Consider the following questions:
- How do you ensure you have the right systems to operate effectively?
- How do you evaluate your technology needs?
- How do you choose the right ERP solution?
If you’ve read this blog before, you’ll recognize these as central discussion topics. Each question has been addressed from many different angles.
But I noticed something reading Richard Cushing’s writing over at the RKL eSolutions blog. One of the themes running through Richard’s writing is an insistence that it’s premature to ask these questions, if you haven’t asked some more fundamental questions first:
- What does improving your business really look like?
- How do you isolate the issues that need to be overcome to secure better performance?
The fact is, these questions are at the real root of business improvement. To put it another way, you can’t possibly come up with the right answers, if you’re solving the wrong problems.
For years Richard has been working as a technology consultant, helping companies solve the right issues by applying the Theory of Constraints model to manage organizational change. I spoke with him recently about how business leaders can self-assess their business optimization efforts using specific continuous improvement principles—and also about how those same principles and practices can carry through into ERP selection.
Before digging into how the Theory of Constraints approach relates to ERP selection, can you introduce it as a management paradigm?
Richard: As the name “Theory of Constraints” implies, this approach to management suggests that every business—indeed, every system—has at least one constraint that keeps it from achieving more of its goal. If the goal of a for-profit enterprise is to make more money tomorrow than it is making today (that is, growth), then we know the system has at least one constraint or the organization’s profits would be approaching infinity.
At a more practical level, however—coming down from the stratosphere of hypothetical infinite profits—the best way to assure ongoing improvement in an organization is to understand the system’s constraint or constraints. Then change that brings improvement can be focused on that very small number of factors that assure progress toward the goal.
Unlike Six Sigma, as a contra-example, which seeks improvement everywhere in the system, ToC (the Theory of Constraints) seeks to focus the organization’s most precious resources of management attention, time, energy and money on those things that are most likely to affect the system’s constraint(s). ToC does this through what are known as the Five Focusing Steps:
- Identify the constraint
- Exploit the constraint
- Subordinate everything else to constraint
- Elevate the constraint
- Go back to step 1 – don’t let inertia set in
ToC also creates focus by simplifying the calculations. Here are the dominant numbers used in ToC analytics:
- Throughput (T): defined as revenues less (only) truly variable costs
- Truly Variable Cost (TVC): only those costs that vary directly and incrementally with incremental changes in revenues (typically, raw materials and very few other costs)
- Operating Expenses (OE): all the money the system pays out month-after-month in support of producing Throughput (basically, everything not included in TVCs or investments
- Investment (I): all the money the system has tied up in the enterprise in support of producing Throughput (including, and most commonly affected, inventory)
When we work with ToC, we always prioritize our efforts in this way around these metrics:
- First priority: anything that increases Throughput
- Second priority: anything that reduces Investment (especially, inventories)
- Third priority: anything that reduces Operating Expenses
These priorities are quite the opposite of most enterprise operations. Most executives and managers are constantly searching for ideas about how to “cut operating expenses.” In doing so, they also all too often, cut away at the system’s protective capacity that helps guard Throughput from the damaging effects of “Murphy.”
Furthermore, we encourage executives and managers to consider this: suppose you have a $100 million (revenue) operation. Its operations look something like this:
|Statement of Operations|
|Truly Variable Costs||60,000,000|
Suppose they would like to add $5 million dollars in profit to their bottom line over the next three years. Given today’s business environment, where most companies are already trying to minimize labor and operating expenses, is it likely that they can squeeze another $5 million out of raw materials, labor or other operating expenses?
Besides, if they could, they couldn’t do it again in the next three years to grow their bottom line.
But think of this, if they can increase Throughput by increasing revenues by 12.5 percent, doing so will add the desired $5 million to the bottom line provided it can be done without changing the ratio of TVCs to revenues and they can hold the line on operating expenses. Plus, if they have discovered the way to increase revenues, chances are they can do it again in the years following this initiative.
Since trying to drive operating expenses down always has a limit and even small reductions may be damaging to the company’s long-term goals, we always, always focus on increasing Throughput using ToC tools.
How do you go about investigating and finding the “weakest link in the chain” with your clients? What specific processes of evaluation would you recommend to businesses looking to self-assess?
Richard: We really disagree with technology vendors and VARs who come into organizations, do some kind of minimal evaluation of the environment, toss out some rule-of-thumb values or percentages that companies “might derive” from implementing their technologies, and make a sale. It is even worse if, after making the sale, they come back to the organization saying, “The first thing we need to do now is a ‘requirements analysis’ so we know how we are going to implement” the technologies.
No vendor or VAR—and that includes my firm—knows (or will ever know) as much about how the client’s enterprise works—or fails to work—in the process of turning products and services into Throughput. Equally as important, most executives and managers do not know about how their organization works—or fails to work—in their customer-to-cash streams either. They think they know; but, in the final analysis, they generally do not know.
Like Toyota’s executives and managers wisely assert, we, too, believe that “no one knows more about running the machine than the man who runs the machine.” If you want to understand how something works—or is failing to work effectively—you must ask the people who are involved in the daily nitty-gritty activities of your customer-to-cash streams.
In order to facilitate this, we use the ToC Thinking Processes—a set of tools specifically designed to help unlock “tribal knowledge” and help get the corporate politics out of the way of real and ongoing improvement.
After getting a little background about our client’s (or prospect’s) business and its situation in its industry, the first question we typically ask the executive and management team is this: “What are the top five or six things that you think are keeping your company from making more money tomorrow than it is making today.” Actually, we like to do this with their team assembled, but we hand out 3x5 index cards and ask them not to consult one another. Rather, each individual writes their top issues down—each on a separate 3x5 card.
We also ask them to tell us only the issue on the card. We don’t want what they think might be the cause.
For example, we want to see “Our prices are too high to be competitive.” We do not want, “Our prices are too high to be competitive because our manufacturing equipment is outdated and inefficient.”
We tell them, if the “because” factor they feel tempted to put on the same card with another issue is, in their mind, a top factor in keeping the firm from making more money tomorrow than today, then put it on a separate card.
When we get done collecting the cards, the next step is to get clarifications from the authors—sometimes a statement may be perfectly clear to the writer, but needs to be clarified further for a larger audience (or, perhaps, especially for us as outsiders). We also weed out duplicates, since there are typically duplicate or very similar responses when the process involves ten or 15 participants.
Once we are at this point, we take the team through the process of using these UDEs (Un-Desirable Effects) that they have written down for us to build a Current Reality Tree or CRT. This is one of the Thinking Processes that helps the organization begin to see their customer-to-cash stream as a unified cause-and-effect “system,” instead of thinking about what happens in this department or that department in relative isolation. You can read a simple explanation regarding Current Reality Trees here.
By the time we are done, we are generally getting comments like: “We’ve never seen our organization like this before.” Light bulbs are coming on all over the room and a clearer view of the very small handful of things that are actually keeping the company from making more money tomorrow than they are making today is beginning to emerge. In short, they are beginning to see—clearer than ever—their system’s constraint or constraints.
Notice, we are not asking them “What needs to be made more efficient?”, or “Where do you see the greatest opportunity for savings?” We are asking them what’s keeping them from making more money. Those are entirely different questions coming from two different realms—the former questions from cost-world thinking and the latter from Throughput-world thinking.
In answer to your question, the very best toolset for “self-assessment” is the ToC Thinking Processes. Anyone can learn to use them—and we encourage our clients to learn to use them without our assistance. But having someone with knowledge and skill in their application when the firm is getting started on a process of ongoing improvement (POOGI) can certainly give the company a kick-start toward improved profitability.
How often do you find that insufficient financial and operations management software represents the weakest link?
Richard: These days, the straight answer to your question is, “Almost never.”
When I started in this business, the PC (personal computer) had just been introduced and I was helping most of my clients move off paper-based systems onto their first computer-based accounting system. I also help with automating other areas like digital estimating systems and more.
Today, however, most business entities we touch have been through at least one ERP implementation. Some have been through several.
That’s why, a few years ago, I created a new acronym for “ERP.” Traditional ERP, I say, was an “Everything Replacement Project”—a wholesale renovation of how an organization works, reports and captures historical data. Most companies today will benefit little—if at all—from another whole renovation.
“The New ERP is ‘Extended Readiness for Profit,’” I tell folks now. We are no longer looking for ways to cut costs (even though that is likely to happen as a side-effect), we are looking for new ways to increase Throughput and profit.
Let’s assume the lack of appropriate financial and operations management software is identified as the weakest link for a given business. How do you “break the constraint”?
Richard: Best practices involve the conscientious and proper application of the ToC Thinking Processes to reveal precisely which operations and functions need to be augmented in order to: 1. Increase Throughput, 2. Reduce Investment—most commonly, inventories, and 3. Hold the line on Operating Expenses while sustaining significant growth in Throughput in the immediate future.
Any solution that does not offer the proper kind of change in the proper functions will not increase Throughput.
In fact, we even help business leaders pencil-out estimates of the effects on T, I and OE that might stem from a proper implementation of the right technologies. These become their real estimates and the implementation should be accountable to achieve something within the range of the resulting estimates.
The technology selected absolutely must address the precise nature of the constraint(s) identified. Nothing wishy or squishy should be tolerated in the selection of technologies to address constraints. If the technology provides additional benefits, that may be good, but we don’t really care and neither should the management team. The key, however, is to be certain that the new technology doesn’t create any new constraints in the system. (That has been known to happen. We call it “over-automation,” where the workers become servant to the technology, instead of the technology serving them.) Like a medical doctor, the key rule is: First, do no harm.
“Requirements” documents that are nothing more than wish-lists for functionality gathered up department by department ought to be trashed outright. The only valid items in the “Requirements” are those few things—typically, fewer than five—that will directly address the constraint(s) to increasing Throughput.
In what ways can an integrated ERP solution provide businesses with improved ability to identify and manage constraints throughout the organization?
Sadly, most of today’s ERP solutions provide managers and executives with no improved visibility into the system’s constraints. The very best computer to identify system constraints is human intuition applied in a systematic process of understanding the cause-and-effect relationships between activities within the enterprise. We call that systematic process the Thinking Processes.
However, data from ERP systems can certainly be used to help figure out how to exploit an existing constraint—that is, get the most out of it; to maximize Throughput though the constraint. ERP data might also be used to uncover the best ways to subordinate other decisions across the organization to the constraint; and the ERP system might also be capable enforcing rules that assure that other decisions and actions are properly subordinated to what is happening at the constraint.
Another factor may also come into play: data coming through the ERP system may inform the management team as to when or how to elevate the constraint.
There are all sorts of ways good data can be used to augment good management. It is ToC approach to management, however, that keeps executives and managers focused on using the ERP system and data on a process of ongoing improvement.
Richard Cushing is a Senior Consultant at RKL eSolutions. RKL eSolutions designs, implements, and supports advanced information systems with a particular emphasis on financial, distribution, manufacturing, and CRM solutions. For more great business management and technology insights, follow @RDCushing and @RKLeSolutions on Twitter.