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Session 10Session 10

Strategic Capacity Management

OBJECTIVESOBJECTIVES

• Strategic Capacity Planning Defined• Capacity Utilization & Best Operating Level• Economies & Diseconomies of Scale• The Experience Curve• Capacity Focus, Flexibility & Planning

2Strategic Capacity Pl iPlanning

CapacityCapacity– The maximum level of output

– The amount of resource inputs pavailable relative to output requirements at a particular timeq p

Capacity is the upper limit or ceiling on– Capacity is the upper limit or ceiling on the load that an operating unit can handlehandle.

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Examples of Capacity MeasuresType of Measures of Capacity

Organi ation Inp ts O tp tsOrganization Inputs OutputsManufacturer Machine hours Number of units

per shift per shiftHospital Number of beds Number ofHospital Number of beds Number of

patients treatedAirline Number of planes Number ofAirline Number of planes

or seatsNumber ofseat-miles flown

Restaurant Number of seats Customers/timeRetailer Area of store Sales dollarsTheater Number of seats Customers/time

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Measurements of CapacityMeasurements of Capacityyy

Output Rate CapacityOutput Rate Capacity– For a facility having a single product or a few

homogeneous products the unit of measurehomogeneous products, the unit of measure is straightforward (barrels of beer per month)F f ilit h i di i f d t– For a facility having a diverse mix of products, an aggregate unit of capacity must be

t bli h d i it f t testablished using a common unit of output (sales dollars per week)

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Measurements of CapacityMeasurements of Capacityyy

Input Rate CapacityInput Rate Capacity – Commonly used for service operations

where output measures are particularly difficult

Hospitals use available beds per monthAirlines use available seat-miles per monthAirlines use available seat-miles per monthMovie theatres use available seats per monthmonth

6TerminologyDesign capacity– The maximum output rate or service capacity an p p y

operation, process or facility is designed for.

Effective capacityDesign Capacity minus allowances such as– Design Capacity minus allowances such as personal time, maintenance or scrap.

Actual output– rate of output actually achieved--cannot exceed

effective capacity.

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Capacity Utilizationp y

Capacity usedrate of output actually achieved– rate of output actually achieved

Best operating level– capacity for which the process was designed

(effective or maximum capacity)( p y)

Utilization = _______________Capacity Used

Best Operating LevelBest Operating Level

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Utilization--Examplep

Best operating level = 120 units/week

Actual output = 83 units/week

692units/wk83=usedCapacity nUtilizatio ==Utilization = ? .692

units/wk120leveloperatingBest nUtilizatio

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Two Measures of System yEffectiveness

1. Efficiency == Actual Output-----------------------Effective capacity

2 Utilization == Actual Output2. Utilization == Actual Output-----------------------Design capacity

10Factors – To determine Eff ti C itEffective Capacity

A Facilities DesignA. Facilities – DesignLocationlayoutEEnv.

B. Product/Services - DesigngProd or Service Mix

C P Q tit bilitiC. Process - Quantity capabilitiesQuality CapabilitiesQ y p

11Factors – To determine Eff ti C itEffective Capacity

D Human factor – Job ContentD. Human factor – Job ContentJob DesignTraining & expMotivation CompensationMotivation, CompensationAbsenteeism & labour turn over rates

E Policy – running for O/T IInd or IIIrd shiftE. Policy running for O/T, IInd or IIIrd shift

12Factors – To determine Eff ti C itEffective Capacity

F. Operational – Schedulingp gMaterial Magmt.QAQAMaint. PoliciesEquipment Breakdowns

G. External factors –Pdt stdsSafety regulationsSafety regulationsUnionsPollution control stds

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Capacity Planning p y g

The basic questions in capacity planning are:– What type of capacity is needed?

How much is needed?– How much is needed?– When is it needed?– How does productivity relate to capacity?

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Key Decisions of Cap. Plnng1. The amount of Cap needed –

consideration of exp demand & cap costsconsideration of exp demand & cap costs.2. The timing of changes --Availability of capital, lead time needed to

make changes & exp demanda e c a ges & e p de a d3. Need to maintain bal throughout the

s stem proportionate changes in allsystem – proportionate changes in all areas of the system.

4. Extent of flexibility of facilities and the workforce – Uncertainty about theworkforce Uncertainty about the demand & variety of work requirement.

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M i D dM i D dManaging DemandManaging DemandDemand exceeds capacityDemand exceeds capacity

Curtail demand by raising prices schedulingCurtail demand by raising prices schedulingCurtail demand by raising prices, scheduling Curtail demand by raising prices, scheduling longer lead timelonger lead timeLong term solution is to increase capacityLong term solution is to increase capacityg p yg p y

Capacity exceeds demandCapacity exceeds demandSti l t k tSti l t k tStimulate marketStimulate marketProduct changesProduct changes

Adjusting to seasonal demandsAdjusting to seasonal demandsProduce products with complementary demand Produce products with complementary demand p p yp p ypatternspatterns

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C l t D d C l t D d Complementary Demand Complementary Demand PatternsPatternsPatternsPatterns

4,000 4,000 –

3,000 3,000 –

2,0002,000 –s in

units

s in

units

2,000 2,000

1,000 1,000 –

Sale

sSa

les

Jet ski Jet ski engine engine

ll

J F M A M J J A S O N D J F M A M J J A S O N D JJ F M A M J J A S O N D J F M A M J J A S O N D J

salessales

Time (months)Time (months)Figure S7.3Figure S7.3

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C l t D d C l t D d Complementary Demand Complementary Demand PatternsPatternsPatternsPatterns

4,000 4,000 –

S bilS bil3,000 3,000 –

2,0002,000 –s in

units

s in

units Snowmobile Snowmobile

motor salesmotor sales

2,000 2,000

1,000 1,000 –

Sale

sSa

les

Jet ski Jet ski engine engine

ll

J F M A M J J A S O N D J F M A M J J A S O N D JJ F M A M J J A S O N D J F M A M J J A S O N D J

salessales

Time (months)Time (months)Figure S7.3Figure S7.3

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C l t D d C l t D d Complementary Demand Complementary Demand PatternsPatternsPatternsPatterns

Combining both Combining both demand patterns demand patterns

4,000 4,000 –

ppreduces the reduces the variationvariation

S bilS bil3,000 3,000 –

2,0002,000 –s in

units

s in

units Snowmobile Snowmobile

motor salesmotor sales

2,000 2,000

1,000 1,000 –

Sale

sSa

les

Jet ski Jet ski engine engine

ll

J F M A M J J A S O N D J F M A M J J A S O N D JJ F M A M J J A S O N D J F M A M J J A S O N D J

salessales

Time (months)Time (months)Figure S7.3Figure S7.3

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Forecasting Cap requirementsCap planng decision involves two main

considerationsconsiderations1. Long term – Overall level of capacity2. Short term – variations in cap.

RequirementsRequirementsCreated by – Seasonal – can be easily found

b i d f i h fl dout by using std forecasting tech, reflected in monthly, weekly and daily basis.y y y

Randomi l fl t ti iirregular fluctuations in

demand

20Forecasting Cap requirements

Link Between Marketing & Operations, determination of capacity requirements isdetermination of capacity requirements is based on the inf supplied from mktg

1. Through customer contacts2 Demographic analyses2. Demographic analyses3. ForecastsThen, Operations calculate the exact cap

requirementsrequirements.

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Approaches to Capacity Approaches to Capacity pp p ypp p yExpansionExpansion

(a)(a) Leading demand with incremental Leading demand with incremental expansionexpansion

New New capacitycapacity

Expected Expected demanddemandm

and

man

d

demanddemand

Dem

Dem

11 22 33Time (years)Time (years)

11 22 33

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Approaches to Capacity Approaches to Capacity pp p ypp p yExpansionExpansion

(b)(b) Leading demand with oneLeading demand with one--step expansionstep expansion

New New capacitycapacityp yp y

Expected Expected demanddemand

man

dm

and

Dem

Dem

11 22 33Time (years)Time (years)

11 22 33

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Approaches to Capacity Approaches to Capacity pp p ypp p yExpansionExpansion

(c)(c) Capacity lags demand with incremental Capacity lags demand with incremental expansionexpansion

New New capacitycapacity

Expected Expected demanddemand

man

dm

and

Dem

Dem

11 22 33Time (years)Time (years)

11 22 33

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Approaches to Capacity Approaches to Capacity pp p ypp p yExpansionExpansion

(d)(d) Attempts to have an average capacity with Attempts to have an average capacity with incremental expansionincremental expansion

New New capacitycapacity

Expected Expected demanddemand

man

dm

and

Dem

Dem

11 22 33Time (years)Time (years)

11 22 33

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Economies & Diseconomies of Scale

f S CEconomies of Scale and the Experience Curve working

100-unitl tAverage plant

200-unitplant 300-unit 400-unit

Averageunit costof output plant 300 unit

plant plant

Diseconomies of Scale start working

Volume

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Achieving Superior Efficiencyg p yEconomies of scaleUnit cost reductions associated with a large scale of outputUnit cost reductions associated with a large scale of output

• Ability to spread fixed costs over a large production volume

• Ability of companies producing in large volumes to achieve a greater division of labor and specializationS i li ti h f bl i t d ti it b• Specialization has favorable impact on productivity by enabling employees to become very skilled at performing a particular taskp g p

Diseconomies of scaleUnit cost increases associated with a large scale of output

• Increased bureaucracy associated with large-scale y genterprises

• Resulting managerial inefficiencies

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Economies and Diseconomies of Scale

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Economies of ScaleEconomies of ScaleDeclining costs result from:– Fixed costs being spread over more and

more units– Longer production runs result in a

smaller proportion of labor beingsmaller proportion of labor being allocated to setups

– Proportionally less material scrapand other economies– … and other economies

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Diseconomies of ScaleDiseconomies of ScaleIncreasing costs result from increased

ti f k d t i lcongestion of workers and material, which contributes to:which contributes to:– Increasing inefficiency– Difficulty in scheduling– Damaged goodsDamaged goods– Reduced morale– Increased use of overtime– and other diseconomies– … and other diseconomies

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The As plants produce more products, they

Experience Curve

p p p , ygain experience in the best production methods and reduce their costs per unitCurve

Cost orYesterday

Todaypriceper unit

yTomorrow

Total accumulated production of unitsTotal accumulated production of units

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When the Economies of scale meet the experience curve

There must be two conditions to be met for thisThere must be two conditions to be met for this strategy to succeed:

1 The product must fit customer’s need;1. The product must fit customer s need;2. The demand must be sufficiently large to

t th lsupport the volume.

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Economies of ScopeEconomies of Scope

The ability to produce many productThe ability to produce many product models in one flexible facility more cheaply than in separate facilitiesthan in separate facilitiesHighly flexible and programmable automation allows quick, inexpensive product-to-product changesp p gEconomies are created by spreading the automation cost over many productsautomation cost over many products

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Sharing Resources Sharing resources and capabilities across two or

Sharing Resources S a g esou ces a d capab es ac oss o omore business units in different industries to realize economies of scope.

– Economies of scope arise when business units are able to effectively able to pool, share, andare able to effectively able to pool, share, and utilize expensive resources or capabilities:

Economies of scope are possible only when there are significant commonalities between onethere are significant commonalities between one

or more value-chain functions.

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Sharing Resources gat Procter & Gamble

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Capacity FocusTh t f th f d f tThe concept of the focused factoryholds that production facilities workholds that production facilities work best Plants Within Plants (PWP)

Each of which may have separate suborgz– Each of which may have separate suborgz, equip, & process & workforce mgmt policies for diff pdts.Extend focus concept to operating level– Extend focus concept to operating level

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Capacity Flexibilityp y y• Flexible plants – zero changeover time Using moveable equip, easily accessible

& reroutable utilities.• Flexible processes – flexible mfg

systems on one side & easily set upsystems on one side & easily set up equip on the other side(as defined in

i f )economies of scope)• Flexible workers - having multiple skills.g p

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Considerations in adding capg p1. Maintaining System Balance

--Cap. Addition at bottleneck stagef b ff i I f t f b ttl k--use of buffer inv. In front of bottlenecks

--duplicating the facilities of the deptt--duplicating the facilities of the deptt.1. Frequency of Cap additions – depends y

on the direct costs involved.E t l f C it2. External sources of Capacity –Outsourcing or sharing capacityg g p y

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Capacity Planning: Balance

UnitsUnbalanced stages of production

Stage 1 Stage 2 Stage 3Unitsper

monthmonth6,000 7,000 5,000

Maintaining System Balance: Output of one stage is

Balanced stages of production

g y p gthe exact input requirements for the next stage

Stage 1 Stage 2 Stage 3Unitsper

Balanced stages of production

g g gpermonth

6,000 6,000 6,0006,000 6,000 6,000

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Outsourcing Service Outsourcing Service FunctionsFunctions

B ildi i t– Building maintenance– Data processing– Delivery– Payrolly– Bookkeeping– Customer serviceCustomer service– Mailroom– Benefits administration– Benefits administration– … and more

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Break Even AnalysisyBE Analysis is a critical tool for determiningBE Analysis is a critical tool for determining

the capacity, a facility must have to achieve fit bilitprofitability.

Decisions can be made about the type and cap of equipment needed and a bettercap of equipment needed and a better judgment about success of the enterprise

b dcan be made.

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B kB k E E lE E lBreakBreak--Even ExampleEven Example

Multiproduct CaseMultiproduct Case

BEPBEP$$ == FF

∑∑ 11 (W(W ))VVii∑∑ 1 1 -- x (Wx (Wii))

ii

PPii

wherewhere VV = variable cost per unit= variable cost per unitPP = price per unit= price per unitFF fi d tfi d tFF = fixed costs= fixed costs

WW = percent each product is of total dollar sales= percent each product is of total dollar salesii = each product= each product

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M lti d t E lM lti d t E lMultiproduct ExampleMultiproduct Example

Annual ForecastedAnnual Forecastedii l il i

Fixed costs = $3,500 per monthFixed costs = $3,500 per month

ItemItem PricePrice CostCost Sales UnitsSales UnitsSandwichSandwich $2.95$2.95 $1.25$1.25 7,0007,000Soft drinkSoft drink .80.80 .30.30 7,0007,000,,Baked potatoBaked potato 1.551.55 .47.47 5,0005,000TeaTea .75.75 .25.25 5,0005,000Salad barSalad bar 2 852 85 1 001 00 3 0003 000Salad barSalad bar 2.852.85 1.001.00 3,0003,000

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M lti d t E lM lti d t E lMultiproduct ExampleMultiproduct Example

Annual ForecastedAnnual Forecastedii l il i

Fixed costs = $3,500 per monthFixed costs = $3,500 per month

ItemItem PricePrice CostCost Sales UnitsSales UnitsSandwichSandwich $2.95$2.95 $1.25$1.25 7,0007,000Soft drinkSoft drink .80.80 .30.30 7,0007,000,,Baked potatoBaked potato 1.551.55 .47.47 5,0005,000TeaTea .75.75 .25.25 5,0005,000Salad barSalad bar 2 852 85 1 001 00 3 0003 000

Annual WeightedSelling Variable Forecasted % of Contribution

Item (i) Price (P) Cost (V) (V/P) 1 - (V/P) Sales $ Sales (col 5 x col 7)Salad barSalad bar 2.852.85 1.001.00 3,0003,000

Sandwich $2.95 $1.25 .42 .58 $20,650 .446 .259Soft drink .80 .30 .38 .62 5,600 .121 .075Baked 1.55 .47 .30 .70 7,750 .167 .117

potatoTea .75 .25 .33 .67 3,750 .081 .054Salad bar 2.85 1.00 .35 .65 8,550 .185 .120

$46,300 1.000 .625

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M lti d t E lM lti d t E lFMultiproduct ExampleMultiproduct ExampleBEP$ =F

∑ 1 - x (Wi)Vi

P

Annual ForecastedAnnual Forecastedii l il i

Fixed costs = $3,500 per monthFixed costs = $3,500 per month

∑ Pi

= = $67 200$3,500 x 1262ItemItem PricePrice CostCost Sales UnitsSales Units

SandwichSandwich $2.95$2.95 $1.25$1.25 7,0007,000Soft drinkSoft drink .80.80 .30.30 7,0007,000

$67,200.625

Daily = = $215 38$67,200,,

Baked potatoBaked potato 1.551.55 .47.47 5,0005,000TeaTea .75.75 .25.25 5,0005,000Salad barSalad bar 2 852 85 1 001 00 3 0003 000

Annual WeightedSelling Variable Forecasted % of Contribution

Item (i) Price (P) Cost (V) (V/P) 1 - (V/P) Sales $ Sales (col 5 x col 7)

sales = = $215.38312 days

446 x $215 38Salad barSalad bar 2.852.85 1.001.00 3,0003,000Sandwich $2.95 $1.25 .42 .58 $20,650 .446 .259Soft drink .80 .30 .38 .62 5,600 .121 .075Baked 1.55 .47 .30 .70 7,750 .167 .117

.446 x $215.38$2.95 = 32.6 ≈ 33

sandwichesper day

potatoTea .75 .25 .33 .67 3,750 .081 .054Salad bar 2.85 1.00 .35 .65 8,550 .185 .120

$46,300 1.000 .625

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Question BowlThe objective of Strategic Capacity

Planning is to provide anPlanning is to provide an approach for determining the overall capacity level of which ofoverall capacity level of which of the following?F ili ia. Facilities

b. Equipmentc. Labor force sized. All of the aboved. All of the abovee. None of the above

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Question BowlTo improve the Capacity Utilization Rate we

can do which of the following?can do which of the following?a. Reduce “capacity used”

Increase “capacity used”b. Increase “capacity used”c. Increase “best operating level”d All of the aboved. All of the abovee. None of the above

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Question BowlWhen we talk about Capacity

Flexibility which of the followingFlexibility which of the following types of flexibility are included?Pl ta. Plants

b. Processesc. Workersd. All of the abovee. None of the above

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Question Bowl

When adding capacity to existing operations which of the following are considerations that should be included in the planning effort?

a Maintaining system balancea. Maintaining system balanceb. Frequency of additions

E t lc. External sources d. All of the abovee. None of the above

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End of Session 10End of Session 10