Chapter 4

Facility Capacity and Location

1
 Overview


Facility Planning
 Long-Range Capacity Planning

Facility Location

Wrap-Up: What World-Class Companies Do

2
 Facility Planning

 HOW MUCH long range capacity is needed

 WHEN additional capacity is needed
 WHERE the production facilities should be located
 WHAT the layout and characteristics of the facilities should be
 The capital investment in land, buildings, technology, and
machinery is enormous
 A firm must live with its facility planning decisions for a long
time, and these decisions affect:

Operating efficiency

Economy of scale

Ease of scheduling

Maintenance costs

Profitability!!!
3
 Long-Range
Capacity Planning

4
 Definitions of Capacity


In general, production capacity is the maximum
production rate of an organization.

Capacity can be difficult to quantify due to …

Day-to-day uncertainties such as employee
absences, equipment breakdowns, and material-
delivery delays

Products and services differ in production rates (so
product mix is a factor)

Different interpretations of maximum capacity

5
 Definitions of Capacity


The Federal Reserve Board defines sustainable
practical capacity as the greatest level of output that a
plant can maintain …

within the framework of a realistic work schedule

taking account of normal downtime

assuming sufficient availability of inputs to operate
the machinery and equipment in place

6
 Measurements of Capacity

Output Rate Capacity


For a facility having a single product or a few
homogeneous products, the unit of measure is
straightforward (barrels of beer per month)

For a facility having a diverse mix of products, an
aggregate unit of capacity must be established using a
common unit of output (sales dollars per week)
Input Rate Capacity

Commonly used for service operations where output
measures are particularly difficult

Hospitals use available beds per month

Airlines use available seat-miles per month

Movie theatres use available seats per month
7
 Measurements of Capacity

Capacity Utilization Percentage


Relates actual output to output capacity

Example: Actual automobiles produced in a quarter
divided by the quarterly automobile production capacity

Relates actual input used to input capacity

Example: Actual accountant hours used in a month
divided by the monthly account-hours available
Capacity Cushion

an additional amount of capacity added onto the expected
demand to allow for:

greater than expected demand

demand during peak demand seasons

lower production costs

product and volume flexibility

improved quality of products and services 8
 Forecasting Capacity Demand

 Consider the life of the input (e.g. facility is 10-30 yr)

 Understand product life cycle as it impacts capacity
 Anticipate technological developments
 Anticipate competitors’ actions
 Forecast the firm’s demand
Other Considerations
 Resource availability
 Accuracy of the long-range forecast
 Capacity cushion
 Changes in competitive environment

9
 Steps in the Capacity Planning Process


Estimate the capacity of the present facilities.
 Forecast the long-range future capacity needs.

Identify and analyze sources of capacity to meet these
needs.

Select from among the alternative sources of capacity.

10
 Expansion of Long-Term Capacity
 Subcontract with other companies
 Acquire other companies, facilities, or resources

Develop sites, construct buildings, buy equipment

Expand, update, or modify existing facilities

Reactivate standby facilities

Reduction of Long-Term Capacity

 Sell off existing resources, lay off employees

Mothball facilities, transfer employees

Develop and phase in new products/services
11
 Economies of Scale


Best operating level - least average unit cost
 Economies of scale - average cost per unit decreases
as the volume increases toward the best operating
level
 Diseconomies of scale - average cost per unit
increases as the volume increases beyond the best
operating level

12
 Economies and Diseconomies of Scale
Average Unit
Cost of Output ($)

Economies Diseconomies
of Scale of Scale

Best Operating Level

Annual Volume (units)

13
 Economies of Scale


Declining costs result from:

Fixed costs being spread over more and more units

Longer production runs result in a smaller proportion of labor being
allocated to setups

Proportionally less material scrap

… and other economies
Diseconomies of Scale

Increasing costs result from increased congestion of workers and material,
which contributes to:

Increasing inefficiency

Difficulty in scheduling

Damaged goods

Reduced morale

Increased use of overtime
14

… and other diseconomies
 Two General Approaches
to Expanding Long-Range Capacity

All at Once – build the ultimate facility now and
grow into it

Incrementally – build incrementally as capacity
demand grows

15
 Two General Approaches
to Expanding Long-Range Capacity
 All at Once

Little risk of having to turn down business due to
inadequate capacity

Less interruption of production

One large construction project costs less than several
smaller projects

Due to inflation, construction costs will be higher in the
future

Most appropriate for mature products with stable demand
 Incrementally

Less risky if forecast needs do not materialize

Funds that could be used for other types of investments
will not be tied up in excess capacity
16

More appropriate for new products
 Subcontractor Networks

A viable alternative to larger-capacity facilities is to

develop subcontractor and supplier networks.

“Farming out” or outsourcing your capacity needs
to your suppliers

Developing long-range relationships with suppliers
of parts, components, and subassemblies

Relying less on backward vertical integration

Requiring less capital for production facilities

More easily varying capacity during slack or peak
demand periods

17
 Outsourcing Service Functions


Building maintenance

Data processing

Delivery

Payroll

Bookkeeping

Customer service

Mailroom

Benefits administration

… and more

18
 Economies of Scope


The ability to produce many product models in one
flexible facility more cheaply than in separate
facilities

Highly flexible and programmable automation allows
quick, inexpensive product-to-product changes

Economies are created by spreading the automation
cost over many products

19
Facility Location

20
 A Sequence of Decisions

Political, social, economic stability;

National Decision Currency exchange rates; . . . . .

Climate; Customer concentrations;

Regional Decision
Degree of unionization; . . . . .

Transportation system availability;

Community Decision
Preference of management; . . . . .

Site size/cost; Environmental impact;

Site Decision
Zoning restrictions; . . . . .

21
 Factors Affecting
the Location Decision

Economic

Site acquisition, preparation and construction costs

Labor costs, skills and availability

Utilities costs and availability

Transportation costs

Taxes

Non-economic

Labor attitudes and traditions

Training and employment services

Community’s attitude

Schools (education)

Recreation and cultural attractions

Amount and type of housing available

22
 Facility Types and Their
Dominant Locational Factors
 Mining, Quarrying, and Heavy Manufacturing

Near their raw material sources

Abundant supply of utilities

Land and construction costs are inexpensive
 Light Manufacturing

Availability and cost of labor
 Warehousing

Proximity to transportation facilities

Incoming and outgoing transportation costs
 R&D and High-Tech Manufacturing

Ability to recruit/retain scientists, engineers, etc.

Near companies with similar technology interests
 Retailing and For-Profit Services

Near concentrations of target customers
 Government and Health/Emergency Services

Near concentrations of constituents
23
 Some Reasons the
Facility Location Decision Arises
 Changes in the market

Expansion

Contraction

Geographic shift
 Changes in inputs

Labor skills and/or costs

Materials costs and/or availability

Utility costs

Changes in the environment

Regulations and laws

Attitude of the community

Changes in technology 24
 Analyzing Service Location Decisions

Consumer Behavior Why do customers buy our

Research products and services?

Who are our customers?

Market Research
What are their characteristics?

Data Gathering for Where are our customers concentrated?

Each Location Alternative What are their traffic/spending patterns?

Revenue Projections for What are the economic projections?

Each Location Alternative What is the time-phased revenue?

Profit Projections for What are the projected revenues

Each Location Alternative less time-phased operating costs?
25
 Analyzing Industrial Facility Locations
Factors that tend to dominate the industrial-facility location decision are:

Transportation costs

Labor cost and availability

Materials cost and availability

Utilities cost
Locating a Single Facility


A simple way to analyze alternative locations is conventional cost
analysis

Pros – ease of communication and understanding

Cons – time value of money ignored and qualitative factors not
considered
Locating Multiple Facilities


More sophisticated techniques are often used:

Linear programming, computer simulation, network analysis, and
others

26
 Qualitative Factors in Location Decisions

Often-important qualitative factors include


Housing

Climate

Community activities

Education and health services

Recreation

Union activities

Community attitudes

27
Integrating Qualitative & Quantitative Factors


Managers often wrestle with the task of trading off
qualitative factors against quantitative ones

Methods for systematically displaying the relative
advantages and disadvantages, both qualitative and
quantitative, of each location alternative have been
developed

The relative-aggregate-scores approach is one such
method

28
 Relative-Aggregate-Scores Approach
Quantitative and Qualitative Factors
Location A Location B
Econ. Wgt. Econ.
Wgt.
Factor Weight Data Score Score Data Score Score
Prod.cost/ton .45 $65 .923 .415 $60 1.000 .450
Transp.cost/ton .35 $18 1.000 .350 $21 .857 .300
Labor Avail. .15 .700 .105 .500 .075
Union Activity .05 .450 .023 .750 .038
Total Score .893 .863

29
EVALUATING LOCATION ALTERNATIVES

1. Factor rating
2. Center of gravity method

30
 Factor Rating


Factor rating is a general approach that is useful for
evaluating a given alternative and comparing
alternatives.

Factor rating is a technique that can be applied
involves both qualitative and quantitative inputs

31
 Factor Rating
 The following procedure is used to develop a factor rating:
1. Determine which factors are relevant (e.g., location of
market, water supply, parking fa­cilities, revenue
potential).
2. Assign a weight to each factor that indicates its relative
importance compared with all other factors. Typically,
weights sum to 1.00.
3. Decide on a common scale for all factors (e.g., 0 to 100).
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
32
 Factor Rating
 Example: A photo-processing company intends to open a new
branch store. The table below contains in­formation on two
potential locations. Which is the better alternative?

33
 Center of Gravity Method

 The center of gravity method is a method to determine the

location of a distribution center that will minimize distribution
costs

It treats distribution cost as a linear function of the distance
and the quantity shipped.

The quantity to be shipped to each destination is assumed to
be fixed (i.e., will not change over time).
 The method includes the use of a map that shows the locations
of destinations.

34
Center of Gravity Method

35
 Center of Gravity Method

If the quantities to be shipped to every location are
equal, you can obtain the coordinates of the center of
gravity (i.e., the location of the distribution center) by
finding the average of the x coordinates and the
average of the y coordinates.

36
 Center of Gravity Method
 When the number of units to be shipped is not the
same for all destinations (usually the case), a
weighted average must be used to determine the
center of gravity, with the weights be­ing the
quantities to be shipped.

Qi= Quantity to be shipped to destination I

xi = x coordinate of destination I
37
yi = y coordinate of destination i
 Below is an example of the center of gravity method and its
solution
Destination x,y Weekly Quantity

D1 2,2 800

D2 3,5 900

D3 5,4 200

D4 8,5 100

Total 2,000

38

Hence, the coordinates of the center of gravity are
approximately (3, 3.7). This would place it south of
destination D2, which has coordinates of (3, 5). Refer to the
figure below.

39
End of Chapter 5, Part A

40