BUAD 306
Chapter 5 - Capacity Planning
Chapter 8 – Location Planning (Cost
Volume ONLY)
Daily Capacity
“There’s only so many hours in a day…”
 “I can’t take it anymore”
 “If I eat one more piece, I am going to
explode”

Capacity Planning
The upper limit or ceiling on the load
that an operating unit can handle.
 Establishes the overall level of
productive resources for a firm.
 Enables managers to quantify
production capabilities for a firm and
make plans accordingly.

What to Ask?

The basic questions in capacity
handling are:
What kind of capacity is needed?
(resources/facility)
 How much is needed? (add to existing
or build new?)
 When is it needed?

WHO / WHAT / WHERE / WHEN / WHY
Importance of Capacity
Decisions
Should meet future demand
 Affects operating costs
 Determines initial cost
 Involves long-term commitment
(requires lots of $$$)
 Affects competitiveness

Definitions

Design Capacity


Effective Capacity


Maximum obtainable output
Maximum capacity given product mix,
scheduling difficulties, and other
doses of reality.
Actual output

Rate of output actually achieved-cannot exceed effective capacity.
Determinants of Effective
Capacity

Facilities


Products or services




Standard vs. customized
Processes


Location / layout
Design and execution
Human considerations
Operations
External forces
Design: Planned
Effective: Reality
Actual: Realized
Developing Capacity
Alternatives
Design flexibility into systems
 Take a “big picture” approach to
capacity changes
 Prepare to deal with capacity “chunks”
 Attempt to smooth out capacity
requirements
 Identify the optimal operating level

Service Capacity
Considerations
Need to be near the customer
 Can’t inventory services
 Volatility in demand

Cost-Volume Analysis
Relationships between cost, revenue,
and volume of output.
 Variable costs vary directly with
volume of output.
 Break-even point - the volume of
output at which total cost and total
revenue are equal.

Assumptions of
Cost-Volume Analysis
One product is involved
 Everything produced can be sold
 The variable cost per unit is the same
regardless of the volume
 Fixed costs do not change with
volume changes
 The revenue per unit is the same
regardless of volume

Amount ($)
Cost-Volume Relationships
Fixed cost (FC)
0
Q (volume in units)
Figure 5-8a
Amount ($)
Cost-Volume Relationships
0
Q (volume in units)
Figure 5-8b
Amount ($)
Cost-Volume Relationships
0
BEP units
Q (volume in units)
Figure 5-8c
Breakeven Point
QBEP =
FC
R - VC
BEP Calculations
To calculate Total Profit:
P = Q(R - VC) - FC
where Q = Quantity
R = Revenue/unit
VC = Variable cost/unit
FC = Fixed Cost
To calculate the required volume, Q, needed to
generate a specified profit, P :
Q = P + FC
R – VC
To calculate a break-even point:
QBEP =
FC
R - VC
Example A
Process Fixed Variable
A
250,000
15
B
350,000
10
C
100,000
30
1. What is the breakeven point for each if revenue = 50?
2. Which would you choose?
Example A – Part 2
Process
A
B
C
Fixed
250,000
350,000
100,000
Variable Capacity
15
12,000
10
10,000
30
4,000
1. Are you still comfortable with your selections from before
given the capacities above?
2. What if demand was expected to be 20,000 for ever?
Total Cost Analysis

Comparisons between 2 or more
alternatives:
TC = FC + Q (VC)
Example B
Process Fixed Variable
A
250,000
15
B
350,000
10
1. Which process to use at low volumes?
2. Which process to use at very high volumes?
3. Point of indifference between the two processes?
Example B – Part 2
Process Fixed Variable
A
250,000
15
B
350,000
10
C
100,000
30
Example B – Part 3
Process
A
B
C
Fixed
250,000
350,000
100,000
Variable Capacity
15
25,000
10
50,000
30
8,000
HW #7

A firms plans to begin production of a new small
appliance. The manager must decide whether
to purchase the motors for the item from a vendor
for $7 each or produce in house. If produced in
house, it would use one of 2 processes: One has
an annual FC = $160,000 and VC = $5/unit. The
other has an annual FC = $190,000 and a VC =
$4/unit.

Determine the range of annual volume for
which each alternative would be best.