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Chapter 9– Capacity Planning & Facility Location

Operations Managementby

R. Dan Reid & Nada R. Sanders3rd Edition © Wiley 2007

PowerPoint Presentation by R.B. Clough – UNHM. E. Henrie - UAA

© Wiley 2007

Learning Objectives

Define capacity planning Define location analysis Describe relationship between capacity

planning and location, and their importance

Explain the steps involved in capacity planning and location analysis

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Learning Objectives - continued

Describe the decision support tools used for capacity planning

Identify key factors in location analysis Describe the decision support tools used

for location analysis

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Capacity planning Capacity is the maximum output rate of a facility Capacity planning is the process of establishing

the output rate that can be achieved at a facility: Capacity is usually purchased in “chunks” Strategic issues: how much and when to spend

capital for additional facility & equipment Tactical issues: workforce & inventory levels, &

day-to-day use of equipment

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Measuring Capacity Examples

There is no one best way to measure capacity Output measures like kegs per day are easier to understand With multiple products, inputs measures work better

Type of BusinessInput Measures of

CapacityOutput Measures

of Capacity

Car manufacturer Labor hours Cars per shift

Hospital Available beds Patients per month

Pizza parlor Labor hours Pizzas per day

Retail storeFloor space in square feet

Revenue per foot

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Measuring Available Capacity

Design capacity: Maximum output rate under ideal

conditions A bakery can make 30 custom cakes per

day when pushed at holiday time Effective capacity:

Maximum output rate under normal (realistic) conditions

On the average this bakery can make 20 custom cakes per day

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Calculating Capacity Utilization Measures how much of the available

capacity is actually being used:

Measures effectiveness Use either effective or design

capacity in denominator

100%capacity

rateoutput actualnUtilizatio

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Example of Computing Capacity Utilization: In the bakery example the design capacity is 30 custom cakes per day. Currently the bakery is producing 28 cakes per day. What is the bakery’s capacity utilization relative to both design and effective capacity?

93%(100%)30

28(100%)

capacity design

output actual nUtilizatio

140%(100%)20

28(100%)

capacity effective

output actual nUtilizatio

design

effective

The current utilization is only slightly below its design capacity and considerably above its effective capacity

The bakery can only operate at this level for a short period of time

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How Much Capacity Is Best?

The Best Operating Level is the output that results in the lowest average unit cost

Economies of Scale: Where the cost per unit of output drops as volume of output

increases Spread the fixed costs of buildings & equipment over

multiple units, allow bulk purchasing & handling of material Diseconomies of Scale:

Where the cost per unit rises as volume increases Often caused by congestion (overwhelming the process with

too much work-in-process) and scheduling complexity

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Best Operating Level and Size

Alternative 1: Purchase one large facility, requiring one large initial investment Alternative 2: Add capacity incrementally in smaller chunks as needed

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Other Capacity Considerations Focused factories:

Small, specialized facilities with limited objectives

Plant within a plant (PWP): Segmenting larger operations into

smaller operating units with focused objectives

Subcontractor networks: Outsource non-core items to free up

capacity for what you do well

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Making Capacity Planning Decisions

The three-step procedure for making capacity planning decisions is as follows: Step 1: Identify Capacity Requirements Step 2: Develop Capacity Alternatives Step 3: Evaluate Capacity Alternatives

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Identifying capacity requirements Long-term capacity requirements based on

future demand Identifying future demand based on

forecasting Forecasting, at this level, relies on qualitative

forecast models Executive opinion Delphi method

Forecast and capacity decision must included strategic implications

Capacity cushions Plan to underutilize capacity to provide

flexibility

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Evaluating Capacity Alternatives

Capacity alternatives include Could do nothing, expand large now (may included

capacity cushion), or expand small now with option to add

later

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Evaluating Capacity Alternatives

Many tools exist to assist in evaluating alternatives

Most popular tool is Decision Trees Decision Trees analysis tool is:

a modeling tool for evaluating sequential decisions which,

identifies the alternatives at each point in time (decision points), estimate probable consequences of each decision (chance events) & the ultimate outcomes (e.g.: profit or loss)

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Decision tree diagrams Diagramming technique which uses

Decision points – points in time when decisions are made, squares called nodes

Decision alternatives – branches of the tree off the decision nodes

Chance events – events that could affect a decision, branches or arrows leaving circular chance nodes

Outcomes – each possible alternative listed

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Decision tree diagrams Decision trees developed by

Drawing from left to right Use squares to indicate decision points Use circles to indicate chance events Write the probability of each chance by

the chance (sum of associated chances = 100%)

Write each alternative outcome in the right margin

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Example Using Decision Trees: A restaurant owner has determined that she needs to expand her facility. The alternatives are to expand large now and risk smaller demand, or expand on a smaller scale now knowing that she might need to expand again in three years. Which alternative would be most attractive?

The likelihood of demand being high is .70 The likelihood of demand being low is .30 Large expansion yields profits of $300K(high dem.) or $50k(low dem.) Small expansion yields profits of $80K if demand is low Small expansion followed by high demand and later expansion yield a

profit of $200K at that point. No expansion at that point yields profit of $150K

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Evaluating the Decision Tree

Decision tree analysis utilizes expected value analysis (EVA)

EVA is a weighted average of the chance events Probability of occurrence * chance event outcome

Refer to Figure 9-3 At decision point 2, choose to expand to maximize

profits ($200,000 > $150,000) Calculate expected value of small expansion:

EVsmall = 0.30($80,000) + 0.70($200,000) = $164,000

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Evaluating the Decision Tree - continued

Calculate expected value of large expansion: EVlarge = 0.30($50,000) + 0.70($300,000) =

$225,000 At decision point 1, compare alternatives &

choose the large expansion to maximize the expected profit: $225,000 > $164,000

Choose large expansion despite the fact that there is a 30% chance it’s the worst decision: Take the calculated risk!

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Location Analysis Three most important factors in

real estate:1. Location2. Location3. Location

Facility location is the process of identifying the best geographic location for a service or production facility

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Factors Affecting Location Decisions Proximity to source of supply:

Reduce transportation costs of perishable or bulky raw materials

Proximity to customers: E.g.: high population areas, close to JIT

partners Proximity to labor:

Local wage rates, attitude toward unions, availability of special skills (e.g.: silicon valley)

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More Location Factors Community considerations:

Local community’s attitude toward the facility (e.g.: prisons, utility plants, etc.)

Site considerations: Local zoning & taxes, access to utilities, etc.

Quality-of-life issues: Climate, cultural attractions, commuting time, etc.

Other considerations: Options for future expansion, local competition,

etc.

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Globalization - Should Firm Go Global?

Globalization is the process of locating facilities around the world

Potential advantages: Inside track to foreign markets, avoid trade barriers, gain

access to cheaper labor Potential disadvantages:

Political risks may increase, loss of control of proprietary technology, local infrastructure (roads & utilities) may be inadequate, high inflation

Other issues: Language barriers, different laws & regulations, different

business cultures

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Making Location Decisions Analysis should follow 3 step process:

Step 1: Identify dominant location factors Step 2: Develop location alternatives Step 3: Evaluate locations alternatives

Procedures for evaluation location alternatives include

Factor rating method Load-distance model Center of gravity approach Break-even analysis Transportation method

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Factor Rating Example

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A Load-Distance Model Example: Matrix Manufacturing is considering where to locate its warehouse in order to service its four Ohio stores located in Cleveland, Cincinnati, Columbus, Dayton. Two sites are being considered; Mansfield and Springfield, Ohio. Use the load-distance model to make the decision.

Calculate the rectilinear distance:

Multiply by the number of loads between each site and the

four cities

miles 4515401030dAB

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Calculating the Load-Distance Score for Springfield vs. Mansfield

The load-distance score for Mansfield is higher than for Springfield. The warehouse should be located in Springfield.

Computing the Load-Distance Score for SpringfieldCity Load Distance ld

Cleveland 15 20.5 307.5Columbus 10 4.5 45Cincinnati 12 7.5 90Dayton 4 3.5 14

Total Load-Distance Score(456.5)

Computing the Load-Distance Score for MansfieldCity Load Distance ld

Cleveland 15 8 120Columbus 10 8 80Cincinnati 12 20 240Dayton 4 16 64

Total Load-Distance Score(504)

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The Center of Gravity Approach This approach requires that the analyst find the

center of gravity of the geographic area being considered

Computing the Center of Gravity for Matrix Manufacturing

Is there another possible warehouse location closer to the C.G. that should be considered?? Why?

10.641

436

l

YlY ; 7.9

41

325

l

XlX

i

iic.g.

i

iic.g.

Computing the Center of Gravity for Matrix ManufacturingCoordinates Load

Location (X,Y) (li) lixi liyi

Cleveland (11,22) 15 165 330Columbus (10,7) 10 165 70Cincinnati (4,1) 12 165 12

Dayton (3,6) 4 165 24Total 41 325 436

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Break-Even Analysis Break-even analysis computes the amount of goods

required to be sold to just cover costs Break-even analysis includes fixed and variable costs

Break-even analysis can be used for location analysis especially when the costs of each location are known

Step 1: For each location, determine the fixed and variable costs Step 2: Plot the total costs for each location on one graph Step 3: Identify ranges of output for which each location has the lowest total cost Step 4: Solve algebraically for the break-even points over the identified ranges

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Break-Even Analysis

Remember the break even equations used for calculation total cost of each location and for calculating the breakeven quantity Q.

Total cost = F + cQ Total revenue = pQ Break-even is where Total Revenue = Total Cost

Q = F/(p-c)Q = break-even quantityp = price/unitc = variable cost/unitF = fixed cost

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Example using Break-even Analysis: Clean-Clothes Cleaners is considering four possible sites for its new operation. They expect to clean 10,000 garments. The table and graph below are used for the analysis.

Example 9.6 Using Break-Even AnalysisLocation Fixed Cost Variable Cost Total Cost

A $350,000 $ 5(10,000) $400,000B $170,000 $25(10,000) $420,000C $100,000 $40(10,000) $500,000D $250,000 $20(10,000) $450,000

From the graph you can see that the two lowest cost intersections occur between C & B (4667 units) and B & A (9000 units)

The best alternative up to 4667 units is C, between 4667 and 9000 units the best is B, and above 9000 units the best site is A

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The Transportation Method

The transportation method of linear programming can be used to solve specific location problems

It is discussed in detail in the supplement to this text

It could be used to evaluate the cost impact of adding potential location sites to the network of existing facilities

It could also be used to evaluate adding multiple new sites or completely redesigning the network

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Capacity Planning and Facility Location Across the Organization

Capacity planning and location analysis affect operations management and are important to many others Finance provides input to finalize

capacity decisions Marketing impacted by the

organizational capacity and location to customers

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Chapter 9 Highlights Capacity planning is deciding on the maximum

output rate of a facility Location analysis is deciding on the best location

for a facility Capacity planning and location analysis decision

are often made simultaneously because the location of the facility is usually related to its capacity. When a business decides to expand, it usually also addresses the issue of where to locate. These decisions are very important because they require long-term investments in buildings and facilities, as well as a sizable financial outlay.

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Chapter 9 Highlights - continued

In both capacity planning and location analysis, managers must follow three-step process to make good decision. The steps are assessing needs, developing alternatives, and evaluating alternatives.

To choose between capacity planning alternatives managers may sue decision trees, which are a modeling tool for evaluating independent decisions that must be made in sequence.

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Chapter 9 Highlights - continued

Key factors in location analysis included proximity to customers, transportation, source of labor, community attitude, and proximity to supplies. Service and manufacturing firms focus on different factors. Profit-making and nonprofit organizations also focus on different factors.

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Chapter 9 Highlights - continued

Several tools can be sued to facilitate location analysis. Factor rating is a tool that helps managers evaluate qualitative factors. The load-distance model and center of gravity approach evaluate the location decision based on distance. Break-even analysis is sued to evaluate location decisions based on cost values. The transportation method is an excellent tool for evaluating the cost impact of adding sites to the network of current facilities.

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