engineering management note

7/28/2019 Engineering Management Note

1/77

MODULE 1

Overview of Relevant Concepts of Engineering Management:

Engineering Management is the process of designing, operating and continuously improving

man-machine work-system and its environment by integrating engineering and managementknowledge, techniques, and skills to achieve desired goals efficiently and effectively.

To understand its fundamentals as well as appreciate its role in the business world, we will first

review two related concepts from which the proper place and its origin of Engineering

Management be traced, these are:

Product/Service Development Process and

Work-systems

Product/Service Development Process: This involves the following stages: Market survey,

Product/Service design specification, Product/Service Design, Process Design, Operations

Design, Facilities Design (Plant location and Layout), Cost Estimation, Procurement and

Installation, Operations and Distribution/Shipment. It is as shown in figure 1 below.

Work-systems: Work-system refers to the combination ofhumans and machines as well as

their mutual relationships in the effort to use inputs resources to attain desirable outputs. The

main goal of management is to minimise undesirable output (waste) but maximise the desirable

outputs (in terms of quality and quantity) of a work-system. The basic work-system input

resources are: Manpower (people), Materials, information (knowledge, organised data), energy

Finance and Facilities. The outputs are goods (merchandise), services, organised knowledge,

infrastructures, minerals and farm produce. . A typical man-machine work-system is as depicted

in figure 2 below.

Management: It is a set of activities directed at a work-systems resources with the aim of

achieving its goals in most efficient and effective manner. The term activities refers to

planning, decision making, organising, leading and controlling while organisation resources

refers to people, facilities, materials, energy, information and finance.


2/77

Engineering: A system is set of components, and their interrelationships towards the

achievement of a set of goals or objectives. A system may be natural or man-made. An

engineering system is a man-made system which generates, transmits, stores and/or applies one

form of energy or the other for the sole benefit of mankind. An engineering system is usually

identified by the type of energy it deals with. Some of these are: Electrical system, Mechanical

system, Static system, man-machine work-system and Chemical system

Engineering Discipline: It is the application of the principles of the physical sciences,

mathematics and computing to analyse, design, synthesise, install and control Engineering

systems for the sole benefit of mankind. This provides the a basis for defining any engineering

discipline as one may simply replace the phrase Engineering system in the definition with the

specific system type.

(Activity1): Let every student attempt to define his/her engineering discipline.


3/77

Engineering Skills: The following are some Engineering skills: holistic view of problems

situations, pragmatic approach to problem definition, analytical know-how, synthesising skills,

modelling skills, creative thinking skills, technical measurement, systematic problem solving

approach and possession of large arsenal of problem solving tools and others.

Functions of Engineering Management: Some of these, which also include management

processes are: Research and development, innovation management, demand and technological

forecasting, inventory planning and control, production scheduling and control, equipment

selection and replacement, facilities maintenance, facilities maintenance scheduling, size and

location of work-systems, workforce requirement planning, quality management, plant layout,

supply chain management, industrial safety and health management portfolio selection and

management, methods and work measurement and large scale management

Engineering Management Tools/Strategies: the following are some of the operations

management tools: Forecasting models including technological forecasting, mathematical

programming, simulation models, technological replacement models, inference statistics, Critical

Path Method, Project Evaluation Review techniques, sequencing and scheduling algorithms and

heuristics, Network flow analysis, statistical quality control models, artificial intelligence

including experts systems, assorted computer software and multi-criteria optimisation. The list is

in no way exhaustive, indicating the importance of operations management.

The body of knowledge on the tools, principles and procedures necessary to successfully carry

out the aforementioned functions is the core information in the discipline known as Engineering

Management.

(Assignment: Read up the History of Engineering Management on page 20 through to 45in

Babcock and Morse (2007)).

Management Functions: The traditional management functions are planning, organising,staffing, leading and controlling. Planning refers to the process of selecting missions, objectives,

and the courses of actions to achieve them.


4/77


5/77

MODULE 2

Introduction

Management is like a centre for organizational decisions. In a day there may be a large

number of situations in which decisions must be made. Some of these may be very important to

the organization in the sense that the outcome may mean maximum progress, savings or profits

for a high quality decision. It may also mean enormous loss or even a shutdown for very poor

decision. In either case, board of directors will hold the top executive responsible. Hence, the top

executive ought to have some degree of confidence of a decision before accepting it.

Consequently, a quick way of assessing the quality of decision can be very useful.

Then, Managerial decision making is the process of making a conscious choice between

two or more rational alternatives in order to select the one that will produce the most desirable

consequences (benefits) relative to unwanted consequences (cost). If there is only one alternative

however, then there is nothing to decide. In decision making, it is of paramount importance to

develop and evaluate alternatives before selecting from amongst them the best alternative.

Decision making is an essential part of planning as you have to make decisions in the course of

planning.

Essence of Making Decisions

It is required in designing and staffing an organisation It is required in developing and methods of motivation subordinates It is required in identifying corrective actions in control process.

Occasions for Decision Making

Authoritative communications from superiors: being ordered/commanded.

Cases referred for decision by subordinates

Cases originating in the initiative of the executive concerned.

Decision Factors

There are quite a number of factors which may independently or jointly affect the quality

of decisions. These range from problem situation to the methods for selecting alternative coursesof action.

Problem Definition

A decision making situation arises because there is some problem to be solved. Thus,

decision making can be viewed as a problem solving process. A good understanding of the

problem followed by a clear definition by the decision maker is therefore a very important factor.


6/77

A problem which is poorly defined may be unsolved even if the best decision making techniques

are used.

Assignment: (Explain the Planning/Decision Making Process diagram given as figure 1 in this module).

Types of Decision Making

Depending on the extent to which they are structured, decision making can be

(i) Routine (ii) Non routine.

(i) Routine decisions focus on well-structured situation that: recur frequently, involve standard

decision procedures, and entail a minimum of uncertainty. Examples include payroll processing,

reordering standard inventory items, paying suppliers etc. It can be delegated to lower-levels

within established policy limits and programmed for computer-decision if structured simply

enough.

(ii) Non routine decisions, on the other hand deal with unstructured situations of a novel, non

recurring nature, often involving incomplete knowledge, high uncertainty and the use of

subjective judgement or even intuition, where no alternative can be proved to be the best

possible solution to the particular problem.

State of Nature

The quality of decision may also depend on the ability of the decision maker to identify

the conditions of the business environment when the decision is to be implemented. These

conditions are known as the state of nature.

State of Nature, as the name implies, is not usually controlled by the decision maker. It

will occur at the dictate of nature. Consider rainfall, for instance. If your sales (therefore

revenue) depends on peace time or war condition, rainfall or sunshine; a particular epidemic,

world oil sale, etc, there is little one can do to influence it.

Alternative Courses of Action or Strategies

The word decision implies choosing between a number of alternative courses of action or

strategies. In a given problem the number may be extremely large yet all have to be identified or

their experience recognized. Failure to do so one may not be able to select the best alternative

which reflects the highest quality of decision.

Knowledge of the State of Nature and Decision Situations

As discussed in the previous section it should be obvious that all the states of nature in a

decision situation may not be known. Because the quality of decision is seriously affected by the


7/77

extent to which state of nature is known decision situations are classified by the knowledge of

the state of nature. There are three main possible situations:

Decision Making Under Certainty

Decision Making Under Risk

Decision Making Under UncertaintyDecision Making Under Certainty

This decision situation arises when we know with certainty which state of nature will

occur at the time the decision will be implemented. Where this situation exists, the quality of

decision is likely to be better since it is better to deal with a known instead of an unknown

situation. An example of decision making under certainty is a production situation in which a

contract to buy a particular product has been signed and paid for; all materials and tools are

available. It is necessary to decide the best alternative of production which will maximize profit;

the delivery date is two years from today. Notice here that the exact quantity to be sold is known

come war or peace; rain or shine etc. One common technique for decision making under

certainty is the LINEAR PROGRAMMING. In the method, the desired benefit (profit) can be

expressed as a mathematical function (the value model or objective function of several variables.

The solution is the set of values for the independent variables that serve to maximize the benefit

(or, in many problems, to minimize the cost) subject to certain limits (constraints). (Reference to

your TIE 312: Operations Research and Example on Pgs. 77-78. Another technique for

decision making under certainty is the computer solution (simplex method on 1g. 79).Decision Making Under Risk

Suppose, in our example, no contract has been signed so that the exact number to be

purchased are not known. Since profitable process of production may depend on the volume to

be produced, forecasters may have to project possible conditions that will prevail in two years

time and then estimate possible quantities to be sold under the respective conditions.

If the chance of occurrence of each possible condition or state of nature can be estimated

in terms of numerical probability values, the situation is Decision making under Risk: the

probabilities have a value of risk associated with them.

For example, suppose the sale of this product depends on flood conditions in the year.

History of past floods in each year can then be analysed and then categorized into such

appropriate classes as No flood, Moderate Flood, or Heavy Flood. The chance or

probability of each of these states of nature occurring can then be estimated from the historical


8/77

data. For the purpose of illustration consider the following hypothetical example with the three

possible techniques of production:

State of nature and (chance of occurrence)

Alternative Methods ofProduction

No flood (.34) Moderate flood (.45) Heavy Flood (.21)

Technique 1Technique 2Technique 3

100,000140,000130,000

500,000450,000370,000

200,000120,000140,000

Figure 2: Pay-off Matrix

The table shown is known as pay-off matrix: the entries are the possible sales volume

which occur in each state of nature when a particular method of production is adopted.

When each of these values are known, decision making is fairly easier using the methods

of Risk analysis.

In Risk analysis the objective function is expected value of the pay-off or utility defined

as follows:

Expected value = (Profitability of x (Value of pay-off in

of pay-off the state of Nature that state of Nature)

For any alternative course of action.

Total expected = the sum of the expected values in all the states of nature

Value of pay-off

The decision criterion here is to maximize the total expected value of the pay-off.

Considering our example problem.

Total expected = (.34) (100,000) + (.45) (500,000) + (.21) (200,000)

Value of pay-off = 34,000 + 225,000 + 42,000

= 301,000 sales

Similarly,

Total expected value for Technique 2 = 275,300

Total expected value of Technique 3 = 240,700Since our criterion is to maximize, the decision here is to adopt technique 1 with the

maximum expected value of pay-off being 301,000 sales.

Decision Making Under Uncertainty

When the states of nature are unknown or the probability of occurrence cannot be

estimated, then the situation is known as Decision under Uncertainty. This appears rather a


9/77

difficult situation. Nevertheless, decision still has to be made. Indeed, this situation seems most

realistic for the top executive who has to make policy decisions or carry out strategic planning

for an unknown future. There are about five different rational approaches to decision making

under uncertainty:

1. The Subjectivist Approach

Here the probability of the state of nature occurring is estimated subjectively and then the

decision making carried out as in Decision making under Risk.

2.The Pessimist Approach

The pessimist reasons that if anything goes wrong, it is sure to happen to him. He does

not see himself as a lucky man; when he buys stock they go down in value; when he sells

they go up; when it rains, his umbrella is home and when he has it, it does not rain.

Consequently he loves to take decisions by selecting the action corresponding to the

maximum of the minimum pay-off value. Consider for instance, our example problem in

section with probabilities of the states of nature unknown

State of Nature

Alternative Actions No flood Moderate flood Heavy Flood Minimum Flood

Technique 1

Technique 2

Technique 3

100,000

140,000

130,000

500,000

450,000

370,000

200,000

120,000

140,000

100,000

120,000

130,000

Figure 3: Pay-off matrix with unknown probabilities

Since the maximum of the minimum occurs under technique 3, the best course of action for the

Pessimist Approach is technique 3 with pay-off value of 130,000.

The decision criterion here is known as MAXIMUM; i.e. take the maximum of the minimum

values.

3. The Optimist Approach

While the pessimist takes decisions in a manner that suggests for risk, the optimist is a risk lover.

The decision criterion for the optimist is to select the course of action with the best of the best.


10/77

This decision criterion is known as MAXIMAX. Thus, from our example problem the optimist

will select Technique 1 with the maximum pay-off of 500,000.

4. The Inbetweenist Approach

You observe that the pessimist is too cautious in the risky game of business. On the other hand

the optimist appears too audacious. Most people will like to be inbetween these two extremes.

By introducing a weighting index of the pessimist value of decision () a better balanced

decision can be made. Thus, for each course of action or strategy,

The weighted value = (worst of pay-off) +

Of pay-off (1 - ) (Best of pay-off)

Where lies between 0 and 1. The criterion is the maximization of the weighted pay-

off.

The determination of the value of depends on the inclination of the decision maker.

For those inclined towards the pessimist thinking are likely to take values of greater

than .5 while those the optimist inclination may choose values less than .5. For

illustration we assign .3 to . Using this value for each of the techniques in our

example

Weighted value of pay-off for technique 1 = (.3) (100,000) +(1 - .3) (500,000)

= 30,000 + 350,000

= 380,000

Weighted pay-off for technique 2 = .3 (120,000) + .7 (450,000)

= 36,000 + 315,000

= 351,000

Weighted pay-off for technique 3 = .3 (130,000) + .7 (370,000)

= 39,000 + 259,000

= 298,000

For the inbetween list decision making process, Technique 1 with the maximum value

of 380,000 will be selected.

5. The Regretist Approach


11/77

The regretist is often full of regret for the difference between the outcome that he realizes

and the maximum he could have realized for the particular state of nature which

prevailed. For instance, in our example, if the regretist selects Technique 1 and the state

of nature happens to be moderate Flood then the regretist will have no complain,

because the pay-off of 500,000 is the maximum possible for that state of nature.

However, should he select either Techniques 2 or 3 he will regret for failing to pick

Technique 1, the value of regret or loss being 50,000 or 130,000 (the difference between

the maximum in the prevailing state of nature and that of the action selected). The

decision criterion in the Regretist approach is to minimize maximum Regret of the

decision maker. It is known as the MINIMAX criterion. To take a decision based on the

MINIMAX criterion, the pay-off matrix is transformed as follows: Replace each entry

with the difference between the maximum value of its column and the original value of

the entry. Applying this rule to transform our pay-off matrix of figure 3 results in the

regret matrix of figure 4:

Alternative Actions No flood Moderate flood Heavy Flood Row Maxima

Technique 1

Technique 2

Technique 3

40,000

0

10,000

0

50,000

130,000

0

80,000

60,000

40,000

80,000

130,000

Figure 4: Regret Matrix

Since maximum regret is to be minimized here, the decision is to select technique with

the minimum value of 40,000 maximum regret.

Decision Making Under Conflict

There are decision situations in which the states of nature may be known but with either

an enemy or a competitor also interested in getting the same outcome. This decision situation is

known as decision making under conflict while the solution approach is known as Game theory.

The author simply wishes to call our attention to its existence; it will not be treated for time

limitation.


12/77

MODULE 3

PLANNING: CONCEPT, PROCESS, TOOLS AND APPLICATION TO

PRODUCTION AND PROJECTS

PreambleBefore starting any work, it is necessary to plan properly for best results. Similarly for

production, planning in advance is very necessary. Most organizations have their planning units

as a separate department and it is this department that decides about each element of the job inanticipation with reference to work to be done, where, how and when it shall be done.

Introduction

Of all the management functions, e.g. Planning, Organizing/Staffing, Leading, Controlling, etc.,

Planning have primacy over others and comes first as they have little purpose unless they arefocused on achieving desired objectives. Planning is important as it provides a method of

identifying objectives and designing a sequence of programs and activities to achieve these

objectives.

Definition: Planning has simply been defined as deciding in advance on what to do, how to do it,

when to do it and who is to do it. Obviously, it must precede doing.

Functions of Planning as a Department

(i) Investigation about the complete details and requirements of the product to bemanufactured.

(ii) Predetermination of future achievements.(iii) Planning the design of product to be manufactured.(iv) Planning about the quantity of materials to be consumed.(v) Planning about the standard of quality of products to be manufactured.(vi) Planning about the sequence of operations.(vii) Planning about the capacity of equipment.(viii) Planning about internal transportation.

Requirements of the Planning Department

(i) Detailed drawing of the components and their assembly.(ii) Complete and uptodate information about the equipments, their capacities,specifications, etc.

(iii) Complete information about the equipment, their capacities, specifications, etc.(iv) Complete information regarding standard time allowed to workers for the jobs being

manufactured.(v) Complete knowledge of market conditions.(vi) Type of workers employed and their salaries.


13/77

(The planning process is as discussed under Decision making).

Some Planning Concepts

1. Responsibility for Planning:It is an endless responsibility of every manager. As managers rise, they are bound to spend more

time in planning and further foresee into the future (by way of the forecasting tool). Planning

unit is usually an independent entity on its own in most large organizations. As a planning staff,one must be able to:

Coordinate the overall planning effort. Gather and analyse information on the economy, markets and competition. Perform other assigned tasks.

The ultimate planning responsibility must rest with top and middle management. However, the

planning process must be open to all managers, that resulting plans will lead to action, whichthey will all carry out enthusiastically to achieve a common purpose.

2. Planning Premises:

In order to have an effective planning, assumptions on which planning is to be based (premises)must be established. Hence, planning premises can be defined as the anticipated environment in

which plans are expected to operate. They include assumptions or forecasts of the future and

known conditions that will affect the operation of plans. Examples include: Assumptions aboutfuture economic condition, government decisions (regulation, tax, law and trade policy, for

example, the nature of competition, and future markets. It is essential to establish planning

premises about the future of technology and competition in managing technology. Where there

are uncertainties about critical premises, prudent managers develop contingency plans that can

be implemented if indicators show a change in the environmental conditions from those onwhich mainstream planning is based. Modest changes in current plans may be needed to add

flexibility so that a switch to a contingency plan can be quickly made if needed.

3. Planning Horizon:

This asks (determines) how far into the future one should plan and varies greatly,

depending upon the nature of the business and the plan. A commitment principle has beensummarized as follows:

Logical planning encompassed a future period of time necessary to fulfill, through a

series of actions, the commitments involved in decisions made today. High technology productsmay have short effective lives, and therefore short planning horizons. (Examples to this are givenon page 55 of Daniel & Lucy, Sixth edition). The planning horizon can vary from days to years,

depending on the level of the manager.

4. System of Plans:


14/77

Usually, a system of plans is involved. A plan of action can be divided into yearlyforecasts biannually, and so on. Complex programs will require a system of plans, eachdescribing a related activity. For example, a complex project might require most or all of theplans listed in the table below:

Table 1: A system of Plans for a Complex Project

Project statement of work Production plan

Work breakdown structure Tooling plan

Project schedule Make-or-buy plan

Specifications Facilities plan

Management plan Training plan

Configuration management plan Logistics support plan

Security plan Reliability planSystem test plan Transportation plan

A famous Engineering Manager, Henri Fayol in 1916 divided his Plan of Action in alarge mining and Metallurgical form into Yearly and Ten-yearly forecasts with the latterredone every 5 years. Current practice is not much different, involving strategic plans of 3 to 15

years futurity and operating plans, usually one year in duration (but sometimes as much as three

years in duration).

5. Policies and Procedures:

Policies are the guides for decision making that permit implementation of upper

management objectives, with room for interpretation and discretion by subordinates. Rules, incontrast, do not permit discretion: Policies have a hierarchy of levels, just as plans do (see Pg. 56

for example). To be effective, Policies:

(1) Should be clear, flexible and communicated throughout the organization.(2) Should involve participation in their development.

(3) Should be reviewed regularly.

A procedure, on the other hand, is a prescribed sequence of activities to accomplish a desired

purpose. Standard operating procedures are examples of procedures used at the operating(working) level.

Forecasting as a Planning Tool

A management Guru, Henri identified the first management function as prevoyance, aFrench word meaning, to foresee and prepare for action. Then, an essential preliminary to


15/77

effective planning is foreseeing or forecasting what the future will be like. For our purposes

therefore, forecasting can be defined as attempting to predict the future by using qualitative and

quantitative means. In an informal way, forecasting is an integral part of all human activity, butfrom the business point of view, increasing attention is being given to formal forecasting systems

which are continually being refined. The engineer manager must be concerned with both future

markets and future technology, and must therefore understand both Sales and Technologicalforecasting. The most important premise or assumption in planning and decision making is thelevel of future sales (or, for non profit activities of future operations). Attention should be drawn

to Pg. 57, paragraph 2, for instances where assumptions are being made with respect to the level

of future sales.

Application of Forecasting

Production planning

Demand forecasts

Inventory control

Advertising planning

Investment cash flows

Corporate planning

Cost projections

Budgeting

Classification of Forecasting Techniques1. Quantitative Techniques: These are techniques of varying levels of statistical

complexity which are based on analysing past data of the item to be forecast e.g. sales

figures, stores issues, costs incurred. However sophisticated the technique used, thereis the underlying assumption that past patterns will provide some guidance to the

future. Examples are seen in material usage, sales existing products, costs etc. Such

techniques include: Jury of executive opinion, sales force composite, usersexpectation, choice of method etc.

2. Qualitative technique: These are techniques used when data are scarce, e.g. the firstintroduction of a new product. The techniques use human judgement and experienceto turn qualitative information into quantitative estimates. Although qualitativetechniques are used for both short and long term purposes, their use become of

increasing importance as the time scale of the forecast lengthens. Even when past data

are available, so that standard quantitative techniques can be used, longer termforecasts require judgement, intuition, experience, flair etc. that is, qualitative factors

to make them more useful. As the timescale lengthens, past patterns become less and


16/77

less meaningful. Such techniques include Dephi Method, Market Research and

Historical Analogy. Others include: Time Series Analysis (TSA), e.g. simple moving

average and weighted moving average; Exponential Smoothing (ES); Regressionmodels, e.g. simple regression model and the multiple (polynomial) regression then

Technological Forecasting.

Quantitative Techniques(a) Jury of executive opinionIs the simplest of all whereby top executives, such as the vicepresidents of various divisions separately provide an educated guess (estimate) of future volume

so that the president provide a considered average of these estimates. The method is not onlyinexpensive and quick, but may be entirely acceptable if the future conforms to the executivesassumptions in estimating.

(b) Sales force composite In this method, sales are estimated territorially by sales forcemembers so that the Regional Sales managers adjust the estimates for their opinion of theoptimism or pessimism of individual sales people, and the general sales manager sieves thefigures to account for new products or factors of which individual salesmen are unaware.

(c) Users expectationThis is best determined by market testing or market surveys. Sincecustomers depend for their own success on reliable sources of supply, communication then is inthe best interest of both parties. However, it is usually difficult for consumers of consumer goods

to determine their likely future purchases.

(d) Choice of method For this technique, companies with effective planning usuallycombine a variety of methods to arrive at the best sales forecast. For instance, qualitativeestimates from sales force and customer surveys may be compared with more quantitative

estimates from the moving average or regression models so that finally, the chief executive, withthe assistance of other top officers establishes a sales forecast for future planning.

Qualitative Techniques

(a) Dephi MethodIs mainly used for longer term forecasting and designed to obtain expertconsensus for a particular forecast, without the problem of submitting to pressure to conform to

majority view. The procedure is to select a panel of experts to independently answer a sequence

of questionnaires in which the responses to one questionnaire are used to produce the next

questionnaire. Thus, any available information is passed across to every expert therein and theirsubsequent judgements are refined as more information and experience become available.

(b) Market Research This technique uses opinion surveys, market data analyses,questionnaires and other investigations to gauge the reaction of the market to a particular

product, design, price etc. Often, it is very accurate for the relatively short term, but longer termforecasts based purely on surveys are likely to suspects because peoples attitudes and intentionsdo change.

(c) Historical Analogy Where past data on a particular item are not available, especiallythat for a new product, then data on similar products are analysed to establish the life cycle and


17/77

expected sales of the new product. However, great care is needed in using analogies relating to

different products in different time periods, but may be useful in forming a broad impression in

the medium to long term.

Notes on Qualitative Techniques

(i) When past quantitative data are unavailable for the item to be forecast, it then

becomes inevitable to involve much more judgement in making forecasts.(ii) Some of the qualitative techniques use advanced statistical techniques e.g. some of

the sampling methods used in Market Research.

Nevertheless, in situations whereby there lacks appropriate quantitative data relating to the factorbeing forecast, then any such method may prove to be a relatively poor forecaster.

Notes on Quantitative Techniques(i) Data on past usage or demand is a prerequisite to the use of this technique.(ii) In the use of statistical forecasting technique, the longer the period covered by the

data, the more likely that the patterns in the data will be representative of the future.

Any extrapolation or forecasts generated from past data by whatever technique should be treatedwith caution as conditions can and do change quite rapidly so that judgement, experience andwide knowledge of the market place always play part in establishing a reliable forecast.

Elements of a good Forecasting Method

The following four elements are suggested for adopting a forecasting method:1. Accuracy: The previous method must be checked for accuracy by observing that the

predictions made in the past are accurate or not.2. Simplicity: The method must be simple, satisfying and easily understandable.

3. Economy: As for an undertaking, cost is a main factor so the method adopted should

be such which is economical.

4. Availability: The technique must be able to produce meaningful results quickly. Thetechnique which takes much time to produce useful information is of no use.

Therefore, the results should be timely available.

Procedure for making a ForecastThe following points must be taken into consideration before making any forecast:

1. State whether the forecasting is short term or long term, its objectives, it may be only fora single undertaking or for whole industry.

2. Select a good method of forecasting.3. Select the different variables which might affect the forecasting.4. Gather the data for the different variables.


18/77

5. Determine the best possible relationship by some statistical method between differentvariables.

6. Make the forecast and interpret the results.

Regression Models

Regression models are a major class of explanatory forecasting models, which attempt todevelop logical relationships tat not only provide useful forecasts, but also identify the causes

and factors leading to the forecast value. Regression models assume that a linear relationsip

exists between a variable designated the dependent (unknown) variable and one or more other

independent (known) variables.

Linear Regression

Let Yi be the amount of product i and Xi the value of some independent variable called thepredictor variable. If a linear relation exists between Yi and Xi, then the following curve holds:

Yi= 0+ 1 Xi (1)where 0 is the population intercept value ofthe curve and 1 the population proportionalconstant of the relation between Yi and Xi.

To estimate these values, let b0be the sample estimated value of 0 and b1, that of 1. Butestimates may have some error associated with them.

We define this error term (ei) as follows:

ei = Yi - i (2)Where Yi is the ith

observed value while i, the corresponding estimated value given by theexpression:

i = b0 + b1 Xi (3)Substituting into (2)

ei = Yi(b0 + b1 Xi) (4)To obtain an estimate with minimum error of the line, it is the square of (4) that is used: thus,ei

2= (Yib0 - b1 Xi)

2(5)

For N points of data or observations, the sum of squares (SS) is given as

(6)

Applying the least square approach to estimation:(7)

Now considering

(8)Notice that (7) and (8) are two equations with 2-unknowns, b0 and b1 and Xi and Yi are observed

set of data. Hence, with collected sample of data known, b0 and b1 can be solved for. Generally,

equations derived from differentiating sum of squares are called normal equations, Thus (7) and(8) make up a set of normal equations.


19/77

Example: One refinery discovered that the fuel yield of their refinery depends, to some extent, onthe presence of the amount of some gas in the crude oil. The following table indicates the

empirical relationship between the fuel yield and the amount of gas present in the crude oil:

i

Amount of Gas(mm

3)

Fuel Yield(Liters x 10

3)

1 20 0.18

2 60 0.37

3 100 0.35

4 140 0.78

5 180 0.56

6 220 0.75

7 260 1.18

8 300 1.36

9 340 1.17

10 380 1.65

Develop a linear model for forecasting the yield of fuel in that refinery.

SOLUTIONThe first step is to prepare the follow table:

i X Y XY X

1 20 0.18 3.6 400

2 60 0.37 22.2 3600

3 100 0.35 35 10000

4 140 0.78 109,2 19600

5 180 0.56 100.8 32400

6 220 0.75 165 48400

7 260 1.18 306 67600

8 300 1.36 408 90000

9 340 1.17 379.8 115600

10 380 1.65 627 144400

Total 2000 8.35 2175.4 532000


20/77

The second step is to form the normal equations:8.35

Solving for b0 and b1, b0 = 0.069 and b1 = 0.0038

Polynomial (Multiple) RegressionFor a general m-degree polynomial and single predictor variable:

Now, using the same least square approach, the following set of normal equations are derived:

.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

EXAMPLE:

The crude oil yield of an oil well was found to relate empirically to the amount of some

particles present in the water of the well as shown in the following table:

i

count of particles

per liter of water

Crude oil Yield

(Barrels x 106)

1 0 12.02 1 10.5

3 2 10.0

4 3 8.0

5 4 7.0

6 5 8.0

7 6 7.5

8 7 8.5

9 8 9.0

The engineer in-charge suspects a second degree polynomial may form a good curve for

predicting the yield of an oil well based on these data. Develop a predictive equation for this

purpose.SOLUTIONAs in the case of the linear model, the first step is to formulate the normal equations. The

following are based on those of the general polynomial function:


21/77

i X Y XY X2 X2Y X3 X4

1 0 12.0 0.0 0 0 0 0

2 1 10.5 10.5 1 10.5 1 1

3 2 10.0 20.0 4 40.0 8 16

4 3 8.0 24.0 9 72.0 27 81

5 4 7.0 28.0 16 112.0 64 256

6 5 8.0 40.0 25 200.0 125 6257 6 7.5 45.0 36 270.0 216 1296

8 7 8.5 59.5 49 416.5 343 2401

9 8 9.0 72.0 64 576.0 512 4096

? ? ? ? ? ? ?

(The student should fill in the missing information in the table and use it to formulate the 3normal equations with the numerical values in the same way done for the linear case. Solvefor the b0, b1 and b2 values and state the equation; turn in your work in the next classmeeting).

Y2

MODULE 4

COSTING AND COST CONTROL

CostingCosting has been defined by the Institute of Cost and Works Accountants, England as: Thetechnique and process of ascertaining costs. It is also defined as: the classifying and recordingof appropriate allocation of expenditure for the determination of the costs of products or services,and for presentation of suitably arranged data for the purposes of control, and guidance of

management.


22/77

It is the determination of an actual cost of an article, after adding different expenses incurred in

various departments. It may also be defined as the system, which systematically records all the

expenditure to determine the cost of manufactured products. It differs from estimating, in thatcosting is a determination of cost after knowing the expenditure incurred in various departments

on the product, while estimating is the pre-determination of cost based on the assumptions and

previous experiences.

Aims of CostingThe important aims and objectives of costing are:

(i) To determine the cost of each article(ii) To determine the cost incurred from each operation, to keep control over workers

wages.

(iii) To provide information to ascertain the selling process of the product.

(iv) To supply information for detection of wastages.

(v)

It helps in reducing the total cost of manufacture.(vi) It suggests changes in design, when the cost is higher.

(vii) To help in formulating the policies for charging the prices of the products.

Methods of Costing1. Multiple costs

2. Job cost3. Departmental costing

4. Unit costs

5.

Process costs6. Operating costsEach method is explained briefly as below:

1. Multiple costs: Concern manufacturing a variety of standardised products, having no relationto one another in cost, quality and the types of process etc., such as type-writer, gramophones,

cycle etc., uses this costing method.

2. Job costs: This method is also known as order costs or terminal costs. In this method,all the items are charged to a specific order. This method is also adopted by builders, contractors

etc., as it helps in sowing the cost of each separate contract or job or order of a work. Daily

record of direct material, direct labour and estimated over head cost for each order is recorded inproduction order or cost sheet and thus the total cost of the job is obtained from the cost sheet.

This method is useful when products are produced in distinguishable lots and it is also desirable

to keep a separate record of each lot.


23/77


24/77

(i) Direct Materials: These are those materials which when operated or processed in

the factory shops through various stages form the final useful shape of the main

product or component part of the main product. These are also known as ProductiveMaterials.

(ii) Indirect Materials: These are those materials which are essentially needed in

various shops for helping the materials to be converted into the final useful shapes.Difference between direct and indirect forms of materials can be easily understood bythe following example:

Suppose a person continuously working in Milling Machine Shop is cutting gear teeth

on cast iron blanks. Now the cast iron blank, of which the gear is made, will be thedirect material while the coolant required for cooling the cutter, grease and

lubricating oil needed for lubricating the machine, kerosene oil and cotton waste etc,needed for cleaning the machine are known as Indirect Materials.

2. LabourLabour employed in any factory may be of following two classes:

(i) Direct labour and(ii) Indirect labour.

(i) Direct Labour: The workers, who actually work or process different materialsmanually or with the aid of machines is known as Direct Labour. This is also calledproductive labour. The nature of their duties is such that their wages can be directlycharged to the job, which they are manufacturing.

Workers engaged for operating on various production machines in machine shop,welding shop, pattern making shop, electric winding shop and assembly shop etc isknown as Direct Labour.

(ii) Indirect Labour: Any other labour, who helps the productive labour in performingtheir duties is known as indirect labour. The nature of their duties is such that theirwage cannot be charged directly to a particular job but are charged on the total

number of products produced in the plant during a particular period.

Foreman, supervisors, inspectors, gate-keepers, store-keepers, crane driver andgangmen etc., are classified as indirect labour.

Now, again consider the above example of Milling machine shop. The worker who is

producing gears continuously on the milling machine is known as Direct Labour,

while the foremen, supervising in the milling machine shop, the inspector checkingthe accuracy of gears and helper, who is bringing blanks and taking away the gear

from the worker are examples of Indirect Labour.

3. Expenses


25/77

We have discussed direct material cost and direct labour cost but apart from those, you will find

that, in each factory there are several other expenditure, such as cost of advertisement, building,

cost of packaging, cost of transportation, salaries and commission to salesmen etc. All theseexpenditure are known as Expenses. So, we can say that except direct material and directlabour cost, all other expenses, which are incurred in the factory are known as Expenses. The

cost of indirect material and indirect labour is also included in the expenses.Expenses may be of two classes:(i) Direct or chargeable expenses, and

(ii) Indirect expenses

(i) Direct expenses: These are those expenses, which can be charged directly to a

particular job and are incurred for that specific job only. For example, cost of special

jigs and fixtures, cost of some special patterns and cost of experimental work on a

particular job etc.

(ii)

Indirect expenses: These are also known as overhead charged on cost, burden orindirect charges. These can be further classified as:

(a) Factory expenses(b) Administrative expenses

(c) Selling expenses and

(d) Distribution expenses

(a) Factory expenses: These overheads include all the expenditure made on the

actual operation of the product in the plant, such as indirect material and indirect

labour. It is also named as works on cost.(b) Administrative expenses: These overheads include all the expenditure made onthe salaries of general office staff and executive staff, telegraph telex, computer

and telephone charges, depreciation of office building, equipment etc. This is also

known as establishment on-cost or office expenses.(c) Selling expenses: These overheads include all the expenditure made on salaries

of persons working in sales department, advertising expenses and agency

expenses.(d) Distribution expenses: These overheads include all the expenses made on

holding finished stock, despatching them to the customer and packaging cost etc.

Components of CostThe various components of cost are:

1. Prime cost

2. Factory cost3. Office cost

4. Total cost


26/77

1. Prime cost: It consists of direct material cost, direct labour cost and direct expenses. i.e.prime cost = direct material cost + direct labour cost + direct expenses

Prime cost is also known as Direct cost.

2. Factory cost: It consists of prime cost and factory expenses.i.e. Factory cost = Prime cost + Factory expenses.

Factory cost is also known as Works cost.3. Office cost: It consists of factory cost and administrative expenses

i.e. Office cost = Factory cost + Administrative expenses.

Office cost is also named as manufacturing cost or cost of production.

4. Total cost: It includes office cost and selling and distribution expenses.

i.e. Total cost = Office cost + selling expenses + distribution expenses

Selling priceIf the profit is added in the total cost of the product, it is called selling price. The customers getthe articles by paying the price which is named as selling price.The relation between the elements of cost and components of cost can be best illustrated by the

chart given below:

Selling Price

Total cost Profit or loss

Office cost Selling and Distribution expenses

Factory cost Administrative expenses


27/77

Prime cost Factory expenses

Direct material Direct labour Direct expenses

Cost cost if any

Figure 1.0: Relation between elements of cost and the Components of cost.Allocation of On-Cost (Overhead-Expenses)

Following are the different methods of on-cost allocation:1. Percentage of Prime cost

2. Percentage on Direct Labour cost

3. Percentage on Direct Material cost

4. Man Hour Rate5. Machine Hour Rate

6. Combination of Man Hour and Machine Hour Rate7. Unit Rate Method.

For the sake of time only methods 1, 2 and 3 will be briefly discussed.

1. Percentage on Prime Cost: This is a very simple method hence has gained popularity.

This method is suitable, where labour and material both play equal role. In this, primecost is the basis of allocation of on-cost and total on-cost of the factory is expressed as

the percentage of the prime cost and the percentage is charged on each job being

manufactured. The required formula will be:

The method of allocation can be best understood by the following solved examples:

Example 1: A factory has total overheads of Rs. 6 lacs, while the prime cost is Rs. 10.0lacs. Find out the on-cost of the two products by percentage on prime cost method. If

first product has Rs. 100 as direct material and Rs. 200 as direct labour cost, while second

product has Rs. 150 as direct labour and Rs. 150 as direct material cost.


28/77

Solution:

Percentage on-cost

1st ProductPrime cost = 100 + 200 = Rs. 300

2nd ProductPrime cost = 150 + 150 = Rs. 300

From the above example, it can be seen that both the products will be charged equally for on-cost, while first product has labour cost as Rs. 200 and second product has labour cost Rs. 150.

Actually material cost has to do nothing with the overheads and products which require large

manufacturing time should have more overheads. This fact has not been considered in this

method. Therefore, this method is a faulty one and is only suitable in the following two cases:(a) Where only one type of product is being manufactured

(b) Where direct labour and direct material cost are nearly same.

2. Percentage on Direct Labour Cost: In this method, allocation of on-cost depends upon

the wages paid to the direct labour. This method is very reasonable and simple in

calculation and, therefore, very popular. This is very suitable where production is mainlycarried out by hand and is the ratio of the total on-cost to the direct labour cost for a

particular period.

This will be clearer by the following solved example:


29/77

Example 2: Factory overheads of a certain concern for the year 1970 - 71 were Rs 8.0

lacs and total direct wages paid to the labour during the above period were Rs. 32.0 lacs,

find out the percentage on-cost by percentage on direct labour cost method.

Solution:

Percentage on-cost

= 25% of the direct labour cost Ans.

3. Percentage on direct material cost

In this method, allocation of on-cost depends upon the total direct materials cost. Thismethod is generally used where the major part of the cost is material like foundries and

mines etc. It is the percentage ratio of the total on-cost to the direct material cost for a

particular period. This is explained by the solved example:

Example 3: A foundry department of a factory producing water meter body had Rs. 5.0

lacs as total overheads while the material cost was Rs. 25.0 lacs, calculate the percentage

on-cost.

Solution:

Percentage on-cost

= 20% of the direct labour cost Ans.

Some Examples of Allocation of On-Costs

There are certain facilities which are used by more than one department. The expenses on such

facilities are estimated for whole factory and then allocated to departments as follows. Whenthere is clear cut and exact estimation of cost for each department, it is known as allocation, and

if it is only estimation, then it is termed as apportion.


30/77

(i) Factory Lighting: It is allocated in proportion to the number of points in each

department. If metres are provided separately, then the charges are according to these

metre readings.(ii) Factory rent: It is allocated in proportion to the floor space occupied by each

department.

(iii) Insurance to factory: Criteria are same as for factory rent.(iv) Depreciation and repairs to factory building: Criteria are the same as for factoryrent.

(v) Fuel and power: These are allocated in proportion to the horse power of

machineries installed in the various departments.(vi) Works canteen: The expenditure is allocated in proportion to the number of workers

benefited.

(vii) Welfare expenses: The expenditure is allocated in proportion to the number of

workers benefited.(viii) Any other item: Expenses incurred on any item other than the mentioned above, the

criteria can be fixed by the Works Manager/General Manager on the basis of his

judgement based on the circumstances.(ix) Inspection: If these charges can be identified then it can be charged directly to

specific product, otherwise it can be treated as factory overhead.

(x) Transport charges: The expenditure incurred on movement of material from stores

to production shops, from one shop to another shop, is a part of factory overhead andis distributed in proportion to distance travelled or weight of stores handled.

(xi) Cost of containers and packaging cases: Where containers are exhausted or sold

with the product, it forms a part of production costs. Where containers can be rousedand packaging cases which are returnable and capable of alternative use, the expenses

form a part of selling and distribution overhead.

(xii) Insurance of products in transit: These expenses form a part of the distribution

and an average is charged to each product.(xiii) Waste or loss of finished stock: Such losses are written off and loss is taken into

profit and loss account.

(xiv) Expenses of costing department: These form a part of administration overhead.(xv) Cost of small tools: The cost of small tools, whose account is difficult to maintain

cannot be taken as capital expenditure, because the account of depreciation cannot be

maintained. Therefore, such expenses are charged to the individual departments of thefactory on the basis of actual issues.

(xvi) Bonus: Bonus is paid out of profit of the undertaking. But when minimum bonus is

paid (being obligatory), it is charged to production overheads and is apportioned to

different departments on the basis of wages of each department.(xvii) Overtime: The overtime premium is charged: - (a) directly to the job, if the overtime

work is done due to pressure of the work; (b) to the department concerned if due to

the fault of the department (c) to profit and loss account if the overtime work is done

due to the reasons beyond the control, e.g. flood, fire etc.(xviii) Wages to apprentices: Since the speed of work is less for apprentices than that of

skilled workers, and more spoilage of work by them, generally a portion of their

wages, say 50% is charged direct to the job and rest to production overhead.(xix) Wages paid during the training period: These are charged to production overhead.


31/77

(xx) Wages for the ideal time: Such expenses are treated depending upon the type of

ideal time i.e. normal or abnormal; controllable or uncontrollable.

(a) Normal and controllable idle time costs: These are allocated to the departmentconcerned and charged to the departmental overhead and absorbed in production

cost.

(b) Normal and uncontrollable: Charged directly to the job.(c) Abnormal and uncontrollable: These are written off to the profit and lossaccount. Examples of such ideal time are strikes, lockouts, fire, flood major

breakdown etc.

(xxi) Allowances paid to the workers: Dearness allowances being part of the wages areincluded in direct wages, whereas other allowances are considered as part of welfare

activities and then apportioned to different departments on some suitable basis.

(xxii) Leave with pay: The burden of leave pay is calculated at one place are treated as

factory overhead.(xxiii) Re-operation of defective: For small works this is treated as direct wages and

charged to good output; but for heavier expenses and large works, such expenses are

collected at one place and treated as departmental overhead.

Example: Given the following information for the year 1980:

RsExpenditure on material 250,000

Expenditure on direct labour 100,000

Factory expenses 120,000Office and administrative expenses 47,000

Determine the cost of a product which is likely to require material for Rs. 10,000 and

wages for Rs. 5,000

Solution:The product shall have the indirect expenses in the same ratio as that of whole concern. For the

concern, it is given thatRs

Material 250,000

Direct labour 100,000

Prime cost 350,000


32/77

Factory expenses 120,000

Factory cost 470,000

Office and administrative expenses 47,000Total cost 517,000

Here % ratio of factory expenses to direct labour

Similarly % ratio of office and administrative expenses to factory cost

Hence for the product

RsMaterial 10,000

Direct labour 5,000

Prime cost 15,000

Factory overhead120% of labour cost 6,000Factory cost 21,000

Office and admin. Expenses = 10% offactory cost

2,100

Total cost 23,100

Total cost of the product shall be Rs. 23,100. Ans.

Table 1.0: Some Examples of Overheads

Items Head to which

charged

(i) Wages paid to indirect workers e.g. repair gangs;formen; watch and ward staff etc Factory overhead.

(ii) Works canteen and welfare expenses Factory overhead.(iii) Employees state insurance contribution Factory overhead.(iv) Factory rent Factory overhead.

(v) Factory lighting Factory overhead.

(vi) Water, power and fuel (coal gas and furnace oil) Factory overhead.

(vii) Insurance of plant, factory etc Factory overhead.


33/77

(viii) Depreciation of plant, machinery, tools and their repairs Factory overhead.

(ix) Consumable stores in factory such as cotton waste,

grease etc

Factory overhead.

(x) Charges for telephones installed in the factory and

stationery consumed in the factory

Factory overhead.

(xi) Material transportation expenses for bringing materialsfrom stores

Factory overhead.

(xii) Cost or idle time of workers which cannot be charged on

any product

Factory overhead.

(xiii) Cost for any material which cannot be directly charged Factory overhead.

(xiv) Salaries of General Manager, Finance Manager,

Secretary and their staff

Administrative

expenses

(xv) Office rent (if rented) or Repair and depreciation of

office premises

Administrative

expenses

(xvi) Light and power required for office Administrative

expenses

(xvii) Bank charges Administrativeexpenses

(xviii) Telephone, telegram and postal charges Administrative

expenses

(xix) Insurance of office premises and equipments Administrativeexpenses

(xx) Printing and stationary for office Administrativeexpenses

(xxi) Expenditure incurred on legal section Administrativeexpenses

(xxii) Expenditure incurred on audit Administrative

expenses(xxiii) Salaries of the Sales Manager, his staff, salesmen etc Selling expenses

(xxiv) Travelling expenses, commission and other facilities tosalesmen

Selling expenses

(xxv) Advertising expenses Selling expenses

(xxvi) Showroom expenses Selling expenses

(xxvii) Printing of catalogue price lists etc Selling expenses

(xxviii) Packing and carriage charges Selling expenses

(xxix) Insurance on finished goods, showrooms good in transit

goods in godowns

Selling expenses

(xxx) Expenses on delivery van including operation,

maintenance, running and depreciation and repairs

Selling expenses

(xxxi) Telephone and postal expenditure of sales Selling expenses

(xxxii) Entertainment expenses Selling expenses

(xxxiii) Legal charges incurred for recovery for debts etc Selling expenses

(xxxiv) Rebate to customers Selling expenses


34/77

Some Typical Cases(a) Income tax: Since that is a part of profits, it will be ignored in costing.

(b) Construction of playing fields and equipment for them and other welfare activities

of permanent nature: The expenditure incurred on these activities is a capitalexpenditure hence only depreciation should be included in the proportion of number of

persons getting benefits from the facility.

(c) Pay for holidays: Pay for office staff is a part of office expenses where pay for factoryworkers (i) for direct workers, the direct wages are taken after inflation of pay taking care

of holidays (ii) for indirect workers, it is charged to factory overheads.

(d) Shifting an equipment or plant: Since this is not a capital expenditure, but still requires

abnormal expenditure, it cannot be charged to any head, but should be debited to profitand loss account.

(e) Installing new plant: This is a capital expenditure and hence depreciation is credited

every year into it.

(f)

Dismantling of plant: The final gain or loss on realisation of sale proceeds should betransferred to plant and loss account.

(g) Drawing offices costs: Where works related to the drawing office is heavy, the timetaken by the draughtsman is booked to the job concerned directly. But where drawingoffice provides general service to the whole concern, the expenditure is treated as

production overhead.

Market research: This is an item of selling overhead. Where market research is carried

out for a particular product, the expenses are directly charged to product.

(i) After sales service: The expenditure of after sales service includes salary of the staff

employed for the purpose and expenditure on rectification during the warranty period.The expenses are treated as a part of product cost. However, in some undertakings, after

sales service expenses are treated as a part of selling overheads and are proportioned todifferent products on the basis of sales.

Cost Control

Cost control means the procedures and measures by which the cost of carrying out an activity iskept under check. The aim of cost control is two-fold, viz.

(i) To see that cost do not exceed beyond a certain level.

(ii) Thereafter, as a further step, it must adopt such measures and procedures by which the

cost is further reduced.Cost control is a technique which involves the determination of standards in respect of each item

of cost and determining the actual cost of those very items, detections of variations of actuals

from the standards laid down, analysing these variances in order to find out the real cause and

then taking necessary corrective steps for future.

How to Control Costs


35/77

As we know that elements of cost are material, labour and expenses, if we make complete

systematic check on each and every element, the cost can be kept in control. If a businessman

does not have any check and a scientific way of calculating the total cost of the productsproduced, then he may not earn exact profits, and even be may run into losses. Therefore, to earn

good profits, it is essential to keep control over each and every element of costs, such as:

(i) Control on prime cost,(ii) Control on overhead, and(iii) Control on indirect materials and tools.

(i) Control on prime costPrime cost of a product has got great role over the total cost. It consists of direct material cost

and direct labour cost.

Since direct material cost is the most important item of expenditure, following factors must be

considered to keep control on it:

(i) To purchase right material at right time at right price.(ii) Efficient system of store-keeping.

(iii) To ensure that always right quantities of materials are consumed with lesswastage.

(iv) Over-stocking must be avoided.

(v) As far as possible minimum handling should be there with economy.

(vi) Try to utilise waste and scrap for some other works.

Direct labour cost is also a part of the prime cost. In this respect, following steps may be useful:

(i) It is necessary to express labour charges in terms of time(ii) Labour rate should be fixed accurately with the help of Time and Motion Studies.(iii) A right system of time recording can be introduced to calculate the time taken by

each worker.

(iv) Suitable inspection and supervision methods should be introduced.(v) A suitable method of wage payment should be selected and introduced.

(vi) Proper tools, jigs and fixtures should be used to reduce production time.

2. Control on OverheadsTo run the business efficiently, it is very essential to have strict control on the overheads. Prime

cost of product does not vary much from industry to industry for the same product; it is the

overhead charges which are much responsible. If these are minimised, cost can be controlled to alarge extent. For this purpose, following steps must be taken:

(i) A set procedure for determining the total overhead charges of different

departments should be followed and charges of each department should becompared whether they are in excess or not.

(ii) Keep control on the indirect labour force.


36/77

(iii) Simplification and set procedure for accounts and all administrative work is

required to be done.

(iv) As far as possible, less work should be done during extra hours.

3. Control on Indirect Material and Tools

This can be kept under control by allowing a fixed amount for each shop and should be revised at

regular intervals according to the needs.As standard cost is a tool to keep control over the total cost, therefore, total cost should always be

compared with it and shortcomings and defects are to be found out.To determine the total cost, each of the above head is added. For detailed description, Elementsof Cost should be consulted.

How to Control Material CostsMaterial cost is a main component in the total cost of the product (varying from 25 to 65%).Therefore, in order to control the cost, it is necessary to pay maximum attention for controlling

material cost in following ways:

(i) Control over abnormal losses: These are avoidable losses and wastages which shouldbe controlled. These arise either due to mischief or inefficiency and may occur due to theft,fire or damage because of careless handling etc. These can be controlled by training the store

staff, keeping strict vigil and control, adopting the policy of incentives for efficient and

punishment for careless staff.

(ii) Material handling: Material handling is an art and science involving movement,

packaging, and storing of materials in any form i.e. by means of gravity, manual effort or bypower driven machines. Materials are received from market and stored in stores, moved to

processing departments, moved from machine to machine during the process of

manufacturing. Semi processed parts are moved from one department to another and then

finally to the assembly section, again through the inspection department to dispatch andpacking section.

Material must be handled through economical means i.e. after examining various methods

like using conveyers, gravity feed, cranes, fork-lift trucks, manual labour or other devices,

special care must be taken for bulky material and they must be stored, transported andhandled in a planned way so as to minimise handling charges.

Material handling expenses can be reduced to a great extent if the layout is according to the

handling requirement. Layout should be made after considering flow process charts, travelcharts etc.

(iv) Control over Inventory: Inventory must be kept in a scientific way and only in

required quantities. Inventory control is a systematic location, storage, and recordingof goods in such a way that desired degree of service can be made to the operating

shops at minimum ultimate cost. There is a need for inventory control to maintain a


37/77

desired level of stores based on requirements and economical aspects. All possible

efforts may be made to avoid inventory build-ups. Inventory build-up starts because

either (i) items are purchased in excess of requirements, or (ii) they do not getconsumed at the rate at which they are received. As a remedial measure, the position

of inventory build-up is renewed at frequent intervals and corrective actions should be

taken.

(iv) Reclaimation from defective products: Defective products must be dismantled in the

reclaimation room, from where: (i) goods and serviceable parts are sent for use again; while

(ii) the defective parts can be made serviceable with some extra efforts, whereas (iii) the partswhich are completely spoiled are either used in the foundry or sold as scrap.

(v) Control over consumption: To check whether the consumption of material is justified ornot, two steps are taken: (i) to compare with that of the past years record of consumption, (ii)to compare with that of standards set for the purpose.

(vi)Protection of stores: Protection of stores from fire, rust and corrosion, dust, theft,weather, heat, cold and moisture (depending upon the nature of material) is an important

aspect. Each type of material such as textiles, rubber goods, leather goods, cement,

petroleum products, tools, and metal require its own kind of care. Each category of item

should therefore be stored in the conditions where they can be maintained in good conditions

without any harm.

(vii) Procurement of material: While purchasing, following parameters should be

considered:(a) Purchase at right time Neither too early to avoid inventory build-up, nor too late to

avoid loss of production or loss due to emergency purchases. Lead time plays an

important role.(b) Right source reliability of supplier, nearness to enable to pursue for timely supply,

quality.

(c)

Right qualityquality of material should not be sacrificed to maintain quality of finishedproduct and hence, reputation of the concern.(d) Right quantityconcept of Economic ordering Quantity must be kept in view.(e) Right contract while purchasing, proper contract agreement must be signed to avoid

future complicacies and delay arising due to them.(f) Right place of Deliveryto avoid unnecessary handling.


38/77

Cost Saving AreasAs we know that cost of products consist of: (i) material cost (ii) labour cost (iii) overheads.

Therefore, to reduce the cost, it is necessary to bring down the expenditure on these elements.Following are some of the areas, in which saving can be done as discussed below:

(i) Materials

(ii) Machinability(iii) Tolerances(vi) Fewer parts

(v) Tool design

(vi) Make or Buy(vii) Increase productivity

(viii) Distribution system

(j) Materials: In order to reduce the cost of the product, materials of lower or different

quality which will not affect the utility of the product are selected. Common examples ofsuch substitution of material are use of steel window frames instead of timber frames, use

of aluminium instead of copper in electric transmission lines. This process of substationis based on the principle that if a cheaper material can work satisfactorily, then there is no

point in using costly material. Sometimes, another alternative is desired to be found e.g.

in the radio valve industry, many parts made from expensive nickel can be manufactured

with nickel plated mild steel, similarly copper plated mild steel can be used in place ofpure copper.

(ii) Machinability: Some materials are easier to machine and allow faster cutting speeds andless tool wear and breakage. Though such material might be slightly costly but can be adopted ifsaves more in machining and gives overall saving in the cost.

(iii) Tolerances: When there is the desire for perfection (i.e. very close limits) and althoughthe part required shall be much better but costs more, then a permissible variation (which

may not affect the quality of the product) is allowed so that parts will cost less to

manufacture. The tolerance is, therefore, kept as fairly close, as to less tolerance would

mean unnecessary large number of rejects, frequent machine setting, more inspections,more skilled operators, etc. Hence the tolerance is decided looking to the importance and

the place where the part is to be used.

(iv) Fewer parts: If extra facilities, features or parts can be reduced without affecting the

product much but will end up saving lot of money, then we can reduce the parts. This is

known as simplification of the product. It is also better to keep minimum possible


39/77

components in a product. A large number of components will reduce the reliability of

product and there are much chances of failure of the production due to the failure of one

or other component.

(v) Tool design: A compromise is made between the use of the new tool and the cost of the

element of tool in the total cost of the product. That is, if the new tool is expensive, then the

products are manufactured with the help of existing tools and equipments whereas if we find thatthe purchase of new equipment will reduce the manufacturing cost, then we should definitely use

the new tool or equipment. Here it is also pointed out that use of standard tools is better instead

of special tools unless extraordinary circumstances arise.

(vi) Make or Buy: If any part of the product is found to be uneconomical to manufacture, it

must be purchased from some other manufacturer producing it on large scale.(vii) Increase productivity: Main factor to reduce the process is by increasing the productivity,we must adopt (a) work study techniques (b) Effective production planning and control (c)

simplification and standardisation (d) develop good industrial relations etc.

Cost of DelaysGenerally, we neglect the cost of delays, and we adopt measures for reduction in material cost,

labour cost etc. Since time is money, saving in time not only increase productivity but also

reduces delays in production schedules, commissioning of projects, availability of equipment for

production etc., besides image and reputation of the company. Delays, can however be controlledby adopting technique like PERT/CPM.

Techniques of Cost Control1. Standard costing

2. Inventory control

3. Quality control4. Production control

5. Reports and return

6.

Work-study7. Budget and budgetary control

1. Standard costing: Standard costing is the preparation and use of standard costs, their

comparison with actual costs and the measurements and analysis of variances to theircauses and points of incidence. Standard costs are the costs that are obtained under


40/77

efficient operations. They are predetermined costs and represents targets to control costs.

The extent of success is measured by comparison of actual performance and standard

performance.A standard cost must (a) be able to establish meaningful standard (may be in physical and

monetary terms), (b) have a system for measuring actual quantities and costs, and (c)

facilitate for corrective action.2. Inventory control: Inventory control may be defined as the systematic location, storageand recording of goods in such a way that necessity of inventory control is to maintain a

reserve (store) of goods that will ensure manufacturing according to a production planwith the lowest possible ultimate cost. For details, topic on Inventory control may bereferred.

3. Quality control: In simplest term, quality control is the control of quality during

manufacturing. Whereas quality of any product is regarded as the degree to which it

fulfils the requirements of the customer. Quality can be determined by somecharacteristics namely, design, size, material, chemical composition, mechanical

functioning, workmanship, finishing and other properties. Quality of a product product

depends upon the application of materials, men, machine and manufacturing conditions.Systematic control of all these factors is the quality control.

In the words of Alford and Beatly, quality control may be broadly defined as thatindustrial management technique by means of which products of uniform acceptable

quality are manufactured. Quality control is concerned with the making things rightrather than discovering and rejecting those made wrong.

Now-a-days, statisticalquality - control technique is used as a means for quality controlin the industries. Statistical quality control involves the statistical analysis of theinspection data obtained from samples. The quality in statistical quality control is usually

related to measurements made of the items manufactured. A good quality item is an item

which conforms to specified standard, and does not mean having highest standards of

manufacture. Most desirable situation represents consistency in quality standards ratherthan the absolute standards.

4. Production control: Production control is the design and use of a systematic procedure

for established plan and controlling all the elements of an activity. Production controlcan also be defined as the process of planning the production in advance, setting the exact

route of each item, fixing the starting and finishing dates for each item, to give

production orders to shops, and lastly to follow-up the progress according to theproduction orders. The aim of production control is to produce the products of right

quality, in the right quantity, at the right time, by using the best and least expensive

methods.Henri Fayol defines production as, ensuring that all which occurs is in accordance withthe rules established and the instructions issued. Production control rests on mechanismby means of which observations of current happenings are recorded and continuously

compared with the planned production programme. Production control includes the

control of activities, control over material movement, control over time, control of toolavailability, control of quantity produced, and control over workers efficiency.

For the purpose of effective production control, it is necessary to properly implement,

route, schedule, despatch and follow up.


41/77

5. Reports and returns: As we know that during the process of production, delays maycreep up either in material receipts, work in progress, assembly or erection etc. In order

to know the point of delay and time of delay so that the follow-up can be done, certain

reporting system should be introduced. The reporting system and returns should be sodesigned that the manager must not only take corrective action after a delay has occurred,

but also anticipate and prevent before it actually develops, as we all know that,prevention is better than cure, and also that, a stitch in time saves nine.A report in the form of tabular statements, charts comparing side by side is always

preferred. Columns of the statement, charts and other factors to be reported along with

the frequency should be designed considering the purpose for which reports are required.

The speed with which information is produced is important where short-term decisionshave to be made.

The task of monitoring and control is simplified, if suitable formats are designed for each

purpose. Principle of designing a format is that, it should be related to time, cost and

other resources like manpower, equipment, and material, and should be properlypresented so that it can be understood properly and quick decisions can be taken.

Generally, the reports are obtained for monitoring and control with following objects:(i) Comparing progress achieved with targets.(ii) Cost incurred on each unit of production is to be compared with that of budget.

(iii)To review the targets and time schedules for future, if necessary.

(v) Identify the deviations and short falls and determining the causes for initiatingcorrective action.

(vi) Record keeping: Information so received are recorded so as to use them in future, if

so required.

6. Work study: This technique consists of standardisation of method for performing a job

on the basis of scientific study after critical evaluation of the existing and proposed

methods. Certain standards are then developed and installed to compare the performance.

7. Budget and budgetary control: Budget is a tool of management for planning its future

activities including estimate of sales, production, expenditure etc. Budget estimates are

based on past experiences, present business conditions and expected future trends.Expected results are projected in financial terms or in numerical terms, like units of

products, man hours, machine hours etc.

Budget provides predetermined standards of performance for the guidance of the efforts

and activities in the business. As budgets provide standards of performance, they becomethe basis for control. Control used for the execution of budgets in which is called

Budgetary controls.Budgetary control means application of control in relation to budgets. This is process ofcomparing the actual results to corresponding budget data to know the actual as the


42/77

process with the corresponding budget data to know the actual as the process whichkeeps the actual standard as nearly as possible to the predetermined standard by strict

supervision and control.

MODULE 5

RESEARCH AND DEVELOPMENT MANAGEMENT

Product and Technology Life Cycles


43/77

In research, only a few out of many research ideas will be thorough enough to survive and reach

the right environment to mature into a successful product. A new product usually begins as an

idea for the solution of a problem or the satisfaction of a need. But then, as time goes on, suchproduct will have its days and will then be replaced by newer ideas that satisfy newer needs. This

cradle-to-grave sequence is known as the product life cycle (Fig. 1 below):

ProductLife

Cycle

Consumer

Identification of

Need

Wants or desires for products (because of obvious

deficiencies/problems are made evident through basic research

results

Product Planning

Function

Marketing analysis; feasibility study; advanced product planning

(product selection, specification and plans, acquisition plan-

research/design/production, evaluation plan, product use and logistic

support plan); planning review; proposal.

Producer

Product Research

Function

Basic research; applied research ("need" oriented); research methods;

results of research; evolution from basic research to product design

and development.

Product Design

Function

Design requirements; conceptual design; preliminary system design;

detailed design; design support, engineering model/prototype

development; transition from design to production.

Production

and/or

Construction

Function

Production and/or construction requirements; industrial engineering

and operations analysis (plant engineering, manufacturing

engineering, methods engineering; production control); quality

control; production operations.

Product

Evaluation

Function

Evaluation requirements; categories of test and evaluation; testpreparation phase (planning, resource requirements, etc); formal test

and evaluation; data collection, analysis, reporting and corrective

action; retesting.

ConsumerProduct use and

logistic support

function

Product distribution and operational use; elements of logistics and life

cycle maintenance support; product evaluation; modifications,

product phase-out; material disposal, reclaimation and/or recycling.

Fig. 1: Steps or Functions and typical activities in the product life cycle (Sourced from

Babcock and Morse, 2007)

The product life cycle begins with an identification of need or suggestion of a product

opportunity coming from researchers, sales people or customers, from observation of a

competitor, or (for military goods) from fear of a potential enemy. The product idea then mustbe subjected to a screening process to select from the many ideas available those that are


44/77

technically and economically feasible, and to propose a program for their successful design and

development. Proposal products that appear attractive at this point are approved for the product

design function, itself a process of several steps. Products that still appear desirable after thedesign process then go to the production (and/or construction) function. Finally, the

engineering management note

Documents