CAPACITY PLANNING Capacity is important to: CAPAC ITY maximum rate of output the firm can reasonably sustain by using realistic employee work schedules and the equipment currently in place. Two levels: Long-term Capacity Plans deal with investments in new facilities and equipment. These plans cover at least two years into the future. Short-term Capacity Plans focus on work-force size, overtime budgets, inventories, and other types of decisions. central to the long-term success of an organization Measures of capacity: “How should the maximum rate of output be measured?” Output measures • are the usual choice for line flow processes • become less useful as the amount of customization and variety in the product mix becomes excessive • are best utilized when the firm provides a relatively small number of standardized products • are complicated by product mix Input measures • are the usual choice for flexible flow processes • are complicated by demand UTILIZATION • indicates the need for adding extra capacity or eliminating unneeded capacity. = × 100% The average output rate and the capacity must be measured in the same terms (time, customers, units, dollars). Peak Capacity the maximum output that a process or facility can achieve under ideal conditions; can be sustained for only a short time. Effective Capacity the maximum output that a process or firm can economically sustain under normal conditions. 2 essential definitions of maximum capacity • the degree to which the equipment, space, or labor is currently being used (expressed as a percentage) Rated Capacity • the appropriate measure when capacity is measured relative to equipment alone. • an engineering assessment of maximum annual output, assuming continuous operation except for an allowance for normal maintenance and repair downtime. Bottleneck is an operation that has the lowest effective capacity of any operation in the facility and thus limits the system’s output. If operated around the clock under ideal conditions, the fabrication department of an engine manufacturer can make 100 engines per day. Management believes that a maximum output rate of only 45 engines per day can be sustained economically over a long period of time. Currently the department is producing an average of 50 engines per day. What is the utilization department, relative to peak capacity? Effective capacity? Solution: The two utilization measures are = × % = × % = % = × % = × % = % “What is the maximum reasonable size for a facility?” states that average unit cost of a good or service can be reduced by increasing its output rate. 4 principal reasons why economies of scale can drive costs down when output increases: 1. 2. 3. 4. Spreading fixed costs Reducing construction costs Cutting costs of purchased materials Finding process advantages states that average cost per unit increases as the facility’s size increases. Excessive size can bring: • complexity; • loss of focus; and • inefficiencies that raise the average unit cost of a product or service. Capacity Strategies: Three Dimensions of Capacity Strategy “How much capacity cushion is best for various processes?” Sizing capacity cushions Capacity cushion - the amount of reserve capacity that a firm maintains to handle sudden increases in demand or temporary losses of production capacity - it measures the amount by which the average utilization (in terms of effective capacity), 100% - utilization rate (%) Effective Timing and sizing expansion: “When should we expand and by how much?” (a) EXPANSIONIST STRATEGY – involves large, infrequent jumps in capacity (b) WAIT-AND-SEE STRATEGY – involves smaller, more frequent jumps (c) FOLLOW-THE-LEADER STRATEGY – expand when others do; nobody gains competitive advantage. Linking capacity and other decisions Examples of links with capacity: (a) COMPETITIVE PRIORITIES (b) QUALITY MANAGEMENT (c) CAPITAL INTENSITY (d) RESOURCE FLEXIBILITY (e) INVENTORY (f) SCHEDULING A SYSTEMATIC APPROACH TO CAPACITY DECISIONS: Estimate future capacity requirements. • the foundation for estimating long-term capacity needs is forecasts of demand, productivity, competition, and technological changes that extend well into the future. • the demand forecast has to be converted to a number that can be compared directly with the capacity measure being used. Identify gaps. Capacity gap – is any difference (positive or negative) between projected demand and current capacity. where: = D = number of units − (customer) forecast per year p = processing time (in hours per unit or customer) N = total number of hours per year during which the process operates C = desired capacity cushion Setup time – time required to change a machine from making one product or service to making another. Total setup time is computed by dividing the number of units forecast per year, D, by the number of units made in each lot, which gives the number of setups per year, and then multiplying by the time per setup. A SYSTEMATIC APPROACH TO CAPACITY DECISIONS: Develop Alternatives. • develop alternative plans to cope with projected gaps. Base case – one alternative, which is to do nothing and simply lose orders from any demand that exceeds current capacity. • other alternatives are various timing and sizing options for adding new capacity, including the expansionist and wait-andsee strategies. • additional possibilities include expanding different location and using short-term options such as overtime, temporary workers, and subcontracting. Evaluate the Alternatives. Qualitative concerns – the manager has to look at how each alternative fits the overall capacity strategy and other aspects of the business no covered by financial analysis. Quantitative concerns – estimates the change in cash flows for each alternative over the forecast time horizon, compared to the base case. Cash flow – difference between the flows of funds into and out of an organization over a period of time, including revenues, costs and changes in assets and liabilities. Penelope and Peter Legume own a small accounting service and one personal computer. If their customers keep organizing records, either of the owners can use the computer to prepare one tax return per hour, on average. Both Legumes work two 12hour shifts. There are seven working days in a week. a. What is the peak capacity, measured in tax returns per week? b. The Legumes normally operate from 9 a.m. to 7 p.m., five days per week. What is their effective capacity, measured in tax returns per week? Without considering the number of shifts. c. During the third week of January, the Legumes processed 40 tax returns. What is their utilization, as a percentage of effective capacity? d. Determine the capacity cushion, expressed as a percentage. Product Annual Demand Standard processing time per unit (hr.) 1 400 5 2000 2 300 8 2400 3 700 2 1400 Processing time needed (hr.) If the department works one eight hour shift, 250 days a year, calculate the number of machines that would be needed to handle the required volume.