Productivity is Down… Surprised?

Today’s headlines are bemoaning the sudden and unexpected drop in U.S. productivity after an exceptional run of increases in recent quarters. Why are they surprised? The increases in productivity were, in many cases, the result of fewer people working harder. Companies aggressively reduced the workforce as business declined, but have been slow to re-hire as sales have improved over the last six or eight months. Fewer people producing more goods and services equals increased productivity.

But the higher productivity levels were and are unsustainable. When a company reaches the point where the existing workforce just can’t keep up with increasing demand, they hire more workers. New people (or re-hired past employees) cannot, and shouldn’t be expected to, produce at the same rate as the overworked survivors that remained after the layoffs. We are getting back to more reasonable expectations as far as sustainable worker output levels.

In other words, the productivity increase we’ve seen over the past year or so was artificially inflated because of a general feeling of uncertainty that the recovery would have ‘legs’. Companies are understandably reluctant to commit to new employees if they are not confident that demand will continue to increase.

Productivity will continue to be higher than it was a year or two ago. We are not going back to the levels that were in existence before the recession and recovery. Those quarter-after-quarter increases will mostly remain after the dust settles on all of this. Just as the stock market doesn’t go straight up or straight down, there are healthy pullbacks from time to time. Look at any stock chart or index. I believe what we are seeing in this quarterly productivity measure is just such a pullback.

Up, Down, Turn Around

When the economy is in a down cycle, business professionals basically know what to do: Reduce production, thin out inventories, cut back on expenses, and so on. If they are slow to react to the downward trend, it will take longer to consume existing inventories, and costs will be higher than people would like until employees can get them back in balance with sales.

Returning production and inventory to an up cycle often is the more difficult process. Once caught with extra inventories and expenses on the way down, people naturally are reluctant to ramp up costs during recovery. The impacts of this slow reaction time are shortages and lengthening lead times, which can lead to lost business. As existing customers become frustrated and seek better service elsewhere, more agile competitors can end up increasing market share.

The purpose of forecasting is to provide a view of demand against which team members can build an operating plan during the sales and operations planning process. If the demand projection is wrong -- in either direction -- the operating plan will not provide the right products, in the right quantities, at the right times. The business will be unable to deliver adequate customer service.   Consider these suggestions:

-- Weigh the risk of too much inventory and higher costs against the risk of losing sales and customers due to shortages and delays.  Measure or estimate the forecast error via a straightforward formula that calculates the proper amount of safety stock based on desired service levels and lead time (a factor of forecast accuracy).

-- Lead time is a critical element of forecast flexibility and having extra finished-goods inventory is not always effective. If an organization can make products on demand in a very short time, then the inventory buffer should be at the major assembly, module, or critical-component level.

-- Take into account your supply chain partners since their flexibility and responsiveness in the distribution network will have a direct bearing on your ability to respond to changing demand and forecast inaccuracies.

-- Finally, understand the risks associated with responding to an expected change in the business level and manage those risks appropriately. Keep a close eye on inventory, but don't ignore the impact of lead time on your ability to be flexible and responsive.

Read more about fostering flexibility and responsiveness during unpredictable times at www.daveturbide.com