Predicting the Profit Potential of a Microeconomic Process: An Information Theoretic/Thermodynamic Approach

George, Michael (2007): Predicting the Profit Potential of a Microeconomic Process: An Information Theoretic/Thermodynamic Approach.

Abstract

It would be of great benefit if management could predict the huge profit benefit that would result from modest investments in process improvement initiatives such as Lean, Six Sigma and Complexity reduction. While the application of these initiatives was initially restricted to manufacturing, they have been expanded to product development, marketing, and indeed all microeconomic processes... This paper derives an equation that, subject to further testing, appears to make such a profit prediction possible allowing a rational investment in microeconomic process improvement. That the profit of a company is greatly increased by the reduction of internal waste was originally demonstrated by Henry Ford, but has been greatly extended by Toyota. All waste in a process results in longer lead times from the injection of work into the process until its delivery to the customer or user. Thus the increase in profit is principally driven by the reduction of lead time. The lead time of any process is governed by Little’s Law. The central result of this paper is that the reduction of Little’s Law leads to an equation for the reduction of process Entropy in analogy to thermodynamic waste in a heat engine. Case studies are used to estimate the magnitude of Boltzmann’s Constant for Microeconomic processes. The resulting Equation of Profit allows the prediction of the amount of waste cost elimination based on explicit Lean, Six Sigma and Complexity reduction parameters.

• Item Type: MPRA Paper
• Institution: Institute of Business Entropy
• Language: English
• Keywords: Profit Increase Prediction; Process Entropy; Information; Complexity; Waste; Equation of Profit; Little’s Law; Business Analogies with Thermodynamics; Boltzmann’s Constant of Business; Carnot; Shannon
• Subjects: D - Microeconomics > D2 - Production and Organizations > D24 - Production ; Cost ; Capital ; Capital, Total Factor, and Multifactor Productivity ; Capacity; D - Microeconomics > D2 - Production and Organizations; D - Microeconomics > D8 - Information, Knowledge, and Uncertainty > D83 - Search ; Learning ; Information and Knowledge ; Communication ; Belief ; Unawareness

References

1.Director, Institute of Business Entropy, Dallas, TX; Founder, The George Group 2.Fermi, Enrico 1956 “Thermodynamics”, Dover 3.Work In Process are the units of work that have been released into production from Raw Material but have not yet become Finished Goods, and appears in a footnote in the 10K of public corporations. 4.Lean Six Sigma for Service and Fast Innovation by George et al 5.MIT LAI paper 2007:George, Works, Maaseidvaag, “The Application of Lean to Knowledge Processes” 6.Bryant, John A Thermodynamic Theory of Economics, page 11, equation (3.26) the International Journal of Exergy, published by Interscience Publishers Int. J. Exergy, Vol 4, No. 3, pp.302-337.

7.Op cit 8.George 2002, Lean Six Sigma, McGraw Hill 9.George and Wilson (2004),Conquering Complexity in Your Business,McGraw Hill 10.US Patent 6,993,492 issued Jan 31, 2006. 11.Walpole,Ronald et al 2002 “Probability and Statistics for Engineers and Scientists” p.37 12.Stirling’s formula is only in error by 1% when the number of products shipped per month is D=10, and of course is entirely negligible for most companies when D>>10. See Reif, F 1965, Fundamentals of Statistical and Thermal Physics, pp 613-614 for an investigation of the accuracy of Stirling’s formula. 13.LAI paper 2007 op cit