whether staff are encouraged to try new ideas and allowed to fail), and on ethics (such as testing on animals or collecting users' data).

Management information systems

A management information system 管理信息系统 (MIS) collects data and turns it into information that managers use to make decisions. Some key terms:

Data helps a business decide faster and better, but it raises ethical questions. Customers should know what data is collected and agree to it; the data must be kept safe; and close digital monitoring of workers can harm their motivation and privacy.

• The transformation process and value added; links between operations and the other functions; sustainability (5.1).
• Job, batch, mass and mass customisation, with an example and the advantages and disadvantages of each (5.2).
• HL: kaizen, JIT, kanban and andon; cradle to cradle; quality control against quality assurance; quality circles, benchmarking and TQM; ISO 9001 and national standards (5.3).
• Location factors; outsourcing, offshoring, insourcing and reshoring (5.4).
• Contribution 10, total contribution 20,000, break-even 1,250 repairs, margin of safety 750, target output 2,750 for a profit of 15,000, target price 26.25; the change to price 27 and rent +3,000 (break-even 1,292, margin 708); the limits of the model (5.5).
• HL: supply chains; JIT against JIC; reorder level 1,200, reorder quantity 2,000; capacity utilisation 80%; defect rate 2.5%; labour and capital productivity; CTB 54,000 against CTM 50,000 (5.6).
• HL: crisis management and contingency planning (5.7); R&D and the four types of innovation (5.8); the MIS terms and the ethics of data (5.9).

Paper 2 tests the calculations: write the formula, put in the numbers and give the answer with its unit, then say what it means for the business. Paper 1 asks about operations methods, quality and location in the case-study business. All numbers here are original.