CAPACITY AND AGGREGATE

PLANNING
 CAPACITY
 Capacity is the maximum capability to
produce. It can be used in terms of units
of output, value of output, hours of
work, or number of customers
processed over a specified period of
time.
 Capacity is affected by the mix of
products and services, the choice of
technology, the size of facility, and the
resources allocated.
 Rated Capacity
 The theoretical output that could be
attained if a process were operated
at full speed without interruption or
exceptions.
 Effective Capacity
 The capacity with which a particular
product or customer can be processed, and
the utilization of the scheduled hours or
work.
 Utilization refers to the percentage of
available working time that a worker
actually works or a machine actually runs.
 Capacity Planning
 It is the long term strategic decision
that establishes a firm’s overall level of
resources.
 Capacity decisions affect product lead
times, customer responsiveness,
operating costs, and a firm’s ability to
compete.
 Inadequate capacity can lose
customers and limit growth.
 Continued…
 Excess capacity can drain a
company’s resources and prevent
investments in more lucrative
ventures.
 Strategies for Expanding
Capacity
 Capacity Lead Strategy
 Average Capacity Strategy
 Capacity Lag Strategy
 Capacity Lead Strategy
 Capacity is expanded in anticipation
of demand growth. This aggressive
strategy is used to lure customers
from competitors who are capacity
constrained or to gain a foothold in a
rapidly expanding market.
 Average Capacity Strategy
 Capacity is expanded to coincide
with average expected demand.
Approximately half of the time
capacity leads demand, and half of
the time capacity lags demand.
 Capacity Lag Strategy
 Capacity is increased after an
increase in demand has been
documented. This conservative
strategy produces higher return on
investment but may lose customers
in the process. It is used in industries
with standard products and cost
based or weak competition.
 How much to increase
capacity??
It depends on:
1. Volume and certainty of anticipated
demand.
2. Strategic objectives in terms of
growth, customer service, and
competition.
3. The costs of expansion and operation.
 Economies of Scale
 It occurs when it costs less per unit to produce or operate at
high levels of output. This holds true when:
 Fixed costs can be spread over a larger number of units
 Production or operating costs do not increase linearly with output
levels,
 Quantity discounts are available for material purchases and,
 Operating efficiency increases as workers gain experience.
 Diseconomies of Scale
 Overtaxed machines and material handling
equipment breakdown, service time slows,
quality suffers requiring more rework, labor
costs increase with overtime, and
coordination and management activities
cause diseconomies of scale.
 Diseconomies of scale can be divided into
four categories:
 Diseconomies of distribution
 Diseconomies of bureaucracy
 Diseconomies of confusion
 Diseconomies of vulnerability
 Planning Service Capacity vs.
Manufacturing Capacity
 Time: Goods can not be stored for later use
and capacity must be available to provide a
service when it is needed
 Location: Service goods must be at the
customer demand point and capacity must be
located near the customer
 Volatility of Demand: Much greater than in
manufacturing
 Approaches to Capacity
Expansion
(a) Leading demand with (b) Leading demand
incremental with one-step
expansion expansion
New
New
capacit capacit
Demand

Demand
y y Expected
Expected
demand
demand

(c) Capacity lags demand (d) Attempts to have an

with incremental average capacity with
expansion
New
incremental expansion
capacit New
Demand
Demand

y Expected capacit Expected

demand y demand

Figure S7.4
Approaches to Capacity
Expansion
(a) Leading demand with
incremental expansion

New
capacity
Demand

Expected
demand

1 2 3
Time (years)
Figure S7.4
Approaches to Capacity
Expansion
(b) Leading demand with one-step
expansion

New
capacity
Expected
Demand

demand

1 2 3
Time (years)
Figure S7.4
Approaches to Capacity
Expansion
(c) Capacity lags demand with
incremental expansion

New
capacity

Expected
Demand

demand

1 2 3
Time (years)
Figure S7.4
Approaches to Capacity
Expansion
(d) Attempts to have an average capacity
with incremental expansion

New
capacity

Expected
Demand

demand

1 2 3
Time (years)
Figure S7.4
 Break-Even Analysis
 Technique for evaluating process
and equipment alternatives
 Objective is to find the point in
rupees and units at which cost
equals revenue
 Requires estimation of fixed
costs, variable costs, and
revenue
 Break-Even Analysis
 Fixed costs are costs that
continue even if no units are
produced
 Depreciation, taxes, debt, mortgage
payments
 Variable costs are costs that vary
with the volume of units produced
 Labor, materials, portion of utilities
 Contribution is the difference
between selling price and variable
 Break-Even Analysis
Assumptions
 Costs and revenue are linear
functions
 Generally not the case in the
real world
 We actually know these costs
 Very difficult to accomplish
 There is no time value of
money
 Break-Even Analysis
–
Total revenue line
900 –

800 – dor
rr i Total cost line
Break-even point o
700 – Total cost = Total revenue i tc
r of
Cost in rupees

P
600 –

500 –
Variable cost
400 –

300 –
o ss or
200 – L rid
r
co
100 – Fixed cost
|
– | | | | | | | | | | |
0 100 200 300 400 500 600 700 800 900 10001100
Volume (units per period)
 Aggregate Planning
 Aggregate planning determines the
resource capacity a firm will need to meet
its demand over an intermediate time
horizon – 6 to 12 months in the future.
 The term aggregate is used here because
the plans are developed for product lines
or product families, rather than individual
products.
 Within this time frame, it is usually
not feasible to increase capacity by
building new facilities or purchasing
new equipments; however it is
feasible to hire or lay off workers,
increase or reduce the workweek,
add an extra shift, subcontract out
work, use overtime, or build up and
deplete inventory levels.
 Objectives of Aggregate
Planning
 Meet demand
 Use capacity efficiently
 Meet inventory policy
 Minimize cost
 Labor
 Inventory
 Plant & equipment
 Subcontract
Relationships of the Aggregate
Plan
All these factors effect Aggregate
Planning
Marketplace Product Research and
and Demand Decisions Technology

Demand Process
Forecasts, Planning & Capacity
orders Decisions Work Force
Raw Materials
Available
Aggregate Inventory On
Plan for Hand
Production External
Capacity
Master Subcontractors
Production
Schedule

Detailed Work
Schedules
 Strategies for Adjusting
Capacity
 Seasonal demand patterns can be met by:
 Producing at a constant rate and using inventory to absorb
fluctuations in demand.
 Hiring and firing workers to match demand.
 Maintaining resources for high demand levels.
 Increasing or decreasing working hours.
 Subcontracting work to other firms.
 Using part time workers.
 Providing service/goods at a later time period.
 Level Production
 Production is done at a fixed level.
 During periods of low demand,
overproduction is stored as inventory, to
be depleted in periods of high demand.
 Cost of this strategy is cost of holding
inventory, including cost of obsolete or
perishable items that may be discarded.
 Chase Demand
 Matches the production plan to the
demand pattern and absorbs
variations in demand by hiring and
firing workers.
 This strategy would not work where
worker skills are scarce or
competition for labor is intense
 Cost of this strategy is the cost of
hiring and firing workers.
 A variation of chase demand is chase
supply where production revolves
around supplies of raw material
 Peak Demand
 Maintaining resources for high level
of demand.
 This strategy is used when superior
customer service is important.
 Cost of the strategy is investment in
extra workers and machines that
remain idle during low demand
periods
 Overtime and Undertime
 A competent staff is maintained, hiring and
firing costs are avoided, and demand is
met temporarily without investing in
permanent resources.
 Cost of the strategy is premium paid for
overtime, a tired and potentially less
efficient workforce.
 It is possible that overtime alone may not
be able to meet peak demand periods.
 Subcontracting
 It is a feasible alternative if a supplier
can reliably meet quality and time
requirements.
 Disadvantages include reduced
profits, loss of control over
production, long lead times, and the
potential that subcontractor may
become a future competitor
 Part-Time Workers
 Feasible for unskilled jobs or in areas
with large temporary pools.
 Less costly than full time workers.
 Problems with them include high
turnover, accelerated training
requirements, less commitment, and
scheduling difficulties.
Backlogs, Backordering & Lost
Sales
 Companies that offer customized products and
services accept customer orders and fill them
at a later stage. This accumulation of orders
creates a backlog.
 For make-to-stock companies, customers who
request an item that is temporarily out-of-stock
may have the option of backordering the item.
 If customer is not ready to wait for the
backordered item, the sale will be lost.
 Strategies for Managing
Demand
 Strategies for managing demand include:
 Shifting demand into other time periods with
incentives, sales promotions, and advertising
campaigns.
 Offering products or services with countercyclical
demand patterns.
 Partnering with suppliers to reduce information
distortion along the supply chain
 Winter coat specials in July, early bird
discounts on dinner are examples of attempts
to shift demand into different time periods.
Electric utilities are especially skilled at off-
peak pricing .
 Holiday gift buying is encouraged early each
year, and beach resorts plan festivals in
September and October to extend the season.
 For industries with extreme variations in demand, offering
products or services with countercyclical demand patterns
help smooth out resource requirements.
 This approach involves examining the idleness of resources
and creating a demand for those resources.
 Example: McDonald’s offering breakfast, heating firms also
sell air conditioners.
 Even though a customer may require daily usage
of an item, he or she does not purchase that item
daily. Neither do retail stores restock their shelves
continuously. By the time replenishment order
reaches distributors, wholesalers, manufacturers
and their suppliers, the demand pattern for a
product can appear extremely erratic. To control
the situation, manufacturers, their suppliers, and
customers form partnerships in which demand
information is shared and orders are placed in a
more continuous fashion.
 Hierarchical Planning
 Planning involves a hierarchy of decisions. In
production planning the next level of detail is
master production schedule, in which weekly (not
monthly or quarterly) production plans are
specified by individual final product.
 At another level of detail, material requirements
planning plans the production of the components
that go into the final product.
 Shop floor scheduling schedules the
manufacturing operations required to make
each component.
 In capacity planning, we might develop a
resource requirements plan, to verify that an
aggregate production plan id doable, and a
rough-cut capacity plan as quick check to see if
the master production is feasible.
 One level down, we would develop a much
more detailed capacity requirements plan that
matches the factory’s machine and labor
resources to the materials requirement plan.
 Finally, we would use input/output control to
monitor the production that takes place at
individual machines or work centers.
 At each level decisions are set by the higher-
level decisions.
 The process of moving from the aggregate plan
to the next level down is called disaggregating.
 Production Planning through
Time-based Decomposition
Corporate Strategy

Aggregate Unit Aggregate Planning

Demand

Capacity and Aggregate Production Plans

End Item (SKU) Master Production Scheduling

Demand

SKU-level Production Plans

Manufacturing Materials Requirement Planning

and Procurement
lead times
Component Production lots and due dates

Part process Shop floor-level Production Control

plans
 Collaborative Planning
 Consensus among partners of supply
chain is first reached on the sales
forecast, then on production plan.
 Each partner has access to an internet
enabled planning book in which forecasts,
customer orders, and production plans are
visible for specific items. Partners agree
on the level of aggregation to be used.
 Aggregate Planning for
Services
 The aggregate planning process is different for
services in the following ways:
 Most services cannot be inventoried.
 Demand for services is difficult to predict.
 Capacity is difficult to predict
 Service capacity must be provided at
appropriate place and time.
 Labor is usually the most constraining resource
for services.
 There are several services that have
unique aggregate planning problems.
Doctors, lawyers and other professionals
have emergency or priority calls for their
service that must be meshed with
regular appointments. Hotels and
airlines routinely overbook their capacity
in anticipation of customers who do not
show up. Airlines design complex pricing
structures for different routes and
classes of customers.
 
Thank You ….