IE 375 — Production Planning Instructor Emre Nadar Unit 3 Notes 1, Unit 3 Goals # Explore the sales and operations planning process as well as the key perfor- mance indicators that are inputs to this process. © Study the aggregate planning problems by identifying the key cost terms and the three major capacity planning strategies (chase, level, and mixed) # Solve the aggregate planning problems via linear programming formulations. * Discuss the disaggregation problem. 2. Sales and Operations Planning The sales and operations planning (S&OP) is also called “macro production plan- ning;” it aims to develop|top-down] sales and operations plans for the entire firm, or for some subset of the firm such as a product line or a particular plant. The key goals of the S&OP process are to: ‘* Make aggregate level plans that all divisions within the organization, as well as suppliers to the organization, can work to; Resolve the inherent tensions between sales and operations divisions; and # Anticipate and escalate strategic challenges in matching supply with demand The applications of S&OP may be slightly different in different organizations. But there are some common elements: * Strategically focused * Cross-functional team. © Aggregated Time fences.The key inputs required for the S&OP process are: * Technical demand forecast: Advanced forecasting techniques such as those discussed in Lecture 2 are used to understand raw demand, # Sales plans: The marketing and sales divisions use technical forecasts and their own promotion and marketing plans to generate a sales forecast. * Operations plans: The operations division generates a production plan for capacity, supply, and inventory. # Innovation plans: The planned role of new products and future product innovation should be taken into account. © Financial plans: The sales and operations plans should also consider the financial forecasts (e.g., the company's future ability to raise capital or pos- sible cash flow constraints). A typical S&OP process iterates between these key inputs to resolve tensions and unforeseen constraints to finalize the sales and operations plans for the company. It is then left to the sales and operations divisions to execute on these plans. MANAGE DEMAND MANAGE SUPPLY S&OP plans are often considered fixed and the operations division must plan for uncertainty within its own execution plan. Strategies to deal with uncertainty are: Buffering. Maintaining excess resources (inventory, capacity, or time) to cover for fluctuations in supply or demand ‘* Pooling. Sharing buffers to cover multiple sources of variability (e.g., demand from different retailers). ‘© Contingency planning. Establishing a preset course of action for an antici- pated scenario (e.g., sourcing from the spot market or a backup supplier)WHAT 1S THE GOAL OF A FIRM? TD MAKE MONEY QUESTION: What are the key performance indicators? How do we look to shoreholders? ’ 4 interned eternal process Customer oe SF] Wermatwe OB A) Ee socom 9 we excel a? On (LU rteggrtizmeresen) Con we continve to improve and create value? Figure 1: The balanced score card approach QUESTION: What are the operational metrics? EFFICIENCY - RELATED EFFECTIVENESS - RELATED RESOURCE UTILIZATION HOW WELL WE MEET CUST. REQUIREMENTS ‘TIME, MATERIALS, LABOR, COST DEFECTS, COMPLANTS, SATISFACTION SCORE DIFOT: DELIVERY |N-FULL AND ON-TIME3. Aggregate Planning of Capacity The operations division produces an aggregate plan for capacity usage through- out the planning horizon. This plan uses the agreed upon set of sales forecasts (expressed in terms of aggregate production units or dollars) that comes out of the S&OP meeting. The operations division determines aggregate production quantities and the levels of resources required to achieve these production goals. In practice, this often translates to finding (a) the number of workers that should be employed and (b) the number of aggregate units to be produced in each period of the planning horizon NOTE: Aggregate planning methodology requires the assumption that demand is known with certainty. It is important to identify and measure the specific costs that are affected by the planning decision (a) Smoothing costs. These are the costs that accrue as a result of changing the production levels from one period to the next. The most salient smoothing cost is the cost of changing the size of the workforce. (b) Holding costs. These are the costs that accrue as a result of having capital tied up in inventory. (c) Shortage costs. These occur when forecasted demand exceeds the capacity of the production facility or when demands are higher than anticipated. In aggregate planning, it is generally assumed that excess demand is backlogged and filled in a future period (d) Regular time costs. These costs involve the cost of producing one unit of output during regular working hours.(e) Overtime and subcontracting costs. These are the costs of production of units not produced on regular time. (f) Idle time costs. These costs are often zero; the direct costs of idle time are taken into account in labor costs and lower production levels. $.Cot—e Slope = cy Slope = cp =F, = Number of fires 1H, = Number of hires —= Figure 2: Cost of changing the size of the workforce. ! “Bock orders Positive inventory —= Inventory Figure 3: Holding and backorder costs.EXAMPLE: Densepack produces a line of disk drives for mainframe computers that are plug compatible with several computers produced by major manufactur- ers. The firm wants to plan workforce and production levels for the six-month period from January to June. * Ending inventory in December is expected to be 500 units. The firm wants to have 600 units on hand at the end of June. # There are currently 300 workers employed. One worker produces an average of 0.14653 drive in one day. Cost of hiring one worker is $500 and cost of firing one worker is $1000 * Shortages are not allowed. Cost of holding one unit of inventory for one month is $80. Month Forecast | Net predicted | Net cumulative | Working demand demand demand days January | 1280 780 780 20 February 640 640 1420 24 March 900 900 2320 18 April 1200 1200 3520 26 May 2000 2000 5520 22 June 1400 2000 7520 15 Feasbe Ree coe Conia \ net coed InventoryWe first calculate the chase strategy (i.e., the zero inventory plan) |: Net predicted | Worker Wee Wer Month | demand — | require hired | fired January 780 267 = 33 February 640 182 = 85 March 900 3a 160 |= April 1200 315 = 27 May 2000 621 306 = June 2000 910 289 = “TOTAL HIRE $ FIRE COST = 755x500 + 145x1000 = 522,500 TOTAL INVENTORY COST = 630% 80 = 50,400 TOTAL COST = 572,900 We next calculate the level strategy (i.e., the constant workforce plan) Month Net cumulative | Cumulative Worker | On-hand inventory demand working days | requirement | with 411 workers January 780 20 267 424 February 1420 4 221 1230 March 2320 62 256 1414 April 3520 88 273 1780 May 5520 110 343 1105 June 7520 125 aw 8 TOTAL MRE $ FIRE COST = (4II-300) x 500 = 95,500 [ 510-| “TOTAL INVENTORY COST = 6562» 80 = 521,80 25(0.14653) TOTAL COST = 580,460 What about the mixed strategy?4. Linear Programming Approach Cost parameters: cw: Cost of hiring one worker. cp: Cost of firing one worker. cr: Cost of holding one unit of stock for one period. cri Cost of producing one unit on regular time. co: Incremental cost of producing one unit on overtime. cy: Idle cost per unit of production. cs: Cost to subcontract one unit of production Available information: in: Number of production days in period ¢. K: Number of aggregate units produced by one worker in one day. Io: Initial inventory on hand at the start of the planning horizon. Wo: Initial workforce at the start of the planning horizon D,: Forecast of demand in period t. Decision variables W,: Workforce level in period t. P;: Production level in period ¢ Ty: Inventory level in period ¢ H,: Number of workers hired in period t. F,; Number of workers fired in period ¢ Oz: Overtime production in units.Uj: Worker idle time in units. ‘Si: Number of units subcontracted from outside. Number of units produced by the entire workforce in period ¢: Kn Number of units produced on overtime in period t: IF R> Ka: = R- Ka Number of units of idle production in period ¢: IF RZ Kal: Up = Ka -B Problem constraints: (A) Conservation of workforce constraints: W, = Wa + Hy = (B) Conservation of units constraints: = T+ B+ -D (C) Constraints relating production levels to workforce levels: R= Kola + O.- Us (D) Nonnegativity constraints: Hef, T,0.Us, SNR 2 2 The objective function: MINIMIZE = (Hi + af tely + @& tO + ath + 5) SUBJECT TO (A), (8),,(0). 9Possible extensions: # If there is a minimum buffer inventory B, in period t: TL? B If there is an upper bound 77, on the number of workers hired in period ¢ He < Fy If there is an upper bound F, on the number of workers fired in period ¢ Re am © If there is an upper bound P; on the amount of production in period ¢: Rak # If excess demand is backlogged: T.=T/-Ij wHeRE I/7¢ and I, 2 If it costs cy, to hire each worker until H/* workers are hired and it costs cua > cin for each worker hired beyond II* workers: < HIRING COST: (cy Hu + crater) tt Hy = Hu + Hoe PSM SH 9 & Hae NOTE: The optimal values of the decision variables need not be integers. But fractional values for many variables are not meaningful. If the linear programming solution is to be implemented, the values of the numbers of workers should be rounded to the next larger integer and the other variables should be recalculatedEXAMPLE: We will now formulate a linear program to find the optimal solution to the aggregate planning problem of Densepack. é é & MINIMIZE 500 z H+ {000 > F, + 80 2h SUBJECT TO W-W-Hth <8 \ ' W-W- Hk = 9 P-L+, = 1280 R-L+L = 1400 R - 2B1W = % B - 35% Wie F B - 2635; = % R - 3810 W, = % PB - 324, = 2 R - 2193. = % HR, WER 7 8 We = 300 Ty = 300 I, = 600 OPTIMAL COST: 379,292 u5. Disaggregating Plans We will discuss one possible approach to the disaggregation problem: Suppose that X* represents the number of aggregate units of production for a particular planning period. Also, suppose that X* represents an aggregation of n different items (Yi, Y2,..., Yn). The question is how to divide up (i.e., disaggregate) X* among the n items. As we know that holding costs are already incorporated into the calculation of X*, we need not include them again in the disaggregation scheme. Our objective is to choose Yj, ¥2,..., Y¥, to minimize the average annual cost of setting up for production # Define K; as the fixed cost of setting up for production of Yj ® Define A, as the annual usage rate for item j # The average annual setup cost for item j is given by KjAj/Y}- # Define a; and b; as the possible lower and upper bounds on Y;, respectively. Thus disaggregation requires solving the following mathematical program: MINIMIZE SUBJECT TO6. Next Up Deterministic inventory systems. 13