System Dynamics

1. Unanticipated Side Effects of Successful Quality Programs:
Exploring a Paradox of Organizational Improvement
by John Sterman, Fred Kofman, Nelson Repenning
Presented by: Ritesh Kumar, Sanjog Ray, Sourav Basu

2. Analog Devices, Inc. A leading manufacturer of integrated circuits
• Initially, successfully pursued a strategy of technology leadership
• Analog’s strategy enabled it to dominate the high-end niche of the
market.
• From its founding through the early 1980s sales grew at an average rate
of 27% per year.
• For the first time in late 80’s it missed its 5 year goal by a big margin
The Bottleneck : Management Innovation!

3. 1987
-Initiated broad-based Total Quality Management (TQM) program.
1990
-Quality improved dramatically:
-Product defects had fallen by a factor of 10,
-Semiconductor yield had nearly doubled,
-Manufacturing cycle time had fallen by half.
Expected behavior:
Superior growth and Profitability of Analog’s products.
Total Quality Management in Analog

4. 1987 -1990
-Analog’s share price fell from $18.75 to $6.25,
-Return on equity fell from 7% to -4%
-Analog was forced into its first-ever layoff.
-Analog underperformed the semiconductor industry in revenue growth,
profit, and net worth
The Quality Paradox.
This paper explores the causes and consequences of the paradox.
-Significant improvements in Quality were followed by deterioration in
financial results.

5. Approach involves 3 steps
•A detailed history of TQM at Analog Devices was constructed
•Hypotheses about the decision processes and feedback Structures that
created that history was generated
•A formal simulation model to test these hypotheses and explore policies was
developed.

6. Overview Model Structure

7. Two formulations important in understanding the dynamics of TQM:
• Market demand for Analog’s products
• Quality Improvement through commitment of workforce to TQM

8. Market demand for Analog’s products
dM/dt = bim -bd(M/B) + gM

9. The interplay of leadership, results, support, and job security determines the
dynamics of commitment.
Quality Improvement through Commitment of the workforce to the TQM
dC/dt = q(C* - C) + wC(1-C)
Push effect Pull effect
Push effect : When management initiates TQM workforce commitment
rises gradually towards the commitment and competency achievable through
the leadership and training management provides.
Pull effect : The more people are involved in TQM efforts, the more they
will communicate their enthusiasm to others through word of mouth and
presentations.
w = fr{r} + fa{a} + fs{s}
dD/dt = -fC[D - Dmin] + h[D0 - D]

10. share of improvement in
production vs engineering
invest in production
improvement
mfg org. sees
production
improvement
mfg org commitment to
production improvement production quality/cost
improvements
invest in engg design
improvement
engg sees engg/design
improvement
engg org commitment to
engg/design improvement
engineering
quality/cost
improvements
time avaiable for
engg/design
improvement
pressure to use
capacity
excess production
capacity
layoffs & fear
pressure for layoffs
Wall street pressure
to reduce costs
stock price operating income
total cost/unit
direct cost/unit
price/unit
product demand
sales
demand elasticity
+
+
+
+
+
-
+
+
+
-
+ -
+
-
+
+
+
-
-
-
+
+
-
+
+
+
+
-
+
fixed cost/unit
+
+
operating
income/unit
-
+
+
percent markup
+
*...but not if
demand is
inelastic
R2
Improve
production
R1
Improve
Eng'g/Design
R7
Fill the Factory
delay = 36 months
delay = 12 months
B3
We need fewer
people
B4
Wall street frowns on
High Fixed Costs
R5a
Costs affect
volume
R5b
Costs affect
income and WS
R5c
Cost affect sales
and WS
B6
Fixed markup policy
limits income
Insufficient engineering
process improvement
2
Excess pressure from
stock market(Wall street)
1
CAUSAL LOOP DIAGRAM

11. MODEL VALIDATION: Comparison with Historical Data
• The structure and parameters were verified through a series of meetings with
various Analog executives and managers.
• The robustness of the model was assessed through extreme conditions tests, by
a number of sensitivity tests, both parametric and on the levels of aggregation
• Partial model testing by replacing Endogenous variables by Historical Data
and measurement of deviations
• Finally, the testing of the entire endogenous system

12. Mean Absolute Percentage Error, R-Square values : 12 variables
The largest error is in operating income, with MAPE = 18% and R-Square = .70. Operating
income is the small difference of two large numbers (revenue less cost), so small errors in
either create much larger percentage errors in income.

13. Change in Cost Structure caused by TQM

14. Policy Tests
Analog does not implement TQM
No productivity gains, costs and investment needs
remain high - competitiveness reduces.
Competitors adopt TQM - competitor quality
outstrips ADI’s - Analog quickly loses market
share.
Without TQM the company would most likely have
been taken over or forced to exit the industry.
Maintaining Morale While Downsizing
1991 : Employment falls by as much as in the base
case - Commitment to TQM remains high - Further
quality improvement - Higher operating profits
and share price.
1993: Outperforms the no-layoff case - Higher
levels of commitment to TQM in both
manufacturing and product development - Higher
quality, revenues, profit, and share price.
However even in the wise layoff case the company
experiences severe financial stress.
Maintaining the No-Layoff Policy
Financial results worsen - pressure for layoffs
increases - Likelihood of top management
turnover or outright takeover – The company may
not have remained independent long enough to
enjoy the benefits of the no-layoff policy.
Maintaining Operating Margins
Financial results improve - Commitment to TQM
remains high - Quality continues to improve – No
layoff - Higher R&D spending - New products –
Demand increases– Policy contingent on
customer preferences and competitor behavior.

15. Major Learning's…
• Unbalanced impact of improvement activity on different parts of the
organization may lead to excess capacity.
The processes with lowest complexity and the fastest improvement rates tend to be capacity
augmenting, while demand-generating activities like new product development, customer
needs assessment, and reorientation of product mix and distribution strategy have the highest
complexity and the slowest improvement rates.
• The confluence of weak economy, low attrition, and TQM is not coincidental.
Many companies implement quality programs in reaction to the competitive
pressures caused by slow demand growth.
A weak economy suppresses voluntary turnover. The faster productivity rises – regardless of
how the gains are achieved – the greater the risk of excess capacity.

16. • The core of the dilemma is the belief that people will not participate in new
programs like TQM unless they can see the benefits right away.
Focusing on early results may lead to excess capacity, financial stress, downsizing and the
collapse of commitment to the program. Improvement programs can fail not in spite, but
precisely because of their early success.
Major Learning's…

17. THANK YOU!