Strategic Capacity Planning for

Products & Services

Chapter 7
 Capacity Planning
• Capacity - The upper limit or ceiling on the Basic Terminology:
load that an operating unit can handle 1. Design Capacity - maximum output
Design rate or service capacity an operation,
Capacity process, or facility is designed for.
Effective  Normal Capacity
Capacity  Full Capacity
Actual  Below Normal Capacity
Output  Overcapacity
 Undercapacity
2. Effective Capacity - Design
capacity minus allowances such as
personal time, maintenance, and scrap
• It Includes: 3. Actual output - rate of output actually
– Equipment achieved—cannot exceed effective
– Space capacity.
– Employee Skills
 Measuring System Effectiveness

Example:
• Design Capacity = 50 trucks per day
Efficiency
• Effective Capacity = 40 trucks per day
• Actual Output = 36 trucks per day
actual output
Efficiency 
effective capacity actual output 36
Efficiency    90%
effective capacity 40
Utilization
actual output
Utilizatio n  actual output 36
design capacity Utilizatio n    72%
design capacity 50
 Basic Principles

Determinants of Effective Capacity

Strategy Formulation
 Facilities • Strategies are typically based on
 Product and service factors assumptions and predictions about:
 Process factors – Long-term demand patterns
 Human factors • Iglass
 Policy factors – Technological change
 Operational factors • Robotics/Artificial Intelligence
 Supply chain factors – Competitor behavior
 External factors • Aggressive or Passive
Capacity Strategies: Capacity Cushion
• Leading – Extra capacity used to offset demand
– Build capacity in anticipation of future uncertainty
demand increases – Capacity cushion = 100% - Utilization
• Following – Capacity cushion strategy
– Build capacity when demand exceeds • Organizations that have greater
current capacity demand uncertainty typically have
• Tracking greater capacity cushion
– Similar to the following strategy, but adds • Organizations that have standard
capacity in relatively small increments to products and services generally have
keep pace with increasing demand smaller capacity cushion
 Methods
In-House or Outsource? • Economies of Scale
• Once capacity requirements are – If output rate is less than the optimal
level, increasing the output rate
determined, the organization must
results in decreasing average per unit
decide whether to produce a good or
costs
service itself or outsource
– Reasons for economies of scale:
• Factors to consider:
• Fixed costs are spread over a
– Available capacity
–
larger number of units
Expertise
– Quality considerations • Construction costs increase at a
– The nature of demand decreasing rate as facility size
– Cost increases
– Risks • Processing costs decrease due to
standardization
 Methods
• Diseconomies of Scale
– If the output rate is more than the optimal
level, increasing the output rate results in
increasing average per unit costs
– Reasons for diseconomies of scale
• Distribution costs increase due to traffic
congestion and shipping from a
centralized facility rather than multiple
smaller facilities
• Complexity increases costs
• Inflexibility can be an issue
• Additional levels of bureaucracy
 Constraint Management
• Constraint Bottleneck Operation
– Something that limits the performance An operation in a sequence of operations whose
of a process or system in achieving its capacity is lower than that of the other operations
goals
– Categories
• Market
• Resource
• Material
• Financial
• Knowledge or competency
• Policy
Resolving Constraint Issues Evaluating Alternatives
1. Identify the most pressing constraint • Techniques:
2. Change the operation to achieve – Cost-volume analysis
maximum benefit, given the constraint
– Financial analysis
3. Make sure other portions of the
process are supportive of the – Linear Programming
constraint – Decision theory
4. Explore and evaluate ways to – Waiting-line analysis
overcome the constraint – Simulation
5. Repeat the process until the
constraint levels are at acceptable
levels
 Techniques
• Cost-volume analysis • Financial Analysis
– Focuses on the relationship between – Financial Ratios
cost, revenue, and volume of output • Liquidity
• Fixed Costs (FC)
• Activity
– tend to remain constant regardless of
output volume • Coverage
• Variable Costs (VC) • Profitability
– vary directly with volume of output • Market
– VC = Quantity(Q) x variable cost per
unit (v) – Present Value Concept
• Total Cost
– TC = FC + VC
• Total Revenue (TR)
– TR = revenue per unit (R) x Q
 Techniques
• Financial Ratios: • Decision Theory
There are three general environment categories:
1. Current Ratio – Certainty
2. Quick/Acid Test Ratio • Environment in which relevant parameters have known values
3. Inventory Turnover – Risk
• Environment in which certain future events have probable
4. Age of Inventory
outcomes
5. Average Collection Period – Uncertainty
6. Average Payment Period • Environment in which it is impossible to assess the likelihood of
7. Total Asset Turnover various future events
8. Debt Ratio
9. Time Interest Earned Ratio – Decision Criteria:
10. Fixed Payment Coverage Ratio – Maximin
11. Gross Profit Margin • Choose the alternative with the best of the worst possible
payoffs
12. Operating Profit Margin
– Maximax
13. Net Profit Margin
• Choose the alternative with the best possible payoff
14. Return on Assets
– Laplace
15. Return of Equity
• Choose the alternative with the best average payoff
16. Earnings Per Share
– Minimax regret
17. Price Earning Ratio
• Choose the alternative that has the least of the worst regrets
18. Market to Book Value Ratio
 Techniques
• Waiting Lines Analysis • Simulation
(Queuing Models)  It is a quantitative procedure which
describes a process by developing
– Objective: a model of that process and then
Waiting time reduction of customers conducts a series of organized trial-
or process. and-error experiments to predict the
behavior of the process over time.