Operations Management: Sustainability

and Supply Chain Management

Thirteenth Edition

Chapter 8
Location Strategies

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Outline
• Global Company Profile: FedEx
• The Strategic Importance of Location
• Factors That Affect Location Decisions
• Methods of Evaluating Location Alternatives
• Service Location Strategy
• Geographic Information Systems

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Location Provides Competitive
Advantage for FedEx
• Central hub concept (superhub)
– Enables service to more locations with fewer aircraft
– Enables matching of aircraft flights with package loads
– Reduces mishandling and delay in transit because
there is total control of packages from pickup to
delivery

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Learning Objectives (1 of 2)
When you complete this chapter you should be able to:
8.1 Identify and explain seven major factors that affect
location decisions
8.2 Compute labor productivity
8.3 Apply the factor-rating method
8.4 Complete a locational cost-volume analysis graphically
and mathematically

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Learning Objectives (2 of 2)
When you complete this chapter you should be able to:
8.5 Use the center-of-gravity method
8.6 Understand the differences between service- and
industrial-sector location analysis

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The Strategic Importance of Location
(1 of 3)

• One of the most important decisions a firm makes

• Increasingly global in nature
• Significant impact on fixed and variable costs
• Decisions made relatively infrequently

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The Strategic Importance of Location
(2 of 3)

• Long-term decisions
• Once committed to a location, many resource and cost
issues are difficult to change

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The Strategic Importance of Location
(3 of 3)

The objective of location strategy is to maximize the

benefit of location to the firm
Options include
1. Expand existing facilities
2. Maintain existing and add sites
3. Close existing and relocating

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Location and Costs
• Location decisions require careful consideration
• Once in place, location-related costs are fixed in place and
difficult to reduce
• Effort spent determining optimal facility location is a good
investment

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Factors That Affect Location
Decisions (1 of 7)
• Globalization adds to complexity
• Drivers of globalization
– Market economics
– Communication
– Rapid, reliable transportation
– Ease of capital flow
– Differing labor costs
• Identify key success factors (KSFs)

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Location Decisions (1 of 3)
Figure 8.1a Key Success Factors
1. Political risks, government rules,
attitudes, incentives
2. Cultural and economic issues
3. Location of markets
4. Labor talent, attitudes,
productivity, costs
5. Availability of supplies,
communications, energy
6. Exchange rates and currency
risks
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Location Decisions (2 of 3)
Figure 8.1b Key Success Factors
1. Corporate desires
2. Attractiveness of region
3. Labor availability and costs
4. Costs and availability of utilities
5. Environmental regulations
6. Government incentives and fiscal
policies
7. Proximity to raw materials and
customers
8. Land/construction costs
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Location Decisions (3 of 3)
Figure 8.1c Key Success Factors
1. Site size and cost
2. Air, rail, highway, and waterway
systems
3. Zoning restrictions
4. Proximity of services/supplies
needed
5. Environmental impact issues
6. Customer density and
demographics

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Global COUNTRY 2018 RANKING
Switzerland 1
Competitiveness U.S. 2
Index of Countries Singapore 3
Netherlands 4

Table 8.1 Germany 5

Hong Kong 6
Competitiveness of 137
Canada 14
Selected Countries
Israel 16
China 27
Russia 38
Mexico 51
Vietnam 55
Haiti 128
Mozambique 136
Yemen 137

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Factors That Affect Location
Decisions (2 of 7)
• Labor productivity
– Wage rates are not the only cost
– Lower productivity may increase total cost

Labor cost per day

= Labor cost per unit
Productivity  units per day 

South Carolina Mexico

$70 $25
= $1.17 per unit = $1.25 per unit
60 units 20 units
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Factors That Affect Location
Decisions (3 of 7)
• Exchange rates and currency risks
– Can have a significant impact on costs
– Rates change over time
– Operational hedging – shift production as exchange
rates change
• Costs
– Tangible – easily measured costs such as utilities,
labor, materials, taxes
– Intangible – not as easy to quantify and include
education, public transportation, community, quality-of-
life
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Factors That Affect Location
Decisions (4 of 7)
• Exchange rates and currency risks
– Can have a significant impact on costs
– Rates change over time
– Operational hedging – shift production as exchange rates change
• Costs
– Tangible – easily measured costs such as utilities, labor,
materials, taxes
– Intangible – not as easy to quantify and include education, public
transportation, community, quality-of-life

Location decisions based

on costs alone can create
difficult ethical situations
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Factors That Affect Location
Decisions (5 of 7)
• Political risk, values, and culture
– National, state, local governments' attitudes toward
private and intellectual property, zoning, pollution,
employment stability may be in flux
– Worker attitudes toward turnover, unions, absenteeism
– Globally cultures have different attitudes toward
punctuality, legal, and ethical issues

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Ranking Corruption

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Factors That Affect Location
Decisions (6 of 7)
• Proximity to markets
– Very important to services
– JIT systems or high transportation costs may make it
important to manufacturers
• Proximity to suppliers
– Perishable goods, high transportation costs, bulky
products

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Factors That Affect Location
Decisions (7 of 7)
• Proximity to competitors (clustering)
– Often driven by resources such as natural, information,
capital, talent
– Found in both manufacturing and service industries

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Clustering of Companies (1 of 3)
Table 8.3 Clustering of Companies

INDUSTRY LOCATIONS REASON FOR CLUSTERING

Wine Napa Valley (U.S.) Natural resources of land and
making Bordeaux region climate
(France)

Software Silicon Valley, Boston, Talent resources of bright

firms Bangalore, Israel graduates in scientific/technical
areas, venture capitalists nearby
Clean Colorado Critical mass of talent and
energy information, with 1,000
companies

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Clustering of Companies (2 of 3)
Table 8.3 Clustering of Companies

INDUSTRY LOCATIONS REASON FOR CLUSTERING

Theme parks Orlando, A hot spot for entertainment, warm
(Disney World, Florida weather, tourists, and inexpensive
Universal Studios, labor
and Sea World)
Electronics firms Northern NAFTA, duty free export to U.S.
(Sony, IBM, HP, Mexico (24% of all TVs are built here)
Motorola, and
Panasonic)
Computer Singapore, High technological penetration rate
hardware Taiwan and per capita GDP,
manufacturers skilled/educated workforce with
large pool of engineers

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Clustering of Companies (3 of 3)
Table 8.3 Clustering of Companies

REASON FOR
INDUSTRY LOCATIONS CLUSTERING
Fast food chains Sites within Stimulate food sales, high
(Wendy’s, McDonald’s, 1 mile of traffic flows
Burger King, Pizza Hut) each other

General aviation Wichita, Mass of aviation skills (60-

aircraft (Cessna, Kansas 70% of world's small
Learjet, Boeing, planes/jets are built here)
Raytheon)

Athletic footwear, Portland, 300 companies, many owned

outdoor wear Oregon by Nike, deep talent pool and
outdoor culture

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Factor-Rating Method
• Popular because a wide variety of factors can be included
in the analysis
• Six steps in the method
1. Develop a list of relevant factors called key success
factors
2. Assign a weight to each factor
3. Develop a scale for each factor
4. Score each location for each factor
5. Multiply score by weights for each factor and total the
score for each location
6. Make a recommendation based on the highest point
score
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Factor-Rating Example
Table 8.4 Weights, Scores, and Solution

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Locational Cost-Volume Analysis
• An economic comparison of location alternatives
• Three steps in the method
1. Determine fixed and variable costs for each location
2. Plot the costs for each location
3. Select location with lowest total cost for expected
production volume

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Locational Cost-Volume Analysis
Example (1 of 3)
Three locations:
Selling price = $120
Expected volume = 2,000 units

City Fixed Cost Variable Cost Total Cost

Athens $30,000 $75 $180,000
Brussels $60,000 $45 $150,000
Lisbon $110,000 $25 $160,000

Total Cost = Fixed Cost +  Variable Cost  Volume

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Locational Cost-Volume Analysis
Example (2 of 3)
Crossover point – Athens and Brussels

30,000  75( x)  60,000  45( x)

30( x)  30,000
x  1,000

Crossover point – Brussels and Lisbon

60,000  45( x)  110,000  25( x)

20( x)  50,000
x  2,500

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Locational Cost-Volume Analysis
Example (3 of 3)
Figure 8.2

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Center-of-Gravity Method (1 of 7)
• Finds location of distribution center that minimizes
distribution costs
• Considers
– Location of markets
– Volume of goods shipped to those markets
– Shipping cost (or distance)

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Center-of-Gravity Method (2 of 7)
• Place existing locations on a coordinate grid
– Grid origin and scale are arbitrary
– Maintain relative distances
• Calculate x and y coordinates for 'center of gravity'
– Assumes cost is directly proportional to distance and
volume shipped

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Center-of-Gravity Method (3 of 7)
xQ i i
x - coordinate of the center of gravity  i

Q i
i

yQ i i
y - coordinate of the center of gravity  i

Q i
i

where
xi = x - coordinate of location i
yi = y - coordinate of location i
Qi = Quantity of goods moved to or from location i

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Center-of-Gravity Method (4 of 7)
Table 8.5 Demand for Quain's Discount Department Stores

NUMBER OF CONTAINERS
STORE LOCATION SHIPPED PER MONTH
Chicago 2,000
Pittsburgh 1,000
New York 1,000
Atlanta 2,000

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Center-of-Gravity Method (5 of 7)
Figure 8.3

x1 = 30
y1 = 120
Q1 = 2,000

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Center-of-Gravity Method (6 of 7)

30  2000   90 1000   130 1000   60  2000 

x - coordinate 
2000  1000  1000  2000
 66.7

120  2000   110 1000   130 1000   40 2000 

y - coordinate 
2000  1000  1000  2000
 93.3

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Center-of-Gravity Method (7 of 7)
Figure 8.3

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Transportation Model
• Finds amount to be shipped from several points of supply
to several points of demand
• Solution will minimize total production and shipping costs
• A special class of linear programming problems

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Worldwide Distribution of
Volkswagens and Parts
Figure 8.4

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Service Location Strategy
Major Determinants of Volume and Revenue
1. Purchasing power of customer-drawing area
2. Service and image compatibility with demographics of
the customer-drawing area
3. Competition in the area
4. Quality of the competition
5. Uniqueness of the firm’s and competitors’ locations
6. Physical qualities of facilities and neighboring businesses
7. Operating policies of the firm
8. Quality of management
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Location Strategies (1 of 2)
Table 8.6 Location Strategies – Service vs. Goods-Producing Organizations

SERVICE/RETAIL/PROFESSIONAL GOODS-PRODUCING

REVENUE FOCUS COST FOCUS

Volume/revenue Drawing Tangible costs
area; purchasing power Transportation cost of raw material
Competition; Shipment cost of finished goods
advertising/pricing Energy and utility cost; labor; raw
material; taxes, and so on
Physical quality
Parking/access; Intangible and future costs Attitude
security/lighting toward union Quality of life
Appearance/image Education expenditures
by state Quality of state and local
Cost determinants government
Rent
Management caliber
Operation policies (hours, wage
rates)

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Location Strategies (2 of 2)
Table 8.6 Location Strategies – Service vs. Goods-Producing Organizations

SERVICE/RETAIL/PROFESSIONAL GOODS-PRODUCING

TECHNIQUES TECHNIQUES

Regression models to determine Transportation method

importance of various factors Factor-rating method
Factor-rating method Locational cost–volume analysis
Traffic counts Crossover charts
Demographic analysis of drawing area
Purchasing power analysis of area
Center-of-gravity method
Geographic information systems

ASSUMPTIONS ASSUMPTIONS

Location is a major determinant of revenue Location is a major determinant of cost

High customer-contact issues are critical Most major costs can be identified explicitly for each site
Costs are relatively constant for a given Low customer contact allows focus on the identifiable
area; therefore, the revenue function costs
is critical Intangible costs can be evaluated

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How Hotel Chains Select Sites (1 of 2)
• Location is a strategically important decision in the
hospitality industry
• La Quinta started with 35 independent variables and
worked to refine a regression model to predict profitability
• The final model had only four variables
– Price of the inn
– Median income levels
– State population per inn
– Location of nearby colleges

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How Hotel Chains Select Sites (2 of 2)
R2 = .51
51% of the profitability is predicted by just these four
variables!

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Geographic Information Systems
(GIS) (1 of 2)
• Important tool to help in location analysis
• Enables more complex demographic analysis
• Available databases include
– Detailed census data
– Detailed maps
– Utilities
– Geographic features
– Locations of major services

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Geographic Information Systems
(GIS) (2 of 2)

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Copyright

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