Case Study: how to use Operational KPIs to drive revenue

A few weeks after taking a new role, I was called-in.

"We have a turnover gap in the next years, we need more projects".

First I was surprised.

Then shocked.

The gap was bigger than what I expected.

Like... big...

I thought for myself: "shit, now what?".

Being the main electronics plant of the group, getting projects was not the challenge.

The challenge was, which projects?

How do I choose the right ones?

When the alarm went off, the gates were opened on the group, and we started to be flooded by new quotations.

My team handled all the industrial offers, and I was responsible to make the call which projects to quote, reject or pursue.

That meant that we needed a clear way forward.

We needed a quick way to define what as a project for the plant and what not.

Thankfully I had with me a fantastic team and, amazing colleagues that helped all along the way.

A plus was working with the central purchasing team, with whom we defined a common strategy. More on that in a minute.

For the sake of privacy and to avoid leaving names behind, I decided not to share the exact numbers, and not tag anyone.

That is not to forget, that I am extremely grateful for the amazing work that was done during many years, enduring the internal politics, two massive electronic component shortages and COVID-19.

This case helps me to illustrate that what I shared in the last Newsletters has real world application.

It will be a dense article ;).

Let's dive into it.

THE CHALLENGE

The challenge was not only to bring more projects.

But, which projects.

How do we decide? First to come first to serve?

Only one type of product?

The main problem was to hit a certain revenue, but obviously, making a profit.

And that also meant controlling the needed investment.

Plus, which engineers to use to bring those projects in.

That last part is often forgotten. Everybody likes to see saturation calculations for equipment, but just a few like to see a resource plan with headcounts...

(I guess some think that projects get implemented magically by themselves...)

So, to verbalize the challenge, I asked myself:

How we can bring the maximum revenue, with the least amount of resources, that will bring us the maximum profit possible?

That of course is considering the limitations of the system:

• The type of projects available.
• The machines we had available or that we could bring/modify.
• The human resources available or that we could bring.

You see the link with the past Newsletters:

How can we increase throughput while minimizing Investment* and Operational Expenses.

(*recall that Investment is referred to both actual CAPEX but also inventory. Is whatever the system needs to turn into throughput, not being an operational expense).

And one might argue that for each project we should be doing a capital expenditure calculation.

And that is ok, but that would not give any directions to those sourcing those projects.

Just a benchmark.

We needed directions.

And we needed a quick way to sort them.

THE SETUP

The revenue was coming from multiple sources, but a significant part was coming from the verticalization of products for the group.

That is, electronics sold to the group, used on the end products for the carmakers.

The focus in here is on that.

We had multiple manufacturing lines involved, but essentially following this pattern:

In essence a two step process (with multiple process within), one feeding to the other.

In both cases with Proprietary Technology that we leveraged for our end product in our sister plants, for some specific products.

In both cases the task was to "saturate" the machines with projects to get the maximum revenue possible.

And that had to be done for each one of the upcoming years, at least for an overview of 5 years, with a development cycle of averaged at 1.5 years.

Now back to why central purchasing was key here.

The central purchasing was responsible for the Make/Buy of each one of those components.

That meant, effectively, that we were competing with other electronic manufacturers to come up with the best quote and product.

Using a conflict diagram we have:

So we had to come up with a common strategy, and a clear direction on what to quote and what not.

DEFINING WHAT IS GOOD

Here is the meat of the process.

First we need to understand one thing.

The boundaries for the above conflict were already set, by finance.

Being an inter-company selling process, the rules for pricing were set already.

Essentially how much you can charge, based on variable costs.

That puts a direct restriction on the conflict, but not enough to actually answer to our question.

Understanding value.

With that in mind, we needed to look on what is actually helpful for the group.

Hence why the interface with purchasing was again so important.

The group valued specific products based on our proprietary technology.

That was a clear win-win.

There was also a clear differentiator.

Also for specific products we were much competitive than in others, thanks to the level of automatization on the plant, keen to take big volumes.

The bigger the volumes, the better for us.

Another win-win.

Moving forward.

Meeting our needs

With both the rules and the value in place, we had boundaries to play with.

The type of products narrowed down the scope, and also we knew that we were more competitive there anyways. So part of the job done.

With the Transfer Price rules then we knew how much we could leverage.

Translating this we have:

Contribution Margin = Revenue - Variable costs.

From this the Variable costs were mainly in this case:

• Materials.
• Direct Labour.
• Amortizations.
• Variable Overheads.

We will ignore materials here.

So what is left is what we can play with:

Direct Labour, Amortizations and Variable Overheads.

What do they all have in common? Cycle time.

They are all linked to the Cycle time.

Conflict solved :).

Let's see it in detail.

Conflict resolution

If we go back to our challenge we needed to:

1. Maximize throughput. Driven by a) contribution margin and b) volume. The bigger the contribution margin (in absolute value) and/or the volumes, the better.
2. Minimize investment. Driven by the utilization and saturation of existing assets, without needing new ones.
3. Minimize Operating Expense. Driven by lower amortizations, labour and variable overheads. (assuming fixed costs remained).

What they all have also in common? Cycle time.

The lower the cycle time:

• The more volumes we could allocate = more throughput.
• The more volumes we could allocate = less investment needed.
• The lower the cycle time, the least Direct Labour and Amortizations = Minimizing Operating Expense.

So we could verbalize that as:

From this set of projects, prioritizing this specific technology, let's target those with volumes starting from X, where the material starts at Y.

Material was used as reference to bias the value of contribution margin.

In both cases, as win-win as:

• The material is defined by design and can be sourced directly. No direct influence from manufacturing.
• Lower cycle times, meant better pricing.
• Lower cycle times, meant less saturation, which allowed us to place more projects.
• More volumes meant more revenue volume. And for purchasing more volumes sourced at better price.

MAKING IT A KPI

With that I needed to setup a KPI I could use to benchmark in between the sourced projects, and track against the target.

Usually to check the usage of the resources on the plant, the term saturation is used, specially when the assets are used by multiple products.

Saturation is how much the asset is used, for the total time available of that asset.

A Saturation of 100% means you will be using that machine, 100% of the time.

A Saturation of 0% means you will not be using that machine, at all.

Saturation is proportional to cycle time and volume.

It is a way to standardize the view across your multiple products, volumes and machine capacities.

As the target was to fill as much revenue as possible, within the existing lines as much as possible, I used that as my baseline.

So I made for myself this KPI: €/point of saturation.

I made it for both Process step A and B shown before.

So for each new product I had:

• €/points of saturation for A.
• €/points of saturation for B.

And then the absolute values based on volumes:

• Total Revenue/total saturation for A (at the specific years).
• Total Revenue/total saturation for B (at the specific years).

Now I could benchmark between projects and we could manage with central purchasing what were the needs and how to manage with our existing capacities.

Balancing the different years with the gap of revenue and the available resources for both Process A and B.

Notice that I use revenue and not profit. That is because due to the "rules" we talked about, there was a direct relation with the contribution margin, based upon the variable costs. This way was easier also to separate it from the Operating Expenses.

FINAL NOTES

If you followed my last editions, I hope this one helped you to put all the parts together.

This is just one example of what you can do working with those concepts.

And is my wish with it, to spark in you a small fire of hope and creativity.

To think in those basic terms: throughput, investment, operating expense, and use them to your own advantage.

Thanks for reading me!