*McGraw-Hill/Irwin*

5

Capacity Planning

For Products and

Services

*Copyright © 2007 by The McGraw-Hill Companies, Inc. All rights reserved.*

Explain the importance of capacity planning.

Discuss ways of defining and measuring capacity.

Describe the determinants of effective capacity.

Discuss the major considerations related to developing capacity alternatives.

Briefly describe approaches that are useful for evaluating capacity alternatives

**5-2**

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

Capacity also includes

Equipment

Space

Employee skills

The basic questions in capacity handling are:

What kind of capacity is needed?

How much is needed?

When is it needed?

**5-3**

Importance of Capacity Decisions

1. Impacts ability to meet future demands

2. Affects operating costs

3. Major determinant of initial costs

4. Involves long-term commitment

5. Affects competitiveness

6. Affects ease of management

7. Globalization adds complexity

8. Impacts long range planning

**5-4**

Design capacity

…

Effective capacity

…

Actual output

…

**5-5**

**Efficiency =**

**Actual output**

**Effective capacity**

**Utilization =**

**Actual output**

**Design capacity**

*Both measures expressed as percentages*

**5-6**

Design capacity = 50 trucks/day

Effective capacity = 40 trucks/day

Actual output = 36 trucks/day

Efficiency =

Utilization =

Actual output = units/day

Effective capacity units/ day

=

Actual output

Design capacity

= units/day

= units/day

**5-7**

Determinants of Effective

Capacity

Facilities

Product and service factors

Process factors

Human factors

Policy factors

Operational factors

Supply chain factors

External factors

**5-8**

Capacity strategy for long-term demand

Demand patterns

Growth rate and variability

Facilities

Cost of building and operating

Technological changes

Rate and direction of technology changes

Behavior of competitors

Availability of capital and other inputs

**5-9**

Key Decisions of Capacity

Planning

1. Amount of capacity needed

• Capacity cushion (100% - Utilization)

2. Timing of changes

3. Need to maintain balance

4. Extent of flexibility of facilities

Capacity cushion – extra demand intended to offset uncertainty

**5-10**

Forecasting Capacity

Requirements

Long-term vs. short-term capacity needs

Long-term relates to overall level of capacity such as facility size, trends, and cycles

Short-term relates to variations from seasonal, random, and irregular fluctuations in demand

**5-11**

Tot

Product

Calculating Processing

Requirements

Annual

Demand

Standard processing time per unit (hr.)

Processing time needed (hr.)

#1

#2

#3

Total

400

300

700

5.0

8.0

2.0

If annual capacity is 2000 hours, then how many machines do we need to handle the required volume of …. ?

**5-12**

Need to be near customers

Capacity and location are closely tied

Inability to store services

Capacity must be matched with timing of demand

Degree of volatility of demand

Peak demand periods

**5-13**

Outsource: obtain a good or service from an external provider

1. Available capacity

2. Expertise

3. Quality considerations

4. Nature of demand

5. Cost

6. Risk

**5-14**

Developing Capacity Alternatives

1.Design flexibility into systems

2.Take stage of life cycle into account

3.

Take a “big picture” approach to capacity changes

4.

Prepare to deal with capacity “chunks”

5.Attempt to smooth out capacity requirements

6.Identify the optimal operating level

**5-15**

Figure 5.2

Machine #1

10/hr

Bottleneck operation: An operation in a sequence of operations whose capacity is lower than that of the other operations

Machine #2

10/hr

Bottleneck

Operation

30/hr

Machine #3

10/hr

Machine #4

10/hr

**5-16**

Which operation is the Bottleneck operation?

Operation 1

20/hr.

Operation 2

10/hr.

Operation 3

15/hr.

?

Maximum output rate limited by bottleneck

**5-17**

Economies of scale

If the output rate is less than the optimal level, increasing output rate results in decreasing average unit costs

Diseconomies of scale

If the output rate is more than the optimal level, increasing the output rate results in increasing average unit costs

**5-18**

Figure 5.4

Production units have an optimal rate of output for minimal cost.

Minimum average cost per unit

**Minimum cost**

**0**

**Rate of output**

**5-19**

Figure 5.5

**Minimum cost & optimal operating rate are functions of size of production unit.**

**0**

**Small plant**

**Medium plant Large plant**

**Output rate**

**5-20**

Cost-volume analysis

Break-even point

Financial analysis

Cash flow

Present value

Decision theory

Waiting-line analysis

**5-21**

Figure 5.6a

**0**

**Fixed cost (FC)**

**Q (volume in units)**

**5-22**

Figure 5.6b

**0**

**Q (volume in units)**

**5-23**

Figure 5.6c

**0 BEP units**

**Q (volume in units)**

**5-24**

Break-Even Problem with Step

Figure 5.7a

Fixed Costs

**3 machines**

**2 machines**

**1 machine**

**Quantity**

**Step fixed costs and variable costs.**

**5-25**

Break-Even Problem with Step

Fixed Costs

Figure 5.7b

**$**

**BEP**

**3**

**FC**

**3**

**FC**

**2**

**BEP**

**2**

**3**

**FC**

**1**

**2**

**1**

**Quantity**

**Multiple break-even points**

**TP = (P – VC) Q**

**5-26**

Assumptions of Cost-Volume

Analysis

1.One product is involved

2.Everything produced can be sold

3.Variable cost per unit is the same regardless of volume

4.Fixed costs do not change with volume

5.Revenue per unit constant with volume

6.Revenue per unit exceeds variable cost per unit

**5-27**

Cash Flow - the difference between cash received from sales and other sources, and cash outflow for labor, material, overhead, and taxes.

Present Value - the sum, in current value, of all future cash flows of an investment proposal.

**5-28**

Useful for designing or modifying service systems

Waiting-lines occur across a wide variety of service systems

Waiting-lines are caused by bottlenecks in the process

Helps managers plan capacity level that will be cost-effective by balancing the cost of having customers wait in line with the cost of additional capacity

**5-29**