5-1 Capacity Planning 5-2 Capacity Planning

Learning Objectives
• Explain the importance of capacity planning.
Long-Range Capacity • Discuss ways of defining and measuring
Planning capacity.
• Describe the determinants of effective
capacity.
• Discuss the major considerations related to
developing capacity alternatives.
Dr.P.Muralidhar • Briefly describe approaches that are useful
M.Tech., Ph.D
for evaluating capacity alternatives
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Capacity planning • Capacity planning is the process of establishing the

output rate that can be achieved at a facility:
• Capacity is the maximum output rate of a facility • Upper limit or ceiling on the load that operating unit
• The basic questions in capacity handling are: can handle, might be no of units produced.
– What kind of capacity is needed?
• Supply capabilities Vs Demand
– How much is needed? (Forecasts are key inputs)
• Over capacity
– When is it needed?
• Under Capacity
– Capacity is usually purchased in “chunks”
– Strategic issues: how much and when to spend
capital for additional facility & equipment
– Tactical issues: workforce & inventory levels, &
day-to-day use of equipment
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Measuring Capacity Examples The Hierarchy of Production Decisions

• There is no one best way to measure capacity
• All planning starts with the demand forecast.
• Output measures like kegs per day are easier
• Demand forecasts are the basis for the top level long_range
to understand capacity, and medium term aggregate planning.
• With multiple products, inputs measures work • The Master Production Schedule (MPS) is the result of
disaggregating aggregate plans down to the individual item
better level.
• Car mfg • Based on the MPS, MRP is used to determine the size and
timing of component and subassembly production.
• Equipment utilization • Detailed shop floor schedules are required to meet
production plans resulting from the MRP.
• Cement plant

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Hierarchy of Production Decisions Importance of Capacity Decisions

Long-range Capacity Planning • Similarly a financial manager would

be interested in performing the
financial analysis of whether the
investment decision is justified for a
plant or capacity increase.

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Importance of Capacity Decisions Importance of Capacity Decisions

1. Impacts ability to meet future demands
• An Information Technology Manager would
2. Affects operating costs
end up preparing data bases that would aid
3. Major determinant of initial costs
the organization to decide about the capacity
and last but not the least an operations 4. Involves long-term commitment
manager would select strategies that would 5. Affects competitiveness
help the organization achieve the optimum 6. Affects ease of management
capacity levels to meet the customer 7. Globalization adds complexity
demand. 8. Impacts long range planning

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Globalization adds complexity Capacity

• Design capacity
• Capacity decision often involves – maximum output rate or service capacity an
making a decision in a foreign operation, process, under ideal conditions

country which requires the • Effective capacity

– Design capacity minus allowances such as
management to know about the personal time, maintenance, and scrap
political, economic and cultural • Actual output
issues. – rate of output actually achieved--cannot
exceed effective capacity.

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Efficiency and Utilization Efficiency/Utilization Example

Design capacity = 50 trucks/day
Actual output
Efficiency = Effective capacity = 40 trucks/day
Effective capacity Actual output = 36 units/day

Actual output
Utilization = Actual output = 36 units/day
Design capacity Efficiency = = 90%
Effective capacity 40 units/ day

Both measures expressed as percentages Utilization = Actual output = 36 units/day

= 72%
Design capacity 50 units/day

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Example of Computing Capacity Utilization: A batching plants design
capacity is 30 cum per day. Currently the batching plant is producing 28
cum per day and effective capacity is 20 cum. What is the BP’s capacity Determinants of effective capacity
utilization relative to both design and effective capacity?
• Facilities: location, transportation etc.
actual output 28
• Product and service factors:limited prodcts
Utilization effective = (100%) = (100%) = 140%
effective capacity 20 • Process factors: o/p quality
• Human factors: skill, trg, exp..
actual output 28
Utilization design = (100%) = (100%) = 93%
design capacity 30 • Policy factors: overtime
• Operational factors: scheduling delivery etc..
• The current utilization is only slightly below its design capacity and
considerably above its effective capacity • Supply chain factors:
• The bakery can only operate at this level for a short period of time
• External factors:prod standards etc..
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Key Determinants of Capacity Steps for Capacity Planning

Planning/ Strategy formulation 1. Estimate future capacity requirements
2. Evaluate existing capacity and Identify Gaps
1. Amount of capacity needed 3. Identify alternatives for meeting requirements
2. Timing of changes 4. Conduct financial analysis for each alternative.
3. Need to maintain balance 5. Assess key qualitative issues for each alternative
4. Extent of flexibility of facilities 6. Select one alternative that is best in longrun
7. Implement alternative chosen
Capacity cushion – extra demand intended to offset uncertainty 8. Monitor results
The greater the degree of demand uncertainity, the greater the
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5-19 Capacity Planning 5-20 Capacity Planning

Calculating Processing Requirements Planning Service Capacity

Standard • Need to be near customers
Annual processing time Processing time
Product Demand per unit (hr.) needed (hr.) – Capacity and location are closely tied
• Inability to store services
1.OPC 400 5.0 2,000
– Capacity must be matched with timing of demand
2.PSC 300 8.0 2,400 • Degree of volatility of demand
3.PPC 700 2.0 1,400 – Peak demand periods
5,800 • Forecasting capacity requirements
-Long term and short term forecast
If annual capacity is 2000 (8hr/day*250 days *1 machine) hours, then we need
three machines to handle the required volume:
5,800 hours/2,000 hours = 2.90 machines
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Resource requirements planning Rough-cut Capacity Planning

• This is long range capacity planning at top level • It quickly identifies obstacles to plan
1. Identify critical resources 1. It testifies the validation of production plan
2. a. Collection of production plan data and MPS before doing any details, material or
b. Identification of product structures capacity plan
3. Evaluation of per period resources requirement 2. It initiates actions for making mid range to
with available resources and identify short falls. long range capacity.
4. After identify short falls, necessary resources
are provided.
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Make or Buy? Developing Capacity Alternatives

Available capacity. If an organization has the available equipment, necessary skills, and time,
it often makes sense to produce an item or perform a service in-house. 1. Design flexibility into systems
Expertise. If a firm lacks the expertise to do a job satisfactorily, buying might be a reasonable
alternative. 2. Take stage of life cycle into account
Quality considerations. Firms that specialize can usually offer higher quality than an
organization can attain itself. Conversely, unique quality requirements or the desire to closely (bottle neck)
monitor quality may cause an organization to perform a job itself.
The nature of demand. When demand for an item is high and steady, the organization is often 3. Take a “big picture” approach to capacity
better off doing the work itself. However, wide fluctuations in demand or small orders are
usually better handled by specialists who are able to combine orders from multiple sources, changes
which results in higher volume and tends to offset individual buyer fluctuations.
Cost. Cost savings might come from the item itself or from transportation cost savings. If there 4.Prepare to deal with capacity “chunks”
are fixed costs associated with making an item that cannot be reallocated if the service or
product is outsourced, that has to be recognized in the analysis. Conversely, outsourcing may
help a firm avoid incurring fixed costs.
5. Attempt to smooth out capacity requirements
Risk. Outsourcing may involve certain risks. One is loss of control over operations. Another is the
need to disclose proprietary information.
(due to random variations or seasonal variations)
6. Identify the optimal operating level
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Capacity Planning Based-on Bottleneck Operation

Figure 5.2 Bottleneck operation: An operation
Bottleneck Operation
in a sequence of operations whose
10/hr capacity is lower than that of the
Machine #1 other operations
Bottleneck

10/hr
Machine #2
Bottleneck 30/hr Operation 1 Operation 2 Operation 3
10/hr.
20/hr. 10/hr. 15/hr.
Operation
Machine #3
10/hr

Maximum output rate

Machine #4 10/hr limited by bottleneck

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Economies of Scale
Prepare to deal with capacity “chunks.” Capacity increases are often acquired in fairly
large chunks rather than smooth increments, making it difficult to achieve a match
between desired capacity and feasible capacity. • Economies of scale
Attempt to smooth out capacity requirements. Unevenness in capacity requirements – If the output rate is less than the optimal level,
also can create certain problems.
increasing output rate results in decreasing average
unit costs. This results from fixed costs, labor cost
being spread over more units
• Diseconomies of scale
– If the output rate is more than the optimal level,
increasing the output rate results in increasing
average unit costs. Due to scheduling problems,
quality problems, reduced morale, increased use of
overtime.
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Evaluating Alternatives Economies and Diseconomies of

Figure 5.3
Production units have an optimal rate of output for minimal cost. Average Unit Scale
Cost of Output ($)
Average cost per unit

Minimum average cost per unit

Economies Diseconomies
of Scale of Scale

Minimum
cost
Best Operating Level

0 Rate of output Annual Volume (units)

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5-31 Capacity Planning Larger Plants Tend to Have 5-32 Capacity Planning

Higher Optimal Output Rates

Figure 5.4 Evaluating Alternatives
Minimum cost & optimal operating rate are
functions of size of production unit. • Cost-volume analysis
– Break-even point
Average cost per unit

• Financial analysis
Small
plant Medium – Cash flow
plant Large – Present value
plant
• Decision theory
• Waiting-line analysis
0 Output rate • Simulation
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Cost-Volume Relationships
Assumptions of Cost-Volume Analysis Figure 5.5a
1.One product is involved
2.Everything produced can be sold
3.Variable cost per unit is the same regardless
Amount ($)
of volume
4.Fixed costs do not change with volume
5.Revenue per unit constant with volume
6.Revenue per unit exceeds variable cost per
Fixed cost (FC)
unit
0
Q (volume in units)

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Cost-Volume Relationships Cost-Volume Relationships
Figure 5.5b Figure 5.5c
Amount ($)
Amount ($)

0 0 BEP units
Q (volume in units)
Q (volume in units)
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Break-Even Problem with Step Fixed Costs

Break-Even Problem with Step Fixed Costs
Figure 5.6a Figure 5.6b

$
BEP
3
TC
BEP2
3 machines TC
3
TC
2 machines
2
1 machine
1
Quantity Quantity
Step fixed costs and variable costs. Multiple break-even points

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Example Example 2
A manager has the option of purchasing one, two, a) For one machine Q = 9600/(40-10)= 320 units
or three machines. For two machines Q= 15000/(40-10)= 500 units
# of mach. Tot. Annual FC Correspond. Output For three machines Q=20000/(40-10)=666.67 units
1 $9600 0 – 300 b) Manager should choose two machines. Because
2 15000 301 - 600 even if demand is at low end of the range (i.e., 580),
3 20000 601 – 900 it would be above the break-even point and thus
Variable cost is $10, revenue is $40 per unit. yield a profit. If three machines are purchased, even
at the top end of projected demand (i.e., 660), the
a) Determine the break-even point for each range.
volume would still be less than the break-even point
b) If projected demand is between 580 and 660 units, how
many machines should the manager purchase? for that range, so there would be no profit.
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Financial Analysis Decision Tree Analysis

• Cash Flow - the difference between cash
received from sales and other sources, and • Structures complex, multiphase decisions
cash outflow for labor, material, overhead, • Allows objective evaluation of alternatives
and taxes. • Incorporates uncertainty
• Present Value - the sum, in current value, of • Develops expected values
all future cash flows of an investment
proposal.

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Example: Decision Tree Analysis Example: Decision Tree Analysis

Good Eats Café is about to build a new • Payoff Table
restaurant. An architect has developed
three building designs, each with a Average Number of Customers Per Hour
different seating capacity. Good Eats c1 = 80 c2 = 100 c3 = 120
estimates that the average number of
customers per hour will be 80, 100, or 120 Design A $10,000 $15,000 $14,000
with respective probabilities of 0.4, 0.2, and Design B $ 8,000 $18,000 $12,000
0.4. The payoff table showing the profits
Design C $ 6,000 $16,000 $21,000
for the three designs is on the next slide.

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Example: Decision Tree Analysis

Waiting-Line Analysis

Expected Value For Each Decision • Useful for designing or modifying service
EV = .4(10,000) + .2(15,000) + .4(14,000) systems
d1 = $12,600
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Design A
• Waiting-lines occur across a wide variety of
EV = .4(8,000) + .2(18,000) + .4(12,000) service systems
Design B d2 = $11,600
1 3 • Waiting-lines are caused by bottlenecks in the
process
d3
Design C • Helps managers plan capacity level that will be
EV = .4(6,000) + .2(16,000) + .4(21,000)
4
= $14,000 cost-effective by balancing the cost of having
customers wait in line with the cost of
Choose the design with largest EV -- Design C.
additional capacity
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Simulation Steps in simulation

• Simulation is descriptive technique that • Identify the problem and set objectives
enables decision makes to evaluate behavior • Develop simulation
of model under various conditions. • Test the model to evaluate the problem
• Model is developed to duplicate the things • Develop one more experiment
using what if analysis approach. • Run simulation and evaluate results
• Applications :
Flight simulation, Building physics models,
Video games etc..

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Thank you

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