Strategic Capacity Management

Objectives
Capacity management concepts
Strategic capacity management
Determining capacity requirements
Decision Trees

Capacity strategies
Wait and see
Aggressive expansion

I. Understanding Capacity Mgt

Capacity Management
Capacity can be defined as the ability to
hold, receive, store, or accommodate.
Capacity management
Strategic level*: acquisition or disposal of
fixed assets such as buildings, equipment or
facilities
Intermediate-term: hiring, layoffs, some new
tooling, minor equipment purchases, and
subcontracting
Short-term: production scheduling and inventory
position

Strategic Capacity Planning

Strategic capacity planning is an approach for
determining the overall capacity level of capital
intensive resources, including facilities,
equipment, and overall labor force size.
Long-term decision-making, hard to change or reverse.
Fundamental part of all facility investment.
Key - match capabilities with marketing needs (demand
uncertainty)
Too much: waste resources
Too little: lose sales

Example
business strategy SC strategy capacity mgt

Capacity Focus
The concept of the focused factory
holds that production facilities work
best when they focus on a fairly limited
set of production objectives
Plants Within Plants (PWP)
Extend focus concept to operating level

The Experience Curve

As plants produce more products, they gain
experience in the best production methods
and reduce their costs per unit

Yesterday

Cost or
price
per unit

Today
Tomorrow

Total accumulated production of units

Capacity Flexibility
Flexible plants
Reduce changeover time

Flexible processes
Economics of scope

Flexible workers
Multiple workers and ability

Capacity Balance
Unbalanced stages of production

Units
per
month

Stage 1

Stage 2

6,000

7,000

Stage 3
5,000

Maintaining System Balance: Output of one stage is the

exact input requirements for the next stage

Units
per
month

Balanced stages of production

Stage 1

Stage 2

6,000

6,000

Stage 3
6,000

Capacity Utilization
Capacity used
Capacity utilizatio n rate
Best operating level
Capacity used

Actual output rate achieved through a process

Best operating level

Capacity for which a process was designed

Best Operating Level

Average
unit cost
of output
Overutilization

Underutilization

Best Operating
Level

Volume

Example of Capacity Utilization

During one week of production, a plant produced 80
units of a product. Its best utilization recorded was
120 units per week. What is this plants capacity
utilization rate?

Answer:
Capacity utilization rate =
Capacity used .
Best operating level
= 80/120
= 67%

II. Determine Capacity

Requirement

Decision Tree

Example of a Decision Tree Problem

A glass factory specializing in crystal is experiencing a
substantial backlog, and the firm's management is
considering three courses of action:
A) Arrange for subcontracting
B) Construct new facilities
C) Do nothing (no change)
The correct choice depends largely upon demand, which
may be low, medium, or high. By consensus, management
estimates the respective demand probabilities as 0.1, 0.5,
and 0.4.

Example (Contd): The Payoff Table

The management also estimates the profits when choosing

from the three alternatives (A, B, and C) under the differing
probable levels of demand. These profits, in thousands of
dollars are presented in the table below:

A
B
C

0.1
Low
10
-120
20

0.5
Medium
50
25
40

0.4
High
90
200
60

Example (Contd): Step 1. We start by

drawing the three decisions

A
B

Example (Contd): Step 2. Add our possible

states of nature, probabilities, and payoffs
High demand (0.4)
Medium demand (0.5)
Low demand (0.1)

High demand (0.4)

Medium demand (0.5)

Low demand (0.1)

$90k
$50k
$10k
$200k
$25k
-$120k

C
High demand (0.4)
Medium demand (0.5)
Low demand (0.1)

$60k
$40k
$20k

Example (Contd): Step 3. Determine the

expected value of each decision

High demand (0.4)

Medium demand (0.5)

$62k

Low demand (0.1)

$90k
$50k
$10k

EVA=0.4(90)+0.5(50)+0.1(10)=$62k

Example (Contd): Step 4. Make

decision
High demand (0.4)
Medium demand (0.5)

$62k
A
B

$80.5k

Low demand (0.1)

High demand (0.4)
Medium demand (0.5)

Low demand (0.1)

$90k
$50k
$10k
$200k
$25k
-$120k

C
High demand (0.4)

$46k

Medium demand (0.5)

Low demand (0.1)

$60k
$40k
$20k

Alternative B generates the greatest expected profit, so

our choice is B or to construct a new facility

III. Capacity Strategies

Wait-and-see or Aggressive
expansion?

Capacity Strategy
Capacity strategy refers to several aspects of
capacity mgmt, including the timing of
expansion (contraction), the sizing of facilities
and the linkage with marketing/business plans.
Two general strategies represent the ends of a
continuum.
wait-and see
aggressive expansion

Wait-and-see Strategy
Postpone firm commitments to building
expensive, new facilities until after demand has
already exceeded capacity.
units
Demand

Capacity
expansion
Time

Characteristic of W-A-S
Strategy
Facility change lags behind demand.
Short-term tactics (overtime, subcontract) employed to
compensate for the difference
Low fixed cost
Risk
-- losing business.
-- quality and flexibility may be sacrificed.
Fit best in
-- slow growth industries where facilities are expensive.
-- industry with fast speed of technological change.

Aggressive Expansion
Capacity is build to exceed projected demand in
the short term.
units

Capacity
expansion
Forecasted demand

Time

Characteristics of
Aggressive Expansion
Capacity is added in large leaps with the expectation that
demand will eventually catch-up.
Excess capacity ensure flexibility and meet customer
demand
Risk
-- wrong forecast
-- obsolescence of technology
Fit best in
-- growing markets, create first mover advantage.
-- maintain high CSL