For convenience, we have divided the book into three parts (illustrated in Map 3). The first part describes the general context of strategic management; the second part discusses the aims, contents, design and implementation of an operations strategy; and the third part looks at specific areas for strategic decisions.
There are six chapters in the third part:
CHAPTER 9 – PRODUCTS AND INNOVATION
AIMS OF THE CHAPTER
Operations are all the activities that make the products that organisations supply to their customers. This means that a strategic aim of operations is to provide a continuing stream of products with features that both satisfy customer demand (the external requirements) and operations (the internal requirements). This is the role of product planning, which is responsible for all decisions about the introduction of new products and changes to existing ones. Innovation describes the extent to which product planning is willing to adopt new ideas.
The chapter draws a distinction between ‘product planning’ which takes an overall strategic view of the type of products made, and ‘product design’ which looks at the tactical and operational features included in a product. ‘To make mobile telephones’ is an example of product planning; ‘to use a Palcrion chip in the RS200 phone’ is an example of product design’.
The aim of the chapter is to discuss some issues of product planning. More specific aims are to:
Product planning is responsible for the design and introduction of new products, changes to existing products and withdrawal of old ones. It ensures that an organisation continues to supply products that achieve both its internal and external aims. In principle, operations managers assess their own requirements for a product, and customer requirements – and then they design the type of products that satisfy both of these.
The stages in a product life cycle are usually described as introduction, growth, maturity, decline and withdrawal. There are variations on this basic model, perhaps including an initial period of development, or procedures for extending the life. Each stage of the life-cycle puts different demands on operations.
New product development is responsible for taking initial ideas for products and developing them into products that are launched in the market. The usual six stages in new product development are generation of ideas, initial screening of ideas, technical evaluation, commercial evaluation, final development and launch.
When taken as a simple sequence the six stages of development can take a long time. Usually companies save time – and gain other benefits – by using concurrent development to reduce this development time. Obviously, the more overlap that there is between stages, the shorter the overall development time.
When organisations are developing a new type of product, they usually do the work internally, typically within an existing R&D department. There are many variations on this, increasingly outsourcing or contracting-out some of the development work to other organisations. This is particularly attractive when the new product needs resources, knowledge and expertise that is not be available within normal operations. Another variation has a parent organisation forming an entirely new business to supply a new product. As mentioned in the text, there are many variations on the organisation of new product development.
Product plans only suggest the type of products that an organisation will make. Then product design adds the details so products have the detailed features wanted by customers and operations. As customers and operations have different requirements, this needs a balance that satisfies both parties.
Organisations find information about the requirements of their internal operations largely from operations managers; they find information about customer demands largely from market research. Then they have to reconcile the two with their product designs. Several tools can help with this, particularly quality function deployment, which is based on a matrix listing the requirements and features of the product that will supply these.
Customers generally want things like low price, high quality, customisation, attractive appearance, and so on – operations managers essentially want operations that are simple and standard. Simple designs are ones with a small number of parts, no unnecessary features, few variations, that are easy to make on an efficient process, without disruptions, and at low cost. The main requirements of operations are often described in financial terms, typically giving low unit cost.
The most important measure of elasticity is price elasticity of demand, which is defined as the percentage decrease in demand for each percentage increase in price. We can use this to determine, for example, the production quantity that maximises revenue. A related analysis uses the marginal cost (or revenue), which is defined as the cost (or revenue) of making one extra unit. We can use this to identify the optimal production quantity. But these quantities are often constrained by production possibility curves, which show the maximum production of different products when they compete for limited resources.
The key feature of innovation is that it does something new and original, rather than continuing existing practices, or copying the activities of competitors. In terms of products, innovators invest in R&D and update their products early. This maintains product leadership, and puts pressure on competitors. Innovators typically look for some unique selling point – such as new technology or designs – and aim for the premium prices from dramatically new products, while protecting their advantage with patents. Operations that are not innovative follow the alternative path of being imitators. They wait to see whether a competitor’s product is successful, and then adopt and adapt it to their own requirements.
Product planning is responsible for the design and introduction of new products, changes to existing products and withdrawal of old ones. It ensures that an organisation continues to supply products that achieve both its internal and external aims. So its importance is obvious – organisations make products as a way of achieving their aims, and planning these products makes sure that they can accomplish the aims. Without suitable products – and the background planning – organisations cannot achieve their aims, or even survive. This suggests a clear strategic role in deciding the type of products to make. This strategic planning role is distinct from the tactical and operational design role that looks in more detail at the features that are added to products.
Experience suggests that every product – and every type of product and individual brand – goes through a life cycle. There are variations on this cycle, and the model of introduction, growth, maturity, decline and withdrawal gives a general – but simplified – view. The duration of the life cycle varies widely. Some basic items like bread seem to be stable for a very long time, but this is because they are in the mature stage. Beer and full cream milk was also at a mature stage for a long time before a decline, and it may be that in the longer term demand for bread will also decline. Banking services, dentistry and dog grooming are actually growing as economic conditions change, but it seems inevitable that they will follow some form of life-cycle. Perhaps some evidence for this comes from the decline of traditional high street banking, to be replaced by Internet banking.
Product planning does not necessarily need innovative ideas. A lot of attention is given to innovative ideas and completely new types of products, but the truth is that most organisations depend on products that are at later stages of their life-cycle. Hairdressers, shop keepers, farmers, public transport, and many other traditional operations are not innovative, but they form the major part of any economy. Operations managers can introduce innovative ideas to these, but again we have to be careful not to overstate the contribution of ‘innovative’ rather than evolving ideas. Ideas for products come from many sources. The most common are modifications of existing products, and reviews of competitors’ products. Other sources are both internal (basic R&D, opportunities identified by marketing, operations suggesting changes to an existing product, suggestion boxes, etc) and external (customer suggestions, focus groups, competitors’ products, government regulations, etc).
Operations need some method of comparing potential products. There are many models to help with this, including scoring models, net present value, cost-benefit analysis, return on investment, sales, or a range of other measures.
Despite claims that both operations managers and customers want the same thing – loosely described as a mutually beneficial trading relationship – they inevitably have different requirements of the product design. At a basic level, customers want to buy an expensive product for nothing, and suppliers want to sell a cheap product at a high price. More specifically, customers want a product that satisfies some need, achieves the purpose they buy it for, and performs well in the competitive features of price, quality, speed, flexibility and a whole range of other factors. Operations want a standard product that is easy and cheap to make – with a small number of parts, no unnecessary features, few variations, that can use an efficient process, do not cause disruptions, and so on.
A problem with market research is that it must be done carefully to get valid results. You can see many examples where this has not happened and organisations are left with expensive survey results that tell them nothing useful, and are even misleading. Unfortunately, people answering questions tend to please the questionnaire by giving the answers that they would like to hear, or the answers that they think they should give. There are ways around such problems, usually based on a careful design and administration of questionnaires. Market research surveys remain the most useful way of collecting information about customer demands.
The marginal cost (or revenue) is defined as the cost (or revenue) of making one extra unit. If the marginal cost is less than the marginal revenue, it is clearly beneficial to make another unit; if the marginal cost is greater than the marginal revenue, it is clearly not beneficial to make another unit. So the best production quantity corresponds to the point where the marginal revenue equals the marginal cost. A similar argument (given in the text) shows that at this point the marginal cost also equals the average cost. This point identifies the optimal production quantity – and is the point that organisations should aim for. All things being equal, it identifies the optimal capacity for a process, and this sets the scope of all related decisions. A practical problem is that competitors take some of the available demand, so that sales for any organisation are usually below this optimal value. Then organisations are always trying to increase their own sales to reduce unit costs and use their capacity as efficiently as possible.
The key feature of innovation is that it does something new and original, rather than continuing existing practices, or copying the activities of competitors. Creating a culture that encourages and rewards innovation is difficult in any organisation. Some are clearly successful – and others are clearly not. It is difficult to generate an innovation culture – or else more organisations would be successful at it.
The main factors that encourage innovation are internal research and development that create new opportunities, and external demands from customers, new regulations, acts of competitors, etc. An appropriate way of harnessing these pressures into organisational innovation has five steps in a continuing cycle to scan the operations environment for opportunities and threats, consider these from a strategic viewpoint and formulate an innovative response, acquire the resources needed by the response, implement the response, and then learn from the experience and work on continuous improvement.
IDEAS IN PRACTICE
Aim: to show how a leading company made adjustments to its product designs
As a rule of thumb, organisations are successful when they do things properly. McDonald’s became the world’s biggest chain of fast-food restaurants by organising its operations well – and to a large extent this means continuing to supply products that customers want. The company’s product is a mixture of goods (the food it sells) and service (the way that it serves the food). Its original emphasis was on the fast service, which revolutionised the way that customers bought food. They could best achieve this by a menu based on the popular formula of ‘burgers and fries’. However, as time changed, other restaurants could compete on service, and customers were no longer satisfied with the limited and somewhat dated menus in McDonald’s. The company had to change in some way, and decided that the best way was to redesign its basic menu. Then it could still give outstanding service – but improve the goods they supplied. To put it simply, their strategic planning changed the type of product offered. This, along with other changes, restored the company’s performance.
Aim: to consider the introduction of a new type of product, and the way that operations requirements change during its lifecycle.
Research In Motion is an innovative company whose success is founded on a new technological product. The original ideas for their successful BlackBerry were well-established, but the company had the expertise to a workable new product. They took this product from introduction and into growth, but by this time major competitors with much greater resources began to appear. Rather than try to compete in mass production, where they had little expertise and insufficient resources, RIM licensed its technology to other manufacturers. This allowed them to return their efforts to research and development, and continue creating new ideas in a rapidly changing market. RIM’s entry and exit strategies would classify them as research driven, with some movement towards new product exploiters.
Feng Shang Industries
Aim: to illustrate a use of decision trees in new product development
Organisations need to do relevant analyses to justify the introduction of new products. This case shows how one company looked at a decision tree of development costs and expected benefits. Although they have many benefits, decision trees use simple models and their results need careful interpretation. Here the simple calculations show that after market development the expected sales are (0.3´12 + 0.5´7 + 0.2´0 =) $7.1 million a year. With market development costs of $8 million and technical development costs of £12 million, the fixed development costs can be recovered from three years sales. This assumes that the sales values are net of variable costs, and more rigorous calculations are needed to discount future prices, allow for currency conversions, and other relevant factors. There are also the usual assumptions underlying expected values and decision trees. The conclusion is that managers should use such analyses to help with their decisions, but they should recognise that models are, by definition, simplifications, and final decisions are always the responsibility of managers.
Aim: to illustrate some of the thinking behind a new type of product
Prestige drinks like whisky and brandy are generally expensive and there have always been more exclusive brands that attract even higher prices. On the other hand, vodka – especially Polish vodka – has traditionally been a cheaper drink without any exclusive brands. In an attempt to change this pattern, Polish vodka producers identified the features that customers would appreciate in their drinks, and which they would be willing to pay premium prices for. Then they introduced new ‘luxury’ brands to meet this market. These brands met new demands in the market and expanded the sales, income and profits of the suppliers.
Aim: to give ideas for the ways that services can change the features of their products
It is often easiest to imagine operations and products in terms of manufactured goods. But this view is only for convenience, and the same principles apply to services – where most people actually work. HP is a leading manufacturer of computer equipment, where they are well-known for the efficiency of their operations. They also use the same principles when delivering services. This case shows their approach to information processing systems, where they adopt the principles of simplifying, standardising, modularising and integrating. Exactly the same principles apply to all organisations – whether they are manufacturers using ‘design for build’ or services transferring intangible benefits.
Lethbridge Fashion Icons
Aim: to illustrate the use of production possibility curves
Production possibility curves show the amount of different products that can be made when they compete for limited resources. In the simplest case there are two products competing for one limiting resource, when the results can be shown on a simple graph (like Figure 9.13 in the text). This case shows how a company can take a simple view of production possibility and use it to identify the point of maximum profit. This is a simple illustration of product mix problems that are traditionally solved using linear (or non-linear) programming.
Aim: to show the effects of an innovative organisation introducing an entirely new product to a well-established market
Many organisations develop innovative products. These are generally entirely new concepts that give the organisation a considerable advantage. Of course, any advantage is only temporary, as less innovative organisations see the rewards and adopt similar operations themselves. One major example of this is the growth of budget airlines.
Most airlines were founded in an age when there were few passengers, and these were willing to pay high fares for a relatively luxurious service. They continued working in this way until the 1970s, when Southwest Airlines identified an innovative new product. They found that large number of people did not want to pay the prices of ‘full service’ airlines, but would prefer a more basic service that came at a lower cost. So they founded the first budget airline that competed on cost rather than features of their service. Their success attracted other low-cost carriers, who now dominate most airline routes. This trend is continuing, with full service airlines frequently hitting financial problems, and new budget airline continuing to appear and take market share.
CASE STUDY – SMART CAR
This case outlines the development of a new type of model of car. It was originally designed to be a new concept, made by a new company in the area – but as development progressed it increasingly came to look like a new model for an existing company.
If you look at cars that pass you, it is difficult to identify the make or notice any significant differences between brands. There are certain standard designs – four-door hatchbacks, 4´4s, people movers, and so on – but beyond this it is difficult to tell much difference. The technology in cars is virtually identical (4 cylinder diesel engines, 6 cylinder petrol engines, etc) and manufacturers use virtually the same processes to assemble cars from similar – or even the same – components. Of course, there are some exceptions to this, but most manufacturers have homed-in on virtually identical products. They say that this is because their cars are for the same markets, and extensive market research has identified these styles as the ones that customers want. Their products are similar because of customers demand – assisted by similar processes.
Smaller companies serve niche markets and have more flexibility for innovation. This is where new ideas are likely to be found. But there is some debate about whether the large, dominant companies are actually responding to demand – or whether they have become so risk averse that they are unwilling to try anything that does not fit into a standard pattern. As car manufacturers typically have to spend a billion dollars to set up production of a new model, it is not surprising that they want to avoid any type of risk. The costs of failure are so large that manufacturers are likely to be conservative in their approach rather than innovative.
The original concept was for a small, cheap, simple, environmentally friendly car. This is certainly not a new idea, but one that has been suggested many times before, with several versions moving into production and even being commercial successes. Perhaps the innovative part of this proposal was its use of new technology, including a new petrol-electric hybrid engine, or even a pure electric one. Production would be done by a new company that was not one of the established manufacturers, and they could bring new ideas to the manufacturing. The result would appeal to cost conscious young people who were concerned about the environment, and would buy the car as an alternative to using public transport.
But as the project moved forward the original idea was considerably toned down. Perhaps the move to a partnership with an established manufacturer made the initiative less innovative and more aligned to traditional car assembly. And when Nicolas Hayek pulled out it of the project, the car began to look more like a new model than an innovative new idea.
The design of products always evolves as it moves through the stages of development. Perhaps the design of the Smart car changed more than most. There are two main reasons for this. The first is that during product development more detailed information about customer reaction could be collected, and this was incorporated into the design. It might be that customers did not like the idea of an innovative design and made the manufacturers move towards a more traditional approach.
The second is that the operations modified the design to overcome problems as they arose – or just they modified designs to get better operations performance. For example, the new engine might have become too difficult or expensive to develop and make, or it became impossible to get the fuel efficiency expected, or the design had to be modified to be made on a conventional assembly line.
Another factor is that the original idea came from an entrepreneur outside the car industry, and as the plans changed, he became disillusioned and left the project. This left the car in the hands of a major manufacturer, who would fit it into their existing operations.
These factors combined to move an innovative idea to a more traditional design. However, the moves have proved successful as the car is now selling well in many markets.
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