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Lecture Five

Location Decisions
The Need for Location Decisions
Existing organizations may need to make
location decisions for a variety of reasons:
Addition of new facilities (ex. banks, fast-food chains,
To expand markets as part of a marketing strategy
Growth in demand that cannot be satisfied by

expanding existing facilities

Depletion of basic inputs (ex. Fishing, Mining, Petroleum)
Shift in markets

Cost of doing business at a particular location

Location Decisions
Strategic Importance:
Are closely tied to an organizations strategies
Low-cost locating
where labor or material costs are low
near markets or raw materials to reduce transportation costs
Increasing market share locating
in high-traffic areas
Convenience to customers locating
at many locations to be near to customers
Impact capacity and flexibility
space constraints that limit future expansion

Affect investment requirements, operating costs, revenues, and operations

For manufacturing excessive transportation costs, a shortage of

qualified labor, inadequate supplies of raw materials.

For services lack of customers and/or high operating costs.
Location Decisions
Objectives of Location Decisions:
Identify the best location available based on potential profit.
Finding a number of acceptable locations from which to choose
Position in the supply chain
End: accessibility, consumer demographics, traffic patterns, and local
customs are important
Middle: locate near suppliers or markets
Beginning: locate near the source of raw materials
Location Decisions
Location Options:
Existing companies generally have four options available in location
1. Expand an existing facility
If there is adequate room for expansion
Expansion costs are often less than those of other alternatives.
2. Add new locations while retaining existing facilities
This is done in many retail operations.
Adding locations can be a defensive strategy to maintain a market share.
3. Shut down one location and move to another
A shift in markets, exhaustion of raw materials, and the cost of operations often
cause firms to consider this option seriously.
Do nothing
1. If there is no sufficient benefits could be gained from any of the previous three
Global Location
Facilitating Factors:
Two key factors have contributed to the attractiveness of globalization:
1. Trade Agreements such as
North American Free Trade Agreement (NAFTA)
General Agreement on Tariffs and Trade (GATT)
U.S.-China Trade Relations Act
EU and WTO efforts to facilitate trade
2. Technology
Advances in communication and information technology
Global Location
Cost savings
transportation, labor, raw material, taxes etc.
Legal and regulatory
less restrictive labor and environmental laws.
avoid the impact of currency changes
Also, a variety of incentives offered by governments to attract businesses and
foreign investments.
Global Location
Transportation costs
Security costs
Security at international borders can slow shipments to other countries.
Unskilled labor
Low labor skills may negatively impact quality and productivity.
Work ethics may differ from that in the home country.
Import restrictions
Some countries place restrictions on the importation of manufactured goods, so
having local suppliers avoids those issues.
Global Location
Political instability and unrest
Economic instability
Legal regulation
changes in laws and regulations may reduce benefits.
Ethical considerations
Cultural differences
Location Decision General Procedure
1) Decide on the criteria to use for evaluating location
alternatives (a matter of managerial preference)
2) Identify important factors, such as location of
markets or raw materials
3) Develop location alternatives
a. Identify the country or countries for location
b. Identify the general region for location
c. Identify a small number of community alternatives
d. Identify the site alternatives among the community
4) Evaluate the alternatives and make a decision
Location Identifying a country
Factors relating to foreign locations
Government a. Policies on foreign ownership of production facilities
Local content requirements
Import restrictions
Currency restrictions
Environment regulations
Local product standards
Liability laws
b. Stability issues
Cultural differences Living circumstances for foreign workers and their
Ways of doing business
Religious holidays/traditions
Customer preferences Possible buy locally sentiment
Location Identifying a country
Factors relating to foreign locations
Labor Level of training and education of workers
Work ethic
Wage rates
Possible regulations limiting the number of foreign employees
Language differences
Resources Availability and quality of raw materials, energy, transportation
Financial Financial incentives, tax rates, inflation rates, interest rates
Technologica Rate of technological change, rate of innovations
Market Market potential, competition
Safety Crime, terrorism threat
Location Identifying a region
Location Identifying a community
Many communities actively attempt to attract new businesses they
perceive to be a good fit for the community.
Businesses also consider a number of factors to determine the
desirability of a community as a place for its workers and managers to
live. Such as
Quality of life
Facilities for education, shopping, transportation, religious worship, and entertainment
Local attitudes toward the company
The size of the community as a source of labor and as a market.
Services The quality of police, fire, and medical services
Cost and availability of utilities
Development support
Location Identifying a site
degree of development required,
soil characteristics,
room for expansion,
Parking space for employees and customers.
Access roads for trucks
Rail spurs
Air freight
Service and Retail Locations
Service and retail are governed by the following
considerations for location decisions:
Nearness to raw materials is not usually a consideration
Customer access is a
Prime consideration for some: restaurants, hotels, etc.
Not an important consideration for others: service call centers, etc.
Tend to be profit or revenue driven, and so are
Concerned with demographics, competition, traffic/volume patterns, and
Similar types of businesses locate near one another
Evaluating Location Alternatives
Common techniques:
Locational cost-volume-profit analysis
Factor rating
Center of gravity method
Locational cost-volume-profit analysis
Technique for evaluating location choices in
economic terms
1. Determine the fixed and variable costs for each
2. Plot the total-cost lines for all alternatives on the same
3. Determine the location that will have the lowest total cost
(or highest profit) for the expected level of output
Locational cost-volume-profit analysis
For a cost analysis, compute the total cost for each
alternative location

For a profit analysis, compute the total profit for

each location
Locational cost-volume-profit analysis
Fixed and variable costs for four potential plant locations
are shown below:
Location Fixed Cost per Year Variable Cost per Unit
A $250,000 $11
B $100,000 $30
C $150,000 $20
D $200,000 $35
a) Plot the total-cost lines for these locations on a single graph.
b) Identify the range of output for which each alternative is superior (i.e., has the
lowest total cost).
c) If expected output is to be 8,000 units per year, which location would provide
the lowest total cost?
Locational cost-volume-profit analysis
Plot each locations fixed cost (at Output = 0) and the total cost at any
other point (e.g. 10,000 units); and connect the two points with a
straight line.

Locational cost-volume-profit analysis
The exact ranges can be determined by finding the output level at
which lines B and C and lines C and A cross.
At point (X) Total cost of C = total cost of B
150,000 + 20 Q = 100,000 + 30 Q
50,000 = 10 Q
Q = 5000 units
At point (Y)
Total cost of C = total cost of A
150,000 + 20 Q = 250,000 + 11 Q
100,000 = 9 Q
Q = 11,111.11 units
Thus, B Superior up to 5000 units
C Superior from 5,000 up to 11,111 units
A superior from 11,111 units and up
At 8,000 units, location C provides the lowest total cost.
Factor Rating
General approach to evaluating locations that includes
quantitative and qualitative inputs
1. Determine which factors are relevant
2. Assign a weight to each factor that indicates its relative importance
compared with all other factors (sum of weights = 1)
3. Decide on a common scale for all factors, and set a minimum acceptable
score if necessary
4. Score each location alternative
5. Multiply the factor weight by the score for each factor, and sum the
results for each location alternative
6. Choose the alternative that has the highest composite score, unless it
fails to meet the minimum acceptable score
Factor Rating
A photo-processing company intends to open a new
branch store. Compare the two potential locations based
on the following criteria. Which location is better?
Factor Weight
Proximity to existing source .10
Traffic volume .05
Rental costs .40
Size .10
Layout .20
Operating Cost .15
Factor Rating
Example Step 1 Step 2 Step 3 Step 4 Step 54

Scores (Out of 100) Weighted Scores

Factor Weight
Alt 1 Alt 2 Alt 1 Alt 2
Proximity to existing
.10 100 60 .10(100) = 10.0 .10(60) = 6.0

Traffic volume .05 80 80 .05(80) = 4.0 .05(80) = 4.0

Rental costs .40 70 90 .40(70) = 28.0 .40(90) = 36.0
Size .10 86 92 .10(86) = 8.6 .10(92) = 9.2
Layout .20 40 70 .20(40) = 8.0 .20(70) = 14.0
Operating Cost .15 80 90 .15(80) = 12.0 .15(90) = 13.5
1.00 70.6 82.7

Step 6
Center of Gravity Method
Method for locating a distribution center that
minimizes distribution costs
Treats distribution costs as a linear function of the
distance and the quantity shipped
The quantity to be shipped to each destination is assumed
to be fixed
The method includes the use of a map that shows the
locations of destinations
The map must be accurate and drawn to scale
A coordinate system is overlaid on the map to determine
relative locations
Center of Gravity Method
Center of Gravity Method
If quantities to be shipped to every location are
The coordinates of the center of gravity equal
The average of the x-coordinates
The average of the y-coordinates

xi = x coordinate of destination i
yi = y coordinate of destination i
n = Number of destinations
Center of Gravity Method
Determine the coordinates of the center of gravity for the
following destinations.
Assume that the shipments from the center of gravity to each of
the four destinations will be equal quantities.

Destination x y
D1 2 2
D2 3 5
D3 5 4
D4 8 5
18 16
Center of Gravity Method

x i

4 .5
n 4

y i

n 4

Hence, the center of gravity

is at (4.5,4),
it just west of destination D3
Center of Gravity Method
If quantities to be shipped to every location are
The coordinates of the center of gravity equal
The weighted average of the x-coordinates
The weighted average of the y-coordinates

Qi = Quantity to be shipped to destination i
xi = x coordinate of destination i
yi = y coordinate of destination i
Center of Gravity Method
For the previous example
Suppose the shipments are not all equal.
Determine the center of gravity based on the following
Destination x y Weekly Quantity
D1 2 2 800
D2 3 5 900
D3 5 4 200
D4 8 5 100
18 16 1,000
Center of Gravity Method
Destination x y Weekly Quantity (Q) xQ yQ
D1 2 2 800 1600 1600
D2 3 5 900 2700 4500
D3 5 4 200 1000 800
D4 8 5 100 800 500
18 16 2000 6100 7400
Center of Gravity Method

The coordinates for the center

of gravity are (3.0, 3.7).
This south of destination D2 (3, 5).