measurement of labour productivity

4.1 The Nature of Operations – Efficiency, Effectiveness, Productivity and Sustainability

Learning Objectives

• Explain the transformational process and how operations add value.
• Define and differentiate efficiency, effectiveness, productivity and sustainability.
• Measure labour productivity (both unit‑based and value‑added) and interpret its significance for business performance.
• Compare capital‑intensive and labour‑intensive operations.
• Identify the main operations methods and the issues involved in changing them.
• Understand the purpose of inventory management, basic inventory‑control techniques and the concepts of Just‑in‑Time (JIT) and Just‑in‑Case (JIC) purchasing.

4.1.1 The Transformational Process

Operations convert inputs (resources) into outputs (goods or services) that create added value for customers and the business.

Factor of Production	Typical Input
Land	Raw materials, premises, natural resources
Labour	Human effort – skilled, semi‑skilled, unskilled
Capital	Machinery, equipment, technology, buildings
Enterprise	Management, organisation, entrepreneurship

Simple flow‑chart (replace placeholder):

Raw material (Land) → Labour & Capital (Enterprise) → Production Process → Finished product (Output) → Customer (Added value)

4.1.2 Key Definitions & How They Are Measured

• Efficiency: Doing things right – producing the maximum output from a given set of inputs.
• Effectiveness: Doing the right things – achieving the intended outcomes or objectives (e.g., meeting market demand, quality standards).
• Productivity: Ratio of output to input. In the Cambridge syllabus it is usually expressed as output per unit of labour input.
• Sustainability: Meeting present needs without compromising the ability of future generations to meet theirs. Measured through three dimensions – economic, environmental and social.

Concept	What is Measured?	Typical KPI
Efficiency	Output ÷ Input (same period)	Units produced per machine hour, energy per unit
Effectiveness	Degree of target achievement	% of orders delivered on time, customer‑satisfaction score
Productivity	Output ÷ Labour input	Units per labour hour, contribution margin per labour hour
Sustainability – Economic	Profitability & cost efficiency	Cost per unit, ROI
Sustainability – Environmental	Resource & emission intensity	CO₂ kg per unit, waste %
Sustainability – Social	People‑related outcomes	Employee turnover, health‑&‑safety incidents

4.1.3 Measuring Labour Productivity

Basic formula

\[ \text{Labour Productivity} = \frac{\text{Total Output}}{\text{Total Labour Input}} \]

Total Output can be expressed as:

• Physical units (e.g., 12 000 units)
• Monetary value – sales revenue or contribution margin (value‑added output)

Total Labour Input is usually:

• Total hours worked (including overtime)
• Full‑time equivalents (FTEs)

Step‑by‑Step Calculation

1. Select the period for analysis (e.g., one month).
2. Collect total output for the period (units or value‑added).
3. Collect total labour hours worked for the same period.
4. Apply the formula.

Illustrative Example 1 – Unit‑based productivity

Item	Value
Total units produced (Month)	12 000 units
Total labour hours worked (Month)	4 800 hours
Labour productivity (units per hour)	2.5 units / hour

Illustrative Example 2 – Value‑added productivity

Item	Value
Total sales value (Month)	$300 000
Variable cost of sales (materials & overhead)	$180 000
Contribution margin (value added)	$120 000
Total labour hours worked (Month)	4 800 hours
Labour productivity (value added per hour)	$25 / hour

Interpreting the Results

• Higher figures indicate more output (or value) generated per hour of labour – a sign of greater efficiency.
• Useful comparisons:
  • Across time periods – to spot improvement or decline.
  • Against industry benchmarks – to assess competitiveness.
  • Between departments or production lines – to identify best practice.
• Typical drivers of change:
  • Technological upgrades (automation, ICT).
  • Training and skill development.
  • Process re‑engineering or layout changes.
  • Workforce composition – more skilled staff or better team mix.

4.1.4 Capital‑Intensive vs Labour‑Intensive Operations

Aspect	Capital‑Intensive	Labour‑Intensive
Typical Industries	Automobile manufacturing, oil refining, electronics	Handicrafts, hospitality, retail services
Cost Structure	High fixed costs, low variable labour costs	Low fixed costs, high variable labour costs
Flexibility	Lower – output changes require equipment adjustments	Higher – output changes can be achieved by hiring or redeploying staff
Productivity Measure	Output per machine hour (or per unit of capital)	Output per labour hour
Risk Factors	Obsolescence of equipment, large capital outlay	Skill shortages, labour disputes, higher overtime costs

4.1.5 Operations Methods

Four main ways of organising production, chosen according to product volume and variety.

1. Job production – one‑off, customised items (e.g., bespoke furniture, custom‑made machinery).
2. Batch production – groups of identical items produced together (e.g., bakery cakes, printed magazines).
3. Flow (mass) production – continuous, high‑volume output on assembly lines (e.g., car manufacturing, bottled drinks).
4. Mass‑customisation – high volume with individual specifications using flexible equipment (e.g., customised sneakers, personalised laptops).

Decision‑tree placeholder: Product volume ↔ Variety ↔ Choice of method (Job → Batch → Flow → Mass‑customisation).

4.1.6 Changing Operations Methods

• Common barriers
  • High capital investment for new equipment or software.
  • Need for staff retraining and possible resistance to change.
  • Long change‑over times and temporary disruption to output.
  • Uncertainty about future demand forecasts.
• Typical problems during transition
  • Loss of product quality while staff learn new processes.
  • Under‑utilisation of new capacity before economies of scale are realised.
  • Higher unit costs in the short term as learning curves are climbed.

Case‑study snippet (placeholder): A clothing manufacturer moved from batch to flow production. After a six‑month transition, unit cost fell by 12 % and output rose by 18 %, but the firm incurred a one‑off training cost of $150 000.

4.2 Inventory Management

Purpose of Holding Inventory

• Protect against demand fluctuations (buffer stock).
• Cover lead‑time delays from suppliers.
• Facilitate economies of scale in purchasing.
• Enable smooth production scheduling and avoid bottlenecks.

Key Costs and Benefits

Cost	Benefit
Carrying cost (interest, storage, insurance, obsolescence)	Reduced stock‑outs and lost sales
Ordering cost (administration, transport, handling)	Bulk‑purchase discounts, lower unit price
Stock‑out cost (lost goodwill, emergency orders)	Improved customer satisfaction and loyalty

Basic Inventory Calculations

• Re‑order point (ROP) \[ \text{ROP} = (\text{Average demand per period} \times \text{Lead time}) + \text{Safety stock} \]
• Economic Order Quantity (EOQ) \[ \text{EOQ} = \sqrt{\frac{2DS}{H}} \] where D = annual demand, S = ordering cost per order, H = holding cost per unit per year.

EOQ Example

Annual demand = 10 000 units, ordering cost = $50 per order, holding cost = $2 per unit per year.

\[ \text{EOQ} = \sqrt{\frac{2 \times 10\,000 \times 50}{2}} = \sqrt{500\,000}=707\ \text{units (rounded)} \]

Control Charts for Inventory

A simple Inventory Level Control Chart plots weekly stock on hand against upper and lower control limits (often set at 2 × safety stock). Points outside the limits trigger investigation (e.g., unexpected demand surge or supplier delay).

4.2.2 Just‑in‑Time (JIT) & Just‑in‑Case (JIC)

Aspect	JIT	JIC
Philosophy	Receive goods exactly when needed for production	Hold extra stock as a safety buffer
Primary Goal	Minimise carrying costs	Protect against supply disruption
Key Requirements	Reliable suppliers, accurate demand forecasting, flexible production	Accurate lead‑time data, adequate storage space
Risks	Vulnerability to supplier delays, production stoppages	Higher holding costs, risk of obsolescence

Illustrative diagram (placeholder): Supplier → Production line → Finished goods → Customer, with minimal inventory shown at each stage.

4.3 Linking Operations Performance to Business Objectives

Balanced Scorecard Approach

• Financial perspective – productivity, cost per unit, profit margin.
• Customer perspective – effectiveness (quality, delivery times, satisfaction).
• Internal‑process perspective – efficiency (output per input, waste reduction).
• Learning & growth perspective – sustainability (employee wellbeing, environmental impact).

Interpreting Labour Productivity in Decision‑Making

1. Identify trends – a rising productivity trend may justify wage increases, further automation, or capacity expansion.
2. Benchmark against industry – if below average, investigate causes such as outdated equipment or skill gaps.
3. Assess impact on sustainability – ensure higher productivity does not increase carbon intensity or lead to excessive overtime.

Common Pitfalls When Using Productivity Data

• Ignoring quality – defective output inflates productivity figures.
• Over‑reliance on overtime – short‑term gains can damage employee health and raise long‑term costs.
• Comparing dissimilar products without normalising for value or mix.
• Failing to consider external factors (market demand, regulatory changes, supply‑chain disruptions).

Practice Questions

1. Company A produced 8 000 units in a month with 2 000 labour hours. Company B produced 10 000 units with 3 500 labour hours. Calculate the labour productivity for each company (units per hour) and comment on which is more efficient.
2. A firm’s labour productivity (sales value per hour) rose from $55 /hr to $62.5 /hr over a year. Identify two possible reasons for this improvement.
3. Explain how an increase in labour productivity could be achieved without compromising environmental sustainability.
4. Using the EOQ formula, calculate the optimal order quantity for a product with annual demand 15 000 units, ordering cost $40, and holding cost $3 per unit per year.
5. Compare the advantages and disadvantages of JIT and JIC in a high‑tech electronics manufacturer.