5-1 Capacity Planning

5-2 Capacity Planning

Learning Objectives

Long-Range Capacity
Planning

Dr.P.Muralidhar

M.Tech., Ph.D

Explain the importance of capacity planning.

Discuss ways of defining and measuring
capacity.
Describe the determinants of effective
capacity.
Discuss the major considerations related to
developing capacity alternatives.
Briefly describe approaches that are useful
for evaluating capacity alternatives

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Capacity planning
Capacity is the maximum output rate of a facility
The basic questions in capacity handling are:
What kind of capacity is needed?
How much is needed? (Forecasts are key inputs)

When is it needed?

Capacity planning is the process of establishing the

output rate that can be achieved at a facility:
Upper limit or ceiling on the load that operating unit
can handle, might be no of units produced.
Supply capabilities Vs Demand
Over capacity
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

Output measures like kegs per day are easier
to understand
With multiple products, inputs measures work
better
Car mfg
Equipment utilization
Cement plant
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All planning starts with the demand forecast.

Demand forecasts are the basis for the top level long_range
capacity, and medium term aggregate planning.
The Master Production Schedule (MPS) is the result of
disaggregating aggregate plans down to the individual item
level.
Based on the MPS, MRP is used to determine the size and
timing of component and subassembly production.
Detailed shop floor schedules are required to meet
production plans resulting from the MRP.

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Importance of Capacity Decisions

Hierarchy of Production Decisions

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.

Long-range Capacity Planning

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Importance of Capacity Decisions

Importance of Capacity Decisions

An Information Technology Manager would

end up preparing data bases that would aid
the organization to decide about the capacity
and last but not the least an operations
manager would select strategies that would
help the organization achieve the optimum
capacity levels to meet the customer
demand.

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4.
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Impacts ability to meet future demands

Affects operating costs
Major determinant of initial costs
Involves long-term commitment
Affects competitiveness
Affects ease of management
Globalization adds complexity
Impacts long range planning

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Globalization adds complexity

Capacity
Design capacity

Capacity decision often involves

making a decision in a foreign
country which requires the
management to know about the
political, economic and cultural
issues.

maximum output rate or service capacity an

operation, process, under ideal conditions

Effective capacity

Design capacity minus allowances such as

personal time, maintenance, and scrap

Actual output

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rate of output actually achieved--cannot

exceed effective capacity.
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Efficiency/Utilization Example

Efficiency and Utilization

Efficiency =

Utilization =

Design capacity = 50 trucks/day

Actual output

Effective capacity = 40 trucks/day

Effective capacity

Actual output = 36 units/day

Actual output
Actual output

Design capacity

36 units/day

Efficiency =

= 90%
Effective capacity

Both measures expressed as percentages

Utilization =

Actual output
Design capacity

40 units/ day
=

36 units/day
50 units/day

= 72%

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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 BPs capacity
utilization relative to both design and effective capacity?

Utilization effective =

Utilization design =

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actual output
28
(100%) = (100%) = 140%
effective capacity
20

actual output
28
(100%) = (100%) = 93%
design capacity
30

The current utilization is only slightly below its design capacity and
considerably above its effective capacity
The bakery can only operate at this level for a short period of time

Determinants of effective capacity

Facilities: location, transportation etc.

Product and service factors:limited prodcts
Process factors: o/p quality
Human factors: skill, trg, exp..
Policy factors: overtime
Operational factors: scheduling delivery etc..
Supply chain factors:
External factors:prod standards etc..

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Key Determinants of Capacity

Planning/ Strategy formulation
1. Amount of capacity needed
2. Timing of changes
3. Need to maintain balance
4. Extent of flexibility of facilities
Capacity cushion extra demand intended to offset uncertainty
The greater the degree of demand uncertainity, the greater the
amount of cushion
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Steps for Capacity Planning

1. Estimate future capacity requirements
2. Evaluate existing capacity and Identify Gaps
3. Identify alternatives for meeting requirements
4. Conduct financial analysis for each alternative.
5. Assess key qualitative issues for each alternative
6. Select one alternative that is best in longrun
7. Implement alternative chosen
8. Monitor results
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Planning Service Capacity

Calculating Processing Requirements

Product

Annual
Demand

Standard
processing time
per unit (hr.)

Need to be near customers

Processing time
needed (hr.)

1.OPC

400

5.0

2,000

2.PSC

300

8.0

2,400

3.PPC

700

2.0

1,400
5,800

Capacity and location are closely tied

Inability to store services

Capacity must be matched with timing of demand

Degree of volatility of demand

Peak demand periods
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

1. Identify critical resources
2. a. Collection of production plan data
b. Identification of product structures
3. Evaluation of per period resources requirement
with available resources and identify short falls.
4. After identify short falls, necessary resources
are provided.

It quickly identifies obstacles to plan

1. It testifies the validation of production plan
and MPS before doing any details, material or
capacity plan
2. It initiates actions for making mid range to
long range capacity.

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Make or Buy?

Developing Capacity Alternatives

Available capacity. If an organization has the available equipment, necessary skills, and time,

1. Design flexibility into systems

2. Take stage of life cycle into account
(bottle neck)
3. Take a big picture approach to capacity
changes
4.Prepare to deal with capacity chunks
5. Attempt to smooth out capacity requirements
(due to random variations or seasonal variations)
6. Identify the optimal operating level

it often makes sense to produce an item or perform a service in-house.

Expertise. If a firm lacks the expertise to do a job satisfactorily, buying might be a reasonable
alternative.

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
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
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,
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
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.

Risk. Outsourcing may involve certain risks. One is loss of control over operations. Another is the
need to disclose proprietary information.

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Capacity Planning Based-on Bottleneck Operation

Figure 5.2

Machine #1
Machine #2

Bottleneck Operation

Bottleneck operation: An operation

in a sequence of operations whose
capacity is lower than that of the
other operations

10/hr

Bottleneck

10/hr

Machine #3

Bottleneck
Operation

30/hr

Operation 1
20/hr.

Operation 2
10/hr.

Operation 3
15/hr.

10/hr.

10/hr

Machine #4

Maximum output rate

limited by bottleneck

10/hr

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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.
Attempt to smooth out capacity requirements. Unevenness in capacity requirements
also can create certain problems.

Economies of scale
If the output rate is less than the optimal level,
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
Figure 5.3
Average cost per unit

Production units have an optimal rate of output for minimal cost.

Cost of Output ($)

Minimum average cost per unit

Economies
of Scale

Minimum
cost

Economies and Diseconomies of

Scale
Average Unit

Diseconomies
of Scale

Best Operating Level

Rate of output

Annual Volume (units)

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Larger Plants Tend to Have

Higher Optimal Output Rates

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Evaluating Alternatives

Figure 5.4
Minimum cost & optimal operating rate are
functions of size of production unit.

Cost-volume analysis

Average cost per unit

Break-even point

Financial analysis
Small
plant

Medium
plant

Cash flow
Present value

Large
plant

Decision theory
Waiting-line analysis
Simulation

Output rate
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Assumptions of Cost-Volume Analysis

1.One product is involved
2.Everything produced can be sold
3.Variable cost per unit is the same regardless
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
unit

Cost-Volume Relationships

Figure 5.5a

Amount ($)

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Fixed cost (FC)

0

Q (volume in units)

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Figure 5.5b

Figure 5.5c

Cost-Volume Relationships

Amount ($)

Amount ($)

Cost-Volume Relationships

Q (volume in units)
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BEP 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

TC

BEP2

3 machines

TC
3
TC

2 machines

1 machine

Quantity

Quantity
Multiple break-even points

Step fixed costs and variable costs.

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Example 2

Example
A manager has the option of purchasing one, two,
or three machines.
# of mach.
Tot. Annual FC
Correspond. Output
1
$9600
0 300
2
15000
301 - 600
3
20000
601 900
Variable cost is $10, revenue is $40 per unit.

a) For one machine Q = 9600/(40-10)= 320 units

For two machines Q= 15000/(40-10)= 500 units
For three machines Q=20000/(40-10)=666.67 units
b) Manager should choose two machines. Because
even if demand is at low end of the range (i.e., 580),
it would be above the break-even point and thus
yield a profit. If three machines are purchased, even
at the top end of projected demand (i.e., 660), the
volume would still be less than the break-even point
for that range, so there would be no profit.

a) Determine the break-even point for each range.

b) If projected demand is between 580 and 660 units, how
many machines should the manager purchase?
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Financial Analysis

Decision Tree Analysis

Cash Flow - the difference between cash

received from sales and other sources, and
cash outflow for labor, material, overhead,
and taxes.

Present Value - the sum, in current value, of

all future cash flows of an investment
proposal.

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Structures complex, multiphase decisions

Allows objective evaluation of alternatives
Incorporates uncertainty
Develops expected values

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Example: Decision Tree Analysis

Example: Decision Tree Analysis

Payoff Table

Good Eats Caf is about to build a new

restaurant. An architect has developed
three building designs, each with a
different seating capacity. Good Eats
estimates that the average number of
customers per hour will be 80, 100, or 120
with respective probabilities of 0.4, 0.2, and
0.4. The payoff table showing the profits
for the three designs is on the next slide.

Average Number of Customers Per Hour

c1 = 80 c2 = 100 c3 = 120
Design A
Design B
Design C

$10,000
$ 8,000
$ 6,000

$15,000
$18,000
$16,000

$14,000
$12,000
$21,000

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Example: Decision Tree Analysis

Waiting-Line Analysis

Expected Value For Each Decision

d1

EV = .4(10,000) + .2(15,000) + .4(14,000)

= $12,600

Design A

Design B d2

EV = .4(8,000) + .2(18,000) + .4(12,000)

= $11,600

Design C

d3
EV = .4(6,000) + .2(16,000) + .4(21,000)
= $14,000

Choose the design with largest EV -- Design C.

Useful for designing or modifying service

systems
Waiting-lines occur across a wide variety of
service systems
Waiting-lines are caused by bottlenecks in the
process
Helps managers plan capacity level that will be
cost-effective by balancing the cost of having
customers wait in line with the cost of
additional capacity

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Steps in simulation

Simulation

Simulation is descriptive technique that

enables decision makes to evaluate behavior
of model under various conditions.
Model is developed to duplicate the things
using what if analysis approach.
Applications :
Flight simulation, Building physics models,
Video games etc..
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Identify the problem and set objectives

Develop simulation
Test the model to evaluate the problem
Develop one more experiment
Run simulation and evaluate results

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Thank you

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