Capacity Planning

Definition of Capacity
“ Capacity is the limiting capability of a
productive unit to produce within a stated time
period , normally expressed in terms of output
units per unit of time.
time. ”


Capacity needs include
• Equipment
• Space
• Employee skills
Determinants of Effective
Capacity
Facilities
Product and service factors
Process factors
Human factors
Policy factors
Supply chain factors
External factors
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Strategic Capacity Planning
 Goal

To achieve a match between the long-term
supply capabilities of an organization and the
predicted level of long-run demand
• Overcapacity
Overcapacity operating costs that are too high
• Undercapacity
Undercapacity strained resources and possible
loss of customers
Capacity Planning Questions
 Key
Questions:
What kind of capacity is needed?
 How much capacity is needed to match demand?
 When is it needed?
 Related Questions:
 How much will it cost?
 What are the potential benefits and risks?
 Are there sustainability issues?
 Should capacity be changed all at once, or through
several smaller changes
 Can the supply chain handle the necessary changes?

2
Capacity Decisions Are
Strategic
 Capacity



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
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decisions
impact the ability of the organization to meet future
demands
affect operating costs
are a major determinant of initial cost
often involve longlong-term commitment of resources
can affect competitiveness
affect the ease of management
are more important and complex due to globalization
need to be planned for in advance due to their
consumption of financial and other resources
Capacity
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
achieved--cannot
exceed effective capacity.
3
Measuring System Effectiveness
 Actual output


The rate of output actually achieved
It cannot exceed effective capacity
 Efficiency
Efficiency 
actual output
effective capacity
 Utilization
Utilization 
actual output
design capacity
Measured as percentages
Example– Efficiency and
Utilization
Design Capacity = 50 trucks per day
Effective Capacity = 40 trucks per day
Actual Output = 36 trucks per day
Efficiency 
actual output
36

 90%
effective capacity 40
Utilization 
actual output
36

 72%
design capacity 50
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
Measures of capacity for different types of organizations
Type of Organizations
Capacity Measure
Auto plant
Number of autos
Steel Plant
Tons of steel
Beer Plant
Cases of beer
Nuclear power plant
Megawatts of electricity
Airline
Available seat miles (ASMs)
Hospital
Available bedbed-days
Movie theater
Available seatseat-performance
Restaurant
Available seatseat-turns
Jobbing machine shop
Available laborlabor-hours
School of Business Administration
Available semester or quarter sections
* When output units are more diverse , it is common to use a measure of
the availability of the limiting resource as the capacity measure.
Determinants of Effective
Capacity
Facilities
Product and service factors
Process factors
Human factors
Policy factors
Supply chain factors
External factors
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Capacity Strategies
 Leading

Build capacity in anticipation of future demand
increases
 Following

Build capacity when demand exceeds current capacity
 Tracking

Similar to the following strategy, but adds capacity in
relatively small increments to keep pace with
increasing demand
Strategy Formulation
Strategies are typically based on
assumptions and predictions about:
Long-term demand patterns
 Technological change
 Competitor behavior

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Capacity Cushion
 Capacity Cushion



Extra capacity used to offset demand
uncertainty
Capacity cushion = 100% - Utilization
Capacity cushion strategy
• Organizations that have greater demand
uncertainty typically have greater capacity
cushion
• Organizations that have standard products and
services generally have greater capacity cushion
Steps in Capacity Planning
1.
Estimate future capacity requirements
2.
Evaluate existing capacity and facilities; identify gaps
3.
Identify alternatives for meeting requirements
4.
Conduct financial analyses
5.
Assess key qualitative issues
6.
Select the best alternative for the long term
7.
Implement alternative chosen
8.
Monitor results
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Calculating Processing
Requirements
Calculating processing requirements
requires reasonably accurate demand
forecasts, standard processing times, and
available work time
pD
k
NR 
i
i 1
i
T
where
N R  number of required machines
p i  standard processing time for product i
D i  demand for product i during the planning horizon
T  processing time available during the planning horizon
Service Capacity Planning
 Service capacity planning can present a
number of challenges related to:

The need to be near customers
• Convenience

The inability to store services
• Cannot store services for consumption later

The degree of demand volatility
• Volume and timing of demand
• Time required to service individual customers
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Demand Management
Strategies
Strategies used to offset capacity
limitations and that are intended to achieve
a closer match between supply and
demand
Pricing
 Promotions
 Discounts
 Other tactics to shift demand from peak
periods into slow periods

In-House or Outsource?
 Once capacity requirements are determined, the
organization must decide whether to produce a good
or service itself or outsource
 Factors to consider:

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Available capacity
Expertise
Quality considerations
The nature of demand
Cost
Risks
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Developing Capacity
Alternatives
 Things
that can be done to enhance capacity
management

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

Design flexibility
Take stage of life cycle into account
Take a “bigbig-picture”
picture” approach to capacity changes
Prepare to deal with capacity “chunks”
chunks”
Attempt to smooth capacity requirements
Identify the optimal operating level
Choose a strategy if expansion is involved
 Predicting Future Capacity Requirements

Industry Capacity and Competitive Dynamics

Mature Products with Stable Demand
OR

New Products and Risky Situations
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Predicted Requirements , Current Capacities, and
Projected capacity differences
Capacity, Units per Year
Predicted capacity requirements
Machine shop capacity
Capacity (gap) or slack
Assembly capacity
Capacity (gap) or slack
Receiving, shipping, and factory
warehouse capacity
Capacity (gap) or slack
Current,
1987
1989
1992
1997
10,000
12,000
15,000
20,000
11,000
-
-
-
1,000
(1,000)
(4,000)
(9,000)
10,000
-
-
-
-
(2,000)
15,000
-
-
-
5,000
3,000
-
(5,000)
(5,000) (10,000)
Expected, Optimistic, and Pessimistic Predictions of
Requirements
Capacity, Units per Year
Expected capacity requirements
Optimistic requirements
Pessimistic requirements
Current,
1987
1989
1992
1997
10,000
12,000
15,000
20,000
10,000
14,
14,500
25,000
62,000
10,000
11,000
12,800
16,000
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The Optimistic Prediction
Capacity, Units per Year
Predicted capacity requirements
Machine shop capacity
Capacity (gap) or slack
Assembly capacity
Capacity (gap) or slack
Receiving, shipping, and factory
warehouse capacity
Capacity (gap) or slack
Current,
1987
1989
1992
1997
10,000
14,500
25,000
62,000
11,000
-
-
-
1,000
(3,500)
10,000
-
-
(4,500)
15,000
-
5,000
500
(14,000) (51,000)
-
-
(15,000) (52,000)
-
-
(10,000) (47,000)
The Pessimistic Prediction
Capacity, Units per Year
Predicted capacity requirements
Machine shop capacity
Capacity (gap) or slack
Assembly capacity
Capacity (gap) or slack
Receiving, shipping, and factory
warehouse capacity
Capacity (gap) or slack
Current,
1987
1989
1992
1997
10,000
11,000
12,800
16,000
11,000
-
-
-
1,000
-
(1,800)
(5,000)
10,000
-
-
-
-
(1,000)
(2,800)
(6,000)
15,000
-
-
-
5,000
4,000
2,200
(1,000)
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
Generation of Alternative Capacity Plans
Large or small Capacity Increments
Noted: Whether smaller or larger increments of capacity
will be more economical depends on the balance of
incremental capital and the operating costs of a
particular organization and on whether or not
economies of scale exist.
 Alternative sources of Capacity
Noted: The cost effects of using alternative sources of
capacity are the tradetrade-off of some of the costs
carrying slack capacity against the costs of overtime
and multiple shifts, productivity losses resulting from
pushing capacity beyond normal limits, and the extra
costs of subcontracting units of output.

22000
2000 unit every 2 years
20000
18000
16000
14000
12000
1987 (current) capacity
10000
1987
1989
1991
1993
1995
1997
1999
13
22000
4000 unit every 4 years
20000
18000
16000
14000
12000
1987 (current) capacity
10000
1987
1989
1991
1993
1995
1997
1999
22000
20000
18000
Planned use of
alternative sources of
capacity
16000
14000
12000
1987 (current) capacity
10000
1987
1989
1991
1993
1995
1997
1999
14
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Economies of Scale
Cost per unit

A
B
C
Monthly production, units

Economic Evaluation of Capacity Plans

Mature Products with Stable Demand Growth
Example
1.Capacity added January 1, 1987, and January 1, 1989, in increments
increments of
2000 units.
2.Capacity of 4000 units added January 1, 1987.
3.Capacity added July 1, 1987, and July 1, 1989, in increments of
of 2000
units, depending on overtime and multiple shifts to meet requirements
requirements
during the first six months of 1987 and 1989.
4.Capacity of 4000 units added January 1, 1988, depending on overtime
overtime
and multiple shifts to meet requirements during 1987.
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Original Invesment Requirements and
Operating Cost
Plant Size,
Units per Year
Original invesment
Operating Costs
per unit
Operating Costs per Unit
When Using Alternative
Sources of Capacity
2000
4000
$1,000,000
1,8000,000
$ 10
9
$ 11
10
i = annual interest rate in decimals = 0.15
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18
19
The present value for the four alternative are
1. $ 1,812,070
2. $ 1,850,463
3. $1,697,665
4. $1,617,398
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New Products and Risky Situations
An Example

Suppose that we are planning future capacity for a product that is in the
rapid development phase. Present annual capacity is 20,000 units.
units. New
competition is becoming very aggressive ,but the enterprise expects
expects retain its
market share. The sales department feels that market shares should
should be increased
with aggressive promotion. Estimates of the total market vary, with
with some feeling
that growth might be explosive in the next four to five years. On
On the other hand,
there is the additional uncertainty concerning continuing technological
technological innovation
that could stunt the growth of the current line. Thus, expected, optimistic, and
pessimistic market prediction are made and assigned probabilities
probabilities that each might
occur. The predictions are converted to capacity requirements per
per year as follows:
1987,
1988
1989
1990
1991
Current
Optimistic (p
(p = 0.25)
17,000
24,000
34,000
48,000
66,000
Expected (p
(p = 0.50)
17,000
20,000
34,000
29,000
35,000
Pessimistic (p
(p = 0.25)
17,000
19,000
21,000
23,000
25,000

Strategies. Three alternative strategies are
developed,each designed with the three market
assumptions in mind.The variable cost of production
are the same as for the present capacity because no
new process technology is involved. The three
alternative are.
1.
Install new capacity in 1989,1990 and 1991 in
increments of 15,000 units.
Install new capacity in 1989, 1990, and 1991 in
increments of 5,000 units
Make no capacity additions.
2.
3.
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