CAPACITY PLANNING

COMPONENTS OF FACILITY PLANNING

1. How much long-range capacity is required

2. When additional capacity is needed
3. Where the production facility will be located
4. Layout and characteristics of the facilities
5. Requires a thorough study, as capital investment is intensive
and irreversible
STEPS IN CAPACITY PLANNING
Capacity : Maximum output rate of a facility

Capacity Planning: Process of establishing the output rate that can be

achieved by a facility
Capacity is usually purchased in chunks
Strategic issues: how much and when to spend capital for additional
equipment and facility
Tactical Issues : workforce and inventory levels, day- to-day equipment's use
CAPACITY PLANNING

1. Estimating the capacities of present facilities

2. Forecasting the long-range future capacity needs for all products
& services
3. Identifying and analyzing the sources of capacity to meet future
capacity needs
4. Selecting from available alternatives for capacity
BEST OPERATING LEVEL:
ECONOMIES & DISECONOMIES OF SCALE

When expanding capacity, the following two alternatives should be evaluated

Go for one large facility, requiring one large investment

Add capacity in small chunks, as needed.
CAPACITY EXPANSION STRATEGY
CAPACITY PLANNING: TWO TYPES OF ANALYSIS

1. Amount of available capacity:

Understand how much capacity the facility has
2. Effectiveness of capacity use:
How effectively we are using the facility
SOME TERMINOLOGIES
Production Capacity: Maximum production rate of an organization

Output Rate Capacity: For single product or homogenous products (units/ month)

Aggregate Unit of Capacity: Common unit of output measure (tons/hour, sales/ month)

For services, output measures are difficult to be assessed. So, input rate capacity is used,
like no. of beds available, available seat miles in airlines

Capacity Cushion: Additional amount of production capacity added onto the expected
demand
WAYS TO MEASURE CAPACITY

Design Capacity Effective Actual

Maximum output rate or Design capacity minus Rate of output actually

service capacity an allowances such as achieved
operation, process, or personal time, -cannot exceed
facility is designed for maintenance, and scrap effective capacity.
EFFICIENCY AND UTILIZATION

Actual output
Efficiency =
Effective capacity

Actual output
Utilization =
Design capacity
EFFICIENCY AND UTILIZATION
Design capacity = 50 trucks/day
Effective capacity = 40 trucks/day
Actual output = 36 units/day

Actual output = 36 units/day

Efficiency = = 90%
Effective capacity 40 units/ day

Utilization = Actual output = 36 units/day

= 72%
Design capacity 50 units/day
ESTABLISHING THE INTERDEPENDENCY OF FORECAST AND
CAPACITY PLANNING
Let us assume a company that manufactures 2 types of products A and B. Each of the
products can be sold in two types of packaging namely, bottles and plastic bags. The
marketing department, has provided the following forecast demand for the products in
the next five years (all the values in thousands)

Year
1 2 3 4 5
Product A
Bottles (000s) 60 100 150 200 250
Plastic Bags 100 200 300 400 500
Product B
Bottles (000s) 75 85 95 97 98
Plastic Bags 200 400 600 650 680
CALCULATE EQUIPMENT & LABOR REQUIREMENTS
Currently, three machines that can package up to 150,000 bottles each/ year are
available. Each machine requires two operators and can produce bottles for product A
as well as B. Currently, six bottle machine operators are available.

Also, five machines that can package up to 2,50,000 plastic bags each /year are
available. Each machine requires three operators and can produce plastic bags for
product A as well as B. Currently, twenty bag machine operators are available.
FOR YEAR 1
Year
1 2 3 4 5
Bottles (000s) 135 185 245 297 348
Plastic Bags 300 600 900 1050 1180

Total available capacity for bottle packaging = 3 machines* 15000 each=4,50,000/ year

Utilization = 135/450= .3 of the available capacity

Machine requirement = .3* 3= .9

No. of operators required =.9 bottle machine * 2 operator =1.8 operator

FOR YEAR 1
Year
1 2 3 4 5
Bottles (000s) 135 185 245 297 348
Plastic Bags 300 600 900 1050 1180

Total available capacity for plastic machine= 5 machines* 250,000 each=1250,000/ year

Utilization = 300/1250= .24 of the available capacity

Machine requirement = .24* 5= 1.2 machines

No. of operators required =1.2 plastic packaging machine* 3 operator =3.6 operators
YEAR ON YEAR ANALYSIS
Year
1 2 3 4 5
Bottle Operation
Percentage capacity utilized 30 41 54 66 77
Machine requirement .9 1.23 1.62 1.98 2.31
Labor requirement 1.8 2.46 3.24 3.96 4.62
Plastic Bag Operation
Percentage capacity utilized 24
Machine requirement 1.2
Labor requirement 3.6

Capacity cushion exists till the end of time period of 5 years.

MAKING CAPACITY PLANNING DECISION
Identify Capacity Develop Capacity Evaluate Capacity
Requirements Alternatives Alternatives

Decision Tree Analysis

DECISION THEORY
Decision Theory is a general approach to decision making when the outcomes
associated with alternatives are often in doubt.

List the feasible alternatives

List the events (states of nature)
Calculate the payoff for each alternative in each event
Estimate the likelihood of each event
Select the decision rule to evaluate the alternatives
A DECISION PROBLEM
A manager is deciding whether to build a small or a large facility
Much depends on the future demand
Demand may be small or large
Payoffs for each alternative are known with certainty
What is the best choice if future demand will be low?

Alternative Possible Future Demand Possible Future Demand

Low High
Small facility 200 270

Large facility 160 800

Do nothing 0 0
DECISION PROBLEM: UNDER CERTAINTY

The best choice is the one with the highest payoff.

For low future demand, the company should build a small facility and
enjoy a payoff of $200,000.
The larger facility has a payoff of only $160,000.
The “do nothing” alternative is dominated by the other alternatives.
DECISION MAKING UNDER UNCERTAINTY
1. Maximin
2. Maximax
3. Laplace
4. Minimax Regret
UNDER UNCERTAINTY : MAXIMIN CRITERIA
Maximin:
An alternative’s worst payoff is the lowest number in its row of the payoff matrix, because the payoffs are
profits. The worst payoffs ($000) are

Possible Future Demand Possible Future Demand

Alternative Low High
Small facility 200 270 Alternative Worst Payoff
Large facility 160 800 Small facility 200
Do nothing 0 0 Large facility 160

The best of these worst numbers is $200,000, so the pessimist would build a small facility.
UNDER UNCERTAINTY : MAXIMAX CRITERIA
Maximax:
An alternative’s best payoff ($000) is the highest number in its row of the payoff matrix, or

Possible Future Demand Possible Future Demand

Alternative Low High
Small facility 200 270 Alternative Best Payoff
Large facility 160 800 Small facility 270
Do nothing 0 0 Large facility 800

The best of these best numbers is $800,000, so the optimist would build a large facility.
UNDER UNCERTAINTY : LAPLACE CRITERIA
Laplace:
With two events, we assign each a probability of 0.5. Thus, the weighted payoffs ($000) are

Possible Future Demand Possible Future Demand Alternative Weighted Payoff

Alternative Low High
Small facility 0.5 * 200 + 0.5 * 270 = 235
Small facility 200 270
Large facility 160 800
Large facility 0.5 * 160 + 0.5 * 800 = 480

Do nothing 0 0

The best of these weighted payoffs is $480,000, so the realist would build a large facility.
UNDER UNCERTAINTY : MINIMAX REGRET
MINIMAX REGRET:
If demand turns out to be low, the best alternative is a small facility and its regret is 0 (or 200 − 200). If a
large facility is built when demand turns out to be low, the regret is 40 (or 200 − 160).

Possible Future Demand Possible Future Demand

Alternative Low High
Small facility 200 270
Large facility 160 800
Do nothing 0 0

Regret Regret Maximum

Alternative
Low Demand High Demand Regret
Small facility 200 − 200 = 0 800 − 270 = 530 530
Large facility 200 − 160 = 40 800 − 800 = 0 40

The column on the right shows the worst regret for each alternative. To minimize the maximum regret,
pick a large facility. The biggest regret is associated with having only a small facility and high demand.