Course Name: Production & Operations

Management
Module 4: Capacity Planning

1) "Product design, capacity and process selection have a direct

relationship". Substantiate.

Product design, capacity and process selection have a direct

relationship. Product design determines the value provided to the
customer; the value determines the market size; the market size
determines the volumes and therefore the capacity; and capacity
leads to the process.

Capacity planning should be solely based on the principle of

maximizing the value delivered to the customer. This reflects in
minimizing costs of producing products and services, providing them
in a timely manner, and ensuring that the products provide the
highest level of quality.

Capacity planning has become a strategic tool in the operations

function. It guides our choices on capacity, locations, and layout for
the long-term. It also helps in managing supply and demand, and
these choices in turn, affect the ways a firm uses its resources and
facilities in the short-term.
 2) "To estimate capacity, you must first select a yardstick to
measure it". Discuss.

To estimate Capacity, you must first select a yardstick to measure it.

The first major task in Capacity Measurement is to define the unit of
output. In some cases, the choice is obvious.

Example: RIL set up capacity to manufacture 250,000 MT of

polypropylene and 160,000 MT of polyethylene at its Hazira plant.
This measures the output of the end products. Another example is
megawatt-hours of electricity for a power generation utility.

Finding a yardstick to estimate capacity is more difficult in many

service industries where there is no uniform product on which the
measurement can be based, e.g., airlines, hospitals, restaurants, etc.
However, measures can be devised to assess capacity. For example,
an airline can use seat miles as a measure of capacity. A hospital can
measure capacity as beds-days each year. In a restaurant, this might
be the number of customers that can be handled per day.

In a process-focused facility, Capacity is often determined by some

measure of size, such as the number of beds in a hospital, seating
capacity in a restaurant, etc.

In a repetitive process, the number of units assembled per shift, such

as number of refrigerators, may be the criterion for Capacity.

And in a product-focused facility, such as TISCO, tones of steel

processed per shift may be the measure of capacity.
Whatever the measure, the Capacity decision is critical to the
management of an organization because everything from cost to
customer service is measured on the basis of the Capacity of the
process, once the Capacity is determined.

In general, Capacity can be expressed in one of two ways:

1. Output measures or

2. Input measures.

1. Output measures are the usual choice for high-volume processes

Example: Maruti was set up to manufacture 100,000 passenger cars

per year.

This type of capacity measurement needs to be taken with some

caution. The Maruti plant produces three types of vehicles on a
single platform. As the man-hours required to produce the different
models are not identical, Maruti may be able to manufacture
125,000 vehicles if it only produced the Maruti 800, perhaps 110,000
vehicles if it only produced the Omni, and 85,000 vehicles if it only
produced the Gypsy. The 100,000 number is an average number to
make the capacity measurement relatively easy.

As the amount of customization and variety in the product mix

increases, output-based capacity measures become less useful.
Output measures are best utilized when the firm provides a
relatively small number of standardized products and services, or
when such measures are applied to individual processes within the
overall firm.

Let us take another example. We could say that a plastic goods unit
turns out plastic goods. Can we therefore unambiguously make a
statement of the capacity as the weight of processed output or
number of plastic goods per unit period? Though the capacity of the
plastic making unit can be expressed as weight of plastic processed,
it would not be accurate because the number will differ according to
the mix of products being made. A change in product mix will usually
mean a change in capacity also. Also, as there are a variety of plastic
goods, coming in different shapes and sizes, number may not be a
good measure. Finally, the decision has to be based on judgement or
industry practice.

2. Input measures are generally used for low-volume, flexible

processes. Example: In a machine shop, capacity can be measured in
machine hours or number of machines. Demand, which invariably is
expressed as an output rate, must be converted to an input
measure. This conversion is required to compare demand
requirements and capacity on an equivalent basis. Capacity, then,
may be measured in terms of the inputs or the outputs of the
conversion process. However, converting demand into input
measures may be quite difficult. In a general business sense, capacity
is most frequently viewed as the amount of output that a system is
capable of achieving over a specific period of time.
3) Compare and contrast the expansionist and wait-n-see strategy.

There can be two extreme strategies:

1. Expansionist strategy, which involves large, infrequent jumps in

capacity, and

2. Wait-and-see strategy, which involves smaller, more frequent

incremental jumps. The expansionist strategy, which stays ahead of
demand, minimizes the chance of sales lost to insufficient capacity.

In industries where the product or process technology is likely to

change rapidly, the organization would not want to build plants that
limit its long-term ability to compete. The wait-and-see strategy fits
this type of outlook but can erode market share over the long run.
The wait-and-see strategy lags behind demands, relying on short-
term options such as use of overtime, additional shifts, and
outsourcing. There can be short term stretch strategies employed,
e.g., stock-outs, and postponement of preventive maintenance to
meet any shortfalls.

The decision for incremental expansion should be tempered so that

any capacity expansion program is geared towards achieving
economies of scale. You have to accept that there are practical limits
to economies of scale. The decision has to be restricted to
economies of scale that are available under the given circumstances.
At that volume the unit cost of production can be reduced, but very
often it cannot be minimized.
The expansionist strategy or economic approach generally results in
economies of scale and a faster rate of learning. This, with
supporting strategies, often helps a firm reduce its costs and
compete on price. It also can help increase the firm's market share
by preempting competition. Competing firms must sacrifice some of
their market share or risk burdening the industry with over capacity.
To be successful, however, the preempting firm must have credibility
and signal its plans before the competition can act.

Capacity addition is based either on economics or demand. The

economic approach is the basis for the success of Reliance
Industries. RIL created world-scale capacity ahead of actual demand,
on the basis of the latent demand. This preempted competitors from
expanding their capacities. Then RIL went about systematically
removing the barriers that were constraining demand. This
continuing capacity growth allowed Reliance to dominate the
markets in which it competed and also emerge as a low cost
manufacturer. RIL emerged as the lowest cost polyester producer in
the world. In 1994, its conversion cost for polyester was 18 cents per
pound, over 60 per cent lower than its West European, North
American and Far Eastern competitors.
4) “Capacity offerings can also yield a competitive advantage".
Comment.

In every aspect of business, whether it is in finance, marketing, or

production, you can gain competitive advantage through strategies
in each area. Capacity offerings can also yield a competitive
advantage. You have to determine whether or not you will gain a
competitive advantage by introducing that kind of capacity at a
particular point in time.

Most of the capacity plans are based on the following: 1. Set time
and resource allocation to meet demand; 2. Set strategies for
meeting new requirements (new demand, competition, time
changes for projects, etc.); 3. Determine the cost of nonconformance
to the plan (waste, time slippage, costs, variance in quality, etc.).

In the first place, capacity planning has to address the external

environment of the firm. One needs to assess the company's
situation and think about why the decision to alter capacity should
be considered. Is the company responding to a competitor's move.

In the second place, capacity planning has also to be based on the

demands for individual product lines, availability of more efficient
technologies, and introduction of new products. As demand for the
individual product line increases, there is a need to examine the
capacity. Addition of assets to enhance capacity should be
considered only when available assets do not meet the gap in
capacity envisaged by the management.

New technologies can make you uncompetitive. It is important to

understand why you are making a change in your capacity levels.
Management, before taking a decision on capacity, needs to take the
following steps:

1. Forecast demand for individual products within each product line.

2. Calculate the array of assets required to meet product line

forecasts.

3. Project availabilities of the existing array of assets over the

planning horizon

Tactics for matching Capacity to demand: Even with good forecasting

and facilities built to that forecast, there may be a poor match
between the actual demand that occurs and the capacity available.
In the case of seasonal or cyclical pattern of demand, the
organization can offer products with complementing demand
patterns, that is, products for which the demand is opposite. With
appropriate complementing products, perhaps the utilization of
facility, equipment, and personnel can be smoothed. 1. Adding
people to the production process; if the operation runs two shifts
five days a week, then overtime or another shift could be
considered. 2. Increasing the motivation of production employees;
by providing incentives, involving people in the operating problems,
improving job satisfaction etc. 3. Adjusting equipment and
processes, which may require purchase of additional machinery or
selling or leasing existing equipment. 4. Redesigning the product to
facilitate more throughput. 5. Improving the operating rate of
equipment; better scheduling, improved operating procedures, or
improved quality of raw materials can increase capacity by
increasing product yield.

5) Define effective capacity.

Effective Capacity (utilization):

It is found that an organization can operate more efficiently when its

resources are not stretched beyond a limit. Effective Capacity is the
Capacity, which a firm can expect to achieve, given its product mix,
methods of scheduling, maintenance, and standards of quality.

Efficiency is a measure of actual output over Effective Capacity and is

expressed as a percentage of the Effective Capacity.

The Rated Capacity is a measure of the maximum usable capacity of

a particular facility.

Rated capacity = (Capacity) (Utilization) (Efficiency)

Example: One facility has an efficiency of 90 per cent, and the

utilization is 80 per cent. Three process lines are used to produce the
products. The lines operate 6 days a week and three 8-hour shifts
per day. Each line was designed to process 100 standard products
per hour. The rated capacity is:

Rated Capacity = (Capacity) x(Utilization)x (Efficiency) = (100) x(3)

x(144) x(0.8) x(0.9) = 31,104 products/week.

The matter of product mix is important, especially while planning for

future activities. Top management often finds it desirable to express
addition to new capacity in terms of money value of sales. Details
regarding product mix breakdown, type and number of machines
needed, etc., which are vital to achieve the desired increase in
capacity, are left to the concerned engineers. Thus, the definition of
unit of output is closely linked with the product mix, and therefore
poses a difficult problem as regards capacity measurement.

Time poses another problem. Capacity is often defined as the

quantity of output in a given time. However, some manufacturing
processes require continuous operation. Thus, a thermal power
generation unit must either operate continuously or not at all, as
otherwise the boilers cool down. So, the capacity of a thermal power
generation unit is the total amount of electricity it can produce by
operating 24 × 7. Most factory operations are not, however, like this,
since they operate on a shift basis and hence for a specified period.
However, these capacities are measured by the output per shift.