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Capacity Planning

Capacity Planning


The maximum level of output The amount of resource inputs available relative to output requirements at a particular time


Capacity, generally measured in physical units, refers either to the maximum output rate for (products or services) or to the amounts of key resources available in each operating unit.


throughput, or the number of units a facility can hold, receive, store, or produce in a period of time Determines fixed costs Determines if demand will be satisfied

Capacity Planning

Capacity is the maximum output rate of a production or service facility Capacity Planning is the process of establishing the output rate that may be needed at a facility. Capacity is usually purchased in Chunks Strategic issues: how much and when to spend capital for additional facility and equipment Tactical Issues: Work force and inventory levels & day-to-day use of equipment

Capacity Planning

Determination of Plant Capacity First Level Planning Design Capacity Based on Long Range Forecast System capacity Output produced by workers

and equipments

Sys.efficiency = Actual output System Capacity.

Capacity Planning

basic questions in capacity planning are:


type of capacity is needed? How much is needed? When is it needed? How does productivity relate to capacity?

Dimension of Demand

Effect on Capacity Requirement

How much capacity is needed?



When should capacity be available?


What kind of capacity is needed?


Where shoud capacity be installed?

Strategic Capacity Planning

Capacity is the ability to hold receive, store

or accommodate raw material, finished products ,customers etc. Strategic Capacity Planning is an approach for determining the overall capacity level of capital intensive resources ,including facilities, equipment and overall labor force size



How well a machine or worker performs compared to a standard output level.

Capacity Capacity

Load Load Percent

Standard hours of work assigned to a facility Ratio of load to capacity

Examples of Capacity Measures

Type of Organization Manufacturer Hospital Airline Restaurant Retailer Theater Measures of Capacity Inputs Outputs Machine hours Number of units per shift per shift Number of beds Number of patients treated Number of planes Number of or seats seat-miles flown Number of seats Customers/time Area of store Sales dollars Number of seats Customers/time

Capacity Utilization


of output actually achieved


operating level


for which the process was designed (effective or maximum capacity)

Capacity Used _______________ Best Operating Level

Utilization =

During one week of production , a plant produces 83 units of a product. Its historic best utilization was 120 units per week what is the plants capacity utilization rate ?


Utilization Rate ?

Best Operating Level


Engineers design engine and assembly lines to operate at an ideal or best operating level to maximize output and minimize wear.

Best Operating Level

Average unit cost of output Underutilization Over-utilization Best Operating Level


Best Operating Level



How Much Capacity is best??

The Best Operating Level is the output that results in the lowest average unit cost.

Economies of scale

Where the cost per unit of output drops as volume of output increases Spread the fixed costs of buildings & equipment over multiple units, allow bulk purchasing & handling of materials Production or operating cost do not increase linearly with output levels Quantity discounts are available for material purchase Operating efficiency increases as worker gain experience

Diseconomies of scale:

Where the cost per unit rises as volume increases Often caused by congestion (overwhelming the process with too much work-in-process ) and scheduling complexity. Diseconomies of Distribution Diseconomies of Bureaucracy Diseconomies of Confusion Diseconomies of Vulnerability

Economies & Diseconomies of Scale

Long Run Average Cost Curve

Average unit cost of output

100-unit plant 200-unit plant 300-unit plant 400-unit plant


Economies & Diseconomies of Scale

Average unit cost of output

100-unit plant 200-unit plant 300-unit plant 400-unit plant


Why the average unit cost is decreasing when the volume is increasing or when the time is passing by?

The Experience Curve

As plants produce more products, they gain experience in the best production methods and reduce their costs per unit.

Cost or price per unit

Total accumulated production of units

Capacity Decisions (Cont..)

Capacity increase depends on Volume and certainty of anticipated demand Strategic objectives Cost of expansion and operation Best Operating Level % of capacity utilization that minimizes unit costs

Capacity Decision..


% of capacity held in reserve for unexpected occurrences

Capacity Cushion
Capacity Cushion = level of capacity in excess of the average utilization rate or level of capacity in excess of the expected demand . Cushion = Best Operating Level Capacity Used

- 1

Large capacity cushion

Required to handle uncertainty in demand

service industries high level of uncertainty in demand (in terms of both volume and product-mix) to permit allowances for vacations, holidays, supply of materials delays, equipment breakdowns, etc. if subcontracting, overtime, or the cost of missed demand is very high

Sources of Uncertainty
Customer Deliveries Transportation Location Information

Manufacturing Process design Product design Capacity Quality

Supplier Performance Responsiveness Transportation Location Quality Information

Customer Demand Past performance Market research Analytical techniques Promotions / Incentives

Example: Target 5% Cushion

cushion = Best Operating Level Capacity Used
.05 = (1800/x) - 1 1.05 = (1800/x) 1.05x = 1800 x = 1714.3

- 1

1714.3/1800 = .9524

Three Important considerations in Capacity Planning


system balance Frequency of capacity addition External sources of capacity

Determining Capacity Requirements


is the demand which is going to act as one of the guide lines in taking the decision that whether the capacity needed to be added or not. When we take a decision regarding capacity requirement these three points to be taken under consideration:


sale (within each individual product line) Calculate equipment and labor requirements to meet forecasts Project equipment and labor availability

Making Capacity Planning Decisions


are three-step procedure for making capacity planning decisions is as follows: Step1: Identify Capacity Requirements Step2: Develop Capacity Alternatives Step3: Evaluate Capacity Alternatives

Example--Capacity Requirements
A manufacturer produces two lines of ketchup, FancyFine and a generic line. Each is sold in small and family-size plastic bottles. The following table shows forecast demand for the next four years.
Year: FancyFine Small (000s) Family (000s) Generic Small (000s) Family (000s) 1 50 35 100 80 2 60 50 110 90 3 80 70 120 100 4 100 90 140 110

Example of Capacity Requirements: Equipment and Labor Requirements

Year: Small (000s) Family (000s) 1 150 115 2 170 140 3 200 170 4 240 200

Three 100,000 units-per-year machines are available for small-bottle production. Two operators required per machine.

Two 120,000 units-per-year machines are available for family-sized-bottle production. Three operators required per machine.


Question: Identify the Year 1 values for capacity, machine, and labor?

Year: Small (000s) Family (000s)

1 150 115

2 170 140

3 200 170

4 240 200 6 6

Small Mach. Cap. 300,000 Labor Family-size Mach. Cap. 240,000 Labor 150,000/300,000=50% At 1 machine for 100,000, it takes 1.5 machines for 150,000 Small Percent capacity used 50.00% Machine requirement 1.50 Labor requirement 3.00 At 2 operators for Family-size 100,000, it takes 3 Percent capacity used 47.92% operators for 150,000 Machine requirement 0.96 Labor requirement 2.88

The McGraw-Hill Companies, Inc., 2001


Question: What are the values for columns 2, 3 and 4 in the table below?

Year: Small (000s) Family (000s) Small Family-size Small Percent capacity used Machine requirement Labor requirement Family-size Percent capacity used Machine requirement Labor requirement

1 150 115 Mach. Cap. Mach. Cap.

2 170 140 300,000 240,000

3 200 170 Labor Labor

4 240 200 6 6

50.00% 56.67% 1.50 1.70 3.00 3.40 47.92% 58.33% 0.96 1.17 2.88 3.50

66.67% 2.00 4.00 70.83% 1.42 4.25

80.00% 2.40 4.80 83.33% 1.67 5.00

The McGraw-Hill Companies, Inc., 2001

Breakeven Analysis
Breakeven quantity = Fixed Costs Price - Variable Costs

Breakeven example
Thomas Manufacturing intends to increase capacity by overcoming a bottleneck operation through the addition of new equipment. Two vendors have presented proposals as follows:

Proposal A B

Fixed Costs $ 50,000 $ 70,000

Variable Costs $12 $10

The revenue for each product is $20 What is the breakeven quantity for each proposal?

Breakeven Solution

Proposal A BEQ = $ 50,000 $20 - 12 = 6250

Proposal B
BEQ = $ 70,000 $20 - 10 = 7000

Breakeven Analysis
In the previous example, at what capacity would both plans incur the same cost?
Solution -consider total cost

Total cost = Fixed cost + Variable Cost (Q)

$50,000 + $12Q = $70,000 + $10 Q

Q = 10,000

Capacity Flexibility: Having the ability to respond rapidly to demand volume changes and product mix changes.


plants Flexible processes Flexible workers

Capacity Bottlenecks
Operation 1 Raw material 200/hour Operation 2 75/hour Operation 3 200/hour

Bottleneck Operation

Determining Capacity Requirements


sales within each individual product line equipment and labor requirements to meet the forecasts equipment and labor availability over the planning horizon



Capacity Example
An automobile equipment supplier wishes to install a sufficient number of ovens to produce 400,000 good castings per year. The baking operation takes 2.0 minutes per casting, and management requires a capacity cushion of 5%. How many ovens will be required if each one is available for 1800 hours (of capacity) per year?

Required system capacity = 400,000 good units per year Number of oven minutes required = 400,000 x 2 min/unit = 800,000 Number of oven minutes available/oven = (1800 hrs/oven) x(60 minutes/hour) (.9524) = 102,859 minutes/oven Number of ovens required = 800,000 min /102,859 min/oven = 7.8 or 8 ovens

How does Quality affect capacity?

Suppose a three operation process is followed by an inspection. If the average proportion of defectives produced at operations 1, 2, and 3 are .04, .01, and .02 respectively, and if the demand is 200 units, then what is the required capacity for this operation?

Capacity requirements with Yield Loss

Notation: di = avg. proportion of defective units at operation i n = number of operations in the production process M = order quantity (good units only or desired yield) B = avg. number of units at the start of the production process

B =

M [(1-d1)(1-d2).(1-dn)]

Desired yield = 200 Operation Defective rate 1 .04 2 .01 3 .02 (1) What is the capacity required?


200 (1-.04)(1-.01)(1-.02)

= 215

Capacity and Quality

Suppose we have a 6 process assembly line that must produce 1000 good products. Each process produces only 1% defects. How is capacity affected?
1000 Capacity required = = (.99)6 1062 units

Decision Trees
A glass factory specializing in crystal is experiencing a substantial backlog, and the firm's management is considering three courses of action: A) Arrange for subcontracting, B) Construct new facilities. C) Do nothing (no change) The correct choice depends largely upon demand, which may be low, medium, or high. By consensus, management ranks the respective probabilities as .10, .50, and .40. A cost analysis that reveals the effects upon costs is shown in the following table.

Payoff Table
0.1 Low 10 -120 20 0.5 Medium 50 25 40 0.4 High 90 200 60


We start with our decisions...

Subcontracting A B C Construct new facilities

Do nothing

Then add our possible states of nature, probabilities, and payoffs

High demand (.4) Medium demand (.5) Low demand (.1)

$90k $50k $10k $200k $25k -$120k


High demand (.4) Medium demand (.5) Low demand (.1) High demand (.4) Medium demand (.5) Low demand (.1)

$60k $40k $20k

Determine the expected value of each decision

High demand (.4) Medium demand (.5)


Low demand (.1)

$90k $50k $10k


High demand (.4) Medium demand (.5)


Low demand (.1) High demand (.4) Medium demand (.5)

$90k $50k $10k $200k $25k -$120k


Low demand (.1)

High demand (.4)


Medium demand (.5) Low demand (.1)

$60k $40k $20k

Planning Service Capacity




of Demand

Capacity Utilization & Service Quality


operating point is near 70% of capacity 70% to 100% of service capacity, what do you think happens to service quality? Why?


Two Capacity Strategies

Planned unused capacity Forecast of capacity needed

Forecast of Planned use of short-term options capacity needed


Time between increments

Expansionist Strategy

Wait-and-See Strategy

Advantages/Disadvantages of each strategy

Advantages Expansionist
ahead of competition no lost sales

risky if demand changes


no unused capacity easier to adapt to new technologies

rely on shortterm options

Some Short-Term Capacity Options

lease extra space temporarily authorize overtime staff second or third shift with temporary workers add weekend shifts alternate routings, using different work stations that may have excess capacity schedule longer runs to minimize capacity losses

Some Short-Term Capacity Options


output by building up inventory in slack season postpone preventive maintenance (risky) use multi-skilled workers to alleviate bottlenecks allow backorders to increase, extend due date promises, or have stock-outs. subcontract work