Capacity Strategy – 1 Capacity and influencing factors Capacity and capacity planning Capacity expressed in two ways o MAXIMUM capacity: highest output rate under ideal conditions o Effective capacity: the maximum level of value-added activity over a period under normal conditions, after considering Potential for disruptions in process flows Worker fatigue Machine breakdown Preventive maintenance o Effective capacity can be 70-80% if maximum capacity Capacity strategy: the set of decisions concerned with how operations configure and change their overall capacity in order to achieve a level of output potential Capacity strategy decisions Strategy (Design): How to structure (configure) the supply chain during the next several years o Locations of warehouses, o Number of production sites, o Allocations of factories to markets, o Types of capacity (e.g., automation) Planning (Tactical): Maximize the supply chain performance over the planning horizon quarter to a year. o Which markets will be supplied from which locations o The subcontracting of manufacturing o The inventory policies to be followed o The timing and number of overtime workers Operational (functional): Make decision regarding individual customer orders (weekly or daily) o Allocate inventory or production to individual orders o Set a date by which an order is to be filled o Allocation of workers to manufacturing operations o Schedule delivery dates of trucks o Place inventory replenishment orders Influencing factors on capacity strategy Capacity sizing (number of sites, kinds of resources, ...) Locations of sites Allocation of tasks to sites Capacity timing Capacity flexibility Capacity changing (size, time, ...) Factors that influence Capacity Strategy: Economies and diseconomies of scale Economies of Scale: As production volumes increase with additions of capacity, the unit cost to produce a product decreases to an optimal level Reasons for economies of scale: 1. Allocation of fixed costs 2. Lower costs for purchases (discount) 3. As volume increases, learning occurs > Learning curve 4. Increased efficiency (in case of growth) 5. Capital costs are not linear (in case of growth) Diseconomies of Scale: As the size of an operation increases beyond a point, costs per unit can increase Reasons for diseconomies of scale: 1. Delayed maintenance (machine breakdown) 2. Stress and safety problems because of overutilization 3. Increased organizational, activity, and communication complexities Factors that influence capacity strategy: summary There are several factors that influence capacity strategy Demand uncertainty complicates capacity planning There are several reasons for economies of scale, leading to reduced unit cost Flexibility in capacity strategy can increase obtained value Challenges for capacity strategy It is complex! Many factors affecting Capacity lead time: it takes time to add capacity Can be political It is a soft decision, you can gain 110% utilization temporarily It is irreversible, you cannot reduce capacity easily Shortage costs is not obvious, hard to measure cost of customer dissatisfaction Capacity level decisions - C1 is more initial investment Service rate: c1 is better if service level is very important as they can serve all demands Must think about how to manage overcapacity after peak demand If customers are sensitive and easily switch to other suppliers, C1 is better If products are higher-profit-margins, C1 is better so you don’t lose any sales Economies of scale: C1 has higher C2 suppresses demand, C1 does not How reduce capacity shortfall costs Two substitutes to reduce the expected capacity shortfall Safety time Safety inventory Other recommendations Reduce the likelihood of a capacity shortfall by demand management (pricing, promotions, revenue mgmt.) Reduce the financial cost of a shortfall Use overtime, subcontracting, etc. Reduce the waiting costs (and future sales losses, customer dissatisfaction) Reduce holding costs Market Orientation and Order Timing Make to Order (MTO): Similar design, but customized during production Production starts after an order is received Job shop, batch, and cellular manufacturing Jet airplane Elegant restaurant Assemble to Order (ATO): Use standardized items Final assembly starts after an order is received Repetitive and Mass Customization Paint stores Subway restaurant Engineer to Order (ETO): Unique, customized products Project or Job shop process structures Cruise ship House Make to Stock (MTS): Produced in advance and stocked Repetitive and Continuous process structures Groceries Retail clothing Electronics Capacity sizing and timing strategies Capacity changing strategy includes two main decisions Capacity sizing Capacity timing Five ways for strategic capacity expansion New facility (Greenfield): Highest flexibility Can restructure the network Most expensive, longest lead time Extend existing facility (brownfield) Less drastic option Limited to some constraints Improve processes: By restructuring the flow, integrating activities, and replacing or adding equipment Improvement of bottleneck resources Outsourcing (subcontracting) and alliance: Outsourcing: sign contracts with third parties Alliances: agreement between two or more parties Franchising: Licensing of trademarks or process knowledge Add shift: Increases capacity by 2nd and 3rd shifts and during weekend Hight costs of labor and supervision Four capacity timing strategies Leading capacity strategy Build capacity in anticipation of demand growth Often used when new products are introduced Lagging capacity strategy Expands capacity after there is sufficient demand Hybrid timing strategies – capacity smoothing Depends on company’s position in capacity-inventory-time triangle Produce inventory in advance, or customers wait Follow your competitors’ strategies Assume your competitor has superior knowledge of demand You have chosen not to lead the market Use their action as a signal, not blindly follow them! Burger king following McDonalds Analysis of capacity timing strategies Leading capacity strategy Advantages • High service level • Maximized revenue • Low-capacity shortage risk • Market development • Competitive barrier of entry • Economies of scales Disadvantages: • See advantages of lagging capacity strategy Lagging capacity strategy Advantages • High-cost efficiency (utilization) • Low excess capacity risk • Option value of waiting • Delayed capacity investment • Less dependence on forecasting • New or cheaper technology • Increased control of channels and customer relationships Disadvantages • See advantages of leading capacity strategy Capacity smoothing Advantages • Combines more than one strategy, usually makes it a flexible strategy • Uses overcapacity efficiently • All demand is satisfied • Capacity utilization is high Disadvantages • Depends on company’s position in the capacity- inventory-time triangle • Might make customer wait • High inventory costs • Risk of product obsolescence Follow your competition Advantages • Reduces needs for research and evaluations • Reduces chances of having overcapacity Disadvantages • You are not leading the market • Lose market share by giving it to competitors Capacity sizing How often should we change capacity and how much should be the increase chunks? It depends on many factors, including: Time value of money Economies of scale Risk and costs of overcapacity/under capacity Summary What are the three levels of capacity strategy decisions? What decision do you make in each level? What are the five categories of decision areas in capacity strategy? What are some of the influencing factors on capacity strategy? What are some reasons for economies and diseconomies of scales? What are two other ways that companies can prevent capacity shortfalls? What are some ways to decide the sizing of capacity change? What are some ways to decide the timing of capacity change?
