Operations Management

Session 4

Indian Institute of Management

Lucknow
 Capacity Overview

 Scale decision (How big?)

 Operating Capacity decision (How much?)

◼ The ability of an organisation to meet demand
(receive, store, produce, or accommodate)

 One of the most important “structural”

decisions, which relates what needs to be done
vis-à-vis what is required to produce it

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 Defining Capacity

 “The throughput, or the number of units a

facility can hold, receive, store, or produce in
a period of time”
 Defined in terms of resources required
(Machines, People, Materials, Supply/
Distribution) to adequately meet demand
Alternatively,
Defined in terms of resources available for
pre-defined classes of customers/ markets

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 Capacity by Time Horizon
 Long Range (1 - 5 years)
◼ High investments, long lead time, hard to reverse

 Medium Range (Typically few months - 1 year)

◼ Medium investments, Moderate lead time; typically
through Annual budget, Hire/ Fire/ Subcontract

 Short Range (<1 month/ scheduling level)

◼ Adjustments at incremental cost: OT, Routing etc.

 Definitions of Long/ Medium/ Short term may

vary with industries, technologies etc.
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 Planning Capacity Over a Time Horizon

Long-range Add facilities

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

Schedule jobs
Short-range
Schedule personnel
planning * Allocate machinery

Modify capacity Use capacity

* Limited options exist

Figure S7.1

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 Capacity Management at Intel

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 .. More Capacity Terms

• Design capacity is the maximum theoretical

output of a system

• Normally expressed as a rate

• Effective capacity is the capacity a firm expects

to achieve given current operating constraints

• Often lower than design capacity

• Demand and product mix interact with capacity

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 Design and Effective Capacity
MEASURE DEFINITION EXAMPLE
Effective Design capacity minus Frito-Lay loses 3 hours of output per day
capacity lost output because of (= 0.5 hrs./day on preventive maintenance,
planned resource 1 hr./day on employee breaks, and 1.5 hrs./day
unavailability (e.g., setting up machines for different products).
preventive Effective Capacity = 16,000 bags/day
maintenance, machine – (1,000 bags/hr.)
setups/changeovers, (3 hrs./day)
changes in product = 16,000 bags/day
mix, scheduled breaks) – 3,000 bags/day
= 13,000 bags/day
Actual Effective capacity On average, machines at Frito-Lay are not
capacity minus lost output running 1 hr./day due to late parts and machine
during unplanned breakdowns.
resource idleness Actual capacity
(e.g., absenteeism, = 13,000 bags/day
machine breakdowns, – (1,000 bags/hr.)
unavailable parts, (1 hr./day)
quality problems) = 13,000 bags/day
– 1,000 bags/day
= 12,000 bags/day
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 .. More Capacity Terms
 Peak
◼ Maximum possible output (specify duration of peak)
 System
◼ When multiple resources interact through imbalances,
mix issues, flow complexities etc.
 Actual
◼ Actually realized after yield, breakdowns,
inefficiency, interference and other problems

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 Capacity Utilization and Efficiency

 Utilization = Actual output/Design capacity

 Efficiency = Actual output/Effective capacity

 Most systems have non-uniform utilizations:

Perfectly balanced design may not be feasible
Preferred operating level may vary across resources

 In theory, at least one resource should be fully

utilized, and all others scaled accordingly

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 Getting Capacity Right

 If Shortfall  If Excess
◼ Poor service ◼ Over-investment
◼ Loss of customers ◼ Lack of control
◼ Allows entry of ◼ Glut
competitors

Trade-off between Cost of Excess capacity (Cx)

Vs. Cost of Shortfall in capacity (Cs)

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 Capacity Cushions
 Inventories
 Production resources (machines, space etc.)
 Cash (earmarked for expediting, quick
purchases, resource mobilisation etc.)

Trade-off between Responsiveness, Flexibility/

Commitment, and Costs involved
Size of cushion depends on Cx / Cs ratio (may
even have -ve cushion)
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 Capacity Cushion Timing & Sizing
Capacity
 Proactive/ Expansionist
◼ Leads demand Demand

◼ Potential to drive market

Time
 Reactive/ Wait and See
◼ Lags demand, maximize
utilization

 Plan and Build to forecast

◼ Alternate between Lead & Lag
◼ And try to match demand/
supply closely
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 Approaches to Capacity Expansion

(a) Leading demand with (b) Leading demand with

incremental expansion one-step expansion
New New
capacity capacity
Demand

Demand
Expected Expected
demand demand

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

incremental expansion capacity with incremental
New
expansion
capacity New
Demand
Demand

Expected capacity Expected

demand demand

Figure S7.6
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 Best Operating Level

Average
unit cost
of output
Underutilization Overutilization

Best Operating
Level

Volume

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 Economies & Diseconomies of Scale
(dollars per room per night)
Average unit cost

25 - room motel 75 - room motel

50 - room motel

Economies Diseconomies
of scale of scale
25 50 75
Number of Rooms Figure S7.2
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 Linking Process Capacity and Other Decisions

• Competitive Priorities

• Quality

• Process Design

• Aggregate Planning

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 Capacity Augmentation Alternatives

 Waste Elimination

 Multi-skilling of workforce

 Sub-contracting/Outsourcing

 De-bottlenecking

 Addition of new capacity

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Bottleneck & Capacity: Wandering Bottleneck

Shearing (20 Pressing (30 Welding (15 Painting (12 Packing (6

minutes) minutes) minutes) minutes) minutes)

Pressing (30
minutes)

Shearing (20 Welding (15 Painting (12 Packing (6

minutes) minutes) minutes) minutes)
Pressing (30
minutes)

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 Capacity Management at Intel

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 Decision Trees and Capacity Decision

-$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

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 Another example
The DTC in New Delhi operates the bus system at Rs 400000
deficit annually. The municipal corporation has decided to raise bus
fares to offset the deficit. The director believes that this will
decrease ridership unless system capacity is increased. She
suggests that expanded services be offered simultaneously with the
fare increase to offset negative community reaction and perhaps
increase ridership.
An influential member suggests an alternative plan. He would
increase the fare now, but delay the capacity expansion decision for
two years. If expansion is delayed, the director is sure that ridership
will either decrease or be sustained at current levels. If service is
expanded two years after fare increase, ridership may increase, be
sustained or decrease. If service is not expanded in two years, then
ridership will either be sustained or decrease, not increase. The
director decides to use a decision tree analysis to evaluate this
problem over an eight year planning horizon.

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 Solution
Deficit in ‘000 Rs
The Decision Tree 2 Years
1440 0.4 600
1890 0.5 1800
450 0.1 3000
2831 1950
0.3 0.5 1500
500
0.5 2400
Operating Deficit
0.7
800 2040 0.2 600
0.4 1800
Capital Outlay
300 450 0.4 3000
2220
2831 0.2 1500
2220
2560 0.8 2400
Increased Use 0.2 800
0.5 2400
0.3 4000
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Service Supply/Capacity Management Approaches

 Reduce/ Simplify • Plan based on near-

contact peak with appropriate
cost-service level

 Increase customer • Shared capacity/

participation Alternate service
location
 Limited inventory • Subcontracting/
if feasible Renting extra
facilities
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…Service Supply/Capacity Management Approaches

 Flexible workforce (through cross-training)

 Personnel scheduling (days/timings)

 Vary workforce and working hours

(hire/fire, under/over-time)

 Part-time/Temporary/Casual workforce
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 …Service Supply/Capacity Management Approaches

 Differential pricing

 Promote off-peak use/ defer service delivery (at

discount if appropriate)

 Complementary services

 Demand partitioning and "Yield Management"

(service allocation, scheduling/ appointments/
reservation systems, overbooking/ bumping)
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 Eliminate or Reduce the Need for Adjustment
 Cushions: Maintain excess capacity or use stock to
absorb variations
 Reduce Service: Adjust backlog, increase queues,
refuse business
 Price changes: vary margins based on demand/ supply
position
 Combination approaches :e.g. buy land, build facility
to final size, but defer machinery purchases.
Manpower recruitment

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Provide for Smooth and Efficient Adjustment

 Offloading/ in-loading (may have cost and

independence implications)

 Vary workforce size/ timings/ allocations

 Alternate routings, speed/load changes, run

lengths etc.

 Substitute material content, adjust supply

schedules etc.
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