Strategic Capacity

Management

Note: some slide material © Heizer&Render

Capacity

The throughput, or the number of units

a facility can hold, receive, store, or
produce in a period of time

Determines fixed costs

Determines if demand will be satisfied

Three time horizons

 Planning Over a Time Horizon

Long-range Add facilities

planning Add long lead time equipment *
Intermediate- Subcontract Add personnel
range Add equipment Build or use inventory
planning Add shifts

Schedule jobs
Short-range
planning * Schedule personnel
Allocate machinery

Modify capacity Use capacity

* Limited options exist
Strategic Capacity Management
Definition

Aligning the production capacity with

the forecasted demand over a long time
horizon
Determining the investment strategy
into fixed capacities
Detail level: years, product groups
Strategic Capacity Management
Decisions

1. What type of fixed capacity?

2. Capacity expansion: When to increase
fixed capacity and by how much?
3. What is an appropriate fixed capacity
location?
Type of Fixed Capacity

The type of fixed capacity has to be aligned with

the size of the aggregated production plan for
groups of products and the selected production
product mix

The type of fixed capacity (extent of automation)

a) Direct human labour
b) Semi-automated (human intervention required)
c) Automated (limited human intervention)
Type of Fixed Capacity

HL SA AU Production plan
(units)
Finding the fixed capacity type with the lowest total costs
 Reasons for Automating
High cost of raw materials – requires greater
efficiency in materials,

+ Improved product quality,

Reduced manufacturing lead time.
Reduced work in-process inventory

Task is too technologically difficult to automate,

- Short product life cycle,

Customised product – one-of-a-kind,
Flexibility in coping with changing demand –
adaptability.
 Approaches to Capacity Expansion
When to expand?

Capacity leading demand Capacity lags demand

New Capacity
New Capacity
Capacity
Demand

1 2 3 1 2 3
Time (year) Time (year)
 Approaches to Capacity Expansion
When to expand?

Capacity leading demand Capacity lags demand

• High demand growth • High cost of capacity

+ • Cost of unsatisfied demand

high
• Opportunity to increasing the
+ • Lower risk when demand is
uncertain
• Easier to introduce new
market share technology

- • Underutilized capacity
(opportunity cost)
• More risky when demand is
uncertain
- • Unsatisfied demand (short-term)
• Possible loss of the market share
(long-term)
 Approaches to Capacity Expansion
How much?
Leading demand Leading demand
with incremental expansion with one-step expansion
Capacity
Demand

1 2 3 1 2 3
Time (year) Time (year)

⇒ Economies and Diseconomies of Scale

(dollars per room per night)
Economies and Diseconomies of Scale

25-room Hotel 75-room Hotel

Average unit cost

50-room Hotel

Economies of Diseconomies
Scale of Scale

25 50 75
Number of Rooms
Economies of Scale

Fixed costs split over more units

Investment costs are increasing at a lower pace
than production capacity (6/10 rule – oil tankers,
refineries, cost of setting-up)
Production costs are increasing at a lower pace
than production capacity due to process
standardization (better-more efficient
equipment, improved quality control,…)
Diseconomies of Scale

Distribution costs are increasing at a higher pace

than capacity due to higher distribution costs from
a central distribution center in comparison with
several smaller distribution centers
Increased complexity and bureaucracy (increased
number of people needed for control and
coordination of activities, several hierarchy levels,
communication problems,…)
Increased inflexibility
Increased role in the business/social environment,
sensitivity to risks, employee motivation
Methods for Strategic Capacity Planning
in Uncertain Business Conditions
Decision Tree:
– Sequential decision making, based on the possible
future scenarios for which the probability of realization
was estimated
– Graphical representation of possible future scenarios
and the possible outcomes

Simulation:
– Assessing the numerous possible outcomes based on
the probability of their realization
– Each outcome calculation is done based on a randomly
generated setting (where inputs are sampled from a
corresponding probability distributions)
– The result is usually presented in the for of histogram
denoting the probability distribution of the possible
outcomes
 Methods for Strategic Capacity Planning
in Uncertain Business Conditions

Decision Tree: -$14,000

Market favorable (.4)
$100,000

Market unfavorable (.6)

-$90,000
$18,000
Market favorable (.4)
$60,000
Medium plant
Market unfavorable (.6)
-$10,000
$13,000
Market favorable (.4)
$40,000

Market unfavorable (.6)

-$5,000

$0
Fixed Capacity Location
Worldwide Distribution of Volkswagens and Parts
Fixed Capacity Location

Problem of determining the optimal location

for an independent fixed capacity
⇒ determination and evaluation of the
important factors affecting the location
appropriateness and related costs

Problem of determining the network of

locations: production-distribution networks
⇒ the goal is to minimize costs in the total
system
Factors affecting the location decision

Factors related to:

– Production process (type of process,
production/supply/labour requirements…)
– Transportation (distribution network, type of
transport, distances)
– Other (infrastructure, expansion
possibilities, competition, social
responsibility, environmental influence, legal
restrictions, political risks, …)