5. Strategic Capacity Planning Dr. Ron Lembke Operations Management
Dec 14, 2015
Ideal Capacity of a Process
What is the capacity of the system? Should we add any capacity? How should we run the system? Where should we keep inventory?
50/hr 20/hr 10/hr 40/hr
What Would Henry Say?
Ford introduced the $5 (per day) wage in 1914 He introduced the 40 hour work week “so people would have more time to buy” It also meant more output: 3*8 > 2*10
“Now we know from our experience in changing from six to five days and back again that we can get at least as great production in five days as we can in six, and we shall probably get a greater, for the pressure will bring better methods.
Crowther, World’s Work, 1926
How much do we have? Design capacity: max output designed for Effective Capacity
We can only sustain so much effort.Output level process designed forLowest cost per unit
Efficiency = Actual Output
Effective Capacity Possible to run > 1.0 for long Utilization = Actual Output/Design Capacity
Marginal Output of Time
As you work more hours, your productivity per hour goes down
Eventually, it goes negative.
Chapman, 1909
Time Horizons
Long-Range: over a year – acquiring, disposing of production resources
Intermediate Range: Monthly or quarterly plans, hiring, firing, layoffs
Short Range – less than a month, daily or weekly scheduling process, overtime, worker scheduling, etc.
Adding Capacity
Expensive to add capacity A few large expansions are cheaper (per
unit) than many small additions Large expansions allow of “clean sheet of
paper” thinking, re-design of processesCarry unused overhead for a long timeMay never be needed
Small expansions may “pave the cow path”
Capacity Planning How much capacity should we add? Conservative Optimistic
Forecast possible demand scenarios (Chapter 10)
Determine capacity needed for likely levels Determine “capacity cushion” desired
Capacity Sources
In addition to expanding facilities:Two or three shiftsOutsourcing non-core activitiesTraining or acquisition of faster equipment
Cost-Volume Analysis
FC = Fixed Cost v = variable cost per unit Q = quantity R = revenue per unit R-v=contrib. margin
FC+VC*Q
Volume, Q
R*Q
Break-EvenPoint
Decision Trees
Consider different possible decisions, and different possible outcomes
Compute expected profits of each decision Choose decision with highest expected
profits, work your way back up the tree.
Compute Expected Values ofRemaining Decisions
Build small= 0.4 * $40 + 0.6 * $55 = $16 + $33 = $49
Build large= 0.4 * $50 + 0.6 * $70= $20 + $42 = $62
$49
$62
Decision Trees Example
Computer store thinks demand may grow. Expansion costs $87k, new site $210k, and would cost same if
wait a year New site:
55% chance of profits of $195k. 45% chance of $115k profits.
Expand Current 55% chance of $190k profits 45% chance of $100k profits
Wait and see- enlarge store next year if demand grows If high demand, $190k with expanded store If high demand, $170 with current store If weak demand, $105k with current store
Find the expected profits over 5 years, choose best one.
Decision Trees
Decision point Chance events Outcomes Calculate expected value of each chance
event, starting at far right Working our way back toward the
beginning, choosing highest expected outcome at each decision
Decision TreesRevenue - Move Cost
Revenue - Move Cost
Revenue – Expand Cost
Revenue – Expand CostWeak Growth
Weak Growth
Strong Growth
Strong Growth
Move
Expand
Revenue
Rev – Expand Cost
Rev - Expand Cost
0.45
0.55
0.55
0.45
WaitandSee
Weak Growth
Strong Growth0.55
0.45
Expand
Do nothing
Hackers’ComputerStore
Possible 5 year Revenues
New, growth: 195*5 – 210 = 765 New, low: 115*5 – 210 = 365 Expand, growth: 190*5 – 87 = 863 Expand, low: 100*5 – 87 = 413 Wait, strong, expand: 170+190*4-87=843 Wait, strong, do nothing: 170*5 = 850 Wait, low, do nothing: 105*5 = 525
Decision Trees765
365
863
413Weak Growth
Weak Growth
Strong Growth
Strong Growth
Move
Expand
525
843
850
0.45
0.55
0.55
0.45
WaitandSee
Weak Growth
Strong Growth0.55
0.45
Expand
Do nothing
Hackers’ComputerStore
Making the Decision
Starting at the far right, look at the “Wait and See” option. If demand is strong, we would obviously not expand.
$850k is better than $843. Eliminate the “Expand option”
Decision Trees765
365
863
413Weak Growth
Weak Growth
Strong Growth
Strong Growth
Move
Expand
525
843
850
0.45
0.55
0.55
0.45
WaitandSee
Weak Growth
Strong Growth0.55
0.45
Expand
Do nothing
Hackers’ComputerStore
Expected Values
Move:0.55* 765 + 0.45*365 = $585,000
Wait and See: 0.55*850 + 0.45*525 = $703,750
Expand:0.55 * 863 + 0.45 * 413 = $660,500
Highest expected value is to Wait and see, and either way, do nothing!
Decision Trees765
365
863
413Weak Growth
Weak Growth
Strong Growth
Strong Growth
Move
Expand
525
843
850
0.45
0.55
0.55
0.45
WaitandSee
Weak Growth
Strong Growth0.55
0.45
Expand
Do nothing
Hackers’ComputerStore
$585,000
660,500
703,750
Time Value of Money?
Another criteria to use is to pick the one with the highest down side.Under this, do nothing still wins.
We could also consider the expected value of the future cash streams.
PV = $100/(1+r) = $100/(1.16)=$86.27
Decision Tree-NPV428,487
166,544
535,116
240,429Weak Growth
Weak Growth
Strong Growth
Strong Growth
Move
Expand
343,801
529,874
556,630
0.45
0.55
0.55
0.45
WaitandSee
Weak Growth
Strong Growth0.55
0.45
Expand
Do nothing
Hackers’ComputerStore
$310,613
402,507
460,857
Real Options
Assess the value to me of being able to change my mind in the future
Changed problem slightly -Reduced benefit doing nothing, high demand
Decision Trees765
365
863
413
Weak
StrongMove
Expand
525
843
820
0.25
0.75
Wait and See
Expand
Do nothing
Hackers’ComputerStore
Weak
Strong0.25
0.75
Weak
Strong0.25
0.75
$465,000
533,000
604,500
820
525Weak
Strong0.25
0.75
Do Nothing
598,750