S&OP is a known practice, usually focused on the immediate short-time frame, where Sales and Operations negotiate what to produce.
Much more value can be generated when ideas regarding market opportunities can be truly analyzed, considering the potential throughput (T) and capacity requirements, which include the cost of using overtime, special shifts, temporary workers and outsourcing. I refer to these means of quickly increasing the available capacity, for a certain additional cost (delta-OE), as capacity buffer.
When there is excess capacity throughout all operations we are used to describe this state as “the constraint lies in the market.” In such a situation any additional sale is welcome. Question is how such a situation impacts the sales agents – are they truly compelled to take big moves to bring new clients and new markets, or they still focus on the existing clients, looking for few small opportunities to increase the sales just a bit?
When salespeople come with new ideas, pointing to new market segments, are they being listened to? How are those ideas, which might raise also concerns on top of opening a potential opportunity, checked by top management?
Suppose an idea of packaging several different products together, selling it for a lower price than the simple accumulative price of all the items, is raised. Several questions are immediately raised:
- Selling a package would definitely reduce the sales of the individual items. Question is: by how much? Is the overall total T going up or down? Are there ramifications on the operating-expenses (OE)?
- Is there enough protective capacity to face the new potential demand? If not, can we use the capacity buffer and still gain delta-T>>delta-OE? Or, should we intentionally reduce sales from products that yield less T per the critical capacity they require?
- As no one can accurately forecast the demand for such a new offer – how can we test both the risk of causing a loss and the chance of gaining much more profit? In other words, what are the possible upside and downside of the decision?
The regular S&OP process does not ask these questions. Forecasts are treated as one-number representing reality and the financial impact is supposed to be based on the cost-per-unit. The flaw of such a process lies on the two erroneous concepts, cost-per-unit and one-number-forecast, which lead to wrong decisions and mediocre results, in spite of the good intentions of both Sales and Operations teams.
The real result is that most organizations are stuck with their current clients and market segments and they do very little to make a real move to achieve a leap in the organizational financial performance.
Kiran Kothekar, co-founding director at Vector Consulting Group India, made the following important observation during his presentation at the TOCICO conference, 2016.
Using targets leads to inferior overall performance of the organization!
The rational of the above statement is that targets behave very similar to Parkinson Law. We try to hit the target, but we know better not to try to be above the target, because we don’t like to get higher targets in the future. Another negative ramification is that most targets are for a local area. The derivation of the target is done by considering the overall forecast, but when one of the other parts fails to reach their target, trying to meet the target of the other local areas causes damage. So, hitting targets locally causes problems elsewhere in the organization. For instance, focused efforts to sell specific products in order to hit their target might be on the expense of other sales that are someone else responsibility, or on the expense of future sales. Promotions, carried in order to meet the longer term targets, create massive temporary capacity problems that harm the sales of other products, and reduce the overall Net-Profit = T – OE.
The practical ramification is that setting targets would eventually disrupt any implementation of TOC, no matter the level of benefits already earned. In his presentation Kiran made it clear that using TOC performance measurements as targets would cause the same negatives. I fully agree.
In the mind of management setting targets has a reason: pushing salespersons, operators and middle-level managers to make the required efforts to achieve good results. Without those quantitative measures there is a concern that employees would constantly do less than what they can and should.
Judging whether the performance of an individual, or a whole function, is about right cannot be done by relying on quantitative measurements. There is too high variability and on top of it there are too many dependencies with other individuals, functions and external events. Observing the behavioural patterns is a better way to identify low motivation. Motivating people by encouraging them to raise improvement ideas and treating those ideas seriously by carrying analysis of the impact on the goal is a way to maintain the right culture.
Treating uncertainty calls for using forecasting ranges. Falling below the range should call for analysis, not automatic blaming. Going beyond the range also calls for an analysis. Most of the time the cause is not under or peak performance of someone, but a signal about changing reality that allows us to know a little better, which is the key for handling uncertainty and gaining competitive edge out of it.
I have described the process of ongoing Sales and Operation planning, called DSTOC for decision support based on TOC, in previous posts, which encourages capturing the intuition of salespeople as well as operational people, converting it to ranges, and checking the financial ramifications of the reasonable worst-case and the reasonable best-case. It is not just a way to make sensible decisions under uncertainty; it is also the sensible way to abolish the use of targets to get people do what they know they should do.
Eli Schragenheim 
Lovely post, Eli. I am with you and kicking myself that I missed Kiran’s presentation while in a great conversation outside the hall. It is true that you can’t do everything in a limited time.
LikeLike
Hi Eli! I agree with you, but I would like to write some explanations about S&OP:
You wrote “S&OP is a known practice, usually focused on the inmediate short-time frame, where Sales and Operations negotiate what to produce”. I do not agree. S&OP is not usually focused there. Dick Ling, Oliver Wight and other giants created S&OP based not only in short-time frame, but mid and long-time frame. In fact, Ling and Coldrick have been talking about their “right-left” approach (from the market to supply side) some years ago and Dick Ling developed MPS as a pivot between S&OP and the Operating Model (supply side). Best in class practicioners have applied S&OP focused in business plan and strategic planning (mid and long term) more than 10 years ago. Oliver Wight have been trainned managers including financial issues and the link with business plans more than 10 years ago as well. “What if” scenarios was included in several S&OP approach some years ago.
I think DSTOC is a very good tool in order to include in the S&OP scope for making decisions in high uncertainty environments, but I think S&OP is much more than you are writing.
We have to know what is the problem, before to design any solution, right? So… What is wrong with S&OP? It is only about analyzing scenarios for making decisions, but about how we understand the difference between short and mid and long time frames and the decisions that we have to make in each frame with the right information (for example: fixed costs are not relevant for the short-time frame decisions, but maybe they are important for long term decisions), how we have to receive the relevant information from business plan and strategic planning (which are builded based on the market) in order to transform it into operational decisions (of course, there is a problem here because of taking a single number from forerast as a precise projection), how we receive feedback information from Operating Model in order to adapt it according with this info and business plan’s goals using a dynamic process, and how we can bring projections and analysis for making strategic and tactical decisions (you are talking about this issue with DSTOC).
We need a new bridge among strategic, tactical and operational decisions for adapting S&OP process and our Operating models. It is not about TOC, it is about to build new processes and tools which work for our new complex environments with high variability everywhere. I think is not about replacing the tool if there are useful elements with the current tool, is more about changing or evolving these tools in order to transform them in powerful models with efective tools.
Dick Ling, S&OP’s father, is working with Demand Driven Institute (Carol Ptak & Chad Smith) in order to create this new bridge. Maybe it would be interesting to take a look of this in these web sites: http://www.demanddriveninstitute.com and http://www.dickling.net
LikeLike
Thank you Alfonso. I actually briefly talked with Dick Ling many years ago. I appreciated very much what he tried to do, but wondered how he can do it right without the understanding of handling uncertainty and the use of cost accounting.
I do not think reality is complex, I think we make it over complex. For instance, by making the distinction between “strategy” as long-term big plan and “tactics” as the short-term plans that need to “fit” into strategic decisions taken a while ago and since then reality has changed. Introducing business-plans based on wild predictions, instead of creating flexibility and careful testing of ideas, unnecessarily complicates the decision making and leads to inferior overall performance. I think this is the essence of the debate between the TOC management and the current practice of forcing certainty on basically uncertain situations.
The TOC S&T structure outlines much more generic objectives for the future (not arbitrary numbers) and forces verbalizing the underlining assumptions, giving a way to review the whole plan, find out what does not work and make the necessary change.
You are right about having different decisions for different time frames. When investment is required we like to check the chance it’d fail versus the chance it’d succeed, and also the timely signals that will tell us which direction reality goes. This is scenario driven as well, all long-term decisions have to be checked this way, and be ready to be abolished when there is good enough knowledge that reality is not in our favor. Calculating ONE ROI is a flawed way to make decisions.
On the other (flawed) extreme is quick reaction to signals that could easily be part of the noise.
The S&OP that I saw were done in the way I described. I can easily see how the intentions were way beyond that, but then they met with a practical difficulty to apply them. For me, “what-if” is not a feature, it is the core of the S&OP (&Finance) process, because you need to roughly assess both the potential damage and the potential gain. The big realization is that you don’t need to be precise to compare two different situations asking yourself whether one is definitely better than the other in spite of all the noise.
From your comment I understand DDMRP and Dick Ling look for a new developments of S&OP, something that does not exists today. So, what is wrong, or missing, in the current process from your point of view?
Throughput Economics can achieve everything you described in a much simpler way, and also much more effective way. I assume more debate, probably going into more detail, is a matter of time.
LikeLike
Yes, I agree Eli. Throughput Economics is necesary and a powerful tool for making this “what if” analysis, but it is not suficient. Oliver Wight, S&OP worlwide Leader already had included “what-if” analysis and the financial function when it developed their IBP approach, but it was not sufficient in order to eliminate the negative effects for managing environments with high variability (but it still is the more succcesful and advanced S&OP approach according with many large companies in the world… until now).
The big picture needs more elements (in relation with the issues that I was writing in my last comment) in order to build an efective Adaptative System which synchronizes strategic, tactical and operational decisions. Maybe that needs a good colombian coffee for talking about it…
LikeLike
I appreciate very much to learn from this TOC discussion. I think it lies at the heart of many change management and employee motivation issues of this time.
On that account I would like to repeat one phrases and one paragraph you -Eli- wrote:
– ”I do not think reality is complex, I think we make it over complex.”
– “Observing the behavioral patterns is a better way to identify low motivation. Motivating people by encouraging them to raise improvement ideas and treating those ideas seriously by carrying analysis of the impact on the goal is a way to maintain the right culture.”
When I reflect on the last projects I worked on, I find that in 3 of 4 cases employees felt alienated by the models management made of reality. And they felt demotivated as well, because on the one hand they were being reduced to ‘soldiers’ obliged to follow orders – and not think for themselves, and, because on the other hand they found that management’s models didn’t match the reality they lived and worked in.
I agree with you that encouraging people to raise improvement ideas and treating these seriously by carrying out analysis of the impact on the goal is a way to maintain the right culture, meaning, I would like to add, that this motivates people tremendously and will have the greatest possible impact on the companies objectives as well.
The S&T-Tree as you describe it, is a very useful instrument to do so. (Do I understand you right?) This correlates very well with the findings of the late Frederique Herzberg. He showed that people’s motivation grounds in their psychological need to develop and improve themselves. He found out however that managers again and again misunderstood and misinterpreted this finding by just setting higher targets. The factors Herzberg discerned in employee motivation, like achievement, recognition, the work itself and autonomy, fit very well, I find, with the way you describe the use of the S&T Tree.
Interestingly the factors that have shown to be important in employee motivation mirror the factors that are important in organisational performance. This of course is no surprise, as we find that reality in itself is simple. The models consultants and management scientist build, however, very often are over complex. I think that is a sign that something is wrong: models should make clear the intrinsic simplicity of reality.
LikeLike
Thank you Willem. I just like to correct one confusion. I referred to S&OP process not to the S&T Tree. S&OP stands for Sales and Operations Planning. I expand the idea of bringing Sales and Operations together to a platform where ideas are raised, usually based on intuition, then the intuition is translated into numerical ranges and the financial ramifications are checked. This kind of decision making sessions open the door for checking variety of “crazy ideas” and highlighting both the opportunities and the possible downsides. Everything you said is in line with my suggestion for the S&OP in the TOC Way for collaborative decision making.
The S&T is a higher level planning –> looking for whatever it takes to bring the organization to a new state that is highly desired. The contribution of the S&T to the motivation of every employee is that it shows to every one what is required from him/her and who else is required to meet that objective. I think that the wider scope S&OP is a necessary element for strategy planning and execution – making sure there is the right balance between the market demand and capacity.
LikeLike
… this is the difference between a S&T Tree for planning the implementation project of a new model (TOC) and a S&OP process in a continuous basis to sustain a business model, not a project.
LikeLike
Hi Eli, Alfonso,
Thank you both for your clarifications. I actually referred to what Eli wrote about S&T in his comment on Alfonso. Nevertheless both your clarifications are very revealing.
LikeLike
Hello Eli,
Very nice discussion. As I have been working closely with IBP/S&OP for the last thirteen years I had the same first impression than Alfonso. IBP/S&OP is much more what you have described in the article. However, when you wrote at the comments part “I can easily see how the intentions were way beyond that, but then they met with a practical difficulty to apply them.” I changed my mind.
Indeed, I see in the IBP/S&OP book of knowledge many management issues being addressed. Pretty much all you’ve described in the article (scenario planning, linking to financial cycles, to new product, to company wide projects and etc…), extensive theoretical solutions discussed and described in many articles and books. However, in reality not many companies have in practice applied them successfuly despite on the large amount of resoucres invested on it.
So, the big question that is bothering me and sticking to my mind is: Why? So, I decided to do a cause and effect analyis to find out. I am just starting that but will base mine on Dettmer tree on why TQM fails.
I will share as soon as I get this done!
Note => Thanks for sharing your knowledge on this blog.
LikeLike