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55

Capacity Planning

For Products and Services

5-2

Learning ObjectivesLearning Objectives

Explain the importance of capacity planning. Discuss ways of defining and measuring

capacity. Describe the determinants of effective

capacity. Discuss the major considerations related to

developing capacity alternatives. Briefly describe approaches that are useful

for evaluating capacity alternatives

5-3

Capacity PlanningCapacity Planning Capacity is the upper limit or ceiling on the

load that an operating unit can handle. Capacity also includes

Equipment Space Employee skills

Key questions in capacity planning: What kind of capacity is needed? How much is needed? When is it needed?

5-4

1. Impacts ability to meet future demands2. Affects operating costs3. Major determinant of initial costs4. Involves long-term commitment5. Affects competitiveness6. Affects ease of management7. Globalization adds complexity8. Impacts long range planning

Importance of Capacity DecisionsImportance of Capacity Decisions

5-5

CapacityCapacity

Design capacity maximum output rate or service capacity an

operation, process, or facility is designed for

Effective capacity Design capacity minus allowances such as

personal time, maintenance, and scrap

Actual output rate of output actually achieved—cannot

exceed effective capacity

5-6

Efficiency and UtilizationEfficiency and Utilization

Actual outputEfficiency =

Effective capacity

Actual outputUtilization =

Design capacity

Both measures expressed as percentages

5-7

Actual output = 36 units/day Efficiency = =

90% Effective capacity 40 units/ day

Utilization = Actual output = 36 units/day =

72% Design capacity 50 units/day

Example 1Example 1

Design capacity = 50 trucks/day

Effective capacity = 40 trucks/day

Actual output = 36 units/day

5-8

Determinants of Determinants of Effective CapacityEffective Capacity

Facilities Product and service factors Process factors Human factors Policy factors Operational factors Supply chain factors External factors

5-9

Strategy FormulationStrategy Formulation

Capacity strategy for long-term demand Demand patterns Growth rate and variability Facilities

Cost of building and operating

Technological changes Rate and direction of technology changes

Behavior of competitors Availability of capital and other inputs

5-10

Key Decisions of Key Decisions of Capacity PlanningCapacity Planning

1. Amount of capacity needed Capacity cushion (100% - Utilization)

2. Timing of changes

3. Need to maintain balance

4. Extent of flexibility of facilities

Capacity cushion – extra demand intended to offset uncertainty

5-11

Steps for Capacity PlanningSteps for Capacity Planning

1. Estimate future capacity requirements

2. Evaluate existing capacity

3. Identify alternatives

4. Conduct financial analysis

5. Assess key qualitative issues

6. Select one alternative

7. Implement alternative chosen

8. Monitor results

5-12

Forecasting Capacity Forecasting Capacity RequirementsRequirements

Long-term vs. short-term capacity needs Long-term relates to overall level of capacity

such as facility size, trends, and cycles Short-term relates to variations from

seasonal, random, and irregular fluctuations in demand

5-13

Calculating Processing Requirements Calculating Processing Requirements (Example 2)(Example 2)

P r o d u c tA n n u a l

D e m a n d

S t a n d a r dp r o c e s s i n g t i m e

p e r u n i t ( h r . )P r o c e s s i n g t i m e

n e e d e d ( h r . )

# 1

# 2

# 3

4 0 0

3 0 0

7 0 0

5 . 0

8 . 0

2 . 0

2 , 0 0 0

2 , 4 0 0

1 , 4 0 0 5 , 8 0 0

P r o d u c tA n n u a l

D e m a n d

S t a n d a r dp r o c e s s i n g t i m e

p e r u n i t ( h r . )P r o c e s s i n g t i m e

n e e d e d ( h r . )

# 1

# 2

# 3

4 0 0

3 0 0

7 0 0

5 . 0

8 . 0

2 . 0

2 , 0 0 0

2 , 4 0 0

1 , 4 0 0 5 , 8 0 0

If annual capacity is 2000 hours, then we need three machines to handle the required volume: 5,800 hours/2,000 hours = 2.90 machines

5-14

Need to be near customers Capacity and location are closely tied

Inability to store services Capacity must be matched with timing of

demand

Degree of volatility of demand Peak demand periods

Planning Service CapacityPlanning Service Capacity

5-15

In-House or OutsourcingIn-House or Outsourcing

1. Available capacity

2. Expertise

3. Quality considerations

4. Nature of demand

5. Cost

6. Risk

Outsource: obtain a good or service from an external provider

5-16

Developing Capacity AlternativesDeveloping Capacity Alternatives 1. Design flexibility into systems

2. Take stage of life cycle into account

3. Take a “big picture” approach to capacity changes Bottleneck operations

4. Prepare to deal with capacity “chunks”

5. Attempt to smooth out capacity requirements

6. Identify the optimal operating level

7. Choose expansion strategy

Bottleneck OperationFigure 5.2

Machine #2Machine #2BottleneckOperation

BottleneckOperation

Machine #1Machine #1

Machine #3Machine #3

Machine #4Machine #4

10/hr

10/hr

10/hr

10/hr

30/hr

Bottleneck operation: An operationin a sequence of operations whosecapacity is lower than that of theother operations

5-18

Bottleneck OperationBottleneck Operation

Operation 120/hr.

Operation 210/hr.

Operation 315/hr.

10/hr.

Bottleneck

Maximum output ratelimited by bottleneck

5-19

Economies of ScaleEconomies of Scale

Economies of scale If the output rate is less than the optimal level,

increasing output rate results in decreasing average unit costs

Diseconomies of scale If the output rate is more than the optimal

level, increasing the output rate results in increasing average unit costs

5-20

Optimal Rate of Output

Minimumcost

Ave

rag

e co

st p

er u

nit

0 Rate of output

Production units have an optimal rate of output for minimal cost.

Figure 5.4

Minimum average cost per unit

5-21

Economies of ScaleEconomies of Scale

Minimum cost & optimal operating rate are functions of size of production unit.

Av

era

ge

co

st

per

un

it

0

Smallplant Medium

plant Largeplant

Output rate

Figure 5.5

5-22

Evaluating AlternativesEvaluating Alternatives

Cost-volume analysis Break-even point (BEP)

Financial analysis Cash flow Present value

Decision theory Waiting-line analysis Simulation

5-23

Cost–Volume RelationshipsCost–Volume Relationships

Am

ou

nt

($)

0Q (volume in units)

Total cost = VC + FC

Total variable cost (V

C)

Fixed cost (FC)

Figure 5.6A

5-24

Cost–Volume RelationshipsCost–Volume Relationships

Am

ou

nt

($)

Q (volume in units)0

Total r

evenue

Figure 5.6B

5-25

Cost–Volume RelationshipsCost–Volume Relationships

Am

ou

nt

($)

Q (volume in units)0 BEP units

Profit

Total r

even

ue

Total cost

Figure 5.6C

5-26

Break-Even Problem with Step Break-Even Problem with Step Fixed CostsFixed Costs

Quantity

FC + VC = TC

FC + VC = TC

FC + VC =

TC

Step fixed costs and variable costs

1 machine

2 machines

3 machines

Figure 5.7A

5-27

Break-Even Problem with Step Break-Even Problem with Step Fixed CostsFixed Costs

$

TC

TC

TCBEP2

BEP3

TR

Quantity

1

2

3

Multiple break-even points

Figure 5.7B

5-28

1. One product is involved2. Everything produced can be sold3. Variable cost per unit is the same

regardless of volume4. Fixed costs do not change with volume5. Revenue per unit is constant with

volume6. Revenue per unit exceeds variable

cost per unit

Assumptions of Assumptions of Cost–Volume AnalysisCost–Volume Analysis

5-29

Financial AnalysisFinancial Analysis

Cash Flow: the difference between cash received from sales and other sources, and cash outflow for labor, material, overhead, and taxes.

Present Value: the sum, in current value, of all future cash flows of an investment proposal.

5-30

Decision TheoryDecision Theory

Helpful tool for financial comparison of alternatives under conditions of risk or uncertainty

Suited to capacity decisions See Chapter 5 Supplement

3-31

Operations StrategyOperations Strategy

Capacity planning has strategic implications Could constrain subsequent operations

decisions Flexibility allows for agility Capacity expansion strategies:

Expand early Wait-and-see