Integral Logistics Management — Operations Management and Supply Chain Management Within and Across Companies

1.3.2 RONA — Resolving Conflicting QCDF Objectives

Intended learning outcomes: Produce an overview on the supply chain strategy and the business plan. Explain opportunity, opportunity cost, and the potential for conflicting QCDF objectives. Present terms such as return on net assets (RONA), net income, profit after tax, net working capital, and primary entrepreneurial objective. Disclose the objective of a supply chain initiative (SCI).

The relative weighting of target areas and the individual objectives of companies or supply chains are determined by the strategy.

A company’s strategy, or a supply chain strategy, identifies how the company or the supply chain will function in its environment with regard to product line, fill rate, make-or-buy decisions, distribution and supplier channels, people and partner­ship, organizational development, and financial objectives ([APIC16]).

Strategic planning is the corresponding planning process.

Strategic planning develops the strategic plan, the busi­ness plan for the whole company. The plan reflects top management’s view of

  • The market and other companies in the market
  • Product and service positioning[note 110] in the market segment
  • Competitive advantages and product differentiation[note 111]
  • Order qualifiers and order winners [note 112]
  • The type of production and procurement

The surrounding systems that influence the company’s perspective include economic considerations (such as the relationship between supply and demand), probable customer behavior (whether the products will be seen as investment goods or consumer goods, for example), competition, available suppliers, the costs of short- and long-term financing, and expected economic and political trends.

The actual quantitative weighting of these areas and objectives represents a challenge to the company. Objectives are not readily comparable. One method of comparison is to translate objectives outside of the area of costs into monetary values.

Opportuneness is the suitability of an action in a particular situation. Opportunity cost is defined by [APIC16] as the return on capital that could have resulted had the capital been used for some purpose other than its present use.

Opportunity costs arise when for some reason customer demand cannot be fulfilled. In this case, the invested capital is used for something other than the gain that would have been made through meeting customer demand. Such costs result if entrepreneurial objectives with regard to concrete demand have not been weighted appropriately.As an example of translating non-cost objectives into monetary values in order to determine the opportunity cost, let us take the objective of high fill rate. What does it cost to be unable to deliver? There can be loss of:

  1. The non-deliverable order item.
  2. The complete order, even though other items can be delivered.
  3. The customer, even if other orders can be filled.
  4. All customers, due to the company’s resulting poor reputation.

This example shows how difficult it is to determine opportunity cost. Translating other non-cost objectives into monetary values is just as complex. Thus, the weighting of objectives is unquestionably an entre­preneurial matter that must be conducted within the framework of the normative and strategic orientation of the enterprise.

In contrast to QCDF objectives in the areas of costs and delivery, logistics, operations, and supply chain management have only a limited influence on the achievement of QCDF objectives with regard to quality and flexibility.

  • Target area quality: Clearly, product and process design as well as the choice of production infrastructure, employees, and the supply chain community are the main determinants of the quality of products, processes, and the organization.
  • Target area flexibility: The flexibility to enter as a partner in supply chains is, first of all, a question of the culture of an enterprise. The potential for flexibility in achieving customer value develops through product and process design and the choice of production infrastructure. Flexibility in the use of resources is determined initially by the qualifications of personnel and by the choice of product infra­structure.

Section 1.7.1 contains a scenario on possible improvements in achieving entrepreneurial objectives in the different areas.

Fig.        Potential for conflicting entrepreneurial objectives.

Some possible strategies, shown as example profiles in Figure, illustrate that the four target areas result in a potential for conflicts among objectives. There are even conflicts within the area of costs itself: As we will show later, reduction of inventory with a simultaneous increase of capacity utilization can result in goal conflict.

  1. High quality of product or process tends to result in high costs and long lead times. There is also a tendency toward repeatable processes, and thus to a low degree of flexibility.
  2. The shorter the delivery lead times, the higher the costs: To achieve short delivery lead times, stock or over­capacity is a must. Short lead times can result in cost of poor quality and reductions in flexibility (for example, reduced product variety).
  3. A high degree of flexibility in achieving customer value, through product variety, for example, leads either to long delivery lead times (as little inventory can be stocked) or to high costs due to unusable inventory of product variants.
  4. Low costs, due to high capacity utilization and simultaneous avoidance of stock, result in long delivery lead times, cost of poor quality, and reductions in flexibility in the range of goods.

Determining opportunity cost implicitly determines the relationship between entrepreneu­rial objectives in the four areas in Figure and the primary entrepreneurial objective.

The primary entrepreneurial objective, the achievement of which logistics, operations, and supply chain management are intended to support, is maximization of return on net assets (RONA).

Return on net assets (RONA) is defined as (net income) / (fixed assets + net working capital). Note: only fixed operating assets should be included in the calculation.

Operating assets are the resources owned by a company for productive purposes. [note 113].

Net income is the profit that a firm has after subtracting costs and expen­ses from the total revenue.

Profit after tax is also called bottom line. [note 114].

Net working capital is defined as current assets minus current liabilities, that is, the capital that is locked up in the “short-term” operating business. It is the fraction of the operating assets that can be converted into cash within the normal business cycle, yet is secured by long-term liabilities or equity. [note 115].

A particular goal in any of the four areas does not always support the primary entrepreneurial objective. This is true not only for daily decisions but also for supply chain initiatives.

A supply chain initiative (SCI) is a project or an investment aiming to improve supply chain performance.

For example, if investments to reduce lead time do not result in increased demand or a larger market share, then return decreases rather than increases (see Section 1.7.2). Section 1.7.3 presents a method for assessment of the economic value (added) of SCIs.

Course section 1.3: Subsections and their intended learning outcomes