LESSON PROPER:

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Based on the preliminary activity, what did you notice?

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You may now proceed to the lesson.

Strategic Capacity Management

Capacity is the ability to hold, receive, store, or accommodate. In a business sense, it is viewed as the amount
of output that a system is capable of achieving over a specific period of time.
Strategic capacity planning has as its objective, to determine the overall capacity level of capital-intensive
resources - facilities, equipment, and overall labor force size - that best supports the company's long-range
competitive strategy.

Economies of scale, experience curve and capacity flexibility are important issues or concepts that are to be
incorporated into capacity decision making. The capacity level selected determines a company's cost
structure, competitive position and management and staff support requirements. If capacity is inadequate
competitors can easily enter the business. If capacity is excessive, utilization becomes poor and costs will be
higher than the expected costs.

Capacity Planning Concepts

Best operating level

The best operating level of a plant is the production volume at which average cost is the lowest. Companies
try to operate close to this point. If demand is consistently higher than the best operating level, then they
increase the capacity to lower the cost close to the best operating level cost.
Economies of scale
This concept signifies that as production volumes increase, the average cost per unit decreases. Higher
capacity plants have a lower production cost compared to lesser capacity plants.

The experience curve

As plants produce more units, they gain experience in their production methods, which in turn, results in
reducing the per unit costs of production in a predictable manner.

Capacity focus
The concept of focused factory states that it is more effective to have different plants for products with
significant difference in specifications especially in terms of performance specifications.

Capacity flexibility
Capacity flexibility means having the ability to rapidly increase or decrease production levels or to shift
production capacity quickly from one product or service to another. Such flexibility is achieved through flexible
plants, processes, and workers, as well as through strategies that use the capacity of other operations.
Issues to be considered in adding capacity include maintaining system balance, frequency of capacity
additions, and the use of external capacity. Capacity strategies can be proactive, neutral, and reactive.
Reactive and neutral strategies are not responsive to anticipating future growth or building a facility for future
demand.

Determining Capacity Requirements

Capacity planning decisions are based on forecasts for product demand, labor requirements, and equipment
requirements.

Typical Steps:
1. Predict sales for individual products within each product line using forecasting techniques.
2. Calculate equipment and labor requirements to meet product line forecasts.
3. Project labor and equipment availabilities over the planning horizon.

Decisions include whether to add capacity, determining capacity requirements, and planning service capacity
throughout the product life-cycle stages.

Toyota production system operates on the concept of flexibility by being ready to increase production
whenever required by employing temporary workers and overtime. It works for only two shifts normally and
when required uses overtime to operate for eight extra hours.

HOW TO MANAGE CAPACITY

There are two aspects to capacity management—its relationship to stability and uncertainty, and the
measurement of its variables.

The Zone

Managing capacity involves:

 monitoring the supply of, and demand on, adaptation capacity, and, when necessary,
 making adjustments in order to operate in “The Zone” (a space for pursuing as much change as possible
while minimizing the negative effects of future shock).
Future shock occurs when the demands of change exceed a person’s or group’s capacity to properly deal
with its implications. (This is reflected in their inability to maintain productivity, quality, and safety standards).
At first glance, you might assume that future shock is something to avoid at all cost. However, that’s not what
I’ve seen from leaders who consistently achieve their change objectives. In fact, some of the most
predominant lenses and patterns associated with success are the ones that help keep an organization on
the cusp between order and chaos.

Although this juncture between predictability and pandemonium is clearly a risky place to attempt critical
transitions, it’s also where we find maximum flexibility. I labeled this point, where order and chaos most
closely resemble one another, as The Zone. This is where people and organizations have both the greatest
likelihood of becoming overwhelmed with instability, and the greatest possibility of adapting to uncertainty.
The purpose of capacity management is to monitor the balance between too much and too little change and
operate an organization at the boundary point between the two.

Measuring Demand and Capacity

Strategic assets are vital to an enterprise’s future, highly sought after, protected once secured, and not easily
replaced. The ability of people to operate under turbulent conditions without becoming
overly dysfunctional (i.e., unable to maintain productivity, quality, and safety standards) unquestionably
creates a competitive advantage. As such, it should be treated as a strategic asset. To do this, capacity must
be explicitly managed. However, it is impossible to manage a process unless it is measurable. Therefore,
what follows are the key aspects of measuring change-related demand and capacity.

DEMAND
The demands a change imposes (the amount of energy it will consume) are determined by many factors, but
they can be grouped into five categories:
 Timing: Is the change coming at people quickly? Is there time pressure to effect the change? Was the
initiative a surprise, leaving little time to plan?
 Scale: Are a significant number of people affected by the change? Does it require shifts beyond the
primary location where it is being implemented? Does the initiative have a major impact on the business
performance?
 Resources: How many people are needed to execute this change? Does the funding represent a
sizeable investment? Will new or upgraded technology be required?
 Complexity: Does the initiative require balancing multiple variables at the same time? Is it dependent
on others’ initiatives falling into place? Is it difficult to explain? Does it involve challenging activities with
which people have had little or no prior experience?
 Culture: Does the initiative require significant shifts in established routines or how people generally
operate on a daily basis? Does it require any fundamental changes in how people think about their work,
their customers, or their roles?

For each of the first four factors, we can assign a rating that indicates a high, medium, or low energy drain
during implementation. Those ratings can then be added together to determine their cumulative impact. The
fifth factor (culture), however, has a different relationship to the others and is actually a multiplier of the first
four. This is because a change in set patterns of behaviors and mindsets drains more energy during
implementation than any of the other variables. Even more important, when energy is spent dealing with
cultural change, it causes each of the other factors to be more taxing than would otherwise be the case.
Therefore, when calculating how much demand is currently impacting or will impact people who are trying to
accommodate a major change endeavor, culture should be viewed as having a multiplying, not an additive,
affect. Therefore, the formula used to determine the load carried by people trying to accommodate change
looks like this:
CHANGE DEMAND = (Timing + Scale + Resources + Complexity) x Culture

CAPACITY
Calculating demand is fairly straightforward compared to measuring capacity. Rather than taking a head-on,
linear approach, capacity has to be measured indirectly because the metric being sought is the “remaining”
energy available for addressing change—how much is left after other changes have taken their toll.

To measure available capacity, focus on five factors:

 Performance: Are productivity and effectiveness levels dropping? Is preventable overtime increasing?
Is less being done (or costing more or taking more time)?
 Quality: Are quality-related concerns increasing? Is more time being spent on fixing mistakes? Are
customers complaining about service?
 Safety: Are incidences of physical injuries increasing? Do people report feeling more at risk of danger?
  People: Are the people in the organization, and their relationships with each other, healthy (effective,
honest, supportive, etc.)? Are there accelerated absences or stress-related symptoms? Are there signs
of communication or decision-making problems?
 Progress: Are projects behind schedule? Running over budget? Consuming more resources (or
returning worse results) than planned?

The five factors combine to determine the load carried by people trying to accommodate change. Calculating
demand and available capacity are key steps toward understanding and managing capacity.

Capacity planning

Capacity planning is the process of determining the production capacity needed by an organization to meet
changing demands for its products. In the context of capacity planning, design capacity is the maximum
amount of work that an organization is capable of completing in a given period. Effective capacity is the
maximum amount of work that an organization is capable of completing in a given period due to constraints
such as quality problems, delays, material handling, etc.

The phrase is also used in business computing and information technology as a synonym for capacity
management. IT capacity planning involves estimating the storage, computer hardware, software and
connection infrastructure resources required over some future period of time. A common concern of
enterprises is whether the required resources are in place to handle an increase in users or number of
interactions. Capacity management is concerned about adding central processing units (CPUs), memory and
storage to a physical or virtual server. This has been the traditional and vertical way of scaling up web
applications, however IT capacity planning has been developed with the goal of forecasting the requirements
for this vertical scaling approach.

A discrepancy between the capacity of an organization and the demands of its customers results in
inefficiency, either in under-utilized resources or unfulfilled customers. The goal of capacity planning is to
minimize this discrepancy. Demand for an organization's capacity varies based on changes in production
 output, such as increasing or decreasing the production quantity of an existing product, or producing new
products. Better utilization of existing capacity can be accomplished through improvements in overall
equipment effectiveness (OEE). Capacity can be increased through introducing new techniques, equipment
and materials, increasing the number of workers or machines, increasing the number of shifts, or acquiring
additional production facilities.
Capacity is calculated as (number of machines or workers) × (number of shifts) × (utilization) ×
(efficiency).

Strategies

The broad classes of capacity planning are lead strategy, lag strategy, match strategy, and
adjustment strategy.
 Lead strategy is adding capacity in anticipation of an increase in demand. Lead strategy is an aggressive
strategy with the goal of luring customers away from the company's competitors by improving the service
level and reducing lead time. It is also a strategy aimed at reducing stock-out costs. A large capacity does
not necessarily imply high inventory levels, but it can imply higher cycle stock costs. Excess capacity can
also be rented to other companies.
Advantage of lead strategy: First, it ensures that the organization has adequate capacity to meet all demand,
even during periods of high growth. This is especially important when the availability of a product or service
is crucial, as in the case of emergency care or hot new product. For many new products, being late to market
can mean the difference between success and failure. Another advantage of a lead capacity strategy is that
it can be used to preempt competitors who might be planning to expand their own capacity. Being the first in
an area to open a large grocery or home improvement store gives a retailer a define edge. Finally, many
businesses find that overbuilding in anticipation of increased usage is cheaper and less disruptive than
constantly making small increases in capacity. Of course, a lead capacity strategy can be very risky,
particularly if demand is unpredictable or technology is evolving rapidly.
 Lag strategy refers to adding capacity only after the organization is running at full capacity or beyond due to
increase in demand (North Carolina State University, 2006). This is a more conservative strategy and
opposite of a lead capacity strategy. It decreases the risk of waste, but it may result in the loss of possible
customers either by stock-out or low service levels. Three clear advantages of this strategy are a reduced
risk of overbuilding, greater productivity due to higher utilization levels, and the ability to put off large
investments as long as possible. Organization that follow this strategy often provide mature, cost-sensitive
products or services.
 Match strategy is adding capacity in small amounts in response to changing demand in the market. This is
a more moderate strategy.
 Adjustment strategy is adding or reducing capacity in small or large amounts due to consumer's demand,
or, due to major changes to product or system architecture.
Capacity
In the context of systems engineering, capacity planning is used during system design and system
performance monitoring.

Capacity planning is long-term decision that establishes a firm's overall level of resources. It extends over a
time horizon long enough to obtain resources. Capacity decisions affect the production lead time, customer
responsiveness, operating cost and company ability to compete. Inadequate capacity planning can lead to
the loss of the customer and business. Excess capacity can drain the company's resources and prevent
investments into more lucrative ventures. The question of when capacity should be increased and by how
much are the critical decisions. Failure to make these decisions correctly can be especially damaging to the
overall performance when time delays are present in the system.

Capacity – available or required?

From a scheduling perspective it is very easy to determine how much capacity (or time) will be required to
manufacture a quantity of parts. Simply multiply the standard cycle time by the number of parts and divide
by the part or process OEE %.
If production is scheduled to produce 500 pieces of product A on a machine having a cycle time of 30 seconds
and the OEE for the process is 85%, then the time to produce the parts would be calculated as follows:
(500 parts × 30 seconds) / 85% = 17647.1 seconds The OEE index makes it easy to determine whether we
have ample capacity to run the required production. In this example 4.2 hours at standard versus 4.9 hours
based on the OEE index.
By repeating this process for all the parts that run through a given machine, it is possible to determine the
total capacity required to run production.

Capacity available

When considering new work for a piece of equipment or machinery, knowing how much capacity is
available to run the work will eventually become part of the overall process. Typically, an annual forecast is
used to determine how many hours per year are required.
To calculate the total capacity available, the volume is adjusted according to the period being considered.
The available capacity is difference between the required capacity and planned operating capacity.

Capacity is needed in formulation and execution of strategy as this refers to how capable are the resources
in the organization. Without effective resources it could be very difficult to formulate and implement the
Strategy.
We had just finished the discussion on strategic capacity management. Let’s now move on to
the next higher level of activity that demonstrates your potential skills / knowledge of what you
have learned.