5-1 Chapter 5 Chapter 5 Strategic Capacity Planning For Products and Services
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5-1
Chapter 5Chapter 5
Strategic 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
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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
The basic questions in capacity handling are: What kind of capacity is needed? How much is needed? When is it needed?
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1. Impacts ability to meet future demands
2. Affects operating costs
3. Major determinant of initial costs
4. Involves long-term commitment
5. Affects competitiveness
6. Affects ease of management
7. Globalization adds complexity
8. Impacts long range planning
Importance of Capacity Importance of Capacity DecisionsDecisions
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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.
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Efficiency and UtilizationEfficiency and Utilization
Actual outputEfficiency =
Effective capacity
Actual outputUtilization =
Design capacity
Both measures expressed as percentages
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Actual output 36 units/day Efficiency = = =
90% Effective capacity 40 units/ day
Utilization = Actual output 36 units/day = =
72% Design capacity 50 units/day
Efficiency/Utilization ExampleEfficiency/Utilization Example
Design capacity = 50 trucks/day
Effective capacity = 40 trucks/day
Actual output = 36 units/day
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Determinants of Effective Determinants of Effective CapacityCapacity
Facilities
Product and service factors
Process factors
Human factors
Policy factors
Operational factors
Supply chain factors
External factors
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Strategy FormulationStrategy Formulation
Capacity strategy based on: Growth rate and variability in demand
Facilities Cost of building and operating facilities
Technological changes Rate and direction of technology innovation
Behavior of competitors
Availability of capital and other inputs
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Key Decisions of Capacity PlanningKey Decisions of Capacity 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
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Steps for Capacity PlanningSteps for Capacity Planning
1. Estimate future capacity requirements2. Evaluate existing capacity3. Identify alternatives4. Conduct financial analysis5. Assess key qualitative issues6. Select one alternative7. Implement alternative chosen8. Monitor results
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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
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Calculating Processing Calculating Processing RequirementsRequirements
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 (8 hrs x 250 days), then we need three machines to handle the required volume: 5,800 hours/2,000 hours = 2.90 machines
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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
Challenges of Planning Service Challenges of Planning Service CapacityCapacity
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In-House or OutsourcingIn-House or Outsourcing
1. Available capacity2. Expertise3. Quality considerations4. Nature of demand5. Cost6. Risk
Outsource: obtain a good or service from an external provider
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Developing Capacity Developing Capacity Alternatives Alternatives
1. Design flexibility into systems
2. Take stage of life cycle into account
3. Take a “big picture” approach to capacity changes
4. Prepare to deal with capacity “chunks”
5. Attempt to smooth out capacity requirements
6. Identify the optimal operating level
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Bottleneck OperationBottleneck 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
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Bottleneck OperationBottleneck Operation
Operation 120/hr.
Operation 210/hr.
Operation 315/hr.
10/hr.
Bottleneck
Maximum output ratelimited by bottleneck
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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
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Optimal Rate of Output
Minimumcost
Avera
ge c
ost
per
un
it
0 Rate of output
Production units have an optimal rate of output for minimal cost.
Figure 5.4
Minimum average cost per unit
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Economies of ScaleEconomies of Scale
Minimum cost & optimal operating rate are functions of size of production unit.
Avera
ge c
ost
per
un
it
0
Smallplant Medium
plant Largeplant
Output rate
Figure 5.5
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Evaluating AlternativesEvaluating Alternatives
Cost-volume analysis Break-even point
Financial analysis Cash flow Present value
Decision theory
Waiting-line analysis
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Cost-Volume Relationships Cost-Volume Relationships
Am
ou
nt
($)
0Q (volume in units)
Total cost
= VC + FC
Total varia
ble cost
(VC)
Fixed cost (FC)
Figure 5.6a
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Cost-Volume RelationshipsCost-Volume Relationships
Am
ou
nt
($)
Q (volume in units)0
Tota
l rev
enue
Figure 5.6b
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Cost-Volume RelationshipsCost-Volume Relationships
Am
ou
nt
($)
Q (volume in units)0 BEP units
Profit
Tota
l rev
enue
Total cost
Figure 5.6c
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Break-Even Problem with Step Break-Even Problem with Step Fixed CostsFixed Costs
Quantity
FC + VC = TCFC + VC = TC
FC + VC =
TC
Step fixed costs and variable costs.
1 machine
2 machines
3 machines
Figure 5.7a
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Break-Even Problem with Step Break-Even Problem with Step Fixed CostsFixed Costs
$
TC
TC
TCBEP
2
BEP3
TR
Quantity
1
2
3
Multiple break-even points
Figure 5.7b
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The owner of Old-Fashioned Berry Pies, S. Simon, is contemplating adding a new line of pies, which will require leasing new equipment for a monthly payment of $6,000. Variable costs would be $2.00 per pie, and pies would retail for $7.00 each.1. How many pies must be sold in order to break even?2. What would the profit (loss) be if 1,000 pies are made and sold in a month?3. How many pies must be sold to realize a profit of $4,000?4. If 2,000 pies can be sold, and a profit target is $5,000, what price should be charged per pie?
Cost-Volume AnalysisCost-Volume Analysis
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A manager has the option of purchasing one, two, or three machines. Fixed cost and potential volumes are as follows:
Number Total annual Correspondingof Machines Fixed Cost Range of Output1 $ 9,600 0 to 3002. $ 15,000 301 to 6003.$ 20,000 601 to 900
Variable cost is $10 per unit, and revenue is $40 per unit.
A.Determine the break-even point for each range.B. If projected annual demand is between 580 and 660
units, how many machines should the manager purchase?
Cost-Volume AnalysisCost-Volume Analysis
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1. One product is involved
2. Everything produced can be sold
3. Variable cost per unit is the same regardless of volume
4. Fixed costs do not change with volume
5. Revenue per unit constant with volume
6. Revenue per unit exceeds variable cost per unit
Assumptions of Cost-Volume Assumptions of Cost-Volume AnalysisAnalysis
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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.
Pay back period
Internal rate of return
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Decision TheoryDecision Theory
Helpful tool for financial comparison of alternatives under conditions of risk or uncertainty
Suited to capacity decisions
See Chapter 5 Supplement
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Waiting-Line AnalysisWaiting-Line Analysis
Useful for designing or modifying service systems
Waiting-lines occur across a wide variety of service systems
Waiting-lines are caused by bottlenecks in the process
Helps managers plan capacity level that will be cost-effective by balancing the cost of having customers wait in line with the cost of additional capacity
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