Lean versus EOQ? What’s best for your organization?

AndrewDunbar

manufacturing lean versus oeqA colleague and I started our morning off with a coffee and a conversation about integrating EOQ (Economic Order Quantity) into MPS (Master Production Scheduling). In no time at all we were debating between lean versus EOQ. While each approach has its merits, the two concepts present some conflicting advice. Here we go again! It doesn’t matter if you’re a technician working on the shop floor or an executive in the board room, if you’re in the business of manufacturing then this is a conversation you’ve had before. Without the right data it’s a debate that’s impossible to win, but I’m convinced that neither solution is perfect in all cases.

EOQ attempts to optimize lot size by balancing manufacturing cost (Fixed + variable costs) with things like inventory holding costs and capacity utilization. Lean relies on minimization of, among other things, lot sizes, inventory and waiting. Traditional ERP systems take fixed (often part specific) inputs for planning parameters and spits out a plan without any thought as to the efficiency (financial/shop capacity, etc.) of that plan. Master schedulers can manipulate the planning parameters to create lean or EOQ optimized schedules, but how do you decide which way is right for your organization?

Companies often swing back and forth between the two ideologies – often depending on which S&OP seminar an executive recently attended. I’ve seen attempts to transition to lean cripple an organization because they incorrectly applied the principles and go too hard and too fast. Yet, going all the way to EOQ could cause over-investment in inventory and tie up capital that would be better invested in new technologies/process that would allow a company to become more lean.

In my opinion, lean appears to be the better solution in many industries, but transitioning to lean is challenging and the reality is that many companies aren’t close yet. So, how do they make that transition? They can go fast, invest a significant amount of cash into the transition and throw a huge team of industrial engineers at the problem to look at everything from all angles. Alternatively, they can go slow, and use a small team of industrial engineers, but where do they start and can they move quickly enough to stay competitive in a rapidly changing world?

With the right analytics and the ability to compare multiple scenarios, it’s possible to find the happy middle ground in between and make a smooth transition to lean. Imagine a tool that allows supply chain professionals to compare both scenarios and understand the complete impact on their business of each option (globally and specifically), and allows schedulers and planners to make the right decision on a case-by-case basis. This could change the conversations of the S&OP/MPS teams as the data can enable rapid and accurate decisions on how to most effectively invest their resources (based on constraints like capacity, inventory holding costs, availability of supply, availability of cash for inventory investment, etc.).

Imagine a scenario:

  • You’ve got a product line with high run rates and steady demand that screams lean but you’ve still got high fixed costs due to multiple products lines sharing the same manufacturing cell (repetitive tear-down/setup)? Let’s work under EOQ rules until your industrial engineers can come up with a solution that reduces your setup time, changes the planning parameters, and swings the balance back toward lean. Oh, and by the way, here’s a list of parts where your industrial engineers should focus their efforts based on the largest opportunities presented (based on current independent demand data).
  • You want to go lean, but your customer’s demand schedule wreaks havoc on your capacity plan. Here are the most cost effective parts to re-schedule/ group to balance capacity with cost.
  • You’ve ‘gone lean’ but aren’t! How do you correct until your industrial engineers catch up with your executive vision?

What are your thoughts? Have you had this debate before? Have you tried to go lean but haven’t received the benefits you expected from your investment? How are you changing the conversation in your organization to ensure you are investing resources effectively? Please keep the conversation going in the comments below.

 

AndrewDunbar

Andrew Dunbar joined Kinaxis in early 2015 as a solution blueprint developer after working primarily in business analytics in aerospace and electronics manufacturing. He now works with product management to convert business requirements into product solutions, while facilitating ease-of-use for customers. Andrew holds a Masters of Applied Science in Mechanical Engineering from Carleton University in Ottawa, Canada.

More blog posts by Andrew Dunbar

Discussions

  1. Andrew:
    I think you are right that many many companies have these discussions. My concern for these companies is that a discussion of EOQ vs Lean betrays a fundamental misunderstanding about lean (and maybe MRP too). Lean is not a manufacturing method, it is a different way of looking at your whole business. If company leaders are humming and hahing about EOQ or Lean they should use EOQ because there is no likelihood that lean will work within their current culture.
    Similarly, the idea that Industrial Engineers need to catch up with the leadership means that the company is no where near to “going lean”.

    But to answer your question instead of pontificating …..

    Total change-over time = (Total Production Time per Week or Month) less (Total Production Cycle Time)

    This tells you how many minutes or hours you have to do change-overs. The number of change overs = (Total Change Over Time) / (Time for a Current Change Over)
    The batch size is the Total Quantity of Production divided by the Number of Change-Overs.

    Use SMED once every month to halve the change-over time each month using a team that includes mostly production operators who do the real production work. Include Industrial Engineers and other Specialists. Include someone who knows nothing about the process; accountants fit well into SMED projects providing they do not get involved in spurious calculations like re-calculating the standard costs!!!

    But the very first thing to do is to decide if your company is willing to become a lean organization or to continue to be a traditional mass producer. Either approach is a reasonable business decision. But do not think that you can apply a little lean here and there. You are either committed to lean or committed to traditional management. You can not be half & half – although 1000’s of companies try. You can not have two wives at the same time – although millions of us try :-))

  2. Great comments Brian! I’m glad somebody called me out for making a direct comparison between EOQ and Lean! It’s really only a portion of lean thinking that contrasts with EOQ – Holding Inventory, Over-production, and Waiting – 3 of the 7 ‘wastes’. I also like your comments about going half-way with lean. It’s a common mistake!
    Let’s consider a build-to order companies with low rates and high product mix (000s of different products each week) that’s newly committed to becoming a lean organization. You’re completely reliant on your ERP system to plan because of the size and scale of the planning calculations. Can you become ‘lean’ by blowing away things like safety stock, minimums/multiples, and time buffers? Then your ERP system will be planning just enough, just in time right? Unless you’ve combined that with drastic performance improvements though your customer service levels are sure to take a beating! Of course this approach contrasts with the lean thinking of gradual and continuous improvement, but I’ve seen it happen!

    If you try to plan ‘lean’ when you’re not, you may be missing savings opportunities every time you make that lot of 6 because the customer only wants 6 this week (when you could have made 12, saved an hour of set-up next week, and shipped the second batch of 6 just 5 Mdays later). Even for companies that truly understand lean and are gradually and continuously improving, the improvement projects (like SMED)reduce the EOQ, but keep it a moving target. You don’t want to get caught thinking that latest setup reduction means you can throw EOQ concepts out the window! For projects that impact multiple products, you need to know the scope of that impact because the Master Production Scheduler still needs the right information feeding into their S&OP and order fulfillment planning process.

    The right data and analytics can make sure no opportunity is missed!

  3. Andrew:
    I have no beef with ERP systems. Most lean companies use ERP especially for the customer facing processes. But I guess I am less enthusiastic than you with regard to the calculation and efficacy of ERP for shop-floor scheduling. I am very unenthusiastic about the use of EOQ, routings, inventory control. I guess I have been case-hardened. I have 3 short-ish observations:
    1. Many manufacturing companies have an elaborate cycle-counting process. When I ask them why they tell me it’s because the auditors need to ensure accurate inventory numbers. The real reason of course is that the inventory systems in ERP/MRPII are cumbersome, time consuming, hugely wasteful, and largely inaccurate.
    Hense the cycle counting. If we can’t trust something as basic as inventory, how can trust the much more complexity issues you are lauding?
    By the way, when I suggest to these companies that they could count the same 30 or so items every day. They laugh at me. Then I explain that if you count the same ones every day they will be able to ascertain the causes of the errors – and gradually solve the problems instead of just fixing them through cycle counting. They then tell me they don’t have time to count 30 more each day. They are too busy fixing the chaos they don’t have time or see the reason for continuous improvement!!

    I am mentioning this as an indicative of the wide-spread problems of “big data, analytics, and ERP style” business. Need I say such things as inaccurate BOMs, unsuitable outdated routings, information that’s inaccessible to the people who need it, huge numbers of inexplicable reports calked “KPI’s”, measurements like earned hours, variance analysis, and overhead absorption that bankrupted GM in 2009.

    I am speaking harshly, I know. But these are just business decisions that need to be made. Traditional top-down management and batch & queue production that has well served US industry since the 1950’s. Or should your company embrace lean thinking and a culture of continuous improvement.

    2. Lean is nothing to do with reducing inventory. It is important to hold inventory when you have problems you have not yet solved. All inventory is there because there are problems that need to be solved. Lean companies to not strive to reduce inventory; they strive to eliminate the obstacles to flow. There are of course myriad obstacles to flow and lean companies work and work, engaging the entire work force to solve problem after problem after problem.

    Of course, as these problems are solved step-by-step, the inventory levels will fall like a stone……

    Lean companies take great pains the calculate the right amount of inventory at each level to buffer the long lead times, variability, and other problems. But as continuous improvement kicks in, these calculations lead to lower and lower inventory. But the real issue is not inventory, it is flow.

    My observation with ERP-bound companies is that they often spend a lot of time feeding the system, but there is scarce time to make real improvement & problem solving.

    I am not making a criticism about this. These are business decisions. Does the company feel that tradition production thinking and methods are appropriate for their business? Or are they prepared to take the radical journey towards lean. That is the decision that needs to be made. But don’t try to kid yourselves by trying to do a little of both.

    3. I think that throwing EOQ thinking out is a very lean thing to do. EOQ as you mentioned violated at least 3 of Shigio Shingo’s 7 wastes. So why would we want to embrace it?

    As I showed in the previous post, the calculation of batch size is done the opposite way by lean companies than EOQ companies. Although the real issue is the hard-stare focus on continuous improvement to make everything flow faster. To do that you have to eliminate the waste of overproduction by eliminating the time taken for change over. Thus can often be rather easy to do. Other times it takes years of step-by-step improvement.

    If you embrace the paradigm of EOQ it is very unlikely that you will be able to harness the people and the thinking to bring your change-overs under control. This is clearly true because the company would have done it 5, 10, 16 years ago.

    There is also the issue of the cost accounting systems that continue to drive back to traditional mass production thinking. But that’s fir another day.

    Thank you for raising thus issue. I do not realize how very significant it is. EOQ should be avoided like
    rats in the kitchen, if you feel that your company should embrace lean transformation.

  4. Well said Brian. Those are some great observations, and I appreciate your feedback! I completely agree with you that standard ERP/MRP II aren’t up to the task I’m proposing and you’re also right that reduced inventory is more a side-effect of lean than a primary goal. As a company reduces waste, setup time, fixed costs, etc through lean improvement, the EOQ calculation approaches 1 unit, so it’s true that a lean company should be able to get those EOQ rats out of their kitchen. It’s important for ERP driven manufacturers to ensure they don’t make that step 1 on their lean journey though!

    Bear with me while I stretch this analogy well past it’s breaking point: The EOQ rats are there to clean up the waste that’s dropped on the floor! If you don’t reduce the waste before eliminating the rats, you’ll introduce new sweeping/mopping costs (additional setup time).

    I think planning decisions should be made after first comparing multiple scenarios, each with different perspectives. You want to know the floor is staying clean before killing the rats!

  5. Yes, Andrew.
    But ERP/MRPII provides safe haven and shelter for rats. My observation is that when people think EOQ (and lots of other Orlicky concepts) they soon loose the recognition of rats as vile vermin and start to provide them with comfortable abodes. The waste is never seriously addressed.

    Same is true with other processes. When automated & integrated Requisitions, PO, Receiving, and AP processes are set up no one can even see the appalling rat-filled waste. They also continue to regard suppliers as 3rd parties instead of the lean passion for close supplier partnerships. The whole ERP-style purchasing process is set up for conflict and suspicion.

    Similarly, the rat lovers start thinking that the more data we gather the better we will be. Large rat farms are instigated and populated by technicians and experts. Millions of wasteful transactions increase and increase. The people in the company are alienated with the complexity of the process and barcodes and RFID’s start proliferating under the auspices of gigantic MBA rats and rats with colored belts are expected to do all the changing. The people can not see visually the day-to-day things they need to see, to create & update, and make improvement.

    Again I am getting harsh. ERP systems are needed in lean companies but they are not used in the way I am suggesting many companies do. Using ERP in this way may be the strategy the companies choose. Their leaders need to make these kinds of decisions. But it is important when making those decision to realize that this perfectly good approcah to 21st century management eliminates any kind of lean methods. The ERP approach is tangentially opposed to lean thinking and culture. Not just violating the 7 wastes but more significantly violating the 5 principles of lean.
    http://m.youtube.com/playlist?list=PLxumoIviC71mZTXZlp7zjJ0xciw1lTaJx

    All the best to you and your colleagues at Kinaxis
    Brian (modest rat-catcher)

  6. For my opinion, both lean and EOQ’s foundation idea is the same, reduce waste. However, it is goes to the different way of it…

    Lean is focusing on the process and try to solve the root cause to reduce the waste, which EOQ method is a countermeasure to react with the problems…

    As for most of companies, who wanna go for lean, but not focus on the real root cause analysis and eliminate the problem, just wanna use or implement some idea of lean to reduce the cost ONLY!!

    For sure, the lean concept and go as a lean company is real a hard and long journey to go, but need go as the right direction… In the beginning of the journey, should go for with the EOQ methodology to reduce the potential waste, the waste balance between tie-up capital cost, $ on change over and the opportunity loss of sales… also, when we talk about EOQ, do you think all of us know about the right EOQ or just know the concept but implement the wrong way for the number?

    After step by step improve and problem solving, less breakdown, fast change over (reduce change over time) is possible in the production line, then EOQ number will be decreased… finally after the situation much more better… consider most likely “0” breakdown, “0” change over… maybe the EOQ number is reducing as what we expected as “lean”….

    For ERP, it is a good system to integrate and more efficient on master plan and detail scheduling, however due to its strong logic inside, any rubbish in will be out as rubbish also… So the process in the management way is also the key to success…

  7. I would recommend that folks read _Lean RFS (Repetitive Flexible Supply)_ to see how an industry with huge capital investments in equipment and complex change-overs (set-ups between batches) were able to transition to lean. Ian Glenday and Rick Sather do a great job of explaining the concepts and the practical path to such a highly-profitable reworking of the enterprise.

  8. Lean manufacturing and EOQ cannot be compared directly against each other. I see Lean as an ideology that can essentially be implemented in any situation. It is the basic concept of eliminating waste and doing continuous improvement. For lean to actually be successful in an organization there needs to be a deep understanding of the current business processes and how they can be negatively or positively impacted by the implementation of the Lean ideology (this of course depends on the current business model/ type of organization).

    If an organization was to successfully implement Lean then the EOQ model can still be used. However, the order quantity would be reduced because with Lean small quantities are preferred over larger ones. The purpose of the EOQ model is to purchase as much as possible in order to meet demand and have a little “extra” ( just in case) but not so much there are vast amounts of unused stock just taking room in the ware house, increasing holding cost. Ultimately I believe that both can be implemented successfully; there is no strict reason to choose one over the other.

  9. Another matter worth consideration is that, because EOQ relies on calculations related to allocations of fixed overhead, it is a real calculation, but the savings it calculates are not realized by the organization except under theoretical conditions that virtually never exist.

  10. It is interesting to read all the comments in this thread and I think most of the statements are absolutely valid. Nevertheless I agree with Robin that lean activities banßt be balanced against a a good or bad planning/loading method. Yeap, there is a direct link of enabeling a high or even incremental volume vs. lean initiatives but as long as both responsible managers report in one person(e.g.director operations) both can get along eachother. And to Richard´s last comment , I can only agree and did my lesson learn.
    First understand the fancy calculations and cost parameters before you start any lean action. You may end up with the best positive result but your controller´s calculation modell does not give you any award!

  11. Oscar:
    You are right of course to say that an aspect of lean is the eliminate waste. One of the important wastes is over-production. EOQ systematically created over production. It is incompatible with lean thinking.
    Brian

  12. Yes, I have had this discussion many times. I agree, in principle, with Andrew’s comment that generally Lean should be the foundation of your plans. That is, I like the philosophy of Lean that we are always trying to improve (don’t accept that huge fixed cost and resulting large lot size – strive to reduce it). Of course, there is a hybrid/pragmatic approach: keep working on reducing fixed costs, build in as small lots as practical (the EOQ quantity), use forecasting and planning to predict when you will need to replenish, manage your safety stock (or number of Kanbans) to buffer your demand variability around that forecast, have systems to detect when actual demand deviates from the plan so that you will have time to recover before stock-out or excess.

  13. Lean is the process to eliminate unnecessary waste. Anything in the company that does not add value, it must be eliminated. This must be treated as a process you don’t just come today and stop everything because this need a very calculated risk. The biggest challenge here is to understand the two concepts and act carefully and professionally.

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