capacity strategy (26 and 31) (1)

8/13/2019 Capacity Strategy (26 and 31) (1)

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Capacity Strategy

An operations capacity dictates its potential level of productive activity.It is, the maximum level of value-added activity over a period of timethat the operation can achieve under normal conditions.

Capacity is not same as output.

The capacity strategy of an operation defines its overall scale, the number and

size of different sites between which its capacity is distributed, the specific

activities allocated to each site and the location of each site.


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Issues in capacity strategy

Capacity

Strategy

ConfiguringCapacity

Managing CapacityChange

Type of

Capacity

Overall

Level ofCapacity

Location

ofCapacity

Timing

ofChange

Magnitude

ofChange

Location of

changedcapacity


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Utilization and efficiency measures for two divisions

of a food processing company

Efficiency Actual output

Effective capacity

3724

413490.08%

=

= =

Efficiency Actual output

Effective capacity

4622

543785.01%

=

= =

Ice Cream Division Canned Food Division

TotalCapacity

7896 hrs

PlannedLoss

3762 hrs

EffectiveCapacity

4134 hrs

ActualOutput

3724 hrs

Avoidable

Loss

410hrs

TotalCapacity

7896 hrs

PlannedLoss

2459 hrs

EffectiveCapacity

5437 hrsActualOutput

4622 hrs

AvoidableLoss815hrs

Utilization Actual output

Total capacity

3724

789647.16%

=

= =

Utilization Actual output

Total capacity

4622

789658.54%

=

= =


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Capacity at three levels

Level Time -

Scale

Decisions

concernprovision

of . . .

Span of

decisions

Starting point of

decision

Key questions

Strategic

capacity

Decisions

Years

Months

Buildings and

facilities

Process

technology

All parts of the

process

Probable markets

to be served in

the future

Current capacity

configuration

How much capacity do

we need in total?

How should the

capacity be

distributed?Where should the

capacity be located?

Medium-

term

capacity

decisions

Months

Weeks

Aggregate

number of

people

Degree of

subcontractedresources

Businesssite Market forecasts

Physical capacity

constraints

To what extent

do we keep

capacity level

fluctuate

capacity levels?Should we

change staffing

levels as demand

changes?

Should we

subcontract

off-load

demand?


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Contd .

Level Time - Scale Decisions

concern

provision

of . . .

Span of

decisions

Starting point of

decision

Key questions

Short-term

capacity

decisions

WeeksHours

Minutes

Individual staff

within the

operation

Loading of

individual

facilities

Site

Department

Current

demand

Current

available

capacity

Which

resources

are to be

allocated to

what tasks?

When should

activities be

loaded on

individual

resources?


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The overall level of operations capacity

Forecast level

of demand

Changes in

futuredemand

Uncertainty

of future

demandConsequences

of over/under

supply

Availability

of capital

Cost structure of

capacity

increment

Economies

of scale

Flexibility of

capacity

provisions

Some factors influencing the overall level of capacity

OPERATIONS

RESOURCESMARKET

REQUIREMENTS

Overall level of

capacity


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Cost, Volume profit illustration


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Unit Costs

Total cost = Fixes Cost + variable cost * Demand

Unit cost = Total Cost / output

For example, the theoretical capacity in Figure was based on an assumption that

the operation would be working 112 hours a week (14 shifts a week out of a

possible 21 shifts a week) whereas the operation is theoretically available168

hours a week.

Utilising some of this unused time for production will help to spread further the

fixed costs of the operation but could also incur extra costs.

For example, overtime payments and shift premiums together with incrementallyhigher energy bills may be incurred after a certain level of output.

There may also be less obvious costs of operating above nominal capacity levels.


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Contd

Long periods of overtime may reduce productivity levels, reduced or delayedmaintenance time may increase the chances of breakdown, operating facilities andequipment at a higher rate or for longer periods may also expose problems whichhitherto lay dormant. These diseconomies of over-using capacity can have the effectof increasing unit costs above a certain level of output.

However, all the fixed costs are not usually incurred at one time at the start ofoperations. Rather they occur at many points as volume increases.

Operations managers often have some discretion as to where these fixed-cost breakswill occur.

The factors that go together to reduce costs as volume increases are often calledeconomies of scale.

Those that work to increase unit costs for increased output beyond a certain volumeare called diseconomies of scale.


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Unit Cost Curve

In practice Unit costs are

are capable of being extended

beyond nominal capacity;

often show increases in cost

beyond a certain level of volume;

are best represented by a band

within which the true cost will lie,

rather than a smooth, clean line


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Flexibility of capacity provision

Committing to an investment in a particular level of capacity may be managed in such away as to facilitate later expansion

Effective capacity requires all the required resources and processes to be in place inorder to produce goods and services. This may not necessarily imply that all resourcesand processes are put in place at the same time. It may be possible, for example, to

construct the physical outer shell of an operation without investing in the direct andindirect process technologies which will convert it into productive capacity

One option involves building the whole physical facility (with a larger net cash outflow)but only equipping it to half its potential physical capacity. Only when demand justifiesit would expenditure be made to fully exploit this capacity.

The alternative is to build a fully equipped facility of half the capacity. A furtheridentical capacity increment would then beadded as required. Although this latterstrategy requires a lower initial cash outflow, it shows a lower cumulative cash flow inthe longer term.


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Expanding physical capacity in advance of effective

capacity can bring greater returns in the longer

term


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Number and size of sites

The decision of how many separate operational sites to have is concernedwith where a business wants to be on the spectrum between many smallsites on one hand and few large sites on the other.

Small Units - If demand for a businesss products or services is widelydistributed. This will be especially true if customers demand high absolutelevels, or immediate service.

Of course, dividing capacity into small units may also increase costsbecause of the difficulty of exploiting the economies of scale possible inlarger units.

A small number of larger units may also be less costly to supply with theirinput resources. There again, in material transformation operations, asingle large unit will bear extra transportation costs in supplying itsdistributed market.


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Some factors influencing the number and size of

sites


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CASE

Suppose a company which stores and distributes books to book shops isconsidering its capacity strategy.

Currently in its European market it has three distribution centres,

one in the UK, one in Franceand one in Germany.

The UK depot looks after the UK and Ireland, the French depot looks after France,Spain, Portugal and Belgium, and the German depot looks after the rest of Europe.

The consultants decide to simulate the alternative operations in order to estimate(a) the cost of running the depots (this includes fixed costs such as rent and localtaxes, heating, wages, security, and working capital charges for the inventory, etc.),

(b) transportation costs of delivering the books to customers, and

(c) the average delivery time in working days between customers requesting booksand them being delivered.

Table 3.2 shows the results of this simulation


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Results


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By moving to one large site it can save 9.1 million per year (the savings on depot costs

easily outweighing the increase in transportation costs). Yet, delivery times will increase

on average by 1.4 days.

Alternatively, moving to six smaller sites would increase costs by 9.3 million per year,

yet gives what looks like a significant improvement in delivery time of 2.5 days.

In practice, however, the decision is probably more sensibly approached by presenting

a number of questions to the companys managers.

Is an increase in average delivery time from 6.3 to 7.7 days likely to result in losses of

business greater than the 9.1 million savings in moving to a large site?

Is the increase in business which may be gained from a reduction in delivery time from6.3 days to 3.8 days likely to compensate for the 9.3 million extra cost of moving to six

smaller sites?

Are either of these alternative positions likely to be superior to its existing profitability?


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One final point:

In evaluating the sizes and number of sites in any operation, it is not just the

increase in profitability which may result from a change in configuration that

needs to be considered, it is whether that increase in profitability is worth the

costs of making the change. Presumably, either option will involve this company in

not only capital expenditure, but also a great deal of management effort anddisruption to its existing business. It may be that these costs and risks outweigh

any increase in profitability.


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Capacity Change

Planning changes easier if it were not for two characteristics ofcapacity:

lead-time

economies of scale.

If capacity could be introduced with zero delay between the

decision to expand and the capacity coming on stream, anoperation could wait until demand clearly warranted the change.

Deciding to Change capacity inevitably involves some degree of risk,but so does delaying the Decision leading to more problems

This means that, when changing capacity levels, there is pressure to

make the change big enough to exploit scale economies Capacity by too little may mean Opportunity risks of tying the

operation in to small, non-economic units of capacity. Put both longlead-times and significant economies of scale together and capacityChange decisions become particularly risky.


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The timing of capacity Change

Forecast level

of demand

Competitor

activity

Uncertainty

of future

demandRequired level

of service

Lead-time of

capacity

changeAbility to

cope with

change

Economiesof scale

Some factors influencing the timings of capacity change

OPERATIONS

RESOURCESMARKET

REQUIREMENTS

Time of

Capacity

Change


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Generic Timings StrategiesThere are three generic strategies for timing capacity change:

Capacity leads demandtiming the introduction of capacity in such a waythat there is always sufficient capacity to meet forecast demand.

Capacity lags demandtiming the introduction of capacity so thatdemand is always equal to or greater than capacity.

Smoothing with inventoriestiming the introduction of capacity so thatcurrent capacity plus accumulated inventory can always supply demand.

(a) Capacity-leading and capacity-lagging strategies; (b) smoothing with inventory means using the excess

capacity of one period to produce inventory which can be used to supply the under-capacity period


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Generic Timings Strategies

The advantages and disadvantages of pure leading, pure lagging and smoothing with inventories

strategies of capacity timing


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The Magnitude of Capacity Change Large units of capacity also have some disadvantages when the capacity of the

operation is being changed to match changing demand.

If an operation where forecast demand is increasing seeks to satisfy all demand byincreasing capacity using large capacity increments, it will have substantial

amounts of over-capacity for much of the period when demand is increasing,

which results in higher unit costs.

However, if the company uses smaller increments, although there will still be some

over-capacity it will be less than that using large capacity increments. This resultsin higher capacity utilisation and therefore lower costs. .

Capacity plans for meeting demand using either 800- or 400-unit capacity plants; (b) smaller-scale capacity

increments allow the capacity plan to be adjusted to accommodate changes in demand


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Balancing Capacity change


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Requiredservice level

Suitability

of site

Image of

location

Resourcecosts

Land and

facilities

investment

Resource

availability

Community

factors

Some factors influencing the location of sites

OPERATIONS

RESOURCES

MARKET

REQUIREMENTS

Location of

sites


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Labour

Transportation

Energy

Resource Cost

government financial or planning assistance

local tax rates

capital movement restrictions

political stability

local amenities (schools, theatres, shops, etc.)

history of labour relations, absenteeism, productivity, etc

environmental restrictions and waste disposal


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capacity strategy (26 and 31) (1)

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