90128670 Theory of Constraints

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Dr. Suhas Rane ranesuhas@hotmail.com

Acknowledgment : www.toc.com

www.rogo.comwww.goldratt.com

“ The Goal ”

by Eliyahu Goldratt

DEFINITIONS

A management approach that focuses on -identifying and relaxing the constraint(s)

that limit an organization's ability to reach a higher level of goal attainment.

Eli Goldratt defines a Constraint as : 'Anything that limits a system

from achieving higher performance verses its goal.'

ToC IDEOLOGY

SIGNIFICANCE OF BOTTLENECKS

1. Maximum speed of the process is –

the speed of the slowest process

2. Any improvements will be wasted –

unless the bottleneck is relieved

3. Bottlenecks must be identified and improved –

if the process is to be improved

ToC IDEOLOGY

Purpose is to identify bottlenecks or other constraints and exploit them to the extent possible

1. Identification of constraints allows management to take action to alleviate the constraint in the future

2. Reduce cycle time

3. Time from receipt of customer order to shipment

4. Improve manufacturing cycle efficiency (MCE)

ToC IDEOLOGY

Assumes current constraints cannot be changed in the short-run

1. What should be produced now, with current resources, to maximize profits?

2. Question cannot be answered by traditional accounting methods

ToC IDEOLOGY

Management tool, not an Accounting tool

1. Not used to determine inventory values

2. Not used to allocate overhead to inventory

3. Does indicate how to use available resources most effectively

SCHEDULILNG WITH ToC

•Drum – buffer – rope

Drum Buffer Rope

Buffer management

Feed forwardFeed back

FIVE STEPS

Step 1: Identify the system's constraint(s)

Step 2: Decide how to exploit the system’s constraint(s)

Step 3: Subordinate everything else to the above  decision

Step 4: Elevate the system’s constraint(s)

Step 5: If a constraint has been broken, go back to step 1, find the new constraint now. But do not allow inertia to become the system’s constraint

Step 1: Identify the system’s constraint(s).

What is the Goal? What is Throughput? What is Inventory? What is Operating Expense?

Step 2: Decide how to exploit the system’s constraint(s).

What is the constraint?

How do we get as much throughput as possible?

Step 3: Subordinate everything else to the decisions of Step 2

Throughput?

Inventory?

Operating Expense?

Step 4: Elevate the system’s constraint(s).

Throughput?

Inventory?

Operating Expense?

Step 5: If a constraint is broken in Step 4, go back to Step 1.

What might happen –

if the constraint is elevated?

DBR : Drum- Buffer – Rope concept

Theory of Constraints• Drum – Buffer – Rope Approach

y

Assembly

(Drum)Rope

Rope

Rope

Time buffer

Time buffer

Raw Material

C.C.R.

X

Telesis

Theory Of Constraints (TOC)

GOAL : To make money

- now, as well as in future

i.e. we can describe a company as

“a money-making machine”

Telesis

Imagine you enter a shop which is selling

- “ Money - Making Machines ”

Questions that jump into your mind :

Q.1 :What’s the rate at which the m/c generates money?

Q.2 : What is the “cost” of the machine?

Q.3 : How much money is captured by the machine?

Q.4 : How much money do we spend to operate it?

Telesis

Q.1 : What is the rate at which the machine generates money?

THROUGHPUT : The rate at which the system generates money through sales

T = ∑ Qi (SP – VE)i per time unit from the system

i= products

Telesis

TOC

In Out

90 / day 100 / day 85 / day 105 / day

What will be the system’s output?

Telesis

• Bottleneck

- can be the max. utilized equipment

(may not necessarily be the slowest process)

- where max. inventory accumulates

- may be the most expensive resource,

hence not ample capacity created

- should preferably be at the beginning of the process flow (so as to decide flow rate)

Products Sale Price(Rs/unit)

(What priority ?)

A 1,000(4)

B 1,120(2)

C 950(5)

D 1,100(3)

E 1,250(1)

Telesis

Products SellingPrice

Rs/unit

VariableExpensesRs/unit

A 1,000(4)

820

B 1,120(2)

900

C 950(5)

750

D 1,100(3)

840

E 1,250(1)

1,000

Telesis

Products SellingPrice

Rs/unit

VariableExpensesRs/unit

CntrbtnMarginRs/unit(What

priority ?)

A 1,000(4)

820 180(5)

B 1,120(2)

900 220(3)

C 950(5)

750 200(4)

D 1,100(3)

840 260(1)

E 1,250(1)

1,000 250(2)

Telesis

Products SellingPrice

Rs/unit

VariableExpensesRs/unit

CntrbtnMarginRs/unit

Production

Rateunits/day

A 1,000(4)

820 180(5)

210

B 1,120(2)

900 220(3)

170

C 950(5)

750 200(4)

200

D 1,100(3)

840 260(1)

150

E 1,250(1)

1,000 250(2)

140

Telesis

Products SellingPrice

Rs/unit

VariableExpensesRs/unit

Cntrbtn MarginRs/unit

Production

Rateunits/day

Th’put

Rs/day

A 1,000(4)

820 180(5)

210 37,800

(3)

B 1,120(2)

900 220(3)

170 37,400

(4)

C 950(5)

750 200(4)

200 40,000

(1)

D 1,100(3)

840 260(1)

150 39,000

(2)

E 1,250(1)

1,000 250(2)

140 35,000

(5)

Telesis

Q.2 : What is the “cost” of the machine?

Q.3 : How much money is captured by the m/c ?

INVENTORY : All the money the system invests in

purchasing things the system intends to sell

I = Fixed Assets + Inventory

Telesis

Q.4 :How much money do we spend to operate it?

OPERATING EXPENSES : All the money the system spends in turning inventory into throughput

OE = All expenses which are not identifiable as

variable expenses for any product

Telesis

The GOAL of the firm is –

to increase THROUGHPUT (T)

while simultaneously

reducing INVENTORY (I) and

reducing OP. EXP. (OE)

ROI = Profit / Investment

Throughput – Operating Exp.

ROI = -------------------------------------------

Inventory (i.e. Investment)

Telesis

∑ Q i ( SP – VE ) I - OE

ROI = ----------------------------------F. Assets + Inventory

Telesis

TOC

∑ Q i ( SP – VE ) i - OE

ROI = -----------------------------------

F. Assets + Inventory

Telesis

• Throughput : dependent on –

- Production rate at the bottleneck

- Set-up (Change-over) time at the bottleneck

- Transport time within the unit

- Rework at the bottleneck

- Rejection at /after the bottleneck/in the system

- Downtime at the bottleneck

Telesis

Throughput (SP – VE)

Selling Price : dependent on

- Market - Lead time to customers- Utilization of resources- Cycle time - Excess produced - Produced late - Seconds / Quality downgrade (COPQ ?)

Variable Expenses : dependent on - Cost of raw materials - Cost of packing mat. - Rework - Manufacturability (designed quality) - Freight - Commission to sales agent

Telesis

Cycle

Tim

e

Time to produce

• Mostly all efforts are made to reduce “time to produce”; whereas the customers suffer due to “cycle time” • Cycle time” is a function of WIP

Telesis

Operating Expenses

Dependent on

- Depreciation

- Interest on long-term loans

- Interest on working capital

- Utilities

- Salaries (ctc)

- Wages (ctc)

- Insurance, etc.

Telesis

0

10

20

30

40

50

60

0 0.1 0.2 0.3 0.4 0.5 0.6 0.7

p

Mea

n C

ycle

Tim

e

ToC Application in Manufacturing

$90/U 100 U/Wk

P

$100/U 50 U/Wk

Q

D 10 min./U

D 5 min./U

C 10 min./U

C 5 min./U

B 15 min./U

A 15 min./U

B 15 min./U

A 10 min./U

RM1 $20/U

RM2 $20/U

RM3 $20/U

Purchase Part $5/U

A,B,C,D: 1 each Available Time: 2400 Min/Wk OE not including RM: $6000 per wk

Step 1: Identify the system’s constraint(s).

$90/U 100 U/Wk

P

$100/U 50 U/Wk

Q

D 10 min./U

D 5 min./U

C 10 min./U

C 5 min./U

B 15 min./U

A 15 min./U

B 15 min./U

A 10 min./U

RM1 $20/U

RM2 $20/U

RM3 $20/U

Purchase Part $5/U

A,B,C,D: 1 each Available Time: 2400 Min/Wk OE not including RM: $6000 per wk

What is the Goal?

What is Throughput?

What is Inventory?

What is Operating Expense?

Production P=100, Production Q=50

A: Load =2000, Capacity = 2400 Min.

B: Load =3000, Capacity = 2400 Min

C: Load =1750, Capacity = 2400 Min

D: Load =1250, Capacity = 2400 Min

What is the constraint?

Step 2: Decide how to exploit the system’s constraint(s).

$90/U 100 U/Wk

P

$100/U 50 U/Wk

Q

D 10 min./U

D 5 min./U

C 10 min./U

C 5 min./U

B 15 min./U

A 15 min./U

B 15 min./U

A 10 min./U

RM1 $20/U

RM2 $20/U

RM3 $20/U

Purchase Part $5/U

A,B,C,D: 1 each Available Time: 2400 Min/Wk OE not including RM: $6000 per wk

Exploiting the constraint

• Assume a single constraint is identified.• Rank the products in order of the ratio:

–Throughput dollars/ minute of constraint use.• Select the product mix so that the products with

greater ratios are produced in preference to

the products with smaller ratios.• What goal is this method trying to achieve?• How does this method achieve the goal?

What and how much to produce?

Products

SellingPrice

$ /unit

VariableExpens

es$ /unit

Cntrbtn

Margin$ /unit

Prodn.Time (min)

Th’put

$ / min

Qty to produc

eNos.

M/c B utilisat

ion

P 90 45 45 15 3 100 1500

Q 100 40 60 30 2 900/30 = 30

Bal Time

=900 What is the profit for this product mix?

Profit = TP – OE = (100 X 45) + (30 X 60) – 6000

= 4500 +1800 -6000 = $ 300

Constraint is M/c B with Capacity of 2400 min. and Load of 3000 min.Find now : Which product gives better Contribution / min. of B ? P gives $3 / min, whereas Q gives $ 2/ min.Hence produce MAXIMUM P. Use only the balance capacity to make Q

Subordinating Production

Production P=100, Production Q=30

A: Load =1800, Capacity = 2400 Minutes

B: Load =2400, Capacity = 2400 Minutes

C: Load =1650, Capacity = 2400 Minutes

D: Load =1150, Capacity = 2400 Minutes

What determines the load on the non-constraints?

Say we add another machine of type B.

Production P=100, Production Q=50

A: Load =2000, Capacity = 2400 Minutes

B: Load =3000, Capacity = 4800 Minutes

C: Load =1750, Capacity = 2400 Minutes

D: Load =1250, Capacity = 2400 Minutes

How much should we produce?

What is the new constraint?

How do we elevate the new constraint?

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Example 2 Product 1 Product 2

Demand per month 1,000 600 Price per unit 900$ 1,500$ Material cost per unit 400$ 800$

Test components 0.25 0.40Assemble components 1.00 1.50Install electronics 0.50 0.50Final inspection and test 1.25 1.00Package and ship 0.10 0.10

Identify the constraint

Product 1 Product 2 Total

Hours available

per monthSlack hours

Test components 250 240 490 640 150Assemble components 1000 900 1900 2240 340Install electronics 500 300 800 800 0Final inspection and test 1250 600 1850 1760 (90)Package and ship 100 60 160 160 0

Hours required per unit

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Steps in the TOC ProcessIdentify the best use of the constraint

Price per unit $900 $1,500Material cost per unit $400 $800Throughput per unit $500 $700Constaint time per unit 1.25 1.00Throughput per hour $400 $700

Identify the most profitable product mix

Total demand 1,000 600 Units produced in best mix 928 600 Unmet demand 72 -

Throughput generatedUnits produced 928 600 Throughput per unit 500$ 700$ Total throughput 464,000$ 420,000$ 884,000$

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Steps in the TOC Process

• Alleviate the constraint– Determine how to increase its capacity

• Repeat the process– Always a new constraint

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Evaluation of TOC

• Advantages– Improves capacity decisions in the short-run– Avoids build up of inventory– Aids in process understanding– Avoids local optimization– Improves communication between

departments

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Evaluation of TOC

• Disadvantages– Negative impact on non-constrained areas

• Diverts attention from other areas that may be the next constraint

• Temptation to reduce capacity

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Evaluation of TOC

• Ignores long-run considerations– Introduction of new products– Continuous improvement in non-

constrained areas• May lead organization away from

strategy• Not a substitute for other accounting

methods

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