Hidden 20Factory

Topics: Manufacturing, Cost, Costs Pages: 10 (4897 words) Published: November 14, 2014
The Hidden Factory

Jeffrey G. Miller and Thomas E. Vollmann

Harvard Business Review
No. 85510

This document is authorized for use only by Christopher Bourbeau (cebourbe@illinois.edu). Copying or posting is an infringement of copyright. Please contact customerservice@harvardbusiness.org or 800-988-0886 for additional copies.

HBR

SEPTEMBER–OCTOBER 1985

The Hidden Factory
Jeffrey G. Miller and Thomas E. Vollmann

While the world’s attention is focused on the fight
to increase productivity and develop new technologies, manufacturing managers—especially those in the electronics and mechanical equipment (machinery) industries—are quietly waging a different battle: the battle to conquer overhead costs. Indeed, our

research shows that overhead costs rank behind only
quality and getting new products out on schedule as
a primary concern of manufacturing executives.
The reason for this concern is obvious: high manufacturing overhead has a dramatic effect on profit and competitiveness, and manufacturing managers
believe themselves to be poorly equipped to manage
these costs well. As one senior executive told us,
‘‘We’ve been brought up to manage in a world where
burden rates [the ratios of overhead costs to direct
labor costs] are 100% to 200% or so. But now some
of our plants are running with burden rates of over
1,000%. We don’t even know what that means!’’
Mr. Miller, currently a visiting professor at Stanford Graduate School of Business, is professor of operations management at the Boston University School of Management and director of BU’s Manufacturing Roundtable, the sponsoring organization for the Manufacturing Futures Project. He is the author of several HBR articles, including ‘‘Fit Production Systems to the Task’’ (January–February 1981). Mr. Vollmann, formerly on the faculties of both INSEAD and

IMEDE, is professor of operations management at the Boston
University School of Management and chairman of the operations management department. He is coauthor (with Robert W. Hall)
of ‘‘Planning Your Material Requirements’’ (HBR September–October 1978).

We are convinced that this renewed attention to
overhead is not a cyclical phenomenon. No doubt,
low capacity utilization accounted for some increase
in awareness during the last recession; even so,
awareness has remained high throughout the recovery. Overhead costs as a percentage of value added in American industry and as a percentage of overall
manufacturing costs have been rising steadily for
more than 100 years as the ratio of direct labor costs
to value added has declined (see Exhibit I). Moreover,
in today’s environment, production managers have
more direct leverage on improving productivity
through cutting overhead than they do through pruning direct labor. As America’s factories step up the pace of automation, they find that they are being hit twice: first, overhead costs grow in percentage terms as direct

labor costs fall (everything has to add up to 100%);
and second, overhead costs grow in real terms because of the increased support costs associated with maintaining and running automated equipment.
Exhibit II shows how overhead as a percentage of
value added increases as a representative industry—
electronics—moves down its product-process life
cycle.1 Highly customized and low-volume specialty
businesses, such as those in the government systems
segment of the industry, run job-shop-type opera1 See Steven C. Wheelwright and Robert H. Hayes, ‘‘Link Manufacturing Process and Product Life Cycles,’’ HBR January–February 1979, p. 133, and ‘‘The Dynamics of Process-Product Life Cycles,’’ HBR March–April 1979, p. 127.

Copyright ᭧ 1985 by the President and Fellows of Harvard College. All rights reserved. This document is authorized for use only by Christopher Bourbeau (cebourbe@illinois.edu). Copying or posting is an infringement of copyright. Please contact customerservice@harvardbusiness.org or 800-988-0886 for...
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