Capacity and Demand Management

Major Issues
• strategies for matching capacity and demand
for services.
• overbooking strategy.
• Using LPP to prepare a weekly workshift
schedule.
• work schedule for part-time employees.
• yield management.
 Managing Demand and Capacity

underlying issue for capacity-constrained services

implications of
capacity constraints
dif types of D patterns on matching supply and demand

Strategies for matching supply and demand through:

shifting demand to match capacity or
flexing capacity to meet demand

Yield management its benefits and risks

Strategies for managing waiting lines
 Fundamental Issue
• Lack of inventory
– perishability (cannot store up)
– simultaneous product and consumption (cannot
be transported from one place to another)
 Managing Demand and Capacity
• No buffer for services from
demand.
• Demand volatile
• Goal: supply and demand
balanced at optimum capacity
• Under utilizing when demand
is below optimum capacity
• If demand is above capacity
then quality may suffer
 Matching Supply and Demand
• Determine demand
pattern.
• Assess causes of
demand variations.
• Develop methods for
managing capacity.
• Develop methods for
managing demand.
 Table
What is the Nature of Demand
Relative to Supply?
Extent of demand fluctuations over time
Extent to which
supply is Wide Narrow
constrained
Peak demand can 1 2
usually be met Electricity Insurance
without a major Natural gas Legal services
delay Telephone Banking
Hospital maternity unit Laundry and dry cleaning
Police and fire
emergencies
Peak demand 4 3
regularly exceeds Accounting and tax Services similar to those in
capacity preparation 2 but which have
Passenger transportation insufficient capacity for
Hotels and motels their base level of business
Restaurants
Theaters
Understanding Capacity Constraints and
Demand Patterns

Capacity Constraints Demand Patterns

• Time, labor, equipment
and facilities • Charting demand
• Optimal versus maximal patterns
use of capacity • Predictable cycles
• Random demand
fluctuations
• Demand patterns
by market segment
 What is the Constraint on Capacity?

Nature of the constraint Type of service

Time Legal
Consulting
Accounting
Medical
Labor Law firm
Accounting firm
Consulting firm
Health clinic
Equipment Delivery services
Telecommunication
Utilities
Health club
Facilities Hotels
Restaurants
Hospitals
Airlines
Schools
Theaters
Churches
 Managing Demand
• Shift demand from high to low demand
periods.
• Decrease demand during peak demand
periods.
• Stimulate demand during low demand periods.
 Strategies for Shifting Demand
to Match Capacity

Demand Too High Shift Demand Demand Too Low

• Use signage to communicate busy days and
times
• Use sales and advertising to
• Offer incentives to customers for usage increase business from
•
during non-peak times
Take care of loyal or regular customers first
current market segments
• Advertise peak usage times and benefits of
non-peak use
• Modify the service offering to
• Charge full price for the service--no discounts appeal to new market
segments
• Offer discounts or price
reductions
• Modify hours of operation
• Bring the service to the
customer
 Shifting Demand
Advantages Disadvantages
• Business is not lost. • Customers may not
• Service quality is not want to shift.
adversely affected. • Customers may not
• Increased efficiency. have control over
when they use the
service.
 Reducing Demand
Advantages Disadvantages
• Service quality is • Lost revenue.
normally improved. • Not a good strategy
• Increased efficiency. for firms in the for-
profit sector.
 Stimulating Demand
Advantages Disadvantages
• Increased efficiency. • May not be
• Increased income. profitable.
• Increased utilization • May cause some
of facility. current customers to
shift usage.
Tools for Managing Demand
• Reservation system.
• Differential pricing.
• Communication
 Managing Capacity
• Part-time employees.
• Employees work overtime.
• Peak-time operating procedures.
• Cross-training of employees.
• Increase customer participation.
• Shared facilities.
• Outsourcing.
 Strategies for Flexing Capacity
to Match Demand

Demand Too High Flex Capacity Demand Too Low

• Stretch time, labor, facilities and

•
equipment
Cross-train employees
• Perform maintenance
• Hire part-time employees renovations
•
•
Request overtime work from employees
Rent or share facilities • Schedule vacations
•
•
Rent or share equipment
Subcontract or outsource activities
• Schedule employee
training
• Lay off employees
 Part-time Employees
Benefits Concerns
• Reduce costs. • Less training.
• Increase capacity. • Lower performance.
• Lower productivity.
• Poor attitude.
• Less knowledgeable.
• Less personalization.
• Higher turnover.
 Employees Work Over-time
Benefits Concerns
• Employees • Lower service quality due
knowledgeable. to fatigue.
• Employees know • Higher costs.
customers.
• Cost effective for some
services.
• Increase capacity.
Peak-time Operating Procedures
Benefits Concerns
• Keep operations at • Identifying peak
capacity. routines.
• Lack of personal
attention.
• Incomplete job.
• Crowded facility.
• Feeling of being
cheated.
 Cross-Training of Employees
Benefits Concerns
• Keep operation at • Lower service quality.
capacity. • Lower productivity.
• Reduce bottlenecks.
• Fill-in for absent
employees.
Increased Customer Participation
Benefits Concerns
• Increase productivity. • Customers lack
• Maximize capacity. expertise.
• Reduce costs. • Conflict of scripts.
• Lower service quality.
• Sometimes decrease
productivity - if
customer too slow.
 Shared Facilities or Equipment
Benefits Concerns
• Reduce capital • Efficient scheduling.
investment costs. • Access to facility or
• Maximize facility equipment.
utilization. • Customer confusion.
 Outsourcing
Benefits Concerns
• Expand capacity. • Level of service
• Expand supply. quality.
• Stealing of customers.
• Conflicts as to who
was hired.
 Strategic Role of Capacity Decisions in
Services
• A capacity expansion strategy can be used proactively to:
– Create demand through supply (e.g. JetBlue, Dunkin Donuts)
– Lock out competitors, especially where the market is too small for two
competitors (e.g. WalMart)
– Get down the learning curve to reduce costs (e.g. Southwest Airlines)
– Support fast delivery and flexibility (e.g. Mandarin Oriental)
• A lack of short-term capacity can generate customers for the
competition (e.g. restaurant staffing)
• Capacity decisions balance costs of lost sales if capacity is
inadequate against operating losses if demand does not reach
expectations.
• Strategy of building ahead of demand is often taken to avoid losing
customers.
 Capacity Planning Challenges in
Services
• Inability to create a steady flow of demand to fully utilize
capacity
• Enforced idle capacity if no customers are in the service
system
• Customers are participants in the service and the level of
congestion impacts perceived quality.
• Customer arrivals fluctuate and service demands also vary.
• Capacity is typically measured in terms of (bottleneck)
resources rather than outputs (e.g. number of airplane seats
available per day rather than number of passengers flown per
day).
 Customer-Induced Demand
and Service Time Variability
• Arrival: customer arrivals are independent decisions not
evenly spaced.
• Capability: the level of customer knowledge and skills and
their service needs vary
• Request: uneven service times result from unique demands.
• Effort: level of commitment to coproduction or self-service
varies.
• Subjective Preference: personal preferences introduce
unpredictability.
 Modeling Service Delivery Systems
Using Queuing Models
• Customer population
– The source of input to the service system
– Whether the input source is finite or infinite
– Whether the customers are patient or impatient
• The service system
– Number of lines - single vs. multiple lines
– Arrangement of service facilities – servers, channels, and phases
– Arrival and service patterns – e.g. for many service processes, interarrival and
service times are exponentially distributed (arrival and service rates are
Poisson distributed)
• Priority rule (queue discipline)
– Static
• First-come, first-served (FCFS) discipline
– Dynamic
• Individual customer characteristics: e.g. earliest due date (EDD), shortest
processing time (SPT), priority, preemptive
• Status of the queue, e.g. number of customers waiting, round robin
 Queue Configurations
and Service Performance
Multiple Queue Single queue

Take a Number

3 4 2
Enter
8 6 10
12 7
11 9
5
 Arrangement of Service Facilities
Channels and Phases

Service facility Server arrangement

Parking lot Self-serve

Cafeteria Servers in series

Toll booths Servers in parallel

Supermarket Self-serve, first stage; parallel servers, second stage

Hospital Many service centers in parallel and series, not all used by each patient
 Distribution of Patient Interarrival
Times
for a Health Clinic
Patient interarrival times approximate an exponential distribution.

40
Relative frequency, %

30

20

10

0
1 3 5 7 9 11 13 15 17 19
Patient interarrival time, minutes
Temporal Variation in Arrival Rates

Percentage of average daily

140
Average calls per hour

130

physician visits
3.5
3 120
2.5
2
1.5
110
1
0.5 100
0
1 7 13 19
90
80
70
Hour of day
60
1 2 3 4 5
Day of week

Ambulance Calls Physician Arrivals

by Hour of Day by Day of Week
 Queue Discipline
Queue
discipline

Static
Dynamic
(FCFS rule)

Selection Selection based

based on status on individual
of queue customer
attributes

Number of Processing time

customers Round robin Priority Preemptive of customers
waiting (SPT or cµ rule)
 Single-Server, Exponential Interarrival
and Service Times (M/M/1) Model
Assumptions:
• Number of servers = 1
• Number of phases = 1
• Input source: infinite, no balking or reneging
• 
Arrivals: mean arrival rate = ; mean interarrival time = 1/ 
• Service: mean service rate = ; mean service time = 1/ 
• Waiting line: single line; unlimited length
• Priority discipline: FCFS
Single-Server Operating Characteristics

• Average utilization: 

• Probability that n customers are in the system: Pn  (1  )n

• Probability of less than n customers in the system:

P n  1  n

• Average number of customers in the system: 

Ls 

• Average number of customers in line: L q  L s

• Average time spent in the system: 1

Ws 

• Average time spent in line: Wq  Ws
 Multiple-Server (M/M/c) Model
Assumptions:
• Number of servers = M
• Number of phases = 1
• Input source: infinite, no balking or reneging
• Arrivals: mean arrival rate = ;  mean interarrival time = 1/ 
• Service: mean service rate = ; mean service time = 1/ 
• Waiting line: single line; unlimited length
• Priority discipline: FCFS
Multiple-Server Operating Characteristics
• 
Average utilization: 
M
M 1 ( /  ) n ( / ) M 1
• Probability that zero customers are in the system: P0  [   ]
n 0 n! M!(1  )
• Probability that n customers are in the system:
( /  ) n ( /  ) n
P0 for 0  n  M, n M 0
P for n  M
n! M!M
• Average number of customers in line: P0 ( / ) M 
Lq  2
• Average time spent in line/system: M !(1   )
Lq 1
Wq  , Ws  Wq 
• Average number of customers in the system:  

• Ls  Ws
Average waiting time for an arrival not immediately served:
1
• Prob. that an arrival will have to wait for service: Wa 
M  
Wq
Pw 
Wa
 Capacity Utilization and Capacity Squeeze
• A capacity squeeze is the breakdown in the ability of the operating system to
serve customers in a timely manner as the capacity utilization approaches
100%. As the variability in arrival and service rates increases, a capacity
squeeze occurs at a lower capacity utilization.
100

With: 


Then: Ls 
1 
10
System line
length
8  Ls
6 0 0
0.2 0.25
4
0.5 1
2 0.8 4
0.9 9
0
0.99 99
0 Capacity utilization 1.0
 Service System Cost Tradeoff
Total Cost of Service
Let: Cw = Hourly cost of waiting customer
Cs = Hourly cost per server
C = Number of servers
Total cost/hour = Hourly service cost + Hourly customer waiting
cost
Total cost/hour = Cs C + Cw Ls
• The total cost of service reflects both the firm’s capacity cost as
well as the customers’ cost of waiting. Service processes should be
designed to minimize the sum of these two costs.
• How can the economic cost of customer waiting be determined?
 Queuing Model Takeaways
• Variability in arrivals and service times contribute equally to
congestion as measured by Lq.
• Even though servers will be idle some of the time, there will be
customer lines and waits, on average. These lines/waits will get very
long very quickly as capacity utilization approaches 100%.
– Given the potential for a capacity squeeze as capacity utilization
approaches 100%, service firms typically design their processes with a
capacity cushion (i.e., the amount of capacity above the average
expected demand). The greater the variability in arrival/service rates,
the larger the capacity cushion needed for a given service level.
• To improve system performance (waits and line lengths):
– A single queue vs. multiple queues with multiple channels.
– More servers can be added (reducing capacity utilization but at a
higher operating cost).
– A fast single server is preferred to multiple-servers with the same
overall service rate.
 Managing Waiting Lines
In a lifetime, the average person will spend:

SIX MONTHS Waiting at stoplights

EIGHT MONTHS Opening junk mail

ONE YEAR Looking for misplaced objects

TWO YEARS Reading E-mail

FOUR YEARS Doing housework

FIVE YEARS Waiting in line

SIX YEARS Eating

 The Psychology of Waiting
• People dislike “empty” time – Fill this time in a positive
way.
• Service-related diversions convey a sense that the
service has started (e.g. handing out menus).
• Waiting can induce anxiety in some customers – Reduce
anxiety by providing information to the customer (e.g.
expected wait times).
• Customers want to be treated “fairly” while waiting –
First-come-first-served (FCFS) queuing discipline or
logical prioritization process (e.g. triage)
 Managing the Customer Waiting
Experience
• Conceal the queue from the customer.
• Engage the customer in co-production tasks during the
wait.
• Provide diversions during the wait.
• Serve priority customers or customers who are willing to
plan ahead faster.
• Automate standard services to enable self-service.
• Manage waiting time perceptions – under promise, over
deliver.
 Managing Demand and Capacity
to Reduce Lines and Waiting Times
MANAGING MANAGING
DEMAND CAPACITY

Segmenting Increasing
demand customer
Developing participation
Sharing
complementary
capacity
services
Offering
Scheduling
price
Reservation Cross- work shifts
incentives
systems and training
overbooking employees
Promoting Creating
off-peak adjustable
Using
demand capacity
part-time
employees

Yield
management
 Managing Demand
• Segmenting demand (e.g. random vs. scheduled arrivals)
• Offering price incentives (e.g. lower matinee pricing at
movie theaters)
• Promoting off-peak demand (e.g. use of a resort hotel
during the off-season for business or professional
groups)
• Developing complementary services (e.g. HVAC)
• Reservation systems and overbooking (tradeoff between
opportunity cost of unused capacity and costs of not
honoring an overbooked reservation)
 Managing Capacity
• Increasing customer participation (e.g. e-commerce)
• Scheduling work shifts (based on historical demand
patterns and desired service level)
• Creating adjustable capacity (e.g. Tesco online grocery
fulfillment)
• Using part-time employees (e.g. during tax season)
• Cross-training employees (to increase workforce
flexibility and leverage capacity to provide additional
value-added services)
• Sharing capacity (e.g. gate-sharing arrangements)
 Flow Management
Three stage service process, average service rates:

Customers 40/hour 20/hour 40/hour Customers

(highly variable arrival

rate, average=20/hour)

• Flow management focuses on relieving bottlenecks so that

customers can move more smoothly and quickly through the
service process.
– How can the flow of this service process be improved?
• Resource-side
• Demand-side
 Maximizing Utilization vs. Flow Management

Customers 40/hour 20/hour 40/hour Customers

• Compare and contrast the process performance with a

maximizing utilization vs. flow management approach.
– Why does flow management usually improve capacity
utilization, but maximizing utilization often results in poor flow?
 Yield Management
• Yield management attempts to dynamically allocate fixed
capacity to match the potential demand in various
market segments to maximize revenues and profits.
• Although airlines were the first to develop yield-
management, other capacity-constrained service
industries (e.g. hotels, car rental firms, cruises) also use
yield management.
 Strategies for Matching Supply and
Demand for Services,
DEMAND SUPPLY
STRATEGIES STRATEGIES

Partitioning Increasing
demand customer
Developing participation
Sharing
complementary
capacity
services
Establishing
Scheduling
price
Developing Cross- work shifts
incentives
reservation training
systems employees
Promoting Creating
off-peak adjustable
Using
demand capacity
part-time
employees

Yield
management
 Segmenting Demand
• Demand often can be grouped into:
– random arrivals – ex. Weekday business travelers for airlines;
walk-in patients in health clinic
– planned arrivals – ex. Weekend pleasure travelers for airlines;
appointments for health clinic

• Random arrivals are not controllable, but planned arrivals

are controllable

• Using data you can forecast for random arrivals on any

given day and any given time.
– Subtracting these walk-in patients from daily (or hourly)
physician capacity gives the number of appointment patients
needed each day to smooth demand
 Offering Price Incentives
• The price incentives pushes the casual
demand and helps in smoothening the
demand. For example:
– Weekend and night rates for cell-phone plans
– Off-season hotel rates at resort locations
– Peak-load pricing by utility companies
 Promoting off-peak demand
• Do specials to attract demand during off-peak
– Use of resort hotels to do off-season specials, like
free breakfast or tickets
 Reservation System and Overbooking
• Taking reservations pre-sells the potential service – allowing
better planning.
– Reservation allows you to deflect additional demand to other
time slots at the same facility or other facility within the same
organization – example, Hotel chains
• Customer benefits from reservation that they do not have to
wait in lines and are guaranteed service availability
– What if customer decides not to honor their reservation?
• Potential problem for the service provider
• Service providers have started overbooking (that is, book
more than capacity) to overcome the problem of no-shows.
– What if all customers show-up?
– Train your frontline workers to handle overbooking problem
graciously.
 Strategies for Managing Capacity
• Daily work-shift scheduling
– By scheduling work-shifts appropriately, the service
capacity can be made available to meet demand
– We forecast demand for every hour, which is used to
create hourly service staffing requirements
– Decide the service level you want to provide – for
example, what percentage of calls should be picked
within 4 rings will decide the number of operators to
schedule.
 Increasing Customer participation
• Design service in such a way that you can involve
customers in service delivery – example fast food places
– This allows the capacity to vary along with the demand, that
is, customers not only increase demand but also increase
capacity
• Incentive should be built in for customers to participate
as a co-producer– example price break, faster check-out
• Problems
– what if the customers gets hurt
– No control on service quality provided by the customer,
example table may not be cleaned properly after eating
– Contamination and spillage – in bulk stores the customer can
use dirty hands or can spill
 Creating Adjustable Capacity
• By design the capacity can be made variable
• In Benihana restaurant, they can change the number of
tables depending on the number of chefs; because a
chef is assigned to a table
• Capacity at peak periods can be increased and at off-
peak time the workers are used effectively to perform
supportive tasks and have higher level of preparedness
– Requires cross trained employees
– no union problems in job classifications
 Other Strategies
• Sharing capacity
– Airlines cooperate in sharing same gates, ramps, baggage-
handling equipment, and ground personnel
• Cross-trained employees
– Creates flexible capacity and also increases capacity, example
Hy-Vee where the workers stock at off-peak time unless called
by the manager to operate a register.
• Using part-time employees
– They can supplement regular employees
 Yield Management
• Yield management model attempts to allocate
the fixed capacity of seats on an aircraft to
match the potential demand in various market
segments in the most profitable manner.
 Yield Management
• Yield can be raised by increasing capacity used
or by increasing price.
• It is basically a differential capacity allocation
and pricing strategy
• Yield management strategy is most profitable
when those who arrive early or reserve early
are more price sensitive than those who
reserve or arrive late.
 Yield Management
• The process of allocating the right type of
capacity to the right kind of customer at the
right price so as to maximize revenue.
• Yield = Actual revenue/Potential revenue
• Where actual revenue = actual capacity used
times average actual price
• and Potential revenue = total capacity times
maximum price
 Ideal Characteristics for Yield Management
• Relatively Fixed Capacity – ex. Hotels and Airlines
• Ability to Segment Markets – airlines can discriminate
between time-sensitive business traveler and price-
sensitive customer
• Perishable Inventory – revenue for unsold seat is lost
forever
• Product Sold in Advance – reservations and booking ,
sometimes at discount price instead of the uncertainty of
selling at higher price later
• Fluctuating Demand – you can give price discounts in slow
season to increase utilization; and increase price during
high season
• Low Marginal Sales Cost and High Capacity Change Cost
 Ideal Characteristics for Yield
Management
• Relatively fixed capacity
• Ability to segment markets (i.e., discount
allocation)
• Perishable inventory (i.e., potential for
“spoilage”)
• Product sold in advance
• Fluctuating demand
• Low marginal fulfillment costs and high
marginal capacity change costs
 Risks Associated with the Use of Yield
Management
• The loss of competitive focus
• Customer alienation
• Incompatible incentive and reward systems
• Employee morale problems
 Waiting Line Issues
and Strategies
• unoccupied time feels longer
• preprocess waits feel longer
• anxiety makes waits seem longer
• uncertain waits seem longer than finite waits
• unexplained waits seem longer
• unfair waits feel longer
• longer waits are more acceptable for “valuable” services
• solo waits feel longer